Bring back Glass-Steagall banking regulation

by Chana Cox

In Tuesday night’s Dartmouth debate, the Republican candidates were generally agreed on the need to repeal Dodd-Frank.  That is all well and good, but banking does need regulation.  For 70 years a cluster of New Deal laws, the Glass-Steagall laws, successfully prevented American banks from becoming “too big to fail.”  Dodd-Frank should be repealed, and an updated Glass-Steagall should replace it.

In 1933, the Glass-Steagall Act introduced the FDIC which insured bank depositors for up to $10,000 in loss because such insurance was seen to be essential to the maintenance of the banking system.  Once the taxpayers were on the hook for bank losses, Glass-Steagall severely restricted the risk to those taxpayers by restricting the scope of banks. The act separated commercial banking, the relatively low risk business of taking deposits and lending money from investment banking, the very high risk business of issuing securities and taking capital positions in businesses and in all manner of other investments.  Commercial banks were insured by the federal government, but they were to be stiffly regulated and limited in geographic scope.  No American bank would be allowed to do business in more than three states.

In contrast, investments banks were not restricted geographically and they were less regulated but they could not take deposits and their operations were not guaranteed or insured by the Federal Government.  Taken together, these Depression-era statutes limited tax payer exposure and risk and limited the size of any one commercial bank.  High risk investment banking could and did continue, but it was not federally insured.  Furthermore investment banks were often formed as partnerships and the individual partners were personally liable for the firm’s debts.

The 1999 repeal of Glass-Steagall was a disastrous game changer.  Commercial banks were allowed and even encouraged to engage in high risk activities – particularly those supported by the politicians in power.  The politicians used banks to advance their specific agendas, and the banks used the politicians to insure them against failure. At the same time, as the commercial banks became larger and larger, they became less and less effective as traditional lending institutions.  In Oregon, we were better served by First Interstate than we are now being served by its successor Wells Fargo; we were better served by Washington Mutual than we are now being served by Chase; and Bank of America was a strong West Coast bank but it has become a very weak national bank.

After 1999 these newer, larger, freer commercial banks were finding it very profitable to take increasingly risky positions in other markets, like mortgage-backed securities and credit default positions.  Under Glass-Steagall such investments would have been illegal for a commercial bank.  Instead, commercial banks would have been lending money to local citizens and businesses.  They would have been serving their communities as bankers.  These riskier investments should be illegal for banks not because they are risky but because it is the taxpayers who are at risk.  Our bankers are playing roulette with taxpayer money.  If individual bankers win, they are rewarded with multi-million dollar bonuses that get paid out every year; if they lose, the taxpayers foot the bill.  Mere months before the repeal of Glass-Steagall, Goldman Sacks, the quintessential investment bank, went public as a corporation and ceased to be a partnership.  The partners were no longer liable for the debt – the corporation was.  No one was personally liable.  Goldman Sacks has now taken the further step and legally turned itself into a bank.  Now, even the corporation is not liable – the Federal government and its taxpayers are Goldman Sacks debt.  That has proven very expensive for the taxpayers.

In the 1990’s one argument offered for the repeal of Glass-Steagall was that America’s banking system, with its restricted local banks, was inferior to the far more powerful and monopolistic European banks.   The banking industry preferred the European model.   Ten years ago Deutsche Bank, through its own share position, was in control of much of the German economy.  The European banks were far more powerful than the American banks and American bankers wanted that kind of power.  In retrospect, we have come to understand that the major European banks have contributed greatly to the current European financial breakdown.

The Glass-Steagall laws successfully regulated the American banking systems.  In crisis situations, like the savings and loan crises of the 1980s, the government could step in and save depositors.  The problems were manageable.  Once banks were allowed to go national and to go into virtually any and all investments, the problems became unmanageable and the moral hazard for both the bankers and co-dependent politicians became catastrophic.  Banks were too big to fail and too unregulated to save.  Dodd-Frank merely exacerbates those problems.

Bring back Glass-Steagall.


Chana Cox is a Senior Lecturer Emerita at Lewis and Clark College, and she has a Ph.D. from Columbia University and a BA from Reed College. She has been a featured speaker at U-Choose events.

