Sandbags on Wall Street

A new financial structure is being erected day by day on Wall Street — all of it in a hurry, without forethought, like a wall of sandbags in a flood. When the crisis is over, the survivors should be subject to serious public examination.

For more than 50 years, one of the bulwarks of American finance was the Glass-Steagall Act. Passed 75 years ago during the Great Depression, the law created bank deposit insurance. It also declared that investment banking — the Wall Street stuff — had to be separated from commercial banking, so the savings of ordinary Americans would not be put at unnecessary risk.

Glass-Steagall worked well in its day. Probably it prevented some financial excitement, but it also limited the risk of public bailouts, partly by keeping companies in one industry, and therefore smaller. In 1999, Congress repealed it, which was a mistake.

We are beyond it now. Bank of America, the nation's largest commercial bank, has agreed to take over Merrill Lynch. Bear Stearns was swallowed by another commercial bank, J.P. Morgan Chase. We are not sure who will own the pieces of Lehman Brothers, the insurance giant AIG, or even Seattle's own Washington Mutual, but in times like these there is a tendency to smile on whoever is willing to pay. A financial explosion is defused — but also a conglomerate created.

At some point, the American people will have to ask what sort of Wall Street they want. Should it be dominated by huge companies with complicated interlocking relationships? We think not. Having allowed the shotgun marriage of Bank of America and Merrill Lynch, it will be difficult to seek an annulment. But it might be the best thing.

Wall Street performs a crucial job: the allocation of capital to business. To do that right, it has to have clear fiduciary duties, arm's-length relationships, disclosure, oversight and limitations on risk.

As always in business, ownership is important. Key pieces of the system should be independent of other pieces. Incentives also have to be right, so players are not rewarded for the wrong things.

The more Wall Street is subject to rescue, the more the sandbags will need to be moved when the floodwaters recede.