THE DECLINE and fall of the savings and loan industry will demand the largest financial bailout in this nation's history: Between $325 billion and $500 billion over three decades, according to the General Accounting Office; or up to $2,000 for every woman, man and child in America. Unfortunately, it may not be the last of such debacles. The S&L crisis is not a fluke; our political system is fully capable of allowing similar disasters to strike again.

Underpriced deposit insurance and inadequate supervision were the most proximate causes of the crisis. But those conditions did not occur by chance. They were the result of a deeper political failure endemic to congressional decision-making: Under current procedures some constituencies can manipulate Congress to provide massive private benefits at substantial public cost. This results in large part because the budget process fails to account realistically for the cost of subsidies provided in the form of insurance or loan guarantees, fostering the politically self-serving illusion that Congress can provide benefits with little or no cost to the public purse.

It is easier to build support for a "stealth" program, one that has little discernible budgetary impact, than it is for programs that require obvious and easily measured outlays. Legislators and lobbyists sometimes structure programs in order to mask true beneficiaries and to promote the image that a politically popular constituency benefits when, in fact, the real economic benefits go elsewhere. For example, loans for students in vocational training programs provide both off-budget expenditures and substantial earnings to vocational training centers. Some of these programs may, however, provide relatively little training for financially strapped students; the real beneficiaries of these programs are the vocational schools. Although hidden subsidies have received increasing attention since the passage of the Gramm-Rudman-Hollings Deficit Reduction Act, the preference for nonobvious expenditures with nonobvious beneficiaries has been a fact of Washington life for many decades.

Fortunately, in most situations there is a delicate ecological balance that prevents Congress from being too generous to any single group. The balance, however, is vulnerable to a rogue constituency that has a broad geographic base, pursues a noncontroversial ideology popular with the middle class, actively finances congressional campaigns and is willing to exploit Congress's fiscal blind spots.

The confluence of these factors in the hands of a constituency with little respect for the public purse is a prescription for disaster. The S&L industry is only one such constituency. Other government programs threaten to impose similar costs. We can begin taking action now to diminish the risk -- if we are prepared to learn from the S&L fiasco. The broad outlines of the story are now well known. But a brief review shows that the same patterns that produced the S&L crisis continue to imperil the federal treasury. In the 1980s, the S&L industry's primary lobbying organization, the United States League of Savings Institutions, was among the most feared lobbying forces in Washington. Popularly known as "the League," its geographically diverse and locally influential constituent base gave it broad access. In addition, its primary historical mission -- providing financing for home purchasers -- neutralized much of the ideological opposition that would otherwise have accompanied the lobbying efforts of a discrete segment of the banking industry. It was generally believed that savings and loans did not lend to big business or foreign governments, or engage in highly speculative activities; by carefully cultivating this association, the industry avoided political controversy.

Meanwhile, it supplemented its natural influence by contributing significantly to the political war chests of key members of Congress. Over the past two congressional elections, more than 160 thrift-industry political action committees contributed nearly $4.5 million to congressional candidates, with more than $1 million of that amount going to members of the House and Senate banking committees.

Finally, the League sought off-budget favors from Congress and regulators. Regulatory indulgences, unrealistic accounting practices and underpriced deposit insurance did not require a single cent of line-item budget expenditures. When granted, they were easily masked as costless accommodations designed to ease an industry through a temporary rough phase. Over time, these accommodations became wildly expensive.

The current chairman of the House Banking Committee, Henry Gonzalez (D-Tex.), observed that "everything the industry has wanted, Congress has rolled over and given to them." And Edwin J. Gray, the former chairman of the Federal Home Loan Bank Board (FHLBB), testified before Congress that he was warned by the former chairman of the House Banking Committee that no legislation affecting the S&L industry could pass the House without the support of the League.

The League also exercised substantial influence over the selection of the members of the FHLBB and enjoyed free access to the agency. As former Federal Reserve chairman Paul Volcker explained, "historically, it's fair to say that the Federal Home Loan Bank System has in its regulatory area . . . been . . . insufficiently independent from the industry it regulates." In addition, the industry, through the League and other channels, provided numerous fringe benefits for its own regulators. For example, it was common practice in the thrift industry to pay travel and entertainment expenses for key regulators. One of the industry's most masterful maneuvers to conceal the depths of its problems began in the early 1980s. The industry had accumulated billions of dollars of losses in its home mortgage portfolios but refused to allow a large number of its members to fail, even though they were broke. Desperately seeking to avoid capital impairment, regulatory intervention and potential bankruptcy, the League helped persuade the industry's regulators to adopt the Regulatory Accounting Principles (RAP), an entirely new accounting system that disingenuously swept insolvency under the rug.

Through RAP, the industry magically turned liabilities into assets much as medieval alchemists claimed to turn lead into gold. RAP converted losses incurred on the sale of portfolio assets into asset accounts that thrifts could amortize over unrealistically long periods. RAP also permitted some savings and loans to revalue their loans, without selling them, and then to amortize the resulting losses over a period of as long as 40 years. A "net worth certificate" program, through which the FHLBB agreed to recognize, as capital, "certificates of indebtedness" that were issued by institutions that were running low on capital, supplemented these accounting grimmicks.

Federal regulators were willing accessories to this charade and actively participated in designing the RAP rules. The FHLBB recognized that it lacked the assets to shut down insolvent thrifts and did not relish the thought of having to go before Congress to ask for a federal bailout. (A bailout could have saved the taxpayers tens of billions of dollars had it been done on a prompt basis in the early or mid-1980s.) Such a concession was particularly unpalatable because the losses accrued as of the early 1980s resulted primarily from home mortgage activity and not from any exotic lending programs. More importantly, the regulators believed that market values were wrong and that the industry would, if given the chance, grow out of its problems.

