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S. HRG. 108–892

EXAMINATION OF THE GRAMM-LEACH-BLILEY ACT

FIVE YEARS AFTER ITS PASSAGE

HEARING

BEFORE THE

COMMITTEE ON

BANKING, HOUSING, AND URBAN AFFAIRS

UNITED STATES SENATE

ONE HUNDRED EIGHTH CONGRESS

SECOND SESSION

ON

THE GRAMM-LEACH-BLILEY ACT (P.L. 106–102), TO ENHANCE COMPETITION IN THE FINANCIAL SERVICES INDUSTRY BY PROVIDING A PRUDENTIAL FRAMEWORK FOR THE AFFILIATION OF BANKS, SECURITIES

FIRMS, AND OTHER FINANCIAL SERVICE PROVIDERS

JULY 13, 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

MARK F. OESTERLE, Counsel

MARTIN J. GRUENBERG, Democratic Senior Counsel

JOSEPH R. KOLINSKI, Chief Clerk and Computer Systems Administrator

GEORGE E. WHITTLE, Editor

(II)

CONTENTS

TUESDAY, JULY 13, 2004

Page

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

Opening statements, comments, or prepared statements of:

Senator Sarbanes .............................................................................................. 19

Senator Crapo ................................................................................................... 22

Senator Bennett ................................................................................................ 25

Senator Carper ................................................................................................. 27

Senator Sununu ................................................................................................ 30

WITNESSES

Harry P. Doherty, First Vice Chairman, Board of Directors, America’s

Community Bankers and Vice Chairman of the Board, Independence

Community Bank Corporation, Brooklyn, New York on behalf of America’s

Community Bankers ............................................................................................ 2

Prepared statement .......................................................................................... 40

Response to a written question of Senator Allard ......................................... 88

Terry Jorde, Vice Chairman, Independent Community Bankers of America

and President and CEO, CountryBank, USA, Cando, North Dakota .............. 3

Prepared statement .......................................................................................... 44

Response to a written question of Senator Allard ......................................... 89

Travis Plunkett, Legislative Director, Consumer Federation of America on

behalf of the Consumer Federation of America, Consumers Union, and

the U.S. Public Interest Research Group ........................................................... 6

Prepared statement .......................................................................................... 50

Ronnie Tubertini, Chairman, Government Affairs Committee, the Independent Insurance Agents and Brokers of America, Inc. ................................. 8

Prepared statement .......................................................................................... 61

Steve Bartlett, President and Chief Executive Officer, the Financial Services

Roundtable ............................................................................................................ 10

Prepared statement .......................................................................................... 67

James D. McLaughlin, Director, Regulatory and Trust Affairs, American

Bankers Association ............................................................................................. 11

Prepared statement .......................................................................................... 71

Response to written questions of Senator Allard ........................................... 89

John Taylor, President and CEO, National Community Reinvestment

Coalition ................................................................................................................ 13

Prepared statement .......................................................................................... 80

J. Steven Judge, Senior Vice President, Government Affairs, Securities Industry Association ...................................................................................................... 15

Prepared statement .......................................................................................... 85

ADDITIONAL MATERIAL SUPPLIED FOR THE RECORD

Statement of Dennis W. Archer, President, American Bar Association, dated

July 13, 2004 ........................................................................................................ 91

Statement of David F. Woods, CLU, ChFC, President, the National Association of Insurance and Financial Advisors, dated July 13, 2004 ....................... 93

(III)

(1)

EXAMINATION OF THE GRAMM-LEACH-BLILEY

ACT FIVE YEARS AFTER ITS PASSAGE

TUESDAY, JULY 13, 2004

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

The Committee met at 10:03 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 would like

to thank our witnesses for appearing today. This morning, the

Committee will engage in what is sometimes an overlooked but

nevertheless an extremely important activity: Legislative oversight.

I think we have a considerable responsibility to monitor the laws

we pass and to periodically track developments in the markets governed by such laws and ultimately ask some basic questions, such

as has the law been implemented as Congress intended? Has it

achieved the ends we sought? Does it still work in the marketplace

as it exists presently compared to when it was enacted?

Today, we will be considering the Gramm-Leach-Bliley Act, one

of the most significant laws to come out of this Committee in many

years. The Act made profound changes to the laws governing the

affiliation of banking, securities, and insurance firms in an attempt

to promote the modernization of the financial services sector.

Almost 5 years after passage, I think GLB merits this Committee’s time and attention. We will begin our overview with witnesses

who represent consumer groups and the industry sectors covered

under the law. Hopefully, they will provide us with a real-world

perspective about its operation and its effects.

Later this year, we are planning to bring the regulators before

the Banking Committee to complete our discussion about the law.

We also plan to hold further hearings concerning the state of the

insurance industry in the post-Gramm-Leach-Bliley environment.

Again, I want to thank all the witnesses for appearing today, and

I look forward to hearing their testimony.

And we have with us a distinguished group: Harry Doherty, Vice

Chairman of the Board, Independence Community Bank Corporation, Brooklyn, New York. He will be testifying on behalf of America’s Community Bankers; Terry Jorde, President and CEO,

CountryBank USA, Cando, North Dakota, testifying on behalf of

the Independent Community Bankers of America; Travis B.

Plunkett, Legislative Director, Consumer Federation of America;

2

Ronnie Tubertini, President and CEO of SouthGroup Insurance

and Financial Services, Jackson, Mississippi, testifying on behalf of

the Independent Insurance Agents and Brokers of America; Steve

Bartlett, a former Congressman, colleague of mine at one time,

President and Chief Executive Officer, Financial Services Roundtable; James McLaughlin, Director, Regulatory and Trust Affairs,

American Bankers Association; John Taylor, President and Chief

Executive Officer, National Community Reinvestment Coalition;

and Steve Judge, Senior Vice President, Government Affairs, Securities Industry Association.

This is a full panel. We will start with you, Mr. Doherty, and all

of your written testimony will be made part of the hearing record

in its entirety. If you could, briefly sum up your toughest remarks.

STATEMENT OF HARRY P. DOHERTY

FIRST VICE CHAIRMAN, BOARD OF DIRECTORS

AMERICA’S COMMUNITY BANKERS AND

VICE CHAIRMAN OF THE BOARD, INDEPENDENCE

COMMUNITY BANK CORPORATION, BROOKLYN, NEW YORK

ON BEHALF OF AMERICA’S COMMUNITY BANKERS

Mr. DOHERTY. Thank you very much, Chairman Shelby and

Members of the Committee.

I am Harry P. Doherty, Vice Chairman of Independence Community Bank Corporation of Brooklyn, New York. Independence

Community Bank is a New York State-chartered savings bank, operating within an OTS-regulated holding company. Our bank has

more than $17 billion in assets, 121 branches, and 2,500 employees. I am here this morning representing America’s Community

Bankers. I am First Vice Chair of ACB, and we are pleased to have

this opportunity to participate in the Committee’s review of the

Gramm-Leach-Bliley Act.

In 1999, as they do today, ACB’s diverse members wanted financial organizations to have choices in their charters and business

models. At the time, decades-old legislation stood as a barrier to

the full integration of the banking, securities, and insurance industry, even though securities, insurance, and nonfinancial holding

companies had been permitted to hold thrifts.

ACB supported passage of the Gramm-Leach-Bliley Act. We did

so because it created new options for financial companies that

wanted to offer diversified financial services through a bank charter. One of the innovations of the Act was the creation of a notice

and comment process for identifying new permissible financial activities for national banks and new financial holding companies.

The process relies on the expertise of Treasury and the Federal

Reserve. Congress wanted the primary consideration in that process to be the safety and soundness of the banking system. But then

came the real estate brokerage rule. This was the first real test of

the new system. Because of considerations other than safety and

soundness, the nonpolitical process established by the Act has not

been allowed to run its course.

Despite the restrictions on new commercial affiliations imposed

by the Act, the unitary savings and loan holding company remained an important choice for financial firms. The expertise of the

OTS in regulating diverse holding companies is one of the reasons

3

financial companies frequently choose the unitary savings and loan

holding company structure.

The Act made positive changes in the membership requirements,

capital structure, and regulation of the Federal Home Loan Bank

System. For example, Federal savings banks and savings associations became voluntary members instead of mandatory members.

Voluntary membership enhances the cooperative nature of the system, and it provides incentives to the Federal Home Loan Banks

to work for the benefit of their member-borrowers.

The Act added stability to the system’s capital base. It established a leverage and risk-based capital requirement for the Bank

System. It created a stable base of new capital for the system. Nine

of the twelve Federal Home Loan Banks have implemented a new

capital plan as required by the Act. The remaining three are on

track to implement their plans, but proposals to require the Federal Home Loan Banks to register stock with the Securities and

Exchange Commission without first establishing exemptions consistent with the cooperative structure of the system could delay implementation of the remaining capital plans.

The Act gave the Securities and Exchange Commission the opportunity to ensure that savings associations are regulated the

same way as banks, when engaged in the same activities. Unfortunately, the most recent version of the SEC’s proposed Push-Out

rule does not treat savings associations the same as banks when

they are engaged in the same broker activities. ACB believes that

a legislative change is needed to ensure parity for savings associations under the Securities Exchange Act.

The Act created important new privacy rights for consumers.

However, some of these provisions created a significant regulatory

burden for all deposit institutions. Not all of the new requirements

provided a benefit to consumers, and they did not increase safety

and soundness. Although compliance with these provisions can be

costly for all depository institutions, compliance costs fall more

heavily on community banks.

Congress should act to reduce the unnecessary regulatory burden

that results from these provisions. For example, Congress should

eliminate the required annual privacy notices for banks that do not

share information with nonaffiliated third parties.

Finally, the Act eliminated the Savings Association Insurance

Fund Special Reserve. This gave the FDIC more flexibility. ACB

urges the Committee to act soon on the pending deposit insurance

reform legislation that will give FDIC additional flexibility to manage FDIC’s insurance funds.

Thank you very much for the opportunity to testify, and I will

be happy to answer questions later.

Chairman SHELBY. Ms. Jorde.

STATEMENT OF TERRY JORDE, VICE CHAIRMAN,

INDEPENDENT COMMUNITY BANKERS OF AMERICA AND

PRESIDENT AND CEO

COUNTRYBANK USA, CANDO, NORTH DAKOTA

Ms. JORDE. Thank you, Mr. Chairman, Ranking Member Sarbanes, and Members of the Committee, my name is Terry Jorde.

I am Vice Chairman of the Independent Community Bankers of

4

America and President and CEO of CountryBank USA, a community bank with $37 million in assets located in Cando, North Dakota. Cando is a small town of only 1,300 people, but we have three

banks and a motto that you can do better in Cando.

[Laughter.]

Our bank is full service and progressive, offering our customers

a full range of insurance and investment services, residential mortgages, check imaging, and fully transactional Internet banking.

ICBA appreciates this opportunity to testify on the effect of the

Gramm-Leach-Bliley Act and what it has had on the financial industry, the Nation, and, most importantly, our communities. The

Act has had both positive and negative effects. The Federal Home

Loan Bank reforms made it possible for community banks of all

charter types to greatly increase their involvement in the system.

Since the passage of GLB, the number of ICBA banks belonging to

a Federal Home Loan Bank has increased from 17 to 76 percent.

For community banks, the Federal Home Loan Bank System is

more important than ever. My bank is taking advances for the first

time in years because our deposits are down and loan demand has

increased. I am fortunate in that my Federal Home Loan Bank of

Des Moines has been a champion in accepting small business and

agricultural assets as collateral for advances, which was permitted

by GLB. However, some other Federal Home Loan Banks have

been slow to use the authority, either by limiting the types of loans

or severely haircutting values.

ICBA is pleased that this Committee addressed this by adopting

Senator Enzi’s amendment to the GSE reform bill. It clarifies that

the mission of the Federal Home Loan Banks includes providing liquidity and funds for these purposes. We hope this will stimulate

increased use of this authority.

GLB reaffirmed the Nation’s longstanding policy maintaining the

separation between banking and commerce by closing the unitary

thrift loophole. This helps avoid the conflicts of interest and threats

to safety and soundness that will arise if commercial firms, such

as retailers and manufacturers, are permitted to own their own

banks. Policymakers now must face the same issue with industrial

loan companies that may be owned by commercial firms.

The House’s regulatory relief bill took steps to address the ILC

loophole by adopting the Gilmore-Frank Amendment. However,

ICBA strongly urges Congress to take the next step and bring

ILC’s under the Bank Holding Company Act, closing the ILC loophole completely.

ICBA repeatedly warned that GLB would likely lead to increased

financial concentration. GLB and the Riegle-Neal Act have together

led to the creation of truly huge financial conglomerates. We now

have three $1 trillion banks in the United States. This is certain

to decrease competition and increase systemic risk.

As financial conglomerates are allowed to grow exponentially, the

corresponding regulatory burden falls disproportionately on the

community bank. ICBA strongly urges you to reduce the burden on

noncomplex community banks so that economic development and

small businesses will not suffer, and competition will be maintained.

5

We also urge you to complete action on deposit insurance reform

legislation. Since community banks are not too big to fail, our depositors look to deposit insurance to protect their funds.

ICBA is troubled by another aspect of increased concentration:

The largest institutions appear to be too big to regulate and too big

to punish. In case after case, regulators and courts impose only

nominal fines for megabanks’ misdeeds, while regulators go on to

approve their massive mergers. Community banks undergo much

harsher treatment for regulatory violations. State and Federal regulators properly hold management strictly accountable for everything that happens in the bank.

Congress should direct the agencies to review their policies, comparing the fines and other punishments that they apply to the largest institutions they regulate with those they mete out to the rank

and file. This is certainly not the time for Congress to take new

steps, such as lifting the deposit caps in the Riegle-Neal Act that

would further increase concentration, and ICBA will vigorously oppose any such proposals.

GLB did not provide community banks with substantial new opportunities. Preexisting laws already allowed my own bank and

many other community banks to offer insurance and investment

brokerage. However, real estate brokerage is a retail service community banks believed they would have the opportunity to offer to

their customers. We were disappointed that Congress has blocked

the proposed real estate brokerage regulation. This new power

would allow community banks to better serve customers by increasing choice, decreasing costs, and diversifying revenue sources.

GLB also required burdensome and oftentimes irrelevant retail

insurance disclosures. I have seen the dumbfounded look on my

customers’ faces when they have been told that their auto policy or

their crop insurance is not a deposit and may go down in value, followed by their look of concern when we inform them that their insurance is not guaranteed. This waste and confusion puts us at a

competitive disadvantage to other insurance agencies in my community that are not housed within a bank office. ICBA urges Congress to streamline these disclosures.

The annual GLB privacy notice is another example of the disclosure blizzard that does little more than confuse and burden consumers with pages of incomprehensible legalese. Most community

banks do not share their customers’ financial information with outside marketers and the like. Congress should amend GLB to allow

them to provide a short statement to that effect printed on the customer’s bank statement. In addition, community banks and many

other financial institutions maintain consistent privacy policies.

They should be required to deliver the annual notice only if they

change their policy. Customers would be more likely to pay attention to those notices.

I would again like to compliment the Committee on holding this

hearing on the Gramm-Leach-Bliley Act. Again, we urge Congress

to complete action on the Enzi Federal Home Loan Bank Amendment, close the ILC loophole, address concerns raised by increase

concentration, and streamline insurance and privacy disclosures.

Thank you again for this opportunity to testify.

Chairman SHELBY. Mr. Plunkett.

6

STATEMENT OF TRAVIS PLUNKETT

LEGISLATIVE DIRECTOR

CONSUMER FEDERATION OF AMERICA

ON BEHALF OF THE CONSUMER FEDERATION OF

AMERICA, CONSUMERS UNION, AND

U.S. PUBLIC INTEREST RESEARCH GROUP

Mr. PLUNKETT. Good morning, Mr. Chairman, Senator Sarbanes

and Members of the Committee, my name is Travis Plunkett. I am

the Legislative Director of the Consumer Federation of America.

We appreciate the opportunity to offer our comments and those of

Consumers Union and the U.S. Public Interest Research Group on

the effect of the Gramm-Leach-Bliley Act on consumers.

In the decade-long debate that led to enactment of the GLBA in

1999, Congress heard many extravagant promises from financial

services industry representatives about how tearing down the barriers between banking, securities, and insurance sectors would be

a boon to consumers. Banks, securities firms, and insurance companies would merge into financial services supermarkets, we were

told, that would then offer increased consumer access to new, innovative products at lower costs, with improved privacy protections.

Five years later, this rhetoric has proven to be mostly hype.

Mergers have occurred but mostly within the banking industry, not

across sectors. While some, primarily affluent consumers may benefit from larger, multistate ATM networks, from discounts offered

for multiple account relationships, et cetera, we have seen no evidence that the mass of banking consumers have benefitted from

the Gramm-Leach-Bliley Act.

I would like to talk specifically about some of the key issues that

arose during the debate and how we think consumers are faring on

those issues 5 years later, and please note that my lengthy testimony includes a number of specific solutions on some of the concerns I am going to raise.

Regarding financial privacy, the privacy requirements, as we

have said many times, in the Gramm-Leach-Bliley Act are narrow

and weak. Consumers have no control over the sharing of their confidential experience and transaction information if two separate

parties enter joint marketing agreements to sell financial products,

nor do consumers have any right to stop the sharing of any information among affiliates of financial institutions. Some financial institutions have hundreds of affiliates; others have thousands.

Consumers can opt out of the sharing of information with third

parties selling nonfinancial products, but because the burden is on

the consumer to take this step, and because the privacy notices

that many financial institutions have used to inform consumers of

their limited rights are virtually incomprehensible, very few consumers have actually opted out.

Let me turn now to safety and soundness issues. The corporate

scandals of the last few years have exposed potentially significant

safety and soundness risks in allowing banks to sell both credit and

investment banking services. As you all are well aware, among the

restrictions in the Glass-Steagall Act that the Gramm-Leach-Bliley

Act eliminated were those that prohibited commercial banks from

combining with investment banks to sell both credit and investment banking services.

7

At the time, consumer groups expressed many concerns that the

banking/securities combination in particular could allow financial

investors access to insured deposits for high-risk lending schemes.

In my written testimony, I provide, at length, a case study that

shows that just such a scandal has since occured. This is the

Citigroup-WorldCom situation. It is a cautionary case study of the

kinds of problems that can result when banks inappropriately link

decisions about lending and investment banking.

Initially, Salomon Smith Barney had a strong incentive to promote WorldCom stock and to continue to do so after WorldCom’s

prospects had begun to deteriorate in order to keep WorldCom as

an investment banking client. After Travelers, Citi and Salomon

combined, the conflicts got bigger and more complex. In one case,

the bank apparently came up with a plan to let WorldCom’s CEO

Bernie Ebbers turn his WorldCom stock into cash without the scrutiny that would accompany such a sale normally. In another case,

Citi agreed to a very risky loan to Ebbers, in this case, $43 million

to buy a ranch, with the loan banked by 2.3 million shares of

WorldCom stock.

There are a number of significant lessons that we have learned

from this debacle. We explore them at length in the testimony. A

major lesson is that abuses are inevitable if businesses are allowed

to create structures that are so big and complex that they require

a major investment in regulatory oversight to prevent these abuses.

However, once Congress allows these structures to be created, it

had better be willing to provide the resources for regulatory oversight and to push regulatory agencies to be aggressive in enforcing

the law.

Let me turn now to some consumer services issues. GrammLeach-Bliley has not slowed the continuing trend of rising bank

fees, nor has it helped decrease the numbers of unbanked consumers. Indeed, rather than offering innovative, moderately priced

products to middle-income consumers or to unbanked consumers to

bring them into the financial mainstream, some banks have developed policies and services that deliver second class or downright

predatory products at an extremely high cost.

Let me point, for example, to KeyBank’s checkless checking system: 1.9 percent charge per deposit for a paycheck deposited into

an account accessed by ATM cards. Let me point your attention to

stored value cards, payroll cards, and others, where charges are extremely high. Let me also point your attention to predatory products like bounce loans that are targeted at moderate income

consumers with checking accounts. This is a new form of overdraft

protection at some big banks, and there are a number of big banks,

using it primarily to boost their fee revenue. We are talking here

about interest rates starting at a low of 240 percent and ranging

as high as 540 percent.

We urge the Committee to look into steps to better regulate all

of these products, and in closing, let me also say on the safety and

soundness front we completely agree that the industrial loan corporation loophole in the Bank Holding Company Act needs to be

shut tight.

Thank you.

Chairman SHELBY. Mr. Tubertini.

8

STATEMENT OF RONNIE TUBERTINI

CHAIRMAN, GOVERNMENT AFFAIRS COMMITTEE,

INDEPENDENT INSURANCE AGENTS

AND BROKERS OF AMERICA, INC.

Mr. TUBERTINI. Good morning, Chairman Shelby, Ranking Member Sarbanes, and Members of the Committee.

My name is Ronnie Tubertini, and I am pleased to have the opportunity to give you the views of the Independent Insurance

Agents and Brokers of America on the Gramm-Leach-Bliley Act

and its effects on the insurance marketplace. I am President and

CEO of SouthGroup Insurance and Financial Services, which is

Mississippi’s largest privately owned insurance agency, and I am

also currently Chairman of the IIABA Government Affairs Committee.

I would like to discuss three points and what lessons might be

learned for possible next steps for Congress. First, the expected

megamergers of various financial services providers into financial

supermarkets, which has not taken place; second, the success of the

GLBA NARAB provisions in promoting agents’ licensing reform in

the States; and third, the continued importance of functional regulation and the State insurance regulatory structure.

One stop shopping for financial services has not come to pass.

Some mergers certainly have occurred, but most have not been

among the leading players in different fields. The convergence of

products and services that began in the 1980’s continues to occur

but through smaller and more targeted merger activity.

Instead of purchasing insurance companies, as was predicted,

banks have bought individual securities firms and insurance agencies, although this trend has not been overwhelming. Announced

bank-agency deals involve a relatively small number of independent agents, and the independent agency system continues to

be a principal form of property and casualty insurance distribution,

as well as life and health distribution.

One of the most significant accomplishments of GLBA was the

NARAB subtitle, known as the National Association of Registered

Agents and Brokers, which launched agents’ licensing reform that

continues today. Prior to GLBA, there was no consistency or reciprocity among the States, but licensing has improved significantly

over the last 5 years as a direct result of Congress’ decision to address those issues in GLBA.

The GLBA put the ball in the States’ court by threatening the

creation of a new national NASD-style licensing entity. The creation of NARAB was only averted when a majority of the States

achieved a level of reciprocity within the 3-year period. Since

GLBA, over 40 jurisdictions have been certified by the NAIC as

meeting the NARAB mandate.

The success of NARAB is a perfect example of what the Federal

Government and States can accomplish in partnership and how

Congress can assist the States to achieve the needed reforms. The

NAIC and States made little progress toward reciprocal and uniform licensing until Congress set a deadline with specific goals. In

fact, Congress set the bar at only a majority of the States. All but

a handful of the States have met the NARAB reciprocity standard.

9

While there is still more to do to get to full reciprocity and ultimately to uniformity, this success would not have occurred without

what are now being called Federal tools.

Perhaps GLBA’s most important accomplishment in protecting

insurance consumers was its focus on functional regulation. GLBA

specifically reaffirmed the traditional authority of the States to regulate the business of insurance. Most observers agree that State

regulation has worked effectively to protect consumers, because

State officials are positioned to be responsive to the needs in the

local marketplace for consumers.

Insurance is a product about which consumers have many questions, and if a problem arises, they want to be able to resolve it

with a local phone call. During 2001, for example, State regulators

handled over 3.5 million consumer inquiries and complaints, and

today, State insurance departments employ approximately 13,000

individuals who draw on over a century and a half of regulatory

experience to protect consumers.

The diversity of underlying State insurance laws and varying

consumer needs from one region to another require local officials

on the beat. Despite its merits, State insurance regulation is not

without its share of problems. It takes too long to get new insurance products to market, and there is unnecessary duplicative regulatory oversight in licensing. The speed to market issue is the

most pressing from both a consumer and an agent and broker perspective, because we all want new and innovative products.

Banks and securities firms are able to develop new products,

while insurers are hampered by lengthy and complicated filing and

approval products in 50 States. As a result, insurance companies

and agents selling their products are at a disadvantage.

IIABA supports State regulation of insurance from all participants and for all activities in the marketplace, and we are opposed

to any form of Federal regulation, optional or otherwise. But there

are some problems in the State system which the States will not

be able to resolve on their own. Therefore, IIABA believes that

there is a vital role for Congress but that it need not replace or duplicate what is successful at the State level.

IIABA believes that the best alternative is a pragmatic, middle

ground approach that utilizes Federal legislative tools to improve

the State-based system. Targeted Federal legislation is not a radical concept. There is the successful NARAB precedent. The Senate

Banking Committee and the House Financial Services Committee

have proven that that approach can work, and IIABA believes that

the NARAB model can serve as a template for further reform of

State insurance regulation.

We understand the Senate Banking Committee still has much to

consider on this subject and look forward to working with you in

any review of State insurance regulation and potential reforms the

Committee may conduct.

Chairman SHELBY. Thank you.

Mr. Bartlett.

10

STATEMENT OF STEVE BARTLETT

PRESIDENT AND CHIEF EXECUTIVE OFFICER

THE FINANCIAL SERVICES ROUNDTABLE

Mr. BARTLETT. Thank you, Mr. Chairman and Members of the

Committee, my name is Steve Bartlett. I represent the Financial

Services Roundtable, which consists of 100 of the largest financial

services companies in the United States. One of the key goals of

Gramm-Leach-Bliley was to achieve a competitive marketplace;

that is, a financial regulation that should be for the safety and

soundness and for consumer protection, not for product allocation.

More can be done to achieve this goal. I have prepared six recommendations on behalf of my members to further achieve competitiveness in the financial marketplace. Specifically, those are to

establish uniform national privacy standards; to provide for optional Federal insurance chartering; to establish a national

antipredatory lending law; to remove the sunset on nonfinancial activities; to remove the activity limitations on national and State

banks; and to allow the Treasury and Federal Reserve to independently determine what activities are financial in nature.

First, amend Gramm-Leach-Bliley to achieve uniform national

privacy statements. Title V, Mr. Chairman, of GLB imposed a number of privacy requirements on financial institutions, including the

distribution of an annual privacy notice to consumers. It also expressly acknowledged the right of States to adopt their own individual separate privacy laws. Those provisions have created, I believe, some unintended confusion and conflict.

The annual privacy notice, as you have already heard, required

by GLB is astoundingly complex. Federal regulators have requested

to comment on alternative notices, but they lack the authority to

make the notice truly consumer-friendly. A Federal court recently

cited Title V of Gramm-Leach-Bliley in upholding California’s privacy law, which, if that is allowed to stand, could end up repealing

Gramm-Leach-Bliley with 50 different State laws.

Congress should eliminate this confusion and conflict by repealing the State law provisions and establishing national, uniform privacy standards for financial firms. Congress should also, Mr. Chairman, direct the Federal regulators to issue a simplified national

privacy notice with a safe harbor.

Number two, amend Gramm-Leach-Bliley to provide for optional

Federal insurance charters. Title III of Gramm-Leach-Bliley, I believe, mistakenly reaffirmed that the business of insurance is regulated primarily by the States. During the past 5 years, all parties

to insurance regulation, including State insurance commissioners,

have concluded that the current system of insurance regulation is

fundamentally flawed.

The Roundtable believes that the best way to reform the regulation of insurance is to create a parallel system of chartering and

supervision for insurance companies at the Federal level with a

Federal option.

Number three, amend Gramm-Leach-Bliley to establish a national antipredatory lending law. In the 5 years since the enactment of Gramm-Leach-Bliley, the regulation of mortgage lending

has become a hot topic. A variety of State and local governments

have enacted laws designed to stop predatory lending practices.

11

The Roundtable urges this Committee to use this review of GLB

as an opportunity to enact a national antipredatory lending law

that establishes basic protections for mortgage borrowers. This

Federal law should apply uniformly to all lenders regardless of

charter and supersede State antipredatory lending laws.

Number four, amend Gramm-Leach-Bliley to remove the sunset

on nonfinancial activities. In a marketplace that is subject to rapid

changes in technology and even more rapid changes in consumer

demand, some companies need the flexibility to provide products

and services outside the statutory list of activities that are financial in nature.

Title I of Gramm-Leach-Bliley grandfathered the nonfinancial activities of companies that were not bank holding companies prior

to GLB. This grandfather provision, unfortunately, is scheduled to

sunset in 5 years, and thus, it is a limitation built into the law.

We recommend that Congress make the grandfather permanent

and remove the sunset.

Number five, amend Gramm-Leach-Bliley to remove the activity

limitation of national and State banks. Section 121 authorized national banks to own financial subsidiaries and empowered those

subsidiaries to engage in a range of financial activities. At the

same time, GLB proposed a number of activities and other operating constraints of the financial subsidiaries of national banks and

State banks that do not apply to financial holding companies.

The Roundtable recommends that the activities and operating

limitations imposed on national banks and State banks be removed.

Number six, amend Gramm-Leach-Bliley to allow Treasury and

the Federal Reserve to independently determine what activities are

financial in nature. GLB established an overly complex notice and

disapproval procedure for the authorization of new financial activities. The Roundtable recommends that the Treasury and the Federal Reserve should have independent authority to determine what

is a permissible activity. The OCC and Federal Reserve would still

have the authority to regulate for safety and soundness of financial

affiliates.

Thank you, Mr. Chairman.

STATEMENT OF JAMES D. MCLAUGHLIN

DIRECTOR, REGULATORY AND TRUST AFFAIRS

AMERICAN BANKERS ASSOCIATION

Mr. MCLAUGHLIN. Mr. Chairman and Members of the Committee, I am Jim McLaughlin, speaking on behalf of the American

Bankers Association.

Congress took a forward-thinking approach to financial services

regulation by enacting the GLB Act. Dynamic market forces were

already dramatically changing the financial services market. By responding to this new reality and after many years of debate, Congress modernized our financial system, making it more sensible

and straightforward, removing inefficiencies in structure and regulation.

The Act lets market forces dictate what combinations of financial

services would be appropriate. The Act has worked well. It has benefitted customers, diversified incomes of financial firms, and at the

12

same time posed no new risks to the deposit insurance funds.

While not all financial firms have rushed to become a financial

holding company, they could if they so choose in the future.

This is a critical point: The success of the Act should not be

judged by the number of financial holding companies or whether

the combination of activities they now offer were a direct result of

the Act. Rather it is the very option to undertake combinations of

activities to meet the needs of the customers that is the measure

of success. But more can be done, however, to fully realize the benefits of the GLB Act. Let me touch on a few.

First, Congress designed a flexible regulatory process to allow financial institutions to enter new lines of business. It appropriately

delegated responsibilities to the two agencies most familiar with

the financial services industry: The Treasury and Federal Reserve.

Unfortunately, this important provision has been derailed, at least

for now, in one of first proposed rulings under this Act having to

do with real estate brokerage services.

As a result, Congress is once again refereeing another competitive issue, the very thing it sought to avoid. We urge Congress to

let the Treasury and the Federal Reserve undertake their legal responsibilities to assure that the financial services market remains

fair and competitive.

Second, the banking industry has serious concerns over the new

SEC proposal known as the Broker Push-Out rule. We appreciate

the SEC’s responsiveness to many of our concerns. We hope that

the remaining issues can be addressed during the current rulemaking process so our banks can continue to offer longstanding

bank products and services such as IRA accounts and retirement

plan services. During this process, we hope that the Congress will

continue to exercise its oversight responsibilities.

Third, a sensible crossmarketing approach for merchant banking

is needed to provide equal footing for all financial companies. Many

ABA members regard the merchant banking authority as the single

most important new power granted by the GLB Act. As a result,

the ability to crossmarket through Internet websites and statement

stuffers is very important to let our customers know about new

products that can meet their needs.

And last, the most significant work left undone by the GLB Act

is to modernize the State system of insurance regulation. The GLB

Act did strongly encourage States to adopt licensing standards to

which all insurance agents must adhere. Unfortunately, as we have

already heard, uniformity across States is far from a reality, and

duplicative and inefficient State insurance regulation reduces product availability and raises costs.

One solution that ABA endorses is to create an optional Federal

charter for insurance companies and agencies. Like the dual banking system, this would provide an alternative to State-by-State regulation and create uniformity and efficiency.

In conclusion, the GLB Act went a long way toward removing obstacles to efficient provision of financial services. It responded to

the needs of consumers and increased the competition among financial service providers. While we do not know what innovations will

take place in the years ahead, we do know that free and fair competition creates an atmosphere that encourages innovation. The

13

GLB Act was an essential ingredient in bringing about such competition.

We congratulate you on holding this hearing, and we ask your

continued oversight to assure the goals of the GLB Act are

achieved.

Thank you.

Chairman SHELBY. Mr. Taylor.

STATEMENT OF JOHN TAYLOR

PRESIDENT AND CEO

NATIONAL COMMUNITY REINVESTMENT COALITION

Mr. TAYLOR. Good morning, Chairman Shelby, Ranking Minority

Member Sarbanes, and other distinguished Members of the Committee on Banking, Housing, and Urban Affairs.

Thank you for the opportunity to testify today. I think it is pretty

fitting that NCRC, which is the trade association for some 600 community organizations across the country whose main focus is the

increased access to credit and capital for all Americans, it is particularly fitting that we get an opportunity to testify today about

the Gramm-Leach-Bliley Act or GLBA, because we believe that it

has weakened the Community Reinvestment Act and thus reduced

Americans’ access to credit and capital.

We do believe that the United States banking system is the envy

of the world. In great part, we believe this is attributable to our

extensive regulatory oversight, which, among other things, ensures

adequate capital reserves, safety and soundness, and fair and equal

access to credit. GLBA has failed to ensure that the laws and regulations relating to fair access to credit have kept pace with safety

and soundness regulation.

Mr. Chairman, I am not used to actually testifying in favor of paperwork reduction for my friends in the banking world, but I find

myself in the position to make that recommendation today. One

area where I believe there is strong consensus among community

groups and the lending industry is the so-called CRA sunshine requirements under GLBA. We believe these need to be repealed.

The CRA sunshine provisions sought to quantify the amount of

bank dollars granted to community groups. It was believed that

such grants were used for operating support rather than for direct

provision of financial services and products. Five years later, we

now know the facts do not support this theory.

In a report issued in 2002 by the National Community Reinvestment Coalition, NCRC found that of the $3.6 billion in the 707

CRA agreements during the period of 1999 to 2002, only $11.8 million, less than three-tenths of 1 percent, actually went to grants for

operating support for community groups.

CRA sunshine increases the paperwork burden on banks and

community groups with no tangible benefit to the public. The repeal of this ill-advised section of GLBA must occur immediately.

Mr. Chairman, another harm, from our perspective, of GLBA is

the reduction of the frequency of small bank exams. Under GLBA,

small banks with assets of $250 million are examined only once

every 4 or 5 years. Our 600 community members have reported

that less frequent exams have reduced the amount of lending by

small banks to low- and moderate-income borrowers. We call upon

14

Congress to commission a comprehensive study assessing the impacts of this, what we call ‘‘stretch-out of CRA exams’’ on workingclass Americans, low- and moderate-income borrowers, as well as

minorities.

Mr. Chairman, in anticipation of this testimony, I unfortunately

had short notice on this testimony, but I took the opportunity just

to look at the State of Alabama and to see how those lenders, who

are covered under the small bank exam, and see how they were impacted with these less-frequent exams.

Chairman SHELBY. Take your time now.

[Laughter.]

Mr. TAYLOR. Okay; thank you very much.

Senator SARBANES. You just picked Alabama out of the hat.

Mr. TAYLOR. Maryland was next, Senator.

[Laughter.]

Chairman SHELBY. Absolutely, then Connecticut and then Utah.

Mr. TAYLOR. Absolutely. I would be glad to do this for anybody,

but again, it would be great if Congress might want to take a look

at this itself.

But in any event, what jumped out at us as the CRA exams became less frequent in Alabama, looking at the period of, say, 2000

through 2002, small banks in Alabama, in terms of all of their single-family lending as a percentage of their loans to low- and moderate-income borrowers in 2000 was about 37 percent of all of the

loans to small banks went to low-income borrowers. That steadily

declined until 2002 by 30 percent. Today, it is down to 27 percent

by those banks.

If you just look at home purchase lending, Mr. Chairman, in Alabama, 33 percent of all the lending from banks who are covered

under $250 million in assets, 33 percent of all the loans they made

were made for home purchase lending. That dropped. That figure

dropped to 27 percent, a 20 percent drop. So there has been this

steady decline since the less frequent exams occurred, whereas for

the small banks, when the examiners showed up every couple of

years, there was this preparation, there was this thoughtfulness to

make sure that they were making loans to low-income borrowers,

and the impact has been, at least in the one State we had the opportunity to look at, has been negative.

Mr. Chairman, I appreciate your giving me some time to talk

about your home State, but I will finish my remarks if I could.

