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The Future of Banking: The Structure and Role of Commercial Affiliations
UNITED STATES OF AMERICA
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FEDERAL DEPOSIT INSURANCE CORPORATION
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THE FUTURE OF BANKING:
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Senator Robert Bennett, Senate Committee on Banking,
Senator Robert Bennett
Congressman Jim Leach
PANEL DISCUSSION: Banking and Commerce
PANEL DISCUSSION: Commercial Affiliations:
MR. BOVENZI: Good morning and welcome. My name is John Bovenzi. I'm the Chief Operating Officer at the FDIC. It's my pleasure to welcome you all here today to this morning's symposium, "The Future of Banking: The Structure and Role of Commercial Affiliations."
The FDIC has initiated a study on the future of banking in America. As part of this study, we're taking a hard look at the issues that will be driving the banking marketplace and banking policy over the next few years. Today we're examining an important and timely issue, the separation of banking and commerce in America.
Specifically we'll examine whether there is a growing appetite in the marketplace for increased affiliations between banks and commercial firms and whether such affiliations are in the national interest. The debate is given weight and character by the ongoing discussions in Congress about whether industrial loan companies should be allowed to keep pace with other bank charter types when it comes to geographic branching and interest on business checking. We don't expect to resolve any issues today, but we do hope to have a good discussion of the issues.
We have an outstanding line-up of speakers today. First, we'll hear from two distinguished members of the House and Senate, both with well defined and long held views on the subject. Our first panel will feature banking practitioners who will discuss the realities of combining banks and commercial activities in the marketplace.
Our second panel will feature a diverse group of individuals with views on the policy implications of greater affiliation between the financial and commercial sectors of the American economy. Important also will be your views. We have limited our panels today to three participants apiece in the hopes we'll have plenty of time left over for audience questions and participation.
We'll begin our program this morning with our first guest from Capitol Hill, Senator Robert Bennett of Utah. Re-elected to a second term in the United States Senate in 1998, Senator Robert Bennett continues to serve the citizens of Utah with distinction. As chairman of the distinguished Joint Economic Committee and as a senior member of the Senate Banking Committee, the Utah Senator is at the center of national economic policy discussions.
Senator Bennett did an outstanding job as the chairman of the special committee responsible for Y2K preparations and remains actively involved in technology issues including working to ensure that the nation's critical infrastructure can be protected and U.S. national security bolstered. A native of Salt Lake City, Senator Bennett is the son of a former four-term U.S. Senator.
Senator Bennett and his wife Joyce are the parents of six children and as I understand it a great many grandchildren. Always thoughtful, full of common sense and wisdom, I'm told that it was Senator Bennett who has remarked, "The grandchildren are God's gift for putting up with your own children." Please give a warm welcome to Senator Robert Bennett.
SENATOR BENNETT: Thank you very much. I appreciate the opportunity to be with you. I'll do what I can to try to put some of this in context. Then if there's a little time left over, I'll be happy to respond to questions because I have my staff here and that means I know what I'm talking about.
The whole question of banking and commerce is one that goes back a long, long ways. In fact, if you go all the way back to the beginning of banks, you find that they came out of commerce. Indeed it was the drive to make commerce more efficient that created the whole notion of a bank.
The first banks, I'm told, came from those who were in the goldsmithing business. Go back to the beginning of money. The first parts of money were gold, and gold coins were invented because it was so difficult to carry scales with you everywhere you went. You would set up a scale and weigh the gold as you were going to make a deal.
Well, why don't we pre-weigh the gold? Everybody knows how much will be in each particular coin. That created a commercial opportunity because somebody had to make the coins. Then the goldsmiths that made the coins began to evolve into banks. So commerce and banking have been linked together from the very beginning.
This is true even of our present institutions. I have a few facts here that I didn't know but were dug up for this particular presentation. Do you know where the Chase Manhattan Bank came from? It was chartered in 1799 to develop a water system for New York City. Directors of the water company were authorized to use capital to engage in the business of banking.
They got the capital together to create the water company. Then until the capital was expended to take care of the water problems, they could use it for banking. Here's where it makes it interesting. The founder of the aforementioned water company was a man named Aaron Burr. You may remember Aaron Burr, Vice President of the United States under Thomas Jefferson.
Thomas Jefferson did everything he could to have Aaron Burr killed. He had him arrested for treason, I think, seven times. No court ever convicted him. It was one of Jefferson's great disappointments that he was not able to use the Presidency to hang his principal opponent. There are some current aspirants to that office who would like to do the same thing about their opponents. But we've come away from that.
Aaron Burr was a New Yorker. Who was the other prominent New Yorker of his time particularly interested in banking? Alexander Hamilton. Alexander Hamilton was the head of the Bank of New York who made efforts to prevent Burr and the water company from getting into the banking business. They settled their disputes a little more aggressively in those days. Aaron Burr shot Alexander Hamilton in a dual partially stimulated by this particular fight. As an interesting historic memento, Chase Manhattan still has the pistol.
So you don't have to be quite that exciting to talk about the connection between commerce and banking. Wells Fargo. Where did Wells Fargo start? Well, a letter express carrier for miners named Alexander Todd transformed his enterprise from a letter express company to a bank and later sold it to Wells Fargo who ran the stage coaches. The stage coaches exist only in television ads now, but that demonstrates that Wells Fargo itself was very much in the cargo hauling business.
This is what Alexander Todd had to say. He said "It was not long before the miners came to us to get us to take care of their money for them. It was a very common thing for me to start out from Stockton" - that's California - "with tow-horses loaded down with gold dust.
The miners had no opportunity for taking care of their dust. We were obliged to have safes at our different offices. Our express business soon merged into a banking business. We charged them for taking care of their dust one-half percent per month. They gave us the privilege of using it also."
So what started out as strictly a transportation business grew into a bank. The whole concept of banking being created to serve commerce and therefore be mixed with commerce has a very long and distinguished historic pattern. So what happened? Well, looking back on history, we find that one of the truly watershed events in American history, indeed in the world history, the results of which we're still living with was of course the Great Depression.
When the Great Depression hit and everything appeared to fall apart, we decided as a people that there was only one place we could go for safety and stability. That was the federal government. I find the flag interesting that you are displaying here for Federal Deposit Corporation. We all have to have labels.
We have to have labels on our lapels that show who we work for or on our belt buckles that show what kind of car we drive or whatever. We're always putting out logos in college. We put decals in the back of our windows that show what fraternity we belong to. I bought a new car. I bought the Honda Insight. They gave me a jacket that said "Insight" on the back. I said I'm not allowed to accept gifts that are worth more than $50. They said this is not worth more than $50. It's used.
So in any event, here's this logo, this label. The thing that struck me about it as I walked in is it says "1933." The Great Depression was the moment in which we all turned to government and said let us create government institutions that will protect us from the marketplace, protect us from the ravages of laissez-faire economics. That is let everything happen all by itself. Or as one man once put it as the Great Depression was raging, he turned to those that were for complete free markets and he said "What do you think of lazy fairies now?"
But out of the mentality of the reaction to the Great Depression is the government was setting up these regulatory agencies to provide a degree of security. Frankly much of it was psychological security as well as actual regulatory security. Just the sense that there was somebody in charge and that the somebody is going to look out for my interests.
There were a series of stove pipes created and a series of absolute requirements that cannot get through this barrier from one kind of activity to the other. Quite frankly it worked. The banking system achieved a degree of confidence that it had not had before instead of the romantic but somewhat scary proposition of the express guy keeping your gold dust at a bank and promising he'd give it back to you after he had been using it for his own purposes. That's romantic but it's kind of scary because of what the express guy might be doing.
So somebody is watching the express guy. There are now rules. There are now regulators. It's now clear. The focus is on safety and soundness to see to it that the banking system doesn't fail. So all of the stove pipes were set up. If you were in the insurance business, you had to be absolutely in the insurance business and nothing else, and there were regulators established.
If you were in the stock brokerage business, you were regulated absolutely, and you couldn't get involved in anything else. If you were in the retail business, absolutely you couldn't do anything but retail and so on. Well, however essential that may have been in the psychology of the 1930s and however beneficial those regulators might have been in the stability and safety and soundness that they gave us, they failed ultimately to deal with the fact that the marketplace does not exist in stove pipes.
People do not engage in commercial and retail activity in one silo after the other. Things began to leak around the firewalls. Ultimately Congress had to catch up with reality. Glass Steve (PH) became pretty much a dinosaur in the face of market forces. Congress had to finally understand that and modernize the regulatory structure which is the guiding force behind Gramm-Leach-Bliley. Gramm-Leach-Bliley said we're going to allow, indeed we're going to recognize and regularize, rather than allow, the commercial transactions and the realities of the marketplace that have overwhelmed the firewalls that were created in the Great Depression.
So now we come to the question of what do we do with one of the creatures of the marketplace which we call the industrial loan corporation or the ILC. I admit to being somewhat biased on this issue because Utah, for reasons that I don't think were laid out in advance, has a regulatory structure that is particularly attractive to an ILC. I say to people "Utah is to the ILC industry what Delaware is to the business of getting a corporate charter." How many large corporations are located in Delaware just because that state's laws are hospitable to corporate structure?
In Utah, we have tens of thousands of jobs of Utahans who are working for ILC. So I come at this with a clear personal bias and attachment to my own state and to the people that work in my state. But I try to look at it as carefully as I can in terms of the impact on the marketplace. I ask the question why isn't an ILC a really good idea.
If you are going to buy an automobile, under the old pre-ILC days - the way I bought automobiles when I got out of college - you either had to have all of the money in advance or you had to have a relationship with a bank. Frankly this was before the days when credit unions were into auto loans. You had to have a rich uncle. You had to have something set up separate.
You went in and made the deal for the car and then put down on the table the financing that you had pre-arranged, or in most instances you went in, made the deal for the car, and then frantically went out to try to find the money. Usually the car salesman was more persuasive than the financial people. The idea that you can walk into a car dealership and actually make the deal for the car and the deal for the money simultaneously was one of the great discoveries that greased the wheels of commerce in the United States because a car of course is a very large purchase, second only to the house in terms of the size of the purchase that people make.
So GMAC came into existence as the car dealer decided in order to service our customers better we have to get into the credit business. That of course created all kinds of interesting pressures on the regulatory system. What is a car dealer doing in the banking business? Well, then others started coming along. Pretty soon you began to get the marketplace, as customers like the one-stop shopping, demanding changes in the regulatory system.
The ILCs grew up in response to this demand and in response to this opportunity. One of the interesting aspects of it is that the opportunity to grow up into this opportunity came from the states. So the ILCs today occupy the same situation as a state-chartered commercial bank that has FDIC regulation. But they have become large enough that our friends at the Fed have decided that they want in as far as the regulatory action is concerned.
We can't leave this to a state-regulated, state-chartered bank situation because it's too big. We get into the whole safety and soundness argument. Everybody tells the stories about how huge these things are and how incredibly exposed we are to tremendous failure. That may theoretically be true, but the record goes in the other direction. There are records of ILCs created by commercial parents and then, horror of horrors, the commercial parent goes bankrupt. What happens to the ILC?
In the real world, the ILC is sold off for profit to help pay the creditors of the parent company. The ILC was the valuable thing. It was the parent company that went bankrupt by itself because the FDIC has done a good enough job of regulating the ILCs that we have not had the kind of failures that theoretically get talked about as the Fed says we want to be the ones to control the ILCs.
To look ahead and perhaps be a little bit dangerous by exposing this in a group this large, I can't guarantee who is here so that is always risky. But if you walk into a Wal-Mart or a Target or a K-Mart, some of these mass retailers that have now grown up in response to retail demand, and look around you find some very interesting things happening. Many of the customers of these stores are people who for a variety of reasons do not have checking accounts.
I'll take Wal-Mart because I have spent some time talking to them, but I'm sure this is true in some of the other stores as well. Customers come in to Wal-Mart who do not have checking accounts and do not speak very good English. They want to send some money home to Mexico where their families are. So they want to (a) cash their paycheck and (b) buy money orders which they use to pay their bills in lieu of checks.
They will have a money order made out for the rent or a money order made out for the water bill or what have you. Then they want to wire transfer $150 back to Paramecia, Mexico or wherever it might be that their family is. These are all banking functions. Wal-Mart will do all of those things for those customers. They have a financial services desk where they will cash your check.
I remember when I first got my checking account I always cashed my checks at Safeway. I had to buy some groceries to get them to do it, but they would do it and give me a little extra money. A banking function if you will taking place at a supermarket.
So Wal-Mart will cash their check. Then Wal-Mart will sell them money orders. Wal-Mart will indeed send money back to Mexico for them. Wal-Mart being Wal-Mart, they will do all of those things cheaper than a bank would do. Under the present situation, Wal-Mart will lease space in the Wal-Mart store to a bank. We say that's how you get the one-stop shopping center and maintain the firewalls because the bank is regulated and the retail and so on.
But the Wal-Mart executives say the banks charge more for money orders than we do, the banks charge more for wire transfers than we do, and the banks charge more for check cashing services than we do. We don't want our customers, who come to Wal-Mart on the assumption that they will get lower prices, to be faced with higher charges than we can give them. As a believer in free markets and free enterprise, I have a hard time, as a public policy maker, saying we should pass regulations that would prevent you from providing those services at lower costs to your customers.
The Wal-Mart people say if we owned the bank instead of just leasing the space to them, (1) we would lower our charges to match what we do at our financial services desk, and (2) we would keep the bank open as long as the store is open which is very interesting. The traditional bank to which we lease the space has its own set of hours.
Now, I do most of my banking at my supermarket. I bank at Zion's Bank in Salt Lake City. Zion's Bank has a branch at the supermarket where I go. I can make deposits. Most of the time I just deal with an ATM. The supermarket is not interested in getting into the banking business because they can deal with having an ATM in the store. Most of the time I pay for my groceries with a credit card anyway so I don't need the cash.
That shows how completely changed everything is in the last 10, 15, 20 years. But as we address this whole question of commerce and banking, maybe we ought to remember Aaron Burr and Alexander Hamilton loaded the pistols and understand that banking and commerce properly observed and regulated whether it's the FTC watching commerce, the FDIC watching state-chartered banks, or the Fed watching bank holding companies. Let's let the marketplace produce the best result for the customer and ultimately the best result for the economy by making things as efficient and transparent and friction free as we possibly can.
I think we've come a long way from the days of the Great Depression. The regulatory agencies that were set up there have served a tremendously valuable role. As we are now more sophisticated in our ability to track things and we have a stronger base of regulatory support, we should continue in the spirit of the Gramm-Leach-Bliley effort to rationalize the difference between various financial institutions. We should continue to move in the direction of letting the marketplace make our choices instead of the government.
I have not quite filibustered away all of my time. I did my best because I wanted to avoid the exposure questions, but I wasn't able to do that. I have about five to seven minutes. I will be happy to respond to any questions you might have. Yes, sir.
AUDIENCE MEMBER: (Inaudible.)
SENATOR BENNETT: We're waiting to see what the House does and what the House sends us. From my remarks, I obviously am not anxious to lose the regulatory responsibility for ILCs from the FDIC to the Fed. There is a drive to do that in the House. We'll see what happens when it comes over. ILCs have been controversial in the Senate for some time.
My predecessor from both my state and on the banking committee, Jake Garn, made something of a career out of defending the ILCs while it was on the Senate Banking Committee. When I was lined up to replace Jake as the Senator from Utah, I was told you have to take a seat on the banking committee and carry on the ILC tradition. Also it's a Utah tradition. My father was on the banking committee.
So we've had a Senator from Utah on the banking committee since 1952. So I guess maybe we're beginning to understand it. I'm not sure. Well, we have more time for Congressman Leach to offer a different point of view. Thanks so much for the opportunity.
MR. BOVENZI: Thank you, Senator Bennett, for your thoughts. We all may not agree on the policy issues in the room today. I think most of us would agree that we're glad these disputes are generally handled in a less confrontational manner than in the days of Aaron Burr and Alexander Hamilton. Our next speaker is also a distinguished member of the Congress, Congressman Jim Leach.
Congressman Jim Leach was first elected to Congress in 1976. He is an active member of the committee on international relations and the committee on financial services. A graduate of Princeton and John Hopkins University, who also attended the London School of Economics, Congressman Leach is a thoughtful and independent thinker.
Long a proponent of strong bank supervision, and for the bank regulators in the room, also a proponent of appropriately adequate capital levels, Congressman Leach is also a former Iowa High School state wrestling champion. So he is not afraid to throw his weight behind an issue when the issue calls for it. Please give a warm welcome to Congressman Jim Leach.
