Introduction
The recent recession triggered by the housing market, bubble bust in the United States cases a negative ripple effect in the world’s financial markets. It triggered a recession that led to loss of millions of jobs in the world. Many governments had to institute bail out to save companies from collapsing.
The governments also instituted austerity measures that necessitated the slashing of national budgets effectively laying off millions of government workers globally. The US mortgage crisis that was the genesis of the financial crisis is blamed on the laxity of law enforcers or failure of the laws that have governed the financial market in the US. After the great depression in 1933, the US enacted laws that aimed to stem another crisis of the Great Depression’s magnitude.
Though the great recession was not as serious as the Depression, it cased major financial imbalances that will take years to recover. It’s therefore safe to assume that the laws that have been crafted over time since the Great depression to guard financial markets against such crises have failed to work, or so it seems. The administrations of both Presidents Obama and Bush ensured the enactment of laws that stemmed the crises and stopped the bleeding of jobs.
This action by the two administrations is reminiscent of the many that have characterized the formation and adoption of public policies especially those that are business oriented. The motivations behind the laws of this nature is the perceived gap created by business practices that are likely to result in uncouth business practices or complications in the financial system that lead to such crises. The laws are also crafted to protect investors from losing their money when these transactions are not carried out within the law.
One such act is the Gramm–Leach–Bliley Act (GLB), also referred to as the Financial Services Modernization Act of 1999, (Pub.L. 106-102, 113 Stat. 1338). The paper will focus its analysis on this law, its history, the rationale behind its enactment, its implementation, its impacts and the policy analysis.
Gramm–Leach–Bliley Act (GLB) (Pub.L. 106-102, 113 Stat. 1338)
History of the Act
This a federal act of the United State enacted in the year 1999 and signed to law by President Bill Clinton. The law sought to regulate the dealings of financial institutions regarding the private information of their clients (Ingersoll et al. 1999, p. 48). To effectively work, the law included three parts i.e. The Financial Privacy Rule that governs the collection and use of private information, the Safeguards rule that governs the implementation of security programs by financial institutions.
On that bit, the law requires the financial institutions to implement security systems that ensure effective security of clients’ private information. The last component of the law is the Pretexting provisions, which aims to curb access to client information through false pretence and /or impersonation. Additionally, the law makes it mandatory for financial institutions to serve to customer written notices that explain in detail their institutional practices about sharing information (Rezaee, 2001, p. 106).
The above however was not the main reason why this act was passed. The main reason for the enactment of the law was to facilitate the opening up of the market among companies in the larger financial sector mainly; banking companies, securities companies and insurance companies.
Through the Gramm–Leach–Bliley Act (GLB), curbs imposed by the Glass–Steagall Act of 1933 prohibiting companies to offer banking, insurance and brokerage services were removed.. The act in effect opened the gate for the merger of the companies operating in the three sections described above.
The removal of the regulations however presented major gaps that potentially put customer private information at risk. Because of the mergers that were anticipated, there was a feeling that the companies may access, consolidate the customer information they had and sell it for other purposes other than for business. For instance, insurance companies were largely in control of most health records while banks maintained a huge database of financial information.
Brokerage firms on the other hand had significant information on investment activities of their clients. A merger of the three of even two of them will have therefore exposed the customers to greater risks of illegal access and use of information. That is why the act contained the privacy provisions that regulate the use and sharing of private information of customer of companies that needed to merge.
Need for Enactment
The need to enact the Gramm–Leach–Bliley Act (GLB) act was due to both business and government failures (Biegelman, 2009, p. 76). The US lawmakers referred to the law as a modernization law that meant to unlock the potential that financial companies had.
Through that argument, Congress passed the law that repealed sections of the Glass–Steagall Act of 1933 and the Bank Holding Company Act that forbade banking companies from carrying out activities deemed to belong to the insurance sector. Congress therefore felt some potential for economic growth was inhibited by the absence of such a law. Through the GLBA act, banks were eligible to engage in a variety of financial services.
At the same time, mergers taking place at the time in other industries apart from the financial sector in Europe especially led to the inclusion of the privacy elements of the law (Axelrod, 2009, p. 59). The European Union enacted the Data Protection Directive that required non-EU companies that dealt with EU citizens’ data to provide the same protection that these citizens were afforded in the EU zone.