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  • Oregon engineer

    As intelligent as you sound, and you did not get your degrees by being stupid, You need to burn your degrees, and unlearn everything you were taught about the current system and go to the Austrian School of Economics.  Then come back and tell us how wonderful the Glass-Steagall act was, and how the FDIC is saving us. 

  • After reading this article, I went over to Blue Oregon to see if there was a free market article that got switched at birth … Ok I’m joking but seriously. There are so many errors in this article where do I even begin? 

    “For 70 years a cluster of New Deal laws, the Glass Steagall laws, successfully prevented American banks from becoming too big to fail.” 

    Too big to fail comes from having a federal government that thinks it has to regulate the banking system in the first place. There is nothing in the law that curtailed the size of commercial banks from growth. Indeed the high cost of regulatory compliance protected large banks from competing with smaller banks, thus LEADING to banking consolidation that was in effect long before 1999. It is almost like she had never heard of the failure of the Continental Illinois Bank in 1984. The savings and loan fiasco was manageable? Well only if the taxpayer’s pockets are unlimited. 

    “In 1933, the Glass Steagall Act introduced the FDIC which insured depositors up to $10,000 in loss because such insurance was seen to be essential to the maintenance of the banking system.” 

    There were a lot of bad laws passed that year all thought to be essential. The moral hazard that FDIC creates eliminated the most important regulator of any banking system: the depositor. Since then a depositor does not calculate risk into his decision as to which bank he will do business with. Since then we have had to rely on government regulators to do it for us. When they make mistakes, the taxpayer pays not the depositor, but our economy still pays. From Continental Illinois to the savings and loan failures, we have been paying way too much. 

    “the act separated commercial banking, the relatively low risk business of taking deposits and lending money …” Is she kidding? Commercial banking is MORE risky than investment banking. As an intermediary between short-term money and long-term assets it underwrites less liquid investments than investment banks do. Commercial banks developed securitization in the 1980s long before Graham Leach Bliley to mitigate this problem. Indeed commercial banks were so risky they required the Federal Reserve’s discount window to survive. Investment Banking never did. In 2008 the easiest short term solution available to policy makers was to simply declare Morgan Stanley and Goldman Sachs bank holding companies which immediately calmed the repo market – a dangerously unstable market that would not exist had Glass Steagall not created it. 

    “… from investment banking, the very high risk business of issuing securities and taking capital positions in businesses”

    This is less risky because investment banks to not hold on to assets the way commercial banks do. The way she describes “taking capital positions” makes me wonder if she has ever participated in an IPO before or knows how it works. It was much safer to be an investment bank when the dot-coms went bust than to be a commercial bank in Texas when the price of oil dropped. More important is to know how the sleepy business of investment banking was made more risky by limiting its financing to the repo market. The investment bank as we knew it after 1933 should not even have existed. I would hazard a guess that this author has never even heard about the repo market until she just now read my comment. Chana google “repo market” and ask yourself if that is a smart way to finance our capital markets.  

    “In contrast Investment banks were not restricted geographically and they were less regulated” 

    Where is she getting her information? Has she never heard of the Securities Act of 1933, Investment Company Act of 1940, SIPC, or even the Series 7. Investment banking has been MORE regulated than commercial banking. And let’s dismiss this whole “restricted geographically” notion. Glass Steagall allowed commercial banks to operate in all 48 states if they form bank holding companies. How can she even write an article about financial services regulation if she does not know even the basics? 

    “taken together these depression era statutes limited taxpayer exposure”

    OK the creation of FDIC limited taxpayer exposure how? The creation of Fanie Mae limited taxpayer exposure how? The funny thing is she drops the line “depression era” in a way that is to make us more likely to see its wisdom. Yes, they made so many smart moves back then.  

