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Testimony of Governor Laurence H. Meyer
S. 1405, the Financial Regulatory Relief and Economic Efficiency Act of 1997
Before the Committee on Banking, Housing and Urban Affairs, U.S. Senate
March 10, 1998
The Board of Governors appreciates this opportunity to comment further on S. 1405, the
Financial Regulatory Relief and Economic Efficiency Act of 1997. The members of this
Committee, and in particular Senators Shelby and Mack, are to be commended for the
leadership role you have taken over the past several years in reducing unnecessary burdens
on our nation's banking system. This Committee has recognized that unnecessary regulatory
burdens hinder the ability of banking organizations to compete effectively in the broader
financial services marketplace and, ultimately, adversely affect the availability and prices to
consumers of banking services and credit products.
This bill represents a further effort by this Committee to eliminate unnecessary regulatory
burdens. The Board believes that a number of sections of this bill accomplish that purpose
and recommends their adoption. Several other provisions, however, appear inadvertently to
have gone beyond the goal of regulatory relief and may result in changes to the law that
were neither intended nor desired. In this testimony, I would like to highlight some of the
provisions that the Board supports and some of the areas with which the Board has
concerns. (Attached to this statement is an appendix containing several technical
suggestions and comments on other provisions of the bill that are not discussed directly in
my testimony.)
The Committee's Past Successes
This Committee has twice approved comprehensive legislation to ease regulatory burdens
for financial institutions. As the Board stated at the time the Committee was considering
these prior legislative initiatives, the banking industry badly needed the type of regulatory
burden relief embodied in the Community Development and Regulatory Improvement Act
of 1994 ("1994 Act") and in the Economic Growth and Paperwork Reduction Act of 1996
("1996 Act").
Prior to the passage of these two Acts, the aggregate regulatory burden on our nation's
banking organizations had become substantial. The Board supported the efforts of the
Committee and voiced its concern that obsolete and dysfunctional regulations were
handicapping the ability of U.S. banking institutions to operate in increasingly competitive
financial markets, both domestic and global. Taking heed of the calls for regulatory reform
from the Board and others, this Committee fashioned important legislation to revise
anachronistic banking statutes that were imposing costs without providing commensurate
benefits to the safety and soundness of financial institutions, consumer protection, or credit
availability.
In the 1994 Act, the Committee alleviated the paperwork burden for banking organizations
seeking to gain federal approval to engage in certain transactions, enhanced the efficiency of
the regulatory process by eliminating applications and other filing requirements, and
streamlined examination and audit procedures. Two years later, with the support of the
Board, the Committee passed the 1996 Act, which, among other steps, permitted wellcapitalized and well-managed institutions to commence previously approved nonbanking
activities without filing an application. In the 1996 Act, the Committee also passed
important reforms to consumer protection statutes that alleviated the burdens imposed by
these statutory provisions on financial institutions without undercutting the goals of the
consumer protection laws.
Our Efforts at the Board
The Board has long recognized that regulatory burdens on our nation's financial institutions
must be reduced. Consistent with the mandate of Congress and this Committee, the Board
has sought to ensure that regulatory requirements are imposed only when they are needed to
accomplish the statutory responsibilities of the Board. For example, within the past two
years, the Board has substantially revised its Regulation Y (which primarily governs bank
holding companies) and has proposed comprehensive revisions to its Regulation H (which
governs membership of state banks in the Federal Reserve System) and its Regulation K
(which governs international banking operations). These changes will make the Board's
regulations simpler, less burdensome, and more transparent while still providing banking
organizations with powerful incentives to maintain strong capital positions, preserve solid
management, and serve the needs of their communities.
The efforts of the Board, coupled with the mandates of this Committee, have had a bottomline, practical effect: fewer applications need to be filed with the Board, and banking
organizations have saved substantial regulatory, legal, compliance, and other costs. In short,
these changes have enhanced the competitiveness of banking organizations that are
regulated by the Board and have benefited the customers of these financial institutions.
