[House Hearing, 107 Congress]
[From the U.S. Government Publishing Office]
VIEWPOINTS OF THE FDIC AND SELECT INDUSTRY EXPERTS ON DEPOSIT INSURANCE
REFORM
=======================================================================
HEARING
BEFORE THE
SUBCOMMITTEE ON
FINANCIAL INSTITUTIONS AND CONSUMER CREDIT
OF THE
COMMITTEE ON FINANCIAL SERVICES
U.S. HOUSE OF REPRESENTATIVES
ONE HUNDRED SEVENTH CONGRESS
FIRST SESSION
__________
OCTOBER 17, 2001
__________
Printed for the use of the Committee on Financial Services
Serial No. 107-47
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76-181 PS WASHINGTON : 2001
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HOUSE COMMITTEE ON FINANCIAL SERVICES
MICHAEL G. OXLEY, Ohio, Chairman
JAMES A. LEACH, Iowa JOHN J. LaFALCE, New York
MARGE ROUKEMA, New Jersey, Vice BARNEY FRANK, Massachusetts
Chair PAUL E. KANJORSKI, Pennsylvania
DOUG BEREUTER, Nebraska MAXINE WATERS, California
RICHARD H. BAKER, Louisiana CAROLYN B. MALONEY, New York
SPENCER BACHUS, Alabama LUIS V. GUTIERREZ, Illinois
MICHAEL N. CASTLE, Delaware NYDIA M. VELAZQUEZ, New York
PETER T. KING, New York MELVIN L. WATT, North Carolina
EDWARD R. ROYCE, California GARY L. ACKERMAN, New York
FRANK D. LUCAS, Oklahoma KEN BENTSEN, Texas
ROBERT W. NEY, Ohio JAMES H. MALONEY, Connecticut
BOB BARR, Georgia DARLENE HOOLEY, Oregon
SUE W. KELLY, New York JULIA CARSON, Indiana
RON PAUL, Texas BRAD SHERMAN, California
PAUL E. GILLMOR, Ohio MAX SANDLIN, Texas
CHRISTOPHER COX, California GREGORY W. MEEKS, New York
DAVE WELDON, Florida BARBARA LEE, California
JIM RYUN, Kansas FRANK MASCARA, Pennsylvania
BOB RILEY, Alabama JAY INSLEE, Washington
STEVEN C. LaTOURETTE, Ohio JANICE D. SCHAKOWSKY, Illinois
DONALD A. MANZULLO, Illinois DENNIS MOORE, Kansas
WALTER B. JONES, North Carolina CHARLES A. GONZALEZ, Texas
DOUG OSE, California STEPHANIE TUBBS JONES, Ohio
JUDY BIGGERT, Illinois MICHAEL E. CAPUANO, Massachusetts
MARK GREEN, Wisconsin HAROLD E. FORD Jr., Tennessee
PATRICK J. TOOMEY, Pennsylvania RUBEN HINOJOSA, Texas
CHRISTOPHER SHAYS, Connecticut KEN LUCAS, Kentucky
JOHN B. SHADEGG, Arizona RONNIE SHOWS, Mississippi
VITO FOSSELLA, New York JOSEPH CROWLEY, New York
GARY G. MILLER, California WILLIAM LACY CLAY, Missouri
ERIC CANTOR, Virginia STEVE ISRAEL, New York
FELIX J. GRUCCI, Jr., New York MIKE ROSS, Arizona
MELISSA A. HART, Pennsylvania
SHELLEY MOORE CAPITO, West Virginia BERNARD SANDERS, Vermont
MIKE FERGUSON, New Jersey
MIKE ROGERS, Michigan
PATRICK J. TIBERI, Ohio
Terry Haines, Chief Counsel and Staff Director
Subcommittee on Financial Institutions and Consumer Credit
SPENCER BACHUS, Alabama, Chairman
DAVE WELDON, Florida, Vice Chairman MAXINE WATERS, California
MARGE ROUKEMA, New Jersey CAROLYN B. MALONEY, New York
DOUG BEREUTER, Nebraska MELVIN L. WATT, North Carolina
RICHARD H. BAKER, Louisiana GARY L. ACKERMAN, New York
MICHAEL N. CASTLE, Delaware KEN BENTSEN, Texas
EDWARD R. ROYCE, California BRAD SHERMAN, California
FRANK D. LUCAS, Oklahoma MAX SANDLIN, Texas
BOB BARR, Georgia GREGORY W. MEEKS, New York
SUE W. KELLY, New York LUIS V. GUTIERREZ, Illinois
PAUL E. GILLMOR, Ohio FRANK MASCARA, Pennsylvania
JIM RYUN, Kansas DENNIS MOORE, Kansas
BOB RILEY, Alabama CHARLES A. GONZALEZ, Texas
STEVEN C. LaTOURETTE, Ohio PAUL E. KANJORSKI, Pennsylvania
DONALD A. MANZULLO, Illinois JAMES H. MALONEY, Connecticut
WALTER B. JONES, North Carolina DARLENE HOOLEY, Oregon
JUDY BIGGERT, Illinois JULIA CARSON, Indiana
PATRICK J. TOOMEY, Pennsylvania BARBARA LEE, California
ERIC CANTOR, Virginia HAROLD E. FORD, Jr., Tennessee
FELIX J. GRUCCI, Jr, New York RUBEN HINOJOSA, Texas
MELISSA A. HART, Pennsylvania KEN LUCAS, Kentucky
SHELLEY MOORE CAPITO, West Virginia RONNIE SHOWS, Mississippi
MIKE FERGUSON, New Jersey JOSEPH CROWLEY, New York
MIKE ROGERS, Michigan
PATRICK J. TIBERI, Ohio
C O N T E N T S
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Page
Hearing held on:
October 17, 2001............................................. 1
Appendix:
October 17, 2001............................................. 25
WITNESSES
Wednesday, October 17, 2001
Carnell, Richard S., Ph.D., Associate Professor of Law, Fordham
University School of Law, New York, NY......................... 17
North, Nolan L., Vice President and Assistant Treasurer, T. Rowe
Price Associates, Inc., on behalf of the Association for
Financial Professionals........................................ 19
Powell, Hon. Donald E., Chairman, Federal Deposit Insurance
Corporation.................................................... 2
Thomas, Kenneth H., Ph.D., Lecturer on Finance, The Wharton
School,
University of Pennsylvania..................................... 21
APPENDIX
Prepared statements:
Bachus, Hon. Spencer......................................... 26
Oxley, Hon. Michael G........................................ 28
Carnell, Richard S., Ph.D.................................... 45
North, Nolan L............................................... 55
Powell, Hon. Donald E........................................ 30
Thomas, Kenneth H., Ph.D..................................... 67
VIEWPOINTS OF THE FDIC AND SELECT
INDUSTRY EXPERTS ON DEPOSIT INSURANCE
REFORM
----------
WEDNESDAY, OCTOBER 17, 2001
U.S. House of Representatives,
Subcommittee on Financial Institutions
and Consumer Credit,
Committee on Financial Services,
Washington, DC.
The subcommittee met, pursuant to call, at 10:04 a.m., in
room 2128, Rayburn House Office Building, Hon. Spencer Bachus,
[chairman of the subcommittee], presiding.
Present: Chairman Bachus; Representatives Royce, Kelly,
Cantor, Hart, Waters, Bentsen, Sherman, Lucas and Shows.
Chairman Bachus. The subcommittee meets today for its third
hearing this year on reforming the deposit insurance system.
We're delighted to have with us today the new Chairman of the
FDIC, Don Powell, who assumed his responsibilities at the
Agency less than two months ago, after a distinguished career
in Texas banking. Chairman Powell will provide us with the
FDIC's updated recommendations on how to reform a system that
has served our country well over the years but is in need of
some retooling for the 21st century marketplace.
Shortly after the subcommittee's last hearing on deposit
insurance reform in late July, the Office of Thrift Supervision
announced the failure of Superior Bank, a Chicago-based thrift
with assets of $2.3 billion and a heavy concentration of sub-
prime loans. Early estimates are that Superior's failure could
end up costing the Savings Association Insurance Fund upward of
$500 million, which would in turn lower SAIF's ratio of
reserves to insured deposits from its current level of 1.43
percent to 1.35 percent or even lower.
