Can Congress Pass Banking Reform?

Robert Reich says that since Wall Street is still out of control, that it would be a politically and economically smart move for President Obama to resurrect the Glass-Steagall Act and thereby break up the big banks.

Next week President Obama travels to Wall Street where he’ll demand – in light of the Street’s continuing antics since the bailout, as well as its role in watering-down the Volcker rule – that the Glass-Steagall Act be resurrected and big banks be broken up.

I’m kidding. But it would be a smart move — politically and economically.

Politically smart because Mitt Romney is almost sure to be the Republican nominee, and Romney is the poster child for the pump-and-dump mentality that’s infected the financial industry and continues to jeopardize the American economy.

Romney was CEO of Bain & Company – a private-equity fund that bought up companies, fired employees to save money and boost performance, and then resold the firms at a nice markups.

Romney also epitomizes the pump-and-dump culture of America’s super rich. To take one example, he recently purchased a $3 million mansion in La Jolla, California (in addition to his other homes) that he’s razing in order build a brand new one.

What better way for Obama to distinguish himself from Romney than to condemn Wall Street’s antics since the bailout, and call for real reform?

Economically it would be smart for Obama to go after the Street right now because the Street’s lobbying muscle has reduced the Dodd-Frank financial reform law to a pale reflection of its former self. Dodd-Frank is rife with so many loopholes and exemptions that the largest Wall Street banks – larger by far than they were before the bailout – are back to many of their old tricks.

It’s impossible to know, for example, the exposure of the Street to European banks in danger of going under. To stay afloat, Europe’s banks will be forced to sell mountains of assets – among them, derivatives originating on the Street – and may have to reneg on or delay some repayments on loans from Wall Street banks.

The Street says it’s not worried because these assets are insured. But remember AIG? The fact Morgan Stanley and other big U.S. banks are taking a beating in the market suggests investors don’t believe the Street. This itself proves financial reform hasn’t gone far enough.

If you want more evidence, consider the fancy footwork by Bank of America in recent days. Hit by a credit downgrade last month, BofA just moved its riskiest derivatives from its Merrill Lynch unit to a retail subsidiary flush with insured deposits. That unit has a higher credit rating because the Federal Deposit Insurance Corporation (that is, you and me and other taxpayers) are backing the deposits. Result: BofA improves its bottom line at the expense of American taxpayers.

Wasn’t this supposed to be illegal? Keeping risky assets away from insured deposits had been a key principle of U.S. regulation for decades before the repeal of Glass-Steagall.

The so-called “Volcker rule” was supposed to remedy that. But under pressure of Wall Street’s lobbyists, the rule – as officially proposed last week – has morphed into almost 300 pages of regulatory mumbo-jumbo, riddled with exemptions and loopholes.

It would have been far simpler simply to ban proprietary trading from the jump. Why should banks ever be permitted to use peoples’ bank deposits – insured by the federal government – to place risky bets on the banks’ own behalf? Bring back Glass-Steagall.

True, Glass-Steagall wouldn’t have prevented the fall of Lehman Brothers or the squeeze on other investment banks in 2007 and 2008. That’s why it’s also necessary to break up the big banks.

In the wake of the bailout, the biggest banks are bigger than ever. Twenty years ago the ten largest banks on the Street held 10 percent of America’s total bank assets. Now they hold over 70 percent. And the biggest four have a larger market share than ever – so large, in fact, they’ve almost surely been colluding. How else to explain their apparent coordination on charging debit card fees?

The banks aren’t even fulfilling their fiduciary duties to investors. Last summer, after Groupon selected Goldman Sachs, Morgan Stanley, and Credit Suisse to underwrite its initial public offering, the trio valued it at a generous $30 billion. Subsequent accounting and disclosure problems showed this estimate to be absurdly high. Did the banks care? Not a wit. The higher the valuation, the fatter their fees.

Just last week Citigroup settled charges (without admitting or denying guilt) that it defrauded investors by selling them a package of mortgage-backed securities rife with mortgages it knew were likely to default, but didn’t disclose the hazard. It then bet against the package for its own benefit – earning fees of $34 million and net profits of at least $126 million. So what’s Citi paying to settle this outrage? A mere $285 million. Its CEO at time (Charles Prince) doesn’t pay a dime.

I doubt the President will be condemning the Street’s antics, or calling for a resurrection of Glass-Steagall and a breakup of the biggest banks. Democrats are still too dependent on the Street’s campaign money.

That’s too bad. You don’t have to be an occupier of Wall Street to conclude the Street is still out of control. And that’s dangerous for all of us.

