Watchdog Blog

Saul Friedman: Anyone Remember Glass-Steagall?

Posted at 6:58 pm, April 16th, 2008
Saul Friedman Mug

Here is one difference between the generations of reporters. The older generation was (and is) skeptical of big business and trusted government more to provide protection from the cold blasts of laissez faire. The younger, Dow generation, while cynical of government and almost everything else, believed that stocks and property values will always go up.

Thus, while some of us–Morton Mintz and I among others–decried the stampede towards deregulation, most of the rest of the press joined in the conventional wisdom that deregulation was cool and would create a business boom. Remember the 1999 predictions by the Washington Post’s James Glassman that the Dow was headed towards 36,000? That was the same year that one of the New Deal’s great consumer protection monuments–the Glass-Steagall Act–was repealed.

Economist Dean Baker, blogging in The American Prospect, has asked, “Suppose we had invested Social Security in the stock market.” Thanks to the older generations and their skepticism toward the market, that did not happen. But Baker recalls that the press hardly uttered a peep of protest when Glass-Steagall died. “Most of the press supported it,” he said.

Along with the emasculation of the FDA, the NLRB and OSHA, deregulation set the stage for the health, safety, mine and drug disasters of the Bush administration and its policies of malign neglect. And still only a few in the press has linked these disasters to deregulation.

But now as recession deepens, and comparisons are made to 1929, it’s dawning on younger Americans and some reporters watching their retirement savings vanish, that there may be a need for government action, like re-regulation.

For the first time since the gay 1990s, when the fad of “deregulation” swept aside some of the strongest deterrents to the financial shenanigans of today, frightened administration officials as well as Democrats are talking about re-regulation. Well, sort of.

Treasury Secretary and former Goldman Sachs CEO Henry Paulson, Jr., who still supports privatizing Social Security but missed the subprime and housing meltdown, has proposed better supervision of investment banks, whose backsides taxpayers are being asked to save. But, as the New York Times reported, Paulson’s plan “carefully avoids a call for stronger regulation” and it may actually loosen regulation.

In Congress, Democrats are drafting stronger legislation to create new regulations to permit the Federal Reserve to oversee commercial banks, Wall Street firms, hedge funds and non-bank financial institutions that have been buying and selling billions in paper assets, without anyone looking over their shoulders or even understanding what they are doing.

Rep. Barney Frank (D-Mass.), chairman of the House Financial Services Committee, noted that government has failed to keep up with the explosion of new, exotic financial instruments. “You need regulation,” he said, “that is adequate to the scope of innovation.”

Among the presidential campaigners, Sen. Barack Obama, speaking at New York’s Cooper Union in late March, blamed corporate lobbyists for carrying deregulation too far and he pledged regulatory reform, but nothing more specific than the creation of a financial oversight commission.

Republican Sen. John McCain, staked out a classic conservative position and opposed government intervention in the market. Government, he said, should not reward “irresponsible” behavior by businesses or borrowers. That was not his position in the 1980s when he was one of five senators who met with and offered help to fellow Arizonan Charles Keating who was convicted of fraud and racketeering after the collapse of his Lincoln Savings & Loan. Keating had given McCain $112,00 in campaign contributions, among other favors, some of which enriched his family. An ethics probe into the “Keating Five” found McCain did the least for Keating,

Sen. Hillary Clinton, like Obama, has suggested the creation of a regulatory reform commission and she called for something like the New Deal’s Home Owners Loan Corp. to help people hang onto their homes with mortgage refinancing. But she failed to mention her husband’s role in 1999, in cooperating with Republicans and businesses in repealing the Glass-Steagall Act.

Glass-Steagall was enacted in 1933 following the failures of one in five American banks, in large part because they used depositors’ funds to speculate in stocks and other investments. Proposed by then Sen. Carter Glass (D-Va.) and Rep. Henry Steagall (D-Ala.), the law prohibited commercial banks from trading in stocks and bonds in order to limit conflicts of interest that could hurt individual depositors.

The act also established the Federal Deposit Insurance Corp. (FDIC), to protect depositors from catastrophic bank losses. The FDIC recently announced it was beefing up its staff to prepare for more banks failures. Together with the Securities and Exchange Commission, these agencies were to protect investors and depositors with regulation.