In and of itself, the Superior failure is hardly cause for
panic. Both the SAIF and its banking industry counterpart, the
Bank Insurance Fund, remain extremely well capitalized and the
banking and thrift industries appear well-positioned to weather
any significant downturn in the economy. Nonetheless, a
precipitous drop in SAIF's reserve ratio--coinciding with
recent declines in the BIF ratio--highlight the need for
Congress to consider reforms before the ratios fall below
levels which, under the current system, would trigger sizable
premium assessments on all institutions.
As this subcommittee begins in earnest to consider
legislative proposals to address deficiencies in the current
deposit insurance system, I can think of no Government official
better qualified to provide us with wise counsel than our first
witness at today's hearing. With more than 30 years of
experience in the financial services industry, including his
recent tenure as president and CEO of the First National Bank
of Amarillo, Chairman Powell brings to his new position a real
world understanding of the industry he is now charged with
overseeing, that is truly refreshing.
I had the pleasure of spending time with Chairman Powell
when he visited my office last month. I found him to be
exceedingly well versed on the issue of deposit insurance
reform as well as extremely sensitive to the challenges faced
by America's Main Street banks.
Chairman Powell pledged to work closely with the
subcommittee both in the context of deposit insurance reform
and in other areas to ensure that the legislative and
regulatory initiatives we pursue here in Washington make sense
when viewed from the perspective of a Main Street banker and
his customers. In the area of deposit insurance reform, I've
been particularly encouraged by Chairman Powell's endorsement
of the principle of indexing coverage levels to inflation and
increasing coverage for individual retirement accounts.
And I was extremely pleased to see an analogy you made in
your testimony that actually that's the only way we can keep
coverage at the same level because of inflation. If we don't
move it up or index it, it actually diminishes in value. And I
think that's probably the best argument that I've heard in ten
years for an increase.
As I said, Chairman Powell has expressed a willingness to
work with the subcommittee in exploring possible changes in the
system, and one of the changes I've advocated is insuring
municipal deposits. If we are truly serious about addressing
liquidity problems facing small community banks across America,
we should be doing everything possible to encourage local
government agencies to keep their receipts in the community by
depositing them with local banks.
Currently, many States require banks that maintain
municipal deposits to pledge collateral against the portion of
such deposits that exceed $100,000 and are therefore not
insured by the FDIC. This not only makes it difficult for small
banks to compete for those deposits with larger institutions,
but it also ties up resources that could otherwise be devoted
to community development and other lending activities.
This is an issue I look forward to discussing further with
Chairman Powell as the deposit insurance reform debate moves
forward.
Let me close again by issuing Chairman Powell a warm
welcome, testifying for the first time before our subcommittee,
and also welcome those who'll be testifying on our second
panel.
[The prepared statement of Hon. Spencer Bachus can be found
on page 26 in the appendix.]
I now recognize there are no other Members who wish to make
opening statements so at this time, Chairman Powell, we look
forward to your testimony.
STATEMENT OF HON. DONALD E. POWELL, CHAIRMAN, FEDERAL DEPOSIT
INSURANCE CORPORATION
Mr. Powell. Thank you, Mr. Chairman.
It is a great pleasure to appear before you this morning,
my first appearance before Congress as Chairman of the Federal
Deposit Insurance Corporation, to discuss deposit insurance
reform. The current system does not need a radical overhaul,
but I agree with the FDIC's analysis that there are flaws in
the current system. These flaws could actually prolong an
economic downturn rather than promote the conditions necessary
for recovery. The current system also is unfair in some ways
and distorts initiatives in ways that make the problem of moral
hazard worse. These flaws can only be corrected by legislation.
The FDIC staff has prepared an excellent report on deposit
insurance reform with very important recommendations. In fact,
if I might digress for a few moments, Mr. Chairman. Last night,
I attended a lecture and ceremony for the presentation of the
Roger W. Jones Award for Excellent Leadership sponsored by the
School of Public Affairs at American University. This
prestigious award is given to two career employees in the
Federal Government that exemplify an enhancing commitment to
the effective and efficient operations of Government.
Art Murton, the Director of the FDIC's Division of
Insurance, was one of the recipients last night. He received
the award, in large part, for the work he did on the deposit
insurance study. I would like to take this opportunity to
publicly congratulate Mr. Murton.
I have studied the report and have full confidence in the
product the FDIC has produced. This morning I will add my
thoughts on how the Congress can create a better system. The
current system is designed to ensure that the funds' reserves
are adequate and that the deposit insurance program is operated
in a manner that is fiscally and economically responsible.
Any new system should retain these essential
characteristics. It should also be fair, simple, and
transparent. Specifically, what should we do?
First we should merge the Bank Insurance Fund and the
Savings Association Insurance Fund. That is the FDIC's
longstanding position and the industry has strong consensus
supporting such a merger. In fact, I have heard no one inside
the industry or out suggest otherwise. Many institutions
currently hold both BIF and SAIF insured funds. A merged fund
would be stronger and better diversified than either fund
standing alone. In addition, the merged fund would eliminate
the possibility of a premium disparity between the BIF and the
SAIF. Finally, merging the funds would also eliminate the costs
to insured institutions associated with tracking their BIF and
SAIF deposits separately, as well as the complications such
tracking introduces for mergers and acquisitions.
For all of these reasons, the FDIC has advocated merging
the two funds for a number of years and I wholeheartedly agree.
Second, we should index deposit insurance coverage. I do
not believe it is necessary to raise the coverage limit now.
While I'm acutely sensitive to the funding pressures faced by
many community banks, this is a complex issue and there are
many factors at work. It is not clear whether a higher coverage
limit would significantly ease current funding pressures for
most of these institutions.
The impact of raising the coverage limit on the fund
reserve ratio is also uncertain and we must be mindful of the
potential for unintended consequences, such as facilitating
deposit gathering by higher-risk institutions. We should,
however, ensure that the present limit keeps its value in the
future. For this reason, deposit insurance coverage level
should be indexed to maintain its real value.
My suggestion would be to index the $100,000 limit to the
Consumer Price Index and adjust it every five years. The first
adjustment would be on January the 1st, 2005. We should make
adjustments in round numbers--say, increments of $10,000--and
the coverage limit should not decline if the price level falls.
These seem like the right elements of an indexing system, but
I'm willing to support any reasonable method of indexing that
ensures that the public knows that the FDIC deposit insurance
protection will not wither away over time. I look forward to
working with the Congress to find a method of indexing that
works.
There has been some opposition to the FDIC's indexing
proposal on the grounds that it would increase the Federal
safety net. Frankly, I'm puzzled by this. The FDIC is not
recommending that the safety net be increased, it is simply
recommending that the safety net not be decreased inadvertently
because of inflation.
There is one class of deposits for which Congress should
consider raising the insurance limit, and that is IRA and Keogh
accounts. Such accounts are uniquely important and protecting
them is consistent with existing Government policies that
encourage long-term saving. When we think about saving for
retirement in this day and age, $100,000 is not a lot of money.
Middle-income families routinely save well in excess of this
amount
Moreover, especially during this time of uncertainty when
Americans may be concerned about the safety of their savings, I
believe it is important for the United States Government to
offer ample protection to facilitate savings through vehicles
that will redeploy funds into the economy. In my view, we must
do whatever we can to provide for the ongoing productive
investments in our economy and solid, sustainable growth.
Higher deposit insurance protection for long-term savings
accounts could help.
There is some history for providing such accounts with
special insurance treatment. In 1978, Congress raised coverage
for IRAs and Keoghs to $100,000, while leaving basic coverage
for other deposits at $40,000. I urge the Congress to give
serious consideration to raising the insurance limits on
retirement accounts.
On the issue of managing the insurance fund, right now
there are two statutorily mandated methods for managing fund
size. One of these methods prevents the FDIC from charging
appropriately for risk during good economic times. The other
can work to exacerbate an economic downturn. Together, they
lead to volatile premiums.