The Provisions of this Bill
S. 1405 contains some important additional reform provisions. As I stated before the
Committee last week, the Board strongly supports the provision in section 101 of this bill
that would permit the Federal Reserve to pay interest on reserve balances that depository
institutions are required to maintain at Federal Reserve Banks. Because required reserve
balances do not earn interest, banks and other depository institutions employ sweeps and
other costly procedures to reduce such balances to a minimum. These reserve avoidance
techniques represent a waste of resources for the economy and could also potentially
complicate the implementation of monetary policy. Allowing the Board to pay interest on
required reserve balances would not only eliminate economic inefficiencies, but also
alleviate risks that could affect the future implementation of monetary policy. In addition, as
I mentioned last week, the Board would support allowing the Federal Reserve the option to
make payment of interest on "excess" reserves, which could be a useful tool for monetary
policy.
The Board also strongly endorses the provision in section 102 that would permit all
depository institutions to pay interest on demand deposits, including deposits made by
businesses. As I explained more fully last week, the prohibition of interest on the demand
accounts of businesses is an anachronism that no longer serves any public policy purpose.
On the other hand, this prohibition imposes a burden both on banks and on those holding
demand deposits, especially small businesses, which frequently do not have the resources to
implement sophisticated cash management programs. Repeal of the prohibition would
remove an unnecessary regulatory burden, enhance the competitiveness of depository
institutions, and benefit bank depositors.
There are other parts of this bill, as well, that would relieve regulatory burden without
giving rise to safety and soundness, supervisory, consumer protection, or other policy
concerns. For example, section 203 would eliminate the outdated and largely redundant
requirement in section 11(m) of the Federal Reserve Act, which currently sets a rigid ceiling
on the percentage of bank capital and surplus that may be represented by loans collateralized
by securities. Current national and state bank lending limits address concerns regarding
concentrations of credit more comprehensively than section 11(m), but do so without the
unnecessary constraining effects of this section of the Federal Reserve Act.
In another area, the alternative consumer credit disclosure mechanisms permitted by
sections 401 and 402 will be less burdensome to creditors and just as helpful to consumers
as the disclosure requirements embodied in current law. Congress has already eliminated the
requirement that creditors disclose a historical-table for closed-end variable rate loans.
Taking similar action with respect to open-end variable rate home-secured loans, and
permitting creditors to make alternative disclosures to meet their obligations with regard to
credit advertising under the Truth in Lending Act, would reduce regulatory burdens without
sacrificing consumer protections.
The Board supports other sections of the bill as well. Section 304, which would eliminate
the banking agency report on differences in capital and accounting standards, is a provision
that would terminate a reporting requirement that is no longer necessary in light of the
considerable progress the agencies have made (at this Committee's direction in the 1994
Act) in conforming their capital and accounting standards. Section 109 would provide a
uniform limit on loans by banks to their executive officers, thereby diminishing confusion
among regulated institutions and reducing regulatory burden across institutions with
different regulators. Section 306, which would eliminate the Thrift Depositor Protection
Oversight Board, would save the government money by terminating an administrative board
whose primary function, oversight of the Resolution Trust Corporation ("RTC"), ceased
when the RTC closed in 1995. Moreover, as discussed in the appendix, section 502 would
make an important change in the health benefits available to FDIC and Board retirees.
A few other provisions of this bill, however, appear to go beyond the Committee's goal of
regulatory relief or represent such fundamental changes in the federal regulatory system as
to warrant a fuller debate in the context of broad financial modernization legislation. The
Board is concerned that these provisions, as currently drafted, may result in changes to the
law that the Committee did not intend and will have effects that the Committee may not
desire. Some of these changes may give certain entities unfair competitive advantages; other
provisions appear to extend taxpayer subsidies in a manner that would not seem warranted.
