Glass-Steagall Act
Major banking legislation passed by the 72d Congress in 1932. It was sponsored by Senator Carter Glass (D-VA) and Representative Henry B. Steagall (D-AL). The Banking Act of 1933 was also sponsored by Glass and Steagall and also goes by the name "Glass-Steagall Act" and incorporated this law into it.
Facing yet another year of depression, and having lost partisan control of Congress, the republican president Herbert Hoover was seeking more reform and relief than ever before. His Reconstruction Finance Corporation was helping to bail out banks and other lenders but did little to restore confidence in banks.
A major contributor to the lack of confidence in banks were the permissible activities of banks. Prior to this legislation, U.S. banks were permitted to loan money to any person or entity they wished. Banks, of course, continued to engage in commercial operations, holding demand deposits and making consumer loans. These were mostly mortgages, but 1920s saw the creation of the consumer credit market as middle-class consumers used credit to purchase automobiles and appliances.
Bank also were the source for large investment loans as well. When a manufacturer needed many millions for expansion of plant or to underwrite an initial public offering, they could turn to the banks as well. Also during the 1920s, banks loaned much to brokerage houses and otherwise directly pledged their reserves in the stock market.
These activities are inherently risky, and if a manufacturer can not repay, the default could force a bank to close. The most striking example of this failure was the Bank of the United States which failed in 1930 the result of having used its depositor moneys as investments in the stock market. Once a bank failed because of these risky investments, depositors lost their money.
The Glass-Steagall Act of 1932 forced banks to chose their industry: either they would be commercial banks focusing on demand deposits or they would be investment banks focusing on higher risk investments. Banks in one area of business were forbidden from engaging in the other.