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FEDERAL DEPOSIT INSURANCE CORPORATION
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PR-47-79 (5-7-79)
FOR RELEASE UPON DELIVERY
Library
m 2 5 1979
FEDERAL DEPOSIT INSURANCE
CORPORATION ■
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SOME REFLECTIONS ON OUR DUAL BANKING SYSTEM
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Address by !
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William M. Isaac/ Director
Federal Deposit insurance Corporation
before the
Georgia Bankers Association^
j) Jekyll Island, G e o r g i a ^ 7
May 7,
FEDERAL DEPOSIT INSURANCE CORPORATION, 5 5 0 Seventeenth St. N.W., Washington, D.C. 20429
202-389-4221
SOME REFLECTIONS ON OUR DUAL BANKING SYSTEM
By
William M. Isaac*
This morning I would like to talk about our dual banking
system — the role it has played in the development of AmericaTs banking
system and the challenges it faces as our financial system continues to
evolve.
At the outset, I am reminded of some words of caution written
by Charls Walker, then Executive Vice President of the American Bankers
Association:
For all its uniqueness, the dual banking system is not
well understood by legislators, principals, and staffs
of the regulatory agencies or the general public. To
all too many it is thought of as a device to whipsaw public
regulatory bodies for narrow, selfish interests or, equally
bad, as another example of accidental confusion in govern
ment with which the present generation must unfortunately
live and make function. Even bankers are sometimes prone
to see the system as a bothersome substitute for more
rational regulation rather than an integrated system of
value in its own right. All too often the phrase "dual
banking" is used as a shibboleth for industry self-interest.
Yet for all the misunderstanding and inappropriate defenses, the dual
banking system has indeed been one of the cornerstones of our financial
system. A careful and thoughtful evaluation of this unique system is
required; we must recognize the pressures that are bearing down on it.
What responses could or should we, as supervisors, bankers or elected
officials, be considering? What is the continuing role of a dual banking
system in our changing environment? These are the key questions before
us *— they will be answered by our actions or inaction in the coming
years (not by my speech this morning!).
A Brief Chronology
It is useful in considering the dual banking system to recall
some of the powerful socio-economic forces which shaped our emerging
nation and molded our current financial system — the Revolutionary War
and Civil War financing demands, the industrial revolution, and the
intermittent financial crises culminating in the Great Depression when
*The views expressed are personal and do not necessarily reflect FDIC
policy.
2
nearly one-third of our banks failed and millions of people lost their
life savings. Perhaps the most important ingredient is the pioneer
spirit of our people which manifests itself in a strong and independent
will and an equally strong distaste for concentrations of power, par
ticularly in government.
A brief chronology of a few well-known dates not only serves
to remind us of the slow evolutionary process toward a dual banking
system, but also underscores the historic philosophical crosscurrents —
an aversion to centralized power, on the one hand, and a desire to
protect the public from imprudent or abusive banking practices, on the
other.
—
Some students of history date the beginning of the dual
banking system in 1781 with the chartering of the Bank of
North America by the Continental Congress. The primary
purpose of this bank was to finance the military operations
of the newly-formed federal government. But, because the
legality of its federal charter was open to question, the
Bank of North America subsequently obtained a charter from
the Commonwealth of Pennsylvania just for good measure.
This might be stretching a bit the origin and the meaning
of our "dual banking system."
—
In 1791, just 10 years later, Congress granted a 20-year
charter to the First Bank of the United States, in large
part the result of Alexander Hamilton's relentless efforts
to establish a national bank. This bank was quite successful,
both in fostering economic growth in a young nation and in
handling its own finances; nevertheless, its charter was not
renewed as a spirit of independence and an aversion to cen
tralized power prevailed.
—
In response to abusive banking practices that sprang up in
state banks after 1811, the Second National Bank of the
United States was chartered by Congress in 1816; but its
charter was allowed to expire in 1836.
—
In 1863, with the pressing financing demands of war, the
National Currency Act (and the National Banking Act of the
following year) created a system of national banks, a national
currency, and the Office of the Comptroller of the Currency.
At that time, there were 1,466 state banks in operation.
Congress, in its wisdom, imposed a 10 percent tax on state
bank notes. Not surprisingly, by 1868 the number of statechartered banks had shrunk to 247, while nationally-chartered
banks had increased to 1,640. Thus, the conflicts and tensions
of a dual banking system began in earnest. The 10 percent tax
soon became meaningless as deposits were quickly outstripping
bank notes as the major source of funds. State-chartered
banks regained their ascendency, and by 1892, state banks
actually outnumbered national banks, 3,773 to 3,759.
