Savings and loan associations

Historically savings along with loan associations (S&Ls) and thrift institutions have concentrated mostly on residential mortgages by acquiring funds primarily through savings deposits. In terms of figure of institutions they are the second largest group of financial intermediaries 1279 associations with $1.8 trillion of entire assets in 2006 according to FDIC Quarterly Banking Profile. In 1950s as well as 1960s S&Ls grew much more quickly than commercial banks. But between 1979 and 1982 the change in the monetary policy of the Fed led to a dramatic rush in interest rates. The Federal Reserve Bank recognized as The Fed is the central bank for the US banking system. This raise in the short-term rates had two effects.

• First S&Ls had negative interest spreads (interest income minus interest expense) in funding the fixed-rate long-term residential mortgages.
• Second, they had to pay more aggressive interest rates on savings deposits. Note that The Federal Reserve Bank's Regulation Q ceilings restricted the interest rates owed on deposits by S&Ls.

To overcome the effects of rising rates and disintermediation, in the early 1980s the Congress passed acts allowing S&Ls to expand their deposit taking that is to offer checking accounts and asset-investment powers that are to make consumer and commercial loans. For several S&Ls the new powers created safer as well as more diversified institutions. But for a small-but significant-group of S&Ls they created an opportunity to take more risk in the attempt to improve profitability. For instance in Texas in the mid-1980s there had been a real estate as well as land prices crash which led to the default of many borrowers with mortgage loans issued by S&Ls. Consequently a large number of S&Ls failed at the end of the 1980s and as a result new legislation - the FIRREA of 1989 - was adopted.

Activity 2.3

Read Mishkin as well as Eakins (2009) section starting to investigate the recent reform of S&L. After that consult the segment on Savings institutions in FDIC Quarterly Banking Profile. Draw a graph to illustrate the trend in the number of institutions. Write a brief explanation of why this variation has occurred.

Trend in the size of US depository institutions

                                                                      Trend in the number of US depository institutions