[Congressional Record Volume 142, Number 116 (Thursday, August 1, 1996)]
[Extensions of Remarks]
[Pages E1441-E1442]
From the Congressional Record Online through the Government Publishing Office [www.gpo.gov]




                FED MOVES TO KEEP U.S. BANKS COMPETITIVE

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                          HON. JOHN J. LaFALCE

                              of new york

                    in the house of representatives

                        Thursday, August 1, 1996

  Mr. LaFALCE. Mr. Speaker, I would like to commend the Federal Reserve 
Board for its proposal yesterday facilitating the ability of bank 
holding companies to compete with securities firms in underwriting debt 
and equity securities for their corporate customers.
  In 1987, the Federal Reserve Board authorized the securities 
subsidiaries of bank holding companies--commonly referred to as section 
20 subsidiaries--to underwrite and deal in corporate debt and equity 
securities to a limited degree. After 9 years of experience supervising 
the underwriting activities of section 20 subsidiaries, the Federal 
Reserve now believes it appropriate to make some modifications in the 
restrictions that currently apply to the underwriting activities of 
these section 20 securities subsidiaries. This is an appropriate and 
timely action by the Federal Reserve.
  In 1987, when it first authorized section 20 subsidiaries, the Board 
established as revenue test to ensure compliance with section 20 of the 
Glass-Steagall Act, which prohibits a bank from affiliating with a firm 
``engaged principally'' in securities underwriting and dealing. This 
revenue test limited the amount of revenue that section 20 subsidiaries 
could derive from underwriting and dealing in the types of securities 
that banks themselves were not allowed by the 1933 Glass-Steagall Act 
to underwrite--specifically, corporate debt and equity securities.
  In order to gain experience with supervising the underwriting 
activates of section 20 subsidiaries, the Board initially limited the 
revenue derived from debt and equity securities to 5 percent of total 
revenue of the subsidiary. Then in 1989, the Board raised the limit to 
10 percent.
  Many observers of the financial services market have long believed 
that the 10 percent revenue limitation imposed by the Federal Reserve 
in 1989 was a very conservative interpretation of the ``engaged 
principally'' test in section 20 of the Glass-Steagall Act. And even if 
this limitation was justified in 1989, the Board has now benefited from 
many years of experience supervising the securities activities of 
section 20 subsidiaries and is confident that these subsidiaries have 
operated in a safe and sound manner.
  Based on its substantial experience, the Board has now concluded that 
the current 10 percent revenue limitation is unduly restrictive of the 
underwriting and dealing activities of section 20 subsidiaries. 
Therefore, the Board is proposing to increase the revenue limit from 10 
percent of total revenues to 25 percent.
  This decision by the Federal Reserve to use its clear authority under 
existing law is absolutely essential. In the absence of congressional 
action, it is the only way to keep our banking system competitive. 
Despite lengthy debate, this Congress will not be able to pass a 
broader financial modernization bill repealing the relevant sections of 
the Glass-Steagall Act, in order to allow full affiliation between 
banks and securities firms, with appropriate prudential safeguards. 
Given this reality, it is essential that the Federal Reserve exercise 
its authority to interpret existing law in a manner that is responsive 
to developments in the financial marketplace.

  It should be emphasized that the House Banking Committee did take 
appropriate action last year with respect to repealing and modifying 
various sections of the Glass-Steagall Act. Regrettably, the broader 
financial modernization legislation ultimately became entangled in 
disagreements among affected parties. It would certainly be preferable 
for Congress to be able to pass truly comprehensive financial 
modernization legislation, providing a level playing field for all 
participants. However, the reality is that such an outcome is not 
possible this year.
  It should be acknowledged that for many years the financial market 
has been evolving in a way that clouds the distinction between banking 
and securities activities. This is particularly true with respect to 
the activities of financial institutions--both banks and securities 
firms--that conduct a wholesale business directed at meeting the 
financing needs of corporate clients. These corporations are looking 
for a financial institution able to serve all their financing needs--
borrowing, issuing securities, arranging private placements, risk 
management, and so forth. Wholesale financial institutions need to be 
able to provide those financing services as efficiently as possible, 
without segmenting their business in ways that have little to do with 
safety and soundness.
  Having been successful in winning substantial underwriting business 
from corporate customers, some of the section 20 subsidiaries 
affiliated with the largest money center banks--including those of J.P. 
Morgan & Co., Bankers Trust New York Corp., and Chase Manhattan Corp.--
are very close to their revenue limit. Without an increase in the 
revenue

[[Page E1442]]

limit, some section 20 subsidiaries would therefore be restricted in 
their ability to compete with securities firms for the underwriting 
business of corporations, thereby decreasing competition in the 
underwriting market.
  On the other hand, if the Federal Reserve's proposal is implemented 
and the revenue limit in increased, the effect will be to enhance 
competition in the corporate underwriting market, bringing the 
potential to benefit corporate issuers with lower underwriting costs. 
Such lower underwriting costs are ultimately passed through to 
consumers and shareholders, and also stimulate job creation.
  As part of this proposal to increase the revenue limit for section 20 
subsidiaries, the Board is also proposing for the second time revisions 
to three of the prudential limitations, firewalls, established in its 
original section 20 decisions. Specifically, the Board is proposing to 
ease or eliminate the following three restrictions on section 20 
subsidiaries: First, the prohibition on director, officer and employee 
interlocks between a section 20 subsidiary and its affiliate banks, the 
interlocks restriction; second, the restriction on a bank acting as 
agent for, or engaging in marketing activities on behalf of, an 
affiliated section 20 subsidiary, the cross-marketing restriction; and 
third, the restriction on the purchase and sale of financial assets 
between a section 20 subsidiary and its affiliated bank, the financial 
assets restriction.
  These firewall issues are relatively technical in nature. In general, 
however, the Board is confident that these firewall modifications can 
be made without in any way threatening the safety and soundness of the 
bank affiliate of section 20 subsidiaries, causing confusion to 
customers, or having a harmful affect on the operations of the section 
20 subsidiary itself.
  Again, I commend the Federal Reserve Board for its proposal and 
encourage my colleagues to support the Board in carrying out its 
authority to interpret banking laws in a manner which encourages a 
competitive marketplace able to respond to the needs of all consumers.

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