Monday, July 30, 2012

Citigroup Says Break Up Banks

Citigroup Creator Says Break Up The Big Banks

Citigroup Creator Says Break Up The Big Banks

By Robert Morris
The banking industry was sucker punched late last week by an unlikely assailant. Former Citigroup Chairman and CEO, Sanford "Sandy" Weill, appeared on CNBC's Squawk Box and called for breaking up America's big banks.

Here's what he said...
"What we should probably do is go and split up investment banking from banking. Have banks be deposit takers, have banks make commercial loans and real estate loans, have banks do something that's not going to risk the taxpayer dollars, that's not too big to fail."
Essentially, Mr. Weill called for reinstatement of the Glass Steagall Act.

Also called the Banking Act of 1933, Glass Steagall was a key piece of legislation passed during the Great Depression. This groundbreaking law created the FDIC and imposed bank reforms for controlling speculation.

But it's best remembered for prohibiting banks from engaging in both commercial banking and investment banking activities... that is, until its repeal in 1999.

So, why are Weill's comments so shocking?

In case you don't know, Mr. Weill was once the driving force behind the repeal of Glass Steagall.

I remember it well.

At the time, I was working as a stockbroker for Salomon Smith Barney, which was then part of insurance giant, Traveler's Group. Mr. Weill was not only the Chairman and CEO of Traveler's, he was also my boss.

In those days, Mr. Weill had a single-driving purpose... to create the world's first Financial Supermarket.

He wanted to build a financial conglomerate that could offer commercial banking, investment banking, securities trading, and insurance. He believed such a firm would be well-diversified against risk and could generate earnings growth in the high teens annually.

And in 1998, his dream finally became reality.

That year, Mr. Weill engineered the mega-merger between two of the world's largest financial institutions - Traveler's and Citicorp. The highly publicized marriage created Citigroup (C) and effectively reunited commercial banking and investment banking activities under one roof for the first times since Glass Steagall was enacted in 1933.

The following year, Glass Steagall was repealed by Congress.

The irony is poignant.

Mr. Weill is now calling for reinstating the barrier between commercial and investment banking that he previously demolished.

Despite the irony, however, I happen to agree with him.

There's no doubt the repeal of Glass Steagall paved the way to the financial crisis of 2007. If the law had still been in place, we wouldn't have had the "too big to fail" financial behemoths - Citigroup, JPMorgan Chase (JPM), Bank of America (BAC), Morgan Stanley (MS) - that nearly destroyed the global financial system.

Robert Kuttner said it best in his book, The Alarming Parallels Between 1929 and 2007...

The repeal of Glass Steagall permitted "super-banks" to "re-enact the same kinds of structural conflicts of interest that were endemic in the 1920's", such as "lending to speculators, packaging and securitizing credits and then selling them off, wholesale or retail, and extracting fees at every step along the way."

Sound familiar?

Of course, members of the banking industry were quick to disagree with Mr. Weill. And a couple of former bank CEOs even went on record...

William Harrison, a prior CEO of JPMorgan Chase, said, "I don't buy it... It gets back to management and risk-taking, and you can screw that up at a small bank or a large bank."

And retired Wells Fargo CEO, Richard Kovacevich had this to say, "There is this conventional wisdom that big is bad or risky... I don't think there is any evidence that this is the case. Banks fail mainly because of concentration of risk."

But these former titans are clearly missing the point.

Yes, bank failures can happen to any size bank if it's not managed properly. But a small bank failure is not going to threaten the stability of the financial system.

In contrast, we've seen what happens when banks who have grown too big to fail are allowed to engage in excessive risk-taking. You get a financial crisis that nearly destroys the global financial system.

I have to say I'm with Mr. Weill on this issue. Let's re-impose the barriers between commercial and investment banking that kept our system safe for 66 years.

Profitably Yours,

Robert Morris

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