Gary Sasse: Rhode Island’s Tale of Two Crises
Wednesday, October 09, 2013
On New Year’s Day, 1991, Rhode Islanders awoke to one of the most painful economic and political scandals in the State’s history. The crisis was the closing of 45 financial institutions. This action by Governor Bruce Sundlun immediately froze the bank accounts of nearly one-third of the state’s population, cutting them off from $1.7 billion of their money. Twenty –two years later we are trying to address the disastrous investment made in 38 Studios which could cost taxpayers over $100 million.
The economic magnitude of the potential 38 Studios liability is not remotely comparable to the banking crisis. Nevertheless, how elected officials responded may tell something about both the quality of their leadership and approach to open government. As the philosopher George Santayana said, “Those who cannot remember the past are condemned to repeat it.”
On January 1, 1991, the newly inaugurated governor announced the closure of 45 credit unions, banks, and loan and investment companies. These financial institutions were insured by a private insurance fund known as the Rhode Island Share and Deposit Indemnity Corporation, commonly referred to as RISDIC.
GET THE LATEST BREAKING NEWS HERE -- SIGN UP FOR GOLOCAL FREE DAILY EBLASTThe seeds of the banking crisis were planted in the 1980s. In 1986, the head of RISDIC, powerful lobbyists and legislators were able to kill legislation that would have required all Rhode Island financial institutions to obtain federal deposit insurance. A confidential report to then Governor Edward DiPrete concluded “The Rhode Island Share and Deposit Indemnity Corporation will perform no better than the state- sponsored funds which recently failed so completely in Nebraska, Ohio, and Maryland.” The report went on to warn that failure to deal with RISDIC “decisively and effectively” would result in dire consequences.
In the case of 38 Studios state leaders were also warned that the venture was an ill-conceived economic development strategy and a risky investment. In both situations decision- makers were not listening and did not to pay attention to the evidence.
Writing in the 1993 May/June issue of the New England Economic Review economists from the Federal Reserve Bank of Boston provided us with lessons from the Rhode Island banking crisis. These lessons could have helped us avoid the 38 Studios fiasco.
The first lesson was to avoid large concentrations of risk. In the 38 Studios deal an extraordinary large portion of available resources for job development was earmarked for one project.
The second lesson was to be sensitive to the impact conflicts of interest have on sound decision- making. RISDIC let the insurance fund be controlled by those it insured. At this point we are not sure what conflicts of interest, if any, influenced the 38 Studios deal because there has not been an independent postmortem. All we have are State House rumors.
The third lesson from the banking crisis was the inadequate regulatory oversight. Nobody would suggest that the Rhode Island Economic Development Corporation exercised effective oversight over the 38 Studios loan. Taxpayers are still looking for answers as to who was monitoring the $75 million potential taxpayer liability over 18 months.
The seeds of both scandals started with ill- conceived business plans and ended with inept management compounded by public officials who ignored evidence of impending problems. However, this is where the similarities between the banking crisis and 38 Studios end. Twenty two years ago our leaders took a more proactive approach to investigating why the snafu occurred and who was responsible. If confidence in Rhode Island government’s ability to make sound decisions is to be improved, our current elected officials might want to take a leaf out of the book of how the banking crisis was handled.
In dealing with the banking crisis the mantra of the governor and legislative leaders was to quickly let taxpayers know what happened, who was responsible and what could be done to fix the problem, and make sure it would not happen again. An independent blue ribbon commission was created to find out what happened and why the system failed. Also nationally recognized counsel was retained by a second commission that was chartered to, among other thing, investigate criminal and civil liabilities. Today the State has retained counsel and is litigating the matter.
The Governor asked Brown University President Vartan Gregorian to lead an independent commission composed of banking experts and auditors. This commission issued its report in mid-March 1991, just ten weeks after it was organized. In a harshly worded report the commission found that state regulators failed to oversee RISDIC. The Philadelphia Inquirer reported that the commission described RISDIC “as rife with mismanagement and conflicts of interest, but possessing enough political clout to stave off any criticism or state regulatory action.” When asked if RISDIC was guilty of incompetence or evil intent, President Gregorian replied “both”.
This leadership approach of Governor Sundlun and the General Assembly helped restore confidence and enabled the private and public sectors to advance beyond the banking crisis and begin to move Rhode Island forward. Today Rhode Island’s economic recovery is confronted by the shadow of 38 Studios. There has not been an independent fact- finding process and unanswered questions persist. As a result it is sometimes difficult to remove the veil of cynicism and enlist public support for major economic development programs and investments.
The financial consequences of closing 45 financial institutions had a greater impact on the lives of Rhode Islanders then did 38 Studios. Nevertheless, the way both crises were handled tells us something about the political process and the effectiveness of our elected officials. While the final chapter has not been written about 38 Studios, it appears that the way today’s public officials are trying to get to the truth is in marked contrasted to the leadership exercised by Governor Sundlun, then Speaker DeAngelis and other state officials over two decades ago.
Surely Rhode Island's beleaguered taxpayers need to know that all the 38 Studios stones will be turned over as they were two decades ago when Rhode Islanders dealt with the banking crisis.
Gary Sasse is Founding Director of the Hassenfeld Institute for Public Leadership at Bryant University. He is the former Executive Director Rhode Island Public Expenditure and Director of the Departments of Administration and Revenue.
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