Gramm-Leach-Bliley added a requirement that bank holding companies must ensure that all of their affiliates passed CRA exams

in order to be allowed to take advantage of the new powers under

GLBA. While well-intentioned, this requirement has not been applied in a single case, to our knowledge. A major reason for this

is less than 2 percent of the banks and thrifts fail their CRA

exams. Since failed ratings are so rare, the have and maintain requirement must be strengthened to ensure that merging institutions will continue to serve minority and lower-income communities.

NCRC urges you to consider requiring merging institutions to

submit a CRA plan with their application. In the past year, the

merging activities has reached a frenzied pace and has included

some of the largest mergers in our history: The Bank of AmericaVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00018 Fmt 6633 Sfmt 6633 26700.TXT SBANK4 PsN: SBANK4
15

Fleet merger, the J.P. Morgan Chase with BankOne, which create

institutions with more than $1 trillion in assets.

Despite the incredible magnitude of these mergers, the Federal

Reserve Board does not require any meaningful CRA plan from the

merging institutions. The CRA discussions and the merger applications usually consist of a one- or two-page boast about the bank’s

CRA performance. A meaningful CRA plan would require merging

institutions to provide the number of loans, investments, and services they made by State, metropolitan area, and rural portions of

the State in the past few years.

Recognizing that my time has expired, I will try to conclude, Mr.

Chairman. While GLBA created more powerful financial institutions, it has not been updated to keep pace with the dramatic

changes in the financial services industry. GLBA did not apply the

CRA to mortgage companies, insurance companies, or securities

firms that are part of holding companies. As a result, a very real

possibility exists that CRA will apply to fewer and fewer assets of

holding companies.

At the same time, CRA was not applied to credit unions. Again,

we find ourselves in agreement with many of our colleagues in the

banking industry that CRA needs to be expanded to credit unions,

mortgage companies and other competitors of bank holding companies. The uneven application of CRA reduces the amount of community reinvestment and wealth building in these communities.

The uneven application of CRA also undermines President Bush’s

call for more minority homeownership and subverts the dreams of

millions of Americans seeking to build a future for their families.

If Congress wishes to ensure that GLBA benefits all Americans, it

must update CRA.

Since I have hit all of my main points, Mr. Chairman, and my

time has expired, and you have noted that my written testimony

is in the record, I will end. Thank you very much, sir.

Chairman SHELBY. Thank you.

Mr. Judge.

STATEMENT OF J. STEVEN JUDGE

SENIOR VICE PRESIDENT, GOVERNMENT AFFAIRS

SECURITIES INDUSTRY ASSOCIATION

Mr. JUDGE. Chairman Shelby, Senator Sarbanes, and Members

of the Committee, I am Steve Judge, Senior Vice President for Government Affairs at the Securities Industry Association. I appreciate

the opportunity to testify on our views on the Gramm-Leach-Bliley

Act as we approach the 5-year anniversary of the enactment of that

landmark legislation.

SIA commends this Committee for its efforts in enacting GLB

and for holding these hearings to examine the effects of the Act.

We hope that these hearings will initiate an important dialogue

about identifying and eliminating obstacles that impede the ability

of our financial service firms to develop and offer consumers a full

range of financial services, structure themselves optimally, mitigate risk, and maintain global competitiveness. SIA looks forward

to participating in this dialogue.

In considering the effects of GLB, it is important to recall how

constrained the financial services industry was before Congress

16

acted. Financial service firms were operating under a hodgepodge

of confusing rules and regulations. The regulatory environment

failed to provide the full range of relief the industry sought and the

consumers demanded and tilted the playing field in favor of one

segment over another.

The enactment of the Gramm-Leach-Bliley Act has, in many

respects, rationalized and modernized the financial services regulatory environment. Banks, securities firms, and insurance companies can choose to affiliate under whatever structure best fits their

business plan. Subsidiaries of financial service holding companies

can engage in a wide variety of financial activities beyond banking,

securities, and insurance. All financial service firms are subject to

comprehensive privacy requirements far beyond those that exist for

any other industry in the United States.

Since enactment of the Gramm-Leach-Bliley Act, there have been

a number of significant combinations of financial service firms.

Some firms have chosen to combine with commercial banks. Other

firms have chosen to remain independent, and that is how it should

be. One of the overarching goals of the Gramm-Leach-Bliley Act

was to allow financial service firms to choose the optimal structure

to best serve their customers’ needs.

Among SIA’s membership, bank or financial services holding

company ownership of broker-dealers has increased from 13.4 percent in 1999 to 21 percent today. Moreover, banks affiliated with

securities firms have significantly increased their presence in capital market activities. For example, banks affiliated with securities

firms now lead/manage 58.2 percent of equity underwriting today

versus only 36.8 percent in 1999.

As a further example of Gramm-Leach-Bliley’s effectiveness,

newly affiliated firms have not had to shed significant lines of business or to artificially limit their revenues from securities underwriting and certain other activities. These combinations also have

not required Federal regulators to provide the type of significant

regulatory relief that was often necessary prior to the passage of

GLB.

When assessing the overall impact of the Gramm-Leach-Bliley

Act, it is important to note various economic factors and significant

changes in the capital markets over the last 5 years have made it

tenuous at best to determine the cause and effect relationships to

specific provisions of the Act. What we do know is that the Act is

a comprehensive statute regulating a diverse, dynamic, and constantly evolving financial services industry, and as a result, there

have been and likely will continue to be issues concerning the implementation of the legislation.

There are some weaknesses that exist with the Gramm-LeachBliley Act. Among those, securities firms in a financial services

holding company should be able to engage in a full range of commercial activities to the same extent as securities firms that are

unaffiliated with a bank.

There should be a national standard governing consumer privacy

requirements. Requiring financial institutions to comply with Federal requirements and then the additional requirements potentially

imposed by each State in which that firm operates is confusing to

customers and unnecessarily burdensome on the industry.

17

And similarly, there should be a uniform national standard for

the regulatory of securities activities. To this end, SIA is working

with the State securities commissioners to secure adoption of the

Model Uniform Securities Act in each of the State legislatures.

The U.S. capital markets and the financial service industry are

stronger, healthier, and more dynamic since Congress enacted

Gramm-Leach-Bliley. In spite of the tremendous challenges and

changes over the last several years, consumers and financial service firms alike are better off as a result of increased opportunities

and choices made possible by the Act.

SIA commends this Committee for holding these hearings, and

we look forward to working with you to ensure that our Nation’s

capital markets remain the most efficient, liquid, deepest, and dynamic in the world.

Thank you.

Chairman SHELBY. I thank all of you.

During the debate that led to the passage of Gramm-Leach-Bliley, there were many predictions with respect to how the new law

would radically change the appearance of the financial service industry. Mr. Doherty, you indicate in your written testimony where

you quote statistics provided by the Federal Reserve Vice Chairman Roger Ferguson that significant structural change within the

financial service industry has not occurred.

Mr. DOHERTY. That is true.

Chairman SHELBY. Is that correct?

Mr. DOHERTY. That is correct. I see no evidence to that effect

that there have been significant changes.

Chairman SHELBY. Mr. Bartlett, are the great changes just

around the next corner? Are they more likely to occur in fits and

starts or what?

Mr. BARTLETT. Mr. Chairman, I think we have seen a series of

changes.

Chairman SHELBY. Because there are changes.

Mr. BARTLETT. There are changes.

Chairman SHELBY. Evolution.

Mr. BARTLETT. And it is a continuum of changes. Gramm-LeachBliley still has some challenges that have prevented additional

changes. I cited one, the sunset provision, which is, in my opinion,

the largest barrier that stops companies that are not bank holding

companies from applying for a financial holding company charter.

In my opinion, Mr. Chairman, what has happened is, as some of

the other witnesses have said, is that there is a continuum of products and services. And 5 years post-Gramm-Leach-Bliley, companies are offering a much broader range of that continuum, both

large and small companies, and that is as it should be. So the marketplace is much more driven now by the customer than by product

regulation, but we still have a lot of vestiges of product regulation.

Chairman SHELBY. Has it helped the consumer that much?

Mr. BARTLETT. It has helped the consumer tremendously.

Chairman SHELBY. Brought more competition?

Mr. BARTLETT. Yes, more competition. Consumers now have additional choices of where to acquire an auto insurance loan, a home

loan, an auto insurance product, auto insurance, or a mortgage; the

choices are, if not infinite, at least close enough to infinite.

18

Chairman SHELBY. Have the changes, brought about by the law,

better prepared U.S. firms for international competition, Mr. Bartlett, Mr. McLaughlin.

Mr. MCLAUGHLIN. Definitely better prepared for international

competition. We have seen foreign firms take a greater presence in

the United States, and some of them have had powers that U.S.

banks have not been able to compete with. So it has better prepared banks in the United States.

Chairman SHELBY. Mr. Tubertini, Gramm-Leach-Bliley took a

targeted approach with respect to enhancing the insurance agent

and broker licensing that worked within the State-based regulatory

structure. Do you believe that this was the appropriate approach,

and if not, why not?

Mr. TUBERTINI. I do believe that it was the appropriate approach,

Senator.

Chairman SHELBY. Do you think it is working?

Mr. TUBERTINI. It has worked in that we now have over 40

States that have been certified NARAB compliant. There are obviously still States that have not, but it was a giant step toward full

reciprocity or uniformity.

Chairman SHELBY. In the State of Mississippi, do you operate all

over Mississippi? Your firm is a large insurance firm.

Mr. TUBERTINI. We do, Mr. Shelby. We are in 17 locations across

the State. But we also provide insurance to our customers in over

20 States.

Chairman SHELBY. Other financial products including insurance?

Mr. TUBERTINI. Not other than insurance products but acrossthe-board insurance products.

Chairman SHELBY. Mr. McLaughlin, in your testimony, you cite

two research papers that essentially conclude, one, that most banks

engage in permissible relationship banking privileges and two, that

tying is not a rational strategy for banks. You recall that.

Mr. MCLAUGHLIN. That is right.

Chairman SHELBY. How would you respond to the following

statements, including, in the executive summary of the Association

for Financial Professionals 2004 credit access survey, and I am

quoting from them, ‘‘a significant number of survey respondents

note that their company has been subject to activities that the Federal Reserve indicates would violate Section 106 of the Bank Holding Company Act; further, many companies continue to report that

the pressure to award business has increased over the past year.’’

How do you respond to that?

Mr. MCLAUGHLIN. First, Mr. Chairman, that is an attitudinal

survey. The bank regulators and the GAO have consistently looked

at banking practices in this area. And we have to recognize that

Section 106 of the Bank Holding Company Act provides a higher

standard for banks and banking organizations than the rest of the

world that they are competing with have to comply with.

There is a very strict standard that applies to banks. What I

think we are hearing from some of the financial treasurers and the

like from that group is that they are saying they feel the fact that

there is this one-stop-shopping, and that the marketing is intense.

At the same time, we are hearing from our member banks that the

corporate treasurers are putting greater pressure on the banks to

19

provide better deals and packages of services. So the marketplace

is working.

Chairman SHELBY. Good.

Senator Sarbanes.

STATEMENT OF SENATOR PAUL S. SARBANES

Senator SARBANES. Mr. Chairman, let me just first follow up on

your question. The Wall Street Journal, when it reported on this

survey of the Association for Financial Professionals, said just this

past June in an article headlined ‘‘Executives See Rise in Tying

Loans to Other Fees,’’ began its story as follows: ‘‘Corporate finance

officers say banks are increasingly squeezing lucrative fees out of

them by conditioning loans on the purchase of other services.’’

Now, tying is not permitted; is that correct?

Mr. MCLAUGHLIN. Well, you have to look at the law. It is a very

complex section of the law, Section 106, Senator, and tying is permitted to traditional banking services. There is some tying that is

permitted.

Chairman SHELBY. And how is traditional banking services defined?

Mr. MCLAUGHLIN. Traditional banking services are loan, deposits, trust services, cash management services, and the like.

Senator SARBANES. Now, do you agree that the Federal Reserve,

in its interpretation of the antitying restrictions of Section 106 of

the Bank Holding Company Act Amendments of 1970, states that

a bank would violate Section 106 if the bank informs a customer

seeking only a loan from the bank that the bank will make the loan

only if the customer commits to hire the bank’s securities affiliate

to underwrite an upcoming bond offering for the customer?

One out of seven large companies report that in the past 5 years,

they have been explicitly required by a commercial bank to obtain

corporate debt and/or equity underwriting services from an affiliate

of the bank in order to obtain a loan from the bank. What is your

view on this?

Mr. MCLAUGHLIN. I am sorry. I do not follow where that one out

of seven comes from, who is saying that.

Senator SARBANES. This is the credit access survey that I made

reference to.

Mr. MCLAUGHLIN. Oh, the credit access survey? Because the

Fed’s statement of the law is accurate, that you cannot tie underwriting of securities and condition that service for a loan.

Senator SARBANES. Right.

Mr. MCLAUGHLIN. That is clear.

Senator SARBANES. Yes, do you think that is taking place?

Mr. MCLAUGHLIN. I cannot say, but I can tell you that the GAO

has examined it twice. The bank regulators have been in and examined it. The Federal Reserve on the request of this Committee

has gone in and looked again at the banks, and they cannot find

more than one or two isolated cases, and there have been, I think,

one or two cases enforcement cases.

Senator SARBANES. To the extent it happens, as I have read it

here, it is contrary to the law; is that correct?

Mr. MCLAUGHLIN. To tie underwriting services to the granting of

a loan?

20

Senator SARBANES. Right.

Mr. MCLAUGHLIN. That is correct.

Mr. PLUNKETT. Senator, to that point——

Senator SARBANES. Yes?

Mr. PLUNKETT. I have looked at the GAO study as well, and they

do point to a lack of documentation regarding the tying of availability or the price of credit to the purchase of debt underwriting

services. But they also say that there may be good reasons for the

lack of documentation, that the Federal regulators need to look at.

For example, a lot of those deals are conducted orally. Second reason, borrowers may be reluctant to file formal complaints. And

then, they point out that the Federal banking regulators need to

look for indirect evidence of tying and do more to investigate these

problems.

Senator SARBANES. Mr. Chairman, I want to diverge for just a

moment, because I want to make sure I understand the constituencies of some of the groups at the table.

Mr. McLaughlin, the American Bankers Association encompasses

all banks as potential members; is that correct?

Mr. MCLAUGHLIN. That is correct. Large banks, small banks,

savings associations, commercial banks, trust companies, all banks.

Senator SARBANES. Yes; now, what about the Community Bankers? What is the definition or the parameters for your membership?

Mr. DOHERTY. We also service savings banks, savings and loans,

Federal savings, commercial banks. We run the gamut.

Senator SARBANES. Regardless of size?

Mr. DOHERTY. Regardless of size, regardless of charter.

Senator SARBANES. So you, in effect, duplicate the membership

of the ABA? Would that be correct? I mean, potentially.

Mr. DOHERTY. The potential; that is correct.

Senator SARBANES. Okay; and some banks would be members of

both groups presumably?

Mr. DOHERTY. There are dual memberships; that is correct.

Senator SARBANES. Okay; now, what about the Independent

Community Bankers of America?

Ms. JORDE. The ICBA does not have a size limitation. However,

members of the ICBA generally subscribe to the philosophy that

there is a symbiotic relationship between the bank and the community that it serves. The bank is dependent on its community. It is

generally locally owned, or the board of directors is normally from

that local area. We have nearly 5,000 member banks throughout

the country, primarily independent banks and thrifts as well.

Senator SARBANES. And I take it your institutions would be, by

and large, smaller in their asset size; would that be correct?

Ms. JORDE. We have banks as small as $10 million in size, and

we have banks that are well into the billions of dollars in size, too.

Again, it goes back to the philosophy of the bank. Many of those

multibillion dollar banks started as community banks, remain as

community banks and share that philosophy.

Senator SARBANES. Right.

And the Financial Services Roundtable, what are the parameters

for your membership?

Mr. BARTLETT. Our membership is 100 of the largest financial

services companies. We believe that size matters; that when you

21

get to a certain size, you are able to offer a variety of products to

your customers. We believe our companies share the philosophy of

a competitive marketplace; that is, the marketplace or our customers should determine what products they wish to buy and not

laws or regulations.

Senator SARBANES. What size does a financial institution have to

be in order to qualify for membership in the Roundtable?

Mr. BARTLETT. We measure our size by market cap or by worth of the enterprise, and I think our smallest is around $2 billion, $2.5

billion of market cap.

Senator SARBANES. $2.5 billion?

Mr. BARTLETT. Yes, sir.

Senator SARBANES. And when you say you have 100, presumably,

that does not encompass all institutions above that size; is that correct?

Mr. BARTLETT. That is correct.

Senator SARBANES. What percentage of the institutions above

that size would be members of the Roundtable, if you know?

Mr. BARTLETT. I do not know exactly, but I would guess twothirds.

Senator SARBANES. Two-thirds?

Mr. BARTLETT. Yes, sir.

Senator SARBANES. And are all of the largest institutions members of the Roundtable?

Mr. BARTLETT. Not all, no, sir; most but not all.

Senator SARBANES. But as you say, two-thirds above $2.5 billion.

But presumably, at the higher sizes, you have a larger percentage,

is that correct, of the banks?

Mr. BARTLETT. Yes, sir, yes, sir; it is a voluntary association, so

people choose to join.

Senator SARBANES. Let me put it this way: The 10 largest institutions, are they all members of the Roundtable?

Mr. BARTLETT. I think, as I recall, 7 or 8 are. I think a couple

of them are not.

Senator SARBANES. Mr. Chairman, could I ask just one more

question?

Chairman SHELBY. Go ahead.

Senator SARBANES. I wanted to ask about this insurance to get

some sense of it. On this optional Federal charter would regulate

the insurance companies that chose an optional Federal charter?

Mr. BARTLETT. The Congress would choose a regulator. There are

various varieties. We prefer what is known as the OCC model or

an independent regulatory agency like the OCC.

Senator SARBANES. A Federal regulator.

Mr. BARTLETT. A Federal regulator.

Senator SARBANES. And how would that regulator get its budget?

Mr. BARTLETT. From the industry, I presume, similar to the

OCC. We think that there is a good model of the dual banking system that should be replicated in the insurance system.

Senator SARBANES. And if you chose an optional Federal charter,

by making that choice, you could remove yourself from State insurance regulation, would that be correct? And then be subject only to

whatever Federal insurance regulations?

Mr. BARTLETT. That is correct, yes, sir.

22

Senator SARBANES. And the institution would have the choice to

pick that; is that correct?

Mr. BARTLETT. Comparable to the dual banking system.

Senator SARBANES. Mr. Tubertini and Mr. Plunkett, what is your

view of that proposed arrangement?

Mr. TUBERTINI. Mr. Sarbanes, we are opposed to any type of Federal regulation of insurance. Regulation of insurance, by its nature,

protects the consumer. And consumer protection becomes much

more difficult at a Federal level than it does at a local level, a

State level. The State regulation of insurance has worked for 150

years.

There are certainly needs for reforms. GLBA provided a number

of those reforms. We believe that instead of a Federal regulator of

insurance that the Congress can take additional action, following

in the footsteps of the NARAB provisions of GLBA, to further reform State insurance regulation, provide for the consumers in a

way that no Federal regulation can do.

Senator SARBANES. Mr. Plunkett.

Mr. PLUNKETT. Senator, we are strongly opposed to the optional

Federal charter proposal for one significant reason: If you give the

regulated a choice of regulator, you are going to end up with State

and Federal officials competing to lower standards, and that will

absolutely harm consumers.

We look at the dual banking system, and we see a cautionary

tale on this point. To some extent, we have seen competition between State and Federal regulators to lower standards to govern

more of the regulated, and that dynamic in insurance could be a

disaster.

Senator SARBANES. Thank you, Mr. Chairman.

Chairman SHELBY. Senator Crapo.

STATEMENT OF SENATOR MICHAEL CRAPO

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

I want to use the time that I have for questions to address the

issue of the different treatment of thrifts and banks under the Investment Advisors Act and the Securities and Exchange Act, and

I suppose that my questions would be most directed to those that

Senator Sarbanes just discussed about your membership, the banking groups here, but I would be glad to hear from any members of

the panel.

As you know, the Investment Advisors Act and the Securities

and Exchange Act of 1934 together created different treatment for

thrifts as opposed to banks with regard to the statutory investment

advisor and broker-dealer registration requirements. And there is

a proposal to legislatively eliminate that difference.

In response to that proposal, the SEC has now put out a proposed rule that is under discussion and which supposedly would

eliminate the need for legislative action. And I would just like to

know, frankly, what the opinion of those here on the panel is with

regard to whether we need to move legislatively or whether the

SEC proposal is adequate.

Mr. McLaughlin.

Mr. MCLAUGHLIN. Senator, I would be glad to respond. In fact,

we have, if we have not filed it yet, we are filing today a letter adVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00026 Fmt 6633 Sfmt 6633 26700.TXT SBANK4 PsN: SBANK4
23

dressing that very SEC proposal. We think it does not go nearly

far enough. We think that there should be full competitive equity

and parity between savings associations and commercial banks

with respect to both the broker-dealer rules and the investment advisor rules. We have testified to that effect on the House side in

the reg burden release bill, there are provisions there, and we understand that they are over here in the Senate now.

Senator CRAPO. And the SEC proposal does not——

Mr. MCLAUGHLIN. The SEC proposal provides some relief, but it

goes probably halfway if that.

Senator CRAPO. All right; thank you.

Mr. Doherty or Ms. Jorde.

Mr. DOHERTY. I would agree with the analogy that it goes less

than halfway. My comment would be it is half a loaf. It has to go

further.

Senator CRAPO. All right.

Ms. JORDE. And I think the ICBA also agrees that there should

be competitive equity between the banks and thrifts and that the

SEC proposal that came out also needs to be looked at in terms of

making it less complex, if possible.

Senator CRAPO. Thank you.

Mr. Bartlett, did you want to comment on this?

Mr. BARTLETT. I think that the SEC proposal is a good start, but

it does not go far enough, and it is similar to the other comments.

Senator CRAPO. Thank you.

Any other members of the panel want to weigh in on this issue?

Let me just ask if there is any disagreement on the panel with

the apparently unanimous position of those who have spoken up

about the fact that this issue needs to be addressed legislatively.

All right; thank you.

I would like to also go to the question that Senator Sarbanes also

just talked about with regard to whether the Gramm-Leach-Bliley

provisions for the insurance marketplace under the NARAB subtitle were adequate. Mr. Tubertini, you indicated that you felt significant progress has been made. We still have not got all the

States into a uniform system, but could you elaborate a little bit

about your position that we do not need to go further with a uniform national standard at this point?

Mr. TUBERTINI. Senator, we believe that only Congress has the

ability to set standards that the States will then follow. We have

to admit, certainly, that the National Association of Insurance

Commissioners has been trying to create for many years a set of

standards for total reciprocity or uniformity in licensing and have

not been able to do it. And when you are dealing with 50 different

legislatures, I do not know if you would ever be able to do it.

However, if the next step is taken in creating a set of standards

that then every State would adopt, continue to be regulated by the

commissioners in each local jurisdiction, then, we would be able to

achieve the objectives that we are trying to achieve and, frankly,

be able to achieve most of the objectives that are outlined in some

of the optional Federal chartering proposals.

Senator CRAPO. You are not opposed to a national standard as

much as the optional Federal charter.

24

Mr. TUBERTINI. That is correct. We believe that creating a new

Federal regulatory system would be the equivalent of throwing the

baby out with the bath water. We just need to make the necessary

changes to reach the objectives that we all desire.

Senator CRAPO. And Mr. Bartlett, you have a different position

on that.

Mr. BARTLETT. Mr. Chairman, I have to tell you that among my

100 companies, of those that are involved in the insurance marketplace, which is most, they believe that the current system is an absolutely chaotic disaster that is a disaster for their customers, and

they see the higher costs, the higher confusion, and the inability

of their customers to buy products as they will in a number of

areas.

First, insurance is a financial product. It is a financial product

that is similar to other kinds of financial products. Sometimes, the

difference between an insurance and something that is not an insurance product is almost identical: Annuities and mutual funds,

for example. And yet, an annuity product has to be rolled out and

approved in 50 different States with 50 different commissioners, 50

different sets of rules, sometimes as long as 2, 3, or 4 years to get

approval, whereas a mutual fund is essentially at the national

level.

Second, many of the companies offer the products on an interstate basis. They can better serve their customers interstate, as

many do now, but they have to do it one State at a time. And many

of the customers are buying insurance products on an interstate

basis, both commercial and consumers, and are denied the right to

do so.

And then last is on a global competitive basis, Mr. Chairman. We

hear from our Europeans colleagues particularly that this is the

number one trade barrier that the United States puts up that denies their entry into the marketplace. So we think it is a disaster,

and it can be solved by a similar system to the dual banking system that would be an optional Federal charter or a dual insurance

charter system.

Senator CRAPO. Mr. Chairman, I see that I have stirred a little

thing up here. There are several more who want to respond. May

I have time to let them do so?

Chairman SHELBY. Okay; yes, sir.

Senator CRAPO. Mr. McLaughlin.

Mr. MCLAUGHLIN. Senator, I will be brief. I just want to point

out that there is a huge market. The State of California is not a

part of the NARAB process, and that is a market that just is not

available; NARAB is not working. That is one example, because

that consists of a huge potential market for the companies that

want to market insurance products interstate.

Senator CRAPO. Mr. Plunkett.

Mr. PLUNKETT. Senator, you have already heard our opinion on

the national charter approach. Let me turn your attention to something else regarding national uniformity: consumer groups are not

opposed to uniform standards at the State level, with Congress

pushing the States to try to come up with more uniformity. If inefficiencies exist, consumers pay for that.

25

What we are concerned about and oppose are weak uniform

standards, and let me just flag something for the entire Committee.

Over on the House side, we have seen a proposal circulating for socalled ‘‘Federal tools,’’ that takes the ‘‘pragmatic middle ground approach’’ of actually preempting all States, and there are a number

of them, that regulate insurance rates.

Now, that is not an appropriate role for the Federal Government

to be playing. Some of you would oppose rate regulation; some of

you would support it. Let us put that aside and say that after over

100 years of State insurance regulation, Congress should not be

preempting, blocking individual States from the approach they

have chosen on regulating insurance rates.

Senator CRAPO. Mr. Taylor.

Mr. TAYLOR. Senator Crapo, thank you.

A related issue but something that was very much discussed in

the original passage of GLBA was trying to get a handle on the picture of where exactly these insurance companies are making their

policies and products available. You have heard the assertion from

Mr. Bartlett and others that it is very fluid; that it happens across

State lines and so on. And we have always had the concern

through our experience that these policies, whether it is various

forms of insurance; whether it is for commercial or personal that

it disproportionately is not offered in the same fair and equitable

manner to working class Americans as well as people of color.

And so, we asked that GLBA include a provision that at least allows us to get a handle on the picture, what is happening out

there, because it does affect the ability of people to own homes,

people to start or expand businesses. Unfortunately, we were unsuccessful on that. Perhaps you would reconsider it this time.

There are some States, the Great State of Massachusetts; I have

a bias, obviously, if you cannot tell from my accent, that they have

this coverage. The insurance companies have to report; they have

learned to live with it, and it has been very helpful. They also, by

the way, have CRA coverage for credit unions, another good thing

happening in that State.

And it would be great if this Committee would really consider,

even if it was only temporarily, trying to get a handle on what is

the impact and the application of these policies and whether or not

it is occurring cross the board in a fair and equitable marketing

manner.

Senator CRAPO. Thank you, and I thank the Chairman for indulging me on that.

Chairman SHELBY. Thank you, Senator Crapo.

Senator Bennett.

STATEMENT OF SENATOR ROBERT F. BENNETT

Senator BENNETT. Thank you, Mr. Chairman.

Following a little Senator Crapo’s methodology, trying to determine where there is some degree of unanimity here, I have heard

two things asked for, and I did not hear any objections, and so,

now, we will give people some of the opportunity to object if, in

fact, they do.

First, there should be a national standard on privacy. Several

said that there should be. I did not hear anybody say that there

26

should not be. Could we get a response to that? Does everybody

agree that there should be a national standard on privacy?

Mr. JUDGE. Absolutely.

Mr. DOHERTY. Absolutely.

Mr. PLUNKETT. Senator, we have a different take.

Senator BENNETT. Somehow, I expected you might.

[Laughter.]

Mr. PLUNKETT. It is similar to our rather pragmatic approach on

insurance. I mean, there are advantages and disadvantages to national regulation versus State regulation of insurance. Same on privacy. What we are concerned about is a weak national privacy

standard, and that is what we have now. And the fact is that Section 507 of the Gramm-Leach-Bliley Act permits the States to fill

in the gaps in the national privacy standard.

In response, what we are seeing are some proposals to eliminate

that; let us eliminate the ability of the States to fill in the gaps,

to improve what is a very weak national standard and then let the

existing standard or something similar that is fairly weak stand.

And that is the approach that we would oppose.

Senator BENNETT. Thank you.

Next, I heard several people say the sunset should disappear.

Some are nodding yes. Now, once again, is there anybody who

thinks that that is not good policy?

If we were to eliminate the sunset, that would be relatively noncontroversial, and if I listen to you, a beneficial thing that would

happen.

Mr. JUDGE. We would support that, yes.

Senator BENNETT. Okay; we are getting some degree of unanimity here.

Mr. Plunkett, you talked about the few consumers who have

opted out, and you blamed the complexity of opting out for that fact

and said if it were much easier to opt out, a whole lot more would.

Do you have any evidence or empirical studies that indicate that

the reason people are not opting out is because the Government

created barriers? Or maybe the reason that they are not opting out

is that they do not want out?

Mr. PLUNKETT. We have a readability study done by the Privacy

Rights Clearing Center that determined that the reading level in

the privacy notices was close to graduate level as opposed to what

is normally determined to be the appropriate reading level for

these kinds of things which is at about age 12.

Senator BENNETT. You are singing Ms. Jorde’s song a little bit,

in that she is complaining that the reading level for some of the

things that she has to tell her customers is absolutely impenetrable. And of course, that goes with Federal service. I think that

kind of is part of the entrance exam when you become a bureaucrat

is that you have to be able to speak unintelligibly.

I get in trouble with that, but I made the point in here that one

of the best ways to hide something is to completely surround it

with impenetrable verbiage, and then, no one understands what

you are talking about. So, I will grant you that, but that is not my

question. Do you have any studies or empirical evidence that would

suggest that if the ability to go through the process were much

27

clearer that a much higher percentage of consumers would, in fact,

opt out?

Mr. PLUNKETT. We do not have a study, Senator. What we do

have is a great deal of anecdotal evidence from talking to consumers, from talking to bankers, frankly, many of whom are quite

critical of the privacy notices, from talking to others who all are

consistent in saying two things: First, if you go the opt out approach versus the opt in approach, by definition, you will have

fewer people choosing to protect their privacy, including some, we

can agree on some, who would like to. Maybe it is not at the top

of their priority list, but they would like to.

You compound that problem with very difficult to read privacy

notices, and you have even fewer. The estimates I have heard overall of people opting out are 5 to 10 percent. That is extremely low,

and we know from surveys of the American public on privacy

issues that it is a popular issue. We would assume that many more

people would opt out or choose privacy if there were an opt in approach, if the notices were easier to read, and if they had the opt

in approach available to them.

Senator BENNETT. We have had the opt out/opt in debate in this

Committee for a number of years, and I imagine we will have for

a number more.

Ms. Jorde, you want to comment.

Ms. JORDE. I was just going to mention, though, that I think it

would be interesting to look at the evidence as to how many banks

or financial institutions are actually sharing any financial information. I think if we were able to eliminate the disclosure requirements for banks that are not sharing, those that are would be read,

and now, we all know that we are getting privacy notices annually

from our banks or insurance companies or insurance agencies, and

it is just a statement stuffer, and it gets thrown out. It is very long,

and the customer does not read it.

If the financial institution is not sharing information, then, we

do not believe that they should need to send that privacy notice.

If the customer knows that if they get a notice, that there is something to look at, we think it would be far more effective and efficient.

Senator BENNETT. Well, it is said, the old adage is that the best

place to hide a leaf is on the floor of the forest in plain sight, surrounded by all the other leaves. And that is the phenomenon that

you are seeing here.

Thank you, Mr. Chairman.

Chairman SHELBY. Senator Carper.

STATEMENT OF SENATOR THOMAS R. CARPER

Senator CARPER. What was that? The best place to hide a leaf?

On the floor of the forest?

Senator BENNETT. The best place to hide a leaf is on the floor of

the forest, surrounded by all the other leaves.

Senator CARPER. That is great. I pick up some new material

here. I always like to say if a tree falls in the forest, and there is

no one there to hear it, is there really——

Senator BENNETT. I am not going there.

[Laughter.]

28

Senator CARPER. Now, I can switch off. I can use yours, and I

will use mine some of the time.

Some familiar faces out here, Mr. Chairman. In fact, I think one

fellow maybe you and I once served with on the House Banking

Committee a fellow from down around Texas. It is nice to see Steve

Bartlett, who had the best staff, I think, of any Committee in that

House, and one of the great staff people there was Steve Judge.

Steve, it is nice of you to be here today.

I want to go back and just pick up on a point that—is it Jorde?

Ms. Jorde?

Ms. JORDE. Jorde.

Senator CARPER. Jorde? Ms. Jorde was making and try to tie it

in with what Mr. Plunkett was saying. Go back and make your

point for us again about who should be required to send out the

notices. Just go back and make that. I think that is a point worth

revisiting. I do not want this to be a leaf in the forest that nobody

notices.

Ms. JORDE. We believe that financial institutions that are not

sharing financial information on their customers, have never and

do not intend to, should not have to send a notice to their customer

that they do not share their financial information. I have been a

banker for 25 years; we have never shared financial information.

Suddenly my customers are getting notices annually that we do not

share customer information. And they are confused by it, because

suddenly, they think we are sharing information, or maybe we did.

So if you take some of those leaves out of the forest, the ones

that are left are really going to be focused upon by those customers. They may be able to make better-informed decisions because of something that they have not just been getting a blizzard

full of paperwork throughout the year.

Mr. PLUNKETT. Senator, could I offer some thoughts on that?

Senator CARPER. Well, I was going to ask you to, if you would,

so go right ahead, please.

Mr. PLUNKETT. I have no doubt that the vast majority of Ms.

Jorde’s members are honest, and if they say they are not sharing

information, they are not sharing information. Let me point out the

obvious, though, that of course, the consumer groups are most concerned about people who are sharing information and that their

consumers know about that and have an opportunity to prohibit

that, stop it.

But, of course, the obvious issue is enforcement. And it strikes

me as an enforcement nightmare. The FTC and State enforcement

authorities have dealt with a number of cases where companies

have said that they are not sharing information, and then, they do.

So it strikes me as a very difficult thing to assure, given that we

have some track record of some companies promising no sharing

and then doing it.

Senator CARPER. Let me just ask the panel: Would there be some

way of, if a company was asserting that they are not sharing information, a financial services company, and then, they turned around

and did that, would there be some way to pick that up in a regulatory check?

Mr. MCLAUGHLIN. Obviously, nobody on this panel has—with the

exception of the two bankers down at the end—have ever underVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00032 Fmt 6633 Sfmt 6633 26700.TXT SBANK4 PsN: SBANK4
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gone a bank regulatory agency compliance exam, where they check

for everything and anything. I think the bankers on our panel

would attest to that. The examiners would pick it up, believe me,

and they would then take enforcement action. Bank compliance

exams are incredibly thorough, and incredibly detailed.

Ms. JORDE. My bank is scheduled for an FDIC compliance exam

at the end of August, and just the preexamination process—and

again, I am a $37 million bank in North Dakota—the preexamination process consists of 17 typewritten pages of information that

is requested that we send to the examiners in advance of them

coming in to do the bank examination. So it is a highly regulated

process, and the disclosure requirements that we have continued to

have burdened upon us in the last few years are just overwhelming, and I believe it is truly driving consolidation of the community banking industry.

Senator CARPER. How many pages?

Ms. JORDE. Seventeen.

Senator CARPER. Typed?

Ms. JORDE. Yes, typed.

Senator CARPER. Small type?

[Laughter.]

Senator CARPER. Ten point?

Ms. JORDE. About six point.

[Laughter.]

Senator CARPER. That is pretty small. Pretty small.

Go ahead.

Mr. DOHERTY. I would agree with those comments. I think that

with what has been happening in this area with the compliance,

I think that the regulators would find, if someone made the statement that they were not sharing, that they would find it if you

were sharing.

And I agree with my colleague down there about the examinations. They are very thorough. I have gone through them for 38

years, so I know what they are like. They were not all compliance

all the time, but they are getting more and more difficult as each

day goes by.

Senator CARPER. Okay; anybody else here who has not had a

chance to say anything?

Mr. Bartlett.

Mr. BARTLETT. Senator, I would just suggest that Ms. Jorde’s solution is a good step, but a better step is to solve the underlying

problem, and that would be to require that the institution tell their

customers what their policies are in this information sharing when

a new account is opened; to provide it in a short form that is authorized by the regulators and to give a safe harbor so that companies can depend upon that form as being reliable.

