[House Hearing, 108 Congress]
[From the U.S. Government Publishing Office]




 
                     BUSINESS CHECKING FREEDOM ACT
                     OF 2003--H.R. 758 AND H.R. 859

=======================================================================

                                HEARING

                               BEFORE THE

                            SUBCOMMITTEE ON
               FINANCIAL INSTITUTIONS AND CONSUMER CREDIT

                                 OF THE

                    COMMITTEE ON FINANCIAL SERVICES

                     U.S. HOUSE OF REPRESENTATIVES

                      ONE HUNDRED EIGHTH CONGRESS

                             FIRST SESSION

                               __________

                             MARCH 5, 2003

                               __________

       Printed for the use of the Committee on Financial Services

                            Serial No. 108-8

                    U.S. GOVERNMENT PRINTING OFFICE
                           WASHINGTON : 2003

87-234 PDF

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                 HOUSE COMMITTEE ON FINANCIAL SERVICES

                    MICHAEL G. OXLEY, Ohio, Chairman

JAMES A. LEACH, Iowa                 BARNEY FRANK, Massachusetts
DOUG BEREUTER, Nebraska              PAUL E. KANJORSKI, Pennsylvania
RICHARD H. BAKER, Louisiana          MAXINE WATERS, California
SPENCER BACHUS, Alabama              CAROLYN B. MALONEY, New York
MICHAEL N. CASTLE, Delaware          LUIS V. GUTIERREZ, Illinois
PETER T. KING, New York              NYDIA M. VELAZQUEZ, New York
EDWARD R. ROYCE, California          MELVIN L. WATT, North Carolina
FRANK D. LUCAS, Oklahoma             GARY L. ACKERMAN, New York
ROBERT W. NEY, Ohio                  DARLENE HOOLEY, Oregon
SUE W. KELLY, New York, Vice         JULIA CARSON, Indiana
    Chairman                         BRAD SHERMAN, California
RON PAUL, Texas                      GREGORY W. MEEKS, New York
PAUL E. GILLMOR, Ohio                BARBARA LEE, California
JIM RYUN, Kansas                     JAY INSLEE, Washington
STEVEN C. LaTOURETTE, Ohio           DENNIS MOORE, Kansas
DONALD A. MANZULLO, Illinois         CHARLES A. GONZALEZ, Texas
WALTER B. JONES, Jr., North          MICHAEL E. CAPUANO, Massachusetts
    Carolina                         HAROLD E. FORD, Jr., Tennessee
DOUG OSE, California                 RUBEN HINOJOSA, Texas
JUDY BIGGERT, Illinois               KEN LUCAS, Kentucky
MARK GREEN, Wisconsin                JOSEPH CROWLEY, New York
PATRICK J. TOOMEY, Pennsylvania      WM. LACY CLAY, Missouri
CHRISTOPHER SHAYS, Connecticut       STEVE ISRAEL, New York
JOHN B. SHADEGG, Arizona             MIKE ROSS, Arkansas
VITO FOSELLA, New York               CAROLYN McCARTHY, New York
GARY G. MILLER, California           JOE BACA, California
MELISSA A. HART, Pennsylvania        JIM MATHESON, Utah
SHELLEY MOORE CAPITO, West Virginia  STEPHEN F. LYNCH, Massachusetts
PATRICK J. TIBERI, Ohio              BRAD MILLER, North Carolina
MARK R. KENNEDY, Minnesota           RAHM EMANUEL, Illinois
TOM FEENEY, Florida                  DAVID SCOTT, Georgia
JEB HENSARLING, Texas                ARTUR DAVIS, Alabama
SCOTT GARRETT, New Jersey             
TIM MURPHY, Pennsylvania             BERNARD SANDERS, Vermont
GINNY BROWN-WAITE, Florida
J. GRESHAM BARRETT, South Carolina
KATHERINE HARRIS, Florida
RICK RENZI, Arizona

                 Robert U. Foster, III, Staff Director
       Subcommittee on Financial Institutions and Consumer Credit

                   SPENCER BACHUS, Alabama, Chairman

STEVEN C. LaTOURETTE, Ohio,          BERNARD SANDERS, Vermont
Vice Chairman                        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          BRAD SHERMAN, California
EDWARD R. ROYCE, California          GREGORY W. MEEKS, New York
FRANK D. LUCAS, Oklahoma             LUIS V. GUTIERREZ, Illinois
SUE W. KELLY, New York               DENNIS MOORE, Kansas
PAUL E. GILLMOR, Ohio                CHARLES A. GONZALEZ, Texas
JIM RYUN, Kansas                     PAUL E. KANJORSKI, Pennsylvania
WALTER B. JONES, Jr., North          MAXINE WATERS, California
    Carolina                         NYDIA M. VELAZQUEZ, New York
JUDY BIGGERT, Illinois               DARLENE HOOLEY, Oregon
PATRICK J. TOOMEY, Pennsylvania      JULIA CARSON, Indiana
VITO FOSSELLA, New York              HAROLD E. FORD, Jr., Tennessee
MELISSA A. HART, Pennsylvania        RUBEN HINOJOSA, Texas
SHELLEY MOORE CAPITO, West Virginia  KEN LUCAS, Kentucky
PATRICK J. TIBERI, Ohio              JOSEPH CROWLEY, New York
MARK R. KENNEDY, Minnesota           STEVE ISRAEL, New York
TOM FEENEY, Florida                  MIKE ROSS, Arkansas
JEB HENSARLING, Texas                CAROLYN McCARTHY, New York
SCOTT GARRETT, New Jersey            ARTUR DAVIS, Alabama
TIM MURPHY, Pennsylvania
GINNY BROWN-WAITE, Florida
J. GRESHAM BARRETT, South Carolina
RICK RENZI, Arizona


                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on:
    March 5, 2003................................................     1

Appendix:
    March 5, 2003................................................    39

                               WITNESSES

                        Wednesday, March 5, 2003

Abernathy, Wayne A., Assistant Secretary for Financial 
  Institutions, Department of the Treasury.......................     8
Auerbach, Robert, Professor, Lyndon B. Johnson School of Public 
  Affairs, University of Texas...................................    28
Bent, Bruce R. Sr., Chairman and Chief Executive Officer, Reserve 
  Management Co..................................................    26
Hammock, Rex, President, Hammock Publishing, Inc., on behalf of 
  National Federation of Independent Business....................    24
Kohn, Hon. Donald L., Member, Federal Reserve Board of Governors.     5
Maus, Edwin R., President and Chief Executive Officer, Laurel 
  Savings Bank, on behalf of America's Community Bankers.........    20
Menzies, R. Michael Stewart Sr., President and Chief Executive 
  Officer, Easton Bank and Trust Co., on behalf of Independent 
  Community Bankers of America...................................    23

                                APPENDIX

Prepared statements:
    Oxley, Hon. Michael..........................................    40
    Bachus, Hon. Spencer.........................................    42
    Gillmor, Hon. Paul E.........................................    44
    Royce, Hon. Edward R.........................................    45
    Toomey, Hon. Patrick J.......................................    46
    Abernathy, Wayne A...........................................    47
    Auerbach, Robert.............................................    51
    Bent, Bruce R. Sr............................................    56
    Hammock, Rex.................................................    60
    Kohn, Hon. Donald L..........................................    65
    Maus, Edwin R................................................    79
    Menzies, R. Michael Stewart Sr...............................    84

              Additional Material Submitted for the Record

Kelly, Hon. Sue W.:
    Hon. Alan Greenspan, Chairman, Board of Governors of the 
      Federal Reserve System letter, April 2, 2001...............    89
    Coalition of Independent Community Banks letter, March 5, 
      2003.......................................................    91
Maloney, Hon. Carolyn B.:
    State of Utah, Department of Financial Institutions letter, 
      March 10, 2003.............................................   128
Toomey, Hon. Patrick J.:
    John D. Hawke, Jr., Comptroller of the Currency letter, March 
      4, 2003....................................................   129
    Donald E. Powell, Chairman, Federal Deposit Insurance 
      Corporation letter, March 3, 2003..........................   130
    James E. Gilleran, Director, Office of Thrift Supervision, 
      Department of the Treasury letter, March 3, 2003...........   132
Menzies, R. Michael Stewart Sr.:
    Written response to a question from Hon. Sue Kelly...........   133

                     BUSINESS CHECKING FREEDOM ACT


                     OF 2003--H.R. 758 and H.R. 859

                              ----------                              


                        Wednesday, March 5, 2003

                  House of Representatives,
         Subcommittee on Financial Institutions and
                                    Consumer Credit
                           Committee on Financial Services,
                                                   Washington, D.C.