- 3 -
—
A central banking authority, the Federal Reserve, was added
to the financial system in 1913 to help stem recurrent
financial crises. An important issue at the time, which is
very much alive today, was whether to require state banks to
participate in the system.
—
In 1933, Congress created the Federal Deposit Insurance Cor
poration to help stabilize the banking system and protect
depositors against loss of their life savings. Shortly
thereafter, the FDIC became the federal supervisory authority
of state nonmember banks, and became inextricably involved in
the chartering process since, as a practical matter, the
granting of insurance became a necessary part of a bank’s
franchise. Again, however, Congress elected not to require
state bank participation by law.
Thus, we started with a system wherein the states had full and
exclusive chartering and regulatory authority. Beginning in the mid19th century, three distinct socio-economic-political eras produced our
present tripartite federal regulatory structure — the Comptroller of
the Currency, the Federal Reserve and the Federal Deposit Insurance Cor
poration — which continued to evolve in later years as we added new
authority and responsibility.
It may be unfair to say that our dual
banking system evolved by historical accident, but it certainly did not
evolve by some grand design.
Characteristics of the Dual Banking System
The first and foremost characteristic of our state/federal
system is that it embodies the principle of checks-and-balances on
power. The fact that a bank can choose entry either through the state
or federal chartering process and that it can change its primary supervisor,
creates a check on the regulator’s authority and potential for abusive
or simply unwise actions. A second attribute of our state/federal
system is that with authority remaining at the local level, bank regula
tion is brought closer to the people and their communities. Laws and
regulations — indeed, the structure of banking — can be tailored to
the particular needs and requirements of our various communities; the
system can be more responsive. Finally, a decentralized regulatory
structure can provide more opportunity and incentive for experimentation
and innovation by banking firms and regulators alike.
At its best, the dual banking system would possess all of
these strengths. Yet the reality is that a growing federal presence in
the state banking system has tempered freedom of choice. Moreover, some
would argue that freedom of choice of charter and supervisor has at
times led to laxity in regulation.
Finally, it must be recognized that
local governments have the potential to be more responsive not only to
the broader public interest, but also to more narrow special interests.
4
For all its weaknesses, both real and perceived, I believe the
dual banking system has served us well and, on balance, offers continuing
advantages. I am persuaded of the fundamental strength of the twin
pillars on which our dual banking system is founded — the principles of
checks-and-balances and decentralized power. These principles have been
important throughout America’s history and have found particular relevance
in banking. A system fashioned by these two principles has a great deal
of flexibility — the ability to change with the times, to survive.
The Forces of Obsolescence
Many people have recalled Mark Twain’s cable from London to
the Associated Press: "The reports of my death are greatly exaggerated."
I certainly do not want to exaggerate the forces which are converging on
our dual banking system. However, these forces are presenting some
serious challenges to the dual banking system and are making its future
viability at least open to question. The challenge to the system is not
a clean-cut or dramatic issue of life or death — it is simply one of
obsolescence, which the dictionary defines as "out-of-date" or "no
longer used or practiced."
Everyone recognizes the financial problems that have long
plagued state banking commissions. These problems are no doubt exacerbated
by the extensive federal presence in state bank supervision. The incentive
for states to allocate resources to this activity is certainly reduced
when it is recognized that the federal government will provide the
service in any event.
Beyond the financial dilemma, several major socio-economic
forces are making themselves felt. Virulent inflation is having a
tremendous impact on the entire economy. In the regulatory arena one
implication is the increased necessity to streamline the regulatory
process and eliminate duplication of effort at both the state and the
federal levels. Moreover, inflation and the attendant high interest
rates have raised the cost of idle Federal Reserve balances to the point
where a number of banks have withdrawn from membership. This has created
an imbalance that favors the state banking system and, thus, ought to be
corrected. However, we must recognize that the resolution of this issue
will certainly create pressures in the other direction, which will be
greater or lesser depending on the particular form of the resolution.