Nonbank Banks
Several provisions of S. 1405 would eliminate a number of important limitations that have
been applied to nonbank banks. For example, section 208 would greatly enhance the ability
of nonbank banks to expand their banking operations by allowing them to acquire any
undercapitalized bank. Section 116 would allow nonbank banks to permit their affiliates to
incur overdrafts at the nonbank bank and would allow nonbank banks to incur overdrafts at
the Federal Reserve on behalf of affiliates. This section also would remove restrictions in
current law on the cross-marketing of products by nonbank banks and their commercial
affiliates. Section 205 would allow nonbank banks to offer business credit cards even where
these business loans are funded by insured demand deposits. Finally, section 117 would
liberalize the divestiture requirements that apply when companies violate the nonbank bank
operating limitations.
Eliminating restrictions on nonbank banks, at first glance, may have intuitive appeal.
However, there are important reasons why the Board is concerned about these provisions.
Nonbank banks -- which, despite their popular name, are federally insured, national or statechartered banks -- came into existence by exploiting a loophole in the law. By means of this
loophole, industrial, commercial, and other companies were able to acquire insured banks
and to mix banking and commerce in a manner that was then, and remains today, statutorily
prohibited for banking organizations. These companies also have avoided the
comprehensive framework of prudential standards and supervisory examination and review
under the Bank Holding Company Act that governs all other corporate owners of insured
banks.
In 1987, in the Competitive Equality Banking Act ("CEBA"), Congress closed the nonbankbank loophole. At that time, Congress chose not to require the 57 companies operating
nonbank banks to divest these institutions. Instead, Congress permitted the companies
owning these banks to retain their ownership so long as they complied with a carefully
crafted set of limitations on the activities of nonbank banks and their parents. In a unique
statutory explanation of legislative purpose, Congress stated in CEBA that these limitations
were necessary to prevent the owners of nonbank banks from competing unfairly with bank
holding companies and independent banks. In addition, Congress found that the restrictions
were needed to address potential adverse effects, including conflicts of interest, that could
result from the ownership of these insured banks by companies that, unlike bank holding
companies, are not subject to federal supervision or regulation or to the federal proscription
against mixing banking and commerce.
Fewer than 25 nonbank banks currently claim the grandfather rights accorded in CEBA. The
Board is concerned that removal of the limitations and restrictions that apply to nonbank
banks would enhance advantages that this relative handful of organizations already possess
over other owners of banks and would give rise to the potential adverse effects about which
Congress has in the past expressed concern. In addition, removal of these limitations would
permit the increased combination of banking and commerce for a select group of
commercial companies, creating potential disadvantages and inequities for all other
companies, including banks and bank holding companies.
As this Committee is aware, there is significant debate in the context of broader efforts to
modernize our financial laws regarding whether it is prudent to remove the existing
separations between banking and commerce. Because reform of the nonbank bank
provisions raises fundamental questions regarding the mixing of banking and commerce, the
Board believes that reform of the provisions governing nonbank banks should be considered
within the framework of broad financial modernization rather than in the context of efforts
to reduce regulatory burden.
Thrift Powers
S. 1405, as drafted, also would appear to expand the mixing of commerce and banking by
owners of savings associations. In particular, section 107, which appears to have been
intended to allow a savings and loan holding company ("SLHC") to acquire a noncontrolling
interest in a savings association, would also permit multiple-SLHCs, with the approval of
the Office of Thrift Supervision, to acquire more than 5 percent of the shares of any
company, including any commercial firm. This would seem to expand the ability of
multiple-SLHCs to mix banking and commerce to an unlimited degree, a result that the
sponsors of this bill may not have intended. The Board supports clarifying the language in
the bill to ensure that the powers of multiple-SLHCs are not unintentionally broadened, and
advocates retaining the current proscription against allowing multiple-SLHCs to acquire a
significant interest in a commercial company.
