Via Simon Johnson at The Baseline Scenario, this conversation with Paul Volcker inspires a few thoughts.
The point of retaining the post-Glass-Steagall world is to enable entities like Citigroup, BAC, and JPM to use federally-insured deposits as capital for higher-risk trading and investment activities. The problem is that these are the activities which generate yields.
Frankly, I look out at the banking system and I see nothing that is making capital available for healthy economic activity. The capital markets are healthy and mature enough to supply the needs of large businesses. This has been true in the US for decades, and during the course of 2009 it suddenly became true in Europe as well.
So my basic attitude to the large commercial banks is: screw ‘em. I really don’t much care if they live or die. But what would happen if we re-instituted Glass-Steagall and made it illegal for depository banks to do anything but good old-fashioned commercial and retail lending?
What would happen is that all the large banks would lean over into the broker-dealer part of the space, and leave depository institutions with massive portfolios of US Treasury debt, and not much more. (That’s what happened in 1933 after the original Glass-Steagall Act was passed.) It would be the biggest enabler of government expansion I can imagine.
Why? Because the depository institutions in the last few years have been investing primarily in vehicles and syndicates that eventually funneled capital into securitizations, derivatives, and other kinds of bond-like assets. If you plug that channel, then banks will invest in nothing, and hedge funds will get money by raising more equity and borrowing from non-US banks.
Why won’t depositories respond by increasing consumer credit? Because they don’t get paid for taking stupid risks like that. Government can easily force them to, but the price will be far higher interest rates for consumers and small businesses.
But consumer and small-business credit today already is high-priced. Given that it’s all-but-unavailable, its price can in many cases be considered infinite. So how does it get worse from there? By choking off the flow of credit for an even longer period of time. This too is an enabler of government expansion, because it won’t be long before the people are clamoring for a “public option” for mortgages, car loans, student loans, small-business lines, et al.
I can still remember back in the spring, when it was a serious option to fully nationalize 8000 US banks in a Sweden-like maneuver. The urgency of the moment passed and we never got close to a full nationalization, but it’s hard to see how where we are is any better.
