Putting a Stop to a Stampede

By Stephen Koepp

The savings and loan associations that dot southern Ohio seldom stir up any & excitement in the banking community, much less a panic. Yet for a few tense days last week, a crisis involving Ohio's thrift institutions sent tremors of anxiety through the financial world. Governor Richard Celeste's emergency shutdown of 69 privately insured thrifts, which were threatened by customer runs, was the most widespread closure in the financial industry since President Roosevelt declared a one-week national bank holiday in 1933. Ohio's closed-door policy was originally intended to last for only three days. It dragged on through the week as politicians, bureaucrats and bankers haggled around the clock to devise an orderly way to end it.

The thrift holiday cut some 500,000 Ohio depositors off from a total of $4 billion in savings. "The longer this goes on, the scareder I am," said Mary Lou Dehler of Cincinnati, who with her husband Richard, a retired postal worker, had accounts in Molitor Loan & Building. "My stomach just rolls over. They have got my whole life in that bank." The financial suffering in Ohio rattled consumers across the U.S. and worried foreign investors as well. In a classic sign of anxiety, moneymen bid up the price of gold by $35.70 last Tuesday, to $339 an ounce. At the same time, the rocketing dollar took a nosedive as traders fretted about the stability of the U.S. banking system and the strength of the economy.

By week's end, though, the crisis began to lift. The Ohio legislature passed a plan to start reopening the thrifts, and Federal Reserve Chairman Paul Volcker publicly vowed to loan them emergency cash if needed. President Reagan played down the situation when asked about it during his White House press conference. "This is not a major threat to the banking system," he said. "There is no other problem of that kind anyplace else in the country that we're aware of."

That was the reassurance depositors needed. When a handful of the 69 closed S and Ls reopened late last week, no new runs started. Generally, customers came in only to get walking-around money. At the Savings One Association in Dresden, a longtime customer deposited $15,000 as a show of support. Said Helen Mershon, a teller at the Southern Ohio Savings Association in St. Bernard: "Some of our customers just came in to say hello."

While the immediate danger of a wider panic now seems averted, the questions have just begun to be asked about what caused the Ohio panic and what should be done to halt future outbreaks at an earlier stage. The episode is the latest in a string of U.S. banking calamities that include a surge in shaky farm loans, management scandals and the $4.5 billion federal bailout last July of Continental Illinois.

Ohio's trauma probably further eroded the public's confidence in the safety of its deposits. "This problem with S and Ls is getting real widespread," said Accountant Bruce Humpherys, a thrift depositor in Pittsburg, Calif. "I'm wondering what's happening to our whole financial structure." The concern showed up dramatically in Pollster Albert Sindlinger's weekly survey of consumer sentiment. The percentage of people voicing confidence in the economy fell in one week from 50.4% to 42%, the steepest drop in the poll's 30-year history. "I wouldn't say consumers are panicked," said Sindlinger, "but they are shocked. They expect many more banking problems."

Ohio's crisis began early this month with the collapse of an obscure Fort Lauderdale firm, E.S.M. Government Securities, a dealer in U.S. Treasury bills and bonds. When customers of Cincinnati's Home State Savings heard that their bank stood to lose a whopping $150 million as an E.S.M. investor, they began withdrawing money so fast that banking regulators closed the institution. The panic then spread, because Home State's failure threatened to exhaust a private insurance fund of $130 million that covers deposits at 70 of Ohio's nearly 300 thrifts. Crowds of up to 1,000 people, some equipped with lawn chairs and portable TV sets, camped overnight in front of S and Ls, hoping to claim their money before it was all gone.

Governor Celeste decided that he had no choice but to close all the privately insured thrifts. The rest of the state's S and Ls were exempted from the order because they are members of the Federal Savings and Loan Insurance Corp., a U.S. Government agency that guarantees deposits of up to $100,000. After the closings, the Ohio legislature went into emergency session to debate various strategies for putting the thrifts back in business. Meanwhile, Celeste flew around the state almost constantly. The Governor huddled with bankers, gave reassuring speeches to crowds of reporters and depositors and answered anxious questions on call-in radio shows.

Celeste also jetted to Washington to get help from federal banking authorities. Edwin Gray, chairman of the Federal Home Loan Bank Board, which oversees the FSLIC, promised Celeste "an unprecedented, superhuman effort" to complete the paperwork necessary to bring as many as possible of the closed Ohio thrifts under federal insurance. Fed Chairman Volcker also pledged support. Said he: "The job now is to get the institutions opened rapidly and in an orderly fashion so that we don't have a repetition of the situation."

After two days of marathon sessions, the Ohio legislature approved a plan just before 1 a.m. Wednesday, and Celeste signed it at 2:30 a.m. The measure allowed the thrifts to open for business as usual if they proved their solvency and applied for federal insurance. Weaker thrifts that fail to qualify for U.S. protection within 120 days will probably be merged with stronger financial institutions. Those unable to find partners are likely to be liquidated by state regulators to pay off depositors. Meanwhile, even thrifts that do not yet qualify for U.S. insurance can let depositors withdraw up to $750 a month.

