Tuesday, March 28, 2023

Free vs Regulated Banking: Did Canada's Glass-Steagall Safeguard its Banks in 2008?

(Spoiler: Canada didn't have a Glass-Steagall)

Click here to read the original Cautious Optimism Facebook post with comments

The Cautious Optimism Correspondent for Economic Affairs and Other Egghead Stuff explores Glass-Steagall regulations as they relate to the Canadian banking industry and the 2008 financial crisis.

Sen. Carter Glass and Rep. Henry Steagall

During the 2008 Great Financial Crisis it became stylish in some circles to blame the upheaval on the repeal of a single provision from the 1933 Glass-Steagall Act: the separation of commercial banking from investment banking. In the fifteen years since Senator Elizabeth Warren has been one of the loudest and most consistent voices blaming the 1999 partial repeal, known also as the Gramm-Leach-Bliley Act, for the crisis.

Aside from the fact Glass-Steagall never existed in European countries like France, Germany, and the UK, all of which avoided systemic financial crises for 75 years, there are several problems with the “bring back Glass-Steagall” theory:

Due to the Johnny-come-lately nature of Gramm-Leach-Bliley, virtually no integration of commercial and investment banking had even taken place in the United States before 2008. Critics blame the crisis on a massive union of business lines that didn’t yet exist.

And an even bigger problem is that Canada has had integrated commercial and investment banking operations at its major banks for a much longer time than the USA. In stark contrast to the USA, by the 2000’s decade all of Canada’s “Big Five” commercial banks had long-since integrated investment banking into their operations.

According to the Glass-Steagall lobby Canadian banking should have suffered an even larger crisis than the United States in 2008, yet it experienced no crisis whatsoever.


First let’s quickly review what Glass-Steagall was: a Great Depression-era series of banking reforms cosponsored by Representative Henry Steagall (D-AL) and Senator Carter Glass (D-VA) who chaired their respective House Banking and Senate Appropriations committees.

Also known as the Banking Act of 1933, Glass-Steagall contained four major provisions:

1. The introduction of federal deposit insurance through the establishment of the FDIC

2. The creation of the Federal Open Market Committee (FOMC) to conduct monetary policy

3. Regulation Q: Prohibiting banks from paying interest on demand deposits and strict limits on interest paid for other forms of deposits (repealed in 1980)

4. The separation of commercial banking and investment banking activities within the same institution (repealed in 1999)

Ironically, only one of the four provisions did anything to help avert future banking panics (deposit insurance) and two of the provisions were actually anti-competition measures designed to protect politically favored banks (deposit insurance and Regulation Q).

Both anti-competitive provisions were championed by Henry Steagall who represented an unstable unit banking state. Regulation Q was meant to stop monopoly unit banks from losing customers to other monopoly unit banks in neighboring counties, and deposit insurance was designed to protect unit banks from their own unstable structure: undiversified loan portfolios and undiversified depositors stemming from state laws limiting them to a single office in small, rural towns.

The creation of the FOMC can be argued to have actually made the banking system more unstable as monetary policy, the Fed’s buying and selling of assets to manipulate interest rates and the quantity of reserves in the banking system, has produced larger and more destructive credit boom-bust cycles.

And lastly the separation of commercial and investment banking was written at the insistence of one man: Carter Glass—who was convinced in his strange belief that a crossover between lending deposits and underwriting securities caused the great banking crises of the early 1930’s.

However even mainstream economists have recognized for decades that the depression-era crises were due to unit bank laws and the multiple failures of the Federal Reserve. Of the over 9,000 banks that failed between 1929 and 1933 the vast majority were small unit banks in rural areas, hardly active in underwriting new Wall Street stock offerings or corporate bonds.

Nevertheless, Glass’ powerful Appropriations Committee chair provided the clout to successfully push the investment banking provision into law.


The legal barriers separating commercial and investment banking were repealed in November of 1999 meaning financial institutions only began working on merger/acquisition prospects in 2000 and 2001. 

Most did not.

And a key fact many proponents of Glass-Steagall are unaware of is by early 2008 all of America’s leading five investment banks:

-Goldman Sachs
-Morgan Stanley
-Merrill Lynch
-Lehman Brothers
-Bear Stearns

…and top five commercial banks:

-Bank of America
-JP Morgan Chase
-Wells Fargo

…were still standalone entities with little to no crossover activity. 

The Big Five investment banks had not merged with any major commercial bank, and the Big Five commercial banks had not merged with any major investment bank.

Despite actively seeking to combine their commercial and investment banking operations, there simply hadn’t been enough time for suitable market conditions to produce attractive merger propositions. And attempts to grow crossover divisions organically were miniscule and slow with Citi and JP Morgan being the closest to having any meaningful investment banking activity at all.

In fact far from having combined in the early 2000’s, it was the financial crisis itself and near-failure of several investment banks that finally gave America’s commercial banks the golden opportunity they had been waiting for: the chance to acquire a major investment bank and finally enter the securities underwriting, M&A, wealth and asset management, and sales and trading businesses writ large. 

