What 'Bring Back Glass-Steagall' Means to Left and Right
If I were a betting man, I’d give odds that Senator Elizabeth Warren, the liberal firebrand from Massachusetts, and Gary Cohn, the ex-president of Goldman Sachs Group Inc. now serving as the President Donald Trump’s chief economic adviser, have very different ideas about what it means to “bring back Glass-Steagall.”
On Wednesday, Bloomberg’s Elizabeth Dexheimer broke the story that during a closed-door meeting, Warren, a fierce critic of the big banks, asked Cohn for his thoughts on Glass-Steagall, the 1933 law separating commercial banking from investment banking that was repealed in 1999. According to Dexheimer, Cohn replied that he “generally favors banking going back to how it was when firms like Goldman focused on trading and underwriting securities, and companies such as Citigroup Inc. primarily issued loans.”
When the original Glass-Steagall became law during the Great Depression, firms like J.P. Morgan and Company were essentially cleaved in two, with their commercial-banking sides forming separate companies from their investment-banking sides. The rationale was that the investment bankers had taken huge risks with bank depositors’ money, which, once the stock market crashed, caused devastating runs on banks and helped usher in the Depression. At the same time, the government created the Federal Deposit Insurance Corporation, which insured bank deposits and had the power to close failing banks.
Let’s stipulate a few things. First, Glass-Steagall was one of the most successful financial laws Congress has ever enacted. Before Glass-Steagall, financial panics, as they used to be called, were a staple of American life. But after the Depression, financial crises stopped until 2008, by which time it had been repealed.
Second, as William Cohan points out in his new book, “Why Wall Street Matters,” the elimination of Glass-Steagall had virtually nothing to do with the near cataclysm that took place in 2008. Think about the firms whose failure led to the crisis: Fannie Mae and Freddie Mac, American International Group Inc., Bear Stearns and Lehman Brothers. The first two were government-sponsored entities, the third was an insurance company and the latter two were pure investment banks. Not one of them had a commercial banking component. (Another, bigger investment bank, Merrill Lynch, would have failed if Bank of America Corp. hadn’t bought it at the height of the crisis.) Some of the biggest banks to fail, like Washington Mutual and IndyMac, had no investment banking arm.
Third, the financial crisis made people on both the left and the right aware of the “too big to fail” problem — i.e. that the government simply could not allow a Citigroup, for instance, to go under because its ripple effects could be powerful enough to bring about a collapse of the financial system. Thus did the administration of President George W. Bush push through its $700 billion Troubled Asset Relief Program — money that was loaned to banks to get them through the crisis. This program was widely derided by liberals and conservatives as a taxpayer bailout (though according to ProPublica, the government has so far reaped a profit of $85.8 billion from its “bailout”) and many government officials vowed to never be put in that position again.
One of the primary purposes of the Dodd-Frank financial reform legislation that Congress passed in 2010 was to ensure that bailouts like TARP would never recur. But even after it became law, there remained a lot of skepticism about whether the too-big-to-fail problem had, in fact, been solved. For that reason, the calls for bringing back Glass-Steagall have grown in recent years.
Which brings us back to Elizabeth Warren and Gary Cohn. When progressives like Warren talk about Glass-Steagall, they envision a scenario similar to 1933, where financial conglomerates are forced to spin off their investment-banking arms. That way, if a commercial bank gets in trouble, the FDIC can wind it down. And if an investment bank gets in trouble, it can file for bankruptcy without wreaking havoc on the financial system.
Also, though, progressives want to break up the banks because they don’t trust the industry. The liberal economist Dean Baker wrote a few years ago that reinstituting Glass-Steagall was necessary because the banking industry was making “Swiss cheese” of regulations that were supposed to “keep the Wall Street banks from using their government-guaranteed deposits as a cushion to support their speculative game playing.” Cutting them in two would make them smaller and less powerful.
On the other hand, when Trump Administration officials like Cohn (and Treasury Secretary Steven Mnuchin) talk about bringing back Glass-Steagall, they have something else in mind. Yes, they also want to prevent future bailouts. But what they really want is to use Glass-Steagall as a way of "providing cover for other actions that could be characterized as 'unduly favorable to Wall Street,'" as the banking analyst Karen Petrou wrote recently.
For instance, Cohn’s former firm, Goldman Sachs, became a bank holding company during the financial crisis to get access to low-interest loans at the Federal Reserve’s discount window. Now it would love to be rid of that status, but it can’t because of a provision in Dodd-Frank that prevents it. (It’s nicknamed the Hotel California provision.) Banks would like to get rid of another component of Dodd-Frank, the Volcker Rule, which restricts their ability to trade securities using their own money. They would like lower capital requirements. And so on.
Reintroducing Glass-Steagall allows the Trump Administration to say that it is simplifying banking regulation while protecting depositors and taxpayers. And since the too-big-to-fail problem is finally taken care of, there is no further need for much of the 2,000-plus-page Dodd-Frank law.
There is one other thing to note. Unlike progressives like Warren, the administration has no interest in splitting up banks and investment banks. Its version of Glass-Steagall would probably protect insured bank deposits from the investment banking side of the house while keeping big banking conglomerates intact.
Although I’m not a big fan of bringing back Glass Steagall — I think its day came and went — it's hard to be against anything that might actually bring about some bipartisanship. Glass-Steagall bills have been introduced in Congress with co-sponsors from both sides of the aisle. Warren and Cohn are using language that sounds similar, at least on the surface. The question is whether it remains bipartisan once progressives and conservatives start digging into the details. Sadly, I doubt it.
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