To address this issue, we must, third, allow the FDIC to
price deposit insurance according to risk, and the FDIC's Board
must have the flexibility to manage the fund size in periods of
stability as well as in periods of crisis.
Specifically, the FDIC should have the discretion to set
the target size for the fund ratio and determine the speed of
adjustment toward the target and charge appropriately for risk
at all times.
What is the appropriate target for the size of the fund?
This will depend upon economic and banking conditions and other
factors that affect the risk exposure of the industry. The FDIC
is in the best position to gather information about risks in
the industry and to analyze it for these purposes, using state-
of-the-art measurement methods, as well as to determine the
best pace for moving toward the fund target.
Although I believe that greater discretion for the FDIC
Board is essential in these areas, I am not suggesting that the
current target of 1.25 is inappropriate or that there should be
no guidelines for the FDIC in managing the size of the fund. On
the contrary, I believe that the 1.25 percent target has served
us well in recent years, and is a responsible reserve against
the current risks in the banking sector. The current target is
a reasonable starting point for the new system.
Moreover, I would steer clear of automatic triggers or hard
targets. I would be happy to work with Congress to develop some
guiding principles for the FDIC Board in managing the growth or
shrinkage of the fund. I also believe that the FDIC should
report regularly to the Congress on its actions to manage the
fund, and we are fully prepared to do that.
How would premiums work if the FDIC could set them
according to the risks in the institutions we insure? First and
foremost, the FDIC would attempt to make them fair and
understandable. We would strive to make the pricing mechanism
simple, straightforward, and easy for bankers to understand. In
my view, we can accomplish our goals on risk-based premiums
with relatively minor adjustments to the FDIC's current
assessment system.
Using the current system as a starting point, I believe
that the FDIC should consider additional objective financial
indicators based upon the kinds of financial information that
banks and thrifts already report, to distinguish and price for
risk more accurately within the existing least-risky 1A
category. The sample ``scorecard'' included in the FDIC's April
2001 report represents the right kind of approach.
In short, I believe the right approach is to use the FDIC's
historical experience with bank failures and with the losses
caused by banks that have differing characteristics to create
sound and defensible distinctions. Pricing deposit insurance
risk is inherently difficult and some amount of subjectivity
cannot be avoided.
We will never be perfect, but we are committed to doing the
best possible job. We will use objective factors whenever
possible, and we will invite the participation of the industry
and the public in the FDIC's decisionmaking process through
notice-and-comment-rulemaking and other outreach efforts.
Essentially, the FDIC wants to be able to fulfill the
original mandate Congress gave it in 1991 to design and
establish a truly risk-based system that allows the insurer to
respond to emerging risks and evolving risk factors.
Finally, one goal of deposit insurance reform should be
that, over time, it produces a better and fairer system without
increasing the net costs of deposit insurance for the industry
or increasing the risk posed to taxpayers. If the FDIC is
charging risk-based premiums to all institutions, then to check
the growth of the fund in good economic times, the FDIC must be
able to grant banks a credit toward future assessments.
In its recommendations, the FDIC suggested giving rebates
whenever their fund ratio moves above its target range.
However, I am reluctant to mandate a cash payment out of the
insurance fund at this time, given the uncertain economic
environment. We can achieve the desired result by giving banks
a credit toward future assessments. Initially, these credits
should be allocated in proportion to assessments paid in the
past, which would be fair to the institutions that built the
insurance funds to where they stand today.
Mr. Chairman and Members of the subcommittee, the Congress
has an excellent opportunity to remedy flaws in the deposit
insurance system before those flaws cause actual damage either
to the banking industry or our economy as a whole. Both
insurance funds are strong and despite a slowing economy, the
banking industry also remains very strong.
The FDIC has put forward some important recommendations for
improving our deposit insurance system. While I believe we
should remain flexible with regard to implementation, as a
former banker and as the FDIC's new Chairman, I believe that we
should work together to make these reform proposals a reality.
Thank you.
[The prepared statement of Hon. Donald E. Powell can be
found on page 30 in the appendix.]
Chairman Bachus. Thank you.
At this time, I'm going to yield to Mrs. Kelly for
questions.
Mrs. Kelly. Thank you very much, Mr. Chairman, and Mr.
Powell, thank you for testifying. I too want to applaud your
idea of indexing coverage to inflation. I think that's a good
suggestion and I think it's something we should consider. I'm
glad to hear it.
Mr. Powell, I understand that some Oakar banks that bought
safe deposits during the savings and loan crisis are asking the
FDIC to make substantial payments from the SAIF and shift
deposits from the SAIF coverage to coverage by the BIF as a
result of their purchase. The theory behind this request is
that some BIF insured banks that had bought SAIF insured
deposits miscalculated their relative BIF and SAIF deposit
bases, causing them to pay incorrect premiums. As a result, the
FDIC made the banks whole that paid too much, and forgave the
banks that paid too little.
Many Oakar banks calculated their SAIF obligations
correctly, but several are now asking Congress to grant them
cash, as if they had made a mistake when they calculated.
What impact, if any, could this have on the Deposit
Insurance Fund?
Do you want me to wander through that again?
Mr. Powell. No. That impact could be as much as $500
million.
Mrs. Kelly. I'm sorry, sir, could you repeat that?
Mr. Powell. That impact could be as much as $500 million.
Mrs. Kelly. Five hundred million dollars, that would be the
impact.
Mr. Powell. Yes, ma'am.
Mrs. Kelly. OK, that's at least good for us to know and we
perhaps need to address that. Thank you.
Another question I had was brought up by one of the people
on my banking advisory committee. They were talking about
municipal deposits. And the question is, do you think municipal
deposits ought to get 100 percent insurance coverage, or should
they get some other higher level of coverage, and if so, what
level of coverage do you think is appropriate for municipal
deposits?
Mr. Powell. I'm concerned about providing complete
protection for any class of depositors. We're willing to talk
about this, but I would say that I'm not persuaded that there's
strong public policy argument for raising the limit on
municipal deposits at this time. We at the FDIC would be more
than willing to listen to those arguments for raising those
limits.
Mrs. Kelly. But you are willing to think about this?
Mr. Powell. Yes, we would be willing to talk about it and
think about it.
Mrs. Kelly. Perhaps you'd want to get back to the
subcommittee and let us know what you're ponderings are?
Mr. Powell. Sure, I'd be happy to do that.
Mrs. Kelly. I want to link that then to another issue that
they brought up which was what level of coverage you think that
the retirement accounts, like IRAs and 401Ks should receive,
and should co-insurance be considered for higher coverage of
mutual and retirement accounts?
Mr. Powell. There's been some history, as I mentioned in my
testimony, I think Congress chose to raise the retirement
accounts, the IRAs and Keoghs to 2\1/2\ times the coverage that
was in place in 1979. So with that formula, that would raise
the coverage to $250,000. We have done some work at the FDIC
looking at the number $500,000, and do not believe that between
$250,000 to $500,000 that there would be any impact on the
fund, but of course that is based upon some assumptions that we
don't know, in fact, would happen.
But, 2\1/2\ times, it seems to me, would be a reasonable
number.
Mrs. Kelly. Thank you, Mr. Powell. Unfortunately, I'm going
to have to go up to the floor so I'm going to yield the rest of
my time to Chairman Bachus.
Chairman Bachus. Thank you. And what I'm going to do, I've
got several Members that want to participate in the money
laundering debate on the floor too, so I'm going to yield at
this time, and then when they are through, I have a few
questions.
The gentleman from Texas.
Mr. Bentsen. Thank you, Mr. Chairman, and Mr. Powell, my
fellow Texan, I'm sorry I missed the opening part of your
statement and I, unfortunately, have not completed your
testimony, but I was able to glean some information from it.
From reading the initial part of your testimony, you seem
to at least partially endorse the report of your predecessor in
the approach that she and your staff were trying to take to
reform in the FDIC, I'm sorry, the deposit insurance program. I
agree with you on the merger of the funds. I think that makes
perfect sense.
You sort of get into some detail of more of a risk-based
pricing model, which I also think makes sense, and rather than
giving just a cash rebate back, you would want to, you just
want to carry it forward on basically a credit against future
assessments, and I think that makes some sense also.
