What Was the Garn-St. Germain Depository Institutions Act?
Let me explain the Garn-St. Germain Depository Institutions Act, which Congress enacted in 1982. Its main goal was to reduce the strain on banks and savings and loans after the Federal Reserve hiked rates to fight inflation. These institutions had locked in low-rate loans years earlier, and now they faced losses as deposit rates soared in the early 1980s.
This act built on the Depository Institutions Deregulation Committee from the Monetary Control Act, which started removing caps on deposit interest rates. Today, you and I know these laws played a role in the Savings and Loan Crisis that unfolded in the 1980s and 1990s.
Understanding the Garn-St. Germain Depository Institutions Act
Inflation surged in the US during the mid-1970s after Nixon cut the dollar's ties to gold, and it spiked again in the late 1970s, exceeding 10% by 1980. When Federal Reserve Chairman Paul Volcker raised rates aggressively in the 1980s, inflation dropped to 2.5-5.0% for much of the decade.
Banks were stuck paying more for deposits than they earned on old, low-rate mortgages. They had mismatched maturities, lending long-term at fixed low rates while borrowing short-term at rising rates, leading to illiquidity.
Regulation Q, which limited deposit rates for banks and thrifts, was phased out under the MCA for most accounts. Depositors shifted to higher-yield options like money market funds and CDs, squeezing banks as their costs rose while mortgage income stayed fixed.
Title VIII of the act, called 'Alternative Mortgage Transactions,' let banks issue adjustable-rate mortgages. It also helped consumers by allowing mortgaged properties in inter-vivos trusts without triggering due-on-sale clauses, making it simpler to transfer real estate to heirs or shield assets from creditors.
Important Note on the Act's Impact
Many experts point to this act as a key factor in the Savings and Loan Crisis, which led to a huge government bailout costing around $124 billion.
Passage of the Act
The act was named for Congressman Fernand St. Germain, a Democrat from Rhode Island, and Senator Jake Garn, a Republican from Utah. Co-sponsors included Congressman Steny Hoyer and Senator Charles Schumer. It passed the House 272-91, cleared the Senate, and President Reagan signed it in October 1982.
Unintended Consequences
The act lifted interest rate ceilings for banks and thrifts, permitted commercial loans, and enabled federal approvals for bank acquisitions. With looser rules, S&Ls chased high-risk ventures like commercial real estate and junk bonds to offset losses.
Depositors kept pouring money in because the Federal Savings and Loan Insurance Corporation insured their funds. In the end, the act helped spark the Savings and Loan Crisis, a bailout that cost $124 billion, and it paved the way for 2/28 adjustable-rate mortgages that fed into the subprime crisis and the 2008 Great Recession.
Key Takeaways
- The Garn-St. Germain Act eased bank pressures amid inflation-fighting rate hikes.
- It was sponsored by Congressman Fernand St. Germain and Senator Jake Garn, with co-sponsors like Steny Hoyer and Charles Schumer.
- Title VIII allowed adjustable-rate mortgages and protected property transfers from due-on-sale clauses.
