Remarks by
  
                        Eugene A. Ludwig
                  Comptroller of the Currency
  
                           Before the
                         Exchequer Club
                         Washington, DC
  
                        January 24, 1996
  
  
  This afternoon, I'd like to discuss with you the issue of
  financial modernization.  This is a topic of great importance
  made even more pressing by technological change and the
  increasing globalization trade.  In addition, as most of you
  know, Congress is once again in the midst of considering
  financial modernization legislation -- something it has done
  every few years since the early  70s.
  
  Now, if the history of legislative efforts in this area is any
  guide, financial modernization will not occur as quickly as
  many would like.  But I didn't come here today to dissect the
  complexities of the legislative process or discuss the odds of
  getting a favorable bill out of Congress.  Rather, I want to
  raise a broader question for us to consider:  Why do we
  continue to use a term as impressive as "financial
  modernization" to describe what is in today's world a rather
  narrow set of reforms centered on repeal or amendment of the
  Glass-Steagall Act?
  
  In my view, financial modernization should not be a synonym for
  narrow reform.  Indeed, I believe that financial services
  policy makers, the banking industry, and many of those who
  study and write about public policy in the financial services
  arena -- in focusing so narrowly on Glass-Steagall reform for
  so many years -- have failed to address more compelling public
  policy questions . . . questions that, as a nation, we must
  ultimately address to truly modernize our financial system.
  
  In short, it is time to think anew about the conceptual content
  we assign to "financial modernization" -- an issue that could
  impact considerably our country's economic prosperity and
  global competitiveness in the next century.  
  
  Twenty five years ago, this country tried to take advantage of
  a period of banking industry strength to reform and modernize
  financial services in a comprehensive way.  In 1971, the Hunt
  Commission urged us to -- and I quote -- "move as far as
  possible toward freedom of financial markets and equip all
  institutions with the powers necessary to compete in such
  markets."
  
  Twenty-five years later, that still sounds like good counsel. 
  Over the years, many bills have advanced under the banner of
  financial modernization.  Few of much significance have passed. 
  Banks still operate within walls constructed in the 1930s.  And
  as the years roll by, the Hunt Commission's observation, that
  banks have product and market specialization forced upon them
  by arcane statutes and rules, becomes more true all the time. 
  
  A generation of banking industry leadership has now spent much
  of their political careers and political capital battling over
  Glass-Steagall reform -- sadly, to little effect.  But let's
  suppose for a moment that Glass-Steagall reform passes
  tomorrow.  Would we then judge the past twenty-five years of
  political capital well spent?  Could we then breathe a
  collective sigh of relief knowing that --  modernized at long
  last -- our financial system is now prepared to carry America's
  economy forward into the next millennium?
  
  We must stop fooling ourselves.  Yes, Glass-Steagall reform
  would be a good thing for those banks seeking to enter more
  deeply into the securities business.  And, yes, properly
  executed, Glass-Steagall reform is good public policy.  But to
  say that passing Glass-Steagall reform would modernize the
  financial system is like saying that plowing one lane on
  Massachusetts Avenue completed Washington's snow removal
  effort.
  
  My point is this -- Glass-Steagall reform may be a good thing,
  it falls considerably short of real financial modernization. 
  And what I find discouraging is that -- by focusing so much
  attention on Glass-Steagall reform -- we are failing to deal
  with other issues even more central to modernizing our
  financial system.
  
  The banking industry runs the risk of spending an enormous
  amount of its political capital to reform one corner of the
  world, while most other -- even more critical -- segments of
  that world are rapidly changing and in desperate need of
  attention.  Banking industry leadership and policy makers
  should be vigorously addressing the new realities of the new
  environment -- an environment being shaped by technology. 
  Technology, what Alvin Toffler has called "that great growling
  engine of change," is changing the face of banking and
  financial services, and changing the way consumers purchase
  goods and services of all types.  If Glass-Steagall reform was
  the major financial modernization issue of 1971, the financial
  modernization issues of today and tomorrow will flow from the
  technological revolution in financial services.
  
  Our ability to bring banking and financial services into the
  21st century will determine how fast and effectively we realize
  technology's vast, still untapped, potential to fuel economic
  growth and opportunity for American businesses and consumers.
  
  Consider these numbers.  In the next five years, media and
  telecommunications companies plan to invest upwards of $70
  billion dollars to bring a truly customer-friendly Internet to
  millions of households.  Already, nearly every Fortune 500
  corporation is connected to the Internet, and 85 percent of
  companies with sales of $300 million or less are developing
  connections.  By one estimate, there will be 200 million
  Internet users in the year 2000.  Experts believe electronic
  commerce -- $245 billion today -- will account for nearly $3
  trillion by 2005.  
  