    The subcommittee met, pursuant to call, at 2:14 p.m., in 
Room 2220, Rayburn House Office Building, Hon. Spencer Bachus 
[chairman of the subcommittee] presiding.
    Present: Representatives Bachus, Royce, Kelly, Gillmor, 
Toomey, Fossella, Hart, Kennedy, Hensarling, Garrett, Murphy, 
Brown-Waite, Barrett, Sanders, Maloney, Sherman, Kanjorski, 
Waters, Lucas of Kentucky and Israel.
    Chairman Bachus. [Presiding.] The Subcommittee on Financial 
Institutions and Consumer Credit is convened. This is a hearing 
on two bills, the Business Checking Freedom Act, by 
Representative Toomey; then H.R. 859, which is a sterile 
reserve bill which is introduced by Representative Kelly.
    On panel one, we have two rookies that have never testified 
before the Committee before, but not rookies to the issue and 
to financial matters. I am going to wait on my opening 
statement and go right to the testimony. The first one is the 
Honorable Donald Kohn, Governor, Federal Reserve Board; and 
second witness is Wayne Abernathy, who is the Assistant 
Secretary for Financial Institutions at the Department of 
Treasury. Gentlemen, we welcome you and look forward to your 
testimony. Have you decided on whether to go left or right?
    Do you have an opening statement?
    Mr. Sherman. A short one.
    Chairman Bachus. Okay.
    Mr. Sherman. I think it is important that we allow banks to 
pay interest on checking. I look forward to the two bills 
somehow being merged into one. I look forward to the bills 
being modified so that they cover industrial loan banks as 
found in California and some other states. I am glad that this 
bill provides for a one-year phase-in, because we are passing 
it a year after we wanted to pass a two-year phase-in.
    With that, I yield back.
    Chairman Bachus. Actually, I thought the bills had been 
merged.
    Mr. Sherman. They may have already been merged.
    Chairman Bachus. No, they have not.
    Mr. Sherman. They have not? But I look forward to them 
being merged.
    Chairman Bachus. We have been approaching this as a package 
deal, but they are separate bills. I think they both have the 
same title.
    Mr. Sherman. They could be merged, packaged, fused.
    Chairman Bachus. Although they deal with two different 
subjects, they are interrelated. We consider them as a package.
    Mr. Sanders, do you have an opening statement?
    Mr. Sanders. I am sure we are in agreement. I will just be 
repeating what you say.
    [Laughter.]
    Not really.
    Chairman Bachus. No. I am aware of that.
    Mr. Sanders. My apologies for being late.
    Chairman Bachus. We just started.
    Mr. Sanders. Thank you for holding this hearing. I look 
forward to working with you as the new ranking member of the 
Financial Institutions and Consumer Credit Subcommittee.
    Mr. Chairman, according to revised estimates by the 
Republican-controlled House Budget Committee, the record-
breaking federal deficit could soar to $400 billion if 
President Bush's tax cuts are approved on a full course this 
year, funded to tens of billions of dollars, according to the 
New York Times. The national debt is over $6.3 trillion. The 
cost of war with Iraq could cost between $100 billion and God 
only knows if we occupy that country for 10 years. President 
Bush's tax cuts will cost us trillions over the next decade.
    Given this reality, the question is, should the Federal 
Reserve be giving what amounts to corporate welfare to some of 
the largest banks in this country through interest on so-called 
sterile reserves? Unless this money would go toward reducing 
the record-breaking $435 billion trade deficit by expanding 
employee ownership, addressing the affordable housing crisis, 
expanding health insurance for the 42 million Americans who are 
uninsured, and addressing some of our increasing social needs, 
I think the answer should be a resounding no.
    Without going into great detail right now, the bottom line 
for me is this country has a huge deficit. We have huge unmet 
social needs in health care, education, veterans needs and so 
forth and so on. So I should tell you that I walk into this 
hearing today with some skepticism about the proposal, but I 
look forward to further discussion.
    Thank you, Mr. Chairman.
    Chairman Bachus. I appreciate that.
    Ms. Kelly, do you have an opening statement?
    Mrs. Kelly. Yes, I do, Mr. Chairman. Thank you. I want to 
thank you and the ranking member for holding a hearing today. 
Though this is a familiar discussion for many of us today, I am 
glad to be here talking about the bill and talking about it 
early in this session.
    Getting straight to the matter, my bill, H.R. 758, contains 
three initiatives. First, it allows the banks to increase money 
market deposit and savings account sweeps from the current 6 to 
24 times a month. This gives the bank an increase in their 
sweep activities, enabling them to sweep every night, thereby 
increasing the interest that businesses can make on their 
accounts. Second, to give the Federal Reserve the authority to 
pay interest on reserves, banks keep within the federal system. 
This is a good thing to do economically because it will bring 
stability to the federal funds rate, which is subject to 
volatility when reserves become too low. This is also useful 
since these reserves have functioned as an implicit tax on our 
banks, and would offset the costs of repeal of the prohibition 
on business checking.
    Finally, my bill gives the Federal Reserve the additional 
flexibility to lower reserve requirements. This will give the 
Federal Reserve greater control at maintaining reserves at a 
specific and consistent level. It is a good measure and one 
that this Committee and this House have passed before, with 
broad support. I hope we can get the job done this year, and as 
I said, I am encouraged by the Committee's willingness to make 
this an early priority once again in this Congress.
    I anticipate that Mr. Toomey's bill, H.R. 859, will be 
merged with my bill later in the Committee during this month. 
In doing this, I think we have to be mindful of the importance 
of a proper transition period. We must make sure that banks and 
businesses have sufficient time to unwind their current 
relationships. My goal continues to be to assist our main 
street banks which are so essential to our communities, and I 
think this is a good step forward in this effort.
    Again, I thank the chairman and ranking member, and I yield 
back the balance of my time.
    Chairman Bachus. Thank you. I am going to ask unanimous 
consent that we limit the opening statements to two on each 
side.
    Mr. Sanders. As long as one statement is in opposition.
    Chairman Bachus. How about three on each side?
    Mr. Sanders. Can we put opening statements into the record?
    Chairman Bachus. No, just to have oral opening statements. 
We will have three on each side, and Mr. Royce and Mr. Toomey 
with unanimous consent. And on your side, is there a member 
that wishes to make a statement? Ms. Maloney? We will limit 
those to three more opening statements.
    At this time, Ms. Maloney is recognized. Well actually, we 
have had two on this side, so I am going to go to Mr. Royce and 
then back to you. And then Mr. Toomey, you will conclude the 
oral statements.
    Mr. Royce. Mr. Chairman, I thank you very much. Just to go 
to the crux of my opposition here, I believe that the 
underlying legislation is long overdue. It is necessary, but I 
have got to qualify my support. I believe that by not providing 
interest on business checking parity to industrial loan 
companies, many of which are chartered in my home state of 
California, this legislation will subject these well-regulated 
institutions at an unfair competitive disadvantage in the 
financial services marketplace. I strongly believe that this 
oversight must be addressed before the Committee sends this 
bill to the House floor for a final vote on its passage.
    I thank you very much for allowing me the time to make that 
statement, Mr. Chairman.
    Chairman Bachus. The gentlelady from New York?
    Mrs. Maloney. I first want to compliment my colleague Sue 
Kelly for her work on this issue, not only in this Congress, 
but I think for the past several congresses this has been an 
area of concern on which she has worked. Last Congress, it 
passed the House by voice vote unanimously. We know that it 
really removed the Depression-era prohibition on the payment of 
interest on business checking accounts. The prohibition on 
interest for business checking was instituted to prevent larger 
city-centered banks from attracting deposits away from smaller 
institutions during the Great Depression. Given the global 
nature of financial services, interstate banking and advances 
in technology, consumers and businesses can now enjoy the full 
range of bank services no matter where their physical location.
    This legislation will allow businesses of all sizes to 
accrue interest on their checking accounts, but it will most 
dramatically level the playing field for small and medium 
businesses that do not currently have access to sweeps and to 
sweep account programs. The small business community in my 
district and in others has been pushing for this legislation 
for years. Banks have sought ways around the prohibition such 
as cutting prices on services to pay implicit interest, or 
offering the sweep account option.
    Passage of this legislation will increase efficiency by 
moving banks away from such bookkeeping maneuvers after a 
transition period. At the same time, we are considering 
legislation that allows the Federal Reserve to pay interest on 
sterile reserves and increased flexibility with regard to 
setting bank reserve requirements.
    While I am very respectful of opinions on both sides of 
this issue, the language in the bill tracks last year's 
legislation and was supported by this Committee and the full 
House. So I look forward to the testimony today.
    Thank you.
    Chairman Bachus. Thank you.
    Mr. Toomey?
    Mr. Toomey. Thank you very much, Mr. Chairman, and thank 
you for holding this hearing today on my bill, H.R. 859, the 
Business Checking Freedom Act, as well as Mrs. Kelly's bill, 
H.R. 758, and for helping to put this legislation on a fast 
track, which I think is appropriate given its history in the 
House.
    H.R. 859 is a very straightforward and simple bill. As I 
think many people may know, it simply eliminates a Depression-
era prohibition on banks paying interest on demand deposits--an 
idea which I would suggest was probably not a very good one at 
the time, and certainly if it was, has long since outlived any 
useful purpose, in my judgment.
    I want to thank the other sponsors of this bill--Mr. 
Kanjorski, Mrs. Biggert, Mr. Gonzalez, Mr. Shays, Mrs. Hooley, 
Mr. Ney, Mr. Paul and Mr. Sherman--for their support. Mr. 
Chairman, if I could, I would like to insert into the record 
letters that I have in support of this legislation from the 
Comptroller of the Currency, the FDIC, the Office of Thrift 
Supervision, each of which outlines why they believe this is 
important legislation.
    Chairman Bachus. Without objection.
    [The following information can be found on pages 129 
through 133 in the appendix.]
    Mr. Toomey. With that, I will yield the balance of my time.
    Chairman Bachus. Thank you, Mr. Toomey.
    At this time, Governor Kohn?

  STATEMENT OF HON. DONALD L. KOHN, GOVERNOR, FEDERAL RESERVE 
                       BOARD OF GOVERNORS

    Mr. Kohn. Thank you, Mr. Chairman. I will read excerpts 
from my testimony and ask that the full statement be included 
in the record.
    Mr. Chairman, members of the Committee, I appreciate this 
opportunity to testify on behalf of the Federal Reserve Board 
on issues related to H.R. 859 and H.R. 758. The Board strongly 
supports the provisions in these bills that would eliminate the 
prohibition of interest on demand deposits, authorize the 
Federal Reserve to pay interest on balances held by depository 
institutions at Reserve Banks, and provide the Board with 
increased flexibility in setting reserve requirements.
    As we have previously testified, unnecessary restrictions 
on the payment of interest on demand deposits and/or on 
balances held at Reserve Banks distort market prices and lead 
to economically wasteful efforts to circumvent these 
restrictions. Those efforts are more readily undertaken by 
larger banks, especially for their larger business customers.
    Moreover, these bills would enhance the tool kit available 
for the continued efficient conduct of monetary policy. In 
addition, the provision of increased flexibility in setting 
reserve requirements would allow the Federal Reserve to reduce 
a regulatory burden on depository institutions to the extent 
that that is consistent with the effective implementation of 
monetary policy.
    H.R. 758 would authorize the payment of interest on three 
types of balances held by depository institutions at the 
Federal Reserve: required reserve balances, contractual 
clearing balances, and excess reserves. I will discuss each 
briefly in turn. The purpose of reserve requirements is to 
facilitate the implementation of monetary policy. Reserve 
requirements achieve this by providing a predictable demand for 
balances held by banks at the Federal Reserve over a two-week 
period of averaging. This predictable demand for balances helps 
the Federal Reserve hit its target for overnight interest 
rates. However, required reserve balances pay no interest and 
largely for that reason banks spend resources to avoid reserve 
requirements, such as through arrangements that sweep deposits 
into non-reservable accounts or market instruments. 
Authorization of interest payments on required reserve balances 
would substantially reduce the incentives for banks to engage 
in these socially wasteful reserve-avoidance activities, and 
would thereby improve the efficiency of our financial sector.
    Contractual clearing balances are additional balances that 
banks may hold at the Federal Reserve beyond the level of their 
required reserve balances. Banks contract in advance to hold 
such balances in order to pay checks or make wire transfers 
without running into overdrafts. These clearing balances do not 
earn explicit interest, but they do earn implicit interest for 
depository institutions in the form of credits that may be used 
to pay for Federal Reserve services such as check clearing.
    Like required reserves, contractual clearing balances are 
maintained on a two-week average basis and are known in advance 
of the maintenance period. These balances also therefore 
facilitate the implementation of monetary policy. Explicit 
interest payments on these balances would make them more useful 
for monetary policy purposes because it would tend to boost 
their level and make them more stable over time by removing the 
link to a bank's use of Federal Reserve services.
    Excess reserve balances are balances that banks hold at the 
Federal Reserve beyond the level of any required reserve or 
contractual clearing balances. They also earn no interest. 
Authorization of interest on excess reserves would add a 
potentially useful tool for the implementation of monetary 
policy. The interest rate on excess reserves would tend to act 
as a floor on overnight market interest rates. A bank would not 
lend balances to another bank at a lower rate than they could 
earn by keeping the excess at the Federal Reserve. While not 
currently needed, this floor for market interest rates could 
also potentially help the Federal Reserve hit its target for 
overnight interest rates.
    H.R. 758 would also grant the Federal Reserve increased 
flexibility in setting reserve requirements, allowing the 
possibility that reserve requirements could be reduced below 
the minimum levels currently allowed by law, and even 
conceivably to zero at some point in the future. The Federal 
Reserve could make use of this flexibility, however, only if it 
were granted the authority to pay explicit interest on 
contractual clearing balances to ensure a stable and 
predictable demand for their remaining deposit balances at the 
Federal Reserve. If the Federal Reserve were granted the 
additional authorities included in H.R. 758, we would carefully 
study the new range of possible strategies for implementing 
monetary policy in the most efficient possible way for banks, 
the markets and the Federal Reserve.
    The efficiency of our financial sector also would be 
improved by eliminating the prohibition of interest on demand 
deposits as provided for in H.R. 859. This prohibition distorts 
the pricing of transactions, deposits and associated bank 
services. In order to compete for the liquid assets of 
businesses, banks set up complicated procedures to pay implicit 
interest on compensating balance accounts. Banks also spend 
resources and charge fees for sweeping the excess demand 
deposits of larger businesses into money market investments on 
a nightly basis. Such expenses waste the economy's resources 
and they would be unnecessary if interest were allowed to be 
paid on both demand deposits and reserve balances.
    H.R. 859 would delay for one year removing the prohibition 
of interest on demand deposits. The Federal Reserve Board 
believes that a short implementation delay of one year or even 
less would be in the best interests of the public and the 
efficiency of our financial sector.
    A provision of H.R. 758 would in effect allow interest to 
be paid on demand deposits without any delay through a new type 
of sweep arrangement, but this provision would not promote 
efficiency. It would authorize a new interest earning account 
on which 24 transfers a month could be made to other accounts 
of the depositor. At the end of each business day, a bank could 
sweep demand deposits into the new account, pay interest, and 
then return the funds to the demand deposit the next morning. 
These sweep arrangements would allow banks to earn additional 
fees and perhaps be more selective about, in effect, paying 
interest on demand deposits in the one year before explicit 
interest payments were authorized. However, these sweeps would 
be another example of socially wasteful expenditure, and for 
this reason the Board does not advocate the new 24 transfer 
account.
    The payment of interest on demand deposits would have no 
direct effect on federal revenues, as interest payments would 
be deductible for banks, but taxable for the firms that receive 
them. However, the payment of interest on required reserve 
balances would reduce the revenues received by the Treasury 
from the Federal Reserve. The extent of the revenue lost, 
however, has fallen over the last decade as banks have 
increasingly implemented reserve avoidance techniques. Paying 
interest on contractual clearing balances would primarily 
involve a switch to explicit interest from implicit interest, 
and therefore would have essentially no cost to the Treasury. 
The payment of interest on excess reserves could also be 
authorized without immediate effect on the budget because the 
Federal Reserve does not expect to use that authority in the 
years immediately ahead.
    H.R. 758 includes a provision that transfers some of the 
capital surplus of the Federal Reserve banks to the Treasury in 
order to cover the budgetary costs of paying interest on 
required reserve balances. The Board has consistently pointed 
out that such transfers are not true offsets to higher 
budgetary cost. A transfer would allow the Treasury to issue 
fewer securities, but the Federal Reserve would need to lower 
its holdings of Treasury securities by the same amount to make 
the transfer. Thus, the level of Treasury debt held by the 
private sector would be unchanged. Treasury's interest payments 
net of receipts from the Federal Reserve would be unaffected.
    In summary, the Federal Reserve Board strongly supports the 
proposals in H.R. 859 and H.R. 758 that would authorize the 
payment of interest on demand deposits and on balances held by 
depository institutions at the reserve banks, as well as 
increased flexibility in the setting of reserve requirements. 
We believe these steps would improve the efficiency of our 
financial sector, make a wider variety of interest-bearing 
accounts available to more bank customers, and better ensure 
the efficient conduct of monetary policy in the future.
    Thank you, Mr. Chairman.
    [The prepared statement of Hon. Donald L. Kohn can be found 
on page 65 in the appendix.]
    Chairman Bachus. Thank you.
    Assistant Secretary Abernathy? We note that you have 
brought a former staffer of ours.