The self-regulatory system in the US was especially not favored by the EU hence the need to enact legislation in the US that provided the same protection as the EU. At the same time, there was overwhelming public opinion in the US that demonstrated dissatisfaction on the way banks and other financial institutions handled private information.
Furthermore, there were scandals that served to highlights the risks involved in the breach of privacy. For instance, there was a scandal involving the Charter Pacific Bank of Agoura Hills, California and an adult website company. The bank illegally sold private credit card information of its clients to the company. The company then debited the accounts of the clients for services not rendered.
In 1998, NationsBank was charged and fined millions for selling customer information to an affiliate investment company. The affiliate used the information to market its high-risk products to low risk borrower who in turn lost millions of dollars. Another case involved U.S. Bankcorp and the Minnesota Attorney General when he sued it for selling customer private information with third party marketers.
The increasing private information violations and the expected avalanche of merger needed to be controlled. The GLBA provided the solution.
Implementation
The GLBA is a federal act and therefore it’s enforced by federal agencies (Dunham, 2000, p. 98). The various federal agencies are in charge of enforcing the GLBA law. The agencies are those that are involved directly overseeing regulation of financial institutions and other companies deemed to be financial institutions as specified by the GLBA act.
The most important institution that is involved in the implementation is the Office of the Comptroller of the Currency. Other are the Board of Governors of the Federal Reserve System and the Federal Deposit Insurance Corporation, both of who should work together with the comptroller of currency.
Other agencies tasked with implementing the law include the Office of Thrift Supervision, The Securities and Exchange Commission, and the National Credit Union Administration. Additionally, the individual State Insurance authorities and the Federal Trade Commission (FTC) also have a hand in enforcing the GLBA act. According to the GLBA, financial institutions are companies that avail financial services to individuals. These services may include and not limited to loans, financial and/or investment advice, and insurance services.
According to the act, all institutions that meet the definition of a “financial institution” directly or by incident fall under the jurisdiction of the Federal Trade Commission. Non-bank mortgage lenders, real estate settlement service providers, banks, debt collectors, financial and/or investment advisors, loans brokers and real estate appraisers fall under this category that is directly administered by the FTC.
For the enforcing institutions mentioned above to effectively exercise their jurisdiction, it’s important that the financial institutions must be significantly be engaged in financial services or production that clearly makes them financial institutions. In the insurance sector, the GLBA states that jurisdiction is first enforced by the state so long as the law of the state minimally complies with the Act. Further, the state law can only enact provision for stricter compliance and not less than what the GLBA requires.
It is important to note that the law sets the floor and ceiling that state laws can reach. It therefore means that the states can pass laws stricter than the federal version but not less.
Impact on Business and Society/Successes
Since its passage, the GBLA law has registered mixed success. Many companies have taken the advantage to merge while client’s private information is safer than it used to be. At least the occurrence of scandals involving divulging of client information has been minimal. There is a feeling however that these success have not been realized optimally. It’s therefore important that the hurdles that are preventing more companies merging be eliminated before considerable success id realized.
The Department of treasury says that the reaction to the GLB act has been evolutionary rather than radical. In 2003, the Department of treasury reported that out of the 6415 banking institutions in the US at the time, only a handful-633 had taken advantage of the act to transform to financial holding companies (Moeller, 2005, p. 76). Moeller (2005, p.76) says that consolidation took place but not in the scale and speed that nay analysts has predicted.
This was due to a number of factors. According to (Winston & Winston, 2009, p. 64) retail, banks have difficulty in buying insurance underwriters as opposed to brokerage of insurance services. Lack of experience in these banks that would have wanted to engage in wide financial services contributed to the lack of enthusiasm form these financial players. Similarly, there was slow venturing into banking by brokerage firms owing to their diminished branch network, and lack of back shop footprint.
There have been some mergers since the enactment of this law, for instance the 2004 merger of Bank of America with Fleet Boston. Despite the merger however, the conglomerates have experienced problems concerning difficulty in integrating investiments and insurance services. Additionally many other banks have had trouble with packaging of investiments and banking services to an extent that some of them have had to engage in questionable arrangements that have caused scandals.