    “they became less and less effective as traditional lending institutions”

    there is no evidence for this. The fact that they are more reluctant now to lend tells me they are more effective as lending institutions. The assertion that First Interstate serves Oregon less than Wells Fargo sounds like the romantization of the past. Wells Fargo was the only bank to heroically request not to receive TARP money. Those nice folks at FDIC forced them to, because they did not want depositors rewarding good banks and punishing bad banks ’cause after all, taxpayer’s were on the hook for those bad banks.  Washington Mutual is Chase now because of the FDIC. It was given to JP Morgan. Think about that for a moment. Washington Mutual had absolutely nothing to do with investment banking. It and hundreds upon hundreds of small local commercial banks that never took advantage of Graham Leach Bliley have been failing every year from 2008 and still today BECAUSE THEY ARE INSOLVENT. Compare that to Bear Sterns and Lehman Brothers who were merely illiquid having to rely on an unstable repo market without the crutch of the fed’s discount window. The very banks that she would limit us to continue to fail despite the existence of FDIC and its stable depositors who don’t concern themselves with risk and with full access to the fed’s discount window. Thanks to Glass Steagall’s FDIC, the bailouts continue! But unlike TARP, FDIC bailouts are not loans, they are grants.

    “after 1999, these newer, larger, freer commercial banks were finding it very profitable to take increasingly risky positions in other markets like mortgage backed securities and credit-default positions.”

    Think about this for a moment! Is she trying to say commercial banks did not take risky positions in mortgage backed securities before 1999? This is what banks have been doing since before 1299! Did she mean that they were able to securitize thier holdings after 1999? Even that is wrong. Glass Steagall did not outlaw the development of the CDO which emerged in the 1980s having been pioneered by Lew Ranieri at Solomon Brothers. Regarding “credit-default positions” find me a commercial bank that underwrote a credit default swap. No one at Washington Mutual had ever even heard of a credit default swap until it was too late for them to use them. And they could have used them. If only we should have been so lucky that banks had been long credit default swaps. That would have recapitalized our commercial banks better than TARP did. The folks who underwrote them lost their shirts. These were mostly hedge funds that could handle their losses perhaps because they are the only unregulated financial institution in America – until Dodd-Frank. In terms of Chana’s credibility, this is just the tip of the ice berg in a way. If she does not know simple details like this, why write about financial services regulation at all. It’s like my mother who uses a bank, and has kind of heard of credit default swaps on the local news suddenly needed to pen an article about the banking system. 

    I am sorry if this was a hatchet job. Indeed I am holding back, nearly every line she wrote is in error. Chana is a nice lady. I saw her speak at a U-Choose event and she was almost coherent on a subject she seemed more ensconced with, but its like she wanted to write about banking and had her article ghost written by an occupy Wall Street protester instead. I just couldn’t let this one go. 

    • 3H

      ” The moral hazard that FDIC creates eliminated the most important regulator of any banking system: the depositor.

      How well did that work historically Eric?   In a perfect world with perfect and complete information this might work.  However, the world is imperfect, and information is rarely complete or perfect.  

      But that’s OK, lets adopt a Libertarian strategy – no Social Security, no FDIC, no Medicare, etc…   And, if by bad timing, and through no fault of their own,  our seniors get wiped out, well, too bad, so sad.   Hopefully there will be enough jobs as door greeters at Walmart to give some a pittance so they can eat for another week.

      • The way it worked out historically is that once in a generation a financial panic came along where few banks lost all their depositors’ money. Not every bank but most banks became illiquid for a few days to a few months forcing them to ration out withdraws. The procedure for withdraws was set in advance not unlike the way hedge fund contracts today spell out a manager’s ability to withhold funds. If the panic occurs when a guy like FDR is about to be sworn in as president, then it becomes an excuse to take over the banking system and adopt other policies that managed to stretch an average recession that was mild compared to 1893, 1907, and 1920 out into a more than decade long affair. 

        In a perfect world government regulators and planners would make the right decisions. Even if they were able to know the right institutional design for an optimal maximization of societies’ resources, in a perfect world they would never deviate from the best decisions in favor of the irrational wishes and desires of a fickle and corrupt democratic system. 

        Since the world is not perfect, we have to limit the scope of state power, because when the government makes a mistake it is backed up by the coercive power of the state affecting everyone and is slow to correct its mistakes many of which become irreversible  When a market player makes a mistake, it takes down its voluntary participants and the correction is immediate. 

        The ability of depositors to regulate a banking system compared to the ability of government regulators is like the difference between the US government realizing it was a mistake to fight a war in Vietnam and Coca Cola realizing it was a mistake to introduce New Coke. The legacy of Glass Steagall is another example – the creation of a pay-as-you-go defined benefit pension plan that cannot sustain a drop in fertility or an increase in life expectancy is another. 

