Protecting the American people from another devastating financial crash and the economic wreckage it causes begins with reflecting honestly about the past and trying to learn the right lessons.
In the late 1990s, virtually all the leaders in the financial industry as well as policymakers and elected officials in Washington worked together to deregulate finance, including in particular the repeal the Glass-Steagall Act on November 12, 1999, 16 years ago. That law was put in place after the Great Depression and protected taxpayers for more than 60 years by separating traditional, commercial banking from higher-risk investment and trading firms.
While the 2008 financial crisis almost certainly would have occurred if Glass-Steagall had remained in place, its repeal greatly aided the spread of the disaster throughout the financial system and broader economy. Unfortunately, there’s been too little willingness by those on Wall Street and in Washington to admit this mistake (and others) or, more importantly, to allow the facts to guide our efforts to prevent another financial crash.
The 1998 merger of Citicorp, a commercial bank, with the Travelers Group, an insurance and securities firm, to formCitigroup, came at a time when too many in finance and policy believed that individual institutions would always make appropriate decisions to ensure their self-preservation, which would in turn limit the likelihood of a failure or a systemic crisis. That led to the widespread view that key parts of our legal and regulatory infrastructure were obstacles to economic growth and efficiency, rather than prudent checks that promoted safety and soundness in the broader financial system.
The successful push to repeal the Glass-Steagall Act is what made the formation of Citigroup possible. This unleashed an acquisition spree, which quickly lead to the consolidation of more than 30 financial firms in 1998 into just four gigantic firms by 2008. This unquestionably made the remaining super sized banks not only much bigger, but also much more complex. Unbeknownst to most observers, these gigantic banks also grew to pose a major threat to the stability of our financial system, the public and taxpayers by becoming too big to fail.
Some (like Hillary Clinton) who oppose reinstating a modern Glass-Steagall-like law (which Sens. Elizabeth Warren and John McCain support) claim its repeal had little if anything to do with the 2008 financial crash and the economic meltdown it caused. They point to the so-called shadow banking system of Bear Stearns, Lehman Brothers, AIG and others nonbanks that would not have been subject to it. Even Paul Krugman recently wrote, “repealing Glass-Steagall was indeed a mistake. But it’s not what caused the financial crisis, which arose instead from ‘shadow banks’ like Lehman Brothers, which don’t take deposits but can nonetheless wreak havoc when they fail.”
This misses the point. No one is claiming that repealing Glass-Steagall “caused the financial crisis.” And, no one is claiming that Glass-Steagall, by itself, would have alone prevented the 2008 financial crash or the next one. Unfortunately, there’s no single magic bullet that would have done that or will do it in the future. But the so-called shadow banking system — from Bear Stearns to Lehman Brothers to AIG and others like Washington Mutual and Countrywide — was funded directly or indirectly by megabanks like JPMorgan Chase, Bank of America and Citigroup (which often also created the demand for their subprime “products”).
It is also telling that those pointing to the shadow banking system as the culprit that caused the 2008 financial crash rather than banks subject to Glass Stegall almost always fail to mention Citigroup. That bank has failed repeatedly over the past 100 plus years and has required frequent taxpayer and government bailouts. In 2008, it was the single largest recipient of federal bailouts, the only Wall Street bank not to repay its $25 billion TARP “loan,” a bank that would have been subject to Glass-Steagall and was supposed to be supervised by the New York Fed (headed by Tim Geithner at the time). (It also happens to be where two of Clinton’s Treasury Secretaries, Bob Rubin and Larry Summers, worked after leaving the Clinton administration.)
Thus, it is indisputable that Glass-Steagall’s repeal paved the way for the megabanks that not only fueled the shadow banks, but also dominated the financial industry landscape and supercharged the growth of the most dangerous too-big-to-fail banks and nonbanks. For example, the assets of just the top six banks grew from about 20 percent of gross domestic product in 1997 to more than 60 percent of gross domestic product in 2008. Citigroup alone virtually tripled its assets in this short period of time.
And, repealing Glass-Steagall allowed the investment and trading operations of the former investment banks to use the sticky and low-cost FDIC insured deposits from the commercial banks. It is therefore no surprise that four of the largest banks in the US conducted more than 90 percent of all domestic derivatives trading, which were unregulated due to another law enacted in 2000. Making matters worse, these financial conglomerates were allowed to dramatically increase their leverage, making them highly vulnerable to the slightest drop in asset values.
If Glass-Steagall hadn’t been repealed, there’s little doubt it would have lessened the depth and breadth of the 2008 financial crisis, which has cost our country trillions of dollars and caused tens of millions of people to lose their jobs, homes, savings and much more.
Those facts alone requires much more thoughtful public discussion about the repeal of Glass Steagall. In particular, the senior elected officials, policy makers and finance leaders who pushed the repeal and financial deregulation more broadly, Bob Rubin, Larry Summers, Alan Greenspan and Sandy Weill in particular, owe the country a candid, open, fact-based and seriously thoughtful reflection on their actions.
This article first appeared on the Huffington Post here.