Throughout his presidential campaign, Senator
Bernie Sanders has called for the breakup
of Wall Street’s big banks.
These six financial institutions, which likely
include JP Morgan Chase, Bank of America and
Wells Fargo, collectively hold assets equal
to 60 percent of the United States’ GDP.
The central problem with these banks, as outlined
by Sanders, is that they’re too big to fail.
So, what does this mean, and what’s so bad
about big banks?
Well, a “too big to fail” bank is one
that is so deeply interconnected with the
economy that its failure could lead to an
economic crisis.
When such a bank is unable to pay its debtors
and creditors, due to risky investment or
improper management, that inability to pay
ripples through the economy.
Businesses can’t get loans or pay their
employees, people can’t pay for goods and
services, tax revenue drops, and all this
can lead to an economic collapse.
To prevent this catastrophic domino effect,
the federal government is inclined to rescue
big banks before they fail, usually with a
multi-million dollar loan called a bailout.
The first major bailout of a “too big to
fail bank” was in 1984 when the Reagan administration
gave $2 billion dollars to the US’ 8th largest
bank, Continental Illinois.
It came close to failing after buying loans
that weren’t worth as much as was originally
thought.
This was not unlike the 2008 mortgage crisis,
where home loans were misrepresented as being
stronger than they actually were.
Perhaps the best example of a “too big to
fail” bank is JP Morgan Chase, which is
worth more than any other bank in the US by
assets.
JP Morgan is both a commercial and an investment
bank.
This means it not only handles individual
accounts, it serves as a platform for stock
and bond trading.
JP Morgan reached its colossal size after
centuries of bank mergers and acquisitions.
In fact, roughly half as many banks exist
today as did three decades ago, and those
banks carry more than 5 times as many assets.
But complex financial institutions are not
a new problem.
Back in 1933, President Franklin D. Roosevelt
tried to separate commercial from investment
banking with the Glass-Steagall Act.
This prevented mixed-use banks from using
customer money for risky, speculative investments,
which if they failed, would lead to a loss
for the consumer.
But in 1999, the law was repealed, and banks
quickly began to invest their customer’s
money again.
Many cite the repeal of this law as a potential
cause of the 2008 financial crisis.
When bank investments failed, they were directly
tied to their customer’s money.
Moreover, the 1984 bail out set a precedent
for big banks - that they could gamble with
their customers’ money and expect the federal
government to cover their debt.
And indeed after banks like Goldman Sachs
and Citigroup went under in 2008, the Bush
Administration funnelled hundred of billions
of dollars into preventing an all-out banking
collapse.
Although the bailout has since been repaid,
banks are continuing to grow larger
But in 2010, the Obama Administration passed
the Dodd-Frank Wall Street reform act, which
imposed a number of regulatory and oversight
requirements on the financial system.
But as is clear in the 2016 Presidential race,
Wall Street reform is still a relevant issue.
For example, Senator Sanders has proposed
his “Too Big To Fail, Too Big To Exist Act”,
which aims to break up the six biggest banks.
Whether it is even possible to reign in big
banks is still up in the air.
What is clear is that without regulations
preventing banks from gambling consumer money,
the risk of another bailout will always exist.
Big banks are supposed to play by the rules,
but some of the rules are a little vague.
Did you know that making money off of company
information can be illegal?
Find out more about insider trading by watching
this video up top.
Or you can delve into the complexity of a
stock market crash by watching the video below.
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