Financial Services Act Of 1999

Key Takeaways

• The Gramm-Leach-Bliley Act allows banks, insurers, and securities firms to integrate and offer each other's products.
• The Act repealed key parts of the Glass-Steagall Act, enabling commercial and investment banking collaboration.
• Financial holding companies were created to accommodate new activities within banks and their subsidiaries.
• The Act influenced consumer privacy by requiring financial companies to disclose data-sharing practices.
• Deregulation under the Act is viewed as a contributing factor to the 2008 financial crisis and Great Recession.

What Is the Financial Services Modernization Act of 1999?

The Financial Services Modernization Act of 1999, known as the Gramm-Leach-Bliley Act, repealed parts of the Glass-Steagall Act, which let banks, insurers, and securities firms combine operations and consolidate.

It expanded consumer offerings and added privacy safeguards for customer data. Its longer-term effects drew scrutiny after the 2008 financial crisis and still influence today's regulation.

Key Features of the Financial Services Modernization Act of 1999

This legislation is also known as the Gramm-Leach-Bliley Act, the law was enacted in 1999 and removed some of the last restrictions of the Glass-Steagall Act of 1933, which separated commercial banking activities from investment banking.1 When the financial industry began to struggle during economic downturns, supporters of deregulation argued that if allowed to collaborate, companies could establish divisions that would be profitable when their main operations suffered slowdowns. This would help financial services firms avoid major losses and closures.

Prior to the enactment of the law, banks could use alternate methods to get into the insurance market. Certain states created their own laws that granted state-chartered banks the ability to sell insurance. An interpretation of federal law also gave national banks permission to sell insurance on a national level if it was done from offices in towns with populations under 5,000.2 The availability of these so-called side routes did not encourage many banks to take advantage of these options.

Important

The law also impacted consumer privacy, by requiring that financial companies explain to consumers if and how they share their personal financial information; it also required these companies to safeguard sensitive data.3

New Opportunities for Banks Under the Act

The Financial Services Modernization of 1999 allowed banks, insurers, and securities firms to start offering each other’s products as well as to affiliate with each other. In other words, banks could create divisions to sell insurance policies to their customers and insurers could establish banking divisions. New corporate structures would need to be created within financial institutions to accommodate these operations. For example, banks could form financial holding companies that would include divisions to conduct nonbanking business. Banks could also create subsidiaries that conduct banking activities.4

The leeway the law granted to form subsidiaries to provide additional types of services included some limitations. The subsidiaries must remain within size constraints relative to their parent banks or in absolute terms. At the time of the enactment of the law, the assets of subsidiaries were limited to the lesser of 45% of the consolidated assets of the parent bank or $50 billion.5

The law included other changes for the financial industry such as requiring clear disclosures on their privacy policies. Financial institutions were required to inform their customers what nonpublic information about them would be shared with third parties and affiliates. Customers would be given a chance to opt out of allowing such information to be shared with outside parties.3

The Act's Role in Financial Deregulation and the 2008 Crisis

Financial deregulation under the Gramm-Leach-Bliley Act was widely viewed as a contributing factor to the financial crisis of 2008 and ensuing Great Recession. By eliminating the prohibition against the consolidation of deposit banking and investment banking, enacted under Glass-Steagall, the Gramm-Leach-Bliley Act directly exposed traditional deposit banking to the risky and speculative practices of investment banks and other securities firms.

Combined with the development and spread of exotic financial derivatives and the extreme (for the time) low interest rate policies of the Federal Reserve, this contributed to an environment of mounting systemic risk across the entire financial system in the 2000s leading up to the financial crisis of 2008. In the course of the Great Recession that followed, parts of the Glass-Steagall protections were reinstated under the Dodd–Frank Wall Street Reform and Consumer Protection Act in 2010.6