I particularly like the idea of trying to get away from
this sort of counter-cyclical pricing approach.
What I'm curious about is one of the things that I think
your predecessors proposed was that even with a risk-based
pricing and even with credit assessments, if I understood this
correctly, that there would always be some assessment so that
you could never get to zero in effect, so that there was always
some cash flow coming into the fund in the event that you hit a
real bump in the road.
And we have seen, not in this industry, but in other
industries, the bumps in the road can come out of nowhere, as
we saw in the airline industry and potentially in the insurance
industry because of September 11th.
Is that your position as well, that even with the, if we
were to develop a model or legislation off of your testimony
and off of the FDIC's proposal, as modified by you, with the
assessments, with the credit allocation, with the risk-based
pricing, that there would still be at least, there would always
be some premium that would be paid?
Mr. Powell. Yes, sir. The thought behind that is that all
institutions, we believe, benefit from FDIC insurance and every
institution, even those that are extremely well run, offer some
risk to the FDIC.
Mr. Bentsen. Is it, and in the midst of everything going
on, I realize banking policy isn't necessarily getting the full
attention that this subcommittee might believe it deserves, but
is this, is the reform of the deposit insurance system a top
priority of the Administration, and is it something that you
all will seek to push in this Congress?
Mr. Powell. We have been in contact with the folks at
Treasury and they have been informed of our position and we've
had dialogue back and forth with the folks in Treasury. We at
the FDIC, we believe that this is good public policy, we
believe it's the right thing to do, and we will attempt to move
this forward.
Mr. Bentsen. Well, I'm glad to hear that, Mr. Powell,
because I do think that it's something that we ought to do.
They're not as many other issues on the agenda, having passed
Gramm-Leach-Bliley, that I think are as important to the
industry. We, as you know from your prior life, we have debated
this issue for some time, long before I came here and hopefully
not long after I leave, but we went through a number of
machinations in 1995 and 1996. We came up with compromise
language in 1996, but that was really left undone, and so I'm
pleased with where your testimony is heading today, that you
want to take the approach a step further and I encourage you to
keep pushing, and at least for this Member, any assistance I
can give in prodding the Administration--they don't listen to
me all that often, but to the extent that we can work together,
I'm eager to work with you and I yield back the balance of my
time.
Mr. Powell. Thank you.
Mr. Bentsen. Thank you, Mr. Chairman.
Chairman Bachus. Let's see, the gentlelady from
Pennsylvania doesn't have questions, is that correct?
And the gentleman from California does not have questions.
Gentleman from Kentucky, no questions.
This is a great first hearing.
Let me go over what I, I just made some notes on your
testimony from reading it yesterday, and let me sort of go down
this list as opposed to some questions and answers, and make
sure that maybe I'm hitting the highlights.
First of all, merge the funds?
Mr. Powell. Yes, sir.
Chairman Bachus. No across-the-board increase in the basic
coverage now?
Mr. Powell. Yes.
Chairman Bachus. Index the present $100,000 limit to the
Consumer Price Index, and adjust that every 5 years with the
first adjustment 1/1/05.
Rounding in whole numbers in $10,000 increments, and then I
think I also agree with you, and retain the coverage level even
if the price level falls.
Mr. Powell. Right.
Chairman Bachus. Because if you didn't do that, you could
actually cause some unease in the market?
Mr. Powell. Right.
Chairman Bachus. Increase the insurance limit for IRA and
Keough deposits since existing Government policies encourage
long-term savings, and middle income families routinely save
well in excess of that amount.
Also higher IRA and Keough deposit insurance coverage
promotes productive economic investment in growth, which is
something I think Chairman Greenspan and other economists have
asked this Congress to figure out ways to do.
The basis, and some people question why have two different
limits, but you pointed out, I think, that in 1978, when it was
established the IRA/Keough coverage at $100,000, while leaving
basic coverage at $40,000, so we already have that precedent.
While banks and thrifts account for just $220 billion of
IRA Keoughs, the short-term impact to the reserve ratio could
be dramatic, because of $2.5 trillion in IRA/Keoughs in the
overall economy. And that's a concern for you. And the FDIC is
going to study that before they make a final recommendation?
Mr. Powell. Yes, sir.
Chairman Bachus. And will that include in the amount to
bring that coverage up to?
Mr. Powell. Yes, sir.
Chairman Bachus. Deposit insurance within the 1A category
can be priced according to risk using the existing system of
subjective indicators. Then you're going to add six additional
objective financial indicators?
Mr. Powell. Yes, sir.
Chairman Bachus. And I do have, I'm going to have a follow-
up question on that. Grant future assessment credits allocated
in proportion to past assessment payments using 1996 as a
baseline date when both funds have been capitalized. And I will
have a follow-up on that too, I think, if no one else asks it,
about how we compute that, if one institution's acquired
another institution.
But, you're not going to provide a cash out of the fund now
due and that's due to the uncertain economic environment? And
obviously, I don't think anybody would argue with that. I
probably shouldn't have said no one will argue with it, but I
think your position is certainly reasonable.
Eliminate the 23 basis point cliff effect to ensure that
new deposit growth no longer triggers premium increases. That's
something that this subcommittee has also identified. I think
there's some pretty broad agreement by the industry and the
regulators.
I've got four more questions, and this is now getting into
something that is maybe where the industry and regulators might
see some disagreement.
Provide the FDIC board with the flexibility to set the fund
ratio's target size, determine the speed of adjustments toward
the target and charge appropriately for risk at all times.
Although no target range is specified, the current 1.25 percent
level is a reasonable starting point for the new system. Avoid
hard targets or automatic triggers in managing the fund's
growth or shrinkage.
Now in regard to that, as I see it, you're actually saying
let the FDIC--basically it almost appears to be a request for
total discretion. You're a Main Street banker, is the industry
comfortable with that? I'm asking you as a regulator, but
you've been in the business for 30 years. Is the industry
comfortable with--and I'll stop, I've got one more.
Mr. Powell. Mr. Chairman, I think you're correct, but I
would add this to it, that there would be some parameters and
some accountability back to Congress on an annual basis. I
mean, we are willing to work with Congress about setting some
parameters as relates to our discretion, but in fact, we would
like to manage the fund without some hard targets associated
with it.
I look at it, not unlike a loan loss reserve at a bank. We,
at the FDIC, should have the ability to make sure that we
understand the risks in the system. It's a commercial bank and
I have my loan portfolio. I need to assess what the risk is
without saying that my reserves should be 2 percent of loans or
1 percent of loans or 5 percent of loans, because the risk
varies from time to time. And the risks will vary from time to
time and we are simply asking that we be allowed, with these
parameters in place and with reporting back to the Congress, of
being accountable back to Congress, that we manage that risk,
because risk is ever changing, to be fair to the system. And we
have the data we think that would enable us to assess the
risks.
Chairman Bachus. I agree with you that, you know. Hard
targets are not the way, and that ranges--you know, we talked
about ranges, but I don't know that we've ever talked about not
having a bottom of the range and a top of the range. Maybe
there are extenuating circumstances, and let me tell you the
reason I'm saying that.
Two reasons, two concerns. One is the bank needs to know at
a certain capitalization rate the Government is not going to be
asking me to put more in, and you know, at a certain level, I
know that I've probably got to start paying more. And you know,
I see, as that ratio goes up and down, there's some
predictability that I can make in business judgment.
But another concern is, not while you're Chairman, but what
is to prevent a new Chairman, unless there are some ranges, of
saying we're going to raise the ratio to give--we're going to
punish the--we're going to finance some of the operations with
this.
Mr. Powell. I've been on that side, Mr. Chairman, yes.
Chairman Bachus. You see what I'm saying?
Mr. Powell. Absolutely.
Chairman Bachus. As a banker, I think they'd be able to
raise it to 2\1/2\ percent.
Mr. Powell. It gets back to that accountability. I think we
need to be accountable, and we would again work with the
Congress. It may be there should be a minimum, there should be
a maximum. We would again be willing to listen to any of those
views, be they your views or any other Members of Congress.
