S. HRG. 108–885

CONSIDERATION OF

REGULATORY REFORM PROPOSALS

HEARING

BEFORE THE

COMMITTEE ON

BANKING, HOUSING, AND URBAN AFFAIRS

UNITED STATES SENATE

ONE HUNDRED EIGHTH CONGRESS

SECOND SESSION

ON

REGULATORY REFORM PROPOSALS

JUNE 22, 2004

Printed for the use of the Committee on Banking, Housing, and Urban Affairs

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Available at: http://www.access.gpo.gov/congress/senate/senate05sh.html

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25–856 PDF 2006

S. HRG. 108–885

CONSIDERATION OF

REGULATORY REFORM PROPOSALS

HEARING

BEFORE THE

COMMITTEE ON

BANKING, HOUSING, AND URBAN AFFAIRS

UNITED STATES SENATE

ONE HUNDRED EIGHTH CONGRESS

SECOND SESSION

ON

REGULATORY REFORM PROPOSALS

JUNE 22, 2004

Printed for the use of the Committee on Banking, Housing, and Urban Affairs

(

Available at: http://www.access.gpo.gov/congress/senate/senate05sh.html

COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS

RICHARD C. SHELBY, Alabama, Chairman

ROBERT F. BENNETT, Utah

WAYNE ALLARD, Colorado

MICHAEL B. ENZI, Wyoming

CHUCK HAGEL, Nebraska

RICK SANTORUM, Pennsylvania

JIM BUNNING, Kentucky

MIKE CRAPO, Idaho

JOHN E. SUNUNU, New Hampshire

ELIZABETH DOLE, North Carolina

LINCOLN D. CHAFEE, Rhode Island

PAUL S. SARBANES, Maryland

CHRISTOPHER J. DODD, Connecticut

TIM JOHNSON, South Dakota

JACK REED, Rhode Island

CHARLES E. SCHUMER, New York

EVAN BAYH, Indiana

ZELL MILLER, Georgia

THOMAS R. CARPER, Delaware

DEBBIE STABENOW, Michigan

JON S. CORZINE, New Jersey

KATHLEEN L. CASEY, Staff Director and Counsel

STEVEN B. HARRIS, Democratic Staff Director and Chief Counsel

DOUGLAS R. NAPPI, Chief Counsel

MARK F. OESTERLE, Counsel

PATIENCE R. SINGLETON, Democratic Counsel

LYNSEY N. GRAHAM, Democratic Counsel

STEPHEN R. KROLL, Democratic Special Counsel

DEAN V. SHAHINIAN, Democratic Counsel

JOSEPH R. KOLINSKI, Chief Clerk and Computer Systems Administrator

GEORGE E. WHITTLE, Editor

(II)

CONTENTS

TUESDAY, JUNE 22, 2004

Page

Opening statement of Chairman Shelby ................................................................ 1

Opening statements, comments, or prepared statements of:

Senator Johnson ............................................................................................... 2

Senator Crapo ................................................................................................... 3

Senator Stabenow ............................................................................................. 3

Prepared statement ................................................................................... 55

Senator Sarbanes .............................................................................................. 9

Senator Carper ................................................................................................. 9

Senator Reed ..................................................................................................... 25

Senator Hagel ................................................................................................... 55

Senator Santorum ............................................................................................ 56

WITNESSES

Mary L. Landrieu, A U.S. Senator from the State of Louisiana .......................... 4

Prepared statement .......................................................................................... 56

Blanche Lambert Lincoln, A U.S. Senator from the State of Arkansas .............. 5

Donald L. Kohn, Member, Board of Governors of the Federal Reserve System 11

Prepared statement .......................................................................................... 59

Response to a written question of Senator Johnson ...................................... 392

John M. Reich, Vice Chairman, Federal Deposit Insurance Corporation ........... 13

Prepared statement .......................................................................................... 70

Response to written questions of Senator Johnson ....................................... 395

JoAnn Johnson, Chairman, National Credit Union Administration ................... 15

Prepared statement .......................................................................................... 104

Response to written questions of:

Senator Johnson ........................................................................................ 397

Senator Reed .............................................................................................. 401

Julie L. Williams, First Senior Deputy Comptroller and Chief Counsel,

Office of the Comptroller of the Currency .......................................................... 17

Prepared statement .......................................................................................... 118

Response to written questions of Senator Johnson ....................................... 398

John E. Bowman, Chief Counsel, Office of Thrift Supervision ............................ 19

Prepared statement .......................................................................................... 150

Response to written questions of:

Senator Johnson ........................................................................................ 398

Senator Crapo ............................................................................................ 399

Senator Reed .............................................................................................. 401

John S. Allison, Commissioner of Banking and Consumer Finance for the

State of Mississippi, on behalf of the Conference of State Bank Supervisors . 20

Prepared statement .......................................................................................... 167

Roger W. Little, Deputy Commissioner, Credit Unions, Michigan Office of

Financial and Insurance Services, on behalf of the National Association

of State Credit Union Supervisors ...................................................................... 22

Prepared statement .......................................................................................... 185

Mark E. Macomber, President and CEO, Litchfield Bancorp, on behalf of

America’s Community Bankers ........................................................................... 29

Prepared statement .......................................................................................... 205

Response to written questions of Senator Reed ............................................. 402

Edward J. Pinto, President and CEO, Lenders Residential Asset Company,

LLC, on behalf of the National Federation of Independent Business ............. 31

Prepared statement .......................................................................................... 225

Page

IV

Dale L. Leighty, Chairman and President, First National Bank of Las Animas

(Colorado), on behalf of Independent Community Bankers of America .......... 33

Prepared statement .......................................................................................... 231

Bradley E. Rock, President and CEO, Bank of Smithtown, on behalf of the

American Bankers Association ........................................................................... 35

Prepared statement .......................................................................................... 259

Eugene F. Maloney, Executive Vice President, Federated Investors, Inc. .......... 36

Prepared statement .......................................................................................... 274

Marilyn F. James, CEO, NEPCO Federal Credit Union, on behalf of the

Credit Union National Association ..................................................................... 37

Prepared statement .......................................................................................... 280

Margot Saunders, Managing Attorney, National Consumer Law Center, on

behalf of Consumer Federation of America, Consumers Union, National

Association of Consumer Advocates, and National Community Reinvestment Coalition .................................................................................................. 39

Prepared statement .......................................................................................... 335

Edmund Mierzwinski, Consumer Program Director, U.S. PIRG, on behalf

of Consumer Federation of America, Consumers Union, National

Association of Consumer Advocates, and National Community

Reinvestment Coalition ....................................................................................... 41

Prepared statement .......................................................................................... 335

Bill Cheney, President and CEO, Xerox Federal Credit Union, on behalf

of the National Association of Federal Credit Unions ...................................... 43

Prepared statement .......................................................................................... 363

William A. Longbrake, Vice Chair, Washington Mutual Incorporated, on

behalf of the Financial Services Roundtable ..................................................... 45

Prepared statement .......................................................................................... 379

Response to a written question of Senator Crapo .......................................... 400

(1)

CONSIDERATION OF

REGULATORY REFORM PROPOSALS

TUESDAY, JUNE 22, 2004

U.S. SENATE, COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS, Washington, DC.

The Committee met at 10:08 a.m., in room SD–538, Dirksen Senate Office Building, Senator Richard C. Shelby (Chairman of the

Committee) presiding.

OPENING STATEMENT OF CHAIRMAN RICHARD C. SHELBY

Chairman SHELBY. The hearing will come to order.

I want to thank everyone for being here today, and judging by

the length of the witness list, that means a lot of thank you’s. I

will offer a blanket expression of gratitude.

But it should come as no surprise that so many witnesses are required for consideration of regulatory reform. The reality in today’s

marketplace is that technological development and shifts in consumer demand cause constant change in the financial services sector. This constant change, however, occurs in an environment

where laws and regulations remain relatively static.

I believe that the tension caused by this situation makes it incumbent upon this Committee to undertake periodic reviews of the

impact that the legal framework has on the operation of the marketplace. This entails reviewing the objectives behind the laws to

determine whether they still remain relevant. It also requires, in

the many instances where regulation is necessary, ensuring that

compliance with such regulation can be achieved in a straightforward manner.

The bottom line is this: Most financial service firms compete to

meet consumer demand and maximize profits. They are also tasked

to meet certain safety and soundness and consumer protection requirements. I believe it is our responsibility here to ensure that the

legal environment is such that firms can effectively meet their responsibilities to both the marketplace and to the regulatory system.

I would like to take a moment to thank Senator Crapo for his

efforts and hard work with respect to regulatory reform. I know

from past experience that developing a legislation product takes a

great deal of time, patience, and effort. I want to commend him for

the work he has done so far and the leadership he has shown. I

look forward to working with him as this process continues.

Again, I want to thank all the witnesses for being here today,

and I look forward to their testimony.

Senator Johnson.

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STATEMENT OF SENATOR TIM JOHNSON

Senator JOHNSON. Thank you, Mr. Chairman, and I want to

thank Ranking Member Sarbanes as well for his interest and concern on this issue.

I appreciate your holding this hearing to begin our dialogue

about reducing the regulatory burden faced by bankers and other

financial service providers. I am confident that this hearing will be

the beginning of a constructive period of collaboration to put together a bill that will maintain high standards for safety and

soundness while at the same time reducing unnecessary red tape

for financial institutions. And I want to welcome the excellent panels of witnesses that are here to join us this morning.

In South Dakota, we are extremely fortunate to benefit from a

stable mix of large and small financial institutions. We have more

than 100 small banks and credit unions scattered throughout our

State, reaching into even the most remote communities. These

small banks and credit unions provide critical financial services to

these communities which might otherwise be underserved.

However, I frequently hear from my constituents that the regulatory burden on banks and other financial service providers has

increased considerably over the past several decades. They report

increasing amounts of time, energy, and dollars spent to comply

with the numerous laws and regulations governing their operations. The 2003 nationwide survey of compliance offices by the

American Bankers Association confirms these anecdotes.

Concern about regulatory burden and its impact is not a new

topic for this body to address. In 1996, Congress, with my support,

passed the Economic Growth and Regulatory Paperwork Reduction

Act. That law requires the bank regulatory agencies to renew their

regulations at least once every 10 years. I understand that process

is underway, and I look forward to seeing progress from agencies

in that review.

Reducing regulatory burden does not always mean eliminating

laws and regulations. Proper reduction of regulatory burden does

not sacrifice safety and soundness principles or reduce the level of

consumer protection deemed adequate for the customers of banks

and other financial service providers. Good public policy simply involves passing laws that allow businesses to operate without undue

burden. One such example is legislation bringing uniformity to the

rental-purchase industry, a bill I have cosponsored in the past few

Congresses with one of our panelists, Senator Landrieu. I am

pleased that Senator Landrieu will have this opportunity to speak

about S. 884, which I believe is worthy of inclusion in any reg relief

package.

I want to thank the panel members for joining us today, and I

look forward to hearing their testimony, and I look forward to

working with Chairman Shelby, Ranking Member Sarbanes, Senator Crapo, and other Members of this Committee to put together

a reasonable and meaningful and doable regulatory relief package.

Mr. Chairman, I have some competing obligations that I am

going to be dealing with and will not be able to stay for the entire

duration of the hearing today. But, again, I thank you for calling

this hearing. I think it will be a very valuable contribution to an

urgent issue.

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Thank you.

Chairman SHELBY. Senator Crapo.

STATEMENT OF SENATOR MIKE CRAPO

Senator CRAPO. Thank you very much, Mr. Chairman. I, too,

want to thank all of the witnesses for coming today and in advance

will thank you for your cooperation, as we have not only a full,

busy day here in the Committee but we also have a full, busy day

on the floor. And we will, unfortunately, expect that there will be

some interruptions, and we will try to make those as minimal as

possible.

Eliminating outdated, ineffective, or unduly burdensome regulations that are not justified by either the need to ensure safety and

soundness or to protect consumers is the focus of this legislation.

We want to provide consumer protection on these critical and persistent issues within the banking purview of this Committee. When

regulatory burdens are excessive and fail to add net value, they

take a toll on the competitiveness of our financial system and

squander scarce resources that could otherwise be devoted to productive activities, such as making loans or extending credit to

small businesses and potential homeowners.

The sheer volume of regulatory requirements facing the financial

services industry today presents a daunting task for any institution. Although there are no definitive studies of the total cost of

regulation, it is estimated that the banking industry spends somewhere in the neighborhood of $26 to $40 billion annually simply to

comply with regulatory requirements.

As we proceed, we need to make sure that we enact enough

meaningful reforms so that the cost of change is not a burden in

and of itself. The specific recommendations of the witnesses today

will be of great use to me and to the other Members of this Committee as we create legislation to address the important issues of

financial services regulatory reform.

While finding a consensus on these issues may be difficult, I look

forward to working with you and the other Members of this Committee as we take up the regulatory relief issues in this Banking

Committee.

I want to thank again all of you for appearing here today, and

I look forward to your testimony and the questions and answers.

Chairman SHELBY. Senator Stabenow.

STATEMENT OF SENATOR DEBBIE STABENOW

Senator STABENOW. Thank you, Mr. Chairman. I would ask that

my full opening statement be placed in the record.

Chairman SHELBY. Without objection, it will be done.

Senator STABENOW. Thank you. In particular I want, though, to

welcome our colleagues, Senator Lincoln and Senator Landrieu. We

look forward to your testimony and appreciate your hard work.

I want to recognize Roger Little from the State of Michigan, our

Deputy Commissioner of the Office of Financial and Insurance

Services, and he also serves as Credit Union Director from Michigan. So we appreciate your testimony today.

I also welcome all of the other witnesses. We have a very broad

array of views that we are going to hear that will help us as we

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focus on regulatory reform. It is a very important topic, and it is

important we begin this discussion on how we are able to proceed.

Thank you, Mr. Chairman, for your work and Senator Sarbanes,

Senator Crapo, and everyone who is involved in this effort.

Chairman SHELBY. Thank you.

Our first panel is made up of Senator Mary Landrieu, a U.S.

Senator from Louisiana, and Blanche Lambert Lincoln, a U.S. Senator from Arkansas.

We will start with Senator Landrieu.

STATEMENT OF MARY L. LANDRIEU

A U.S. SENATOR FROM THE STATE OF LOUISIANA

Senator LANDRIEU. Thank you, Mr. Chairman. And you all have

a very full agenda, so I appreciate the opportunity, Mr. Chairman,

to just share a few thoughts with you about S. 884, the Consumer

Rental-Purchase Agreement Act, and ask that you would include

this, consider including it in your package of regulatory relief.

Mr. Chairman, you are a cosponsor of the bill, along with many

Members of the Committee, including Senator Johnson, who has

provided a lot of leadership on this issue in the last few years.

Chairman SHELBY. Without objection, it is so ordered.

Senator LANDRIEU. Thank you. I will just make a few points this

morning.

The rental-purchase industry makes household durable goods—

appliances, furniture, electronics, computers, musical instruments,

just to name a few—available to customers for rent on a weekly or

monthly basis. Many people, Mr. Chairman, who rely on rent-toown have no other means of acquiring household products. They

are often families just starting out with no credit, or they are

families who have had difficult times and have bad credit; military

families who are transferred from location to location and find

themselves only temporarily in a particular place; students who

need to furnish an apartment or dorm room; and, yes, Mr. Chairman, even Members of Congress who have moved to Washington

have used rent-to-own.

For these consumers, rent-to-own offers an opportunity to obtain

the immediate use and eventual ownership, if they desire, of the

things that many of us just take for granted—decent furniture, appliances like washers and dryers, et cetera—instead of using, as in

many instances, laundromats, dropping coins into machines they

will never own.

There is a store in a small town in North Louisiana, which is

how this came to my attention, in Delhi called ‘‘The Easy Way.’’

The President is Jimmy Strong. I have met with him many times

and talked with him about his business. He rents a lot of air conditioners to people who cannot afford to buy them and would otherwise have to suffer through fairly unbearable summers, and they

can do so through the hot months at very reasonable rates.

His customers, like other rent-to-own customers, are never obligated to rent beyond the initial term and can return the rental

product at any time. So there are advantages to this system over

the other system of credit currently only available under the law.

This bill attempts to do a couple of things. One, the purpose of

this Federal legislation is to establish a floor of regulation, not a

5

ceiling, and our legislation does not prevent other States from enacting either stronger, different, or modified consumer protection

laws as they see fit. States could also outlaw the practice if that

is what they want to do.

It does set a Federal definition of rent-to-own transactions as

rental-purchases and not as credit sales. This is the critical distinction. Under traditional credit transactions, the consumers must

make all the payments over a predetermined period of time or risk

default, repossession, deficiency judgments, and, at worst, could

damage their credit or have to take personal bankruptcy.

By way of stark contrast, the rent-to-own customer enjoys control

over his or her use of rental goods and the terms of the rental

transaction itself.

So, Mr. Chairman, those are just a brief outline of what this legislation attempts to do. I know that you personally are familiar

with this, as well as other Members. I appreciate the opportunity

just to review again the benefits of this legislation and ask that you

consider it in your regulatory package. Thank you.

Chairman SHELBY. Thank you.

Senator Lincoln.

STATEMENT OF BLANCHE LAMBERT LINCOLN

A U.S. SENATOR FROM THE STATE OF ARKANSAS

Senator LINCOLN. Thank you, Mr. Chairman and Senator Sarbanes, and all of our other colleagues here. I have been a little

overzealous with my statement, so if I get too long, just cut me off.

This is an issue that really only deals with our State of Arkansas, and I am very proud to be here to testify in support of my bill,

S. 904, allowing nonbank lenders in Arkansas who are currently

subject to State usury restrictions to charge the same rates of interest that their out-of-State competitors are legally importing into

Arkansas under Federal law. It is my hope that this bill will be included in your Regulatory Relief bill, and I am very proud and appreciative of the hard work that you have begun to put into this.

The most important thing that I would like to ask the Members of

this Committee to take from my testimony today is the question of

whether a State usury law is good for consumers or bad for consumers is not the issue with what we are trying to do in our bill.

With the passage of the Riegle-Neal Interstate Banking Act, the

debate concerning the consumer benefits of State usury laws came

to an end because lenders were then allowed to import their home

State interest rates across State lines. The only issue now left to

consider is whether in-State lenders who were placed at a competitive disadvantage because of this Federal law should be able to

compete on a level playing field with out-of-State lenders. For my

State, this is an issue of jobs, and I intend to fight very hard for

the legislation that I have proposed, with the unified Arkansas delegation and our Governor. So we are very appreciative to be here

today to state our case.

At this point, I would like to submit a copy of a letter from our

Governor. I would also ask that a copy of an article by two professors of finance and one professor of economics from the University

of Arkansas also be placed in the record.

Chairman SHELBY. Without objection, it will be included.

6

Senator LINCOLN. Thank you, Mr. Chairman.

Senator LINCOLN. The article is entitled ‘‘The History of Usury

Law in Arkansas from 1836 to 1990,’’ and I encourage all of my colleagues, particularly those who are critical of the current efforts of

the entire Arkansas delegation, to free Arkansas’ nonbank lenders

from unfair out-of-State competition, to read the article. It is an excellent account of how Arkansas has struggled with this issue over

the years before the passage of the Riegle-Neal Interstate Banking

Act in 1994. I will go over some of the history of the issue in my

testimony today, but I would like to highlight at this point two of

the conclusions that were made by the scholars.

First, and I quote:

To avoid the massive outflow of funds that the State has experienced in the past,

any new constitutional usury provision must be structured so that both the business

and financial communities are allowed a reasonable differential between their cost

of funds and what they can charge for those funds.

The second quote comments that:

Other costs in the form of a higher unemployment rate, higher prices, and the

inability of borrowers to gain access to needed funds have occurred as a result of

the restrictive nature of the State’s usury law. If all these costs were converted into

dollar amounts, there is no doubt that the price of having an artificially low interest

rate at various times throughout the State’s history would run into millions of dollars.

The Constitution of our State was rewritten in 1874 after Reconstruction was ended. Among the provisions written into the Arkansas Constitution at the time was a 10-percent cap on interest rates.

From the very beginning, this cap on interest rates has been a limitation on capital that has hindered progress in our State. Caps on

interest run counter to the economic realities of lending and have

thus served not as a protection of consumers but a hindrance. The

cap on the usury in Arkansas has limited the availability of capital

for start-up businesses, high-risk loans, and low-income working

families.

In 1982, Arkansas voters changes their Constitution by adopting

Amendment 60 and created a two-tier interest rate cap. The opponents to the Amendment 60 were led by the Arkansas State AFL–

CIO, the NAACP, and the Arkansas Community Organization for

Reform Now, which is known as ACORN. Endorsing the amendment were over 70 organizations as well as our Governor, Frank

White, Senator Pryor, Senator Bumpers, and former and future

Governor Bill Clinton. The amendment which passed with 59 percent of the vote provided a cap of 5 percent over the Federal discount rate for general loans and a 17 percent above the discount

rate for consumer loans. However, as is common with voter initiatives that do not move through an ordinary legislative process, the

amendment was not properly designed. The Arkansas Supreme

Court subsequently decided that the general loan provision

overrode the consumer loan provision; thus, all loans in Arkansas

were at that time capped at 5 percent over the discount rate. The

clear intent of the people to lift the usury cap for consumer loans

to something more in line with other States was struck down on

a technicality by the courts. I have included a copy of the court’s

decision in my testimony. Arkansas has thus been left as one of the

very few States that is still burdened by an antiquated and

anticapitalistic usury restriction.

7

In his book on economic development in the State, ‘‘Laboratories

of Democracy,’’ David Osborne wrote of Arkansas that:

The usury law which limits interest on loans to 5 percentage points above the

Federal Reserve Board’s discount rate continues to inhibit both long-term fixed-rate

loans and riskier short-term loans. He continues by saying that, ‘‘Governor Clinton’s

economic team recommended that it be abolished.’’

In the 1980’s, the damaging impact of Arkansas’s usury cap was

limited to economic growth and capital availability in the State. In

1994, Congress got involved. That is when the viability of the Arkansas-based lenders was put at risk by the action of Congress. In

1994, Congress passed the Riegle-Neal Interstate Banking Act,

many of you all will remember. This law gave interest lenders the

authority to charge either their home State or their host State interest rates. The Federal law eliminated the practical effectiveness

of Arkansas’ cap on usury for out-of-State lenders and put Arkansas lenders, who remained subject to the law, at a competitive disadvantage.

At this point I would like to ask that a November 1998 article

from The Economist magazine be placed in the record as well.

Chairman SHELBY. Without objection, it will be included.

Senator LINCOLN. Thank you, Mr. Chairman.

The article highlights the sad effects that the Riegle-Neal bill

had upon Arkansas lenders and our jobs, unfortunately. The inequity of this Federal law created an immediate crisis for Arkansas

banks competing with existing out-of-State bank branches in their

communities. This prompted a unified Arkansas delegation to push

to give Arkansas-chartered banks the authority to charge the same

interest rate as the host State of interstate bank branches as part

of the 1999 Gramm-Leach-Bliley Financial Modernization Act. This

provision was specific to Arkansas.

In 1999, other lenders, nonbank lenders, with less established

competitors did not feel the pressure as acutely as the Arkansas

bankers did at the time. However, competition from out-of-State

nonbank lenders has begun to take its toll on Arkansas lenders and

its jobs just as it did on State banks in past years.