In early 2008 J.P. Morgan rescued Bear Steans from collapse through an eleventh-hour government-brokered acquisition. Regulators hoped the buyout would avert a wider financial crisis (they were proven wrong within a few months).

And in a notorious government-pressed shotgun wedding Bank of America bought Merrill Lynch during the depths of the 2008 fall crisis.

Incidentally, the J.P. Morgan/Bear Stearns and Bank of America/Merrill Lynch rescues would have been illegal under Glass-Steagall’s original restrictions. Had the rules not been repealed in 1999, the number of major investment bank failures would have grown from one of the Big Five (Lehman Brothers) to three (Lehman + Bear + Merrill), deepening the crisis and subsequent Great Recession.

Today only two of the original five investment banks remain independent entities: Goldman Sachs and Morgan Stanley.


Canada once had its own version of Glass-Steagall: the so-called “Four Pillars” that separated commercial banking, investment banking, securities trading, and insurance.

In 1987 the conservative Mulroney government freed the first three pillars to be integrated (leaving insurance separated out). The so-called financial “Little Bang” allowed commercial and investment banks to merge a dozen years before U.S. Congress passed the Gramm-Leach-Bliley Act.

Right away Canada’s “Big Five” commercial banks began acquiring securities trading and underwriting firms. Each of their first forays were:

-1987: Toronto Dominion Bank acquires TD Securities*
-1987: Bank of Montreal acquires Nesbitt Thompson
-1987: CIBC acquires CIBC Securities*
-1988: Royal Bank of Canada acquires Dominion Securities
-1988: Scotiabank acquires ScotiaMcLeod*

(* indicates rebranded name)

By the early 2000’s all of Canada’s Big Five had fully integrated investment and securities divisions into their business models, following the so-called “financial supermarket” strategy that had already taken hold in Europe and Asia. By 2008 a few Canadian superbanks were also major players on the global investment banking stage—RBC/Royal Bank of Canada, Toronto-Dominion Bank, and arguably BMO Bank of Montreal and CIBC.

Today each of the Big Five’s comprehensive investment bank divisions are:

-RBC Capital Markets
-TD Securities
-Scotia Global Banking and Markets
-BMO Capital Markets
-CIBC World Markets

According to Glass-Steagall proponents Canada’s megabanks should have gone down in flames. Yet they all sailed through the 2008 financial crisis, remaining profitable throughout with none taking even a penny of government money.

American Enterprise Institute scholar Alex Pollock summarizes this obvious dilemma for Glass-Steagall proponents when he writes…

“Our neighbors to the north in Canada have a banking system that is generally viewed as one of the most stable, if not the most stable, in the world. The Canadian banking system certainly has a far better historical record than does that of the United States.”

“There is no Glass-Steagall in Canada: all the large Canadian banks combine commercial banking and investment banking, as well as other financial businesses, and the Canadian banking system has done very well. Canada thus represents a great counterexample for Glass-Steagall enthusiasts to ponder.”

-from “Glass-Steagall never saved our financial system, so why revive it?” 

Pollock's article can be read at:



So why, if Canada’s combined commercial and investment banks didn’t experience crisis in 2008, did so many of America’s standalone commercial banks and investment banks fail or need government bailouts to survive?

The answer, once again, is bad regulations.

The American mortgage lenders, commercial banks, and investment banks that came under strain in 2008 got that way not because of nonexistent commercial and investment bank mergers but rather due to old-fashioned bad loans.

Federal government regulations forced U.S. lending standards down, particularly on residential mortgages, while GSE’s Fannie Mae and Freddie Mac offered to buy up lousy loans, package them with better loans, and sell the bundled securities to investors to the tune of trillions of dollars.

Bear Steans, Merrill Lynch, and Lehman Brothers joined the securitization party and found themselves holding toxic mortgage paper when the music stopped.

Combined with a historic housing bubble inflated by Federal Reserve cheap money policies, U.S. lenders suffered huge losses when the bubble burst, housing prices plummeted, and uncreditworthy borrowers stopped paying their mortgages.

The culprits were simple and familiar: a central bank-induced bubble and bad loans on the traditional mortgage side.

And as we reviewed in a previous column the Canadian government—particularly the Canadian Senate--has been far less amenable to accommodating populist political movements seeking to transform banks into tools of social justice. 

Hence when the financial crisis struck, Canadian banks held up—because they hadn’t made nearly as many bad loans, or more precisely hadn’t been required to make as many bad loans via regulation.

Far from the partial repeal of Glass-Steagall being the cause of the U.S. system’s problems, the full integration of commercial and investment banking in Canada proves precisely the opposite: Canada’s financial supermarket model held up in 2008 while in the United States, where no major commercial and investment banks had combined in the 2000’s, the financial sector fell into disarray.

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