Why Glass-Steagall matters – Editor
The Glass–Steagall Act describes four provisions of the U.S. Banking Act of 1933 that serve to separate traditional commercial banking from risky invest- ment banking [1,2]. According to ref 1:
” Following the global financial crisis of 2007-08, legislators unsuccessfully tried to reinstate Glass–Steagall Sections 20 and 32 as part of the Dodd–Frank Wall Street Reform and Consumer Protect- ion Act. Currently, bills are pending in United States Congress that would revise banking law regulation based on Glass–Steagall inspired principles. Both in the United States and elsewhere banking reforms have been proposed that refer to Glass–Steagall principles. These proposals raise issues address- ed during the long Glass–Steagall debate in the United States, including issues of “ring fencing” commercial banking operations and “narrow banking” proposals that would sharply reduce the permitted activities of commercial banks. ”
An article on the website of former presidential candidate Sen. Bernie Sanders by Richard Eskow [3] details Sanders’ proposal to implement a new version of the Act, which was repealed in 1999 after having been successfully in effect for more than 75 years. The following five reasons have been listed by Eskow, explaining why it is important to reinstate the Glass-Steagall Act.
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Too-big-to-fail banks are bigger, riskier, more ungovernable than ever
America’s largest banking institutions are even larger now than they were before the 2008 financial crisis. The nation’s six largest banks issue more than two thirds of all credit cards and more than a third of all mortgages. They control 95 percent of all derivatives and hold more than 40 percent of all US bank deposits. Simon Johnson, former chief economist for the International Monetary Fund, points out that Glass-Steagall is needed as part of a broad effort to make these banks “simpler and more transparent.” Johnson observes: “In the run-up to the 2008 crisis, the largest US banks had around 4% equity relative to their assets. This was not enough to withstand the storm … Now, under the most generous possible calculation, the surviving megabanks have on average 5% equity … that is, they are 95% financed with debt.”
As Johnson makes clear, these banks continue to pose a grave risk to the economy. He also notes that they have continued to engage in sanctions violations and money laundering – behavior which suggests that they are still out of control.
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The argument that the repeal of Glass-Steagall didn’t cause the 2008 financial crisis is wrong
Robert Reich, Bill Clinton’s former Labor Secretary, summarized the anti- Glass-Steagall argument as follows: “To this day some Wall Street apolog- ists argue Glass-Steagall wouldn’t have prevented the 2008 crisis because the real culprits were the nonbanks like Lehman Brothers and Bear Stearns.”
He followed that with a one-word response: “Baloney.”
Reich then made an important point: “Shadow banks” like AIG and Lehman, which largely function outside the normal bank regulatory system, are a major problem. But the 2008 financial crisis became a systemic threat specifically because too-big-to-fail banks were underwriting the risky bets these companies made. And why were the big banks able to do that? Because Glass-Steagall had been repealed.
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Repeal of the Act has not worked as promised
Given the risks associated with the repeal of the Glass-Steagall Act, what about the benefits? It turns out that there aren’t many.
We were told that repealing the Glass- Steagall Act would lead to more effic- iency and lower costs, but neither of these promises has come true. No less an expert than John Reed, former CEO of Citigroup, now says those claims were wrong. Reed wrote in a recent op-ed (behind a firewall) that “there are very few cost efficiencies that come from the merger of functions – indeed, there may be none at all.” In fact, says Reed, it is possible that this combination of functions actually makes banking services more expensive.
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The repeal of Glass-Steagall is further corrupting the culture of banking – if such a thing is possible
Sanders was right when he said that “the business model of Wall Street is fraud”. The traditional practice of what Sen. Elizabeth Warren calls “boring” banking – opening savings accounts, reviewing loans, and providing other customer services – has largely been supplanted by high-risk gambling and the aggressive hustling of dubious investments to unwary clients.
The level of fraud unearthed since the 2008 crisis is nothing short of breath- taking. (The fact that no senior banking executive has gone to prison for that fraud is, if anything, even more breath- taking.) How did that happen?
Citigroup’s Reed wrote that the repeal of Glass-Steagall led to a “very serious” problem of “mixing incompatible cultures” – which, he said, “makes the entire banking industry more fragile.” He discussed the relationship-based, sociable culture of traditional banking, emphasizing its incompatibility with the risk-seeking, “short termist” mentality of investment bankers who seek “immed- iate rewards.”
Reed makes a very important point – although he’s being overly kind about it. Yes, traditional bankers tend to be risk- averse and customer-focused. That’s very different from the high-stakes gambling mentality of investment banking.
But what Reed fails to note – or is too polite to mention – is the extent to which today’s culture of investment banking is predicated on outright fraud. That’s reflected in recent polling of the banking community itself, and in the industry’s appalling record of documented illegality. It is this mentality, which is present in banks from the “C” suite on down, which has given rise to Wall Street’s tsunami of misdeeds.
This greed-driven fraud mentality is like a virus, consuming too-big-to-fail banks even as they exert ever-greater control over our economy — and our political system.
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Too-big-to-fail banks are a threat to our democracy
These megabanks aren’t just a “systemic threat” to our economy. Through their enormous wealth, and because of the ruthlessness with which they’re willing to wield their influence, they are also a systemic threat to democracy itself.
That threat can be seen in the workings of last year’s U.S. Congress, which saw the successful insertion of a lobbyist- drafted “Citigroup amendment” into a last-minute budget bill.
It can be seen in a political climate where the Republican head of a Congressional Committee can say that “Washington and the regulators are here to serve the banks.”
It can be seen in Wall Street political contributions which flow to powerful and familiar political names, Republican or Democratic.
Banks have acquired too much power. They must be broken up vertically (by line of business) and horizontally (by size), even as their corrupting influence over our government is ended through a system of fundamental election reform.
In today’s environment, reinstating the Glass-Steagall Act is the right policy, and also an excellent litmus test for politicians who say they’re willing to take on Wall Street.