Despite the look warm reception, the treasury reported that the financial sector that has experienced the most significant change since the introduction of the Act is the securities, underwriting and dealing sectors. In these sectors, Department of Treasury says that banks have increased their ownership and as well as activities. Similarly, banking involvement in the insurance industry has experienced significant changes as a direct result of the enactment of this law.
According to Moeller (2005, p.85), the GLBA legislation introduced significant alteration to the legal framework that governs activities of financial organizations and their affiliates in the United States. The alterations were chiefly brought by the repeal of the some sections of the Galss-Steagall Act as well as the Bank Holding Company act of 1956.
(Rezaee, 2001, p. 120), states that the law has had limited impact on the Federal Home Loan Bank provisions. The act had provisions whose aim was to expand the FHLBank system for the smaller depository institutions in the US. Under the law, eligibility of several collaterals was extended for the advancement of loans to small businesses. The provisions collectively are thought to have positively impacted small businesses.
Policy analysis
The enactment of the GLBA act opened the markets for mergers and acquisitions in the financial sector (Winston & Winston, 2009, p. 64). Many companies in the industry favored the passage of the act at the time. One argument that they put forwards was that after the passage individuals will be able to carry out their financial transactions at one go instead of doing savings and investiments at different institutions.
One of the earliest beneficiaries of the passage of the act was CitiGroup, which had merged with traveler insurance. However since the law at the time could not allow, the new entity had to be issued with a forbearance until the act was passed hence acquiring full legal status (Mayer et al 1999).
Weaknesses
There has been a lot of analysis on the effects and effectiveness of the GLBA act. However, the law is criticized by as having a number of flaws that contribute to its weaknesses (Schell, 1999, p. 56).
The Act according to (Schell, 1999, p. 60), GLBA does not protect consumers. The opt out standards has been cited as one of the many provisions so GLBA that unfairly places on an individual to protect privacy. The opt-out standard effectively puts the customer on weaker position to control their financial information that they may consider private.
The provision assumes that the financial institutions will share the customer information unless they are told not to. Additionally it assumes that financials institutions are free to share the customer information incase of non-response from customers when the institution communicates to them.
The enforcement mechanisms of the GLBA have also come under attack.. (Rezaee, 2001, p. 130) asserts that enforcement and compensation mechanism laid out in the act are quite weak. He says that the mechanisms are weak to a point that they cannot assure compliance even in the face of the existing weak privacy protection mechanisms. The fact that enforcement largely rests with federal agencies leaving the individual with virtually no right of protection is a weak point that does not adequately address the problem at hand.
Another weakness of the GLBA is the fact that it leaves a gap under the service provider/ joint marketing exemption. Under this exemption, the financial institutions can freely share private customer information with third parties even if the customer has opted out. This gap can easily be exploited by companies who may misuse customer information under the pretext of joint marketing.
Customer control of affiliate marketing information sharing is severely hampered. Customers who may be engaged in affiliate marketing have little control over sharing or their information since they have not been considered under the opt out provision. (Benson et al. 1999, p. 79) says that financial institutions can easily amass hundreds of affiliates, which may not be dealing in financial services. They can then share customer information since customers will not be having an opt out right.
The notices that will be issued under the third provision of the privacy section are written in legal jargon, that most ordinary people won’t understand. The law assumes that companies will assists customers by explaining the complex legal information that will help a customer make an informed choice. There is also the concern over the convoluted and confiding opt out notices and policies. The confusion that more often misleads clients is purposely done to serve the issuing entity’s interests.
The act provides little room for maneuver of customers in the cases where the notices lack transparency. Additionally, the notices that GLBA demand be issued state the companies inform customers of their intention to share the information. However, they do not provide for a provision that requires the companies to reveal with whom they are sharing the information (Schell, 1999, p. 99).
Many financial sector critics including President Obama have hit out at the law as the main cause of the 2007 financial crisis that almost led to the collapse of the global financial system.
