Who repealed the Glass-Steagall Act - signed by Clinton, the Republican push planted the seed for economic crisis. See why the housing crisis is their fault.
Did Too! Did Not! Did Too! Did Not!
Clinton signed the Republicans Repeal of Glass-Steagall Act - the Seed was Planted
When Clinton signed the Republican repeal of the Glass-Steagall Act, he planted the seed that grew into the housing bubble crash and the need to bail out Wall Street - and the Democrats have been left to reap that crop.
One doesn't have to be pro-Democrat to be anti-Republican. There is a lot of good - and bad, in both parties, so the more accurate finger-wagger should address the nuts-and-bolts instead of the whole engine. Obama and the Democrats are getting the blame for not fixing the current economic crisis - and it's true, they aren't, but it's also true the current crisis wasn't entirely of their making. They helped in many ways...
... but it was the removal of the safety barriers in the Banking Act of 1933, (Glass-Steagall), that allowed our financial markets to careen off course.
The Glass- Steagall Act Repeal Details
The Glass/Steagall Act was officially - The Banking Act of 1933, and it had several components; it established the FDIC, (Federal Deposit Insurance Corporation), and introduced banking reforms that were designed to control speculation by banks and other financial institutions that controlled deposit and investment monies.
It was essentially a consumer protection bill designed to keep different financial market functions - commercial and investment, separate. Banks held depositor's money and the act was intended to keep it separate from the riskier investment markets. If depositors wanted to be investors, they could do so in the investment markets, but if not, they didn't have to be worried about their money being at risk through their banking institution's actions. It was a sound policy that worked.
As our financial markets and institutions grew and began becoming more involved in global business, the Glass-Steagall Act restricted them from doing some of the things they wanted to do. Banks saw all the money to be made in the insurance and investment markets, and those markets, - with a gleam in their eye - saw a huge pool of depositor's money they could use for even more investment and speculative activities.
The influence-peddling and favor-buying began.
The financial markets of other nations weren't restricted by rules like the Glass-Steagall act, so the U.S. markets started pushing the "we need freedom to compete" mantra to any politician they could get to listen. They started this campaign around 1980, and did manage to get a few restrictions lifted, and by 1987 there was enough political pressure to warrant a Congressional Research Service report which explored the case for preserving Glass–Steagall as well as the case against preserving the act.
The essence of their report was this:
In favor of preserving the Glass-Steagall Act
- Prevented conflicts of interest that could characterize the; granting of credit, lending and the use of credit, and investing by the same entity - which, in the past, had led to abuses that originally produced the Act. In other words, you might not quite qualify for a particular loan, bit if you might use that loan for another financial activity the bank has a piece of, or makes a commission from, then, well - OK you do qualify after all. And visa-versa.
- Because depository institutions possess enormous financial power, by virtue of their control of other people’s money; its extent must be limited to ensure soundness and competition in the market for funds, whether loans or investments. Meaning - with all that depositors money available, banks could act the part of the Big Dog and influence the level of the playing field for all participants. Sound prescient?
- Securities activities can be risky, leading to enormous losses. Such losses could threaten the integrity of deposits. In turn, the Government insures deposits and could be required to pay large sums if depository institutions were to collapse as the result of securities losses. In a nutshell - banks would be gambling with other people's money, and Uncle Sam might get left holding the bag if they failed. Once more, those were pretty accurate crystal-ball gazers back in 1932.
- Depository institutions are supposed to be managed to limit risk. Their managers thus may not be qualified to operate prudently in more speculative securities businesses. An example is the crash of real estate investment trusts sponsored by bank holding companies (savings & Loans in the 1970s and 1980s). Same note as for #3
Looking at today's economic crisis in the financial markets, and the government bailouts involved - those look like some very accurate reasons for keeping the Banking Act in place.
Weakening Glass-Steagall = S&L Crisis?
Their conclusions against preserving the Glass-Steagall Act:
- Depository institutions would now operate in “deregulated” financial markets, where distinctions between loans, securities, and deposits are not very clear. U.S. Financial markets are losing market shares to securities firms that are not so strictly regulated, and to foreign financial institutions operating without the restrictions of the Act. - In other words, they could not compete as profitably in the global financial markets as foreign competitors could. They needed to be able to do things that were more of a risk to depositor's money than the act allowed.