  And the Internet is only the tip of the iceberg.  Totally
  electronic market trading, e-money, a paperless payments
  system, vastly more sophisticated risk pricing and risk control
  models are all on the horizon.  Just think about what the
  tremendous increases in computer power has meant to an
  information-intensive business like banking.  Every 18 months,
  the cost of computing power halves, or -- put another way -- we
  can buy double the computer power for the same dollar -- every
  year and a half.  Just think what that's meant.  When personal
  computers entered our offices and homes in a big way in the
  early  80s, their floppy disks held 180,000 bites of
  information.  Today's standard personal computers feature CD-ROMs that hold over half a billion bites -- on disks the same
  size. 
  
  Given this onslaught of technological change, these are the $3
  trillion questions:  What will it take to reap the benefits of
  what Bill Gates calls "friction-free capitalism," where even
  the most humble of businesses have the opportunity to reach a
  worldwide market through electronic commerce?  What will it
  take to realize the enormous potential continuing technological
  innovation offers? 
  
  A key part of the answer lies in what consumers of all eras
  have always demanded -- confidence in a payment system that
  offers security and guarantees privacy.  America's banks --
  guardians of consumer confidence in their economic system for
  decades -- should have a pivotal, leading role in realizing the
  potential electronic commerce holds.  But it's ironic that
  banks, which can give consumers and merchants the confidence to
  realize technology's potential, expand markets and provide
  businesses new opportunities, have -- for much of the past 25
  years -- been on the receiving end of technology's growing
  influence.
  
  Technology has proved a great leveler, blurring the
  distinctions between the products and producers of financial
  services and unleashing intense globalized competition between
  banks, non-banks and international financial institutions.  The
  extent of that leveling is apparent when one considers the
  contestants in the current gold rush surrounding the
  development of new electronic money and payment technologies. 
  A casual observer might expect banks to be leaders in this
  race.  After all, we're talking about money and payment -- the
  very stuff of banking.  But while the contestants do include a
  few banks, at least equally prominent are scores of non-banks -- software producers, telecommunications firms, and so forth.
  
  Consider stored value cards.  For those of you unfamiliar with
  the concept, a stored value card is a prepaid card used to
  purchase goods or services.  Rudimentary stored value cards
  have been used in this country for years.  Some of you may have
  even used one today in the form of a Metro farecard.  Right now
  a number of firms are racing to bring far more sophisticated
  stored value cards to market -- cards that could be used not
  just in limited environments like subway systems, but more
  widely to purchase goods or services in both physical and
  virtual locations -- the marketplace and the marketspace.  The
  competing stored value cards differ in their particulars, but
  one difference is especially important: some -- not all -- of
  these products would be issued by nonbanks.
  
  Think about that for a moment.  Suppose for $100 you buy a
  stored value card from a non-bank, usable to purchase a wide
  range of goods and services.  Unlike a bank, that non-bank
  faces no minimum capital requirements, no liquidity standards. 
  If it fails before you spend the value stored on your card,
  your card may be worthless and you may be out of money.  No
  deposit insurance here.
  
  I'm not here today to suggest that non-banks shouldn't be in
  this business; there are serious arguments on both sides of
  this issue.  My purpose at present is to assert a much simpler
  point:  if you share my belief that electronic commerce will
  grow rapidly, and that new payment technologies will grow along
  with it, you should recognize that the prospect of non-bank
  issuance of electronic value presents public policy questions -- specifically, financial stability and consumer protection
  questions -- of considerable importance.  More important from
  the banking industry's perspective, perhaps, non-bank issuance
  of electronic value could present the banking industry with a
  competitive inequality far more significant to a far larger
  class of banks than anything now troubling the proponents of
  Glass-Steagall reform.
  
  Another question critical to the industry's future is the
  geography question.
  
  Since its inception, this country has been committed to a legal
  infrastructure that ties the activities of all manner of banks
  closely to state laws.  Even national banks draw many of their
  authorities from state laws.  Technology has put this legal
  infrastructure under increasing strain.  For example, who
  should we say has jurisdiction over a loan issued by a
  depository institution with offices in State A to a consumer in
  State B applying via a Web site maintained on a server in State
  C?  You can make up rules based on geography, but an answer
  derived from any set of geography-based rules will seem
  arbitrary, diminishing the credibility of the legal regime.
  
  In addition, financial markets are in fact steadily becoming
  more and more international.  And though, to be sure, it has
  its own complexities, the regulatory regime established by the
  European Union may well turn out to be less complex and
  therefore more efficient than the complex system of bank
  regulation and supervision we have built up here in America. 
  As international competition continues to intensify, that
  difference in regulatory efficiency will become a competitive
  disadvantage for American banks.
  