Daylight Overdrafts
Section 118 would require the Federal Reserve to make intraday credit, in the form of
daylight overdrafts, available to the Federal Home Loan Banks. As it did in the last
Congress, the Board strongly opposes this proposal, which would provide special treatment
to the Federal Home Loan Banks over other GSEs and other lending institutions as well as
over all depository institutions with access to central bank credit.
Section 118 would represent the first time that Congress has mandated the availability and
price of central bank credit. As such, this bill would serve as precedent for other GSEs to
meet intraday liquidity needs with Federal Reserve credit at an administered interest rate
instead of with the proceeds of obligations issued in the markets at competitive rates as
contemplated by their statutory funding schemes.
In addition, section 118 would serve as a precedent for regularly extending Federal Reserve
credit to institutions that are not subject to reserve requirements and, therefore would grant
the Federal Home Loan Banks access to that credit on terms more attractive than those
available to depository institutions. For these reasons, the Board opposes extending the
availability of routine daylight overdrafts to the Federal Home Loan Banks.
Price Discounts
Section 204 is intended to allow banks to discount the price of products and services that are
offered in bundles to consumers. Current law prohibits banks from offering price discounts
in most situations, even though this is a common practice in other industries and even
though consumers benefit from receiving a price discount on the purchase of a combination
of products and services.
In the past several years, the Board has utilized authority granted to it by Congress to craft a
number of exceptions to current law that allow banks to offer price discounts on bundled
products. For example, the Board has allowed banks to offer discounts to customers that
maintain a certain level of deposits at the bank so long as both the deposit accounts and the
other bundled products are also separately available to the public. This type of price
discounting both saves money for consumers who desire the bundled products and allows
consumers who are not interested in purchasing the entire bundle of discounted services to
purchase individual products or services separately at competitive prices.
Section 204, as currently drafted, would appear to go further than is necessary to allow this
type of price discounting. The Board would support efforts to allow banks to offer price
discounts to customers that choose to acquire multiple products or services from banks and
their affiliates where the bundled products and services are also made available separately to
customers at competitive prices.
Affiliations with Government-Sponsored Enterprises
A provision in section 113 would remove the current restriction on bank affiliations with
GSEs. As worded, the section would appear to permit a bank or bank holding company to
acquire control of any GSE and to permit any GSE to acquire an insured bank. This broad
change, involving all GSEs, raises significant policy issues that the Board believes go
beyond the scope of regulatory burden relief. For example, this change raises the questions:
Is it desirable to allow a banking organization to exercise control over a GSE? Would a
banking organization that affiliates with a GSE gain competitive advantages over its peers
from the special tax and quasi-governmental status of the GSE? Would the secondary
markets that rely on GSEs be affected if a single banking organization acquires control of a
GSE? Conversely, is it appropriate to allow any GSE to acquire control of an insured bank?
These and other questions are raised by a statutory change that would affect all GSEs, but
the Board understands that the provision in section 113 is intended to address an existing
relationship involving a banking organization's ownership of shares of a single GSE. This
situation may be better addressed with a narrower provision that does not raise concerns
regarding control of GSEs more broadly.
Closing Thoughts
The Board applauds the efforts of the Committee to continue to eliminate unnecessary
government-imposed burdens. The Committee's past successes in regulatory reform and
relieving regulatory burdens on banking organizations, coupled with the efforts of the bank
regulatory agencies, necessarily make the Committee's task today a difficult one. The
Committee's substantial previous efforts have left fewer areas in banking law that require
reexamination outside the context of comprehensive financial modernization. As a
consequence, in some areas, S. 1405 attempts to resolve issues that are better addressed in
broader legislation that would reform the financial services industry.
The Board has long endorsed financial modernization strategies that ensure regulatory
equity for all participants in the financial services industry, that minimize the chances that
federal safety net subsidies will be expanded into new activities and beyond the confines of
insured depository institutions, and that guarantee adequate federal supervision of financial
organizations. The Board would be pleased to work with the Committee and its able staff to
reach these goals.