REPRESENTATIVE LEACH: Well, thank you all. I'm here I guess to present a bit different perspective. Having listened to Bob's very thoughtful talk, I do feel obligated to not exactly correct, but to amplify history on his most important point. That is of course related to the Hamilton-Burr duel.
About 20 years ago a firearms museum in Texas wrote to Chase Manhattan Bank - the most famous set of dueling pistols in America relate to this duel - and asked if the bank would care to make a gift to the museum of these pistols. The bank wrote back very respectfully and said that basically they considered it part of their heritage and that they preferred to keep them.
The firearms museum then requested the bank would they mind lending them for a month because they would like to make a duplicate copy. The bank complied. When the firearms museum sent the pistols back to the bank, they sent them with an interesting letter. The letter noted that the bank knew a little bit about money but that they knew a little bit about firearms. The bank might be interested to know that these firearms had their triggering mechanism filed to the proverbial hair trigger.
The implication of this - and I may have it backwards - was in dueling there is a protocol the person that requests the dual and the other person provides the pistols. In this case, Aaron Burr provided the pistols. As someone who was brought up as a Hamiltonian buff, all of the biographies of Hamilton end with was he suicidal or was he a gentleman. At the dual, he turned and fired straight up in the air.
It's something very different. It happens he didn't know that the triggering mechanisms were filed to the hair trigger. So whether or not Aaron Burr, as Jefferson might have suggested, was a traitor because he attempted to form another country to the south and west, not called the United States, in modern American terms, he might be considered conceivably a murderer or much worse, a bad sport. But Bob was exactly right that Burr founded Chase Manhattan. Hamilton founded a rival bank which eventually became Bank of New York.
In any regard, let me come back a little bit to the thesis at hand and try to present a little different perspective. In the early `80s, I gave a speech to the ABA national convention. In a very ill mannered way, I titled it "The incredible inability of the ABA to understand its own vested interest."
My thesis was that because Congress is often a battleground of competing interest groups that the great problem occurring within our financial system was in the S&L industry. The obvious single, to me at least as a young naive member of Congress, manner of dealing with the issue was to insist on credible capital race for the S&L industry. But the ABA refused to come out with that advocacy position because some of the large banks didn't have adequate capital at the time.
That's why I personally believe that the ABA had let the country down by not insisting on, in a legislative way, coming up with the right framework for dealing with the S&L industry. Today I want to be equally ill mannered to continue a 20 year tradition. I would like to title this talk "The incredible refusal of a government agency to understand the law and the nature of American society."
You might say that's a bit strong. But let me stress that the House of Representatives, at least at the committee level, passed out an ILC provision which Chairman Greenspan noted yesterday was without adequate forethought and is poised to commit what I consider is a rather grievous error. That is in a modern day concept to bring commerce and banking together.
Senator Bennett is 100 percent correct that the origins of banking very much involve commercial roots and the interplay was very large in the 19th Century and some parts of the 20th Century. But the world is a very complicated place. One of the great questions is how do you deal with banking and commerce today.
It's not precisely valid to say that the spirit of a bill called Gramm-Leach-Bliley is about the merging of commerce and banking. In fact, it is very much the reverse. As chairman of the House Banking Committee, I was pressed in the Commerce and Banking Committee for five or six or seven or eight years on this subject. I made it very clear that I would bring no bill to the House that merged commerce and banking.
Now some of you say that's an arbitrary perspective, but let me just tell you what would have happened in 1996 if that bill had been brought to the Congress. It was then supported by the Secretary of the Treasury in at least what was called a basket approach by the Federal Reserve Board, by the leadership of both political parties in Congress and strongly by the Senate. If we had passed commerce and banking in the mid-1990s, I will be very explicit about what would have happened.
Many of America's commercial banks would have merged with commercial firms. But commercial banks and investment banks are wildly misled on who would take over the leadership of all of this. If you look at the mid-1990s and the valuation of American corporations, only one American financial company was in the top 20. It was twentieth. It was Citigroup. The likelihood is that every American commercial bank in a very short period of time would have been taken over by a commercial company. The lucky ones by Wal-Mart and GM and Amoco. The unlucky ones by Enron, by MCI WorldCom. Let me tell you these types of companies would have loved to take over a commercial bank. They had market valuations dramatically greater.
So we would have today America's major banks, at least one would have been owned by Enron and at least one would have been owned by MCI WorldCom. Can you tell me the American financial system would be in anything except a very stunning reversal of confidence in today's market? Right now we have an economy that's stuttering. But the American financial system is strong and vibrant and capable of dealing with change.
If we had this merging of commerce and banking, I don't think that would be anything like the case. Now it is true, at one point in time, as Bob suggested, people that dealt with gold and made coins and later those with paper, because many department store-type of companies in America or dry good stores made their own paper that became currency early, could have become a very well integrated commerce and banking system. But it didn't take hold.
Now in the 20th Century, we have some very interesting experience. Japan has this system. Is there anyone around that thinks this is a strength of the Japanese system or a weakness that you have the Keritsu-izing of that society? Germany partially has this system. It's interesting in Germany today. There's hardly a German that thinks it's a strength of their system. The Bundes stock, if anything, is trying to cut back on commerce and banking powers. The European Union has now moved to consolidated regulation of financial companies.
So we in the United States, while it is interesting to look at anecdotal history where there is a combination of commerce and banking, if we look at the 20th Century, it's not a very happy phenomenon. If we look at Gramm-Leach-Bliley as an act, there were some levels. One was a refusal to mix commerce and banking, not a support of it, a refusal.
Secondly, part of the rationalization for the whole approach to Gramm-Leach-Bliley was to bring coherence into the regulatory environment. Regulation was one of the things, not the main reason but a reason that drove the need for new legislation because federal regulators were acting at cross purposes.
Of all of the shocks to me - and I used to be impressed every year at in an almost disbelieving way - it was not that in the American marketplace there weren't differences of judgment that had to be kneaded out in the legislative sense. That's always the case. It's always understandable. It's always credible. It's always fair. But it was the fact that we had unbelievable non-public interest rivalries between regulators.
In the private marketplace, whether you read Adam Smith or look at your own life, there is an understandable desire to maximize profit. That can be in the public interest if done in the right way. In the public sector, there seems to be an inexorable drive to maximize power. That is not always in the public interest. So you had a body between regulators.
We have today something that I consider to be very unseemly. Gramm-Leach-Bliley was all about pressing towards cooperation within the regulatory community. We have here a federal regulatory that wants to grow - this is an increase of power issue with the federal regulator - as well as a private sector desire to get out from under federal law. This has to be understood. That is when you get outside the Federal Reserve Act, the National Banking Act, you are trying to get outside of law.
Now there is a little federal slant to this because FDIC is a very esteemed regulator. I personally think with large institutions it's best as a back up regulator. But it wants to be the primary regulator of an exploding part of American finance based upon principally state regulation. One of the awkward things is - and I respect Bob a great deal because he has to defend his state - there are only a handful of states that are allowed to have ILC charters.
So you are left with what is rather self-apparent. If you are the governor of such a state or a state legislator, aren't you going to want to attract jobs by having lower regulation than the rest of the field, than other states and the national government? Let me give a couple of examples here. Foreign institutions can have ILC charters.
One of the things the Federal Reserve has been exceptionally good at is saying no to foreign banks that want access to the American financial system. As everybody in this room knows, there are some countries, the vast majority of whose banks can only be described as criminal. I don't want to list these countries, some of which were former Cold War rivals of ours.
But now what happens? You take a public official that's the governor of an ILC state. A bank from abroad says I'm going to give you 1,000 jobs, I'm going to give you 500 jobs, I'm going to give you 50 jobs, I'm going to give you 40 banks with 50 jobs each. That's great for the state.
But that means access to all the panoply of rights and privileges of the American banking system, and it means placing all other banks that become liable if difficulties emerge as well as the United States taxpayer. So we are saying to a small state that has a vested interest in bringing in jobs we're going to rely on your judgment. I just don't consider it reasonable.
Now let me come back to the gold issue event. Gold is a really tangible understandable commodity. But the new world is something that involves a field of study that there is virtually no expertise outside the private sector, a very minor amount in the public, but is continually changing. It involves instruments that come under the rubric of derivatives.
I'd like to ask common sense here. How many people think that the State of Utah's state regulatory system understands a multi-billion dollar institution actively trading derivatives instruments? You say that's what the FDIC is partly for. That's partly the case, but I will tell you the Fed is the closest to a body in this land that has any concept of the problems that derivatives can develop.
You have a little bit of a dilemma. This is a judgmental one. Actually there's a Warren Buffet/Alan Greenspan, neither of them would suggest this is the case, argument. Greenspan notes that derivatives can lower risks for participants and wisely used for the system as a whole. Buffet likes to point out that derivatives are maybe the most systemically dangerous part of the American world economy today.
Actually in a way, both are right. That is if one assumes actors that know what they are doing and prudence, derivatives are the greatest instruments in the history of modern finance. If one assumes actors don't know exactly what they are doing, regulators that aren't imperfect, and if one assumes that we allow into the system people of imperfect integrity, you have a much greater chance of an explosion systemically in this country.
Then you say why should the United States Congress vote affirmatively to take an obscure institution called the industrial loan company and say it has all the rights and powers implied by the American financial system but doesn't come under the rubric of systemically developed law to protect it. It is a very large question. There is a case for retail companies.
One of the problems when you deal with companies who are companies that you know are truly well managed, as proven to be like Wal-Mart -- But when you make a law for Wal-Mart, you also make a law for a whole host of other companies that may not be as well managed. Likewise when you say for the American investment banking industry. Clearly America's investment banks want this ILC charter because they look on it as the weakest regulation, as a way to get out from under Federal Reserve supervision, and as a breach of commerce and banking coming their way.
That is if a commercial firm can have the functional equivalent of a bank, it becomes pretty obvious that an investment bank is going to say we're going to take on the same powers. So they are going to do the same sort of conglomeration. This comes back to something that I feel very strongly about. That is for whatever reason, in American finance, we have developed incredible capacities to leverage.
But that doesn't mean that the typical wonderfully able investment banker is a very good operator with a -- company. It also doesn't mean that this enormous capacity to leverage won't inevitably produce a society in which conglomeration is the watch word. So what you are dealing with in the ILC charter is the principal above anything else of conglomeration.
If any American citizen says to themselves do they want a society with lots of vibrant private sector actors or do you want to take the New York Stock Exchange and say instead of having X numbers of listings we're going to have half X, one quarter X, one tenth X, one twentieth X because that is the direction you go in when you merge commerce and banking. I think it is something that we have to think through.
Finally, let me conclude. If one is in a financial company, everybody in the last decade and a half, but particularly in the last four or five years, is immersed with this issue how do you reduce risk. Risk reduction is the order of the day. If you take a public official - and I'm a minor public official - it strikes me that to protect the public we in the public arena ought to be doing everything in our power to reduce risk.
If you take the Federal Deposit Insurance Corporation, this is a wonderful institution, one that I respect a great deal. But isn't it a little bit of chutzpa to say we can regulate without the Fed and that it's in the public interest not to have the Office of Comptroller of the Currency, not to have the Federal Reserve have oversight whether it be over the collective company - that is the greater company that might have an ILC - or over the system as a whole? That's not in the public interest, and it's a shame. Thank you.
REPRESENTATIVE LEACH: I recognize this audience is not one to sympathize with my view. Yes, sir.
MR. ELY: Jim, I'd like to come back to the Enron situation you mentioned and the possibility it might have acquired a bank. Let's say that happened. Let's say it was a fairly good size bank and Enron still went off in the direction it did. But that the banking supervisor did what it was supposed to do specifically in terms of enforcing the various provisions of FDICIA and also enforcing in a various manner the provisions of the Federal Reserve Act Sections 23A and 23B.
Would the bank have failed if Enron failed? We have numerous situations in corporate America where a parent company will fail, but there will be subsidiaries that survive, prosper and then can be sold off. So if the banking regulator is doing its job, why would the fate of its parent be damaging to the bank or to the economy?
REPRESENTATIVE LEACH: Well, you have a point. In some cases, it might not, and in some cases, it might. There are examples of each. You don't know. But you raise a very interesting question in your question. You said why if the provisions of the Federal Reserve Act had come into play. Let me ask this room a question. Why don't the provisions of the Federal Reserve Act come into play? In this law, they are excluded because an ILC charter is designed not to have Federal Reserve regulation. What you want is the Federal Reserve to have a role. And why shouldn't it?
MR. ELY: If I can just ask a quick follow-up. My understanding is that the FDIC for instance can enforce 23A and 23B provisions. That's certainly the Federal Reserve Act, but the Fed is not the sole enforcer of 23A and 23B.
REPRESENTATIVE LEACH: That could be, but there are also a whole spectrum of other Federal Reserve regulations. We even have an amendment now in the House which is a step in the right direction. It's designed to go to the issue of retail companies which is designed as a quasi-compromise.
But even that, there's a refusal to do it with national law to give certain powers to the Fed or to the Comptroller. This compromise stays with state regulation on how you define assets of commercial companies. What we're trying to do here is have a national legal system with cooperative and collegial and cross jurisdictioned federal regulation. This is designed to get around it.
Coming back very specifically to your question, you don't know the answer on whether the bank would be affected or not. In some cases, it might be. In some cases, it might not. Thank you.
MR. BOVENZI: Thank you, Congressman Leach. This is probably a good time to take a little break. Why don't we take 15 or 20 minutes and be back here a little bit before 10:00 a.m.
(Whereupon, the foregoing matter went off the record at 9:37 a.m. and went back on the record at 10:03 a.m.)
MR. BOVENZI: Welcome back everybody. Our first panel is entitled "Banking and Commerce in the Financial Marketplace." Our panelists, all of whom have extensive experience in the banking arena as senior level executives, will discuss the industrial loan corporation charter, the market's appetite for affiliations between banking and commercial firms, and the potential competitive impact of these combinations.
The moderator for our first panel is Art Murton. Art is the Director of Insurance and Research at the FDIC. Under Art's leadership, the Division of Insurance and Research leads the FDIC's efforts in the areas of macro risk analysis, banking statistics, and deposit insurance pricing. His group manages our deposit insurance funds and handles policy development tasks for the corporation. Dr. Murton holds a B.A. in Economics from Duke University and a Ph.D. in Economics from the University of Virginia. Please welcome the moderator of our first panel, Art Murton.
MR. MURTON: Thank you. Thanks, John. As John indicated, we have two panels this morning. The first panel might be called the practitioners panel and the second the policy makers panel. The second panel will focus more on the historical and public policy perspectives on these issues. The first panel is going to focus more on ILCs and the practical implications. As we have discussed, the key aspect of the ILC charter is that it generally does not prohibit commercial firms from owning insured depository institutions.
Let me start by introducing our distinguished panel. We're very happy that they could come and take the time to be with us today. John Qua, in the middle here, is the Senior Vice President and head of Merrill Lynch Global Banking Group. The Global Bank Group includes Merrill Lynch's domestic banking operations and its non-U.S. based banks.
This includes Merrill Lynch's Utah charter ILC, Merrill Lynch Bank U.S.A., an institution with $64 billion in assets. Previously Mr. Qua led Merrill Lynch's U.S. Banking Group, its Business Financial Services, and was a managing director and co-head of the firm's Global Debt Capital Markets Group.
To my far right is David Poulsen who is the President and CEO of American Express Centurion Bank, an $18 billion banking concern wholly owned by American Express Company. David serves on the Utah State Board of Financial Institutions and is active in both the Utah Association of Financial Institutions and the Utah Bankers Association. He is a member of the American Bankers Council and the American Bankers Government Relations Committee.
Finally, we have Terry Jorde who is the President and CEO of CountryBank U.S.A., a $36 million locally owned community bank in Cando, North Dakota. Chairman Powell was wondering why he's never met a bank regulator from Cando. Ms. Jorde is active in the Independent Community Bankers Association of America. She served on the executive committee as treasurer.
She has served as Chairman of the ICBA Community Banking Network and ICBA Securities Corporation and has also served as Chairman of the ICBA Agricultural – Rural America Committee. She's the past President of the Independent Community Banks of North Dakota and a past member of the Federal Reserve Board Consumer Advisory Council. She's also a member of the FDIC's advisory committee on banking policy.