That solves the problem across the board as opposed to trying to

pick and choose as to who provides notices and who does not.

Senator CARPER. I think Mr. Taylor had his hand up and then

Mr. McLaughlin.

Mr. TAYLOR. Senator Carper——

Senator CARPER. Mr. Taylor, where are you from?

Mr. TAYLOR. Boston, Massachusetts.

Senator CARPER. Would you say my name one more time?

30

Mr. TAYLOR. Carper.

Senator CARPER. Thank you.

[Laughter.]

It rhymes with pucker. I have been called a lot worse.

[Laughter.]

Mr. TAYLOR. I think I did sit with a panel of lenders very recently on the House side, and they talked a lot about the regulatory burden, and one after one mentioned the increased burden

associated with the USA PATRIOT Act and the Bank Secrecy Act,

and I have also made a recommendation to Mr. Bennett as well as

the rest of the panel which I also heard unanimity of support that

the sunshine regulation, not the sunset but the sunshine regulation

that requires these banks to issue all these reports—and I am sure

Ms. Jorde has relationships with community groups in her community that she works with, small, but maybe there are not a lot of

community organizations.

But for most banks and lenders, they have to issue these reports

that end up in some vault somewhere gathering dust and piling up

and are of no apparent benefit to anybody. And so, I have made

a recommendation to you to help my brothers and sisters in the

banking industry reduce their regulatory burden. One is to eliminate this sunshine reporting requirement but also look at just how

effective and how useful the Bank Secrecy and the Bank Privacy

Acts have been.

Senator CARPER. All right; thank you.

Mr. MCLAUGHLIN. I just wanted to add to Mr. Bartlett’s comment. It seems to me that it would be sensible and also environmentally sensitive to not require continued mailings, especially the

privacy notices, especially when there has been no change in policy

from year to year or the bank does not share information. That is

just plain overkill.

Senator CARPER. All right.

Mr. Judge, last word.

Mr. JUDGE. We think it would make a lot of sense to make those

privacy notices understandable, readable; it would save money, reduce confusion, and it is something that should be done.

Senator CARPER. It is a good benediction. Thank you.

Chairman SHELBY. Senator Sununu.

STATEMENT OF SENATOR JOHN E. SUNUNU

Senator SUNUNU. Thank you, Mr. Chairman.

I would like to go back to some of the questions and responses

that were offered by Senator Crapo, and if I transcribed your responses correctly, Mr. Tubertini, you said that your association was

against any Federal regulation of insurance but for enacting national standards.

Mr. Plunkett, you said you are not against tough standards, but

you are against an optional charter that would establish a Federal

regulator to establish national standards.

And Mr. Bartlett, you said that you are for a Federal charter

that would address a lot of the inefficiencies in the insurance system that you talked about in your testimony and your responses.

My question for the panel is: Do any of you believe that these

problems or concerns with the current affairs of insurance regulaVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00034 Fmt 6633 Sfmt 6633 26700.TXT SBANK4 PsN: SBANK4
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tion could be dealt with without some Federal action or legislation?

Who would like to begin?

Mr. BARTLETT. Absolutely not.

Senator SUNUNU. No?

Mr. BARTLETT. Could not be done.

Mr. MCLAUGHLIN. If any of us can picture the day when 50 different State regulators will be able to persuade 50 different State

legislatures to grant the authority and then reach an agreement as

to what that authority is, maybe. I do not believe that that is going

to happen in my lifetime.

Mr. PLUNKETT. I will just add that if you define the problem as

merely a lack of uniformity, then, the answer would probably be

no. You could not do that without the Federal Government pushing

the States a little.

We define the problem differently. We see a number of States

that have gotten very weak in providing consumer protections to

insurance consumers. So we feel like part of the discussion here

has to be the quality of protection that is offered, not just the uniformity.

Senator SUNUNU. And to that point, I think there was some discussion of international competition and other issues that I think

moved beyond the issue of just uniformity, but your point about

quality is very well-taken.

Anyone else? Mr. Doherty.

Mr. DOHERTY. In one of my other lives, in one of the other hats

that I wear, I am a board member of an insurance company, and

we are a New York State-chartered insurance company, and we

want to go nationwide. And we have gone through the process for

the last 3 years of getting the approvals from all 48—the lower

States, 48 States, and it took us 4 years to get 40 States, and we

are still working on the other 8.

So it does take a very long time to get it done. And then, when

you add a language component into it to have a Spanish component, that makes it even more difficult.

Mr. TUBERTINI. Senator, to put a positive spin on it, I think that

the enactment of Federal regulation that sets a set of standards,

Federal tools, if you will, will accomplish the objectives that we

talked about here today.

Senator SUNUNU. With regard to that proposal that you and the

independent agents have advocated, when you talk about national

standards, you are suggesting standards that would preempt

States in those areas, correct?

Mr. BARTLETT. That is correct.

Senator SUNUNU. Now, it would seem to me that an argument

could be made that an optional charter system is more in keeping

with the idea of choice and not completely preempting States, because it would leave a State regulatory system intact. Why do you

see that as an inferior alternative to completely preempting States

in a number of areas?

Mr. TUBERTINI. Because, Senator, I would have to disagree that

it would not leave the State regulatory system intact. You would

have a confusing set of standards for most consumers, and in different areas of the insurance industry, what is called, what has

been referred to as an optional Federal charter is not optional.

32

From my position, for example, as an independent agent, the optional Federal charter proposals are not optional at all for me.

I would have to be licensed to do business on a Federal level with

those who choose to be federally licensed, I would have to be licensed on a State level with those who choose to be State-regulated

and add an entire level of bureaucracy and licensing problems to

my part of the industry.

Senator SUNUNU. Well, let us talk more about that. One area

where there was an attempt to establish uniform standards is in

the area of licensing with the NARAB provisions of Gramm-LeachBliley. Have they been successful? Has that approach been successful? And I would certainly like to hear from Mr. McLaughlin on

this as well.

Mr. TUBERTINI. Are you asking me next?

Senator SUNUNU. Yes.

Mr. TUBERTINI. Yes, it has been successful in that a limit was

set in the number of States, the majority of States, which I believe

was interpreted at 29.

Senator SUNUNU. How many States are yet to adopt the licensing

provisions of Gramm-Leach-Bliley?

Mr. TUBERTINI. The last I was told, Senator, that there were, I

think, 47 States that had adopted regulatory reform, and 40 of

those States have been certified by the NAIC as compliant with the

NARAB provisions.

Senator SUNUNU. Mr. McLaughlin.

Mr. MCLAUGHLIN. I think that number is closer to 40, and obviously, that is after 5 years, not the 3-year goal set in GrammLeach-Bliley. And there is a huge State, California, which is not

part of it. And if you are an insurance company that wants to market a product, that is a big market to be out of.

Senator SUNUNU. Mr. Bartlett, we have not seen a great number

of financial service holding companies form since Gramm-LeachBliley was enacted. What are the key reasons for the slow pace of

creating a truly integrated marketplace?

Mr. BARTLETT. The key reason in my opinion, the principal reason, has been the financial activities that were sunsetted, so that

a company that is not a bank holding company has a set of activities that they can participate in, but if they become a financial

holding company, then, those activities are sunsetted, and they

cannot continue them after 5 years.

So they give up a whole set of activities, and it is just a glaring

reason why a company would not choose to do that. I think that

has been the principal reason. There have been others, mostly marketplace-driven; just companies make their choices as to what kind

of charter that they want, but I think that is the principal reason.

Senator SUNUNU. Yes, Ms. Jorde.

Ms. JORDE. I would just say that from the standpoint of the community banks, they were really able to do a lot of the activities that

were authorized under Gramm-Leach-Bliley. We have been selling

insurance in our bank since 1974. We have been selling investments through a third-party brokerage since 1987. So we were already able to do that.

What we got out of Gramm-Leach-Bliley, though, was tremendous disclosure regulations that had not been there in the past.

33

And so now, as I alluded in my testimony, for example, with insurance, if a customer calls us on the phone, and they have a question

about auto insurance, the first thing we have to do is say, well, I

am obligated to inform you that this is not a deposit product. It is

not insured by the FDIC. It may go down in value.

And then, we have to mail the disclosure to them, ask them to

sign it and send it back to us so we hold it in their file, and they

may not even buy the insurance from us. So the protections that

were put in place to, you know, prevent some self-dealing and

cross-dealing really have just resulted in an exorbitant amount of

disclosure requirements from banks that have very successfully

and safely been providing these products all along.

Mr. PLUNKETT. Senator, I understand that this is a burden, but

the question is whether it is a necessary burden, this kind of disclosure. If you recall, leading up to Gramm-Leach-Bliley, we had a situation, for example, with NationsBank and NationsSecurities. And

NationsSecurities was peddling a very, very risky derivative product to NationsBank customers. And the majority of them had

bought very, as you know, conservative certificates of deposit.

So these were not at all the kind of consumers that should have

been approached on a derivative product. Some of them bought

them; some of them lost portions of their life savings. Those were

the kinds of problems that led to these types of disclosures, and the

question is whether they are necessary, and we think telling somebody that it is not a depository product is a necessary disclosure.

Senator SUNUNU. Ms. Jorde, do you want to respond to that specific example?

Ms. JORDE. I think we have to give our customers more credit.

They understand that car insurance is not a deposit. I mean, they

are smarter than that, you know. And so, when we tell them that

it may go down in value, they do not understand that, and we have

to say, well, you know, they messed up a little bit in the legislation,

and they did not really define what insurance is.

True, if it was an annuity product, that might be an adequate

disclosure. Our insurance agency does not even sell annuities. We

only sell property and casualty and life insurance and that thing.

And we have 1,500 insurance customers. So we just have created

this blizzard of paperwork and killed a lot of trees in the process.

Senator SUNUNU. And a lot of leaves.

Ms. JORDE. In the forest.

Senator SUNUNU. Thank you, Mr. Chairman.

Chairman SHELBY. Senator Sarbanes.

Senator SARBANES. I am tempted to ask the panel the question

whether you believe in the Federal system of Government.

[Laughter.]

I mean, is there indeed a role for the States? And I have to be

very candid with you: My perception is that those who are pushing

for the States not to have a role are assuming that the Federal

substantive standard will be weak and therefore accommodate

their interests.

And of course, that may or may not be the case at a particular

time, but I dare say I have the suspicion that if it were perceived

that here in the Congress, if we went to a uniform Federal standard, it would be a very high and rigorous standard, that some at

34

the table who now seem to favor that would say ‘‘now, wait a second: We have a Federal system of Government in this country, and

there is a role for the States to play.’’ And I just throw that out.

And I want to follow up on Senator Bennett’s question: When you

all accede to removing the sunset, what was it you understood you

were acceding to? Or let me put the question this way: How many

at the table do not believe there should be a separation between

banking and commerce and that financial institutions should be

free, in effect, to engage in commerce and commercial institutions

to engage in banking?

And we have had a line, generally speaking. We have tried to

hold that line. I am sure the Federal Reserve would disagree with

this, because they have been quite strong on this point, that we

should maintain the separation between banking and commerce.

And we have this small exception, this grandfathering, which there

is an constantly effort to erode it.

But how many at the table think we ought discard the old separation between banking and commerce? Mr. Bartlett.

Mr. BARTLETT. Senator, I believe that the marketplace should be

regulated for safety and soundness and for consumer protection,

but product allocation should be set by the marketplace, not by either State or Federal Governments.

Senator SARBANES. So you have no problem if a major commercial outfit, Wal-Mart, to take an example, establishes a Wal-Mart

Bank; is that right?

Mr. BARTLETT. Mr. Chairman, virtually every supermarket in

America has a bank within the supermarket.

Senator SARBANES. Yes, but it is not their bank.

What about you, Mr. Doherty? What do you think about that?

Mr. DOHERTY. I think that the savings and loan and the savings

bank industry has had a long history with commercial owners. It

has worked. The OTS has been working with us over a long period

of time, and we have not had any safety and soundness issues on

this issue.

Back in the 1980’s and 1990’s, when the industry needed equity,

they needed funding, the commercial firms came in and helped. So,

I think it is a positive.

Senator SARBANES. Ms. Jorde.

Ms. JORDE. I guess I do not agree at all. I think that there was

a reason that the unitary thrift loophole was closed in GrammLeach-Bliley. There was a reason that the nonbank bank loophole

was closed back in 1987. And I think that it makes a lot of sense

to close the loophole right now on ILC’s. And the world has

changed.

Senator SARBANES. The ILC’s? I understand that Merrill Lynch

has an ILC with $60 billion in assets in it, right?

Ms. JORDE. Yes, that is pretty big.

Senator SARBANES. And they sweep it in, and they get Federal

deposit insurance coverage, if I am not mistaken; is that correct?

Ms. JORDE. That is correct.

Senator SARBANES. I also understand that since the insurance

fund does not need to be replenished, since it was built up by previous premium payments by other financial institutions that they

do not pay anything into the deposit insurance fund, even though

35

they are sweeping in tens and tens of billions of dollars; is that correct?

Ms. JORDE. That is exactly correct.

Senator SARBANES. That does not sound very fair to me to the

other financial institutions. It seems to me something of a free

rider situation.

Ms. JORDE. That is a very good term.

Senator SARBANES. All right.

Mr. PLUNKETT. Senator, on your commerce and——

Senator SARBANES. I will come across. I am coming across, yes.

[Laughter.]

No problem. Just bide your time.

[Laughter.]

Mr. Plunkett.

Ms. JORDE. Can I just follow up just to——

Senator SARBANES. I am sorry.

Ms. JORDE. —just to finish?

You know, Wal-Mart, and I hate to pick on poor Wal-Mart, but,

you know——

[Laughter.]

Ms. JORDE. —they are kind of infamous for controlling the supplier. And when Wal-Mart has a bank, or if they had a bank, I

think that it would be pretty reasonable to assume that they would

control the bank. And when you have a commercial firm like WalMart, the largest retailer company in the world, controlling a financial institution, you deal with a lot of issues regarding impartial allocation of credit. If the local hardware store wants to go to the

Wal-Mart bank to borrow money, why would Wal-Mart lend them

a loan to expand their business when they would just as soon that

their customers went into the department 27 to purchase hardware?

So the world has changed, and I think now, more than ever, it

makes sense to look at ILC’s and how they have evolved and how

they have grown to the $60 billion institutions and how they have

exploited the deposit insurance fund. And again, I really urge you

to look at passing deposit insurance reform which will begin to address the free rider issues.

Senator SARBANES. Mr. Plunkett.

Mr. PLUNKETT. Senator, we strongly support maintaining policies

separating commerce and banking. Let me just give you five names

to help you figure out why: Sunbeam, Enron, WorldCom, Tyco, and

Adelphia.

Chairman SHELBY. Say it slowly. We know who they are, but I

want people to hear this.

Mr. PLUNKETT. Sunbeam, Enron, WorldCom, Tyco, and Adelphia.

If those companies had owned banks, not only would employees, investors, and the economy have suffered but taxpayers as well. On

the ILC situation, not only have we had an exponential growth of

ILC’s, and we are starting to see them become a shadow banking

system; but we also have the handful of States that are chartering

these ILC’s going out and saying hey, we do not regulate you all

in the way that the Federal Reserve does under the Federal Bank

Holding Company Act. We do not do it as well, essentially. Come

to us.

36

That is a very tricky situation, and I think it is incumbent on

Congress to shut that loophole tight just as they did on the unitary

thrift loophole.

Senator SARBANES. Mr. Tubertini.

Mr. TUBERTINI. Well, Senator, since I am here representing the

independent agents and brokers——

Senator SARBANES. You are going to take a pass, right?

Mr. TUBERTINI. Well, as they would say in my area of the country and Senator Shelby’s, we do not have a dog in that hunt, so

we will pass.

Chairman SHELBY. Not today.

Mr. TUBERTINI. Not today.

Senator SARBANES. Mr. Bartlett.

Mr. BARTLETT. We have a bunch of dogs in that hunt. It is a freefire zone, so I am not sure where to start.

First of all, we believe that the customers should make the decisions, and that is whether it is Wal-Mart or Merrill Lynch or others, the customers are the ones that ask for the products and the

services. The hardware store has a gazillion outlets for their commercial loans of all kinds of financial institutions, and that hardware store should make the decision on where they want to get

their loans.

As far as Merrill Lynch, Merrill Lynch is regulated for safety and

soundness. Their Merrill Lynch ILC is regulated for safety and

soundness by the FDIC, as it should be, and Merrill Lynch would

pay whatever deposit insurance premiums were required of them

by the FDIC. And as far as safety and soundness, safety and

soundness has been long-proven.

Senator SARBANES. The FDIC does not exercise holding company

supervision the way the Federal Reserve does, and that is quite a

difference. So, I do not think we should just gloss over that.

Mr. PLUNKETT. Or look at capital standards for holding companies.

Senator SARBANES. Yes.

Mr. McLaughlin.

Mr. MCLAUGHLIN. Senator, the American Bankers Association

continues to support the separation of commerce and banking, but

what we are seeing is that the line between banking and finance

is becoming blurred, witness the Gramm-Leach-Bliley Act itself.

And as that happens, it becomes a little bit more difficult to figure

out exactly where that line should be, but there are some obvious

commerce activities that we believe should be kept separate from

banking.

Senator SARBANES. Mr. Taylor.

Mr. TAYLOR. NCRC continues to support a strong firewall between commerce and banking.

Senator SARBANES. Mr. Judge.

Mr. JUDGE. We would support removal of the cap, and we do support the notion of increased synergy between banking and commerce. We think that the ILC’s have proven to be a valuable tool

for consumers as well as for companies. They have regulation from

the FDIC, the States, and the State banking commissioner, and we

think that they provide an important opportunity for investors and

for companies.

37

Senator SARBANES. So when you say you want to remove the

sunset, it would not be just to permit the continuation of the 15

percent commercial basket; it would be to eliminate that limitation

altogether; is that correct?

Mr. JUDGE. We would first support removal of the sunset, but we

would like to see removal of the entire—make it open for all and

remove the 15 percent as well.

Senator SARBANES. Yes, but when you say remove the sunset,

you encompass within it the removal of the 15 percent limitation?

Mr. JUDGE. That is the second step, yes.

Senator SARBANES. Okay; thank you, Mr. Chairman.

Chairman SHELBY. Mr. Bartlett, would you tell us what companies would have to do in order to comply with the divestiture requirements in practical terms?

Mr. BARTLETT. The divestiture requirement, as a practical matter, means that a company would have to stop providing products

or services to their customers the customers are trying to buy once

the sunset comes into place. So if a company, for example, owns a

financial adviser and also a travel agency, they would have to divest of one or the other.

And yet, their customers may well want to engage in both. There

are all kinds of other examples, but they would have to stop selling

products to their customers that their customers want to buy.

Senator SARBANES. Do you encompass, as Mr. Judge does, in the

elimination of the sunset the elimination of the 15 percent limitation?

Mr. BARTLETT. It is a two-step process. The elimination of the

sunset is what is urgent to make the system work. On a theoretical

basis, a long-term basis, I think eliminating the 15 percent is also

called for. They are two different decisions.

Chairman SHELBY. Mr. Bartlett, you represent mostly the 100

largest financial institutions. And what you are saying is that you

are for the blending of commerce and banking? In other words, if

Wal-Mart wanted to start them a bank, and you can imagine how

large they would be in just a little while or Target or any of these

companies, Sears Roebuck, that is okay?

Mr. BARTLETT. We think that the ownership, the ownership of a

financial services company is not the financial services company.

The regulation for safety and soundness should be at the level of

financial services, not with the ownership. And so, if a company,

a Wal-Mart or a supermarket, owns another company that is financial services, the financial services should be regulated.

Chairman SHELBY. So if Wal-Mart was in the business, Kroger

would be in the banking business, all of them would be in the

banking business.

Mr. BARTLETT. Yes, sir, and those products are being offered

today in Krogers and supermarkets all over the country because

the customers want them, and they can be regulated for safety and

soundness.

Chairman SHELBY. Well, that would change banking as we know

it big time in this country, though, would it not, Ms. Jorde?

Ms. JORDE. It certainly would. I mean, we have an ATM in the

local convenience store in Cando, North Dakota also, but the convenience store does not own the bank. And there is a difference beVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00041 Fmt 6633 Sfmt 6633 26700.TXT SBANK4 PsN: SBANK4
38

tween providing financial products in a commercial entity and actually owning it. And I think if you look to the experience of Japan,

where there has been cross-ownership of banking companies and

commercial firms, the experience has not been good.

Chairman SHELBY. Right.

Mr. PLUNKETT. Senator, could I point out that——

Chairman SHELBY. Go ahead, Mr. Plunkett.

Mr. PLUNKETT. Thank you.

I would like to point out here that the concern is not just commerce and banking but the ILC loophole being used by financial

companies like those that own ILC’s now, Merrill Lynch, for example, American Express, for example, as a way around the bank

holding company regulatory structure, because they do not face the

kind of bank holding company regulation through ownership of an

ILC that they would if they exercised their right under GrammLeach-Bliley to buy a bank. That is the issue as well.

And then, you get deposits drawn to this new system because

they do not have to go through the regulatory structure under the

Bank Holding Company Act, and then, it becomes a very large

shadow system.

Mr. JUDGE. Mr. Chairman, if I could: We cannot leave the impression that this is an unregulated financial institution. The ILC’s

existed prior to Gramm-Leach-Bliley. Gramm-Leach-Bliley allowed

them to continue. They are regulated by the State banking commissioner. They are looked at in terms of the relationship with the

other company by the FDIC. And they are subject to, if they are

part of a thrift charter, or if they are part of a securities firm, they

are subject to either OTS or CSE regulation.

It is not an unregulated entity. They pay deposit insurance at

the same rate that everybody else does for the marginal increase

in the deposits.

Chairman SHELBY. That is why we hold these hearings. We are

dealing with very complex issues with great ramifications to our

economy, to everybody in America. That is why we intend to continue to hold these oversight hearings and probably learn more

about it.

Senator Sarbanes, did you have any other questions?

Senator SARBANES. I cannot let Mr. Judge’s final comment go—

just to stand. Under the Bank Holding Company Act, from which

the ILC’s are exempt, if they were under the Act, the Federal Reserve would conduct examinations of the safety and soundness, not

just of banks but of the parent or holding company of these banks.

And the Bank Holding Company Act grants the Federal Reserve

the power to place capital requirements and impose sanctions on

the holding companies.

The FDIC does not have those powers. So this is a very marked

difference between the nature of the regulatory regime which I

think has important implications for safety and soundness of the

banking system.

Mr. JUDGE. The regulatory system is different. I mean, the bank

holding company——

Senator SARBANES. No doubt about it.

Mr. JUDGE. —regulatory model is different than the FDIC.

39

That does not mean that it is not as effective or does not protect

the safety and soundness of the financial system as well in the

FDIC——

Senator SARBANES. I mean, we can argue that. I feel very strongly that the authorities under the Bank Holding Company Act exercised by the Federal Reserve do provide greater protection for safety and soundness than what exists with respect to these institutions that are not subjected to those Bank Holding Company authorities.

Mr. PLUNKETT. To protect taxpayers and deposits, you have to

look at the holding company. You cannot just look at the institution

itself. That is the only sure way to protect the depository system

and taxpayers.

Senator SARBANES. In fact, even Chairman Powell, in testimony

before this Committee—I said: Do you have regular annual examinations of the holding companies?

He said: No, sir.

I said: The process you follow does not begin to be the equivalent

in terms of reviewing banking practices to the one that is followed

by the Federal Reserve; is that correct?

Mr. POWELL. That is correct.

Thank you, Mr. Chairman.

Chairman SHELBY. I thank all of you. This has been an interesting panel, and as I said, these are very complex issues.

Senator SARBANES. Could I just say to Ms. Jorde, you really gave

meaning, I thought, today, in your testimony to Cando in North

Dakota. Thank you very much, all of you for coming.

Chairman SHELBY. Thank you. The hearing is adjourned.

[Whereupon, at 12:01 p.m., the hearing was adjourned.]

[Prepared statements, response to written questions, and additional material supplied for the record follow:]

40

PREPARED STATEMENT OF HARRY P. DOHERTY

VICE CHAIRMAN OF THE BOARD

INDEPENDENCE COMMUNITY BANK CORP.

FIRST VICE CHAIRMAN, BOARD OF DIRECTORS

AMERICA’S COMMUNITY BANKERS

JULY 12, 2004

Introduction

Chairman Shelby, Ranking Member Sarbanes, and Members of the Committee, I

am Harry P. Doherty, Vice Chairman of the Board of Directors of Independence

Community Bank Corp of Brooklyn, New York. Independence Community Bank is

a New York State-chartered savings bank, operating within an OTS-regulated holding company. Independence Community Bank has more than $17 billion in assets,

121 branches and 2,500 employees.

I am here this morning representing America’s Community Bankers. I am the

First Vice Chairman of ACB’s Board of Directors and will become Chairman in October. ACB is pleased to have this opportunity to participate in the Committee’s review of the Gramm-Leach-Bliley Act.

America’s Community Bankers supported the passage of the Gramm-Leach-Bliley

Act in 1999 because, overall, it created new options for financial companies that

wanted to offer diversified financial services. It also made positive changes in the

capital structure and regulation of the Federal Home Loan Bank System and the

law governing the FDIC’s Savings Association Insurance Fund. However, the GLBA

was in some ways a step backwards for an evolving financial services industry.

After a lengthy and trying debate, it was decided in GLBA to undo provisions that

had successfully permitted the creation of diversified financial services holding companies and to prohibit commercial firms from making any new acquisitions of savings associations. That change limited choices and holding company options for

existing savings associations and deprived the financial services industry of an important source of capital, without any positive effect on the safety and soundness

of the banking system.

GLBA has not always been implemented in a way to maximize its potential for

bringing financial services to consumers efficiently. For example, savings associations have yet to achieve regulatory parity with banks under the securities laws.

Savings associations should be given the same regulatory treatment as banks when

they engage in the same securities activities as banks. The lack of parity requires

savings association customers to pay more for services only because of their financial institution’s charter. While ACB continues to work through the SEC’s regulatory process to achieve parity, ACB believes that only a statutory change can

ensure parity for savings associations under the securities laws.

Furthermore, the regulatory process established by GLBA to authorize new financial activities for banking organizations has not been allowed to work as intended,

that is, through a notice and comment regulatory process that is based on safety

and soundness considerations and administered by expert banking and financial

regulators. As a result of a highly politicized campaign by the realtor community,

the Treasury and Federal Reserve have been unable to finalize a rulemaking allowing national banks and financial holding companies to offer real estate services.

GLBA created important new privacy rights for consumers and made other

changes to consumer laws, such as the Community Reinvestment Act. However,

some of these provisions created significant regulatory burden for all insured depository institutions without any benefit to consumers or safety and soundness.

Congress and Federal regulators should act to reduce the unnecessary regulatory

burdens that result from these provisions.

I am pleased today to provide a more detailed discussion of ACB’s views on these

and other provisions in the GLBA.

Why Financial Modernization Was Important

In 1999, as they do today, ACB’s members supported providing financial organizations choices in charters and business models that reflected the reality of integration

of the financial services industry. Provisions of the Glass-Steagall Act, enacted during the Depression, and the Bank Holding Company Act of 1956 stood as barriers

to the full integration of the banking, securities, and insurance industry for those

organizations that wanted to provide bank services through a bank charter, rather

than a savings association charter. For years prior to 1999, securities, insurance,

and nonfinancial holding companies had owned savings associations. These institutions had given their holding companies the ability to offer an important array of

financial services to their customers.

41

However, the Glass-Steagall Act hampered affiliations between commercial banks

and bank holding companies, on one hand, and securities businesses, on the other.

Although the Federal Reserve had loosened this restriction considerably, GlassStegall remained an anticompetitive anachronism. Bank holding companies could

only acquire securities firms that fit within arbitrary size limits, while major securities firms were unable to acquire banks.

In a similar vein, the Bank Holding Company Act did not permit banks to associate with insurance underwriters. Beyond that, the Bank Holding Company Act

limited banks to affiliations with firms ‘‘closely related’’ to banking. Banks that

wished to sell insurance products faced a patchwork of State and Federal statutes,

as well as court and agency interpretations that sometimes permitted and sometimes prohibited insurance activities. Because ACB members firmly believed that

each financial institution should have a full range of choices to meet the needs of

their customers and communities, ACB urged Congress to expand choices for financial institutions by repealing these decades-old restrictions on affiliations.

The Pace of Financial Integration Has Been Slow

GLBA repealed the restrictions on the integration of banking, insurance, and securities, and established a framework of functional regulation to supervise banking,

insurance and securities activities of financial conglomerates. However, passage of

the Act has had only a modest impact on the pace of integration of these activities.

Federal Reserve Vice Chairman Ferguson reported in a speech last November

that while there were about 600 financial holding companies at the end of 2002, less

than one-third reported actually engaging in any new activities authorized by the

GLBA. Eighty percent of those activities were insurance agency activities, probably

the ‘‘least new’’ and least risky of the activities authorized by the new law. Only

40 institutions reported broker-dealer assets, around 30 reported insurance underwriting assets, and less than 20 held significant merchant banking assets using

GLBA authority. Ferguson concluded that even accounting for the size of some these

financial holding companies, and the activities conducted in previously authorized

section 20 affiliates, no evidence exists that the overall market structure of the financial services industry has changed since the passage of the GLBA.

One of the promises of the GLBA was the relatively easy authorization of new

financial activities for banking organizations. GLBA established a joint Federal Reserve and Treasury regulatory process for the authorization of permissible new financial activities for banking organizations. The hope was that under this process,

safety and soundness would be the dominant factor in the decisionmaking process.

However, in the first real test of this authority, the two agencies have not been able

to complete their work on a regulation that would authorize for national banks and

financial holding companies an activity, which is already authorized for Federal savings associations and roughly half the State-chartered banks.

In January 2001, the Treasury and the Federal Reserve issued a proposed regulation to permit national bank financial subsidiaries and financial holding companies

to provide real estate brokerage and real estate management services to their customers. However, due to a highly politicized campaign by the realtor community,

Treasury and the Federal Reserve have not been allowed to complete their work on

the regulation. In this particular instance, considerations other than safety and

soundness have held sway.

GLBA Restricted an Important Holding Company Option

In 1999, we also urged Congress not to reduce choice by restricting the unitary

savings and loan holding company. However, policymakers, ignoring the past success of the unitary savings and loan holding company, chose to reduce the benefits

of the charter by prohibiting commercial (nonfinancial) firms from acquiring savings

associations and grandfathered unitary savings and loan holding companies. Critics

justified this limit by citing their concerns about mixing banking and commerce.

However, unitary thrift holding companies did not then, and do not now, mix banking and commerce in any meaningful way. Savings associations are not permitted

to lend to commercial affiliates under any circumstances. Savings associations’ permissible commercial lending is strictly limited to 20 percent of assets, half of which

must be small business loans. As a result of GLBA’s restrictions on unitary savings

and loan holding companies, the banking industry and its customers lost a potentially important source of capital.

Nevertheless, the unitary savings and loan holding company structure remains an

important choice for financial firms. The expertise of the OTS in regulating diversified holding companies is one reason that firms continue to consider this holding

company option to be an efficient choice.

42

SEC ‘‘Push-Out’’ Rule and Parity for Savings Associations

Before GLBA, banks—but not savings associations—enjoyed a blanket exemption

from broker-dealer registration requirements for certain activities under the Securities Exchange Act of 1934 (Securities Exchange Act). The GLBA removed the blanket exemption and permitted banks to engage only in specified activities without

having to register as a broker-dealer. All other broker-dealer activities must be

‘‘pushed out’’ to a registered broker-dealer affiliate. The SEC issued interim brokerdealer rules on May 11, 2001, to implement the new ‘‘push-out’’ requirements. As

part of the broker-dealer ‘‘push out’’ rules, the SEC exercised its authority to include

savings associations within the bank exemption. This interim rule treated savings

associations the same as banks for the first time for purposes of broker-dealer registration. In the interim rule, the SEC recognized it would be wrong to continue disparate, anomalous treatment between savings associations and banks.

The SEC postponed the effective date of the interim rule several times. It published proposed amendments to the interim dealer rule on October 20, 2002 and the

final dealer rule on February 24, 2003. The proposed rules gave savings associations

the same exemptions as banks. On June 2, 2004, the SEC approved a new proposed

rule governing when a bank or thrift must register as a broker.

Unlike the SEC’s interim broker rule, the new proposal would no longer treat savings associations the same as banks in all respects. Although savings associations

would be treated the same as banks for purposes of the 11 statutory activities they

may engage in without registering as a broker with the SEC, as provided by the

GLBA, three nonstatutory exemptions provided banks would not be extended to savings associations. The SEC describes the three nonstatutory exemptions as targeted

exemptions that recognize the existing business practices of some banks. We understand that the SEC staff does not believe savings associations are engaged in the

exempted securities activities and will only extend relief for savings associations to

the securities activities they are currently performing. OTS General Counsel John

Bowman recently testified that it appears that savings associations currently engage

in some, if not all, of the securities activities covered by the three additional exemptions. The SEC’s discriminatory approach makes no sense because the bank exemption applies to all banks—whether or not they are currently engaged in one of the

exempted activities.

ACB vigorously supports providing parity for savings associations with banks

under the Securities Exchange Act. 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 intends to file comments with the SEC opposing the discriminatory treatment of savings associations. However, the latest proposal from the SEC

demonstrates that a legislative change is needed in order to ensure parity for savings associations under the Securities Exchange Act.

FHLBank Modernization

Title VI of GLBA made important and welcome changes to the laws governing the

regulation, membership, and capital structure of the Federal Home Loan Bank System. One of the important changes involved the membership status of Federal savings banks and savings associations. Prior to the 1999 law, the institutions were

required to be members of the Federal Home Loan Bank System, while other financial institutions’ membership was voluntary. GLBA put Federal savings associations

on the same footing as others by making their membership voluntary. Voluntary

membership enhances the cooperative nature of the System and provides incentives

to Federal Home Loan Banks to work for the benefit of their member-borrowers.

After eliminating mandatory membership, GLBA added stability to the System’s

capital base by establishing a leverage and risk-based capital requirement for the

FHLBanks and by creating ‘‘permanent capital’’ through a second class of stock with

a 5-year ‘‘put’’ period.

The conversion of the FHLBanks to this new capital system has been a complex

process. Nevertheless, 9 of the 12 Banks have already implemented their capital

plans, and the other 3 are in the process of implementation. However, regulatory

proposals to require the Banks to register certain equity securities with the SEC

could significantly complicate the implementation of the remaining capital plans.

The GLBA also shifted much authority over the day-to-day operation of the

FHLBanks from the Federal Housing Finance Board to the Banks themselves. The

role of the Finance Board became more that of safety and soundness regulator

rather than a co-equal or superior in the management of the system. For example,

the GLBA gave the Finance Board new regulatory powers, such as the authority to

issue cease-and-desist orders and to impose civil money penalties.

43

Title VI of GLBA made an important change to the formula for the FHLBanks’

contribution to the debt service of the REFCorp bonds, issued in 1989 to fund the

resolution activities of the Resolution Trust Corporation. The GLBA formula requires the Banks to pay 20 percent of net income to REFCorp. The old formula,

eliminated by GLBA, had the potential to create disincentives for FHLBanks to provide advances for SAIF-insured financial institutions.

Financial Privacy

In Title V of GLBA, Congress passed the most sweeping law in American history

to protect the privacy of consumers’ financial information. Among other things, Title

V requires each financial institution to disclose its privacy policy to the consumers

and customers it serves and to restrict the sharing of nonpublic personal information sharing with most nonaffiliated third parties without first providing individuals

the ability to prevent the exchange of their information (opt out). In addition to an

initial disclosure of an institution’s privacy policy and an initial opt out notice,

GLBA requires a financial institution to provide annual disclosures and notices to

its customers. GLBA required compliance with these provisions by July 1, 2001.

At the end of 2001, ACB conducted a survey to measure the costs incurred to comply with GLBA’s privacy policy and opt out disclosure requirements. The survey concluded that community banks spent a disproportionately higher amount than larger

banks in providing customers copies of their privacy policies and opt-out disclosures.

The survey also found that customers rarely exercised the option of prohibiting their

bank from sharing customer financial information with nonaffiliated third parties,

and that a majority of customers did not find the disclosures useful.

The average compliance cost was $1.37 per customer, with total estimated compliance costs per bank ranging widely from as little as $1,000 to more than $2 million.

The survey found the cost per customer averaged 27 cents at banks with assets of

$10 billion or more, compared with per customer costs of $2.37 at banks with assets

of less than $50 million—almost nine times as much. As a percentage of noninterest

expenses (salaries, employee benefits, occupancy costs, etc.), banks with less than

$50 million in assets paid almost four times as much as the group of banks with

assets of $10 billion or more. The survey interpreted these results to mean that

larger banks with in-house legal and consulting staff were able to do most of the

compliance work themselves, while smaller banks sought outside legal help and consultants.

