    [House Hearing, 110 Congress]
    [From the U.S. Government Publishing Office]

                         H.R. 698, THE INDUSTRIAL BANK
                          HOLDING COMPANY ACT OF 2007

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

                                    HEARING

                                   BEFORE THE

                        COMMITTEE ON FINANCIAL SERVICES

                         U.S. HOUSE OF REPRESENTATIVES

                           ONE HUNDRED TENTH CONGRESS

                                 FIRST SESSION

                                   __________

                                 APRIL 25, 2007

                                   __________

           Printed for the use of the Committee on Financial Services

                               Serial No. 110-25

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                     HOUSE COMMITTEE ON FINANCIAL SERVICES

                     BARNEY FRANK, Massachusetts, Chairman

    PAUL E. KANJORSKI, Pennsylvania      SPENCER BACHUS, Alabama
    MAXINE WATERS, California            RICHARD H. BAKER, Louisiana
    CAROLYN B. MALONEY, New York         DEBORAH PRYCE, Ohio
    LUIS V. GUTIERREZ, Illinois          MICHAEL N. CASTLE, Delaware
    NYDIA M. VELAZQUEZ, New York         PETER T. KING, New York
    MELVIN L. WATT, North Carolina       EDWARD R. ROYCE, California
    GARY L. ACKERMAN, New York           FRANK D. LUCAS, Oklahoma
    JULIA CARSON, Indiana                RON PAUL, Texas
    BRAD SHERMAN, California             PAUL E. GILLMOR, Ohio
    GREGORY W. MEEKS, New York           STEVEN C. LaTOURETTE, Ohio
    DENNIS MOORE, Kansas                 DONALD A. MANZULLO, Illinois
    MICHAEL E. CAPUANO, Massachusetts    WALTER B. JONES, Jr., North
    RUBEN HINOJOSA, Texas                    Carolina
    WM. LACY CLAY, Missouri              JUDY BIGGERT, Illinois
    CAROLYN McCARTHY, New York           CHRISTOPHER SHAYS, Connecticut
    JOE BACA, California                 GARY G. MILLER, California
    STEPHEN F. LYNCH, Massachusetts      SHELLEY MOORE CAPITO, West
    BRAD MILLER, North Carolina              Virginia
    DAVID SCOTT, Georgia                 TOM FEENEY, Florida
    AL GREEN, Texas                      JEB HENSARLING, Texas
    EMANUEL CLEAVER, Missouri            SCOTT GARRETT, New Jersey
    MELISSA L. BEAN, Illinois            GINNY BROWN-WAITE, Florida
    GWEN MOORE, Wisconsin,               J. GRESHAM BARRETT, South Carolina
    LINCOLN DAVIS, Tennessee             JIM GERLACH, Pennsylvania
    ALBIO SIRES, New Jersey              STEVAN PEARCE, New Mexico
    PAUL W. HODES, New Hampshire         RANDY NEUGEBAUER, Texas
    KEITH ELLISON, Minnesota             TOM PRICE, Georgia
    RON KLEIN, Florida                   GEOFF DAVIS, Kentucky
    TIM MAHONEY, Florida                 PATRICK T. McHENRY, North Carolina
    CHARLES WILSON, Ohio                 JOHN CAMPBELL, California
    ED PERLMUTTER, Colorado              ADAM PUTNAM, Florida
    CHRISTOPHER S. MURPHY, Connecticut   MICHELE BACHMANN, Minnesota
    JOE DONNELLY, Indiana                PETER J. ROSKAM, Illinois
    ROBERT WEXLER, Florida               KENNY MARCHANT, Texas
    JIM MARSHALL, Georgia                THADDEUS G. McCOTTER, Michigan
    DAN BOREN, Oklahoma

            Jeanne M. Roslanowick, Staff Director and Chief Counsel

                                C O N T E N T S

                                  ----------
                                                                       Page
    Hearing held on:
        April 25, 2007...............................................     1
    Appendix:
        April 25, 2007...............................................    51

                                   WITNESSES
                           Wednesday, April 25, 2007

    Bair, Hon. Sheila C., Chairman, Federal Deposit Insurance
      Corporation....................................................     9
    Colby, Robert, Deputy Director, Market Regulation, Securities and
      Exchange Commission............................................    14
    Connelly, Arthur R., Chairman and Chief Executive Officer, South
      Shore Bancorp MHC, on behalf of America's Community Bankers....    37
    Douglas, John L., Alston & Bird LLP, on behalf of the American
      Financial Services Association.................................    41
    Ghiglieri, James P., Jr., President, Alpha Community Bank, on
      behalf of the Independent Community Bankers of America.........    38
    Isaacs, Amy, National Director, Americans for Democratic Action..    35
    Kohn, Donald L., Vice Chairman, Board of Governors of the Federal
      Reserve System.................................................    12
    Lackritz, Marc E., Chief Executive Officer, Securities Industry
      and Financial Markets Association..............................    43
    Leary, G. Edward, Commissioner, Department of Financial
      Institutions, State of Utah....................................    17
    McVicker, Earl D., Chairman and Chief Executive Officer, Central
      Bank & Trust Company, on behalf of the American Bankers
      Association....................................................    40
    Reich, Hon. John M., Director, Office of Thrift Supervision......    13
    Stevens, Thomas M., Immediate Past President of the National
      Association of Realtors........................................    45

                                    APPENDIX

    Prepared statements:
        Bair, Hon. Sheila C..........................................    52
        Colby, Robert................................................    71
        Connelly, Arthur R...........................................    82
        Douglas, John L..............................................    87
        Ghiglieri, James P., Jr......................................    95
        Isaacs, Amy..................................................   113
        Kohn, Donald L...............................................   121
        Lackritz, Marc E.............................................   138
        Leary, G. Edward.............................................   149
        McVicker, Earl D.............................................   172
        Reich, Hon. John M...........................................   183
        Stevens, Thomas M............................................   200

                  Additional Material Submitted for the Record

    Gillmor, Hon. Paul E.:
        Letter from the American Bankers Association.................   210
        Letter from America's Community Bankers......................   211
        Letter from Independent Community Bankers of America.........   212
        Letter from the National Association of Realtors.............   214
        Letter from the Sound Banking Coalition......................   215
        Statement of Thomas J. Bliley, Jr., on behalf of the Sound
          Banking Coalition..........................................   217

