From Volume 2, Issue Number 13 of Electronic Intelligence Weekly, Published Mar. 31, 2003
This Week in History

March 31-April 6

The second prong of re-regulation of the financial system that was passed as part of Franklin Delano Roosevelt's Hundred Days of New Deal legislation, following the Securities Bill, was the Glass-Steagall Act, also known as The Banking Act of 1933. The origins of this bill went back to 1932, or earlier, but it was only under the conditions of the re-assertion of the principle of the General Welfare, which FDR's leadership represented, that it could be passed. The battle over the bill's provisions raged throughout the entire spring of 1933, before final passage in June, but we devote this column to its provisions, because it directly follows upon the determination of FDR's Administration to crack down on the corruption in the financial sector.

Glass-Steagall split commercial banking from brokerage/investment banking. Any financial institution engaging in both activities either had to split into two entities, or forego one or the other activity. No commercial bank was allowed to own an investment bank, and vice versa. Sections 16 and 21 of the Act stated that no commercial bank could engage in the business of "issuing, underwriting, selling, or distributing, at wholesale or retail, or through syndicate participation, stock, bonds, debentures, notes or other securities." (The exception is that commercial banks could sell and underwrite U.S. government bonds.) No commercial bank could underwrite, deal with, trade, or possess for its own account, securities—since that was the domain of the investment banks. Conversely, no investment bank could take individual small customer deposits, which was the domain of the commercial banks.

To counter some of the other practices of the 1920s, the bill also forbade any bank officer from borrowing from his own institution.

Provisions Not Arcane

This enforced separation of banking activities may at first seem arcane; but it actually addresses two very important matters. First, if a single institution is allowed to carry out commercial banking and investment banking (and insurance) under one roof, a very great amount of power is concentrated in that institution's hands. Today, if the repeal of Glass-Steagall were combined with the repeal of the McFadden Act—which forbids interstate banking—the United States could rapidly consolidate to only 15 to 20 super-institutions, controlling every aspect of America's financial life. Such a process was advancing rapidly in the 1920s, and Glass-Steagall helped to halt it.

Second, by placing different pools of money in a single institution—pools from commercial banking, from investment banking, from insurance—one is creating the temptation that that institution will commingle the funds, and use them for whatever purposes it pleases. This violates a basic tenet of banking. A commercial bank is, by definition, simply a deposit-taking institution. An individual who puts his money into a savings or checking account in a commercial bank, expects some interest, but is putting the funds there for safe-keeping, not for investment, which is the purpose of an investment bank/brokerage house. The individual does not want the funds commingled with other funds without permission.

During the 1920s, precisely these principles were grossly abused; banks were building up enormous power, and they were using funds as they saw fit. It was this abuse, as Franklin Roosevelt and other patriots saw, that had contributed mightily to the 1929-32 stock market crash, the breakdown of the banking system, and the physical-economic depression which had left millions destitute.

The bill carried another useful provision. It created the Federal Deposit Insurance Corp. (FDIC), which gave Federal insurance for citizens' bank deposits up to a certain amount, for the first time in the nation's history. The FDIC announced that starting July 1, 1934, all deposits under $10,000 would be insured 100%; deposits in the range of $10,000 to $50,000 would be insured 75%; and deposits of $50,000 or larger would be insured 50% (today, all deposits up to $100,000 are insured 100%).

Regulation Needed Now More Than Ever

When the Glass-Steagall Act became law, the bankers understood that an important part of the cycle of the 1920s was being broken. W.C. Potter of the Morgan Bank-controlled Guaranty Trust characterized the proposal as "quite the most disastrous" he had "ever heard." The American Bankers Association led the fight against the bill, "to the last ditch," in its president's words.

Today, the bankers argue against the Glass-Steagall regulations with the lie that they are "outmoded." Ironically, the exact opposite is true: Such regulation is needed now more than ever. While, up to now, the banks have not been able to unrestrictedly commingle commercial banking, investment banking, and insurance, they have nonetheless built up practices that are as deadly as anything that existed during the 1920s.

All rights reserved © 2003 EIRNS