Savings and loan crisis

Definition

The savings and loan crisis was a financial disaster in the United States during the 1980s and early 1990s, where numerous savings and loan associations (S&Ls) failed due to mismanagement, poor investments, and excessive risk-taking. This crisis led to a massive government bailout and significant changes in financial regulations, highlighting the impact of deregulation on the banking industry and the economy as a whole.

5 Must Know Facts For Your Next Test

1. Over 1,000 S&Ls failed during the crisis, leading to the loss of approximately $160 billion, which the federal government had to cover.
2. The crisis was largely fueled by deregulation in the late 1970s and early 1980s, which allowed S&Ls to engage in riskier investments without proper oversight.
3. The Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (FIRREA) was enacted in response to the crisis, restructuring the regulatory framework for S&Ls.
4. Many S&Ls engaged in speculative real estate investments that ultimately collapsed when property values plummeted, contributing to their failures.
5. The crisis had long-lasting effects on the banking industry, leading to increased regulation and oversight aimed at preventing similar disasters in the future.

Review Questions

• How did deregulation contribute to the savings and loan crisis of the 1980s?
  • Deregulation in the late 1970s and early 1980s allowed savings and loan associations to take on riskier investments and engage in activities previously restricted by regulations. This lack of oversight led many S&Ls to invest heavily in speculative real estate ventures. When property values fell sharply, these institutions faced significant financial losses, contributing to a wave of failures that characterized the crisis.
• Discuss the impact of the savings and loan crisis on federal regulations concerning financial institutions.
  • The savings and loan crisis prompted major changes in federal regulations aimed at enhancing oversight of financial institutions. The FIRREA was enacted in 1989 to address the shortcomings revealed by the crisis, which included stricter capital requirements for S&Ls and increased authority for regulators to monitor risky practices. These reforms sought to restore confidence in the financial system and prevent future crises by ensuring that S&Ls operated more conservatively.
• Evaluate the long-term economic effects of the savings and loan crisis on the American banking system.
  • The savings and loan crisis had profound long-term effects on the American banking system, leading to a reevaluation of regulatory frameworks governing financial institutions. It resulted in increased scrutiny and oversight of not just S&Ls but also commercial banks, with reforms intended to promote stability within the industry. Additionally, the crisis underscored the need for a balanced approach to deregulation that allows for competition while protecting consumers from excessive risk-taking by financial institutions.

Related terms

deregulation: The process of removing government restrictions and regulations from industries, allowing for more competition but also increasing risks of financial instability.

thrift institutions: Financial institutions, including savings and loan associations and savings banks, that primarily focus on accepting deposits and making mortgage loans.

Federal Savings and Loan Insurance Corporation (FSLIC): A former U.S. government agency that insured deposits in savings and loan associations, similar to the FDIC for commercial banks.