Appendix: Additional Views of the Federal Reserve Board
Sec. 105: Regulation and Examination of Service Providers
This section would, among other things, permit the OTS to regulate and examine a third
party that contracts with a savings association (or a subsidiary or affiliate of a savings
association) to provide services that the savings association (or its subsidiary or affiliate) is
authorized to perform.
The section also appears mistakenly to eliminate the existing enforcement authority of the
OTS over service corporations. The section should not strike the enforcement authority of
the OTS that is found in section 8 of the Federal Deposit Insurance Act, 12 U.S.C. ยง 1818(b)
(9).
Sec. 110: Expedited Procedures for Certain Reorganizations
This section would allow national banks to reorganize to become bank holding companies.
The Board has no objection to this provision, but believes that the language should be
clarified to state that the Bank Holding Company Act ("BHC Act") would still apply to the
formation of a bank holding company. The absence of such language could result in
different interpretations and cause confusion regarding the applicability of the BHC Act to
such reorganizations.
Sec. 115: Purchased Mortgage Servicing Rights
Current law requires banks and thrifts to value purchased mortgage servicing rights
("PMSRs") at no more than 90 percent of fair value. As a result, current law effectively
imposes a 10 percent capital haircut on PMSRs. This section would eliminate that haircut
requirement by allowing banks and thrifts to value PMSRs at no more than 100 percent of
fair market value when computing Tier I capital. This section also would update the
terminology used in current law to reflect current accounting rules. The Board recommends
that the federal banking agencies be granted authority to modify or eliminate the 10 percent
haircut, if the agencies make a finding that doing so would not have an adverse effect on the
depository insurance funds or the safety and soundness of the institution or institutions
involved.
Sec. 210: Call Report Simplification
This section restates section 307 of the Riegle Community Development and Regulatory
Improvement Act. The Board and the other banking agencies, working through the Federal
Financial Institutions Examination Council, have made substantial progress in implementing
the mandate of section 307. Thus far, the agencies have eliminated approximately 80 Call
Report data items; placed revised Call Report instructions and forms on the Internet;
adopted Generally Accepted Accounting Principles ("GAAP") as the reporting basis for all
Call Reports; produced a draft core report; condensed four sets of Call Report instructions
into one; provided an index for Call Report instructions; reported to Congress on
recommendations to enhance efficiency for filers and users; implemented an electronic
filing requirement for all institutions submitting Call Reports; and placed much of the Call
Report data on the FDIC's public website. The agencies are currently surveying end-users to
identify additional Call Report items that could be eliminated, while retaining items that are
essential for safety and soundness and other public policy purposes. This progress made by
the agencies to date suggests that this section of S. 1405 is not necessary.
Sec. 302: Elimination of Duplicative Disclosure of Fair Market Value of Assets and
Liabilities
This section would eliminate a requirement found in current law that the federal banking
agencies develop a method for insured depository institutions to provide supplemental
disclosures of estimated fair market values of assets and liabilities in reports required to be
filed with the agencies. The agencies have relied on requirements in GAAP for institutions
to disclose fair market values and, thus, the agencies have not needed to develop a separate
methodology. As these GAAP requirements remain in place, the current law's requirement is
duplicative and unnecessary. Accordingly, the Board supports the provision in section 302.
Sec. 305: Agency Review of Competitive Factors in Bank Merger Act Filings
This section would amend current law to eliminate the requirement that three competitive
reviews, one by each of the federal banking agencies, be conducted for each bank merger.
The Board supports this change.
This section also would amend current law to provide a list of factors that the Board and
other banking agencies must consider in determining whether a proposed banking
acquisition or merger would substantially lessen competition. The Board currently considers
many of these factors in its competitive analysis to the extent that data are available.