                         H.R. 698, THE INDUSTRIAL BANK
                          HOLDING COMPANY ACT OF 2007

                                  ----------

                           Wednesday, April 25, 2007

                 U.S. House of Representatives,
                       Committee on Financial Services,
                                                       Washington, D.C.
        The committee met, pursuant to notice, at 10:08 a.m., in
    room 2128, Rayburn House Office Building, Hon. Barney Frank
    [chairman of the committee] presiding.
        Present: Representatives Frank, Waters, Maloney, Watt,
    Sherman, Meeks, Moore of Kansas, Baca, Scott, Green, Cleaver,
    Davis of Tennessee, Sires, Ellison, Klein, Wilson, Perlmutter,
    Donnelly, Marshall; Bachus, Castle, Royce, Gillmor, Manzullo,
    Feeney, Hensarling, Brown-Waite, Barrett, Pearce, Neugebauer,
    and Bachmann.
        Also present: Representative Matheson.
        The Chairman. The hearing will come to order. The Committee
    on Financial Services meets today to consider legislation
    dealing with the Industrial Bank Holding Company Act, which was
    filed by myself and the ranking minority member of the
    Committee on Financial Services, the gentleman from Ohio, Mr.
    Gillmor. It deals with the question of whether or not the
    entity known as the Industrial Loan Corporation ought to be
    expanded or maintained at its current level.
        I begin by saying that there's been a debate about the
    ILCs. It does seem to me that those who profess to be strong
    supporters of the Industrial Loan Corporation form ought to be
    the ones initiating legislation. That is, if you genuinely
    believe that the ILCs are an important financial institution,
    how does anyone justify limiting them so that only six States
    can charter them? I know of no other generally approved entity
    which can only be chartered by six States.
        So I understand people who think ILCs are a wonderful thing
    and would therefore like to have them freely chartered. I
    understand those of us who think that we should restrict them.
    It is hard for me to understand a rational argument for the
    status quo in which we have this entity that exists in only a
    few States. Why would anyone do that?
        Let me put it this way. It is inconceivable to me that
    anyone starting from scratch in a situation would say, ``Okay,
    here's a nice institution we ought to have; we're going to call
    it an industrial loan corporation, and let's pick six States
    that are allowed to charter it.'' I don't know how you would
    pick the six States. I assume a dartboard would be an essential
    part of that decisionmaking process. In other words we have
    what is the result of a historical accident, and it seems that
    we go one way or the other.
        There are also people who argue that we have had the ILCs
    for this considerable period and there has not been any
    problem. Well, those of us who support this legislation
    generally agree with that because we are trying to preserve the
    status quo. Nothing that is being proposed would undo the
    current situation with regard to ILCs that exist.
        Indeed, we had previously been told by the State of Utah
    where they are important, and I note the presence of our
    colleague from Utah, a former member of this committee, whose
    disagreement with us was sufficiently strong to cause him to
    return. And he has been a very able advocate of the interests
    of his State. But I do note that the last information we had
    was that over 90 percent of the ILC assets in the State of Utah
    would be unaffected by our legislation because they would meet
    the test of 85 percent financial.
        But I do return to the point that we have an anomaly. I can
    understand going forward, I can understand going backward, but
    I do not see how anyone public policy can justify staying where
    we are.
        Now what we find is--and people said, ``Why are you dealing
    with this now if they haven't caused problems?'' But what we
    are confronted with is people who have decided to significantly
    expand this entity, including major commercial organizations.
        Again, I understand the argument from those who say that
    the distinction between commercial and banking activities is an
    artificial one, that it should fall. But if you believe that,
    then where's the language to repeal the restriction? Again, why
    this halfway, to put it in a way that will meet the rules of
    propriety, approach to a situation? What again is the
    justification for maintaining the general principle of a
    separation between banking and commerce and allowing this one
    narrow exception?
        We, I hope, will go forward. We are trying again not to
    disturb the status quo. We have had some conversations with a
    kind of a border area involving securities, border in the
    sense, these are financial institutions and we will be--we have
    been working and having conversations and I want to thank--
    Chairwoman Bair is here and she has, on this as in so many
    other issues, been extremely helpful.
        We are trying to work out the various regulatory approaches
    that should go forward. I do want to say that this has been one
    of the rare occasions in my memory when the Federal Reserve has
    been very flexible, and I hope that this is a pattern that we
    will see going forward.
        But I think we have a very reasonable approach in the
    legislation. Obviously we are prepared to listen. And with
    that, I will recognize the ranking member.
        Mr. Bachus. I thank Chairman Frank for holding this hearing
    on H.R. 698, which is the Industrial Bank Holding Company Act
    of 2007. This legislation would enhance regulatory supervision
    of our ILCs, grandfather existing ILCs, and at the same time,
    prohibit commercial firms in the future from acquiring ILC
    charters.
        At the outset, I want to commend the chairman and the
    gentleman from Ohio, Mr. Gillmor, who both worked tirelessly
    over the past several years to craft legislation on this
    complex issue.
        Today's hearing will hopefully help us to better understand
    ILCs and the regulatory framework that surrounds the ILC
    charter. As ILCs have grown in size, number, and complexity,
    several supervisory and policy questions have arisen, including
    whether current regulatory structure for overseeing ILCs is
    adequate.
        Insured ILCs are subject to State banking supervision and
    FDIC oversight as State, non-member banks. Nonetheless, owners
    of ILCs do not have to be bank holding companies subject to the
    Federal Reserve's consolidated supervisory authority.
        In the absence of Federal Reserve's supervision of ILC
    holding companies, the FDIC has employed what some call a bank-
    centric supervisory approach that primarily focuses on
    isolating the insured institution from potential risk posed by
    holding companies and affiliates, rather than assessing these
    potential risks systematically across the consolidated holding
    company structure. Some have suggested that this regulatory
    regime does not provide sufficient protection against the
    potential risk that parent companies and non-banking affiliates
    may pose to the safety and soundness of ILCs.
        Another matter of concern about ILCs is the extent to which
    they can mix banking and commerce through the holding company
    structure. An exemption in current banking law permits any type
    of company, including a commercial firm, to acquire an ILC in a
    handful of States. For some, this is the crux of the issue.
        Certainly the separation of banking and commerce will be
    discussed in today's hearing. There is also likely to be a
    debate over the fairness of excluding some commercial firms
    from owning or controlling ILCs when other similarly situated
    commercial entities already own them.
        Once again, I want to thank Chairman Frank and Ranking
    Member Gillmor for their work on this important issue, and look
    forward to hearing from our witnesses today on their views on
    the legislation before us.
        The Chairman. I will now recognize for 5 minutes one of our
    members who has been most active in this, the gentleman from
    Georgia, Mr. Marshall. And I will exercise my option to go to
    15 minutes. The gentleman from Alabama may, if he wishes to, as
    well. So Mr. Marshall is recognized for 5 minutes.
        Mr. Marshall. Thank you, Mr. Chairman. I don't believe I'll
    need 5 minutes. I appreciate the Chair recognizing me, and
    giving me an opportunity to say a few words on this particular
    subject.
        It's kind of interesting. The first major problem we had in
    this country with mixing business and commerce resulted in
    legislation back in 1838 in New York and Georgia. Georgia
    actually took the lead in 1838 in forcing the separation of
    banking and commerce.
        We've had other instances during our Nation's history where
    we inadvisably mixed the two. I shudder to think what kind of
    consequences we might have had had we not had those kinds of
    rules and we saw the collapses of entities like WorldCom,
    Enron, etc.
        It just seems to me that we are in a very poor position to
    understand all of the complexities of the typical business
    operation in today's world and appreciate fully the risks
    associated with mixing those complex business operations with
    banking. It's tough enough for us just to regulate our banks
    without mixing--attempting to additionally understand all the
    complexities associated with some of our current financial
    operations.
        That said, clearly we have to grandfather, and it seems to
    me that the grandfathering provisions we should consider
    wouldn't simply stop at those ILCs that have been authorized
    thus far, but might consider those ILC applications that have
    been submitted in reliance upon the performance of the board
    with regard to granting ILCs because there are a number of
    entities that have legitimately gone out and relied upon the
    expectation that their ILC application will be approved, to
    their detriment if in fact this legislation is successful, and
    the cutoff is actually acquiring an ILC before the legislation
    is approved.
        I do think that no further ILCs should be approved pending
    our consideration of this legislation. And then I'll simply add
    that there's a parallel here, it seems to me, between this
    issue and the question of whether or not banks should own real
    estate companies and other ventures that banks are sometimes
    interested in.
        It seems to me that the banking industry, which is
    interested in not having commerce compete with banks through
    ILCs, should acknowledge that in fact banks should not be
    competing with commerce through business ventures like real
    estate, etc.
        And I think perhaps, Mr. Chairman, if the chairman will
    move in that direction, it's something that we ought to
    consider. I appreciate the opportunity to say a few words, and
    I yield back, Mr. Chairman.
        The Chairman. I now am pleased to recognize the coauthor of
    this bill, the ranking Republican on the Financial Institutions
    and Consumer Credit Subcommittee, the gentleman from Ohio, Mr.
    Gillmor, for 5 minutes.
        Mr. Gillmor. Thank you very much, Mr. Chairman, and let me
    also say that I have appreciated the opportunity over the past
    three Congresses to work with you on this issue.
        We have been successful in the House; our amendment has
    passed two Congresses in a row. It didn't make it through the
    Senate, but I think that probably the third time is the charm,
    and I think we may get a different result in the Senate this
    time and get legislation to the President's desk.
        I also want to commend Chairman Bair and the rest of the
    FDIC Board for their work on this issue. I want to thank all of
    our bank regulators for recognizing that the issue of the
    future of ILCs is a question that Congress should address. It
    is good and effective regulation that's the first line of
    defense in protecting the safety and soundness of our financial
    systems.
        The principle here is real simple; it's the separation of
    banking and commerce. And financial systems which have not
    followed that principle have had a number of problems and, in
    fact, have had a number of crises because of it.
        The United States codified this principle after the
    problems in the 1920's and the Great Depression. Over the last
    several decades, loopholes and exemptions in bank law have
    gradually been closed. In 1999, during consideration of Gramm-
    Leach-Bliley, Congress eliminated the unitary thrift loophole,
    and now it's time to close the ILC exception, which allows for
    full service banking by commercial firms.
        This is a kind of historical accident, and frankly it
    wasn't much of a problem when there were only a few out there
    in existence, but what has happened is that a number of
    commercial and industrial firms have discovered this loophole,
    are applying for charters, and are going to try to drive a
    train right through the loophole unless Congress acts
    responsibly to close that loophole.
        The bill that we've introduced, H.R. 698, would bolster the
    authority of the FDIC, limit the business activities of certain
    ILCs already in existence, and most importantly establish a
    cutoff date for new, commercially owned ILCs. Today we have
    approximately 120 cosponsors on the bill, and it's my hope that
    this bipartisan legislation will receive consideration in the
    committee in the near future and on the House Floor shortly
    thereafter.
        And Mr. Chairman, I would ask that the following materials
    be submitted for the record: H.R. 698 support letters written
    by the Realtors, by the ICBA, by ACB, and by the ABA. Also,
    submitted testimony by former Congressman Tom Bliley on behalf
    of the Sound Banking Coalition, and a letter of support from
    the Coalition. And I would also ask unanimous consent to enter
    into the record a March 2007 GAO report which details
    suggestions for collaboration among the consolidated
    regulators.
        [The GAO report referenced above (GAO-07-154) is available
    from the Government Accountability Office--www.gao.gov.]
        The Chairman. Without objection, it is so ordered.
        And now, on the unanimous consent--because I mentioned
    before, we've been joined here at the podium by a former
    colleague, our colleague from Utah, and he does represent a
    State where these are very important, so I would ask unanimous
    consent that the gentleman from Utah be allowed to participate
    in the hearing today.
        I thank the ranking member. It is important that we get the
    diversity of views.
        I will now recognize the chairwoman of the Financial
    Institutions and Consumer Credit Subcommittee, but I also want
    to explain. In about 5 minutes, I will be going around the
    corner to testify on the issue of fishing safety. The City of
    New Bedford, which I represent, is the leading fishing port in
    the country and we've had some safety issues. So I will be
    abstaining myself for a few minutes, but I will be back. We do
    appreciate--and I mentioned some of the regulators, Mr. Reich,
    it is very helpful to us to have had the cooperation of all the
    regulators in this as we have worked together on this
    operation, and we appreciate that, and the SEC as well.
        The gentlewoman from New York is now recognized for 5
    minutes.
        Mrs. Maloney. Thank you, Mr. Chairman. I appreciate your
    holding this hearing to discuss a bill that you and Mr. Gillmor
    have worked so hard on, and I join Mr. Gillmor in hoping that
    the third time is a charm. As he mentioned, there is a strong
    cross-section of support for this bill.
        And in the bill, this committee has struggled to balance
    the need for the financial services that ILCs can provide with
    the primary imperative to preserve the safety and soundness of
    the banking system. This bill, in my view, has largely
    succeeded in doing that.
        I am particularly sensitive to this issue since the savings
    and loan crisis, the bailout of the savings and loans crisis,
    was really the first issue that I voted on when I came to
    Congress, so I am keenly attuned to safety and soundness
    issues, and I hope we won't confront that again.
        For the past year, the debate over ILCs has been largely
    shaped by the application of big commercial concerns and major
    auto companies--their push to own ILCs. Many members felt that
    these large companies were exploiting a loophole in Federal
    banking laws to merge commerce and banking, a combination that
    traditionally has been tightly restricted in the United States.
        Last year, the Government Accountability Office issued a
    report specifically addressing these type of applications,
    saying that allowing commercial firms to own ILCs would ``pose
    unnecessary risk,'' to the Federal Government's deposit
    insurance funds. Though the FDIC does have authority over
    insured ILCs, the GAO concluded that the fact that this
    authority does not explicitly extend to ILC holding companies,
    and therefore is less extensive than the authority that the
    consolidated supervisors have over banks and thrift holding
    companies, means that from a regulatory standpoint these ILCs,
    in their opinion, pose more risk of loss to the bank insurance
    fund than other insured depository institutions operating in a
    holding company.
        In the wake of the GAO report, the Federal Reserve,
    including former Federal Reserve System Chairman Alan Greenspan
    and current Chairman Ben Bernanke, call for changes that would
    extend the regulations that apply to banks and bank holding
    companies to the ILCs and the companies that own them.
        The need for new legislation arises in large part because
    of the change in the ILC industry over the past 20 years. ILCs
    were created in 1910 as limited purpose institutions to allow
    workers for big companies to get credit when they couldn't
    otherwise get loans. But according to the GAO report, ILC
    assets grew more than 3,900 percent between 1987 and 2006 to
    more than $155 billion, up from $3.8 billion.
        ILCs also changed their character from small, community-
    based entities to large, company-based ones. From 1987 to 2006,
    the number of ILCs actually declined 42 percent, dropping to 61
    from 106. As of March 2006, 9 of the country's ILCs were among
    the 271 financial institutions in the United States that hold
    more than $3 billion in assets. Six ILCs own more than 80
    percent of the assets in the ILC industry with more than $125
    billion in assets and $68 billion in FDIC-insured deposits.
        Large ILCs divide between those that are owned by financial
    companies, subject to functional regulation by the SEC, such as
    Merrill and Morgan Stanley, and those that are owned by
    commercial firms, such as Target and GE. The bill very sensibly
    treats them differently and includes limits on activities to
    non-grandfathered entities to make sure that this distinction
    is preserved. I support this distinction but only to the extent
    that it is squared off soundly with safety and soundness, which
    is first on the agenda for this committee.
        I look forward to the testimony. I see that Sheila Bair is
    back before us again; we have kept her very busy in this
    Congress. I look forward to all of the testimony. Thank you.
        Mr. Scott. [presiding] Thank you. The gentleman from
    California, Mr. Royce, is recognized for 3 minutes.
        Mr. Royce. Thank you, Mr. Chairman. Thank you very much for
    holding this hearing as well, and I want to thank our witnesses
    today for their testimony.
        It has been mentioned that ILCs have been in existence in
    this country for, oh, I guess, about a hundred years. And it's
    very, very recently, I think, that the charter has garnered a
    great deal of attention. I encourage an open and honest debate
    on this, but I believe some of the criticisms of ILCs are
    misguided.
        The amount of regulatory authority over the relationship
    between the ILC and their parent company continues to be a
    point of criticism for those who are opposed to the existence
    of ILCs, and some have expressed concern that an ILC might be
    used to subsidize a parent's cost to capital. Others have
    suggested that the ILC regulatory structure, in their view, is
    deficient because some ILC parents are not subject to
    supervision at the holding company level.
        Well, just the beginning point I'd like to lay out is that
    industrial loan companies are regulated in a similar manner to
    all other federally insured depository institutions. They are
    subject to the same minimum capital standards, and subject to
    the same prompt corrective action provisions as every other
    bank we oversee in this committee. They must adhere to sections
    23A and 23B of the Federal Reserve Act, just as all other FDIC-
    insured depository institutions do.
        And as you know, these two provisions in the Federal
    Reserve Act subject all ILCs to very strict rules when it comes
    to relationships with any of their affiliates. Just to go down
    the rules very quickly: an ILC's total covered transactions
    with any affiliate cannot exceed 10 percent of the bank's
    capital; the ILC's total covered transaction with all
    affiliates combined cannot exceed 20 percent of the bank's
    capital; and with few limited exceptions, covered transactions
    must be fully secured with qualifying capital, and an ILC
    cannot purchase a low qualifying asset from an affiliate.
        In addition, an ILC must deal with an affiliate on market
    or arm's length's term. It cannot, as a fiduciary, purchase
    securities or other assets from an affiliate unless permitted
    by statute or court order and the ILC cannot purchase
    securities while an affiliate is a principal underwriter for
    those securities. Neither the ILC nor its affiliate may
    purchase any advertisement or make any agreement stating or
    suggesting that the ILC shall in any way be liable for the
    obligations of the affiliate.
        So that's the law. That's the current law. And in closing,
    the bill put forth today does nothing more than shield
    incumbent banking institutions, in my view, from competition.
    While I welcome the discussion on the fate of future industrial
    loan companies, I am concerned this bill could have some
    unintended consequences, which could have adverse impacts on
    the financial services industry and the economy as a whole.
    Industrial loan companies have proven their ability to create
    more competition in the industries, resulting in better prices
    and services for consumers in this country.
        Mr. Chairman, thank you again for holding this hearing, and
    I look forward to hearing from our witnesses.
        Mr. Scott. Thank you. The gentlelady from California, Ms.
    Waters.
        Ms. Waters. Thank you very much. Good morning ladies and
    gentlemen. I want to thank Chairman Frank and Ranking Member
    Bachus for holding today's hearing on H.R. 698, the Industrial
    Bank Holding Company Act of 2007.
        Industrial loan companies, that is ILCs, state-chartered,
    FDIC-insured banks, were first established early in the 20th
    century to make small loans to industrial workers. Today's
    ILCs, which are supervised to some extent by the FDIC as well
    as by the chartering State, have grown dramatically in number
    and size and scope of activity. From 1997 to 2006, the assets
    held by Utah ILCs increased nearly 500 percent, from $25
    billion to $150 billion, and the deposits held by Utah ILCs
    increased by more than 800 percent, from $11.9 billion to $107
    billion.
        A special exemption in current law, however, permits any
    type of company, including a commercial or retail firm to
    acquire an ILC in a handful of States, principally Utah,
    California, and Nevada, and to avoid the activity restrictions
    and supervisory requirements imposed on bank holding companies
    under the Federal Bank Holding Company Act.
        ILCs were mostly small, local institutions that had limited
    deposit taking and lending powers until 1997 when Utah changed
    this law to permit Utah-chartered ILCs to call themselves banks
    and exercise the same powers as state-chartered commercial
    banks, resulting in the stampede of ILCs. Thus, Utah-chartered
    ILCs now may engage in any type of lending activity. The ILC
    charter is also a way for companies to avoid the activity
    restrictions and consolidated supervisory capital, managerial,
    and community reinvestment act requirements imposed on bank
    holding companies under the Bank Holding Act.
        CRA has been an effective tool to require banks to make
    investments in low- and moderate-income communities. So should
    ILCs be subject to CRA? In 1997, the number of Utah ILCs had
    tripled and now there are more than 30 ILCs chartered in Utah,
    including a number that are owned by commercial companies such
    as General Electric, BMW, Pitney Bowes, and Sears. Home Depot
    is seeking to acquire an existing ILC.
        The largest ILC at the time of the exemption adopted in
    1987 had assets of less than $400 million. The largest ILC
    today has more than $62 billion in assets and $54 billion in
    deposits, making it the 12th largest insured bank in the United
    States by deposits.
        Importantly, the ILC exemption does not limit the
    chartering of new ILCs. Utah and other States that are
    grandfathered by the exemption may continue to grant new ILC
    charters without limit.
        Congress maintains the separation of banking and commerce
    and reaffirmed this policy in the Gramm-Leach-Bliley Act of
    1999, when it closed the unitary thrift loophole and authorized
    banks to affiliate only with companies that are generally
    engaged in financial activities.
        Congress determined in the GLB Act that with regard to
    financial affiliations, a bank holding company could only
    affiliate with a full service securities or insurance firm if
    the bank holding company held all its subsidiary depository
    institutions well-capitalized and well-managed in its
    subsidiary depository institutions, maintain at least a
    satisfactory CRA rating.
        The ILC exception disadvantages bank holding companies and
    undermines these requirements by allowing some financial firms
    to operate federally insured ILCs without meeting these
    requirements. The parent companies of exempt ILCs are not
    subject to consolidated supervision under the Bank Holding
    Company Act. For this reason, the GAO concluded that ILCs may
    pose a greater risk to the deposit insurance funds than banks
    operating within the bank holding company structure.
        Since 1956, consolidated supervision has been a fundamental
    component of bank supervision in the United States. It provides
    the board with both the ability to understand the financial
    strength and risk of the overall organization and the authority
    to address significant management, operational capital, and
    other deficiencies within the overall organization before these
    deficiencies pose a danger to a subsidiary bank in the Federal
    safety net.
        The FDIC itself has acknowledged that it does not have the
    same supervisory, capital, and enforcement authority with
    respect to the holding companies of an ILC that the Board has
    with respect to bank holding companies. The ILC exemption also
    allows foreign banks to enter the banking business in the
    United States without meeting the requirements in the Bank
    Holding Company Act that the bank be subject to comprehensive
    consolidated supervision in its home country.
        I believe this loophole must also be addressed. Therefore,
    I am pleased to hear from our witnesses today on ILCs, and I
    yield back the balance of my time.
        Mr. Scott. Thank you, Ms. Waters. We'll get right to the
    witnesses. Just one point I wanted to mention, BMW and Target
    have ILCs and I think that brings up 2 questions that might be
    significant here this morning. Number one, how do we tell the
    average American why Ford and Home Depot should not be able to
    have what these other companies have? And number two, what
    studies have been done or what evidence or information do we
    have that BMW or Target are threatening to destroy our system
    of banking?
        So with those questions, we'll get right to our witnesses.
    We'll start with Chairman Sheila Bair of the Federal Deposit
    Insurance Corporation. Thank you.

     STATEMENT OF THE HONORABLE SHEILA C. BAIR, CHAIRMAN, FEDERAL
                     DEPOSIT INSURANCE CORPORATION

        Ms. Bair. Thank you very much. Members of the committee, I
    appreciate the opportunity to testify on behalf of the Federal
    Deposit Insurance Corporation concerning Industrial Loan
    Companies. The FDIC strongly supports efforts to provide
    statutory guidance on the key issues regarding the ILC charter,
    especially the issue of commercial ownership.
        Many of the issues surrounding ILC ownership involve
    important public policy considerations that are best left to
    Congress for resolution. This hearing and congressional
    discussions regarding possible legislative solutions are
    encouraging developments that hopefully will lead to the
    resolution of key ILC-related issues by the end of the year.
        ILCs have existed for almost 100 years, and for most of
    that time they operated similar to finance companies, providing
    loans to wage earners who could not otherwise obtain credit.
    ILCs have proven to be a strong, responsible part of our
    Nation's banking system and have offered innovative approaches
    to banking. Many have contributed significantly to community
    reinvestment and development. For example, a nonprofit
    community development corporation operates an ILC designed for
    the express purpose of serving the credit needs of people in
    east Los Angeles. Other ILCs serve customers who have not
    traditionally been served by other types of financial
    institutions such as providing credit for truck drivers to buy
    fuel far from home. The record to date demonstrates that the
    overall industry has operated in a safe and sound manner and
    that the FDIC has been a vigilant, responsible supervisor of
    that industry.
        ILCs represent a very small part of the overall banking
    industry, composing less than 1 percent of the almost 8,700
    insured depository institutions in this country, and only 1.8
    percent of the assets. Of the 58 existing ILCs, 43 are either
    widely held or controlled by a parent company whose business is
    primarily financial in nature. These ILCs represent
    approximately 85 percent of ILC assets and 89 percent of ILC
    deposits. The remaining 15 ILCs are associated with parent
    companies that may be considered non-financial.
        There has been significant growth in the ILC industry since
    the passage of CEBA in 1987 when the industry had $4.2 billion
    in assets. Over the years, total ILC industry assets have grown
    to $212.9 billion. Most of the growth has occurred since 1996
    and has been concentrated in a small number of financial
    services firms.
        In addition to the growth in the ILC industry, the
    character of ILCs has been changing. In the current business
    environment, many ILCs tend to be more complex and differ
    substantially from their original consumer lending focus. In
    many instances these ILCs serve a particular lending, funding,
    or processing function within a larger organization or directly
    support one or more affiliate's commercial activities.
        Under this kind of ownership model, consolidated
    supervision may not be present and the current supervisory
    infrastructure may not provide sufficient safeguards to address
    safety and soundness issues and risks to the Deposit Insurance
    Fund.
        To address these developing concerns, the FDIC has taken a
    number of actions regarding ILCs since this committee's last
    hearing on the topic. In July 2006, the FDIC Board of Directors
    adopted a 6-month moratorium on all applications for deposit
    insurance and change in control notices for ILCs.
        During this pause in processing ILC applications, the FDIC
    sought public comment on 12 specific questions that focused on
    developments in the industry, the supervisory framework, and
    the issues surrounding commercial ownership. In response, the
    FDIC received more than 12,600 comment letters.
        The 6-month moratorium allowed the FDIC to evaluate public
    and industry comments, assess developments in the industry, and
    consider how to best supply the Corporation's statutory powers
    for oversight of these charters. It is clear that the most
    significant concern regarding ILCs is their ownership by
    companies engaged in non-financial activities.
        Based on the FDIC's analysis, the FDIC Board recently voted
    to extend the moratorium for an additional year. Under the
    extended moratorium, the FDIC will not take any action on any
    application for deposit insurance or any change in control
    notice for any ILC that would be controlled by a company
    primarily engaged in commercial activities.
        Although commercially owned ILCs have not resulted in
    serious problems to date, the FDIC will continue to closely
    monitor existing ILCs that currently are controlled by
    commercial companies in light of the concerns that have been
    expressed.
        The moratorium extension does not apply to ILCs that would
    be controlled by a company engaged only in financial activities
    or that would not be part of a holding company structure.
        In addition to providing the FDIC with time to examine the
    appropriate supervisory structure for the changing ILC
    industry, extending the moratorium provides additional time for
    Congress to consider legislation. Although the FDIC is not
    endorsing any particular legislative approach, H.R. 698 does
    provide a workable framework for the supervision of ILC holding
    companies.
        In closing, ILCs have a good safety and soundness record to
    date and have proven to be a strong, responsible part of our
    Nation's banking system. Yet the types and number of ILC
    applications have evolved in recent years and these changes do
    pose potential risks that deserve further study and raise
    important public policy issues.
        The FDIC has a responsibility to consider applications
    under existing statutory criteria and make decisions. While it
    is appropriate to proceed cautiously, the FDIC cannot defer
    action on these matters indefinitely.
        The current statutory exemption providing for the ILC
    charter is quite broad. By providing clear parameters to the
    scope of the charter, Congress can eliminate much of the
    uncertainty and controversy surrounding it. Resolving these
    issues will enhance the value of the ILC charter going forward.
        The FDIC looks forward to working with Congress in the
    coming months as you work to bring these matters to closure.
    This concludes my statements, and I will be happy to answer any
    questions the committee might have.
        Thank you, Mr. Chairman.
        [The prepared statement of Chairman Bair can be found on
    page 52 of the appendix.]
        Mr. Scott. Thank you. Thank you very much. Now we'll hear
    from Mr. Donald Kohn, Vice Chairman of the Board of Governors
    of the Federal Reserve System.