Before I turn to our panelists, I would like to spend a few minutes providing some background information on ILCs. The ILC charter has existed since the early 1900s. ILCs, as has been said, are state chartered institutions which are regulated by the state chartering authority and at the federal level by the FDIC.
ILCs became eligible for federal deposit insurance through the Garn-St. Germain Act in 1982. In 1987, they were expressly exempted from the Bank Holding Company Act by the competitive Quality Banking Act, otherwise known as CEBA, subject to certain conditions. Essentially if they are not grandfathered, they have to be small or they cannot offer demand deposits.
Currently there are 51 ILCs insured by the FDIC. They hold $115 billion in assets which is about one and a half percent of the assets in FDIC insured institutions. Most of these are small. About three quarters of them are less than $500 million in assets. There are three ILCs that hold more than $5 billion in assets.
We can think of grouping ILCs into four general categories. The first is what you might think of as community ILCs. They look and act a lot like most other community banks. The second are ones that have a focus on specialty lending, for example leasing and factoring. The third group is ILCs that are part of a larger financial organization. The fourth group is those that are affiliated or owned by what would be considered commercial firms. I believe there are ten of those.
As was discussed a little bit earlier, ILCs are supervised by the FDIC. They are supervised in the same manner as other state member institutions. They are subject to safety and soundness regulations, federal consumer protection regulations, Regulation O of the Federal Reserve Act which governs loans to insiders, Section 23A and B of the Federal Reserve Act which governs transactions with affiliates, and they are subject to the same regular examination process.
As primary federal regulator of ILCs, the FDIC is the authority that examines any affiliate of an ILC including its parent company as it may be necessary to determine the relationship between the institution and the affiliate and to determine the affect of such a relationship on the institution. Not being a lawyer I won’t elaborate, but essentially at the bank level ILCs are subject to the same regulation and supervision as any other insured institution.
At the parent level, ILC organizations are subject to supervision that is designed to protect the insured institution but is not as extensive as the supervision of bank holding companies or financial services holding companies. Therein lies the rub in many ways. With that as background, let me turn it over to my fellow panelists who actually spend their time where the rubber meets the road. Each of them is responsible for running a business and serving customers while operating under the rules and regulations that emanate from here. Let me start with John Qua of Merrill Lynch.
MR. QUA: Thank you, Art, and good morning everyone. To start, as my firm owns what I believe is still the largest ILC in the nation, following Congressman Leach is a bit of an interesting challenge, but we'll attempt to take a shot at that nonetheless. I'd like to begin by thanking Chairman Powell, Senator Bennett, Congressman Leach, and all of our honored guests for inviting us to speak with you today. I also want to start by congratulating the FDIC for organizing this symposium which is a great opportunity to focus on current issues in financial regulation.
I began my career 26 years ago at the Chase Manhattan Bank. I'm proud to call myself a banker today. I know some see negative connotations about banking. I certainly hear lots of jokes about bankers not having a sense of humor. Fortunately I don't get any of those. But as the head of Global Banking at Merrill Lynch, I'm proud to be part of a profession that brings together capital with ideas. That's a marriage that produces long-term financial security for our clients and fuels constant progress for society.
Much of the innovation we have seen in the financial marketplace over the past few years has been spurred by Gramm-Leach-Bliley's recognition that customers are entitled to the widest range of products in the most convenient and efficient manner. Congress recognized that rigidly segregating different kinds of financial services only frustrated the customer. The new law broke down outdated barriers. Banks, securities firms, and insurance companies were permitted to compete to serve both savers and investors.
Financial services firms were unchained from an antiquated law and given new freedom to design innovative products and services that satisfied people's real needs. Gramm-Leach-Bliley, once and for all, set the ground rules for banks, securities firms, and insurance companies to compete. No longer do we rely on regulatory actions, court rulings, or the discovery of some legal loophole. Our nation's financial institutions can plan for the future, spurring innovation and new competition.
The logic of the new law has come to life. It is the logic of the marketplace. We see it in practice every single day. We now see it in new financial products and services that were not even dreamed of just a few years ago. We see it in products and services that transcend old barriers so clients can get what they actually want and actually need. The customers are in charge now. Any financial services firm that wishes to succeed must start by recognizing that simple fact.
That's something Merrill Lynch has recognized for a long time. The products and services we offer have traditionally sprung from our determination to meet our clients' needs, in fact, to anticipate them. In today's highly competitive marketplace, no financial services firm can do otherwise and hope to succeed for long.
From Merrill Lynch's point of view, I can tell you that paying attention to the client has spurred a lot of innovation over the years. Focusing on the client led us to create the cash management account over 25 years ago. Our research told us that customers had a deep desire to aggregate several financial management activities into a single account.
So in 1977, Merrill Lynch launched CMA. It was the first time that customers were offered an account that combined a traditional brokerage margin account with cash sweeps into a money market fund, check writing privileges, and a debit card. At the time, some of the banking industry opposed CMA. Now it is the industry standard. Just last December it was named by Forbes Magazine as one of the top business innovations in the past 85 years.
Focusing on the client also led us to pioneer the concept of an interest only mortgage. In its basic form, our prime first mortgage is a 25 year adjustable rate mortgage which features interest only payments for the first ten years. It provides clients with the benefits of liquidity and diversification as lower initial down payments make more cash available for investments and other purposes. At the same time, it offers the tax advantages of interest deduction and the ability to prepay principal without penalty. So far our clients have attracted some $35 billion in prime first mortgages since its inception.
In other words, focusing on the client leads to innovative combinations of financial services because clients just don't want to be restricted. Focusing on the client leads to thinking outside the box because today's clients do not want to be hemmed in. It leads to change because the only way to succeed is by anticipating what your clients want next.
Focusing on the client led Merrill Lynch to banking more than 30 years ago. It is a natural outgrowth of being a financial services provider- in our opinion, essential to providing a full menu of client services. We have always at Merrill Lynch been a financial firm. Financial services is our business, and it is our only business.
Merrill Lynch conducts banking in the United States through two depository institutions: Merrill Lynch Bank U.S.A., as Art mentioned, is a Utah industrial loan corporation, and Merrill Lynch Bank and Trust, a New Jersey State Bank. We also own a federal savings bank that offers personal trust services to our individual clients. We conduct significant banking activities outside the United States through banks in London, Dublin, and Switzerland.
The combined balance sheet of our global banks today is approximately $100 billion. Deposits in our domestic banks, Merrill Lynch Bank U.S.A. and Merrill Lynch Bank and Trust, approach $70 billion. Both U.S. banks are subject to the same banking laws and are regulated in the same manner as any bank in this country. They are subject to the same deposit insurance, the same safety and soundness requirements, the same consumer protection regulations, and the same Community Reinvestment Act.
We are subject to every requirement that applies to FDIC-insured depository institutions. The sections of the Federal Reserve Act, 23A and 23B, that prevent any abuse of a bank charter by diversified financial companies apply to transactions involving industrial loan corporations, their subsidiaries, and their parents. Certainly Merrill Lynch is no stranger to regulation. Our non-bank divisions are regulated by more than 20 different bodies including the SEC, the Financial Services Authority of the United Kingdom, the Singapore Monetary Authority, the Central Bank of Ireland, and the Japanese Ministry of Finance.
Effective financial regulation assures the safety and stability of financial institutions for the protection of the public. It preserves fair competition- also in the interest of the public. It encourages innovation. It connects the largest institution to the needs of the smallest client. At Merrill Lynch, we have found that maintaining several different kinds of banks around the globe helps us to develop innovative products.
That brings me right back to the point that I started at a few minutes ago: the value of our current regulatory structure. At Merrill Lynch, we were among many in the industry who worked for reform for almost 20 years. It finally came through the new law which established new overall ground rules including options for how firms would be regulated. Firms were given the choice of being a financial services holding company or retaining their current structures and engaging in functionally regulated securities, banking, and insurance activities. Either route leads to where Congress wanted the industry to go, we believe. Either choice leads to safe and stable financial institutions, fair competition, innovation, and value for customers.
Merrill Lynch, like other companies, chose to maintain a structure closer to its tradition rather than adopt a totally new status as a bank holding company. Our structure is based on a limited purpose bank and an industrial loan company, consistent with Congress' ground rules. The FDIC's authority over industrial loan bank owners allows it to address concerns about conflict of interest, dealings with affiliates, concentration of power, or expansion of the federal safety net.
Chairman Powell has made it clear that the FDIC has the regulatory authority it needs to prevent abuse. As he said, "Congress has given us good tools to manage the relationship between parents and insurance subsidiaries. Indeed the FDIC manages these relationships every day in the industrial loan company model with little or no risk to the deposit insurance funds and no subsidy transferred to the non-bank parent."
In other words, the goal of safety and security is being satisfied. The goal of competition is certainly being satisfied. Just look at all the new kinds of companies that are springing up in the financial services field. The goal of innovation is being pursued as it has never been pursued before.
Just a few years ago financial services were presented to customers in rigid, unconnected, and inconvenient silos. Today new financial services are being shaped by cobbling together elements of banking and securities or securities and insurance or parts of all three. Not too long ago free cash balances in a brokerage account just languished there. Today they can be swept electronically into a banking account to earn competitive interest rates.
For that matter, it wasn't that long ago that banking was something you had to do in a bank or at a banking machine. Now it is something you can do wherever or however it is convenient for you, over the Internet or the phone. While you are at it, you can check out your investment and retirement portfolios at the same time.
Financial companies have been making it their business to invent a better mousetrap. If they fail to, someone else will and push them aside. The winner is the customer. Firms like Merrill Lynch are competing every day to try to make that happen. Thank you very much.
MR. MURTON: Thank you, John. Now David Poulsen from American Express.
MR. POULSEN: Well, I must say that as I look out in the audience and see Chairman Powell and so many others with so much banking expertise,120 I approach this task with an appropriate amount of humility. I feel a little bit like the fellow who survived the Johnstown flood and that was his only claim to fame. He took great pleasure whenever he had a chance of speaking with anyone in telling them what it took to survive a flood and how he did it.
Well, he died and went to heaven. Saint Peter said that one of the requirements we have for everyone entering heaven here is to address the heavenly congregation, tell them a little about yourself, and what makes you tick. With great relish he began preparing his thoughts and said I know exactly what I'm going to talk about. Saint Peter leaned over and said I think it's only fair to inform you that Noah is in the congregation!
I am honored to be here today representing American Express and its industrial loan company. My task, as it has been explained to me, is to give you a glimpse into what life is like inside and industrial loan corporation, what we do day-to-day, what concerns us, and how we operate. Industrial loan corporations are sometimes referred to as industrial banks. We use those terms somewhat interchangeably.
What I'd like you to take away from this presentation is the notion that managing in an industrial bank is just like working in and managing any other similar sized insured depository. I'd like you also to come away with an appreciation for the fact that engaging in business with a parent company or an affiliate of the industrial bank is very closely regulated, highly scrutinized and controlled, and is in fact more cumbersome and more challenging than dealing with any third party.
First, a bit of history. Industrial banks have in fact been around for over 100 years. They evolved from Morris Plan Banks. These were consumer lending institutions organized at a time when banks generally did not make consumer loans or accept consumer deposits.
The word "industrial" stems from their original mission of providing credit to industrial workers, not to the industries themselves. Once they were located in 16 states. Industrial banks exist now in five: Colorado, California, Nevada, Minnesota, and my home state of Utah. Industrial banks engage in most of the same activities, consumer and commercial lending and deposit taking, as do traditional banks.
There are some limitations, as Art has mentioned, such as not being able to accept demand deposits if their assets are greater than 100 million. The industrial banks are insured by the FDIC. They are jointly regulated by the FDIC and the state in which they are chartered. For the most part, Utah industrial banks engage in banking activities that are national in scope, but their operations are usually conducted from just a single location.
Utah industrial banks grew in popularity in the late `80s and early `90s. Their relative attractiveness stemmed from Utah's lower cost of operation, an abundant skilled labor force, a simple and clear consumer credit code, and a generally business friendly state legislature. In the early `90s, some corporations, not experienced in the ownership and operation of insure depository institutions, acquired Utah industrial bank charters and commenced engaging in the banking business.
For a very brief time, these institutions were managed remotely. Their operational decisions and policy were all made from the home office somewhere else, perhaps New York or Chicago, with primary banking records maintained outside of Utah. In very short order, the FDIC and the State of Utah cracked down on these institutions and issued memoranda of understanding to each of them outlining the strict requirements that must be followed if they expected to engage in the banking business.
The message was clear. If they expected to operate a bank under the state and FDIC jurisdiction, the bank would have to meet the same standards as any FDIC-insured bank. It would have to look, feel, and in every way behave like any other well managed bank. Primary banking records needed to be on-site and available to examiners. The board of directors had to be active, had to be independent of the parent, and have credentials appropriate to their role. Management had to be resident in Utah and have qualifications commensurate with their responsibilities.
This is important. The affairs and fortunes of the bank had to be independent from those of the parent. The banks had to comply with all of the same state and federal regulations that were applicable to any other bank. These early owners of industrial banks promptly got religion. They reestablished their industrial banks as they should have been established in the first place.
Among other things this involved hiring qualified and experienced bank officers to manage the banks. Without exception, the CEOs of all of the Utah industrial banks with which I'm familiar were all hired after long and successful careers either in other banks or as regulators. The qualifications of the current group of CEOs compare favorably with any group of bank CEOs.
I was hired to head American Express Centurion Bank in 1990 after an 18-year career with Citibank. I set out to hire a team of experienced bankers who had successful careers in well-performing, well-rated financial institutions. As a team, we have now seen our bank grow from under 300 million in assets to its present size of a little over 18 billion.
Centurion Bank is headquartered in Utah, but we have customers in all 50 states and in U.S. Territories. We're primarily a consumer credit card business with an impressive array of proprietary and co-branded credit and charge cards. But we also boast a substantial small business loan portfolio and a vibrant well-rated Internet banking channel and a growing range of other consumer lending and consumer deposit products.
Much of our back office work is outsourced to other entities, some to affiliates and some to third parties. In the case of outsourcing to affiliates, the bank is strictly governed by Sections 23A and 23B of the Federal Reserve Act both recently interpreted by the new Regulation W. That means when the bank engages in any activity with the parent or affiliate it must document that transaction with meticulous contracts and service agreements.
Furthermore, pains must be taken to document and demonstrate that such interactions are undertaken on an arm's-length basis and at fair market pricing. For example, when outsourcing to an affiliate, a typical approach is to first solicit bids from two or more unaffiliated companies to help establish market pricing. In those cases where the third parties bid and its perceived competency is superior to that of the affiliate, then the business goes to that third party.
Managing inter-affiliate dealings is no minor housekeeping matter. The rules governing industrial banks are no lighter than those governing other FDIC insured institutions. Bear in mind that Section 23A also governs overdrafts or deposits with or extensions of credit to an affiliate. Such transactions are strictly limited. As you can well imagine, these particular requirements and the scrutiny they receive by the regulators in my mind make the common argument of the dangers of “mixing banking with commerce” a non-starter.
Industrial banks are required by law to operate in a safe and sound banking manner. That means we have to have strong internal controls that protect both the bank and the insurance funds. This framework is tested over and over again with internal audits, external audits, and through the examination process with not one but two sets of regulators involved.
If there has ever been a misperception that industrial banks operate in a world with only a light veneer of bank-like requirements, I hope by now you appreciate that this is not the case. A great deal of my time is spent on corporate governance. Our own board of directors is composed of nine members, only two of which are employees of American Express. It is a diverse board including two women, three ethnic minorities, and our directors have an impressive list of professional qualifications.
The board includes a former chairman of the Federal Deposit Insurance Corporation, three former bank CEOs, executives of Neighborhood Housing Services of America, a former general counsel to the FDIC, and an entrepreneurial real estate developer. The board meets eight times per year and routinely demonstrates its independence and its authority. The bank operates with the usual oversight committees including an executive committee of the board, an audit committee comprised only of independent directors, a credit policy committee, an asset and liability committee, a risk assessment committee, a compliance committee, and a community reinvestment committee.
The directors and officers of the bank are all subject to Regulation O with which you are familiar. The bank engages in a robust FDICIA review process annually which is attested to each time by our Chief Financial Officer and by me. Centurion Bank has adopted all of the appropriate aspects of the Sarbanes-Oxley Act with regard to corporate governance. We are also busy implementing all of the customer and other security provisions of the U.S.A. PATRIOT Act and all of the customer privacy provisions of the Gramm-Leach-Bliley Act.
