History is the key to understanding U.S. banking law and regulation. History also repeats itself. Professor Art Wilmarth’s new book sheds new light on these oft-repeated propositions. It tells a multi-layered, richly textured story of how the rise of U.S. universal banks – diversified financial conglomerates clustered around publicly-backed banks – led both to the Great Depression of the 1930s and the Great Recession of the post-2008 era. On that basis, it makes a case for breaking up today’s universal banks and shadow banks and reestablishing the legal wall separating banking from the capital markets.
The book has been eagerly anticipated by all of us in the banking law and financial regulation academic community. Professor Wilmarth has devoted much of his long and fruitful scholarly career to studying the dysfunctional effects of excessive conglomeration in the U.S. banking sector. His knowledge of the subject is unparalleled (as some of us often joke, Art has probably forgotten more banking law than we will ever manage to learn!). Taming the Megabanks brings all of that immense knowledge into a compelling narrative of a decades-long process that gave us today’s corporate behemoths: Citigroup, JPMorgan, Bank of America, and a few other familiar names.
Professor Wilmarth traces the origins of America’s universal banks back to the late nineteenth-early twentieth centuries, when large commercial banks began expanding into lucrative securities underwriting and trading. The book shows how, in the wake of the World War I and through the “roaring 1920s,” commercial banks’ competition with investment banks fueled incredible speculation in stocks and bonds, which ended in the momentous market crash of 1929. It was in response to the Great Depression that followed it that Congress adopted the Glass-Steagall Act of 1933, which prohibited deposit-taking banks to engage in, and to affiliate with, securities and other financial services firms.
Professor Wilmarth gives a fascinating account of the “long and tortuous journey” that culminated in the passage of the statute. His description of banking industry executives’ public appeals to “service to community” and “market efficiency,” in particular, made me chuckle with weary recognition. It is, of course, hardly surprising that big banks fought the proposed prohibition on mixing deposit-taking with speculative trading with all their might. In subsequent decades, they worked even harder to get around and ultimately to dismantle the Glass-Steagall regime. Professor Wilmarth walks the reader through the intricate sequence of legal and regulatory actions from the early 1980s on, which gradually undermined the prohibition on banks’ securities trading and underwriting activities, leading to the formal repeal of that prohibition in the Gramm-Leach-Bliley Act of 1999. The book discusses the growth of mortgage securitization and derivatives markets, along with the growth of “too big to fail” financial conglomerates, driving the “toxic credit bubble” that finally burst in the fall of 2008.
Drawing the many parallels between the Great Depression and the post-2008 Great Recession, Professor Wilmarth focuses on the fundamentally different character of the legislative response to these two situations. He criticizes the Dodd-Frank Act of 2010 for its failure to restore the institutional wall between publicly-backed banks and the increasingly unstable shadow banking sector. He concludes the book by arguing in favor of adopting a new Glass-Steagall Act, as the key reform necessary to diminish systemic risks in the financial system, reduce the size and disproportionate market power of bank-centered conglomerates, and protect the public from devastating financial crises.
Undoubtedly, not everyone will agree with this idea. Some may find Professor Wilmarth’s proposal too radical – and perhaps a bit anachronistic. Others may point out that it is not exactly novel: in recent years, there have been multiple calls for, and attempts to introduce, a new Glass-Steagall Act. Yet, everyone with an interest in, or desire to understand, U.S. financial regulation and prospects for reform should read Professor Wilmarth’s book. It is incredibly well-researched, densely packed with facts, deep, and thoughtful. It makes a strong case for an important structural change. And it is bound to be part of the canon.