The Gramm-Leach-Bliley Act (GLBA) of 1999, repealed the portion of the Glass-Steagall Act of 1933 that prohibited banks from consolidating with investment houses while the GLBA also expanded the influence of the Community Reinvestment Act of 1977 which requires banks to make loans to higher-risk borrowers. Although the lethal economic brew imposed by the GLBA was not exposed immediately after its passage due to the rapid appreciation of both the housing and securities markets shortly thereafter, the financial crises that began to shake the world’s economic foundations in late 2007 caused many experts to begin to point back to this piece of 1999 legislation as its foremost catalyst.

The Glass-Steagall Act

Enacted in the wake of the Great Depression, the Glass-Steagall Act established the Federal Deposit Insurance Corporation (FDIC) and established a variety of banking reforms that including a provision prohibiting banks from owning other financial companies. After the Untied States Congress held numerous hearings to investigate the causes of the 1929 market crash, it was determined that the mixing of the commercial and investment banking industries in the 1920s generated a high degree of fraud and conflicts of interest in securities activities. The 1933 Congress also prophetically reasoned that due to the inherent risks associated with securities markets, securities losses could cause capitalization problems for banks and threaten the integrity of bank deposits. In turn, because the federal government insures these deposits, they would be responsible for paying tremendous sums if banks were to deplete deposits as a result of securities losses.

The Community Reinvestment Act

The purpose of the Community Reinvestment Act of 1977 (CRA) was to encourage commercial banks to make loans in low and moderate income areas and to prohibit the discriminatory refusal of banks to lend in these neighborhoods known as "redlining". Subsequent CRA regulatory changes, such as implementing a quota-based lending requirement system for banks, resulted in $467 billion in loans by CRA lenders to low and medium income borrowers between 1993 and 1998 according to statistics reported by the U.S. Department of the Treasury in April of 2000. The Treasury Department further reported that loans to these borrowers rose by 39% in the same period of time. In an article for the New York Post, noted economist Stan Liebowitz claimed that the expansion of the CRA’s reach in the 1990s encouraged a loosening of lending standards throughout the banking industry. Similarly, Austrian economist Russell Roberts wrote in a Wall Street Journal essay that CRA promoted low-income housing by pressuring lending institutions to lend to people who would otherwise be rejected as a bad credit risk.

The Gramm-Leach-Bliley Act

After years of lobbying by the banking industry to repeal the provisions of Glass-Steagall that erected a wall between commercial and investment banks, in 1999 President Clinton’s Treasury Secretary Robert Rubin took the lead in urging fellow liberals in Congress to join their counterparts across the aisle to ultimately pass the GLBA by bipartisan votes of 90-8 in the Senate and 362-57 in the House of Representatives. President Clinton signed the bill into law on November 12, 1999, but did so only after demanding that the GLBA require that mergers between commercial banks and investment houses be strictly examined by the regulatory bodies responsible for the CRA. As a result, banks could not make the seemingly lucrative acquisition of investment houses without meeting the requisite quota of higher risk CRA loans, which only added more incentive for banks to make high-risk loans and delve deeper into the sub-prime mortgage business.

The Creation of the First Financial Supermarket

Citibank, having been the lead lobbying force behind the repeal of Glass-Stegall, had attempted to permanently merge with the three investment houses of Smith-Barney, Shearson and Primerica for several years. Upon Glass-Stegall’s repeal in late 1999, Citibank immediately made the mergers permanent under a new financial supermarket known as Citigroup. Former Clinton Treasury Secretary Robert Rubin was immediately rewarded for his efforts as the key proponent for the repeal of Glass-Steagall in November of 1999 by being appointed to the Board of Directors at Citigroup just as the Clinton Administration was leaving office in December of that same year. In fact, Forbes reported that Rubin received over $17 million in compensation and $33 million in stock options before resigning as Chairman of the Board for a now financially distressed Citigroup in January of 2009. Not so surprisingly, Marketwatch listed Rubin as one of the "10 most unethical people in business" shortly thereafter.

Banking Fusion Leads to Economic Fallout

As feared by the supporters of Glass-Steagall and critics of the CRA, Citigroup’s losses from securities activities related to the sub-prime mortgage crisis and the rampant financial distress that followed resulted in tens of billions of dollars of federal government support. Unfortunately, Citigroup was not alone in the post-1999 merger, securities losses and government bailout category: Wachovia Bank acquired both A.G. Edwards and Golden West, Bank of America purchased Merril Lynch and Countrywide, J.P Morgan bought both Chase and Bear Stearns, and the list goes on.

When the GLBA removed the protective walls between commercial and investment banks that Glass-Steagall had previously held firmly in place, there was nothing preventing bank dealmakers from colluding with investment house analysts to show positive results for clients to enhance their collective bottom lines. Banks no longer needed to concern themselves with the scrutiny imposed by neutral third-party security analysts when the level of due diligence from analysts within their own company is much more favorable. Investment houses could freely mix sub-prime CRA mortgage debt with normal prime loans into a collateralized debt obligations (CDOs) before selling them off as mortgage-backed securities through a different arm of the same financial institution. These financial supermarkets could actually make their requisite quotas of high-risk CRA loans and pass them on to investors with greater ease.

The transparency and scrutiny created when one company investigates, negotiates and ultimately purchases from another company was dissolved. Only those with conflicts of interest were permitted to weigh in, but why should they when they all stand to make the enormous profits realized in the financial industry prior to 2008? Hopefully, once the federal government completes its infusion of trillions of dollars into these ailing financial supermarkets, it can start to fix the core problem by repealing the GLBA and rebuilding Glass-Steagall’s walls.