   STATEMENT OF WAYNE A. ABERNATHY, ASSISTANT SECRETARY FOR 
       FINANCIAL INSTITUTIONS, DEPARTMENT OF THE TREASURY

    Mr. Abernathy. I needed some help in walking through these 
different parts of the building that I have not walked in 
before. It is a pleasure to have Mr. Zerzan with us as our new 
Deputy Assistant Secretary. We appreciate all the training you 
have given to him.
    Chairman Bachus. Thank you.
    Mr. Abernathy. I now would ask that my full written 
statement be included in the record, and I will just provide a 
summary here.
    Chairman Bachus, Representative Sanders, members of the 
subcommittee, I appreciate this opportunity to present 
Treasury's views on legislation repealing the prohibition on 
the payment of interest on business checking accounts, and 
permitting the payment on interest of reserve balances at 
depository institutions maintained with the Federal Reserve.
    The Treasury Department supports permitting banks and 
thrifts to pay interest on business checking accounts. We are 
also sympathetic to the arguments in favor of permitting the 
Federal Reserve to pay interest on reserve balances, and we 
support the goals of the legislation. However, inasmuch as the 
potential budget impact of the provision is not included in the 
president's budget, we are not prepared to endorse that 
proposal at this time.
    The prohibition on paying interest on demand deposits is a 
relic of the Great Depression. Many policy makers in the 1930s 
had the belief that limiting competition among banks would 
reduce bank failures, even if that resulted in fewer options 
and higher costs for consumers. Therefore, among other 
competition-limiting measures, Congress prohibited the payment 
of interest on demand deposits. Experience has shown that 
limiting consumer choice is a sub-optimal strategy for bank 
regulation. The market has a way of asserting itself.
    In recent decades, competition for money market mutual 
funds worked to undermine deposit interest rate ceilings. At 
the beginning of the 1980s, Congress allowed banks to offer 
deposit accounts free of interest rate controls. Repeal of the 
prohibition on paying interest on business demand deposits 
would eliminate a needless government control. Banks could 
reduce the resources that they spend on procedures to get 
around these restrictions. Repeal would benefit the nation's 
small businesses by allowing them to earn a positive return on 
their transaction balances.
    We favor the repeal of the prohibition such as that 
contained in the bill authored by Representative Toomey, H.R. 
859, that would be effective one year after enactment. The bill 
introduced by Representative Kelly, H.R. 758, would authorize 
an increase in the allowable transactions between demand 
deposits and interest-bearing money market accounts. Combining 
these two proposals, as the House of Representatives did in the 
last Congress, would help ensure that banks are immediately 
able to offer the equivalent of interest-bearing checking 
accounts to their business customers before the repeal of the 
prohibition entered into effect. In any event, the Treasury 
Department continues to prefer a relatively quick repeal of the 
prohibition.
    H.R. 758 would also allow the Federal Reserve to pay 
interest on reserve balances. The Federal Reserve Act requires 
depository institutions to maintain reserves against certain of 
their deposit liabilities. Institutions typically meet these 
requirements through vault cash and a portion of their reserves 
held at Federal Reserve banks. The required reserve balances do 
not earn interest, therefore sometimes referred to as sterile 
reserves. Governor Kohn presented the arguments and reasons and 
concerns that current limitations may affect the conduct of 
monetary policy. We share those concerns.
    In addition, permitting the payment of interest on reserve 
balances would promote economic efficiency. Uncompensated 
reserves act as a tax upon tanks, while serving no public 
policy interest. To avoid this tax, banks have engaged in 
otherwise uneconomic activity. These costs harm the 
competitiveness of banks, not only with foreign institutions, 
but also with other financial services providers. H.R. 758 
provides an offset to its budget costs by transferring a part 
of the Federal Reserve surplus to the treasury. Yet over time, 
transfers of the surplus do not result in budgetary savings. In 
transferring a portion of its surplus to the treasury, the 
Federal Reserve would reduce its portfolio of interest-earning 
assets. This would, in turn, decrease the Federal Reserve's 
future earnings and remittances to the Treasury. Budgetary 
receipts in the near term would increase, but only at the 
expense of foregone long term receipt.
    In conclusion, we welcome action by the Congress to repeal 
prohibitions on paying interest on business checking accounts. 
Repeal would eliminate unnecessary restrictions on banks' 
ability to serve their commercial customers and would level the 
playing field between them and other financial services 
providers. Repeal would especially benefit the nation's small 
businesses. The ability to pay interest on reserve balances 
maintained at the Federal Reserve may improve the effectiveness 
of the tools that the Federal Reserve has to implement monetary 
policy. Financial system efficiency would likely improve.
    Thank you for the opportunity to appear before your 
subcommittee, and I am prepared to answer any questions.
    [The prepared statement of Wayne A. Abernathy can be found 
on page 47 in the appendix.]
    Chairman Bachus. Thank you.
    According to our rules, we are going to call on members as 
they arrive. Some members have indicated they do not have 
questions, so I will not call on them. I am going to yield my 
five minutes to the first person on our side, which is Mrs. 
Kelly.
    Mrs. Kelly. Thank you, Mr. Chairman.
    I have got a couple of questions here. One of my questions 
is to you, Mr. Kohn. It seems to me that there has been a 
change in the attitude on the part of the Fed with regard to 
this bill. I am not sure, but it seems to me that last year 
when we passed this bill, the Fed was comfortable with the 24 
sweeps. Now, you say you are not. That seems to me to be a 
change in attitude, and I would like you to explain why.
    Mr. Kohn. I think the 24 sweeps are something we can live 
with, but do not prefer. Our preference is to go directly to 
paying interest on demand deposits. The 24 sweeps, which you 
could think of as an interim measure, as Secretary Abernathy 
was talking about, for the one year, does involve more 
avoidance techniques for the payment of interest on demand 
deposits. It involves setting up the sweeps. It involves 
maintaining them, and it just seems to us that it is much more 
direct, much more efficient, much less costly to go directly to 
the payment of interest on demand deposits. Not that we would 
object to the 24 MMDA sweep provided it was reservable as it is 
in your bill, but it does not seem the best way to go since it 
does involve these extra expenditures.
    Mrs. Kelly. We are already doing six sweeps.
    Mr. Kohn. Right.
    Mrs. Kelly. What I am doing is making it 24. One of the 
reasons for doing that is to help encourage the banks to go 
ahead and give the money that is earned with the sweeps and 
with allowing interest on sterile reserves, give them back 
something that they will be giving out to their customers, so 
it balances out. That is the way I see the bill, and I am just 
interested in why that change on your part.
    I also have another question, and that was brought up by my 
colleague Mr. Royce. It has come to my attention that the ILCs 
want to offer businesses NOW accounts as they are authorized by 
their state. I understand the Fed has some concerns about that 
and I want to know if you would elaborate on that. Mr. 
Abernathy, I would like to have you comment on that as well.
    Mr. Kohn. I would be glad to elaborate, Congresswoman 
Kelly. The proposal as I understand it is to authorize the 
ILCs, the industrial loan corporations, to offer business NOW 
accounts. Industrial loan corporations are institutions in a 
select number of states, I think about a half dozen states. 
They differ from commercial banks and other depository 
institutions in two ways. One is they cannot offer demand 
deposits or business checking accounts. The second way is that 
they are not subject to the same regulations and restrictions 
that commercial banks are in terms of who they can affiliate 
with. Industrial loan corporations can affiliate with 
commercial organizations. For example, in Utah you have such 
corporations as BMW, Volvo, Gateway, other commercial 
corporations who own these industrial loan corporations.
    So this would be mixing banking and commerce. If you allow 
the industrial loan corporations to offer business checking 
accounts, you are in effect giving them all the powers of a 
commercial bank. They would be equivalent to the commercial 
bank in terms of the services they can offer, but unlike 
commercial banks, unlike savings and loans, they could 
affiliate with commercial institutions. Moreover, banks when 
they affiliate even with financial institutions, are subject to 
certain regulatory oversight under Gramm-Leach-Bliley. That 
regulatory oversight is called an umbrella supervisor, so the 
bank holding company is subject to supervision. Even if the 
industrial loan corporation were to affiliate only with a 
financial firm--for example, Morgan Stanley owns an ILC--that 
would not be subject to the same regulation than if Morgan 
Stanley were affiliated with a bank.
    Congress spent a lot of time a few years ago trying to draw 
these borders between financial, banking, and commercial and 
decided to keep commerce and banking separate. The board 
supported that position very strongly. The Congress also 
decided to subject the financial holding companies to umbrella 
supervision, as it happens by the Federal Reserve. That is not 
as important as the fact that somebody is doing it. The Federal 
Reserve supported that decision very strongly.
    We believe that allowing ILCs to offer business checking 
accounts would in effect undermine the restrictions and the 
regulatory apparatus that Congress put into place under Gramm-
Leach-Bliley.
    Mrs. Kelly. Mr. Abernathy?
    Mr. Abernathy. I think ILCs are a great example, emblematic 
of the strength of the constitutional federal system of 
government that we have. They are emblematic of the kind of 
variety that we have in financial institutions because of the 
innovation that our dual banking system allows. We have federal 
institutions, we have state institutions that offer different 
kinds of services to meet the needs of consumers, whether they 
are individuals or businesses.
    With regard to the specific issue of whether or not demand 
deposit authority should be extended to ILCs, because that was 
not in the bills that we looked at while we prepared for this 
hearing, the Treasury has not examined that issue. So we would 
need to go back and consider that. We have been listening to 
some of the comments that have been raised about it. I think we 
want to look at it closely, but we do not have a position on it 
at this time.
    Mrs. Kelly. Thank you.
    Mr. Chairman, I wonder if I could have unanimous consent. I 
have testimony from a coalition of over 1,800 independent 
community banks that are opposed to the repeal on the ban, and 
I would like to have that be included.
    [The following information can be found on page 91 in the 
appendix.]
    Chairman Bachus. Without objection.
    Mrs. Kelly. Thank you.
    Chairman Bachus. That was partially as a result of Wal-Mart 
trying to buy an ILC in California.
    At this time, Mr. Sanders?
    Mr. Sanders. Thank you, Mr. Chairman and welcome gentlemen.
    Mr. Abernathy, if I could begin by asking you a couple of 
questions. In your judgment--I sometimes find it strange that I 
am the conservative around here worrying about the federal 
deficit, with my free-spending colleagues here not worrying so 
much about it. Can you give me an estimate perhaps as to how 
much you believe it would increase the federal deficit if the 
Federal Reserve were paying the interest we are discussing 
today? My understanding is that last year the Fed gave $24 
billion to the treasury, which ultimately lowered what 
otherwise would have been the case with the deficit. How much 
less would they be giving if the Fed were paying interest on 
reserves?
    Mr. Abernathy. I think the last time that the CBO examined 
this issue, which was a couple of years ago, they estimated 
that the five year cost would be somewhere in the neighborhood 
of about $500 million. That was, of course, with different 
economic assumptions. We now have a lower interest rate 
environment. Whether that would reduce the cost to the Federal 
Reserve because they are paying less, or would that mean that 
more reserves would be placed with the Federal Reserve--it is 
hard to tell.
    Mr. Sanders. Okay.
    Mr. Abernathy. The best number we have would be the old 
number of about $500 million over five years.
    Mr. Sanders. Or roughly $1 billion over a ten-year period.
    Mr. Abernathy. I think the ten-year number came closer to 
about $800 million, for some reason.
    Mr. Sanders. Okay. Now, we are going to hear testimony 
later on from Professor Auerbach, who in fact comes up with a 
much, much higher estimate. His estimate is I believe $16 
billion over a ten-year period.
    My second question is, as everybody in this room who is 
over 12, most people are over 12 knows, that when legislation 
is introduced, somebody wins and somebody loses. Usually there 
are beneficiaries. Probably people sleeping out on the street 
who are homeless are not going to gain much out of this. People 
who cannot afford prescription drugs are not going to be major 
winners out of this. Veterans who do not have health care 
probably are not going to get too many benefits out of this 
legislation. If I were to tell you that my office spoke to the 
Congressional Research Service and they said that the major 
beneficiaries would be the Bank of America, who last year made 
over $6.7 billion in net income; Wells Fargo, who made over 
$3.4 billion in net income; J.P. Morgan Chase, who made over 
$1.69 billion in net income; and Citigroup, which made over $14 
billion in profits--would that make sense to you? Would you 
argue with CRS on that?
    Mr. Abernathy. Is this with regard to the payment on Fed 
sterile reserves?
    Mr. Sanders. Yes.
    Mr. Abernathy. Without looking at the numbers, I could not 
comment in favor or opposed to them.
    Mr. Sanders. That is what the CRS said. Does this sound to 
you like a reasonable proposition?
    Mr. Abernathy. I have not looked at the numbers. I presume 
that if banks maintain deposits with the Federal Reserve and 
they are going to receive interest payments on those, they will 
benefit from that. Exactly which ones those are, we have not 
done an analysis.
    Mr. Sanders. But these are some of the largest banks in 
America, and everything being equal, we would expect the 
largest banks would be the major beneficiaries. Is that a fair 
assumption?
    Mr. Abernathy. If you base it just upon the reserves, the 
larger the bank you are, the greater the reserves you hold in 
the Federal Reserve. That is correct.
    Mr. Sanders. Right. Mr. Kohn, if the CRS gave my office 
that information, does that make sense to you, that the Bank of 
America, Wells Fargo, J.P. Morgan Chase, and Citigroup might be 
the major beneficiaries out of this legislation? Does that 
sound roughly right? Mrs. Kelly's bill I am talking about, H.R. 
758.
    Mr. Kohn. I think the major beneficiaries out of this 
legislation would be the customers of the banks who are holding 
these sterile reserves. I think in effect that the competitive 
market system passes through these costs to the customers, in 
some cases directly for businesses holding compensating 
balances with banks. When banks calculate the implicit interest 
on the compensating balances, they directly subtract the cost 
of the--
    Mr. Sanders. Do you think the average person would be aware 
of lowering his fees? Would all that stuff really impact 
heavily on the ordinary working person in this country?
    Mr. Kohn. I do not think it would impact heavily on 
anybody, because we are talking about a very small amount of 
money relative to the size of the banks, to the financial 
system. But I do think the direction would be that the average 
person would see slightly lower costs for services and slightly 
higher returns.
    Mr. Sanders. That would certainly be a nice thing to see 
with fees soaring all over the country, wouldn't it be, Mr. 
Kohn?
    Mr. Kohn. Yes, it would.
    Mr. Sanders. Okay. The point that I wanted to make--first 
of all, I want to thank the Bush administration for not jumping 
on support of this, for trying to retain some credibility and 
concern about our deficit, because this ultimately will raise 
our deficit. That is number one. Number two, from what I can 
see, the major beneficiaries will in fact be the largest banks 
in this country in terms of H.R. 758.
    With that, Mr. Chairman, I yield back.
    Chairman Bachus. Thank you.
    Ms. Brown-Waite?
    Ms. Brown-Waite. Thank you.
    Actually, my question is for Governor Kohn. In your 
testimony, you indicate that one year would be a sufficient 
time for the phase-in of the repeal of the ban on paying 
interest on business demand deposits. The bill also calls for a 
year's period of time. Some in the banking industry have said 
that it should take three years. Help me to understand why you, 
as well as the sponsor of the bill, obviously believe that one 
year is sufficient time.
    Mr. Kohn. I think the banks' systems are set up in such a 
way to accomodate that, and this bill has been debated and 
passed by the House for several years. None of this should come 
as a surprise to the banking industry. I think the banks' 
computer systems are set up in such a way that they should be 
able to implement this fairly rapidly. I think you will have 
some bankers you are talking to on the second panel, and you 
should certainly ask them, but my understanding from talking to 
a few bankers, is that implementing this is really not going to 
be a problem, and the sooner the better.
    Ms. Brown-Waite. Thank you.
    Chairman Bachus. Thank you.
    Ms. Maloney?
    Mrs. Maloney. Thank you, Mr. Chairman.
    I really wanted to comment on an aspect of the bill that my 
dear friend and colleague Mr. LaFalce said in the last bill 
that we passed in the House, H.R. 1009. It contained a 
provision that we had worked on together that would require the 
Federal Reserve to perform an annual survey of checking, NOW 
accounts, ATM transactions and other electronic transactions. 
As I notice, this provision has been omitted from H.R. 758 and 
859. I wanted to ask our two representatives what you think of 
that. Would you object to having that added back in? What is 
your position on that particular aspect of the law?
    Mr. Kohn. The Federal Reserve would not object to having 
that added back in. I do think it is important for the Congress 
to consider carefully what the objective is and why they want 
to get this information, and to keep the data collection and 
the requirements targeted tightly to what you want and the 
objectives you have for this. This will keep the burden down, 
both on the banks and on the taxpayers through the Federal 
Reserve, but we have no objection to including such a study in 
the bill.
    Mrs. Maloney. Mr. Abernathy, do you have any objection to 
it?
    Mr. Abernathy. We like to look at a lot of numbers. The 
more data you have, I think the better you can make policy. My 
experience has been there are a lot of reports that nobody 
looks at; a lot of data that is collected that no longer serves 
a particular function. While I think that the particular data 
points that you are suggesting might be helpful, I would like 
to look at it in a larger context of the data that is 
collected, and then maybe we could focus on the things that 