- Conflicts of interest can be prevented by enforcing legislation against them, and by separating the lending and credit functions through forming distinctly separate subsidiaries of financial firms. -- If is difficult here to refrain from using a colloquialism such as; Yeah, right, that will work.
- The securities activities that depository institutions are seeking are both low-risk by their very nature, and would reduce the total risk of organizations offering them – by diversification. -- Remember, this report was completed in 1987. It may not be fair of us to so quickly say - Poppycock! We have the advantage of hindsight.
- In much of the rest of the world, depository institutions operate simultaneously and successfully in both banking and securities markets. Lessons learned from their experience can be applied to our national financial structure and regulation. -- Apparently those lessons weren't learned - as illustrated by the global financial crisis that is currently occurring, (circa 2012). And which was beginning to show signs of failure before the U.S. crisis fully developed. Financial experts and economists were warning the U.S. markets as early as 2001.
Enter Citicorp and the Republicans
As mentioned, political pressure, fueled by Wall Street lobbyists and influence-peddlers had been building since 1980, but it went into full-combat mode in 1996 when what was then CitiCorp bought-out and merged with Travelers Group, an Insurance company, Technically this transaction was illegal under the Glass-Steagall Act, but sensing the direction of the political winds, (or should that be "scent of big money"), the Federal Reserve gave Citigroup a temporary waiver in September 1998. A 2-year waiver that would allow the transaction to stand while the process of repealing Glass-Steagall matured.
Enter the Republicans. Senator Phil Gramm, (R-TX), House Representative Jim Leach (R-IA), and Rep. Thomas Bliley, (R-VA), Chairman of the House Commerce Committee. They sponsored a repeal bill called the Gramm–Leach–Bliley Act (GLB), also known as the Financial Services Modernization Act of 1999. The bill passed the Senate along party lines, 54–44, with only one Democrat voting with the Republicans. The House vote was more bi-partisan, 343-86.
Done. Let the games begin. Actually the Gramm-Leach-Bliley Act only repealed one part of the Glass-Steagall Act - the part that prohibited any one institution from acting as any combination of an investment bank, a commercial bank, and an insurance company. But that is the one Wall Street needed to be free to operate as they pleased. For instance it allowed a type of activity that is currently in the news - a banker's wife owning a banking holding company that the banker still could not technically own or control. Does not seem to be much of a secret though.
Second thoughts on Glass-Steagall Repeal
Was Clinton's Repeal a mistake
Here is another example of hindsight validating the accuracy of opponent's arguments. During debate in the House of Representatives, in 1999, Rep. John Dingell, Democrat of Michigan, argued that the bill would result in banks becoming "too big to fail." Dingell further argued that this would necessarily result in a bailout by the Federal Government. Does that sound like T.A.R.P.?
Democrats aren't Blameless
Although it was the Republicans that set the stage for the current economic debacle, the Democrats aren't blameless. They saw this as just as much of an opportunity to push their social engineering agenda as Big Money did for its profits. After the bill was sent to a conference committee to work out the differences between the Senate and House versions, Democrats agreed to support the bill if Republicans agreed to strengthen provisions of the Community Reinvestment Act. Which contained the legislation that pushed mortgage lenders to relax mortgage loan requirements so more low-income applicants could qualify. Things like allowing Food Stamps to be counted as income toward qualifying for the loans.
It was also a Democratic President that signed the bill into law - Bill Clinton. He could have vetoed the bill, without the concern of a Republican override - they did not have the votes without Democrat support.
The Glass-Steagall Repeal - In retrospect
On one hand, it is almost eerie how prophetic the original sponsors of the Banking Act of 1933, and the opponents of its repeal in 1999 were. On the other hand, the power of Big Money has always been recognized for the danger it poses. The irony is that so many from both sides of the political spectrum feel justified to stand tall and righteously point their fingers and shout - It's your fault!
In defense of the repeal
In defense of the repeal, Gramm, the primary author of the Act offered this statement:
"If GLB was the problem, the crisis would have been expected to have originated in Europe where they never had Glass–Steagall requirements to begin with. Also, the financial firms that failed in this crisis, like Lehman, were the least diversified and the ones that survived, like J.P. Morgan, were the most diversified. Moreover, GLB didn't deregulate anything. It established the Federal Reserve as a super-regulator, overseeing all Financial Services Holding Companies. All activities of financial institutions continued to be regulated on a functional basis by the regulators that had regulated those activities prior to GLB."