        • A view from spain

          My grandfather lost his life savings to a bank closure in 1932. Yes, the bank failed. So did my grandfather as a result. Sorry Eric, but you are just dead wrong on bank regulation.

          • So few people lose all their money in a bank failure, that this tells me your grandfather knowingly put his money in a bank that attracted his deposit by paying a higher rate of return than the safer banks. That was his choice. Most people end up taking a hair cut – as they should. People who accept low compensation for their money in exchange for safety often lose nothing, the inconvenience of temporary illiquidity not withstanding. 

            So few people actually lost all their money in 1932, that it even makes me wonder if your story is apocryphal. When I hear anecdotal examples that are more congruent with our mythopoetic narrative than the actual data, I begin to wonder. I suppose grandpa walked barefoot in the snow for miles to school too. 

            Here’s an outlay of the historical data points by Daniel Gerlowski, an economist at the University of Baltimore, that is generally regarded at the best authority on the matter: When it comes to who is or is not dead wrong, perhaps we might look first to the guy who draws conclusions from oral legends rather than primary sources.  

            Perhaps history will be less helpful for us than the present. Spain has had a heavily regulated banking system for longer than we have. The moral hazard that has created has prompted Spanish banks to load up on Spanish government bonds and even a remarkable amount of Greek bonds. We are about a year away from the depositors of Portugal, Ireland, Italy, Greece, Spain, and France losing so much money that their governments’ various FDICs cannot pay. That is where moral hazard leads you, while a bank panic once a generation nips this problem in the bud.

            Indeed let’s compare the US banking system in 2008 to France’s now. The French have also had a much more heavy handed regulatory regime that we do, having nationalized their banks several times in the 20th century. The “toxic” assets that our banks held amounted to about a third of our GDP. The French banks’ exposure to southern European sovereign debt is TWICE France’s GDP. If the French people knew their banks were not guaranteed they would have gradually been putting their money in safer banks a long time ago: probably the safer, less regulated ones in Switzerland. This is where Glass Steagall was taking us, but the Clinton Administration made the right move in correcting our course. 

          • HBguy

            I have 10 children and am thinking of building a pool. I can either build it so it has a shallow end of 3 feet and a deep end of 7 feet, or I can build it with a shallow end of 3 feet, a deep end of 12 feet, and a diving board.

            My contractor tells me that the shallower pool is fun, and safe. The deeper pool is a lot more fun for the kids, but one will undoubtedly drown eventually.

            I decided to build the fun pool.  I figure if I have a stupid kid who doesn’t understand the risks that’s his fault, and there is no reason the other kids should be punished.

          • Since the probability of drowning is vanishingly small compared to your exaggerated odds let’s use a better analogy: riding in a plane, train, or automobile. There is a certain mathematical certainty that by choosing to ride in any of these modes of transportation, death at a young life by crashing will occur.

            If however, you prevent your children from ever taking that risk, the quality of their childhood will be so diminished by their shortened range that it defeats your goal of being a good parent. The worst of all ironies is that a parent that tried to follow this safety first could have their children hit by a car as pedestrians. Where this analogy breaks down is that having your children walk everywhere does not make them more at risk to death than any of the other options, but the Glass Steagall Act did just that.

            It curtailed our financial sector, but helped make the 2008 financial crisis inevitable. France is even a more extreme scenario. Their heavily regulated banking system has helped deprive them from Germany, and Sweden’s postwar economic growth. Now the moral hazard they have created has set them up for a worse banking crisis than the loosely German and Swedish banks will never have to face. 

          • HBguy

            So….the issue is when and how much gov’t regulation is acceptable. Not whether regulation is always good or always bad. 

          • There is a great deal of equivocation with the word “regulation.” The deregulation of the 1980s that we associated with the Reagan Administration was mostly signed into law by Carter and merely administered by Reagan, because they were so bad. It is important to remember that airline deregulation was sponsored by Ted Kennedy and signed into law in 1978. 

            The National Aeronautics board directly told airlines how to run their businesses just like Glass Steagall decided how financial institutions should be run. I am comfortable categorically saying that all regulations of this type are always bad. Some are worse than others, but none are adding value in excess of their costs. 

