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bank is aware of a negative shock to a borrowing firm's

prospects before the market is, for example, the bank may

wish to have the now-risky loan repaid.  To do so, the bank

may underwrite a public securities offering for this firm,

have the firm use the proceeds to repay the loan, but not

adequately disclose information about the firm's troubles to

the market.  An investment bank without the prior lending

relationship would not have the same incentive.  Next, con-

sider commercial banks' access to customers.  Commercial

banks might be able to exploit their information advantage

more easily than could investment banks because depositors

may be more easily duped than the more sophisticated custom-

ers of investment banks.

The positive and negative arguments, however, are not

mutually exclusive.  Commercial banks could enjoy efficien-

cies associated with combining lending and underwriting but

also be subject to credibility problems due to the potential

for conflicts of interest.  Until recently, the commonly

held view, dating from the 1930s, was not only that there

was a potential for conflicts of interest to be important

but also that the potential was realized and that the public

was systematically fooled by rogue bankers.  That view be-

came the received wisdom even though there had been no sys-

tematic study of commercial bank involvement in underwriting

during the period.  Historical investigation5 is crucial

because the received wisdom continues to be a major factor

in the policy debates over how Glass-Steagall reform will

affect small investors6 and because investigation suggests

how the unregulated market may address conflict-of-interest

problems if Glass-Steagall is repealed.

To determine how investors fared before Glass-Steagall,

we can compare the performance of securities underwritten by

independent investment banks with that of securities under-

written by commercial banks and their affiliates.  If the

commercial banks had succumbed to conflicts of interest, in-

vestors would have been lured into purchasing securities

that would have turned out to be poor investments relative

to similar securities underwritten by investment banks.

Contrary to conventional wisdom, securities underwritten by

commercial banks performed better than similar securities

underwritten by investment banks.  The public's wariness of

the commercial banks appears to have made it difficult for

them to issue anything but well-known securities of high

quality.  Relative to the investment banks, commercial

banks, on average, tended to underwrite for larger, older,

and better established firms and originate more senior

(i.e., debt rather than equity) securities.  Even before the

advent of strict disclosure requirements, the public was not