California’s wealthy historical past contains placing the worldwide financial order in danger
Don’t rely on California, especially when banks are involved.
The collapse of Silicon Valley Bank is widely discussed as a harbinger of the future, a sign of trouble at the tech companies that were its best customers. But this bank collapse actually fits a very old pattern – California is threatening the global economy.
Our state’s history of triggering economic crises is rooted in our need to get rich quick, a trait of our state since the Gold Rush.
The California Constitution of 1849 prohibited banking. But with the discovery of gold, banks grew fast – and collapsed faster. The history of San Francisco in the 1850s is one of financial panics followed by attempts to emerge from them. The Bank of California, the first commercial bank in the west, was founded in 1864 and had failed by 1875. (It was later reopened).
The catastrophe only spawned new banks. After the 1906 San Francisco earthquake, banker AP Giannini established a makeshift bank in North Beach. Eventually, he founded Bank of America, which was briefly the world’s largest bank in the 1980s.
Bank of America survived (but merged and moved to North Carolina). But for the past two generations, California has regularly caused crises and global recessions.
The savings and credit crisis of the late 1980s and early 1990s was in part the result of banking deregulation promoted by a California President, Ronald Reagan, and California legislators. The state’s thrift, under financial pressure from high inflation, sought to escape their woes through speculative investments, which only aggravated their problems.
This deregulation was most shamelessly exploited by the Irvine-based Lincoln Savings and Loan Association and its director, Charles Keating, who used depositors’ money for high-risk investments. Keating, attempting to bypass federal agencies and retain control of his thrift, compromised five US Senators, known as the Keating Five, including Californian Alan Cranston. Keating was eventually convicted of fraud but released on appeal.
Hundreds of savings and loan banks have been closed forever. The federal government intervened to protect some thrifts and depositors at an estimated cost to taxpayers of $100 billion.
The 21st century has seen two California powered busts. The first came in 2000, when the collapse of many tech startups and tech stock prices helped trigger a national recession.
But this recession turned out to be minor compared to the Great Recession of 2008. This global economic meltdown is often blamed on Wall Street banks. But it too was invented in California.
Then as now, the Golden State had the largest and most expensive housing market in the country. Our middle class, in their ambitious desperation to buy homes and maintain an unaffordable standard of living, has paved the way to ever-growing consumer and mortgage debt. Our banks and mortgage companies—including Calabasas-based Countrywide Financial, once the nation’s largest mortgage lender—led the way in originating bad subprime loans that left borrowers owing more than their homes were worth. Countrywide and its Wall Street friends have also ruthlessly securitized these loans; They were then traded in the markets, with many investors not understanding the risks.
As the housing market collapsed and foreclosures increased, the carnage included the collapse of stock markets, double-digit unemployment, record bankruptcies for people and local governments, huge federal budget deficits, and mass layoffs among public workers and across many industries. In California, family income fell, the middle class shrank, and income inequality rose to the highest level in at least 30 years, according to the Public Policy Institute of California.
Californians pride themselves on the size of their state’s economy, which will soon be the fourth largest in the world. But when an economy of this magnitude collapses, it expands across borders, adding to economic malaise from Madrid to Manila.
Because of this, world markets plummeted when news broke of depositors fleeing Silicon Valley Bank. California’s leading tech companies and their employees banked at these institutions, so many have assumed the contagion will spread as before. It remains to be seen whether the US government’s aggressive move to seize the Silicon Valley bank and even guarantee uninsured funds will contain the damage.
Today, major global institutions track and provide “systemic risk” or “mega risk” reports on the future of the world and its economies. The World Economic Forum has released a risk report covering natural disasters, inequality and its impacts, climate change, democratic decline, aging infrastructure, technological disruption, war, terrorism and infectious diseases.
Perhaps they should add California to the list with its flair for spectacular financial failures.
Joe Mathews writes the Connecting California column for the Zócalo Public Square.
Joe Mathews
Originally published Apr 15, 2023 at 7:30 am
