Interest Groups and the Glass-Steagall Act

Abstract

Banks are regulated and supervised according to technical criteria, and banking contracts are enforced according to abstruse laws, but those criteria and laws are not created and enforced by robots programmed to maximize social welfare. They are the outcomes of a political process – a game, as it were – whose stakes are wealth and power. There is, in fact, no getting politics out of bank regulation, because public officials have inherent and unavoidable conflicts of interest when it comes to the banking system. First, governments simultaneously regulate banks and look to them as a source of finance. Second, governments enforce the credit contracts that discipline debtors on behalf of banks (and in the process assist in the seizing of debtor collateral), but they rely on those same debtors for political support. Third, governments allocate losses among creditors in the event of bank failures, but they may simultaneously look to the largest group of those creditors – bank depositors – for political support.