In the area of CRA, Centurion Bank is a recognized leader in its designated assessment areas and has consistently an outstanding rating under its lending, investment, and service tests. The bank has a group of five full-time employees who are exclusively dedicated to community development and developing and implementing our CRA programs.
Centurion Bank is subject to all of the routine examinations by examiners as I mentioned from both the state and the FDIC. Because of its size, Centurion Bank is in the large bank category which means we undergo a year-around Safety and Soundness examination. Other routine regulatory examinations include Bank Secrecy Act, Compliance, CRA examinations, and Information Security examinations.
In conjunction with the Safety and Soundness exam, we provide current information regarding the financial health and performance of our parent and related affiliates. Examiners from both the state and the FDIC routinely visit and examine the performance of our parent company and related affiliates.
On the national level, our bank actively participates as members of the American Bankers Association. I personally serve on the ABA's government relations committee. We belong to the American Bankers Council, BAI, the Conference of State Bank Supervisors, and we're one of the 15 bank members of NACHA’s Direct Financial Institutions Committee.
This past May, at its annual Compliance Conference, the ABA and its National Graduate Compliance Schools presented a special award to Centurion Bank in recognition of its outstanding support of the schools over the years. As a bank, we have conscientiously recruited highly competent compliance officers. Throughout the bank, we have promoted continuing education in banking and regulatory compliance. On the local level, we're also very involved as members of the Utah Bankers Association, the Utah Association of Financial Services, and the Better Business Bureau.
I believe that much of what I have related to you today about American Express Centurion Bank can also be said about any of the other twenty-three Utah industrial banks and how they are regulated and governed. I hope that you can gather from the foregoing that we're a bank led by a group of dedicated leaders who are intent on doing things right. We strive for the highest ratings in all bank examinations. We strive to provide premium value and exceptional service to our many customers throughout the nation.
I am personally intensely proud to be leading a banking organization that shares one of the world's most respected service brands. I hope that this brief presentation today has given you the idea that life in a so-called industrial loan company or industrial bank is really no different from life in any well run banking organization.
On the one hand, industrial banks are subject to all of the same banking laws and are regulated in the same manner as any other insured depository institution. They are subject to the same general Safety and Soundness, consumer protection, deposit insurance, Community Reinvestment Act, and other requirements that apply to FDIC insure depository institutions.
On the other hand, I know that there are a lot of intelligent people with opinions on both sides of this issue. My own opinion, after many years of up close and personal experience in both traditional banks and in industrial banks, is that in today's modern and competitive world of banking there is not sufficient basis for industrial banks to be discriminated against in any federal legislation. Such discrimination would only serve to limit competition, and when competition is limited, it is the customer who ultimately suffers. Thank you very much.
MR. MURTON: Thank you, David. Now Terry Jorde from CountryBank.
MS. JORDE: Good morning. My name is Terry Jorde. I am pleased to be here to present a community banker's perspective on the issue of mixing banking and commerce. I am President and CEO of CountryBank U.S.A., a community bank with two offices in Cando and Devil's Lake, North Dakota. As Art mentioned, my bank is 36 million in assets. That's with an M not a B. I also have the honor and privilege of being the only active banker to sit on the FDIC's advisory committee on banking policy. I'd like to thank the FDIC and especially Chairman Powell for inviting me to participate today.
At the advisory committee's last meeting, I offered my comments on the issue of mixing banking and commerce generally and particularly on the issue of whether it is good public policy for a commercial firm to own a bank. My reward for speaking up was to be invited to sit on this panel today to present my views a little more formally surrounded by others whose views differ somewhat from mine.
It will come as no surprise to those in this audience that I, like nearly all community bankers, oppose the mixing of banking and commerce. We have been accused of holding this view because we are afraid of competition. Now I have just as much interest in self-preservation as the next person, and I think I'm a pretty good community banker. But if the competition overwhelmed me, I would like to think that I'm probably still employable.
Therefore I would like to use my time this morning to consider this issue from a public policy standpoint, not from the point of view of a competitor, but from the point of view of consumers of banking services both businesses and households alike. U.S. law generally prohibits affiliations or combinations between banks and commercial firms.
The historical reasons for separating banking and commerce are well known and in my view are probably more valid today than in the past. They include conflicts of interest and misallocation of credit that arise when banks and commercial firms affiliate, aversion to financial and economic monopolies, and concern about extending the federal safety net and increasing taxpayer liability.
Let's put this into context by considering a bank or an industrial loan company owned by Wal-Mart. Now I really have nothing against Wal-Mart, and a year ago I may have used Enron as an example. But I'm going to pick on Wal-Mart today since they are the largest company in the world, and it's no secret that they really, really want to own a bank.
Imagine that you are a small business retailer in a town with a Wal-Mart SuperCenter assuming that you haven't already been run out of business by Wal-Mart. You need an operating loan to expand your business. You are a hardware store owner, a Jiffy Lube franchise owner, a pharmacist, a grocer, a florist, an optometrist, a used car dealer, or any one of a number of other businesses that compete with Wal-Mart.
Would a Wal-Mart owned bank agree to lend you money if you were credit worthy? Would you want to share your confidential business plans and information with this bank? Well, you say, I would just take credit elsewhere. But what if there are no other local credit providers in your community because the Wal-Mart bank has underpriced them out of existence? You could try to get credit from outside your local market, but those banks and lenders don't know you and your business and you don't fit their cookie cutter mold to qualify for a credit score small business loan. So they will not lend you money either.
Imagine you are a supplier to Wal-Mart. What if Wal-Mart tells you it won't do business with you anymore unless you obtain your banking and credit services at the Wal-Mart bank? These are examples of how commercial and banking affiliations can interfere with a bank's role as an impartial financial intermediary, one whose credit decisions should be based on merit and not competitive concerns.
These affiliations would undermine one of the key strengths of the U.S. financial and economic system, the efficient and unbiased allocation of credit among competing borrowers. In my view, commercial and banking affiliations such as a Wal-Mart owned bank would be particularly harmful in smaller communities where there are fewer alternative sources of credit.
Small business financing is not just important in and of itself. Small business financing is key to economic development in local communities. Local banks that fund local businesses and that can provide relationship banking that is so important to small business are particularly attuned to this issue and are uniquely equipped to facilitate the local economic development process which can be time consuming and resource intensive.
Community bankers provide tremendous leadership in their communities which is critical to economic development and community revitalization. Last week alone I spent six hours in a hospital board meeting, four hours in an economic development corporation meeting, and another four hours working with other local community bankers to develop a financial incentive package for a potential new business in our community.
You could argue that this was not an efficient and cost effective way to spend my time. In fact Wal-Mart might agree with you as not one of their 1.3 million employees were at any of these meetings, and Wal-Mart is in my community. But the difference is that unlike Wal-Mart the survival of CountryBank U.S.A. depends on the economic vitality of Cando and Devil's Lake, North Dakota. I have a very real incentive to work to ensure their success.
Let's consider consumers. Wal-Mart says 20 percent of its customers don't have bank accounts. The answer isn't letting Wal-Mart own a bank but figuring out why the 20 percent are unbanked. It isn't because of a lack of banks available to those customers. My local community of Cando has 1,300 people and is served by three community banks. Our branch location in Devil's Lake has 7,500 people and is served by eight banks, all of which have low or no cost deposit and checking products that are affordable for customers of all income levels.
My bank offers one consumer checking account, and it's free. Our checks are free. Our debit card is free. Our Internet banking is free. Our telephone banking is free. Our ATM card is free. Thanks to the Fed, our loans are almost free.
But what will happen to banking services for consumers and households in a world where Wal-Mart owns a bank? If the past is prologue, local banks just like local retailers in towns where Wal-Mart has located will no longer be able to compete. While the initial effect may be cheaper services at the Wal-Mart bank, the long-term effect will be reduced choices for consumers as the number of financial service providers shrinks and as products become more commoditized.
A Wal-Mart owned bank will not be able to look past a consumer's credit score to understand the customer's individual circumstances and can't make the customer a loan based on a long-standing relationship and personal knowledge of the customer, something my bank does every day. Our country was founded on the ideals of separation and dispersion of political and economic power. A hallmark of our strong economy, which is the envy of the world, is our diversified economic system with both a diversified financial sector and a strong and robust small and middle market business sector.
Bank and commercial affiliations would undermine this strength and enable huge conglomerates to dominate the American economy. We have already seen alarming consolidation in the banking industry and in a number of industry sectors. The number of banks continues to decline while the market share of the largest banks continues to grow. In 1995, there were 10,168 commercial banks in this country. By the end of 2002, seven years later, this number has dropped 27 percent down to 7,482.
Only 405 or six percent of the nation's banks are greater than one billion in assets yet they control 85 percent of the total commercial banking assets in the United States. The 80 banks with more than 10 billion in assets control 72 percent of industry assets, up from 52 percent in 1995. When you consider that banks with only 15 percent of the banking assets, those smaller than 1 billion, provide nearly 40 percent of the small business loans reported on bank call reports, you understand that a policy that supports a strong system of community banks provides essential fuel to the economic engine of the United States.
Allowing commercial and bank affiliations would only serve to undermine our cultural heritage and the financial and economic diversity essential to our nation's well being. Mixing banking and commerce also presents the danger of extending the safety net protecting depositors of federally insured institutions. Commercial affiliates of banks may seek to shift losses to the bank, or financial difficulties at an affiliate could lead to a loss of confidence in the bank even where it does not try to tap the bank's resources.
While firewalls between the bank and its affiliates are important to help mitigate these dangers, firewalls tend to melt when there is a really hot fire. Imagine if Enron or WorldCom had owned a large insured bank. Even if the Enron bank were run safely and soundly, what would have happened to that bank upon news of its parent's spectacular demise?
All of these banking and commerce issues were considered again by the Congress when it passed the Gramm-Leach-Bliley Act which reaffirmed our nation's long-standing policy against mixing banking and commerce. Congress specifically considered and rejected the notion of allowing financial holding companies to have a 15 percent basket of commercial activities.
In addition, Congress closed the Unitary Thrift loophole which allowed a commercial company to own a single FDIC-insured savings institution. Congress was spurred to action to close the loophole in fact by an eleventh hour application by Wal-Mart to buy a Unitary Thrift, the spector of which Congress found unacceptable.
I would like to close with a few thoughts about industrial loan companies. These hybrid FDIC-insured bank charters available in a few states have been the focus of a renewed debate about banking and commerce as the Congress considers legislation that would expand ILC powers. Because of an exemption in the Bank Holding Company Act, ILCs can be owned by any commercial company and their owners are not subject to the same supervision and oversight by the Federal Reserve that applies to other bank holding companies.
ILCs were granted this loophole in 1987 on the condition that the ILC either refrained from offering demand deposits withdrawable by check or remained below 100 million in assets. In 1987, there were a number of small ILCs that functioned as local institutions. Many converted to state bank or savings association charters. Today however deposits and a number of ILCs have grown into the billions of dollars, and ILCs have been acquired by a number of large corporations.
In 1995, Utah's industrial loan companies had combined assets of 2.9 billion but by the end of last year had more than 100 billion. The largest, owned by Merrill Lynch, has assets of 65 billion and would rank seventeenth on a list of the country's largest banks. Other ILC owners include General Motors Corporation, BMW, GE Capital, Sears, Volvo, Morgan Stanley, Dean Witter, and others.
Wal-Mart applied to acquire a California industrial bank last year but was thwarted when the state legislature passed end of session legislation allowing only financial companies to own ILCs. California now applies the activities restrictions of the Bank Holding Company Act to ILC owners. Pending federal legislation would effectively remove the conditions for the Bank Holding Company Act exemption imposed on ILCs in 1987. Interest on business checking legislation would allow ILCs that cannot currently offer demand deposits to offer their functional equivalent, business now accounts. This in essence makes ILCs full service banks but outside of the scope of the Bank Holding Company Act.
To make matters worse, pending regulatory relief legislation would permit ILCs and other banks to branch de novo across state lines regardless of existing state laws. The combination of these two measures would allow large corporations to use the ILC charter to offer full service banking nationwide by setting up branches in each of their locations and not be subject to the same laws and regulations as owners of FDIC-insured banks and thrifts.
ILCs have said it will be unfair to deny them these expanded powers as they are only asking for parity with other banking institutions. If parity is appropriate, then why not parity of holding company supervision and holding company activities restriction? If it is appropriate to restrict ownership of banks to financial companies and subject bank holding companies to certain rules and oversight, then it is appropriate to do so for an ILC that is the functional equivalent of a commercial bank.
Then there is the subject of supervision. The FDIC does have limited authority to examine bank affiliates in order to police transactions between the affiliate and the bank. But it pales in comparison to the oversight and supervision of bank holding companies provided for under the Bank Holding Company Act including general examination authority, consolidated umbrella supervision, capital requirements and enforcement authority for unsafe and unsound activities at the parent or affiliate.
Chairman Powell has argued that the FDIC and the state supervisory agencies are perfectly capable of supervising and examining ILCs. I couldn't agree more. My bank has been examined by the FDIC and our state banking department for all of the 24 years of my banking career, and the quality of their supervision is outstanding.
I have had the unique opportunity to serve on the FDIC's advisory committee as well as the board of the North Dakota Department of Financial Institutions. I have seen first-hand that their commitment to safety and soundness is beyond reproach. But the capability of the FDIC is not the question that we are here to discuss today. Rather the question is whether the FDIC or the Federal Reserve or any regulatory agency for that matter has the ability to prevent a meltdown from occurring if the parent company implodes.
Back where I come from if the dog that wags the tail gets sick, the whole dog is sick. If the dog dies, you can't save the tail. It's important to recognize that the policy issue here is not about which regulatory agency gets to be in charge. That's irrelevant. The question is whether there is any regulatory agency that can prevent the systemic risk that will result from large commercial companies owning or controlling banks.
The U.S. policy of separating banking and commerce has served our nation and its economy very well. We are the envy of the world. Our banking system is stronger than ever. The arguments for change are not compelling. The risks for getting it wrong are enormous. Thank you very much for the opportunity to present my view.
MR. MURTON: Thank you very much, Terry. We have time for some questions from the audience. First, I would ask the panelists if they have any questions for one another. You'll pass. Okay. Then we can take some from the audience.
MR. GUENTHER: Dr. Murton, as you pointed out in your introductory remarks, where the rubber hits the road is not on the “sup and reg” of the bank. It's on the “sup and reg” of the parent. Terry made that point, and I think the other two speakers emphasized appropriately the nature of the “sup and reg” over the bank.
There is a new addition to the battle that is joined by this panel, the distinguished Senator from South Dakota, Tim Johnson, who wrote a letter to Alan Greenspan. On June 25, Greenspan wrote back to Senator Tim Johnson. He does address this point of the lightness of touch on the parent. You said where the rubber hits the road, the slip between the glass and the lip so to speak and the regulation of the parent.
In a letter to Tim Johnson, June 25, Greenspan wrote "ILCs are subject to supervision by the primary financial bank/agency in the same manner as other insured banks. The supervisory framework established in the Bank Holding Company Act does not apply to the corporate owners of ILCs. Consequently despite the fact that many ILCs are owned by large and complex organizations, organizations that own an insured ILC in reliance on the ILC exception are not subject to consolidated supervision at the holding company level by any federal banking agency."
My question to Merrill Lynch is do you think it is fair and right against the backdrop of the news we have seen for the past couple of years for Merrill not to be under the same regulation that CitiCorp is or Chase is or UBS is. The second part of that question is what's so offensive about Fed Lite. Thank you, sir.
MR. QUA: For the first part of your question, if you talk about the news surrounding Merrill Lynch in the last year or two, I assume it's an allusion to research issues on Wall Street in general. To me, these are very separate issues. The idea of our regulatory governance and our banking environment and what Wall Street research are two very distinct animals.
As it relates to governance and the regulatory oversight of Merrill Lynch, to me, the ILC charter, for example, that we live with right now is very clear. It not only outlines but it dictates strong banking governance policies at our ILC. By that I mean - and David alluded to it as well - independent directors, independent decision making by bank managements, absolutely arm's length decision making when it comes to pricing and credit extension between the bank and not only affiliates but very importantly the parent company.
These are iron clad rules that we live with. If we didn't live with them, by the way, the examination regime of the FDIC and our state regulator, in this case Utah, is very strong. In our case, on a quarterly basis, we have multiple targeted examinations in our bank and our bank subsidiaries and an annual review that is extensive, multiple week, in fact, oftentimes it extends well beyond a month.
