Glass-Steagall Explained: What Was the Banking Act of 1933?
American citizens should know about the Glass-Steagall Act. Why? The United States has a long history of banking legislation being both created and repealed. Sometimes it can be hard to keep track of when, why, and how banking regulations came to be.
Yet understanding some of the more influential acts can help us better understand our current financial situation. That is why we are taking a look at the Glass-Steagall legislation in depth.
Everything you need to know about the Glass-Steagall Act can be found here in this “Glass-Steagall Explained” guide. We will do the following:
- Define the Glass-Steagall Act
- Explain the differences between commercial banking and investment banking (the main topics of discussion in the Glass-Steagall Act)
- Examine the historical events that brought the Glass-Steagall banking reform act about
- List everything the Glass-Steagall Act of 1933 created/mandated
- Go into the creation of the FDIC, an aspect of the Glass-Steagall banking act that was not included in the repeal of Glass-Steagall
- Discuss the eventual repeal of Glass-Steagall, how it happened, and why
- Mention how Glass-Steagall legislation may still affect us today
When you are done, you should have a solid grasp of not only a Glass-Steagall Act definition, but also an understanding of what the Glass-Steagall banking reform act did and why it matters.
Glass-Steagall Act Definition
Before we get into the history or detailed purpose behind the Glass-Steagall Act, let’s take a moment to define Glass Steagall Act. What was its main function?
Also known as the Banking Act of 1933 (we will use the terms interchangeably), the Glass-Steagall Act created the separation of commercial banking from investment banking.
The Glass-Steagall banking act was put forth by:
- Senator Carter Glass from Virginia (Democrat): Former Secretary for the Treasury
- Representative Henry Steagall from Alabama (Democrat): Chairman of House Banking and Currency Committee
Image Source: Wikimedia
President Roosevelt then signed the Glass-Steagall Act into law in 1933.
Glass-Steagall Banking Reform Act: Commercial vs. Investment Banking
In order to discuss the Banking Act of 1933 with clarity, we will frequently mention both commercial banking and investment banking.
Just as it is important to define the Glass-Steagall Act up front, it is important to make sure we all understand the differences between commercial and investment banking right away:
- Commercial Banking: This is the type of banking most people use on a daily or weekly basis. This is where you deposit your money into checking or savings accounts. Loans are also a part of commercial banking.
- Investment Banking: This is the type of banking that allows people to earn more money and provide for their futures. They offer the sale of securities (stocks, bonds, etc.). This is what you would find on Wall Street.
Don’t Miss: What Is Regulation F? Definition
History Behind Glass-Steagall Explained
Now that we have a basic Glass-Steagall Act definition, as well as commercial and investment banking, let’s take a moment to look at what events brought the Banking Act of 1933 into existence.
Though there were multiple factors leading to this financial disaster, many people felt the actions of commercial banking were mixing too frequently with investment banking practices.
As the The New York Times writes:
A widespread view was that the nation’s ills stemmed from these two types of banking having become intertwined. Problems on Wall Street rippled through the financial system to cause ordinary depositors to lose money and ordinary bank lending to dry up.
They believed that these banks were taking people’s saving deposits (commercial banking) and using that money in risky financial markets (investment banking) and promoting the securities to their customers in ways that looked like conflict of interest.
This high-risk investing is often referred to as speculation, the very thing the Glass-Steagall Act of 1933 would address.
The Birth of the Glass-Steagall Act of 1933
Since the speculative practices above were believed to highly influence the stock market crash, the Glass-Steagall banking reform act was born. This act aimed to accomplish two main tasks:
- Put an end to extreme speculative, risky activity that helped usher in the stock market crash and Great Depression
- Give the public a newfound confidence in the banks of the United States
The Glass-Steagall banking act was introduced in 1932 originally.
It faced critiques, and before a decision was made, the House adjourned. Eventually, the Glass-Steagall banking reform act was passed, and FDR signed it into law on June 16, 1933.
The Purpose of the Banking Act of 1933
So what exactly did the Glass-Steagall Act do? Let’s take a look at the specific purposes brought about by Glass-Steagall legislation, as well as some of the stipulations.
The Banking Act of 1933 successfully did the following:
- As we have discussed, the main provision of the Glass-Steagall banking reform act was that banks could only specialize in commercial banking or investment banking.
- Banks had one year after the passing of the Glass-Steagall Act of 1933 to choose between focusing on commercial banking or investment banking.
- Those who chose commercial banking after the Glass-Steagall banking reform act were not allowed to take any more than 10 percent of their income from securities.
- National banks had more regulation from the Federal Reserve System as a provision of the Glass-Steagall Act.
- The Glass-Steagall Act explained that officers of banks were no longer allowed to take loans from Federal Reserve banks.
- Banks were prohibited from selling securities (stocks/bonds) Note that under the Banking Act of 1933, however, these banks were still allowed to insure bonds that were government issued.