In 2000, with the support of former Senator Hutchinson, I introduced legislation to allow nonbank lenders the ability to import the

rates of their competitors. The bill was modeled after the provision

that passed in the 1999 bill for banks. Democratic Congressman

Mike Ross, along with the entire House delegation, introduced

identical language. The bill was reintroduced in the 108th Congress with Senator Pryor. The bill enjoys the support of the Democratic legislature, the Republican Governor, and countless groups

in Arkansas who are truly concerned about job losses resulting

from the current State law. The House Banking Committee has approved the legislation twice since introduction, and recently the full

House approved the measure as a part of their regulatory relief

bill.

I would like to close, Mr. Chairman, by addressing the three

main criticisms I have heard about the legislation that I and the

Arkansas delegation have proposed, and I will try to be brief.

Number one, doesn’t the Arkansas usury provision protect consumers? Some argue that the usury cap in Arkansas serves a useful purpose for consumers and prevents discriminatory action by

8

lenders. However, because the Arkansas usury law only applies to

Arkansas-based lenders, consumers are not protected by this cap at

all. An out-of-State lender is contacted anytime a person’s credit

rating is too low to justify a capped rate. And as a result of the

Federal law, out-of-State lenders are allowed to give credit that Arkansas lenders cannot give.

And, in fact, the Arkansas usury cap, combined with the power

of out-of-State lenders to import their rates, actually leads to discriminatory actions by unscrupulous merchants. In order to prevent sales from leaving the State and their stores, sellers in Arkansas have begun charging higher prices for products in order to compensate for their inability to change interest. The high-risk credit

consumer can be lured into these schemes because he or she has

no other access to credit in Arkansas.

Second, shouldn’t Arkansas fix the problem at home? And I know

others think that we should, and that is why I want to make sure

this Committee understands why we cannot. The problem at hand

was created by Congress with the passage of the Riegle-Neal Interstate Banking Act. It is unlikely this Committee or the Senate

would recommend repealing the Riegle-Neal or imposing a usury

cap on all States. It was Congress that created a comparative disadvantage for Arkansas lenders by allowing the out-of-State lenders to import their rates. Congress has chosen to occupy the field

of interest rate restrictions and should act responsibly to negate

the inequities.

Further, in an environment where Federal laws and regulations

have substantively occupied the field, the organizing document of

a State is not flexible enough to keep up with the fluid changes of

the Federal law. For example, the current Arkansas constitutional

provision concerning usury ties interest rates in Arkansas to the

Federal Reserve Bank’s discount rate. The calculation of the discount rate was discontinued by the Federal Reserve Bank, and the

term ‘‘discount rate’’ is no longer used. So the inflexibility of the

Arkansas Constitution is left subject to interpretation.

And the last question, the lenders to whom we would extend the

usury override are not regulated by banks, and so we cannot trust

them with the power to charge a higher price for borrowed capital.

Out-of-State nonbank lenders are importing rates into Arkansas in

acts of interstate commerce. If critics of these lenders believe that

Congress should regulate nonbank lenders operating in interstate

commerce, they should propose that legislation, and that is something that we could certainly consider. However, there is nothing

righteous in giving nonregulated lenders a competitive advantage

over other nonregulated lenders because regulation does not exist.

Mr. Chairman, I thank you so much, you and your staff and the

other staff and the Members of the Committee, for indulging me.

This is an issue I have worked on since 1992, and it is one that

has a tremendous effect on our ability as a State to grow, to provide the jobs that working families need, but, more importantly, to

be a competitive State within this Union. And it is so important

for us to be able to right the wrongs that we have seen and the

disadvantages that we have found ourselves in. So, I would certainly ask you and the Members of this Committee to give every

consideration to including our bill in your reg relief reform packVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00016 Fmt 6633 Sfmt 6633 25856.TXT SBANK4 PsN: SBANK4
9

age. And if there are any questions, I will be more than happy to

work with you all to answer any of those questions that exist.

I did cut my testimony short. I know it is hard to believe.

[Laughter.]

I did not give you the full history of Arkansas banking law.

[Laughter.]

Chairman SHELBY. We will make your full testimony a part of

the record.

Senator LINCOLN. Thank you, Mr. Chairman, and thanks to all

of you for indulging me.

Chairman SHELBY. Senator Lincoln, let me ask you one quick

question. Did you say that the entire Arkansas Congressional delegation—you, Senator Pryor, and the Congressmen—the Governor

and everybody is for what you are proposing?

Senator LINCOLN. Yes, sir, the entire delegation as well as the

Governor are in full support of our legislation, and I have included

a letter from the Governor, and all of the other delegation members

are cosponsors.

Chairman SHELBY. Senator Sarbanes.

STATEMENT OF SENATOR PAUL S. SARBANES

Senator SARBANES. Mr. Chairman, I know we have a lot of other

people coming. We have these panels. I have a number of questions, but I am not going to pursue them.

Let me just ask one question. Arkansas could take care of this

problem by changing its constitution, could it not?

Senator LINCOLN. And we tried. As I mentioned in my testimony,

the first attempt there was poorly written. Changing the constitution is not an easy thing through the voters, and what we intended

to do was to change it, first of all, and being poorly written, I think

it was struck down by the courts.

Senator SARBANES. Well, it presumably could be well written and

an effort could be made again to change your own constitution in

order to take care of the problem, correct?

Senator LINCOLN. Some of our problems, however, do exist because of the Federal laws that we have passed, particularly the

Riegle-Neal Banking——

Senator SARBANES. Well, except we passed Gramm-Leach-Bliley

to even the playing field for the banks.

Senator LINCOLN. Yes, sir, but the nonbank lenders, and that is

who we address in this bill. But I would be glad to visit with Senator Sarbanes on any other questions he may have. I promise.

Chairman SHELBY. Senator Crapo.

Senator CRAPO. I have no questions.

Chairman SHELBY. Senator Stabenow, would you like to ask any

questions?

Senator STABENOW. No, Mr. Chairman.

Chairman SHELBY. Senator Carper.

STATEMENT OF SENATOR THOMAS R. CARPER

Senator CARPER. Senator Lincoln, how are you?

Senator LINCOLN. I am fine, Senator Carper. How are you?

Senator CARPER. Good to see you. I am fine, thanks.

10

I just came from another hearing, and I missed most of what you

said. I came in right at the end. Just give me a 30-second takeaway, what you would have us take away from what you said, so

that when the other Members of our panel who are not here say,

‘‘Well, what did Senator Lincoln have to say?’’ I will be able to capture this in a few words.

Senator LINCOLN. In a nutshell—and I have given them a long

history already—our usury laws in Arkansas have become quite

antiquated, and we have tried to address those through several

fixes in order to make sure that the caps that are on our lenders

in Arkansas, the interest rate caps, are brought into a competitive

level with out-of-State lenders who can transport their interest

rates into our State to make our State lenders. Our problem is that

nonbank lenders now are out of that competitive edge, and we

want to just bring them in to full competitive nature with others

who can import their rates into our State because it is causing

really quite an economic disadvantage for our State, particularly on

the parameters of the State where we have other States bordering

us and we are seeing all of our jobs going out of our State. And

much of our lending and capital as well is not staying in the State

because they can import rates that are much lower from other

places, not to mention the fact the disadvantage it puts many of

our low-income, working families who cannot access those other

lower rates, and they are only stuck with the in-State rates that

tend to be higher. We would like to be able to make availability to

them, too.

Senator CARPER. Thanks very much.

Senator LINCOLN. Thank you.

Chairman SHELBY. Thank you, Senator Lincoln.

Senator LINCOLN. Thank you, Mr. Chairman.

Chairman SHELBY. Senator Crapo, do you want to take over?

Senator CRAPO. [Presiding.] We will now call up our second

panel, and while they are changing the names, I will announce the

panel. This panel is Donald Kohn, a Member of the Board of Governors of the Federal Reserve System; John M. Reich, Vice Chairman of the Federal Deposit Insurance Corporation; JoAnn Johnson,

Chair of the National Credit Union Administration; Ms. Julie Williams, the First Senior Deputy Comptroller and Chief Counsel of

the Office of the Comptroller of the Currency; Mr. John Bowman,

Chief Counsel of the Office of Thrift Supervision; Mr. John Allison,

Commissioner of Banking and Consumer Finance for the State of

Mississippi, who will be testifying on behalf of the Conference of

State Bank Supervisors; and Mr. Roger W. Little, the Deputy Commissioner of the Credit Union Division for the Division of Financial

Institutions of the State of Michigan, who will be testifying on behalf of the National Association of State Credit Union Supervisors.

Ladies and gentlemen, we welcome you here with us today. Before we get started, let me just say several people have mentioned

the fact that we have a very full hearing today. You can see that

by the fact that we have to scoot the chairs close together and fit

everybody into this table. And we have another even larger panel

following the first panel. In fact, between this panel and the next

panel, we will actually take a break to add another table.

11

Senator CARPER. Mr. Chairman, is it true you are going to stack

the tables on top of each other, a double decker?

[Laughter.]

Senator CRAPO. We are going to keep everybody in suspense as

to just how we are going to fit that table in here, Senator Carper.

But that is a possibility under consideration.

I do not know this for a fact, but this hearing may set a record

for the number of witnesses that we have before us today. And that

is going to require that we all cooperate together. You should have

all been asked in the letter inviting you to testify—and this is for

the witnesses in the next panel as well. You should have received

a letter asking you to keep your testimony to 5 minutes, and we

have these little clocks in front of you that it is incredibly hard for

people to remember to look at when they are testifying. And so I

just remind you to pay attention to the clock, and if your 5 minutes

are up, I am going to just rap the gavel a little bit to remind you

to look at that. And I can assure you that very few of you will finish your testimony before the clock runs out.

I will also assure you that your testimony is going to be very

carefully read. Many of us have read a lot of it already, but your

written testimony will be made a part of the record. And we want

you to try to pay attention to the time limits that we have set here

so that we will have some time for questions and answers and dialogue as we get into some of the issues.

So please forgive me if I have to rap the gavel a little bit to remind you to look down. I am one of those people who, once I get

going, I do not look around at anything. So sometimes we need a

little reminder.

With that, we will go ahead and start up in the order that I indicated. Mr. Kohn, you are first.

STATEMENT OF DONALD L. KOHN, MEMBER

BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM

Mr. KOHN. Thank you, Senator, for the opportunity to testify on

legislative initiatives related to regulatory relief.

Early this spring Chairman Greenspan, in a letter to you, highlighted three important proposals that the Board has supported for

many years: Authorization for the Federal Reserve to pay interest

on balances held by depository institutions in their accounts at

Federal Reserve Banks, repeal of the prohibition against the payment of interest-on-demand deposits by depository institutions and

increased flexibility for the Federal Reserve in setting reserve requirements.

Senator CRAPO. Mr. Kohn, you want to pull that mike just a little closer to you?

Mr. KOHN. Sure. Is that better?

Senator CRAPO. Thank you. Yes.

Mr. KOHN. For the purpose of implementing monetary policy, the

Federal Reserve establishes reserve requirements on certain deposits of depository institutions. These requirements are met in part

through balances held at the Reserve Banks. Because no interest

is paid on these required reserve balances, depositories try to reduce their reserve requirements to a minimum through a variety

12

of reserve avoidance activities such as nightly sweeps of funds out

of deposits that are subject to reserve requirements.

These activities absorb real resources and diminish the efficiency

of our banking institutions. Payment of interest on required reserve balances would remove a substantial portion of the incentive

for depositories to engage in such avoidance measures. Resulting

improvements in efficiency should eventually be passed through to

bank borrowers and depositors.

Even greater efficiencies in regulatory burden relief might be realized by substantially reducing or even eliminating the reserve

requirements. Required reserve balances are useful for the implementation of monetary policy, in part because they provide a demand for balances at Federal Reserve Banks that is known in

advance. When the Federal Reserve supplies balances through

open market operations, it is able to achieve a given target level

for the Federal Funds rate because of that predictable demand.

Also reserve requirements must be met only on average over a 2-

week period. The averaging allows banks to seek extra reserves

when rates are low, and hold fewer reserves when they are high,

and this behavior helps keep the funds rate stable.

However, if granted the authority, the Federal Reserve might be

able to reduce substantially, or even eliminate, reserve requirements as long as it was authorized to pay interest on other types

of balances held at the Reserve Banks. For instance, contractual

clearing balances, which banks currently hold to ensure they can

clear checks and make wire transfers without incurring overnight

overdrafts, are also known in advance, and have an averaging feature like the balances used to satisfy reserve requirements. If explicit interest could be paid on such clearing balances, the demand

for them potentially could be high and stable enough for monetary

policy to be implemented effectively through existing procedures for

open market operations, even in the absence of reserve requirements.

The efficiency of our financial sector also would be improved by

eliminating the prohibition of interest-on-demand deposits. In order

to compete for the liquid assets of businesses, banks now set up

complicated procedures to pay implicit interest on compensating

balance accounts. Banks also spend resources—and charges fees—

for sweeping excess demand deposits of larger businesses into

money market investments on a nightly basis. Such expenses waste

the economy’s resources, and they would be unnecessary if interest

were allowed to be paid on both demand deposits and reserve balances that must be held against them.

Interest-on-demand deposits would clearly benefit small businesses that currently earn no interest on their checking accounts.

But banks would likely incur higher costs, at least in the short-run.

However, any cost increase for banks could have offsets through

the repricing of other services, interest earned on balances held at

the Federal Reserve, lower burdens of reserve requirements, the

elimination of sweep programs and other reserve avoidance procedures. Over time these measures should help the banking sector,

and especially small banks, to be more competitive in attracting

liquid funds.

13

Although the Federal Reserve Board strongly supports repealing

the prohibition of interest payments on demand deposits, the Board

opposes the provisions in H.R. 1375 that would permit industrial

loan companies to offer NOW accounts to businesses. ILC’s are

State-chartered, FDIC-insured banks, but their parent companies

are not considered bank holding companies. Thus, commercial companies can own an ILC that is, an FDIC-insured bank, without

complying with either the limitations on activities or the consolidated supervision requirements in the Bank Holding Company Act.

An amendment that would allow ILC’s to offer NOW accounts to

businesses would permit ILC’s to become the functional equivalent

of full service banks. H.R. 1375 also included ILC’s in a provision

removing limitations on de novo interstate branching. While the

Federal Reserve supports expanding de novo branching authority

for depository institutions, we believe that Congress should not

grant this new branching to ILC’s unless the corporate owners of

these institutions are subject to the same type of consolidated supervision and activities restrictions as the owners of other insured

banks.

Allowing a commercial or a financial firm to operate a full-service, nationwide insured bank outside the framework established by

Congress for the other owners of insured banks, raises significant

safety and soundness concerns, creates an unlevel competitive playing field, and poses important questions for the Congress concerning the Nation’s policy of maintaining the separation of banking and commerce.

Thank you, Mr. Chairman.

Senator CRAPO. Thank you very much, Mr. Kohn.

Mr. Reich.

STATEMENT OF JOHN M. REICH, VICE CHAIRMAN

FEDERAL DEPOSIT INSURANCE CORPORATION

Mr. REICH. Thank you very much, Senator Crapo, Senator Sarbanes, and Members of the Committee.

My name is John Reich. I am Vice Chairman of the FDIC. I am

also here as head of the EGRPRA Task Force. As Senator Johnson

mentioned earlier this morning, in 1996 Congress passed the Economic Growth and Paperwork Reduction Act, the EGRPRA, which

required that all regulatory agencies work together over a 10-year

period to review all regulations with an eye to eliminate those that

are outdated, unduly burdensome, and no longer necessary.

By way of background, I am a former community banker. I was

CEO of the National Bank of Sarasota in Sarasota, Florida for a

number of years, a $450 million bank that had 19 offices along the

West Coast of Florida. We were essentially a community bank.

In my capacity as Chairman of the EGRPRA Task Force, we

have held a number of outreach meetings beginning in June of last

year with the industry and with consumer groups. Last year, we

had outreach meetings in St. Louis, Orlando, Denver, San Francisco, and New York City. We held meetings this year in Nashville

and Seattle. We have one scheduled in Chicago. We had a consumer group meeting in February here in Washington, and will

hold one later this week in San Francisco, followed by one in ChiVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00021 Fmt 6633 Sfmt 6633 25856.TXT SBANK4 PsN: SBANK4
14

cago slated for September. We are trying to consider the interests

of all parties concerned.

My message to you this morning is, after speaking with many

bankers over the past year, that regulatory burden is indeed an important issue for all banks, large and small. It is a particularly important issue for small community banks. Small community banks,

in my opinion, face an uncertain future. Unless we take action soon

to provide them with regulatory relief, and relief from the continuing avalanche of regulations which continues to be imposed

upon community banks, they may indeed become an endangered

species.

I would like to draw your attention to—I hope you have them at

your seats—charts that are in front of you. Chart No. 1 is a chart

of what has happened in community banking over the past 20

years. At the end of 1984, there were 11,780 community banks

with assets under $100 million in the United States. At the end of

last year, that number had declined dramatically to 4,390.

Chart No. 2 shows the market share of industry assets held by

community banks. Adjusted for inflation, community banks held 9

percent of industry assets 20 years ago. The absolute number at

that time was 13 percent. As of the end of last year, the market

share of community banks with assets under $100 million, had declined to 2 percent. Chart No. 3 shows the growth in assets of banks over $10 billion.

There are 110 banks in the United States today with assets over

$10 billion. Twenty years ago, those banks had a market share of

27 percent. At the end of last year, the market share of the

megabanks over $10 billion in assets, had grown to 70 percent.

It has been widely reported that the industry as a whole earned a record $120.6 billion last year, surpassing the previous record of

the year before of $105 billion. What is not often reported is the

considerable disparity in earnings between large banks and small

banks in the country. It is, indeed, as FDIC Chairman Powell has

stated, a tale of two industries.

Last year, the 110 largest banks in the country earned $87.7 billion or 73 percent of total industry earnings. By contrast, the 4,390

community banks, representing 48 percent of the total number of

institutions, earned only $2.1 billion, just 1.7 percent of total industry earnings. As Chart 4 shows, the community bank share of industry earnings has been on a downward slope since 1990, and I

expect that this trend will continue.

I believe the disparity in profitability can be attributed, at least

in part, to the disproportionate impact of the cost of compliance

with accumulated regulation that has been placed on community

banks.

To comply with the requirements of EGRPRA, as I mentioned,

we are engaged in a joint effort to solicit comments from the public.

The outreach meetings that I referred to have been attended by

representatives of all of the Federal regulatory agencies: The OCC,

the FDIC, the OTS, and the Federal Reserve. The State regulatory

agencies are also participating at each of our outreach meetings.

We divided all Federal regulations into 12 categories and are putting one or more categories out for public comment every 6 months

until 2006. Through our outreach meetings and comment letters we

15

have received to date, we have identified a number of possible legislative proposals that I believe deserve our careful review and consideration by Congress.

In my written testimony are the following proposals: First, to

eliminate unnecessary reporting requirements for bank officers and

directors; second, to streamline the application process for certain

bank mergers; third, to eliminate the annual privacy notice distribution requirement for banks that do not share personal information with third parties; fourth, to provide consumers the flexibility to weigh their right of rescission under certain circumstances

and receive their money faster at real estate closings; fifth, to update certain provisions of the National Flood Insurance Act; and

six, to repeal the CRA Sunshine Law. This is the first of what I

expect will be a longer list of legislative proposals that we will be

reviewing and recommending as a part of our EGRPRA regulatory

review process.

Along with a number of issues pending on which we have not yet

reached consensus, we will also have an opportunity to review the

ideas and proposals that are suggested at this hearing today to develop a comprehensive list of regulatory relief initiatives that I

hope all of the agencies can and will support. I intend to spend a

substantial portion of my time over the next several months working toward this end.

Thank you, Mr. Chairman, for holding this hearing. I appreciate

the opportunity to be here, and look forward to questions.

Senator CRAPO. Thank you.

Mrs. Johnson.

STATEMENT OF JOANN JOHNSON

CHAIRMAN, NATIONAL CREDIT UNION ADMINISTRATION

Mrs. JOHNSON. Senator Crapo, Senator Sarbanes, and Members

of the Committee, thank you for inviting me to appear on the panel

today. On behalf of the National Credit Union Administration, I am

pleased to provide our agency’s views on regulatory efficiency recommendations. My written comments, previously provided to you,

cover a number of issues, some of which I will highlight for you.

It is my strong belief that effective regulation, and not excessive

regulation, should be the underlying principle supporting NCUA’s

critical mission of ensuring the safety and soundness of federally

insured credit unions. In this regard, NCUA is carefully coordinating with the other four Federal financial institution regulation

agencies in the review project mandated by the Economic Growth

and Regulatory Paperwork Reduction Act of 1996, and we will soon

be making our third request for public comment.

NCUA also scrutinizes one third of NCUA existing regulations

annually to find ways to simplify or improve any rule that is outdated or in need of revision. To date, this internal process has

brought about important regulatory reform for credit unions in

many of NCUA’s rules, including those on lending, share accounts,

and incidental powers. We are on track to meet the EGRPRA deadline of 2006.

A time sensitive recommendation in my testimony today stems

from the Financial Accounting Standards Board’s proposed change

in the accounting treatment of credit union mergers. This is a reVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00023 Fmt 6633 Sfmt 6633 25856.TXT SBANK4 PsN: SBANK4
16

cent development. Therefore, it has not previously been included in

recommendations NCUA has submitted for your review. FASB’s

change will, in effect, prevent credit unions from moving forward

with mergers which are clearly in the best interest of their members. Specifically, the change will provide that when two credit

unions merge, the retained earnings of the discontinuing credit

union would not be included in the post-merger net worth. FASB

expects to implement this change as early as January 1, 2006.

NCUA has suggested addition of statutory language to the Federal

Credit Union Act, as well as report language, clarifying the limited

purpose of this amendment to maintain net worth as it is. That

language is attached to and made part of my written testimony for

the Committee’s consideration.

Another issue concerning net worth is the statutorily imposed requirements for prompt corrective action and NCUA’s recommendation to move to a more equitable system where net worth requirements are more dependent on the risk in an individual credit

union. Legislation introduced in November 2003, H.R. 3579, the

Credit Union Regulatory Improvement Act of 2003, CURIA, has

begun deliberations over how such a risk-based system could be applied to federally insured credit unions. NCUA strongly supports a

risk-weighted system. A well-designed, risk-based system would alleviate regulatory concerns by not penalizing low risk activities and

by providing credit union management with the ability to manage

their compliance through adjustments to their assets and activities.

An important area where NCUA does not have jurisdiction comparable to the bank regulators, involves third party vendors. NCUA

does not have direct authority to examine third party vendors that

provide services to federally insured credit unions. Statutory authority previously existed for NCUA, but under a sunset provision,

expired in 2001. We are currently required to work through credit

unions to obtain vendor information or seek voluntary cooperation

from vendors. We believe that in these times, privacy, money laundering, and financing of terrorism are issues of paramount national

interest as well as general safety and soundness concerns. NCUA

should have direct examination authority over those vendors providing services for federally insured credit unions.

A restoration of NCUA’s examination authority would provide

parity with other financial regulators. It would also eliminate the

need for us to approach the matter indirectly through credit

unions, thus providing some measure of regulatory relief. This is

consistent with the October 2003 GAO report, which stated that

Congress may wish to consider granting this authority to NCUA.

Other issues of which we are supportive: Authorizing Federal

credit unions to provide check cashing and money transfer services

to anyone eligible to become a member. This will greatly assist

reaching unbanked individuals. Allowing the NCUA Board to set

the investment limit for credit unions and credit union service organizations by establishing up to a new 3 percent investment limit.

