THE UNDERWRITING EXPERIENCE OF COMMERCIAL BANK AFFILIATES PRIOR TO THE GLASS-STEAGALL ACT - A REEXAMINATION OF EVIDENCE FOR PASSAGE OF THE ACT

We examine a major rationale for the passage of the Glass-Steagall Act separating commercial and investment banking activities in the U.S: that these banks abused their superior knowledge by misrepresenting the quality of inferior security issues or passing off bad commercial loans through publicly offered security issues. This issue is of current interest, even in today's more relaxed environment in the U.S. and in the universal banking system in Europe, since there are still lingering doubts that such abuses will not recur. In a systematic study of the performance of bond issues underwritten by different classes of underwriters prior to the passage of the Glass-Steagall Act, we find bank affiliate issue default rates were lower, ex ante yields-were lower, ex post prices were higher, and the relative ability of ex ante yields to predict ex post performance no different than investment bank issues. The results hold for all categories of bond issues: domestic corporate, foreign corporate, and foreign governments. We have also isolated the performance of the bonds underwritten by the National City Company and Chase Securities Corporation, which were targets of the Pecora hearing. These two bank affiliates were found to issue bonds of lesser quality than the other bank affiliates, but no worse than those of the investment banks.