    STATEMENT OF DONALD L. KOHN, VICE CHAIRMAN, BOARD OF GOVERNORS
                     OF THE FEDERAL RESERVE SYSTEM

        Mr. Kohn. Thank you. I am pleased to be here today to
    provide the Federal Reserve Board's views on Industrial Loan
    Companies and H.R. 698. The Board commends the committee for
    considering the important public policy issues raised by the
    special exemption for ILCs.
        ILCs are state-chartered and federally insured banks that
    have virtually all the powers and privileges of other insured
    banks. They operate under a special exception to the Federal
    Bank Holding Company Act that allows any type of company to
    acquire an ILC and avoid the restrictions Congress has
    established to separate banking and commerce. The exception
    also creates a special safety and soundness risk by allowing a
    company or foreign bank that is not subject to supervision on a
    consolidated or group-wide basis to acquire an insured bank.
        By its nature, the exception creates an unlevel playing
    field that gives a growing number of firms a competitive edge
    over other community-based, regional, or diversified
    organizations that own an insured bank. When the special
    exception was adopted in 1987, most ILCs were small, locally
    owned institutions with limited powers. The size and activities
    of ILCs, however, have expanded significantly in recent years.
    Today many are controlled by large, internationally active
    firms.
        Importantly, there is no limit on the number of ILCs that a
    handful of grandfathered States may charter or on the size that
    these institutions may attain. If left unchecked, the growth of
    ILCs threatens to undermine the policies that Congress has
    established governing the separation of banking and commerce
    and the proper supervisory framework for companies that own a
    federally insured bank.
        That is why we believe congressional action is needed. Only
    Congress can address the full range of issues created by the
    ILC exception in a comprehensive and equitable manner. H.R. 698
    takes an important step by granting the FDIC new consolidated
    supervisory authority for the corporate owners of ILCs that are
    not already supervised by a Federal agency.
        H.R. 698, however, would not fully address the other
    important regulatory and competitive issues raised by the
    exception. For example, the bill would allow additional firms
    to acquire an ILC and derive up to 15 percent of their revenues
    from commercial activities.
        This commercial basket is sizeable and at odds with the
    decisions made by Congress in the Gramm-Leach-Bliley Act to
    maintain the separation of banking and commerce. The Board
    believes that Congress should consider carefully the costs and
    benefits of changing the Nation's policies concerning the
    mixing of banking and commerce in a comprehensive way rather
    than to allow this policy to be eroded through the exploitation
    of a loophole.
        H.R. 698, as introduced, also would allow the owners of
    ILCs to avoid the CRA, capital, and managerial requirements
    that apply to financial holding companies, and it would allow
    foreign banks that are not subject to consolidated supervision
    in their home country to acquire an FDIC-insured ILC.
        These advantages granted, ILC owners would perpetuate
    competitive imbalances, provide incentives for firms to
    continue to exploit the exception, and undermine the prudential
    framework established for all other domestic and foreign firms
    that own an insured bank. The Board believes the best way to
    address these issues is to close the ILC loophole going
    forward. This approach recognizes the simple fact that ILCs are
    insured banks. It would prohibit additional firms engaged in
    commercial activities from acquiring ILCs, and would require
    that any new financial owner of an ILC operate under the same
    activity restrictions and regulatory framework that apply to
    bank holding companies.
        For reasons of fairness, the Board also supports
    grandfathering those firms that currently own an ILC, subject
    to appropriate restrictions. This mirrors the approach that
    Congress took in 1970, 1987, and 1999, when earlier banking
    loopholes were used in unintended and potentially damaging
    ways.
        Thank you for the opportunity to testify on behalf of the
    Board. We would be pleased to continue to work with the
    committee in developing and improving legislation that
    addresses the very important public policy issues raised by the
    ILC exception.
        [The prepared statement of Mr. Kohn can be found on page
    121 of the appendix.]
        Mr. Scott. Thank you very much, Mr. Kohn. Now we will hear
    from the Hon. John Reich, who is the Director of the Office of
    Thrift Supervision.

     STATEMENT OF THE HONORABLE JOHN M. REICH, DIRECTOR, OFFICE OF
                           THRIFT SUPERVISION

        Mr. Reich. Thank you. Good morning, Mr. Chairman, Ranking
    Member Bachus, and members of the committee. I appreciate the
    opportunity to testify on H.R. 698, introduced by Chairman
    Frank and Mr. Gillmor to address the activities, ownership, and
    control of Industrial Loan Companies. I applaud your leadership
    and the work of other members of the committee who cosponsored
    this legislation.
        H.R. 698 addresses several pending policy issues with
    respect to the key areas of the permissible activities and
    oversight of companies that own or control or seek to acquire
    or control an ILC. For our part, at the Office of Thrift
    Supervision, we appreciate the recognition in H.R. 698 of the
    important and continuing role that the OTS has in our oversight
    and supervision of several of the largest companies that
    currently own and control ILCs.
        OTS has statutory authority for the consolidated
    supervision of General Electric, Merrill Lynch, Morgan Stanley,
    Lehman Brothers, American Express, USAA, Bell Financial, and
    General Motors. The eight ILCs within these OTS-regulated
    savings and loan holding company structures control about two-
    thirds of the ILC assets in the country as of December 31,
    2006.
        Functional regulation and consolidated regulatory oversight
    have been important considerations by the committee. H.R. 698
    maintains a clear focus on the enterprise-wide safety and
    soundness of holding companies that own or control institutions
    with access to the Federal safety net.
        The bill also is sensitive to the potential exposure of the
    Federal safety net by a company that owns or controls an ILC by
    focusing on the interrelationships within an ILC holding
    company and how the ILC is integrated within the structure.
    Effective oversight of holding companies requires adequate
    regulatory controls to monitor and intervene when necessary
    without unduly interfering with the ongoing business operation
    and activities of an enterprise. It's a balance, requiring
    judgement based on expertise in a wide range of areas.
        As detailed in my written statement, the OTS focuses and
    tailors its holding company supervision based on the complexity
    of the structure and the level of risk inherent in the holding
    company enterprise. Comprehensive holding company supervision
    is a combination of ongoing offsite monitoring, targeted
    reviews of key businesses or functions, and regular onsite
    examinations.
        This approach permits OTS to understand the business and
    its inherent risks as well as the affiliations and the
    transactions of the enterprise. It also enables us to assess
    the potential impact of the broader economy, the insured
    depository institution, and the potential exposure to the
    Federal safety net.
        As currently drafted, H.R. 698 preserves OTS's statutory
    oversight of savings and loan holding companies that own or
    control ILCs, promotes functional regulation while promoting
    consolidated regulatory oversight and it maintains a risk-based
    focus on companies owning or controlling institutions with
    access to the Federal safety net. For these reasons, we support
    H.R. 698 as introduced by Chairman Frank, Congressman Gillmor,
    and other sponsors on the committee.
        Thank you, and I'll be happy to take questions.
        [The prepared statement of Director Reich can be found on
    page 183 of the appendix.]
        The Chairman. Thank you, and next we have Mr. Robert Colby,
    who is the Deputy Director of the Division of Market Regulation
    of the SEC. Mr. Colby, thank you. Please go ahead.

    STATEMENT OF ROBERT COLBY, DEPUTY DIRECTOR, MARKET REGULATION,
                   SECURITIES AND EXCHANGE COMMISSION

        Mr. Colby. Thank you. I'm very pleased to have the
    opportunity this morning to describe the Securities and
    Exchange Commission's program for supervising U.S. securities
    firms on a consolidated basis and how this provides protection
    to all regulated entities in the consolidated group including
    industrial loan companies that are the topic of this morning's
    hearing.
        And I appreciate the discussions we've had with Chairman
    Frank and his staff about possible amendments to H.R. 698 that
    would avoid subjecting U.S. securities firms already supervised
    by the Commission under comprehensive and effective program to
    a second and duplicative consolidated supervision regime.
        The Commission currently supervises five of the major U.S.
    securities firms on a consolidated or group-wide basis. For
    such firms, referred to as Consolidated Supervised Entities, or
    CSEs, the Commission oversees not only the U.S.-registered
    broker dealer, but also the holding company and all affiliates
    on a consolidated basis. These affiliates also include other
    regulated entities such as foreign registered broker dealers
    and banks as well as unregulated entities such as derivatives
    dealers.
        Four of the CSEs, Goldman Sachs, Lehman Brothers, Merrill
    Lynch, and Morgan Stanley own ILCs that account for 1.1-, .7-,
    7.2-, and 1.2 percent of their consolidated assets
    respectively. Three of the firms, Lehman Brothers, Merrill
    Lynch, and Morgan Stanley also own thrifts that account for
    3.8-, 1.7-, and less than one one-hundredth of one percent of
    their consolidated assets respectively.
        The CSE program provides consolidated supervision to
    investment bank holding companies that's designed to be broadly
    consistent with the Federal Reserve oversight of bank holding
    companies. This prudential program is crafted to allow the
    Commission to monitor for and act quickly in response to
    financial or operational weakness in a CSE holding company or
    its unregulated affiliates that might place regulated entities,
    including U.S. and foreign registered investment banks and
    broker dealers or the broader financial system at risk.
        When a CSE firm has a regulated entity in the consolidated
    group that is subject to oversight by another functional
    regulator, the Commission defers to that functional regulator
    as the supervisor of the regulated affiliate. We also share
    relevant information concerning the holding company with our
    fellow regulators both domestically and internationally. The
    Commission's CSE program has been recognized as equivalent to
    that of other internationally recognized supervisors, including
    the U.S. Federal Reserve, for purposes of the European Union's
    Financial Conglomerate Directive.
        While maintaining broad consistency with the Federal
    Reserve holding company oversight, the CSE program is tailored
    to reflect two fundamental differences between investment bank
    and commercial bank holding companies. First, the CSE program
    reflects the reliance of securities firms on market-to-market
    accounting as a critical risk and governance control. Second,
    the design of the CSE program reflects the critical importance
    of maintaining adequate liquidity in all market environments
    for holding companies that do not have access to the external
    liquidity provider.
        The Commission's concern regarding the need for group-wide
    risk monitoring, which developed over the course of a number of
    years beginning with the Drexel Burnham liquidation in 1990,
    was paralleled by the European Union's Financial Conglomerate
    Directive, which essentially requires non-EU financial
    institutions doing business in Europe to be supervised on a
    consolidated basis.
        In response, in 2004, the Commission crafted a new,
    comprehensive consolidated supervision program that was
    intended to protect all regulated entities within a group,
    including broker-dealers. The rule restricted CSE eligibility
    to groups with large and well-capitalized broker-dealers. The
    Commission believed that it could only supervise on a
    consolidated basis those firms engaged primarily in securities
    business and not holding companies that are affiliated with the
    broker-dealer as an incident to their primary business
    activities. To this end, the rule effectively requires that the
    principal broker-dealer have a tentative net capital of at
    least $5 billion.
        The CSE program has five principal components. First, CSE
    holding companies are required to maintain and document a
    system of internal controls that must be approved by the
    Commission at the time of initial application. Second, before
    approval, and on an ongoing basis, the Commission examines the
    implementation of these controls. Third, CSEs are monitored
    continuously for financial or operational weakness that might
    put at risk regulated entities within the group or the broader
    financial system. Fourth, CSEs are required to compute a
    capital adequacy measure at the holding company level that's
    consistent with the Basel standard. Finally, CSEs are required
    to maintain significant pools of liquidity at the holding
    company where these are available for use in any regulated or
    unregulated entity within the group without regulatory
    restriction.
        I'd like to point out that these five principal components
    are implemented in conjunction with the authority to protect
    regulated entities within the groups. When potential weaknesses
    are identified, the Commission has broad discretion under our
    rules to respond. For example, the Commission could mandate
    changes to a firm's risk management policies and procedures,
    effectively require an increase in the amount of regulatory
    capital maintained at the holding company, or require an
    expansion of the pool of highly liquid assets held at the
    parent.
        These powers are not theoretical abstractions. All three of
    these steps have been taken at various CSEs over the past 2
    years.
        This program of consolidated supervision reduces the
    likelihood that weakness within the holding company or an
    unregulated affiliate will place a regulated entity including
    the ILC or the broader financial system at risk. My written
    testimony describes in greater detail the means by which we
    monitor the financial operational condition of the holding
    company.
        In conclusion, while we generally support the goals of H.R.
    698, the bill as introduced would subject the CSEs that are
    already highly regulated under the Commission's consolidated
    supervised program to an additional level of duplicative and
    burdensome holding company oversight. We believe the bill
    should be amended to recognize the demonstrated ability of the
    Commission to comprehensively supervise the consolidated groups
    that are overwhelmingly in the securities business, especially
    given the heightened focus on these issues in an area of
    increased global competitiveness.
        Because the Commission has established a successful
    consolidated supervision program based on its unique expertise
    in overseeing securities firms, the CSE should be carved out of
    this legislation in the same way as the holding companies
    supervised by the Federal Reserve and OTS.
        Thank you again for the opportunity to speak on behalf of
    the Commission.
        [The prepared statement of Mr. Colby can be found on page
    71 of the appendix.]
        The Chairman. Thank you, Mr. Colby. And finally I want to
    again welcome Commissioner Leary from the Department of
    Financial Institutions, State of Utah. He has been very
    accommodating in appearing before the committee and helping us
    in our deliberations. Commissioner, thank you, and please
    proceed.