Seeking a provision to provide regulatory relief from the requirement that credit unions register with the Securities and Exchange

Commission as broker/dealers when engaging in certain securities

activities as banks are currently allowed.

17

NCUA has reviewed all of the additional credit union provisions

included in the House passed bill, and the Agency has no safety

and soundness concerns with these provisions.

For the record that NCUA is neither the regulator of nor the insurer of State-chartered credit unions whose deposits are not

insured by the National Credit Union Share Insurance Fund. Accordingly, NCUA has no official position on the public policy issue

related to privately insured, State-chartered credit unions being eligible to join the Federal Home Loan Bank System.

However, it is our belief that there is a problem with the language added to the basic provision to Section 301 or H.R. 1375. In

our view, the language requiring private insurance providers to

submit copies of their annual audit reports to NCUA should be removed to avoid potential consumer confusion and misunderstanding with respect to NCUA’s jurisdiction, and with respect to

the private nature of this insurance coverage. Also, we believe that

the consultation language seeking to bring the NCUA into a role

that appropriately rests with State credit union and insurance regulators should also be removed.

Thank you for allowing me to testify today and address these important regulatory reform issues. We hope to gain your support for

these recommendations, and I would be pleased to assist you further on these in any way I can.

Thank you.

Senator CRAPO. Thank you, Mrs. Johnson.

Ms. Williams.

STATEMENT OF JULIE L. WILLIAMS

FIRST SENIOR DEPUTY COMPTROLLER

AND CHIEF COUNSEL

OFFICE OF THE COMPTROLLER OF THE CURRENCY

Ms. WILLIAMS. Thank you. Senator Crapo and Members of the

Committee, the Office of the Comptroller of the Currency welcomes

the opportunity to contribute to the effort to address unnecessary

regulatory burden on the banking industry. We very much appreciate your commitment and your dedication to this issue.

Unnecessary regulation imposes both direct and indirect costs.

When unnecessary regulatory burdens drive up the cost of doing

business for banks, bank customers feel the impact in the form of

higher prices and in some cases, diminished product availability.

Unnecessary regulatory burden can also become an issue of competitive viability, particularly for our Nation’s community banks,

where bankers face competitors that offer comparable products and

services but are not subject to comparable regulatory requirements.

This is a challenge that we must confront on several levels. First,

when regulators adopt regulations, and as we review the regulations that we already have on the books, we have a responsibility

to ensure that regulations are effective to protect safety and soundness, foster the integrity of bank operations, and safeguard the interests of consumers. But we also have a responsibility to regulate

efficiently so that we do not impose regulatory burdens that are

unnecessary to achieve those goals.

Second, there are regulatory burden initiatives that must come

from Congress in the form of Federal legislation, adding provisions

18

to law to provide new flexibilities, modifying requirements to be

less burdensome, and, in some cases, perhaps eliminating certain

requirements currently in the law altogether.

Finally, it is important to recognize that many of the areas that

are often identified as prospects for regulatory burden reduction involve requirements put in place by Congress for the protection of

consumers. Over the years, these requirements have accreted, and

in the disclosure area, in particular, consumers today may receive

disclosures that are so voluminous and so technical that many simply do not read them—or when they do—do not understand them.

As we continue our efforts to address regulatory burdens, we are

going to run out of discrete fixes to make at some point and face

some more fundamental questions about basic approaches that we

pursue. If we are to undertake that task, and do that responsibly,

we need much better data than we have now on the costs resulting

from particular regulatory requirements and the benefits of those

requirements—particularly data relative to the benefits of other approaches that could achieve Congress’s goals with lesser burden. I

would urge the Committee to consider what information and analysis would be needed as a foundation for that type of undertaking.

Congress took an important step to address the challenge of unnecessary regulatory burden in 1996 when it passed the Economic

Growth and Regulatory Paperwork Reduction Act. As you know,

that Act requires the regulatory agencies to conduct a review of all

pertinent regulations every 10 years in order to identify outdated

and unduly burdensome regulatory requirements. That review is

now well underway, as you have heard from Vice Chairman Reich,

under the Vice Chairman’s very capable and dedicated leadership.

Ultimately, however, some important forms of regulatory relief

require changes in Federal law. My written testimony describes a

number of areas that we urge the Committee to consider at this

time, and I will highlight just a few.

As both national and State banks seek to establish branch facilities to enhance their service to customers, a change that would reduce burden would be to repeal the State opt-in requirement that

today blocks banks in many States from expanding interstate

through de novo branching.

We also urge that directors of national banks that are organized

as Subchapter S corporations be allowed to satisfy their directors’

qualifying share requirements under the National Bank Act by

purchasing subordinated debt instead of capital stock.

Another change that would provide some valuable simplification

for national banks and for Federal thrifts would be a clarification,

that for purposes of determining Federal court diversity jurisdiction, national banks and Federal thrifts are citizens only of the

State in which these institutions have their main office.

One last change I would mention here is an amendment to the

International Banking Act of 1978 which would allow the OCC to

set the capital equivalency deposit for Federal branches and agencies to reflect the risk profile of the branch or agency. This would

create a framework for capital adequacy standards for Federal

branches and agencies that more closely resembles the risk-based

capital framework now applicable to our domestic banks.

19

On behalf of the OCC, we very much appreciate your efforts

today, and the Committee’s efforts in prior years, to identify ways

to reduce unnecessary burden on the banking industry while preserving safety and soundness and looking out for the interests of

bank customers. We look forward to working with you, Senator

Crapo, with other Members of the Committee, and with your staffs

on these issues, and I would be very happy to answer your questions at the appropriate time.

Senator CRAPO. Thank you, Ms. Williams.

Mr. Bowman.

STATEMENT OF JOHN E. BOWMAN

CHIEF COUNSEL, OFFICE OF THRIFT SUPERVISION

Mr. BOWMAN. Good morning, Senator Crapo and Members of the

Committee. Thank you for the opportunity to testify on the regulatory burden relief initiatives of the Office of Thrift Supervision.

It is always important to remove unnecessary regulatory obstacles that hinder profitability, innovation, and competition in our financial services industry. I particularly want to thank you, Senator

Crapo, for your leadership in this area. We look forward to working

with you and your staff on legislation to address the issues we discuss today.

In my written testimony, I discuss a number of proposals that we

believe would significantly reduce burdens on thrift institutions. I

ask that the full text of that statement be included in the record.

Senator CRAPO. Without objection, and the text of all statements

today will be in the record.

Mr. BOWMAN. Today, I will highlight the two items in particular

that would provide the most significant relief to thrifts. These are

the proposed amendments that would treat thrifts and banks the

same under the Federal securities laws.

Banks and thrifts may engage in the same type of activities covered by the investment adviser and broker/dealer requirements of

the Federal securities laws, and these activities are subject to substantially similar supervision. The key point is that banks, but not

thrifts, are exempt from registration under the Investment Advisers Act of 1940; and banks, but not thrifts, enjoy an exemption

from broker/dealer registration under the 1934 Act for certain activities specified under the Gramm-Leach-Bliley Act.

For purposes of the broker/dealer requirements, until recently

the SEC has treated thrifts the same as banks. however, the Commission has just issued two proposals, one in the broker area and

the other dealing with the investment adviser issue, that fail to extend the same treatment to thrifts as banks enjoy in these two

areas. Treating thrifts and banks the same under the Federal securities laws makes sense for a number of reasons.

Thrifts fill an important niche in the financial services arena by

focusing their activities primarily on residential, community, small

business, and consumer lending. The Homeowners Loan Act allows

thrifts to provide trust and custody services on the same basis as

national banks, and investment adviser and third party brokerage

in the same manner as banks. Not only are the authorized activities the same, but OTS also examines those activities in the same

manner as the other banking agencies.

20

While the bank and thrift charters are tailored to provide powers

focused on different business strategies, in areas where powers are

similar, the rules should be similar. No legitimate public policy rationale was served by imposing additional and superfluous administrative costs on thrifts to register as an investment adviser or as

a broker/dealer when banks are exempt from similar registration.

There should be similar treatment for regulated entities in similar

circumstances.

The circumstances here are that, first, thrifts, like banks, have

a regulator that specifically supervises the types of activities covered by the investment adviser and broker/dealer registration requirements. Second, thrifts, like banks, are subject to the same

functional regulatory scheme endorsed by the Gramm-Leach-Bliley

Act. Third, thrifts, like banks, are subject to substantially similar

customer protections with respect to the activities covered by the

registration requirements, which by the way, are based on the

SEC’s own customer protection rules.

The only difference is that thrifts, unlike banks, are subject to

an additional and clearly burdensome administrative registration

requirement. It is best stated in the SEC’s own words from the preamble to their May 2001 interim final rule extending broker/dealer

parity to thrifts: ‘‘Insured savings associations are subject to a

similar regulatory structure and examination standards as banks.

Extending the exemption for banks to savings associations and savings banks is necessary or appropriate in the public interest, and

is consistent with the protection of investors.’’

OTS strongly supports legislation similar to that in Section 201

of H.R. 1375, the bill passed by the House in March of this year,

to extend the bank registration exemptions to thrifts. Absent this

treatment, thrifts are placed at a competitive disadvantage that is

without merit and imposes significant regulatory cost and burdens.

As recently as the Gramm-Leach-Bliley Act, Congress affirmed

the principles underlying the bank registration exemption. We believe the best way to absolve this matter for thrifts with certainty

and finality is for Congress to extend, by statute, the same exemption to thrifts. OTS is committed to reducing burden whenever it

has the ability to do so consistent with safety and soundness and

compliance with the law.

We look forward to working with the Committee to address these

and the other regulatory burden reduction items we discussed in

our written statement. I especially thank you, Senator Crapo, and

all who have shown leadership in this area.

I would be happy to answer any of your questions.

Thank you.

Senator CRAPO. Thank you very much, Mr. Bowman.

Mr. Allison.

STATEMENT OF JOHN S. ALLISON

COMMISSIONER OF BANKING AND CONSUMER

FINANCE FOR THE STATE OF MISSISSIPPI

ON BEHALF OF

THE CONFERENCE OF STATE BANK SUPERVISORS

Mr. ALLISON. Senator Crapo and Members of the Committee, I

appreciate this opportunity to appear on behalf of the Conference

21

of State bank Supervisors to present the views of CSBS on the important issue of regulatory burden as it impacts the Nation’s banking system.

As current Chairman of CSBS, I am pleased to represent my colleagues in all 50 States and the U.S. territories. As supervisor of

over 74 percent of the Nation’s bank charters, State banking regulators have the closest vantage point when it comes to supervisory

issues as well as issues relating to our State and local economies.

Let me mention that CSBS is very concerned over regulatory actions that have resulted in a grave imbalance in the dual banking

system. As of year end 2003, national banks had approximately 56

percent of the total assets in the banking system. Already since

February, when the Office of the Comptroller of the Currency finalized its rule preempting national banks and their operating subsidiaries from State consumer protection laws, two large Statechartered banks have announced plans to convert their charters to

national banks. With the announced and predicted conversions, the

State system will have shrunk from 44 percent of the banking system’s assets to under 33 percent in less than a year. Should many

more of these banks with interstate operations switch charters, the

State system as a whole will suffer. We believe that without a viable State chartering system there would not be community based

banks.

Federal Reserve Chairman Greenspan has referred to the American dual banking system and its support of the community banks

as jewels of our economy. The preservation of a State chartering

and regulatory system sets the United States’ financial system

apart from every other developed Nation and has primarily contributed to our Nation’s diverse, resilient, and responsive economy.

Centralization of authority or financial power in one agency or in

a small group of narrowly regulated institutions would threaten

the dynamic and responsive nature of our financial system. Therefore, the most important contribution toward reducing regulatory

burden may be empowering the State banking system.

With this in mind, there are several provisions that we believe

should be considered for any regulatory burden relief legislation

that would be introduced in the Senate, and I will go over just a

couple.

First, coordination of State examination authority. Through the

CSBS Nationwide State-Federal Cooperative Agreements, State

banking commissioners are working closely with either the FDIC

or Federal Reserve and banking commissioners in host States

where their bank operates branches, to provide quality risk-focused

supervision. To further support these efforts, we strongly support

including the provisions in the House regulatory relief bill that reinforces these principles and protocols. While the House language

gives primacy of supervision, including the ability to charge supervisory fees to the chartering State, it requires both home and host

State bank supervisors to abide by any written cooperative agreement relating to coordination and joint participation in exams.

Second, de novo interstate branching. CSBS supports the provision in the House regulatory relief bill allowing de novo interstate

branching for banks and trust companies. Current Federal law

takes an inconsistent approach toward how banks may branch

22

across State lines. Creative interpretations of this law have placed

State-chartered institutions at a competitive disadvantage to those

larger federally chartered institutions that can branch without restriction. We encourage you to revisit the Riegle-Neal Act to eliminate the disadvantage that has been created for State banks because of inconsistent application of Federal law.

Third, flexibility for the Federal Reserve. CSBS encourages you

to grant the Federal Reserve the ability to permit State member

banks to engage in expanded activities authorized by their chartering State and approved by the FDIC as posing no risk to the Deposit Insurance Fund. This amendment would remove a provision

in the Federal Reserve Act that places unnecessary limitations on

the powers of a State member bank. State-chartered, nonmember

banks have always been allowed to exercise expanded powers within the confines of safety and soundness. It is an appropriate regulatory relief effort to eliminate this unnecessary distinction

between State-chartered member banks and State nonmember

banks.

Finally, CSBS would like to see a State banking regulator have

a vote on the Federal Financial Institution Examination Council. I

am currently Chairman of the State Liaison Committee, which consists of State bank, credit union, and savings bank regulators, and

as such am able to provide input at the FFIEC Council meetings.

However, neither I, nor any other State regulator, have any final

say in Federal policy or examination procedures impacting the institutions that we charter and supervise.

Improved coordination and communication between regulators

clearly benefit bankers and reduce regulatory burdens. In that spirit, we suggest that Congress should improve the FFIEC by changing the State position from one of observer to that of full voting

member.

In conclusion, as you consider additional ways to reduce burden

on our financial institutions, we urge you to remember that the

strength of our banking system is its diversity. The fact that we

have enough financial institutions of enough different sizes and

specialties to meet the needs of the world’s most diverse economy

and society.

State bank supervisors appreciate the Committee’s interest in

eliminating barriers in the Federal law to allow more innovation

from the State charter. We thank you for the opportunity to testify

on this very important subject, and look forward to any questions

that the Members might have.

Thank you.

Senator CRAPO. Thank you very much, Mr. Allison.

Mr. Little.

STATEMENT OF ROGER W. LITTLE

DEPUTY COMMISSIONER, CREDIT UNIONS

MICHIGAN OFFICE OF FINANCIAL AND

INSURANCE SERVICES, ON BEHALF OF THE NATIONAL

ASSOCIATION OF STATE CREDIT UNION SUPERVISORS

Mr. LITTLE. Senator Crapo, Members of the Committee, I serve

the citizens of Michigan as Deputy Commissioner of Credit Unions

for the Michigan Office of Financial and Insurance Services, and I

23

appear today on behalf of the National Association of State Credit

Union Supervisors.

NASCUS’ priorities for regulatory relief legislation focus on reforms that will strengthen the State system of credit union supervision, enhance the capabilities of State chartered credit unions to

meet the financial needs of their members, and ensure the State

credit union system continues to operate in a safe and sound manner. Some of our priorities are contained in H.R. 1375, but other

NASCUS priorities are beyond the scope of that bill.

NASCUS supports Section 306 in H.R. 1375, revising member

business lending restrictions in the Federal Credit Union Act to lift

the restrictions on lending to nonprofit, religious organizations by

federally insured, State-chartered credit unions. This is a win-win

situation. Credit unions will be able to expand their member business lending offerings to members involved with nonprofit, religious organizations, thereby benefiting entire communities.

NASCUS supports Section 312 in H.R. 1375, giving all federally

insured credit unions the same exemptions as banks and thrift institutions from premerger notification requirements and fees of the

Federal Trade Commission. In fact, we believe it should be expanded to all State-chartered credit unions.

NASCUS supports Section 313 in H.R. 1375, providing federally

insured credit unions and savings institutions parity with commercial banks regarding exemption from SEC registration requirements provided in the Gramm-Leach-Bliley Act. As depository institutions credit unions should be exempted from SEC registration

requirements for the same reasons articulated by prior panel members. We urge that credit unions be accorded similar regulatory

treatment in this manner.

NASCUS supports Section 301 in H.R. 1375, that permits nonfederally insured credit unions to join Federal Home Loan Banks.

Federally insured credit unions now have access to these banks,

while private-insured credit unions do not.

Today, there are approximately 375 privately insured credit

unions. All of these credit unions are regulated and examined by

State regulatory agencies to ensure they are operating in a safe

and sound manner, and to assure consumers that their deposits are

safe. We believe regulatory functions are a primary determinant of

the safety and soundness of the credit union system. For these reasons and others detailed in my written testimony, it is clear that

these credit unions are operated in a safe and sound manner. They

should be granted the same access to the Federal Home Loan Bank

System as federally insured credit unions. I also note that this is

not a new precedent since 86 insurance companies, none of which

are federally insured, now belong to the Federal Home Loan Bank

System.

We also support regulatory relief proposals beyond those in

H.R. 1375. The first addresses the prompt corrective action provisions, also known as PCA, of the Federal Credit Union Act.

NASCUS strongly urges the Committee to amend the PCA provisions in the Act to allow federally insured credit unions to include

all forms of capital when calculating the required net worth ratio.

Under the current Federal statute credit union net worth is defined

as ‘‘and limited to retained earnings.’’ This exclusive reliance on reVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00031 Fmt 6633 Sfmt 6633 25856.TXT SBANK4 PsN: SBANK4
24

tained earnings limits credit unions’ ability to grow, to implement

new programs, or to expand services to meet the changing needs

of their membership. Limiting statutory net worth to retained

earnings has the unintended consequence of punishing credit

unions for being successful.

NASCUS also supports Federal legislation that would add a riskbased capital component to the current net worth requirements for

PCA. NASCUS has studied the risk-based capital reform proposal

outlined in H.R. 3579, and supports a risk-weighted capital regime

for credit unions. We believe that supplemental capital authority

and a risk-based capital system are complementary reforms.

NASCUS also supports amending the definition of ‘‘net worth,’’

as discussed by Chairman Johnson, to cure the unintended consequences for credit unions of business combination accounting

rules that the Financial Accounting Standards Board intends to

apply to business combinations of mutual enterprises. The new

rules may cause significant dilution of net worth in credit union

merger transactions if the definition of ‘‘net worth’’ continues to be

solely limited to retained earnings.

As a regulator, it makes no business sense to deny credit unions

access to capital that would improve their safety and soundness.

We should take very financially feasible steps to strengthen the

capital base of the Nation’s credit union system.

H.R. 1375 expands business lending authority for Federal savings

associations. NASCUS urges the Committee to include a similar expansion for credit union member business lending authority in the

Senate bill. Raising the statutory limit for credit union business

lending from 12.25 percent to 20 percent of total assets, as the

House bill did for savings institutions, would provide equivalent

regulatory relief for credit unions. This would enable credit unions

to better meet the needs of their members and participate more

fully in economic development within their communities.

Finally, preemptive actions of the Office of the Comptroller of the

Currency have a potentially significant impact on the dual chartering system for commercial banks. We are concerned similar actions by the Federal credit union regulator may impact the States’

chartering system as well, particularly in the area of consumer protection. Historically, States have established predatory lending and

other consumer protection statutes that are applicable to both

State and Federal depository institutions.

In general, national banks have been subject to such statutes to

ensure protection of the same level to citizens of the State opting

to use federally chartered financial institutions. There is widespread significant and expert opposition to these Federal rules. We

hope Congress will intervene in this matter.

This concludes my remarks. NASCUS appreciates the opportunity to testify today. We welcome further participation and dialogue. We urge this Committee to protect and enhance the viability

of the dual chartering system for credit unions. I will be happy to

respond to any questions the Committee may have. Thank you.

Senator CRAPO. Thank you very much, Mr. Little, and I want to

thank the entire panel.

As I indicated at the beginning, we are in a race today to get

through the testimony and the material in this hearing. Many of

25

you may have noticed that a vote has been called. What I want to

do is, I am going to be very brief in my questions. I am probably

going to submit written questions to each member of the panel and

have a dialogue, after we excuse this panel, with you.

I am just going to ask one question to Mr. Reich, then I am going

to leave time for Senator Reed and if Senator Carper wants to ask

some questions. We will then excuse this panel before we leave to

vote. We will have a break at that time, and we will rearrange the

tables. It is two votes, although if we leave at the end of the first

vote, it should not take us too long to vote twice and get back. So,

just to give you a little guideline there as to where we are headed.

The question I have for you, Mr. Reich, is this. Actually, I have

a bunch of questions for all of you, and as I indicated, I will engage

with you with regard to those questions after we excuse the panel.

I just wanted to note I have read the written testimony of each of

the witnesses who have been here before us today, and I have to

say it is outstanding testimony. We asked you to come before us

with recommendations to deal with the issue that we have here before us, and each of you did exactly that, specifically, in ways that

will give us some very significant guidance. In terms of the old

question, where is the beef? There is a lot of beef here. There is

a lot of substance in this testimony.

As we go through this, Mr. Reich, in your capacity with

EGRPRA, you indicated in your testimony that one of the things

you were contemplating was looking at the proposals that have

been made here today, to wind them into the EGRPRA process. I

was wondering if you could, within a couple of weeks, review the

proposals made by each of the regulators and get back to the Committee with just an analysis as to how the other regulators feel

about the various proposals that have been put forward by this

panel. Would that be something that you could achieve in that

timeframe?

Mr. REICH. I will do my best, Mr. Chairman. I would be delighted

to undertake that, prepare a matrix of all of the recommendations

which have been made and come back to you within the next 2

weeks.

Senator CRAPO. Thank you. I appreciate that very much, and

that certainly is a chore because there is a tremendous amount of

substance here to go through, but I believe with your help and with

the help of people in the private sector as well as the other regulators, we should be able to get a pretty thorough analysis or the

recommendations that have been made by the members of the

panel today.

With that, Senator Reed, I will turn the time over to you and

maybe we will be able to get to the vote.

STATEMENT OF SENATOR JACK REED

Senator REED. Thank you, Mr. Chairman.

Thank you for your excellent testimony. Mr. Kohn, can you give

us an estimate based on your analysis, about the amount of resources are consumed in sweep accounts to avoid the interest on

checking prohibition? Is that a significant number?

Mr. KOHN. I cannot give you a number, Senator. But I do think

it is a significant number. We are really talking about two kinds

26

of sweep accounts here. One kind is to avoid the nonpayment of interest on reserve requirements, and many banks, including small

and medium-size banks, as well as large banks, have instituted

programs to sweep deposits out of reservable accounts every night

into nonreservable accounts. Although the computer programs get

cheaper and cheaper to make that happen, every time the computer system changes, every time there is a bank merger, things

have to be done again, and I think that there is no benefit to the

economy or to society from activities that try to get around the reserve requirement tax.

The other types of sweep programs are to get out of the prohibition of interest on demand deposits. Obviously, the two work in

tandem to a certain extent, and banks do that in two ways. One

is to sweep money, particularly for large businesses, out of the demand deposits into market accounts every night, into euro dollar

accounts and RP’s, and things like that, and it serves no purpose

whatsoever but to get around this prohibition.

