what happened. That's why I wanted more specifics from you.
Why did Paul Volcker allow interest rates to rise so high? Remember the word 'stagflation'? Under Jimmie Carter, the US was simultaneously suffering from a lack of economic growth and inflation. I am not enough of an economist to know how Jimmie pulled that off, but he did. Volcker used a classic response to inflation which was to let interest rates rise. That did further stifle the economy, but only for a relatively short period of time. After the strong medicine had done its work, interest rates came down and economic growth resumed.
The higher interest rates occurred in the banks, and other financial institutions. They did not occur in the S&Ls which were restricted by regulation in the amount of interest they could pay. Bank passbook accounts were also restricted, but not money market and other financial instruments. That meant that individuals could put their money into high rate money market and other accounts. This literally sucked the deposits out of the S&Ls because they could not offer the higher rates. They were forced to obtain funds from other high yielding, short term sources of funds.
Regulatory authorities, as you might expect, came under heavy pressure from the S&L industry to lift its rate caps. They were trying to stem the outflow of their deposit money. The rates caps were lifted as a result of this, and may have had some effect on slowing down the flow of money out of the S&Ls.
The problem was that the S&Ls were still stuck on the asset side with low paying mortgage loans. Their assets could not pay for the increase in expense of their source of funds. This is what caused them to move into riskier, higher yielding assets.
Jimmie Carter started the problem by creating the situation where the action that Volcker took was needed. The S&Ls were a ticking time bomb that finally exploded in an era of high interest rates. Prudent bankers know that you don't fund long term assets with short term sources of funds. That's what the S&Ls had done under the supervision of, mainly, Democrat administrations. The reason that you don't do that is something called interest rate risk. If you mismatch the maturities of your assets and liabilities, you risk losses if short term and long term interest rates move in the wrong direction. If you have long term assets, like mortgages, you need long term sources of funds to fund them. Your profit is then based on the spread between the sources and uses of funds, and is protected because the maturities of sources and uses are matched.
The S&Ls were not viable as financial institutions because of this fundamental mismatch which is ultimately what did them in. Deregulating the rates they paid did not change their situation. Once their deposits began flowing out, they were dead.
It was Jimmie Carter who caused the economic climate that resulted in the onset of higher interest rates. It was Ronald Reagan and Paul Volcker who laid the groundwork for the longest, peacetime expansion of the US economy in history.
That's the way it was. How do I know? I was there working in a bank at the time. I watched it happen.
The Savings and Loan Disaster.
"Public Policy Causes That Began in the Eighties
"Disaster struck after Paul Volcker, then chairman of the Federal Reserve board, decided in October 1979 to restrict the growth of the money supply, which, in turn, caused interest rates to skyrocket. Between June 1979 and March 1980 short-term interest rates rose by over six percentage points, from 9.06 percent to 15.2 percent. In 1981 and 1982 combined, the S&L industry collectively reported almost $9 billion in losses. Worse, in mid-1982 all S&Ls combined had a negative net worth, valuing their mortgages on a market-value basis, of $100 billion, an amount equal to 15 percent of the industry's liabilities. Specific policy failures during the eighties are examined below.
"An incomplete and bungled deregulation of S&Ls in 1980 and 1982 lifted restrictions on the kinds of investments that S&Ls could make./b] In 1980 and again in 1982, Congress and the regulators granted S&Ls the power to invest directly in service corporations, permitted them to make real estate loans without regard to the geographical location of the loan, and permitted them to lend up to 40 percent of their assets in commercial real estate loans. Congress and the Reagan administration na