More than 20 years ago the big banks and brokerages, led by former J.P. Morgan executive Alan Greenspan, began a campaign for banking deregulation, and an end to Glass-Steagall. In 1999, Greenspan, President Bill Clinton, a band of Wall Street barons, including several of the same people who got us into or profited from the current economic mess, joined with eager congressional Republicans, and Glass-Steagall was repealed. And the protective walls between banks and investment houses came tumbling down.

History doesn’t repeat, but it does echo. And as banks, brokerages and investors lose billions, and Americans lose their savings and their homes, reporters might interrupt their preoccupation with campaign trivia and ask the candidates about re-regulation. As finance writer Thomas Kostigan, of MarketWatch, wrote, perhaps Glass-Steagall “should be considered again.”

5 Responses to “Anyone Remember Glass-Steagall?”

  1. Thomas says:

    Can you explain how the demise of the Glass-Steagall regime led to the recent events? Or what implementing that regime now would do?

    Do you have a particular regulatory proposal you support, or do you just support additional regulation in general?

    There’s foolishness about markets, and then there’s just foolishness. This post manages both.

  2. Chris says:

    Thomas: The explanation of how the repeal of this law led to recent events is a little wanting. Here you go: By allowing repealing the law, more companies could compete to sell the same financial services. This was the EXACT reason for repealing the law: competition. It “worked”. Cost to consumer was driven down. Consolidation occurred, as does happen in free markets all time. Companies were created which are just “too big to fail”.

    So now to the meat of WHY those companies failed – the investment banks packaged mortgages (which they were not able to attain before) into products which were traditionally extremely reliable investment vehicles. The key details about the mortgages put into the investment vehicles was that they were NINA loans (No income, no asset). (Very high risk) The investment banks effectively hid these investments because the purchases ended up not investigating the true risk of the investments.

    Naturally, when the investment banks were unable to pay the return on the product, they default, and nobody will buy anything from them anymore. (And they fail)

    Did the repeal of the Glass-Steagall law cause investment banks to create bad investment vehicles? No, it only provided the opportunity. But good laws like Glass-Steagall are principal based: It didn’t try to enumerate what to do and what not to do with money, it only stipulated how risk was divided.

    I hope that explanation works. If not, feel free to let me know. :)

    As for a particular regulatory proposal, I think the author made it clear that simply replacing the regulation that was there prior would be an apt remedy to our maladies.

  3. Alvin Sarracino says:

    Ich bin gerade mit dem Apple iPhone unterwegs. Man kann den Blog hier gut darauf lesen.

  4. mizner park apartment says:

    Private sector unionized workers are declining in the U.S. sounds about right. I suspect that’s why the Union Movement spent so much money on getting President Obama elected, in addition to providing that always enlightening SEIU counsel (“welcome back to the White House, Mr. Stern”). Card-check?? Breaks for Union-negotiated Cadillac insurance plans…In spite of all of this, still declining numbers in the private sector union jobs. Well, don’t get too discouraged, there’s always the unionized public sector that offers (relative to that greedy private sector) higher average wages, lavish health benefits and pension/retirement plans and MOST important — iron-clad employment. Now I’m the one depressed. Go back to blaming Bush for all that’s occurred…and leave the economic problem solving to the private sector.

  5. Pat says:

    Any discussion of financial reform not compared to provisions of Glass Steagall which bankers were already familiar with since 1933 must be an attempt to discard protections of the old, and disguise absence of protections in the new.

    It is, and has been, the style of most recent legislation and the reason for aggressive lobbying and campaign finance privileges of corporations as unleashed by Robert’s Supreme Court.

    Anyone would, and should, be suspicion of financial reform that doesn’t address Glass Steagall as the prerequisite standard and identify how the new financial reform bill is better than Glass Steagall.

    Beware reinventing the wheel – especially when Constitutional protections are under attack, and the Constitution and Bill of Rights are considered obsolete.

Comments are closed.

The website is no longer being updated. Watchdog stories have a new home in Nieman Reports.