The other thing that banks do is pay implicit interest through

compensating balance accounts. That is, a business will hold demand deposits at a bank. It does not earn explicit interest but it

gets services in return for that. These can be complex kinds of calculations. They have cutoff points. Businesses are constrained in

how flexible they can be in their banking. In terms of using the

services, they tend to tie the business to the bank to use that particular service. So even those sorts of things, although they may

not cost something explicitly, they do cost something in economic

efficiency. They make markets less effective and less competitive.

Senator REED. This underscores your recommendation to repeal

the interest on checking prohibitions?

Mr. KOHN. That is correct.

Senator REED. Thank you, Mr. Kohn.

I know we are getting close, so I will be as brief as possible. Let

me quickly, Mr. Kohn, you indicate in your testimony about industrial loan companies, that you would see if they could offer NOW

accounts that would give them advantage, and very briefly, could

you just tick off the one or two advantages or whatever?

Mr. KOHN. Industrial loan companies already have advantages

relative to other companies that own banks. They are exempt from

the Bank Holding Company Act, and they were given this exemption because they were small specialized kind of institutions that

have limited powers, and the exemption therefore did not have

major public policy implications.

The exemption is important in two aspects. One is they are exempt from the consolidated supervision. Other depository institutions that are affiliated with nondepository institutions are subject

to overall supervision and regulation of the whole company. The

thinking is that you cannot separate a depository institution from

its affiliates and its parents, that the health of the institution rises

and falls together, and they are exempt from that concsolidated supervision.

The second thing they are exempt from is the banking and commerce separation that Congress has embodied in law. Many of the

ILC’s are owned by commercial firms and do not have to adhere to

the separation of banking and banking and commerce. When this

27

exemption was granted, these were small institutions that were

very specialized, but they have grown very rapidly, and to grant

them additional powers would make them even more like banks,

and make the disconnect between their activities and the public

policy intent of the Congress to govern the relationship of a depository institution and its affiliates even more stark. So the Board has

strongly opposed this expansion of the ILC powers.

Senator REED. Thank you.

Mr. Chairman, if I may just make one more comment.

Mrs. Johnson, I have read your testimony. Now let me emphasize

your point about this ambiguity now, whether or not these privately insured credit unions may be somehow regulated by the

NCUA. That ambiguity has to be cured very quickly. In Rhode Island, we suffered through a serious crisis when a private-insured

system failed, and part of it was because of the confusion as to who

was regulating it, was there any Federal backstop, et cetera, and

I think your comments are right on point in terms of it has to be

very clear. It should be strictly private. There should not be any

illusion even to the Federal Government regulator. I just wanted

to make that point.

Mrs. JOHNSON. That is correct. We advocate, as the language is

currently in the other bill, that the regulation should be with the

State regulators and insurers.

Senator REED. Thank you very much.

Thank you, Mr. Chairman.

Senator CRAPO. Thank you.

Senator Sarbanes.

Senator SARBANES. Mr. Chairman, I know there is a vote on. I

will be very quick. I have two or three points I want to register.

First of all, Mr. Kohn, am I correct that the potential with respect to the ILC’s for bridging the divide between banking and

commerce is very serious and a very severe question? Would you

agree with that?

Mr. KOHN. I do, Mr. Sarbanes.

Senator SARBANES. And, second, any effort that deals with the

ILC’s that fails to provide holding company supervision in the Federal Reserve, I mean, not even getting to the bigger question,

which I think is a quite important one, but not even getting there,

I do not quite see how you structure a system that does not provide

the same kind of holding company supervision that exists in other

banking activities. Would you agree with that as well?

Mr. KOHN. I agree, Senator Sarbanes. I think consolidated supervision is a very important aspect in protecting safety and soundness and protecting against systemic risks in the banking system.

Senator SARBANES. Now, Mrs. Johnson, are you all in touch with

FASB to see if you can resolve your concerns from their proposed

rules?

Mrs. JOHNSON. We have been working on this. We are hopeful.

Senator SARBANES. Most people seem to think that, you know,

we set up this expert body to establish accounting standards and

that they should be allowed to do their work. You are not asking

for legislation, for the Congress to start legislating accounting

standards, are you? I certainly hope not.

28

Mrs. JOHNSON. No, we are not. We believe that there is consequence to the current language being proposed by FASB, and we

are preparing to adjust to it.

Senator SARBANES. Do you see your remedy as being an interaction with FASB?

Mrs. JOHNSON. No. We have suggested statutory language which

would clarify the Federal Credit Union Act.

Senator SARBANES. Is the Congress to start legislating accounting standards in issue after issue that comes along?

Mrs. JOHNSON. We believe that this can be resolved with FASB’s

concurrence, Senator.

Senator SARBANES. Okay.

Thank you, Mr. Chairman.

Senator CRAPO. I have been notified that Chairman Shelby would

like me to ask one question on his behalf before we wrap up here.

Governor Kohn, you get that question.

His question is: Are there any safety and soundness implications

associated with repealing the prohibition on the payment of interest on business checking accounts?

Mr. KOHN. I do not believe so, Mr. Chairman. I think it is true

that small businesses will now be paid explicit interest on their demand deposits. Banks will have at least a small initial increase in

expense. But I think that banks have proven very capable of pricing their deposits, pricing their services to make good profits. And

I think, if anything, the ability to pay interest on business checking

accounts will enable banks, particularly small banks, to increase

their competitive presence in the community, as Mr. Reich was

talking about, and, therefore, enhance their viability over long periods of time.

Senator CRAPO. Thank you. And at the risk of opening this up

when I do not have time, is there anybody else on the panel who

disagrees with Mr. Kohn’s answer there?

[No response.]

Senator CRAPO. All right. Thank you very much. We will excuse

this panel, and we will recess this Committee. The recess should

probably not last longer than 10 or 15 minutes, long enough to go

over and vote once, get that vote wrapped up, vote again, and get

back here.

So this hearing will be recessed.

[Recess.]

The hearing will come to order.

We appreciate everyone’s patience. We hope we will not have another interruption before 2 o’clock. We know we will have an interruption around 2:00 to 2:15. We will see where we are at that

point.

First, before I begin with the third panel, Senator Chuck Hagel

has asked that his opening statement be introduced into the record,

and without objection, that will be done.

Senator CRAPO. With that, we will begin our third panel which

consists of Mr. Mark Macomber, who is President and CEO of

Litchfield Bancorp, testifying on behalf of America’s Community

Bankers; Mr. Edward J. Pinto, President and CEO of Lenders Residential Asset Company, who is testifying on behalf of the National

Federation of Independent Business; Mr. Dale Leighty, who is the

29

Chairman and President of the First National Bank of Las Animas,

Colorado, testifying on behalf of the Independent Community

Bankers of America; Mr. Bradley Rock, President and CEO of the

Bank of Smithtown, testifying on behalf of the American Bankers

Association; Mr. Eugene Maloney, Executive Vice President of Federated Investors, Inc.; Ms. Marilyn F. James, CEO of NEPCO Federal Credit Union, testifying on behalf of the Credit Union National

Association; Ms. Margot Saunders, Managing Attorney at the National Consumer Law Center, and Mr. Edmund Mierzwinski, Consumer Program Director of U.S. PIRG, both Ms. Saunders and Mr.

Mierzwinski are testifying on behalf of Consumer Federation of

America, Consumers Union, National Association of Consumer Advocates, and National Community Reinvestment Coalition; Mr. William Cheney, President and CEO of Xerox Federal Credit Union,

testifying on behalf of the National Association of Federal Credit

Unions; and, finally, Mr. William A. Longbrake, Vice Chair of

Washington Mutual Incorporated, testifying on behalf of the Financial Services Roundtable.

Ladies and gentlemen, we welcome you here. I want to remind

you of our hope that you will pay attention to the clock and not

be offended if I remind you to look at it when your time has expired, and to try to summarize your testimony in 5 minutes so we

can get engaged in some dialogue and some questions.

With that, we will start out in the order I indicated, the first

being Mr. Macomber.

STATEMENT OF MARK E. MACOMBER

PRESIDENT AND CEO, LITCHFIELD BANCORP

ON BEHALF OF AMERICA’S COMMUNITY BANKERS

Mr. MACOMBER. Thank you. Chairman Shelby, Senator Sarbanes,

Senator Crapo, and Members of the Committee, I am Mark

Macomber, President and CEO of Litchfield Bancorp in Litchfield,

Connecticut. Litchfield Bancorp is a $162 million, State-chartered,

community bank, part of a two-bank mutual holding company.

Before I begin, I would like to recognize and thank Senator Dodd,

a Member of this Committee, who so ably represents my home

State of Connecticut.

I am here representing America’s Community Bankers, ACB. I

serve on ACB’s Board of Directors and Executive Committee and

am the Chair the Mutual Institutions Committee. I want to thank

Chairman Shelby and Senator Crapo for their leadership in initiating the discussion today of the impact of outdated and unnecessary regulations on community banks and the communities we

serve.

ACB is pleased to have this opportunity to discuss with the Committee our recommendations to reduce the regulatory burden and

unnecessary costs on community banks. All we ask is that community banks be able to better serve consumers and small businesses

in their local markets. This hearing and this topic are important

and timely.

Ten years ago, there were 12,000 banks in the United States.

Today, there are 9,000. ACB is concerned that community banks

are significantly hindered in their ability to compete because of the

cost and burden of unnecessary and outdated regulations. In our

30

written statement, ACB has endorsed 31 amendments to current

law that will reduce unnecessary regulations on community banks.

I would now like to discuss five of those recommendations.

A high priority for ACB is a modest increase in the business

lending limit for savings associations. In recent years, community

banks have experienced an increased demand for small business

loans. To accommodate this demand, ACB wants to eliminate the

lending limit restriction on small business loans. We would increase the aggregate lending limit on other commercial loans to 20

percent from 10. Expanded authority would enable savings associations to make more loans to small and medium-sized businesses.

That would enhance their role as community-based lenders.

ACB vigorously believes that savings associations should have

parity with banks under the Securities Exchange Act and the Investment Advisers Act. Statutory parity will ensure that savings

associations and banks are under the same basic regulatory requirements when they are engaged in identical trust, brokerage,

and other activities. As more savings associations engage in trust

activities, there is no substantive reason to subject them to different requirements. They should be subject to the same regulatory

conditions as banks engaged in the same services.

ACB strongly supports removing unnecessary restrictions on the

ability of national and State banks to engage in interstate branching. Currently, national and State banks may only engage in de

novo interstate branching if State law expressly permits. ACB recommends eliminating this restriction. The law should also clearly

provide that State-chartered, Federal Reserve member banks may

establish de novo interstate branches under the same terms and

conditions applicable to national banks. ACB also recommends that

Congress eliminate States’ authority to prohibit an out-of-State

bank or bank holding company from acquiring an in-State bank

that has not existed for at least 5 years. These changes will extend

the benefits of flexible branching authority to banks.

In the area of compliance reforms, ACB urges amending the

Community Reinvestment Act to allow community banks with less

than $1 billion in assets to participate in the CRA’s small institution examination program. According to a report by the Congressional Research Service, a community bank participating in the

streamlined CRA exam can save 40 percent—40 percent—in compliance costs. Expanding the small institution exam program will

free up capital and other resources for almost 1,700 community

banks across our Nation that are in the $250 million to $1 billion

asset size range. That would allow them to invest even more in

their local communities.

We believe that raising the threshold will reduce the regulatory

burden for those institutions without diminishing the activities of

community banks or their CRA obligation. The goals of CRA are

laudable, and I take them very seriously. But as a community

banker, I would not be in business if I did not meet the credit

needs of my community. And I do not need costly recordkeeping or

a lengthy examination to tell me if I am doing my job.

Prohibiting banks from paying interest on business checking accounts is long outdated, unnecessary, and anticompetitive. Restrictions on these accounts make community banks less competitive in

31

their ability to serve the financial needs of many business customers. Permitting banks and savings institutions to pay interest

directly on demand accounts would be simpler. Institutions would

no longer have to spend time and resources trying to get around

the existing prohibition. This would benefit many community depository institutions that cannot currently afford to set up complex

sweep operations for their—mostly small—business customers.

These five recommendations, along with those discussed in our

written statement, will make doing business easier and less costly,

further enabling community banks to help our communities prosper

and create jobs. On behalf of ACB, I want to thank you for your

invitation to testify on reducing regulatory burden. We look forward to working with you and your staff in crafting legislation to

accomplish this goal. I will be happy to answer any questions you

may have.

Thank you.

Senator CRAPO. Thank you, Mr. Macomber.

Mr. Pinto.

STATEMENT OF EDWARD J. PINTO

PRESIDENT AND CEO, LENDERS RESIDENTIAL

ASSET COMPANY, LLC, ON BEHALF OF

THE NATIONAL FEDERATION OF INDEPENDENT BUSINESS

Mr. PINTO. Good morning. I am Ed Pinto, President of Lenders

Residential Asset Company in Bethesda, Maryland. Thank you,

Chairman Shelby and Ranking Member Sarbanes, for the opportunity to testify on behalf of NFIB. I also would like to thank Senator Crapo. I just wish my wife could be here to hear that I have

to finish my remarks in 5 minutes.

In preparing for this testimony, I was reminded of a story. Many

years ago, a hallway was being painted in the Pentagon. After the

fifth passerby could not resist touching the wet paint, the captain

posted an MP to guard either end of the hallway. Years later, a

professor of mine was teaching a class on management at the Pentagon. He asked each participant in the class to go out and find

some area of efficiency that they could find for improvement. One

lieutenant called the professor to say he could not find any. The

professor asked him, ‘‘What is the closest thing to you?’’ And he

said, ‘‘There is an MP standing right next to me.’’ He said, ‘‘Well

find out what he is doing.’’ He did and got the response, ‘‘I am

guarding the hall.’’ Then he asked why, and the MP said, ‘‘I am

guarding the hall to make sure no one touches the wet paint.’’

I ask you, does anyone in Congress remember why the law was

passed over 70 years ago prohibiting the payment of interest on

small business accounts. I think not.

I commend the Committee for conducting this hearing on regulatory reform. NFIB is particularly interested in this one issue.

Eighty-six percent of our members support allowing business owners to earn interest on their business checking accounts. During

this Congress, the House has already passed legislation overturning this archaic law, once by a voice vote and once by a vote

of 418–0.

S. 1967, introduced by Senator Hagel and Senator Snowe, repeals

this Depression-era law, but the bill continues to be stalled in the

32

Senate for reasons that I frankly do not understand. The big banks

have consistently opposed repealing the ban on interest checking

and have proposed compromise legislation that would delay the implementation for 3 years or more. Their efforts to insulate themselves from free market competition have hurt small businesses in

this country. These businesses are the acknowledged job creation

engines for the United States. This bill is necessary as consumer

legislation, and every day it is delayed is an injustice to over 25

million taxpayers filing business income tax returns with the IRS.

Let me repeat that number: 25 million taxpayers have business income that they file with the IRS each year. They are located in

every community in America, every State, large and small. And the

fact of the matter is that big businesses do not need to have this

provision repealed. They already have cost-effective alternatives.

Consumers do not need this provision because they already have

had the right to earn interest on their accounts over 20 years ago.

Earlier today, we heard the regulators say there are no safety

and soundness issues. The House-passed bill as currently written

contains a 2-year delay, and it is already a compromise. NFIB

strongly urges the Committee to resist efforts to lengthen the

phase-in period and deny this much needed legislation to these millions of taxpayers.

Lenders Residential Asset Company, a company I founded in

1989, provides consulting services to the financial services industry. When the company was started, I can still recall my astonishment at being told that a business could not earn interest on a

checking account. I was further astonished to find that my business

account not only did not earn interest, but I had to pay a plethora

of fees. My banker said not to worry and introduced me to the

spellbinding concept of compensating balances. Boy, was I in for an

education, and it had nothing to do with running my new business.

I remember thinking that all of this seemed quite foreign and not

exactly consumer friendly. I had been earning interest for years on

my personal checking account, which had a much smaller balance.

I asked my banker, ‘‘Why no interest?’’ I was simply told it was

against the law.

Later, as my business prospered, my banker suggested I set up

what she called a ‘‘sweep account,’’ which, she told me, did not

have the benefit of FDIC insurance but did pay interest. And so

that is what we did. Boy, was it complicated.

First, we analyzed my account history to determine how much to

keep in my regular account because I still needed those compensating balances. Then we had to project what I would earn in interest and compare that to the additional fees earned to administer

my new account. And then I had to authorize the amount to be

swept each night. Then I could decide whether I would do this

automatically or by calling each night. Not being a glutton for punishment, I decided to do the automatic.

As any new business owner will tell you, there are better ways

to spend your time than calling your banker every day.

What I did not know was that a sweep account is really designed

for a larger company, one with an in-house accounting firm and financial staff to keep up with the flows and ebbs of this money, and

also to deal with the over 250 pieces of paper that I receive over

33

the year because every day I receive a notice as to the movement

of the money. I now knew why the fees were so high on the sweep

account. Don’t get me wrong. I am not arguing against sweep accounts, but they are a bookkeeping hassle.

While I have continued to work with traditional banking institutions, without a sweep account, I might add, it makes little sense

about why it is continued. Repealing this provision will, in fact,

give banks the opportunity to market these accounts on their merits. I do not recall ever seeing an ad extolling the virtues of compensating balances.

I support giving banks at least the choice to offer interest-bearing accounts. I urge the Committee to consider this bipartisan effort and resist efforts to lengthen the phase-in period. Now is the

time to act. Thank you very much.

Senator CRAPO. Thank you very much, Mr. Pinto.

Mr. Leighty.

STATEMENT OF DALE L. LEIGHTY

CHAIRMAN AND PRESIDENT, FIRST NATIONAL

BANK OF LAS ANIMAS (COLORADO), ON BEHALF OF

INDEPENDENT COMMUNITY BANKERS OF AMERICA

Mr. LEIGHTY. Thank you, Senator Crapo and Members of the

Committee. My name is Dale Leighty. I am Chairman of the Independent Community Bankers of America and President of the First

National Bank of Las Animas, Colorado, a $140 million bank in

southeastern Colorado. I would like to thank you for examining the

important issue of regulatory relief. This is one of ICBA’s top priorities, and I am pleased today to testify on behalf of the 5,000 member community banks of our national association and to share with

you our views and concerns.

ICBA supports a bank regulatory system that fosters safety and

soundness. However, statutory and regulatory changes continually

increase the cumulative regulatory burden for community banks. In

the last few years alone, community banks have been saddled with

the privacy rules of the Gramm-Leach-Bliley Act, the customer

identification rules and other provisions of the USA PATRIOT Act,

and the accounting, auditing, and corporate governance reforms of

the Sarbanes-Oxley Act.

Yet relief from any regulatory or compliance obligation comes all

too infrequently while new ones just keep being added. There is not

any one regulation that community banks are unable to comply

with. It is the cumulative effect that is so burdensome. As ICBA

President and CEO Camden Fine recently stated, ‘‘Regulations are

like snowflakes. Each one by itself may not be much but when you

add them all up, it could crush the building.’’

Regulatory and paperwork requirements impose a disproportionate burden on community banks because of our small size and

limited resources. We have had to devote so much of our resources

and attention to regulatory compliance that our ability to serve our

communities and support the credit needs of our customers is diminished.

Regulatory burden is a perennial problem for community banks.

In 1992, Grant Thornton conducted a study on behalf of ICBA on

the cost of complying with the 13 bank regulations that were

34

deemed the most burdensome for community bankers. At that time,

over 10 years ago, the annual compliance cost for community banks

for just 13 regulations was estimated to be $3.2 billion. In addition,

the study found that 48 million staff hours were spent annually to

comply with just those 13 regulations.

ICBA is pleased that, at the direction of Congress under the Economic Growth and Regulatory Paperwork Reduction Act of 1996,

the Federal bank regulators are now reviewing all 129 Federal

bank regulations, with an eye to eliminating rules that are outdated, unnecessary, or unduly burdensome. We wholly applaud this

effort and fervently hope that it bears fruit.

However, Congress must recognize that there is only so much the

regulators can do to provide relief since many regulatory requirements are hard-wired in Federal statutes. Therefore, effective reduction of regulatory burden will require Congressional action, and

ICBA strongly urges the Congress to be bold and open-minded

when considering recommendations offered by the regulators and

the industry for regulatory relief.

The litany of burdensome regulations is long: Truth in Savings,

Truth in Lending, RESPA, Fair Lending, HMDA, Currency Transaction Reports, Suspicious Activity Reports, Call Reports, Regulation O reports, the Bank Secrecy Act, and Community Reinvestment Act, just to name a few. These regulations are overwhelming

to the 37 employees of my bank who must grapple with them daily.

CRA is a clear example of regulatory overkill. It deserves a special mention since there is a pending regulatory proposal to reduce

the community bank regulatory and examination burden. Evaluating the CRA performance of large, complex banking organizations

and small, locally owned and operated community banks using the

same examination standards simply does not make sense.

ICBA strongly supports an increase in the asset size limit for eligibility for the small bank streamlined CRA examination process.

While we would prefer that it be raised to $2 billion, we applaud

the regulators’ proposal to increase the limit to $500 million in assets and eliminate the separate holding company qualification.

Community banks pose different levels of risk to the banking

system and have different abilities to absorb the costs of regulatory

burden than large national or regional banks. Therefore, the ICBA

strongly urges Congress and the regulators to continue to refine a

tiered regulatory and supervisory system that recognizes the difference between community banks and larger, more complex institutions. Less burdensome rules and/or appropriate exemptions for

community banks are the hallmark of the tiered regulatory system.

In conclusion, ICBA member banks are integral to our communities. However, regulatory burden and compliance requirements

are consuming more and more of our resources to the detriment of

our customers. And because the community banking industry is

slowly being crushed under the cumulative weight of regulatory

burden, many community bankers are giving serious consideration

to selling or merging with larger institutions and taking the community bank out of the community.

The ICBA urges the Congress and the regulatory agencies to address these issues before it is too late. My written statement includes appendices with detailed discussion of the regulatory burden

35

of selected regulations. The ICBA strongly supports the current

regulatory and legislative efforts to reduce this burden. We look

forward to working with you toward enactment of statutory and

regulatory changes to help ensure that the community banks remain vibrant and able to continue to serve our customers and our

communities.

Mr. Chairman, thank you for the invitation to testify today, and

I will be happy to answer your questions.

Senator CRAPO. Thank you very much, Mr. Leighty.

Mr. Rock.

STATEMENT OF BRADLEY E. ROCK

PRESIDENT AND CEO, BANK OF SMITHTOWN

ON BEHALF OF THE AMERICAN BANKERS ASSOCIATION

Mr. ROCK. Thank you, Mr. Chairman and Members of the Committee. My name is Brad Rock. I am Chairman, President, and

CEO of Bank of Smithtown, a 95-year-old, $630 million community

bank located on Long Island in Smithtown, New York. I am glad

to present the views of the ABA. Reducing bank regulatory burden

is an important issue for all businesses. This morning, I would like

to make three key points.

First, bank regulatory burden is not just a minor nuisance for

banks. It has a significant impact upon our customers and upon

local economies. Over the past 25 years, it has steadily grown and

now permeates all levels in the bank, from the front-line tellers to

the CEO. Based on research in the 1990’s, the total cost of compliance today for banks is between $26 and $40 billion per year.

