The present banking crisis is the first such financial upheaval that the US has seen in a generation. Other parts of the world saw such things on a large scale during the 1990s. The debates about the present situation seem to be generating a good bit more heat than light. Perhaps a bit of historical perspective might be useful.
As the industrial economies of Europe and the US expanded during the 19th C the financial sectors also grew and became more complex. Financial panics with a related wave of bank failures became a common occurrence.
There was no such thing as deposit insurance before the 1930s. When banks failed they simply went out of business and depositors lost their money. That was why a rumor that a bank was in trouble could start a run on a bank in which the depositors all panicked and withdrew their money. That would bring about the failure of the bank. Because of this instability ordinary people of modest means did not use commercial banks on anything like the scale that they do today. Banks provided services for businesses and the wealthy. A. P. Giannini who founded the Bank of Italy in the rubble of the San Francisco earthquake is credited with being the innovator of broad spread consumer banking. His bank later changed its name to Bank of America.
European nations began to establish central banks in an effort to provide some stability to their banking systems. The US long resisted the notion of a central federal bank. Two factors which influenced this trend were the idea of state control under the federal constitution and the general philosophy of rugged individualism. The banking crisis associated with the panic of 1907 was the worst that the US had seen up to that time. J. P. Morgan played a central role in those upheavals. There was great debate at the time and later as to whether he had saved the nation from a worse fate or had exploited the crisis for personal gain. The result of this general debate was to finally persuade congress to establish a central bank which they did with the Federal Reserve System in 1913.
The US managed to get through 22 years without a major financial crisis and then along came the crash of 1929. Among the many devastating problems to hit the American economy was an ever escalating series of bank failures. Bank runs became a very ordinary occurrence. When FDR took office he declared a bank holiday and temporarily closed the banks. This stopped the runs. He then set about trying to restore stability to the system. Insolvent banks were taken over and either closed down or merged with more healthy banks. Altogether over 4000 American banks went out of existence.
The New Deal Democrats began to rebuild the American financial almost from the ground up. A key component of this restructuring was the Glass-Seagal Act which built firewalls within the system by separating investment banks from commercial banks. Other agencies such as the SEC and FDIC were established. As a result of the deposit insurance provided the experience of massive losses of bank deposits became a matter of history. The other regulatory changes which brought financial stability to the banking system made it possible this insurance for a very modest expense.
One of the New Deal innovations was the establishment of a system of Savings and Loan Associations. It was created separate from the commercial banking system with its own regulatory agency and a separate deposit insurance fund, the FSLIC. It had two basic purposes, to provide savings facilities for small depositors and to make loans for the purchase of residential real estate. Many of these were established as mutual organizations where the depositors owned shares in the institution. They were not intended to be operations for financial hotshots. In the years following WWII they played an important role in funding the building of suburbia.
In the 1970s the US began to experience prolonged financial instability with rapidly rising inflation and economic stagnation. The S&Ls were locked into long term residential loans at low rates of interest which severely limited the rates of interest that they could pay to their depositors. People began to pull their money out and move it to higher yielding money market funds. The S&L persuaded the Reagan administration and congress to let them expand their lending activities into commercial real estate. With this new capacity S&Ls became attractive investments for financial wheeler dealers. They made mass loans on shopping malls, office parks and apartment complexes. Along came a recession and many of these loans went sour leaving the S&Ls holding properties which had a market value considerably less than the outstanding balance on the loans. The US government still had responsibility for insuring the deposits of these institutions.
This all blew up at the end of the Reagan administration and Bush I was left to clean up the mess. The FSLIC/RTC ultimately closed over 1000 S&Ls. There was heated debate about it at the time. The approach that was finally adopted was a good bank bad bank concoction. The deposits and performing loans of the failed institutions were separated from the assets for which there was little or no immediate commercial market. The good banks were sold off to private investors and the bad assets were transferred to something called the Resolution Trust Corporation. Over about a 10 year period these properties were disposed of to private investors. There were many issues about the prices that were paid for them. Ultimately the US tax payers absorbed a sizable loss on the process.
In the present debates there is much confusion over the term "nationalization". People are saying that such a thing can’t be done in the US, that the Republicans would never stand for it, etc. The best way to view the idea of aggressive government intervention in banking crises is in light of what that has meant in an historical context. The US government has a long history of taking control of insolvent financial institutions and protecting depositors. The ultimate goal of these efforts has always been to return them to private ownership. Sometimes this happens quickly. When the FDIC moves on small community banks they have already negotiated a sale to new owners before they show up on Friday night. They manage the transition to the new owners and get out. With larger institutions such as IndyMac they may have to actively manage it for several months. As we saw the RTC had to manage assets over a period of years.
Obviously the present situation is different than anything that has occurred in the past. It is a different time and a different world. The most serious problems are centered in a few huge international financial conglomerates. If the government were to seize control of these operations, it would have a large and complex task on it hands. Just don’t say that is simply can’t be done because it has been done more than once and it has been done by Republicans.