Updated July 20
Econintersect: Last week Sen. Elizabeth Warren, D MA, appeared on CNBC Squawk Box. The 5 1/2 minute segment (after the Read more >> jump) shows the incredulous business channel hosts as Warren tries to explain the logic of her proposed legislation which would re-institute some of the provisions of the 1933 Glass-Steagall Act. Glass-Steagall regulated depository banking for over 50 years without any major banking crisis occurring. Starting in the 1960s banking reforms began to break down the barriers that rigorously separated depository from investment banking defined under Glass-Steagall. The changes picked up speed under Jimmy Carter and even more so after the Ronald Reagan election in 1980.
Video available after the Read more >> jump.
The unprecedented 50-year period of freedom from major bank failures was ended when the 7th largest bank in the U.S. (Continental Illinois) went bankrupt in 1984 as a result of speculative loans to oil and gas companies during the oil and gas boom of the late 1970s and early 1980s. The bank became the first TBTF (too big to fail) bank and was taken over by the U.S. government. The remnants of Continental Illinois were eventually sold back into private hands and became part of what is today Bank of America.
The problems continued with the deregulation of Savings & Loans (S&Ls) in 1980 which led to growth of creative accounting schemes to hide insolvent conditions that resulted from the rapid interest rate changes that occurred 1979-1984. From Wikipedia:
William K. Black wrote that Paul Volcker as Chairman of the Federal Reserve helped create a criminogenic environment for the Savings and Loans in 1979 by doubling the interest rate (to reduce inflation): S&Ls made long-term loans at fixed interest using short-term money. When the interest rate increased, the S&Ls could not attract adequate capital and became insolvent. Rather than admit to insolvency, some CEOs of S&Ls became “reactive” control frauds by inventing creative accounting strategies that turned their businesses into Ponzi schemes that looked highly profitable, thereby attracting more investors and growing rapidly, while actually losing money. The push of the Reagan administration for deregulation made it harder to detect such fraud. This had two effects: it meant that the fraud continued longer and substantially increased the economic losses involved, and it attracted “opportunistic” control frauds who were looking for businesses they could subvert into Ponzi schemes. For example, Charles Keating paid $51 million from Michael Milken‘s junk bond operation for Lincoln Savings and Loan, which at the time had a negative net worth exceeding $100 million.
The final vestiges of Glass Steagall were eliminated in 1999 when President Bill Clinton signed the Gramm-Leach-Bliley Act.
Sen. Warren tries to explain this history to the CNBC gang who clearly aren’t buying her message.
Update 20 July: CNBC has blocked the video on YouTube (for “copyright violations”). A longer discussion can be viewed on the CNBC website.
Sources:
- Sen. Warren on CNBC’s “Squawk Box” (YouTube,12 July 2013)
- Wikipedia sources linked in the article.