A 2002 survey found that while compliance costs were reduced significantly,—as

initial policies and procedures developed in 2001 have become institutionalized—

they remained high. In 2002, ACB found that the estimated average compliance per

customer was about $0.65 per customer. These costs are likely to increase.

I will tell you, community banks guard their depositors’ information like Fort

Knox and have built their reputations on the trust of their customers that their

bank will actually do so. Most community banks do not share information in any

way whatsoever. Others share information only under very controlled circumstances

when certain operational functions are outsourced to a vendor. We suggest that

Congress eliminate annual privacy notices for banks that do not share information

with nonaffiliated third parties. Banks with limited information sharing practices

should be allowed to provide customers with an initial notice, and provide subsequent notices only when terms are modified.

I am sure that you are all inundated by privacy statements each fall. I am equally

confident that most or all of them remain unread. The complexity of the statements—which is dictated by GLBA and the implementing privacy regulations—certainly contributes to customers’ disregard of the notices. ACB suggests that the

regulators improve the quality and utility of GLBA privacy notices by developing an

easy-to-understand, short-form notice, and that Congress provide statutory relief as

necessary to accommodate these changes.

Information Security Program

GLBA established new standards for ensuring the security and confidentiality of

customer records and information. While the confidentiality and security of customer information has always been a cornerstone of community banking, the new

GLBA information security standards brought increased focus to this issue.

The GLBA information security standards require every bank to conduct a risk

assessment to identify and assess risks that may threaten the security, confidentiality, or integrity of customer information. Each bank is then expected to implement a comprehensive written information security program appropriate to the size

and complexity of the institution. Review of the information security program is a

part of the regular safety and soundness examination of every depository institution.

44

In response to recent high profile cases of compromised personal information such

as credit and debit card numbers, Congress and the banking regulators have considered what additional measures may be necessary to protect consumer financial information. Community banks were not involved in any of the recent high profile

cases of compromised consumer financial information. The development and maintenance of a formal information security program is a significant responsibility for all

banks, but the burden is especially hard felt by small community banks. Congress

and the regulators should carefully study the causes of these recent security

breaches and avoid new information security requirements that unnecessarily increase the regulatory burden of the banking industry.

CRA Sunshine Law

Section 711 of the GLBA enacted the so-called ‘‘CRA Sunshine Law.’’ Under the

CRA Sunshine Law, parties to certain CRA-related agreements must make the

agreements available to the public and the appropriate Federal banking agency.

Section 711 applies to written contracts, arrangements, and understandings that are

entered into by an insured depository institution or an affiliate and a nongovernmental entity or person; and which are entered into pursuant to or in connection

with the fulfillment of CRA; and which call for an insured depository institution or

affiliate to provide cash payments or other consideration with an aggregate value

of more than $10,000 in any year, or loans with an aggregate value of more than

$50,000 in any year. The law requires both depository institutions and nongovernmental groups (consumer groups) to make a report of all such agreements annually

to the appropriate Federal banking agency.

The regulations implementing the CRA Sunshine Law are overly broad and impose significant paperwork, regulatory and cost burdens on banks that far outweigh

possible benefits. Community banks, especially small- and mid-sized banks, are

forced to spend considerable resources complying with the disclosure, reporting and

recordkeeping requirements associated with CRA-related agreements rather than

doing what really matters—serving their communities with affordable credit and financial services. As a result of the CRA Sunshine Law and these regulations, fewer

creative and innovative partnerships are formed because of competitive and privacy

concerns. According to FDIC Vice Chairman Reich, both banks and consumer groups

share these views. ACB believes that the CRA Sunshine Law should be repealed in

order to reduce regulatory burden on depository institutions, consumer groups and

Federal banking agencies.

Deposit Insurance Reform

Finally, another important provision of GLBA eliminated the Savings Association

Insurance Fund Special Reserve. The Deposit Insurance Funds Act of 1996 created

a special reserve, effective as of January 1, 1999, of amounts in excess of the statutory designated reserve ratio of 1.25 percent. As a result, nearly $1 billion was removed from the SAIF on January 1, 1999. On the effective date of GLBA, November

12, 1999, those funds were restored to the SAIF, which resulted in an increase in

the SAIF reserve ratio from 1.29 to 1.43 percent. The elimination of the reserve reduced the risk that the SAIF reserve ratio would fall below 1.25 percent, which triggers an FDIC insurance assessment on SAIF-insured deposits. ACB strongly

supported the elimination of this costly, unnecessary reserve.

This change also established greater flexibility for the FDIC that improved the

ability of the FDIC to manage the SAIF. ACB notes that many of the provisions

currently being considered by the Committee to reform the Federal deposit insurance system similarly increase the FDIC’s operating flexibility, and would contribute to the security of the Federal deposit insurance system. ACB urges the

Committee to act on pending legislation as soon as possible.

Conclusion

I wish to again express ACB’s appreciation for this opportunity to present its perspectives in connection with the Committee’s review of the impact of the GLBA.

—————

PREPARED STATEMENT OF TERRY JORDE

PRESIDENT AND CEO, COUNTRYBANK, USA, CANDO, NORTH DAKOTA

VICE CHAIRMAN, INDEPENDENT COMMUNITY BANKERS OF AMERICA

JULY 13, 2004

Mr. Chairman, Ranking Member Sarbanes, and Members of the Committee, my

name is Terry Jorde. I am Vice Chairman of the Independent Community Bankers

45

1The Independent Community Bankers of America represents the largest constituency of community banks of all sizes and charter types in the Nation, and is dedicated exclusively to

protecting the interests of the community banking industry. ICBA aggregates the power of its

members to provide a voice for community banking interests in Washington, resources to enhance community bank education and marketability, and profitability options to help community

banks compete in an ever-changing marketplace. For more information, visit ICBA’s website at

www.icba.org.

of America (ICBA) 1 and President and CEO of CountryBank USA, a community

bank with $37 million-in-assets located in Cando, North Dakota. Cando is a small

town of only 1,300 people, but we have three banks and a motto that ‘‘You Can Do

Better in Cando.’’ Our bank is full service and progressive, offering our customers

a full range of insurance and investment services, residential mortgages, check imaging, and fully transactional Internet banking.

I would like to compliment this Committee on exercising its oversight role by calling this hearing on the effect the Gramm-Leach-Bliley Act has had on the financial

industry, the Nation, and—most importantly—on our communities. We conclude

that the Act has had a number of effects, many positive, and some negative:

• The Federal Home Loan Bank reform provisions have been very helpful to community banks and could be further improved by the passage of Senator Enzi’s

amendment to this Committee’s GSE reform legislation. It clarified the

FHLBank’s mission to provide community financial institutions with funding for

agricultural and small business loans.

• GLB closed the unitary thrift loophole—which allowed any commercial firm to

purchase a thrift institution—but Congress now needs to close the industrial loan

company loophole to maintain the separation of banking and commerce;

• GLB contributed to increased financial concentration;

• Community banks have made limited use of the Act’s new financial holding company structure, most likely to engage in insurance agency activities;

• The notice requirements under the privacy provisions should be streamlined, especially for the majority of community banks that do not share information with

outside parties.

FHLBank System

The Federal Home Loan Bank reforms provided the Act’s most significant benefits

to community banks. Frankly, during the time the bill was being considered, ICBA

concluded that these provisions and the closing of the unitary thrift loophole offset

the bill’s problematic aspects.

From our perspective, the FHLBank reforms included these significant benefits:

• Permitted any ‘‘community financial institution’’ (now—with indexing—any FDICinsured institution with less than $550 million in total assets) to become a member. Previously, an institution had to have at least 10 percent of total assets in

‘‘residential mortgage assets’’ to qualify. Changing this was particularly important

to many agricultural banks that found the 10 percent test difficult to meet in

their markets.

• Allowed community financial institutions to use small business, small farm, and

small agri-business loans as collateral for advances.

• Equalized membership requirements for commercial banks and thrifts. This was

a win-win for community banks of all charter types, since it made membership

for Federal thrifts voluntary and eliminated second-class membership status for

commercial banks.

• Eliminated an emerging problem by repealing the 30 percent ceiling on FHLBank

System advances to institutions that did not meet the qualified thrift lender test.

As a result of these reforms, community banks of all charter types have greatly

increased their involvement in the System. Approximately 76 percent of ICBA members are now also members of the System, compared to 17 percent immediately after

passage of GLB.

ICBA members are increasing their use of the FHLBanks’ advances to fund local

loans. I am sure my experience is typical of many new members. My bank was a

member before GLB, but not an active advance user. For the first time in years,

we are borrowing from our FHLBank because our deposits are down and loan demand has increased. Because of these liquidity pressures, the FHLBank System is

more important than ever for our members.

While FHLBank access has provided community financial institutions like

CountryBank needed liquidity, it has also helped us better serve our customers.

FHLBanks provide many different types of advances that help bankers better meet

the needs of our customers who are seeking longer-term, fixed-rate loans for resiVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00049 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
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2Without the Gillmor-Frank Amendment, Wal-Mart could buy or charter an ILC and establish

a nationwide network by setting up branches of the ILC in each one of its stores.

dential mortgages, commercial and agricultural real estate mortgages, and other

types of loans that our deposit base does not permit without unduly exposing the

bank to interest rate risk.

My bank belongs to the Federal Home Loan Bank of Des Moines that has been

a champion in accepting small business and agricultural assets as collateral for advances. Some FHLBanks have been slow to accept the new collateral types permitted by the Act and have place severe constraints on pledging small business,

small agri-business and small farm loans, such as limiting the types of loans or severely haircutting values. Thus, some community financial institutions have not

been able to use this collateral to obtain advances as Congress envisioned. While

any institution needs to be cautious about moving into a new type of business, the

FHLBanks have had sufficient time since the Act’s passage to develop the expertise

and the policies and procedures to more readily accept these new collateral types.

As the economy strengthens and loan demand increases, many community financial

institutions will need the ability to pledge this collateral.

ICBA is pleased that this Committee addressed this issue by adopting an amendment by Senator Enzi to the GSE reform bill, S. 1508. That amendment clarified

that the mission of the FHLBanks includes providing liquidity and funds to community financial institutions for agriculture and small business lending. We are hopeful that your endorsement of this will stimulate the FHLBanks to use the authority

provided in GLB. ICBA will continue to support Senator Enzi’s effort as this legislation moves through the process.

Maintaining the Separation of Banking and Commerce

GLB reaffirmed the Nation’s long-standing policy maintaining the separation between banking and commerce by closing the unitary thrift loophole that permitted

any commercial firm to acquire a single thrift institution. By maintaining the separation of banking and commerce, Congress helped ensure that our financial system

would avoid the conflicts of interest and threats to safety and soundness that would

arise if commercial firms—such as retailers and manufacturers—were permitted to

own their own banks.

While GLB grandfathered the few existing commercial/unitary thrift combinations, it effectively cut off Wal-Mart’s application to acquire an Oklahoma thrift.

This prevented Wal-Mart from engaging in dangerous self-dealing between its huge

retail operation and a federally insured thrift institution. And, since many banks

already have branches in thousands of Wal-Mart stores, customers will continue to

have convenient access to banking services. However, the banks will maintain their

legal independence from Wal-Mart and will be able to lend on an arm’s length basis

to all businesses in their communities.

Congress also successfully addressed the banking and commerce issue before

GLB. In 1987, the Competitive Equality Banking Act closed the nonbank bank loophole that permitted commercial firms to establish banks. In 1972, Congress closed

a loophole that would have permitted any commercial firm to own a single bank.

All of these loopholes existed for many years before they were closed. However,

Congress acted as soon as it became clear that they could be exploited in a major

way. Policymakers now must face the same issue with industrial loan companies.

Several years ago, Wal-Mart attempted to buy a California ILC. Fortunately, the

California legislature quickly acted to block that attempt by closing the ILC banking

and commerce loophole in its State. Unfortunately, the loophole remains in place in

several other States and has been exploited most enthusiastically in Utah. ICBA

joins with the Federal Reserve in urging Congress to reassert its authority and close

the ILC loophole for the entire Nation by bringing the ILC’s under the Bank Holding Company Act. This would prevent additional commercial/ILC affiliations and extend effective holding company regulation to the parents of ILC’s.

In its regulatory relief bill, H.R. 1375, the House took steps to address the ILC

loophole by adopting the Gillmor-Frank Amendment that would prevent newly

formed ILC’s with commercial affiliations from using the bill’s new de novo interstate branching authority or the interstate banking and branching powers provided

by the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994.2 Unfortunately, the House did not include similar restrictions in the business checking

provisions of H.R. 1375. As a result, ILC’s—including those owned by commercial

firms—would be granted completely new authority to offer business checking accounts, plus be permitted to pay interest on those accounts. This would make ILC’s

47

3The agencies are in the midst of reviewing 129 banking regulations to identify provisions

that are outdated, unnecessary, or unduly burdensome, as required by the Economic Growth

and Regulatory Paperwork Reduction Act of 1996. 4 (Susan Roth, Credit Suisse First Boston, quoted in ‘‘For Citi, $5B Is Price of ‘Moving On’ ’’;

American Banker, 5/11/04)

the functional equivalent of full service banks and negate the original rationale—

a limited charter—for excluding them from the BHCA.

While the Gillmor-Frank language was a positive first step, ICBA strongly urges

Congress to take the next step and close the ILC loophole completely.

Increased Concentration

As Congress considered the financial modernization legislation that ultimately became GLB, ICBA repeatedly warned that it would likely lead to increased financial

concentration. That has certainly proven to be the case. GLB and the Riegle-Neal

Act have together led to the creation of truly huge financial conglomerates. We now

have three $1 trillion banks in the United States. This is certain to decrease competition and increase systemic risk.

While it is too late to turn back the clock on these developments, ICBA recommends that Congress take steps to improve the competitive landscape so that

consumers and businesses continue to have robust financial services choices. In this

regard, ICBA has particular concern about the competitive position of community

banks in this environment. Just last month, ICBA submitted testimony that highlighted the detrimental effects than increasing regulatory burden is having on community banks’ ability to compete. We again strongly urge you to reduce this burden

to improve our ability to serve our customers and communities. This burden falls

disproportionately on community banks that cannot spread their costs across a large

asset and personnel base. Unless Congress and the regulators can lift it soon in material ways, economic development and small businesses will suffer. Therefore, we

urge you to follow up on our recommendations and those the financial regulatory

agencies develop under the EGRPRA regulatory review.3

In addition, we hope that Congress will complete action on deposit insurance reform legislation this year. Deposit insurance provides the bedrock for community

bank competitiveness. Since community banks are not too-big-to-fail, our depositors

look to deposit insurance to protect their transaction and savings accounts. While

we continue to favor immediate increases in coverage—especially for retirement

funds—ICBA hopes that at least Congress can pass legislation that will provide a

robust indexing system, along with other key reforms such as eliminating the 23-

basis-point premium cliff and ending the free ride for rapidly growing institutions.

I would also like to draw your attention to another aspect of increased concentration, the fact that the largest institutions appear to be too big to regulate and too

big to punish for their transgressions. Community bankers from around the country

are increasingly concerned about what they perceive as a regulatory double standard. In case after case, they note that regulators and courts impose only nominal

fines for megabanks’ misdeeds and regulators go on to approve their mergers. For

example, Citigroup agreed to pay investors $2.7 billion for its part in WorldCom’s

bankruptcy. J.P. Morgan paid $135 million for its part in the Enron scandal. This

proved to be less than a speed bump for its acquisition of Bank One; the case was

barely alluded to in the 63-page approval decision. UBS was fined $100 million for

providing U.S. currency to Cuba, Libya, Iran, and Yugoslavia. While it was also ordered out of this line of business, it had not been particularly profitable or significant to the institution.

While some of the fines and settlements may seem large to the average person,

they are tiny when applied to these companies. Commenting on Citi’s WorldCom

settlement, an analyst wrote that, ‘‘Citi’s earning power and existing capital levels

allow it to take such a charge without any material adverse impact to capital levels

and [with] no impact on dividend policy.’’ 4

A relatively large community bank like Riggs ($6 billion) in Washington, DC, suffered more serious consequences when it failed to file Suspicious Activity Reports

on certain embassy transactions. Regulators forced significant management changes

and the bank is exiting its signature line of business, handling the banking needs

of the diplomatic community. The $25 million fine assessed against Riggs was more

than its annual earnings for each of the last 4 years. Analysts believe Riggs may

even lose its independence.

The vast majority of community banks undergo even harsher treatment. State

and Federal regulators (properly) hold management strictly accountable for everything that happens in the bank—from its culture to the actions and deeds (and misVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00051 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
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5Michael White’s Bank Insurance & Investment Fee Income Report, 2003 Year-end Edition,

pp. 13 & 109.

deeds) of its staff and alliance partners. If they cross the line, both the bank and

management are punished. There are no exceptions.

ICBA urges Congress to direct the agencies to review their policies, comparing the

fines and other punishments that they apply to the largest institutions they regulate with those they mete out to the rank and file. It is important to eliminate the

perception that large institutions are above the law and can commit serious offenses

without facing serious consequences.

In the face of these concerns, this is certainly not the time for Congress to take

further steps, such as lifting the deposit caps in the Riegle-Neal legislation, that

would further increase concentration. ICBA will vigorously oppose any such proposals.

Additional Financial Services

GLB did not provide community banks with substantial new opportunities to provide financial services to their customers. In the years prior to enactment, State action, plus court and regulatory interpretations allowed virtually all banks to offer

retail financial services—primarily insurance and securities—as agents. One exception to this general rule are the provisions of GLB that permit financial holding

companies and financial subsidiaries of national banks to sell insurance even if they

are not headquartered in towns of less than 5,000 in population or in States that

granted insurance agency powers to State-chartered banks. A number of community

banks have formed FHC’s or financial subsidiaries, apparently for the purpose of engaging in insurance sales. However, only the largest financial institutions were interested in affiliating with underwriting companies. Indeed, it was the apparently

illegal merger between Citibank and Travelers’ Insurance that provided the final

impetus to the legislation.

While community banks did not seek the new financial affiliation authority under

GLB, a significant number of ICBA member community banks offer retail insurance

and securities services. Just under half of the banks under $1 billion in assets

earned fee income from insurance activities in 2003. That same year, nearly 23 percent of those banks earned income from mutual fund and annuity activity.5

My own bank is active in insurance sales and investment brokerage, though we

did not need GLB to enter these fields. Insurance sales are particularly important

for our bank and we are having good success. We have just purchased our third

agency. In fact, 30 percent of our bank’s employees are dedicated to insurance sales.

Real estate brokerage is another retail service community banks would like the

opportunity to offer to our customers. Therefore, ICBA is disappointed that Congress

has repeatedly used the appropriations process to block the Treasury from finalizing

the proposed regulation to allow financial holding companies and financial subsidiaries of national banks to engage in real estate brokerage and management. We

believe that GLB provides the Treasury and the Federal Reserve full authority to

permit these activities. More importantly, these new powers will allow FHC’s and

financial subsidiaries to better serve customers by increasing choice and decreasing

costs. And, it will allow community banks to diversify their sources of income by

engaging in a low-risk agency activity analogous to securities and insurance brokerage.

The financial market is rapidly changing and evolving, and it is important for

community banks to have the means and opportunity to serve all of their customers’

financial needs. Many other entities already offer one-stop-shopping for real estate

brokerage, mortgage lending, and real estate settlement services. It flies in the face

of the GLB Act’s fundamental purpose to continue blocking the proposed Treasury/

Federal Reserve regulation.

While GLB did not greatly increase retail sales opportunities for community

banks, it did make substantial changes in how these sales are conducted today.

Prior to GLB, banks were specifically excluded from the definition of ‘‘broker’’ contained in the Securities Exchange Act of 1934. As a result, banks could engage in

securities sales activities and did not have to be concerned about registering as a

broker with the SEC. With the enactment of GLB, banks are excluded from the definition of ’broker’’ only to the extent that their securities sales activities fall into one

or more of the eleven statutory functional exceptions. Each of these exceptions permits a bank to act as an agent with respect to specified securities products or in

transactions that meet specific statutory conditions. In particular, Section 3(a)(4) of

the Exchange Act provides conditional exceptions from the definition of broker for

banks that engage in third party brokerage arrangements; trust and fiduciary activities; permissible securities transactions; certain stock purchase plans; sweep acVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00052 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
49

counts; affiliate transactions; private securities offerings; safekeeping and custody

activities; municipal securities; and de minimis transactions.

In 2001, the Commission adopted interim final rules designed to provide banks

with guidance regarding the GLB by defining certain key terms used in the new

statutory exceptions. These interim final rules were suspended after the trade associations and members of the banking industry expressed serious concerns about the

complexity and regulatory burden of the new rules and the negative impact they

would have on banks’ ability to engage in traditional banking activities such as

trust, fiduciary, and custody activities.

On June 17, 2004, after discussions with representatives of the industry, the SEC

published new proposed rules (with comments due in August). These new rules,

which are 228 pages long, are designed to define and clarify a number of the statutory exceptions from the definition of ‘‘broker’’ in GLB.

Although ICBA is pleased that the SEC has modified its original proposal made

in 2001—particularly with respect to the definition of what is considered a ‘‘nominal’’ fee under the network exemption and raising the small bank threshold to $500

million under the custody exception—ICBA still is concerned about the overall complexity of the proposed rules. The regulatory burden on community banks is already

significant and these rules will just add to that burden by requiring community

banks to adopt compliance programs to ensure that they comply with one of the

complex exceptions under the regulations. The SEC should make an effort to simplify the proposed rules, particularly with regard to the trust and fiduciary activity

exemption.

The banking agencies have long since finalized the consumer protection regulations regarding the retail sale of insurance required under GLB. Like so many

consumer disclosures, these regulations—which closely follow the legislative language—require far more information than consumers are prepared to absorb as they

complete a financial transaction. Even more troubling, the disclosures are often irrelevant. For example, we must give all new insurance customers a disclosure that

informs them that the insurance product they are inquiring about is not a deposit,

not guaranteed by the bank, not insured by the FDIC, and may go down in value.

This disclosure must be given even if the insurance product has no investment risk.

In fact, none of the products that my agency sells have investment risk. I have seen

the dumbfound look on my customers’ faces when they have been told that their

auto policy or their crop insurance is not a deposit and may go down in value, followed by their look of concern when we inform them that their insurance is not

guaranteed. If the customer inquires about insurance over the telephone, we must

make these disclosures orally and then follow up with written disclosures. And we

need for them to sign the disclosure document and retain it in our file. The end result is a waste of time, paper, and postage and puts us at a competitive disadvantage to other insurance agencies in my community that are not housed within a

bank office. ICBA urges Congress to ask the agencies to recommend specific changes

in GLB to streamline and simplify these disclosures, while maintaining adequate

consumer protection.

Increased financial conglomeration of the kind permitted under GLB has had a

mixed competitive effect on community banks. Some report that insurance companies like State Farm (which bought a thrift while GLB was moving through Congress) present stiff competition by offering extremely attractive rates on deposits.

Others report an opposite effect; some new financial conglomerates turn their attention away from traditional banking, opening up competitive opportunities for community banks. Still others report little direct effect at this time.

Privacy

GLB requires financial institutions to provide annual notices regarding their privacy policies to each of their customers. Many community bankers view the annual

privacy notice as ineffective and unnecessary. They have become another example

of the disclosure blizzard that has done little more than confuse and burden consumers with pages of incomprehensible legalese.

Most community banks do not share their customers’ financial information with

outside marketing companies and the like. They share information with vendors like

check printers and data processors that use it strictly to help the bank provide essential services. Therefore, ICBA recommends that Congress amend GLB to allow

these institutions to provide a short statement to that effect printed on the customer’s bank statement.

In addition, community banks—and doubtless many other financial institutions—

maintain consistent privacy policies from year to year. These institutions should

have the option not to deliver the annual notice unless they have changed their privacy policy. Not only would this relieve them of a costly paperwork burden, it would

50

1The Consumer Federation of America is a nonprofit association of over 280 proconsumer

groups, with a combined membership of 50 million people. CFA was founded in 1968 to advance

consumers’ interests through advocacy and education. 2 Consumers Union is the nonprofit publisher of Consumer Reports magazine. Consumers

Union was created to provide consumers with information, education and counsel about goods,

services, health, and personal finance; and to initiate and cooperate with individual and group

efforts to maintain and enhance the quality of life for consumers. Consumers Union’s income

is solely derived from the sale of Consumer Reports, its other publications and from noncommercial contributions, grants, and fees. Consumers Union’s publications carry no advertising and

receive no commercial support. 3The U.S. Public Interest Research Group is the national lobbying office for State PIRG’s,

which are nonprofit, nonpartisan consumer advocacy groups with half a million citizen members

around the country.

make it more likely consumers would pay attention to the notices. The current requirement that banks furnish all customers with an annual privacy notice actually

has a very serious unintended consequence: It encourages customers to disregard

the information that is provided, making them increasingly less likely to pay heed

to notices.

These notices are particularly pointless for my bank and our customers, since

North Dakota has such restrictive privacy laws that the Federal requirements are

a moot point. Yet we are required to mail thousands of privacy notices to our customers every year just to tell them that we will not break the law. It is this type

of unnecessary burden that is driving community banks to sell out, often times leaving the very consumer that these laws are meant to protect with fewer choices for

financial services.

Conclusion

I would again like to compliment the Committee on holding this oversight hearing

on the Gramm-Leach-Bliley Act. Most of the benefits we anticipated have been

borne out, especially with regard to the FHLBank System (although more must be

done to implement the community financial institution provisions regarding use of

advances for agriculture and small business lending). The Act successfully closed

the unitary thrift loophole, but a new one—the ILC loophole—is emerging as an important threat. The Act has led to increased concentration, though has provided

some limited new opportunities for community banks to offer insurance products.

The impact of the securities push-out provisions on community banks will depend

on the final rule expected to be issued by the SEC later this year. Finally, Congress

should streamline the privacy notice provisions and will need to continue its oversight efforts if states seek to impose their own privacy restrictions.

Thank you again for this opportunity to testify.

—————

PREPARED STATEMENT OF TRAVIS PLUNKETT

LEGISLATIVE DIRECTOR, CONSUMER FEDERATION OF AMERICA

ON BEHALF OF THE CONSUMER FEDERATION OF AMERICA,

CONSUMERS UNION, AND THE U.S. PUBLIC INTEREST RESEARCH GROUP

JULY 13, 2004

Mr. Chairman, Senator Sarbanes, and Members of the Committee, my name is

Travis Plunkett and I am the Legislative Director of the Consumer Federation of

America.1 We appreciate the opportunity to offer our comments on the effect of the

Gramm-Leach-Bliley Act on consumers. This testimony is also being delivered on behalf of two other national consumer organizations, Consumers Union,2 and the U.S.

Public Interest Research Group.3

In the decade-long debate that led to enactment of the Gramm-Leach-Bliley Act

(GLBA) in 1999, Congress heard many promises from financial services industry

representatives about how tearing down the barriers between banking, securities,

and insurance sectors would be a boon to consumers. Banks, securities firms and

insurance companies would merge into financial services ‘‘supermarkets’’ that offer

increased consumer access to new, innovative products at lower costs with improved

privacy protections.

Five years later, this rhetoric has proven to be mostly hype. Mergers have occurred, but mostly within the banking industry, not across sectors. While some, primarily affluent consumers may benefit from larger multistate ATM networks, from

discounts offered for multiple account relationships or from sophisticated financial

products offered by boutique units to high-balance customers, we have seen no eviVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00054 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
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4See testimony before this committee of Vermont Assistant Attorney General Julie Brill for

a detailed list of some institutions’ affiliates. Senate Banking Committee, Hearing On Affiliate

Sharing Practices and Their Relationship to the Fair Credit Reporting Act, 26 June 2003 available at http://banking.senate.gov/index.cfm?Fuseaction=Hearings.Detail&HearingID=46.

dence that GLBA has positively affected the mass of banking consumers. It has not

slowed the continuing trend of rising bank fees, nor has it helped decrease the numbers of unbanked consumers. Indeed, rather than offering innovative, moderately

priced products to middle-income consumers, or to unbanked consumers to bring

them into the financial mainstream, some banks are developing policies and services

that deliver second class or downright predatory products at an extremely high cost.

The corporate scandals of the last few years have also exposed potentially significant safety and soundness risks in allowing banks to sell both credit and investment

banking services with inadequate regulatory oversight. The exponential growth of

Industrial Loan Companies, which were allowed to continue to exist under GLBA

without facing the rigorous regulatory scrutiny required of bank holding companies,

has also started to create concerns that this shadow banking system could put taxpayer-backed deposits at risk.

Finally, the privacy requirements Congress ended up enacting as part of GLBA

are narrow and weak. They do not provide consumers with a meaningful right to

stop the sharing of much financial information with third parties or any financial

information with corporate affiliates. Congress also missed an opportunity to modernize the Community Reinvestment Act by placing reinvestment requirements on

nonbank firms that are performing bank-like functions. Instead, under the ‘‘CRA

sunshine’’ provision, it placed burdensome and poorly crafted reporting requirements on both banks and community organizations.

Financial Privacy

During the decade-long debate that led to enactment of GLBA, our organizations

repeatedly raised concerns about an almost total lack of Federal financial privacy

protections for consumers. Unfortunately, this situation has not changed demonstrably since the enactment of GLBA. The financial privacy requirements that

Congress imposed on financial institutions in exchange for eliminating the barriers

between banks, insurers, and securities firms are narrow and weak. These requirements put the burden on consumers to stop the sharing of only some of the information shared by financial institutions with third parties. Even worse, these requirements offer consumers no ability at all to stop the sharing of sensitive financial data

among financial affiliates. Moreover, the privacy notices that financial institutions

are required to use to inform consumers of these limited rights are virtually incomprehensible. As a result, they are widely ignored by consumers.

Under Title V of GLBA, financial institutions only have to give consumers the opportunity to say no to (‘‘opt out’’ of) the sharing of their financial information with

certain nonaffiliated third parties selling nonfinancial products. However, sharing is

allowed with other third parties that have joint marketing agreements with financial institutions to sell financial products. In other words, consumers have no control

over the sharing of their confidential ‘‘experience and transaction’’ information if two

separate parties enter joint marketing agreements, nor do consumers have any right

to stop the sharing of information among affiliates of a financial institution. Some

financial institutions have hundreds of affiliates. A few have thousands of affiliates.4

The implications on consumer privacy of GLBA’s establishment of one-stop-shopping financial supermarkets are very serious, as decisions about the type of and

prices for services and products offered to a consumer from one financial entity

might be determined by information provided in the past to an affiliate. The type

of information that is collected and shared often includes: Account balance, payment

history, parties paid by financial transactions, all credit card usage, employment,

and demographic information.

By combining all of these data about a particular consumer, financial institutions

are able to create customer profiles. Profiles may then be used to determine how

much a consumer will pay for a product or service or whether or not the consumer

will be offered the product in the first place. Because this information sharing occurs among affiliates of a financial institution, these profiles are created and used

without subjecting the firm to the requirements of or allowing consumers the protections of the Federal Fair Credit Reporting Act (15 U.S.C. 1681 et seq).

The widespread sharing and selling of personal financial information is also one

of the reasons why consumers have become more vulnerable to identity theft in recent years. Many financial institutions have hundreds of affiliates that they share

their customers’ financial information with, and sell that same information to other

52

5 ‘‘Privacy Notice Offers Little Help,’’ By Russell Gold, Wall Street Journal, May 31, 2002. 6For example, one widely-supported proposal would be to require that the highlights of the

privacy notice be summarized in a statutory box with express terms, similar to the widely-used

nutrition labels required by the Food and Drug Administration. However, consumer groups

would oppose efforts to have that be the only information consumers receive—it would not be

acceptable, for example, to have privacy rights details exclusively available in a second ‘‘layer’’

that only appears on the Internet.

third parties like telemarketers and direct mail firms. The more this information

is disbursed, the greater the likelihood it will fall into the wrong hands and be used

for illicit purposes. In Fall 2003, a Bank of America employee in Santa Ana, California was sentenced to State prison for stealing identity and account information

for over 740 Bank of America customers. Obviously, financial institutions cannot ensure that information is perfectly secure at all times. Therefore, it is imperative to

at least give consumers the ability to do everything they can to protect themselves

against this crime.

Perhaps even more importantly, these business practices represent a fundamental

invasion of consumers’ privacy. Most of us are very selective when it comes to disclosing private financial information to others. When banks and other financial institutions share or sell information about our account balances or spending habits

without first getting our permission, they are violating our desire to keep this information private.

To make matters worse, the privacy notices required under GLBA are at best extremely confusing, if not altogether deceptive. These were intended to serve two purposes. First, they were supposed to provide consumers directions on how to exercise

their limited rights. Second, they were intended to inform consumers of the financial

institution’s privacy policies. Unfortunately, because they are so confusing and hard

to understand they fail on both counts.

A July 2001 readability analysis of 60 financial privacy notices by the Privacy

Rights Clearinghouse found that they are written at a 3rd-4th year college reading

level. This is significantly higher than the junior high school level that is recommended for materials written for the general public. While we have heard anecdotal evidence that some privacy notices are getting clearer, they are still a far cry

from sufficient.

If consumers are unable to read and comprehend their notices, they will simply

throw them away and not exercise their limited rights. The Wall Street Journal

summed up this situation accurately:

(I)n crafting the new law, known as the Gramm-Leach-Bliley Act, the Government failed to ensure a vital detail: The mailers have to be readable to

do any good. Indeed, many recipients, unwilling or unable to plough

through the jargon and marketing talk, have simply tossed them in the

trash. This only plays into the hands of the companies: A nonresponse to

the mailer gives them a green light to sell that person’s data.5

Our organizations argued in 1999 that financial institutions should get the affirmative consent of consumers before sharing information with any outside party

whether an affiliate or a third party. Our position has not changed, and if Congress

chooses to address this issue again, the standard should be opt in for information

sharing among both affiliates and 3rd parties.

A number of financial institutions have been very active in recent rulemaking proceedings to improve the privacy notices. While consumer groups are generally supportive of these efforts to make the notices clearer,6 the exercise is, to some extent,

like rearranging deck chairs on the Titanic. Better notices will only help consumers

more clearly understand that their underlying right to protect their financial information is very limited. Privacy notices are not privacy rights.

Safety and Soundness Issues

THE INDUSTRIAL LOAN COMPANY LOOPHOLE IS DANGEROUS TO THE BANKING SYSTEM

AND TAXPAYERS AND SHOULD BE ELIMINATED

As part of GLBA, Congress eliminated the unitary thrift loophole. This sent a

clear message that it was the intent of Congress to slam the door on the mixing

of banking and commerce. Consumer groups applauded this measure as an important step in better protecting taxpayers and the safety and soundness of the Nation’s banking system. At the same time, the GLBA made it possible for the first

time for securities and insurance firms to own banks, but only if they were subject

to the rigorous safety and soundness oversight required in the Bank Holding Company Act (BHCA).

53

Unfortunately, Congress left a little-noticed exception to the BHCA for Industrial

Loan Companies (ILC’s) in place when it put GLBA on the books. Commercial firms,

such as General Motors, own ILC’s, as do huge financial firms like Merrill Lynch,

American Express, and Morgan Stanley. Moreover, ILC’s are subject to much less

rigorous oversight than that received by bank holding companies from the Federal

Reserve Board. Not surprisingly, ILC’s have grown exponentially in recent years

and are now threatening to become a parallel banking system that will siphon commercial deposits from properly regulated bank holding companies. Even worse, these

commercial and financial firms are now urging Congress to expand ILC powers, allowing them to offer business checking and to branch to all 50 States.

This trend has enormous negative implications for the safety and soundness of

ILC’s and thus for taxpayers, who, of course, support the deposit insurance system.

Our organizations strongly urge the Committee to consider legislation that would

plug the ILC loophole before it is too late, and to reject legislation that would broaden ILC powers, for the following reasons:

1. The ILC loophole to the Bank Holding Company Act is being abused and should

be closed, not expanded. ILC’s were never intended to be large, Nationwide banks

that offered services indistinguishable from commercial banks. In 1987, Congress

granted an exception to the BHCA for ILC’s because there were few of them, they

were only sporadically chartered in a small number of States, they held very few

assets and were limited in the lending and services they offered. In fact, this exception specifically applied only to ILC’s chartered in five States (Utah, California, Colorado, Nevada, and Minnesota) that have either assets of $100 million or do not

offer checking services. Since that time, however, everything about ILC’s has grown:

The number that exist, the amount of assets, and federally insured deposits in them

and the services and lending products that they can offer.

