Wall Street and the S&L Bailout

Wall Street and the S&L Bailout

While deficits would not be felt for many years, government deregulationDeregulation is the reduction or elimination of laws previously enforced on a particular industry. of various industries would have a more immediate impact on the economy during the 1980s. Democrats and Republicans alike approved the elimination or reduction of government price controls during the 1970s and 1980s. Nixon removed price controls of oil and natural gas in response to the Organization of the Petroleum Exporting Countries (OPEC) embargo, and Carter eased price controls and regulations governing the transportation industry. Reagan accelerated this trend, believing that most forms of federal regulation, including consumer and environmental protection laws, hampered business growth. In contrast to the Department of Defense, who was told by the president to “spend what you need,” Reagan slashed the budgets of federal agencies like the Occupational Safety and Health Administration (OSHA) and the Environmental Protection Agency (EPA). More disturbing to environmentalists, the EPA reinterpreted the Clean Air Act and other laws in a way that was so favorable to industry that an investigation was conducted. The inquiry revealed that twenty administrators in the EPA had each accepted corporate bribes.

Because utility companies were public utilities and had a natural monopoly in the communities they served, these industries had been heavily regulated. However, Reagan reduced these regulations in hopes of increasing competition and reducing prices. Airlines and other common carriers were treated much the same way, with the federal government transferring the control over prices to the executives of these companies and the free market. Energy prices and airfares fluctuated according to market forces following deregulation. These reforms led to mostly lower prices in air travel, but also led to numerous difficulties for utility consumers in some markets.

While the results of deregulation were mixed in most industries, the deregulation of the financial industry led to complete disaster. Banks known as savings and loan institutions (S&Ls) had a reputation for safety because they followed strict rules regarding the ways they could invest their depositors’ money. Chief among these rules was the provision that S&L loans be backed by collateral such as a home mortgage. However, interest rates were at record highs during the early 1980s, and the Reagan administration agreed to ease these restrictions and permit S&Ls to make riskier loans. By the late 1980s, hundreds of the S&Ls were facing bankruptcy due to bad loans and a decline in the real estate market.

Because S&Ls were part of the banking system, each depositor’s savings accounts were insured by the federal government. As a result, the government was forced to pay more than $150 billion in federal bailouts to make sure families and businesses that deposited their money were protected. Although both parties approved the deregulation of the banking and investment industry, the resulting failure of many leading financial institutions and resulting Savings and Loan BailoutAs a result of deregulation and bad investments by banking institutions known as savings and loan institutions, the government paid out at least $150 billion to holders of insured deposit accounts at these institutions. of the late 1980s and early 1990s was blamed almost solely on the Republican Party. Given Republican efforts to lower corporate taxes and the tendency for Republicans to be the most enthusiastic supporters of deregulation, it is easy to see why most Americans blamed the party of Reagan when deregulation led to default. However, many of the congressmen who approved the deregulation and were later investigated for accepting illegal donations from members of the banking industry were Democrats.

The Department of the Interior had been insulated from controversy since the Teapot Dome Scandal of the 1920s. However, Reagan appointee and secretary of the Interior James Watt kept his agency in the headlines throughout the 1980s. One of Watt’s comments regarding his religious beliefs were regularly quoted out of context by the political left in an attempt to discredit the secretary as well as other religious conservatives. During his Senate confirmation hearing, Watt responded to a question about long-term preservation of resources by stating that he did not know how many generations would pass before the return of Christ but that Americans must shepherd their resources for future generations until that time.

Many on the left at the time reported that Watt had suggested environmental policies did not matter because the end of the world was nigh. Watt himself was fond of misrepresenting the words of his opponents and had earlier declared that there were only two kinds of people in the United States: liberals and Americans. This war of words did not mask the actions of Watt’s department for long, as nearly two-dozen high-ranking officials were forced to resign for improper actions. In addition, several officials were convicted of accepting bribes or other ethics violations. Similar to the Teapot Dome Scandal, Department of the Interior officials permitted oil and timber companies to lease, log, mine, drill, and otherwise commercially develop millions of acres of previously protected areas of the federal domain at prices that were often far below estimated market value. One of the most immediate results was the growth of environmental interest groups such as the Sierra Club, whose protests resulted in some areas of the federal domain again being declared off limits to developers.

The Reagan administration also approved a wave of corporate mergers that consolidated vital industries in the hands of a few companies. Critics protested that the government-approved mergers created monopolies. The architects of these deals argued that the mergers created stronger and more efficient businesses. Other practices that were common throughout the 1980s, such as leveraged buyouts, increased the risks to the entire financial system. These leveraged deals permitted a group of investors to purchase a controlling stake in a publicly traded company by using loans to purchase shares. In addition, these investors often secured the loans by using the stock they had just purchased on credit as collateral. As a result, a small drop in the price of any particular stock could bankrupt an entire company and send shockwaves throughout the financial system.

This is precisely what happened on October 19, 1987, when Wall Street experienced the worst crash in its history. Although the market had risen quickly in proceeding years due to speculation, these gains were erased in a single day when the Dow Jones average fell over 20 percent. Companies such as RJR Nabisco that participated in the leveraged buyouts were forced to lay off thousands of employees, yet the CEO of the company received over $50 million in compensation. Brokers that facilitated these and other risky strategies, such as junk bond investor Michael Milken, earned over $500 million in 1987 alone. Unlike previous Wall Street financiers, such as JP Morgan, Milken’s deals did not support economic growth by matching legitimate entrepreneurs with investors. Instead, Milken’s incomes were commission-based, which led him to violate federal laws in order to increase the volume of his transactions. Milken served only two years of a ten-year prison sentence and remains one of the wealthiest men in America.

Accompanying many of these high-stakes mergers was the dreaded news of “restructuring” that often meant the loss of jobs for the employees of the affected corporations. For those in manufacturing, restructuring was often a code word for laying off employees to save money. Sometimes restructuring meant that a company was preparing to close a factory in the United States in favor of another country where operating costs were lower. At other times, it simply meant laying off full-time employees with salaries and benefits and replacing them with low-wage hourly workers.

Even privately owned companies that had historically offered high wages to their employees, such as Levi Strauss & Co., soon adopted these strategies. In some cases, these companies had no choice if they wanted to stay competitive. At other times, these measures were simply used to enhance profitability. Levi’s blue jeans were the most recognizable American fashion; yet between the early 1980s and 2003, each of the dozens of US Levi’s factories was closed. Each announcement resulted in thousands of workers losing jobs that were relatively well paying. Although what was happening at Levi Strauss & Co. was typical of the clothing industry, the fact that the United States no longer produced Levi’s came to symbolize the US trade imbalance, which grew to $170 billion by 1987.