These are all issues which, at least in our opinion, should give comfort to our regulators and certainly to our shareholders at Merrill Lynch and to the industry in general that we not only do operate the bank in a safe and sound manner but we will continue to do so. You asked about the Fed Lite. As I tried to address in my remarks, we have chosen to pursue a diversified financial services company model as opposed to a bank company holding model at this point.
We think it suits our needs at this point more appropriately. If that changes in the future, that would be subject to our chairman's decision obviously. At this point, we think it's very appropriate for our structure. And we think it's consistent with the desires and objectives of Gramm-Leach-Bliley as well.
MR. MURTON: Yes, Dianne.
MS. CASEY-LANDRY: I feel somewhat behooved to come up here and say that on behalf of the thrift industry and the thrift holding company who faces no capital regulation or no Fed Lite or Fed Heavy but regulation by OTS that they are appropriately regulated and performing very well. Also I would point out that with the diversified thrift holding companies as well as the unitary, there are still unitaries existing today as well as diversified thrift holding companies which own our own bi-commercial firms, none of which have posed a crisis or a problem to this industry.
The crisis that I really want to have as my question is the concern I keep hearing and the debate is being framed around holding company regulation as well as Wal-Mart. I think one of the issues that needs to be addressed is can we regulate an industry without looking to holding companies, looking at the primary institution in this case Merrill Lynch or American Express.
Do you absolutely need Federal Reserve oversight? That would bring into a case the thrift holding company. We would argue you don't. The Fed has added nothing to that.
The second part is how do you legislate against one company. If we did that, we can look back to Sears. Do you remember when Sears was going to take over the world and they were going to run such a great bank? Where is the Sears bank today? Sears didn't make it. Why would Wal-Mart make it? I'll leave it open to who answers that.
MR. MURTON: Anyone care to comment? Bert.
MR. ELY: I have a question for Ms. Jorde. This gets into something that's always been a puzzle to me, and I hope you can help me out on this. We have hundreds of community banks in this country that are either wholly owned by one individual or one family or are very closely held. Of course they own their stock of the bank in their personal name. Usually, in many cases, these individuals also have substantial other business interests. They might own four or five or six or seven different companies. I'm not a lawyer, but as I understand it, let's say a particular individual owns 600 businesses. It's okay for that individual to own a bank in his or her name. But if that individual put all of those other businesses into a holding company structure and then also wanted to put the bank into the holding company structure, that wouldn't be legal. That would be a mixing of banking and commerce.
Why is the first example of a mixing of banking and commerce, where you have an individual who owns a bank and a lot of other businesses, okay and well established in this country? Whereas on the other hand, the other corporate form of mixing banking and commerce, where it is an individual through a corporation that owns a bank and lots of other businesses, is not okay. I'm puzzled as to why we draw that distinction and what the basis for it is.
MS. JORDE: First of all, I think that the arrangements that you refer to in a family owned bank probably don't create systemic risk in the United States. To try to answer the question from my perspective, in my situation, my husband is a farmer. I don't own any of the farm assets whatsoever because of the affiliate requirements that we have. We don't make any loans at our bank to that business.
So we do keep it very much separate. I don't know of any situation where a family has interests in other businesses and also has interest in a bank as part of a corporation. The lines are very distinct. In most cases that I have been familiar with, I haven't seen that take place.
MR. ELY: But you draw an important point there of distinction and the fact that the lines are very distinct. I believe the gentlemen from Merrill and American Express and other people talked about how distinct the bank has to be in terms of how its run from the other corporate interests.
But to pick up on another point you made. You said small banks don't pose a systemic risk. I would agree with you. Does that mean it would be okay if we had a mixing of banking and commerce that only involved small banks? Would that be okay, or are you suggesting that we shouldn't have any mixing of banking and commerce in a corporate-type of situation?
MS. JORDE: I am suggesting that there not be any mixing of banking and commerce. Like I said, from the standpoint of stock holders of banks, we're not talking about the company itself. In my case, we have 75 different stock holders of our bank. So it's all still widely held even though it's a very small bank. But we have always been required to keep anything and everything separate.
Most banks and stock holders that I know do not have any affiliate relationships whatsoever. They focused all of their priorities and attention and ownership into the bank if they are a stock holder in that type of an institution. I don't know if that answers your question. Maybe I didn't quite understand exactly what you are trying to get me to say.
MR. MURTON: Do we have any other questions? If not, do we have time for a short break or do you want to go right into the next panel?
AUDIENCE MEMBER: Art, I have a question about the trends that you all are seeing with American Express and Merrill Lynch with respect to -- (Inaudible.)
MR. QUA: Well, if you take the Merrill Case a few years ago if you look, obviously, we had a lot of deposits in our bank in the United States. How did they arrive in these banks? Really it was a two step process over the past three years.
One was a program called Banking Advantage which was launched in the summer of 2000 which basically addressed the sweep of the CMA cash from money funds into the banks. Secondly, a program called Merrill Lynch Beyond Banking which was launched earlier this year which was an attempt at Merrill Lynch frankly to convince our customers to provide much greater convenience and much lower cost to Merrill Lynch customers for using Merrill Lynch as basically its transactional bank in terms of direct deposit, web bill pay, checking, and ATM usage.
We basically waive virtually all costs related to those functions. We are obviously seeking to attract more deposits and persuade our clients that we are not just a brokerage company anymore. We have seen some positive trends as it relates to those two announcements. As you mentioned here, we sit on nearly 70 billion in deposits. As a corporation, what we are doing with those deposits is we are using that liquidity to finance most of our lending activities which are growing at Merrill Lynch.
I referenced in my comments we have not only a mortgage product but a mortgage company which this year we project we'll fund for our clients roughly 25 billion in mortgages, predominantly jumbo mortgages in this country. We have a small business lending operation and a private client group which now has a loan portfolio to small businesses of $8 billion. It's an important target market for both of my fellow panelists as well as they both mentioned. I wish it was less of a focus for both of them, but the small businesses are important. We are certainly growing our loans there. That is occurring within the bank as well.
We are migrating certain businesses on the institutional side of our company into the bank. We are doing this, I can assure you - and many of my regulators are in the room - with a great deal of prudence as it relates to the topics we've talked about this morning, 23A and 23B, because moving in fixed income trading portfolios or loan portfolios from institutional side of the firm requires an enormous amount of education as to what it is like to be part of a bank and not a separate entity, an unregulated entity in a corporation the size of Merrill Lynch.
We are maniacal about spending time in making sure our colleagues understand how to conduct business in a bank. So we use that liquidity to fund predominantly loan growth on the institutional and the retail side of our corporation. That's certainly occupied our time over the last two years and it probably will for the next couple.
MR. POULSEN: Just briefly, in terms of customer demand for this service, there is a growing trend of customers who would like the traditional one stop shopping. They like convenience and demand convenience evermore prevalently. They don't like to be confused. In today's banking landscape, there's really no one-size-fits-all of banking charters for a large and diversified financial services company.
CitiCorp has multiple banking charters. About seven years I worked in the United States with Citi in four different banking charters necessary to provide the range of services. Competition, demands of life, how busy we all are, customers like seamless one stop shopping if they can get it. So this affiliation of the various banking charters has helped that.
MR. MURTON: If there are no more questions, I think we so far have succeeded in teeing up the issues for the next panel that will look at them from a policy perspective. It seems like it's coming down to two visions for the future here as the market forces keep pushing in the direction of banking and commerce.
The question is whether there's going to be umbrella oversight so that more and more economic activity comes under the regulation of that overseer or whether we go down a path where the system is designed to limit that regulation to the insured entity. So I look forward to the next panel exploring that issue. First, I want to ask you to join me in thanking our panelists who did a great job in setting it up.
MR. BOVENZI: Thanks, Art, and thank you to the panel members. If we could ask the second panel to come up at this point. Our second panel is called "Commercial Affiliations: History and the Regulatory Response." This panel, which contains distinguished policy makers and academics, will discuss how policymakers should react to the increasing appetite in the marketplace for affiliations between banks and commercial firms.
C.K. Lee will be moderating this panel. C.K. is the Special Advisor to Chairman Don Powell. He joined the FDIC in 2001 and manages the development of the FDIC's policy initiatives. Prior to coming to the FDIC, C.K. spent nine years as a policy advisor on Capitol Hill working for members of both houses.
Most recently he worked for Senator Connie Mack on issues related to banking, securities, and international finance. C.K. is a graduate of the University of Florida and the London School of Economics. In his spare time, he likes to fly planes. He's even been known occasionally to jump out of some of those planes. Today he's ready to dive into the issue of the day, banking and commerce, so if you would give a warm welcome to C.K. Lee.
MR. LEE: Thanks John. I survived skydiving and Congressman Leach's speech this morning, so I'm on a roll. Good morning. It's a pleasure to have all of you here today for what I hope will be a very stimulating and interesting panel discussion. We just heard from a panel of practitioners. It's always good for folks in Washington to hear from practitioners, folks who are on the ground.
There are a lot of us in this town who dispense advice and wisdom on things never having made a loan or practiced the business of banking. So we felt like it was important this morning to have a panel of market participants who could help us understand these issues from the perspective of the real world.
We know that market innovations drive progress in America and indeed around the world. They can raise issues though, when practiced over time and in the aggregate, that raise complex and important policy decisions and questions of systemic risk. We heard about this from Terry. That does stimulate a debate in Washington about the appropriate policies we need to proceed with here in order to accomplish the national interest.
This is a difficult task. It was framed in a question that our Chairman at the FDIC, Don Powell, asked in a speech that he gave a month or so ago when he said that the challenge and the philosophy that we deal with at the FDIC when we look at these things is how can we allow market innovations to occur while performing a legitimate regulatory function in the most efficient and effective manner possible. That's at the heart of what we're here to discuss this morning.
This panel is entitled "Commercial Affiliations: History and the Regulatory Response." Our goal today is to take a step back and look at these questions that are posed with increasing urgency in the marketplace, and talk through the policy options that we have available to us. You are going to hear different opinions and perspectives from our panelists.
I hope when this is all over, their speeches, that we'll have time for audience participation because the purpose of the conference is to present these issues and come to a better understanding of where we should go from here. We're not in the business of trying to achieve a solution today but simply illuminate some of the issues that we're struggling with.
This year at the FDIC we're trying to peer at images seen through a glass darkly, in an effort to discern the trends and issues and policy questions that will frame the future of banking. This isn't necessarily an easy task. The library shelves are full of books that purported once upon a time to explain the future of banking. Some of these predictions were right, and some of them were spectacularly wrong.
We believe that we would be remiss, as a corporation formed, as we heard this morning, in 1933 to promote public confidence in our financial sector if we were not engaged in a thoughtful, proactive, and inclusive effort to understand the issues that will drive the marketplace and by extension the Corporation’s risk profile as we move into a new era.
In Washington, there are many ways to start a discussion like this. I would expect that all of us here today would agree that it's entirely appropriate to begin this session with the question “What is the national interest when it comes to the question of banking and commerce?”
Generations of leaders, like so many in this room and indeed on our panel this morning, have struggled with how to design that perfect combination of laws, regulations, agencies, and practices to accomplish the desirable goals of financial stability, safeguarding the integrity of financial inter-mediation, and protecting the individual depositor, investor, consumer, and market participant. We have seen spectacular successes in this regard, and we have seen equally spectacular failures as policy makers down through the ages have struggled to get these issues right.
We have seen today's sacred cow become tomorrow's discredited idea. Following President Roosevelt's dictum of bold and persistent experimentation, we have seen the rise and fall of regulatory structures like the separation of investment banking and commercial banking. We have seen the rise and fall of regulators like the old FSLIC and the Home Loan Bank Board. All of us can expect that this discussion will continue as the successes and the failures of the marketplace point us to better practices and better ways of doing business.
So what is the national interest here this morning? I think we can agree that the national interest is served by a stable and innovative financial services sector, that tends to the needs of a growing financial marketplace both at home and abroad. I expect we can all agree that government policy, to the extent possible, should support rather than hamper the confidence of market participants and consumers of financial services products.
Today we'll be discussing the issue of whether and how to allow affiliations between firms that engage in the traditional business of banking and firms that engage in the traditional business of other things. Is it in the national interest to allow these combinations, and if so, how? Is there a justified concern about undue concentrations of economic power? Is there a justified concern about the specialness of banks being eroded? Is there a justified concern about intrusions and presumptions upon the financial safety net that's been constructed down through the years?
Or is this simply another innovation, this business of banking and commerce, that can be managed through reliable and long established regulatory channels? Narrowly we're faced this morning with a debate in Congress about the future of the industrial loan corporation charter. Should these organizations be allowed branching and business checking rights contemplated in pending legislation?
But more broadly we're faced with a debate about the compatibility of banking and commerce and how best to accommodate an evolving market that has an appetite for these affiliations. Either way we must pursue the best policies going forward. At the FDIC, we understand and often think about the natural tension that develops between innovation and regulation. We're not dismissing either, but we always want to accommodate the efficiencies of the marketplace and work in the regulatory arena to ensure that the innovations do not impair the safety and soundness of the banking system itself or the deposit insurance guarantee that we manage at the FDIC.
Our three panelists this morning bring very different and very important perspectives to this question. The first speaker, Governor Mark Olson, comes to us with a distinguished background as a native Minnesotan, and a community banker, including a stint as the youngest person ever elected President of the American Bankers Association.
He also served as a partner at the firm of Ernst & Young and as a staff director of the Securities Subcommittee of the Senate Banking, Housing and Urban Affairs Committee. Mark and I worked on the staff together then, and I can attest along with Mike Neilsen and others in this room that he brought some much appreciated adult supervision to an often impetuous and energetic group in those years. He was sworn in on December 7, 2001 to his seat on the Board of Governors of the Federal Reserve System where he provides an important community bankers perspective to the Board's deliberations. Please make welcome Governor Mark Olson.
HONORABLE OLSON: Thank you, C.K. That was a brilliant lead in to the perspective that I'm going to take. In 1971, I came to Washington, D.C. as the banking legislative assistant for a member of Congress. I was 28 years old. Twenty-eight years later, I went back on Capitol Hill working for the Senate where all of my colleagues were about 28 years old which at the time was about the age of my son. I was gratified frankly at how well received I was. I enjoyed that experience very much.
C.K. went over my background. As I thought about what I could contribute today, recognizing that we would have a history lesson last evening from Carter Golembe, that this would be the third of three panels that would have discussed the issue, what I thought I would do, in having one-third of the hour before questions and still leaving time for questions, is to provide a couple of observations based on my background. As you will tell, it's going to be significantly dominated by the fact that I have spent the time on Capitol Hill and have been working on the public policy side for some period of time.
To begin the question of the separation of banking and commerce, I think it's important to first ask the question why banking. Why doesn't Congress look at the extraneous activities of grocery stores or of automobile manufacturers or of gas stations? Why banking? From a Congress standpoint, from a lawmaking standpoint, it seems to me that there are two fundamental reasons.
The core of it is FDIC insurance. A second reason is access to the payment system. There was a period of time clearly when you could look at the issues of allocation of credit and maybe the source of ultimate liquidity in the country. But in the first instance, it's FDIC insurance. In perspective, there are a group of lenders who have historically and continued to seek the opportunities associated with and the limitations associated with deposit insurance.
It is appropriate in that context that the FDIC is sponsoring this seminar because in a very important sense it is the importance of FDIC insurance and the exposures that come with the management of FDIC insurance that drive many of our public policy decisions. At the same time, there is an enormous industry of providers of financial services that are identical to banking services that function outside of the insure depository system. It is large, and it is growing.
There is not a single product that the banking industry or the insured depositories provide that is not also provided outside of the system. So implicitly when a financial organization chooses to operate within deposit insurance it also chooses to accept the types of limitations that are inherent with deposit insurance. That's point number one.
Point number two. When concerns about the health and safety of the insured financial system even mildly occurred to the members of Congress, Congress will act to preserve the FDIC funds. Members of Congress, for those of you who have spent time working with them, are instinctively risk managers in the same way that bankers are. When any new bill or any new public policy theory is presented, the natural reaction will be for a member of Congress to say where is my down side risk.
The down side risk to a member of Congress is if the insuring funds are impaired. The nexus that links member of Congress with their constituents from the banking point of view is deposit insurance. The symbiotic relationship involving the banking, the legislatures, and the regulators revolve around that relationship. If you don't think that's true, I would remind you of the FDICIA and FIRREA, legislative initiatives of 1989 and 1991, particularly FDICIA which you may remember in the first George Bush Administration started out as an omnibus bill and ended up removing every single word that would have added new opportunity to banking industry and instead provided additional regulation.
