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Question Number 1: Read the given "words from the street" and distinguish commercial banking from investment banking (4) Separating Commercial Banking from Investment Banking Until 1999, the Glass-Steagall Act had prohibited banks only two remaining major independent investment banks, in the United States from both accepting deposits and Goldman Sachs and Morgan Stanley, decided to convert underwriting securities. In other words, it forced a sepa- from investment banks to traditional bank holding com- ration of the investment and commercial banking indus- panies. In doing so, they became subject to the supervision tries. But when Glass-Steagall was repealed, many large of national bank regulators such as the Federal Reserve commercial banks began to transform themselves into and the far tighter rules for capital adequacy that govern "universal banks" that could offer a full range of com- commercial banks. The firms decided that the greater sta- WORDS FROM THE STREET mercial and investment banking services. In some cases, bility they would enjoy as commercial banks, particularly commercial banks started their own investment banking the ability to fund their operations through bank deposits divisions from scratch, but more frequently they expanded and access to emergency borrowing from the Fed, justified through merger. For example, Chase Manhattan acquired the conversion. These mergers and conversions marked J.P. Morgan to form JPMorgan Chase. Similarly, Citigroup the effective end of the independent investment banking acquired Salomon Smith Barney to offer wealth manage- industry-but not of investment banking. Those services ment, brokerage, investment banking, and asset man- now will be supplied by the large universal banks. agement services to its clients. Most of Europe had never Today, the debate about the separation between com- forced the separation of commercial and investment bank- mercial and investment banking that seemed to have ing, so their giant banks such as Credit Suisse, Deutsche ended with the repeal of Glass-Steagall has come back to Bank, HSBC, and UBS had long been universal banks. Until life. The Dodd-Frank Wall Street Reform and Consumer 2008, however, the stand-alone investment banking sector Protection Act places new restrictions on bank activities. in the U.S. remained large and apparently vibrant, include For example, the Volcker Rule, named after former chair- ing such storied names as Goldman Sachs, Morgan-Stanley. man of the Federal Reserve Paul Volcker, prohibits banks Merrill Lynch, and Lehman Brothers. from "proprietary trading," that is, trading securities But the industry was shaken to its core in 2008, when for their own accounts, and restricts their investments in several investment banks were beset by enormous losses hedge funds or private equity funds. The rule is meant to on their holdings of mortgage-backed securities. In March, limit the risk that banks can take on. While the Volcker on the verge of insolvency, Bear Stearns was merged into Rule is far less restrictive than Glass-Steagall had been, JPMorgan Chase. On September 14, 2008, Merrill Lynch, they both are motivated by the belief that banks enjoying also suffering steep mortgage-related losses, negotiated Federal guarantees should be subject to limits on the sorts an agreement to be acquired by Bank of America. The next of activities in which they can engage. Proprietary trading day, Lehman Brothers entered into the largest bankruptcy is a core activity for investment banks, so limitations on this in U.S. history, having failed to find an acquirer able and activity for commercial banks would reintroduce a separa willing to rescue it from its steep losses. The next week, the tion between their business models