The politics and the impact of Sandy Weill's creation of Citigroup, the first full-service superbank, and the repeal of the Glass-Steagall Act that stood in his way.

Citigroup, formed by the 1998 merger of Travelers and Citicorp, is the biggest financial institution in the world, combining one of the largest insurance companies (Travelers), one of the largest investment banks (Salomon Smith Barney), and the largest commercial bank (Citibank) in America. But before it could come together, Travelers CEO Sanford I. Weill, who had proposed the merger to Citicorp's John Reed, had to overcome one major obstacle: the historic Glass-Steagall Act of 1933, which in the wake of the 1929 crash had prohibited commercial banks from underwriting securities. The law, still on the books in 1998 but weakened over the years, separated investment banking from commercial banking in order to prevent conflicts of interest and protect investors.

Sandy Weill's creation of Citigroup -- the first so-called "superbank" -- and his successful lobbying for repeal of the Glass-Steagall Act that stood in his way, was a demonstration of Weill's and Wall Street's political muscle. But what has been the impact of Glass-Steagall's demise and the merging of investment banks and commercial banks within a single financial behemoth? Did the emergence of full-service superbanks like Citigroup contribute to the abuses of the late-1990s bubble? Addressing these questions, in excerpts from their FRONTLINE interviews, are former SEC Chairman Arthur Levitt, former Federal Reserve Board member Alan Blinder, New York State Attorney General Eliot Spitzer, financial historian Charles Geisst, the Precusor Group's Scott Cleland, and Kenneth Guenther of the Independent Community Bankers of America.

Greenspan, Weill & Company:

The Washington Connection

A former investment banker and chairman of the American Stock Exchange, he served as chairman of the Securities and Exchange Commission from 1993 to 2001.

When you came in as head of the SEC in the early 1990s, what was the situation with Glass-Steagall and the banking laws?

It was apparent to me that the protections of Glass-Steagall had already largely eroded. But Congress, at several times, nearly passed a bill to do away with Glass-Steagall. It was clear that it was a question not of whether but when Glass-Steagall would go. Millions of dollars were pouring in the campaign coffers of senators and congressmen who were set to do this.

Who was pushing?

The insurance industry, the Federal Reserve Board, the White House, the investment bankers, the commercial bankers -- just about everybody wanted it. ...

It was an incredible scene, but I saw it played through twice. Once was during a period of time when Al D'Amato chaired the [Senate] Banking Committee -- and was not successful in getting the repeal of Glass-Steagall -- where hundreds of lobbyists descended upon the Congress, were in the hallways morning, day, and night. Lobbyists for the insurance companies, for the investment banks, for the commercial banks, pulling for their own parochial interests.

Then when Phil Gramm became chairman of the banking committee, the same group came down, only they were now supplemented by lobbyists for the derivatives industry, for other new products that had developed, and for the stock exchanges and the options exchanges. They were buttonholing senators and congressmen, morning, day, and night.

From the standpoint of investors, I was concerned that the vital investor protection, in terms of SEC oversight of securities matters, would be eroded by turning over to the banks all of the responsibility for initiatives that, in the past, were the province of securities firms under the SEC jurisdiction.

This wasn't merely a turf battle. This was a question of two different cultures: a culture of risk, which was the securities business, and a culture of protection of depositors, which was the culture of banking. Two very different cultures. ...

Now at the Federal Reserve, which oversees banking, they had gradually been granting more and more exceptions to Glass-Steagall. ... What had been going on in the 1980s and 1990s?

Clearly, over the 1980s and 1990s, a number of exemptions were granted by the Federal Reserve regulators, in terms of what banks could and could not do. The Comptroller of the Currency had involvement in this, as well. ... They allowed the banks to do things that they could not do in the past. They permitted certain practices that were not acceptable in the past, and as a result of that, the protections of Glass-Steagall were almost totally eroded by the time this bill passed. ...

So when Congress finally acts, it's basically to ratify?

Congress gave legislative sanction to practices that the regulators had allowed to develop over the past two decades.

And the dramatic development, in 1998, was the merger of Citibank and Travelers. ...

The merger of Travelers and Citibank was the death knell of Glass-Steagall, obviously. ...

Professor of economics at Princeton, former vice chairman of the Federal Reserve Board, and former member of the Council of Economic Advisors under President Bill Clinton.

Dr. Blinder, take me back to the late 1980s and early 1990s, and explain to me about the steps that were being taken by the Federal Reserve Board to relax, to liberalize, the provisions of the Glass-Steagall Act.