Point number three. It is therefore fundamentally inconsistent that a government that sponsors an insurance of bank liabilities will not be accompanied by limitations on the access to the coverage or restrictions on risk taking. Let's imagine for a minute that banks and regulators would all agree that the separation of banking and commerce, however it's defined - and there is no consistent definition - is passe and should go away and would present that issue to the members of Congress.
Does anybody in the room think that Congress would say all right and that the laws would simply be eliminated without being replaced by something else? It would not happen. There is too much political risk associated with additional risk to the FDIC fund in particular that will continue to motivate members of Congress.
Point number four. As markets and products change involving the evolution of regulated financial services, the more specifically regulated entity will be the one put at the greatest disadvantage. I see Mike Van Buskirk sitting in the back of the room. As I look around the room, I can find a number of people that have lobbied, labored intensively over the years to try to make modest changes in the law that would allow the banking industry to evolve as its products evolve.
It isn't just regulators, C.K., that start and stop. It's also trade associations. There was one trade association that I think functioned in Washington, D.C. for 20 years just to deal with allowing banks to underwrite revenue bonds in the same way that they could underwrite general obligation, bonds and it didn't happen from the time that the Glass Steagall Act was passed until revenue bonds were included as an approved activity through a change in regulation almost fifty years later. In automobile lending, banks had perfected the ability to make automobile loans. They could pool loans and they could sell them, but the component that would allow banks to provide that service at a reduced cost, the ability to securitize and sell that loan was precluded by law for many years and it was difficult to change. Banks were able to provide commingled agency accounts in its fiduciary trust function, the functional equivalent of a mutual fund, but could not market that same capacity as a mutual fund without a fairly lengthy, a very elaborate process.
Remember that Congress went 17 years from 1982 to 1999 without authorizing one single new product opportunity to the banking industry. So the banking industry ought to be very concerned about the inability to change any inconsistencies that are implicit or exist in the law.
One final observation. The advances in technology that allow financial institutions to disaggregate the functional parts of their business, HR, treasury, asset liability management, have added additional risk to regulators and to the banking industry. It will not be possible to evaluate the full risk exposure of an institution unless you can look at the consolidated entity.
That is not an issue of yesterday. That is not an issue that's past. That is an issue that is evolving, that is emerging for banking industry regulators. I think that's one that we'll all need to take a look at. The days when you could get your arms around a financial institution by evaluating the bricks and mortar and the paper within the institution has passed.
A couple of conclusions. The Gramm-Leach-Bliley Act that has been mentioned resolved many outstanding issues. (1) What it did is for the first time it defined what Congress meant or what the issue meant or where we could agree on where the separation ought to be between banking and commerce. Essentially what it is was allow banks to affiliate with insurance and securities industries.
That was the most important part of what it did, but there were two other important elements to it. (1) In doing so, it brought the statute much more in line with what had already occurred in the marketplace. (2) It provided prospectively for the determination of what products were appropriate under that definition, either financial in nature or complimentary to banking or incidental to banking. Incidentally there have been a number of applications. There have been about 14 applications, a number of which have been approved, a number of which did not need approval because they were already approved either in the Gramm-Leach-Bliley Act or under 4(c)(8).
The risks to the Gramm-Leach-Bliley Act. The risks to where we are now are two-fold: (1) if there are any inconsistencies in the manner in which we define what kinds of organizations or what kind of entities can be included under the Gramm-Leach-Bliley Act and under the definition of a bank and (2) if for whatever reason either the industries or the regulators are not actively and aggressively looking at or making sure that as the industry and products evolve the approval products for new products evolve as well.
One other point I would like to make is that the inconsistencies that have been in the laws in the past have created both arbitrage opportunities and they have provided economic development opportunities. Let me just make a couple of examples of where that is true. As the inter-state banking issue was emerging - you may remember in the 1980s - a number of states got out ahead of the process, anticipated what might happen, and made major economic development wins for their states. Delaware comes to mind. North Carolina equally comes to mind.
There are other states around the country where myopia dominated the thinking. I think their banking industries have suffered. I won't name those states, but you wouldn't have to look very far to determine who they are. The fact that Ed is here I don't think is by coincidence. The economic development opportunities implicit in allowing, for example, an ILC to move forward outside of the construct of the Gramm-Leach-Bliley Act would in fact create perhaps unintended economic development opportunities for a few of the states who are in fact winners in the process.
If it is the intent of Congress to do that, it ought to be considered not in the context of a minor revision to a bill but it ought to be looked at as a major public policy issue. Those are my opening comments, C.K. I would be happy to respond to questions.
MR. LEE: Thanks Mark. Join me in thanking Mark.
MR. LEE: Our next panelist this morning is Ed Leary who is the Commissioner of the Utah Department of Financial Institutions. It is no coincidence that he is here this morning. He is in many ways at the heart of the discussion that we're having today.
He has the distinction of rising through the ranks of his department from the position of bank examiner all the way to the position of commissioner and has led his department to accreditation by the conference of state bank supervisors, has fostered the development of the industrial loan corporation charter as we know it today. For all of you bankers in the audience, he's managed to secure a 30 percent reduction in state regulatory fees. All of us who are in Washington know the difficulty of doing that.
He is also the past chairman of the conference of state bank supervisors and currently serves on the Federal Financial Institutions Examination Council State Liaison Committee. Ed, we're honored that you have come all the way from Utah to share your perspective today. We're honored that you are here. Please join me in welcoming Ed Leary.
MR. LEARY: Thank you. It is an honor for me to be here with you today. If I was back in Salt Lake City, I would be dealing with those issues like banks and credit unions. So this is a blessed reprieve for me to talk about industrial loans. For those of you who haven't seen, a certain lawsuit was filed in Utah. They are too dealing with that issue.
Good morning. It is an honor for me to be here. Chairman Powell, thank you for the invitation. To everybody involved, what I would hope to present is the Utah bank regulator perspective. I get a lot of comments that I don't look as bad as I sound. I don't appear as ominous as people have made me out to be. So what I thought I would like to do is simply give to you, as I see it, what we've done over the last few years in Utah with regard to the industrial loan company industry. Before I became a regulator, I was a community banker. I simply got tired of being examined and decided I would like to see what the other side of the table was like. The interesting part of the story is I haven't gone back yet.
Let me begin by outlining some of the core values that I, as the state regulator, to a degree our department shares. But in some respects I'm also speaking for all state regulators. As a department, we are strong supporters of the dual banking system and especially the state banking component of that system. As such, we are strong supporters of community banks which constitute the majority of the institutions subject to our jurisdiction.
We strive for a strong state regulatory system that is a competition in excellence. I reject the argument it is a competition in laxity. I assert it is a competition in excellence. In Utah, our view is we regulate from a conservative point of view in the law but we try to do it in a fair manner. We work towards regulatory consistency between the states, between the states and the federal regulatory agencies, and among all depository institution industries.
We view our supervision of state non-member banks, including the industrial banks, with the FDIC as a partnership. You will hear that theme repeated throughout my comments. The challenge I issued to all charter applicants that come to Utah and those currently operating in Utah under the ILC charter is if they are going to do it in Utah, do it right.
Personally, not mentioned before, but I do have a background as a Naval Reserve officer. If you remember, there is a quote famous to Naval officers. "If anything untoward is going to happen, it's not going to happen on my watch." That is the attitude I have taken with regard to these issues.
As we know, banking is integral to the fabric of economic life for all of us. Since the founding of this nation, states have chartered, regulated, and supervised banking. Today, largely as a result of the states success in performing that role, the state charter remains a viable option for banks.
The state charter allows for innovation in a locally controlled environment limiting systemic risk. If a product, service, delivery mechanism, or charter is fundamentally unsafe or unsound, those weaknesses may be exposed. I believe it truly represents the dual banking system I'm talking about, a system of checks and balances.
I understand I was invited today to participate because of Utah's experience and history in regulating this industry. I think you will hear me say and the theme you will also hear throughout is I believe we are doing it prudently and properly. In my view, ILCs are the embodiment of what is right and proper in the dual banking system.
My association as a state banking commissioner of the Conference of State Bank Supervisors issued a statement recently largely in response to a challenge that I will read in part. "In the welter of concerns that have been raised about ILCs, CSBS reaffirms the long-standing principles that are the bedrock of state banking.
Within the dual banking system, the state banking system contributes creativity, experimentation, diversity, and choice, all of which enhance local economic development, competition, and flexibility. ILCs are an excellent example of the spirit of creativity and experimentation embodied by the state banking system. The vast majority of existing ILCs are financial companies that have options other than the ILC charter including federal options."
Our host FDIC Chairman Powell recently stated "Banking is regulated for good reason. The purpose of our bank regulatory system is to make sure the public retains its confidence in insured banks and thrifts. But we must be watchful against the possibility that the regulatory system itself does not impair the vital process of innovation and change, that which is the life blood of the American marketplace."
Based upon the numbers that are available to me as of March 31, 2003, Utah chartered and regulates 24 of the 50 - I noticed Art had a slightly different number - FDIC insured industrial banks in the country with approximately 97 billion of the total 113 billion in industry assets. This represents approximately 1.4 percent of insured industry assets.
Of the 24 ILCs chartered in Utah, fifteen are or have a parent company listed on the New York Stock Exchange. Fourteen have transaction account authority. Twelve have some type of credit card product. Eleven have an affiliate insured institution. Six have been in business less than three years. Two are currently subsidiaries of financial holding companies.
We do have a number of applications pending for new ILC charters which we are working through. Since Ken Guenther mentioned one of them, I will say UBS Paine Webber is an applicant as a financial holding company for a Utah industrial loan company. As mentioned, Utah has been chartering ILCs since the `20s. In 1986, Utah law was changed to require FDIC insurance for all ILCs. In my view, since that date, there has existed a partnership with the FDIC in supervising this industry.
Since my appointment as Commissioner in 1992, Utah ILCs have grown little in number from 17 when I was appointed to 24 currently. But there has been a tremendous growth in total assets from about 1.5 billion to 97 billion today. Two ILCs represented here and on a previous panel have developed business plans and matured them over the years such that they are national leaders today.
While ILCs are subject to all the same rules and regulations as commercial banks, special emphasis is taken on Section 23A and B. Our examiners as well as FDIC examiners do a thorough review at every examination of all parent and affiliate company transactions. Besides all normal jurisdiction and enforcement authorities over ILCs, pursuant to Section 7-8-16 of the Utah Code, each ILC holding company must register with the department and is subject to the department's jurisdiction. Also according to Section 7-1-501 of the Utah Code, each ILC holding company is subject to examination enforcement authority of the department.
What are the activities that the ILCs are engaged in? I'll give you a quick run down. Credit cards, both consumer and commercial, small business cards, private label cards, travel and entertainment cards, fuel purchasing or fleet purchasing cards, consumer lending including vehicle, RV, mortgages, home improvement loans and loans secured by brokerage accounts, commercial lending, real estate construction, equipment financing, equipment leasing, heavy truck financing, SVA loans and USDA guarantee loans, and commercial escrow services.
The question may be posed can a bank regulated at the bank level be insulated and isolated from the parent company improprieties. The Federal Reserve has staked out the umbrella role from the top down. I submit that regulatory scrutiny can also be accomplished from the bank up.
At least in my mind, the case has not been made that it does not work. In fact, the track record of Utah ILCs after 17 years of dual supervision from the state and the FDIC is that there is no extraordinary risk in doing so. However I would be the first to add that the industry requires additional prudential safeguards.
Supervising ILCs is an evolving regulatory dynamic. As new issues arise and new lessons are learned, I suspect we will add new requirements. This heavy regulatory hand is most evident in the approval orders of de novo ILCs that the state grants, the order is where the majority of the prudential safeguards are issued and remain in effect for the life of the institution. These orders reflect generally higher capital standards and more regulatory attention to previously noted problems.
Today all Utah ILC approval orders contain at least the following key conditions. I would like to talk about a few of them. The board of directors shall be comprised of a majority of outside, unaffiliated directors. Those unaffiliated directors shall not serve on the board of any other FDIC insured institution. I should note that these director independence requirements were posed long before the Sarbanes-Oxley Act occurred.
The next one. There shall be no change in the executive officers or in the board of directors as submitted in the application without the prior approval of the commissioner for a period of three years after the ILC commences operation. Another requirement requires at a minimum an on-site president, a chief financial officer, a chief credit officer with sufficient support staff with the knowledge, ability, and expertise to successfully manage the risk of the ILC, maintain direct control of the ILC, and retain the ILCs independence from the parent company.
Another one. The board of director's meetings shall be held no less than monthly for at least the first 24 months after commencing operations. As the state regulator, board and management independence and autonomy remains our primary concern. What I tell the institutions is this. What do the regulators want? We want autonomous management not window dressing. This is a fundamental to all other considerations.
Regulators can tell after working in an institution if management is really in control. We want a management team that is autonomous from the larger corporation, that acts at all times in the best interest of the bank, that demands accurate and reliable accounting records on-site upon which to base their decisions, that retains the credit underwriting policy and decision making authority, that ensures all transactions with the parent, corporation, or affiliate passes the strictest arm's length scrutiny, and that has sufficient personnel and resources to carry out management decisions not up for compliance with those decisions.
We want a board of directors comprising competent people of integrity. The board members must be active and provide direction and supervision to management. I had noticed some misconceptions regarding ILCs that have been prominently published. I'd like to address at least three of them.
Misconception number one is ILCs are not regulated. This statement to me is erroneous and offensive to the states. Those that make the representation are either uninformed or intentionally misstating the truth. ILCs are regulated. They are dual regulated by the states and by the FDIC. Both the states and the FDIC have the same examination and enforcement authority over ILCs as they do over commercial non-member banks.
ILCs have the same safety and soundness laws and regulation as do all other commercial banks. ILCs must adhere to the same consumer compliance laws and regulations. ILCs must adhere to the same restrictions on transactions with affiliates and anti-tying restrictions. ILCs have the same if not higher levels of capital. I have already stated the department's authority over the ILC holding company.
Misconception number two is ILCs pose a threat to the banking system. I know there is debate on this one. I would use two quotes from Chairman Powell. I hope it's not improper or impolite to do so. He answered the question so well.
"Overall it's the FDIC's view that the ILC charters pose no greater safety and soundness risk than other charter types. For troubled ILCs, several common issues have generally been evident, each reflecting faulty strategic or tactical decisions rather than issues of permissible activities, commercial affiliations, or the regulatory regime over the larger corporate organization."
Misconception number three is ILCs represent an inappropriate mixing of banking and commerce. ILCs enjoy a specific exemption to the definition of a bank under the Bank Holding Company Act granted in CEBA of 1987 as has been represented earlier. I want to emphasize the point that this is not a loophole but a specific grant of exemption in federal law.
It also should be noted that Gramm-Leach-Bliley Act of 1999 did not repeal the exemption granted to the ILCs in 1987 CEBA Act. While I remain committed in my support of the Utah ILC charter and industry, that commitment should not be viewed as an endorsement for companies that want to conduct business in a reckless or wanton fashion. The Utah ILC is a controlled environment. If companies are not willing to play by the rules, my advice to them has always been don't come.
Finally, if some bankers and their associations are opposed to ILCs based upon this merging of banking and commerce argument, one would think that the local bankers and their association would be leading the charge in this regard. In Utah, if there were valid reasons for bankers to be concerned about ILCs, you would think that the Utah Bankers Association would be leading that charge opposing ILCs. They are not.
In fact, they support the ILCs and have extended membership in the Utah Bankers Association to the ILCs. UBA has ILC executives on their executive committee. In two years, an ILC president will become chairman of the Utah Bankers Association. ILC issues have been raised as part of the Congressional debate predominantly, as already referenced, to banking related bills before Congress.
ILCs did not come to Congress and ask for these enhanced banking powers. My understanding is that the banking associations and the federal regulators asked for them. In my view, all the ILCs are saying is do not discriminate against them. If Congress is considering these new enhanced powers for all other financial institutions, then let's have parity.
I debated on whether or not to address an additional subject. But I think since I undoubtedly would be asked the question let me address one other subject. The country's largest retailer does not have a Utah ILC charter and has not applied for a Utah ILC charter. If bankers are concerned about retailer using an ILC charter to branch inter-state, yes, they may.
