On this day in economic and business history…
The savings and loan crisis of the 1980s had many causes, and like most financial meltdowns, it also had many attempted solutions. One of the earliest attempted solutions for this bubbling catastrophe was the Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA), signed into law by President George H. W. Bush on Aug. 9, 1989. The act established the Resolution Trust Corporation (RTC), and also put in place several changes to the financial-industry regulatory regime of the United States that would play a part in the subprime mortgage crisis two decades later.
The RTC wound up serving as janitor to the garbage-filled savings-and-loan industry. From its establishment to the final gasps of the crisis in 1995, the RTC wound up 747 thrift banks with assets totaling $394 billion. This was the lion’s share of the total cost and impact of the crisis, which began in 1986 and which saw a total of 1,043 thrifts with $519 billion in assets fail by 1995. The RTC was initially funded with $50 billion, but this proved inadequate to handle the huge wave of thrift failures it was forced to deal with in 1989 and 1990. By 1995, the RTC’s funding had been more than doubled to $105 billion, but this was only a part of the estimated $153 billion total cost of the crisis to American interests, both public and private. Taxpayers wound up footing $124 billion in bailout cleanup costs that were never recouped.
The remainder of FIRREA focused on tightening up the regulatory structure surrounding the affected sectors. Thrifts had been allowed to play somewhat fast and loose with their accounting thanks to a series of ill-devised regulatory gimmicks, ultimately pushed aside by FIRREA’s adoption of stricter compliance requirements. The savings-and-loan industry was also taken under the protection of the FDIC, safeguarding depositor funds while imposing another set of regulatory requirements.
FIRREA also established the Federal Housing Finance Board (FHFB) to regulate the lending infrastructure behind Federal National Mortgage Association (OTCBB:FNMA) and Federal Home Loan Mortgage Corp (OTCBB:FMCC). This may have been its greatest legislative failing — the FHFB was eliminated as a government agency and replaced by the Federal Housing Finance Agency when it became apparent that it had not adequately regulated the spread of subprime mortgages.
Other reforms implemented by this legislation also aimed to regulate the real estate industry, and since part of these reforms included real estate appraisals (which soared beyond all common sense in the prelude to the subprime meltdown), we can only conclude that FIRREA was an abject failure in its efforts to keep that sector of the economy on sound footing over the long term. However, it did keep the economy from falling apart due to savings-and-loan collapses in the 1990s — the Dow Jones Industrial Average (Dow Jones Indices:.DJI), despite suffering a brief decline due to the Iraq War, was 12% higher two years after FIRREA became law, and a decade later it had grown an incredible 300% as the longest bull market in history reached its peak.
Despite its housing-related deficiencies, FIRREA has again become useful in the aftermath of the subprime meltdown. The Justice Department has made repeated use of FIRREA’s Section 951 to seek extra penalties against those who commit certain crimes “affecting a federally insured financial institution.” Many of these post-crash legal efforts have involved bank-initiated mortgages backed by Fannie Mae or Freddie Mac.
