Breaking Glass-Steagall

Despite special-interest maneuvering and congressional in-fighting, the Glass-Steagall Act, a Depression-era law separating commercial and investment banking, appears headed for extinction.

The economic case for repeal is overwhelming. Permitting banks to underwrite corporate equity and debt would give new and expanding businesses more ways to raise money. Letting banks offer insurance and real estate services would increase competition and provide consumers with lower prices. Deregulation would also make U.S. banks more competitive with the foreign banks that dominate international finance.

Last March, the Senate passed a bill to let bank holding companies offer most investment banking services, including transactions in mutual funds and corporate bonds. A similar bill was stalled in the House by squabbling between Reps. Fernand St Germain (D–R.I.) and John Dingell (D–Mich.) over whose committee had jurisdiction. St Germain wasn't reelected in November, but his replacement as chairman will likely continue the battle.

While Congress prattles, the Federal Reserve is poised to take action. The Fed enforces and interprets Glass-Steagall restrictions, and over the last few years it has expanded banks' power to engage in securities transactions. In 1987, the Fed punched a large hole in the wall separating commercial and investment banking when it ruled that separate subsidiaries of commercial banks could underwrite certain securities—so long as the subsidiaries weren't "principally engaged" in underwriting. (The "not principally engaged" clause was in Glass-Steagall, but only in the last three years has the Fed clarified it.)

In '87, the Fed defined "not principally engaged" as limiting underwriting to 25 percent of an affiliate's business. But observers believe it is prepared to stretch this limit to 49 percent, as well as expand the range of securities that affiliates can handle. In addition, the Fed might rule that some real estate services are "closely related to banking" and allow banks to move into those fields. However, Congress guards its territory and may keep the Fed from deregulating.

"For the last six years Congress has debated Glass-Steagall repeal," says Michael Becker, director of Citizens for a Sound Economy's financial services project. "Intellectually, we have won the argument. It probably won't occur this year, but deregulation seems inevitable."