What will S&Ls do in the future?
In the longer run, the financial serv-
ices industry may very well resemble
the grocery industry: firms of every
conceivable size and shape would
cater to every conceivable taste on a
voluntary basis, with no product or
geographic regulation other than
that of the market place. Survival
and success will belong to the best
managed institutions in each niche.
Thus, the surviving S&Ls must be-
come sufficiently expert in some
activities to fend off competition
from a wide variety of other types of
institutions. It is likely, however, that
many of the S&L survivors will re-
main primarily residential mortgage
lenders, an area in which they have
long experience.
At the same time that the S&L indus-
try is undergoing this transition, the
entire depository institutions subsec-
tor of the financial services industry
may be expected to grow more slowly
or even to contract in the near fu-
ture as a result of three forces:
1. Steeply higher premiums for fed-
eral deposit insurance. These premi-
ums are equivalent to a tax on these
institutions that is not levied on their
competitors.4 In part, this may be
viewed as reducing or even reversing
any implicit subsidies from under-
pricing deposit insurance in the past,
particularly for poorly capitalized or
insolvent institutions, which had en-
couraged rapid growth. Higher pre-
miums are particularly important in
light of a perceived implicit expan-
sion of the federal safety net to some
important quasi-government com-
petitors, such as the Federal Home
Loan Mortgage Corporation (Fred-
die Mac) and the Federal National
Mortgage Corporation (Fannie
Mae), without charging insurance
premiums.5 This lowers the cost of
funds to these institutions and per-
mits them to bid higher for invest-
ments and accept a lower interest
rate, putting depository institutions
at a competitive disadvantage.
2. Higher equity capital require-
ments. These requirements are costly
to meet because, unlike interest pay-
ments on deposits, dividend payments
on equity are not deductible from
taxable income.
3. Technological innovations in com-
puterization and telecommunications.
These reduce the comparative advan-
tage of depository institutions in gath-
ering and analyzing credit informa-
tion as well as transferring funds from
investors to borrowers. For example,
technology makes it possible to track
and monitor the hundreds of individ-
ual loans that make up a securitized
pool. In addition, technology makes
it easier for prime corporate borrow-
ers to issue commercial paper directly
to investors instead of obtaining bank
loans, particularly if the bank has
suffered during the industry’s recent
financial difficulties and so has a
lower credit rating than the ultimate
borrower. Thus, the cost structure of
financial intermediation by traditional
depository institutions may be too
high to make them economically vi-
able without a reduction in the result-
ing overcapacity.
In sum, S&Ls are being hit from two
sides. Shrinkage from financial diffi-
culties is occurring simultaneously
with shrinkage of all depository insti-
tutions from technological and regu-
latory change. It is unlikely the S&Ls
will again achieve the relative impor-
tance they had in recent decades.
-George G. Kaufman,
John Smith Professor OfFinance and
Economics at Loyola University
of Chicago and Consultant to the
Federal Reserve Bank of Chicago
1A more detailed description of the provi-
sions of FIRREA appears in Elijah Brewer,
“Full-blown crisis, half-measure cure,’’
Economic Perspectives, November/Decem-
ber 1989, pp. 2-17.
2The precise number of S&Ls currently in
operation is difficult to identify, as a large
number of insolvent associations are oper-
ated in conservatorship or receivership by
the RTC awaiting final disposition by sale,
merger, or liquidation. For example, at
year-end 1989, 281 associations with assets
of $128 billion were under the supervi-
sion of the RTC. Six months later, on
June 30, 1990, the number was 247 asso-
ciations with $141 billion of assets. This
represented about 9% of all associations
and 11 % of all assets. During these six
months, 170 associations were sold,
merged, or liquidated and 136 other
insolvent associations were transferred to
the RTC.
3S&Ls originated a larger percentage of
new mortgages but sold them to other
investors.
4OnJanuary 1, 1990 premiums were
increased from .21% to .23% for S&Ls
and from .08% to .12% for commercial
banks. Premiums are scheduled to in-
crease again for commercial banks on
January 1, 1991 to at least .195% and
possibly higher for all institutions.
5A description of these agencies and their
government support appears in United
States General Accounting Office, Govern-
ment-Sponsored Enterprises: The Govern-
ment’s Exposure to Risks, Washington, D.C.,
August 1990.
Karl A. Scheid, Senior Vice President and
Director ofResearch; David R. Allardice5 Vice
President and Assistant Director of Research;
Judith Goff5 Editor.
ChicagoFed Letteris published monthly by the
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