(By Shah Gilani) U.S. banking-industry regulators have long understood that there needed to be a carefully delineated separation between such low-risk activities as deposit-based banking, and much higher-risk activities as investment banking.

But the regulatory walls that separated the two have been steadily dismantled through the years, an intentional act that had the unintentional consequence of helping spawn the worst financial crisis since the Great Depression.

Not unlike the Depression era Glass-Steagall Act, which was enacted to keep FDIC-insured commercial banks separate from the riskier businesses of investment banks and securities broker-dealers, regulators determined that bank ownership should be limited to bank holding companies. The Bank Holding Company Act of 1956 further ensured separation of commerce and banking by prohibiting bank holding companies from engaging in non-financial activities. The essence of the regulations was to prevent banks from failing by not allowing owners to deplete bank resources by diverting them to prop up other businesses they owned or controlled.

Setting the Table for Trouble?

In 1998, in what many experts agree was the starting line in the race to worldwide financial collapse, Citibank Inc. merged with Travelers Group, which owned the Solomon Smith Barney and Shearson investment-banking and securities broker-dealer businesses, to create what is now Citigroup Inc. (NYSE: C). It was a move marked by extraordinary bravado that was made in direct contravention of the existing Glass-Steagall and Bank Holding Company acts.

The flaunted marriage was subsequently blessed a year later when an ocean of lobbying money floated the Gramm-Leach-Bliley Financial Modernization Act, which repealed parts of Glass-Steagall and circumscribed regulations in the Bank Holding Company Act.

The merger that created Citigroup was touted as necessary to compete with other universal banks. Now private equity is touting its burgeoning coffers and the distressed state of undercapitalized banks as a marriage whose time has come – as well as one that will benefit the U.S. economy. Not unlike Citibank and Travelers forcing legislative changes after the fact, private equity is pushing hard against every law and regulation standing in the way of its ultimate prize.