20 Jul Republicans Go All Bernie Sanders in New Platform
Look, I get the politics of it, and I am not even sure I disagree with the reasoning, but there are a few things that need to be said about the new GOP platform and its claim to support to renewal of Glass-Steagall, the famous 1933 law that separated investment banks from commercial banks. The multi-decade law was repealed in 1999 by the Gramm-Leach-Bliley Act, signed by Bill Clinton, and is frequently cited by Elizabeth Warren and Bernie Sanders as one of the reasons for the financial crisis (to be clear, the repeal of Glass Steagall is blamed for the crisis, not Glass Steagall itself). The brand new GOP platform says that “We support reinstating the Glass-Steagall Act of 1933 which prohibits commercial banks from engaging in high-risk investment.” It was personally requested by Donald J. Trump, and admittedly puts Hillary Clinton in a difficult position: Already known to be a Wall Street crony by anyone who has paid attention, this puts Trump to her left on an issue that Bernie Sanders challenged her on repeatedly. Would the GOP really bring back this silly law? Of course not. But politically, the Republicans can potentially drive a wedge between Hillary and Sanders supporters. So that’s all there is to that.
But what exactly do we think about commercial banking and investment banking co-existing? Isn’t the repeal of Glass-Steagall the cause of risky housing bets that brought the economy to its knees? Shouldn’t commercial banks be prevented from using Grandma’s cash deposits to speculate in emerging markets?
Only in politics can cartoonish simplifications be made to be real, when not a single person on either side actually believes them to be true. The institutions at the heart of the financial crisis were Bear Stearns and Lehman Brothers, both of whom became functionally insolvent from a loss in value of assets relative to size of liabilities (it is called “leverage”), and both of whose equity was essentially wiped out (Lehman’s literally wiped; Bear’s went from $160/share to $10/share when the Fed got JP Morgan to take them over). Neither Bear nor Lehman had a commercial bank, and every critic of Wall Street knows it. Neither had any of Grandma’s savings account, and no one has ever claimed otherwise. So we see investment banks with no commercial banks at the heart of the crisis – but what about the opposite? The largest banking failures in history – Washington Mutual, and IndyMac – were large commercial banks, but with no investment banking operation. In other words, financial institutions acting incompetently can get in trouble all by themselves- they don’t need to combine business units to do it. The FDIC is a competent and highly regarded regulator who has strict rules about bank leverage and the instruments they can utilize. Can a FDIC bank right now, post-Glass Steagall, take Grandma’s money and leverage it ten times over into emerging markets or subprime CDO’s? No, and every critic of Glass Steagall repeal knows it. Can a bank make loans and then find that loan book to be poorly administered, resulting in bank insolvency? Sure, and that happened plenty with Glass Steagall too.
The systemic risk to the financial system evidenced in 2008 had nothing to do with the repeal of Glass Steagall, and this is neither a right wing or left wing view. In fact, it is a huge distraction from the real heart of the matter: That these large behemoth financial systems need their own shareholders and boards to hold their feet to the fire. Read analyst Michael Mayo some time on how much more valuable some of the current Wall Street giants would be if they separated some of their asset management, wealth management, investment banking, and commercial banking divisions. The reality is that this is not a systemic risk story; it is a mismanagement story. The individual parts for many Wall Street firms are worth so much more than they are in their present combined form, and very few credible analysts disagree. The GOP doesn’t need to advocate it. Bernie Sanders doesn’t need to decree it. Market forces just need to prove it.
Ideally, financial institutions need the freedom to grow and compete, with competent and effective regulation, and with shareholders who demand an optimal return on capital. Some overlap of commercial and investment banking is required in this global age of finance. Some synergies make more sense than others, and the boards of these firms need to make those calls, not politicians. Wall Street CEO’s like the size of their big bureaucratic inefficiencies for obvious reasons and shareholders have every right and obligation to demand optimization. But it is not a political issue, and while Trump and the GOP may be playing wise politics to pick at Hillary here, fundamentally the policy wisdom is lacking.