            Regulations also mean policies that are simply laws banning negative externalities. A law that prevents a factory from dumping chemicals into a river is a fundamentally different proposition than a law that separates investment banking from commercial banking. 

          • 3H

            But why have a law preventing a company dumping chemicals into a river?  Shouldn’t the market take care of that?  Certainly when people find out that that company is doing they will stop buying their product until they, literally, clean up their act.  Seems to me the market could handle this sort of foolishness without having to resort to government intervention.

          • I don’t think you really believe that, nor does anyone else. It is a parody of a straw man’s argument. 

          • 3H

            Not at all.. I’m looking for a response from you.  I already know why I don’t think that will work.  I have greater reservations about the power of the free market than you do, so I want to know your take on it.

          • A free market requires the coercive power of the state preventing any member of society from harming the life, liberty, or property of others. Negative rights cannot be enforced with voluntary association. 

    • HBguy

      Standard and Poors thinks investment banking is more risky than commercial banking. And wasn’t it the pure investment banks that were in the most trouble during the 2008 crisis? 

      • There are only two Glass Steagall legacy Investment Banks left: Morgan Stanley and Goldman Sachs. Both have single A ratings last time I looked. More than half of all commercial banks in the US are rated at junk status. 

        The reason there are only two is that the other three became illiquid in 2008. None of them were insolvent. Glass Steagall prevented them from using a stable source of depositors making them rely on the unstable repo market, a dangerous source of funding that Glass Steagall created. They also did not have access to the Federal Reserve’s discount window until November of 2008. 

        Again Bear Stearns, Lehman Brothers, and Merrill Lynch were not insolvent. JP Morgan, Barclay’s, and Bank of America IMPROVED their balance sheets by acquiring them. Morgan Stanley and Goldman Sachs’ repo market problems went away when they were simply made into bank holding companies. This solution ended the crisis from the investment banking side without the need for TARP. This would not have been possible had the Clinton Administration never overturned Glass Steagall. 

        None of these institutions needed TARP money either. If you have read Andrew Ross Sorkin’s book Too Big to Fail, you would know they were forced to take the money so that the weak institutions that needed it would not face withdrawals. Those institutions are all nearly all small regional commercial banks. Then there is the source of the crisis: Fannie Mae, and Freddie Mac which continue to hemorrhage cash. The only large institution that really needed the money was Bank of America because of its acquisition of Countrywide. 

        Here is a list of the hundreds of banks that have failed since October 2008: Find me one that took advantage of Graham Leach Bliley. These are the weak, risky commercial banks that Glass Steagall created. Had the Clinton Administration never proposed its repeal, the crisis in 2008 would have been worse.

        It is also important to remember that another New Deal legacy was the cause of the crisis in the first place. Had Fannie Mae not been cosigning the full faith and credit of the US taxpayer onto mortgages, even the Federal Reserve could not have created a bubble of this magnitude. Also, even though TARP was a mistake, most banks have paid it back with interest and nearly all large banks. I believe Bank of America is the only exception. But the risky regional commercial banks and Fannie Mae and Freddie Mac continue to bleed the US Treasury. 

  • Bob Clark

    Excellent article. Dodd-Frank codifies “too big to fail” and this is not in the best interest of the American economy.  Anti-trust measures may be the better solution to limiting systemic banking and financial risk.  For instance, Bank of America had been limited by law to less than 10% of deposit share nationally but then it’s CEO Ken Lewis successfully lobbied government officials to boost its market share well beyond this limit.  This CEO gambled on the Country Wide acuquistion, and this acquisition has been disastrous putting Bank of America on the cusp of government takeover.  This CEO was fired but still got off with some major league bonus and severance loot.  Maybe some government help in improving shareholder capabilities of reforming performance based reward and penalty.  Some of this is only now slowly occurring.

    Anti trust does employ some mathematical and formulae driven economic principles to steer the limitation and/or break up of companies.  These no doubt are much more objective than the qualitative subjective methods secreted by Dodd-Frank.
    The current FDIC insurance on individual deposits seems way too large at $250k.  It was previously $100k before the 2008 financial meltdown.  Should probably be lowered back towards $100k, which would encourage deposits at mid-size banks and away from mega banks.  Managing the transition towards a more competitive banking industry structure and moving to a more government risk rating information service for depositors and investors should have been the focus of new banking regulation.

