American Finance: From Deregulation to Government Ownership in One Fell Swoop

A delegation from the U.S. Treasury Department met recently with a few of the world’s largest sovereign wealth funds. They want to avoid a political firestorm as more and more foreign investment makes its way into the U.S. economy.

What’s this all about, really?

Over the past thirty years, the U.S. government has dismantled the system of regulation the nation instituted to prevent the sort of wild speculation that preceded the financial meltdown of the Great Depression. The last piece to fall was known as the Glass-Steagall Act, a Depression-era firewall intended to separate commercial banking from investment banking. In the late 1990s, my cabinet colleague Bob Rubin joined Fed chair Alan Greenspan to get Congress to repeal Glass-Steagall.

Now we’re witnessing another financial meltdown, also fueled by speculation. Hopefully this one is not as serious as the one that occurred in 1929. But it does require us to rethink the importance of sensible financial regulation. Perhaps the pendulum of financial deregulation has swung too far.

Paradoxically, the primary response of governments – both here in the US and in other advanced nations whose financial markets are also frozen – isn’t to rethink regulation. It’s to subject financial institutions to government ownership. Recently the British government decided to take over the troubled mortgage lender Northern Rock. This was after the Bank of England was forced to give the firm emergency funding to avoid a run on the bank.

Well, you might say, that’s Europe. They’ve been nationalizing companies for years. But the same trend is happening in the United States. The difference is that here it’s not the US government that’s taking over financial institutions. It’s governments from Asia and the Middle East. Singapore recently paid $4.4 billion for an ownership stake in Merrill Lynch. The Chinese bought a $5 billion piece of Morgan Stanley. Abu Dubai is spending billions on other American financial institutions. The list of foreign owners continues to lengthen, and the amount they’re shelling out to buy American banks continues to grow.

As their balance sheets weaken, America’s big financial houses are getting bailed out by selling out. It’s only logical, from their viewpoint. American banks need the cash and oil-producing and East-Asian governments have it. Yet there’s no end in sight for the credit crisis, and Middle Eastern and East Asian “sovereign wealth funds” are in the process of owning a larger and larger portion of the global banking system. These funds are growing by more than a trillion dollars a year. At this rate, they’ll BE the global banking system.

The problem is, government ownership doesn’t work. Governments are lousy at deciding where profits can be found. They’re liable to make decisions based on politics rather than profits.

It’s the biggest irony in financial history. Decades of U.S. government deregulation of Wall Street has reaped a whirlwind of irresponsible speculation. It’s now ending in a financial meltdown that’s being remedied by government ownership, with all the strings that come with government ownership. And it’s not even OUR government that’s holding the strings.