John Reed, former Citibank Chairman, opined in the Financial Times that “We were wrong about universal banking.” By being wrong about universal banking, Reed means that it was a mistake to repeal key provisions of Glass-Steagall. He wrote the opinion piece as if he had been a prime architect of the changes who now has recanted. That is revisionist history, say I. He went along, but he never was a prime advocate of the changes in the law.
John Reed was chairman of Citicorp before its merger with Travelers in 1998. He was known as a technology and consumer banking expert. After Sandy Weill eased him out of Citi soon after the merger, Mr. Reed disappeared from the banking scene.
Sandy was an apostle of the banking conglomerate. He was a deal maker first and foremost, having cut his teeth putting together the brokerage firm Carter Berlind & Weill in the 1960s, through mergers making that into Shearson Loeb Rhodes in the 1970s, before selling to American Express in 1981. Sandy’s deal-making style was not compatible with America Express, and he became the odd man out.
But Sandy was a force on Wall Street—even if he did have to move to Baltimore to prove it by acquiring Commercial Credit Corp., through which he built his next financial conglomerate. And eventually, he rose to the top of the heap as Chairman of Citigroup, America’s largest financial company, by selling Travelers, his bankless financial conglomerate that he had built from the inauspicious origins of Baltimore-based Commercial Credit Corp.
It was Sandy who, more than anyone else, was responsible for repeal of key parts of the Glass-Steagall Act in 1999 in order to validate the deal that had created Citigroup.
I was an advocate for those changes, going back into the late 1970s when few people even had heard of Glass-Steagall. Actually, few people ever have known what that law said, even among those who debate its relative merits.
But back in the 1970s and early 1980s when we developed the early logic for repealing parts of Glass Steagall, investment banks were not, for the most part, engaged in trading (other than Treasury securities), and what commercial bankers wanted to be able to do was to advise on and support M&A, to underwrite corporate debt and equity, and to manage money without needing for that function to be in the trust department. We reasoned that those activities were not fundamentally any more risky than commercial lending and that they were more profitable. They therefore would strengthen the banking system and, through increased competition, lower financing costs for American businesses.
John Reed says that the legal changes were a mistake, largely because the commercial banking culture and the investment banking culture—and particularly the trading culture—are not compatible. That is why the European universal banks are having so much trouble configuring their strategies for profitability, he says.
I heartily agree with Reed that the two cultures have become incompatible in many ways. But that does not mean that the legal change was wrong. Managements, boards of directors and stockholders have to choose what businesses they want to be in and how to manage those businesses. Prohibiting such choices should be done only to curb excessive risk—not to have Congress and the regulators micromanaging financial firms.
It appears to me quite possible for a banking organization to engage in the forms of investment banking that are more compatible with commercial banking, such as M&A, underwriting of corporate debt and equity, and money management, without having to deal with the very different culture and mentality of trading. It also seems to me quite consistent with these thoughts to help bank managements by prohibiting proprietary trading, as the Volcker Rule has done. Whereas the other investment banking functions are extremely useful to society—indeed, they are the functions that now provide about 80% of financing in America, which puts us way ahead of bank loan-dependent systems—trading is a zero sum game, for which the most that can be said is that it aids in price discovery and provides liquidity. Let the price discovery and liquidity provision be done outside the subsidized banking system. If it is useful, someone will do it. Hedge funds, individuals, whoever has money and wants to risk it is welcome to engage in trading. Banks may have had a trading advantage by using customer information, but that is not an advantage that policy should perpetuate.
So thank you, John Reed, for an opportunity to discuss these policy issues. We need not reinstate the repealed sections of Glass-Steagall. But bank managements do have to learn what people and risks they can manage and what they cannot. One size may not fit all.
Photo: Ricardo Stuckert/PR