In the late 1980s, after some agitation before that, banks started getting even more serious about getting into securities, from which they had been more or less banned since the Glass-Steagall Act in the 1930s. There were, first, some legal cases. Then there was a ruling by the Federal Reserve Board, allowing a greater participation by banks in, for example, underwriting securities stocks. The amount by which they were allowed to do that gradually went up in a couple of stages -- the biggest stage happening in 1996, when it was raised to a degree [25 percent of overall revenues] that, except in some extraordinary cases, was probably enough for almost any bank to do almost any amount of securities underwriting that they'd actually want to do.

In other words, it was very close to repeal of Glass-Steagall, although not literally repealing Glass-Steagall. Glass-Steagall was still on the books. ...

You were on the Federal Reserve Board at this time. What was the thinking?

The thinking was manifold. One was that the market had practically repealed Glass-Steagall, anyway. The lines among insurance, securities, and banking had been becoming successively blurred. Securities companies like Merrill Lynch were into things that looked a lot like banking. Banks like J.P. Morgan were looking a lot like securities houses, and so on -- all under the current legal framework. So the market had almost done away with it.

Secondly, there was a belief that you could enhance competition in all of these domains if the banks could compete in the domains of the securities houses, and the securities houses could compete in the domains of the banks, and so on. You'd have a more competitive and, therefore, more efficient financial system. ...

For those few organizations that couldn't do what they'd like to do under the existing regulatory framework, repeal of Glass-Steagall would make it possible. Citigroup was the most prominent example, because of the scale of the insurance company. With Travelers, an immense insurance company, and an immense bank [Citibank], and a pretty immense brokerage [Salomon Smith Barney], coming together under Citigroup, they really needed repeal of Glass-Steagall or even greater liberalization of the regulations -- more than was likely. ...

What was Chairman Alan Greenspan's role in this? What was his thinking? Was he for this? Was he an advocate? What did he do?

He was certainly for it. The Federal Reserve Board, in fact, had been for repeal repeatedly through the 1990s. ... I think [Greenspan] played a substantial role, in the sense that were he against it, it could not have happened. He could not have stopped the market from encroaching over boundaries -- those were sort of natural market events. But he could've stopped -- at least slowed down and, I think, probably stopped -- the friendlier regulatory environment. ...

I don't think in any sense -- at least from my knowledge -- was he driving the political process that led eventually to repeal. But he was definitely an advocate. He was called to testify on this many times in front of the Congress over many years, and was always in favor of repealing Glass-Steagall. ...

What about, then, the decision [by the Fed] to approve the merger of Citibank and Travelers -- which goes well beyond the 25 percent rule?

I think, actually, they had very little choice about that. There are merger guidelines. The guidelines were met, including the possibility that if the repeal of Glass-Steagall didn't come through -- which it did -- Citigroup would've had to divest itself of at least a large part of Travelers. ... Probably, in fact, it would've meant the whole thing. So Citi was prepared, if they had to, if the law wasn't changed, to make the proper divestitures that would've kept them legal. So the Fed had really no grounds to oppose it. ...

Doesn't Sandy Weill have rather special access if he's talking directly to Alan Greenspan and to Bob Rubin at Treasury and to the president of the United States?

Absolutely, he does, and not every country banker in America can get that kind of access. ... But you've got to remember this deal that Sandy Weill was coming to talk to these people about was not opening a new branch in Texas or something. This was a very big deal. They were creating the biggest financial company on the face of the earth. I think it's very, very appropriate.

It would've been foolish as a pure business matter -- never mind politics, which, of course, gets involved -- as a pure business matter, it would've been foolish to just bull ahead with that without informing Alan Greenspan, Bob Rubin, and so on, even if it's just as a courtesy.

You say, "Never mind politics," but politics does get involved. What do you mean, "politics?"

Politics gets involved, because [Weill and Reed] knew at the time that they were going to need a change in the law to hold this enterprise together. ... And that was going to come out of the political system. Alan Greenspan couldn't do it for them. Bob Rubin couldn't do it for them -- though both of them can help, of course, by saying that they like the idea. The Congress had to do it.

President and CEO, Independent Community Bankers of America.

We are talking about the largest financial merger in the world. We are talking about, for the first time in the modern history of the United States, since 1933, the largest bank, one of the largest securities firms, one of the largest insurance firms, being put together under common ownership.