       STATEMENT OF G. EDWARD LEARY, COMMISSIONER, DEPARTMENT OF
                 FINANCIAL INSTITUTIONS, STATE OF UTAH

        Mr. Leary. Good morning. Thank you, Chairman Frank, Ranking
    Member Bachus, and members of the committee. Thank you for the
    opportunity to share Utah's view on H.R. 698, the Industrial
    Bank Holding Company Act of 2007.
        I am Edward Leary, commissioner of financial institutions
    for the State of Utah. I have been involved with banking for 33
    years, first as a community banker, then 15 years in various
    bank examiner positions with the Utah department and for the
    last 15 years as its commissioner.
        The Utah Department of Financial Institutions views H.R.
    698 as unnecessary and an effort to restrict and restrain
    state-chartered industrial banking without a valid safety and
    soundness concern or a crisis. Utah believes there is good
    supervision and good regulatory model over the industry without
    a question of the competency of the regulators in that there
    has not been an industrial bank failure warranting this change
    in public policy.
        I believe that I am here today because of the success of
    that regulatory model, not its failure. Utah, in partnership
    with the FDIC, has built a regulatory model to which the
    financial services market has reacted favorably.
        This regulatory model is not a system of lax regulation and
    supervision or inadequate enforcement. Utah industrial banks
    are safe, sound, and appropriately regulated by both the State
    which charters them, and the FDIC, which is the relevant
    Federal regulator and deposit insurance provider.
        I am told the articulated threat which warrants passage of
    this bill is a potential threat of misuse of the charter by
    holding companies which are non-financially oriented. This bill
    seeks to remove a potential threat even before the threat has
    materialized or manifests itself.
        We should be clear. We are talking about an industry today
    that constitutes 1.8 percent of banking assets. This is not a
    systemic crisis that threatens banking.
        An analysis of the numbers as of December 31, 2006,
    developed by Utah, indicates that we hold 88 percent of all
    industrial bank assets. Based upon our knowledge of the holding
    companies, we estimate that 86 percent of Utah industrial bank
    assets would be considered held by financial entities,
    constituting 22 companies, and 14 percent by non-financial
    entities, constituting 9 companies.
        Our analysis is that 7 of Utah's industrial banks,
    representing approximately 80 percent of our assets are subject
    to consolidated Federal agency supervision at the holding
    company level. The Federal agencies we considered are: one, the
    Federal Reserve, with jurisdiction over our 2nd largest bank;
    the OTS, with jurisdiction over our largest, 3rd, and 4th
    largest banks; and the SEC, with jurisdiction over our 6th
    largest bank.
        The record of the last 18 months is that no de novo
    industrial bank charter was approved by the FDIC from November
    4, 2005, until March 20, 2007. H.R. 698 will dismantle a Utah
    industrial banking industry of 31 charters and a regulatory
    structure that has matured over 20 years with a record of safe,
    sound operations to forestall one entity from being granted a
    charter.
        This bill, with its provisions that are designed to block
    any and all conceivable ways in which a retailer may employ an
    industrial bank charter today or in the future are
    disappointingly anti-competitive and anti-consumer. The
    targeted large retailer withdrew its application with the
    application having never been accepted by the Utah department.
        H.R. 698 provisions are being justified under the text of
    preserving the prohibition against the merging of banking and
    commerce. The broad brush strokes of this bill include as
    collateral damage large financial arms of entities which have
    been in the financial arena for decades, such as Daimler
    Chrysler and Ford.
        The former submitted an application for an industrial bank
    charter in May of 2005, which was approved by my State a year
    ago. Now, under the provisions of this bill, we will not be
    allowed to proceed. This is a disappointing outcome when other
    auto lenders have a bank charter.
        The supporters of 698 present the bill as a compromise
    piece of legislation. I am challenged to determine how this
    bill is a compromise when industrial banks do not receive
    additional powers or authorities or have any of the current
    restrictions lifted, let alone given the right to issue
    commercial mal accounts as has previously been passed by this
    committee.
        As a State regulator, what is most disappointing to observe
    is that while this committee is aggressively moving H.R. 698, a
    bill which restricts and limits the one segment of state-
    chartered banking that could be identified as innovative and
    creative, Congress has not taken seriously the threat to State
    banking of the broad, Federal preemption of State laws by the
    Comptroller's office. Many State commissioners believe that
    without congressional intervention, the diminishing assets
    under State charter will eventually render the State banking
    system irrelevant.
        In conclusion, the industrial banking industry represents
    1.8 percent of total banking assets. This is not an industry
    which threatens the safety and soundness of banking. The
    regulatory model is not a parallel bank regulatory system in
    that 80 percent of Utah assets are subject to Federal agency
    oversight at the holding company level.
        Thank you for allowing me the opportunity to express my
    thoughts and for your willingness to listen to a State
    regulator.
        [The prepared statement of Mr. Leary can be found on page
    149 of the appendix.]
        The Chairman. I'm going to begin with that. Your suggestion
    that we don't pay attention to State regulators is really
    unfounded, and I vigorously disagree with your assertion that
    we are ignoring the implications for federalism of the
    preemption decision.
        Many of us in this committee last year were quite active in
    opposing that. When party control changed, frankly, and some of
    us had the opportunity to do something about it, we held off
    because of the pendency of the Wachovia decision. And, frankly,
    contrary to the suggestion you made implicitly, I think it
    would have been irresponsible for us to have jumped in while
    the Wachovia decision was pending, because there was a real
    issue there. The Supreme Court voted 5 to 3, I think, if
    Justice Thomas hadn't recused, looking at the past, it would
    have been 5 to 4. Well, a 5 to 4 decision suggested there was
    some real uncertainty. And, no, we couldn't act until we knew
    that.
        Now many of us do plan to act, and the gentlewoman from New
    York and I have had several conversations about this. I don't
    know that we--I don't think, to be honest, that we're in a
    position to have the votes to overturn that. We do plan to ask
    the Comptroller and the Office of Thrift Supervision, who are
    the ones who now have preempted, to tell us what they plan to
    do with regard to enforcement. And that includes trying to
    restore, in my judgment, some State visitation rights. So I
    just want to clear up what I think is an erroneous suggestion
    that we have been indifferent to that. And as I said, we would
    have started on it quicker, but we waited for Wachovia. We have
    had these conversations.
        Second, I just want to ask you, would you favor legislation
    that removed the restriction on the granting of ILC charters to
    only those six States that were grandfathered?
        Mr. Leary. I have been asked in numerous forums, Mr.
    Chairman, how I address that issue that only six, I believe the
    exemption granted in--
        The Chairman. No, I just asked you--no, excuse me, Mr.
    Leary. Excuse me. History isn't the fact here. I'm asking you
    as a matter of public policy if you would support our removing
    that restriction and allowing every State to do it.
        Mr. Leary. I have no problem with that, provided that the
    safety and soundness and the--
        The Chairman. Well, I have no problem with--are you in
    favor--would you support such a bill?
        Mr. Leary. I am.
        The Chairman. What about the fundamental distinction
    between banking and commerce that's in Gramm-Leach-Bliley?
    Would you support that? I say that because some advocates of
    the ILC say really that's a mistake to have that, to maintain
    that restriction. Would you maintain it or abolish it?
        Mr. Leary. I went on record last time when I was in front
    of the subcommittee saying I do not favor repeal of the Bank
    Holding Company Act, no. I'm a lifelong regulator; I believe in
    slow, measured steps towards this system. I believe what Utah
    created is a safe and sound system. I am articulating, I hope--
        The Chairman. So you would maintain the distinction between
    banking and commerce?
        Mr. Leary. I would work towards a system where this could
    be more competitive than it currently is.
        The Chairman. I don't understand that. Would you maintain
    the distinction between banking and commerce?
        Mr. Leary. I do not believe that I would.
        The Chairman. So you would do away with the distinction--
    you would do it more slowly than some others might. But you--
        Mr. Leary. I would do it, as I tried to say, in slow,
    measured steps.
        The Chairman. Okay, and I think that puts it fairly. I
    think that's a defensible and actual position with which I
    disagree. I do not think it is a defensible and actual position
    to say that we should maintain the distinction between banking
    and commerce and allow six States to be exceptions from it. You
    haven't maintained that. Others have. And I do think it's--
    people ought to understand the implications of what we are
    doing.
        Let me ask Chairwoman Bair, who has a major role in this,
    and whose administrative limbo we hope to--I notice that the
    Pope is thinking of doing away with the kind of ambiguous
    category. We should do at least the same for you.
        [Laughter]
        The Chairman. But one--look, the House is going to pass a
    bill that I believe is fairly restrictive. I also understand
    that the Senate is probably not going to pass a bill similar to
    ours. Indeed, there are days, of course, when one wonders
    whether the Senate will ever pass any bill at all on anything,
    but that's a broader set of questions.
        If we were to go to a House-Senate conference in which
    something very much like the bill the gentleman from Ohio and I
    have sponsored had passed the House, and a bill had passed the
    Senate that allowed for some things. It's no secret. The
    commissioner mentioned, for instance, the Daimler Chrysler and
    Ford situations.
        There is a GM thing, and we appreciate it, and as you know,
    when GM wanted to sell to Cerebus, we communicated that we
    thought that was a situation that could get resolved. It's not
    a secret that the Senate is probably going to do, I believe
    something, not quite as restrictive as--if the Senate were to
    pass legislation that allowed for some continuation but with
    some restriction--or let's put it this way. If you were given
    the authority, not that you asked for it, but if you were given
    the authority to grant sort of limited extensions, would you
    have the power now to enforce that? I guess that's the
    question. That if there is--there will be two questions.
        Is there a hybrid of some sort? And the gentleman from Ohio
    and I want as little of that as possible. I'm not encouraging
    it or asking for it, but I recognize that it may happen. If it
    does, it does seem to me then the one critical question will
    be, what will be the enforcement, the capability of the FDIC to
    impose these restrictions and subsequently to enforce them?
    Would you address that?
        Ms. Bair. The Fed and FDIC both agree that the current
    exception is quite broad. So for us to come in and say, certain
    categories of commercial owners can have ILCs and certain
    categories cannot, I don't see how we can do that under the
    existing framework, which is again where we think legislation
    would be very helpful. We're not taking a position about where
    to draw the line, but we think clarification would be very
    helpful. So, once Congress clarifies what those parameters are,
    yes, we would have--or we could use our existing enforcement
    authority regarding the ILC. And assuming we were given holding
    company authorities, we would be able to supervise them.
        The Chairman. And we would do that for all of the agencies.
    And I do want to say in closing, we appreciate the cooperation,
    frankly, that we've seen from all of the agencies here. And
    maybe you have--the fact that were all able to cooperate so
    well may to some extent alleviate the FSA envy that appears to
    have run through the American financial entities in which the
    lament the fact that there are so many of you and dream of
    having only one.
        Since that dream is not going to come true, we are pleased
    that you were able to show them an ability to cooperate in this
    situation.
        The gentleman from Alabama.
        Mr. Bachus. Thank you, Mr. Chairman. My first question I'll
    just ask all the regulators is, I'll start with Chairman Bair
    maybe and work across. Have ILCs, including those owned by
    commercial firms, posed safety and soundness problems to a
    greater or lesser extent than those depository institutions
    owned by traditional bank holding companies?
        Ms. Bair. No. The safety and soundness record to date is
    very comparable to that of other types of depository
    institutions. That was acknowledged in the GAO report. I would
    also add that actually the commercially-owned ILCs have the
    better safety and soundness record. Among commercially-owned
    ILCs, as well as Utah-chartered ILCs, there has never been a
    failure.
        Mr. Bachus. Okay. Anybody?
        Mr. Kohn. No, sir. I don't think that the ILCs to date have
    posed an unusual safety and soundness issue. But as all of us
    have pointed out in our testimony, we're really at the cusp of
    a change, a wave of change, in how the ILC charter has been
    used. Some of those changes are very recent, and therefore the
    amount of deposits and assets in ILCs have grown
    extraordinarily rapidly in the last few years. And if something
    isn't done, it'll grow even more rapidly in the future.
        So, yes, this is about a potential problem.
        Mr. Bachus. Okay.
        Mr. Kohn. And the potential problem is the inadequate
    supervision and regulation of the companies that own ILCs.
        Mr. Bachus. All right. There's a notion that if commercial
    companies own ILCs, the deposit insurance fund is at risk if
    the company encounters financial difficulties. Is that true?
    And I guess as the assets grow, it becomes--
        Mr. Kohn. I think there's a history of problems spilling
    from one part of a holding company to another, even when--say,
    the insured entity in the holding company has been well-
    regulated. There are reputational risks. There are legal risks.
    Many of these ILCs and banks, for that matter, are managed on a
    very closely integrated basis with their affiliate companies.
        The companies that manage depository institutions and
    holding companies don't really differentiate between the
    depository institution, many of them, and the other entities.
    The public is looking at the consolidated entity. Therefore, it
    doesn't really differentiate, and many of the depository
    institutions rely on the affiliates for many of the services
    they use.
        So, I think there is a history of problems occurring
    outside the depository that impugn and reflect on the
    reputation of the depository itself. That's why Congress itself
    in 1957, 1970, 1987, and 1999 decided that consolidated
    regulation was the way to protect--
        Mr. Bachus. Okay. Let me--Mr. Leary, let me ask you. Has
    there ever been a case when an ILC owned by a commercial firm
    has had financial difficulty that affected the ILC?
        Mr. Leary. In our case, the two cases which you could cite,
    which would be Conseco and Tyco, both--one case, the ultimate
    parent filed bankruptcy. In the second one, the parent had
    difficulties in both case. The industrial bank component within
    that entity in one case was sold off. In the other case, they
    spun it off in an IPO and actually incurred a premium from
    that.
        So, I would not want to represent that it was not without
    lots of concerns, blood, sweat, and tears. It successfully
    passed the test, and those examples are in my testimony.
        Mr. Bachus. Okay.
        Mr. Leary. May I respond to your question on commercial
    entities?
        Mr. Bachus. Yes.
        Mr. Leary. Because I don't believe the lines are as solid
    as some would like to believe. Two of our nine nonfinancial
    entities, one of which is BMW, have already been cited. The
    other is Volkswagen. Both of those, while they are perceived in
    the United States as being commercial entities, have very large
    banking operations in Europe. So, I believe the line is not as
    strict as it is.
        And if I can beg your indulgence one step further, one of
    the others, Transportation Alliance Bank, is the one cited, I
    believe by Chairman Bair in her testimony, which has
    specifically targeted long-haul truckers and the trucking
    industry, which they believe is underserved by existing
    financial services companies. And they have targeted that
    business line and tried to provide financial services to that
    industry.
        Mr. Bachus. You know, you're talking about BMW and
    Volkswagen, I guess, are both German companies--
        Mr. Leary. Correct.
        Mr. Bachus. So they have a strong banking regulator in
    their home country. But what if it were, say, they were
    headquartered in a country that didn't have a--where they
    weren't subject to consolidated supervision in their home
    country? Would that concern you?
        Mr. Leary. We would require them to establish U.S.
    operations. And before we'd even consider the applications, it
    would be strictly reviewed. I think as we looked at, for
    example, UBS, we relied on the FDIC to look at the home country
    supervisor and supervision at that level, but we also required
    strong measures and prudential standards when we chartered UBS
    Bank in Utah.
        Mr. Bachus. I know Mr. Kohn mentioned that the ILC
    exception, however, allows a foreign bank that is not subject
    to consolidated supervision in its home country to evade this
    requirement and acquire an FDIC-insured bank with broad deposit
    taking and lending power. This gap in current law needs to be
    addressed. Would the two of you comment on that?
        Mr. Kohn. I think my testimony speaks for itself, Mr.
    Bachus. Congress passed that requirement after BCCI, which was
    a case in which there were regulated entities in the United
    States but problems overseas in a vast network of unregulated
    entities or inadequately regulated entities, that ended up
    spilling over into and onto the U.S. entities.
        So, just having a regulated entity in the United States, in
    Congress's view, and I agree with it, was not sufficient to
    protect.
        Mr. Bachus. Does this legislation set up such a protection,
    or would it still be--
        Mr. Kohn. Not as currently submitted. It does not have the
    requirement for consolidated supervision of a foreign entity.
        Mr. Bachus. So a foreign bank in a country where it doesn't
    have consolidated supervision could obtain a--
        Mr. Kohn. Could establish an ILC under the law, under the
    act as proposed, bill as proposed.
        Mr. Bachus. Okay. Thank you.
        Mrs. Maloney. [presiding] Thank you. The Chair recognizes
    herself for 5 minutes, and I raised the question with--the same
    question with Chairman Frank earlier, and he says that they are
    working with language that would require the consolidated
    supervision. So that is a positive step forward coming out of
    this hearing.
        I heard in some of the testimony that the current
    regulatory structure of the ILCs creates an uneven playing
    field within the banking industry. Could you please explain
    this further and what we can do to level this playing field?
        Ms. Bair. Well, I think the argument is that ILCs chartered
    in the States specified in CEBA are exempt from Bank Holding
    Company Act regulation. I think that is at the core of the
    regulatory playing field argument.
        It has also been argued, especially by community banks,
    that it doesn't work both ways. The commercial entities under
    the ILC exception can own banks, but banks can't do commercial
    activities, so I think those are the arguments.
        Mrs. Maloney. You outlined in your testimony, Ms. Bair, the
    regulatory tools for ILC parents being the same as for bank
    holding companies. If that was legislated into law, would that
    address this challenge?
        Ms. Bair. Yes. There are a variety of holding company
    regimes. The Fed obviously is the leading bank holding company
    regulator. The OTS has also long been involved in holding
    company supervision, and the SEC has recently crafted its own
    system of consolidated supervision, so you have a variety of
    different approaches.
        We think, as my written testimony indicates, that we would
    like powers comparable to the Fed. If you're going to make us a
    holding company supervisor, we think all three are certainly
    very good supervisors, but the Fed's authorities under the Bank
    Holding Company Act would be most desirable.
        Mr. Kohn. Congresswoman, may I comment?
        Mrs. Maloney. Surely.
        Mr. Kohn. There's another aspect of the competitive
    inequality, and that's the mixing of banking and commerce. So
    even under the bill as proposed, the ILCs would be able to have
    15 percent commerce activities, and that is not permitted to
    financial holding companies and bank holding companies.
        So the supervision, the consolidated supervision, is an
    extremely important point, clearing up the foreign bank issue
    is an extremely important point, but it doesn't go all the way
    to leveling the playing field. And the way to level the playing
    field is to simply close the loophole and make insured ILCs
    subject to the same regulations every other insured bank is
    subject to.
        Mrs. Maloney. Under Gramm-Leach-Bliley, doesn't that allow
    a 15 percent--
        Mr. Kohn. No, ma'am, it does not. In Gramm-Leach-Bliley,
    there was a transition provision such that a financial holding
    company that had commercial activities would have some time to
    get rid of those commercial activities, but it must divest
    itself of those commercial activities.
        There is no commercial basket in Gramm-Leach-Bliley. And
    the Federal Reserve gives banks--or financial holding
    companies--2 years, which can be extended for a couple of
    years, up to 5 years, to divest themselves of all their
    commercial activities. There are no commercial activities,
    except as might be incidental to a financial activity, allowed
    in Gramm-Leach-Bliley. There is no 15 percent basket there.
        Mrs. Maloney. Would you elaborate further on the risks of
    mixing banking and commerce? You seem tremendously concerned
    about this. What are the conflicts of interest that arise
    between the bank and the commercial transactions of a business?
    Could you elaborate further why you feel this so-called
    loophole should be closed?
        Mr. Kohn. I think mixing banking and commerce raises a
    number of very difficult issues that the Congress needs to
    consider thoroughly before allowing even a limited exception to
    this.
        There is the potential for conflicts of interest. Is the
    bank making loans on more favorable terms to its affiliates--
    there are restrictions here--or to customers of its affiliates,
    than it would to a customer of an unaffiliated institution? If
    a commercial firm owns a bank, can competitors of that
    commercial firm have the same access to credit on the same
    terms as the commercial firm itself?
        There are issues about the potential for spreading the
    safety net. Banks are special. They have deposit insurance.
    They have access to the discount window. Congress has
    recognized that this carries the risk that there will be a
    perception that they have specific protections. They have
    access to the safety net.
        I think because, as I noted before, banks and their
    affiliates often operate on a very consolidated basis, there's
    a risk that when a commercial affiliate is connected with a
    bank, the perception will be that the authorities wouldn't let
    problems in that commercial affiliate sort of cascade into the
    bank, that the commercial affiliate would have a special access
    to the safety net.
        And finally, as I think Mr. Marshall pointed out in his
    opening comments, I think the consolidated regulation that
    we're talking about imposing would be much more difficult if
    there is a commercial component to the holding company. Working
    with the SEC, the thrift regulators, and insurance regulators,
    I think we have a better handle on the safety and soundness of
    non-bank financial affiliates of banks.
        I think this would be very, very difficult to really do
    effective consolidated regulation if there is a commercial
    affiliate of the regulated institution.
        Mrs. Maloney. Well, this is--just very briefly, could we
    just go down the line and see how people feel? Do they feel
    that this is--that the 15 percent commercial activity is a
    challenge? Ms. Bair?
        Ms. Bair. We think the 15 percent is workable. We're being
    agnostic about where you want to draw the line. I would say,
    again, in the past, there already has been some experimentation
    with commercial ownership with the ILC charter to date. We have
    a good safety and soundness record to date. It certainly would
    also be within the prerogative of the committee to allow some
    limited mixing using this 15 percent criterion.
        In our view, it's the committee's decision. It's a policy
    call to make.
        Mrs. Maloney. Okay.
        Mr. Reich. I would agree with Chairman Bair. It certainly
    is the committee's policy call. I think there are other
    examples, particularly in the tax code, where 15 percent has
    been used sort of as a de minimis level of unrelated income.
        Mr. Colby. This is not an area of core expertise for the
    Commission. We really think it's an area for the Congress to
    decide.
        Mrs. Maloney. Okay. Commissioner?
        Mr. Leary. I would endorse it, yes. I believe what we have
    attempted to do in Utah is to very effectively work within this
    core threat of having a commercial parent and allowing a
    basket, whatever the committee establishes, I think we would be
    very comfortable with.
        We are currently working with General Electric, that has an
    OTS bank and a Utah Industrial Bank, and I think we are working
    very carefully at ensuring that safety net does not extend to
    the whole GE operation, that we isolate that--those insured
    entities very carefully.
        Mrs. Maloney. Okay. My time has expired. Mr. Gillmor, the
    co-sponsor of the legislation.
        Mr. Gillmor. Thank you, Madam Chairwoman. A couple of
    questions, Commissioner Leary. You stated a number of times
    that the legislation would restrict banks and would make State
    banking irrelevant.
        I don't think that's an accurate description of the
    legislation. The legislation doesn't do anything to affect the
    operation of the bank. Nothing. The only thing the legislation
    deals with--well, I'll ask you. Maybe you could point out
    specifically what it does to restrict, because mainly what
    we're talking about is ownership at a holding company.
        Mr. Leary. I would answer it this way, sir. In our case,
    we've approved three charters that the FDIC, under its
    moratorium, has not been able to successfully approve. We would
    not have approved those charters if we did not believe they
    warrant the granting of the charter and warrant the granting of
    deposit insurance from the entities.
        I believe that what we have developed is a safe and sound
    model.
        Mr. Gillmor. Well, I guess the other thing I'd like you to
    do, since other state-chartered banks and other banks are
    subject to these same rules, do you think those rules restrict
    them? I mean, why would it only restrict ILCs?
        Mr. Leary. I would probably take a tack that I've developed
    in my own logic trail over the years.
        What I believe we're doing with a number of these companies
    is when they've been identified as commercial entity, I do not
    see it much differently than the majority of my community banks
    that are primarily owned by businesspeople in the community,
    whether it's the lumber operator, the gas station owner, or
    whatever. So, they bring with them a specific commercial
    expertise and a commercial perspective. I think that's very
    similar to what we're doing with some of these companies.
        Do we want to isolate that and provide safety and soundness
    mechanisms? I believe Regulation 23A and B does that, and for
    the ILCs, we religiously enforce that upon them. So, my answer
    is, I think there is conceptually, it's not far to go from
    businesspeople owning a community bank to an entity that is
    large that has a small component which is an insured bank.
        I hope I've answered your question.
        Mr. Gillmor. I think we just have a different philosophy.
    For example, when you said that restricting commercial
    ownership of ILCs would be anticompetitive, do you think the
    Bank Holding Company Act is anticompetitive?
        Mr. Leary. No. But I think I've already gone on record as