However, section 305 does not take account of the fact that data may not be available to
address some factors in individual markets. Moreover, consideration of a newly listed factor
may require collection of significant currently unreported data from banking and
nonbanking competitors that are not involved in the merger, thereby resulting in a
substantial increase in reporting burden. To assure that consideration of the new factors does
not result in an increase in burdensome regulatory reporting requirements, the Board
suggests that section 305 by amended to provide that the newly added factors be considered
"insofar as data are readily available."
Sec. 401: Alternative Compliance Method for APR Disclosure
The Truth in Lending Act ("TILA") and its implementing Regulation Z, 12 C.F.R. Part 226,
require creditors to give consumers, generally at the time of an application for credit,
detailed information about certain home-secured loans. Under current law, creditors offering
consumers an open-end variable-rate, home-secured loan must provide, among other things,
a detailed table showing a fifteen-year history of the changes in the index or formula used to
compute interest rates that would have affected the rate and payment on a $10,000 sample
loan. Section 401 would amend TILA to permit certain alternative disclosures for creditors
offering open-end, home-secured lines of credit. Under this provision, creditors would be
able to provide either the table mandated in current law or a statement that periodic
payments may increase or decrease substantially.
The Board supports the proposed change. The primary purpose of the table, which is to
demonstrate to consumers that fluctuating rates may affect their payments, would be
adequately addressed by a less burdensome and more straightforward disclosure that
periodic payments may vary substantially. In 1996, Congress provided a similar alternative
disclosure in lieu of the historical table for closed-end, variable-rate, home-secured loans.
Sec. 402: Alternative Compliance Method for Advertising Credit Terms
TILA requires the uniform disclosure of cost information in advertisements. Generally, if
certain information is included in an advertisement (a "triggering" term), other information
also must be disclosed ("triggered" terms). For example, the reference in a credit
advertisement to the number of payments in a loan would obligate the creditor to make
additional disclosures. Section 402 would amend current law to eliminate "the number of
installments or the period of repayment" as a triggering term in advertisements for closedend credit products. The Board supports this change. The amendment would reduce burden
for creditors without adversely affecting consumer protections.
Section 402 also would allow alternative disclosures for radio and television advertisements
concerning various types of credit transactions, including home-secured loans, installment
loans, and lines of credit. Under this provision, creditors would be able to provide basic rate
information and then provide a toll-free number that consumers can call to request further
information. This amendment would avoid the potential laundry-list of credit disclosures in
radio or television credit advertisements that often get quickly recited at the end of
advertisements while still providing consumers with the disclosures both through a toll-free
number and at the time the consumer applies for credit.
The Board generally supports the proposed changes, but we suggest a minor correction. The
Board suggests that the proposed section 148(b)(1) of TILA be revised to make clear that,
with respect to closed-end credit, creditors provide the simple interest rate and, with respect
to open-end credit, creditors provide the periodic rate.
Sec. 502: Consistent Coverage for Individuals Enrolled in a Health Plan Administered by
the Federal Banking Agencies
The Board supports this provision, which would permit retirees and near-retirees of the
Federal Reserve and the FDIC to enroll in the Federal Employee Health Benefit Program
("FEHBP") and to maintain health insurance coverage under FEHBP in retirement. The
change would provide affected Board and FDIC retirees and near-retirees with benefits
already enjoyed by most Board and FDIC employees, and by all OCC and OTS employees.
Nearly 300 active and retired Board employees and approximately 2,000 active and retired
FDIC employees would benefit from this change. The change also would result in
substantial savings of health insurance costs to the government, simplify benefits
administration, and provide affected individuals with a wider choice of health plans.
Because time has passed since the proposal was first introduced, however, some technical
changes will be needed to section 502. In each place it appears, the reference to "January 3,
1998" should be changed to "or before January 2, 1999." In addition, the reference in
subsection (b)(5) to "January 4, 1998" should be changed to "January 3, 1999, or such
earlier date as established by the Office of Personnel Management after consultation with
the Federal Deposit Insurance Corporation or the Board of Governors of the Federal Reserve
System, as appropriate."
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