Legislation is pending to make that legal, and here you have the leadership -- Sandy Weill of Travelers and John Reed of Citicorp -- saying, "Look, the Congress isn't moving fast enough. Let's do it on our own. To heck with the Congress. Let us effect this." And so they move towards effecting it, and they get the blessing of the chairman of the Federal Reserve system in early April, when legislation is pending.

I mean, this is hubris in the worst sense of the word. Who do they think they are? Other people, firms, cannot act like this. ... Citicorp and Travelers were so big that they were able to pull this off. They were able to pull off the largest financial conglomeration -- the largest financial coming together of banking, insurance, and securities -- when legislation was still on the books saying this was illegal. And they pulled this off with the blessings of the president of the United States, President Clinton; the chairman of the Federal Reserve system, Alan Greenspan; and the secretary of the treasury, Robert Rubin.

And then, when it's all over, what happens? The secretary of the treasury becomes the vice chairman of the emerging Citigroup.

A professor of finance at Manhattan College, he is the author of numerous books on Wall Street and financial history.

The decisions of the Federal Reserve had pretty well washed away Glass-Steagall. Nonetheless, does Sandy Weill need legislation to put Glass-Steagall in a coffin -- to kill it?

Yes, he does. ...

Did Sandy Weill push for legislation in Congress? And why?

Certainly, Citigroup pushed for legislation to get rid of Glass-Steagall, pass what was called HR10 at the time, which became the Financial Services Modernization Act [of 1999].

Part of [Weill's] deal with the Federal Reserve was to get rid of all Glass-Steagall violations in the new Citigroup within two years. Otherwise, he would have been faced with a divestiture of a company which had just been put together, because of an old law which is still on the books. So it clearly behooved him, and many other people in the financial services industry who wanted to accomplish essentially the same sort of thing in the future, to push to get Glass-Steagall repealed. ...

So they pushed hard?

Pushed very hard. ... They pushed so hard that the legislation, HR10, House Resolution 10, which became the Financial Services Modernization Act, was referred to as "the Citi-Travelers Act" on Capitol Hill. ...

Did the Fed's approval of the Citibank-Travelers merger really give impetus to Congress to pass the act?

Yes. Without the Fed's approval, Congress would have probably dragged their feet. ... But once the Fed gave its imprimatur, it was only a matter of time before it would fall. Part of this had to do with the general halo effect around Alan Greenspan on Wall Street at the time. ...

What was the impact politically on Congress of Sandy Weill's pushing for repeal of Glass-Steagall?

When Weill clearly wanted to get rid of Glass-Steagall so that his new organization would survive, many in Congress -- important folks in Congress, who had previously been opposed to modernizing legislation -- decided to get on board. ...

They were brought into the stream by the same sorts of arguments which Alan Greenspan had been making for the past 10 years, which Weill had been making and others, Merrill Lynch, had been making. I think they realized if they didn't get on board, they could be seen to be getting in the way of financial progress.

What made Sandy Weill so influential with Congress?

His success. ... Sandy Weill proved that when, for instance, Smith Barney and Travelers could join up and succeed, that the old prohibitions maybe were based on politics from [the past] which were no longer valid. His success was showing people that the old law was exactly that, it was antiquated.

Did he do much personal lobbying? Phone calls to key members of Congress, like Paul Sarbanes, and what-not?

Yes, his organization did. ... In the year previous to the Financial Services Modernization Act, the thing that overruled Glass-Steagall, Citibank spent $100 million on lobbying and public relations, which is a good indication.

And most or all of that to repeal Glass-Steagall?

Yes. They spent a small fortune, a king's ransom, if you will, getting rid of Glass-Steagall. In fact, when thrown in with other financial firms' lobbying, it was closer to $200 million over the short period of time. ...

What Sandy Wrought:

The Impact of the Superbank

A top telecom strategist, Cleland is the founder and CEO of the Precursor Group, a research boutique for institutional investors.

What difference did it make that Glass-Steagall was repealed, and you could put these megabanks together?

The repeal of Glass-Steagall was a big deal. It enabled kind of colossal combinations that just weren't envisioned before, where you brought the savvy of an investment banking house like Salomon Smith Barney together with a Citibank. Citibank could loan an enormous amount of money. So when you put those two things together, it's kind of an unbeatable combination. Saying you can investment bank them and commercial bank them at the same time, it's a very powerful combination.