Certainly, many of the regulatory costs are appropriate for safety

and soundness reasons and for consumer protection. But if this

burden could be reduced by 20 percent and directed to capital, it

would support additional bank lending of between $52 to $78 billion. The impact on our economy would be huge.

Second, regulatory burden is significant for banks of all sizes, but

pound for pound, small banks carry the heaviest regulatory load.

Community banks are in great danger of being regulated right out

of business. Eight thousand of the Nation’s 9,000 banks have less

than $500 million in assets, and 3,350 of those banks have fewer

than 25 employees. They provide the banking services to people in

small towns across America, yet these same community banks do

not have the manpower to run the bank and to read, understand,

and implement the thousands of pages of new and revised regulations they receive each year.

A few weeks ago, a fellow community banker told me that his

bank, with only 20 employees, has had to add a full-time person

for the sole purpose of completing reports related to the Bank Secrecy Act. Community banks in such circumstances will not be able

to survive for long.

To illustrate the magnitude of this burden on small banks, consider this: Each year, the ABA publishes a reference guide that

summarizes the requirements embodied in thousands of pages of

regulations. The summary is 600 pages long and will be even

longer next year to cover new responsibilities under the USA PATRIOT Act and the expanded HMDA reporting requirements.

36

Many of these regulatory efforts provide little or no meaningful

benefit to bank consumers. As a banker and a lawyer, I can tell you

that, for example, at real estate settlements, customers do not read

the piles of documents that they are required to sign. In fact, the

only people who read those voluminous forms are the bank staffers

who are required to complete them and process them.

My third and final point is this: We are hopeful that the review

of regulatory costs by Federal bank regulators will reduce the compliance burden. Many bankers are skeptical, however, as we have

seen previous efforts at regulatory relief come and go without noticeable effect, while the overall level of regulatory burden has kept

rising. It may take Congressional action to make a difference.

The bottom line is that too much time and too many resources

are consumed by compliance paperwork of little or no benefit to

customers or investors, leaving too little time and resources for providing actual banking services. The losers in this scenario are bank

customers and the communities that banks serve.

Thank you for the opportunity to present our views.

Senator CRAPO. Thank you very much, Mr. Rock.

Mr. Maloney.

STATEMENT OF EUGENE F. MALONEY

EXECUTIVE VICE PRESIDENT, FEDERATED INVESTORS, INC.

Mr. MALONEY. Senator Crapo, Senator Santorum, my name is

Eugene Maloney. I am Executive Vice President and Counsel to

Federated Investors. Federated is a Pittsburgh-based financial

services holding company. Our shares are listed on the New York

Stock Exchange. Through a family of mutual funds used by or on

behalf of financial intermediaries and other institutional investors,

we manage approximately $200 billion. For the past 16 years, I

have been a member of the faculty of Boston University Law

School, where I teach a course in the master’s program on the securities activities of banks. Our mutual funds are used by over 1,000

community banks either within their own portfolios or on behalf of

their fiduciary customers.

In connection with the proposed removal of Regulation Q, thereby permitting banks and thrifts to pay interest on business checking, my firm’s position is that we are strongly in favor of any rule,

regulation, or legislation which results in our community bank

friends becoming more competitive, more profitable, or being able

to operate their businesses more efficiently. We are concerned that

the current initiative to repeal Regulation Q will result in the exact

opposite. This conclusion is based on my personal experience with

the introduction of ceilingless deposit accounts in 1982 and the impact they had on our client base. Friends of long standing lost their

jobs, their pensions, and their self-esteem because of the failure by

governmental officials and Members of Congress to fully think

through the economic impact of ceilingless deposit accounts to our

banking system and its profitability. This failure cost every man,

woman, and child in the United States $1,500.

In researching the history of ceilingless deposit accounts which

were to be ‘‘competitive with and equivalent to money market mutual funds,’’ we found some fascinating information. At the meeting

chaired by the Secretary of the Treasury to consider the features

37

of the new account, the members were advised that if they set the

minimum account size below $5,000, massive internal disintermediation would occur and it would result in pure cost to the

banks. The account size was set at $2,500. We have been to the

National Archives, Senator, and declassified the minutes of subsequent meetings. They make for astonishing reading. The members

were fully briefed on the excesses committed by banks and thrifts

and elected to do nothing to stop them. In my prepared remarks,

which I have filed with the Committee, I brought some of my favorite ads with me.

One from First Bank in Atlanta, is particularly provocative and

illustrates my point: ‘‘18.65 percent.’’ This is an interview with the

chief executive officer. How can you offer 18.65 percent when

money market funds are paying 9 percent? ‘‘We are offering the

18.65 percent to attract new money from money market fund customers and to indicate our own commitment to offer customers the

best possible product.’’

In this ad and other ads of similar content, there is only one

piece of information that tells the story: the term ‘‘insured.’’ ‘‘Insured.’’ No one else in their right mind would ever sell a product

for $8 that they are paying $21 to manufacture, but that is exactly

what happened.

The legislative record to date indicates that only slight attention

has been given to the cost to banks of paying interest on business

checking accounts or the impact on bank earnings. We commissioned Treasury Strategies of Chicago, Illinois, to, in fact, look at

the economic impact that it will have on banks, particularly community banks. I have not personally found any official of a community bank that is in favor of this initiative. These are some of the

findings of Treasury Strategies.

One, small businesses will have to grow their deposits by 80 percent or raise service charges by 34 percent. Mid-sized company impact: Grow deposits by 35 percent or raise service charges by 16

percent.

The reason I am here today, Senator, is to make a fact-based attempt to prevent history from repeating itself.

Thank you.

Senator CRAPO. Thank you very much, Mr. Maloney.

Ms. James.

STATEMENT OF MARILYN F. JAMES

CEO, NEPCO FEDERAL CREDIT UNION

ON BEHALF OF THE CREDIT UNION NATIONAL ASSOCIATION

Ms. JAMES. Thank you. Senator Crapo and Members of the Committee, on behalf of the Credit Union National Association, I greatly appreciate this opportunity to express the Association’s views on

legislation to help alleviate the regulatory burden under which all

financial institutions operate today.

I am Marilyn James, President and CEO of NEPCO Federal Credit Union in Pueblo, Colorado. We are a $22 million institution.

According to the U.S. Treasury, credit unions are clearly distinguishable from other depository institutions in their structure and

operational characteristics. And despite their relative small size

and restricted fields of membership, federally insured credit unions

38

operate under bank statutes and rules virtually identical to those

applicable to banks and thrifts. However, Federal credit unions

have more limited powers than national banks and Federal savings

associations.

My written statement catalogues and describes the 137 laws and

regulations that apply to credit unions, including many unique

restrictions that are far more stringent and limiting than laws applicable to other depository institutions. Given the limited time

available today, I will devote the rest of my statement to describing

a few exceptionally important issues to credit unions.

As part of our mission, credit unions are devoted to providing affordable services to all of our members, including those of modest

means. One provision pending in both the House and the Senate

would better enable us to meet that goal. I am referring to legislation to permit credit unions to provide check-cashing and remittance services to those eligible for membership.

Many of the individuals who could benefit from this change live

from paycheck to paycheck and do not have established accounts.

We have had members join one day, deposit the necessary share

balance, and come in the very next day and withdraw because they

need the money. It is hard to believe, but sometimes a $5 withdrawal means the difference between eating or not.

Accomplishing our mission can also be greatly enhanced by revisiting two major components of the 1998-passed Credit Union Membership Access Act. With 6 years of experience, we have learned

that what was thought to be good policy at the time has actually

created new problems that need to be resolved to assure that credit

unions can continue to meet their mission.

The first of these issues is the current cap on member business

lending. There was no safety and soundness reason to impose these

limits as the historical record is clear that such loans are not only

safer than those in the banking industry but also safer than some

other types of credit union loans. In fact, public policy argues

strongly in favor of eliminating or increasing the limits from the

current 12.25 percent to the 20 percent suggested in the House-introduced CURIA bill.

Small business is the backbone of our economy and responsible

for the vast majority of new jobs in America. Yet, a February SBA

study reveals that small businesses are having greater difficulty in

getting loans in areas where bank consolidation has taken hold.

CUMAA severely restricts small business access to credit and impedes economic growth in America.

Although few credit unions are currently bumping up against the

cap, in a few years that might not be the case. Then take my small

credit union. Investing in the expertise needed to involve yourself

in business lending is a very costly proposition. With a 12.25 percent cap, we could not make up the costs needed to run such a program. If the cap were increased to 20 percent, we could seriously

consider entering this line of lending.

Another critical issue needing correction pertains to the prompt

corrective action regulations governing credit unions. Credit unions

have higher statutory requirements than banks, but credit unions’

cooperative structure creates a systemic incentive against excessive

risk-taking, so they may actually require less capital to meet potenVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00046 Fmt 6633 Sfmt 6633 25856.TXT SBANK4 PsN: SBANK4
39

tial losses than do other depository institutions. And because of

their conservative management style, credit unions generally seek

to always be classified ‘‘well’’ capitalized as opposed to just ‘‘adequately’’ capitalized. To do that, they must maintain a significant

cushion above the 7-percent level. PCA requirements incent credit

unions to operate at overcapitalized levels.

CUNA believes that the best way to reform PCA would be to

transform the system into one that is much more explicitly based

on risk measurement. It would place much greater emphasis on ensuring that there is adequate net worth in relation to the risk a

particular credit union undertakes. Reforming PCA along the lines

of a risk-based approach would preserve and strengthen the National Credit Union Share Insurance Fund. It would more closely

tie a credit union’s net worth requirements to exposure to risk.

Just briefly, we would like to say that we agree with NCUA’s position on FASB’s proposed merger rule. We think it is important

that it come to your attention.

In summary, Mr. Chairman, we strongly urge the Committee to

act on this very important issue this year. Credit unions would

benefit greatly from reducing unnecessary and costly regulatory

burdens, and so would American consumers benefit from the savings that credit unions would pass on to their 85 million credit

union members.

Thank you very much.

Senator CRAPO. Thank you very much, Ms. James.

Ms. Saunders.

STATEMENT OF MARGOT SAUNDERS

MANAGING ATTORNEY, NATIONAL CONSUMER LAW CENTER

ON BEHALF OF

CONSUMER FEDERATION OF AMERICA, CONSUMERS UNION,

NATIONAL ASSOCIATION OF CONSUMER ADVOCATES,

AND NATIONAL COMMUNITY REINVESTMENT COALITION

Ms. SAUNDERS. Thank you, Senator Crapo. Mr. Chairman, Senator Sarbanes, and Members of the Committee, as our written testimony indicates, Mr. Mierzwinski and I have filed joint testimony

in an attempt to represent all consumers regarding the huge number of proposals that are pending before you today. We want you

to be sure to understand that if we have not specifically identified

a proposal and said that we do not like it, it does not mean that

we do like it. We just did not catch it.

[Laughter.]

Senator CRAPO. Understood. You are allowed to supplement your

testimony, too.

Ms. SAUNDERS. I appreciate that, Senator.

Today, I will deal briefly with a number of proposals that we

have concerns with and then also address some proposals that we

are hoping you will adopt.

First, I would like to address Senator Lincoln’s support for Senate bill 904, which would override the Arkansas Constitution and

override the express sentiments and votes of the Arkansas voters.

The people of Arkansas have determined that there should be a

usury limit, and they have passed one in their State Constitution.

There have been numerous attempts to amend the Constitution,

40

and on numerous occasions, the voters of Arkansas have resisted

those changes.

I have been in touch with a variety of consumer representatives,

including the unions in Arkansas, and have asked the question

whether or not there is any perceived or actual lack of available

credit in Arkansas. And I have been assured by Legal Services, by

representatives of State offices, and by the unions, that there are

no complaints from consumers that there is a lack of available

credit. In fact, I am told that recent decreases in interest rates

have led to an increased availability of financing, making more consumers able to afford credit than has been the case in previous

years.

It is necessary for this Congress to understand that if Senate bill

904 passes, Arkansas would change from being in the forefront of

consumer protection, because that is what Arkanas voters have

mandated, to be in the absolute last place. Senate bill 904 would

cut off all usury ceilings the State has altogether, and unlike every

other State in the Union, the voters or the legislature would not

be able to impose any protections for consumers on interest rate

limits.

Second, I want to address the pending proposals to allow virtually unlimited diversity jurisdiction in the Federal courts for both

national banks and Federal thrifts. This is a very bad idea. It

would make the Federal courts essentially collection mills for the

banks and the thrifts. It would also establish a legal procedural

morass which would prevent consumers from defending against

foreclosures in a variety of situations. While I do not have time in

this verbal testimony today to explain the details of why this would

be the case, but I am happy to answer any questions. My written

remarks do provide these details.

The concept of diversity jurisdiction is based on the idea that

people who are out of State may not get a fair hearing in the State

courts. Yet, in fact, we are talking about creating a legal fiction

where national banks or thrifts would have very active presences

in the States, yet would be called ‘‘out of State’’ simply for the purpose of creating diversity jurisdiction in the Federal courts.

In my one and a half minutes left, I want to support a number

of actions that you should consider which would actually protect

consumers. The EGRPRA process has been mentioned several

times. There is nothing in the law that tells the regulators that

they should solely look at how to change regulations to benefit the

industry. I have looked at it numerous times, yet to our great disappointment, the numerous papers that have come out of the agencies in the pursuit of the EGRPRA process have indicated that the

agencies have yet to notice that, their job is not only to look after

industry, but it is also to look after consumers. We ask you to tell

the agencies that they should be cautious in their recommendations

for change and, in fact, should include recommendations for change

which would further protect consumers.

We also ask you to consider prohibiting the FDIC from allowing

banks to rent their charters for payday loans. The FDIC is the only

one of the Federal regulatory agencies that permits its regulated

State banks to engage in payday lending. This is in derogation of

State law. There have been a number of attempts by States to stop

41

payday lending in the States. And it is only because the FDIC permits its State-chartered banks to rent the charters and avoid State

usury limits that this is permitted to go on.

Finally, I urge you to address a very mundane but very important change in the law. The Truth in Lending Act is the single

most important consumer protection act that we have on the books,

and it has a jurisdictional limit for nonreal estate, secured loans

of $25,000. That means if you purchase a car with a loan of more

than $25,000, you have no Federal law that covers your loan. That

needs to be updated. The equivalent number from 1968, when

TILA was passed, to 2004 would go from $25,000 to $132,000. We

ask you to consider at least some update.

Thank you. I am happy to answer any questions.

Senator CRAPO. Thank you very much, Ms. Saunders.

Next is Mr. Mierzwinski.

STATEMENT OF EDMUND MIERZWINSKI

CONSUMER PROGRAM DIRECTOR, U.S. PIRG

ON BEHALF OF

CONSUMER FEDERATION OF AMERICA, CONSUMERS UNION,

NATIONAL ASSOCIATION OF CONSUMER ADVOCATES,

AND NATIONAL COMMUNITY REINVESTMENT COALITION

Mr. MIERZWINSKI. Thank you, Senator Crapo, Senator Sarbanes.

I am Ed Mierzwinski of the U.S. Public Interest Research Group.

I would like to highlight a couple more of the significant parts of

our joint testimony.

First of all, the consumer groups and community groups strongly

support the Federal Reserve’s position that expansion of the authority of industrial loan companies to branch into other States de

novo or to expand their checking account allowances under the law

is a very bad idea, and we support the Fed in its proposal that you

not take the industrial loan companies, which were intended to be

small, limited-purpose institutions, and allow them to become fullblown banks with a full-blown banking system that is just like a

bank except that the system does not have the same prudential

regulatory structure above it that the bank holding companies have

that the Federal Reserve regulates most other parts of the banking

system. We think it would be extremely dangerous. We understand

that the House passed an amendment that might prevent WalMart from being part of this, but it does not prevent Wall Street

nor does it prevent General Motors nor many other car companies

nor other large companies from acquiring or expanding their industrial loan operations without the consolidated supervision, without

the consolidated capital, without the extremely significant regulatory oversight that the Federal Reserve Board has that neither

the FDIC nor the Utah Department of Banking or other State Departments of Banking have in order to examine or to oversee these

institutions. So we support the Fed in its position against the expansion of industrial bank authority.

Second, the consumer groups feel very strongly that S. 884, Senator Landrieu’s proposal to preempt stronger State laws regulating

predatory rent-to-own stores, should not be considered by this Committee, particularly as any kind of a reduced regulatory burden.

This is an industry that has enacted safe harbor legislation in

42

about 45 States that is virtually identical to the proposal before the

Committee. The other 5 States choose to protect their consumers

from unfair, overpriced, rent-to-own stores. Those States should not

be preempted. The notion that this bill provides consumer protections is belied by the fact that there are virtually no protections in

those States, nor in this bill, that are provided at any level comparable to those in the States that treat rent-to-own as a type of

credit sale. We strongly urge you to oppose preempting New Jersey,

preempting Wisconsin, preempting Minnesota, Vermont, and parts

of some other State laws that treat rent-to-own as a credit sale provide their consumers with stronger protection. It is not just a Federalist position. It is a consumer protection position. I do not think

that the Congress should be taking stronger State laws and throwing them out at the behest of an industry that is asking consumers

to pay $10 a week for the privilege of buying a $200 television over

a 78-week period and the industry does not even want to tell them

the interest rate, which, by the way, is between 100 and 300 percent.

Our organizations also strongly oppose weakening the Community Reinvestment Act. The Community Reinvestment Act is an extremely important tool for stimulating bank lending and improving

access to banking services for the Nation’s underserved rural and

urban communities. There are proposals before the regulators and

before the Congress that would treat many mid-sized banks, in one

case banks as large as $1 billion, under the streamlined small-bank

exceptions that currently exist to the Community Reinvestment

Act. If this were done, virtually thousands of banks would be exempt from the full coverage of the CRA. They would no longer have

incentives to offer deposit services, lifeline banking, and branching

into low-income and underserved communities. We strongly believe

that this expansion of the small-bank exception to the CRA not be

done by the Congress.

And, finally, I just want to add my concurrence with the credit

union regulators and the credit union witnesses that the consumer

groups strongly support Section 307 of the House bill, which would

allow credit unions to offer check-cashing and remittance services

to anyone in their field of membership, not only to their members.

Many consumers, particularly the unbanked and underbanked, pay

too much for remittance services. Billions of dollars is being transferred to large companies instead of back home. We think the credit unions could provide some needed competition. However, our testimony also points out that remittance services, no matter who is

providing them, need greater regulation.

Thank you.

Senator CRAPO. Thank you very much, Mr. Mierzwinski.

Mr. Cheney and Mr. Longbrake, I do not know if you heard the

bell a minute ago, but we are running up at the end of another

vote, and so we are going to have to take a recess right here, run

over and vote, and come back. So you two will have to stress a little

bit longer over your testimony.

We will try to make that as quickly as we can, but I am guessing

it takes about 10 minutes to get over and 10 minutes to get back.

So we have at least a 20-minute break here, and we will be back

as quickly as we can.

43

Thank you.

[Recess.]

Senator CRAPO. Okay. We will resume the hearing now, and, Mr.

Cheney, you are next up. Please proceed.

STATEMENT OF BILL CHENEY

PRESIDENT AND CEO, XEROX FEDERAL CREDIT UNION

ON BEHALF OF

THE NATIONAL ASSOCIATION OF FEDERAL CREDIT UNIONS

Mr. CHENEY. Thank you. Good afternoon, Senator Crapo and

Members of the Committee. My name is Bill Cheney. I am the

President and CEO of Xerox Federal Credit Union, located in El

Segundo, California. I am here today on behalf of the National Association of Federal Credit Unions to express our views on the need

for regulatory relief and reform for credit unions. First, I want to

thank you, Senator Crapo, for your leadership and for meeting with

our staff on these issues.

As with all credit unions, Xerox Federal Credit Union is a notfor-profit financial cooperative governed by a volunteer board of directors who are elected by our member owners. America’s credit

unions have always remained true to their original mission of promoting thrift and providing a source of credit for provident or productive purposes. A 2004 Filene Research Institute study entitled

‘‘Who Uses Credit Unions?’’ found that the average household income of those who hold accounts solely at credit unions was

$42,664, while the average household income for those who only

hold accounts at a bank was $76,923.

NAFCU is pleased to report to the Committee that America’s

credit unions today are vibrant and healthy and that membership

in credit unions continues to grow, with credit unions serving over

85 million Americans, more than at any time in history. At the

same time, it is important to note that while credit union membership is growing, over the past 23 years credit unions have increased their market share only minimally and, as a consequence,

provide little competitive threat to other financial institutions. In

fact, according to data obtained from the Federal Reserve Board,

during the 23-year period from 1980 to 2003, the percentage of

total household financial assets held by credit unions increased

from 1.4 percent to only 1.6 percent.

Mr. Chairman, as your Committee considers regulatory relief

issues for credit unions, we hope that you will look at the provisions that have been under consideration in the House of Representatives. NAFCU believes that the credit union provisions in

the House-passed Financial Services Regulatory Relief Act of 2004

are a positive step in addressing many of the regulatory burdens

and restrictions on Federal credit unions.

NAFCU is pleased to see the growing support in the House for

the Credit Union Regulatory Improvements Act, or CURIA. This

legislation addresses additional key issues for credit unions. We

hope that the Senate Banking Committee will consider provisions

from both of these bills as it crafts its own regulatory relief bill.

As outlined in my written testimony, NAFCU supports the 12

credit union regulatory relief provisions that have been included in

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both bills, and we would urge that they be included in any regulatory relief bill that comes out of the Committee.

There are also additional provisions included in CURIA that are

not included in the regulatory relief bill as it has passed the House

that are needed by the credit union community. NAFCU urges the

Committee to modernize credit union capital requirements by redefining the net worth ratio to include risk assets. This would result

in a new, more appropriate measurement to determine the relative

risk of a credit union’s balance sheet and improve the safety and

soundness of credit unions and our Share Insurance Fund.

NAFCU also asks the Committee to refine the member business

loan cap established as part of the Credit Union Membership Access Act in 1998, replacing the current formula with a flat rate of

20 percent of the total assets of a credit union. We support revising

the definition of a member business loan by giving NCUA authority

to exclude loans of $100,000 or less from counting against the cap.

These provisions would facilitate member business lending without

jeopardizing the safety and soundness of credit unions.

There is a lot of rhetoric out there on this issue, but I must note

that a 2001 Treasury Department study entitled ‘‘Credit Union

Member Business Lending’’ concluded that, ‘‘Credit unions’ business lending currently has no effect on the viability and profitability of other insured depository institutions.’’

And finally, we urge the Committee to include language that

would address the strain that could be placed on merging credit

unions when the Financial Accounting Standards Board changes

merger accounting rules from the pooling method of accounting for

mergers to the purchase method. This can be done through a simple modification of the statutory definition of net worth in the Federal Credit Union Act to mean equity rather than the retained

earnings balance of the credit union as determined under GAAP.

FASB has reviewed this proposed change and stated in an April 27,

2004, letter to NAFCU that, ‘‘While our primary concerns are not

regulatory issues, we do have an interest in supporting an expedited resolution of this matter. The attached proposed amendment

proposes a way to resolve this matter.’’

I have a copy of this letter from FASB with me and would ask

that a copy of this letter be included in the record with my testimony at this time.

Senator CRAPO. Without objection.

Mr. CHENEY. Thank you.

In conclusion, the state of the credit union community is strong

and the safety and soundness of credit unions is unquestionable.