- Regulation Q came about with the Glass-Steagall banking reform act. This regulation did not allow banks to pay out interest payments on deposits in checking accounts. The goal was to prevent loan sharking or unethical banking practices.
Creation of the FDIC Under Glass-Steagall Banking Act
One more thing the Banking Act of 1933 brought about was the Federal Deposit Insurance Corporation (FDIC). This agency is still around today.
This provision of the Glass-Steagall Act made all banks contribute to a pool in order to protect the deposits of other banks. This would prevent people from losing all of their money if their bank failed.
As you could imagine, this aspect of the Glass-Steagall banking reform act worried big banks with more resources who thought they would have to carry the weight of all the small, rural banks.
The Federal Deposit Insurance Corporation (FDIC) is an independent agency created by the Congress to maintain stability and public confidence in the nation’s financial system by:
- insuring deposits;
- examining and supervising financial institutions for safety and soundness and consumer protection;
- making large and complex financial institutions resolvable; and
- managing receiverships.
The Repeal of Glass-Steagall Act
Many years after the passing of the Banking Act of 1933, there was a repeal of Glass-Steagall.
The Gramm-Leach-Bliley Act in 1999, also known as the Financial Services Modernization Act, repealed the Glass-Steagall Act. Signed by President Clinton, the bill’s main sponsors were:
- Senator Phil Gramm of Texas (Republican)
- Representative Jim Leach of Iowa (Republican)
- Representative Thomas J. Bliley Jr. of Virginia (Republican)
Image Source: Wikimedia
Popular Article: Regulation K – Rules, Definition, and Overview
Why the Repeal of Glass-Steagall?
Some believed the Glass-Steagall banking reform act had never been truly necessary.
Additionally, the largest of United States banks sometimes felt they could not keep up with European banks that did not have the same regulations from the Glass-Steagall Act of 1933.
This repeal of Glass-Steagall Act came along with the trend of bank consolidation and integration. For example, Citicorp had joined with Travelers Insurance to create Citigroup before any of the Glass-Steagall Act had been repealed.
The new Citigroup was given a waiver for the time being, but to allow this trend to continue and even expand, there had to be a repeal of Glass-Steagall.
The Gramm-Leach-Bliley Act created a new form of institution, a financial holding company or FHC. According to the Federal Reserve History, an FHC is “an umbrella organization that could own subsidiaries involved in financial activities.”
Added Provisions with the Repeal of Glass-Steagall
Though the Glass-Steagall Act was being repealed, it was also being replaced with other restrictions. Banks would not simply gain a free-for-all mentality. These included:
- Restrictions on cross-marketing between a bank and a subsidiary
- Limitations on the subsidiaries of banks to under $50 billion (or 45% of assets)
- Guidance and supervision from the Federal Reserve
Privacy considerations were also brought about by the repeal of the Glass-Steagall Act and introduction of the Gramm-Leach-Bliley Act. The FDIC explains this in these points:
- Now financial institutions must “ensure the security and confidentiality of customer information”
- Now financial institutions must “explain how they use and share your personal information”
- Now financial institutions must allow you to “opt out” of supplying certain info
- Now financial institutions must “describe how they will protect the confidentiality and security of your information”
The Impact of the Glass-Steagall Act Today
We may think that, since the Glass-Steagall banking reform act was created in 1933 and a repeal of Glass-Steagall happened in 1999, that Glass-Steagall legislation does not affect us today. But some would argue otherwise.
Many people wonder if the more modern financial crisis and recession beginning in the late 2000s could have been avoided or lessened if the provisions of the Banking Act of 1933 had still been in effect.
In fact, some people even call the repeal of Glass-Steagall a main culprit behind the crisis.
This is because much of the substantial loss commercial banks were experiencing had to do with their investment banking activities. Of course, this would not have been possible if they had been separated under the Glass-Steagall banking reform act.
Also, the Glass-Steagall Act was mentioned frequently during the 2016 presidential election process by candidates such as Bernie Sanders, Martin O’Malley, and later-elected President Trump.
Conclusion: Glass-Steagall Explained
Now you have a Glass-Steagall Act definition, and you understand the purpose behind the Glass-Steagall legislation. You are also up to date on the more recent repeal of the Glass-Steagall Act.
There have been movements in recent politics to bring back a 21st century version of the Banking Act of 1933. Members of both parties are interested in its reinstatement.
This means that being aware of the Glass-Steagall Act definition, its history, its purpose, and its repeal is imperative for understanding the dialogue of today’s world. The Banking Act of 1933 is a piece of financial history most definitely relevant today.
AdvisoryHQ (AHQ) Disclaimer:
Reasonable efforts have been made by AdvisoryHQ to present accurate information, however all info is presented without warranty. Review AdvisoryHQ’s Terms for details. Also review each firm’s site for the most updated data, rates and info.
Note: Firms and products, including the one(s) reviewed above, may be AdvisoryHQ's affiliates. Click to view AdvisoryHQ's advertiser disclosures.