So Sandy Weill and his team can market across the board to [WorldCom CEO] Bernie Ebbers. "You don't need to go anywhere else, Bernie."

It's a one-stop shop strategy. It's very powerful.

How much is that responsible for the investment fever, and this "get on the team," "get on the bandwagon" feeling that you've got in the late 1990s?

The repeal of Glass-Steagall was an important contributor to the bubble.

In what way?

Well, it added to the frenzy. It added to the investment banking fervor. It added to the amount of money that was staked on this. Essentially, you had a bigger shoulder pushing that rock up the hill. ...

The death knell of Glass-Steagall is really the Citibank-Travelers merger, which comes in 1998, through an exception granted by the Federal Reserve Board. If you look back at this, do you understand what Sandy Weill was up to when he was pushing for this merger, and that he was changing the whole landscape of banking?

... No, at the time I don't think people connected the dots. But in hindsight, the repeal of Glass-Steagall was an accelerator for the telecom bubble, because remember, telecom companies need to raise an enormous amount of capital, both through equity and through debt. And these Glass-Steagall-enabled companies were able to provide whatever capital a telecom company could ever hope to raise. ...

A former investment banker and chairman of the American Stock Exchange, he served as chairman of the Securities and Exchange Commission from 1993 to 2001.

The idea [of Glass-Steagall] was separating different kinds of banking so that you didn't get the kind of collapse that you got in 1929?

Yes. ... Glass-Steagall was enacted [in 1933] to respond to some of the scandals of the early part of the century, where individual investors were grievously hurt by banks who were promoting stocks that were of interest to the banks, rather than to investors. That was a very sensible division of investment banking and commercial banking.

What worries me about combining those two interests once again is the inducement, the likelihood, that commercial banks will tie their lending activities to their investment activities. ...

Were you worried about a climate in which anything goes? "Trust the market, and the investors can take care of themselves?"

Yes, I worried about the power assumed by the commercial banks that now had the ability to be a financial services warehouse that could satisfy the needs of everybody, but whose overriding interest, I felt, would favor their corporate interests as opposed to the individual investor. ...

So you worried that the individual investor and depositor and their protections get lost in the superbank concept?

Yes, I was very worried about that, because I felt that the culture of banking and the culture of investment banking were so different. ... The lure of investment banking, and the amount of money that that meant to the commercial banks, was so much greater than whatever they got from depositors that the weighting of their emphasis would favor commercial business over the individual investor. ...

You were worried about the erosion of the standards of commercial banking. ...

The kind of scrutiny that a commercial bank would give to a loan has to erode. ... One of the inducements offered to that bank would be, "We'll give you not only our lending business but we'll give you our investment banking business, as well." ...

Let's say that a commercial bank underwrites a company. Millions of shares are outstanding in the public's hands, and the company's fortunes sink. Ordinarily, that commercial bank would place the interests of their depositors above all others at that point. ... What kind of judgment are they going to make at this point, where they have perhaps a million investors out there who have bought shares in the company that their name is on? They will probably go a step further and lend more money and more money, and more money. Then we have the shareholders and the depositors in the bank at risk. ...

Will that bank have the same kind of restraint, the same kind of controls on their lending operation, that they might have had if they were free of that investment banking obligation to the millions of shareholders that they've marketed shares to? ... You can't let this company go down. It's the reputation of the bank that's at stake now. So that's where the nexus of Glass-Steagall becomes very, very sticky. ...

The merger of investment bank and commercial bank interests has created conflicts of interest that clearly hurt the public investor. Only extraordinary activity by both the banking and security regulators can begin to address [the] issue.

Professor of economics at Princeton, former vice chairman of the Federal Reserve Board, and former member of the Council of Economic Advisors under President Bill Clinton.

What about [the argument that] the bigger the institution, the broader the spread, the greater potential conflict of interest? ... Were any of those issues salient in your mind [when you were on the Federal Reserve Board in the mid-1990s]? Concern about conflicts of interest in a superbank?

I don't think too much, because there had been a fair amount of what some people would call "revisionist history" -- but I could call "history" -- of what went on in the 1930s ... the cauldron that gave birth to Glass-Steagall. I think a fair reading of that would've been there were many, many misdeeds, many things went on that should never have been allowed to go on -- plenty of crookedness -- but very little, nearly zero of it, had its roots in the joining of banking and securities underwriting.