    saying I think there are some areas that could be worked on. Do
    I endorse repealing? No.
        Mr. Gillmor. You don't endorse repealing that?
        Mr. Leary. I do not.
        Mr. Gillmor. But you don't want ILCs subject to comparable
    type of provisions?
        Mr. Leary. I think they are. Everybody keeps talking about
    the one side, but the ILCs are limited. They cannot have demand
    deposits if they exceed $100 million. I brought up in my
    remarks that at one point, the committee passed a bill that
    would allow commercial NOW accounts for ILCs, somewhat leveling
    the offerings that the industrial banks can offer to their
    customers.
        So, I think it's a very delicate balance, but I do not have
    a problem with what we're doing here, provided it's safe, and
    provided it's sound.
        Mr. Gillmor. Okay. Thank you. Let me ask the SEC, because
    there's a possibility under this legislation that you're going
    to be a consolidated regulator. If you were given the power to
    regulate industrial bank parents, depending on what kind of
    parent it is, do you think the SEC would have to request
    additional powers to provide for safety and soundness, or are
    you equipped now to do that?
        Mr. Colby. I believe that the program that we're currently
    operating can take into account the needs of the ILC because
    the possibility that what happens in the holding company could
    affect the ILC, so I don't think you'd need more safety and
    soundness power.
        Mr. Gillmor. Okay.
        Mr. Colby. But if the Congress decides that's something
    that's appropriate for the bank regulators to have, we wouldn't
    oppose it.
        Mr. Gillmor. Let me ask Mr. Kohn. Mr. Leary said that it
    would be okay, in his view, to repeal the Bank Holding Company
    Act. Would you like to make the other case?
        Mr. Kohn. I think I already did, Mr. Gillmor. And I will
    just repeat that I think the mixing of banking and commerce
    would be a very major step. The U.S.--Mr. Bachus cited two
    German firms that operate in a country in which banking and
    commerce have been closely integrated over the years. I think
    the U.S. financial system has benefitted considerably by having
    these two separate. We have a much more resilient financial
    system in which commercial firms have many avenues for raising
    funds that are not tied to their banks. And as a consequence, I
    would tread very, very lightly on moving away from a formula
    that has given us, I think, a very safe banking system, a
    resilient financial system, one in which of course there are
    always difficulties and conflicts of interest, but have stayed
    away from some of the difficulties that could arise if we mixed
    banking and commerce.
        I don't know that the answer is zero banking and commerce,
    but I think I would be very cautious about moving away from
    what Congress just looked at 8 years ago and made a very
    conscious decision that zero was the right number.
        Mr. Gillmor. Thank you very much. I was going to throw a
    softball to Chairman Bair, but my time has expired, so I yield
    back.
        The Chairman. I thank the gentleman for his restraint. And
    I now recognize the gentleman from New York who has been very
    interested in this and has an issue that we're going to pursue.
    I guarantee him that at some point, it's going to get resolved;
    we're just not sure when. The gentleman from New York.
        Mr. Meeks. I was going to ask their opinion on that
    particular issue just to see what their interpretation would be
    on a hypothetical situation that I've been working with the
    chairman on. And that is, say there's a company that is
    primarily financial in nature. It receives its approval for an
    ILC to finance a particular service industry after October 1,
    2003, but before 2007. The parent company receives some
    commercial revenue of less than 10 percent. In the years
    following 2007, the commercial revenue of the parent company
    exceeds 15 percent. Are there any restrictions upon the ILC
    once that 15 percent commercial revenue threshold has been
    reached or exceeded? What's your opinion?
        Ms. Bair. Well, this is a question about the construction
    of the legislation. As I understand it, if it's chartered
    between October 2003 and January 2007, it is not subject to the
    15 percent. However, its business plan is frozen and it is
    prohibited from additional branching. So, even though the 15
    percent commercial revenue limitation would not apply, it could
    not undertake new activities beyond what is already in its
    business plan, nor could it establish new branches.
        Mr. Meeks. Do you agree?
        Mr. Kohn. Yes, I agree.
        Mr. Meeks. Okay. Let me ask Ms. Bair, do you believe that
    the FDIC currently has the authority that it needs to fully
    deny an ILC any future powers that it may request?
        Ms. Bair. Well, in terms of the activities of the ILC, yes.
    That is subject to exactly the same activity restrictions that
    other depository institutions are subject to. We're finding
    that most of the issues relate to commercial entities owning an
    ILC. But in terms of the ILC's activities itself, those are
    subject to the same restrictions.
        Mr. Meeks. And, Mr. Kohn, I know that you believe that we
    should separate--that commercial entities shouldn't own ILCs,
    etc. But say if, in fact, they continue to own them, who do you
    think should regulate them? Should it be the FDIC which
    currently regulates, or the Federal Reserve Bank, which has
    more experience with consolidation regulation?
        Mr. Kohn. I think the most important thing is that someone
    should regulate the consolidated entity. That's my first point.
        Mr. Meeks. You should be up here. That's a political
    answer.
        Mr. Kohn. Secondly, I think that if Congress were to give
    this authority to the FDIC, it would be creating another
    parallel regulatory environment. We already have both the Fed
    and the OTS regulating financial holding companies, depending
    on the nature of the subsidiary depository institution. This
    would create a third line of regulation, one that could define
    financial in a different way than the Federal Reserve defines
    financial.
        So I would think Congress should think very carefully
    before creating another line of parallel regulation for
    consolidated entities.
        Mr. Meeks. Ms. Bair, do you agree?
        Ms. Bair. We are not seeking to become a holding company
    supervisor. We're happy to have the authorities should Congress
    decide to grant those to us. We have tremendous respect for the
    Fed. If we were given those authorities, we would consult with
    them closely. I agree. We would not want differentiations in
    how financial is defined.
        I would also have to say that if you let the SEC in, you're
    going to have four. But, you know, I think the argument for
    allowing the FDIC to become holding company supervisor is that
    we do have the longest history with this industry, with these
    individual institutions. Also, the Fed already has two ILCs in
    holding companies subject to Fed supervision. Eight are under
    the OTS. And I believe four more would be under the SEC if you
    recognize them. So it would only be with regard to the
    remaining institutions where we would be having that role.
        Mr. Meeks. Thank you. I yield back.
        The Chairman. The gentleman from Texas, Mr. Neugebauer.
        Mr. Neugebauer. Thank you, Mr. Chairman. Ms. Bair, in your
    testimony you specified that there are four categories of ILCs,
    and the fourth one is those that directly support the parent
    companies' or organizations' commercial activities and that
    they can maintain those entities by funding them, the parent,
    through forms of deposits, borrowings, and equity and so forth.
    How does your regulatory or oversight of those ILCs differ from
    the other ILCs that you oversee?
        Ms. Bair. Well, those types of applications obviously go
    through a very stringent Section 23A and 23B review. This is an
    area where we very closely consult with the Fed in terms of how
    to interpret and apply those provisions, and our supervisory
    program also heavily scrutinizes those relationships to make
    sure there is full compliance with 23A and 23B.
        Mr. Neugebauer. And have you ever experienced any problems
    with those relationships?
        Ms. Bair. There is one institution that comes to mind,
    though I don't like to talk publicly about individual cases. If
    you'd like to submit a question in writing, we can have our
    general counsel put something together to respond to that.
        Mr. Neugebauer. All right. Thank you. I guess this is a
    question to the panel as a whole. If we go forward with this
    legislation, we are going to, in fact, grandfather some
    institutions that came in under the previous regulation, and,
    therefore, if there are other organizations that would be, you
    know, competing with those organizations, in fact they are now
    going to maybe have a competitive advantage because they were
    grandfathered.
        Is that good, fair, consistent policy for this country? And
    I'll just go down the--
        Ms. Bair. Well, I don't know how else to do it. You had to
    do it when you closed the non-bank bank loophole. You had to do
    it when you closed the unitary thrift loophole, and inevitably,
    there are going to be some winners and some losers.
        Mr. Kohn. I agree with Chairman Bair. I think the problem,
    as she notes, is that you can't make everybody happy here. I
    think the most important thing is to cut things off. And there
    are people who have been operating under this charter for a
    while, and they should be allowed to continue operating under
    the charter.
        But it would give them at least some competitive advantage
    against others, as I think Commissioner Leary was pointing out
    about the auto companies. But I think that's kind of the lesser
    of the evils. I'd rather have the loophole closed, people
    grandfathered in, and have no more going forward.
        Mr. Reich. It would not be a perfect solution by any means,
    but it would--it is about the only option you have if you were
    to move in that direction.
        Mr. Colby. I have nothing to add to that.
        Mr. Leary. From my perspective, I don't believe the cutoff
    is needed.
        Mr. Neugebauer. Mr. Leary, if this legislation--because
    your State is one of the States that still allows that kind of
    activity--what do you see the impact moving forward with future
    ILC applications and activity in your State?
        Mr. Leary. With the commercial activity restricted? I would
    hope it would continue. I cannot predict how it would continue.
    I would simply indicate that while Utah may be an anomaly in
    that our commercial bankers and our industrial bankers are in
    the same association and work well together thus far in all of
    these operations, I would hope that it would continue.
        Mr. Bachus. Would the gentleman yield?
        Mr. Neugebauer. Yes, I would.
        Mr. Bachus. In the conversation about our automobile
    manufacturers, you said the only option would be to close the
    loophole and leave some in and some out. Obviously, what
    concerns many of us is that Ford and Chrysler are the two that
    do not have ILCs are our domestic producers, two of our three
    domestic producers. And our domestic automobile manufacturers,
    I think, are very important in a bipartisan way.
        I guess there would be another solution, and that's as only
    to automobile manufacturers to allow a continuing or to allow a
    certain space of time to those that had made application. Any
    comment on that?
        Mr. Kohn. I think I'd be a little concerned that once you
    crack the door, people would be pushing against it, and more
    would want to come in. So I do think the--
        Mr. Bachus. Of course if it were narrowly drawn and in that
    one regard. But I understand, it is a quandary.
        The Chairman. If the gentleman would yield. My sense is,
    and I know the gentleman from Ohio and I have talked about
    this, my impression is that's an issue we will be dealing with
    when the bill comes out of the Senate. And sufficient unto the
    day is the evil thereof is, I think, the appropriate model
    there.
        But I do think being realistic, there will be some Senate
    negotiations, and I think there will be some distinction drawn
    ultimately--this is a prediction--between those entities that
    are very limited to a kind of a self-financing situation in
    which they are processing some of their own paper, and entities
    that might seek a broader kind of franchise. But I do believe
    that's something we will be dealing with at that time.
        Mr. Bachus. Thank you. Because as you know, many members
    are concerned about that.
        The Chairman. The gentleman from Georgia.
        Mr. Scott. Thank you very much, Mr. Chairman. Let me start
    if I may by looking at this from a concept of what is in the
    best interests of the consumer. Because in the final analysis,
    that's really what we're here for. And that begs the question
    as to what is in the best interest of the consumer is the fact
    that the genie is sort of out of the bottle, because there are
    some companies who are already doing this.
        What empirical data do we have that these companies
    provided a threat to our way of life, to the banking system?
    There has been none. You have Target; you have GE; you have
    Sears; and a number of others. But in fact, in some cases, the
    consumer has benefitted through added consumer convenience and
    lower costs in some areas. But in each of your testimonies,
    there has been consistent woe, but there has been no evidence,
    no empirical evidence that those who have the charter have been
    threatening to the system in any way. And I was wondering. And
    by that, Ms. Bair, I mean, wouldn't the FDIC, don't you think
    that they have the current oversight to make sure that these
    safeguards are there? And again, what evidence do we have
    that--
        Ms. Bair. Well, Congressman, you're right. To date, the
    commercially owned ILCs have a good safety and soundness
    record. They have been the source of product innovations and
    expansion of financial services to certain segments of the
    population.
        I think what we're really talking about is prospectively
    how far you want to go with this. The current ILC exception is
    quite broad, and I think a lot of the concern about some of the
    pending applications that have gotten so much press and
    controversy has been not so much about what's currently being
    proposed, but what might happen in the future, where do we draw
    the line? Do you want major retailers being able to provide the
    full panoply of financial services?
        We're being agnostic. Those are the kinds of policy issues
    that Congress needs to make. But, you know, I think they are
    good questions to be asking, and I think perhaps going forward,
    you do want to consider providing some limited ability to
    experiment with a very limited mixing of banking and commerce.
    Those are the right questions to be asking, but, again, we
    think it's a policy call for Congress to make.
        Mr. Scott. Mr. Kohn, let me get to a point that you talked
    about in terms of some issues and complexities you said,
    conflicts of interest. Let us take an example. In the
    provision, isn't it true that the ILCs have what we call an
    anti-tying prohibition that is a safeguard?
        Under this provision, an ILC could not condition a loan on
    a requirement that the borrower obtain services from an
    affiliate, and the affiliate could not tie a product sale to a
    requirement that the customer obtain banking services from the
    ILC. So, if the Home Depot, for example--it's a good example
    here, which I think as we move this process along, I think the
    bill will move forward. And when it gets to the Senate, there's
    going to be some deliberation. I agree with your point, but I
    do think that we ought not to sort of throw the baby out with
    the bath water here. But maybe to look at some of these
    situations on an individual basis.
        So, for example, if the Home Depot were to operate an ILC,
    they could not require contractors to finance their supplies
    through the ILC, nor could the ILC require loan applicants to
    use the loan proceeds to buy supplies from the Home Depot. And
    I point this out because the anti-tying requirement for
    traditional banks, on the other hand, are applicable only to
    the bank itself.
        So my--the point I want to make is that in some cases, for
    example, we take again the Home Depot case where this is going
    on now. I mean, it's basically a design to have a major
    consumer benefit. Now a consumer comes in, and they want to
    expand their line of credit. We're talking about a very small
    amount here that is certainly nonthreatening, but would be a
    major help to the consumer, to be able to transact his
    transaction there.
        Now this same process happens, but in this case, Home Depot
    has to go and farm this out to, say, a CitiGroup or a bank like
    that, when you could have it here. And I think with the anti-
    tying provisions in here, there should be safeguards in and of
    itself.
        Mr. Kohn. I think there are regulations in place and that
    could be put in place which help protect against this sort of
    thing. Now, whether they would really protect a consumer or a
    contractor who felt somewhat dependent on Home Depot, that
    consumer or contractor really felt that they had a fully
    panoply of choice and weren't being pushed into the financial
    offering that Home Depot was tying to its transaction, I think
    is an open question.
        We've talked a lot about competition here, and the
    consumer. You've framed our question in terms of the consumer.
    There is a lot of competition in the financial services
    industry. There is relatively free entry into banking and
    thrifts. We charter hundreds of new institutions a year. I
    think if there is a need for financial services, there are
    people out there willing to start institutions or expand what
    they're doing--
        The Chairman. Mr. Kohn, you have to wrap this up, please.
        Mr. Kohn. Okay. That concludes my response.
        The Chairman. Thank you. The gentleman from California,
    then the gentleman from Ohio. The gentleman from California.
        Mr. Sherman. Thank you. I got a button yesterday, ``Don't
    Mix Banking and Commerce.'' I got it from the Independent
    Community Bankers Association and I'd put in the record, but
    the pin would stick people.
        And I've been interested to see the development of the
    whole idea of mixing banking and commerce. Because I've seen
    many bank regulators, particularly the Fed, be opposed to
    commercial institutions entering banking, and not nearly as
    opposed to banking institutions entering commerce. That is to
    say, when Wal-Mart wants to enter banking, the banking world
    says, Oh my God, look at Japan. Look at what happens when you
    mix banking and commerce.''
        But when banks want to go into real estate sales, auto
    sales, whatever, the bank regulators have been helping them,
    and we in Congress have stopped the presumed train wreck
    described by the community bankers when you mix banking and
    commerce. So perhaps you could comment, is it as bad an idea
    for bankers to get into commerce as for commercial
    organizations to get into banking?
        Mr. Kohn. I think it would be a bad idea for bankers to get
    into commerce in a major way. What we allow now are commercial
    activities that are incidental to the basic financial
    activities of the banks. This is under the guidelines put out
    by Congress.
        Mr. Sherman. But we could call anything incidental to
    banking. I bought this tie in a tie store, but I financed it on
    a credit card, and I hope before it wears out, I will pay off
    that bill. So it was a financial institution. In fact, the bank
    may make a larger profit on this tie than the haberdasher.
        That being the case, is it your position that anytime you
    sell something that has to get financed--and I'd like to hear
    from your colleague sitting to your left as well.
        Mr. Reich. I think we regulators are a pretty conservative
    group when it comes to banks expanding into a variety of
    commercial activities. We are not the cheerleaders for the
    banking industry to expand into commercial activities.
        Mr. Sherman. Is there anyone on the panel who thinks that
    real estate sales is somehow incidental to real estate
    financing or is for some other reason not part of commerce? Let
    the record show there were no responses, and I yield back.
        The Chairman. I thank the gentleman. The one example he did
    give might have been covered by the anti-tying rules.
        [Laughter]
        The Chairman. The gentleman from Ohio.
        Mr. Wilson. No questions.
        The Chairman. The gentleman from Colorado.
        Mr. Perlmutter. Pass.
        The Chairman. The gentleman from Utah probably doesn't want
    to pass. I would note again, the gentleman from Utah is not now
    a member of the committee, but we did get unanimous consent,
    given his interest, for him to participate.
        Mr. Matheson. And I would be remiss if I did not open by
    thanking both Chairman Frank and Ranking Member Bachus for
    their generosity in allowing me to participate today. It is
    very nice of you to do that.
        I have all kinds of questions in 5 minutes, so we'll see
    how this goes. Mr. Leary, if you could just briefly confirm a
    couple of things for me. Number one, there were some references
    made in opening statements about lack of CRA participation by
    ILCs. Could you clarify what's really going on with CRA
    participation?
        Mr. Leary. I think from the State of Utah, and even from
    consumer activist groups, they would tell you CRA activity of
    the industrial banks in Utah is outstanding. They have been
    noted for proactive work. They are out there doing it the best
    they can. And what is unusual, while my background and
    experience is in community banking, the CRA group has sat down
    and tried to proactively figure out ways that create micro
    enterprise loan funds. They've created Utah Community
    Reinvestment Corporation. I think they've been very aggressive.
        Mr. Matheson. Thank you. I think it's interesting to note
    that from the chairman's opening remarks to just about
    everybody on the panel, I think everybody here has said that
    there's no safety and soundness issue to date in this industry.
        And it reminds me of when we had the subcommittee hearing
    in the last Congress, and when then-subcommittee Chairman
    Bachus concluded the hearing, he said, you know, legislation is
    usually a solution to a problem, and it isn't clear where the
    problem is. He said that at the time, I'm not sure there is a
    problem. And I think that's the underlying question we need to
    be talking about today is where is the problem? Since we've all
    apparently stipulated there's no safety and soundness issue to
    date in this industry.
        And yet, Mr. Leary, some people are concerned that only six
    States benefit. You've already said you wouldn't care if other
    States had access to this charter.
        Mr. Leary. I do not.
        Mr. Matheson. Is it your understanding that the
    beneficiaries of industrial-owned company services, namely,
    consumers, that those beneficiaries are in all 50 States, and
    in fact people throughout this country benefit from the
    industry?
        Mr. Leary. Yes they are.
        Mr. Matheson. Ms. Bair, I wanted to know, is it true--would
    you verify that the FDIC does in fact vigorously enforce
    Sections 23A and 23B in the anti-tying provisions applicable to
    the banks you regulate?
        Ms. Bair. Yes, we do.
        Mr. Matheson. You said you were agnostic about what we do.
    But you enacted a moratorium, and I don't know that that's
    agnostic.
        Ms. Bair. Yes.
        Mr. Matheson. And you've extended the moratorium, and if
    you ask Mr. Leary about what that's meant to people who are
    applying for charters, that is not a hold-harmless provision.
    That is not agnostic.
        Ms. Bair. Yes.
        Mr. Matheson. And I'm curious what's happened at the FDIC
    to sort of change this position? Because if you look at what
    your predecessor said, I quote remarks before State bank
    supervisors in 2003, after describing the FDIC's examination of
    industrial loan banks, he said, ``These organizations are
    rigorously and sufficiently supervised by the state supervisors
    and the FDIC on an ongoing basis.''
        And then he addressed concerns about oversight of the
    parent companies. And he said, ``While I understand these
    concerns, the FDIC has, and often uses, a number of tools to
    manage both the holding company's involvement with the
    financial institution and to manage transactions between the
    two entities. We can and do visit the parent companies and
    other affiliated entities for that matter, to look over issues
    or operations that could impact the insured institution.
    Congress has given us the power to protect the integrity of
    those relationships. We have exercised that power, and we have
    coordinated closely with you, the State regulators, in our
    work. We have found parent companies of ILCs to be acutely
    conscious of their responsibilities with respect to their ILC
    subsidiaries and the consequences of violating applicable laws
    and regulations.''
        He has also said, ``We at the FDIC must be vigilant in our
    supervisory role, but I will reiterate, the FDIC believes the
    ILC charter per se poses no greater safety and soundness risk
    than other charters.''
        Ms. Bair. Yes.
        Mr. Matheson. What has changed?
        Ms. Bair. Well, I could read excerpts from the GAO report,
    from our own IG, from a number of members of this committee and
    in the Senate, and from a number of public commentors who would
    raise a lot of concerns about the current regulatory structure.
        I felt when I came into this situation at the end of June
    last year that we needed to take a step back and evaluate all
    the issues, given that there were a lot of credible voices
    saying that the supervisory regime was not adequate.
        And, Congressman, I do honestly think that this controversy
    about the ILC charter is not going to go away, because there
    are in fact no meaningful limitations on the FDIC's ability,
    other than safety and soundness considerations, to prevent
    major commercial entities from getting into banking in a very
    large way. That has not happened to date.
        Mr. Matheson. And you're questioning the FDIC's ability to
    adequately regulate, along with the State, those--
        Ms. Bair. I'm questioning whether the FDIC should be the
    decisionmaker in allowing major commercial retail entities to
    get into banking in a major way in this country. I don't think
    that's our decision right now.
        Mr. Matheson. Let me just ask if Congress did decide to
    allow this to happen instead of this legislation that's being
    proposed, do you think the FDIC has the adequate capability to
    regulate that industry in that context?
        Ms. Bair. We will have to evaluate each application on a
    case-by-case basis. But any decision we made would have to be
    based on safety and soundness considerations. It couldn't be
    based on policy considerations relating to commercial
    ownership.
        Mr. Matheson. Do you think that the commercial ownership
    issue has evolved in the last few years due to a particular
    application?
        Ms. Bair. Our decision wasn't driven by any individual
    applications, but there has been a trend and greater interest
    in this charter by major retailers, yes.
        Mr. Matheson. Do you think that when you look at FDIC and
    the bank-centric model that we've had here, do you see areas
    that we--or capabilities that you don't have now that would
    help you better regulate this industry, or are you satisfied
    with the tools you have at your disposal?
        Ms. Bair. I think holding company authorities, particularly
    the ability to examine affiliates, would be helpful, yes, I do.
        Mr. Matheson. And you don't think you have that--
        Ms. Bair. We do not have that now, no. We have--
        Mr. Matheson. Do you take issue with what your predecessor
    said about that?
        Ms. Bair. Well, our ability to examine affiliates is only
    with regard to determining what the relationship is with the
    ILC. So unless there's a relationship, we could be challenged
    in our ability to examine affiliates.
        Mr. Matheson. Okay. Mr. Chairman, I see my time has
    expired, and I do not want to abuse the privilege. Thank you so
    much.
        The Chairman. I thank the gentleman. And with that, we will
    thank the witnesses. Did the gentleman from Illinois wish to
    ask questions? Then we thank the witnesses very much, and we
    will ask them to leave expeditiously, and we'll empanel the
    next panel. And everybody who wants to be polite to each other,
    do that in the hall. Just leave quickly.
        We ask people to leave quickly. Don't black the aisles, one
    panel to the next panel. We'll try to do as much as we can
    before we're interrupted for votes. And let us have the next
    panel be seated, please.
        Would the members of the panel please move up here and be
    seated so we can get started? Would the people to the Chair's
    left please leave? Thank you.
        The second panel will begin. We will ask that those doors
    be closed. And the first witness is Ms. Amy Isaacs, who is the
    national director of Americans for Democratic Action.
        Please just sit down and let us start talking, guys. Come
    on, we're in a hurry.
        Ms. Isaacs.
        Excuse me. Members of the staff, close those doors, please.
    People either seated, or on the other side of the door.
        Thank you. Please continue.