Chairman Bachus. You know, at a certain point, and as I've
said before, you've come from Amarillo, you've come from the
real world, and you know that there is a ratio at which,
whether it's 1.5, 1.8, where banks, even that, you know, a one-
half of 1 percent or one-quarter of 1 percent makes you
competitive or non-competitive in the marketplace.
Mr. Powell. Yes sir, I think your point is very good and I
want to stress that we want to be accountable. Accountability
is something that we at the FDIC understand and we want to be
accountable to Congress. And we would listen to any standards
that Congress may want to put into that. We would just simply
say that the economy moves from time to time, and a benchmark
of 1.25 has served us extremely well in the past, but in the
future, perhaps that should be managed in a different way. So
we're willing to listen and willing to work with you.
Chairman Bachus. Particularly, you know, the industry
doesn't agree, but the regulators--and there are certain people
saying there ought to be at least some premium paid, and at
some level, I think we all agree that an assessment, when
there's a certain capitalization rate, there's probably no need
to go above that.
Mr. Powell. Absolutely, yes, sir.
Chairman Bachus. My first question is this. Well, let me, I
had one other point, I think here, and that would maybe
complete what I've sort of gone over your testimony just some
high points, is the combination of risk-based premiums and
assessment credits tied to past contributions would help to fix
the problems related to rapid growers and new entrants. And I
think that's a real concern among many people in the industry.
Mr. Powell. Yes, sir.
Chairman Bachus. Other than the new entrants and fast
growers that aren't at all concerned about that problem, but I
think that's a good recommendation. And here's my first
question, it's sort of a follow-up. There's widespread industry
concern that well-managed, well-capitalized institutions with
ratings of 1 or 2 should not have to pay premiums. Why should
premiums be reimposed on these institutions if their 1A
assessment rating and high ratings accurately reflect their
risk profile and financial condition? And I'll just ask the
follow-up now and you can answer it all.
And how do you persuade those institutions to support a
proposal to pay premiums for the first time since 1997?
Mr. Powell. I think that question really needs to be
answered in taking into consideration the credit assessments
that we are recommending. But we believe that every
institution, in fact, does have some risk to the Fund. The FDIC
has data that supports that statement in that banks in the past
that have failed, and I don't have that data before me, but
clearly, banks of a rating of 1 and 2 represented some
percentage of the banks that failed 2 and 3 and 5 years later.
So all banks have risk. And all banks benefit from FDIC
insurance. Thus, it would seem to me that all banks should pay,
again based upon the risk, and those that have paid in the past
and those that are the best rated banks will receive some
credit assessment, and obviously the premiums would be much
lower for the best rated banks than those that present a higher
risk to the system.
Chairman Bachus. I think your response is very concise and
hits two or three of the points very well, so I agree with you,
and I think many on this subcommittee do.
How do you perceive the public's reaction to a modest
increase in the deposit insurance coverage limit of, let's say,
$10,000 or $20,000 or is there a minimum that it goes up or
$30,000 or even $40,000? What is the estimated effect to the
Fund and the Fund ratio from such increases?
Mr. Powell. The FDIC has done lots of work as relates to
that and, Mr. Chairman, I would tell you that under the current
proposal that the impact on the Fund is not material. That has
lots of assumptions, of course, based upon it as we go forward
depending upon what happens in the economy, but it's not
material.
Chairman Bachus. At this time, I'm going to yield to the
gentlelady from California, and invite you to make an opening
statement, and I have explained to the Chairman that our money
laundering bill is on the floor and that traditionally the
minority Member as well as the Chairman were to be there, but
the Chairman of the Full Committee is there on my behalf, and I
think Ms. Waters has come from the floor.
Ms. Waters. Thank you very much, Mr. Chairman. You're
absolutely correct. Our bill is on the floor and a lot of other
things are going on. But I certainly wanted to be here, Mr.
Chairman, and I thank you for calling this hearing, the third
in a series on Federal Deposit Insurance Reform, and I'm
pleased that we'll be hearing from the new FDIC Chairman,
Donald Powell, as well as Professor Rick Carnell, Mr. Nolan
North, and Professor Kenneth Thomas this morning.
Deposit insurance has served America well for almost 70
years. It has maintained public confidence in our banking
system throughout times of prosperity and times that weren't so
good. It is important that we examine these issues closely in
order to maintain and strengthen today's system for tomorrow's
consumers.
Earlier this year, the FDIC released its report on deposit
insurance reform which highlighted a number of major issues,
including deposit insurance is currently provided by two
different funds at two different prices. Deposit insurance
currently cannot be priced effectively to reflect risk. Deposit
insurance premiums are highest at the wrong point in the
business cycle, and the value of deposit insurance does not
keep pace with inflation.
In addition, 92 percent of all institutions are currently
paying nothing whatsoever for their deposit insurance coverage.
This zero premium system became law in 1996, the same year that
Congress passed Welfare Reform. Welfare Reform legislation was
designed to reduce Federal assistance to poor people, the very
same year that we decided that banks need not pay anything for
Federal Deposit Insurance coverage.
This does make good sense. I have a stellar driving record
and my insurance company may have more than adequate cash
reserves, but I still pay a premium for insurance coverage or I
can't drive my car.
As we examine various proposals for deposit insurance
reform, we should keep this fact in mind. Banks should pay
something for their insurance coverage.
I look forward to hearing the testimony of the witnesses so
that we can ensure that we have a deposit insurance system that
will serve us well throughout the new millennium.
I thank you very much, Mr. Chairman, and I'm going to try
to stay as long as I can.
Chairman Bachus. Thank you.
We'll go back to questions. This is going to be the longest
question I'm going to ask you, so you get through this one,
you'll have my longest question.
What objective financial and market factors should be
considered when assessing premiums based on the risk posed by
large and complex institutions, and how do you ensure large and
small institutions are assessed premiums fairly and
consistently?
Mr. Powell. That's our objective, obviously. The answer to
the latter part of your question is we want to be consistent
and fair, and that the system be transparent between large and
small institutions. There are several market factors that
perhaps are data we could use. I think there has been some work
on that as it relates to some other capital work that's being
done by the regulatory bodies.
There are numerous market factors that we could look at and
we're willing to look at those and to listen to the larger
banks about something that they would like to see as part of
our risk-based model.
Chairman Bachus. All right, and I'm going to ask a follow
up. I think you probably, you don't have to answer this today.
What I might do is submit that question and some others just
for the record in writing and get a comment.
The other part of that question, what is the appropriate
size cut for regulators to distinguish large and complex
institutions from small and middle sized institutions for
regulatory and assessment purposes? I'm not sure that's
something you can answer today.
Mr. Powell. Give us a little bit of time on that, and we'll
attempt to answer that question for you, Mr. Chairman.
Chairman Bachus. I think that's totally reasonable.
At this time, I will yield to the lady from Pennsylvania.
Ms. Hart. Thank you, Mr. Chairman. I'm sorry I wasn't here
for the entire discussion, Chairman Powell, but I appreciate
you coming before this subcommittee.
You discussed in your statement, as I've been reviewing it,
how an assessment credit would work instead of a rebate where
the institutions would receive credit toward their future
assessments based on their past contributions to the Deposit
Insurance Fund, and how it would be based on the institution's
relative deposit base at the end of 1996, which for an
institution that existed in 1996 in its current form, is pretty
straightforward.
How would you address a situation which is becoming more
and more common where a banker/thrift has acquired one or more
institutions since the end of 1996, and would the acquiring
institution assessment include the credits that had accrued to
the acquired institution and how would that work? And how would
you make sure that that's sort of done, I guess, in a balanced
and fair way?
Mr. Powell. Yes. Would the acquiring institution get credit
for the past assessments paid by the acquired institution? The
answer is yes. And we would have the records and data necessary
to make sure that that, in fact, happens.
Ms. Hart. I'm sorry, could you repeat that?
Mr. Powell. Yes. I'm answering your question that if an
institution acquires an institution, both would be combined
together as if they were one institution so that we get total
credit for both of those institutions.
Ms. Hart. So it would be the----
Mr. Powell. The acquiring institution would get credit for
the past assessments paid by the acquired institution.