Nevertheless, there is a clear need to ease the regulatory burden

on credit unions as we move forward in the 21st century financial

services marketplace. NAFCU urges the Committee to consider the

important credit union provisions we have outlined in this testimony for inclusion in any Senate regulatory relief bill. We look forward to working with you and your staff on this important matter

and would welcome your comments or questions.

Thank you.

Senator CRAPO. Thank you very much, Mr. Cheney.

And finally, Mr. Longbrake.

45

STATEMENT OF WILLIAM A. LONGBRAKE

VICE CHAIR, WASHINGTON MUTUAL INCORPORATED

ON BEHALF OF THE FINANCIAL SERVICES ROUNDTABLE

Mr. LONGBRAKE. Thank you very much, Chairman Crapo. My

name is Bill Longbrake. I am Vice Chair of Washington Mutual,

and today I am appearing on behalf of the Financial Services

Roundtable. My career began as a regulator, serving in various capacities for the Comptroller of the Currency and the FDIC, thus

giving me a perspective from both the regulator’s viewpoint as well

as from the banker’s viewpoint.

The Roundtable strongly supports efforts to reduce the regulatory burden on financial services firms. The outdated laws and

regulations increase the cost of financial products and services to

consumers. It is important for Congress to periodically review the

laws applicable to the financial services industry, and we applaud

your efforts in doing so.

I would like to highlight for the Committee six provisions from

the House-passed regulatory relief bill that we recommend be included in the bill you are drafting. I also urge you to use this opportunity to simplify the privacy notice required by the GrammLeach-Bliley Act.

It was exactly 10 years ago that Congress enacted the landmark

Riegle-Neal Interstate Banking and Branching Efficiency Act of

1994. Since then, the public benefits anticipated by that Act have

been realized. The creation of new bank branches has helped to

maintain the competitiveness of our financial services industry and

has improved access to financial products in otherwise underserved

markets. There is one remaining legal barrier to interstate branching which should be eliminated. Under the Riegle-Neal Act, a bank

cannot establish a new so-called de novo interstate branch without

the affirmative approval of a host State. The Roundtable urges the

Committee to remove this barrier by incorporating Section 104 of

H.R. 1375 in its version of the regulatory relief bill.

Another provision related to interstate banking that we would

recommend to the Committee is Section 616 of H.R. 1375. This section clarifies the authority of State banking supervisors over interstate branches of State-chartered banks. This provision will also

help to avoid needless confusion over the examination and supervision of interstate branches of State banks.

While the Roundtable supports all the thrift provisions of the

House bill, I would highlight four of these provisions which are

particularly important to our members.

First, Section 202 of H.R. 1375 would establish regulatory parity

between the securities activities of banks and thrifts. Thrift institutions do not enjoy the same regulatory treatment as banks under

the Exchange Act or the Investment Advisers Act, even though

Congress has permitted thrifts to engage in the same brokerage

and investment activities as commercial banks. The SEC has attempted to address this issue of regulatory disparity, but has not

fully resolved the problem. Therefore, we urge the Committee to include Section 202 in its version of the regulatory relief bill and establish explicit exemptions for thrifts in the Exchange Act and the

Investment Advisers Act that are comparable to the exemptions for

commercial banks.

46

Second, we recommend including Section 213 of the House bill.

This section would provide that a Federal savings association is a

citizen of the State in which it has its home office. This change is

needed to clarify when an interstate thrift can remove a case to

Federal court based on diversity jurisdiction.

Third, the Roundtable supports Section 208 of the House bill.

Current law limits the amount of automobile loans a thrift can

make to no more than 35 percent of the institution’s assets. Section

208 would remove this ceiling. This will allow thrifts to diversify

their portfolios and will increase competition in the auto loan business.

Fourth, the Roundtable supports Section 204 of the House bill.

This section would replace a mandatory dividend notice requirement for thrifts owned by savings and loan holding companies. The

existing mandatory requirement is no longer necessary.

Finally, the Roundtable member companies have found that the

privacy notice required by the Gramm-Leach-Bliley Act is overly

confusing and largely ignored by many consumers. We recommend

that the Committee use this opportunity to simplify the form of the

notice required by the Gramm-Leach-Bliley Act. There is extensive

research in support of simple notices. Consumer surveys indicate

that approximately 58 percent of consumers would prefer a shorter

notice than the lengthy privacy policy mandated by the Act.

The Federal banking agencies recently requested comment on alternative notices that would be more readable and useful to consumers. However, these Federal agencies lack the authority to

make a simplified notice uniform in every State. We strongly recommend that the Committee direct the relevant Federal agencies

to finalize a simplified Gramm-Leach-Bliley Act privacy notice that

supercedes State privacy notices. Consumers will be better served

if they are given a simple, uniform explanation of an institution’s

privacy policy and their privacy rights.

In conclusion, the Roundtable appreciates the efforts of the Committee to eliminate laws and regulations that impose significant

and unnecessary burdens on financial services firms or impose unnecessary barriers in serving the marketplace. The cost savings

that will result from this legislation will benefit the consumers of

financial products and services.

We look forward to working with the Committee on this very important legislation. Thank you.

Senator CRAPO. Thank you very much, Mr. Longbrake. Before we

proceed with questions, Senator Santorum was here and had to

leave and asked that his statement be made a part of the record,

which it will be, without objection.

Senator CRAPO. I would like to, first of all, thank all the witnesses, not only for your patience in a long hearing, but also for

the very helpful materials that you have provided. I do not know

if you can see the stacks of materials here, but they are about that

thick, of written material that have been provided by the various

witnesses and their groups today. I have read much of it. I will finish reading all of it soon, I promise.

As I have gone through this testimony it has become very evident to me that a tremendous amount of very thoughtful effort has

gone into the testimony that was prepared today, because of the

47

importance of this issue. I believe that in context or another, there

are very few Americans who are not touched in many different

ways by the issues that will be before the Committee as we craft

this legislation. Your help in identifying areas where we can improve the safety and soundness, and improve the consumer protection, and reduce the regulatory burden, thereby improving the

services that are provided to the people of this Nation through our

financial systems, is going to be very helpful.

One question that I wish I had had more time with the first

panel to go into a little bit, but one question I want to start out

with you on, and Mr. Leighty, it is probably one that you should

jump in on first because you mentioned it in your testimony, is the

question of the difference between large and small banks in the

United States. After reviewing the testimony, and particularly the

charts that have been shown by Mr. Reich earlier in his testimony

and some of the information that you and others have provided, it

is very clear that the number of community banks is dramatically

dropping off and that their percentage of the market is dramatically dropping off.

The question that comes up is, should we consider the explicit

creation of a two-tiered regulatory system for smaller institutions

which are particularly vulnerable to the heavy regulation which we

impose on larger institutions? And if so, what proposals would you

suggest that we utilize in such a two-tiered approach? Do you want

to start out, Mr. Leighty?

Mr. LEIGHTY. Sure. I think that the answer would be yes, and

certainly there are some consumer protection laws that apply,

whether it is a large institution or a small, so we would not advocate that there would be different consumer protection for a large

versus a small institution.

However, there are some of the burdens that are harder on the

smaller institutions relative to their resources. An example would

be, I think something maybe as benign as call reports. The volumes

of information that is required to be prepared quarterly for a small

simple balance sheet institution, perhaps that could be something

that could be streamlined for the smaller institutions at a threshold of size to be determined. Maybe all of the schedules that are

be required to be sent in quarterly just do not make sense for a

noncomplex institution.

Another which was mentioned earlier would clearly be the

streamlined CRA examinations. I think it is important to point out

that the streamlined CRA examination does not take away the requirements of CRA. It simply shifts the burden to the regulatory

agencies when they are in examining the banks to determine if we

in fact are meeting our obligations to our communities. So, I think

it is a distinction that sometimes gets lost in these discussions,

that with streamlined examinations we still are required to meet

CRA requirements, but the examination process is not as onerous

to the smaller institutions.

Senator CRAPO. Thank you. Anybody else want to jump in on

this? Mr. Mierzwinski?

Mr. MIERZWINSKI. Just very briefly, I would refer you, Senator,

to the consumer group testimony. It goes into detail about how we

would have a difference of opinion with the other groups on the imVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00055 Fmt 6633 Sfmt 6633 25856.TXT SBANK4 PsN: SBANK4
48

portance of the full CRA examination being distinctly more important in evaluating whether a bank is serving the community. This

is particularly important because the proposal to increase from

$250 million to $500 million for the streamlining would exempt another 1,200 institutions. Some proposals would go to $1 billion. We

are talking mid-size banks, not small banks. Under these proposals

you would only have 600 banks getting the full benefit of the CRA

examination.

Again, the streamlined test only looks at lending. It does not look

at the service test as adequately. There is a lot more to it that we

think is very important, particularly in small and medium-size

communities where these banks have a very large presence.

Mr. LEIGHTY. If I might?

Senator CRAPO. Certainly.

Mr. LEIGHTY. I think the definition of small bank that the Fed

uses is $1 billion, so we have a difference of terminology on what

is a small institution.

Mr. LONGBRAKE. If I could just add a comment?

Senator CRAPO. Mr. Longbrake.

Mr. LONGBRAKE. Reducing burden is important, period, just for

the benefit of consumers and businesses, so that applies to all institutions regardless of size and regardless of charter. So, I think it

is important we not lose sight of that.

Having said that, in terms of the activities and the complexity

of those activities, they do differ by type of organization and regulation should be suitable for the type of activities an institution

performs. I would be careful about billing it as a two-tier system

however.

Senator CRAPO. Good point. Mr. Rock.

Mr. ROCK. Thank you, Senator. Just with respect to the streamlined CRA test, I think that my bank is a pretty good example of

some of the difficulties that exist. My last two CRA exams, one was

under the streamlined test and then the most recent one was under

the big bank test, so I have experienced both lately.

The problem for us, we are a 95-year-old community bank. We

are 96 percent loaned up. We only loan money in our community.

But our community is a suburban community on the north shore

of Long Island. It is a fairly homogeneous community, and according to the Census Bureau we have no low- to moderate-income

areas in our service area. Yet under the big bank test we are required to make loans in low to mod areas. So we have gone outside

our area to comply with the big bank test, made loans in low to

mod areas outside our service area. And in the most recent exam

under the big bank test we were told by our regulator, the Federal

Reserve Bank, that those loans do not qualify because they are outside our area, so they do not meet the standard. Yet, if we restrict

our lending to our area under the big bank test, then we have not

met our obligations.

It is quite a Catch-22. The only reason the Catch-22 exists is because the big bank test was designed for banks that are spread out

over hundreds of branches—my bank has 10 branches, all along

one strip of about 30 miles of a road called Middle Country Road

in a suburban area. So when the big bank test is applied to comVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00056 Fmt 6633 Sfmt 6633 25856.TXT SBANK4 PsN: SBANK4
49

munity banks like mine there are anomalies and it just does not

work.

Senator CRAPO. Mr. Macomber.

Mr. MACOMBER. We seem to have gotten into CRA as the point

here, one thing to look at I think is the regulators. The FDIC in

particular and the other regulators are recommending that a larger

level be established. That is based, I think, on the performance of

the small banks, the performance they have seen in banks between

$250 and $500 million.

As far as two tiers, I think there are a number of regulations in

place that do recognize the difference in size and so forth, but the

level of risk, if it is safety and soundness, is certainly a lot less in

a $166 million bank like mine than it is in Bill Longbrake’s bank

which is somewhat larger. I think there should be some recognition

along those lines. But on the CRA, the $250 million just seems like too low a

threshold, given the complexity of the banks involved, the fact that

those banks that are that size are restricted basically by their very

size to serving the community they are in. There is not a banker

here that does not want to make a loan that is a good loan, in any

neighborhood.

Senator CRAPO. Anybody else want to get in on any of the aspects of this? Mr. Maloney.

Mr. MALONEY. Senator, my area of expertise with our clients is

on the asset management side, small bank trust departments who

service the investment and retirement needs of the communities

where they reside. I testified before the House Financial Services

Committee in August 2 years ago in a hearing chaired by Spencer

Bachus from Alabama. I said, Mr. Bachus, if you did not get this

functional regulation issue correct, what Congress has done is take

2,000 community banks off the board as competitors and get them

out of serving the financial service needs of their communities.

Last Friday, I chaired a gathering here in Washington, coincidentally, of 200 bankers from all over the United States, the very largest and the very smallest, on the title to the brokerage provisions

of Gramm-Leach-Bliley. The Securities and Exchange Commission

at 2:53 Thursday afternoon issued a 228-page release interpreting

the provisions of Title II. I have five $500-an-hour lawyers trying

to figure out what they said. It will crush the life out of small bank

trust departments in terms of the compliance burden.

Senator CRAPO. Thank you. Anybody else want to get in on this

question?

I appreciate that perspective. One of the things that has become

very evident to us as we have put this together—Senator Sarbanes

and I were talking about it as we were walking to the vote—is that

there are some areas where we are going to find ourselves in

complete agreement, and there are some areas where we will

understand the issue very well but we will find ourselves in disagreement. And there are a lot of other areas where we do not understand the implications of proposals or actions that might be

under consideration, and we want to be sure that we narrow that

down and make certain that we understand the complexities that

we are dealing with and make certain that we deal with them

properly.

50

Let me turn to the credit union issue for a minute. Ms. James

and Mr. Cheney, you may be the two who want to jump in on this,

but others are certainly welcome to do so. You have explained or

stated that you believe it is important to amend the Federal Credit

Union Act to create a risk-based capital structure for credit unions.

Would you go into that a little further and explain why Congress

should modify the statutory definition of net worth so that it would

more focus on equity rather than on the retained earnings?

Mr. CHENEY. There are really two issues there. One is the statutory definition of net worth now is codified in the Federal Credit

Union Act. It says that net worth means the retained earnings balance of the credit union. That was not a problem in 1998 when the

Credit Union Membership Access Act was passed. But it is an issue

today because the Financial Accounting Standards Board is about

to change the method of accounting for mergers of not-for-profit entities from the pooling of interest method to the purchase method.

When that happens, when two credit unions merge, in the old

method you would take the retained earnings balance of one credit

union and add it to the retained earnings balance of another credit

union, so everything was fine. The new entity got the benefit of all

of the members’ equity.

Under the purchase method, the retained earnings balance of the

credit union that no longer exists, that is merged into the other entity, goes into an account that is called acquired equity, which is

not recognized by the Federal Credit Union Act as net worth for

the purposes of prompt corrective action. So our proposal was to

change the definition in the Federal Credit Union Act to say equity

instead of retained earnings balance, and the Financial Accounting

Standards Board said as far as they were concerned, that would resolve the issue.

So it does not change their ruling at all. It just takes care of a

statutory definition of retained earnings.

Senator CRAPO. Ms. James.

Ms. JAMES. Senator, my testimony concerned more prompt corrective action and relating that to the risk in an individual credit

union, not necessarily to their retained earnings. I just think that

there are ways to look at credit unions who are very simply operated, are not involved in anything risky, that they could have a different level of prompt corrective action applied to them. I am not

saying that they should not have prompt corrective action, only

that their capital levels be more in relationship to the actual activities that they are doing.

Senator CRAPO. Thank you very much. Anybody else want to get

in on this issue?

Mr. CHENEY. Just to the build a little bit on risk-based capital.

We agree absolutely with that issue. Right now prompt corrective

action establishes capital levels, and you just take their net worth

retained earnings divided by assets and that is how you determine

the level. We would like to see the assets risk-weighted as they are

in the banking industry, so that we are not providing the same

level of capital for cash in vaults, for example, as we do for secured

lending. Just one example.

Senator CRAPO. Thank you very much. Mr. Rock, were you——

51

Mr. ROCK. I understand Mr. Cheney’s earlier remarks, the limited point he was making about pooling and purchase accounting

and so on. But my understanding is they would like to see the leverage ratio eliminated and have only risk-based capital. And when

he says like the banking industry, we have several capital ratios

that we have to comply with, three to be certain, and that includes

a leverage ratio. So if they want equality, that does not amount to

eliminating the leverage ratio. They can have the risk-based capital

ratio too, I suppose, and that might be wise, but we are not eliminating the other ratio.

Ms. JAMES. We are not asking for that.

Mr. CHENEY. I may have been misunderstood, but we are not

asking to eliminate it.

Ms. JAMES. No, not at all.

Senator CRAPO. Good. Let me go to another issue. I am only

going to have time to hit several issues here, and I apologize for

that, but believe me, we have so much material here to work on

that you can be assured that we will be getting back to you to discuss this even after the hearing to go through these things.

Mr. Longbrake, you raise the issue of privacy which we did not

get to last year as we were moving forward, and I would like to

ask you to just take a minute and make your case about what you

would like us to do with regard to privacy, and then see if there

are concerns or comments that anybody else on the panel would

like to make in the context of that issue.

Mr. LONGBRAKE. Thank you, Senator. As I referred to in my testimony, many consumers when polled do not even realize that they

received a privacy notice from their bank. What Washington

Mutual has done is actually prepare a very nice brochure that

highlights the key aspects of privacy. It is in an easy to read and

understand form, and we put it in statements. So we get a much

higher percentage than the one I quoted, of people saying, yes, we

read the privacy notice.

Now here is the problem. When the Gramm-Leach-Bliley Act was

passed it left open the creation of that privacy notice and it left to

the States the opportunity to amplify in any way they saw fit. The

result of that has been two-fold. First of all, the bank regulatory

agencies and the others that have jurisdiction, there are about

seven different agencies altogether, have different forms of the notice requirements, so that creates confusion just to begin with.

The second problem is that then when lawyers get going or our

companies, they take no risks, so what ends up is being a very

complex, convoluted, difficult to understand, not very user-friendly

situation. So what we are encouraging here is that the regulatory

relief bill include something in it that directs the Federal regulatory agencies to craft a standard notice that all can use. You can

have behind that on kind of a stacked basis then, the more complex

one that deals with all the different things, and you can add into

that the State activity as well. But what we would like to recommend is that there be a standard Federal notice that supersedes

the State ones that is done in a simple and easy to understand way

for consumers.

Senator CRAPO. I can agree with your request for simplicity, because as a Member of the Committee I read all those privacy noVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00059 Fmt 6633 Sfmt 6633 25856.TXT SBANK4 PsN: SBANK4
52

tices that I get sent from the financial institutions that I deal with.

I am a Member of the Committee, and I am also a lawyer, and

those things are tough to read. And when you are done reading one

and you get the next one, then you really do not what you have

read. So, I have to agree. I think that we have to do something to

make it very clear to the public what their rights are, and that is

another piece of this issue. But I do believe we need to get to simplicity.

Mr. LEIGHTY. If I may?

Senator CRAPO. Sure, Mr. Leighty.

Mr. LEIGHTY. I think there would be some merit when the account is opened the customer would receive that institution’s privacy policy, and then perhaps it can be streamlined where if there

are no changes that the institution not have to reprovide privacy

notices unless they change, and that could be done along with a

statement stuffer to simplify the process.

Senator CRAPO. Thank you. Mr. Mierzwinski, you wanted to say

something?

Mr. MIERZWINSKI. They are brief, Senator. The consumer groups,

obviously, we would support improving the privacy notices. But to

some extent, it is like rearranging deck chairs on the Titanic because in fact our view is that the Gramm-Leach-Bliley privacy protections are minimal at best. It is almost like a right without a

remedy. Most of the activities can occur regardless of your privacy

preference.

Now the FACT Act did add a new opt-out in certain circumstances when your information is used for marketing, but in

general we believe that the Committee should reinstate the supremacy of the so-called Sarbanes Amendments to Gramm-LeachBliley and make it clear that the States do have authority to enact

stronger privacy laws that give consumers real privacy protections.

In fact, we would support a nutrition label type of privacy notice,

but it must have room on it for stronger State privacy laws.

Senator CRAPO. Anybody else want to get in on the privacy issue?

Yes, Mr. Macomber.

Mr. MACOMBER. Just to repeat, the repetitive nature of these, for

banks that do not share their information with anybody, just does

not make any sense at all. My bank does not share information

with anyone, except just for third parties that actually process in

the back room. To keep sending these out, I would have to compliment you, Senator Crapo, you are the only person I have ever

heard say that he read every one of these he got.

Senator CRAPO. I am a little embarrassed that I admitted that.

Mr. MACOMBER. But these generally are very much like Truth in

Savings disclosures, they go in the wastebasket before reading.

Senator CRAPO. I can understand that, because I will be honest

with you, after about four or five of them I could not read the rest

of them. It just got to the point where it was too complicated trying

to figure out what everyone was saying, knowing they were all

working supposedly on the same page.

Any other comments?

I apologize that I am going to have to just go into one more issue.

There are a lot more that we could get into, but like I say, I assure

you that the Committee is going to be working very promptly and

53

aggressively on this to see where we can bring together enough

common support to move some significant reform legislation.

The last one I wanted to get into is, Mr. Maloney, I wanted to

get back to you and ask you to just clarify your point with regard

to interest on business checking, on that issue. Could you clarify

your position there for me, or maybe explain it to me. I do not

know if you remember Senator Carper earlier asking one of the

witnesses to say—if you wanted me to just give the really short,

concise version of what your point is, what is that?

Mr. MALONEY. As I mentioned in my opening remarks, our clients banks are our friends and we are opposed to any initiative, either regulatory or legislative, which creates a climate where our

friends can be harmed. Looking at the history of interest rate deregulation as a result of the Garn-St. Germain Act, it is very easy

to conclude that absent a reasonable phase-in period to allow an institution to adjust the asset liability mix, and absent a cap on the

rate of return that can be paid on the deposit account, we all run

the risk of repeating the excesses of the 1980’s. That was my point.

Senator CRAPO. Any comments on this issue? Yes, Mr. Pinto.

Mr. PINTO. I would just like to say two things. One, during the

1980’s I was actually Chief Credit Officer at Fannie Mae so I have

a little familiarity with what went on during that period, and to

my knowledge it had nothing really to do with the providing of interest on consumer accounts. It had more to do with a large expansion of the rights of thrifts in particular to get into areas that they

really had no expertise in, particular commercial lending. That is

where most of the losses arose from.

But two, the issue is that we live in a free-market economy and

Professor Schumpeter said that capitalism is creative destruction,

and I think it is time that sweep accounts were destroyed because

they are really not providing a business purpose or an economic

purpose, and I think the Federal regulator said that early today.

Mr. MALONEY. Maybe if we have a repeat of the 1980’s, Mr. Pinto

can clean up the mess. He goes on record as being in favor of it.

Senator CRAPO. Mr. Macomber, did you have something to say?

Mr. MACOMBER. This corner is in agreement, in the sense, particularly about reflecting back at the 1980’s. That was a credit

issue. Those were bad loans made by people who were not qualified

to make them, and both in Texas and New England, where I come

from, a real estate market that got way out of whack. But they

were not related to what banks were paying on interest rates.

There are very few banks that have ever had real issues as far as

safety and soundness related to interest. They may have exacerbated credit problems, but it is credit problems that generally put

banks out of business.

Senator CRAPO. Mr. Maloney, did you want the last word?

Mr. MALONEY. If you are paying 25 percent to induce people to

put deposits in your bank, presumably you have to find an offsetting interest-earning asset that is going to pay you more than 25

percent. I was taking a tutorial at the Wharton School at the time

and at least I absorbed that much from my professors. So to argue

that it was a credit problem while ignoring what people were paying to attract deposits simply ignores history.

