Looking for ways to pressure banks to lend more, Democrats may revisit the 1999 law that allowed Citigroup and others to combine consumer and investment banking
By James Rowley and Christine Harper
(Bloomberg) — The U.S. House is considering reinstituting the Depression-era Glass-Steagall Act, which barred bank holding companies from owning other financial companies, Majority Leader Steny Hoyer said.
A renewal of the 1933 law "is certainly under discussion" by House members, Hoyer told reporters in Washington today. The Glass-Steagall law was repealed in 1999 to help pave the way for the formation of Citigroup (C). by the $46 billion merger of Citicorp and Travelers Group Inc.
"As someone who voted to repeal Glass-Steagall, maybe that was a mistake," said Hoyer, a Maryland Democrat.
Hoyer made the comments when asked whether Congress and President Barack Obama's administration could do more to persuade banks to make more business loans and get credit flowing into the economy. Obama met yesterday with the chief executive officers of U.S. banks, urging them to lend more money.
The Glass-Steagall law barred banks that took deposits from underwriting securities. The 1999 law that repealed it enabled the creation of "financial holding companies" that combine banks with insurers or investment banks.
Enactment of that law has generated debate about whether it helped spawn reckless lending practices and financial speculation that led to the meltdown of credit markets last year and the $700 billion U.S. bailout of troubled banks, including Citigroup.
Legislation passed by the House on Dec. 11 to overhaul regulation of Wall Street didn't include a reinstatement of Glass-Steagall. It did include an amendment that would give federal regulators the power to take apart large, healthy firms if their size poses a risk to the U.S. financial system. The legislation is pending before the Senate.
Treasury Secretary Timothy Geithner testified on Oct. 29 that regulators need authority "to force the major institutions to reduce their size or restrict the scope of their activities" if they become too risky.
The 1999 repeal of Glass-Steagall made it possible for Goldman Sachs Group (GS) and Morgan Stanley (MS), the two biggest U.S. securities firms, to convert into bank holding companies, enabling them to get cheap funding from the Federal Reserve during the financial crisis. If the law hadn't been repealed, Bank of America (BAC). wouldn't have been allowed to acquire Merrill Lynch & Co.
Resurrecting Glass-Steagall might require undoing some of those transactions unless Congress included an exception for those already carried out.
Such a change in law also would reduce the need for the taxpayer bailouts that added between 9 percent and 49 percent to the profits of the 18 biggest U.S. banks in 2009, according to Dean Baker, co-director of the Center for Economic & Policy Research in Washington.
Even so, Fed Chairman Ben Bernanke told the Economic Club of New York on Nov. 16, "Plenty of firms got into trouble making regular commercial loans, and plenty of firms got into trouble in market-making activities."
"The separation of those two things per se would not necessarily lead to stability," Bernanke said.
Obama's meeting with the bankers yesterday "was a good thing for the president to do," Hoyer said. "The president needs to make it very clear that we expect some help from the private sector to help bring this economy back."
Lending From TARP
Obama "has got to go further than that," Hoyer said, noting that the administration is considering direct lending from the Troubled Asset Relief Program to small businesses.
Former Citibank Chairman John S. Reed apologized in a Nov. 6 interview for helping engineer the bank's merger with Travelers and for his role in building a company that took $45 billion in U.S. assistance. Reed also recanted his advocacy of the repeal of Glass-Steagall.
The 1998 merger depended on Congress repealing Glass- Steagall before a five-year deadline that otherwise would have required Travelers to sell its insurance underwriting business.
"We learn from our mistakes," Reed said in the interview. "When you're running a company, you do what you think is right for the stockholders," Reed said. "Right now, I'm looking at this as a citizen."
Jim Leach, the former Republican chairman of the House Financial Services Committee, defended the repeal in an April 22 speech at a conference on financial reform sponsored by Boston University Law School and the Bretton Woods Committee.
"Changes in Glass-Steagall did not precipitate this crisis," according to a text of the speech by Leach, an Iowan who now is chairman of the National Endowment for the Humanities.
To contact the reporters on this story: James Rowley in Washington at firstname.lastname@example.org; Christine Harper in New York at email@example.com.