would be most helpful for policy, and eliminate some of the 
report requirements that no longer meet any needs.
    Mrs. Maloney. Thank you.
    Chairman Bachus. Mr. Toomey?
    Mrs. Maloney. Could I very briefly--I am supporting the 
bill, but I would like to ask Mr. Kohn, you mentioned earlier 
that the customers were the ones that were going to benefit 
with the checking account interest rates. How can we be assured 
that banks will pass through interest on sterile reserves to 
their customers in the form of higher interest rates or reduced 
fees? Historically, the fees paid or interest rates paid on 
checking accounts have been incredibly low. How can we be 
assured that this will be passed through to customers, as you 
mentioned in your dialogue?
    Mr. Kohn. Right. I think there are some direct ways, as I 
noted in my answer to Congressman Sanders, that it would be 
passed through. That is, compensating balances are 
automatically adjusted for reserve requirements. So for at 
least I think that about one-third of demand deposits that are 
held as compensating balances, to the extent that the reserves 
on those earn interest, that interest would automatically flow 
through to the customers. I think for the rest of it, we can 
rely on a very rigorous competition for banking services. We 
have banks, we have S&Ls, we have non-banks such as money 
market funds offering services to customers. We have finance 
companies offering loans. I think a bank, offered the 
opportunity to gain a little bit more of an advantage in 
offering these services by not incurring this particular tax, 
would be competing very strongly with all these other financial 
institutions to increase market share. So I think the market 
system will do this.
    Mr. Sanders. Would the gentlelady yield?
    Mrs. Maloney. I just wanted to follow up on it. Consumer 
checking account interest rates have really severely lagged 
behind other market rates. A lot of my constituents tell me 
they do not even keep money in consumer checking accounts 
because of that, or very little. So do you anticipate that this 
will be the same with business checking accounts as well? If it 
is true that there is going to be such competition for their 
accounts, then it would be true for the consumer checking 
accounts too, would it not?
    Mr. Kohn. I think there is competition for the accounts. 
The interest rates are very low in part because the Federal 
Reserve has very low interest rates right now.
    Mrs. Maloney. But even when it has not been the case, it 
has been low.
    Mr. Kohn. That is right. There are a variety of accounts 
and a variety of ways that banks deliver services to their 
customers. Some of the accounts have higher interest rates on 
them for less active accounts; other accounts might have a 
lower interest rate or a zero interest rate account if you are 
very active, and you do not get charged for the activity in the 
account. So I think there are just a whole lot of dimensions 
along which banks compete for this. I think the competition 
will remain there. I think the customers will see this.
    We are talking about very small amounts of money. I 
recognize, along with Congressman Sanders, that if you add it 
up over a long time, it looks like a lot of money. But $100 
million or $150 million a year is going to be very hard to 
track through. That is less than one-tenth of one percent of 
the income of the bank. It would be very hard to track through. 
But I think it goes in that direction, and I think I would rely 
on the market to do it.
    Mrs. Maloney. I yield to Ranking Member Sanders, who 
requested the time.
    Chairman Bachus. Actually, your time is expired.
    Mrs. Maloney. My time has expired. Okay. Sorry.
    Chairman Bachus. Mr. Toomey?
    Mr. Toomey. Thank you, Mr. Chairman.
    Just to follow up on this for just a moment, maybe starting 
with Mr. Abernathy. Would you say that it is widely accepted, 
if not universally accepted, among economists that it is not 
unique to the banking industry, but rather to any competitive, 
mature industry, the structural savings that occur by and large 
gets passed on to the consumers of that service? Is that a 
generally accepted principle of economics?
    Mr. Abernathy. That is one of the things that the 
marketplace does. It in essence, reaches a balance between your 
cost of providing a service, and the demand for your particular 
service.
    Mr. Toomey. Right. So this is not a unique circumstance or 
a unique theoretical exercise. Any industry in which there 
would be a reduction of a government-imposed tax, any mature 
industry, anyway, that is truly competitive, we would always 
assume automatically pretty much that most, if not all, of that 
benefit would be passed on to consumers. Is that correct?
    Mr. Abernathy. And I think it is not just theoretical. 
There has been study after study that has demonstrated that 
that is exactly what happens.
    Mr. Toomey. Thank you.
    Mr. Kohn, do you agree with that?
    Mr. Kohn. Yes, I do, Congressman.
    Mr. Toomey. Thank you.
    A quick question--do either of you have any reservations 
whatsoever that the repeal of the prohibition on interest 
payments would introduce any kind of safety and soundness 
concern to our financial infrastructure or individual 
institutions, for both of you gentlemen?
    Mr. Abernathy. I do not know of any safety and soundness 
concerns that would be heightened. There might be some 
arguments that could be made that you would be introducing some 
elements of stability, which would improve safety and 
soundness.
    Mr. Toomey. Could you just give an example and elaborate on 
any improvements to safety and soundness that might result?
    Mr. Abernathy. I think inasmuch as banks engage in certain 
types of uneconomic activity to try to work around these 
restrictions, they are doing things that are imposing 
unnecessary costs on them. To the degree that you can reduce 
costs on their activities, you improve their profitability, 
which is an important element of safety and soundness.
    Mr. Toomey. Mr. Kohn, would you like to add anything to 
that?
    Mr. Kohn. I would agree with Secretary Abernathy on that. I 
do not see any adverse effects on safety and soundness here. 
Another added benefit for small banks would be an ability to 
reach out for deposits, where they are currently restricted, at 
least on the demand deposit dimension right now. So I think it 
would help them manage their liquidity. They have demonstrated 
over a long period of time that they can live in a deregulated 
environment. The supervisors and examiners would be sure to be 
careful that they were not engaging in activities that would 
endanger the safety and soundness. I see no problems in that 
dimension.
    Mr. Toomey. My last question, Mr. Chairman--do either of 
you feel that the repeal of the prohibition on interest 
payments would or could be fairly characterized as in some ways 
leveling the playing field between the small banks and the 
large banks?
    Mr. Abernathy. I think particularly, large banks have been 
able to access a lot of these work-around products. Smaller 
banks cannot always access those. There is a certain cost 
involved with them, and the smaller your institution, the less 
willing you are to engage in that cost. So in many cases, you 
just do not compete in that field at all.
    Mr. Kohn. I agree. I think not only would it help to level 
the playing field between small and large banks because of the 
costs that were just discussed, but also between banks, and 
small banks in particular, and non-depository institutions. 
Small banks are at a disadvantage when competing with Merrill 
Lynch or another firm offering a money market fund that can 
attract the transaction deposits of businesses, particularly 
small businesses. So I think it levels the playing field in 
several ways.
    Mr. Toomey. Gentlemen, thank you very much for your 
testimony today and for answering my questions.
    Mr. Chairman, I will yield the balance of my time.
    Chairman Bachus. Thank you. I appreciate that.
    Mr. Garrett?
    Mr. Garrett. Thank you, Mr. Chairman.
    Am I correct to understand that since this bill was 
considered a couple of years ago that the reserve levels have 
actually not been going down, but been slightly going up? If 
that is true, do we know why that is?
    Mr. Kohn. That is correct, Congressman. They have gone up a 
little bit over the last couple of years. Primarily, it is 
because interest rates have declined. When market interest 
rates are low, people are less careful about keeping their 
transaction deposits down, which earn little or no interest. So 
as market interest rates go down, we find that demand deposits, 
NOW accounts and these reservable liabilities tend to go up. As 
a consequence, the reserves against them tend to go up. So yes, 
reserve balances have risen a little bit over the last few 
years.
    I think one question which I raised in my testimony is, 
what happens when interest rates go back up again? I think we 
would see those balances go back down.
    Mr. Garrett. Just a second question, then, following maybe 
in some sense where Congressman Sanders was going--the 
differences between the large banks and the small banks. My 
understanding is the various small banks, their reserve 
requirements are small to maybe nonexistent as far as what they 
have to put in there and what they may actually have on hand 
may satisfy that. So is there a disparity, then, on how this 
legislation impacts upon the two size banks as far as that 
goes? Is there a benefit to the small bank, other than just a 
larger economic issue as far as the economy is concerned.
    Mr. Kohn. I think it is true that structural reserve 
requirements is that the first $6 million or so of transactions 
deposits have no requirement on them. The next $37 million or 
so have a 3 percent requirement. Only after you get over $42 
million, I think it is, that you get to the full 10 percent 
requirement. So the small banks tend to have smaller required 
reserves even relative to their size.
    Having said that, there are what was to me as I looked at 
the tables, a surprising number of small banks that hold 
deposits at the Federal Reserve--hold required reserve balances 
at the Federal Reserve. I think partly this is because they are 
not large enough to afford the sweep programs that the medium 
and larger size banks use to get rid of even the transactions 
deposits that they have. So if you look at the structure of who 
holds the deposits, yes, obviously in dollar number is it 
overwhelmingly the larger institutions, but there are some very 
small institutions that hold deposits. The medium-size 
institutions that get to a critical size so they can afford 
these sweep programs hold very few; and then the big ones hold 
more. So some small institutions would benefit.
    Mr. Garrett. Okay. Thank you.
    Mr. Abernathy. If I could add, currently, probably the 
number one reason why smaller institutions do not have their 
deposits with the Fed is because they keep it in vault cash, 
mainly because of the demand at ATMs. That is only a temporary 
phenomenon. We have all these predictions as we develop new 
types of ways to carry money, such as money cards, cash cards 
and other instruments, where it could not be long before people 
are not carrying lots of cash and the demand for vault cash 
declines. And then you could see small institutions putting 
more money into the Fed because they do not satisfy with their 
vault cash needs.
    Mr. Garrett. Thank you.
    Chairman Bachus. Thank you.
    Ms. Hart?
    Ms. Hart. Thank you, Mr. Chairman.
    I am sorry I missed most of the testimony, but I did have a 
couple of questions, actually one main one. I was not here 20 
years ago when I understand that this issue was discussed 
before. At that point, I understood that opponents of paying 
interest on business checking accounts went to the U.S. 
Government archives and reviewed the minutes of the Depository 
Institutions Deregulation Committee--it was about 10 or 11 
years ago--where they discussed permitting banks to offer 
interest on business checking. The Committee decided not to 
permit banks to engage in this activity because of negative 
economic impact they believed that would result. In 1983, the 
chairman of the Fed expressed reservations about this change.
    Since that time, I am interested in knowing what has 
changed? Is there something specific that you can cite in the 
last 20 years that has changed the position of the Fed on this 
issue?
    Mr. Kohn. I am not sure the Depository Institution 
Deregulation Committee had the legal power to authorize 
interest payment on demand deposits. I think that is part of 
the law. So I am not sure exactly.
    Ms. Hart. They must have just not recommended it then.
    Mr. Kohn. That is possible. First of all, I can actually 
recall helping Governor Partee write testimony on this issue in 
1984 or 1985. I have been at the Fed for some time. We were in 
favor of paying interest on reserves and interest on demand 
deposits.
    Ms. Hart. It changed from the prior couple of years, then?
    Mr. Kohn. Is that right? I do not recall why it changed, 
but I know that we have had the same position for at least 18 
years.
    Ms. Hart. Okay.
    Mr. Kohn. I am not sure why it changed. I think right now 
the situation is that the banks have managed to get around a 
lot of the required reserves by instituting the sweeps. It is a 
socially wasteful and unnecessary kind of thing. It does, if it 
continued and intensified, make the implementation of monetary 
policy a little more difficult. So we can see no reason not to 
pay interest on required reserves. In so far as demand deposits 
are concerned, I think the same kind of reasoning goes. 
Increasingly over time, banks have found ways of, in effect, 
paying interest on demand deposits. It costs money to avoid the 
prohibition. The folks that are left behind are the small banks 
and the small businesses. I do not recall what the Board's 
reasoning might have been in 1983, but it makes no sense today.
    Ms. Hart. Would it be possible to try to check out what had 
maybe changed that opinion? We will double check to make sure 
that our information is good--that that was the position. I 
will have my staff definitely catch up with you.
    Mr. Kohn. Sure. Okay.
    Ms. Hart. One other question, and you may have answered 
this in your testimony, and I apologize if this is being 
redundant. Has there been some effort to determine the actual 
impact that this will have on the economy--the changes on the 
current institutions that have created that system that you are 
saying, the elaborate method that they have now to in a 
backdoor way provide that interest? Has there been a study done 
as to what that will mean to the economy?
    Mr. Kohn. As far as I know, there has not been an empirical 
study done, but people have given this considerable thought. 
The answer, I believe, is that there would be, as somebody 
mentioned, some winners and losers here. I think the winners 
would be people holding deposits, particularly the small 
businesses. Perhaps as interest on demand deposits rose, some 
services would cost a little more because they are now being 
subsidized by the people holding the deposits. But the overall 
effect, I think, would be positive for the efficiency of the 
economy. Services and deposits would be priced closer to their 
costs. The dead weight loss of all this activity to avoid the 
regulation would go away, and those resources--the lawyers, the 
accountants, the consultants, the computer programmers--could 
put their efforts into doing things that were more socially 
productive.
    Ms. Hart. I would not argue with that, but what about the 
reality that these institutions are going to have to be paying 
out where they have in the past were less clearly paying out, 
or less directly paying out. Was there any thought or 
consideration given to the possibility that they might have to 
increase other fees?
    Mr. Kohn. I think they might have to increase a few of the 
fees to the extent that they are under-pricing services now, in 
order to attract, quote, ``free demand deposits.'' So yes, some 
fees might rise a little, but deposit rates will rise a little, 
so that depositors will finally be receiving something without 
going through all the convolutions of avoiding the prohibition. 
I think net-net, it has got to be a plus because you do get rid 
of this dead weight loss. By avoiding the costs that the banks 
and the businesses now go through to avoid the regulation, the 
returns to depositors are going to go up more than the increase 
in the fees.
    Mr. Abernathy. If I may, what we would be saying to banks 
is, here is one more area on which you might compete with each 
other. Under current law, we are telling banks, you may not 
compete with regard to interest on business deposits. If this 
became law, we would be saying, here is one more element that 
you can put into your competition with one another. Banks have 
prospered, the more that they have been subject to competition.
    Ms. Hart. Thank you. I yield back, Mr. Chairman.
    Chairman Bachus. Thank you.
    This concludes the first panel's testimony. The first panel 
is discharged. If the second panel will take a seat. Two of the 
members wish to introduce members of the panel.
    Governor Kohn, we appreciate your testimony.
    Mr. Kohn. Thank you.
    Chairman Bachus. And thank you, Assistant Secretary 
Abernathy.
    Mr. Abernathy. Thank you.
    Chairman Bachus. We want to welcome the second panel. At 
this time, I am going to recognize Mr. Toomey to introduce one 
of the panelists.
    Mr. Toomey. Thank you very much, Mr. Chairman.
    This is a pleasure for me today to introduce this gentleman 
because we have with us today before the subcommittee, Mr. 
Chairman, really one of the great post-war innovators--in fact, 
I would say a visionary--in the financial services industry. 
Bruce Bent is the CEO of the Reserves Fund. He is a great 
leader and a believer in the capitalist system, in the free 
enterprise system, and he is a man whose opinion I respect 
enormously. We have a slight difference of opinion on this 
particular bill. There are very few things on which we disagree 
in the economic realm, and as I said, I respect his opinion.
    I say he is a visionary because this is a gentleman who 
created the first money market mutual fund back in 1971. Mutual 
funds today, as we all know, are enormously important, holding 
over $2 trillion in investments. Mr. Bent's creation has been 
described as one of the 10 most important financial advances of 
the 20th century. I would say that it is an innovation that has 
democratized the capital markets of America in a way that no 
other innovation has, making investments possible, and in fact 
easy and convenient for millions and millions of Americans who 
would never otherwise have had the opportunity to invest and be 
stakeholders in our economy.
    So it is a great pleasure for me to welcome to our 
Committee today Mr. Bruce Bent. Thank you for being here.
    Mr. Bent. Thank you, Congressman.
    Mrs. Kelly. [Presiding.] Thank you, Mr. Toomey.
    It gives us great pleasure today to welcome our second 
panel here today--Mr. Edwin Maus, President and Chief Executive 
Officer of the Laurel Savings Bank, on behalf of America's 
Community Bankers; Mr. Michael Stewart Menzies, Sr., the 
President and Chief Executive Officer of the Easton Bank and 
Trust Company, on behalf of the Independent Community Bankers 
of America; Mr. Rex Hammock, President of Hammock Publishing 
Company, on behalf of the National Federation of Independent 
Businesses; Mr. Bruce Bent, Chairman and CEO of Reserve 
Management Company; and Mr. Robert Auerbach, Professor at the 
Lyndon B. Johnson School of Public Affairs at the University of 
Texas.
    Thank you, gentlemen. We look forward to your testimony.
    Let us begin with you, Mr. Maus. Without objection, all of 
your written statements will be made part of the record, and 
you do understand the light system here. When the yellow light 
comes up, you can sum up your testimony. We would appreciate 
that.
    Thank you. We will begin with you, Mr. Maus.