That is, look what's just happened in the last few years, with the scandals in the securities industry. This hasn't really had to do with the conjoining of banking and securities. It had to do with shenanigans going on in companies I won't name here, with analysts and others, that should never have happened. But the fact that some of them might've been associated with banks was pretty much irrelevant to them. ...

Are you saying that none of the abuses that we see on Wall Street were a product of this merger of all these different services?

Yes, very nearly. That is right. There were abuses. Some of them needed to be legislated against; some of them need to be penalized in the legal system; but I think precious little, if any, have to do with [repeal of Glass-Steagall]. ...

You can argue, people did argue in the long-standing debate over Glass-Steagall, that there was a cultural difference between, say, the securities business and banking, and the bad side of that is that the more the securities culture "infected" banking, the worse banking would be.

There was another way to run the argument, which was the more the banking relationship culture, quote, "infected" -- or, I should say "affected"? -- securities, the better the securities industry would be. So this can go both ways. ...

The point is that I'm not at all convinced -- it would take a lot to convince me of this -- I just don't see the evidence that [the late-1990s] bubble was made worse, not to mention immeasurably worse, by the conjoining of some banks and some securities companies. ... Citi happened to be combined with a very big bank. But lots of the same things -- as bad or worse -- were going on where there was no such agglomeration.

See, if you want to make the case that a lot of shady things were happening in this period and a lot of bad judgment was exercised, I'm with you 100 percent. But if you want to make the case that it was in large measure because of the tearing down of the barriers among insurance, banking, and securities, I just don't see that. ...

Spitzer is the attorney general of New York. He spearheaded the investigations into Wall Street practices that led to the historic $1.4 billion settlement announced on April 28, 2003.

One of the allegations made by a number of people who follow the banking industry is that the mere formation of a superbank like Citigroup -- and putting insurance, brokerage, investment banking, and commercial banking under one roof -- inherently increases the conflicts of interests. ... Does the formation of superbanks increase conflicts of interest that have the potential of hurting investors?

Absolutely. No question about it. There is no question that we have created a web of relationships that provide the opportunity for massive abuse. And what we uncovered last year demonstrates there was massive abuse. The only remaining question, then, is do you create, and can you create, a way to mediate among these conflicts to protect the consumer? Or do you have to rip apart the structure? I think we have an enormous policy debate that is facing us.

You're saying, in other words, we have to go back and reconsider whether or not it was smart to allow the formation of these superbanks?

I think that's absolutely something we have to reconsider. I don't think that the Congress and the Fed right now are willing to ask that fundamental question. I think they are trying to create firewalls between or among these various pieces to protect against the conflicts. But the enormous question facing us is how do you protect consumers, and businesses that are consumers in their own way, against this web of conflicts of interest? ...

Specifically, I was wondering whether or not you all looked at the fact that the Travelers arm of Citigroup granted a $1 billion mortgage to [WorldCom CEO] Bernie Ebbers? ...

We looked at some of those issues relating to CEOs and Bernie Ebbers and the way that money flowed to him, and in fact we brought law suits against some CEOs alleging that these conflicts were civil wrongs. So, yes, we are deeply troubled by that and it's one more manifestation of the failure of the bank to operate within proper business parameters.

Are you talking about that billion-dollar mortgage?

We're talking about the fact that loans were being made and at the same time that those CEOs were being solicited for investment banking, underwriting business. We view that as intentionally -- and in some cases, illegally -- improper. ...

So you're saying the repeal of Glass-Steagall and the permission for these huge superbanks is one of the proximate causes of the corruption on Wall Street?

Absolutely. There's no question about it. On the day that I announced the global settlement, on Dec. 20, [2002], I began by saying that the problem at its root is a flawed business model, and that business model is the product of a government regulatory decision to repeal Glass-Steagall administratively and legislatively, and to seek this tremendous concentration of power, and then the abuse of that power by the investment houses.

But it was that effort to create these one full-service banks, and that model that was the proximate cause for all of this.

And do you see evidence that anybody wants to break that model up?

I see evidence that very thoughtful people are questioning it. I don't see any evidence in Washington that there is a will to do so.

Do you see Sandy Weill doing it at Citigroup?

The bankers are never going to do it themselves. They benefit from it. Only when Congress, which has the power to pass the laws, or the Fed, that has the power ultimately to make the rules about banks, or the SEC, determines that the conflicts of interest are so intractable and so beyond the capacity of the investment houses to mediate, only when they reach that conclusion will they be forced to say this model isn't going to work.

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published may 8, 2003

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