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Selling Somebody Else’s Money

One rainy morning in 1981, I was in a well-lighted conference room on a high floor of Citicorp Center in Manhattan.  The weather was so bad that we could not see the streets below.  Into the room walked Congressman St. Germain of Rhode Island.  For an hour, he explained the problem with bankers is that they thought their job was to allocate credit in the economy.   Instead, bankers should be well-dressed salesmen – selling the use of somebody else’s money.  The next year, Congress passed the Garn-St Germain Act, which greatly expanded the powers of Savings & Loan Associations.

Seven years later, I was appointed to the Texas State Depository Board, which was a four-member board composed of the State Treasurer, the State Banking Commissioner, the State Controller, and myself.  Our job was to “save” as many of the states Savings & Loan (S&L) Associations as possible.  In the end, American taxpayers paid $330 billion to enable bankers to think like salesmen.

By 2008, bankers had learned they didn’t need to take lending risk if they simply made loans and then sold the loans (actually bonds) to third-party investors across the country.  The bankers didn’t make money by making good loans.  They made money by converting loans into bonds and selling them to somebody else.  Losses easily exceeded a trillion dollars.

As badly as the U.S. economy was damaged, no country was hurt worse than tiny island-nation of Iceland, with a population of barely 300 thousand.  They drank the poison that bankers should be salesmen and made huge loans all around the world.  When those loans collapsed, unemployment quickly tripled from a normal 3% to 9%.  Even worse, the Icelandic banks were desperate to collect outstanding loans and were brutal to their Icelandic customers.  Fiery protests filled the few streets of this little country, and the government promised to “do something.”

By 2012, the Icelandic banks still ran the country.  After considerable effort,  a referendum was held to urge the government to re-write the Constitution along seven principles, winning at 67%.  The government promised to curb the banks, but the banks still run the country..

Nonetheless, GDP growth has gone from a negative 9.3% during 2009 to a positive 11.3% — a huge, breathtaking swing!  The shiny object of great economic growth has shifted attention from the failure of the Icelandic government to curb the loan salesmen.  Expect the next recession to bring out even more protesters in the few streets in Iceland.

Bankers should not be salesmen.  There are already too many former bankers sipping tropical drinks on tropical beaches, without a thought or care about their former clients.  If they are salesmen, they should relax on the beaches of Iceland!