According to the Federal Reserve, the majority of ILC’s had less than $50 million

in assets in 1987, with assets at the largest ILC at less than $400 million. As of

2003, one ILC owned by Merrill Lynch had more than $60 billion in assets (and

more than $50 billion in federally insured deposits) while eight other large ILC’s

had at least $1 billion in assets and a collective total of more than $13 billion in

insured deposits. Moreover, the five States cited in the law are aggressively chartering new ILC’s, allowing them to call themselves ‘‘banks’’ and giving them almost

all of the powers of their State-chartered commercial banks. These States, especially

Utah, are also promoting their oversight as a less rigorous alternative to those

pesky regulators at the Federal Reserve. For example, the website of the Utah Department of Financial Institutions trumpets its ‘‘positive regulatory environment’’

and states that ‘‘ILC’s offer a versatile depository charter for companies that are not

permitted to, or that choose not to, become subject to the limitations of the Bank

Holding Company Act . . . ’’

2. Large financial firms should not be permitted to skirt the GLBA by establishing

a parallel banking system that is not subject to the rigorous oversight required for

real banks. This represents an enormous and unacceptable risk to taxpayers. If

large financial firms were to place their commercial banks under ILC oversight

rather than Federal Reserve oversight, this could rapidly increase the number of

ILC’s and dilute the number of large financial systems that are subject to the important safety and soundness rules that the current system requires. Securities firms

that own ILC’s have taken the lead in promoting the expansion of ILC powers. They

have not been shy about stating that they want to expand ILC powers because they

do not want to deal with the regulatory oversight they would face from the Federal

Reserve if they purchased a bank, as allowed under the Gramm-Leach-Bliley Act.

Instead, they prefer to set up a ‘‘shadow’’ banking system through ILC’s. They want

to be able to offer the same services and loans as commercial banks without the

same regulatory oversight.

According to the Federal Reserve, however, the deposits in ILC accounts are not

as secure as those in real banks. As mentioned above, ILC’s are exempt from BHCA,

which allows the Federal Reserve to conduct examinations of the safety and soundness not just of banks, but of the parent or holding company of these banks. The

BHCA also grants the Federal Reserve the power to place capital requirements and

impose sanctions on these holding companies. The Federal Deposit Insurance Corporation (FDIC), which regulates ILC’s, does not have these powers.

Oversight of the holding company is the key to protecting the safety and soundness of the banking system. It is immaterial whether the owner of the bank is a

financial or a commercial entity. Holding company regulation is essential to ensuring that financial weaknesses, conflicts of interest, malfeasance, or incompetent

leadership at the parent company will not endanger the taxpayer-insured deposits

at the bank. Years of experience and bank failures have shown this to be true.

54

7The Wall Street Fix, Frontline, May 8, 2003.

Moreover, the involvement of investment banking firms in recent corporate scandals has provided plenty of evidence of the need for rigorous scrutiny of these

companies as they get more involved in the banking industry. In particular, the participation of some securities firms in the Enron and Wall Street analyst scandals

has shown that these firms were rife with conflicts-of-interest that caused them to

take actions that ultimately harmed their investors. Given this track record, it

would be a serious dereliction of duty on the part of Congress to tie the hands of

regulators in looking at bank holding companies.

3. The ILC loophole violates long-standing principles of banking law that commerce and banking should not mix. Recent corporate scandals show the serious risks

involved in allowing any commercial entity to own a bank without significant regulatory scrutiny at the holding company level. Accounting scandals at Sunbeam,

Enron, Worldcom, Tyco, Adelphia, and many others involved deliberate deception

about the financial health of the companies involved. If these companies had owned

banks, not only would employees, investors, and the economy have suffered, but also

taxpayers.

As ILC’s grow larger, so does commercial involvement in banking. Under current

law, without any expansion of ILC powers, commercial firms can charter ILC’s in

several States. Under the Riegle-Neal Act’s ‘‘opt in’’ provision for reciprocal State

agreements (that allows banks chartered in each state to compete in all of them),

17 States already allow ILC’s to branch into their territories. As stated above, firms

such as General Motors, Pitney Bowes, BMW, Volkswagen, and Volvo already own

ILC’s. States that have not restricted commercial ownership of ILC’s, like Utah, are

aggressively encouraging other commercial firms to purchase ILC’s.

Instead of moving to close the ILC loophole, legislators in both the Senate and

the House are actually seeking to expand ILC powers. H.R. 1375 would allow many

existing and new ILC’s to branch into all 50 States, whether these States approve

or not, and to offer business checking services. (Business checking can only be provided by very small ILC’s with less than $100 million in deposits.)

A Senate bill, S. 1967, would also allow industrial loan companies to offer interest

bearing checking accounts to businesses after 2 years. Although there is a requirement that the Secretary of the Treasury and the Federal banking agencies issue

joint regulations within 2 years after the date of enactment, the authority goes into

effect after this period whether the joint regulations are issued or not. As it is highly unlikely that the FDIC and the Federal Reserve Board in particular would agree

on joint regulations, our organizations view this bill as a straightforward expansion

of the authorities of industrial loans companies.

We strongly urge the Committee to stop both of these dangerous proposals in

their tracks.

BANKING/SECURITIES CONFLICTS OF INTEREST

Among the restrictions in the Glass-Steagall Act that GLBA eliminated were

those that prohibited commercial banks from combining with investment banks to

sell both credit and investment banking services. Consumer groups expressed many

concerns through the 1990’s that the banking/securities combination in particular

could allow financial investors access to insured deposits for high-risk lending

schemes. This could, our groups predicted, subject consumers and shareholders to

an increased potential for deception, leading to higher costs for consumers and taxpayers. Our organizations also expressed concern that complete elimination of the

Glass-Steagall barriers also meant increased concentration, creating institutions of

a size, and complexity that would be impossible to regulate effectively.

Unfortunately, the corporate scandals of the last few years have provided widespread evidence of the kind of deception we were concerned about, as well as proof

that financial regulators were not equipped to prevent these kinds of problems before they occurred, harming millions of small investors and—in some cases—putting

deposits insured by taxpayers at risk. The involvement of investment banking firms

like Citigroup in these scandals have provided a cautionary ‘‘case study’’ of the

kinds of problems that can result when banks inappropriately ‘‘tie’’ decisions about

lending and investment banking.

WorldCom and Citigroup

For example, let’s examine Citigroup’s involvement in the WorldCom scandal, as

documented in great depth in an Emmy award-winning segment for the Public

Broadcasting series Frontline. 7 Before Citibank merged with Solomon Smith Barney

and Travelers Insurance to become CitiGroup, WorldCom had already become a very

important investment banking client of Solomon Smith Barney. As a telecommuniVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00058 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
55

cations firm whose business plan was to grow through mergers and acquisitions,

WorldCom produced lucrative fees for the investment bankers chosen to handle

these transactions. Solomon wanted that investment banking business, and Solomon’s star technology analyst Jack Grubman was apparently willing to be a cheerleader for WorldCom’s stock to keep this business. (As evidence that investment

banking considerations influenced the research, Grubman justified his bonuses

based on the investment banking business he was bringing into the firm.)

So, the first conflict that existed was that Grubman had a strong incentive to promote WorldCom’s stock, and to continue to do so after its prospects had begun to

deteriorate, in order to keep WorldCom as an investment banking client for Solomon. When Citibank CEO Sanford Weill consolidated Solomon, Travelers, and

Citibank into a single entity, the conflicts just got bigger and more complex, with

conflicts related to commercial loans added to the mix.

With WorldCom’s stock having risen considerably, thanks in no small part to

Grubman’s cheerleading, Ebbers had a huge portion of his personal wealth in the

form of WorldCom stock. He wanted cash, but he did not want to sell the stock to

get it, as cashing out his stock would have been looked on as a bad sign on Wall

Street. In one case, the bank apparently came up with a plan to let Ebbers turn

his stock into cash without the scrutiny that would accompany a sale. To accomplish

that, the bank agreed to lend Ebbers the money, in the form of a $1 billion mortgage

to a company he controlled. Once the property was purchased, Ebbers was able to

turn around and sell a portion of the property for cash.

In another case, Citibank agreed to lend Ebbers money—in this case $43 million

to buy a ranch—with the loan backed by 2.3 million shares of WorldCom stock. This

transaction was questionable for a variety of reasons. First, stock is very risky collateral for a loan because of its inherent volatility. Telecom stock is especially risky

because, as events later showed, telecom is a volatile business. It is, in our view,

highly unlikely that Citibank would have entered into such a risky transaction had

it not been seeking to curry favor with Ebbers and WorldCom. That also added a

second dimension to the conflicts of interest—Citibank needed WorldCom’s stock

price to stay high in order to maintain adequate backing for its loans.

We know now that WorldCom’s strategy of constant mergers served in part to

hide its deteriorating financial condition. When the Sprint merger fell apart, however, WorldCom could no longer keep up the fac ̧ade. There was a telecommunications capacity glut. Long distance prices were plummeting. Other Wall Street analysts were turning more negative on the company’s prospects. WordCom’s stock

price began to drop precipitously.

The company desperately needed cash, and Citibank came through again. This

time, it led a bank syndicate that sold investors $17 billion of WorldCom bonds.

WorldCom turned around and used some of that money to pay off its debts, and

Citibank used that payment to reduce its exposure to loans backed by WorldCom

stock. This brings us to a third major conflict of interest. Citibank’s need to reduce

its exposure to WorldCom loans appears to have been a factor in its investment

bankers’ willingness to approve a bond underwriting deal without appropriate due

diligence on WorldCom’s ability to repay the loans that those bonds represent and

without adequate disclosure to investors of WorldCom’s deteriorating financial condition.

Meanwhile, analyst Grubman was still doing his part, touting WorldCom’s stock

and calling it ‘‘an incredible bargain’’ at its newly reduced price. Given his access

to top officers at WorldCom—he attended more than one board meeting and was

listed as an adviser on the failed Sprint merger deal—it is hard to believe that

Grubman could have been so oblivious to its deteriorating financial condition. At

best, it seems logical to conclude that he ignored red flags because he had a strong

incentive to ignore them.

There are three major lessons from this debacle for our discussion on GLBA today

that are relevant. First, when major conflicts of interest exist and huge sums of

money are at stake, abuses will occur. When Federal law has eliminated barriers

to many of these potential conflicts, allowing them to flourish, it is naive to think

that regulators can stop potential conflicts from becoming real conflicts through the

erection of a few prohibitions.

Second, abuses are inevitable if businesses are allowed to create structures that

are so big and complex that they require a major investment in regulatory oversight

to prevent these abuses. However, once Congress allows these structures to be created, it had better be willing to provide the resources for regulatory oversight and

to push regulatory agencies to be aggressive in enforcing the law. Third, investors

will always be the ones left holding the bag when abuses occur. The system is not

very good at restoring those losses once the damage is done.

56

8 Credit Access Survey: Linking Corporate Credit to the Awarding of Other Financial Services;

Association for Financial Professionals, March 2003. 9 ‘‘Bank Tying: Additional Steps Needed to Ensure Effective Enforcement of Tying Prohibitions,’’ General Accounting Office, October 2003.

Congress has in recent years given the Securities and Exchange Commission a

much needed infusion of funding, though it is still not clear whether its funding

matches its workload. Embarrassed by the New York Attorney General’s Office,

which has shown itself more than ready to step in and take action when it perceives

there is an abuse that is not being addressed, the Commission appears to have

made a new commitment to maintaining an aggressive enforcement program. Only

time will tell whether the agency is up to the task. However, the SEC is not alone

in bearing responsibility, and a ‘‘solution’’ that focuses entirely on the SEC and ignores Federal banking regulators will not solve the whole problem.

In the Citigroup/WorldCom affair, the balance of power in the relationship seems

to have tipped toward WorldCom. The picture that comes through is this: Because

Citigroup was desperate for WorldCom’s investment banking business, it was willing not only to abandon all objectivity in its research, but also to overlook sound

lending practices by offering loans to WorldCom and Ebbers that were not justified

by WorldCom’s underlying financial condition.

The conflicts that created this scandal are really the inverse of traditional ‘‘tying,’’

when banks condition the availability or terms of loans or other credit products on

the purchase of other products and services. In that situation, the balance of power

tips toward the lender. There is some evidence that traditional tying may also be

alive and well under GLBA.

A survey of corporate financial officers issued last year by the Association for Financial Professionals found that commercial banks frequently make access to credit

contingent upon the purchase of other financial services.8 Survey respondents indicated that they were concerned that if they did not award other business to their

creditors, they would not receive credit in the future, would receive less credit, or

pay a higher price.

While tying of this type is only a threat to the safety and soundness of the banking system if the bank offers loans at less than the market rate, or at otherwise

more favorable terms to an unqualified borrower, it does represent a potential

threat to shareholders, albeit one that is hard to quantify. For example, when a

company is forced to pay more than it should for credit, that can affect the share

price. Similarly, when a company selects investment bankers based not on which

are the best qualified to do the deal or which are offering the most favorable terms

to do the deal, but because of who is providing the company with credit services,

this could drive up the cost of investment banking services. Those costs would also

be absorbed by shareholders. We urge the Committee to investigate this problem

further to examine what might be the ultimate costs and risks to shareholders.

Late last year, the GAO found a lack of documentation regarding tying the availability or price of credit to the purchase of debt underwriting services.9 However,

the GAO also stated that ‘‘the lack of documentary evidence might be due to the

fact that negotiations over credit terms and conditions (during which a tying arrangement could be imposed) were generally conducted orally’’ and that ‘‘borrowers

were reluctant to file formal complaints with banking regulators.’’ GAO recommended that the Federal Reserve and the OCC take additional steps to enforce

the antitying requirements in GLBA (in Sections 106 and 23B) and look for indirect

evidence to assess whether banks unlawfully tie products and services. We strongly

agree with this recommendation.

Consumer Services Issues

BANK FEES STILL A PROBLEM

In the debates leading up to the enactment of GLBA, consumer advocates focused

attention on bank services and fees and bank policies for retail bank products and

services. While big banks are more likely to advertise ‘‘free checking’’ these days,

a close examination of the Federal Reserve’s annual report to Congress on bank fees

will show that the cost of having and using a bank account has simply been shifted

around.

Checking accounts are now viewed by banks with expanding branch locations as

the entry point for new customers for cross-selling of other products and services.

Banks are more likely now to offer accounts without monthly maintenance fees or

a minimum balance to avoid fees (required to advertise as ‘‘free’’ checking by TISA),

but make up the revenue on penalty fees. As a result, bank noninterest income and

service fee income overall continues to rise. As noted by the Federal Reserve reports

57

10For example, Big Banks, Bigger Fees 2001, U.S. Public Interest Research Group, November

2001.

and U.S. PIRG bank fee reports 10 over the years, banks continue to charge more

fees, higher fees, and make it harder to avoid paying fees. In addition, both the Federal Reserve and the PIRG studies document that larger, multistate institutions impose higher fees than local banks or credit unions.

Our groups are most concerned about growing fees that penalize consumers who

have trouble making ends meet, including the insufficient funds fee, deposit item

return fees, and overdraft fees. According to the Federal Reserve, NSF fees averaged

$21.73 in 2002, an increase over the prior year. Bank fee surveys find that NSF fees

range up to $35 per item at some banks. Seventy-five percent of banks now charge

when items are deposited and returned for insufficient funds, averaging $6.88 in

2002. On average, banks charged $21.83 in 2002 for overdraft transactions, up over

1 percent from the prior year.

A CONTINUING PROBLEM: THE UNBANKED

Millions of American consumers continue to conduct their routine financial transactions outside mainstream banking, a situation that has not significantly improved

since GLBA was enacted. Despite high level regulatory attention to the problem of

‘‘banking the unbanked,’’ including the FDIC’s Symposium held last November,

modest First Accounts grants from Treasury over the last 2 years, and roll out of

the Electronic Transaction Account program of Treasury to implement EFT’99 goals

of enabling direct deposit of Federal benefits, conservative estimates find that 10

percent of American families still do not have a transaction account at a bank or

credit union.

Consumers without bank accounts are more likely to be young, lower income, minorities, renters, and have less formal education, according to the Federal Reserve

Survey of Consumer Finances and academic and regulatory agency studies. One in

three low- to moderate-income consumers in New York City and Los Angeles does

not have a bank account. Twenty-two percent of low-income households (8.4 million

families making less than $25,000 a year) do not have a bank account.

The high cost of being unbanked includes paying fees to cash checks, buying

money orders to pay bills, paying to wire funds to distant locations, and lacking a

safe place to save money. The unbanked live paycheck to paycheck, without savings

to meet emergencies, making them susceptible to high cost forms of credit, including

rent to own, car title pawn, and secured credit cards. While retailers such as WalMart have entered the check cashing business, charging a flat rate $3 to cash a payroll or government check, banks increasingly charge noncustomers fees to cash

checks drawn on the bank.

Second Class Financial Products for the Unbanked

Instead of bringing unbanked consumers into the mainstream by designing fairly

priced products and services that meet the needs of consumers, banks and others

are developing policies and services that deliver subprime protections. For example,

KeyBank is now offering a ‘‘checkless’’ checking service, Key Checkless Access, for

a fee of 1.9 percent per deposit to have paychecks direct deposited into a KeyBank

account accessed by an ATM card. (The account is being marketed to consumers

blacklisted on ChexSystems for nonfraudulent account mismanagement in the past.)

Instead of providing account management training through such programs as Get

Checking (developed by the University of Wisconsin Extension Service) and a free

or low-cost direct deposit account that cannot be overdrawn, KeyBank is charging

check cashing fees for a limited use bank account.

Payroll cards and other stored value cards are growing in use as a way to deliver

money without providing real bank accounts to unbanked consumers. Instead of

opening bank accounts in the employees’ names, some employers and their banks

provide ATM cards that permit employees to withdraw their pay electronically from

a pooled account. As the OCC noted in an Advisory Letter issued in May, unsettled

regulatory issues include whether FDIC deposit insurance is available to cardholders, whether Regulation E applies to payroll card systems, whether Section 326

of the USA PATRIOT Act (verification of new customers) applies, and whether Regulation CC (Availability of Funds) applies. Non-bank involvement in payroll card

programs raises the risk for both consumers and banks if the nonbank becomes insolvent.

Financial services are being increasingly delivered via stored value cards rather

than through accounts open in the consumer’s name. The explosive growth of stored

value gift cards and delivery of tax refunds and refund anticipation loans through

stored value cards is taking place without adequate Federal consumer protections.

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11State-chartered, nonmember banks currently partnering with payday lenders are County

Bank of Rehoboth Beach, DE; First Bank of Delaware; BankWest, Inc., SD; First Fidelity Bank,

SD: Community State Bank, SD; American Bank & Trust, SD: Bryant State Bank, SD:

Reliabank Dakota, SD: Republic Bank & Trust, KY; and Venture Bank, WA.

While consumers have Federal protections when they use credit cards and debit

cards, there is no Federal stored value card law and it is unclear what Federal protections apply to stored value cards. Convergence of plastic is not being supported

by upgrading of consumer protections.

Stored value cards do not provide a means of asset development or a way to build

credit worthiness. It is regrettable that mainstream banks are choosing to serve the

financial needs of low- to moderate-income, unbanked consumers through secondclass financial products and services.

NOT WHAT CONGRESS HAD IN MIND: MAINSTREAM BANKS OFFER HIGH-COST CREDIT

GLBA was intended to modernize banking law and to permit banks to affiliate

with other financial entities to offer a wide variety of mainstream products and

services to benefit American consumers. As stated above, we see no evidence that

the ‘‘synergies’’ that the proponents of the law promised have led to substantial benefits for consumers. While some, primarily affluent consumers may benefit from

larger multistate ATM networks, from discounts offered for multiple account relationships or from sophisticated financial products offered by boutique units to highbalance customers, we have seen no evidence that GLBA has slowed the continuing

trend of rising bank fee income (that is from service fees on deposit accounts, from

penalty fees on credit cards and from ATM surcharges) nor has it helped decrease

the numbers of the unbanked.

Indeed, some banks have chosen to go beyond the scope of mainstream financial

services contemplated in GLBA and now participate in the triple-digit-interest rate

‘‘fringe lending’’ market, or offer predatory products like ‘‘bounce protection’’ that are

all-but-indistinguishable from many fringe lending products. Given the number of

banks now offering these high-cost products, or—in some cases—affiliating with

lenders who do, it is legitimate to ask whether Congress was fooled by the promise

of innovative, affordable financial services products, only to find that the new products that are really being promoted have an outrageously high price tag.

Payday Lending and GLBA

For example, a handful of banks have chosen to ‘‘rent’’ their bank powers to pawn

shops and small loan companies to assist those nonbank companies to make small

loans at costs that would violate State laws. Payday loans are small loans made to

cash-strapped consumers, secured by a post-dated check or access to the borrower’s

bank account. Loans for up to $500 plus a finance charge of $15 to $30 per $100

borrowed are due in full on the borrower’s next payday. Payday loans are made

without regard for the borrower’s ability to repay. The cost of payday loans averages

470 percent APR, far in excess of some State usury or small loan laws.

Under a ‘‘rent-a-charter’’ arrangement, the payday lender markets the loans, solicits borrowers, accepts applications, disburses loan proceeds, services and collects the

loans. The bank generally takes only a small percentage of the loan revenues—often

as little as 5 percent—while it is so-called ‘‘agent’’ takes the vast majority of the

revenues generated by the loan.

While GLBA provided for bank affiliation with other mainstream financial entities, we are certain that Congress never intended to empower banks to rent their

interest rate exportation powers to third party entities to make predatory loans or

to undercut State authority to enforce usury laws, small loan regulations, and, even

State payday loan laws. That is not what the payday lending industry thinks

though. The industry filed an amicus brief in the U.S. Court of Appeals for the Eleventh Circuit, claiming that Georgia’s law violated Section 104 of GLBA, despite the

fact that Section 104 is clearly intended to govern the relationship between State

laws and the sale of insurance by financial institutions. The Court rejected the brief

on grounds that it made arguments not included in the District Court case.

Ten State-chartered FDIC-supervised banks partner with pawn chains, check

cashers, and payday lenders,11 according to CFA’s latest report, Unsafe and Unsound: Payday Lenders Hide Behind FDIC Bank Charters to Peddle Usury. No federally chartered financial institutions or state member banks partner with payday

lenders, following regulatory action by the Comptroller of the Currency, Office of

Thrift Supervision, and Federal Reserve. These regulators found that payday lending exposes federally insured banks to unacceptable safety and soundness risks, undermines consumer protections, and carries serious reputational risk.

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12 Bounce ‘‘protection’’ is a euphemism used by banks to describe this high-cost credit product. 13For more information on bounce credit, see Consumer Federation of America & National

Consumer Law Center, Bounce Protection: How Banks Turn Rubber Into Gold By Enticing Consumers to Write Bad Checks (2003), available at www.consumerlaw.org/initiatives/test—and—

comm/appendix.shtml. 14Daniel P. Stipano, Deputy Chief Counsel, Office of Comptroller of Currency, Interpretive

Letter #914, September 2001. 15 Indiana Department of Financial Institutions, Newsletter—Winter 2002 Edition (Nov.

2002), at 2, Clearinghouse No. (D/E: Fill in number); Letter from Assistant Attorney General

Paul Chessin, Colorado Department of Law, Consumer Credit Unit, Mar. 21, 2001 (in response

to referral from the Administrator for the Colorado Uniform Consumer Credit Code).

Eleven of the thirteen largest payday loan chains use bank partners in States

with consumer protection laws that do not permit unregulated payday lending, such

as Pennsylvania, Arkansas, New York, North Carolina, Michigan, and Texas. Georgia recently enacted a law strengthening enforcement tools to prevent usury and to

prohibit rent-a-bank payday lending where the local storefront gets the majority of

the money.

State banking officials and Attorneys General in several States have challenged

the claims of payday lenders that banks’ exportation powers extended to them and

alleged that rent-a-bank arrangements are fraudulent tactics to cloak illegal loan

terms. States from California to Maryland have enacted antibroker clauses in an attempt to prevent local lenders from partnering with banks to evade State consumer

protections. In court litigation to date, none of these state antibroker laws have been

overturned. Federal courts in New York, Florida, Maryland, Colorado, North Carolina, and Georgia have denied bank/payday lender claims to total preemption of

State law and have remanded payday loan cases to State court. Yet the FDIC continues to permit the banks it supervises to aid storefront lenders in evading State

consumer protections.

As the Committee reviews the Gramm-Leach-Bliley Act, we urge you to clarify

that bank charters are not for rent and halt the misuse of bank charters by third

party lenders to make loans under terms prohibited by States.

Bounce Loans

Bounce loans 12 are a high-cost new form of overdraft protection that some banks

are using primarily to boost their fee revenue, not to assist consumers.13 Bounce

loans represent a systematic attempt to induce consumers into using overdrafts as

a form of high-cost credit. These plans offer short-term credit at triple-digit rates.

For example, a $100 overdraft will incur at least a $20 fee. If the consumer pays

the overdraft back in 30 days, the APR is 243 percent. If the consumer pays the

overdraft bank in 14 days, which is probably more typical for a wage earner, the

APR is 541 percent.

Bounce loans also permit consumers to overdraw their accounts at the ATM, at

Point of Sale terminals, and through preauthorized electronic payments. For many

banks, the available balance displayed on the ATM screen includes the overdraft

amount, misleading consumers about the true balance in accounts. Bounce loan

plans turn debit cards into credit cards without consumer consent or disclosure of

the cost of borrowing the bank’s money.

Over 1,000 banks have implemented bounce protection plans. Although many of

these banks are small community banks, several very large national banks and

thrifts offer this product as well, including Washington Mutual Bank, Charter One,

TCF of Minneapolis, and Fifth Third of Cincinnati.

This arrangement is much more expensive than alternatives that most banks

offer, such as overdraft lines of credit, linking the account to a credit card, and

transfers from savings. When a consumer uses bounce credit, the bank deducts the

amount covered by the plan plus the fee by setting off the consumer’s next deposit,

even where that deposit is protected income, such as a welfare or Social Security

check. Consumers who do not want such an expensive ‘‘courtesy’’ must explicitly opt

out by contacting the bank. The fee is often the same amount charged for an NSF

fee on a returned check, and in some cases the bank also charges an additional, perday fee. The Office of Comptroller of Currency has recognized that bounce loans are

credit as defined by TILA.14 Some State regulators have reached the same conclusion.15

There is considerable confusion and misunderstanding among consumers about

the rules and obligations of bounce loans. Consumers often do not understand the

full cost of these loans, and they do not understand the recurring nature and exorbitant cost of the ongoing use of bounce loans. In most cases, consumers do not affirmatively agree to this coverage. Instead, the bank imposes coverage to a subset of

accountholders as a ‘‘courtesy’’ or additional service feature of their account. ConVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00063 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
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sumers would benefit enormously from application of TILA’s open-end credit disclosure rules to these expensive and deceptive products.

The Federal Reserve Board recently announced new, proposed rules to govern

bounce loans, but chose to cover them under the Truth in Savings Act, Reg DD.

That is a completely inadequate response to the real need consumers have for information about the exorbitant costs of these loan products. Congress should step in

and require—at the least—that bounce loans be treated just as all other extensions

of credit are treated under the Federal Truth in Lending Act. This equivalent treatment would simply—and most importantly—require that creditors of bounce loans

inform consumers about the true costs of this credit and give consumers the right

to affirmatively choose this product.

Ultimately, the irresponsible actions of banks in offering bounce loans will lead

to more unbanked consumers. Instead of discouraging overdrafts and encouraging

sound financial management, these banks are now encouraging consumers to overdraw their accounts and use high-cost credit. By permitting overdrafts, not just

through checks but ATM’s and debit cards (where it was impossible or much harder

to overdraft before), these banks are creating more ways to impose exorbitant fees

and create financial hardship. These banks may ultimately drive consumers away

from bank accounts, either through consumer disgust at high fees or involuntarily

through the Chexsystem blacklist. Consumers who are reported in the Chexsystems

database for alleged bounced check activity find it nearly impossible to open a new

account.

GLBA and the Community Reinvestment Act

The Community Reinvestment Act (CRA) for over 25 years has been a major tool

in bringing capital and better banking services to the Nation’s underserved urban

and rural communities. Yet given the changes well underway in banking and mortgage lending CRA is in need of some updating.

Two trends pose perhaps the greatest challenge to CRA. First, the increasing consolidation among banks, increased competition in the financial services industry,

and the advent of new technologies have combined to shift financial assets out of

traditional banks covered by CRA and into nonbank financial services providers,

such as insurance, consumer finance companies, and mutual funds. Moreover, the

rise of nonbank mortgage lending companies and the secondary mortgage market

have reduced the importance of depository institutions as a source of mortgage funding. Consequently, CRA-covered institutions today make less than 30 percent of

home purchase loans, compared with more than 80 percent they made when the law

was first enacted, which has limited CRA’s effectiveness.

The second important trend is the emergence of alternative delivery systems for

promoting banking products, such as the Internet and telephone banking, instead

of traditional brick-and-mortar branching networks. The changing way in which

banks offer products to consumers poses a challenge to CRA, which traditionally relied upon a place-based definition to determine a bank’s compliance responsibilities.

Two key changes to CRA would help to modernize the law and keep pace with

these trends. First, CRA should be broadened to encompass a larger share of

nonbank financial service providers. This can be done by extending CRA-like requirements to nonbank firms that are performing bank-like functions. The second

key adjustment to CRA would be to broaden the definition of community beyond

those areas where banks have physical branches. The expanding use of new technologies means that a bank’s community for CRA purposes can no longer serve as

a reasonable proxy for the location of a bank’s customer base anymore. The banking

regulators have discussed making such adjustments via regulations but have yet to

act on these proposals.

GLBA provided an important opportunity to ‘‘modernize’’ CRA by applying these

types of requirements to nonbank mortgage companies, insurance firms, and other

financial institutions that affiliate with CRA covered banking institutions. Unfortunately, this did not happen. We encourage the Committee to update CRA along the

lines we discuss as part of future legislation.

While failing to update CRA, GLBA includes a CRA-related provision that is not

particularly constructive. I am referring to the so-called ‘‘CRA Sunshine Requirements,’’ as contained in Section 711 of the Act. The provision requires banks and

community groups to report to Federal regulators about certain ‘‘CRA agreements’’

made pursuant to or ‘‘in fulfillment of’’ CRA.

Over the years, CRA agreements between banks and local community groups have

been frequently used to resolve disputes about lending practices and to target special efforts and facilitate local community reinvestment partnerships. Often these

‘‘CRA agreements’’ are reached while bank expansion requests are pending before

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1Gramm-Leach-Bliley Act of 1999, Pub. L. No. 106–102, 113 Stat. 1338 (1999).

2Previously known as the ‘‘Financial Services Modernization Act of 1999.’’

regulators, although in recent years more and more institutions have elected to use

pending mergers to announce unilateral CRA pledges.

Whatever the merits of requiring the reporting and disclosure of such agreements

this statutory provision has not proven terribly useful to anyone concerned with

these issues.

For one thing, the CRA sunshine provision is not particularly well-crafted, requiring some CRA agreements to be reported and but not others. For example, it does

not require banks to report unilateral CRA pledges, which now have become the

predominate form that these commitments take. At the same time, CRA sunshine

continues to impose reporting burdens on those banks and their community group

entering into the more traditional types of two-party agreements. This is an inequity that neither the statute nor its regulations address.

Further, the CRA sunshine requirements were premised on what appears to be

a faulty assumption—that community groups are somehow using the CRA process

to extort money from banks for themselves. In fact, a study by the National Community Reinvestment Coalition that reviewed CRA agreements filed with Federal regulators found that only .3 percent of the total funding contained in these agreement

to be devoted toward general operating support for the nonbank parties. The disclosures confirm that the vast majority of these funds are directed to legitimate

lending activities. (CRA Sunshine Reveals Benefits of Bank-Community Group Partnerships, National Community Reinvestment Coalition, 2002, at 3).

We believe that the CRA sunshine provision has outlasted its usefulness, if indeed

it truly ever had one. We favor, therefore, repeal. Should the requirement be maintained, however, we believe that it should be overhauled to reduce its inequities and

to minimize the reporting burdens and inconvenience this reporting provision imposes on the affected parties.

—————

PREPARED STATEMENT OF RONNIE TUBERTINI

CHAIRMAN, GOVERNMENT AFFAIRS COMMITTEE

THE INDEPENDENT INSURANCE AGENTS AND BROKERS OF AMERICA

JULY 13, 2004

Good morning Chairman Shelby, Ranking Member Sarbanes, and Members of the

Committee. My name is Ronnie Tubertini, and I am pleased to have the opportunity

to give you the views of the Independent Insurance Agents & Brokers of America

(IIABA) on the Gramm-Leach-Bliley Act (GLBA) 1 and its effects on the insurance

marketplace. I am President and CEO of SouthGroup Insurance and Financial Services, Mississippi’s largest privately owned insurance agency. SouthGroup is a Jackson-based insurance agency employing 120 people in 17 locations across the State.

Although based in Mississippi, SouthGroup writes business in over 20 States and

provides foreign coverage for clients operating outside of the United States. My

agency represents over 50 insurance companies. I am also the current Chairman of

IIABA’s Government Affairs Committee.

IIABA is the Nation’s oldest and largest national trade association of independent

insurance agents and brokers. We represent more than 300,000 agents, brokers and

agency employees nationwide. IIABA members are small, medium, and large businesses that offer customers a choice of policies from a variety of insurance companies. Independent agents and brokers offer all lines of insurance—property,

casualty, life, health, employee benefit plans, and retirement products.

Overview

The Gramm-Leach-Bliley Act,2 signed on November 12, 1999, was the culmination

of nearly two decades of effort by Congress and the financial services industry to

eliminate the Depression-era laws and regulations which prevented depository institutions from affiliating with both insurance companies/producers and with securities

firms. The GLBA also clarified the respective regulatory duties and powers of Federal and State regulators as these industries began to engage in each other’s businesses.

We would like to focus on three parts of GLBA that directly affect insurance: (1)

Title I, which facilitates affiliation between banks and securities firms and insurVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00065 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
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3The Banking Act of 1933, Pub. L. No. 73–66, 48 Stat. 162 (1933).

4The Bank Holding Company Act of 1956, Pub. L. No. 84–511, 70 Stat. 133 (1956).

5GLBA Tit. I, Subtit. B, § 112 (Authority of State Insurance Regulators) also confirms the responsibility of States for the functional regulation of insurance; Tit. I, Subtit. C, § 121 (Subsidiaries of National Banks) similarly restricts banks’ ability to engage in insurance activities

through operating subsidiaries. 6GLBA Tit. III, Subtit. B, (Redomestication of Mutual Insurers) and Subtit. D (Rental Car

Agency Insurance Activities) also relate to specialized insurance issues. In addition, Title V (Privacy) affects insurance entities as well as other financial services, but that Title makes clear—

consistent with Tit. III Subtit. A’s reaffirmation of the State role—that State insurance regulators are responsible for privacy supervision of the insurance sector. 7 It should be noted, however, that in 2002 Citigroup spun off Travelers Property Casualty

Group while retaining Travelers Life and Annuity Company.

ance companies by repealing major portions of the Glass-Steagall Act,3 the Bank

Holding Company Act of 1956 4 and other Federal banking laws; (2) Title III, Subtitle C, ‘‘National Association of Registered Agents & Brokers,’’ which was designed

to encourage the States to establish a reciprocal or uniform agent licensing system;

and (3) Title III, Subtitle A, ‘‘State Regulation of Insurance,’’ which reaffirms the

traditional and primary authority of the States to functionally regulate the business

of insurance in the United States and clarifies the extent to which banks, or their

direct subsidiaries, may engage in insurance.5 Below we will describe these three

aspects 6 and the effect each has had so far on the insurance marketplace in general

and the independent agency system in particular. We will also discuss what lessons

may be learned from them when considering potential reforms to the insurance regulatory structure.

The Experience under Gramm-Leach-Bliley

Affiliation Among Banks, Securities Firms, and Insurance Companies

Title I of the GLBA (Facilitating Affiliation Among Banks, Securities Firms, and

Insurance Companies) allows depository institutions, securities firms, insurance

companies, and other firms engaged in financial services to affiliate under a new

financial holding company (FHC) structure. Title I also provides for the supervision

of these new FHC’s, streamlines somewhat the preexisting bank holding company

(BHC) supervision and specifies what financial activities could be conducted directly

in a bank or its subsidiary and which were required to be conducted through other

nonbank affiliates within the FHC.

With the authorization of these new FHC systems, many industry experts predicted that mega-mergers among the largest players in the banking, securities, and

insurance industries would transform the financial services landscape. The expectation was that convergence would lead to only a few, large diversified companies left

standing to offer consumers ‘‘one-stop-shopping’’—a smorgasborg of financial services products.

However, this has not come to pass. So far there has not been a massive move

toward consolidation of the country’s major financial services companies. Some

mergers have occurred, but most have not been among the leading players—two exceptions to that general rule being the Citicorp-Travelers Group deal, which was on

the table when GLBA was enacted; 7 and more recently the Bank One purchase of

key components of Zurich Life from Zurich Financial Services Group in 2003. The

convergence of products and services that began in the 1980’s continues to occur but

through smaller and more targeted merger activity. Banks have bought individual

securities firms and insurance agencies instead of insurance companies as had been

predicted, and insurance companies and agencies have also begun to offer a wider

variety of products.

Banks have been reluctant to get into the insurance business, the underwriting

side if not sales, for a couple of reasons. First, the insurance industry typically has

a lower return on equity than the rest of the financial services industry. Over the

last decade, diversified financial firms have earned nearly a 20 percent rate of return, banks around 15 percent, and insurance companies generally between 5–10

percent. Put simply, acquiring insurers oftentimes does not make economic sense for

banks.