 STATEMENT OF EDWIN R. MAUS, PRESIDENT AND CEO, LAUREL SAVINGS 
      BANK, ON BEHALF OF AMERICA'S COMMUNITY BANKERS (ACB)

    Mr. Maus. Thank you.
    Madam Chairman, Ranking Member Sanders, and members of the 
subcommittee, my name is Edwin Maus. I am President and Chief 
executive officer of Laurel Savings Bank, the $270 million 
savings bank located in Allison Park, Pennsylvania, which is 
suburban Pittsburgh. I am testifying today on behalf of 
America's Community Bankers. I appreciate the opportunity to 
testify before you on the Business Checking Freedom Act of 
2003, legislation whose subject matter was first brought to the 
attention of Congress by ACB nearly a decade ago.
    ACB strongly supports allowing banks to offer interest-
bearing checking accounts, and urges the 108th Congress to pass 
H.R. 859. We also support authorizing the Federal Reserve to 
pay interest on sterile reserves, as reflected in H.R. 758. The 
existing ban on interest-bearing business checking accounts is 
the last statutory vestige of a Depression-era law that in the 
words of the federal banking regulators no longer serves a 
public purpose.
    Instead, it has created an anti-competitive business 
environment allowing a limited number of financial 
conglomerates to corner the market for cash management 
services. It has diminished the ability of community banks to 
lend to our neighbors and communities. It has prevented many 
small businesses from earning interest on their deposits.
    Historically, the major beneficiaries of the ban on banks 
paying interest on business checking accounts have been a 
handful of large financial institutions. Unlike most community 
banks, those institutions have the financial resources to 
circumvent the prohibition by conducting so-called "sweep" 
arrangements. Sweep arrangements can be costly and cumbersome. 
In fact, many institutions that offer sweeps today do so only 
because they are not allowed to provide the more efficient 
service of paying interest on business checking accounts.
    The interest on business checking option would also provide 
a stimulus for America's small businesses and the economy as a 
whole. Many small businesses do not earn interest on their 
demand accounts because they cannot afford to maintain the 
relatively high minimum level of deposits required to maintain 
a sweep account. By lifting the ban on interest-bearing 
checking accounts, Congress can give these small businesses the 
opportunity to finally earn a market rate of return on their 
demand deposits. For many mom and pop businesses, this could 
mean the margin of difference from surviving a weak economy. In 
addition, it would open up the entire segment of potential new 
deposits for community banks to lend to our neighbors and our 
communities.
    Given the current debate in Washington over how best to 
revive the economy, doesn't a revenue-neutral economic stimulus 
tool like H.R. 859 make more sense?
    ACB is pleased to be joined in our support for this 
legislation by a host of organizations that supports small 
businesses, and by both the Federal Reserve and the Treasury 
Department. The legislation was passed not just once, but twice 
by the U.S. House of Representatives during the 107th Congress, 
and three other times before that. We hope that the House will 
follow suit again this year with a strong vote in favor of this 
much-needed legislation.
    I would also like to address the critical issue of timing. 
Much of the past opposition to this change in law has been 
camouflaged under the guise of unreasonably long transition 
periods. Institutions have had ample time to make any needed 
changes to their systems, operations and business plans. In 
1980, the law authorizing banks such as Laurel Savings Bank to 
pay interest on consumer checking accounts took effect in a 
mere nine months after it was signed by the president. That was 
a major change for financial institutions to implement the 
interest on regular checking accounts back then. To make a 
similar change to business accounts today would be a very, very 
minor change for us to implement. While ACB would strongly 
prefer the legislation lift the ban immediately upon enactment, 
we believe that the one-year phase-in contained in H.R. 859 is 
an acceptable transition period. We strongly urge Congress not 
to extend this phase-in beyond one year.
    I would also like to take this opportunity to express ACB's 
support for authorizing the Federal Reserve Board to pay 
interest on sterile reserves held at the Federal Reserve Bank. 
ACB commends Representative Kelly for introducing H.R. 758. ACB 
strongly endorses H.R. 859, the Business Checking Freedom Act 
of 2003--an important step for community banks, small 
businesses, and the American economy. We thank Representatives 
Pat Toomey and Paul Kanjorski for their sponsorship--both 
fellow Pennsylvanians, I might add--of this critical 
legislation and urge Congress to pass it immediately.
    Thank you again for the opportunity to testify before this 
subcommittee, and I look forward to any questions you may have.
    [The prepared statement of Edwin R. Maus can be found on 
page 79 in the appendix.]
    Mrs. Kelly. Thank you, Mr. Maus.
    Ms. Hart, I understand that Mr. Maus is perhaps from your 
district. Maybe you would like to say something.
    Ms. Hart. Thank you, Madam Chairwoman.
    I am sorry, but I had to run out of the room to do a vote 
in Judiciary, or I would have actually introduced you before 
you gave your testimony. But I did get to hear it, and I thank 
you for it.
    For those of you who are not familiar with this guy, he is 
I would say it is safe to say one of our local bank wizards. He 
has really been with several successful organizations, and for 
the past probably--what?--15 years or so, with Laurel.
    Mr. Maus. Fifteen with Laurel, yes.
    Ms. Hart. Fifteen with Laurel, and it has gone really from 
a very little tiny, you pass up the office, then there aren't 
anymore, and you never hear of them again, to a very well 
respected and much larger financial institution under his 
tutelage. He is also, of course, a fellow University of 
Pittsburgh grad, and that is a really good thing. You probably 
do not know how close I really live to you, Bud.
    [Laughter.]
    Mr. Maus. I have a pretty good idea.
    Ms. Hart. We are pretty much in the same community. I think 
that is safe to say. I have just been watching your career, and 
it is a pleasure to have you here to share your wisdom with the 
Committee.
    Thank you, Madam Chairwoman.
    Mr. Maus. Thank you.
    Mrs. Kelly. Thank you, Ms. Hart.
    We go now to Mr. Menzies. Is there some kind of a 
Pennsylvania cabal going on here, with the three of you here?

