Washington’s S&L; Ineptitude : Thrifts: The bureaucratic establishment is ill-equipped to handle the bailout. We need a quasi-private agency with real incentives.
Everybody who understood the savings and loan business knew a year ago, when the Bush Administration bailout bill was moving through Congress, that the legislation was badly flawed and couldn’t work.
The bill assumed that the assets in insolvent savings and loan associations were just a little off when really they were rotten; that the thrift industry would continue to grow by 7% a year when really it was going to shrink; that investors would be willing to put fresh capital into a business blighted by overcapacity, and that interest rates would drop throughout the 1990s.
But the real disaster has turned out to be institutional. The law put the Federal Deposit Insurance Corp. in charge of the Resolution Trust Corp. created to run and sell busted thrifts and their assets. The FDIC then, inevitably, structured the new agency in the image of the old. That process took a difficult task and made it hopeless.
We needed a bunch of fast-talking super salesmen working on commission to sell off the salable assets of busted thrifts as soon as the government gets stuck with them. Instead, we have a worthy but rigid bureaucracy that notoriously sells only to people who have mastered all the moves in its own elaborate play book.
I spoke in January with Lamar Kelly, a large and obviously capable Southerner who had come over from the FDIC to manage RTC’s asset disposition activities. He said, “We have an RFP out for an MIS to enable us to track movements in all the large real estate markets.” An RFP is a “request for proposal.” An MIS is a “management information system.” It takes some months for the computer software houses to prepare their proposals, more months for the agency to choose among them and award the contract, many more months for the software house to do the actual work in setting up the system and then maybe years to find out it doesn’t work.
And through all this time the property has to be managed for the government, probably by people who don’t have much stake in enhancing its value. And the government has to borrow money, roiling the credit markets, to give the RTC the “working capital” that it needs to hold the property.
In his book about the failure of the Penn Square Bank in Oklahoma City, reporter Philip Zweig talked to a number of borrowers from the bank who couldn’t pay back their loans and surrendered the collateral to the FDIC, which just hung on to it. A bank employee who had stayed on as a liquidator said FDIC officers worried more about being criticized than about the efficiency of their operation. One borrower told Zweig: “Talking to the FDIC is like visiting a very expensive Disneyland. It’s like talking to Huey, Louie and Dewey. You can’t get them to make a decision.”
Delays are particularly painful because the FDIC as a government agency sells “as is,” giving no warranties whatsoever. So people who want to bid must spend a lot of money up front to find out what they’re bidding for. And among the first actions of the RTC Oversight Board was an order mandating “adoption of existing FDIC policies.”
A couple of years ago the General Accounting Office did a “flow chart” of the traditional FDIC loan liquidation process. There were 36 boxes of various shapes, connected in various ways. Eight of the boxes involved the making of a decision, and in virtually every case that decision could be made only by a committee. Sometimes the decision required the concurrence of three committees--local, regional and national.
All government agencies move slowly by comparison with private actors because time is revenue, not cost, to a bureaucracy. But in this case there is a further reason for extreme care: Congress, which collectively doesn’t understand the time value of money, looks over the agency’s shoulder at all times. If an appraiser has said a property is worth $1 million in five years and the FDIC sells it for $700,000 now, some congressman is sure to call “Thief! He sold government property for $300,000 less than it was worth”--even though $700,000 now is more than $1 million five years from now.
Congress wrote into the bailout bill a requirement that RTC not sell property in distressed areas for less than 95% of appraised value. The appraisers work for the local banks and S&Ls;, which have a strong stake in keeping these appraised values high. Fortunately, the RTC Oversight Board brought in a man from the Federal Reserve who found a loophole in the law, a place where Congress had left out the word “appraised,” and he declared that the law said RTC had to sell for 95% of “market value,” which is easy to do.
This wise decision was then sabotaged in a typically bureaucratic way, with an announcement that RTC will cut prices on an asset after it has been in inventory for six months. Why should anyone buy today when he knows the price will soon go down?
The FDIC, moreover, likes to sell “whole banks” on a “TAPA” (total asset purchase agreement) basis. The insurer essentially guarantees the healthy bank acquiring the busted bank against loss on that bank’s asset portfolio. Whenever the acquirer sells one of these assets to a third party for less than its book value--the value at which the asset was carried on the balance sheet--the FDIC makes up the difference.
This was a very sweet arrangement for acquirers until December, 1988, because an idiotic tax law that expired with that year permitted the acquirers of S&Ls; and some banks to take their losses on these bad assets as credits against their other income for tax purposes--even though the government was reimbursing them for the loss.
This gave the acquirer roughly zero incentive to get a good price when he sold. The Federal Savings and Loan Insurance Corp., the S&L; insurance fund, made complicated deals to recover some of the tax break for the insurance fund. The FDIC didn’t even do that in its rescues of Texas commercial banks, which were the most generous deals of all.
The most serious objection to selling S&Ls; (or banks) as going institutions is simply because they’ve failed. If two of six S&Ls; in a small city have perished, the odds are that this city doesn’t need six S&Ls.; If the government subsidizes acquirers to keep all six in operation, it creates a domino effect in which the other four fall one by one and have to be rescued by the government in turn. This is also very expensive for the taxpayer.
So the regulators have to close down a lot of thrifts and banks, get what they can from anyone who wants access to the depositors (this is grandly called “franchise value”), and unload the assets as fast as possible. It’s a very hard job. Most of the assets are not overvalued properties but bad loans, and there’s a lot of legal work to be done before loans (sometimes loans that involve a number of lenders) can be converted to salable property. The government can’t do any of this effectively, let alone efficiently.
What we need, then, is a government-sponsored enterprise more or less along the lines of the Federal National Mortgage Assn. (Fannie Mae), except that its charter would give it only a limited time to live. The sole function of the enterprise would be to sell assets acquired in the receivership of insolvent banks and thrifts, on a basis whereby the enterprise would be paid more to get better prices (and less or nothing for worse prices). It should be able to pay its super salesmen high salaries, and it should be funded as much as possible from the private markets.
Drawing up the rules for such an enterprise and establishing ways to police it would be a great challenge, because the world of asset disposition is full of people who are very practiced at feeding buckshot to the government’s frog.
Perhaps we should license competing enterprises (the original plan for Fannie Mae, now more or less fulfilled by the Federal Home Loan Mortgage Corp., or Freddie Mac). But even an enterprise pocked with skulduggery would be less costly than what the Administration and Congress structured in last summer’s bailout bill.
