The McFadden Act of 1927 Critique - Case Study Example

In another instance, if a state’s laws allow the opening of branches within the current city of location, then a commercial bank was not allowed to open branches in other cities. However, this Act did not allow commercial banks to open branches across different states. This Act had the effect of allowing for the geographical growth of commercial banks and they were able to compete with federal-owned banks (Johnston).

The Glass-Steagall Act was also known as the Banking Act. This Act got its name from its sponsors who were Congressmen Carter Glass and Henry Steagall. The major implication of this Act to the banking sector was introducing a separation between commercial banks and investment banks. The sponsors of this Act were motivated by the events that were happening then in the banking sector. It was after the economy had experienced a crisis in the stock market sector of the economy which was followed by the Great Depression. It had been previously discovered that monies had been borrowed from mainstream commercial banks for speculation purposes in the stock market. After the stock market crisis, many banks went at a loss and it was discovered that there was a need to separate the two areas of the trade. The Glass-Steagall Act made into law that commercial banks will only deal with deposits and loans while investment banks will deal with only stock trading (David).

The above balance sheet can be divided into two columns; one for total assets and the other for total liabilities and net worth. Assets refer to what the bank owns and liabilities refer to what the bank owes. Net worth is the bank's equity or what the bank owes its, shareholders. The total sum of the assets has to be equal to the total sum of liabilities and net worth as shown by the basic accounting equation of: Asset = total liabilities + net worth.

The theory of asymmetrical information is when one party in a borrower-lender agreement does not have perfect knowledge of the transaction. The result of this is two forms of risk which are adverse selection and moral hazard. Adverse selection occurs when a high-risk borrower is given priority over a low-risk borrower. A moral hazard occurs when the lender does not have information on the use of borrowed funds thus creating a risk of default. Asymmetrical information has led to rising of commercial banks because the premium they charge for the risk represents an income to the banks. This is usually in the form of interest received by the commercial bank (Hubbard).