Ms. Hart. OK. So all their assessments would be added
together with the assessments for the new one?
Mr. Powell. Yes, ma'am.
Ms. Hart. What about the combined----
Mr. Powell. It would be combined.
Ms. Hart. From that date forward?
Mr. Powell. That's right.
Ms. Hart. OK. And is there anything about that that you'd
be concerned about as far as like an imbalance because of the,
I don't know, the change in size. There's no concern that you
have about that?
Mr. Powell. No, I really don't have any concern. I think we
have the data necessary to calculate it.
Ms. Hart. OK, so it's just a typical additional kind of
thing?
Mr. Powell. Yes, ma'am.
Ms. Hart. OK, thank you.
Thank you, Mr. Chairman.
Chairman Bachus. Chairman Powell, if there are no other
questions from Members of the panel, at this time we're going
to discharge you to get back to the important work of the FDIC.
We very much appreciate your testimony.
I will tell you that I did not formulate that question on
municipal deposits. My staff did, knowing my concern about
municipal deposits and that's why you were asked it. But I did
not put anybody up to asking you that question.
I will tell you this. The public policy, I think, behind
some greater level for municipal deposits is simply that when
you have a small county or rural county, the people in that
county, they want to be able to invest with their local
institutions, their water boards, their school boards, their
county government. They like those taxes to stay home if they
can. At the same time, they want it federally-insured.
I am in total agreement with you that it would be foolish
to have an open-ended guarantee on municipal deposits with no
level or no limitations. And I think one of the problems that
maybe the FDIC has with that, the problems that we've had in
struggling with it, is it sounds like a good idea. There is, I
think, a public policy consideration for it, but how do you
draft it and how do you get to sound legislation, and we're
still in search of something that protects the public and
protects the Fund, and is not discriminatory. So I do
appreciate your comments, and as I said, you've been in banking
for 30 years, you bring a world of experience from the
institutions into this job. And I'm excited about working with
you.
Mr. Lucas. Mr. Chairman? Over here.
Chairman Bachus. Mr. Lucas.
Mr. Lucas. Would not a county government, a city
government, a sewer and water board each have their own
insurance since they're not combined? Is that not true?
Chairman Bachus. I beg your pardon?
Mr. Lucas. Well, I mean, each entity has their own limits
so it's not, they don't aggregate all those deposits together.
Chairman Bachus. That's right. In fact, a water board could
deposit $100,000, you know, and the school board. But, you
know, as I think the Chairman knows, as you know, even in a
small county, a water board or a gas board could have several
million dollars in deposits and probably would have. So what
they're having to do is that 95 and 98 percent of their money
sometimes is deposited outside the county.
Mr. Lucas. OK, thank you.
Chairman Bachus. But that is a valid point, that you're
talking about, the governments divided and they're different
accounts.
Mr. Chairman, at this time, panel one is adjourned.
Mr. Powell. Thank you, Mr. Chairman, thank you.
Chairman Bachus. At this time, we will recognize our second
panel.
Mr. Richard Carnell, Associate Professor of Law, Fordham
University School of Law. I have his resume before me. He
teaches courses in banking law and corporations. Also taught
corporations in law school, so I understand that to be a
difficult job, and a write-in lecturer on a wide range of
topics. Served as Secretary of the Treasury of the Association
of American Law Schools Section on Financial Institutions and
Consumer Financial Service. A note of interest to this
subcommittee is that you advised Secretary of the Treasury,
Lloyd Bentsen and Bob Ruben, and other Clinton Administration
officials on financial services issues. You led the
Administration's successful efforts to secure legislation in
several fields including clean-up of the savings and loan
industry, authorize interstate banking and branching, resolve
problems with the FDIC's SAIF Fund, and many other things. You
were actually senior counsel in the U.S. Senate Committee on
Banking, so you certainly understand how we function here, and
on the Board of Governors of the Federal Reserve System from
1984 to 1987. And were a practicing attorney at one time in San
Francisco, a graduate of Harvard Law School and Yale
University. We've not heard of those institutions, but I'm sure
they are credible.
Our next panelist, Nolan North, is Vice President and
Assistant Treasurer of T. Rowe Price Associates. Anybody that
watches CNBC knows about T. Rowe Price. Responsible for the
overall management of bank relations for T. Rowe Price
including credit facilities and banking services, and also
responsible for the implementation of modern cash management
techniques. You've got a wide range of experience in banking
and treasury management. Before you joined T. Rowe Price, you
were a bank relations manager, assistant treasurer of a major
insurance company, a sales manager for a leading treasury
management bank, and department head of a marketing research
firm specializing in treasury management. Past Chairman of the
Board of Directors of the Association of Financial
Professionals, Member of the Government Relations Committee,
you currently serve NACHA as a member of the board of
directors, you're on the Next Generation ACH Task Force, and
various other activities.
And the reason I'm reading these is because our panel is
all quite distinguished and have tremendous experience behind
them, a very esteemed panel.
Dr. Kenneth Thomas, Lecturer in Finance at the Wharton
School, University of Pennsylvania since 1970. Teaches banking,
monetary economics at Wharton. You received--this is quite
impressive here--an Excellence in Teaching Award in May, 2001.
Congratulations for that. You've been a bank consultant since
1969, working with several hundred banks and thrifts throughout
the country on a CRA, also on fair lending and regulatory
issues. Your first book on CRA, ``Community Reinvestment
Performance'' was published in 1993. Many of the book's
recommendations were directly implemented in the revised CRA,
and you won an award of excellence for that book. Your most
recent book ``The CRA Handbook'' contains the most
comprehensive evaluation of CRA exams ever conducted, including
a new technique for evaluating and quantifying CRA grade
inflation. You received your BSBA degree with high honors in
Finance from the University of Florida, who lost this past
weekend in football to where I got my undergraduate degree,
Auburn University. Put a real licking on the Florida Gators.
[Laughter.]
Chairman Bachus. You have an MBA in finance from the
University of Miami, and an MA and PhD in finance from the
Wharton School. You are a regular speaker and writer in the
banking and thrift industries, frequently quoted in articles on
these topics. I've seen you on CNBC. It also says here you
appeared on CBC, CNN, Nightly Business News, and NPR. I
probably saw you on those too. But you're a biweekly
commentator on the net financial news.
Finally, advised Federal bank regulators on public policy
issues, testified before Congress on several occasions on
various bank regulatory issues. Are you at the University of
Pennsylvania or are you in Miami?
Dr. Thomas. I live in Miami, but I commute once a week to
Philadelphia to teach at Wharton as I've been doing for the
last 30 years.
Chairman Bachus. Wow, boy, you need to testify to us how
you can live in Miami and work at Wharton. That's great. But,
no, I understand that.
And we welcome all you gentlemen and look very much forward
to your testimony. The Members, or most of them, are on the
floor on a money laundering bill which is legislation. Having
worked on the Hill and testified on the Hill, you know we don't
sometimes set the agenda, and they actually put that bill on
the floor at 10 o'clock this morning, because it's part of the
Administration's and the Congress' ways to address terrorism
and the events of September the 11th. Those are high priority
items at this time.
Your testimony, though, will be distributed to the Members,
will be read by the Members, and has already been read by this
Member, so I appreciate your testimony and at this time, we
will start with you, Dr. Carnell.
STATEMENT OF RICHARD S. CARNELL, Ph.D., ASSOCIATE PROFESSOR OF
LAW, FORDHAM UNIVERSITY SCHOOL OF LAW
Dr. Carnell. Mr. Chairman and Members of the subcommittee,
I'm pleased to have this opportunity to discuss deposit
insurance reform. Federal Deposit Insurance does many good
things, but it also impairs market discipline. Without proper
safeguards, deposit insurance can----
Chairman Bachus. Let me interrupt something, and I don't
know how there's a good way to do this. We've got a floor vote
right now. Instead of doing part of this and then coming back,
it's just one vote, and I beg your indulgence.
Dr. Carnell. I'm glad to wait, Mr. Chairman.
Chairman Bachus. If we could recess, I will go vote. I
think it would give other Members an opportunity to hear your
testimony, in fact. So we're going to recess, and Dr. Carnell,
I very much apologize for not knowing that before you started.