Second, there is philosophical conflict between the two industries and, it seems,

limited opportunity for synergies. Banks are by nature risk averse and the insurance industry is inherently volatile and risky. After all, insurance at its core is the

aggregation of risk. The insurance marketplace differs from most other financial

services in that insurers must price and sell their policies before the full cost of coverage is known. This is especially true in the property/casualty marketplace where

insurers must try to anticipate losses such as catastrophic exposures like earthquakes, hurricanes, and now terrorism. Insurer results are also whipsawed by unexVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00066 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
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8 Insurance Information Institute and the Financial Services Roundtable, The Financial Services Fact Book 2004 (Dec. 15, 2003), available at www.financialservicesfacts.org. (FS Fact Book) 9 Id. at V. 10 Id. at 76. 11 Id. 12For more information on InsurBanc’s products and services, go to www.insurbanc.com. 13FS Fact Book at V. 14Meg Green, Bulking Up, BEST’S REVIEW, JULY 2004, July 2004, at 22–23 15 Id. 16FS Fact Book at 1.

pected changes in the legal system, such as Superfund or asbestos-related expenses,

which can have a negative effect on company surplus. Property/casualty insurers

typically break even or lose money on their underlying business, the underwriting

of risk—that is before investment income is taken into account. The first half of this

year was only the second time the U.S. property/casualty industry has posted a collective underwriting profit since 1986. It appears that banks are not willing to use

available capital to get into underwriting insurance as it is a very complicated and

difficult business.

Banks have been more inclined to get into the sale of insurance through the acquisition of insurance agencies; however, this trend has not been overwhelming. According to the Financial Services Fact Book 2004,8 banks acquired 60 securities

firms and 74 insurance agencies in 2002 9 (latest data available). While the number

of bank purchases of insurance agencies increased in 2002 by 17 percent from 2001,

the value of those deals decreased in that same year by 68 percent.10 In fact, the

number of bank/agency deals in the period from 1999–2002 has remained relatively

constant with 66 in 1999, 77 in 2000, 63 in 2001, and 74 in 2002.11

On the flip side, more insurance trade associations and a few individual carriers

have now entered the banking market. This has come more in the form of applications for thrift charters to open new OTS-supervised banks instead of buying existing banks. Examples of insurers—or their trade associations—wading into the banking market are the National Association of Mutual Insurance Companies, State

Farm, and Metlife. The IIABA has done the same with InsurBanc, the Federal savings bank developed jointly by the IIABA and the W.R. Berkley Corporation to serve

independent agents and brokers as well as their clients. InsurBanc opened on April

30, 2001. Three years later, InsurBanc has more than $32 million in deposits and

$60 million in assets, including the investment of nearly $30 million in agency-related loans.12 Along with agency financing products and services, InsurBanc offers

working capital lines of credit, commercial term loans, and commercial real estate

loans. InsurBanc also provides an array of consumer banking products that agents

and brokers can offer to their clients, including consumer loans, credit cards, home

equity loans, mortgages, certificates of deposit, and money market accounts.

While the mega-mergers that some envisioned have not occurred, consolidations

within most financial services sectors have boosted the market share of the largest

players in those sectors. This trend, which began in the mid-1990’s, has continued

in this decade for the insurance industry. From 1996 to 2002 the market share of

the top 10 companies grew from 38 to 51 percent in the life/health insurance market

and from 35 to 55 percent in the property/casualty marketplace.13

As life insurers, who are perhaps the most challenged by product convergence

from noninsurance players, attempt to diversify their revenue streams and gain

economies of scale, further consolidation among the remaining 1,462 U.S. life/health

insurers is expected.14 One commentator predicts that the market share of the top

10 life insurers will approach 75 percent by the end of the decade.15 Continued consolidation is also anticipated in the property/casualty industry. Some expect the

number of U.S. property/casualty insurers, now numbering approximately 3,300, to

fall by 30 percent over the next decade.16 With the fractured capital that this current large number of players in both the life/health and property/casualty industries

represents and the inherent volatility of the business, it is perhaps not surprising

that return on equity has been lower for insurance underwriters than the rest of

the financial services industry.

Industry experts are currently divided on whether the industry consolidation will

occur through large companies merging with or making wholesale acquisitions of

others (that is the St. Paul Cos.-Travelers Property Casualty deal of 2003) or insurers taking only selected bits and pieces of other companies in the form of purchases

of specific lines or blocks of business. Regardless, the result is largely expected to

be the same: Increased consolidation in the insurance marketplace.

The independent agency system has followed the overall insurance industry trend

toward consolidation. In 2002 (latest data available), there were 192 announced

mergers and acquisitions in the agent/broker community. The number of deals has

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17FS Fact Book at 3. 18McCarran-Ferguson Act, ch. 20, 59 Stat. 33 (1945) (codified as amended at 15 U.S.C.

§§ 1011–1015 (1994)).

remained relatively constant over the 5-year period from 1998 to 2002 with 184

deals in 1998, 235 deals in 1999, 188 deals in 2000, and 179 deals in 2001.17 This

however involves a relatively small number of all independent agencies, which continues to be a principal form of p/c insurance product distribution.

National Association of Registered Agents and Brokers (NARAB)

One of the most significant accomplishments of GLBA for the insurance marketplace was the NARAB Subtitle, which launched a producer licensing reform effort

that continues today. Prior to the enactment of GLBA, each State managed its

agent/broker licensing process in a distinct and independent manner, and there was

virtually no consistency or reciprocity among the States. For agents and brokers,

who increasingly operate in multiple jurisdictions, the financial and paperwork burdens associated with multi-State licensing compliance became overwhelming; and

consumers suffered as duplicative and redundant regulatory requirements made it

difficult for producers to be responsive to their needs. However, insurance producer

licensing has improved dramatically over the last 5 years, and these changes are

a direct result of Congress’ decision to address these issues in Subtitle C.

The Subtitle put the ball in the States’ court by threatening the creation of a new

national, NASD-style licensing entity—known as the National Association of Registered Agents and Brokers—if the States did not satisfy the licensing reform objectives articulated by Congress. The creation of NARAB was only averted when a

majority of the States and territories (interpreted to be 29 jurisdictions) achieved

a specified level of licensing reciprocity within a 3-year period.

To their credit, the National Association of Insurance Commissioners (NAIC) and

most States took swift and unprecedented action in response to ‘‘act-or-else’’ licensing provision. Nearly every State enacted new legislation that established licensing

reciprocity among the States and instituted interstate uniformity in certain critical

areas. According to the NAIC, at least 48 States have passed licensing reform legislation since the enactment of GLBA, and over 40 jurisdictions have been formally

certified as meeting the NARAB mandates. There is no dispute that the NARAB

provisions had their intended effect and initiated the move toward licensing modernization at the State level. Although more improvement is undoubtedly needed,

the States have made significant progress in the 5 years since the passage of GLBA.

The success of the NARAB licensing provisions is a perfect example of what the

Federal Government and the States can accomplish in partnership and how Congress can assist the States to achieve much needed marketplace reforms. The NAIC

and State policymakers had been trying to move toward reciprocal and uniform licensing for over a century, but little progress was made until Congress set a specific

deadline and attached specific goals and repercussions. In fact, Congress set the bar

at only a majority of the States and now all but a handful of States have met the

NARAB reciprocity standard. This success would not have occurred without targeted

Federal legislation, or what some are now calling ‘‘Federal tools.’’

Some may argue that the bar was not set high enough—because uniformity was

not required and several States have not adopted the reciprocity standards—but

there is no arguing with the provision’s effectiveness so far. There is certainly much

more to do to get to full agent licensing reciprocity and the ultimate goal of licensing

uniformity, but NARAB has set State insurance regulators on the right path, and

Congress can now easily move the bar higher in follow-up legislation.

Functional Regulation—State Insurance Regulation

Perhaps the most important accomplishment of GLBA in protecting insurance

consumers was its focus on functional regulation. The concept of functional regulation provides that insurance regulators oversee the business of insurance, banking

regulators oversee banking activity, and securities regulators likewise are responsible for securities activity. GLBA specifically reaffirmed the traditional authority

of the States to regulate the business of insurance in the United States.

GLBA expressly states that the McCarran-Ferguson Act 18 remains the law of the

United States and further states that no person shall engage in the business of insurance in a State as principal or agent unless such person is licensed as required

by the appropriate insurance regulator of such State. Title III also unequivocally

provides that ‘‘[t]he insurance activities of any person (including a national bank exercising its powers to act as agent . . .) shall be functionally regulated by the

States,’’ subject only to certain exceptions which are intended to prevent a State

from thereby frustrating the new affiliation policy adopted in Title I of GLBA. These

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provisions collectively ensured that State insurance regulators retained regulatory

authority over all insurance activities, including those conducted by financial institutions and their insurance affiliates. Title III also provided for expedited judicial

review of disputes between State officials and Federal financial regulators, with the

courts being directed to give equalized deference to the rulings or actions of both

the States and the Federal regulator. These mandates were intended in large part

to draw the appropriate boundaries among the financial regulators, boundaries that

unfortunately continue to be challenged.

Since GLBA codified this important principle, the focus has largely shifted to the

success of functional regulation in the insurance marketplace and the effectiveness

and efficiency of State insurance regulation. The discussion has taken on more urgency as the perceived need for regulatory reform has increased due to the emergence of a more global financial services industry.

From the beginning of the insurance business in this country, it is the States that

have carried out the essential task of regulating the insurance marketplace to protect consumers. The current State insurance regulatory framework has its roots in

the 19th century with New Hampshire appointing the first insurance commissioner

in 1851, and insurance regulators’ responsibilities have grown in scope and complexity as the industry has evolved. When a Supreme Court decision raised questions about the role of the authority of the States, Congress quickly adopted the

McCarran-Ferguson Act in 1945. That Act, which was reaffirmed by Congress 5

years ago, declared that States should regulate the business of insurance and that

the continued regulation of the insurance industry by the States was in the public’s

best interest.

Most observers agree that State regulation has worked effectively to protect consumers, largely because State officials are positioned to be responsive to the needs

of the local marketplace and local consumers. Unlike most other financial products,

the purchaser of an insurance policy will not be able to fully determine the value

of the product purchased until after a claim is presented—when it is too late to decide that a different insurer or a different product might make a better choice. As

a result, insurance is a product with which consumers have many issues and questions and if a problem arises they want to resolve it with a local call. During 2001,

State insurance regulators handled approximately 3.6 million consumer inquiries

and complaints. Today, State insurance departments employ approximately 13,000

individuals who draw on over a century-and-a-half of regulatory experience to protect insurance consumers.

Unlike banking and securities, insurance policies are inextricably bound to the

separate legal systems of each State, and the policies themselves are contracts written and interpreted under the laws of each State. When property, casualty, and life

claims arise, their legitimacy and amounts must be determined according to individual State legal codes. Consequently, the constitutions and statue books of every

State are thick with language laying out the rights and responsibilities of insurers,

agents, policyholders, and claimants. State courts have more than 100 years of experience interpreting and applying these State laws and judgments. The diversity of

underlying State reparations laws, varying consumer needs from one region to another, and differing public expectations about the proper role of insurance regulation

require local officials ‘‘on the beat.’’

Protecting policyholders against excessive insurer insolvency risk is one of the primary goals of insurance regulation. If insurers do not remain solvent, they cannot

meet their obligations to pay claims. State insurance regulation gets high marks for

the financial regulation of insurance underwriters. State regulators protect policyholders’ interests by requiring insurers to meet certain financial standards and to

act prudently in managing their affairs. The States, through the NAIC, have developed an effective accreditation system for financial regulation that is built on the

concept of domiciliary deference (the State where the insurer is domiciled takes the

lead role). When insolvencies do occur, a State safety net is employed: The State

guaranty fund system. The system has paid out over $11 billion to cover claims asserted against insolvent insurers since they were first created in the mid-1970’s.

States also supervise insurance sales and marketing practices and policy terms and

conditions to ensure that consumers are treated fairly when they purchase products

and file claims.

Despite its many benefits, State insurance regulation it not without its share of

problems. The shortcomings of State regulation of insurance fall into two primary

categories—it simply takes too long to get a new insurance product to market, and

there is unnecessary duplicative regulatory oversight in the licensing and post-licensure auditing process.

In many ways, the ‘‘speed-to-market’’ issue is the most pressing and the most vexing from both a consumer and an agent/broker perspective because we all want acVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00069 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
66

cess to new and innovative products that respond to identified needs. The reality

of today’s marketplace is that banking institutions and securities firms are able to

develop and market new and more innovative products and services quickly, while

insurance companies are hampered by lengthy and complicated filing and approval

requirements in 50 States. As a result, insurance companies—and, derivatively,

agents and brokers selling their products and services—are at a competitive disadvantage compared to their counterparts in other financial services sectors.

Today, insurance rates and policy forms are subject to some form of regulatory

review in nearly every State, and the manner in which rates and forms are approved and otherwise regulated can differ dramatically from State-to-State and from

one insurance line to the next. Such requirements are significant because they not

only affect the products and prices that can be implemented, but also the timing

of product and rate changes in today’s competitive and dynamic marketplace. The

current system, which may involve seeking approval for a new product or service

in up to 55 different jurisdictions, is too often inefficient, paper intensive, time-consuming, and inconsistent with the advance of technology and regulatory reforms

made in other industries. Cumbersome inefficiencies create opportunity costs, and

the regulatory regime in many States is likely responsible for driving many consumers into alternative market mechanisms. In order to keep insurers competitive

with other financial services entities and maximize consumer choice in terms of the

range of products available to them, changes and improvements are needed.

Similarly, insurers are required to be licensed in every State in which they offer

insurance products, and the regulators in those States have an independent right

to determine whether an insurer should be licensed, to audit its market-conduct

practices, to review mergers and acquisitions, and to dictate how the insurer should

be governed. It is difficult to discern how the great cost of this duplicative regulatory oversight is justified.

IIABA’s Support for the NARAB Approach of Targeted Reforms

As we have for over 100 years, IIABA supports State regulation of insurance—

for all participants and for all activities in the marketplace—and we are opposed

to any form of Federal regulation, optional or otherwise. Yet despite this historic

and longstanding support for State insurance regulation, we are not confident that

the State system will be able to resolve its problems on its own. For the most part,

reforms must be made by statute, and State lawmakers inevitably face practical and

political hurdles and collective action challenges in their pursuit of improvements

on a national basis.

Therefore, IIABA believes that there is a vital role for Congress to play in helping

to reform the State regulatory system, but that such an effort need not replace or

duplicate at the Federal level what is already in place and successful at the State

level. We propose that two overarching principles should guide any such efforts in

this regard. First, Congress should attempt to fix only those components of the State

system that are broken. Second, no actions should be taken that in any way jeopardize the protection of the insurance consumer, which is the fundamental objective

of insurance regulation and of paramount importance to the IIABA as our members

represent consumers in the insurance marketplace.

IIABA believes the best alternative for addressing the current deficiencies in the

State-based regulatory system is a pragmatic, middle ground approach that utilizes

Federal legislative tools to foster a more uniform system and to streamline the regulatory oversight process at the State level. By using targeted and limited Federal

legislation to overcome the structural impediments to reform at the State level, we

can improve rather than replace the current State-based system and in the process

promote a more efficient and effective regulatory framework. Rather than employ

a one-size-fits-all regulatory approach, a variety of legislative tools could be employed on an issue-by-issue basis to take into account the realities of today’s increasingly global marketplace. There are only a handful of regulatory areas where

uniformity and consistency are imperative, and Congress has the ability to address

each of these core issues on a national basis in a single legislative act.

Congress’s work in this area need not jeopardize or undermine the knowledge,

skills, and experience that State regulators have developed over decades. While

IIABA believes such a proposal must modernize those areas where existing requirements or procedures are outdated, it is important to ensure that this is done without displacing the components of the current system that work well. In this way,

we can assure that insurance regulation will continue to be grounded on the proven

expertise of State regulators at the local level.

The enactment of targeted Federal legislation to address certain, clearly identified

problems with State regulation is not a radical concept. The Senate Banking Committee and the House Financial Services Committee have already proven that this

67

approach can work with the NARAB provisions of GLBA that we have already discussed. The IIABA believes the NARAB model can serve as a template for further

reform of State insurance regulation. The leadership of the House Financial Services

Committee has recently decided to take the NARAB approach of ‘‘targeted reform’’

after conducting a 3-year, in-depth review of insurance regulation. We understand

the Senate Banking Committee still has much to consider on this subject and the

IIABA looks forward to working with you in any review of State insurance regulation and potential reforms that the Committee may conduct.

Conclusion

In conclusion, we can say that the GLBA has not fundamentally altered the insurance landscape for consumers. While the consolidation within the insurance marketplace that began in the 1990’s has continued and perhaps increased, the mega-mergers of financial services providers that were expected have generally not occurred.

GLBA reaffirmed the authority of the States to functionally regulate insurance, and

led to substantial reform in the multi-State licensing of agents and brokers through

the NARAB Subtitle. This was an important precedent in insurance regulation that

Congress can look to in the future.

—————

PREPARED STATEMENT OF STEVE BARTLETT

PRESIDENT AND CHIEF EXECUTIVE OFFICER

THE FINANCIAL SERVICES ROUNDTABLE

JULY 13, 2004

Mr. Chairman and Members of the Committee, I am Steve Bartlett, and I am

President and Chief Executive Office of The Financial Services Roundtable.

I particularly appreciate the opportunity to testify on the impact of the GrammLeach-Bliley Act (GLBA). The Roundtable’s membership reflects the spirit of that

landmark law. The Roundtable members are 100 of the Nation’s largest integrated

financial services companies providing banking, insurance, and investment products

and services to the American consumer.

With the enactment of GLBA, Congress acknowledged the contribution of the financial services industry to our economy. Not only are financial services firms directly responsible for almost 10 percent of our Nation’s total gross domestic product

(GDP), but they also contribute to the Nation’s GDP by financing the activities of

individual consumers and businesses. It is, therefore, appropriate for the Committee

to review the impact of GLBA on the financial services industry and the economy

as a whole.

One of the principal goals of GLBA was to maintain the competitiveness of the

financial services industry so that all Americans could have access to financial services. Indeed, in writing GLBA, lawmakers set out to create an environment whereby

the marketplace would determine through what channels consumers are able to purchase financial services. The environment is governed by regulations that ensure

safety and soundness and consumer protection, but not what products can be offered, or by whom. By this standards GLBA has, in large measure, been a success.

The U.S. financial services industry is the envy of the world. U.S. financial services

firms are among the world’s largest and best capitalized firms. The Roundtable

members offer American consumers and businesses an ever-increasing array of financial products and services designed to address needs ranging from home loans,

life insurance, securities brokerage, and retirement services.

However, in the past 5 years it has become apparent that some modifications to

GLBA are necessary. In the remainder of my statement,I will outline some of the

changes to GLBA that The Roundtable recommends.

Amend GLBA to Establish Uniform, National Privacy, Insurance, and

Mortgage Lending Standards

In the past 5 years, it has become increasingly apparent that a number of financial services firms operate on a nationwide basis. They offer financial products and

services to consumers and businesses not only through physical offices, but also over

the Internet and telephone. Therefore, The Roundtable recommends that GLBA be

amended to subject national financial services firms to uniform, national regulation.

This is not a call for the elimination of regulation. It is a recommendation that

financial firms that operate on a national basis be subject to a single set of national

standards rather than a multiplicity of State and local regulatory requirements.

More importantly, this is a recommendation that is intended to benefit the consumers of financial products and services. Overlapping and conflicting State and

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1 American Bankers Assoc. et. al. v. Lockyer, at page, 10.

local regulatory requirements increase the operating costs of national firms, and

these costs, inevitably, are passed along to consumers. Overlapping and conflicting

State and local regulatory requirements also impair the ability of national firms to

offer uniform products and services, This complicates life for the homeowner that

moves from one State to another and seeks to receive the same financial products

and services in his or her new home State. It also prevents a company that operates

in multiple States from purchasing the same financial product or service for all of

the company’s facilities.

This Committee recently recognized the importance of uniform, national laws in

the reauthorization of the Fair Credit Reporting Act. The principle of uniform, national financial regulation also is embedded in the National Bank Act, which applies

to national banks, and the Home Owners’ Loan Act, which applies to Federal savings associations.

The need for national standards is most evident in three areas: Privacy, insurance, and mortgage lending.

Privacy

Title V of GLBA imposed a number of privacy requirements upon financial institutions. These requirements include the distribution of an annual privacy notice to

consumers, and they permit consumers to prevent the sharing of personal financial

information with unaffiliated third parties. Title V of GLBA also expressly authorizes the States to adopt privacy notice and disclosure laws that afford consumers

greater protection. The Roundtable urges the Committee to modify this provision of

GLBA and establish uniform, national privacy standards for financial institutions.

Two examples illustrate the confusion and conflict created by current law. First,

like many consumers, The Roundtable member companies have found that the annual privacy notice required by GLBA is overly confusing, and largely ignored by

many consumers. Extensive research indicates that consumers have difficulty processing notices that contain more than seven elements, and that require a reader to

translate vocabulary used in the notice into concepts they understand. Consumer

surveys also indicate that over 60 percent of consumers would prefer a shorter notice than the lengthy privacy policy mandated by GLBA.

The Federal banking agencies, in conjunction with the Federal Trade Commission,

the National Credit Union Administration, the Commodities Futures Trading Commission, and the Securities and Exchange Commission, recently requested comment

on alternative notices that would be more readable and useful to consumers. Yet,

even if these agencies develop a simplified notice, they lack the authority to make

the notice truly consumer-friendly because GLBA leaves the States free to adopt

their own, additional, notice requirements.

An illustration of the conflict created by GLBA’s deference to State privacy laws

arose just 2 weeks ago, when a Federal court affirmed the application of a California

privacy law to financial institutions operating in that State. The California law,

SB 1, permits consumers to prevent the sharing of information with affiliates (for

example opt out) and requires that consumers affirmatively authorize the sharing

of information with nonaffiliated third parties (for example, opt in). In ruling that

the FCRA does not preempt the application of this law to financial institutions operating in California, the court based its opinion in part on the provisions of GLBA

that allow States to adopt more stringent privacy laws, and that the Federal preemption applicable to affiliate sharing in the Fair Credit Reporting Act is limited

strictly to credit reports. As the court stated: ‘‘. . . Title V of the Gramm-Leach-Bliley Act of 1999, which sets forth basic privacy protections that must be provided

to consumers by financial institutions, demonstrates that it, and not the FCRA, encompasses the kind of information sharing at issue in this case.’’ 1 This decision, if

not reversed, amounts to an invitation to other States to pass their own privacy

laws, thereby subjecting financial institutions, and their customers, to a variety of

different and conflicting privacy regulations contrary to the clear intent of Congress

to establish national uniform standards for affiliate sharing.

To avoid this consumer confusion and reaulatory conflict, the privacy standards

in GLBA should be national, uniform standards. Also, the Federal regulators should

be directed to promulgate a simplified, national privacy notice with a safeharbor.

Insurance

Title III of GLBA reaffirmed that the business of insurance is regulated primarily

by the States. During the past 5 years, however, all parties to insurance regulation,

including the State insurance commissioners, have concluded that the current system of insurance regulation is flawed. Indeed, the regulatory regime should be

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2 Hearing on ‘‘Reforming Insurance Regulation’’ before the Capital Markets, Insurance and

Government Sponsored Enterprises Subcommittee of the House Financial Services Committee,

November 5, 2003. 3 ‘‘The Benefits of Competition in Financial Regulation: Innovation, Choice and Efficiency,’’ a

paper by James A. Wilcox, Kruttschnitt Family Professor of Financial Institutions, Haas School

of Business, University of California, Berkeley. We will provide the Committee a copy of this

study upon publication.

updated to reflect the needs of our mobile, transient population. As the former

President of the National Association of Insurance Commissioners, Mike Pickens,

told the House Financial Services Committee last year: ‘‘We agree with critics that

there is a need to make the [insurance regulatory] system more uniform, reciprocal,

and efficient.’’ 2

The Roundtable has concluded that the best way to reform the regulation of insurance is to create a parallel system of chartering and supervision for insurance companies at the Federal level. This so-called ‘‘optional Federal chartering’’ system

would not replace State insurance regulation. Instead, it would give insurance companies a supervisory alternative, similar to that available to banks and thrifts.

A soon-to-be published study that was partially funded by The Roundtable has

found that the competition between the States and the Federal Government inherent in the dual banking system has generated significant benefits for banks, their

regulators and their customers. Those benefits include enhanced product and regulatory innovation, expanded consumer choices, and expanded efficiencies in bank activities and regulations.3 These same benefits would flow to the insurance industry,

its regulators and its customers through the introduction of optional Federal regulation of insurance.

Mortgage Lending

GLBA addressed mortgage lending through provisions in Title I, which authorized

financial holding companies to engage in mortgage lending, and Title VI, which

made various reforms to the Federal Home Loan Bank System. In the 5 years since

the enactment of GLBA, however, the regulation of mortgage lending has become

a ‘‘hot’’ topic, as a variety of State and local governments have enacted laws designed to stop predatory lending practices, and as this Committee has debated the

supervision of not only the Federal Home Loan Banks, but also Fannie Mae and

Freddie Mac.

Accordingly, The Roundtable urges the Committee to amend GLBA and enact a

national mortgage lending law that establishes basic antipredatory lending protections for mortgage borrowers. This Federal law should apply uniformly to all lenders, regardless of charter, and should supersede State antipredatory lending laws.

The rationale for a uniform, national mortgage lending law is the same as the rationale for a uniform, national privacy law: A single, Federal standard avoids consumer confusion and the potential for conflict between competing State and local

laws.

Amend GLBA to Remove Sunset on Non-Financial Activities

One of the central features of GLBA was the creation of financial holding companies. It is now apparent that this feature of the bill has been only marginally successful. While most of the Nation’s largest banking firms have become financial

holding companies, only a handful of securities firms and insurance firms have chosen to do so. The financial holding company structure significantly expanded the

scope of activities permissible for banking firms; it did not offer insurance firms and

securities firms a similar benefit. Outside of the financial holding company structure, securities and insurance firms are subject to few limitations on affiliations.

Thus, it is not surprising that only a handful of securities and insurance firms have

become financial holding companies.

In a marketplace that is subject to rapid changes in technology and even more

rapid changes in consumer demands, some companies need the flexibility to provide

products and services outside the statutory list of activities that are financial in nature. Title I of GLBA took a step in this direction when it grandfathered the nonfinancial activities of companies that were not bank holding companies prior to

GLBA, but became financial holding companies after the enactment of GLBA. This

grandfather, however, only protects nonfinancial activities that constitute less than

15 percent of the financial holding company’s gross revenues, and is scheduled to

sunset in 5 years. We recommend that the Committee remove this sunset.

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4For example, financial subsidiaries of national banks may not underwrite insurance, may not

engage in merchant banking activities, and may not engage in real estate development or investment. Moreover, the total assets of all financial subsidiaries of national banks cannot exceed

a certain limit. 5For example, the prompt corrective action provisions in the Federal Deposit Insurance Act

permit Federal regulators to restrictthe activities of subsidiaries or even require the divestiture

of subsidiaries. Also, Section 114 of GLBA authorized the Federal banking regulators to impose

restrictions or requirements on relationships and transactions between depository institutions

and affiliated companies to ensure the safety and soundness ofthe depository institutions.

Amend GLBA to Remove Activity Limitations Applicable to Financial

Subsidiaries of National Banks and State Banks

Section 121 of GLBA authorized national banks to own financial subsidiaries, and

empowered these subsidiaries to engage in a range of financial activities. At the

same time, however, GLBA imposed a number of activity and other operating constraints on the financial subsidiaries of national banks and State banks that do not

apply to financial holding companies. These constraints should be removed.4

The activity and operational limitations applicable to the financial subsidiaries of

national and banks were imposed to eliminate a presumed subsidy enjoyed by banks

as a result of the Federal safety net, but not available to uninsured bank holding

companies. Thus, the activity and operational limitations were intended to ensure

regulatory parity between banks and bank holding companies.

The problem with these limitations is that the case for the presumed subsidy was

rather weak. Studies done by both the Office of the Comptroller of the Currency

(OCC) and the Federal Deposit Insurance Corporation (FDIC) have found little, if

any, evidence that banks, on net balance, receive a subsidy because of the Federal

safety net. Therefore, instead of establishing regulatory parity between bank holding companies and banks, the limitations have had the effect of making the financial holding company structure, which is not subject to similar limitations, the more

viable corporate vehicle for banking institutions seeking to engage in expanded financial activities.

Removing the activity and operational limitations on national and State banks

would allow banking organizations to select between alternative corporate vehicles

through which they could offer financial products and services.

State-chartered banks are subject to another activity limitation, which predates

GLBA, and which also should be removed. In 1991, Congress barred State banks

from engaging in any activity, as a principal, that is not permissible for a national

bank. While the FDIC can overcome this prohibition by determining that a particular activity poses no significant risk to the deposit insurance fund, the prohibition is fundamentally at odds with the philosophy behind our dual banking system.

The dual banking system is premised upon the operation of two, independent regulatory systems. Therefore, linking the powers of state banks to those permissible for

national banks diminishes the independence of the State banking system. Moreover,

this limitation cannot be justified on safety and soundness grounds. Both Federal

regulators of State banks, the Federal Reserve Board and the Federal Deposit Insurance Corporation, have the authority to take actions against State banks if the

activities of subsidiaries jeopardize the financial condition of the parent bank.5

Amend GLBA to Allow Treasury and the Federal Reserve Board to

Independently Determine What Activities are Financial in Nature

When it comes to determining whether or not a new activity should be permissible

for a financial subsidiary of a national or State bank or a subsidiary of a financial

holding company, GLBA establishes a complex notice and disapproval procedure involving the Secretary of the Treasury and the Federal Reserve Board. This procedure gives each agency a veto over new activities. It also ensures that the activities

permissible for financial subsidiaries of national and State banks will be the same

as the activities permissible for subsidiaries of financial holding companies.

In the 5 years since GLBA was enacted, the Treasury and Federal Reserve Board

have authorized few new activities. This suggests that the current procedure is overly cumbersome. Therefore The Roundtable recommends that the Treasury Department and the Federal Reserve Board should have independent authority to determine what a permissible financial activity is. 6 This would stimulate a positive competition between regulators that will benefit the customers of financial services

firms and the financial services industry. This proposed change should not jeopardize the safety and soundness of affiliated depository institutions since the OCC

and Federal Reserve have separate authority to ensure that the operations of financial affiliates do not harm depository institutions.

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The Importance of National Laws, Federal Preemption, and

Regulatory Competition

Three regulatory principles run throughout our testimony. The first is the need

for uniform, national laws for the financial services sector of our economy. Today’s

financial services markets are characterized by a handful of large, national financial

services firms, and thousands of smaller, local firms. The top 10 property and casualty insurers, for example, control roughly 55 percent of that industry’s assets.

Similarly, the top 10 banks account for 45 percent of all assets in the banking industry. Uniform, national regulation is in the best interest of these national firms, and

more importantly, their customers. Uniform national regulation promotes efficiencies that can be passed along to consumers. It also permits the development of

standard products and services that can be offered to consumers, regardless of their

location. Therefore, we urge the Committee to incorporate the principle of uniform,

national laws into GLBA in key areas such as privacy, insurance, and mortgage

lending.

The regulatory companion to uniform, national laws is Federal preemption. Without Federal preemption, the goal of uniformity cannot be realized. Congress has

recognized the Treasury also should have the ability to determine that certain activities are ‘‘complimentary’’ to financial activities; a power that Congress extended

to the Federal Reserve Board when GLBA was enacted, but not to Treasury. Importance of preemption in other key sectors of our economy, such as drugs, airline safety, and communications. This principle needs to be applied more broadly to financial

services.

Finally, the benefits of competition in financial regulation stand behind several

of our recommended modifications to GLBA. As James Wilcox explains in his forthcoming paper, the competition between State and Federal banking regulations that

is inherent in the dual banking system has produced numerous benefits to consumers, the industry and regulators. Therefore, we urge the Committee to modify

GLBA in these concrete ways:

• Create national uniform privacy standards;

• Create national uniform protections against predatory lending;

• Create and optional Federal charter for life and property & casualty insurance

companies;

• Remove the sunset on nonfinancial activities;

• Remove activity limitations on both national and State banks; and

• Allow Treasury and the Fed to determine independently what activities are financial in nature

Thank you for the opportunity to testify on this most important topic.

—————

PREPARED STATEMENT OF JAMES D. McLAUGHLIN

DIRECTOR, REGULATORY AND TRUST AFFAIRS

AMERICAN BANKERS ASSOCIATION

JULY 13, 2004

Mr. Chairman and Members of the Committee, my name is James D. McLaughlin,

Director, Regulatory and Trust Affairs of the American Bankers Association (ABA).

The ABA brings together all categories of banking institutions to best represent the

interests of this rapidly changing industry. Its membership—which includes community, regional and money center banks and holding companies, as well as savings

associations, trust companies, and savings banks—makes ABA the largest banking

trade association in the country.

I am glad to be here today to present the views of the ABA on the impact of the

Gramm-Leach-Bliley Act (GLB Act) on our businesses and customers. Consumers of

financial services are a diverse group, ranging from individuals, small businesses,

churches, and schools to large corporations and governments. The specific needs of

each customer group differ, but they all expect—and deserve—efficient and convenient provision of financial services.

In 1999, Congress addressed the inefficiencies in the then-current structure and

regulation of financial services by taking a forward-thinking approach to financial

services regulation. By enacting the GLB Act, Congress streamlined the regulatory

approval process and let market forces dictate what combinations of financial services would be most appropriate. Thus, by any measure, the GLB Act was one of the

most significant laws affecting the financial services industry, providing the framework for the next century. It was not, however, a sea change. Dynamic market

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forces, aided by changing technologies and demographics, were already changing the

market. While we do not know what future innovations will take place, we do know

that free and fair competition creates an atmosphere that encourages innovation.

The GLB act was an essential ingredient in bringing about such competition.

In my statement today, I would like to emphasize three points:

• The GLB Act was critical to modernizing our financial system, making it more

sensible and straightforward, removing inefficiencies in structure and regulation,

and letting market forces dictate what combinations of financial services would

be appropriate;

• The GLB Act has worked well, benefiting customers, diversifying incomes of financial firms, and posing no new risks to the financial system or the deposit insurance funds; and

• More can be done to fully realize the benefits of the GLB Act, including preserving

the regulatory flexibility given to the Federal Reserve and Treasury to adjust to

a dynamic financial services market; assuring that regulatory proposals on broker

‘‘push out’’ address key industry concerns; providing a sensible cross marketing

approach for merchant banking activities; encouraging the Federal Home Loan

Banks to fully embrace the expanded collateral provisions in the Act; and creating

uniformity of insurance regulation and supervision.

I will touch on each of these points in the remainder of my statement.

The GLB Act was Critical to Modernizing our Financial System

Economics, demographics, and technology created a whole new genre of financial

consumers. Over the last 20 years, customers put a premium on efficiency and convenience; they are not intimidated by automated delivery systems; they are willing

to use a wide variety of service providers—not just banks—to meet their financial

needs; and they are much more active managers of their savings and investment

dollars than previous generations. As a result, the mix of assets held by households

changed significantly (see Chart 1).

Financial firms began to adapt to these changes. Securities firms offered a full

array of loan and loan-substitute products and mutual funds (that compete directly

with deposits). Today, mutual and money market funds exceed bank deposits by

$1.4 trillion (see Chart 2). Large corporate borrowers increasingly went directly to

the financial markets for funding (See Chart 3). Diversified firms, like General Electric, offered a wide array of financial services—earning a substantial portion of their

income from them. While the competing products were similar, the regulation was

not.

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Internationally, U.S. financial firms were in danger of falling behind foreign competitors, which typically were able to provide securities, insurance, and real estate

services within ‘‘universal’’ banks. This gave foreign financial firms a competitive

edge over the United States in attracting global financial business.

Banks were forced to be creative in finding ways to combine services, often in convoluted and expensive ways. Regulatory decisions helped—such as those permitting

the establishment of so-called ‘‘Section 20 Subsidiaries’’ to allow bank holding companies to engage to a limited extent in securities underwriting and the approval for

national banks to engage in the sale of insurance from towns of 5,000—but were

not enough. Regulatory decisions were often challenged in court, slowing the evolution of the market. And the strict limits placed on the activities in which they

could engage prevented U.S. banks—and their customers—from reaching all customers demanding these services. Thus, customers of banks were unable to take advantage of a full menu of financial services.

Responding to the need to modernize the financial system and after many years

of deliberation, Congress enacted the Gramm-Leach-Bliley Act. It broke down decades-old barriers, allowed bank-affiliated firms to recognize the synergies associated

with full affiliation of banking with underwriting and agency activities in securities

and insurance. It also broadened the definition of financial services to enhance competition among all providers and it streamlined the approval process for acquisitions.