A second major force of the past two decades has been the
increased scope and complexity of our economic and financial system. We
are experiencing the "internationalization" of our economy in the broadest
sense of the term. Our industrial companies initially went overseas to
expand their markets. Our banks followed suit with multinational opera
tions to serve the financial needs of these customers and, in the process,
found customers abroad themselves. Foreign companies, including financial
institutions, are now turning their attention to the U.S. market. Banks
have crossed state boundaries through holding company acquisitions of
5
finance, mortgage, factoring, and leasing companies and through Edge Act
offices, loan production offices, and credit card operations. In addition,
businesses and consumers have become increasingly sophisticated customers
of financial services. Banks, even many of our smaller banks, do not
simply take deposits and make loans anymore, they are offering a wide
array of financial services and are competing more directly with credit
unions, thrifts, leasing companies, brokerage houses, and other financial
intermediaries. These structural changes are placing substantial pressure
on our state/federal system. It is becoming increasingly difficult for
an agency that has limited jurisdiction over a piece of the puzzle to
fully comprehend and properly regulate the whole. Moreover, as competition
intensifies between various foreign and domestic financial institutions,
these institutions become less tolerant of inconsistent or unequal treat
ment and demand a more uniform regulatory framework. This tension on
the state/federal system can only intensify as we continue down the road
toward a more open competitive environment.
A final source of pressure on our dual banking system is the
social revolution of the 1960s which has continued into the 1970s.
There is more concern and emphasis regarding consumer and civil rights
issues, and there is a distinct tendency to seek answers at the federal
level. The federal government has responded with several major pieces
of legislation, partly because some states have not taken the initiative,
but primarily because it is simpler to enact one federal law than 50
state laws, and it has been felt that all citizens should receive equal
treatment under these laws. Social legislation has greatly expanded the
role of the federal bank regulatory agencies since we must now ensure
compliance in the areas of consumer affairs, civil rights, and community
reinvestment.
A Few Ideas for Cooperative Action
As I said at the outset, I personally believe in the concept
of a dual banking system; it has served well the needs of a growing and
diverse nation. The demands for efficiency, consistency, expertise, and
social responsiveness are challenging the dual banking system and could
render it obsolete in a future environment. It is incumbent upon us to
make every reasonable effort to assure that does not happen by default —
through our own neglect.
It is in the interest of bankers and bank supervisors, and it
is in the public interest, that we foster a sound, profitable, competitive,
and socially responsive banking system. At the same time, it is essential
that we endeavor to make our regulatory system as efficient as possible —
one that involves a minimum of cost, delay, irritation, and frustration.
As we turn our attention toward this latter objective, in the context of
our dual banking system, there are two major areas where we could bring
about impressive results. The first is in the area of examinations; the
second is in the area of applications.
-
6
-
The burden of dual supervisory examinations for state banks
can be substantially reduced. The FDIC still conducts nearly 60 percent
of its safety and soundness examinations on an independent basis.
However, we are experimenting, in cooperation with various state banking
departments, with the concepts of joint, concurrent, and alternating
examination programs. Although they present some problems, these programs,
particularly the alternating (or divided) examination, show considerable
promise.
The FDIC has taken other initiatives to allocate its exami
nation resources more efficiently. For example, in sound banks exami
nations are required only once every 18 months and increased authority
has been given for modified or shortened examinations. Thus, we are
focusing our attention on those banks that are experiencing, or in our
judgment are likely to experience, difficulty.
Some have suggested that the FDIC, as the insurer of the
nation's banking system, experiment with a program of accompanying- state,
and perhaps even national, examiners on examinations in lieu of conducting
full—scope exams. Another possibility is legislative reform to permit
the FDIC to withdraw from routine examinations and certain regulatory
functions in states that have banking departments that meet certification
standards established by the FDIC. Certainly we should remain open to
these and other suggestions for streamlining the examination process.
The delay, duplication, and expense involved in the current
application process for branches, mergers, insurance and the like could
also be substantially reduced. We might explore the possibility of
standardizing the forms that banks file with both the state authority
and the FDIC when applying for insurance, a new branch, or a merger.
Banks are currently required to provide essentially the same information
to state authorities and the FDIC in a variety of formats. This involves
obvious waste and inefficiency for all concerned. In a recent speech
before the Conference of State Bank Supervisors, Chairman Sprague stated
if standardized forms are developed, the FDIC is prepared to bear the
cost of printing the forms and distributing them to state bank supervisors.
A source of real concern to me is the length of time it takes
to process applications. There will be occasional logjams caused by an
uneven workload, and inevitably some applications will raise difficult
issues, the resolution of which will require time. But we should not
tolerate delay due purely and simply to inefficient processing procedures.
In a number of states today, for example, state banks are discouraged
from even filing applications with the FDIC until after the state has
acted. This precludes simultaneous processing of applications by the
two agencies and unnecessarily protracts the proceedings. While the
FDIC seldom announces a decision on an application before the state
authority has acted, in most cases it can and should be ready to act
very soon after the state authority has granted approval.
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