The very notion of a bailout threatened the regulators as well. It raised the risk that Congress would, as part of the bailout package, restructure the industry's regulatory mechanism and bring S&Ls under the wing of traditional banking regulators. Such a change would mean the end of the FHLBB as an independent agency and the demise of the Federal Savings and Loan Insurance Corporation (FSLIC) as a separate insurance fund. Honest accounting ran up against the bureaucratic survival instinct and the power of wishful thinking, two of the more familiar forces in Washington. Nonetheless, by the late '80s, the industry was obliged to confront the fact that many S&Ls and the FSLIC were broke. Yet even then it denied the magnitude of the problem. In 1987, during Congress's consideration of legislation providing $10.8 billion to recapitalize the FSLIC, the League argued aggressively that the FSLIC needed only $5 billion. At the same time, the Reagan administration, which was beginning to awaken to the magnitude of the coming disaster, sought at least $15 billion. The League claimed that the problems in the industry were limited to a small number of institutions, and that the industry as a whole was not subject to substantial financial risk.

In hindsight, Congress, the League and the Reagan administration all woefully underestimated the industry's problems. Congress and the Reagan administration had political incentives to camouflage the problem until after the 1988 elections. But what was the League's purpose in offering the lowest of the three estimates? Is it possible that, as late as 1987, the industry did not understand the magnitude of its own problems?

A more plausible explanation can be found in an old saying among bankers: If a customer owes $50,000 on a loan, the customer has a problem; but if the customer owes $500 million, the bank has a partner. The industry's motive for understating the magnitude of the crisis may have been to transform the government from a creditor into a partner. If the problem became large enough, the government could not possibly call upon industry to cover its own losses. It would have no choice but a bailout.

Whatever the case, the League and the S&L industry played Congress like a violin, then left taxpayers to face the music. Even if one believes that the crisis is past, and that it is only a matter of time until the S&Ls disappear and the bailout bills are paid, complacency is premature. Several other constituencies operate under conditions similar to those that gave rise to the S&L debacle -- with the potential to generate multi-billion-dollar losses.

The problems now facing the commercial banking industry are hauntingly reminiscent of the difficulties faced by the savings and loan industry in the early 1980s. Analysts have already suggested that the banking industry's insurance fund is not as solvent as it seems; and a recent Brookings Institution study found that "more than 1,000 banks with about one-half of the nation's banking assets {are} undercapitalized."

Outside the banking sector, the government has more than $745 billion in outstanding loans and loan guarantees. These programs provide benefits for constituencies such as students, farmers, small businesses and veterans. But government accounting procedures fail to recognize that every dollar of loan or guarantee to each of these constituencies is a dollar of loss exposure to the federal government. A day of reckoning, when the government must recognize the losses hidden in these programs, may not be too far off because many guaranteed loans are now as worthless as the assets sitting in S&L portfolios.

Furthermore, a recent GAO audit of the Farmers Home Administration found cumulative losses of $36 billion on a $90-billion portfolio. The Federal Housing Administration's $283-billion loan guarantee program and the Veterans Administration's $147-billion loan guarantee portfolio are also cause for concern. In a partial attempt to address these problems, the government plans to write off approximately $37 billion of this debt over a three-year period. But given recent trends in the real-estate market and the lower quality of the loans that generally qualify for government guarantees, one may reasonably question whether the planned write-off is large enough to cover the potential economic risk. How do we prevent these programs from mushrooming into new S&L-like crises? As a practical matter, nothing can be done about the broad-based geographic support for the constituencies supporting these programs, nor about their nonideological agendas. Although campaign finance reform remains a topic of conversation, reform is not likely to affect significantly the influence of grass-roots organizations with the capacity to raise substantial sums on behalf of congressional candidates, at least in the near term. The one short-term measure that might help is to change the information component of the political equation: That is, to force the hidden costs of loan insurance and guarantee programs out into the open and to require that these costs have a real and immediate budget impact.

Implementation would require two stages. First, the government has to price loan, guarantee and insurance programs on a "mark-to-market" basis so that it has a reliable estimate of the costs accruing as a result of its hidden subsides. To obtain a reasonable measure of some of these costs, the government could sell off representative portions of its loan portfolio both with and without the government guarantee. The difference in price between the insured and uninsured loans could serve as a measure of the potential losses accruing in connection with the subsized loans. The government could, through appraisals or other techniques, value on a mark-to-market basis other assets that are not as readily marketable.

Second, the mark-to-market costs of these programs must be passed through to the budget as expenditures. Hidden subsidies would then find themselves in competition with other demands on the federal tax dollar. Congress would suddenly have an incentive to pare back these subsidies in order to free resources for other uses, and the bargaining process that is so central to preserving Washington's political ecology would be brought back to the fore.

In the past, Congress has ignored clear accounting signals of impending disaster; it may well ignore them again. But if forced to confront timely measures of the economic costs associated with its various off-budget insurance and guarantee programs, it will not be able to claim ignorance. Budget-based mark-to-market accounting is not an iron-clad guarantee against a recurrence of an S&L-type failure. It is, however, a necessary and feasible first step toward restoring integrity to the political and economic process.

Joseph Grundfest, a professor at Stanford Law School, was commissioner of the Securities and Exchange Commission from 1985 until early this year. This article is adapted from Stanford Law & Policy Review's current special issue on the S&L crisis.