Deregulation of Financial Services

Financial giant Citigroup is just an example of how deregulation can allow innvators to make a market niche in investment banking, commercial banking and insurance.

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Banking is the pinnacle industry for financial services to both the consumer and business sector. Whether it is a home loan or an initial public offering, the freedom of banks to run at a market efficiency (although not always successfully) has been the hope of a public and business community, which wants optimum value and competitive prices.

Strengthening a fragmented sector

The issue at hand is the importance of connectivity in the financial services industry. The Glass-Steagall Act, otherwise known as the Bank Act of 1933, went into effect to put up the wall between commercial and investment banking. Commercial banks could not underwrite, deal in or own stocks or bonds of corporate status. In 1956, the Bank Holding Company Act took that a step further to put up a wall between insurance and banking. These regulations were seen as necessities in those times, but in 1999, the Gramm-Leach-Bliley Act, more commonly known as the Financial Services Modernization Act, came into effect. Under this, the original two acts were repealsed, allowing mixing between all three areas of finance.

A new organizational form for banks emerged, known as a "financial holding company." Under this provision, nonbanking subsidiaries of the company can engage in financial services such as underwriting insurance and securities, aside from other areas such as credit advisory and tax return preparation. Among other restrictions, these subsidiaries can do some, but not all, of the new activities available to the holding company.

As merge and expand their product offerings, unprofitable firms will be eliminated from the market, creating a better market for consumers and businesses together. More efficient and profitable firms will contribute to making a better economy. As mergers ensue within the insurance industry it will lessen the risk endured by insurance businesses. Systematic risk would be significantly reduced.

Catering to the Finance Customer

The original 'walls' have been destroyed, and now these new, powerful financial institutions can provide all of the services necessary to the financial consumer. Firms protected by Federal regulation will not be able to compete in a market where that consumer becomes the number one priority. Here are some of the successes :
  • A single, Federal oversight of the industry, as opposed to state regulations, which can very greatly from one to another.
  • Larger banks can enter into new markets as the industry becomes more competitive, which will generate more competition. Hence, more competition leads to better prices. Instead of numerous small firms operating in the industry, larger banks with a larger scale of operations will compete and offer consumers traditional commercial banking, insurance and investment product in the same company.
  • Competition will become fierce within the banking industry as a wave of mergers entails. This will make for a more efficient industry and yield better prices for consumers on stock purchases, insurance policies and banking fees.

    Some people want to overturn the legislation...

    Of course, not everyone is excited about the potential for the future of the financial services industry. Here is what they believe, and what we have to say about it:

  • Smaller banks will be eliminated through a wave of mergers. they will not have the resources to expand into other product markets and offer better competitive attributes. This will destroy the capability for small businesses to compete in the industry and will put them out of business.

    What We Think: According to Howard Wall of the Federal Reserve Bank of St. Louis (, “Recent research presents persuasive evidence that banking deregulation in the U.S. has led to increased rates of entrepreneurship. Specifically, Black and Strahan (2002) use a panel of U.S. states and find that entrepreneurship in the states ‘increased following deregulation of banking restrictions, and that deregulation reduced the negative effect of concentration on the entry of entrepreneurs.” Hence, we can conclude that banking deregulation does not eliminate smaller businesses, but it actually promotes the entry of new businesses into the market.

  • Consumers want state laws to regulate the insurance industry, not Federal laws
    What We Think: By allowing insurance firms to be regulated at the Federal level instead of the state level, the operating efforts of these businesses will not be hindered. Less time spent on meeting regulation requirements means cost savings, which will result in lower costs to consumers. What consumer wants to pay more for the same insurance coverage? Also, Federal regulations can often be stiffer regarding insurance requirements than state laws, so there is no fear of lax authority. At the same time, it would allow for one central set of regulations that these firms would have to follow, making their operations less vulnerable to violations by clientele.

  • Massive merger mania will lead to less opportunities for consumers to choose
    What We Think: Increased mergers within these industries will create a more efficient marketplace. As businesses merge they will be able to expand their product offerings with the backing of a larger corporation. Centralization of banking needs, insurance policies, and investments can all be held by one firm, therefore providing simplicity to the consumer. According to the research of the Federal Reserve Bank of St. Louis, as stated above, deregulation will not hurt competition within smaller businesses, but drive the ambition of innovators who seek to take advantage of these new opportunities within financial services.

    To Sum It Up

    As stated throughout, the potential for merger within the financial services industry will allow only the highest-quality competitors to succeed, and the consumer benefits from it, be it the first-time autmobile owner who needs an insurance policy, the newest publicly-held biotechnology firm, or eager investors who would like to see financial market operations consolidated.
    Works Consulted:
    Finance Services Modernization Conference Report. U.S. Senate Banking Committee. []

    GLBA: Statement of Intent. The National Association of Insurance Commissioners. []

    Implementing the Gramm-Leach-Bliley Act: Two Years Later. The Federal Reserve Board. []

    The Gramm-Leach-Bliley Act and Financial Integration. Federal Reserve Bank of San Francisco. []