Congress would be smart to repeal the 1999 Gramm–Leach–Bliley Act and then resurrect the banking reforms found in the 1933 Glass-Steagall Act. Those reforms, which were in place for over sixty years, worked to control speculation. They also prohibited a bank holding company from owning other financial companies and as well separated commercial banking from investment banking. And for that, President Obama needs to demand the change!

Reinstate Glass-Seagall

Don't you think?

This week marks the tenth year anniversary of the repeal of the Glass-Steagall Act of 1933, by the Gramm-Leach-Bliley or Financial Services Modernization Act, marking the moment when we were royally screwed by the banking system. Thank you to all those involved.

It's amazing how downright ebullient, President Bill Clinton was at that signing ceremony on November 12, 1999. an event introduced by then Treasury Secretary (now Obama advisor) Larry Summers, successor to Robert Rubin. Those restricting, anti-competitive Depression era, laws were finally behind us. Awesome.

Fast-forward to now and most of us know how devastatingly expensive that signature was for the American public. Yet, despite our government having deployed or made available over $14.1 trillion worth of federal subsidies to fix Wall Street, the banking landscape is less stable than it was before last year's crisis. And, despite national unemployment approaching double digits, and another record quarter of foreclosures, we stand farther away from the intent of Glass Steagall than ever.

Banks weren't handled with kid gloves then. They were treated like the spoiled, reckless, destructive beings they were. After the stock market crash in 1929, the country sunk into the throes of the Great Depression, characterized by 25% unemployment, bread lines, rampant foreclosures, and general despair. In 1932, the Pecora commission examined the shady banking practices that contributed to the devastation, all of which hinged on one thing - banks had used depositor capital and loans to speculate with. Exactly like the practices going on before and since last fall's financial calamity. The result of that speculation gone wrong tanked the economy. Glass-Steagall logically sought to ensure this wouldn't happen again. It divided up the banking landscape into two parts, commercial banks and investment banks. The federal government would back commercial banks and consumer deposits through establishing the Federal Deposit Insurance Corporation (FDIC). But, it wouldn't be Wall Street's investment bank bookie and bitch.

Over the decades, the financial sector, armed with cunning lobbyists and overpaid lawyers, took many swipes at Glass-Steagall, but none as devastating as the Gramm-Leach-Bliley Act. Since then, the banking sector's powerful ate its weak, amidst a wave of massive consolidation. Nearly half of the nation's biggest bank mergers took place just before or since that Act was passed. All these mega banks can thus churn deposits and loans into debt or capital to fund speculation, risk, and create a roller coaster of an economy that is defined simply on whether those bets, or asset creations, work or not, at any given moment. Heads they win, tails we lose.

What can we do?

Thus, whether we merge all regulators into one ginormous one, or have a council of them to deal with the hard issues of mega-collapse and crisis, or even place one inside the office of every top bank CEO, shadowing him like a probation officer (no that's not in one of the bills, it would just be fun to watch unfold), the beast remains out of the cage.

That's why we need to reinstate Glass-Steagall. Now. We need to dissect the speculative from the boring within our country's financial institutions. And yes, it's possible to achieve. Banks split off pieces of companies and move them around every day. Plus, the Glass Steagall Act didn't wave a magic wand that divided up bank divisions, it ingeniously used banks' own competitive desires against them, by giving banks a one-year period to dramatically reduce the portion of profit they made from investment banking activities to 10% of total profits. Banks were free to choose how to do this, knowing commercial banking got government backing, and investment backing didn't. Betting behaviors are more conservative when it's your own money, and not someone else's on the line. Stability follows.

We need to specifically reinstate section 16 of the Glass-Steagall Act that had restricted national commercial banks from engaging in most investment banking activities, up to a certain small percentage, coming from client directives, not their own proprietary trading. And, on the flip side, we need to reinstate section 21 that restricted investment banks from engaging in any commercial banking up to a certain percentage limit.

Doing these two things, would reduce the more systemically risky competitive desires between these two types of banks that spurs them to merge into institutions that are too big to exist without our help, or take the kinds of leveraged risks that drive short-term profits and bonuses, at the expense of long term financial system stability.

It's time to put the beast back in its cage, while taming it, by re-instating Glass Steagall, and keep it from inflicting even more danger on the rest of us. Meanwhile, we need to support all those in Washington that get this, and keep pressuring those who don't.

The right-wing wants less government control. But they are willing to sit by and allow the banks and investment companies to controll their money. They are also willing to sit by and allow the insurance companies to control the issue of coverage or payment. The right-wing really needs a good dose of reality. Go figure!