President Obama s proposal to place new limits on financial institutions may have been as popular on Main Street as it was unpopular on Wall Street, but what was the reaction from those who take a broader view than consumers and day traders?

Although many of the details remain unclear, the administration s proposal aims to tackle some of the problems that led to the recent financial crisis by restricting the size and activities of major banks. The administration s proposal places a limit on the market share of a bank s liabilities. It would also prevent banks from owning, investing in or sponsoring hedge funds or private-equity firms and prohibit proprietary trading that makes a profit only for the bank itself.

The market s reaction to President Obama s proposal of new limits on the size and scope of banks was swift and severe. The Dow Jones Industrial Average plunged 214 points Thursday, with financial stocks like Bank of America (BAC) losing as much as 6%.

However, many economists have argued that reform is necessary in the wake of 2008 s financial meltdown. The current proposal draws on ideas championed by Paul Volcker, the chairman of the president s Economic Recovery Advisory Board. SmartMoney asked economists to weigh in on whether this type of reform is necessary and what the impact on the financial system might be.

Richard Sylla, professor of economics at New York University s Stern School of Business:

We re taking some steps back toward Glass-Steagall without going all the way there. That s what Volcker has been pushing for all year long, and I guess Obama realizes now it s a good idea, Sylla says. Whereas the Glass-Steagall Act prevented commercial banks that take deposits from running brokerage firms that invest in the stock market, the current proposal only prevents banks from also running hedge funds.

The principle is, there s nothing wrong with proprietary trading. It adds liquidity to markets. But this shouldn t be coupled with a commercial bank that has a lot of government-insured deposits, because it is sort of an inherently risky business. Banks are in the business of managing risk, but they do it by making short-term loans and managing those loans carefully. Obama s saying there s enough risk in commercial banking without adding these other activities. These are speculative things for rich people and probably shouldn t be tied up with commercial banks, Sylla says.

Banks have failed throughout American history, but they weren t so big that they would cause the whole financial system to collapse. Financial institutions shouldn t be so big that if one of them gets into trouble and fails it threatens the whole system, Sylla says. The current rule that prevents any one bank from holding more than 10% of the nation s total deposits still allows for very large institutions, and a reduction to perhaps an 8% cap could reduce the risk any one institution poses to the entire system, he says.

Simon Johnson, professor of entrepreneurship at the Massachusetts Institute of Technology:

There is no evidence that the increasing bank size since the early 1990s in this country has brought any social benefits, and it s brought massive social cost. I think where they ll end up is limiting either liabilities or assets relative to GDP. If you limit banks share of liabilities, what they don t seem to realize is, if you have a financial bubble the value of liabilities go up. [The limit] has to be relative to something real, the real economy, Johnson says.

The restriction on proprietary trading is at least a step in the right direction, Johnson says. That would roll back the clock to maybe 2007, 2005 arguably. You have to go back to the early 1990s when Goldman was about a fifth of its current size and a hugely successful investment bank. I m not saying we should handcuff our financial sector, I m saying we should make our financial sector safer, Johnson says.

I would not call this populist. Just because something is popular, doesn t mean it s populist. Sensible ideas can be popular. I m telling you as a technocrat, as a boring economist who hangs out mostly with other boring economists, that this policy is sensible and it needs to go further, Johnson says.

John Berlau, policy director at The Competitive Enterprise Institute:

It doesn t make sense to go back to the '30s. Average investors could see some real disruption, and credit wouldn t be as available. We re the only country that has really ever separated commercial and investment banking like this, so if that s a key factor in a financial meltdown, why didn t Europe melt down a long time ago? It looks more like [Obama s] doing this for political points than as a sound policy, Berlau says.

If Glass-Steagall was ever appropriate, it was when you had most Americans in ordinary savings and the high flyers on Wall Street, and now you ve got most people in the stock market, so separation like that is a little bit like taking away the cellphone. It s not really appropriate when looking at what the ordinary saver actually does, Berlau says. As these proposed restrictions would be unique to the U.S., they could also undermine the competitiveness of American firms, he says.

I don t know if it s smart politics, but it s certainly not smart policy, Berlau says.

Lee Ohanian, professor of economics at the University of California Los Angeles:

I would call this nihilistic banking reform, because the administration is essentially throwing up their hands and saying, we really don t trust banks to do what s in society s best interest, and we don t trust ourselves to set up less onerous regulations that would try to get incentives right for banks not to take on too much risk, Ohanian says.

I would think a slightly more targeted approach would be something similar purely for insured deposits, Ohanian says. Regulation could require banks to fully cover their insured deposits with safe investments like Treasury securities, for example. Banks would be free to set up other types of companies or arms or branches which could trade riskier assets, but the key issue there is they could not in any way be funded by insured deposits. Those who invest in those types of activities would have to bear the risk, Ohanian says.

It s not obvious the size restriction they come up with is going to be a useful one. The risk is, I m not sure anybody knows what number too big to fail is. Too big to fail is not so much the size of the deposit or the liability base of the bank, it can be too big to fail if it poses a systemic risk to other institutions, Ohanian says. It would be extremely difficult to regulate the types of connections between institutions that truly make an institution too important to fail, he says.