Since Utah is a reciprocity state, ILCs currently may branch into 16 states. That is the correct answer. But the reality is that accomplishing that requires multiple regulatory approvals. With only four branches operating for all Utah ILCs, I would submit that is not the pattern today.
The country's largest retailer could have applied for an ILC charter for the last 17 years and has not done so. If the country's largest national retailer wanted to establish branches in those states, it could have done so for the last three years but again has not. If the country's largest retailer ever chooses to apply for an ILC charter in Utah, they would go through the same regulatory process and their business plans would be analyzed and reviewed based upon the same criteria as all other applicants.
In my experience and over the years, we have conducted many pre-application meetings with potentially interested parties. This extends also into the commercial banking arena. But we have received only a few applications.
Many interested parties come with a business plan they are convinced will work, and many walk away, never to return, with the inadequacies of their business plan manifested to them. From a regulator's perspective, there is an overriding consideration that future applicants would be well advised to remember. That is that business plans must make economic sense in a regulated environment for an insured institution.
In summary, Utah has been successfully, in my view, regulating FDIC insured ILCs for 17 years. We have established a record of safe, sound institution with prudential safeguards in place that have prevented parent companies from exercising undue influence over the insured entity. We view our brand of regulation as tough but fair. An essential component of our brand of regulation is to require on-site management from bank experienced people.
In my experience, regulating ILCs is different from regulating community banks only in the velocity of changes that may occur at the ILCs. Utah examiners as well as the FDIC examiners have adopted as the ILCs have evolved. For us, keeping up with new products, new financial instruments, and new delivery mechanisms has been a regulatory challenge but a challenge we have met with the shared resources of our regulatory partners, both other states and the FDIC. Thank you.
MR. LEE: Thank you, Ed, for that overview. Our final speaker this morning is Peter Wallison. Peter is a Research Fellow at the American Enterprise Institute. He's come to us today all the way from Colorado just for the day to speak to us. So we are very appreciative of the efforts that he made to get here.
In addition to coming to us from Colorado, he is also coming to us from a distinguished career in public service and private practice. He served as General Counsel of the U.S. Treasury Department during Ronald Reagan's first term as President where he played a significant role in the post-Reagan administration's proposals for financial services deregulation. He later served as President Reagan's White House Counsel. Following government service, he practiced banking and corporate and financial law at the firm of Gibson, Dunn & Crutcher in Washington and in New York.
He has written extensively including a book on Ronald Reagan published last year and numerous works on banking and financial services policy. He serves as a member of the Shadow Financial Regulatory Committee and on the Council on Foreign Relations. Please join me in welcoming Peter Wallison.
MR. WALLISON: It's a pleasure to be here. Yesterday there was a memorial service for Don Regan. Many of you are too young to remember Don Regan, who was Secretary of the Treasury in the first Reagan Administration. But it was with Don that I first got involved in the issue of separating banking and commerce. It was he who proposed, in his first testimony before the Senate Banking Committee as Secretary of the Treasury, an idea for how to deregulate the banking business that ultimately was adopted in 1999 as the Gramm-Leach-Bliley Act. So, for me, talking about banking and commerce is deja vu all over again. If you can stand it, I guess I can. I'm actually a little puzzled by the question of whether we should continue to separate banking and commerce, because, as I will argue, the debate is over. The Gramm-Leach-Bliley Act, at least as I understand it, eliminated the separation of banking and commerce. I want to explain why.
There are basically two ways to make or evaluate government policy: superstition and logic. In the case of superstition, evidence is not necessary. Those who favor a particular policy as a matter of superstition don't feel they have to defend it. It is simply self evident. The alternative, the use of logic, requires that there be a rational explanation for a policy.
In this context, I'd like to consider the continued viability of the policy of separating banking and commerce after the adoption of the Gramm-Leach-Bliley Act. Is the policy still based on any comprehensible rationale or is it simply now a kind of superstition?
Those who aren't supporters will of course argue that it is based on logic. They argue that the separation principle rests on some theory of economic harm-- some way in which banks affiliating with commercial firms are likely to cause harm either to one of their affiliated parties, to themselves, or to the economy at large. Since we do not have a general principle against affiliation for various kinds of firms-- conglomerate mergers as we know may not always be sensible, but they are not illegal-- the separation principle must posit some kind of specific harm that will come from permitting banks, in particular, to combine with commercial firms. This harm has in fact been catalogued repeatedly for Congress by advisors and commentators as eminent as Paul Volker and Henry Kaufman. I must say an excellent job was done today by Terry Jorde who is actually a little bit better at cataloguing all these reasons than either Kaufman or Volker.
But I will talk a little bit about what Paul Volcker has said. Then I'll add a little bit about what I heard from Terry today. In testimony before Congressional committees, Mr. Volcker identified three separate dangers of permitting banks to affiliate with commercial firms.
First, a bank with a commercial affiliate will lend preferentially to the affiliate either willingly or under duress from the commercial parent. Second, the bank with a commercial affiliate will not lend to competitors of the commercial affiliate.
Third, if a bank's commercial affiliates get into financial difficulty the bank's resources will be marshaled to bail them out, whatever the law says.
Incidentally, as I will emphasize again later, we're talking here as though there were no applicable laws or regulations, because all of the things that I just mentioned would violate existing regulations and laws. We're just assuming, as the proponents of separating banking and commerce assume, that circumstances would be such that no one would pay any attention to the laws and regulations.
Then Terry Jorde makes a further argument- that is, if the parent fails then the subsidiary bank may also fail, and that could raise not only systemic questions but also could tax the federal deposit insurance fund.
Now it is not my purpose here to assess the validity of these arguments, even though I believe they are completely fallacious. The idea, for example, that a bank management would open itself to the enormous personal liabilities and penalties that attend the violation of Sections 23A and 23B merely to assist an affiliate in financial trouble is, to me, just preposterous. The personal penalties are enormous, and they all know it.
The success of laws and regulations governing the management of investment companies – which are pools of securities managed by affiliates of securities firms, which buy and sell securities- are a sufficient demonstration that for the most part rules against overreaching an affiliate such as an investment company are obeyed. But it is really not necessary to mount an attack on the separation of banking and commerce as a principle because as I mentioned before the Gramm-Leach-Bliley Act does that for me.
The Act eliminates whatever rational basis there might be for continuing to maintain the separation of banking and commerce. Therefore, the only question now is how long it will take before Congress realizes the implications of what it has done. In many ways, this reminds me of one of those Roadrunner cartoons I used to watch with my children-- where Wile E. Coyote goes off a cliff; he's ten feet out there with nothing under him, and only falls when he realizes that he's actually off the cliff.
The Gramm-Leach-Bliley has this effect because it undermines every rationale that has been advanced for separating banking and commerce. Accordingly if all of the logical foundations have been eliminated, the continued support of the principle of separation can only rest on superstition. That's where I think it is today. I expect that Congress, just like Wile E. Coyote, will eventually realize this.
If we go back to Paul Volcker's three horribles-- and then I'll deal also with Terry Jorde's point-- they all describe evils that will occur when suppliers of credit-- that is banks--control or are controlled by users of credit-- that is, theoretically, everybody else. I would assume for purposes of this discussion that Mr. Volcker is correct that the principle of separating banking and commerce should be upheld because certain economic harms will occur when the suppliers of credit are permitted to affiliate with the users.
If we turn to the GLB Act, we find that Congress paid no attention to these supposed economic harms. The Act attempts to preserve some semblance of the separation principle - I think this is probably what was in Congress' mind - by drawing a circle around the banks which is somewhat wider than it was before. Before, it was just banks. Now it's companies engaged in financial activities.
Before, banks could only affiliate with firms that were engaged in activities that were "closely related to banking." Now, after the adoption of the Act, it is permissible for banks to be affiliated with securities firms and insurance companies, on the theory that all are involved in what is loosely called financial activities and not in what might be called commerce. I personally don't think there's any way to separate financial activities from commerce. They are the same, but we won't argue that point.
By passing Gramm-Leach-Bliley, Congress has clearly accepted the idea that banks can be affiliated with securities firms and insurance companies. Now, in what sense would it be true to say that this is consistent with the rationale for separating banking and commerce-- which we understand to mean the separation of the suppliers of credit from the users of credit?
Are securities firms users of credit? Of course. In fact, they are among the most credit- dependent firms in the economy, since they carry their security portfolios-- that is their inventories-- almost entirely with bank credit. Are they users of credit in the same sense that retailers like, just to name one, Wal-Mart, is a user of credit? Again, certainly.
Just to be sure we have this right, let's test it against Paul Volcker's three horribles. In doing this, I want to emphasize once more that I am assuming-- as Paul Volcker must have assumed-- that there are no laws or regulations on bank conduct or that they were being ignored.
Let's go through them one at a time. Could a bank that is controlled by or under common control with a securities firm be required to lend preferentially to that firm? Of course. Is the same thing true of a bank controlled by or under the control of a retailer such as Wal-Mart? Yes, of course.
Second, might a bank that is controlled by or under common control with a securities firm refuse to lend to a competitor of that firm? Of course. Is the same true of a bank controlled by or under common control with a retailer? Yes. Then same, same. It works out the same each way.
Finally, if the securities firm is controlled or under common control with a bank and it got into financial difficulties, could its affiliated bank, as Mr. Volcker suggests, be required to make funds available to bail it out? Of course. Would the same thing be true in the case of a retailer such as Wal-Mart? Again, yes.
Now to Terry Jorde's point. If a securities firm or an insurance company that owned or controlled a bank, as permitted now by the Gramm-Leach-Bliley Act, failed, would the bank also fail? Of course there is no history of this happening. Indeed when S&Ls were known to be failing, people were not running on S&Ls because they have faith in the federal deposit insurance system.
So the fact that the parent of an S&L or a bank might fail is not going to cause the bank to fail. But without arguing that point, let's assume that a bank is controlled by a securities firm or an insurance company, as it may be under the Gramm-Leach-Bliley Act. If the securities firm or insurance company fails, would the bank fail just as if Wal-Mart or any other retailer or any other commercial firm that owned a bank failed? If we assume the bank would fail, then yes it will also fail if it is owned by a securities firm or insurance company.
Again, no difference at all between ownership by a so-called commercial firm, assuming we understand what those things are, and ownership by a "financial firm."
So all of the reasons for separating banking and commerce were eliminated, it seems to me, by the Gramm-Leach-Bliley Act. Is there any difference from the standpoint of the harms that the separation of banking and commerce is intended to prevent, if I understand what the principle is about, between the bank affiliating with a securities firm and that same bank affiliating with a retailer like Wal-Mart? It seems obvious that the answer is no.
If this is true, what is left of the rationale for separating banking and commerce? The answer has to be “nothing.” If every abuse or potential abuse that is supposed to provide the underlying rationale for the separation of banking and commerce could occur if banks are affiliated with securities firms, which Congress permitted under the Gramm-Leach-Bliley Act, what basis could there be for not permitting affiliations with retailers, or for that matter with automobile manufacturers, oil companies, or software developers?
I've been in this business long enough to remember that representatives of each of those were cited as a horrible. First it was GM, then it was Exxon. Then Microsoft. Now it happens to be Wal-Mart, because that's now the biggest company. Nevertheless, the issues are always the same. Again, the answers have to be the same if you are controlled by Merrill Lynch or some other securities firm or if you are controlled by Wal-Mart. So the answer it seems is that there really is no rational basis for the distinction between Merrill Lynch, which is a permitted affiliation, and Wal-Mart, which is not. It is completely arbitrary. By opening the door to affiliations between suppliers of credit-- that is, banks-- and users of credit-- that is, securities firms-- the Gramm-Leach-Bliley Act eviscerated the underlying rationale for the separation principle. Congress must no longer believe that affiliations between suppliers of credit and users of credit represent a danger to either or to the economy generally.
Under these circumstances, the separation of banking and commerce must be on the way out. If it's not supported by a comprehensible rationale, as I said at the outset, it's nothing more than a superstition. In a world where we go out fearlessly on Friday the 13th, and we walk under ladders, and we ignore black cats, that's not a very solid foundation for survival. That in my view is the future of banking. Thank you.
MR. LEE: We've got a couple of minutes to take some questions. Chuck.
MR. MUCKENFUSS: Reflecting on Chairman Leach's remarks and other's remarks, I have a question. I've been involved in the business over the last 30 years. During that period, there have been a number of bank, troubled bank, bank holding company, large bank failures. During that period, General Motors, Ford, GE, McAndrews & Forbes, Sears, Harley Davison have all owned insured depositories along with, prior to Gramm-Leach-Bliley, a number of insurance companies and broker dealers.
Some of these are quite significant in size. I hate to use the words "can you think of any," so I'll say can you think of any significant problems along the lines of deposit insurance, payment system, abuses of lending, or indeed any troubled institutions that have existed in the population in which commerce and insured banking are mixed. One would think that there would be some or many. You would think that there would be at least one scintilla of evidence in the other population that these problems may have occurred.
MR. LEE: Can you think of any? Peter, do you want to take a crack at that?
MR. WALLISON: Well no, I can't think of any. But even if there were some, considering the number of these affiliations over time-- not just commercial affiliations with banks but also bank holding companies engaged in other kinds of activities which were perfectly permissible for bank holding companies, such as mortgage banking and so forth, when closely related to banking was the only allowable activity. There were plenty of opportunities for those organizations to fail. There probably were some failures. We just can't point to any significant number of cases where this had any effect on the affiliated banks.
The point that I'd like to emphasize is that-- to the extent that regulations address the transactions that might be thought to bring this problem into existence--we ought to look also, as I suggested in my earlier remarks, at the Investment Company Act. This is a different area of financial regulation entirely, but quite important because it has existed since 1941. In this area, there is truly a conflict of interest involving the controlling party and the controlled party. The controlling party is a frequently securities firm, which is in the business of buying and selling securities; the controlled party is an investment company which is simply a collection of securities, and thus a controlled market for the securities firm.
Therefore, we have a situation much worse than anything that could exist in the banking business. And yet, over all these years since 1941, there have been only a handful of cases where the rules that are supposed to control transactions between investment companies and their controlling parties have been violated. So I think this fear of conflicts of interest and danger to banks is all pretty much a made up problem, as long as there is 23A and 23B, and as long as they are enforced by the bank regulators.
MR. LEE: Mark.
HONORABLE OLSON: I think there have been, Chuck, a couple of instances, and there is at least one ILC where there was an issue as to the strength of the parent and the relationship with the parent and the institution as a contributing factor, not as the dominating factor in terms of the loss to the FDIC fund. But I will say they have been limited.
If you look perspectively, if you look at where losses have occurred, most recently in the financial industries, they have not come in any of the traditional ways that we have seen in the past which have been by either loan losses or inside dealing. They have come from lapses in internal controls. They have come from risk taking where the risk exceeded the capability of either the individual responsible for that or the oversight responsibility.
And in a number of cases, we have had major losses occur from restatement of purported income streams. Now when you can disaggregate the decision making process from actually what is taking place in the financial institution, we have a new level of risk exposure as a result of either third party affiliations, subsidiary affiliations, and the like. So the issue has changed somewhat, but that has not been a systemic issue in the past.
MR. LEE: Time for one more question. Bert.
MR. ELY: This is a question for Mark. The last time I checked the Federal Reserve does not offer --
HONORABLE OLSON: Bert, was that this morning?
MR. ELY: Actually last night. The Federal Reserve is not in the business of offering deposit insurance. Instead deposit insurance is offered by this other entity we call the FDIC which was chartered by Congress.
HONORABLE OLSON: Just a second, let me get that down.
MR. ELY: Yes. One of the things that I find very interesting as I listen to Fed officials over the years talking about this type of issue is this great concern and worry they express about the deposit insurance fund and the FDIC. Isn't this really something for the FDIC to worry about? Does the FDIC really need the Fed's help in worrying about these issues?
As we talk about the ILCs, if the deposit insurer, the FDIC, is comfortable with this arrangement and is comfortable insuring ILCs without any help from the Fed, shouldn't we all accept that as being an okay situation? I have a related question for C.K. Isn't it time for the FDIC to tell the Fed to butt out when it comes to the deposit insurance issues?
HONORABLE OLSON: A couple of things. First of all, if I were the chairman of the FDIC or if I were the banking commissioner of the State of Utah and I had the responsibility for examining or supervising an industry like the ILCs and somebody asked me if I had the tools necessary, I would say yes and I would work very hard to ensure that I had them. The issue as I see it right now is not in fact whether or not they have the capacity. The issue of the ILCs I don't think would come up if it were not for the fact that the ILCs are looking for an expanded charter at that time outside of the construct of the Gramm-Leach-Bliley Act.