To avoid the need for Congress to continually referee disputes among financial

service providers, the GLB Act gave to the Federal Reserve and the Treasury authority to define new activities that are financial in nature, or incidental to financial

activities. This was designed to assure that regulation remains responsive to the

evolving marketplace in financial services and to assure there was a level competitive playing field. As will be discussed briefly below, the real estate lobby has

worked to derail this essential process in order to protect its own business interests

rather than those of consumers of real estate services.

Importantly, while more efficient combinations can occur as a result of the GLB

Act, they can do so without excessive risk taking or additional exposure to the FDIC

fund. Several provisions help to ensure any risk is controlled and poses no threat

to the deposit insurance fund. First, new products and services can now be provided

to customers, thus helping to diversify income and improve the overall health of the

financial institution. Second, the newly permissible activities, for the most part, are

placed in financial subsidiaries or affiliates of the holding company, which are legally separate entities from the bank and thus pose no risk to insured deposits.

Third, to utilize any of the new powers authorized in the GLB Act, all of the banks

of the banking organization must be well-capitalized and well-managed and continue to be so. Failure to maintain these standards means that they would have to

divest themselves of the new activity. And fourth, the Act also requires the large

insured financial institutions have at least one issue of outstanding subordinated

debt that is rated within the three highest investment grades. This provision was

adopted ‘‘in order to bring market force and discipline to bear on their operation and

the assessment of their viability’’ and applies, by regulation, to the largest 50 institutions.

The GLB Act also kept banking and commerce separate, giving the Federal Reserve the authority to determine when some nonfinancial activities are complementary to financial services.

74

1 As of June 2003, 52 percent of banks below $1 billion in assets were selling insurance with

33 percent selling general insurance (products other than credit related insurance and annuities).

The GLB Act Has Worked Well, Benefiting Customers and Posing No New

Risks

By ratifying and rationalizing the regulatory structure of what was already occurring in the marketplace, the GLB Act has already been successful. The diversification of income sources most certainly helped many banks through the periods of

slow economic growth while at the same time posing no new risks to the financial

system or the deposit insurance funds. In fact, the banking industry has posted

strong earnings since the enactment of the GLB Act, and now has capital and reserves exceeding $900 billion. The financial services industry continues to be a

major driver in our economy, now accounting for over 20 percent of GDP (see Chart

4). Jobs within banking, and financial services generally, have continued to be created even during the recent slow economic times (see Chart 5).

As of July 2004, 647 financial holding companies—a new financial structure established in the GLB Act—had been formed (about 12 percent of banking organizations, holding 80 percent of the domestic banking-industry assets). There are many

reasons for establishing a financial holding company (FHC). Some banks just wanted the streamlined approval process for acquisitions. Others wanted the market to

know that their bank was well-capitalized and well-managed—a requirement to

forming an FHC. Others were interested in merchant banking. About 25 percent are

engaged in insurance agency activities and 5 percent in insurance underwriting (unrelated to the extension of credit).1 Generally, all the BHC’s with Section 20 subsidiaries have converted to FHC’s. The reason for this is simple: These firms would no

longer have to calculate the 75-to-25 ratio of permissible to impermissible income

for a bank holding company—a burdensome and wasteful exercise.

While not all financial firms have rushed to become a financial holding company,

they could if they so choose in the future. This is a critical point: The success of

the GLB Act should not be judged by the number of financial holding companies

or whether the combination of activities that firms now offer were a direct result

of the GLB Act. Rather it is the very option to undertake combinations of activities

to meet the needs of customers that is the measure of success. Importantly, the

streamlined approval process for nondepository acquisitions has made a tremendous

difference. FHC’s now notify the Federal Reserve after the acquisition. Banking

firms are now more competitive because they are able to make quick business decisions and implement programs to meet the changing market needs. No longer do

they have to wait many months for regulatory approval of an acquisition, thereby

losing business to firms that did not have such impediments. This is the way a dynamic, competitive market is supposed to work.

It should also be remembered that banks and other financial firms had already

established relationships with securities and insurance firms prior to enactment of

the GLB Act. The removal of the arbitrary restrictions, such as the eligibility revenue limits, has helped expand existing businesses that banks had underway.

Smaller banks have used the GLB authorities to expand insurance brokerage activities without the artificial constraint of locating in a town of 5,000 residents.

There have been other benefits as well. About two dozen FHC’s have used the

GLB Act authorities to establish merchant banking operations. As the economy

gains momentum, merchant banking activity is expected to increase. Many members

of the ABA and the ABA Securities Association regard the authority to engage in

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2 ‘‘Memorandum: Legality Of Relationship Banking Under Bank Antitying Restrictions,’’ Covington and Burling, Washington, DC, May 28, 2003. This paper and the one by Dr. Mullineaux

were supported by the American Bankers Association and the ABA Securities Association. The

views expressed herein are strictly my own and do not necessarily represent the views of the

American Bankers Association, ABASA or its members. 3 ‘‘Tying and Subsidized Loans: A Doubtful Problem’’ by Dr. Donald J. Mullineaux, Director,

School of Management DuPont Chair in Banking and Financial Services, Gatton College of Business and Economics, University of Kentucky, May 2003.

expanded merchant banking activities as the single most important new power

granted by the GLB Act. As a result, our members have a strong interest in ensuring that they can engage in merchant banking activities to the full extent allowed

under the law. A particular concern, explained in more detail in Section III of this

testimony, relates to provisions that restrict cross-marketing with respect to merchant banking for some firms (affiliated with securities companies) but not for others (affiliated with insurance companies). A sensible approach by Congress to cross

marketing that is not based on ownership of one financial firm or another is needed.

The GLB Act established a two-way street allowing banking companies to efficiently enter securities, insurance, and other financial businesses as well as allowing these financial firms to enter the banking business. This enhances competition

within the financial services market as all firms have the opportunity to provide a

full range of financial services. It should be noted in this context, that the BHC Act

continues to impose a more stringent antitying standard on bank and financial holding companies than on other firms competing in the financial services market.

In spite of the fact that nonbank financial firms offer bundled products, that they

can form a FHC just like banking firms, and that banking firms are subject to more

stringent antitying standards, some observers have claimed that banking organizations’ ability to providing bundled services is somehow unfair, or even in violation

of antitying statutes. These claims are serious and unfortunately are too often accepted without legal understanding or economic analysis. Two recent papers help to

fill this analytical void. The first, ‘‘Legality of Relationship Banking Under Bank

Antitying Restrictions’’ by Covington & Burling concludes that there are many permissible approaches for banks to expand customer relationships, including crossselling and cross-marketing, engaging in certain forms of discount pricing based on

the volume of services purchased, and legal tying involving traditional bank products under statutory and regulatory exceptions. This broad range of permissible relationship banking practices is consistent with the limited scope of Section 106, the

antitying restrictions of the antitrust laws, and benefits of bundled products and

services.2

The second paper, ‘‘Tying and Subsidized Loans: A Doubtful Problem’’ by Donald

J. Mullineaux, DuPont Chair in Banking and Financial Services at the University

of Kentucky, analyzes whether tying makes any sense from an economic perspective

and evaluates the so-called ‘‘evidence of tying’’ that is based on comparisons of relative interest rates on syndicated loans and other types of financial contracts. This

paper concludes that tying is not a rational strategy in today’s financial environment and that no valid inferences about tying can be drawn from simple comparisons of rates on loans with those on bonds or credit default swaps.3

To summarize, the law no longer constrains the natural evolution of the financial

services market—that will be the legacy of the GLB Act. The market will continue

to evolve slowly as firms experiment and innovate, trying to find the best combination of services to meet the needs of their customers. Importantly, new combinations

of services have been provided without excessive risk taking or additional exposure

to the FDIC fund.

More Needs to be Done to Fully Realize the Benefits of the GLB Act

There are several issues of concern that limit or threaten the benefits of fair and

open competition envisioned in the GLB Act:

• The flexible regulatory process designed to allow financial institutions to enter

new lines of business must be allowed to work as envisioned in the Act;

• The banking industry has serious concerns over a new proposal by the Securities

and Exchange Commission (SEC) regarding Regulation B (a.k.a., broker ‘‘pushout’’ rules) that should be addressed;

• A sensible cross-marketing approach for merchant banking activities is needed;

• More rapid adoption of expanded collateral provisions for Federal Home Loan

Bank advances provided for in the GLB Act is needed to facilitate small business

and small agri-business lending, and;

• Insurance regulatory reform is the next natural legislative step following the GLB

Act to modernize the financial services industry.

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Regulatory Flexibility to Adjust to the Marketplace Should Be Preserved

In the more than 15 years of debate prior to enactment of the GLB Act, Congress

often found itself in the middle of arguments between financial services industries

about who should do what. The result was gridlock and an out-of-date financial system that did not reflect changes in consumer needs or in the use of technology. Congress also recognized that the statutory standard for regulatory approval of new

activities for bank holding companies—the ‘‘closely related to banking’’ standard—

was woefully inadequate in an economy transformed by technological progress.

To be sure that the procompetitive goals of the GLB Act continued to be met in

a dynamic marketplace, Congress: (1) established a flexible regulatory process that

would permit the financial industry to ‘‘compete effectively with any company seeking to provide financial services in the Unitied States’’ without the need for further

legislation; and (2) set forth a new, considerably broader, standard to enable banks

and bank holding companies to remain competitive no matter in what direction financial services evolved. That new standard—activities that are financial in nature

or incidental to a financial activity—was intended to provide the flexibility Congress

knew would be necessary. In an abundance of caution, those activities, even very

low-risk agency activities, can only be conducted in FHC’s or financial subsidiaries.

Unfortunately, this important provision has been derailed, at least for now, in one

of first proposed rulings under this Act, having to do with real estate brokerage and

management services. The merits of this proposal are not the subject of this hearing, and I will not belabor this matter beyond pointing out that real estate brokerage firms are competing directly with banks in providing financial services. They

have even admitted so in testimony before this Committee and yet are working to

frustrate the procompetitive process that Congress put into place in the GLB Act.

What is central to this hearing is that an extremely important provision of the GLB

Act—one that appropriately delegates responsibilities to the two agencies most familiar with the financial services industry—is not working. As a result, Congress

has once again become embroiled in another competitive issue—the very thing it

sought to avoid. We urge Congress to let the Treasury and the Federal Reserve undertake their responsibilities to assure that the financial services market remains

fair and competitive.

Concerns Remain over Regulation B (Broker ‘‘Push-Out’’ Rules) Proposed by SEC

As part of its financial modernization scheme, the GLB Act removed the blanket

exemption from SEC registration for banks that engage in securities activities. The

blanket exemption was replaced with a set of narrow exceptions for bank ‘‘broker’’

and ‘‘dealer’’ activities. Under the GLB Act, any securities activities that fall outside

of the exceptions may no longer be handled directly in the bank and, for practical

reasons, must be ‘‘pushed out’’ into an SEC-supervised securities affiliate of the

bank. The SEC delayed implementation of its rules several times, eventually putting in place a temporary exemption that effectively preserved the blanket exemption until the new rules could be rewritten. This action was very appropriate as the

banking industry made clear that the rules suggested at that time, in a variety of

respects, were burdensome, disruptive, costly, and unworkable.

In late 2002, the Commission took a dual track approach and issued final rules

implementing the ‘‘dealer’’ part of the exceptions only. The ‘‘dealer’’ exception rules,

including an exemption for securities lending activities, were issued in February

2003, and compliance became mandatory on September 30, 2003. On June 17, 2004,

the SEC made public the proposed ‘‘Regulation B’’ rules to implement the bank exceptions from the definition of ‘‘broker’’ under Section 3(a)(4) of the Securities Exchange Act of 1934, as amended by Title II of the GLB Act. In crafting proposed

Regulation B, the SEC sought input from the ABA, the ABA Securities Association,

and others. Bank trust officers, employee benefit professionals, custody managers,

securities professionals, and private bankers all share a keen interest in the practical application of these rules.

While the proposal, in most respects, is a significant improvement over the earlier

proposal, much work remains to be done. The regulation defines and clarifies a

number of the statutory exceptions from the definition of ‘‘broker’’ and grants several new exemptions from the ‘‘broker’’ definition to banks and certain other financial institutions (which would supplement the statutory exceptions). Among the key

issues that still need to be addressed are the following:

• The complexity of the ‘‘chiefly compensated’’ test under the trust and fiduciary exception;

• The inability of banks to offer order-taking to many new custodial clients after

July 30, 2004, including, most importantly, IRA custodial accounts;

• The incompatibility of the employee benefit plan exception with current pension

plan operations;

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• The uncertainty posed by the proposal to current bank bonus and referral fee

plans;

• The impact the rule will have on bank sweep programs; and,

• The proposal’s refusal to treat equally thrifts and commercial banking organizations.

Over the last 3 years, the ABA has worked closely with the SEC on these issues

and the proposal, in most, but not all respects, is a significant improvement over

the earlier one. We appreciate the SEC’s responsiveness to many of our concerns

and hope that these additional problem areas can be adequately addressed in the

next several months so that our member banks and savings institutions can continue to offer products and services, such as IRA accounts and pension plan services,

which our customers have come to enjoy. During this process, we would hope that

the Congress would continue to exercise its oversight responsibilities.

A Sensible Cross-Marketing Approach for Merchant Banking Activities Is Needed

There are two important changes in law that are needed that apply to the new

merchant banking powers authorized under the GLB Act. The first change would

allow all FHC’s engaged in merchant banking activities to cross-market products

and services offered by both the bank and the portfolio company in which the investment is made so long as the financial holding company has a noncontrolling investment stake in the portfolio company. The second change would permit all FHC’s,

whether or not their investment in the portfolio company was controlling, a limited

ability to cross-market bank and portfolio company products and services. This latter change is necessary to ensure that FHC’s affiliated with securities underwriting

firms are not unfairly disadvantaged vis-a ́-vis those FHC’s affiliated with insurance

underwriting firms.

As background, the GLB Act generally imposes cross-marketing restrictions on

FHC’s engaged in merchant banking activities. The Act prohibits a depository institution controlled by an FHC from marketing any product or service of a company

in which the FHC has made a merchant banking investment. The reverse is also

true: The company in which the FHC has invested may not market the products

and services of the FHC’s affiliated depository institution to its customers.

An exception from this prohibition is provided, however, for merchant banking investments made by insurance companies owned by an FHC. Thus, insurance underwriting firms that affiliate with depository institutions are able to cross-market

through statement stuffers, Internet websites products, or through the company in

which they have made a merchant banking investment. Moreover, products and

services offered by the company in which the insurance underwriting firm has invested also may be marketed via the depository institution that is affiliated with

the insurance underwriting firm.

Nearly all of the members of the ABA Securities Association are FHC’s that are

able to make merchant banking investments because of their affiliation with securities firms; very few, however, own insurance companies that could engage in the

type of insurance company merchant banking permitted by the GLB Act. As a result, our FHC members could not take advantage of the website/statement-stuffer

exception, while other FHC’s with insurance company merchant banking operations

would be permitted to do so.

There is simply no rational or public policy reason for this plain competitive inequity. The ability to cross-market through Internet websites is important to banks.

Current business practices often require an FHC to invest in an Internet firm in

order for its banks’ products to be posted on or linked to that firm’s website.

Taken together, the amendments suggested above would allow banks to crossmarket bank products and services to customers of a portfolio company and vice

versa, so long as the FHC’s investment stake was noncontrolling (which is defined

as owning or controlling 25 percent or more of the total equity or any class of voting

securities). In addition, we believe that even where a control situation existed, limited cross-marketing through websites and statement stuffers should be permitted

for all FHC’s.

Such changes will not only put our members on an equal footing with those insurance underwriting firms that engage in merchant banking, but they will also allow

all FHC’s to engage in cross-marketing so long as their merchant banking stake is

noncontrolling. This latter provision is very important to level the playing field between FHC’s and other non-FHC financial firms not similarly constrained by the

GLB Act’s bar on cross-marketing.

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4 12 U.S.C. 1430(a)3E. Community financial institutions are FDIC insured institutions with

less than $530 million in assets (adjusted for inflation from $500 million at the time of enactment). The FHLB’s’ regulator, the Federal Housing Finance Board, implemented this provision

in 2000 allowing the FHLB’s to accept small business, small agri-business, and small farm collateral. 5 15 U.S.C. Section 6701.

Federal Home Loan Banks Should Fully Embrace the Expanded Collateral Provisions

of the GLB Act

Title VI of the GLB Act included a provision long advocated by the ABA that expanded categories of eligible collateral for community financial institution members

of the Federal Home Loan Banks (FHLB’s) to include ‘‘secured loans for small business, agriculture, or securities representing a whole interest in such secured

loans.’’ 4 Unfortunately, the acceptance of small business, small agri-business, and

small farm collateral for loan advances by the Federal Home Loan Banks (FHLB’s)

has been spotty at best. In regions of the country where agricultural lending is a

major line of business for member banks of the individual FHLB’s, there has been

some acceptance of the collateral. The Dallas and Topeka Federal Home Loan Banks

have increased lending on this collateral the most, each accepting over $2 billion in

small business, small agri-business or small farm collateral thus far this year. The

Des Moines Bank has accepted $1.1 billion in this collateral thus far this year. However, even in these areas, agricultural loans (real estate secured and nonreal estate

secured) continue to be heavily discounted for collateral advances. The individual

FHLB’s assured the public that as they gained experience with these loans that the

discounting would be reduced if the loans performed as anticipated—and some have

begun to do so. As an example, on July 1, 2004, the Dallas Bank increased the acceptable limit on this type of collateral from two times a member’s Tier 1 capital

to three times the member’s Tier 1 capital. We applaud this move and encourage

other FHLB’s to follow suit.

In regions where agricultural lending does not dominate the business lines of the

member banks, there has been little or no acceptance of these loans for collateral

advances. Banks in these regions generally have required that members exhaust all

other acceptable collateral before accepting the new categories.

To be fair to the FHLB’s, some of the slowness is a result of the slowed down

in the agricultural and rural economy due to a rapid decline in farm commodity

prices and a decline in the manufacturing sector. Member banks have needed less

borrowed funds to meet loan demand. Today, agricultural commodity prices have recovered, and a robust farm real estate market is occurring in all regions of the country. We are disappointed that more of the FHLB’s are not positioned to meet what

could potentially be a renewed need for lendable funds.

A related issue that is particularly disappointing to us is the on-going problem

our members have faced when attempting to use Small Business Administration

(SBA) and U.S. Department of Agriculture (USDA) guaranteed loans as collateral

for FHLB advances. The Federal Housing Finance Board has made it clear that

these loans, backed by the full faith and credit of the U.S. Government, are eligible

collateral for purposes of borrowing from the FHLB’s. However, due to technical

issues related to SBA and USDA regulations on the terms and conditions of the

Federal guarantees, most FHLB’s place no value on the ‘‘full faith and credit’’ guaranty of the Federal Government. At best, some of the FHLB’s discount the Federal

guaranty and give the pledging banks no break on the collateral haircut; at other

FHLB’s, these loans are not acceptable collateral at all. Despite efforts of both the

ABA and representatives from several FHLB’s, officials that administer the loan

programs at USDA and SBA have been less than willing to resolve this issue. Guaranteed loans are extended to the most economically vulnerable small farmers and

small business people, and they deserve the best rates and terms possible. USDA

and SBA should be encouraged to modify their regulations to solve this problem.

Insurance Regulatory Reform

The most significant work left undone by the GLB Act is modernization of the

State system of insurance regulation. The American system of insurance regulation

was set in place at about the same time as Allied forces were fighting the Battle

of the Bulge in 1945. In March of that year, Congress delegated its authority to regulate insurance to the States with the passage of the McCarran-Ferguson Act.5 This

system is now more than half a century old and in dire need of modernization. Congress began to recognize this need in 1999 by including a provision within the GLB

Act that encouraged the States to adopt either uniform or reciprocal licensing standards for insurance agents. The so-called ‘‘NARAB provision’’ called for the establishVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00082 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
79

6The National Association of Insurance Commissioners (NAIC) created the NARAB Working

Group in December 1999 to help States implement Subtitle C requirements in Title III of the

Gramm-Leach-Bliley Act. That subtitle requires State insurance regulators to meet Federal statutory requirements affecting insurance agent licensing, and provides for establishing a new organization named the National Association of Registered Agents and Brokers (NARAB) if the

States fail to achieve the goals set forth in Subtitle C. The mission of the NARAB Working

Group is to coordinate State regulatory actions related to NARAB, so that we can fully and

promptly comply with all requirements in the GLB Act.

ment of a national licensing standard and required that standard to be adopted by

a majority of the States.6

Accordingly, we were hopeful that a uniform licensing regime would be created,

but that has not happened. Instead, a reciprocal licensing regime has been created,

and while a majority of States have enacted this system, significant variations in

licensing standards are still permitted. Unfortunately, the goal of creating just one

set of licensing standards to which all insurance agents must adhere has yet to be

realized. On a more positive note, NARAB’s inclusion in the GLB Act began the discussion of why Congress is needed to resolve the problems inherent in the State insurance regulatory system. Although NARAB’s success is limited, the States would

not have achieved even such little uniformity as currently exists absent a Congressional mandate to do so. However, the narrow scope of the NARAB provision (for

example, addressing only agent licensing) left unaddressed the myriad other problems of State insurance regulation that urgently need reform. The most glaring

among them are:

• Non-uniform or duplicative agent and company licensing criteria; • Inconsistent market conduct standards; • Non-uniform privacy standards; • Price controls; and, • Prior approval barriers to product introduction and innovation.

All of these are fundamental problems associated with product availability and

cost that duplicative and inefficient State regulation has created.

Witness the fact that most States require prior approval of insurance products

and rates before the product can be sold. The same product—term life insurance,

for example—must be modified to meet the different requirements imposed by every

State and as a result, can take as long as 2 years to roll out a new product nationally.

Regulation of this sort impedes product innovation and introduction as the cost

of complying with so many different laws restricts the ability of smaller companies

to enter the marketplace. Similarly, rate regulation, or price controls as they should

more appropriately be known, prevent some insurers from offering their products at

prices that are profitable. Accordingly, highly regulated States, like Massachusetts

and New Jersey, have a fraction of the insurance companies offering products for

sale compared to States like Illinois and South Carolina where market forces set

prices.

One solution to these problems endorsed by the ABA and its insurance affiliate,

the American Bankers Insurance Association (ABIA), is to create an Optional Federal Charter (OFC) for insurance companies and agencies. Like the dual-banking

system, an OFC would provide an alternative to the current State-by-State system

of regulation and create the uniformity and efficiency that is unattainable under

State regulation. Perhaps as important, an OFC would preclude or diminish the

harmful effects of having State regulators create many different interpretations of

a Federal standard. If uniformity is the goal, we can see no benefit to replacing the

universe of differing State laws with a universe of differing State interpretations of

a Federal law.

By leaving the State system intact, however, an OFC would preserve state regulation for those companies and agents preferring that system while providing choice

for those that prefer the uniformity and efficiency of a single Federal regulator and

the uniform regulations Federal oversight would provide. As with the dual-banking

system, providing this choice for the insurance industry will create a critical dynamic that inures to the betterment of insurance regulation as a whole and insurance consumers in particular.

The problems inherent in State insurance regulation grow worse every day. We

urge this Committee to examine State regulation of insurance in separate hearings

and to debate solutions to these most urgent problems.

Conclusion

The GLB Act has helped to remove an obstacle to efficient provision of financial

services. It responded to the needs of consumers and has increased the competition

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* Report held in Committee files.

among financial service providers, each vying to design new and creative products

by rebundling the four basic financial services—transactions services, intermediation, risk management, and advice. In this new competitive environment, customers look to suppliers who can provide combinations of services tailored to meet

their needs. As Senator Phil Gramm said at the signing ceremony for this Act: ‘‘The

world changes, and Congress and the laws have to change with it . . . . We have

learned that we promote economic growth and we promote stability by having competition and freedom.’’

—————

PREPARED STATEMENT OF JOHN TAYLOR

PRESIDENT AND CEO, NATIONAL COMMUNITY REINVESTMENT COALITION (NCRC)

JULY 13, 2004

Good morning Chairman Shelby and Ranking Minority Member Sarbanes. I am

honored to be testifying this morning and representing the views of community organizations regarding a law that revolutionized the banking industry. My name is

John Taylor; I am the President and CEO of the National Community Reinvestment

Coalition (NCRC).

NCRC is the Nation’s economic justice trade association of 600 community organizations and public agencies dedicated to increasing access to capital and credit for

minority and working class communities. NCRC was founded to protect and

strengthen the Community Reinvestment Act (CRA) since CRA increases access to

credit by insuring that banks have an affirmative obligation to serve all communities in which they are chartered.

It is particularly fitting that NCRC is testifying today because the Gramm-LeachBliley Act (GLBA) has directly and indirectly weakened CRA. If the flaws of GLBA

are not fixed soon, Americans’ access to credit and capital will diminish dramatically. The U.S. banking system is the envy of the world. In great part, this is directly attributable to our extensive regulatory oversight, which ensures adequate

capital reserves, safety and soundness, and fair and equal access to credit. GLBA

has failed to ensure that regulations relating to fair and equal access to credit and

capital have kept pace with safety and soundness regulation.

In order for fair lending regulation to keep pace with the changes in the financial

industry unleashed by GLBA, CRA must be updated and applied to more institutions as one of GLBA’s authors, Rep. James Leach, supported. In particular, community reinvestment obligations must apply to all affiliates of holding companies and

to lending institutions that are not part of holding companies. Data disclosure requirements also must be enhanced. In addition, the harmful aspects of GLBA that

must be repealed immediately are CRA Sunshine and the reduction in frequency of

small bank CRA exams.

CRA Sunshine

The one area of strong consensus among community leaders and the lending industry is that the so-called ‘‘CRA sunshine requirements’’ of GLBA must be repealed. The CRA sunshine provision sought to quantify the amount of bank dollars

granted to community groups. It was believed that such grants were used for operating support rather than for the direct provision of financial services and products.

Five years later, we now know that the facts do not support this theory.

In fall 2002, NCRC released a report called CRA Sunshine Reveals Benefits of

Bank-Community Group Partnerships. In this report, NCRC used the Freedom of

Information Act (FOIA) to obtain 707 CRA agreements made during 1999 through

2001 subject to the CRA sunshine disclosure requirements. As defined by GLBA, a

CRA agreement is a commitment in writing by a bank to a nongovernmental enterprise exceeding $10,000 in grants or $50,000 in loans. If the nongovernmental enterprise such as a community group commented to the bank or a regulatory agency

about the CRA performance of the bank, the bank and community group must disclose the initial CRA agreement to Federal regulatory agencies and must disclose

subsequent expenditures of funds received by the community group under the agreement.

NCRC found that of the $3.6 billion in the 707 agreements, only $11.8 million or

less than three tenths of 1 percent was grants or other funding for community

groups (I have submitted a copy of our report for the record).* These grants supported the vital missions of nonprofit homeless shelters, housing developers, and

other neighborhoodbased groups engaged in housing and economic development. The

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1Federal Register, May 28, 1999 (Volume 64, Number 103), pages 29083 through 29086.

grants also helped lenders meet community credit needs and increase their lending,

investing, and services in low- and moderate-income neighborhoods, as required by

CRA.

CRA sunshine frustrates the essential purpose of CRA, which is to ensure that

banks affirmatively meet credit needs. Further, CRA sunshine increases paperwork

burden on banks and community groups with no tangible net benefit to the public.

The repeal of this ill-advised and useless section of GLBA must occur immediately.

Less Frequent Exams for Small Banks

Another direct harm of the GLBA is the reduction in frequency of small bank

CRA exams. Under GLBA, small banks with assets of under $250 million are examined only once every 4 years if they have a Satisfactory CRA rating and once every

5 years if they have an Outstanding rating.

When small banks are examined that infrequently, they have little incentive to

affirmatively and continually adhere to their reinvestment obligations. They will

have reduced incentives to make sufficient numbers of loans to low- and moderateincome borrowers during the entire 4- or 5-year time period between exams, and

may only focus their efforts during the last year or two before exams. It is commonsense that infrequent examinations lead to infrequent commitments to reinvestment, while more frequent examinations lead to more consistent commitments to reinvestment.

NCRC’s 600 community organization members have reported that less frequent

exams have reduced the amount of lending by small banks to low- and moderateincome borrowers. NCRC would have preferred to present quantifiable evidence to

the Committee today, but we found out about testifying a mere 2 days before our

testimony was due. We call upon Congress to commission a comprehensive study assessing the impacts of the CRA exam stretch-out on lending to working class Americans.

This reduction in frequency responded to industry complaints about so-called

‘‘burden of CRA exams.’’ What continues to astonish NCRC, however, is that the

Federal regulatory agencies appear to accept industry arguments about burden although the Federal regulators themselves have yet to conduct their own comprehensive cost-benefit analysis regarding CRA’s application to small banks.

The lack of a thoughtful cost-benefit analysis is readily apparent in the GLBA

stretch-out of the small bank CRA exam schedule. The small bank exam is a quick

and straightforward exam that focuses on lending and dispenses with the investment and service test of the large bank exam. For any small bank that is true to

the mission of a ‘‘community banker,’’ the small bank CRA exam is a relatively easy

exam. If Members of this Committee actually looked at small bank CRA exams, they

would be astonished that all of this noise about burden can be generated by exams

that rarely exceed 10 pages in length.

Despite the brevity of the exam, its importance cannot be underestimated. In too

many poor rural communities, the CRA exam process is the only mechanism that

holds small banks accountable for serving low- and moderate-income borrowers and

communities. Smaller banks do not merge nearly as often as their larger counterparts, rendering the merger application process a seldom-used avenue for holding

smaller banks accountable. Community groups are also not as prevalent in smaller

rural communities as in large cities. Thus, the major mechanism for holding small

banks accountable is the CRA exam.

Yet, GLBA has greatly diminished the most important means of accountability of

small banks. Instead of once every 2 or 3 years, CRA exams for small banks now

occur once every 4 or 5 years. In reality, the exams are probably less frequent since

scheduled exams often get cancelled and rescheduled. In too many cases, the result

of the stretch-out of CRA exams means that small banks may be examined only

once or twice in a decade as opposed to 3 or 4 times.

In their scanty amount of analysis on small bank burdens, the Federal banking

agencies have found that CRA regulations ‘‘impose a modest information collection

burden on small institutions—an average of 10 burden hours per institution per

year.’’ 1 In addition, the relatively few trade articles on small bank CRA exams also

reveal few complaints about burden. In fact, an American Banker article shortly

after the CRA regulation reform in 1995 is entitled ‘‘Small Banks Give Thumbs-Up

to Streamlined CRA Exams.’’ In this article, small bankers are quoted as saying

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2 ‘‘Small Banks Give Thumbs-Up To Steamlined CRA Exams,’’ Jaret Seiberg of the American

Banker, Thursday, February 1, 1996.

that the exams were not burdensome and that CRA examiners took less than 1 day

of their time.2

The available evidence suggests minimal burden, but great benefits due to CRA

exams. But since the 1995 regulatory changes to CRA exams, the only action by policymakers has been to reduce the rigor of CRA exams. First, GLBA reduces the frequency of small bank CRA exams. Now, the regulatory agencies wish to apply the

streamlined small bank CRA exam to more than 1,000 additional institutions. Recently, the Senate Banking Committee asked NCRC to document the damage

caused by this proposed change; NCRC eagerly responded, documenting in great detail the loss in community reinvestment due to this latest proposal.

Mr. Chairman, it is clear to us that CRA is not burdensome and has greatly benefited both banks and community groups by increasing the number of profitable

loans, investments, and services made to low- and moderate-income communities.

We urge you to halt and reverse the trend of CRA deregulation. A place to begin

would be to repeal the stretchout of small bank CRA exams.

Have and Maintain Satisfactory CRA Requirement

GLBA added a requirement that bank holding companies must ensure that all of

their affiliates pass CRA exams (at least Satisfactory ratings) in order to be allowed

to merge with nonbank financial institutions and take advantage of the new powers

under GLBA. This requirement sends a signal that banks must comply with their

obligations under CRA if they wish to enjoy the privileges afforded to them by

GLBA. While well-intentioned, this requirement has not been applied in one case

to our knowledge. A major reason for this is less than 2 percent of banks and thrifts

fail their CRA exams, and the great majority of failing banks are smaller institutions less likely to merge or engage in nonbank financial business authorized by

GLBA.

In fact, the Federal Reserve Board had one opportunity in a large and controversial merger to apply this requirement, but arbitrarily and capriciously adopted a

narrow reading of the GLBA requirement. During 2000, Citigroup acquired the notorious lender Associates First Capital Corporation. A subsidiary of Associates, Associates National Bank, had a Needs-to-Improve CRA rating. Once Citigroup owned

Associates National Bank, it would have had an affiliate with a Needs-to-Improve

CRA rating, rendering it ineligible for GLBA powers and privileges. Confronted with

the first opportunity to enforce the ‘‘Have and Maintain’’ requirement, the Federal

Reserve punted. The Federal Reserve reasoned that the GLBA requirement applied

only to the holding company that is the acquirer, not to the institution being acquired. Yet, this hair-splitting distinction is not present in the GLB Act.

Strengthening the ‘‘Have and Maintain’’ Requirement

The intention of the ‘‘Have and Maintain’’ requirement was to ensure that institutions engaging in large scale mergers and embarking on broad new powers adhered

to their CRA obligation to serve all communities, including low- and moderate-income ones. Unintentional loopholes have subverted Congress’ ambitious and laudatory intention. Congress must close this loophole by specifying that the ‘‘Have and

Maintain’’ requirement must apply to the institution being acquired as well as to

the acquirer.

Furthermore, since failing ratings are so rare, the ‘‘Have and Maintain’’ requirement must be strengthened by imposing significant affirmative obligations on institutions that wish to merge. NCRC urges you to consider requiring merging institutions to submit a CRA plan with their merger application.

In the past year, merger activity has reached a frenzied pace and has included

the largest mergers in history. The Bank of America and Fleet merger and the JP

Morgan Chase and Bank One merger will create institutions with more than $1 trillion in assets. Despite the incredible magnitude of these and other recent mergers,

the Federal Reserve Board does not require any meaningful CRA plan from merging

institutions. The CRA ‘‘convenience and needs’’ discussions in the merger applications usually consist of one or two page boasts about how great the banks’ CRA performance are. The presentations also usually contain predications that the banks’

CRA performance will improve once they get bigger after mergers. Yet, NCRC has

too often documented with HMDA and CRA small business lending data that the

amount of loans decrease dramatically after large mergers. In too many cases,

banks close branches and lay-off loan offices in order to achieve merger ‘‘efficiencies.’’

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A requirement for a meaningful CRA plan holds out hope for communities that

mergers will not result in significant reductions in loans, investments, and services.

A meaningful CRA plan would require merging institutions to provide the number

of loans, investments, and services they made by State, metropolitan area, and rural

portions of States in past years. The plan would then describe how the institution

would increase their number of loans, investments, and services to minority and

low- and moderate-income communities and borrowers. In addition, the plan would

require meaningful performance measures such as comparisons between the percentages of loans a bank made to low- and moderate-income borrowers and communities, and the percentages of loans that the bank’s peers made to these borrowers

and communities. The plan would identify geographical areas (on a State, urban,

and rural level) in which the bank lags its peers on the performance measures and

would indicate how the bank will do better in these geographical areas.

Finally, and importantly, the CRA plan would include a fair lending component.

Large institutions seeking expanded GLBA powers are often involved in making

high-cost subprime mortgage loans or purchasing these loans. The Federal Reserve

Board and the other banking agencies, however, are not requiring specific promises

and reforms that would ensure that these loans are not predatory. In addition, large

banks involved in the mega-mergers are financing payday lenders, car title lenders,

pawnbrokers, and other fringe lenders. The Federal Reserve Board, however, is not

requiring due diligence mechanisms for these financial arrangements although the

Federal Reserve Board has used its supervisory powers to make sure that none of

the banks it regulates engages in payday lending.

The CRA and fair lending plan would become the focus of discussion among

banks, the regulators, and the general public during public comment periods and

hearings. Currently, banks submit applications with no meaningful discussion of

CRA and fair lending compliance; community groups comment on these glaring inadequacies; and the Federal Reserve then approves the merger applications with no

conditions. In contrast, meaningful CRA plans would stimulate meaningful discussions about strengths and weaknesses in banks’ CRA performance. The Federal Reserve Board would then encourage and/or require banks to specifically address

weaknesses in their CRA and fair lending performance. The end result would be an

increase in safe and sound lending for traditionally underserved communities.

NCRC believes that meaningful CRA and fair lending plans should be required

in every merger application proceeding. At the very least, this requirement should

apply to the larger mergers, involving institutions with $1 billion or more in assets.

Public hearings held by the regulatory agencies in States most affected by the mergers must also be automatic for the larger mergers. In addition, the CRA plan requirement could also focus on geographical areas or parts of CRA exams in which

a lender scored Low Satisfactory or below.

