The news late Wednesday that Morgan-Stanley was seeking a merger with Wachovia, which would leave Goldman Sachs the lone major Wall Street investment bank still standing independent, prompts a revisiting of a question posed by Time's Justin Fox on Monday: "Aren't You Sort of Glad Congress Repealed Glass-Steagall?"
The Depression-era legislation separated commercial banking from investment banking, and many leftwing critics of deregulation believe that its repeal, in 1999, set the stage for the disastrous behavior leading to the current Wall Street crisis. Fox disagrees, arguing:
Without Glass-Steagall repeal, Bank of America wouldn't be able to buy Merrill Lynch, the only bit of arguably positive news to come out of this crazy weekend. And more generally, it is looking like investment banks that don't have big consumer banking franchises aren't up to the challenge of surviving modern-day financial crises.
Fox further elaborated his thesis in a smart piece published Wednesday, "Roots of a Financial Crisis: While Regulators Fiddled." But in the New York Times, reporters Ben White And Eric Dash drop a fascinating counter argument into the middle of their account of the challenges now facing Goldman Sachs and Morgan Stanley, "As Fears Grow, Wall St. Titans See Shares Fall."
Merrill Lynch rushed into the arms of Bank of America this week in a deal that in some ways harked back to the past. During the Depression, Congress separated commercial banks, which take deposits and make loans, from investment banks, which underwrite and trade securities. The investment banks were allowed to do business with less oversight, while commercial banks operated with tighter supervision.
But after Congress repealed those Depression-era laws in 1999, commercial banks began muscling in on Wall Street’s turf. As the new competition whittled down profit margins, investment banks used more of their capital to trade securities and also began developing financial derivatives to fuel profits.
I haven't seen the argument made exactly that way before: The repeal of Glass-Steagal allowed commercial banks to compete with investment banks, which forced investment banks to take on more and more risk as they strove to maintain their traditional profit margins. Until finally they took on too much risk, and the party ended.
And now the era of the super-bank begins, again.