I apologize for interrupting you.
I'm going to go vote, we'll recess for 10 minutes, come
back here and have your testimony. And I hope in your travel
plans, is this going to prejudice any of you in making
connections?
[No response.]
Chairman Bachus. OK, great, we will be 10 minutes.
[Recess.]
Chairman Bachus. The hearing is now called to order.
Dr. Carnell.
Dr. Carnell. Mr. Chairman, Federal Deposit Insurance does
many good things, but it also impairs market discipline.
Without proper safeguards, deposit insurance can encourage
banks to take excessive risks, for safe banks to subsidize
risky banks, and saddle the taxpayers with large losses. To
avoid such problems, we need risk-based premiums as well as
effective supervision.
Risk-based premiums are fair and they help give insured
banks a healthy set of incentives. Banks with less capital,
banks with weak management, and banks that take big risks will
pay more than safe, well-managed banks with lots of capital.
This gives banks incentives compatible with the interests of
the Insurance Fund.
But a 1996 Amendment has undercut risk-based premiums. I'll
call this the Zero Premium Amendment. If a deposit insurance
fund meets its reserve target, the FDIC can charge premiums
only for banks that are not well capitalized or have other
obvious and significant problems. The zero premium amendment
currently covers 92 percent of all FDIC insured institutions.
These institutions differ greatly in their riskiness. The
amendment hinders the FDIC in refining risk-based premiums to
take proper account of these differences.
The amendment has also given rise to a serious free rider
problem. Note that if banks paid premiums according to their
riskiness, no bank would get a free ride. The zero premium
amendment is like a law regulating automobile insurance
companies that would require every company with adequate
reserves to insure safe drivers free of charge, and would allow
any company with inadequate reserves to charge safe drivers
only to the extent necessary to rebuild its reserves. No
private company would provide auto insurance under such
circumstances, nor should the Government continue to provide
deposit insurance under such constraints.
The zero premium amendment is unsound policy, it's had
adverse results, and it should be repealed so that risk-based
premiums can work as intended.
I also support easing the minimum premium requirement that
would now apply if a deposit insurance fund missed its reserve
target for more than a year. The FDIC would have to set
premiums very high even for safe institutions. That would
undercut risk-based pricing and it would also put additional
stress on banks at just the wrong time, during an economic
downturn.
Mr. Chairman, many years ago, I lived in a house with an
oven that had only two temperatures; off and 600 degrees. The
current premium rules are like that oven. The zero premium
amendment is off and the minimum premium requirement is 600
degrees. Reform here makes sense. I suggest lowering the
minimum and narrowing the circumstances when it would apply.
And I spell out the details of that in my written statement.
I recommend against paying rebates from the insurance funds
or capping the fund's reserves. We don't know what reserve
levels will end up being needed in the future. Bank failures
are hard to predict accurately. They don't come neatly spaced
out like deaths from old age; they come in clusters during hard
times. So a deposit insurance fund can look fat and flush one
year, and be in serious trouble just a couple of years later.
Although I oppose caps or rebates, I see possible merit in
letting the FDIC grant risk-based assessment credits if an
insurance fund's reserves exceed 1.5 or 1.6 percent. Banks
could use these credits to reduce their future premiums. The
FDIC would award such credits based on a combination of a
bank's past premium payments and the bank's past and present
risk to the FDIC.
Properly constructed, a system like this could help solve
the free rider problem. It could also help the FDIC deal with
the difficulty of measuring a bank's risk ahead of time, which
is one of the greatest challenges in operating a risk-based
system. But if you can do the credits after-the-fact, you can
make an adjustment based on risk; then you won't have to guess.
By the time you award the credits, you'll know which banks were
riskier than others. So if a particular bank's premium ended up
being higher or lower than it should have been, given what the
FDIC later knows about capital management and other aspects of
riskiness, the FDIC has the opportunity to make an appropriate
adjustment when awarding credits.
I urge Members to take a skeptical view of proposals to
index or otherwise limit the $100,000 insurance limit. Adjusted
for inflation, it was the highest level in the FDIC's history
and even if you adjust it for inflation between 1980 and now,
it's still relatively high by historic standards. And also I
believe that raising the $100,000 limit would do little to
resolve community banker's complaints about losing deposits to
other institutions.
As the FDIC works to make the risk-based system better
reflect banks' riskiness, I would urge Congress to resist any
temptation to micromanage the FDIC. I have a thought,
incidentally, Mr. Chairman, on the issue of municipal deposits.
And that is it might be possible to provide insurance beyond
the $100,000 amount, but not to insure the full amount of the
deposit, that is, rather to provide insurance for 90 percent of
the deposit. The risk to the local government would still be
small, because they'd be 90 percent insured, and then on top of
that, the bank's going to have some good assets, so even if
there's a loss, uninsured depositors won't lose a hundred cents
on the dollar; they might lose ten cents on the dollar. So you
could provide insurance up to a reasonable amount that would go
above $100,000.
Mr. Chairman, Congress has opportunities to achieve
important deposit insurance reform. I very much hope that it
does so, but I urge caution in dealing with demands for
tradeoffs, like raising the $100,000 limit across the board. It
would be better to postpone reform than to enact flawed
legislation now.
Thank you and I'll be pleased to respond to questions at
the appropriate time.
[The prepared statement of Richard S. Carnell Ph.D., can be
found on page 45 in the appendix.]
Chairman Bachus. Mr. North. One thing we're going to do,
we're not limited by the 5 minutes so, you know, if it's 7
minutes or 8 minutes, feel free to do that.
STATEMENT OF NOLAN L. NORTH, VICE PRESIDENT AND ASSISTANT
TREASURER, T. ROWE PRICE ASSOCIATES, INC., ON BEHALF OF THE
ASSOCIATION FOR FINANCIAL PROFESSIONALS
Mr. North. Good morning, Mr. Chairman, Members of the
subcommittee. I am here representing the Association for
Financial Professionals, AFP, and its Government Relations
Committee. Our comments today address why deposit insurance
reform is important to corporate America.
AFP represents about 14,000 finance and treasury
professionals who on behalf of over 5,000 corporations and
other organizations, are significant participants in the
Nation's payment system and have a sizable stake in any
proposed changes in the deposit insurance assessment system.
The stake of corporate America in deposit insurance is based on
the premise that deposit insurance coverage is intended for
depositors, not bankers. Yet, the voice of bank depositors is
not often heard in this debate.
In your invitation to these hearings, Mr. Chairman, you
asked if deposit insurance should be reformed, and we certainly
agree it should. You also asked if the FDIC options paper had
raised the correct issues, and we do think the right issues
have been raised with one significant exception. That exception
is, there has been no attempt to resolve the disparity between
the balances covered by insurance and the balances on which
assessments are based. We believe assessing only insured
balances, instead of total balances, is fundamental to fair
reform of the deposit insurance system.
Our members believe that their organizations are the
dominant funders of the bank insurance fund, because banks pass
through the deposit insurance costs to their corporate
customers directly on the basis of total balance size, which is
customarily well in excess of the $100,000. As a result, many
businesses must both self-insure their deposits in excess of
$100,000 and pay insurance premiums for those uninsured
deposits.
In effect, large corporate depositors subsidize the BIF
through premium costs for deposits which are not insured by the
fund. As with any insurance arrangement, the premiums should be
based on what is insured.
As to the issues raised in the options paper, we do support
the merger of BIF and SAIF. Regarding the coverage level, the
deposit insurance coverage level should remain unchanged at
$100,000. Some financial institutions feel that higher coverage
limits would solve funding problems. However, deposition
insurance coverage is not a competitive issue. Coverage is
intended to cover depositors and benefit depositors, not
benefit bankers.
The FDIC should be given discretion to set and adjust a
range within which the reserve ratio may fluctuate in response
to changes in industry risks and business conditions. Within
that range, premiums should not be charged to well-managed and
highly capitalized banks, because it would be our members who
would end up paying that charge, even though they have decided
to deal with well-capitalized and well-managed banks.
