As the financial crisis unfolded in 2007 though 2009 I spent many frustrating hours in front of my t.v. and reading newspapers receiving the explanations provided by America's experts on the financial system and economy. I was forced to take their word for it when they explained the workings and problems of our current system, but as a historian of the Great Depression I was--and am--in a position to evaluate their understanding of our past. For the most part they little understood what happened in the American financial crisis of the early 1930s. What I'd like to do is clear up some misconceptions about what happened during the Great Depression.
The David Leonhardt article on financial reform in the New York Times Sunday Magazine on March 22 of this year provides a good example of a well done piece by a leading journalist meant to explain complex problems. I've read Leonhardt's works closely and appreciatively for the past several years and overall I admire his knowledge and ability to explain. But he is, after all, a journalist and not a historian of the 1930s, so he repeats accepted orthodoxy about the era and continues to recycle misunderstandings or mistakes written into the literature. Leonhardt does not know how the banking system worked before the Glass-Steagall Act of 1933 (there was a previous Act in 1932 that changed the backing for the dollar), nor does he understand what the Act did.
Leonhardt writes that after Glass-Steagall banks could no longer use deposits to speculate on the stock market. Before 1933 the only kind of banks that could do that were the private banks like J.P. Morgan and Co., or Kuhn, Loeb, and Co. No nationally chartered bank (any bank with "national" in its title, like Chase National Bank) could legally invest deposits in corporate stocks. There were a few exceptions for some state-chartered banks, rules varied from state to state, but overwhelmingly banks in states that permitted them to buy stocks (like S.C.) did not do so because it was universally considered "bad banking practice," and avoided even by bankers of dubious repute. Banks were allowed to hold corporate securities that had been claimed as collateral for bad loans--just like they were allowed to hold real estate in the same circumstances--but only until they could dispose of it.
When Leonhardt asserts that forbidding banks that accepted deposits, which is what makes a bank a bank, from also underwriting stocks "shored up the two sides of the bank's business--its relationship with savers and borrowers--and reduced the odds that a bank would go under," he is simply restating orthodoxy, so I can't blame him too much for being so wrong. But wrong he certainly is. There is no evidence that any depositor in the U.S. lost a dime in the 1930s because their deposits were invested in the tumbling stock markets. As the only banks whose deposits were affected by Glass-Steagall were the big private banks like Morgan, and those banks were in no danger at all of collapsing, it is difficult to see how this provision saved any depositors or any banks. It did neither.
What Virginia Senator Carter Glass wanted to do in his bill was prevent banks from loaning money to brokerage firms (called brokers' loans) and from accepting stock as collateral for any loans from anybody. He was deluged with letters from bankers assuring him that this would cripple not only the stock exchanges, effectively cutting them off form any credit, but seriously cripple commercial banks which routinely accepted stock as collateral for loans to businesses. All businesses would have a much harder time borrowing money, which would have been especially devastating in the dark days of 1931 and 1932, when Glass was crafting his bill. So his compromise was to separate the corporate boards of banks from the boards of securities underwriting or dealing entities. No one who sat on a bank board or served as an officer could also sit on a board or serve as an officer of a securities-dealing firm. Thus, Chase Securities Corp. was separated from Chase National Bank, and it could no longer maintain a sales desk in the lobby of any Chase Bank as it had before 1933 (in fact the two separated before Glass-Steagall.)
This compromise by Glass had little real impact on the operations of either banks or securities-dealing companies, and there is little evidence that it did anything either to shore up banking or make securities dealing any safer. Banks and securities dealers were entirely willing to accept this "reform" because it made so little difference. Don't take my word for it, read Eugene Nelson White's article on the question.
Having dodged the nearly fatal bullet of outlawing brokers' loans, all involved--stock brokers, banks, and politicians--were delighted to celebrate the ineffectual and inconsequential separation of corporate boards as a reform of historic dimensions that saved us from future calamities. It has been thus celebrated ever since.
Perhaps my final observation about Glass-Steagall is petty-fogging, but it grates on me to see FDR get credit where he doesn't deserve it. Glass-Steagall Act of 1933 was entirely written and debated months before FDR took office in March 1933. Both houses of Congress had passed their respective versions--Glass's contained a grab-bag of bank reforms such as baring interest-bearing checking accounts; Steagall's version was devoted to a federal guarantee of deposits--but they had yet to reconcile the two bills. They could have done this during the second session of the 72nd Congress (Dec. 1932-Mar. 1933), but Democrats in both Houses were following FDR's orders not to pass any major reforms--including bank reform--until he assumed the presidency. When the bill finally arrived on his desk in June 1933, FDR still believed deposit insurance a bad idea that could cripple sound banks, but seeing which way the wind--or gale--was blowing he signed it anyway. Glass-Steagall was not in any way "Roosevelt's bank reforms." FDR's hesitancy, even reluctance, to sign the bill once it landed on his desk has never prevented him from taking full credit for it.