Investment Banks and Commercial Banks Are Analogous to Oil and Water: They Just Do Not Mix :: History Argumentative Persuasive Essays

Investment Banks and Commercial Banks Are Analogous to Oil and Water: They Just Do Not Mix As a result of more than 9,000 banks failing during the Great Depression years of 1930-1933, bank regulation was greatly tightened in the United States. The legislature felt the unethical actions from the integration of commercial and investment banking aided in these failures for three main reasons: banks invested their own assets in risky securities, unsound loans were made to boost the price of securities of companies whom the bank had invested in, and the commercial banks interests in the price of securities tempted bank managers to pressure customers to purchase risky securities that the bank was trying to sell. As a result, President Roosevelt felt that the best remedy to the situation was to pass the Banking Act of 1933, which established two new provisions to financial regulation: deposit insurance and the separation of commercial and investment banking activities. Sections 16, 20, 21, and 32 of the act are referred to as the Glass-Steagall Act. These sections forbid depo sit-taking institutions from engaging in the issuing, underwriting, selling, or distributing of securities. Since the provisions of the Glass-Steagall Act did not apply to foreign banks operating in the United States, they could engage in insurance and securities activities. This put the American banks at a disadvantage. As a result of the pressure on the legislature and the constant talks of overturning the act, it was finally repealed. On November 12, 1999, President Clinton signed the Gramm-Leach-Bliley Financial Services Modernization Act, which repealed the Glass-Steagall Act. This allowed securities firms and insurance companies to purchase banks and commercial banks to underwrite insurance and securities. From this repeal, the financial services industry has undergone a consolidating phase of commercial banks and investment banks becoming one. However, this has not always proved beneficial for these companies. My hypothesis is that the culture clash stemming from the different risk tolerance levels between investment banks and commercial banks is the main reason why such mergers and acquisitions have not resulted in the expected synergies the financial markets were anticipating. Investment banks, by nature, have higher risk tolerance levels than do commercial banks. The principal reason for this is that investment banks are not financial intermediaries in the sense that they take deposits and lend them out.