       STATEMENT OF AMY ISAACS, NATIONAL DIRECTOR, AMERICANS FOR
                           DEMOCRATIC ACTION

        Ms. Isaacs. Mr. Chairman, thank you. I appreciate the
    opportunity to testify representing our more than 65,000
    members. Unlike my colleagues on this panel and the preceding
    one, I am not an expert in banking. I am, however, a consumer,
    as are the members of my organization. And because we are
    concerned about the impact that granting an ILC charter to any
    retail enterprise could have on individual consumers and small
    business, we endorse H.R. 698, the Industrial Bank Holding
    Company Act of 2007.
        Although H.R. 698 is not specifically about Wal-Mart, I
    will focus on Wal-Mart as perhaps the most pernicious example
    of the problems which can arise when banking and commerce are
    intertwined. We believe a bright line between the two must be
    drawn.
        Wal-Mart's recently withdrawn application to enter the
    banking business was fraught with risk, which would have been
    guaranteed by American taxpayers. A bank tied to one of the
    world's largest retailers would face unique commercial and
    reputational risks. Regulatory agencies charged with
    supervising these risks lack the experience or the capacity to
    understand how to evaluate or minimize them.
        Giant retailers have been forced into Chapter 11 or have
    disappeared because of changes in the commercial environment.
    K-Mart, Ames, Woolworth, and Montgomery Ward are examples of
    retailers who have reorganized or have disappeared. Business
    models change, as do consumer preferences. The Federal
    Government is not and should not be in the business of
    understanding the risks of large-scale retailing. It should not
    have to worry about the safety and soundness of a global retail
    business, dependent on complex global supply systems. If the
    retail operation faces disaster, so will the bank.
        Wal-Mart also faces the risk of social ostracism for its
    routine antisocial behavior. Wal-Mart has an established
    pattern of irresponsible practices. It shorts employees on
    health care, it has flouted hourly wage laws, and it has been
    involved in multiple cases of alleged discrimination. The
    company has been accused of using undocumented workers and a
    senior executive said he padded his expenses to conceal anti-
    union expenditures.
        Such behavior carries the risk of a damaged reputation, and
    with it, a run on the bank. The government cannot be in the
    position of insuring against the risk. There are many other
    examples of antisocial behavior leading to the demise of
    financial institutions. Riggs Bank is a prime example.
        We also are deeply concerned that large scale commercial
    enterprises could misuse their market power. As state-chartered
    ILCs, they would not be subject to the stricter regulations of
    bank holding companies. They could use their position in the
    marketplace and control of prime real estate for their own
    advantage, instead of the interests of the community they
    purport to serve.
        Had Wal-Mart been granted an ILC charter, it would have
    been able to offer anything an ordinary bank could--savings
    accounts, checking accounts, mortgages, and a variety of loans
    for everything from home improvement to car purchases to small
    business loans. The potential for conflict of interest is
    obvious.
        Would retailers make loans to competitors? Should they have
    access to credit information about competitors?
        Retailers operate with the goal of dominating markets. They
    work to control competition. The result has been the extinction
    of long-term community small businesses. There is no reason to
    believe that a foray into banking would have a different
    outcome.
        Retailers are not offering banking services to save
    consumers money. They are not charities. They are in business
    to make money. They want to use their retail power to muscle
    their way into the financial services industry.
        Had Wal-Mart been granted a charter, it would have used its
    power to muscle past community banks and credit unions, which
    do care about their own communities. Among the factors the law
    requires be considered in accepting an application for an ILC
    charter is the convenience and needs of the community to be
    served. Mixing retail commerce and banking makes it impossible
    to meet that standard. The conflict of interest and the push
    for market dominance argue against a charter serving any need
    or convenience other than the retailers'.
        Existing institutions leasing space in retail stores serve
    customers. Many banks have arrangements with supermarket
    chains. These bank branches meet the needs of both consumers
    and the community.
        Wal-Mart saw the handwriting on the wall when it withdrew
    its application. But until and unless H.R. 698 is signed into
    law, we cannot guarantee that a similar problem will not recur.
    Americans for Democratic Action stands for liberal values. We
    see bank regulation as an area where true conservative values
    should prevail. By granting a charter and deposit insurance,
    the government should not be risking regulating a business it
    does not understand. It should not insure depositors against a
    corporation's antisocial behavior and the attendant risks.
        For these reasons, Americans for Democratic Action urges
    passage of H.R. 698. Thank you for your consideration.
        [The prepared statement of Ms. Isaacs can be found on page
    113 of the appendix.]
        The Chairman. Thank you.
        And next, testifying on behalf of America's Community
    Bankers, for the chairman a familiar face, not to mention
    accent, one of our leading bankers in Massachusetts, Arthur
    Connelly from South Shore Bank.

