26th March 2009

Burning down the house

posted by saurabh in Echo-gnomics, Galloping idiocy |

J. Schwarz over at A Tiny Revolution points us to a 1999 New York Times article on the repeal of a portion of the Glass-Steagall Act of 1933, by the Gramm-Leach-Bliley Act, specifically the portion that prevents banks from offering both savings and investment services. For those more cognizant than I this is probably old hat; you others playing catch-up, like me, might want to read this article by former World Bank economist and Nobel Prize winner Joseph Stiglitz, where he attributes the current mess to five pieces, including the passage of the Gramm-Leach-Bliley act, legalizing maneuvers and consolidation between banks and investment houses that had already occurred (illegally), such as the merger of Travelers Group and Citibank to make Citigroup:

The most important consequence of the repeal of Glass-Steagall was indirect—it lay in the way repeal changed an entire culture. 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. When repeal of Glass-Steagall brought investment and commercial banks together, the investment-bank culture came out on top. There was a demand for the kind of high returns that could be obtained only through high leverage and big risktaking.

Of course, once you’ve let the bull out of the paddock, it’s not going to come back in willingly…

UPDATE: See also this excellent Matt Taibbi article documenting this mess with AIG as a case-study.

There is currently one response to “Burning down the house”

  1. 1 On April 20th, 2009, hapa said:

    the stiglitz (which i red and fergot) would have been very helpful when i was mangling and misrepresenting everything ~at~ that nice man on saturday night, although nerves know no limits of stupidity

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