In other words, the deposit insurance system should retain
the risk-based variable premium approach, based on meeting a
range of required reserves. This is perhaps the most important
reform being proposed. It would, among other benefits, allow
the FDIC to mitigate the cyclical effects of deposit insurance
pricing by not being tied to the 1.25 percent floor.
We oppose rebates on the basis that an equitable rebate
method cannot be constructed. The entity bearing the premium
cost, the bank customer, is unlikely to receive the value of
any rebate. Among the benefits of moving to a reserves ratio
system is that instead of rebating what are now seen as excess
reserves, these reserves would just tend to move overall
reserves toward the higher end of the reserve ratio range.
Chairman Powell has suggested a method of providing
assessment credits instead of rebates. This proposal is
certainly better than rebates, and it deserves more review,
because it could reduce the amount of assessments that are
being passed through by a bank to its customers.
We absolutely oppose full coverage for any special category
of depositors, municipal deposits or IRA accounts. Having any
protected class of depositors is not good public policy. Full
coverage of certain types of deposits reopens the moral hazard
issue. Also a practical effect of this approach would be to
chase away other types of depositors. It would not take long
for corporations, as well as consumer advocacy groups, to
understand that in banks with large municipal or IRA or other
special interest deposits, their deposits would be subordinated
in the case of bank failure.
Regarding de novo and rapidly growing banks, we do not feel
that any well-managed and well-capitalized banks, regardless of
how fast they are growing, should be expected to pay FDIC
assessments when the BIF reserve is sufficiently funded.
Our written statement covers these issues in greater detail
and we appreciate the opportunity to exchange these views.
[The prepared statement of Nolan L. North can be found on
page 55 in the appendix.]
Chairman Bachus. I thank the gentleman.
Dr. Thomas.
STATEMENT OF KENNETH H. THOMAS, Ph.D., LECTURER IN FINANCE, THE
WHARTON SCHOOL, UNIVERSITY OF PENNSYLVANIA
Dr. Thomas. Thank you, Mr. Chairman.
In past hearings, you've heard the views of the regulators
and the industry on deposit insurance reform, specifically the
April 2001 FDIC Report titled ``Keeping the Promise . . .''.
This morning, I bring to your consideration the views of a
third party, the bank depositor. The 20 principles underlying
the view of bank depositors are found in my testimony. The
depositors' view is the most important view. Why? Because the
FDIC established in 1934--and this is one of my collectibles, a
hard copy of the original 1934 annual report, the very first
one--states on the very front that depositor insurance was for
the depositors. The FDIC was to protect depositors, not to
insure banks, but to insure depositors. And that's where the
focus must be.
In other words, the only promise to be kept in ``Keeping
the Promise'' is that to the depositor to insure deposits and
maintain confidence in the system. I will also argue that the
first two of the FDIC's five recommendations do exactly that;
keep the promise to the depositors. But their last three
recommendations do not, and in my opinion benefit the industry
at the expense of the taxpaying depositor.
I should mention that I have nothing but the greatest
respect for the FDIC, the former Chairman, and the current
Chairman Powell and their excellent staff. In fact, back in the
early 1970s, I was recruited by them and almost went to work
for the FDIC; so I think it's a great organization, they've got
top people there.
Now in terms of their five recommendations, their first
recommendation on the merger of the funds. Everyone agrees
that's a no-brainer, and from the perspective of a depositor,
this eliminates any unnecessary confusion. For example, if I
deposit money in Washington Mutual, primarily insured by SAIF,
is it going to be stronger than money I might deposit at Bank
of America primarily insured by BIF, because, in fact, SAIF has
a stronger DRR ratio than BIF? That confusion should not exist;
there should be just one fund.
The second recommendation with the FDIC, which I agree
with, is that every bank and thrift should pay deposit
insurance based on their risk profile. Depositors want a strong
fund where there are no free riders, especially the high flying
Wall Street types like Merrill Lynch and Salomon Smith Barney.
The two of them alone were responsible for a $20 billion
increase in insured deposits in the first quarter of this year.
Now for the three FDIC recommendations that I feel are
counter to depositors' perspectives. The third recommendation
on ceilings: There should be no ceiling for the fund; it should
be a capless fund. Like all funds, it should continue to grow
without a cap for a rainy day, which may be sooner than we
think with the current recession. If anything, the minimum 1.25
percent DRR, designated reserve ratio, should be increased to
1.5 percent. These ratios ensure discipline and accountability
at the FDIC.
And again, from the depositors' perspective, they want a
strong fund, run in a common sense manner, like any private
insurance company would be run. And that gets to the fourth
recommendation. There should be no rebates or no credits. I
believe this is an unnecessary accommodation to the industry,
apparently to win their support for deposit insurance reform. I
lived through Hurricane Andrew, and I can tell you from the
perspective of a major disaster like that, companies like
Prudential, State Farm, Allstate, they do not give rebates if
there was no accident or illness. Certainly they may give a
better risk adjusted premium if you're a better driver or a
better risk, but they do not give rebates.
And can you imagine going years, as the banks have been
doing, without being charged for premiums, as has been the case
for 92 percent of the industry. It doesn't happen in the
private sector and it shouldn't happen in the public sector.
With today's volatile and uncertain stock market, and in my
opinion, certain recession, depositors want to know that the
fund behind their deposits is growing as much as possible with
no cap, with no rebates, and with no credits.
Finally, on the recommendation of increasing the amount of
deposit insurance: depositors do not want, do not need, and
have not asked for any increase in deposit insurance coverage,
whether it be doubled or just increased by inflation.
Depositors don't want to be potentially confused with different
coverage levels for different types of deposits.
According to the Federal Reserve, less than 2 percent of
all depositors would benefit from a doubling of the insurance
from $100,000 to $200,000, and now they have adequate
alternatives. In fact, one Fed analyst has argued that we
should be talking about reducing the coverage instead of
increasing it or adding in some inflation adjustment.
In fact, on the issue of inflation, it's important to
realize that the current level is actually in excess of the
level from 1934 to 1969. It's only the artificially high level
in 1980 of $100,000 that caused the problem.
Finally, Mr. Chairman, the Federal safety net is
unfortunately getting bigger day by day. Much of this of course
is in response to the September 11th terrorist attacks. First
we had the $15 billion bailout, the $5 billion pure bailout and
the $10 billion guarantee. Now we've got the insurance
companies, and who knows who will come next to the Federal
Government for a bailout? This is just not the time we should
be thinking about increasing the Federal safety net, whether it
be by doubling insurance coverage or adjusting for inflation.
The FDIC only had five recommendations in their report. The
depositors' view of bank reform also makes some additional
recommendations not made by the FDIC. These are covered in my
testimony.
For example, I would recommend a special assessment for the
25 largest banks those deemed too-big-to-fail, because of the
additional risk they pose to the system. Also I would argue for
expanded market discipline by regulators starting with the
public disclosure of a safety and soundness rating and a
portion of that exam.
I would merge the OTS into the OCC and consider even
further consolidation among the regulators. And finally there
should be better disclosure of non-FDIC insured products so
depositors are not confused, especially many of our seniors,
who cannot see some of the very small print in the
advertisements.
In conclusion, two of the five of the FDIC's deposit
insurance reforms keep the promise from the depositor insurance
perspective. But, the other three are apparent accommodations
to the industry for which the FDIC's only promise should be to
be a fair regulator and supervisor in the public interest.
Thank you very much for the opportunity to present this
depositor perspective.
[Written statement of Dr. Kenneth H. Thomas can be found on
page 67 in the appendix.]
Chairman Bachus. Thank you. We've got about 4 minutes left
on a vote. I am going, what I would like you all to do is your
testimony you've given here today, if you have that in writing,
you know, your written testimony, I would like to also have a
copy of that, have an opportunity to maybe call you on some
these aspects.
I'm going to adjourn the hearing now and let you be
available for some of the reporters, the press, and not ask
questions because I'm told it'll be 25 minutes before we are
able to come back.
But I appreciate your testimony. I thought it was all easy
to understand, easy to follow, had some differences of opinion,
but it's been very helpful.
At this time, the hearing is adjourned.
[Whereupon, at 11:56 a.m., the hearing was adjourned.]
A P P E N D I X
October 17, 2001
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