A Return to Glass-Steagall Is A Terrible Idea

Sens. John McCain and Maria Cantwell want to bring back Glass-Steagall to prevent another financial crisis. From Bloomberg:

“Under our proposal, too-big-to-fail banks would be forced to return to the business of conventional banking, leaving the task of risk taking or management to others,” McCain, an Arizona Republican, said at a Washington news conference. A former bank regulator said splitting up companies is “crazy.”

McCain and Cantwell, a Washington Democrat, join other lawmakers in Congress proposing to reinstate the 1933 law, repealed a decade ago by the Gramm-Leach-Bliley Act that led to a rise in conglomerates including Citigroup Inc., JPMorgan Chase & Co. and Bank of America Corp. active in retail banking, insurance and proprietary trading. Legislation to reinstate the ban was introduced today in the House.

Progessive economists are sure to be thrilled, but it is a terrible idea.

First, the economic growth America experienced over the past decade was due in large part to repealling Glass-Steagall. While a lot of people have lost their homes, they and many more never would have gotten them in the first place without the increase in competition that came about through Gramm-Leach-Bliley.

Second, just because banks became over leveraged with weak lending standards and bad risk models, doesn’t mean they had too. While the repeal of Glass-Steagall contributed to creating an environment where the crisis happened, it wasn’t a foregone conclusion from the deregulation bill. Banks could have still acted more prudently with the advantages of Gramm-Leach-Bliley.

Third, European markets, which were much more intensively regulated and had Glass-Steagall-styled regulations were not protected from the crisis. It should not be simply assumed that a return to Glass-Steagall will be better for the economy.

Read Bloomberg‘s whole story on this.