    But what could you expect from the likes of Barney “Rebble” Frank and Chris “the jig is up” Dodd. 

  • J WALZ


  • chiefyellowhorse

    Opinions? that isn’t what matters, and opinion is just that an opinion. what is the real problem is the government, politicians getting involved in business. Politicians that are influenced by money and power are making decisions that affect the American people.I feel that any decision that these politicians make, should be hilt to a high standard, and guilty of any situation, where a the American public is damaged for that decision. and that congress and the senate should live with the laws they make. a good percentage of these politicians, have never been in business and have never had to meet a payroll or be responsible for a company profit, so they have no idea has these banks work, so angry mone man goes to a politician like Frank or Dodd, the blow up the issue and promise to give a politician funds for re-election and that politician pushes for a law because some idiot was mad. What a way to run a country? We need to rethink how the American government is ran and make some major changes, to be For the People, not for the politicians. the Politician has become just like the used car sales man, promise us everything and give us crap.

    • Lulz

      “what is the real problem is the government, politicians getting involved in business.

      Which, of course, is just an opinion.   Think about it.

  • Edwardio

    Bob Brinker says 
    “Glass Steagall repeal was a bad idea.GS worked fine from the 1930s to 1999.Repeal of GS brought forth casino banking in Bob’s risk.Banks could take huge risks and taxpayers bailed them out if bets went wrong but if bets won huge bonus payments were made to execs.”

  • JackLordGod

    I think what the author is forgetting is our a lot of our economy, certainly the banking world, is largely based upon one principle – privatization of gains and socialization of losses.

    Example 1

    This is the entire reason Fannie Mae and Freddie Mac exist. Gains, the profit from home mortgages, are privatized to the issuing banks. Losses are socialized to the taxpayer, through Fmae Fmac.

    Example 2

    Green Welfare – Gains are privatized, if a solar panel company actually makes money or not, or if the stock price goes up, investors and top management reap huge bonuses. If the company goes bankrupt the taxpayer picks up the tab, either through eating the tax credits, loans or other government subsidy that keeps this largely scam industry afloat.

    Essentially its the fascist economic model, those wishing to avoid the charged term will sometimes call it crony capitalism. There is no difference in economic terms. Government picks winners and losers in the market place, business is privatly held, but essentially government controlled so as to award politically favored groups, and punish opponents. This is why corporations like GE paid no corporate income taxes but Mom and Pop stores in Oregon got their taxes jacked a couple of hundred bucks.

    This economic model is why Dodd/Frank was passed. Dodd/Frank was intended to cement the exact opposite in place of what Glass/Steagall was meant to correct.

    In other words, the level of corruption we have is so absurdly blatent, the fact that you could have two of the fathers of the economic collapse, Chris Dodd and Barney Frank, write the banking bill, should be all anyone should need to see. Passing Glass Steagall will mean very little if left to the corrupt goon squad we have in power at the moment.

  • eaop

    Seeing as Jack Bogdanski is also a member of the Lewis and Clark College literati, what might he say here?  Is his compatriot a Chana Alexander (of snorts) or worthy of a James Kilpatrick bearing?  That is to assay…blokes and pokes here would like to know, sans having to accessorial @

  • Chana Cox

    I have been off e-mail for three days, and so I apologize
    for the delay in getting back to those of you have commented on my posting.


    As Eric Shierman has pointed out, I do not write like an
    economist.  My background is in the
    history of philosophy of science and in political theory.  In this posting, I was, however relying on
    members of my immediate family who do have advanced degrees in economics and
    finance – none of whom agree with most of the Occupy Wall Street crowd although
    they may agree on the need to do something about a banking industry where all
    the risks have become public and all the profit private.   What
    we now have is the worst of both worlds. 
    Adam Smith’s arguments against government regulation were based in part
    on his understanding that when political power is JOINED to economic power,
    everyone but the politicians and the owners of the economic power are
    impoverished.  We are operating under a
    system of crony capitalism.  ChiefYellowHouse
    and JackLordGod seem to be spot on.  What
    we have is government and large financial institutions colluding and advancing
    their own agendas.  Free market
    economists from Adam Smith to Hayek have argued against such systems in part
    because they understood how easily government officials and economic magnates
    could drift into these codependent relations where the individuals in
    government and the individuals in an economic industry prosper and everyone
    else is shafted.   


