Support grows in US for law to force breakup of banks

A one-page proposal gaining traction in the United States Congress could turn the clock back on Wall Street by 10 years, forcing the breakup of banks, including Citigroup.

Lawmakers in both parties, seeking to prevent future financial crises while soothing public anger over bailouts and bonuses, want to reimpose sections of the 1933 Glass-Steagall Act that separated commercial and investment banking.

Those walls came down with passage of the Gramm-Leach-Bliley Act of 1999 - a move some consider to be the fatal mistake that set the finance sector on course for its 2008 meltdown.

A proposal to reconstruct those walls, made by Senators John McCain and Maria Cantwell, would prevent deposit-taking banks from underwriting securities, engaging in proprietary trading, selling insurance or owning retail brokerages. The bill could also force the unwinding of deals consummated during the financial crisis, including Bank of America's acquisition of Merrill Lynch.

"The impact on Wall St would be severe," said Wayne Abernathy, an executive vice-president at the American Bankers Association.

Resurrecting Glass-Steagall goes beyond the regulatory powers that President Barack Obama has proposed to fix the financial system. It has also sparked debate over whether the Depression-era law could have prevented the crisis or might help avoid future ones.

"If you look at what happened, with or without Glass-Steagall, it would have made no difference," said Rodgin Cohen, chairman of law firm Sullivan & Cromwell.

Cohen and others say the law would not have saved Bear Stearns or Lehman Brothers Holdings, both of which were investment banks, from collapse. And the Government would not have been able to enlist JPMorgan Chase to take on the assets of Bear Stearns or allow Goldman Sachs Group and Morgan Stanley to become bank holding companies, giving them access to the Federal Reserve's discount window.

Rather than split up banks, regulators should provide better supervision and require tougher capital requirements, said Cohen, who was involved in shaping the bill that dismantled parts of Glass-Steagall.

The McCain-Cantwell proposal, which has picked up four additional co-sponsors, could be considered by the Senate banking committee as early as next month, if Senator Christopher Dodd, the Democratic chairman from Connecticut, and other members complete negotiations on a financial overhaul bill.

A similar bill has been introduced in the House of Representatives by Maurice Hinchey, a Democrat from New York. The House adopted a measure this month to revamp financial regulation without Hinchey's proposal. The chief sponsor of the overhaul measure, Representative Barney Frank, has said he supports giving regulators the power to apply Glass-Steagall in individual cases.

"It is fair to argue that if the bill picks up steam in the Senate, the House could have the political appetite to pass it as well," said Paul Miller and four other analysts at FBR Capital Markets in Arlington, Virginia.

One reason support for the idea is growing is lawmakers see public anger building over what Obama called "fat cat bankers". As industry profits bounce back and banks also get set to hand out billions of dollars in bonuses, Americans are still struggling with a 10 per cent unemployment rate and mortgagee sales. That is leading Congress to seek ways to rein in the firms blamed for the financial crisis.

"Congress is at war with Wall St," said former Fed Governor Lyle Gramley, now a senior economic adviser at Soleil Securities. "They perceive Wall St as being the root source of our financial crisis, and they want to do something to make sure that doesn't happen again."

Bank lobbyists are targeting the Senate banking committee as lawmakers negotiate provisions of a regulatory overhaul bill. They are arguing that a return to the pre-1999 era would reduce the diversity of revenue streams, make financial firms more vulnerable in a crisis, prevent them from acquiring ailing institutions, increase the cost of raising capital and undermine the global competitiveness of US institutions.

"Reinstating Glass-Steagall misses the mark - a point we intend to share with Chairman Dodd and other senators on the committee," said Rob Nichols, president of the Financial Services Forum, a trade group that represents chief executives of the largest financial firms.

Dodd said he did not favour reviving Glass-Steagall as a way of dealing with "too-big-to-fail" institutions and added "there are other things we can do to break them up".

- BLOOMBERG