gotiation. By contrast, in competitive bid contracts, the offering is presented to several investment banks which are invited to bid for managership of the issue.
Firm commitment and best effort contracts may be either negotiated or competitive. In firm commitment contracts, an investment bank assumes the greatest risk, because the contract requires the bank to acquire at a specified price the securities covered by the contract (Pugel and White, 1985). By contrast, an investment bank is not required to acquire the securities in a best effort contract, thus, minimizing investment bank risk.
Dealing, which also involves market making, requires an investment bank to buy and sell financial securities in the secondary markets, and to hold inventories of such securities in its own account (Pugel and White, 1985). Brokerage involves the execution of customer buy and sell orders. It differs from dealing significantly, in that the investment bank does not take positions in its own name in the issues traded (Pugel and White, 1985).
Regulation and Investment Banking
The financial regulatory system in effect in the United States prior to 1980 was largely the result of responses by the federal government to the financial crises of the late 1920s and early 1930s. The basic law in this regulatory structure was the Banking Act of 1933, commonly known as the "Glass Steagall" Act. Glass Steagall prohibited commercial banks from (1) the speculative use of deposits, (2) acting as agents in security loans to brokers or dealers of financial securities, (3) extending credit for the purchase of financial securities, (4) owning security dealer affiliates. Loopholes pertaining to bank holding companies in Glass Steagall permitted some commercial banks to circumvent these prohibitions. When the Bank Holding Company Act became effective in 1956, the one bank bank holding company loophole permitted some banks to continue circumventing the...