     STATEMENT OF ARTHUR R. CONNELLY, CHAIRMAN AND CHIEF EXECUTIVE
       OFFICER, SOUTH SHORE BANCORP MHC, ON BEHALF OF AMERICA'S
                           COMMUNITY BANKERS

        Mr. Connelly. Thank you. Chairman Frank, Ranking Member
    Bachus, and members of the committee, thanks for inviting me to
    testify before you today on the Industrial Bank Holding Company
    Act of 2007.
        My name is Art Connelly, as the chairman said. I am the
    chairman and CEO of South Shore Bancorp, and I also serve as
    the first vice chairman of America's Community Bankers, and I
    am here today to testify on their behalf.
        The appropriate regulatory structure for industrial loan
    companies is incredibly important and should be addressed by
    Congress. First, I want to say that ACB strongly supports H.R.
    698. We believe that this commonsense legislation is necessary
    to improve the safety and soundness of the banking system. ACB
    believes that the withdrawal of Wal-Mart's ILC application does
    not end the need for comprehensive ILC regulatory reform.
        The ILC charter is the only bank charter that can be
    obtained by a commercial entity. Furthermore, there is no
    holding company oversight for ILCs that are not otherwise
    supervised by the OTS or the Federal Reserve.
        These structural issues run contrary to legislation passed
    by Congress. Consistently throughout the 20th century, Congress
    made it clear that it does not want commercial ownership of
    banks in the United States and wants insured banks to have
    consolidated holding company oversight.
        There are good reasons to have concerns about commercial
    ownership of banks, especially with ILCs. Commercially owned
    banks can face conflict of interest pressures from their
    commercial owners. We have seen this problem in other
    countries, where a commercially owned bank can be pressured by
    its parent to make loans based not on sound underwriting but on
    the needs of its commercial parent. Concerns about the payment
    system integrity might also exist if a commercial parent
    improperly influences the actions of an ILC subsidiary that
    processes payments.
        Furthermore, these problems are greater for ILCs because
    commercially owned ILCs that are not affiliated with a bank or
    a savings association have no holding company regulator that
    can help oversee risks to the depository institution on a
    consolidated basis. While the FDIC has done an admirable job in
    regulating ILCs for safety and soundness so far, it does not
    have the statutory authority to examine the parent company.
        The recent surge in commercial ILC application brings these
    concerns to the forefront. Until recently, the majority of ILC
    asset growth has been in ILCs that are affiliated with banks or
    savings associations and have holding company supervision. If
    no regulatory supervision is passed, we could see dramatic
    growth in commercially owned ILCs with no holding company
    oversight.
        That brings me to H.R. 698. On examining the bill, it is
    helpful to look at Gramm-Leach-Bliley, where Congress
    prohibited any future ownership of unitary thrifts by
    commercial companies. However, Congress grandfathered all
    unitary thrifts that were commercially owned prior to 1999.
    This appears to be the model for the Industrial Bank Holding
    Company Act, and we believe it to be a fair one.
        H.R. 698 creates an FDIC regulated holding company
    structure for ILCs not regulated as a bank or a savings and
    loan holding company. Providing the FDIC with the authority to
    supervise the parent companies of these ILCs on a consolidated
    basis will allow it to ensure the safety and soundness of the
    institution. The legislation also utilizes a grandfathering
    system similar to the one in Gramm-Leach-Bliley.
        In conclusion, Mr. Chairman, we believe H.R. 698 is sound
    legislation that will fill a current gap in our financial
    regulatory structure. I will gladly take any questions that you
    might have. Thank you.
        [The prepared statement of Mr. Connelly can be found on
    page 82 of the appendix.]
        The Chairman. Thank you. Next, from the Independent
    Community Bankers of America, Mr. Jim Ghiglieri. Please, Mr.
    Ghiglieri.

        STATEMENT OF JAMES P. GHIGLIERI, JR., PRESIDENT, ALPHA
    COMMUNITY BANK, ON BEHALF OF THE INDEPENDENT COMMUNITY BANKERS
                               OF AMERICA

        Mr. Ghiglieri. Mr. Chairman, Ranking Member Bachus, and
    members of the committee, my name is Jim Ghiglieri, and I am
    president of Alpha Community Bank in Toluca, Illinois. I am
    also chairman of the Independent Community Bankers of America.
    ICBA is pleased to have this opportunity to testify.
        The ILC charter threatens our Nation's historic separation
    of banking and commerce and undermines our system of holding
    company supervision. The fact that Wal-Mart has withdrawn its
    ILC application does not diminish the need to act. Other
    applications are pending and more could be filed.
        ICBA was pleased that the FDIC unanimously adopted the
    recommendations of Chairman Frank and Representative Gillmor
    and many of their colleagues to impose a 1-year moratorium on
    ILC applications by commercial firms. The entire FDIC Board
    clearly recognizes that these applications raise broad public
    policy issues that Congress must confront. Congress can do that
    by enacting H.R. 698.
        Like much good legislation, H.R. 698 is a compromise. That
    is its strength. Institutions that are already in business
    could remain in place. Financial companies could continue to
    acquire, establish, and operate ILCs. The legislation addresses
    the key concerns without needlessly disrupting ongoing
    activity, and it gives the FDIC the basic tools it will need to
    be an effective consolidated regulator.
        Why do we ask Congress to pass this bill? First, the
    loophole threatens the safety and soundness of the financial
    system. Second, mixing banking and commerce presents serious
    conflicts of interest. Third, ILCs could destabilize local
    communities and harm consumers. Fourth, ILCs could jeopardize
    the payment system. And, fifth, ILC holding companies need
    stronger regulation.
        Let me briefly elaborate. First, safety and soundness.
    Allowing commercial firms to own federally insured ILCs adds
    tremendous new risk to the Deposit Insurance Fund. For example,
    Ford Motor Company applied for an ILC charter. Ford's financial
    difficulties are well-documented. Banking regulators will not
    allow banks to buy Ford bonds. Ford hardly sounds like a source
    of strength for an FDIC-insured ILC.
        Home Depot and its ILC acquisition target are susceptible
    to fluctuations in real estate. According to Bloomberg News on
    February 21st, and I quote, ``Home Depot reported its biggest
    drop in quarterly profit as the decline in U.S. home sales
    sapped demand for building supplies.''
        Financial services regulators, no matter how competent, do
    not have the expertise to understand each of these economic
    areas and protect the safety and soundness of an ILC from
    problems that may befall its parent. A financial regulator
    should not become involved in market decisions of a major
    commercial firm.
        Second, conflicts of interest. Home Depot could be tempted
    to direct its bank to offer unsound loan terms to its customers
    provided they agree to purchase products from Home Depot. Or
    Home Depot could offer discounts on its product if a customer
    takes out a loan from its bank. The idea that a bank should be
    an objective credit grantor gets thrown out the window either
    way.
        Third, harm to consumers and communities. An ILC owned by a
    retail firm is unlikely to make loans to its local competitors.
    An ILC with a nationwide deposit taking network could draw
    funds out of local communities, sending them to corporate
    headquarters. Major commercial firms have the size and
    resources to engage in predatory pricing for as long as it
    takes to drive local competitors out of the market, both
    locally owned small businesses and community banks.
        Fourth, the payment system. The Wal-Mart application
    highlighted potential risk to the objectivity and security of
    the payment system. If retailers control the payment system,
    they will seek competitive advantage rather than control risk.
    Consumers, small businesses and banks of all sizes would be the
    victims.
        And finally, lack of regulatory authority. The FDIC
    currently lacks clear statutory authority to consider all of
    the broad policy implications when considering ILC applications
    and to regulate ILC holding companies.
        While ICBA believes that the FDIC has ample grounds under
    current law to deny several of the pending applications,
    especially Home Depot's, it may eventually be compelled to
    grant a disturbing number of them. Senator Garn told the FDIC
    that the ILC charter was grandfathered in 1987 and exempted
    from the Bank Holding Company Act to serve narrow purposes. But
    that is rapidly changing. A GAO report highlighted the need for
    enhanced supervision of ILCs, especially the need for
    consolidated supervision over both the ILCs and their holding
    companies. Successive Federal Reserve chairmen have repeatedly
    made similar points.
        Congress has ample precedent for closing the ILC loophole.
    You closed the non-bank bank loophole in 1987 and closed the
    unitary thrift loophole in 1999. Now it is time to close the
    ILC loophole.
        Thank you very much.
        [The prepared statement of Mr. Ghiglieri can be found on
    page 95 of the appendix.]
        The Chairman. Thank you.
        Next, Mr. McVicker, who is the chairman and CEO of the
    Central Bank and Trust Company, and he is testifying on behalf
    of the ABA, the American Bankers Association.
        Mr. McVicker.

      STATEMENT OF EARL D. McVICKER, CHAIRMAN AND CHIEF EXECUTIVE
        OFFICER, CENTRAL BANK & TRUST COMPANY, ON BEHALF OF THE
                      AMERICAN BANKERS ASSOCIATION

        Mr. McVicker. Mr. Chairman, and members of the committee,
    my name is Earl McVicker. I am chairman and CEO of Central Bank
    and Trust Company in Hutchinson, Kansas, and chairman of the
    American Bankers Association. Thank you for the opportunity to
    present ABA's views on the regulation of ILCs.
        Since Congress last enacted legislation concerning the
    ownership of ILCs nearly 20 years ago, the ILC industry has
    changed dramatically. Unfortunately, these changes now threaten
    to undermine the separation of banking and nonfinancial
    commerce that has long been a feature of U.S. law. In fact,
    over the last 50 years, Congress has repeatedly curtailed the
    ability of nonfinancial commercial firms to engage in banking
    activities.
        In each of these instances, the legislation was a reaction
    to nonfinancial firms that were taking advantage of statutory
    provisions to engage in banking. Moreover, in each instance,
    Congress was consistent in enacting legislation to maintain the
    separation between banking and nonfinancial commerce.
        Today, unintended use of the ILC charter has made it
    necessary for Congress to act once again to maintain this
    separation. When the term bank was redefined in 1987, ILCs were
    specifically excluded from the definition. At that time, most
    ILCs were small. And the few States that were able to charter
    ILCs were not promoting the charter. Simply put, there was no
    significant risk that problems caused by mixing banking and
    nonfinancial commerce would arise at the time the exemption was
    codified.
        That is not the case today. By the end of 2006, aggregate
    ILC assets totaled almost $213 billion, an increase of more
    than 5,500 percent since 1987. The average ILC now holds close
    to $3.7 billion in assets.
        Recent ILC asset growth is no accident. When Congress cut
    off the ability of nonfinancial commercial firms to engage in
    banking through unitary thrifts in 1999, these firms were
    forced to look for other means of doing so. It is no
    coincidence that total aggregate ILC assets more than doubled
    from $44 billion in 1999 to over $90 billion in 2000. Clearly,
    with the closure of one avenue into the banking world,
    nonfinancial commercial entities began to exploit another.
        It is fair to assume that Congress did not anticipate that
    the ILC exemption would be used for this purpose. There is a
    significant risk if the separation is not maintained. A
    nonfinancial parent, seeking to further its commercial
    pursuits, could put depositors' funds, the capital of the bank
    and the deposit insurance fund at risk.
        Congress has recognized these risks and should once again
    act to preserve the separation of banking and nonfinancial
    commerce by closing this exemption. Thus the ABA supports the
    Frank-Gillmor bill, H.R. 698, which would create a general rule
    that commercial firms may not own an ILC. The bill would
    grandfather commercial firms that currently own an ILC, and we
    support bringing grandfathered institutions within the
    jurisdiction of a Federal bank regulator, and vesting that
    regulator with the full range of supervisory and enforcement
    tools.
        We stand ready to work with Congress to maintain the
    important separation between banking and commerce. Thank you.
        [The prepared statement of Mr. McVicker can be found on
    page 172 of the appendix.]
        The Chairman. Thank you very much, Mr. McVicker.
        Next, John Douglas from Alston and Bird, who is testifying
    on behalf of the American Financial Services Association.

     STATEMENT OF JOHN L. DOUGLAS, ALSTON & BIRD LLP, ON BEHALF OF
              THE AMERICAN FINANCIAL SERVICES ASSOCIATION

        Mr. Douglas. Mr. Chairman, and members of the committee,
    thank you very much for allowing us to present testimony on
    this important bill.
        American Financial Services Association is the national
    trade association representing many of the Nation's most
    important lenders, providing access to credit for millions of
    consumers and small businesses. AFSA strongly believes that the
    industrial bank option represents a safe and sound and
    appropriate means to deliver financial services to the public.
        Congress established a framework within which commercial
    companies can provide deposit, loan, and other banking products
    to their customers. This framework is highlighted by stringent
    and appropriate supervision, by strong enforcement powers, and
    by a structure of laws and regulations that mitigate the
    consequences of the hypothetical and unproven evils raised by
    the opponents of commercial ownership of industrial banks.
        I testified on this issue last year and don't intend to
    repeat my testimony. Since that time, we've endured a lengthy
    moratorium by the FDIC and a long comment period where the FDIC
    sought guidance on how to deal with this important issue. There
    were thousands of comments, most in opposition.
        It is important to recognize, however, that nothing, no
    event, no failure, no fact, lends any substance to the
    allegation of the great dangers to our economy that would
    result from commercial ownership of industrial banks. Indeed,
    all we have is speculation.
        There are three main allegations. First, that there is some
    gap in our supervisory framework that poses danger to our
    economy and banking system. Second, that if commercial
    companies are allowed to own industrial banks, rampant tying or
    other unseemly activities would occur and the FDIC couldn't
    stop them. And, third, there is something fundamentally un-
    American and dangerous about mixing banking and commerce. I
    respectfully submit that these allegations are not true.
        First, industrial banks are subject to the same
    comprehensive framework of supervision and examination as
    normal commercial banks. They have no special powers, no
    special authorities, and are exempt from no statute or
    regulation. They comply with 23A and B, regulation O, capital
    requirements, prompt corrective action, anti-tying provisions,
    and the Community Reinvestment Act.
        Second, the FDIC has been given full and ample authority to
    supervise and regulate these institutions and can exercise the
    full range of enforcement powers. I was a participant in the
    political process that led to a rewrite of these provisions in
    1989 as part of FIRREA and it was our intention to give the
    FDIC and the other regulators all the enforcement powers they
    needed, which they exercised.
        Third, I can attest from experience that the FDIC does
    exercise these powers. It requires an independent board,
    adequate capital, safe and sound operations, and effective
    internal audit. It examines, it scrutinizes, and it exercises
    its powers to protect our system.
        And finally, the FDIC's experienced with industrial banks,
    similar to the experience of the OTS with respect to
    diversified owners of savings associations, belies any
    fundamental concerns to threats to our banking system. This is
    a well-capitalized, well-managed segment of the industry,
    making important contributions to consumers and small
    businesses. The FDIC's experience has been good.
        Finally, I want to address once more this myth of
    separation in banking and commerce. The Gramm-Leach-Bliley Act,
    to say that it was designed to make permanent that separation,
    is to ignore important provisions of that Act. There have
    always been affiliations and relationships between banking and
    commercial firms. These relationships have been carefully
    reviewed by Congress.
        If we were serious about eliminating it, we would preclude
    our banks from being affiliated with any entity. We wouldn't
    let Bank of America be affiliated with Bank of America
    securities, lest it favor its customers over those of Merrill
    Lynch. We would more closely scrutinize the propriety of a
    small business owner, a real estate developer, a car dealer
    owning a commercial bank in a small community, where sources of
    credit are lax.
        If we were really concerned, we would repeal the merchant
    banking powers in Gramm-Leach-Bliley and repeal the FDIC's
    power to grant commercial activity--permit commercial banks to
    engage in commercial activities in FDICIA. It is anomalous at
    best to be asserting that there is something wrong with a
    commercial entity engaging in banking when we have opened the
    door broadly and widely for banks to engage in and invest in
    commercial activities.
        I want to emphasize this last point. It is permissible
    under current law for any one of a number of banking
    organizations to use their powers granted under Gramm-Leach-
    Bliley to acquire any commercial entity. This bill would
    preclude any commercial entity from establishing a bank to
    facilitate the needs of meeting its customers, regardless of
    the size of the bank, the needs of its customers, or any other
    factor that might benefit our economy or our communities.
        I would submit that the breadth of our markets and the
    strength of competition in our financial services industry has
    served us well and submit that it would be unwise to roll back
    the clock by taking steps to limit competition in this area.
    Thank you very much.
        [The prepared statement of Mr. Douglas can be found on page
    87 of the appendix.]
        The Chairman. Thank you, Mr. Douglas.
        And next, Mr. Marc Lackritz, who is the chief executive
    officer of SIFMA.