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Senator CRAPO. I know that there could be some back and forth

on that and I would actually like to hear it, but we are running

out of time here, so let me again thank all of the witnesses. Like

I said, I know that you did not get the time to go into all of what

you would have liked to have said during your oral testimony, but

believe me, your written testimony is going to be very carefully reviewed. We did not get the time to go into every question that we

wanted today with regard to these important issues either in the

give and take, but there will be a tremendous amount of that.

I encourage you to continue to do as you have been doing, and

that is not only prepare such excellent materials but also to keep

engaged with my office and the offices of the other Senators who

are involved in putting this together. We intend to move expeditiously. You probably would like to know what that means. So

would I. In the Senate these days, we have a short timeframe for

the rest of this session and we find ourselves only moving ahead

when we are able to build some solid common ground where we

have bipartisan support for legislation. I am just thinking off the

top of my head right here that at this point we are going to be trying to put together legislation that has the kind of common support

that will allow us to move promptly.

At the same time, I am guessing that a number of these issues

will take a little bit longer to iron out, and we will not lose sight

of them. This does not need to be the only stab at this that we

take, and we will be able to continue to work on these issues and

move forward with a number of other efforts, if necessary. Frankly,

we can probably move forward on different fronts as well. So, I do

not want to confuse things, but I just want to make it clear that

we want to be thorough in this job. We also are going to work our

hardest to be sure that we are able to move legislation in this session, and that is going to require that we build some good, bipartisan support for legislation as we move forward.

Again, I want to thank everybody, particularly the witnesses and

those of your support staff who worked with you to prepare these

outstanding materials. Unless there is anything else, this hearing

will be adjourned. Thank you.

[Whereupon, at 1:50 p.m., the hearing was adjourned.]

[Prepared statements, response to written questions, and additional material supplied for the record follow:]

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PREPARED STATEMENT OF SENATOR DEBBIE STABENOW

Thank you, Mr. Chairman. I appreciate that we are having this hearing today.

Let me begin by thanking all of our witnesses for taking time to come and testify

today. I would like to say a special welcome to Senators Landrieu and Lincoln. I

am glad that your busy schedules allow you to join us today in order to offer your

insights.

And, I would also like to offer a special thank you to Roger Little, the State of

Michigan’s very own Deputy Commissioner at the Office of Financial and Insurance

Services. He also serves as Credit Union Director for Michigan. I know the Committee will benefit from having his comments. I am glad that he can be with us to

relay his firsthand experiences to the Committee.

Mr. Chairman, regulatory relief is not an easy task, but it is appropriate, I believe, to review our Government’s regulations from time to time and make modifications if we find them to be overly burdensome, unrealistic, or outdated.

Regulations exist to protect the American people and make sure that markets do

not fail the public interest. I would oppose efforts to weaken regulations that act

as critical consumer protections, but I do support a review of our regulations and

I suspect that there are a number of revisions upon which this Committee can agree

need some corrections.

This will not be an easy or fast process. And, indeed, today’s hearing is a chance

to begin a discussion that I suspect will take us well into next year, but I think

today will be a very useful discussion. And, I am also very grateful for the broad

array of viewpoints we will hear today. It can only lead to a better, more balanced

bill when you, Senator Crapo, and others are ready to introduce a reform proposal.

—————

PREPARED STATEMENT OF SENATOR CHUCK HAGEL

Mr. Chairman, I want to thank you for holding today’s hearing. I also want to

thank Senator Crapo for his leadership in addressing regulatory reform. For four

Congresses now, I have advocated and introduced legislation to repeal the ban on

banks paying interest on business checking accounts. While this prohibition applies

to all banks and businesses, it targets and discriminates against small banks and

small businesses. That is why Senator Snowe, who chairs the Small Business and

Entrepreneurship Committee, and I introduced the Interest On Business Checking

Act last year.

Big banks can currently circumvent the prohibition and offer alternative accounts,

called sweep accounts. These sweep accounts allow big banks to effectively provide

their customers with interest-bearing checking accounts. Unfortunately, small banks

find it hard to offer these accounts, because they are costly to provide. Additionally,

small businesses find it hard to afford these accounts because large banks usually

require businesses to maintain large balances in the accounts.

Complicating matters is the growing impact of nonbanking institutions that offer

deposit-like money accounts to individuals and corporations alike. Large brokerage

firms have long offered interest on deposit accounts they maintain for their customers. This places these firms at an advantage over community banks that cannot

offer their corporate customers interest on their checking accounts. While I support

business innovation, I do not believe it is fair when any business gains a competitive

edge over another due to government interference through over-regulation.

Passage of this bill will remove one of the last vestiges of an obsolete interest rate

control system. Abolishing the statutory requirement that prohibits businesses from

owning interest bearing checking accounts will provide America’s small business

owners, farmers, and farm cooperatives with a funds management tool that is long

overdue.

Passage of this bill will ensure America’s entrepreneurs can compete effectively

with larger businesses. My experience as a businessman has shown me, firsthand,

that it is extremely important for anyone trying to maximize profits to be able to

invest funds wisely for maximum efficiencies.

Repealing this ban has already passed the House this year and has passed the

Senate Banking Committee in previous Congresses. Unfortunately, there has been

some disagreement as to how to address this legislation with respect to Industrial

Loan Corporations or ILC’s. Mr. Chairman, the bill which I introduced last year,

leaves the decision to be determined by the regulator.

I am pleased to say that repealing the ban has the strong support of America’s

Community Bankers, the National Federation of Independent Businesses, and the

U.S. Chamber of Commerce. It also has the support of many of the banks, thrifts,

and small businesses in my home State of Nebraska.

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Mr. Chairman, this is a straightforward bill that will do away with an unnecessary regulation that burdens American business. It is an important tool to strengthen the Nation’s engine of job growth—the small businesses that are important

customers for small banks. This legislation also fits into the regulatory reform efforts being undertaken by this Committee. Thank you.

—————

PREPARED STATEMENT OF SENATOR RICK SANTORUM

Mr. Chairman and Members of the Committee, I would like to thank the Chairman for holding this hearing regarding regulatory reform for our Nation’s financial

institutions. I am pleased that Mr. Gene Maloney, Director, Executive Vice President and Corporate Counsel of Federated Investors, Inc. in Pittsburgh, one of the

Nation’s largest investment management organizations, has been invited to testify

at today’s hearing. Mr. Maloney will talk about the proposed revision to Regulation

Q, to allow banks to pay interest on business checking accounts. Gene has extensive

industry experience and has previously testified before the Senate on matters of fiduciary compensation and the deregulation of the financial services industry.

Mr. Maloney has appeared as a speaker at American Bankers Association gatherings and is a frequent speaker at State Bankers Association meetings on the following subjects: The Gramm-Leach-Bliley Act, the deregulation of the financial services industry, the Uniform Prudent Investor Act, and the investment management

process it contemplates, fiduciary compensation, and asset allocation as a means of

optimizing return and minimizing risk.

Gene is a Director of the Foundation for Fiduciary Studies. He is an instructor

in trust and securities law at Boston University School of Law and has been a visiting instructor at the Federal Financial Institutions Examination Council and the

American Bankers Association’s National Graduate Trust School at Northwestern

University. Mr. Maloney has also served as an expert witness in both judicial and

legislative settings on matters relating to fiduciary compensation, will construction,

and prudent investing.

Gene received his B.A. from Holy Cross College in Worcester, Massachusetts, and

his J.D. from Fordham Law School in New York City. He attended the Wharton

School of the University of Pennsylvania, focusing on the financial management of

commercial banks. He was an officer in the Army from 1969 to 1972 and served as

an infantry officer for 1 year in Vietnam.

I think we all recognize the importance of hearing testimony from different sides

of an issue, and I thank the Chairman and Members of the Committee for their consideration of this witness. I look forward to hearing the testimony presented today.

—————

PREPARED STATEMENT OF MARY L. LANDRIEU

A. U.S. SENATOR FROM THE STATE OF LOUISANA

JUNE 22, 2004

Good Morning, Mr. Chairman and Members of the Committee. It is my pleasure

to appear before this Committee today to talk about Federal rent-to-own legislation.

Let me begin by thanking you, Chairman Shelby, for scheduling hearings on regulatory relief in general, including legislation that I introduced earlier in this

Congress, S. 884, which you and many others on this Committee have agreed to cosponsor. The bill has broad bipartisan support, including several Members of this

Committee and I hope that the Committee will include my legislation in future regulatory relief legislation.

S. 884, standing alone or as part of this regulatory relief package, proposes to regulate the rent-to-own, or rental-purchase, transaction, for the first time at the Federal level. In introducing this legislation, I have tried to ensure the interests of the

consumers are protected while providing a Federal floor of consumer protections.

Preemption is an important issue for many of us. Those of us who have previously

served in our respective State legislatures hold our colleagues in the State legislatures in high esteem. If enacted, this legislation would serve only to establish a floor

of regulation of the rent-to-own transaction. State legislatures would have full opportunity to pass stronger laws and regulations, modify existing statutes, or even

outlaw the transaction entirely if that is what those bodies believed was appropriate. My bill does not preempt any State statute. This bill, however, would finally

establish a Federal or national definition of the term ‘‘rental-purchase,’’ consistent

with the definitions found in these various existing State statutes and within the

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Internal Revenue Code. Just as is the case under other Federal consumer protection

laws, including TILA and the CLA, States would not be permitted to define or

‘‘mischaracterize’’ the rent-to-own transaction in a manner that would be inconsistent with the definition in this bill.

Now let me turn to what the bill does in terms of providing consumer protection

and uniformity in terms of a floor of Federal consumer protections.

The rent-to-own, or rental-purchase industry, offers household durable goods—appliances, furniture, electronics, computers, and musical or band instruments are the

primary product lines—for rent on a weekly or monthly basis. Customers are never

obligated to rent beyond the initial term, and can return the rented product at any

time without penalty or further financial obligation. Of course, customers also have

the option to continue renting after the initial or any renewal rental period, and can

do so simply by paying an additional weekly or monthly rental payment in advance

of the rental period. In addition, rent-to-own consumers have the option to purchase

the property they are renting, either by making the required number of renewal

payments set forth in the agreement, or by exercising an early purchase option, paying cash for the item at any time during the rent-to-own transaction.

Rental companies typically provide delivery and set up of the merchandise, as

well as service and replacement products, throughout the rental at no additional

cost to the consumer. Rental companies do not check the credit of their customers,

and do not require downpayments or security deposits, nor do they report to credit

agencies information regarding consumers. Consequently, this is a transaction that

is very easy to get into and out of, ideal for the customer that wants and/or needs

financial flexibility that only this unique, hybrid rental-and-purchase transaction affords.

The rent-to-own transaction appeals to a wide variety of customers, including parents of children who this week want to learn to play the violin, only to find that,

2 weeks later, the child is more adept at—and interested in—fiddling around. Military personnel who are frequently transferred from base-to-base, who want quality

furnishings for their apartments or homes but who often cannot afford, or do not

want, to purchase these items, use rent-to-own. College students sharing apartments or dorms rent furniture, appliances and electronics from rent-to-own companies. The transaction serves the needs of campaign offices, summer rentals, Super

Bowl and Final Four parties, and other similar short-term needs or wants.

Importantly, however, this transaction is also frequently used by individuals and

families who are just starting out and have not yet established good credit, or who

have damaged or bad credit, and whose monthly income is insufficient to allow them

to save and make major purchases with cash. For these consumers, rent-to-own offers an opportunity to obtain the immediate use, and eventually ownership if they

so desire, of things that most of the rest of us take for granted—good beds for our

children to sleep on, washers and dryers so they do not have to spend all weekend

at the Laundromat, dropping coins into machines that they will never own. Computers so the kids can keep up in school, decent furniture to sit on and eat at, and

so on. Rent-to-own gives these working class individuals and families a chance,

without the burden of debt, and with all the flexibility they need to meet their sometimes uncertain economic circumstances. This is certainly a more viable alternative

than garage sales, flea markets and second-hand stores.

The Internal Revenue Service, as a matter of law, has determined that fewer than

50 percent of rent-to-own transactions result in purchases and the rent-to-own industry statistics confirm that approximately one in four transactions results in the

renter electing to acquire ownership of the rented goods. In the other 75 percent,

according to the industry numbers, customers rent for a short period of time and

then return the goods to the store, typically in just a few weeks or months.

There are roughly 8,000 rent-to-own furniture, appliance and electronic stores

throughout the country, and in Puerto Rico. Additionally, there are several hundred

musical instrument stores. The majority of companies operating in this business are

‘‘mom-and-pop’’ family owned businesses, with one or two locations in a particular

city or town, with less than one-half of these stores being owned by major,

multistate corporations.

Over the past 20 years, there has been a healthy and vigorous public debate,

played out primarily at the State level, and to some extent here in Washington as

well, about the appropriate method of regulating this transaction. Some individuals

and groups have argued that rent-to-own is most similar to a credit sale, and consequently should be regulated as such. However, as you have just heard me describe, this transaction differs from consumer credit is a number of respects, most

importantly in that the rent-to-own customer is never obligated to continue renting

beyond the initial rental term, and has the unilateral right to terminate the agreement and have the products picked up at any time, without penalty. This is the critVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00065 Fmt 6621 Sfmt 6621 25856.TXT SBANK4 PsN: SBANK4
58

ical distinction—under traditional credit transactions, the consumer must make all

of the payments over a predetermined period of time or risk default, repossession,

deficiency judgments and, in worst cases, damaged credit and personal bankruptcy.

By way of stark contrast, the rent-to-own customer enjoys complete control over his

or her use of the rented goods, and the terms of the rental transaction itself. To

this point, the Federal Trade Commission distinguished between the rent-to-own

transaction and a credit-sale transaction in its seminal report on the rent-to-own industry in 2000 saying that:

Unlike a credit sale, rent-to-own customers do not incur any debt, can return the

merchandise at any time without obligation for the remaining payments, and

do not obtain ownership rights or equity in the merchandise until all payments

are completed.

Every State legislature that has enacted rent-to-own specific legislation, beginning

with Michigan in 1984, has agreed that this unique transaction is not a form of consumer credit, but instead is something very different. My bill, S. 884, is consistent

with the approach taken by all these various State laws. However, as I explained

earlier, this proposal would set a floor of regulation, beyond which States would be

free to regulate if the State legislatures saw the need to do so in response to local

concerns and conditions. And in fact, any number of the existing State laws provide

greater consumer protections than those imbedded in this bill, and those stronger

regulatory frameworks would remain controlling in those States if this bill were to

be enacted. One other note: This bill, if enacted, would align Federal consumer protection law with Federal tax law, which treats rent-to-own transactions as true

leases and not as credit sales for income reporting and inventory depreciation purposes. In short, no State legislature would be precluded from regulating this transaction in any way. It would however, no be allowed to redefine this transaction as

something it is not. This is consistent with how Congress has dealt with consumer

leases over 4 months in length and true credit transactions.

Finally, this bill enjoys the unanimous support of the rental-purchase industry,

from its largest members to its smallest.

This bill strikes a balance between the needs for consumer protection and the

need to establish and maintain a fair and balanced competitive marketplace in

which businessmen and—woman can survive and thrive and continue to provide a

financial transaction the consumer wants. I believe that it is this balance that has

made the bill so attractive to such a variety of cosponsors, evenly split between

Democrats and Republicans.

The bill does 5 major things:

• One, it defines the transaction in a manner that is consistent with existing State

rent-to-own laws, as well as Federal tax provisions. As an aside, this definition

is also consistent with the views of both the Federal Reserve Board Staff and the

Federal Trade Commission, as expressed in their testimony before the House Financial Services Committee in the 107th Congress.

• Two, it provides for comprehensive disclosure of key financial terms in advertising

and on price cards on merchandise displayed in these stores, as well as in the

body of the rental contracts themselves. These disclosure requirements were adopted in part from the recommendation of the FTC in its seminal report on the rentto-own industry from 2000. Overall, these requirements exceed the disclosure

mandates under Truth in Lending as well as the Federal Consumer Leasing Act.

• Three, the bill establishes a list of prohibited practices in the rent-to-own industry, a list similar in content and substance to the practices prohibited under the

Federal Trade Commission Act, and under most State deceptive trade practices

statutes. These provisions are unique—neither Truth in Lending nor the Consumer Leasing Act contains similar provisions.

• Four, the bill adopts certain universal substantive regulations shared by all of the

existing State rental laws. For example, the bill would mandate that consumers

who have terminated their rental transactions and returned the goods to the merchant be provided an extended period of time in which to ‘‘reinstate’’ that terminated agreement—that is, to come back to the store and rent the same or similar

goods, starting on the new agreement at the same place the customer left off on

the previous transaction.

• Finally, the bill adopts the remedies available to aggrieved and injured consumers

under the Truth in Lending Act, including a private right of action for consumers.

In summary, this legislation would go farther in providing substantive protections

for rent-to-own consumers than does any other Federal consumer protection law on

the books today. And yet, it enjoys the unanimous support of the industry, because

it is fundamentally fair and balanced.

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RESPONSE TO A WRITTEN QUESTION OF SENATOR JOHNSON

FROM DONALD L. KOHN

Q.1. In his testimony, Mr. Maloney, from Federated Investors, indicated that repeal of Regulation Q could create conditions similar to

the 1980’s where a competition for ‘‘hot money’’ caused banks to

offer unsustainable rates of interest to attract deposits. Yet during

the second panel, witnesses from each of the regulatory agencies

indicated that Reg Q repeal would pose no safety and soundness

concerns. Would you please respond to Mr. Maloney’s arguments in

detail and provide an analysis of his comparison to the 1980’s?

A.1. Mr. Maloney is an executive of Federated Investors, one of the

largest companies that manages mutual funds. In his testimony,

Mr. Maloney expressed a concern for the community banks that

Federated includes among its customers and mentioned in particular his personal experience when banks were allowed to offer

a new type of deposit account in 1982.

The Depository Institutions Deregulatory Committee (DIDC), established by the Depository Institutions Deregulation and Monetary Control Act of March 31, 1980, authorized a Money Market

Deposit Account (MMDA) with no interest rate ceiling on December

14, 1982, with a required minimum account balance of $2,500. This

type of account was specifically designed to allow banks to compete

with money market mutual funds, which had been growing rapidly

at the expense of bank deposits, largely because money market mutual funds were not subject to ceilings on the interest rates they

could pay, while banks were.

In order to introduce their new product and begin competing

with money market mutual funds, like those offered by Federated

Investors, a number of banks and thrifts offered high initial teaser

rates. Indeed, the advertisement from 1982 by the First National

Bank of Atlanta, which Mr. Maloney attached.to his testimony, explicitly stated that the 18.65 percent interest rate would be paid

only for the first month following authorization of the deposit. The

ad stated that after January 14, 1983, the interest ‘‘rate will vary,

just as it does with money market mutual funds. Our rate will be

based on current market conditions . . .’’

Banks and thrifts were able to attract a substantial volume of

funds into the new MMDA account in early 1983, in part because

it did improve their competitive position relative to money market

mutual funds. Some thrifts priced their deposits too aggressively,

particularly after they began to get into trouble, but the deregulation of interest rates was not the main reason for the thrift industry crisis of the 1980’s. The thrift industry’s problems owed much

more to a fundamental imbalance between assets held primarily in

long-term, fixed-rate mortgages and shorter-term liabilities with interest rates that varied more frequently. Thrifts also were subject

to a high concentration of portfolio risk in the real-estate industry,

poorly managed ventures into risky construction and real estate development activities, and weaknesses in regulatory oversight.

Indeed, banks did not suffer the same experience as the thrift industry, despite their pursuit of funding through MMDA’s and other

ceiling-free deposits.

By April 1986, interest rate ceilings had been removed on all

types of deposit accounts, except for demand deposits. The removal

393

of ceilings on a wide range of bank liabilities has not been an impediment to bank profitability. While the banking industry did experience softer profitability in the latter half of the 1980’s, this was

largely a result of credit quality problems, rather than reduced net

interest margins. Bank profitability has been quite strong since the

early 1990’s, and has reached record levels in recent years, despite

the absence of ceilings on most deposit interest rates.

Nevertheless, as I indicated in my testimony on June 22, and as

also indicated in previous testimony by myself and by Governor

Meyer, removal of the prohibition of interest payments on demand

deposits, for banks, ‘‘likely would increase costs, at least in the

short-run.’’ However, removal of the prohibition would not result in

a repeat of the ‘‘hot money’’ problems that occurred among failing

thrifts in the 1980’s. Banks already have many avenues for increasing the funding they obtain, such as by offering more attractive

interest rates on time deposits or MMDA’s. Indeed, demand deposits—the only remaining liabilities with a regulatory interest rate

ceiling—currently represent only around 7 percent of the total liabilities of domestic commercial banks. If interest payments were

authorized on demand deposits, banks would only pay interest on

them to the extent they believed that demand deposits would remain at least as cheap a source of funding as the alternatives.

Some banks might choose to pay a low rate of interest-on-demand

deposits and instead rely more heavily on other funding sources.

Mr. Maloney cited estimates of potential costs to banks of removal of the prohibition of interest payments, but he did not provide the assumptions behind the estimates, so they are difficult to

evaluate. Our own analysis of the cost to banks of paying intereston-demand deposits begins by looking at interest rates on MMDA’s.

While banks would probably pay a range of interest rates on demand deposits, depending on minimum balances and other account

features, they are unlikely to pay a higher interest rate on demand

deposits than on MMDA’s, because the latter allow only limited

check-writing. Therefore, the direct cost of interest-on-demand deposits should be no higher (and probably would be lower) than

what is obtained by applying the average MMDA rate to those demand deposits on which banks would be likely to incur explicit

interest costs. At present, bank MMDA’s are paying an average interest rate of only 1⁄3 of 1 percent. Under current conditions, then,

as detailed further in the attachment, the estimated direct effect on

bank profits of interest-on-demand deposits, before offsets, is only

around $400 million, far less than the $7 billion to $9 billion figures cited by Mr. Maloney. Our estimate represents less than 1⁄2

of 1 percent of overall bank profits.

While these direct costs of paying interest-on-demand deposits

would rise with the general level of interest rates, banks would

make a number of adjustments over time in the entire array of

loan and deposit rates, funding patterns, and service fees to offset

such costs. For example, in order to more fully recoup costs, banks

would likely reprice services that may be underpriced now to attract ‘‘free’’ demand deposits. In offering interest-earning checking

accounts to households, banks have learned how to tailor accounts

to the particular needs of various types of customers while maintaining profitability. In addition, if interest payments were comVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00401 Fmt 6602 Sfmt 6602 25856.TXT SBANK4 PsN: SBANK4
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1See, for instance, the Senior Financial Officer Survey of 1998 (Federal Reserve). Other surveys, over different time periods, provided roughly similar results.

bined with interest earnings on reserves or the removal of reserve

requirements, the costs of interest-on-demand deposits would be

offset both directly, through higher earnings on assets, and indirectly, through savings on the costs of operating sweep programs

that permit banks to pay interest to their larger business customers and allow banks to avoid reserve requirements.

As I mentioned in my testimony, one of the largest offsets to

bank costs from paying interest-on-demand deposits would come

from the improved ability of banks to compete for funds vis-a`-vis

nonbank institutions, like money market mutual funds. The analysis attached to Mr. Maloney’s testimony cites the possibility of

quite large flows of funds going to banks as a result of the authorization of interest-on-demand deposits. To the extent that the cost

of these additional funds are lower than the returns banks earn by

investing them, bank profitability would be thereby strengthened.

