Ruth Lee
There is a lot of talk about DEE-regulation… and with some of our other topics on the marriage of Wall Street and Subprime, I thought to discuss a little of my research on the deregulation topic.
The real breach of the market started with Lehman’s 1997 purchase of Harbourton, an old RTC subprime servicer…. for more see the blog post here…
Harbourton had developed an expertise in buying and servicing defaulted Federal Housing Administration (FHA) loans from Ginnie Mae pools (the precursor to special servicing) and, due to changes in tax laws affecting the company’s capital structure, had elected to sell its mortgage origination and servicing businesses. (Mortgage Banking Article)
In 1999, Congress passed GLB, also known as the Gramm-Leach-Bliley Financial Services Modernization Act. For the primary mortgage industry, GLB really applied to informational security in correspondence. However, for the secondary, GLB repealed part of the Glass-Steagall Act of 1933 allowing open competition between banks, securities companies and insurance companies, prohibited activities under Glass-Steagall. Now the game was on, leveraging their financial expertise across the trifecta of financial services, opportunities for “vertical integration” abounded. Acquisitions abounded as these companies found more product to market to their “merged” customer base.
For example, Citibank merged with Travelers Group, an insurance company, and in 1998 formed the conglomerate Citigroup, a corporation combining banking and insurance underwriting services under brands including Smith-Barney, Shearson, Primerica and Travelers Insurance Corporation. This combination, announced in 1993 and finalized in 1994, would have violated the Glass-Steagall Act and the Bank Holding Company Act by combining insurance and securities companies, if not for a temporary waiver process … Wikipedia
In 1987 the Congressional Research Service prepared a report which explored the case for preserving Glass-Steagall and the case against preserving the act. [1]
Summary from the CRS report:
Debate over reform of the Nation’s financial structure in the 100th Congress includes re-examination of “the separation of banking and commerce.” this separation was mandated by the Glass-Steagall Act (part of the banking act of 1933); and was carried forward into the Bank Holding Company Act of 1956 as amended in 1970 and hereafter. The resulting isolation of the banking from securities was designed to 1. maintain the integrity of the banking system; 2. prevent self-dealing and other financial abuses; 3. limit stock market speculation. By half a century later, the “wall” it created seemed to be crumbling, as banker created new financial products resembling loans and deposits. the ongoing process of “financial deregulation” has evoked calls for Congress to give depository institutions new powers, especially in the securities field. Financial deregulation in the UK, Canada and Japan has put additional pressure on Congress to re-examine this Act. Concerns over a seemingly fragile system of depository institutions persist however, tending to place counter-pressure on Congress to maintain the Act.
Highlights of the Report:
…[These institutions] have increasingly blended the businesses of banking and brokerage, using loopholes in the Act and other statutes (such as governing savings institutions). A conspicuous case is that of depository institutions and their holding companies entering the securities business as “discount brokers.” By only taking customer’s orders, they avoid offering advice or sponsoring new security issues, and thus (as customer’s agents) appear …within the literal language of the Glass- Steagall Act.
In the fixed-income area, they seek to underwrite and deal in: commercial paper, municipal revenue bonds and bonds backed by mortgages and consumer loans. In the equity area, they seek to sponsor, run and distribute mutual funds. Such powers would leave less than one quarter of the Nation’s dollar volume of financing restricted to traditional stock and bond dealers only, according to industry estimates.
The Report then goes on to list the pros and cons… they are exactly what you would expect, but worth a surf.
So ten years later, the right Congress and the right Administration face the real test… what the banking institutions had been toeing for twenty years. Then enter the Clinton Administration:
Crucial to the passing of this Act was an amendment made to the GLBA, stating that no merger may go ahead if any of the financial holding institutions, or affiliates thereof, received a “less than satisfactory [sic] rating at its most recent CRA exam”, essentially meaning that any merger may only go ahead with the strict approval of the regulatory bodies responsible for the Community Reinvestment Act (CRA).[10]. Democrats agreed to support the bill after Republicans agreed to strengthen provisions of the anti-redlining. Wikipedia
Starting to look like a perfect storm? … in the world of unintended consequences: Cheap credit, dee-regulation, a Fed controlled exclusively by Wall Street titans, vertical integration of all the financial services, pressure to lend to lower income candidates, a feverish stock market, a rising global investment pool, “assurance” of quality, giddy market optimism, Sept 11th and the American Dream… they are the makings of an economic holocaust… one someone should have seen coming. Downturns happen, but this one has been heightened dramatically due to the clumsy fingers of special interests.
There aren’t enough fingers to find all of the culprits… however, if we have to regulate back to Glass-Steagall or find someone smart enough to craft regulations that make sense for today… to have authority to move with the future challenges…to enforce regulations creatively and absolutely – without consistent erosion by those with enough lawyers and economists and lobbyists on their side to move us from reason to insanity.
I’m not saying that Glass-Steagall was all that…but I am saying that perhaps our grandfathers were on to something, they weren’t misguided, old school, stale, out-dated…perhaps they were onto something as they raised rabbits in their yard to feed their children.
