What Was Glass Steagall and Why Should We Bring It Back?
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America’s credit and commercial banking system was the brainchild of our first president’s treasury secretary, Alexander Hamilton. We started down the right road and the result was that we became the world’s leading industrial and agriculture power over the course of two centuries.
But as time went by, we strayed from the true path blazed by our forefathers and found ourselves economically mired in The Great Depression of the 1930s. More than four thousand banks in America closed their doors forever between 1929 and 1933 leaving depositors with more than four million dollars in losses. The Glass-Steagall Act of 1933 was a return to Hamilton’s principles of banking, which separated commercial banks that take deposits and make loans from investment banks that sell bonds and stocks. It was passed as a result of a congressional investigation that exposed recklessness, cronyism, and fraud in banking practices.
Playing fast and loose with banking practices again brought the country’s economy to the brink of collapse after Glass-Steagall's repeal in 1998. The resulting instability of U.S. financial institutions cost taxpayers almost twenty trillion dollars in bailouts and subsidies that were paid out in a desperate attempt to keep us from plunging headlong over the fiscal cliff.
Why was it repealed?
By the early 1980s, anti-regulation advocates from both political parties were enjoying a field day in Washington. Bit by bit they were kicking the props out from under our safeguards in our financial structure. Myriad crisis, like what happened to savings and loans establishments in mid-decade, have not been completely salvaged even today. By early 1987, the Federal Reserve Board voted three to two to let banks once again engage in a range of securities underwriting activities. You would have thought this decision would have set off alarms for anyone who ever heard their fathers tell horror stories of what their families had lived through just fifty years earlier. But nobody was listening for alarms. There was simply too much money to be made
Several members of the George H.W. Bush administration including Federal Reserve Chairman Alan Greenspan and Treasury Secretary James Baker may not have set out to weakened Glass-Steagall, but they certainly did. For example they let banks underwrite municipal bonds with an explanation that stated they were safe by definition. In 1991, then President Bush called on Congress to repeal the law outright. Although that effort was voted down in the House of Representatives, the anti-Glass-Steagall movement was underway.
During the presidency of Bill Clinton, Greenspan convinced regulators to raise the ceiling from ten to twenty-five percent on securities underwriting for bank holding companies that owned investment-bank affiliates. Treasury Secretary Robert Rubin clearly supported bigger and more diversified banks supposedly in order to increase the nation's global competitiveness. Rubin went on to become the chairman of Citigroup.
A Republican-led Congress and Democratic President Bill Clinton in the mid 1990s introduced a new age of “full service,” "too-big-to-fail" financial institutions. November 12, 1999, Clinton signed the Financial Modernization Act into law, basically a repeal of Glass-Steagall, leading to the end of the longest crisis-free period in U.S. financial history. At the time, industry lobbyists argued that this modern experiment in deregulation would bring greater stability and competitiveness to the financial services industry.
Some House Democrats initially argued that the banks should not be given so much unregulated freedom. Most of them changed their minds after the bill added provisions that modestly expanded the Community Reinvestment Act, an effort to make lending products available to their low-income constituents. In the final count of votes, only eight Senators voted no: seven Democrats; Byron Dorgan, Barbara Boxer, Barbara Mikulski, Tom Harkin, Richard Bryan, Russ Feingold, Paul Wellstone; and one Republican, Richard Shelby of Alabama. The unintended consequences of the housing market collapse came after what seemed like a way to help people in need - devastating the very groups they had tried to help.
Some of the loudest voices for repeal were among its most conspicuous beneficiaries. Senator Phil Gramm, after retiring in 2002, went to work for UBS AG, a Swiss commercial bank that moved into investment banking. Rubin, the former Treasury Secretary, took the Citigroup chairmanship with a reported initial annual compensation of $40 million. Citigroup lost $27.7 billion in 2008 and is second only to AIG in the huge sums of taxpayer money it ended up receiving in a desperate effort to keep its doors open.
Another advocate of repeal, Lawrence Summers, succeeded Rubin as Treasury Secretary and headed President Obama’s White House Council of Economic Advisors.
Economists have laid most of the damage to the country at the feet of pure investment banks such as Morgan Stanley, Bear Stearns, and Lehman Brothers, and insurance company, AIG. Commercial banks played their part as well as buyers and sellers of mortgage-backed securities, credit-default swaps, and other explosive financial derivatives. Without the weakening and ultimate repeal of Glass-Steagall, the banks would have been barred from most of these activities. The market and appetite for derivatives would then have been far smaller, and Washington might not have felt a need to rescue the very institutions that created the crisis.
Greenspan, while not outright defending the regulations of Glass-Steagall, has stated since the financial fall-out of 2008 that if financial institutions are truly too big to fail, they just might be too big to exist. Three bills to restore Glass-Steagall were introduced in Congress following 2008. A bipartisan group of four senators including Elizabeth Warren (D-Mass.) and John McCain (R-Ariz.) introduced an updated version of the landmark act aimed at reining in risk at America's largest banks. Other co-sponsors were Senators Maria Cantwell (D-Wash.) and Angus King (I-Maine). Cantwell and McCain previously introduced the plan as an amendment to the 2010 Dodd-Frank financial reform bill. Glass-Steagall did one basic thing. It forced banks to get rid of their investment banking arms. Dodd-Frank, by contrast, accepts the complexity of modern banking — and then adds to that complexity with its thousands of pages of regulations.
Believe it or not, after the economic crisis of recent years, most federal regulators are still opposed to reinstating Glass-Steagall. They argue it would force big banks to spin off hundreds of billions of dollars worth of business into independent firms. And with the recent election of Donald Trump, even the regulations in Dodd-Frank are at risk of being repealed.
"Despite the progress we've made since 2008, the biggest banks continue to threaten the economy," Warren said. "The four biggest banks are now thirty percent larger than they were just five years ago, and they have continued to engage in dangerous, high-risk practices that could once again put our economy at risk."
You'd think we'd learn from our mistakes. Where will this refusal to learn take us next?
Points of View - Senator Elizabeth Warren
President Bill Clinton
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