Of course, money market mutual funds could suffer from an improved ability of banks to compete. However, our economy is

stronger when we remove barriers to effective competition. We

should not lose sight of the fact that business firms will benefit

from the removal of regulatory restrictions on the services banks

can offer them. Small businesses, for which sweep accounts have

not been available, should gain especially from interest on their

checking accounts. Moreover, our financial sector has proved itself

to be very resilient in recent years even to major unforeseen turbulence. We remain convinced that removal of the prohibition of interest-on-demand deposits poses no safety and soundness concerns

for our financial institutions.

Attachment: Estimate of Possible Direct Costs to Banks of

Interest-on-Demand Deposits

Survey evidence indicates that about 60 percent of demand deposits are held by—nonbank businesses (while about 25 percent are

held by households and the remaining 15 percent by government

institutions, nonprofit organizations, and other depository institutions).1 Households, government institutions, and nonprofit organizations are already allowed to earn interest on checking deposits

through NOW accounts; they likely hold demand deposits either as

low-minimum balance accounts that would not earn interest even

if the prohibition were removed or as compensating balances. Compensating balance accounts already earn a return in the form of

credits that defray the cost of bank services. Such accounts are

used extensively by larger business firms; indeed, about 60 percent

of the overall demand deposits of businesses are reportedly held as

compensating balances. The implicit interest rate on such balances

is a competitive rate typically based on a spread under Treasury

bill rates. Therefore, as regards compensating balances, the removal of the prohibition of interest-on-demand deposits would

merely involve a switch from implicit to explicit interest, implying

no significant cost effect for banks.

To calculate the amount of demand deposits that are not compensating balances and that might earn explicit interest, if authorized,

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we begin with the total gross demand deposits of commercial banks

(including the deposits of individuals, partnerships, corporations,

nonprofits, governments, other depository institutions, and including cash items in process of collection from other banks). On average in June 2004, such deposits amounted to $477 billion. Of this

total, the nonbank business portion is estimated to be $286 billion

(477 × 60 percent), while deposits of other-depository institutions amounted to $38 billion. The portion of these bank and nonbank

business deposits that is not in compensating balance programs is

estimated to be $130 billion ((38 + 286) × 40 percent).

As is the case for MMDA’s and NOW accounts, banks likely

would pay a variety of interest rates on such deposits, if authorized, depending on the minimum balance maintained in the account and other aspects of their relationships with accountholders.

However, because demand deposits permit unlimited checking,

while MMDA’s allow a maximum of only six checks per month,

banks would almost surely pay a lower rate of interest-on-demand

deposits than on MMDA’s.

According to data from Bankrate, Inc., the average interest rate

on commercial bank MMDA’s during June 2004, was 31 basis

points. NOW accounts paid a lower average rate of 14 basis points.

Even if banks paid as high as the current MMDA rate on all the

business demand deposits that were not in compensating balance

accounts, their annualized interest cost, based on June deposit levels, is estimated to be about $403 million ($130 billion × .0031).

Total profits of domestically chartered commercial banks in 2003

amounted to $100.4 billion. The interest cost computed above

would therefore amount to less than 1⁄2 of 1 percent of bank profits

(403/100400).

While this estimate of direct costs would rise with the general

level of interest rates, a bank would likely make adjustments over

time in the whole array of its loan and deposit interest rates, funding patterns, and service fees that would tend to offset the cost of

interest-on-demand deposits. Moreover, with the authorization of

interest payments, the level of demand deposits could eventually be

boosted substantially, and—to the extent that the cost of these additional funds were lower than the return a bank could earn on investing them—bank profitability would be thereby strengthened.

RESPONSE TO A WRITTEN QUESTION OF SENATOR JOHNSON

FROM JOHN M. REICH

Q.1. In his testimony, Mr. Maloney, from Federated Investors, indicated that repeal of Regulation Q could create conditions similar to

the 1980’s where a competition for ‘‘hot money’’ caused banks to

offer unsustainable rates of interest to attract deposits. Yet during

the second panel, witnesses from each of the regulatory agencies

indicated that Reg Q repeal would pose no safety and soundness

concerns. Would you please respond to Mr. Maloney’s arguments in

detail and provide an analysis of his comparison to the 1980’s?

A.1. In the 1930’s, Congress provided for interest-rate ceilings on

time and savings deposits and enacted the current prohibition

against banks paying interest-on-demand deposits. At the time, two

principal arguments were made for controlling the cost of deposits.

The first was that deposit competition had the potential to destaVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00403 Fmt 6602 Sfmt 6602 25856.TXT SBANK4 PsN: SBANK4
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bilize the banking system. The second was that money-center

banks would draw deposits from rural communities and divert

funds from productive agrarian uses to stock speculation.

Whatever validity these arguments may have had then, they

have little today. Congress has removed all the Depression-era

bank price controls except the prohibition on paying interest-on-demand deposits. Removing the last of these controls should not

threaten the stability of the banking system.

First, banks should be able to manage additional costs that

might result from this legislative change. Some banks already provide nonpecuniary compensation to businesses for demand deposits

through ‘‘free’’ or discounted services or lower interest rates on

loans for which they hold compensating demand deposit balances.

Banks that begin paying interest on their commercial demand deposits may charge explicitly for services they now provide free or

at a discount. Banks and their customers now spend time and

money circumventing the prohibition against the payment of interest-on-demand deposits by, for instance, setting up interest-bearing

sweep accounts. Eliminating the prohibition should reduce or eliminate these expenses.

Second, not all demand deposit accounts will necessarily pay interest. Many consumers, for a variety of reasons, presently choose

to hold noninterest-bearing demand deposits rather than interestbearing NOW accounts. Instead of receiving interest, customers

with these accounts may receive other benefits, such as returned

canceled checks, lower minimum-balance requirements, lower service charges, including lower per check charges, or a package of

other banking services.

Further, banks already pay interest-on-demand-like deposits

without threatening the stability of the banking system. Interestbearing sweep accounts, for example, function as demand deposits

for businesses. Interest-bearing NOW accounts function much like

demand deposits for consumers, nonprofit groups, and governmental units.

Finally, no worthwhile analogy can be drawn to the relaxation of

Regulation Q in the early 1980’s. The economy, the banking industry, and the regulatory environment are very different today. The

banking industry has been making record profits for years and capital levels are high. Banks lack the kinds of incentives that existed

in the 1980’s to take excessive risks or offer exorbitantly high rates

of interest. Statutory changes since the bank and thrift crisis significantly curb banks’ ability to take excessive risks in any event.

The regime of prompt corrective action supervisory rules and capital requirements, in effect since the early 1990’s, gives regulators

a powerful tool to curb excessive risk taking financed with insured

deposits. Regulators have much more sophisticated tools to analyze

bank risk-taking. Restrictions on brokered deposits prevent weak

banks from offering above market rates of interest. Risk-based deposit insurance premiums, which did not exist in the 1980’s, provide a significant incentive to institutions to not increase their risk

profile in ways that impair their capital levels or overall soundness.

For these reasons, I believe that eliminating the prohibition

against paying interest-on-demand deposits and the related prohiVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00404 Fmt 6602 Sfmt 6602 25856.TXT SBANK4 PsN: SBANK4
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bition against business NOW accounts would cause no safety and

soundness problems.

RESPONSE TO A WRITTEN QUESTION OF SENATOR JOHNSON

FROM JOANN JOHNSON

Q.1. In his testimony, Mr. Maloney, from Federated Investors, indicated that repeal of Regulation Q could create conditions similar to

the 1980’s where a competition for ‘‘hot money’’ caused banks to

offer unsustainable rates of interest to attract deposits. Yet during

the second panel, witnesses from each of the regulatory agencies

indicated that Reg Q repeal would pose no safety and soundness

concerns. Would you please respond to Mr. Maloney’s arguments in

detail and provide an analysis of his comparison to the 1980’s?

A.1. Regulation Q was issued by the Board of Governors of the

Federal Reserve System to prohibit State-chartered banks that are

members of the Federal Reserve, all national banks, and some

other depository institutions from paying interest-on-demand deposits. Regulation Q does not apply to Federal credit unions

(FCU’s) so its repeal would have no effect on FCU’s.

Additionally, FCU’s do not pay interest on their accounts. Rather, FCU’s pay dividends based on available earnings. There are no

contractual obligations on FCU’s to pay dividends. In fact, FCU’s

are statutorily prohibited from paying dividends unless they have

sufficient earnings to cover the dividend, 12 U.S.C. 1757(6), 1763.

This significantly reduces any risk associated with paying a return

on demand deposits. As a result of this statutory restriction and

other factors, chasing ‘‘hot money’’ has not been a serious problem

for FCU’s. Finally, under certain circumstances, NCUA’s prompt

corrective action rule restricts or prohibits a credit union from offering rates on shares above certain limits. 12 CFR Part 702.

RESPONSE TO A WRITTEN QUESTION OF SENATOR JOHNSON

FROM JULIE L. WILLIAMS

Q.1. In his testimony, Mr. Maloney, from Federated Investors, indicated that repeal of Regulation Q could create conditions similar to

the 1980’s where a competition for ‘‘hot money’’ caused banks to

offer unsustainable rates of interest to attract deposits. Yet during

the second panel, witnesses from each of the regulatory agencies

indicated that Reg Q repeal would pose no safety and soundness

concerns. Would you please respond to Mr. Maloney’s arguments in

detail and provide an analysis of his comparison to the 1980’s?

A.1. Mr. Maloney expressed concern that the repeal of Regulation

Q would result in community banks becoming less competitive and,

therefore, create conditions like those in the early 1980’s that he

believes led to the thrift industry crisis. Banks and thrifts were

able to attract a substantial volume of funds into the new MMDA

allowed in 1983. Some thrifts did price their deposits too aggressively, particularly after they began to experience difficulties after

the increase in general market interest rates. The thrift industry’s

problems, however, were not caused by the deregulation of interest

rates payable on deposit accounts. The thrift industry’s problems

were generally caused by its portfolio concentration in long-term,

fixed interest rate mortgages at a time when general market interest rates increased dramatically. If interest rate ceilings had not

398

been relaxed, depository institutions would have experienced further disintermediation and thrifts still would have failed.

The removal of interest rate ceilings on a wide range of bank liabilities has not been an impediment to bank profitability. While

the banking industry did experience weaker profitability in the late

1980’s, that was due primarily to credit quality issues. Bank profitability has been strong since the early 1990’s and has reached

record levels recently, despite the absence of a ceiling on most deposit rates.

While removal of the prohibition on interest payments on demand deposits might tend to increase bank costs, that impact will

be limited by the ability of banks to adjust their funding composition. Demand deposits are currently only one source of funding for

banks. If interest payments were allowed on demand deposits,

banks would pay that interest only to the extent that such deposits

were as cheap as the all-in cost of alternative sources of funding.

With the payment of interest-on-demand deposits, some banks

would raise the price of services associated with those deposits,

which they are currently underpricing to attract those deposits.

Thus, for some banks that cost of demand deposits would not increase as much as the interest rates paid on those deposits. However, if the cost of demand deposits does increase, some banks

might rely more heavily on other funding sources.

Based on the foregoing, we do not believe elimination of the prohibition on payment of interest-on-demand deposits raises safety

and soundness concerns.

RESPONSE TO A WRITTEN QUESTION OF SENATOR JOHNSON

FROM JOHN E. BOWMAN

Q.1. In his testimony, Mr. Maloney, from Federated Investors, indicated that repeal of Regulation Q could create conditions similar to

the 1980’s where a competition for ‘‘hot money’’ caused banks to

offer unsustainable rates of interests to attract deposits. Yet during

the second panel, witnesses from each of the regulatory agencies

indicated that Reg Q repeal would pose no safety and soundness

concerns. Would you please respond to Mr. Maloney’s arguments in

detail and provide an analysis of his comparison to the 1980’s?

A.1. In 1996, the Federal banking agencies reported to Congress

that the statutory prohibition on paying interest-on-demand deposits no longer serves a valid public purpose. The Office of Thrift Supervision continues to maintain this position and strongly supports

the proposed legislation. (See, Joint Report, Streamlining of Regulatory Requirements, issued by the Federal Reserve, FDIC, OCC,

and OTS, 1996.)

Before the 1980’s, Regulation Q prohibited banks from paying interest on checking deposits and set a ceiling on interest paid on

savings accounts. A vestige of Regulation Q remains in the prohibition of interest-on-demand deposits held by businesses.

This prohibition is obsolete because a financial institution can

use sweep accounts to effectively circumvent the prohibition. It

makes no sense to allow indirect payment of interest on business

checking accounts without also allowing institutions the option of

direct payments.

399

Removing the Regulation Q prohibition would help smaller institutions compete with other financial providers such as money market mutual funds that offer liberal check writing, ATM access, and

similar services through interest-paying transaction accounts.

RESPONSE TO A WRITTEN QUESTION OF SENATOR CRAPO

FROM JOHN E. BOWMAN

Q.1. Mr. Bowman, your testimony talks about eliminating disparate treatment of thrifts under the Federal securities laws.

Didn’t the SEC just propose a rule that grants partial relief to

thrifts from the Investment Advisers Act? Why should Congress go

further?

A.1. The SEC has issued several recent proposals that will continue the inequitable treatment of thrifts (versus banks) under the

Federal securities laws. These involve the application of the Investment Advisers Act of 1940 (IAA) and the definition of broker and

dealer under the Securities Exchange Act of 1934 (1934 Act). Both

SEC proposals contain no policy justification for this disparate

treatment. Under the SEC’s IAA proposal, most thrifts will continue to be subject to an entirely duplicative SEC oversight regime.

In the other proposal, the SEC indicated it intends to roll back an

interim rule extending equal treatment to thrifts vis-a`-vis banks

for purposes of the broker-dealer exemption. Clearly, this is not

heading in the direction of charter neutrality between banks and

thrifts with respect to the application of the Federal securities

laws.

With respect to the IAA issue, of the approximately 130 thrifts

that have applied for and received trust powers from the OTS, 45

institutions are currently registered with the SEC as investment

advisers. Not one of these 45 thrifts would be able to deregister as

an investment adviser under the SEC’s IAA proposal based on

their current account activity—a fact made clear to the SEC Commissioners by the SEC staff during deliberations on the proposal

during the SEC’s April 28, 2004 meeting. Given that the proposal

provides no regulatory burden relief to these existing thrifts, it is

unclear what is accomplished by the proposed rulemaking—the application of the IAA remains anything but charter neutral.

Currently, banks and thrifts may engage in the same types of

activities covered by the investment adviser requirements of the

Federal securities laws, and are subject to substantially similar supervision with respect to these activities. However, banks—but not

thrifts—are exempt from registration under the IAA.

Treating thrifts and banks the same under the Federal securities

laws makes sense for a number of reasons. Thrifts fill an important

niche in the financial services arena by focusing their activities primarily on residential, community, small business, and consumer

lending. The Home Owners’ Loan Act allows thrifts to provide trust

and custody services on the same basis as national banks. Not only

are the authorized activities the same, but also OTS examines

those activities in the same manner as the other banking agencies.

While the bank and thrift charters are tailored to provide powers

focused on different business strategies, in areas where powers are

similar, the rules should be similar. No legitimate public policy rationale is served by imposing additional and superfluous adminisVerDate 11-MAY-2000 13:38 Feb 22, 2006 Jkt 025856 PO 00000 Frm 00407 Fmt 6602 Sfmt 6602 25856.TXT SBANK4 PsN: SBANK4
400

trative costs on thrifts to register as an investment adviser when

banks are exempt from registration. There should be similar treatment for regulated entities in similar circumstances. The circumstances here are that:

• First, thrifts—like banks—have a regulator that specifically supervises the types of activities covered by the investment adviser

registration requirements.

• Second, thrifts—like banks—are subject to the same functional

regulatory scheme endorsed by the Gramm-Leach-Bliley Act.

• Third, thrifts—like banks—are subject to substantially similar

customer protections with respect to the activities covered by the

registration requirements.

The only difference is that thrifts, unlike banks, are subject to

an additional—and clearly burdensome—administrative registration requirement. As best stated, in the SEC’s own words, from the

preamble to their May 2001 interim final rule extending brokerdealer parity to thrifts, ‘‘insured savings associations are subject to

a similar regulatory structure and examination standards as banks

. . . [E]xtending the exemption for banks to savings associations

and savings banks is necessary or appropriate in the public interest and is consistent with the protection of investors.’’

OTS strongly supports legislation similar to that in Section 201

of H.R. 1375, the bill passed by the House in March of this year,

to extend the bank registration exemptions to thrifts. Absent this

treatment, thrifts are placed at a competitive disadvantage that is

without merit—and that imposes significant regulatory costs and

burdens.

As recently as the GLB Act, Congress affirmed the principles underlying the bank registration exemption. We believe the best way

to resolve this matter for thrifts—with certainty and finality—is for

Congress to extend, by statute, the same exemption to thrifts.

RESPONSE TO A WRITTEN QUESTION OF SENATOR CRAPO

FROM WILLIAM A. LONGBRAKE

Q.1. I see in your written submission that The Financial Services

Roundtable supports H.R. 314, The Mortgage Servicing Clarification Act, which passed the House last year on suspension. Is that

something we should consider including in a regulatory relief bill?

A.1. The Financial Services Roundtable supports the inclusion of

H.R. 314 in regulatory relief legislation. H.R. 314 provides a narrowly crafted exemption for mortgage servicers from a disclosure

requirement that is triggered in certain mortgage servicing transfers. The Fair Debt Collection Practices Act requires third party

debt collectors to provide a so-called ‘‘Miranda’’ warning upon initial contact with a debtor. The Miranda notice requires the new

mortgage servicer to identify itself as a ‘‘debt collector’’ and to disclose that the contact represents an attempt to collect a debt and

that any information will be used for that purpose. The purpose of

these warnings is to prevent true debt collectors from using false

or deceptive tactics (such as a phony sweepstakes winning) to trick

consumers into divulging private financial information, home address, and telephone number. However, in the context of a mortgage servicing transfer, the harshly worded Miranda notice does

401

not accurately describe the relationship between the borrower and

the new servicer. In fact, the notice actually discourages delinquent

borrowers from contacting their new servicer out of fear that the

new servicer company is a debt collector seeking to foreclose.

While the Miranda warnings are clearly appropriate for true

third party debt collection activities, they actually put borrowers at

greater risk in mortgage servicing transfers and impair the ability

of servicers to establish strong customer relationships at a critical

juncture. H.R. 314 resolves the problem for servicers and borrowers

by establishing a very narrow exemption from the Miranda notice

requirements for servicers of first lien mortgages. The bill passed

the House last year on suspension (424–0) and has broad bipartisan support and co-sponsorship by Members of the House Financial Services Committee.

RESPONSE TO A WRITTEN QUESTION OF SENATOR REED

FROM JOANN JOHNSON

Q.1. Chairman Johnson, we have heard testimony from Deputy

Commissioner Little that NASCUS supports giving privately insured State-chartered credit unions access to Federal Home Loan

Bank System. You noted the NCUA’s concern with certain components of the House provision, as it relates to the NCUA. More

generally, however—and especially in light of the savings and loan

debacle that this country has been through and the experience my

State has had with private insurance—do you believe that allowing

them to have access to the Federal Home Loan Bank is prudent?

A.1. NCUA is neither the regulator nor the insurer of State-chartered, privately insured credit unions and has previously stated it

has no official position on the public policy issues related to them

being able to join the Federal Home Loan Bank System. We remain

concerned, however, that language in Section 301 of H.R. 1375

makes it appear that NCUA has oversight responsibility over privately insured, State-chartered credit unions and certain State-regulated, private share insurance companies. NCUA does not have

any regulatory or supervisory jurisdiction over these institutions

and does not seek such jurisdiction. As we have previously stated,

Section 301 should be revised to eliminate any appearance of

NCUA responsibility for private share insurance.

This change, and effective implementation of the recent amendments to the Federal Deposit Insurance Corporation Improvement

Act giving the Federal Trade Commission a mandate to enforce

Federal disclosure requirements on privately insured institutions,

should reduce any chance of confusion on the part of members of

privately insured institutions about the nature of their insurance

coverage.

RESPONSE TO A WRITTEN QUESTION OF SENATOR REED

FROM JOHN E. BOWMAN

Q.1. Mr. Bowman, can you explain OTS’s view of eliminating the

lending limit restriction on small business loans for savings associations while increasing the aggregate lending limit on other

commercial loans to 20 percent? How are small businesses defined

currently in terms of size and assets?

402

A.1. Savings associations have proven their ability to make commercial and small business loans in a safe and sound manner.

Commercial and small business loans held by thrifts have performed satisfactorily over the past 10 to 15 years. Some thrifts are

at or near the current statutory limits and unless the statutory

limits are increased, they must curtail otherwise safe and sound

business lending programs.

Eliminating the lending limit on small business loans and increasing the aggregate lending limit on other commercial loans will

promote safety and soundness by giving thrifts greater flexibility to

diversify. Additional flexibility, particularly in small business lending, would provide opportunities to counter the undulations of a

cyclical mortgage market. This would enable thrift managers to

continue to meet their ongoing customers’ mortgage and consumer

lending needs, while providing additional resources to manage

their institutions safely and soundly.

These changes would also assist savings associations in meeting

the credit needs of their communities by providing small businesses

more avenues to obtain credit. This would increase competition for,

and the availability of, small business and other commercial loans

now and in the future as thrifts develop this line of business. In

particular, this will benefit smaller businesses that have experienced difficulty in obtaining relatively small loans from large commercial banks that set minimum loan amounts as part of their

business strategy—a problem that may increase with industry consolidation. Finally, the proposal will assist businesses that prefer

borrowing from entities like thrifts that meet the needs of borrowers with greater personal service.

OTS uses two alternative definitions in this area. A small business is defined in accordance with the most recent regulations of

the Small Business Administration. A small business loan is defined as a loan (or group of loans) to one borrower that does not

exceed $2 million dollars and is for commercial, corporate, business, or agricultural purposes.

RESPONSE TO WRITTEN QUESTIONS OF SENATOR REED

FROM MARK E. MACOMBER

Q.1. Why are you concerned with the extension of the interstate

branching proposal to ILC’s? Does this pose a safety and soundness

risk?

A.1. America’s Community Bankers supports the interstate branching provision adopted by the House of Representatives in the Financial Services Regulatory Relief Act of 2003 (H.R. 1375). Section

401 prohibits industrial loan companies owned by commercial firms

(those with at least 15 percent of gross revenues from nonfinancial

activities) from acquiring or establishing a branch outside its home

State. Section 401 would not apply this restriction to industrial

loan companies (ILC’s) that had been approved for FDIC insurance

by October 1, 2003. In 1999, policymakers—ignoring the successful

history of commercial ownership of savings associations—made the

judgment that commercial firms should not be allowed to charter

or acquire savings associations and grandfathered unitary thrift

holding companies, which have the authority to operate on interstate basis. We do not oppose the option of commercial companies

403

to establish new ILC’s, but support consistency in policy across

charter types that would deny expanded branching authority to

newly formed ILC’s with commercial parents. We consider this a

parity issue, rather than a safety and soundness issue.

Q.2. What would the regulatory landscape look like for a Statechartered, Federal Reserve member bank branching into a new

State?

A.2. The Federal Reserve would be the primary Federal banking

regulator of the branch established in the new State. The homeState banking regulator of the State-chartered member bank would

be the primary State bank regulator of the new out-of-State

branch. The State banking regulator of the host State of the branch

(that is, the new State) would have authority to enforce the host

State’s consumer protection laws with respect to the new branch,

but only to the extent that those laws apply to a branch of an outof-State national bank.