According to the critics, the law led to the deregulation of the financial industry. Deregulation facilitated the formation of gigantic companies that were obsessed with the “too big to fail” attitude. Furthermore, the law necessitated less oversight on sensitive financial dealings such as derivatives that were later taken advantage of by unethical financial dealers.
Recommendations
In the face of the above weaknesses, there is a need for the amendment of the GLBA act to institute changes that will ensure better protection of consumers and security of the financial system.
There is need for financial institutions to implement an opt out approach that defines the use of personal information. That way, accidental, unwanted or disclosure through negligence will be avoided besides placing the burden on the actors who will be receive and gain from the disclosed information.
This way the financial institutions will be protecting themselves and the privacy of their customers. Failure to implement and use of the opt out provision for advancement of corporate interests is likely to adversely affect the companies (Benson et al. 1999, p. 47).
Additionally, financial institution should consider availing and accept alternative opt out methods in cases where an opt out framework is maintained by the institution. An amendment requiring the financial institutions to avail the opt out process through local branch offices or through the internet needs to be done.
This will help customers make an informed decision when opting out. On the same note, the financial institutions should be required to provide simple and coherent privacy policies. The law should ensure these policies follow universal standards of readability for the enhancement of transparency (Benson et al. 1999, p. 47).
It’s important that the amendments to the GLBA law require financial institutions ton disclose that the information that they collect will be used for. This can be availed in the privacy reports and will greatly enhance transparency and accountability in these institutions.
Furthermore, the amendments should require financial institutions to grant customers rights to statutory access to be enlightened about industry practices. As a result customers will be informed on the information collecting process as well as their uses. It will come in hand in making decisions.
One of the most glaring omissions by the GLBA is the failure to give state authorities power to oversee the transactions carried out by these financial institutions. It is therefore important for any amendments to include provisions that will grant state authorities concurrent jurisdiction for the effective enforcement of the law. Given that all companies are situated in individual states, the states’ law enforcement agencies will be better placed to implement the law’s provisions (Schell, 1999, p. 101).
The law will also need to have provisions that will make it easier for offended clients to seek redress when privacy rights have been violated. Currently the law does not give a private right of action, which greatly hampers individuals in seeking redress especially if there are issues with opting out. Additionally, the amendments should consider giving the individual the right to access and review the information so that he/she can help in correction in cases of inaccuracies and/ or incomplete data.
There needs to amendments that help in the regulation of sensitive financial market practices such as trading in derivatives. Former president Clinton admitted that he was wrong and probably he may have been misled to accept the provisions of the law on the matter such as derivatives. The law as it is gives too much autonomy to financial companies. The autonomy has been unethically used and contributed to the fall of the housing market in 2008.
Many analysts believe the law should have been implemented in bits. The provisions contained in the law gave too much freedom to the financial sector in a sudden manner that clearly overwhelmed many institutions.
They also contend that the scope of operation given to these financial institutions should be reduced probably to more or less, to what it was under the Glass–Steagall Act of 1933. Its safe to assume that the provisions of this law that were repealed when the GLBA came to law played a crucial role in stemming a crisis of similar to the great depression and the 2008 financial crisis.
References
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Benson et al. (1999). Financial services modernization: Gramm-Leach-Bliley Act of 1999. Washington: Routledge.
Biegelman, T. M. (2009). Identity Theft Handbook: Detection, Prevention, and Security. New York: Cengage Learning.
Dunham, B. W. (2000). After the Gramm-Leach-Bliley Act: a road map for insurance companies. Burlington: Thomsons Learning.
Ingersoll et al. (1999). Gramm-Leach-Bliley Act. New York: Routledge.
Mayer et al. (1999). The Gramm-Leach-Bliley Act: executive summary & review and analysis. New York: Sage.
Moeller, R. R. (2005). Brink’s modern internal auditing. Los Angeles: Routledge.
Rezaee, Z. (2001). Financial institutions, valuations, mergers, and acquisitions. New Jersey: Cengage Learning.
Schell,J.M. (1999). Private equity funds: business structure and operations. New York: Infobase Publishers.
Winston,J. & Winston, A. (2009). Complete Guide to Credit and Collection Law. New York: Sage Publishers.