Many Ohioans, though, remain angry and bewildered. "I'm very damn mad and very upset," said Hugh Butterfield, a Centerville retiree who appeared on the Donahue TV show last week. "You work all your life, and then something like this happens." While most depositors will eventually have access to their money, the bank holiday disrupted thousands of lives. "The thing that's breaking my heart," says Paulette Lotspeich, a Cincinnati substitute teacher and mother of three, "is that my husband and I were going to go on a trip by ourselves for the first time in 14 years, to Florida. That's over now. We can't afford to go." Many businesses tried to help out the cashless consumers. Some grocery chains continued to accept checks drawn on the thrifts. Nonetheless, many depositors ran short of money for such necessities as medical care and gasoline.

While Celeste, a Democrat, generally won high marks for his decisive and tireless handling of the crisis, some critics think that freezing the thrifts was the wrong move. "Ohio overreacted, turning a regional problem into a worldwide scare," says Leonard Santow, a Wall Street consultant. Many experts believe Celeste could have halted the panic by bailing out the thrifts immediately with cash borrowed from the Federal Reserve.

The crisis prompted depositors across the U.S. to wonder, maybe for the first time, just who insures their money. The large majority of deposit-taking institutions are federally insured--83% of S and Ls, for example. But 30 states, including Massachusetts, Texas and Illinois, permit at least some of their commercial banks, thrift institutions or credit unions to rely on private insurance funds.

Many Ohioans, including the Governor, admit that until now they never paid much attention to the fact that some thrifts were not insured by the U.S. Government. The privately insured S and Ls wear window decals that look as authoritative as the FSLIC symbols, but the thrifts are often not subject to the same degree of oversight as institutions that are insured by Uncle Sam. Some Ohio thrifts may not have sought Government protection because they wanted to avoid the paperwork and scrutiny that comes with U.S. insurance. Ducking the expense of complying with federal regulations may have helped institutions offer savers unusually high interest rates.

The Ohio experience could start a movement to force all banks and S and Ls in the U.S. to buy federal insurance. Says one congressional staffer: "Given the weakened condition of the thrift industry, another crisis is likely to happen unless there are changes made in the current system." Rhode Island Democrat Fernand St Germain, chairman of the House Banking Committee, has asked federal regulators to advise him on whether they believe private insurance is adequate.

St Germain sees the move toward financial deregulation in recent years as partly responsible for the new banking troubles. Before 1980, banks and S and Ls were subject to federal ceilings on the interest rates they could pay depositors. Now bankers have much more freedom to pay what they wish, and competition has pushed rates up. That in turn has led the S and Ls to make riskier investments to cover the handsome payouts. In the past, thrifts generally limited their loan business to home mortgages. Now many have plunged into higher-yielding but more dangerous ventures, ranging from office-building construction to securities deals with traders like E.S.M. "It's harder to make a profit," says Robert Seaton, president of Cleveland's Cardinal Federal Savings & Loan. "Therefore institutions are doing things they wouldn't have done before." Federal regulators hope to reverse the trend with tighter scrutiny and new limits on how fast a thrift can grow.

Many S and Ls in southern Ohio still adhere to the old-time philosophy of prudence and modest ambition held by the German immigrants who started the institutions a century ago. Home State was an exception. Largely through transactions with E.S.M., Home State's assets ballooned from $571 million in June 1983 to a precarious $1.4 billion at the end of 1984. Says John Zellars, chairman of the U.S. League of Savings Institutions: "Home State really made bad investments, and, basically, they were dealing with crooks. That is not the usual way S and Ls operate." The new Ohio legislation provides for a special prosecutor to probe the connection between Home State and E.S.M.

When the highflying Florida securities dealer collapsed, it left dozens of creditors with losses totaling as much as $315 million. E.S.M. had attracted investors by offering them high returns on short-term loans backed by Government securities. Many of those securities cannot now be found. Says Miami Attorney Thomas Tew, the court-appointed receiver for E.S.M.: "It's probably one of the most colossal, stupendous frauds I've ever seen." Tew and others have sued Alexander Grant & Co., the Chicago-based accounting firm that gave E.S.M. a clean bill of financial health for the past five years even though the company was rapidly losing money. The Securities and Exchange Commission charged last week that an Alexander Grant auditor, Jose Gomez, accepted $125,000 in bribes from E.S.M. to give the rosy reports.

Much of Ohio's investigation will focus on Financier Marvin Warner, Home State's owner and until recently a major investor in E.S.M. The probe will put additional heat on Celeste, since Warner was one of his biggest campaign contri butors. Warner, who stayed away from Ohio last week in his Miami apartment, blames Home State's collapse primarily on E.S.M.'s accountant. Says he: "It's not only a matter of terrible personal loss, it's a feeling of humiliation."

Because of its huge losses, Home State will be allowed to reopen only if it is merged with a much larger bank. Manhattan's Citicorp and Chemical New York are showing interest but have made no commitments. Home State's customers desperately hope for a buyer to come along because the new Ohio legislation does not require the failed bank to give them even the $750 a month. The depositors are not likely to suffer quietly. More than 50 marched last week into the Ohio statehouse, chanting "We want our money back!"

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With reporting by J. Madeleine Nash/Cincinnati, with other bureaus