It is useful to reflect on the nature of the crisis. It is a tale that can be as complicated as you wish to make it, but it is in essence simple and elegant. As interest rates declined in recent years, investors — particularly conservative ones — sought to increase their return without giving up safety and liquidity. They wanted something for nothing, and the market obliged. They were given instruments ultimately based on mortgages on private homes. They therefore had a very real asset base — a house — and therefore had collateral. The value of homes historically had risen, and therefore the value of the assets appeared secured. Financial instruments of increasing complexity eventually were devised, which were bought by conservative investors. In due course, these instruments were bought by less conservative investors, who used them as collateral for borrowing money. They used this money to buy other instruments in a pyramiding scheme that rested on one premise: the existence of houses whose value remained stable or grew.
That is not terribly different from what was happening with the S&L Crisis. I have my own personal connection to that crisis that I want to relate here.
Everybody remembers Madison Guaranty. That’s the Arkansas-based Savings and Loan that was run by Jim and Susan McDougal in the late 1980s. We remember it because the McDougal’s were partners with the Clintons in the Whitewater land deal that went sour. When Madison Guaranty failed during the S&L crisis it cost the government an estimated $60 million to go in and pick up the pieces.
But does anyone remember Chas. Schreiner Bank of Kerrville, Texas? It too failed around the same time period and its collapse cost the U.S. government $154 million — more than twice what Madison Guaranty cost.
And yet, no one remembers Schreiner Bank or the details of its failure. A Google search will come up empty.
But I remember because I was there in 1993 working at the Kerrville Daily Times covering the aftermath of the collapse.
On Sept. 14, 1993, I wrote a story detailing a lawsuit filed by the Federal Deposit Insurance Corp. (FDIC) against the seven former directors of Schreiner Bank. In the lawsuit, the FDIC alleged that the former bank officials were negligent and that “imprudent operations and unsafe and unsound lending practices” led to the bank’s demise.
That was putting it nicely. What these folks were really doing was running a scam operation and treating the S&L like a great big government-guaranteed cookie jar. The following is an excerpt from my story minus the names:
As an example of unsound lending practices, the FDIC complaint details a series of loans to two of the bank’s directors, and to a principal shareholder. The suit alleges that the former bank officials approved lines of credit to (the bank directors and shareholder) “without even a minimal amount of underwriting.” Further, it alleges that these loans did not comply with the bank’s lending criteria and were subject to numerous extensions and rollovers before ultimately culminating in charge-offs....
“Typically, the lending scheme involved a systematic pattern of origination, renewal, extension, rollover and consolidation of loans, rubberstamp approval, no reduction in principal whatsoever and final charge off of unpaid loans,” the FDIC said in the complaint. During the five-year period, there were 296 specific instances of loan renewals and extentions (to the bank directors and their companies) without reduction in principal.
I wrote another story the next day further detailing how these “loans” worked for the bank directors:
As a specific example of alleged improper conduct by the former directors of the Charles Schreiner Bank involving an insider loan, the FDIC details a series of loans to (a company owned by a bank director - let’s call it Mohair Inc.)
On Jan. 14, 1985, the bank originated loan 9048 for $100,000 to Mohair Inc. and funded it the next day, before the loan committee had reviewed and approved the loan application per bank policy. On Jan. 23, 1985, this process was repeated for loan 9049, also for $100,000. The purpose for the loan was reportedly for working capital and was purportedly secured by the inventory of Mohair Inc., which consisted mostly of wool and mohair stored in a warehouse in Ingram.
The original term for the loans was six months but they were repeatedly renewed and extended six times over a three-year period between 1985 and 1988. The extensions were approved each time by a single loan officer without review by the loan committee. To maintain credit, the company was only required to make interim interest payments without any reduction in principal.
“This cycle was repeated like clockwork every six months,” the FDIC complaint states. In January 1987, (the director) added his personal guaranty to further secure the loans and at final maturity in July 1988 the two loans, 9048 and 9049, were consolidated and rolled over into a new loan 9070 for $200,000.
Loan 9070 was extended for one year until December 1989 when the bank charged it off as a loss. This same pattern was repeated over and over again on numerous loans, according to the FDIC complaint.
Pretty sweet deal, huh? The bank was able to make it look like it was retiring old loans by simply rolling them over and consolidating them into new loans. Over time these loans added up to millions of dollars. And this entire ponzi scheme was backed up by a warehouse that was supposedly filled with mohair and that nobody ever bothered to look at. That warehouse, by the way, mysteriously burned to the ground around the time that the Schreiner Bank failed. How convenient!
What was most maddening about all of this was that these bank directors eventually got off scott free. The FDIC decided that it had too many other bigger fish to fry and determined that Schreiner Bank wasn’t worth the time and effort it would take to pursue its case. Remember that the Schreiner collapse was twice as big as Madison Guaranty.
As it turns out, the only punishment the bank directors suffered was the slight embarrassment from having me write up their story in the local paper. When I look them up today I find many of them are still doing quite well, making big financial donations to the Republican Party of Texas.
Yes, these bank directors were big time Republicans, no doubt. And how did the politicians respond to this mess back then? Republican State Rep. Kenny Marchant sponsored a law the next year EXEMPTING bank directors from future charges of negligence. Ain’t it wonderful?