McCain and Warren Team Up In Quixotic Effort To Bring Back Glass-Steagall

Since the financial crisis in 2008 a desperate cry has been made by many economic and public policy experts: Bring back the Glass-Steagall Act! The demand has graced the pages of hallowed financial publications like the Wall Street Journal and Forbes.  Groups of average Americans have formed Facebook groups to push the Act’s revival. It was name checked in the arguably amorphous list of demands by Occupy Wall Street movement of two years ago. Multiple Nobel Prize Winning Economists have lamented its repeal.

So, a lot of people were likely delighted by the recent news that two unlikely allies, Senator John McCain (R-AZ) and Senator Elizabeth Warren (D-MA) have mounted an attempt to bring back many of the features of Glass-Steagall.  These same people will also be equally disappointed when the bill is slaughtered before it even gets a vote.

Why am I so confident (or cynical might be the right word) that the bill won’t see the light of day? For a couple of reasons really, but let’s first back up and look at what Glass-Steagall was.

Following the Stock Market Crash of 1929 and the ensuing economic devastation, Congress pulled together and passed the Banking Act of 1933. This bill established the Federal Deposit Insurance Corporation (FDIC) and set new regulations on speculation and banking. Included in the bill were provisions set forth by Senator Carter Glass (D-VA) and Henry Steagall (D-AL) that created a hard wall between depository and investment banks—that is, under this provision a low-risk commercial bank that took customer deposits, issued receipts and lent money would not be able to make the high risk financial maneuvers that banks specializing in securities and investments could. This was to avoid the potential loss of said deposits in failed investment strategies since those deposits were never explicitly made by customers for the purpose of speculation.

Blocking the unnecessary exposure of commercial deposits to the wild valuation swings of speculative investment activities should be common sense considering the aforementioned FDIC program and its responsibility to insure commercial bank deposits. As Nobel Prize Winner in Economic Sciences Joseph Stiglitz pointed out in 2009:

“Commercial banks are not supposed to be high-risk ventures; they are supposed to manage other people’s money very conservatively. It is with this understanding that the government agrees to pick up the tab should they fail. Investment banks, on the other hand, have traditionally managed rich people’s money—people who can take bigger risks in order to get bigger returns.” 

But common sense and profitability don’t always overlap and the financial industry tends to be more interested in the latter. They weren’t concerned about the FDIC being on the hook if things went sour. They simply wanted the ability to merge investment and depository banks to tap into those commercial balance sheets for further investment leverage.

And more often than not, it seems, what the financial industry wants the financial industry gets. So, in late 1999 lobbying expenditures of roughly $300 million and years of working the back channels of Washington culminated in the financial industry getting what it wanted: a silver bullet bill—the Gramm Leach Bliley Act— that definitively erased Glass Steagall from the regulatory tool kit. Immediately, mergers between commercial and investment banks began en masse.

So, the first reason that the McCain-Warren effort to bring about a return of Glass-Steagall-styled banking regulation is largely an exercise in futility is that the financial industry simply doesn’t want it to happen. And they spread enough money around Capitol Hill and K-Street to be heard loud and clear. Just last year’s combined Commercial and Financial Banking lobbying expenditures totaled over $159 million which put it third highest on the list of total industry lobbying expenditures. That’s an undoubtedly hefty investment, but it has paid off time and time again. It worked to repeal numerous banking regulations throughout the 80’s and 90’s, it worked to finally kill Glass-Steagall in ’99 and it’s working again as the industry has largely been successful in emasculating the Dodd-Frank Act; the first attempt at wrangling in the excesses of Wall Street following the 2008 financial implosion. Let’s take a closer look at how the financial industry reacts to legislation that it doesn’t care for:

Following passage of Dodd Frank in 2010—no small miracle in itself, even with the American people considerably outraged at that point—the financial industry went into overdrive on the Hill. Their strategy was a multi-pronged approach. First, they sent in a veritable army of lobbyist to persuade Congress members to defund the regulatory agencies necessary for enforcement of the bill. In a long, fairly underreported fight, bank lobbyists outnumbered the bill’s advocates 20 to 1. They outspent the bill’s advocates by an even larger margin. They also got more face time with representatives by a margin of nearly 9 to 1. This fire-hose approach proved rather effective. In addition to cutting off significant funding, they also successfully pushed to have all of the rules and legal language of the bill written by the individual regulatory agencies themselves.

The second part of the assault was a wave of regulatory attorneys. If a regulator were to somehow successfully publish a rule, the banks would immediately take that regulator to court and, at the very least, effectively gum up the rule’s implementation for years; sometimes only over minor technicalities. One such litigator, Supreme Court Justice Antonin Scalia’s son Eugene has already filed seven of these types of suits. Long story short: Less than half of the rules that had been outlined in Dodd-Frank have been finalized. It’s basically a zombie bill; there in appearance and name but effectively dead. And the American people still have no real protections against the same economic dangers they faced from the financial industry in the fall of 2008, even as many Americans seem to be unaware or, in some cases, willfully ignorant of them.

This brings me to the next inevitable roadblock to any attempt to bring back the most important elements of Glass-Steagall. There is, in today’s Congress, an active ideological barrier to necessary and responsible financial regulation. There is a school of thought among many of the conservative members of Congress—particularly those swept in by the Tea Party Movement of the 2010 elections—that government regulation of any kind is an inherently bad thing. Regulation, they have stated time and again, places an impediment on free market capitalism which, they posit, is entirely unnecessary due to the self-correcting nature of the economic system. Of course, this assertion is absurd. After all, many of the most fervent of free market advocates were forced to recalibrate their ideology in the face of the economic destruction of ‘08, including former Federal Reserve Chairman Alan Greenspan who conceded in a House Committee hearing that there was a “…flaw in the model that I perceived is a critical functioning structure that defines how the world works, so to speak”. But those that still buy into the myth of the innate perfection of absolute free market economics will not be dissuaded regardless of these documented concessions or ample evidence to the contrary of their position.

One of the most important things that Dodd-Frank attempted to do was to impose some regulation on the real monster of the financial meltdown: financial derivatives like credit default swaps. While the housing bubble bust was the catalyst for the crisis, it was the near implosion of nearly $700 Trillion in outstanding, unregulated derivatives—ten times the GDP of all the world’s countries combined—that very nearly killed the global economy. Basically, financial institutions had made massive unofficial side bets that they simply didn’t have the capital to cover. When the bets went bad they set off a chain reaction of more bets going bad and as the reality of the situation became apparent the trust so necessary to have a functioning economy nearly disappeared overnight. Credit markets froze. People panicked. Stock Markets tumbled. Ultimately, the government had to “inject liquidity” on a never-before-seen scale to restore confidence. Considering this, some oversight of the derivatives market and the amounts of capital that financial institutions would be allowed to place in it would seem to be, once again, common sense. Think again.

A number of bills that push for the return of deregulation of derivatives have now made their way out onto the floor of the House of Representatives. A co-sponsor of one of these bills, Rep. Scott Garrett, explained his support of the bill, "Our job creators -- millions being crushed by overly burdensome Washington rules and regulations -- deserve to be on a fair, level playing field with the international community" It’s breathtaking to behold.

Not even five years after the world teetered on financial ruin and potential civil unrest and many members of Congress are once again ideologically and financially motivated to load another bullet in the chamber for round two of Global Economic Russian Roulette. Very few stand in the way and those that do are undeniably outgunned and outspent. It won’t be any different for this attempt to reinstate Glass-Steagall. What McCain and Warren (as well as Senators Angus King and Maria Cantwell) are attempting to do is undoubtedly noble but equally impossible.