  And putting further strain on the question of geography is the
  breakneck speed with which America's depository institutions
  are consolidating.  A consolidated industry appears unlikely to
  support the full regulatory infrastructure of the existing
  system.  Moreover, as significant numbers of multi-state branch
  banks come into being under the  Riegle-Neal Act of 1994, they
  are likely to become a potent political force for harmonizing
  the current legal differences between the laws of different
  states and between state and federal laws.  Already, twenty
  states have exercised Riegle-Neal's early opt-in.  The trend
  toward interstate branching is clear and will certainly gain
  even greater momentum in the months ahead.
  
  Again, I'm not here today to argue for or against the pre-emption of state laws.  My point again is the much simpler one
  that the world is changing whether we like it or not.  The
  impact of these factors on bank operations and the operation of
  the bank regulatory and supervisory apparatus presents issues
  of critical importance to the entire banking industry  --
  issues that have everything to do with financial modernization
  in any meaningful sense of the term, but that Congress and the
  banking industry have not yet begun adequately to address.
  
  The question of non-bank involvement in the issuance of stored
  value and what I have called the geography question are not,
  I'm sure, the only financial modernization issues going
  unaddressed at present -- nor perhaps even the most critical. 
  In my opinion, however, each of these probably have greater
  relevance to the future of the banking industry than anything
  currently or recently considered by Congress under the
  financial modernization label.  The fact that these questions
  are not being addressed demonstrates clearly the danger of
  allowing our concept of financial  modernization to ossify.  A
  financial modernization agenda that, if accomplished, would
  bring the banking industry current circa 1971 forms a strange
  centerpiece for the 1996 deliberations of policy makers and
  industry leaders.  
  
  With or without Glass-Steagall reform, we need to move on to
  what are clearly the more critical issues for the banking
  system.  I know some will fault this perspective as hopelessly
  out of step with political reality.  Given how tough it's been
  to fight the battles of Glass-Steagall reform, how could we
  ever hope to move the ball forward on issues of even greater
  significance?  How could we ever hope to work through the maze
  of issues that pits the banking industry against non-banks?
  
  But neither policy makers nor the industry leadership can
  afford to be captured by the sort of inside-the-Beltway
  reasoning that says we should focus on the politically doable
  instead of the economically necessary.  We must address -- not
  ignore -- the critical problems we face, and we must work
  together to make it politically realistic to do so.  So let's
  step outside this Beltway mentality and forget -- for a moment
  -- what may or may not be politically doable at this moment.  
  
  Let's, instead, talk candidly about what we must do.
  
  First, we must give thoughtful consideration to the kind of
  financial services industry the country and the economy needs
  in the next century.  We need to abandon the narrow,
  protectionist, special interest-driven way we've viewed the
  future of financial services in America.  For too long, the
  players in the policy making drama have negotiated market
  restrictions and regulatory frameworks -- not on the basis of
  market realities and the level of risk -- but like barters at a
  trading bazaar.
  
  Second, we must adhere to free market principles in creating
  the industry of the future.  Even the truest of believers in
  the power of the competitive free market have trouble putting
  its theory into practice -- particularly when it runs counter
  to the entrenched interest of their allies.  However, I'm
  convinced that this model gives us the best chance of building
  a financial services industry capable of maximizing consumer
  benefits and helping the American economy compete
  internationally.  
  
  Third, we must also recognize that, in fact, government
  regulation plays a critical and necessary role in helping the
  market work efficiently, ensuring safety and soundness,
  protecting consumers, and stemming systemic risk in the entire
  financial services arena.  Responsible regulation is perfectly
  consistent with, and may even be essential to, a wide scope for
  market operations.  However -- and this is to my mind a
  critical however -- striking the proper balance between
  necessary regulation and uncessary burden is essential and
  requires an elevated discussion of what is and what isn't risky
  -- a level of thought and analysis that goes beyond myth or gut
  instinct.  Institutions that do precisely the same business
  are, today, regulated quite differently.  And that is not
  acceptable.  Many institutions face multiple federal and state
  regulatory bodies -- a hydra-headed monster that requires
  legions of lawyers and compliance officers to combat
  effectively.  If this regulatory morass is not made more
  rational, banks in particular will find it increasingly
  difficult to compete on equal footing.  In a highly
  technological world where efficiency ratios become even more
  critical to success, regulatory overload and imbalance will be
  a fundamental issue of bank survivability.
  
  In summary, America needs and deserves a thorough, thoughtful
  debate on how best to create a truly competitive, high-tech,
  safe and sound financial services industry and economy.
  
  And, I am convinced we can indeed create the kind of financial
  services system the American economy needs -- one that is
  efficient and dynamic, one that is the world's leading
  competitor and one that is capable of fostering growth and
  opportunity for businesses, individuals and communities.  That
  is what financial modernization should be about and what it
  must help accomplish in the months and years ahead.  We must
  not miss the opportunity to promptly address and achieve
  genuine financial modernization.
  
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