        STATEMENT OF MARC E. LACKRITZ, CHIEF EXECUTIVE OFFICER,
         SECURITIES INDUSTRY AND FINANCIAL MARKETS ASSOCIATION

        Mr. Lackritz. Thank you, Mr. Chairman. I appreciate the
    opportunity to testify today before the committee, because the
    SIFMA members own a vast majority of the industrial bank assets
    in the United States. And as you know, Mr. Chairman, Congress
    passed Gramm-Leach-Bliley back in 1999 to allow affiliations
    between and among securities firms, banks, and insurance
    companies, combined with functional regulation.
        This ability to structure their operations optimally within
    existing law has really been critical to the success of
    industrial banks and their owners. Many of these companies are
    among the most advanced, sophisticated, and competent providers
    of financial services anywhere. And we support the ability of
    regulated securities firms to continue to own industrial banks
    the way they do under existing law.
        Federally insured industrial banks are subject to State
    banking supervision, FDIC oversight, and all the banking laws
    that govern relevant banking activities. Most importantly, the
    FDIC has the authority to examine the affairs of any affiliate
    of any depository institution, including its parent company.
        The FDIC's regulation of industrial banks has proven safe
    and effective. Industrial banks do not pose any greater safety
    and soundness risks than any other charter types and should not
    be subject to additional constraints beyond those imposed on
    other FDIC insured institutions.
        H.R. 698 would create a new holding company regime for the
    owners of industrial banks by expanding the existing authority
    of the FDIC over the owners of these institutions. Bank and
    thrift holding companies that own industrial banks would be
    exempted from this regime, presumably because they are already
    subject to holding company oversight by the Fed or the Office
    of Thrift Supervision. However, the bill fails to provide an
    exemption for industrial bank owners who are regulated as
    consolidated, supervised entities by the SEC.
        We believe it is critical that H.R. 698 be amended to
    recognize the SEC's CSE regime. The Commission established its
    CSE framework in 2004 in part to allow major securities firms
    doing business in the European Union to comply with its
    financial conglomerates directive. That directive requires that
    non-European firms doing business in Europe demonstrate that
    they are subject to a form of consolidated supervision by their
    home regulator that is equivalent to that required of their
    European counterparts.
        The GAO found in its recently released report on CSEs that
    the Federal Reserve, OTS, and the SEC were generally meeting
    criteria for comprehensive consolidated supervision. We agree
    that the CSE regime is both robust and comprehensive.
    Importantly, the Commission's CSE oversight, just like the
    Federal Reserve's oversight of bank holding companies, meets
    the EU's equivalency standard. In addition, the SEC's
    consolidated regulation standards closely parallel the Fed's
    standards to assess whether a foreign regulatory regime
    qualifies as consolidated regulation for a foreign bank
    operating in the United States.
        We therefore strongly urge the committee, Mr. Chairman, to
    recognize the SEC as a consolidated regulator along with the
    Federal Reserve and the OTS in H.R. 698. The SEC is recognized
    worldwide as a consolidated regulator and its regulatory
    requirements and procedures were very carefully designed to
    comply with all standards for effective consolidated regulation
    in the United States and abroad. That stature should be
    reflected in this bill, in order to ensure that global
    securities firms are not damaged inadvertently.
        Over the last 2 decades, capital markets and the financial
    services industry have become truly global, integrated, and
    interconnected. As capital markets and financial products
    continue to evolve, so too must our Nation's regulatory
    structure. We need a regulatory regime that is capable of
    keeping pace with rapid globalization, technological
    transformations, and dynamic market changes. That is why our
    new board of directors unanimously agreed that we will develop
    a long term strategy of seeking to modernize financial services
    regulation and deal with inconsistencies in the current
    regulatory system.
        We look forward to working with financial market
    participants, regulators, and legislators, and you, Mr.
    Chairman, to ensure that our financial services industry
    retains its preeminent status in the world. Thank you very
    much, Mr. Chairman.
        [The prepared statement of Mr. Lackritz can be found on
    page 138 of the appendix.]
        The Chairman. Thank you. And next is Mr. Thomas Stevens,
    who is the immediate past president of the National Association
    of Realtors.

    STATEMENT OF THOMAS M. STEVENS, IMMEDIATE PAST PRESIDENT OF THE
                    NATIONAL ASSOCIATION OF REALTORS

        Mr. Stevens. Thank you, Mr. Chairman, and committee
    members. Thanks for allowing us to do the soft shoe there.
        My name is Tom Stevens. As the 2007 immediate past
    president of the National Association of Realtors, and former
    president of Coldwell Banker Stevens, I am here today on behalf
    of the more than 1.3 million Realtors who work in all fields of
    commercial and residential real estate.
        The National Association of Realtors wholeheartedly
    supports H.R. 698 as it closes a loophole that allows
    commercial companies such as Home Depot to own state-chartered,
    federally insured banks. Perhaps more importantly, the
    Industrial Bank Holding Company Act of 2007 would restore one
    of our Nation's most fundamental economic principles, the
    separation of banking and commerce.
        I also thank Representative Gillmor for his dedication to
    pursuing a legislative solution to this important issue, which
    was raised more than 4 years ago.
        Let me be clear. Realtors have long supported the national
    policy against the mixing of banking and commerce. We oppose
    any efforts to weaken this policy, either by allowing
    commercial firms to engage in banking, or by permitting large
    national banks to engage in commercial activities, such as real
    estate brokerage and management.
        Realtors believe banking and commerce should remain
    separate for three key reasons. First, we strongly believe that
    allowing commercial firms to engage in banking would create
    inherent and irreconcilable conflicts of interest.
        Second, Realtors believe that giving large commercial firms
    the benefits associated with owning a federally insured bank
    would stifle competition in the marketplace. For example, if an
    ILC owned by a commercial firm provided loans on more favorable
    terms to suppliers or customers of its parent, it could put
    other commercial firms at a disadvantage. Likewise, allowing
    national banks to engage in commercial activities such as real
    estate would stifle competition from nonbank firms that do not
    share such benefits.
        Third, we believe that mixing banking and commerce poses
    substantial risks to the financial system. Over the last few
    years, regulators at the Federal Reserve, the OCC, and the FDIC
    have considered giving banks the green light to engage in
    commercial activities. We believe such activities markedly
    increase the risk exposure of national banks and could threaten
    the safety and soundness of the entire banking system.
        Banks should be in the business of banking, not selling
    cars, home improvement supplies, or real estate brokerage. When
    banking activities and commercial activities and commercial
    activities mix, it can be a recipe for disaster, bad for the
    economy, bad for businesses, and bad for consumers.
        Realtors applaud Representative Gillmor and Chairman Frank
    for taking the lead in this important issue. And we urge the
    House Financial Services Committee to pass H.R. 698, the
    Industrial Bank Holding Company Act of 2007.
        We also encourage Congress to pass H.R. 111, the Community
    Choice in Real Estate Act, which would similarly prevent large
    banks from entering the real estate business.
        And I want to thank you for your time and would be more
    than happy to answer any questions.
        [The prepared statement of Mr. Stevens can be found on page
    200 of the appendix.]
        The Chairman. Thank you, Mr. Stevens.
        I am not, myself, going to ask questions. I want to assure
    the panel it is not for lack of interest in what they say. Some
    of us have been working on this for some time. There are newer
    members who have concerns. I think we have had some serious
    conversations.
        So with that, I am going to turn to the gentleman from
    Illinois, Mr. Manzullo.
        Mr. Manzullo. Thank you. I--maybe the arguments here should
    be centered not on safety and soundness which, Mr. Douglas, you
    were talking about and Mr. Ghiglieri, among others. The issue
    here is how big are you going to get before you smash the
    little guys?
        Mr. Ghiglieri, do you want to take a stab at that question?
    Isn't that the issue?
        Mr. Ghiglieri. This is not an issue of competition. We are
    not and never have been afraid of competition. We compete with
    every financial services provider out there, from the big banks
    to the ILCs to credit unions to payday lenders.
        This is really about two issues, and that is maintaining
    the separation of banking and commerce, and providing a
    consolidated regulator at the holding company level for ILCs.
    But it is not about competition; we are not afraid of
    competition.
        Mr. Manzullo. Okay. Some have called this the bank of Wal-
    Mart. And some of the bankers that I have talked to have
    expressed a concern that when you get commerce on that level,
    that indeed will hurt competition, or if not competition, the
    ability to discern on the type of loan that should be given.
    Anybody want to take a stab at that?
        Mr. McVicker. It is really not about competition; it is
    about the issue that has been addressed from numerous panelists
    and the concern there is some safety and soundness risk, we
    believe, to the industry and to the FDIC fund.
        What Wal-Mart would be doing if they were approved remains
    to be seen. But our position was the same before Wal-Mart filed
    their application and remains the same after it has been
    withdrawn. And that is the concerns, the safety and soundness
    both of the regulatory system and the deposit insurance fund.
        Mr. Manzullo. Mr. Douglas?
        Mr. Douglas. I would say that if we're concerned about
    threats to the deposit insurance fund, there is certainly no
    evidence that industrial banks pose that threat. And if we look
    historically back the same 20-year period we've been looking at
    for commercial banks, one would say that consolidated
    supervision might pose a greater threat to our safety and
    soundness than an industrial bank.
        Virtually every financial institution that has failed in
    the last 20 years has been subject to consolidated supervision.
    The point is not that the Fed is a bad regulator or that the
    FDIC is a better regulator. The point here with industrial
    banks is that the FDIC and the States with their bank centric
    level of supervision has proven to be a pretty effective way of
    protecting our financial system.
        Mr. Manzullo. Do you agree with that Mr. Ghiglieri?
        Mr. Ghiglieri. Yes. I just think that it is a mistake to
    look backwards at the ILC industry and say that the system is
    necessarily sound because there have been no failures. I think
    we can all shudder to think what would have happened if
    WorldCom or Enron would have had an ILC. Or, going forward, if
    the ILC industry continues to expand like I think all of us
    think would happen. And I think that is where the threat to the
    deposit insurance comes in.
        Mr. Manzullo. Give us the worst possible scenario, if ILCs
    were allowed. I mean, it is obvious that you oppose them.
    Obviously, you oppose them.
        Mr. Ghiglieri. Well, I think you can look at the Japanese
    or the German model. In Japan, I remember as a young banker
    back in the 1970's listening to expert after expert and report
    after report talking about this wonderful Japanese economic
    model in this, you know, incredible Japanese banking model that
    was really built on commercial firms owning banks. It was
    projected to be the greatest economy the world would ever know
    and they were going to come to the United States and buy New
    York City brick-by-brick.
        And as we reflect back on that model, I think we can all
    agree that it has been a complete disaster. They've been stuck
    in a 20-year recession and really have no hope of getting out
    of it. The banking system is, in effect, insolvent. And I
    just--I can't imagine that is the system that we want for this
    industry that I love and am so passionate about.
        Mr. Manzullo. What is the difference between an independent
    bank having a presence in a Wal-Mart store and, for example,
    the Wal-Mart store owning the bank itself?
        Mr. Ghiglieri. In a concept like that, it is--you know, a
    lot of us have members that lease out space in Wal-Mart--it
    doesn't have to be Wal-Mart, it is a grocery store. There are
    all kinds of those operations. But those are just strictly bank
    branches. They lease out space and they sell their products and
    services. So it is much different than those commercial firms
    owning those branches.
        Mr. Manzullo. Mr. Douglas? I am trying to get a fight going
    here, but you guys won't put the gloves on.
        Mr. Douglas. Well, the truth of the matter is, Wal-Mart is
    attempting to meet the needs of its customers, were Wal-Mart to
    do this, the same way a commercial bank is trying to meet the
    needs of its customers, by finding locations where people can
    access products and services in a way that is convenient to
    them.
        One might say that one is better or worse than the other,
    but they are both subject to the same framework of laws and
    regulations. I find no fundamental unfairness or difference
    associated with one over the other.
        Mr. Manzullo. Mr. Lackritz?
        Mr. Lackritz. I would just say that I think the challenge
    you have is, and I think someone said it earlier on the earlier
    panel, that this thing, it is getting big and business is
    getting larger daily and moving at a faster pace. And I think
    the challenge you have is when you have a Wal-Mart that now
    owns a bank and you have conflicting interests, everything is
    great when things are going along well. You know, so was the
    real estate industry last year when things were going along
    well, and now there are challenges. And then the little things,
    subprime lending, those kinds of things start to crop up.
        But when you start to have that major corporation have some
    challenges and conflict, then there is a conflict with its
    subsidiary company or the bank that it owns, and you could have
    diverse decisions being made or decisions being made that
    aren't in the best interests of the bank or the bank's
    customers, versus the consumer of the goods out there.
        So I think it is an inherent conflict that you face.
        Mr. Manzullo. Thank you.
        The Chairman. I am going to recognize Mr. Matheson. I would
    just say that, in response to what Mr. Douglas said, the
    difference to me is in the incentives to which the economic
    entity responds, and that is the question, whether or not the
    incentive is that you make money off the loan and also off the
    product that is going to be bought with the loan and the extent
    to which that is going to alter that decision. That is the
    difference. And obviously, people keep talking about Wal-Mart,
    and it is true that Wal-Mart has withdrawn its application, but
    that does not change our view.
        I would note, however, in legal terms, Wal-Mart has
    withdrawn its application without prejudice. I think it is very
    clear that the reason Wal-Mart withdrew its application is that
    friends of the ILC industry said to Wal-Mart, will you please
    stop screwing up our industry because you are making everybody
    mad and would you go away. And they have withdrawn but they
    have not disappeared. And if we were, in fact, I think, finally
    to announce that there would be no such legislation and no
    moratorium, Wal-Mart would have every right in the world to
    come back in again.
        Mr. Matheson.
        Mr. Matheson. Thank you, Mr. Chairman.
        I just wanted to clear up one issue that came up in the
    subcommittee hearing last year as well, and that was comparing
    the Japanese model to ILC regulation. And I asked the panel of
    regulators in the subcommittee hearing last year if it's
    comparable and they said, no. So it is not exactly the same
    type of regulation. Would you agree with that, Mr. Ghiglieri?
        Mr. Ghiglieri. That may be the case. I mean, I am not a
    regulator.
        One thing that I do take issue with is this concept that
    ILCs and all of the rest of us are regulated the same way. We
    are regulated the same way at the bank level. But we have
    tremendous regulation at the holding company level and for a
    bank our size, it is a tremendous cost.
        Mr. Matheson. I think everyone stipulates to that, that
    there is a different model of regulation. It is called bottom-
    up for ILCs; it is top-down for other banks. And again, I don't
    think anybody on this committee disagrees with that. The
    question is, is one right and one wrong, or is there more than
    one right way to do something? And I think you know where I am
    coming from on that.
        But I think it is just important that we note the ILC model
    and the way we regulate in this country, I would not say that
    is the Japanese model. I just think we ought to have that for
    the record.
        You mentioned in your written testimony and your verbal
    comments, Mr. Ghiglieri, imagine if WorldCom and Enron had
    banks. And I would submit that instead of coming up with
    imaginary scenarios that sound pretty bad, let us look at the
    real scenario of when Tyco and Conseco had banks, as Mr. Leary
    mentioned in the previous panel. Are you familiar with that
    experience, where the parent companies had financial
    difficulties, one went into bankruptcy, and in both cases the
    ILC was separated from all those financial troubles? Actually,
    one sold as a premium after the fact?
        Mr. Ghiglieri. Yes.
        Mr. Matheson. Okay, so that's a real world example,
    compared to imagining scenarios. And I think that's important
    to point out, that the bottom-up regulation worked in those
    circumstances.
        Are you familiar with regulations 23A and 23B?
        Mr. Ghiglieri. Yes, I am.
        Mr. Matheson. Because in your testimony where you talk
    about how Home Depot may pressure people and that, do you
    recognize that would be a violation of existing law?
        Mr. Ghiglieri. Correct.
        Mr. Matheson. Okay. I just wanted to confirm that.
        Mr. Ghiglieri. And if I could just add to that? I think it
    is one thing to have a corporate decision that there would be
    no violation of 23A. But, you know, I think when you get down
    to the store level, when you get an entity that has thousands
    of stores, and you have people within those stores who are paid
    on the volume of transactions that are processed, I think it is
    natural, and I am very dubious about the fact that they would
    comply with that. And there has to be someone who complains in
    order to have the issue raised.
        Mr. Matheson. I understand your concern.
        Mr. Ghiglieri. But you do acknowledge that the way you
    describe it would be in violation of law, what is in your
    testimony?
        Mr. Matheson. I want to make sure of that.
        Just one quick observation for Mr. Connelly and Mr.
    Ghiglieri. I have been in this job now for 6 years and 4 months
    and I have had Utah community bankers come and meet with me on
    a periodic basis. Not one has ever mentioned the ILC issue.
    They live in the State where ILCs are based, we have all heard
    that. And they have never expressed concern to me.
        I am sure you can probably find somebody in your membership
    who has written me a letter. That may be. I am just saying, in
    my face-to-face meetings, they are far more concerned about
    issues--and I am not getting into this issue, Mr. Chairman--
    they are far more concerned about credit unions and whatnot
    than they are--
        The Chairman. If the gentleman would yield, we are very
    glad to accommodate the gentleman. But to have left the
    committee and then introduce the credit union issue is
    certainly a violation of the norm of--
        Mr. Matheson. That is the benefit of leaving the committee,
    Mr. Chairman.
        The Chairman. The gentleman, I assume, would like to be
    welcomed back?
        Mr. Matheson. I am done. And I just again want to
    reiterate, thank you for your generosity in letting me
    participate today, Mr. Frank.
        The Chairman. I am just going to recognize myself for 1
    minute, just to make a comment on the point we talked about,
    and it has to do with conflict of interest laws. And this is,
    in effect, the distinction between banking and commerce is a
    variant of a conflict of interest law.
        You do not pass conflict of interest laws to prohibit bad
    things. You pass substantive laws to prohibit bad things. The
    reason for laws prohibiting conflict of interest is that you
    want to reduce the number of occasions in which the temptation
    to do those things arises, in which incentives to violate the
    substantive laws are magnified, and in which the difficulty of
    enforcing the substantive law becomes more--greater. In other
    words, conflict of interest laws are to prevent you from--they
    are anti-temptation laws; they are not anti-act laws.
        Now that may or may not be right in this case, but that is
    the framework. So the fact that there are substantive laws that
    prevent things doesn't, in a number of other areas, tell us not
    to pass laws that diminish the incentive and opportunity for
    those things to happen.
        I thank the panel, I thank the members, and the hearing is
    concluded.
        [Whereupon, at 12:46 p.m., the hearing was adjourned.]
                                A P P E N D I X

                                 April 25, 2007

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