HOW DID WE GET TO WHERE WE ARE AT??
The causes of the Stock Market Crash of 1929 and the Great Depression that followed have been analyzed and dissected way to many times. Many want to think that by studying this phenomenon we will never have to repeat that scenario again. Unfortuantely, human nature, good old fear and greed, always rears its ugly head.
I am not going to beat a dead horse, but would like to point out some of the obvious issues we face in our current economic situation; too many of which closely parallel what happened ninety years ago.
The main purpose of the two laws passed under the Glass-Seagall Act was to combat the deflation of the 30s, expand the power of the Fed, establish the FDIC, and stem the collapse of the commercial banking system. In addition, the law was designed to create a barrier to the mixing of commercial and investment banking activities which led in part to the Crash. In the early 1930s, congressional hearings revealed conflicts of interest and fraud in some of the bank's securities activities. The hope was that this law would provide a separation of the entities involved in the business of money and investment activities to keep them from the speculative fraud which naturally follows.
Let's roll the clock forward to the 1980s. At this point banks and brokers were lobbying to roll back the Glass-Seagall Act to be able to compete with the growing foreign market and expand their operations for the betterment of customers. Isn't that what competition is all about?
Some argued for retention and said that to go back to pre Glass-Steagall would allow the former situation to happen all over again. When a depository institution controls deposits, lending and investments under one roof, the control and ability to manipulate a market is too great. Then, as these institutions expand their investment activities to grow their profit, the lure of greater risk for greater profit can jeopardize financial stability and customer's funds on deposit.
Others argued against keep[ing the Act, and said that controls can be put in place to protect the public; that the amount of risk can be legislated to keep rampant speculation from crashing the system. A "watchdog" then, can make everything ok?
The debate went on for a good decade or so and all you have to do is follow the money. In time the Glass-Seagall Act was reversed by the Republican sponsored Gramm-Leach Act. This was passed in 1999, by overwhelming support of both houses of Congress, and was signed into law by then President Bill Clinton. Again, banks could enter the arena of investment, lending, and anything else they thought would increase the bottom line, and everybody lived happily ever after.
Remember the regulation, the legislation, and the watchdogs who were put into place to protect the system?
Can you say Bernie Madoff?
Here is another story you will enjoy that illustrates the aftermath of the repeal of the Glass-Steagall Act.
Citigroup, once the largest commercial bank in the country, was now able to underwrite and trade such financial instruments as mortgage-backed securities and collateralized debt obligations. They also established structured investment vehicles (SIV) that in turn bought the mortgages and CDOs. It is said that in 1998 only 5% of mortgaes were sub-prime. By the crises of 2008, almost 30% of mortgages were categorized as sub-prime. So now a bank could make a market, participate in the market, and sell the market for profit with apparent little concern for the risk involved. Why worry, when the taxpayers can be saddled with the debt and you can walk away with billions.
How did we get to where we are at? How do we limit the banks and brokerages from influencing our legislators who are all to eager to accept dollars into their coffers? That is the question, what is the answer?