Also, according to a 2009 policy report from the libertarian Cato Institute, critics of the legislation feared that, with the allowance for mergers between investment and commercial banks, GLB allowed the newly-merged banks to take on riskier investments while at the same time removing any requirements to maintain enough equity - exposing the assets of its banking customers. The report claimed that, prior to the passage of GLB in 1999, investment banks were already capable of holding and trading the very financial assets claimed to be the cause of the mortgage crisis, and were also already able to keep their books as they had. It concluded that greater access to investment capital as many investment banks went public on the market explains the shift in their holdings to trading portfolios.The report noted that after GLB passed, most investment banks did not merge with depository commercial banks, and that in fact, the few banks that did merge weathered the crisis better than those that did not.
Bill Clinton, as well as economists Brad DeLong and Tyler Cowen have all argued that the Gramm–Leach–Bliley Act softened the impact of the crisis. Atlantic Monthly columnist Megan McArdle has argued that if the act was "part of the problem, it would be the commercial banks, not the investment banks, that were in trouble" and repeal would not have helped the situation. An article in the conservative publication, National Review, has made the same argument.
This defense stems primarily from involved parties defending their involvement. And there are authoritative economists and financial market experts that disagree with those defense arguments. Somehow the reality of the situation, and the prophesies of its opponents seem to stand against these defensive arguments.
But as always, it's the reader's choice to agree or disagree with either perspective.
But the Republicans were not alone
See more GA Anderson Political articles
About the Author
Writing for the Daily Constitutional, and commentary from the Curmudgeon's desk - GA Anderson
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Republicans Repealed Glass-Steagall -- Economic Crisis Results Comments
ga anderson (author) from Maryland on July 26, 2012:
@James, thanks for reading "Republicans Repealed Glass-Steagall," and taking the time to comment.
Yes, the list does go on... but, a list such as yours has some very dangerous and destructive components. It might be a case of "be careful what you wish for.
james featherhead on July 26, 2012:
the glass steagall act being repealed was a bad Idea but allowing government guaranteed loans was the worst thing that could have been done and created most of the financial collapse. This had taken away the risk by the banks who then wrote loans to gain closing cost fees and then sell them off to fannie mae, giving loans to people who should have been renters anyway, repeal gram-leach-bliley, bring back glass-steagall, never have government backed loans except student loans, cut budget in half, rely on charities again loosen regulations on small business, and place tariffs on imports, give incentives to big business to bring manufacturing back to U.S. repeal obama care and open up state to state competition for insurance companies, the list goes on and on.......
ga anderson (author) from Maryland on June 04, 2012:
@wba108 - thanks again for the visit, and thoughtful comment - however, I could not disagree with you more.
Unfortunately for me, the details of the economics involved are beyond my intelligent understanding, but I do believe I understand this part.
Selling mortgages is not the same as the CDO and SVI mortgage securitization that that the banks for allowed to get into after the repeal.
prior to the appeal the banks had to maintain a reserve to credit ratio, which I believe was a multiplier of 12. So a $500,000 mortgage required the bank to maintain $45,000 reserve.
Once the commercial vs. deposit bank restrictions were removed by the repeal banks could now deal in flat-out securities activities - which is what their prime/sub-prime mortgage bundles now became.
Banks no longer had to worry about the quality of their loans because they knew they could package them as CDO's and be done with them - making their money on transaction fees instead of traditional interest spreads - as had been the practice prior to the repeal.
From there, Glass- Steagall is off the hook for the economic crisis because it was greed and lack of control of the credit creation made possible by the continued repackgaging and recycling of the CDO's, (up to 3 times) to create new phoney AAA rated securities that could be sold to investors.
But... had the banks not been allowed to become involved in investment securities in the first place - there would have been no seed from which the "toxic" assets could have grown.
As for "no evidence that any banks got in trouble because of their securities affiliates"... I would view this as a mis-informed statement. Some of the biggest banks involved suffered major losses from their "securities affiliates" - it just wasn't in the paperwork because as long as each bank maintained less the 30% ownership of the CDO's they created - they did not have to include them in their financials (balance sheets)- this was not related to Glass-Steagall - but the Fed's rules instead.