  STATEMENT OF R. MICHAEL STEWART MENZIES, SR., PRESIDENT AND 
   CEO, EASTON BANK AND TRUST CO., ON BEHALF OF INDEPENDENT 
              COMMUNITY BANKERS OF AMERICA (ICBA)

    Mr. Menzies. Actually, I believe you are thinking of 
Easton, Pennsylvania, and regretfully much of my mail goes from 
Easton, Maryland to Easton, Pennsylvania by accident.
    [Laughter.]
    Madam Chairman, thank you. Madam Chairman and Ranking 
Member Sanders, and members of the subcommittee, I am Mike 
Menzies from Easton Bank and Trust in Easton, Maryland, which 
is known as the wild goose capital of the world. I manage a $90 
million community bank in Easton, and I am also honored to be 
the Vice Chairman of the Independent Community Bankers of 
America, Federal Legislation Committee. I am pleased to appear 
today on behalf of our nearly 5,000 members, and share our 
views on payment of interest on business checking and payment 
of interest on deposits at the Federal Reserve.
    Madam Chair, as you know, repealing the bank on paying 
interest on business checking accounts, has been highly debated 
among community banks for many years. Frankly, they remain 
divided. Proponents of repealing the ban argue that it would 
increase economic efficiency and simplicity in business 
practices and assist in retaining their best customers and 
allow them to remain competitive. They believe that the current 
prohibition has been competitively damaging because of 
brokerage firms and others who are otherwise taking core 
deposits away from banks that banks could use to compete for 
loans in their marketplace.
    Opponents, on the other hand, argue that repealing the ban 
would squeeze their margins and they oppose the financial 
burden that could jeopardize their ability to compete with the 
bigger banks, who can afford to pay more interest. They fear 
the loss of business customers, and that is their concern.
    Because our membership is split, we very much advocate the 
alternative that Congresswoman Kelly has put on the table. We 
believe bankers on both sides support this alternative. Under 
this alternative, the ban on paying interest on business 
checking would remain in place, but the number of allowable 
transactions for money market accounts would go to 24, up from 
the current limit of six. Banks would be allowed to conduct 
daily sweeps between non-interest-bearing commercial accounts 
and interest-bearing money market deposit accounts. This would 
give banks the option of paying interest on commercial checking 
accounts at a cost that is significantly lower than the 
alternative repurchase sweep account, which the Fed has 
referred to as incredibly inefficient--and it is.
    Community banks are the primary source of credit for small 
businesses. Commercial depositors are looking for ways to get a 
return on their demand deposits. Increasing the number of 
allowable transactions from money market deposit accounts will 
allow community banks to remain competitive in providing cash 
management services to their commercial customers, and would 
enable commercial customers to earn a return on their funds and 
have funds readily available in a liquid deposit account. This 
is the only alternative that we are aware of, Mr. Chairman, 
that has not raised objections from banks on both sides.
    Therefore, we strongly urge you and the subcommittee 
members to give this proposal very serious consideration. 
Should the prohibition be repealed, we would strongly support 
and urge a transition period of not less than two years or 
more. The transition period would be necessary to allow banks 
to reconfigure long-term business arrangements, certainly not 
the operational aspects, with commercial customers, and phase 
in the relative economic impact of this change, and there will 
be one.
    Mr. Chairman, I would also like to note for the record 
ICBA's historical and staunchly held support for maintaining 
the wall between banking and commerce, which was so strongly 
reaffirmed in the Gramm-Leach-Bliley Act. Thus, any effort in 
the context of this legislation to add provisions related to 
industrial loan companies would raise strong opposition from 
our membership, since ILCs can be owned by commercial firms. As 
Chairman Greenspan noted, this legislation should not be the 
vehicle for expansion of ILC powers.
    With respect to interest on sterile reserves, let me say 
that we certainly have no objection to this proposal. Many 
community banks have transaction deposits in the lower tranche, 
and this was mentioned before. Many communities do not have 
deposits at the Federal Reserve. Easton Bank and Trust does, as 
a matter of fact, have deposits at the Federal Reserve. We keep 
about $175,000 on deposit there right at this moment. But many 
small banks, in fact, would not be the beneficiaries of paying 
interest on those reserves. We do not oppose this legislation, 
however.
    It has been my honor to testify on behalf of the community 
banks of the ICBA and I look forward to answering any questions 
you may have.
    [The prepared statement of R. Michael Stewart Menzies, Sr., 
can be found on page 84 in the appendix.]
    Chairman Bachus. [Presiding.] Thank you, Mr. Menzies. I 
will say that Easton is on the eastern shore, and it is a 
beautiful city.
    Mr. Menzies. Yes, sir. Thank you. We are very proud of 
Easton.
    Chairman Bachus. Mr. Hammock?

STATEMENT OF REX HAMMOCK, PRESIDENT, HAMMOCK PUBLISHING, INC., 
    ON BEHALF OF NATIONAL FEDERATION OF INDEPENDENT BUSINESS

    Mr. Hammock. Thank you. While I am not from Pennsylvania, I 
am a native of Alabama and went to college in your district, so 
I make that connection.
    Chairman Bachus. Where did you go to school?
    Mr. Hammock. I went to Samford in Birmingham.
    Chairman Bachus. My wife taught at Samford.
    Mr. Hammock. Well, good. We will compare notes afterwards.
    [Laughter.]
    I appreciate the chance to just summarize what my testimony 
is, and put the actual written testimony in the record. I 
appreciate the opportunity of coming this afternoon, and I 
thank Congressman Toomey for introducing H.R. 859. As I will 
tell you in a few minutes, I had an opportunity to testify 
about this, not even knowing it was an issue a couple of 
congresses ago. I feel like Chevy Chase on Groundhog's Day--you 
know, that sort of re-living some of these things. I have done 
this before.
    My company was started in 1991 and had five employees, and 
I actually went in and opened a business checking account, and 
was amazed to learn that I could not earn interest on that 
checking account. I fortunately knew my banker, and so in a 
good-natured way asked him why the archaic kind of thing was in 
place that did not allow me to earn interest on the checking. 
He suggested immediately about two or three alternatives that I 
could do to get around not earning interest on checking. In his 
case, he suggested I set up a money market fund that Mr. Bent 
developed, which they call a liquid asset account. So I did.
    However, at that time, it was few years before online 
banking, I had to call the bank. That was before we had a 
bookkeeper. I was doing it myself. The accounting professor at 
that university we mentioned would be shocked to know that I 
was doing the accounting of our business. However, I did that 
for several years and would have to call my banker each night 
to transfer funds to make sure that money was not parked in the 
checking account, so we could earn interest on the liquid 
investment account. I continued to complain about this, and 
every once in a while I would wake up in the middle of the 
night and realize that I had not transferred monies from one 
account to the other account. You can imagine if you had to do 
this with your consumer account, which you would kind of think 
of in the middle of the night what you have paid and what you 
have not paid.
    Fortunately, our business has grown and a few years into it 
we hit a level, frankly I have forgotten what the level was, 
that the bank suggested a sweep account might be a better 
alternative. So we have that in place today. However, I do want 
to stress that for a small company without a financial staff--
we do have a couple of people in our bookkeeping department 
now--but managing a sweep account is not as seamless as it 
appears, because I discovered that in the early days, and still 
the case, you have to reconcile the account every day, or the 
bank reconciles the sweep account every day. You receive in the 
mail, just like we receive on a monthly basis at home for your 
checking, we get that on a daily basis because of the sweep 
account reconciliations. So in a typical year, there would be a 
stack about this high of reconciliations that a typical small 
or medium-size business with a sweep account gets. A lot of 
that is done online now, but still it does add to the confusion 
of doing business, the reconciliations.
    I will finish by saying that about four years ago, actually 
to the day four years ago, five days ago I was able to testify 
on this issue for the first time, and frankly, why is a long 
story. But I complained about this and somebody heard me 
complain and said here is your chance to say something about 
it. There was a story about it that appeared in a national 
publication and used me as the small business owner poster 
child, or whatever, to complain about this. I received hundreds 
of calls from around the country, from stockbrokers and 
financial planners--everyone telling me how I could solve my 
problem of not earning interest on my checking account. I 
received one yesterday--not related to that--but I received--
these are small business owners, daily almost, calls or weekly 
at least from any number of types of financial services 
providers who can tell me how to solve this.
    So my complaints have more to do with just common sense, 
and just if there is something that small business owners hate 
to do is park money and resources in something that they are 
not earning money on. If there is a way around it, they are 
going to get around it. If there is a legal way, even the bank 
is encouraging that they are going to follow that. So I just 
think repeal of this prohibition makes sense, and I am happy to 
support it on behalf of the National Federation of Independent 
Business and its members.
    Thank you.
    [The prepared statement of Rex Hammock can be found on page 
60 in the appendix.]
    Chairman Bachus. Thank you.
    Our next witness--Mr. Bent, Mr. Toomey, although he is 
sponsor of the bill, introduced Mr. Bent and invited him to 
come. Although he opposes the legislation, that speaks well of 
Mr. Toomey, and our belief that everyone has a right to be 
heard.
    Mr. Bent. So much for democracy.
    Chairman Bachus. Thank you.
    [Laughter.]

  STATEMENT OF BRUCE R. BENT, SR., CHAIRMAN AND CEO, RESERVE 
                         MANAGEMENT CO.

    Mr. Bent. My full statement would be filed for the record. 
Number one, I thank you, Chairman Bachus, for allowing me to 
come. I would particularly like to thank Mr. Toomey and Mrs. 
Kelly for raising the awareness of the Congress to exactly what 
is happening out there as far as the disservice to injuries to 
businesses as far as lacking interest on their deposits. 
Surprised, right?
    I take great pride in the fact that I invented the money 
fund. It is a $2 trillion industry today, and many, many people 
have been helped dramatically by it. My father said to me--I 
get a little bit emotional--that if it were not for the money 
fund, and not because I was giving him money, because he would 
not take it, he would not have been able to survive on his post 
office pension, except for the interest he got on the money 
fund. Okay. Now, that is very good and I am very proud of it, 
and my father is emblematic or symptomatic of a lot of other 
people that are out there--tens of millions of people. In fact, 
I would bet the vast majority of the people in this room, one 
way or the other, have benefited by the money fund and the 
competition that it created within the banking system.
    But some things happened that were not so good, and I think 
in order to survive, and I have survived now for over 30 years 
in business, one must be objective. The things that I did not 
like were the fact we had the collapse of the S&Ls and a cost 
to taxpayers of $200 billion. I attribute that to the creation 
of the money funds which precipitated the first crack at 
regulation Q, which was the elimination of interest limits on 
deposits. Today, we are talking about the second one.
    The second thing that I did not like about it is that 
balances moved out of communities. They were no longer in 
Fishkill or Allison Park or Defiance. They came to New York, 
which is great because I live in New York, but I am also an 
American. They went to London, which I do not really like. They 
went to Tokyo, which I did not like. And they went to Hong 
Kong. And they are still there, by and large. I would say that 
if I got down and did an equation on it, I would say except 
from New York, there is a net loss to every community in the 
United States, from balances moving into money funds. I do not 
like that.
    Now, that provided me with motivation, and my son, who is 
with me today, to create a thing called reserve return sweep. 
Reserve return sweep provides interest on checking balances for 
businesses in the community where the balance arises, so the 
balances stay in Allentown or Fishkill or even in Queens, where 
I was born, since everybody is looking for a hook here today--
Jamaica Hospital.
    [Laughter.]
    Mrs. Maloney. In my district.
    Mr. Bent. Thank you.
    And I think that that is critical. This reserve return 
sweep I am very proud of. I am so proud of it and so objective 
about it that I feel that the vast majority of balances that 
are in money funds will switch over to this new product. It is 
safe. It is simple. It is controlled and it is a cost-effective 
way of paying interest on checking. There is no limitation on 
the size of the people who could benefit from it. Right now, we 
have about 40 banks in our process and we have another 40 banks 
that are coming on right now. We have banks with as low as or 
as little as $300,000 with this process, and we have banks that 
have as much as $200 million in the process. So it is broad-
based and it serves the people.
    I have been very concerned about this bill because of the 
fiat elimination of the second half of regulation Q, i.e. 
interest on balances. I am concerned that this again creates 
tumult in the marketplace for the cataclysmic introduction of 
interest on balances. Whether it is interest on balances or 24 
transactions, it is instantaneous. Twenty-four transactions is 
a euphemism. That means it is happening today, because the 
banks will move the balances into the money market account 
where they do not have to pay any reserves on it, and it will 
be implemented instantly. So there is no transition period, and 
to discuss that it is, is spurious totally. It will not happen. 
So 24 transactions do not exist. It is effective 
instantaneously.
    I am very, very pleased at the effectiveness of this 
product. The problems that these gentlemen have had are all 
addressed, be it banks or my capitalist next to me--the bank is 
a capitalist, too. I think that what it does is avoid the 
crisis potential that would have if we simply made a fiat 
change in paying interest.
    Right now, our economy has lots of problems. We need hugs 
and kisses, not shocks, and I think the implementation of this 
bill could be a major shock for our economy.
    Thank you.
    [The prepared statement of Bruce R. Bent, Sr., can be found 
on page 56 in the appendix.]
    Chairman Bachus. Thank you.
    Let me say this, when you mentioned your dad, I think that 
is a generational thing, and I am now in your generation when 
we talk about our dads, if we have lost them or we are losing 
them, it is hard to do so without emotion. That is something 
that the younger generation sometimes does not understand, but 
I identify too well with it.
    Mr. Bent. Thank you.
    Chairman Bachus. Mr. Auerbach, we want to welcome you back, 
as a staffer.
    Mr. Auerbach. Thank you.
    Chairman Bachus. You may want to recognize Mr. Auerbach.
    Mr. Sanders. We do welcome you back and thank you for being 
here. Mr. Auerbach today is a Professor of Public Affairs at 
the Lyndon B. Johnson School of Public Affairs at the 
University of Texas. We thank you very much for joining us.