I phrase the benefit or the impact of the Gramm-Leach-Bliley Act somewhat differently from Peter in that I think it now defines. The issue of banking and commerce started in today's environment as of the passage of the Gramm-Leach-Bliley Act. Progressively it will move forward in terms of the reaction to that. We'll continue to make observations on matters of public policy even when it involves more than just the Fed.
MR. LEE: Thank you, Mark. Terry, go ahead. This is getting interesting. Who wants lunch?
MS. JORDE: I have a question for Ed Leary.
MR. LEARY: I didn't want to be left out.
MS. JORDE: Yes, I didn't want to leave you out either. We got to share a van last night, so we got to be buddies. Ed, last year on September 6 you gave a speech to the Utah Association of Financial Services. It was a very good speech. It talked about the concerns that Utah has as a regulator in managing ILCs.
I hope I'm not taking anything out of context, but under the part of the speech where you talked about your concerns, one of them was management autonomy and control. In that, you said "This is a Utah issue. This remains our primary concern. I specifically include the board of directors within the term management. The lack of autonomy from the corporate parent and/or affiliates is a problem that has been around since the beginning of the current iteration of the ILC industry.
My personal observation is that almost all ILC management teams want to do it right. The real issue is whether the holding company or parent will authorize and allow the ILC management team to conduct their business appropriately, to do it right. An aspect that has been lacking is training for directors." Then you go on to talk about some programs that you put into place for director training.
In summary, you said "I want to make this clear. The lack of management, autonomy, and control exists today. Lack of management, autonomy, and control was largely the basis for current supervisory actions and remains an issue in all problems that have surfaced. Where troubles have occurred, it has occurred where companies are not committed to doing it right." This was just a few months ago. So apparently autonomy issues do exist in some of the 24 ILCs in Utah. How can you be sure of the parent company's commitment to protecting the deposit insurance fund? Where are the limits? How big is too big for Utah?
MR. LEARY: Broad-based question. Actually as you read back my speech, I thought gee I said that pretty good. I addressed it today. Autonomy, the independence, I have a regulator's healthy respect and probably I'll use the baking term abundance of caution in that area. I have listened to this debate and rhetoric since I've been a regulator with respect to the ILCs and what threat do they pose.
So if you want to know a theme Ed Leary talks about every time he talks, it is this autonomy of decision making. Is it rampant in the industry today? No. But I can tell you as a regulator every time we've had an issue arise whether or not it has been manifested publicly or simply at the regulatory level that autonomy of decision making has been the primary culprit that disturbs me.
That is why the check and balance that I mentioned right at the beginning, the majority of outside unaffiliated directors was imposed to get that autonomy of decision making there. I think it operates thus far as a very successful check and balance on undue influence of the parent company. How big? I don't know the answer to that. I struggle with that as a regulator.
I tell you at the back of my mind every day is are we adequately, are we prudently regulating the risk that this industry represents. I can only give you the benefit of the 17 years in the FDIC arena, meaning FDIC insured ILCs, yes, I think we have. Will we be able to do so always in the future? I don't know. But I will sure work as hard as I can as the state regulator to ensure we do.
I think you heard a couple of the ILCs that are in Utah today tell you they want quality regulation from the state regulator. They want quality regulation from the FDIC. Market forces would not allow them to misstep in this arena. As the state regulator, it serves me no purpose to misstep in this arena. As I finished up in my remarks, is it a challenge? You bet. It's a challenge today, but I would assert it's a challenge to the Federal Reserve to keep up with the instruments that are out there. I'll get off of my soapbox, but I think that's an adequate answer for your question.
MR. LEE: Well, thank you all. Please join me in thanking our panel.
MR. LEE: We're going to take a few minutes break now to set up for lunch. If you all will do us a favor and take the papers and the books off of your table and put it on your chair, it will help the wait staff of the Press Club set up. We'll reconvene in a few minutes for lunch.
MR. BOVENZI: I hope everybody's enjoying lunch. We have a special treat for you at this point in the program. It's certainly a particular honor for me to be able to introduce our next speaker, Bill Seidman. I have a list of all of the things here that Bill Seidman's done, and we don't have time for me to go through all of these.
Amongst them is Dean of the College of Business at Arizona State University. When he left, there was the Seidman Institute of Research created in his honor. There's a familiar theme there. A similar thing happened at FDIC. Bill Seidman was President Ford's assistant for economic affairs from 1974 to 1977. He served President Reagan as co-chair in the White House conference on productivity in 1983 and 1984.
He was the Vice Chairman and Chief Financial Officer of the Phelps Dodge Corporation from 1977 through 1982. He was managing partner of Seidman and Seidman, now BDO Seidman. Under his stewardship, the firm expanded from a small family enterprise to the eighth largest public accounting firm in the nation.
He's the founder of Washington Campus, a consortium of 15 universities organized to help students and corporate executives understand operations of the White House, Congress, and the regulatory agencies. Bill Seidman is the author of two books, a graduate of Dartmouth, Harvard Law School, University of Michigan. He's an accountant, an economist, a lawyer. He served the United States Navy earning battle stars and a bronze star medal.
I didn't know Bill Seidman during any of that. I only met him when he came to the FDIC. He served as the Chairman of the FDIC from 1985 to 1991. I had the privilege of being his deputy for the latter part of that period. He was also the first Chairman of the Resolution Trust Corporation during that period.
Just to remind folks a little bit of what that period of 1985 to 1991 was like, there was probably an average of one bank and S&L failure each and every day for that entire period, a little bit of a different scenario than we see today. There were hundreds of billions of dollars of insured deposits in those institutions, all of which needed to be repaid. All of those folks received their money in a timely manner and received every cent of their money.
Watching Bill Seidman at the time, hundreds of millions of dollars is a lot more than is in any insurance fund, and the cash had to come from somewhere. It had to come from selling hundreds of billions of dollars of assets from these failed banks and S&Ls. That wasn't the easiest job in the world to do for those of you who know what some of those assets were like at the time, and a lot had to be done beginning with a whole change in philosophy of how the FDIC and the RTC were going to approach business.
Bill Seidman pointed out that if we sold about $10 million worth of assets a day we would have the whole job wrapped up in a couple of hundred years. So it made the point quite clearly that we needed to change how we did business. When you are selling assets like that and there are people who are losing wealth and others are gaining wealth, it's a very contentious environment.
Watching Bill Seidman as he dealt with the Congress, the media, the industry, the trade groups, the public was an amazing thing. It wasn't a job designed to win friends, but it was a job that needed to be done because if it wasn't you can imagine the effect it would have had on the financial system. But the job was done right. The country owes an enormous debt of gratitude to Bill Seidman, and it may never quite realize how much. So please welcome Bill Seidman.
MR. SEIDMAN: Thank you very much, John. It's a great pleasure to be here. Chairman Powell, Governor Olson, and other distinguished members of the audience, I come to you to talk about this subject having learned a lot about it since I left the FDIC. I thought that I had it pretty well in hand when I was at the FDIC.
I knew that the ILCs didn't cause us any troubles, and we've never had a failure. They broke that record after I left unfortunately. Anyway, I thought I had pretty established views which were that while the Bank Holding Company Act was there and if I had my druthers I would repeal it. Nevertheless that didn't seem like a practical solution. So the practical solution was to have some exceptions where they were justified.
I spent about the last ten years in the Far East looking at Japan, Korea, and other places where the mixing of so-called commerce and finance created a disaster. There's no doubt that what we saw in the Far East was primarily the result of what they call "crony capitalism" or in other words cross ownership between financial institutions and commerce if you will.
And that had created the kind of disaster which they are still trying to recover from. So that impressed me that really maybe the Bank Holding Company Act did have some justification after all. My position was ILCs are okay and the Bank Holding Company Act is okay. So I hope I haven't offended anybody.
MR. SEIDMAN: The more that I had a chance to look at what was going on it impressed me that it really wasn't just mixing banks and commerce. If you look at where banks have gotten in trouble, more of them were doctors owning banks than anything else. So we do need a prohibition against finance and medicine.
MR. SEIDMAN: It is also true that many banks have gotten in trouble as a result of being owned by educational institutions. So of course we need a prohibition against banks and educational institutions. What this all more or less illustrated to me was the fact that it is very clear that the mixing of commerce and finance can cause real disaster in the banking industry.
I don't think anybody would dispute that. I don't think anybody at the FDIC would dispute the fact that can cause disaster. If you have any doubts, just go and look at what happened in the Far East which was primarily the result of that cross ownership.
The question that really confronts you, will you agree, that of course that relationship can create problems is what is government going to do about it. If we all agree that this relationship, if improperly operated, can cause everything from small to disastrous problems, the question is what are you going to do about it.
Then we take some of the religion out of the fact that these two things either are bad or aren't bad because the fact of the matter is it's the relationship between the two that determines what government ought to do. Fundamentally in this country we have developed two ways of dealing with it. One is to prohibit doctors from owning banks or commercial operations from owning banks. The other is to simply regulate the relationship between the owners and rely upon the ability of regulators and law to determine the relationship.
The problem in Japan was what we call "crony capitalism." It was taking care of each other. Crony capitalism is bad no matter where you find it. We find plenty of it in the United States. We saw a lot of it in the S&Ls. So the question really comes down to how do you deal with owners of banks or banks that are commercial operations. But fundamentally how do you deal with owners of banks so they won't take advantage of that ownership to do all of the things that Mr. Volker was worried about?
Of course that's not a new problem. From the start of banking regulation, dealing with owners of banks and preventing them from taking advantage of their ownership to use the banks in an inappropriate way has been a part of regulation. If we say well that's always been a problem, what's new? What was new was the old way we did it which was by regulating the bank's relationship which was felt not to be decisive enough with respect to this commerce and finance.
Therefore we went to the bank holding company which says we will prevent the ownership, we will prevent crony capitalism by simply saying there can't be cross ownership. That has been with us since 1940, and here we are at it again. That's not surprising because when you talk about something like making the exceptions from the Bank Holding Company Act larger there's going to be the kind of reactions that we've seen that this is destroying separation of banking and commerce.
The question should be does this really jeopardize the financial system. Is this beyond the power of regulators to take care of? Are we creating something that could become what happened in Japan and what happened in Korea and so forth?
So the basic question becomes how do we regulate this relationship between banks and anybody else, and should we use the drastic solution of simply preventing that ownership? One of the things that I haven't heard any discussion on in connection with that is how do these kinds of regulations affect the consumer. In other words, if we broaden the ILC thing so that Wal-Mart can have a place to serve the consumer at every store, is that good for the system or not?
Well, fundamentally our system is there to serve the consumer. So I'm surprised that the politicians are looking at this and haven't taken a look at the fact that if you make these absolute prohibitions you may well be serving banking rather than the consumer. Of course, you are further impeding the free marketplace. I'm a free market man if there ever was one. I subscribe to the late Secretary Simon's view that Adam Smith's invisible hand was an unwarranted interference in the marketplace.
MR. SEIDMAN: So when I approach it from this point of view, it is that to every extent possible we want to allow the marketplace to work and impede its working only when it is absolutely necessary to prevent an evil from taking place. Therefore I look at the narrow issue that's before us now which is creating great controversy and would expect it to create controversy because turf is involved between government agencies and money is involved between banks and commercial groups. Nothing really can get Washington going like having both turf and money involved in the issue. As a matter of fact, those of you who have been around know that's the only real entertainment in town.
MR. SEIDMAN: So we all should be pleased that this issue is up again because it does give us a chance to watch the heavyweights fight. That fight of course will be carried out ultimately with Congress. If I were to advise the Congress having made the points that I made, it would be to look at letting ILCs or others spread geographically.
(1) Is that good for the consumer or not good for the consumer? Is it good for the average person, or is it not good for the average person? (2) Does it jeopardize the financial system? Is it likely that the ILCs will create another Japan and Korea by taking over the system? (3) The regulatory skills necessary to allow these exceptions to take place. Is there a regulatory skill in the FDIC and the states appropriate to take care of regulation without the drastic thing of separating by ownership?
I would say that the FDIC has appropriate powers to handle that. They can go into the parent company, if they have to, to examine the other side. But they don't have a specific broad intervention policy the way the Fed has. So at this point, I would ask the Fed to join the FDIC in asking Congress to give the FDIC that power.
I will send that message with Governor Olson that I think if the problem is you are worried about the FDIC not having enough power then why don't we simply give them that power. That will take care of your objections. That's really about all I have to say about this subject. Thank you.
MR. SEIDMAN: Do you have questions, or have I settled the issue for all of you?
MR. BOVENZI: Thank you, Bill. One more speaker before we conclude. We just had a former Chairman of the FDIC. I'd like to introduce the current Chairman of the FDIC. Don Powell has been here for two years and brought with him a great deal of private sector expertise and a commitment to public service.
In the two years he's been here, he's accomplished a tremendous amount at the FDIC. He's led us through an internal reorganization that resulted in significantly reduced operating expenses, streamlined the management structure, delegated greater authority to the front lines, has been a strong supporter of our internal training programs and promoted external training through financial literacy programs. He has helped build strong relationships with all of our constituencies so that the FDIC can do its job of better serving the public. So please welcome the Chairman of the FDIC.
CHAIRMAN POWELL: I promise you I'm not going to speak long because I know it's time to go back to work. Just two or three observations. First of all, thank you, Bill, for being here today. No one has been more helpful to me since I've been in Washington. I also would like to acknowledge his wife. I think I saw your wife. Is she still here? Mrs. Seidman, thank you for being here.
CHAIRMAN POWELL: Bless you. I punched Governor Olson a moment ago. I said Bill Seidman is not unlike the World War II veterans. We have a lot of them around. It's wonderful to sit and visit with them and hear about experiences and to ask questions.
Also in the audience is Carter Golembe who has been around for many years. We appreciate you being here today, Carter. Your insight last night was wonderful, and your comments were wonderful. Thank you for being here.
Also I'd like to acknowledge two other folks. A man I serve with on the FDIC board, the Vice Chairman, John Reich is here with us today. He also has been very supportive and helpful to me. He knows a lot more about Washington than I do. So John, thank you for being here.
Then a lot of you thought Terry Jorde's claim to fame was that she's CEO of a $33 million institution in Cando, but that's not true. She is on the FDIC Advisory Board. She does a lot of work for the FDIC. So Terry, again, thank you for being here, and thank you for serving on the board.
Also I would like to thank the panel members. It just occurs to me that people like Peter and some others that are here today have jobs and other things that you could be doing today. So thank you to each of the panel members for supporting us in this symposium and for taking your time to make your contribution today. Thank you very much.
I would also like to express my appreciation to the people at the FDIC who put these things together. Sometimes we think they just happen. They just don't happen. We have some true professionals at the FDIC. C.K. Lee has led this project with these conferences. We have had perhaps four or five. Some of you have been in attendance to them. They have been well done because I have nothing to do with it. They have been well done and very beneficial to not only the participants but to the audience. So thank you, C.K., and your team for putting this together.
I'm privileged to work with a lot of great people at the FDIC. I am so proud of them. Today is one of the reasons I'm proud of them. Today is an opportunity for us to showcase the FDIC in the public arena. Sometimes we don't get to do that. So thank you for coming today and letting us show some of the things that we can do at the FDIC.
I want to be sure that everybody understands where we stand as it relates to this specific issue at the FDIC. We're not for mixing banking and commerce necessarily, but what we are about at the FDIC is to be a voice. We want to be a player. We want to be an honest broker in the debate on any banking issues of public policy in America.
We're going to be a player. That's the focus of this symposium. We are conducting a study on the future of banking. You'll know where we will stand on mixing commerce and banking when that study is completed. We'll not shy away from making a decision, but don't be misled today about what this is about. We're going to be an honest broker about all issues in banking. That's what this symposium is about.
The second thing I want to say is when Congress gave us the tools, maybe not all the tools necessary, but when Congress gave us the charge to examine, to supervise the ILCs together with our friends at the state, make no mistake about it, we can do that job. Make no mistake about it, we can do that job. We have people that are competent. We have people that have lots of ability to supervise those institutions, and they will do it extremely well. They have done it in the past extremely well. When I'm gone, they will continue to do it extremely well.
So last I will just say thank you for being here today. You honor us with your presence. Hopefully you learned something. I can promise you I learned something. Carter told me at the break he learned something. If he can learn something, we can all learn something. So thank you for being here.
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