I am at a loss to see how restoring the act would hurt small banks. But I do think tradition depositor's banks must stay out of the commercial bank/investment/insurance/securities markets - it is not investor money they are risking - it is depositor money. Apple's and oranges.
Thanks for the conversation
firstname.lastname@example.org from upstate, NY on June 04, 2012:
I have looked into this subject and now believe that the repeal of Glass-Stegel did not cause the economic crisis. Often unwarranted government intrusion into the private sector creates a need for addition government intrusion, so it may work as a vicious cyle.
The repeal of Glass-Steagel had nothing to do with mortgage securitization. Banks have been selling of their mortgages since the creation of Fanny Mae in 1938.
Glass-Steagall restricted services that bank holding companies could provide to customers such as investments and insurance.
Their is no evidence that any banks got in trouble because of their securities affiliates.Banks got into trouble by investing in bad morgages or mortgage backed securities. A number of factors precipitated the 2008 economic crisis the largest of which was the U.S. government housing policy.
Restoring Glass-Steagell would hurt small banks and investors the most. Repealing Glass-Steagel softened the impact of the financial crisis. Restoring it would be a disaster!
ga anderson (author) from Maryland on May 24, 2012:
@wba - thanks for the visit and comment.
Unfortunately the R's bear as much responsibility as the D's
email@example.com from upstate, NY on May 24, 2012:
Terrific Hub! You've given me a lot to think about in regards to cause of the current economic crisis. I normally blame left wing big government intervention for almost every problem with our economy but now I'm going to have to consider the actions of the republican's also.
zorcas on May 17, 2012:
Wall Street is pumping huge amounts into both Romney's and Obama's campaign coffers, so no matter which wins come November, Wall Street will own him.
ga anderson (author) from Maryland on December 12, 2011:
@credence2 glad you liked it. Your points are correct, just don't forget there were a lot of Dems following the charge. And.... look at what they traded for - more Community Reinvestment Act dough to pass out, and more legislative pressure on lenders to lower their standards.
hmmm... related to the housing bubble crisis?
as always, glad to see your input
Credence2 from Florida (Space Coast) on December 12, 2011:
GA, while the Democrats were complicit, it is clearly a GOP centered concept to allow the banks the run of the market. This Glass-Stengall should have never been touched. Folding up like a lawn chair, listnening to whine of the financial markets have been a fools errand. On the same vein, these people that wanted to open the flood gates for abuse by the banking industry are the same people that fight tooth and nail against Washington legislating the proper restraints against abuses in financial markets. Is there not a pattern forming? Nice article....
ga anderson (author) from Maryland on December 11, 2011:
@AKA Winston - thanks for taking the time to comment.
Actually, unless it is something else you have in mind - that was exactly what the Gramm-Leach-Bliley act did. It repealed the last component of Glass-Steagall that prohibited commercial/investment operations merger. re: Citicorp/travelers group merger.
and you are right about the purpose of the original intent
Of course you are correct about Smith, he also had much more to say about the mega-rich. But in a connected aside, I particularly liked his reasoning in comparing Scottish/English university output - Scottish being the superior - blamed it on the complacency of too well-off English professors.
Come back anytime
AKA Winston on December 11, 2011:
One aspect of Glass-Steagall repeal left unsaid is how it allowed TBTF banks to emerge and how the repeal affected the ability of FDIC to operate in a systemic collapse situation.
The point of Glass-Steagall was to separate the gamblers from the citizens, so the gamblers couldn't risk the savings of the citizens.
The ideology that promoted this fiasco is a bastardization of Adam Smith - Smith argued for small business competition, not mega-banks monoliths and monopolies. Smith argued for capitalism; what we have now is crony capitalism, also known as socialism for the wealthy.
ga anderson (author) from Maryland on December 11, 2011:
@HSchneider - glad to see you made it. You are right. there is blame on both sides.
But the repeal wasn't the first action, just the final one they really needed. Both parties had been chipping away at the Bank Act, redefining important restrictions to allow them more latitude - since 1980.
The final repeal just made it legal for them to be open about it.
Howard Schneider from Parsippany, New Jersey on December 10, 2011:
This is a very insightful and even handed analysis of Glass-Steagall and the financial meltdown, GA. Both sides are to be blamed for different issues. Glass-Steagall was the first action that opened the financial markets wide open which eventually led to out of control risk taking.