    Let me try to address some Eric Shierman’s points one by one
    – until I run out of time and energy.  


    Is some government
    regulation of banking necessary?   My
    answer is yes and not because of Glass Steagall.   As
    JBguy wrote “So….the issue is when
    and how much gov’t regulation is acceptable. Not whether regulation is always
    good or always bad.”


    On the need for a somewhat regulated banking system I rely,
    in part, on the work of Douglas North and the theory of “Institutional
    Economics.”  A stable banking system is
    necessary for any industrial or post industrial capitalistic society.  In the 17th century the Kings of
    England had “borrowed” money and not repaid it, and Charles II, like the three
    Stuarts before him, could find no way of borrowing money.  He was able to do so when Parliament created
    the Bank of England which effectively forced the repayment of sovereign debt
    and set fundamental rules for banking in England.  Although the Bank of England was created to
    control an out of control sovereign, one of its unintended consequences was the
    rapid growth of private banking system which facilitated England’s


    So yes, commercial banks and Savings and loans must be
    regulated but the scope of their activities should be restricted – particularly
    if the tax payer is insuring depositors. 
    In that way, the tax payer is protected. 
    But the only think FDIC insured were the deposits and banks issued and
    held loans.  They did not trade
    them.  The FDIC did not guarantee all
    bank deposits.  It only guaranteed SMALL
    depositors.  It was assumed that the
    large depositors could indeed protect themselves.   


     If Savings and Loans
    and Commercial bank deposits up to $10,000 are insured and regulated, that should
    free up all other financial transactions – brokers, investment bankers,
    commodities traders etc.  I am as
    much in favor of repealing Sarbanes Oxley as I am in favor of repealing Dodd
    Frank.   I agree with Eric that these
    onerous and expensive regulatory requirements effectively protect the large
    institutions (those too big to fail) from competition with small banks. Only
    tax-payer guaranteed deposits should be regulated.  So long as the banks are independent
    privately held institutions, they can be regulated.  The government created vehicles like Fanny,
    Freddy, and the Student Loans cannot be regulated and they are looming
    disasters on the horizon.  


    I never claimed to be in favor of all Depression era
    legislation.  I believe that investment
    banking – where the risks are limited to the partners in the firm and its
    customers, should not be regulated.  


    The debacles of the


    Glass Steagall did not suddenly disappear in 1999.  It had been undermined for a couple of
    decades, but I think that Eric’s analysis of the 1980s collapse needs some


    Continental Illinois was not a savings bank.  Because of a peculiarity of Illinois Law,
    Continental Illinois was not allowed to open branches and get significant
    deposits.  It lived on day
    borrowings.  It failed one day when the
    Japanese closed its loan window.


    The savings and loan failures were an entirely different
    matter.  There is no
    question that ignorant, misguided government control and direction of an
    industry can have disastrous consequences.

    The Savings and Loan fiasco in the 1980’s was
    caused when an entire financial sector, Savings and Loans, which were
     basically federally mandated to lend long  while borrowing short,
    were caught when Jimmy Carter and his crew decided the way to save America was
    to drive interest rates to unknown and unexpected heights in the plus 20%
    range. The poor savings and loan executives were caught with no way out.
     The Government then decided to let the S & L’s go into other business
    ventures other than the fixed 30 year mortgages.  The S&L executives
    were hopelessly out of their depth and the ensuing fiasco and bankruptcy was
    fundamentally a result of a regulated business sector having the rules and
    playing field changed by the government so they could do nothing but go
    bankrupt.  You cannot borrow 20% money to cover a loan book lent out at

    The Feds set the rules, then changed the game to
    where the S&L’s had to fail.  This fiasco had nothing to do with Glass
    Steagall but was just another example of government regulation and control gone
    awry by unintended consequences of a terribly innocent and maybe well meaning
    President not understanding the unintended consequences of high interest rates
    upon wide swaths of the American economy, and directly manifested itself in the
    failure of the S&L’s.


