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Home      Articles by Elie Elhadj      -------- Credit 101 for Bankers- Mark II
 
 
 
 
 
 
To Save Commercial Banking From Gamblers, Re-enact Glass-Steagall Act - Mark II
 
Updated: February 2010
 
 
Bloomberg reported Barclays Plc President, Robert Diamond, on September 15, 2009 as telling the British Broadcasting Corporation’s Radio 4: “There isn’t any banking without risk” and that anyone who can’t take chances should leave the industry. “We need banks that are confident and banks that are willing to take risks,” to “get the economy going again.” Anyone unwilling to take risks should “get out of banking,” he added.
 
These words are disconcerting. Mr. Diamond's advocacy of risk-taking while the world is still suffering from the nasty effects of the worst financial meltdown since the Great Depression, caused primarily by the recklessness of risk-takers, is breathtakingly irresponsible, arrogant, insensitive, and disrespectful to the millions of people who lost their livelihood and to the investors who lost their life's saving in the East and the West. Mr. Diamond's words, however, are not surprising. He echoes the risk-taking culture of the investment industry, to which he belongs, instead of the culture of bankers. A banker would echo, instead, the words of U.S. Comptroller of the Currency and later Secretary of the Treasury, Mr. Hugh McCulloch, who wrote in December 1863 to all national banks what has become like a banker’s bible:
 
“Let no loans be made that are not secured beyond a reasonable contingency. Do nothing to encourage speculation. Give facilities only to legitimate and prudent transactions.
“Distribute your loans rather than concentrate them in a few hands. Large borrowers are apt to control the bank.
“If you have reasons to distrust the integrity of a customer, close his account. Never deal with a rascal under the impression that you can prevent him from cheating you.
“Pay your officers such salaries as will enable them to live comfortably and respectably without stealing, and require of them their entire services. If an officer lives beyond his income, dismiss him.
“The capital of a bank should be reality, not a fiction.
“Pursue a straightforward, upright, legitimate banking business. ‘Splendid financing’ is not legitimate banking, and ‘splendid financiers’ in banking are generally either humbugs or rascals.”
 
Investment companies are not banks. Investment companies are prohibited from taking customers' deposits and from using the word “bank” in their name. Banks are the only institutions mandated to take customers' deposits. While it is true that “there isn’t any banking without risk,” banks have evolved a culture of regulation, controls, caution, and aversion for excessive risk-taking in order to safeguard society’s saving.
 
For some sixty years banks were kept separate from investment firms. The repeal in 1999 of the Glass-Steagall Act of 1933 in the US removed the wall that separated banks from non-bank financial companies.  Post Glass-Steagall,  banks were cobbled together with investment, insurance, and brokerage companies. Non-bankers, “rascals” and “splendid financiers” took control of people’s saving. Together, gambling instincts and a blinding ambition to get rich quickly through claiming millions of dollars annually in bonuses engendered an era of recklessness and go-go banking, contaminating the once cautious commercial banking culture and bringing the entire banking systems in the United States, United Kingdom, and many other countries close to collapse, had it not been for the hundreds of billions of dollars in taxpayers' rescue money.
 
Society’s saving should be protected from gamblers, rascals, and splendid financiers. 

Glass-Steagall Act should be reinstated. It is significant that five former US Treasury Secretaries, Republicans and Democrats, said in a letter to The Wall Street Journal in February 2010 that banks benefiting from public support by means of access to the Federal Reserve and FDIC insurance should not engage in speculative trading activities unrelated to essential bank services.
 
Politicians, bankers, and lobbyists who argue against the reinstatement of Glass-Steagall because no major bank had collapsed in 2008--only investment companies, like Bear Stearn and Lehman Brothers, ignore important facts. First, the major banks would have collapsed had it not been for decisive government rescue. US Secretary of the Treasury, Timothy Geithner revealed in December 2009 that “the entire U.S. financial system and all the major firms in the country, and even small banks across the country, were at that moment at the middle of a classic run, a classic bank run". Geithner said further that "without the government’s extraordinary rescue measures, the entire financial system was on the verge of collapse", and that "none of them would have survived” had the government stood aside and let the crisis run its course.  Secondly, the collapse of investment companies usually happens because such companies do not have a lender of last resort nor do they have a customer deposit base to rely upon when their loans mature at times of tight liquidity and no lender would roll-over those maturing loans or extend new credit. On the other hand,  yesterday's investment companies that had merged with banking institutions and became investment departments within those banks were protected by trillions of dollars in customers deposits plus central bank's protection as lender of last resort, notwithstanding the damage that these investment pockets had inflicted on the financial integrity and the net worth  of their parent banks, which forced the government to come to the rescue in 2008. 

I would like to recount a personal experience I had some three decades ago, which showed me a most vivid example of how sacred protecting other people’s money can be. This experience was at the hand of a self-taught man, Saleh Abdulaziz Al-Rajhi in Riyadh. Over lunch, at the home of his brother Sulaiman, an assistant of Sheikh Saleh proposed to him a profitable transaction that seemed innocuous enough in its risk profile. Sheikh Saleh, with his calm dignified manner responded: “But this is our depositors’ money. We cannot do anything risky with it”. Wow! Just compare this attitude with the kind of loud calls to risk-taking by some of those who have the audacity in this Post-Glass-Steagall age to call themselves “bankers” and who demand that anyone unwilling to take risks should “get out of banking”.