The contemporary rise of finance, promoted by both Republican and Democratic administrations, has changed America from an economy focused on sustainable growth to one dominated by the financial sector itself – a broad range of industries that includes banks, investment firms, insurance companies, and real estate firms that provide financial services to commercial and retail customers.
Since the 1980s, the financial sector has expanded to take up an extremely large slice of the U.S. economy, a trend referred to as “financialization.” Financial institutions have significantly increased in scale and profitability relative to what most see as the “real” economy – businesses that produce tangible goods – which has left the United States increasingly reliant on the financial sector to generate economic growth.
The growth is apparent when measuring the size of the financial sector as a percentage of gross domestic product. Finance and insurance alone represent about 7 percent of the U.S. GDP. Profits tell a similar story. The sector now takes around a quarter of all corporate profits, yet creates only 4 percent of jobs, according to the Bureau of Economic Analysis. In short, the financial sector has captured a larger and larger piece of the national economic pie.
Many say this has contributed to widening income inequality between a small pool of high earners and the rest of society, giving the financial elite ample resources to sway government policy in their favor. This political influence is quite unlike the 99 percent, whose choices are increasingly limited to making ends meet. Several Democratic presidential candidates have criticized the United States’ reliance on the financial sector and lax government regulation. Sen. Bernie Sanders has made “breaking up the banks” a key plank in his presidential platform.
One factor that has contributed to financial sector growth is deregulation.
Before the Great Depression, the status and influence of financiers was so great that when President Theodore Roosevelt filed the first major antitrust lawsuit against J. P. Morgan’s Northern Pacific Railroad, Morgan, the fabled Wall Street titan, at a February 1902 White House meeting, told the President, “If we have done anything wrong, send your man to my man, and they can fix it up.”
Four years after the stock market crash of1929, the United States passed the Glass-Steagall Act in 1933 and other legislation to rigorously regulate the financial sector and make it more stable and transparent. Glass-Steagall legislation separated investment banking from commercial banking forcing banks to choose one or the other. Little by little ever the last several decades, those laws that served America so well were rolled back starting in the 1980s onward.
The financialization of the economy was jacked up in the 1980s, fueled by Reagan-era laissez-faire policies. For example, the 1982 tax reform lowered the capital gains tax. Deregulation from the 1980s onward encouraged banks to move away from their traditional role of supporting businesses and individuals and providing the liquidity and credit needed to lubricate the economy.
For instance, the repeal of the Glass-Steagall Act in 1999, a seismic moment in the story of financialization, triggered high-risk deals and trading by financial institutions by enabling them to use deposits collected through their commercial banking arms. Lusting for quick, short-term profits that kept the money within the financial sector rather than investing it in the real economy, banks began to focus on high-risk “financial engineering” like sub-prime loans, collateralized debt obligations, structured investment vehicles, and derivatives, which Warren Buffet famously called “financial weapons of mass destruction.”
Such activities are remote from the production of tangible goods and services. Finance has become a business unto itself, all about making money from money rather than making things and being a facilitator for real business. Populists from the left and the right say Wall Street has done better than Main Street – and that may be the truth of it.