    Even so, the costs to the government of
    these failures was miniscule compared to cost of the failures we are seeing
    today.  Bailing out the S & L cost
    about $400 billion.  Had the government
    done it intelligently by giving them bridge money until interest rates fell it
    would probably have cost $100 billion.  
    Our current bailouts are in the trillions and trillions.


    The notion that TARP money has been repaid
    is based on some fairly creative accounting in many instances.


    I do agree with Eric that there were many firms which were
    honestly and well run and did not fall prey to either the corruption of government
    promises or moral hazard.  These firms
    have now been dragged into the regulatory nightmare and that is a bad
    thing.  We probably do not agree on which
    firms were good guys.  I think AIG,
    before the government forced out Hank Greenberg, was well run.  Ditto for Drexall Burnham before they forced
    out Mike Miliken.   I don’t think that
    Lehman brothers was well run.   Incidentally, Goldman Sacks is now actually
    and legally a bank although it may remain an investment bank as well.  That is the problem.  


    As to whether commercial banks or investment banks are
    riskier depends on your definitions of “risk.” 
    If the Inuit have 67 definitions of “snow,” a New York hedge fund has
    at least 134 definitions of “risk.” 


    I agree that there are some economies of scales in commercial
    banking.  The smallest banks cannot
    afford to offer SWIFT services for example or custodial services.  But many of the services which today’s larger
    banks do offer should not be banking services – e.g. brokerage services.  We broke MaBelle.  We can break the big banks.  Everyone, including the banks, will be better



    • It is important to remember that the very crony capitalism to which you refer was caused by the same New Deal law that you are defending. You keep saying that we need banking regulations, but your rational again and again is to mitigate the negative consequences of previous regulations. Bringing back Glass Stiegall is not the way to solve the problems that Glass Stiegall created. Again Glass Steigall’s FDIC prevents depositors from considering a bank’s credit worthiness when deciding with whom to bank with. 

      Depositors will always be better than any regulator in regulating banks in the same way that parents will always be a better judge of of a school’s ability to teach their children than any governor’s education board. Glass Steagall created mediocre yet risky banking the way public schools create mediocre schools that put children at risk. Removing Glass Steagall was to banking what school choice is to education. I use this analogy to underscore what great work you are doing on education policy. My comments though somewhat harsh are intended to help you with banking policy. FDIC created the moral hazard in the first place thanks to Glass Steagall, what Aristotle might call the “first mover.” While I can understand the desire to prevent bank runs, the separation of commercial banking and investment banking is the most silly part of the law to defend. Investment banking had nothing to do with the banks that failed in 1932 nor the banks that have been failing since 2008. It is a feel good “just do something” gesture that causes problems of its own but solves none in return. You did not address the fact that the creation of a repo market added risk to our financial system. This is important, because you also failed to address the fact that the ability of investment banks and commercial banks to merge and become bank holding companies ended the financial crisis for investment banks before TARP was even passed. The bank bailout that followed was all about protecting small regional commercial banks that never had anything to do with investment banking. Goldman Sachs, Morgan Stanley, Key Bank, US Bank and Wells Fargo did not need TARP money. They were forced to take the money and paid it back as soon as they were allowed to do so. Tell me how buying out preferred shares can be disguised in creative accounting. Perhaps you are confusing this with the way Chrysler has paid back its TARP money with new government loans. I am sure there are many organizers of Occupy Wall Street that reject real economics for “institutional economics” too. One can only wonder what an institutional economist would say about the real cause of the financial crisis: Fannie Mae and Freddie Mac. Perhaps they would wax poetically on a meditation of the value of home ownership, but one does not even need to be a real economist to know that if the full faith and credit of the US taxpayer is cosigned onto mortgages, it will lead to the systemic mispricing of risk. Like snow, risk is very simple. It became even more simple when Joseph Sharpe developed the Capital Asset Pricing Model earning him a Nobel Prize. Look at the historical yeild on investment banking debt and compare it to the historical yield of small regional commercial bank’s debt. Should we be surprised then that the banks that are insolvent today, and continue to fail to this day, are the very banks that you want us to be more dependent on? 

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