  STATEMENT OF ROBERT AUERBACH, PROFESSOR, LYNDON B. JOHNSON 
         SCHOOL OF PUBLIC AFFAIRS, UNIVERSITY OF TEXAS

    Mr. Auerbach. Thank you, Mr. Chairman, and the wonderful 
members of this Committee who I had the privilege of working 
with.
    I want to take you back to 1980--I had two different stints 
here--when I was working with Henry Reuss and there was chaos 
in the banking system, 16.5 percent reserves on deposits. You 
had Tom Ridge on the Committee, Henry Hyde, Charles Grassley--
we were all very upset about this huge amount of reserves. 
These banks said they would all leave the Federal Reserve. So 
we lowered the reserve requirement to 12 percent. The Fed was 
screaming as they always do--we will lose control of the money 
supply without these required reserves; you cannot do it. Well, 
they did not. In fact, as soon as we finally settled at 12 
percent, the Fed lowered it further to 10 percent.
    Then the Fed initiated something that I am very surprised 
did not come up today. We put in the Monetary Control Act 
supplemental reserve requirements. The Fed has the power to 
raise in time of national emergency, which they declare, they 
have the power to raise reserve requirements by four percentage 
points and to pay interest on the reserves. That is in the 
legislation. Why would not the Fed mention that? If they are 
worried about money control, they just put in supplemental 
reserves and pay interest on it. How come that has been left 
out of this? Curious. We also raised the insurance rates in 
order to get the banking groups in town here to support the 
bill. They raised it from $40,000 insurance to $100,000--a 
tremendous gift to the small banks that they received at that 
time.
    Now let me just--I am jumping over because if I am talking 
against the wonderful bill that some of you have, I have got 
two suggestions. Later you can ask me, and I think it will 
improve the bill, but I will leave those to the end--something 
that Don Kohn, wonderful Governor--we used to work together at 
the Fed; he is a personal friend--told me, I think it would 
make the bill a bit better.
    What happened to the reserves in the system? The reserves 
are tremendous in the Federal Reserve system today. There is 
are $76 billion worth of reserves sitting there. There is only, 
as of February, about $9.6 billion held at the Fed. So I think 
it is rather irrelevant. It is a very small distortion for the 
system to start paying interest on those reserves. Let me tell 
you why. If you start paying interest on reserves, the thing 
that is going to happen is there will be more reserves. I 
learned this in my studies under Milton Friedman at the 
University of Chicago. You subsidize something, you are going 
to get more of them.
    Now, Don Kohn had in his testimony $28 billion that they 
had. I told him, no, if you look on the chart I have here, they 
had in the early 1990s $35 billion at the Fed. But a lot of 
these banks took the cash, which they can use to meet the 
reserve requirements, and they put them in ATMs. Remember, as 
Governor Kohn said, if you have less than $41 million, the 
small banks, the reserve requirement is only 3 percent. Under 
$5 million, it is zero. So small banks are not going to benefit 
from interest on reserves. They will be injured.
    So how many more reserves will flow in? First of all, what 
is the interest that the Fed will pay? Well, I picked the 
federal funds rate and I drew a chart of it. For the last 30 
years, up until March 2000 when the bubble broke, we started to 
crash, the average federal funds rate has been 7.7 percent. 
That would kind of be a worst--and remember in 1980 the federal 
funds rate was over 20 percent, when Ronald Reagan came into 
power. I worked in the Reagan administration for the first 
year, in the Treasury. It was a mess.
    Chairman Bachus. Wasn't that when Carter was in office?
    Mr. Auerbach. Carter was in--it happened right at the 
transition. I was with the Committee and then I went over in--
you are right.
    [Laughter.]
    Chairman Bachus. That was just so big, I just could not--
    [Laughter.]
    Mr. Auerbach. You are absolutely right. But we had that 
problem, you know, with the double-dip recession and we had a 
terrific problem.
    So I would say, look, let's not--say, 7.7 percent will be--
this is--for 30 years the average federal funds rate was 7.7 
percent. Let's not make a worst-case scenario. Let's just say 5 
percent. We do not want to take the current distress period. I 
do not expect the interest rates to be at 1930 Depression 
levels for a while. I would expect if you pay more for 
something, you are going to get more. I was telling Don Kohn, I 
think it will probably go up to about $20 billion. So at 5 
percent, you would be giving an annuity of $1 billion a year to 
the banks. That annuity, if you discount it at 6 percent, is 
worth--a guaranteed annuity from the government is worth about 
$16.7 billion, using a 6 percent rate of discount. This is a 
huge payment to the banks, and who would get it? Primarily the 
large banks which have a lot of reserves.
    Let me just answer one other question. Would it be passed 
through, as Don Kohn said? Would it be passed through to the 
depositors? The truth is, the banks have a system of parallel 
pricing. They have a national prime rate. That is a whole other 
story. The Fed's own research in 1980 when we were fighting 
about this shows that they have the same prime rate all over 
the country and they practice price discrimination. The larger 
borrowers can get loans at money market rates. The same thing 
would occur. You are not going to pass through all this. The 
main benefit--I do not have time to go into the way banks 
price--the main benefit would be the stockholders of the big 
banks. They get a very respectable increase.
    One other last point--Bruce Vento, the late Bruce Vento, in 
his last period here, he collected information on the 
concentration of banking in the United States. It was sent to 
him by the Federal Reserve. I had a chance to look at it. 
Although we have got a lot of small banks out there, the 
Federal Reserve has let the concentration of banking in the 
metropolitan areas heighten. You have got places like New 
Orleans where a couple of banks control much of the deposits in 
there. You do not have a model of free competition. It does not 
exist in the large urban areas. Banks will all charge the same 
price. What do they charge now? What do they pay--.02 percent 
on an account unless you are one of the lucky people that gets 
in on the sweep accounts.
    So I have two things that would make the interest paying 
thing, but my time is up. If you want to ask me--I am sorry I 
talked past my time.
    [The prepared statement of Robert Auerbach can be found on 
page 51 in the appendix.]
    Chairman Bachus. Thank you.
    Mr. Gonzalez would have probably calmed you down.
    [Laughter.]
    Ms. Kelly, I am going to yield my time to you.
    Mrs. Kelly. Does that mean that I get no time of my own?
    Chairman Bachus. No, you get no time--or I will yield 2.5 
minutes to you and 2.5 minutes to Mr. Toomey.
    [Laughter.]
    Mrs. Kelly. I want to make one remark to you, Mr. Auerbach. 
I am not looking and I do not think Mr. Toomey is looking at 
this legislation as a tool for social engineering, regarding 
your remarks that the large banks get the most on the reserves. 
Of course, they do, because they put the most in. So I think my 
real question here is to you, Mr. Menzies. I asked the earlier 
panel to comment on the proposal to allow the ILCs to offer 
business NOW accounts, as they are authorized to, some of them 
by their state. Would you be willing to discuss the ICBA's 
position on this proposal?
    Mr. Menzies. I do not profess to be an expert with respect 
to ILCs, but I believe the basic issue is that if it walks, 
acts and talked like a duck, it ought to be a duck and not 
something else. If they are going to act like a bank and be 
like a bank, then they should be operating and regulated like a 
bank. Our primary objective is to adhere to the Gramm-Leach-
Bliley spirit of separating banking and commerce, and not 
allowing this effort to do an end-run on that objective of 
separating banking and commerce. So that is the number one 
position, I believe.
    The other position that was referenced by the Federal 
Reserve and by Chairman Greenspan is that if they are going to 
be a bank, then have them subject to the Bank Holding Company 
Act and have them subject to the Federal Reserve regulations, 
and have them subject to all of the laws associated with 
banking and not be an exclusive, limited-purpose, limited-
objective financial institution.
    Mrs. Kelly. Mr. Menzies, I wonder if you would be willing 
to talk--you say you are not an expert on this--would you be 
willing to discuss this in a letter and get a letter back to 
us?
    Mr. Menzies. Absolutely. It would be our honor. We would be 
happy to get together more information on this to you.
    [The following information can be found on page 133 in the 
appendix.]
    Mrs. Kelly. Thank you very much.
    I am going to yield back and hope that you will give me my 
own time.
    Chairman Bachus. I do not think we stopped the clock, so I 
do not know how much time you have--I think about a minute 
left.
    Mr. Toomey. Thank you, Mr. Chairman.
    My first question-comment is for Mr. Auerbach. Do you agree 
that the use of money has an inherent value, or to put it 
differently, that money has a time value?
    Mr. Auerbach. The time value of money--do you mean is the 
interest rate?
    Mr. Toomey. Yes, and that money has an inherent time value, 
that it is standard; that an individual or an institution that 
has use of money pays for that use of money, and we call that 
interest, and that is a norm.
    Mr. Auerbach. Right.
    Mr. Toomey. I reject the idea that to pay interest on bank 
sterile reserves is a subsidy. I do not think when a 
corporation borrows money from a bank that it is subsidizing 
that bank. I think it is simply paying the going rate for the 
use of the bank's money. I think when a consumer borrows money 
to finance a mortgage, I do not think the consumer is 
subsidizing the bank. I think it is just paying for the use of 
the bank's money.
    Similarly, I think when banks have reserves with the 
government, if the government refuses to pay interest on that, 
in fact that is a tax because it is choosing not to pay the 
market value for the use of that money. Isn't that a fair way 
to characterize it?
    Mr. Auerbach. I agree with you 100 percent, but let me just 
answer this way. At present, there is hardly any money in those 
accounts. It is a very small distortion. But if the interest 
rates rise again, as they have throughout the last 30 years, 
you are going to be paying huge amounts of money and you will 
have money transferring--you are a good free enterprise 
Congressman. You know what is going to happen. You are going to 
have money transferred into those accounts. What would happen 
in 1980 when they were paying 21 percent federal funds?
    Mr. Toomey. But of course the rate that they were paying 
will be in line with current market conditions. So there will 
be other available alternatives that also pay high rates if 
interest rates generally go up. If the Federal Reserve is 
paying 21 percent, God forbid, at some point in the future, 
there will be other interest rates available, other vehicles 
available. It would not be that we would have a current 
interest rate environment and the Federal Reserve would be the 
only one paying.
    Mr. Auerbach. But if the government is sending out a $1 
billion a year to the banks, that is what I find is a subsidy.
    Mrs. Kelly. Will the gentleman yield on that point?
    Mr. Toomey. I would just like to go back. I will yield in a 
second.
    Chairman Bachus. Your time is just about up.
    Mr. Toomey. I would just say again, I think you just said 
what I thought you agreed was not the case. I just do not think 
that it is a subsidy if the government is paying a market rate 
for the use of funds that belong to someone else.
    Mrs. Kelly. Your point, Mr. Auerbach--
    Chairman Bachus. I think we went over. I am not sure where 
the clock is--we cannot figure out what happened to the clock, 
but I am sure we are over.
    Mr. Sanders?
    Mr. Sanders. I am not quite sure what Mrs. Kelly meant when 
she talked about social engineering, but what I do know is that 
if the federal deficit goes higher, there are at least some 
people who use that as an excuse to cut back on Medicare, 
Medicaid, education, infrastructure improvement, affordable 
housing. So I worry about a deficit being very high, because it 
means many low income and middle class workers are going to see 
cutbacks in programs which are very often of great necessity to 
them.
    Mr. Auerbach, if I could ask you, what is your guess if the 
Fed were paying interest on reserves, what impact would that 
have on the federal deficit, say, over a 10-year period?
    Mr. Auerbach. On this point, I agree with Governor Kohn 
that the surplus is a meaningless change from one bank account 
to another. The federal deficit properly estimated would 
decline by the amount of money paid to the banks--about $1 
billion a year.
    Mr. Sanders. The federal deficit would--
    Mr. Auerbach. Would get bigger--excuse me.
    Mr. Sanders. By about $1 billion a year.
    Mr. Auerbach. Right.
    Mr. Sanders. So over a 10-year period--
    Mr. Auerbach. But that is not a worst-case scenario. If 
interest rates went over 5 percent, it could easily get--
    Mr. Sanders. I recognize that. No one can predict when 
interest rates will go up, but you are guessing that it might 
increase the deficit, if you like, by $10 billion over a 10-
year period. Is that what you are saying?
    Mr. Auerbach. It has to. Yes.
    Mr. Sanders. Again, I do not know what Mrs. Kelly was 
referring to in terms of social engineering, but if the deficit 
goes up by $10 billion, I suspect there are some people who 
would cut back on Medicaid, Medicare, affordable housing. That 
concerns me very much.
    Mr. Auerbach, and then I will ask the same questions to the 
other members. I think you touched on this. Again, in your 
judgment, I am hearing that the major beneficiaries of this 
would be some of the largest banks in America. I do not think 
there is much doubt about that. Yes, they are the ones who have 
the money, and they are the ones who would benefit. So we are 
talking about--and again, I appreciate no one can make an exact 
prediction, it is a guess game--but you are suggesting a $10 
