The other day, a commenter asked me to explain why I thought the repeal of much of the Glass-Steagall Act by the Gramm-Leach-Bliley Act in 1999 did not contribute significantly to the occurrence of the Great Recession. I had excised that discussion from the article on the ground that I thought it interfered with the real point of the article, which had to do with what the new French president, M. Hollande, might want to accomplish in the banking sector.
What Glass-Steagall Said
What was Glass-Steagall? It was four sections of the Banking Act of 1933: Sections 16, 20, 21 and 32.
Section 16, codified as paragraph seventh of section 24 of the National Bank Act, applied solely to national banks and Federal Reserve System members. It said two things: One, such banks could invest only in debt securities (no equities)-and only in such securities that were authorized by the Comptroller of the Currency, which is the supervisor of national banks. Securities authorized by the Comptroller were defined as “investment securities”, and in practice the Comptroller restricted such securities to investment grade securities. Two, no such bank (national bank or Federal Reserve member bank) could (except for investment securities as defined above) deal in securities or stock for its own account, but could do so solely upon the order of and for the account of customers.
Section 20 said that no member bank of the Federal Reserve System (which includes all national banks) could affiliate in any way with a firm engaged in securities underwriting.
Section 21 applies to any institution that accepts “deposits”. It prohibits any such institution from underwriting securities. [Section 21 has not been repealed. Bank holding companies underwrite through non-bank affiliates.]
Section 32 prohibited interlocking directorships between member banks and underwriters.
Of course there were court cases, regulations and commentary that interpreted these provisions. Beginning in the early 1980s, the regulations and administrative interpretations carved out significant exceptions to what many had thought were the prohibitions of Glass-Steagall. These interpretations permitted securities brokerage operations for clients and even permitted limited underwriting of securities by what became known as “Section 20 affiliates”. But it was not until the creation of CitiGroup in the late 1990s that the more fundamental strictures of Section 20 were challenged, resulting in the passage Gramm-Leach-Bliley in 1999 that more or less repealed Section 20.
The repeal of the Glass-Steagall Act was at most a minor contributor to the financial crisis. At the heart of the 2008 crisis was nearly $5 trillion worth of basically worthless mortgage loans, among other factors. Although the repeal allowed for much bigger banks, it can’t be blamed for the crisis.
Since non-bank lenders originated the overwhelming majority of subprime mortgages, and the buyers of over half of them in the 10 years leading up to the 2008 crisis were not banks – commercial or investment – but Fannie Mae and Freddie Mac, pointing the finger at this particular banking regulation is not warranted.
Some argue that the repeal of the Glass-Steagall Act of 1933 caused the financial crisis because banks were no longer prevented from operating as both commercial and investment banks, and repeal allowed banks to become substantially larger, or “too big to fail.” However, the crisis would likely have happened even without the Glass-Steagall repeal.
Clinton said, “There’s not a single, solitary example that” signing the bill to end Glass-Steagall “had anything to do with the financial crash.”
By focusing on the bill that officially repealed Glass-Steagall, Clinton’s statement ignores the fact that the demise of Glass-Steagall took place over decades, amid a deregulatory push in which the Clinton administration played a role. By the time the law to repeal hit his desk, Glass-Steagall had been whittled down so much that it wasn’t very meaningful. It’s a matter of debate how much of a role the overall demise of Glass-Steagall had in causing the financial crisis, but we couldn’t find any economists who argue that the regulation was the sole linchpin keeping the financial system stable until its official repeal in 1999. Overall, we rate Clinton’s claim Mostly True.
From your friends at politifact