The chance of the banking deregulatory locomotive – which is ready to leave Washington Station when Donald Trump is inaugurated – running off the tracks is high.
If that happens, the train – including big banks, capital markets, consumer protections, and the whole American economy – could crash and burn.
America’s been taken down the financial services deregulation path many times before. Everything goes well for a while, and sometimes a good while… But eventually the embers of greed that fuel financial services gamers turns into a conflagration, consuming everything in sight.
I’ve got an easy, five-step approach to avoid catastrophe and make deregulation great again.
But before I show you, I want to talk about what usually goes wrong with deregulation juggernauts – why what can happen always happens.
And most importantly, what the American public must demand of our new President and his lieutenants to ensure we’re not headed off another cliff…
Banking Regulation Is a Reaction to Bad Behavior
First, it’s instructive to understand that the regulation of banks and financial services in the United States has never been arbitrary or capricious. All the rules and regulations that have ever been put in place have resulted from what’s gone wrong – from the banks and the greed-mongers screwing up.
In other words, if banks didn’t blow themselves up on a regular basis throughout the history of our republic (and in the process blow up depositors, borrowers, businesses and the economy), there wouldn’t be any need for the seemingly over-the-top regulations financial services companies subsequently try and wrangle out of.
Take the U.S. Banking Act of 1933, more commonly known as Glass-Steagall (named for Senator Carter Glass and House Banking and Currency Committee Chairman Henry Bascom Steagall, who shepherded the Act through Congress).
Glass-Steagall became the law of the land on the heels of 5000 banks failing between 1929 and 1933. Those failures hit depositors with more than $400 million in losses. Things were so bad that President Franklin Roosevelt took the extraordinary step of shutting down the entire banking system for four days to calm the public and stem costly bank runs.
Prior to the 1933 Act banks were free to traffic in securities. But a congressional investigation led by prosecutor Ferdinand Pecora unearthed a culture of recklessness, cronyism, and fraud in the use of depositor funds and in the promotion of securities for sale to the public.
A top executive of Chase National Bank (the precursor of today’s JPMorgan Chase) enriched himself by short-selling his own bank’s shares during the stock market crash. National City Bank (now Citigroup) took millions of dollars of failed loans to several Latin American governments, packaged them as securities, and unloaded them on unsuspecting U.S. investors.
That’s what spawned the encompassing wet blanket regulation regime known as Glass-Steagall – it was all because of what the banks did.
But old rules don’t always make sense when the economic landscape expands.
Round Two: Lessons from 1980
The economy expanded rapidly after World War II. The 1950s saw extraordinary growth of the economy and America’s middle class. The 1960s spawned the seeds of inflation when the Johnson administration payed for the Vietnam War by having the Federal Reserve print money (because Vietnam wasn’t a declared war, which would have to be funded by an act of Congress, it was a “police action”).
At the same time, Johnson launched his Great Society with all its social services, which inflated the budget and country’s deficit. In the 1970s, the Arab oil embargo and the quadrupling of oil prices triggered uncontrollable “stagflation,” sending interest rates through the roof.
It was time to deregulate banks and free them to better serve a public in need of credit.
The Depository Institutions Deregulation and Monetary Control Act of 1980 was just the thing. It allowed banks to merge across state lines, eliminated the interest rate cap banks could pay depositors, created “NOW” (negotiable order of withdrawal) savings accounts with check-writing, lifted deposit insurance from $40,000 to $100,000, allowed credit unions and savings and loans to offer checkable deposits, and it allowed institutions to charge any loan interest they could.
Most of those changes were long overdue and good, in general, for the country.
But deregulation went full bore with the Garn-St Germain Depository Institutions Act of 1982.
Shepherded through Congress by Donald Regan, the former head of Merrill Lynch Pierce Fenner & Smith, who became President Ronald Reagan’s Treasury Secretary in 1981, deregulated savings and loan institutions (whose assets were a bunch of 5% mortgages while their cost for money was 20% after Fed Chairman Paul Volcker raised interest rates starting in 1979). The 1982 Act let banks offer adjustable rate mortgage loans, as some critics have said, “leading the safe and staid home mortgage business right into the casino.”
The new legislation didn’t solve the problems of the thrifts. On the contrary, the bill turned the modest-sized troubles of savings-and-loan institutions into a catastrophe that saw the failure of 747 institutions, many of them because of fraud, and cost taxpayers $132.1 billion.
With another bad genie back in his dark bottle, another period of calm ensued.
Only this time modernization and computers and things the world had never seen before made the old landscape look like a mud field the forces of capitalism shouldn’t wade through.
In the late 1990s a new flag-bearer for deregulation, former Goldman Sachs CEO, Treasury Secretary, and greed monger Robert Rubin pushed through the Financial Services Modernization Act of 1999, also known as the Gramm-Leach-Bliley Act (GLBA).
The crazy thing about the GLBA was that it wiped away the last vestiges of the old Glass-Steagall Act, which made the illegal merger in 1998 of Citibank and Travelers Insurance (which became Citigroup) legal.
The merger, a violation of the Glass-Steagall Act and the Bank Holding Company Act of 1956, got a temporary waiver form the Federal Reserve in September 1998. Less than a year later, GLBA was passed to legalize those types of mergers on a permanent basis. The law also repealed Glass-Steagall’s conflict of interest prohibitions “against simultaneous service by any officer, director, or employee of a securities firm as an officer, director, or employee of any member bank”.
And then Robert Rubin went on to earn over $100 million at Citigroup after he left the Treasury. He left Citi after the too-big-to-fail bank became technically insolvent in 2008.
Those are just the most recent history lessons to be taken from our not so far off past.
So here we are again, with the deregulation train getting ready to pull out of the station.
As Yogi Berra would say, “It’s like deja vu all over again.”
Only this time we should know exactly what to do. It’s easy – just five simple things…
Five Ways to Make Deregulation Great Again
1) Get rid of the Federal Reserve System. It’s a private central bank, a criminal enterprise that backstops the too-big-to-fail banks when they crash. Without a Federal Reserve there would be no downward manipulation of interest rates that allows banks to extend credit to anyone dead or alive and cause the bubbles and bank failures the Fed has to clean up with taxpayer money. The Fed could be replaced by a computerized version of the Taylor Rule that adjusts the money supply in real time according to economic expansions and contractions.
2) Reintroduce Glass-Steagall.
3) Eliminate Dodd-Frank – It’s way too complicated, and for good reason. It was written mostly by bank lobbyists so banks could dance in between the 1500 pages of grey writing.
4) Turn banks into utilities. Require them to have “liquid” (able to be sold with less than a 10-15% haircut within 30 days) capital reserves that scale up with the amount of “assets” they carry. For example, banks with $25 billion in “assets” (define them mathematically and compartmentalize them by maturity and liquidity) might have a 20% reserve requirement, banks with assets of $50 billion a 30% reserve requirement, and banks with more than $75 billion in assets a 40% reserve requirement.
5) Rewrite all remaining regulations into black and white rules to make it easy to convict and jail criminals for acts that are clearly identified as criminal.
It really is that simple.
If you agree with me, write, email, text, or tweet the President-elect, his army of deregulators, and your member of Congress so that while they’re making America Great Again they don’t screw us over to enrich themselves.
If that’s the track the deregulation locomotive runs down, we’ll get our free markets back and eliminate the boom and bust cycles caused by the Federal Reserve and its big swinging banks.