billion increase in the deficit over a 10-year period, with the 
primary beneficiaries of that being the largest banks in 
America. I, for one, have an objection to that, but I would be 
happy to ask other distinguished members of the Committee if 
they would--is anybody up here? Any good conservatives worried 
about increasing the deficit, or am I the only conservative who 
holds that? Mr. Menzies?
    Mr. Menzies. I am very worried about increasing the 
deficit. In that regard, I believe that with all due respect to 
the professor's position, it presumes that banks are not 
reinvesting those reserves in their depositors, in their 
borrowers, in those receiving dividends from the banks.
    Mr. Sanders. But what does that have to do with it? I 
understand that, but what does that have to do with the 
deficit?
    Mr. Menzies. I believe in our system, the more we increase 
our economy by increasing money flowing through our economy, 
the prosperity of our system.
    Mr. Sanders. Trickle down.
    Mr. Menzies. Unless you presume that all of the money goes 
into the salaries of executives, in 401(k) plans where the tax 
is deferred.
    Mr. Sanders. I do appreciate that, but you are not denying 
that the immediate effect--what you are saying is it 
stimulates--
    Mr. Menzies. But I believe that the professor said that the 
economic impact was exactly the interest that was paid by the 
Federal Reserve to the banks. I am not an economist by trade, 
but I question that business model.
    Mr. Sanders. That is kind of like when we give hundreds of 
billions of dollars in tax breaks to the richest 1 percent in 
the long run really is going to help us all.
    Anybody else want to comment on that? Mr. Maus?
    Mr. Maus. I do not know that it is a fair assumption to say 
that whatever amount would be paid out by the Federal Reserve 
to banks on sterile reserves would equate to a specific number, 
because in doing so there is an assumption being made that the 
amounts that the Federal Reserve are turning back into the 
treasury, they would do nothing else to increase that amount. 
So it is not just that we are going to pay out all of this 
money and they are not going to do anything else in their 
structure to either increase income, decrease expenses or 
whatever, to offset some of the money that they would be paying 
out on the sterile reserves.
    Mr. Sanders. Thank you.
    That is about it for me. Thank you, Mr. Chairman.
    Chairman Bachus. Ms. Kelly?
    Mrs. Kelly. I simply want to go back to what Mr. Auerbach 
said. You know, you talked about the money being reduced that 
is in the reserve accounts. I think it is fair to say that one 
of the reasons that money has been reduced is the banks can 
make more money by putting it in the ATMs. So if there is 
interest paid on the reserves, some of those reserves, yes, 
there might accrue a larger amount in there, which would not 
necessarily be a bad thing, given the volatility of the 
economy. Isn't that correct?
    Mr. Auerbach. You are absolutely right. What would happen 
with the payment of reserves is that many, many banks would 
give less services through ATMs and put them in the Fed.
    Mrs. Kelly. You cannot assume that they would give less 
services. It just means that they may perhaps pack less money 
into those ATMs, but that does not necessarily mean they are 
going to reduce their services in order to get some sort of 
interest on their sterile reserves.
    Mr. Auerbach. Instead of having $30,000 in, they might put 
$20,000 and they would run out maybe on the weekends, because 
there would be a--
    Mrs. Kelly. You cannot project that. I am sorry, sir, I do 
not agree with that. I think they are smarter than that. I 
think they can figure out their weekends.
    Mr. Auerbach. If you are paying for them to take money and 
invest it with the Federal Reserve, then they will have less 
money in their vault cash in the ATMs.
    Mrs. Kelly. Perhaps, but they may find other ways to work 
with their money. That is what banks do. I think that we have 
had for a very long period of time much discussion, as we have 
heard today, over perhaps 20 years about the possibility of 
allowing those banks to earn something on the sterile reserves. 
It is not bad monetary policy. Maybe I have just a greater 
trust in the bankers than you do.
    I yield back.
    Chairman Bachus. Thank you.
    Let me ask one question. Mr. Menzies, your organization is 
neutral on paying interest on business checking accounts?
    Mr. Menzies. The position of the organization is that we 
recommend the 24 transaction a month in a money market account 
as an alternative to interest on checking. That is the position 
of the divided interest. That is a preferential solution to, 
frankly, the archaic law that you all are dealing with.
    Chairman Bachus. Let me point out something in Mr. Maus's 
testimony. This is actually for Mr. Menzies, but it is your 
testimony, which I agree with. Mr. Maus points out that 
repealing the current prohibition would not force banks to pay 
interest on business checking accounts. It just gives them the 
right to do that.
    Mr. Menzies. I totally agree with that, and there is a lot 
of logic to that statement. The counter issue, as opposed to 
argument, is that the money market account traditionally is a 
much more stable account. By definition, it is a savings or it 
is an investment account. It is an account in which monies 
reside for hopefully a longer period of time than a, quote, 
``demand deposit account'', which is subject to demand.
    The question was asked a while ago about 1983, why it is 
that we were not paying interest on commercial accounts. I 
recall talking to the regulators about that question and was 
told, well, it is because if commercial accounts received 
interest, they may chase the highest rates and it would 
volatize possibly the core deposit base of the banking industry 
and cause corporations to move their money quickly to the next 
highest rate, and those deposits are used to make loans, and we 
do not wish to volatize the liability side of the bank, which 
generates loans to small businesses, so let's not pay them 
interest. That, as I recall, was an excuse or was an argument.
    Thanks to Mr. Bent, we have entered into the next century 
with respect to paying interest on liquid funds. The argument 
to consider the 24 transaction sweep is that it may not be 
quite as volatile as the demand deposit account, which is a 
checkable account. True, you can write 24 checks, I guess, 
under the current legislation or do 24 transfers, so there 
clearly is a level of volatility. But you are not depositing 80 
or 90 checks per day in that money market account if it is a 
sweep account. You are putting those in your checking account. 
There may be merit with respect to the safety and soundness 
question of whether the money market account is a more stable 
solution than interest on demand deposits. I do not truly know 
the economic answer to that question.
    Chairman Bachus. What this legislation does, Mr. Toomey's 
legislation, is just give the banks a choice to be able to 
offer those services to their customers if they so choose. It 
is just another choice.
    Mr. Menzies. And banks should be grown up enough to price 
their products relative to the risk and relative to the cost of 
those transactions. It is a true statement.
    Chairman Bachus. I think in our free market society, you 
would agree that that is just one more choice for the consumer?
    Mr. Menzies. Absolutely.
    Chairman Bachus. Mr. Bent?
    Mr. Bent. In 1980, we gave savings and loan associations 
the opportunity to pay more than 5.25 percent. They leaped at 
it because it was not an option, it was a requirement because 
it was in a competitive marketplace. Both the representative of 
the Federal Reserve and the Treasury both talk about 
competition going in this. Believe me, I am in favor of 
competition, but I am not in favor of disrupting our banking 
system, particularly in this economy.
    As far as the money market account being more stable, when 
you have 24 transactions in a money market--maybe I should not 
tell the banks how to figure out, but I will figure it out for 
them--all the checks go in and out of the DDA account; the 
excess cash swings over to the money market account; it stays 
there. At the end of the day, the bank computer, because this 
is not people-intensive, tells the MMDA account, the money 
market account, how much money it has to send over to the DDA 
account, the checking account, to pay the checks. So it is 
instantly full of liquid funds. It is an active account. It is 
not a savings account. It is not doing what was contemplated 
when the MMDA account was originally created back in 1982. It 
is definitely not.
    Chairman Bachus. Of course, the savings and loans, that is 
an issue we have discussed ever since I have been here in 1992. 
The main factor was they were borrowing short and lending long, 
and got caught in the squeeze.
    Mr. Bent. But why? To compete. If they could not pay more 
than 5.25 percent, they would have not gone through that 
exercise.
    Chairman Bachus. That is right, but what I am saying is 
banks are in a different situation. I do not see how this being 
able to offer interest rates, low interest rates--
    Mr. Bent. It is low interest rates today, but if we go back 
to the Carter Administration--
    Chairman Bachus. In this case, you are lending on a short-
term basis.
    Mr. Bent. I am sorry?
    Chairman Bachus. You are just paying interest on a short-
term basis.
    Mr. Bent. But in order to be able to pay interest on 
deposits, you have to invest it someplace.
    Chairman Bachus. But you would not have it in 30-year 
mortgages.
    Mr. Bent. If you go back to in the 1980s, the S&Ls could 
have put their money out in the marketplace, theoretically. 
They could have gone into 30-year treasuries and gotten 17 
percent. They could have gotten T-bills, which were even more 
than that. But they did not. They went out and bought long-term 
mortgages and that is where their exposure was. Fear and greed, 
fear and greed--they got the greed.
    Chairman Bachus. This concludes our hearing. No, I am 
sorry. We have two unanimous consent requests.
    Mrs. Maloney. I have one. I ask unanimous consent that a 
brief statement from the Commissioner of Utah's Department of 
Financial Institutions regarding the subject matter of today's 
hearing be made part of the hearing record. I hope that you 
will accept that unanimous consent request.
    Chairman Bachus. It is from the ILC?
    Mrs. Maloney. It is from the Commissioner of Utah's 
Department of Financial Institutions.
    Chairman Bachus. On the industrial loan company?
    Mrs. Maloney. He did not say what he wanted to talk about.
    Chairman Bachus. Yes.
    [The following information can be found on page 128 in the 
appendix.]
    Mrs. Maloney. Anyway, my first question is to the NFIB.
    Chairman Bachus. I am sorry. You had not been recognized?
    Mrs. Maloney. No.
    Chairman Bachus. I apologize. This does not conclude.
    [Laughter.]
    Mrs. Maloney. One of the often-cited reasons for allowing 
the payment of interest on sterile reserves is that small 
businesses do not have access to these sweep accounts. How 
often do you hear this complaint? Is that a major concern of 
small businesses?
    Mr. Menzies. I know in my case, and I can only speak from 
my case, that I did not have access to a sweep account until we 
got to a certain size. It is off the radar screen of, frankly, 
most small business owners. But there are work-arounds that 
almost any small business owner will do, that are quite legal. 
They are usually suggested by the bank.
    Mrs. Maloney. Really. Well, the Fed has argued that it 
needs additional flexibility in their reserve requirements for 
the sake of setting monetary policy. I would like to ask any of 
the members of the panel to comment if they would like, 
generally, on the Fed's reasoning that the payment of interest 
on sterile reserves and the elimination of the floor on reserve 
requirements will enhance its ability to target monetary 
policy. If anyone would like to comment on that--anyone?
    Mr. Auerbach. That is an argument they have used for many 
years whenever we have lowered reserve requirements. I do not 
think it has any substance. If they are worried about control 
of the federal funds rate or the money supply, they have 
supplemental reserve requirements that pay interest on the 
reserves that they could put in at any time. We wrote that into 
the Monetary Control Act. I do not know, has someone taken that 
out of the bill? It is already there. I think at present, and I 
talked to Governor Kohn about this, they have had no trouble 
controlling the federal funds rate. It is not an issue at 
present. He was talking about, if something happened, maybe 
they would have trouble in the future.
    Mrs. Maloney. Anyone else like to comment on it?
    Mr. Bent. I would like to go back to the question that you 
addressed to Mr. Hammock, as far as the availability of sweeps 
to small businesses. I would be very pleased to set up a sweep 
arrangement for Hammock Publishing, and every member of the 
NFIB, which I think is something like 600,000, so that they 
simply had one account on the bank and everything happened 
automatically through reserve return sweep, and you would get 
interest on your balances.
    Mr. Hammock. I would like to have that option, or the 
option to just not to park my money in a checking account. That 
would be great. If you had a product that could compete and I 
would like, that is great. That is all I think that small 
business owners want, is just something that is logical and 
that anyone can compete for.
    Mrs. Maloney. Thank you.
    Thank you, Mr. Chairman.
    Chairman Bachus. Ms. Kelly?
    Mrs. Kelly. Thank you, Mr. Chairman.
    I have a unanimous consent request. When Mr. Greenspan 
testified before our Committee a few weeks ago, he testified 
about the NOW accounts. I have here a letter actually sent on 
April 2, 2001, that reiterates that kind of testimony, that I 
would like to put in the record.
    Chairman Bachus. Without objection.
    [The following information can be found on page 89 in the 
appendix.]
    Mrs. Kelly. Thank you.
    Chairman Bachus. Are there any more requests for time or 
for consent requests? If not, the hearing is concluded.
    [Whereupon, at 4:14 p.m., the subcommittee was adjourned.]
                            A P P E N D I X


                             March 5, 2003

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