History Repeats in Financial Ideas - and Crises
Many American financial managers and commentators are innocent of banking history. Therefore, while cyclically reliving financial crises, they rediscover financial ideas.
Let us consider some examples:
* The dangers of real estate lending.
* The dangers of deposit insurance.
* The advantages of nationwide branching.
* The risks of foreign lending.
The Realty Swamp
Current financial discussions dwell on the overexpansion of real estate credit and the consequent massive losses: one of the lessons of the 1980s, it is said. Yet when the recent real estate lending euphoria was under way, it had only been a decade since the massive real estate bust of 1975-1976.
Other past financial crises also featured real estate:
"The failures for the current year have been numerous, many having been characterized by gross mismanagement and some by criminality. ... In many cases, however, the unfavorable conditions were greatly aggravated by the collapse of unwise speculation in real estate."
Do these comments sound familiar? They are excerpts from the "Report of the Comptroller of the Currency" in 1891.
Or consider the following description of 1932 from Jesse Jones, head of the Reconstruction Development Corp.:
"Strewn all over was the wreckage of the banks which had become entangled in the financing of real estate promotions and had died of exposure to optimism."
Reacting to the current real estate problems, some commentators suggest reintroducing the 70% limitation on bank loans against the appraised valued of real estate collateral.
The Cautious Alternative
A more careful approach was taken by the liberalizing McFadden Act of 1927: to allow national banks to lend up to only 50% of value against real estate (the same limit as for the issue of bank notes against real estate collateral as in the New York Banking Act of 1838).
The grand prize for optimism and unintentional comedy goes to the Wall Street author of a July 1991 article on real estate, who said:
"Lenders are unlikely to repeat their past mistakes."
The first bill for federal deposit insurance was introduced by William Jennings Bryan in 1893. Eugene White ("The Regulation and Reform of the American Banking-System - 1900-1929") recorded that "conservative bankers were adamantly opposed to deposit insurance."
One conservative banker, James K. Ilsley, president of the Marshall & Ilsley Bank of Milwaukee, spoke against deposit insurance at an American Institute of Banking meeting in 1910:
"I presume few, if any, members believe in the guaranty of bank deposits. You are students of financial questions and are not likely to be easily misled."
No Allowance for Honesty
The key point, then as now, he stated thus:
"The guaranty of deposits means, in effect, the guaranty of loans. It places bankers on the same dead level, no allowance being made for character, ability, training, efficiency, honesty.
"A guaranty law makes all bankers, in the public estimation, equally good. It gives to the reckless banker an opportunity to secure a large line of deposits which he could not have secured upon his own strength."
Mr. Ilsley discussed the following aspects of what had happened in Oklahoma, which had state deposit insurance:
* An oil speculator in control of a bank.
* Marketing deposits based on deposit insurance, paying interest rates well over the market.
* "Loans on easy terms" to friends.
* "Mushroom growth."
* Bursting of the bubble.
* Exhaustion of the cash of the insurance fund.
* "Partial and deceptive statements" from the responsible banking board.
* Increased assessments of the other banks to make up the deficit of the insurance fund. …