Updating CRA to Keep Pace with Sweeping Changes in the Financial

Industry

As lawmakers debated GLBA, NCRC and our 600 member organizations continually pointed out that while GLBA would create larger and vastly more powerful

financial institutions, CRA was not being updated to keep pace with the dramatic

changes in the financial industry unleashed by GLBA. GLBA did not apply CRA or

CRA-like requirements to mortgage company affiliates, other affiliates that made

loans, insurance companies or securities firms that would become part of holding

companies. As a result, a very real possibility exists that CRA will apply to fewer

and fewer assets of holding companies. At the same time, CRA was not applied to

credit unions, mortgage companies, and other competitors of bank holding companies. This creates an uneven playing field for bank holding companies that must

comply with CRA and with institutions with no community reinvestment obligations. Of more concern to communities, the uneven application of CRA reduces the

amount of community reinvestment, financial activity, and wealth building in their

communities. The uneven application of CRA also undermines President Bush’s call

for more minority homeownership and more importantly subverts the dreams and

aspirations of millions of Americans seeking to build a future for their families.

Since GLBA, NCRC worked with Congressman Gutierrez, Barrett, and 34 other

Members of Congress to craft the CRA Modernization Act that would apply CRA

to all parts of bank holding companies as well as to institutions outside of bank

holding companies. If Congress wishes to ensure that GLBA benefits all Americans,

it must take up all or at least parts of the CRA Modernization Act. A good place

to begin would be to apply CRA and fair lending exams to all affiliates of holding

companies that lend since the Federal Reserve still hesitates to act on the GAO’s

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3General Accounting Office, Consumer Protection: Federal and State Agencies Face Challenges

in Combating Predatory Lending, January 2004, GAO–04–280. 4The Joint Center for Housing Studies at Harvard University, The 25th Anniversary of the

Community Reinvestment Act: Access to Capitol in an Evolving Financial Services System,

March 2002; Robert Litan, Nicolas Retsinas, Eric Belsky and Susan White Haag, The Community Reinvestment Act After Financial Modernization: A Baseline Report, produced for the U.S.

Department of the Treasury, April 2000; The Performance and Profitability of CRA-Related

Lending, Report by the Board of Governors of the Federal Reserve System, July 17, 2000; Raphael Bostic and Breck Robinson, Do CRA Agreements Influence Lending Patterns? July 2002,

available via bostic@usc.edu.

recommendation of fair lending reviews for affiliates.3 Second, Congress can then

expand CRA to all lending institutions, including credit unions and mortgage companies.

Third, Congress must increase the amount of data disclosure on lending activity.

Expanding upon a provision in the CRA Modernization Act, Rep. James McGovern

has sponsored H.R. 1748, the Access and Openness in Small Business Lending Act

of 2003.

This bill amends the Equal Credit Opportunity Act (specifically Federal Reserve

Regulation B) to permit the collection of demographic information in connection with

small business loans with the applicant’s consent. Currently, CRA only requires

banks and thrifts to report the census tract location of small businesses receiving

loans.

Unlike publicly available home loan data, the small business loan data lacks demographic characteristics of borrowers. In particular, the small business loan data

does not have information on the race and gender of the small business owner.

H.R. 1748 would update the CRA data to require the collection and dissemination

of race and gender of the small business owner. Other data enhancements include

the revenue size of the small business and data on denials as well as approvals.

The home loan data has stimulated a significant increase in lending to minorities,

women, and low- and moderate-income borrowers precisely because its public availability holds lenders accountable for reaching formerly neglected borrowers. Enhancing the small business data would similarly increase lending to women- and

minority-owned small businesses. We know from studies conducted by the Milken

Institute and others that women-owned businesses are in the dark ages when it

comes to access for credit. Improvements in small business lending data would be

a great benefit to half of the American population by providing women with greater

chances of securing loans for their businesses.

Research has proven that CRA works to expand access to capital and credit.

Using NCRC’s database of CRA agreements, Harvard University, the Department

of Treasury and Federal Reserve economists have shown that banks made more

loans to low- and moderate-income communities in geographical areas in which they

made CRA agreements. Moreover, the research concluded that banks made more

loans in geographical areas in which they had branches and underwent CRA exams

than in geographical areas outside the purview of the CRA exams (often because

their mortgage company affiliates were not included on their CRA exams but made

considerable numbers of loans in a large number of geographical areas).4

Lending is good for America. Access to credit and capital is the traditional method

that allows any family to build equity and create wealth. CRA brings more wealth,

more stakeholders, and more parity.

Uneven Regulatory Regime Threatens Sustainability of U.S. Banking

Success

Banks are highly regulated, but securities companies and insurance firms are not.

By allowing banks and nonbank financial companies to merge, GLBA exposes banks

to higher levels of risk from their lightly regulated affiliates. At the same time,

banks themselves are taking on more risk by outsourcing their serving operations

to foreign countries. This creates job loss here at home and makes it more difficult

for banks to control and monitor their operations.

In addition to the safety and soundness risks, the increased financial industry

consolidation and globalization creates access difficulties for low- and moderate-income borrowers. For example, consumers need insurance policies in order to secure

home mortgage loans. Their bank may be covered by CRA, but the bank’s insurance

company affiliate is not. What happens to CRA enforcement when the bank’s insurance company unfairly denies a low-income borrower for a homeowner’s insurance

policy? NCRC does not believe that lawmakers completely thought through the implications of industry consolidation on CRA enforcement when passing GLBA.

Clearly, the safety and soundness and fair lending oversight of nonbank financial

affiliates of bank holding companies must be increased. At the same time, stronger

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1The Securities Industry Association, established in 1972 through the merger of the Association of Stock Exchange Firms and the Investment Banker’s Association, brings together the

shared interests of nearly 600 securities firms to accomplish common goals. SIA member-firms

(including investment banks, broker-dealers, and mutual fund companies) are active in all U.S.

and foreign markets and in all phases of corporate and public finance. According to the Bureau

of Labor Statistics, the U.S. securities industry employs 780,000 individuals. Industry personnel

manage the accounts of nearly 93 million investors directly and indirectly through corporate,

thrift, and pension plans. In 2003, the industry generated an estimated $209 billion in domestic

revenue and $278 billion in global revenues. (More information about SIA is available on its

home page: www.sia.com.)

firewalls must be created between Federal regulatory agencies and financial institutions. Recently, we have all become alarmed by the case of the OCC examiner for

Riggs leaving the OCC and working for Riggs while the bank was not enacting sufficient safeguards against money laundering. In the financial world shaped by GLBA,

the integrity and rigor of supervisory and examiner officials assumes paramount importance. For this reason, NCRC recommends that regulatory officials be barred

from working at financial institutions for a period of 5 years after they leave their

agencies. With all due respect, the same requirement should be imposed upon members of Congress.

Conclusion

If research has shown beyond a reasonable doubt that CRA works, why not update CRA and apply it evenly across the financial industry? Firstly, lawmakers

should do no harm to CRA and must repeal GLBA’s CRA sunshine requirement and

small bank exam stretch-out. Second, lawmakers must apply CRA to all parts of

holding companies that lend and to lending institutions outside of holding companies. Third, lawmakers then must consider CRA-like requirements for nonbank financial institutions including insurance companies and securities firms.

Mr. Chairman, communities cannot afford another 5 years of GLBA and missed

reinvestment opportunities. NCRC stands ready to support Congressional efforts to

update CRA and make capitalism and the American Dream available to all Americans who work hard and play by the rules.

—————

PREPARED STATEMENT OF J. STEVEN JUDGE

SENIOR VICE PRESIDENT, GOVERNMENT AFFAIRS

SECURITIES INDUSTRY ASSOCIATION

JULY 13, 2004

Chairman Shelby, Senator Sarbanes, and Members of the Committee, I am Steve

Judge, Senior Vice President of Government Affairs, Securities Industry Association

(SIA).1 I appreciate the opportunity to present our views on the Gramm-Leach-Bliley Act (GLBA) as we approach the 5-year anniversary ofthe enactment of that landmark legislation.

SIA commends this Committee for its efforts in enacting the GLBA, and for holding these hearings to examine the effects of the Act. SIA believes that these hearings will initiate an important dialogue in the financial services industry and with

policymakers about identifying and eliminating unnecessary regulatory restrictions

that impede the ability of our financial services firms to: Develop and offer consumers a full range of financial services and products; structure themselves optimally; mitigate risk for themselves and for the broader financial markets, and;

maintain global competitiveness and preeminence. SIA looks forward to participating in that dialogue.

In considering the effects of the GLBA, it is useful to recall how constrained the

financial services industry would have been without enactment of GLBA. The ability

of financial services firms to affiliate was primarily governed by the Glass-Steagall

Act, a Depression-era law that ceased to reflect the realities of the modern financial

services industry. That law’s prohibition on affiliations between banks and securities firms, for example, had long since lost any rationale it might once have had.

In the 66 years since enactment of the Glass-Steagall Act, banks and securities

firms had begun to offer an array of competing products and services to their retail

and institutional clients, and many banks and securities firms determined that they

could best serve their customers by offering ‘‘one-stop-financial-shopping.’’

The banking regulators, in particular, had adopted a variety of regulations that

permitted banks to acquire certain securities firms, although securities firms were

prohibited from affiliating with banks. The result was a ‘‘mish-mash’’ of confusing

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rules and regulations, which were never able to provide the full range of relief the

industry sought and consumers needed, and which tilted the playing field in favor

of the banks. For example, national banks could own subsidiaries that engaged in

securities brokerage activities as long as the subsidiary did not engage in dealer or

underwriting activities. Securities firms owned by bank holding companies could engage in a limited amount of dealer and underwriting activities, but those activities

could not account for more than 20 percent (and eventually 25 percent) of that firm’s

revenues. Securities firms were prohibited from owning banks, although they were

able to affiliate with thrifts and certain other types of financial institutions. State

laws further complicated the regulatory picture, and banking and securities regulators occasionally wrestled in court over various jurisdictional issues.

The resulting legislative restrictions and regulatory uncertainties artificially restricted affiliations among financial services firms. Such restrictions undermined

their competitive position, their ability to develop and offer new services and products, and consumers’ access to a full range of financial products and services from

a single financial institution.

SIA and various members of the financial services community had been working

with Congress for decades to pass legislation to permit affiliations between and

among securities firms, banks and insurance companies. We sought legislation that

would create a ‘‘two-way street’’ by allowing banks, securities firms, or insurance

companies to affiliate on an equal footing. Essential to that goal was the assurance

that competition, not regulatory fiat, would dictate when and how financial services

firms could affiliate. We sought legislation that protected consumers by ensuring

that each affiliated financial services entity would be functionally regulated—that

is, regulated by the regulator with the regulatory expertise and statutory mandate

to regulate the activities in which that entity engaged.

The enactment of GLBA has in many respects rationalized and modernized the

untenable and antiquated financial institution regulatory environment that existed

prior to its passage. Under the GLBA:

• Banks, securities firms, and insurance companies can now affiliate under a financial services holding company (FSHC) structure. The FSHC is regulated by the

Federal Reserve Board (FRB), and each of the subsidiary financial services firms

are regulated by their respective functional regulators. A securities firm in a

FSHC structure is not limited to an artificial cap on the amount of revenue it can

derive from underwriting and principal transactions (such as the 20 percent, and

then 25 percent, caps imposed under the Bank Holding Company Act). The ability

of financial services firms to more easily affiliate under a FSHC structure should

permit larger firms to become more diversified, which should in turn result in

greater product and services offerings, increased domestic and international competitiveness, and greater financial stability.

• Financial services firms also have a number of other structural options available

to them, further increasing their flexibility and competitiveness. For example,

bank holding companies can elect to remain under the same structure as they did

prior to the enactment of the GLBA. Holding companies that own securities firms,

but that do not have substantial commercial banking activities, can elect to be

regulated as investment bank holding companies, which are subject to the jurisdiction of the Securities and Exchange Commission (SEC). Well-capitalized and

well-managed banks can own securities firms. And securities firms and certain

other companies that owned thrifts and other nonbank banks prior to the enactment of the GLBA may continue to own those entities.

• Subsidiaries of FSHC’s can engage in a wide variety of financial activities beyond

banking, securities, and insurance activities, including merchant-banking activities. Notably, the intent of the GLBA was to permit securities firms in a FSHC

structure to engage in merchant-banking activities to the same extent as securities firms that are unaffiliated with a bank. Securities firms that are subsidiaries

of FSHC’s also are permitted to continue to engage in certain preexisting commercial lines of business until 2009.

• Banks are permitted to engage in a variety of specified securities activities without being required to register as broker-dealers. The SEC has recently reproposed

regulations (proposed Regulation B) that would implement these provisions.

• Financial services firms (regardless of whether they are affiliated with FSHC’s)

are subject to comprehensive privacy requirements, which among other things require disclosure of the firm’s privacy policies, and impose substantive limitations

on the circumstances in which a financial services firm can share confidential financial information about a customer or consumer. Financial services firms are

required to implement policies and procedures to safeguard confidential customer

information. To SIA’s knowledge, no other industry in the United States is subject

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to the comprehensive Federal privacy requirements that now apply to financial

services firms.

Since the enactment of the GLBA, there have been a number of significant combinations of financial services firms. Some firms have chosen to combine with commercial banks. Other firms have chosen to remain independent. That is how it

should be. One of the overarching goals of the GLBA was to allow financial services

firms to choose the optimal structure to best serve their customers’ needs. Among

SIA’s membership, bank or financial-holding company-ownership has increased from

13.4 percent in 1999 to 21 percent today. Moreover, banks have significantly increased their presence in capital markets activities. For example, banks now leadmanage 58.2 percent of equity underwriting deals versus only 36.8 percent in 1999.

As a further example of the effectiveness of the GLBA, these combinations generally have not resulted in the newly affiliated firms having to shed significant lines

of business or having to artificially limit their revenues from securities underwriting

and certain other activities, as was often the case prior to the GLBA. These combinations also generally have not required Federal regulators to provide the type of

significant regulatory relief that was often necessary pre-GLBA.

When examining the overall effectiveness of the GLBA, it is important to note

that various economic factors and significant changes in the capital markets over

the last 5 years have made it tenuous, at best, to determine cause-and-effect relationships post-GLBA. We need more time and experience to get the full picture of

the GLBA’s effects. What we do know is that the GLBA is a comprehensive statute

regulating a diverse, dynamic, and constantly evolving financial services industry.

As a result, there have been, and likely will continue to be, issues concerning the

implementation of the legislation. SIA and other industry participants have questioned how, for example, the FRB proposed to implement the merchant-banking provisions of the GLBA, and how the Federal Trade Commission and other regulatory

agencies proposed to implement the Act’s privacy provisions. Currently, the SEC has

reproposed rules governing the scope of bank-securities activities; the reproposed

rules are intended to respond to the significant criticism of the rules as they were

initially proposed.

Neither these nor similar implementation issues, however, necessarily suggest

structural problems with the GLBA. Rather, they may well be normal transition

issues that are almost inevitable when first permitting combinations of companies

that had largely been prohibited, or significantly restricted, from combining for over

60 years. In this regard, GLBA is notable for the fact that, despite its complexity

and scope, it was so carefully drafted that not a single technical or similar amendment has been enacted to correct any of its provisions.

Moreover, there are some weaknesses that have always existed with GLBA that

this Committee could address. Among the most significant of those are:

• Securities firms in a FSHC should be able to engage in a full range of commercial

activities to the same extent as securities firms that are unaffiliated with a bank.

Currently, the GLBA only permits securities firms in a FSHC structure to continue engaging in preexisting commercial activities until 2009.

• There should be solely national standards governing customer privacy requirements, especially given the national scope of many financial institutions, and the

fact that even many smaller financial institutions now have customers from a

number of States. Requiring financial institutions to comply with Federal requirements and then the additional requirements potentially imposed by each State in

which that firm operates is burdensome, cumbersome, and contrary to an overarching goal of the GLBA of increasing efficiency in the regulation of financial

services companies.

• There should be uniform national standards for securities. The National Conference of Commissioners on Uniform State Laws (NCCUSL) has adopted a Model

Uniform Securities Act that brings uniformity to the registration process, facilitates electronic signatures, filing and records, and adopts additional investor protections. SIA is actively working with State securities commissioners for adoption

of the Uniform Securities Act by their State legislatures.

The U.S. capital markets and financial services industry are stronger, healthier,

and more dynamic since Congress enacted the GLBA in 1999. In spite of the tremendous challenges and changes of the last several years, consumers and financial

services firms alike are better off as a result of the increased opportunities and

choices that the GLBA made possible. SIA commends this Committee for holding

these hearings, and looks forward to working with you, the regulators, and other

industry participants to maintain our Nation’s preeminent capital markets.

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RESPONSE TO A WRITTEN QUESTION OF SENATOR ALLARD

FROM HARRY P. DOHERTY

Q.1. In your testimony your write, ‘‘However, due to a highly politicized campaign by the Realtor community, Treasury and the Federal Reserve have not been allowed to complete their work on the

regulation. In this particular instance, considerations other than

safety and soundness have held sway.’’

As the Senate sponsor of the Community Choice in Real Estate

Act, what considerations are alleging that I am acting upon?

Doesn’t this statement call into questions the integrity of the bill’s

supporters?

Do you believe that the consideration of Congressional intent,

which is my motivation for introducing the Community Choice in

Real Estate Act, is inappropriate?

If Congress believes that a regulation is moving forward contrary

to legislative intent, what should it do?

A.1. On July 13, 2004, I testified about the implementation and impact of the Gramm-Leach-Bliley Act on the financial services industry. In my written statement, I had the following to say about the

joint Treasury-Federal Reserve process for determining permissible

new financial activities for financial holding companies and financial subsidiaries of national banks:

One of the promises of the GLBA was the relatively easy authorization of new

financial activities for banking organizations. GLBA established a joint Federal Reserve and Treasury regulatory process for the authorization of permissible new financial activities for banking organizations. The hope was that under this process,

safety-and-soundness would be the dominant factor in the decisionmaking process.

However, in the first real test of this authority, the two agencies have not been able

to complete their work on a regulation that would authorize for national banks and

financial holding companies an activity, which is already authorized for Federal savings associations and roughly half the State-chartered banks.

In January 2001, the Treasury and the Federal Reserve issued a proposed regulation to permit national bank financial subsidiaries and financial holding companies

to provide real estate brokerage and real estate management services to their customers. However, due to a highly politicized campaign by the realtor community,

Treasury and the Federal Reserve have not been allowed to complete their work on

the regulation. In this particular instance, considerations other than safety and

soundness have held sway.

It was not my intent, or the intent of America’s Community

Bankers, to call into question the integrity of any Senator for his

or her sponsorship of the Community Choice in Real Estate Act

(S. 98) or any other legislation. It was, however, my intent to make

the observation that appropriations riders have circumvented the

process established by Congress in GLBA—a process that is based

on safety and soundness and related statutory considerations.

Moreover, because real estate activities have been authorized for

years and safely conducted by Federal savings associations and

State-chartered banks, we believe that safety and soundness considerations should lead the Treasury and the Federal Reserve to finalize regulations to permit financial holding companies and national bank financial subsidiaries to conduct real estate brokerage

and management activities.

Congress clearly has the right to change the policy established in

the GLBA and carve out, through subsequent legislation, real estate brokerage and management activities from the list of permissible activities for financial holding companies and financial

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subsidiaries. ACB does not support such legislation. ACB believes

that permitting these banking organizations to engage in these real

estate activities will bring additional, healthy competition to the

real estate sector, which can only benefit consumers. Clearly, many

in the real estate industry and in Congress disagree with our position. But, ours is a disagreement about policy, not about motives.

RESPONSE TO A WRITTEN QUESTIONS OF SENATOR ALLARD

FROM TERRY JORDE

Q.1. Regarding real estate management and brokerage activities

you testified, ‘‘We believe that GLB provides the Treasury and the

Federal Reserve full authority to permit these activities.’’ Do you

at least acknowledge that a number of House and Senate Members,

including a number of Members who wrote the GLB bill, would disagree with the characterization that GLB permits these activities?

Do you consider it insignificant or unimportant that more than

half of the Members of Congress have indicated that they disagree

with your characterization of GLB by cosponsoring bills to prohibit

implementation of the regulations?

What place should the views of the Congress have in the regulatory process?

A.1. I hesitate to speculate on the motives or opinions of Members

of Congress who have cosponsored legislation to block the real estate brokerage and management rule proposed by the Treasury and

Federal Reserve. They may believe that the agencies lack the authority to adopt the regulation or that the agencies have the authority and they wish to take it away. Whatever the case, I do

believe that it is significant when over half of the Members of Congress cosponsor any piece of legislation. And, as I indicated in my

testimony, ICBA strongly encourages Congress to maintain active

oversight of the legislation it enacts.

Nevertheless, in this case ICBA believes that GLB does provide

the Treasury and the Federal Reserve the authority to adopt the

real estate brokerage and management proposal and that it would

provide community banks and their customers significant benefits.

Therefore, we hope that Congress does not adopt permanent legislation blocking the rule or continue blocking it through the appropriations process.

RESPONSE TO WRITTEN QUESTIONS OF SENATOR ALLARD

FROM JAMES D. MCLAUGHLIN

Q.1. You testified that, ‘‘What is central to this hearing is that an

extremely important provision of the GLB Act—one that appropriately delegates responsibilities to the two agencies most familiar

with the financial services industry—is not working.’’ But doesn’t

Congress retain the authority, and in fact the duty, to oversee implementation of the laws is has passed?

A.1. Of course Congress should oversee the manner in which the

laws it enacts are implemented. The July 13 hearing was such an

example of the appropriate exercise of Congress’s oversight duty—

a review by the Committee holding substantive expertise in and jurisdiction over the law enacted.

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Q.2. Once a law is enacted, does Congress become irrelevant? If

not, what role should Congress play? If Congress believes that a

regulation is moving forward contrary to legislative intent, what

should it do?

A.2. Where the Congress sees an incorrect interpretation or an inadequate implementation of a law it can and should bring it to the

attention of the agency. If further action is deemed necessary Congress has the power, through the substantive legislative process involving the Committees of jurisdiction, to change the law.

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1Please see 145 Cong. Rec. S13891 (daily ed. Nov. 4 1999) and 145 Cong Rec. S13908 (daily

ed. Nov. 4, 1999). 2 145 Cong Rec. S13908 at S13908.

3Model Code of Professional Responsibility Rule 1.6 (1998).

STATEMENT OF DENNIS W. ARCHER

PRESIDENT, AMERICAN BAR ASSOCIATION

JULY 13, 2004

Mr. Chairman and Members of the Committee, I am Dennis W. Archer, President

of the American Bar Association. Thank you for holding this oversight hearing on

the Gramm-Leach-Bliley Act 5 years after its passage. I applaud your leadership in

conducting the Committee’s oversight role in this important area. I respectfully submit to you this statement with the request that it be made part of the hearing

record.

The American Bar Association is the world’s largest voluntary professional association with more than 400,000 members. As the national umbrella organization of

the legal field, our mission is to serve the public and the profession by promoting

justice, professional excellence, and respect for the law.

In June 2001, attorneys nationwide awoke to find that the Federal Trade Commission had interpreted the Gramm-Leach-Bliley Act (GLBA), the most sweeping reform of the banking, securities, and insurance industries since Glass-Stegall, as

amending the attorney’s duty of confidentiality to clients and imposing unnecessary

and counterproductive measures that confused consumers regarding the attorneyclient relationship.

There was no evidence before and leading up to the passage of the GLBA to indicate that Congress intended to treat lawyers as ‘‘financial institutions’’ within the

meaning of the Act. In fact, in the record of the 106th Congress’ consideration of

S. 900, the legislation that would become the GLBA, the only mention of attorneys

were two references to the stringent and effective confidentiality rules with which

attorneys must comply.1 In the debate on the Conference Report of S. 900, Senator

Conrad R. Burns confirmed that there was no intent that the privacy provisions of

the GLBA apply to lawyers when he stated:

Paramount to our freedom is the right to privacy; to be left alone and to

be secure in the belief that our business is just that, ours and no one else’s.

When we do share our personal business information with others, it is with

the real and reasonable expectation that it remains our property. When

dealing with our doctor or lawyer we know that the communication is privileged.2

The ABA contributes to the high standards of conduct of the legal profession expected by the public through our development and promulgation of the Model Rules

of Professional Conduct and, its predecessor, of the Model Code of Professional Responsibility. The Model Rules and its predecessor are the source of the vast majority

of the professional conduct codes that are enforced in every State and every territory

of the United States and with which attorneys must comply in order to retain the

right to practice law in this country.

Each of the 50 States and 6 territories, including the District of Columbia, has

either adopted Model Rule 1.6, Confidentiality of Information, has adopted its equivalent from the Model Code, Canon 5, or, as in the case of California, has developed

a similar rule for its own jurisdiction. The text of Model Rule 1.6 is as follows:

(a) A lawyer shall not reveal information relating to the representation of a client unless the client consents after consultation, except for disclosures that are

impliedly authorized in order to carry out the representation, and except as

stated in paragraph (b).

(b) A lawyer may reveal such information to the extent the lawyer reasonably

believes necessary:

(1) to prevent the client from committing a criminal act that the lawyer

believes is likely to result in imminent death or substantial bodily harm;

or

(2) to establish a claim or defense on behalf of the lawyer in a controversy

between the lawyer and the client, to establish a defense to a criminal

charge or a civil claim against the lawyer based upon conduct in which the

client was involved, or to respond to allegations in any proceeding concerning the lawyer’s representation of the client.3

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4 Cal. Bus. & Prof. Code, Section 6068 (2001).

5See Middlesex County Ethics Committee v. Garden State Bar Association, 457 U.S. 423

(1982). 6 H.R. Conf. Rep. No. 106–434, at 245 (1999), reprinted in 1999 U.S.C.C.A.N. 245, 245.

7 15 U.S.C. § 6809(3)(A).

The California rule states, in pertinent part: ‘‘It is the duty of an attorney to . . .

maintain inviolate the confidences, and at every peril to himself or herself to preserve the secrets, of his or her client.’’ 4

Professional conduct rules for attorneys are enacted under the authority of the

court of highest appellate authority within the State or territory, or, in some cases,

the State legislature. Attorneys, as officers of the court, are answerable for their

ethical conduct to the court. Violations are prosecuted through sui generis disciplinary proceedings that result from the inherent regulatory authority of the courts.5

To date, there have been no allegations of insufficient enforcement of client confidentiality rules at the state or territory level, nor has there been a call for Federal

intervention. The current system for protecting clients’ rights has remained in place

and been effectively applied for decades. Application of the privacy provisions of the

GLBA to attorneys—including requiring attorneys to mail confusing privacy notices

to their clients—will not increase protection for the public above that which the

State-based system currently requires.

These State and territory conduct codes, along with the attorney-client privilege

and the work product doctrine found in common law, form the foundation of the attorney’s duty of confidentiality. This duty exists in all matters related to the client’s

representation. It applies not only to communications from the client but to all information relating to the representation, whatever its source. These codes flatly

prohibit disclosure of any information relating to a representation without prior discussion with, and consent by, the affected client, except in limited and legally mandated circumstances. Affiliate sharing, as envisioned by the GLBA, does not occur

in the practice of law.

GLBA was enacted ‘‘to enhance competition in the financial services industry by

providing a prudential framework for the affiliation of banks, securities firms, insurance companies, and other financial service providers. . .’’ 6 Its broad privacy protection provisions were added to enable consumers to limit the use of their personal

information by financial institutions and their affiliates. These protections were

deemed necessary because of the potential for abuse that the ability to merge affiliate records. and the increased ease of dissemination through technological advances

in data storage and retrieval afforded the post-GLBA financial institution.

The scope and application of the GLBA privacy provisions at issue hinge on the

term ‘‘financial institution.’’ The term was defined by Congress as ‘‘any institution

the business of which is engaging in financial activities as described in Section

1843(k) of Title 12 [Section 4(k) of the Bank Holding Company Act of 1956].’’ 7 Regulations promulgated by the Federal Reserve Board pursuant to the Bank Holding

Company Act provide that the term ‘‘financial activities’’ should include real estate

settlement services, tax-planning and tax-preparation services, and collection of

overdue accounts receivable. Based on the fact that some of the activities on this

list are performed by attorneys, the Federal Trade Commission has taken the position that lawyers and law firms who engage in any of these activities in the course

of practicing law are ‘‘financial institutions’’ within the meaning of the GLBA. This

interpretation of the GLBA is overbroad and ignores both the common sense meaning of ‘‘financial institution’’ and the legislative history and purpose of the GLBA.

Imposing the burdens of the GLBA privacy provisions on the legal profession does

not further any of the legislative objectives of the statute. Worse yet, it has been

counterproductive because it has, and could continue to, create confusion among

consumers regarding the scope of attorney-client confidentiality. Many attorneys

have already contacted the ABA regarding the confusion and consternation that has

been caused among clients as a result of the GLBA privacy notices mandated by

the FTC’s interpretation. They report instances in which the sending of privacy notices have revealed the fact of legal representation to adverse parties residing at the

same address as the client, of anxious phone calls requesting detailed explanations

of the notices’ meaning in the context of a confidential relationship and of money

wasted on needless mailings of confidentiality policies that already were well understood.

Clients know that their information is protected by the duty of confidentiality, by

professional conduct codes and by court recognized privileges. When they receive

privacy notices from their attorney listing the GLBA mandated exceptions in statutorily mandated terms, however, they question how the relationship between them

and their attorney could have changed. Clients know they have the right to an opt

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8The State and local bar associations are: the Arizona Bar, Arkansas Bar Association, Atlanta

Bar Association, Beverley Hills Bar Association, Cleveland Bar Association, Colorado Bar Association, Connecticut Bar Association, Cuyahoga County Bar Association, The Florida Bar, Illinois State Bar Association, Lawyer’s Club of Los Angeles County, Maryland State Bar Association, Nashville Bar Association, New Orleans Bar Association, Ohio Bar Association, Oklahoma

Bar Association, New Jersey State Bar Association, State Bar Association of North Dakota,

Pennsylvania Bar Association, South Carolina Bar Association, the State Bar of Wisconsin, Tennessee Bar Association, Vermont Bar Association, Virginia State Bar, and West Virginia Bar

Association.

in disclosure policy with their attorneys; that no information will be disclosed unless

the client wishes to do so. The GLBA privacy provisions provide for an opt out policy, with disclosure as the default. This is contradictory and misleading to consumers. Confusion naturally results.

The ABA and several State bar associations petitioned the Federal Trade Commission for relief. When the Commission refused those requests, the New York State

Bar Association and the ABA filed suit in the U.S. District Court for the District

of Columbia. Twenty-five State and local bar associations 8 and the Conference of

Chief Justices joined the litigation as amici curiae. On May 12, 2004, the District

Court for the District of Columbia entered a final judgment in favor of the ABA.

On July 12, 2004, the day before this hearing, the FTC filed notice of appeal, which

presents the prospect of a lengthy period of litigation resulting in sustained uncertainty for more than a half-million attorneys and millions of their clients. This situation is untenable.

We urge, the Committee, as it reexamines the efficacy of GLBA, to use its authority to clarify the original intent of Congress as to the application of Title V. Attorneys are not financial institutions and should not be treated as such. Thank you

for the opportunity to present the views of the American Bar Association at this

time.

—————

STATEMENT OF DAVID F. WOODS, CLU, ChFC

PRESIDENT, THE NATIONAL ASSOCIATION OF INSURANCE AND FINANCIAL ADVISORS

JULY 13, 2004

The National Association of Insurance and Financial Advisors (NAIFA) is delighted to have the opportunity to share with the Senate Banking Committee our

views regarding the performance and impact of the Gramm-Leach-Bliley Act

(GLBA) 5 years after its passage.

NAIFA is a federation of approximately 800 State and local associations representing over 225,000 life and health insurance agents and advisers and their

employees. Originally founded in 1890 as the National Association of Life Underwriters, NAIFA is the Nation’s oldest and largest trade association of life and health

insurance agents and financial advisers. NAIFA’s mission is to enhance the business

and professional skills, and promote the ethical conduct, of our members, and to advocate for a positive legislative and regulatory environment.

At the outset, NAIFA commends Chairman Shelby, Senator Sarbanes, and the

Committee Members for holding this hearing. Passage of the Gramm-Leach-Bliley

Act was a watershed event in the financial services industry. It is critical that we

understand the impact of the law since its enactment and how it will affect financial

services entities, including life insurance agents and financial advisers, in the future.

NAIFA supported passage of GLBA because we believed the law would benefit

agents and consumers. We believed that breaking down Federal and State law barriers among the banking, securities, and insurance industries would lead to a more

vibrant financial services marketplace and help to ensure that insurance agents are

on an even playing field with our colleagues and competitors in the banking and

securities sectors. Since its enactment, NAIFA members have worked diligently with

State and Federal regulators and lawmakers to ensure that GLBA implementation

is carried out in a way that benefits consumers and benefits, or does not unduly

burden, industry.

While there have been some tangible and important benefits arising from GLBA,

overall the results have been mixed. On the broad scale, we have not seen the market convergence that was predicted with the repeal of the Glass-Steagall Act. The

mixing of insurance and banking has taken place almost entirely at the agent level.

There has been little in the way of mergers among banks, securities firms, and insurance companies. This is not necessarily a bad thing. In fact, the benefit of GLBA

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is that it has allowed the industry, rather than regulators, to make decisions based

on the workings of the marketplace. Citigroup’s divestiture of its property and casualty insurance divisions is clear evidence of the marketplace at work.

GLBA has also had mixed results on the narrower insurance-specific issues. Licensing of insurance agents and brokers (also referred to herein as insurance producers), privacy, preemption, coordination and cooperation among regulators, and

consumer protection are all addressed in GLBA and all significantly affect insurance

agents and our clients. Although there are a number of reasons we have not realized

the full benefit of these GLBA provisions, NAIFA believes one of the most critical

roadblocks is the current cumbersome, duplicative insurance regulatory system. The

States have made solid efforts to improve the current regulatory system, and we

strongly support their work. It has become increasingly clear, however, that the

State system needs help. NAIFA believes it is imperative that the problems and inefficiencies in the State regulatory system be corrected quickly, and supports the active involvement of the Congress in the reform process.

This statement addresses the performance and impact of GLBA from the perspective of a life insurance agent. Life insurance agents generally sell products including

standard life insurance policies, annuities, disability income, and long-term care

products. The statement focuses on two areas: (i) the impact of GLBA on the life

insurance agent community and NAIFA’s work with State legislators, State insurance regulators, and Federal financial services regulators in its implementation; and

(ii) the need for Congressional involvement in insurance regulatory reform, which

is necessary to help us realize the full potential of the Gramm-Leach-Bliley Act.

GLBA Five Years Later—Mixed Results for Insurance Agents

GLBA affects the insurance industry, including insurance producers, in numerous

ways, including:

• reform of the producer licensing system and providing for creation of the National

Association of Registered Agents and Brokers (NARAB);

• imposing notice and opt out obligations on financial services entities to protect

consumer privacy;

• preempting State insurance laws, potentially giving Federal banking regulators

significant input into insurance regulation; and

• enlarging the role of the Federal Government in insurance regulation through

provisions including Federal consumer protection requirements, ‘‘functional regulation,’’ and coordination among State and Federal regulators.

NARAB/Producer Licensing

NAIFA has worked for years to get the NAIC and State insurance regulators to

fix the cumbersome, duplicative State-based system of producer licensing. GLBA’s

NARAB provision successfully pushed the States to enact reform. In 2000, the NAIC

adopted the Producer Licensing Model Act (PLMA), which provides for a system of

reciprocal licensing in the States pursuant to the NARAB requirements. The PLMA

has been enacted in some form in 49 States and the District of Columbia.

NAIFA and our State affiliates have been extremely active and are, in large part,

responsible for enactment of the PLMA in the States. NAIFA is also working with

the NAIC in the development of specific recommendations for greater uniformity in

producer licensing requirements, and we have been a board member of the National

Insurance Producer Registry (NIPR), which operates the electronic database of producer information that has made licensing significantly faster and easier.

Passage of NARAB gave the States the needed incentive to streamline the insurance producer licensing system, but it did not go far enough. Today, there are approximately 40 States that the NAIC has deemed ‘‘reciprocal’’ for NARAB purposes.

Although other States have adopted portions of the PLMA, there remain a significant number of States—including major markets such as California and Florida—

that are not reciprocal and therefore not in compliance.

In addition, reciprocal States sometimes have similar legal requirements but differing standards for licensure—thus creating a patchwork of approaches across the

country.

Full reciprocity, uniformity of standards and, ultimately, uniform laws in every

State are needed before NARAB can be considered a complete success.

Privacy of Consumer Information

GLBA imposes obligations on financial services entities to protect the privacy of

certain consumer information. The Federal banking and securities agencies promulgated regulations for banks and securities firms, and the State insurance regulators

were delegated the task of promulgating regulations for the insurance industry.

NAIFA worked with the NAIC Privacy Working Group to draft a model privacy regVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00098 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
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1 A third case, Association of Banks in Insurance, Inc. v. Duryee, 270 F.3d 397, (6th Cir. 2001),

was decided in 2001. In that case, the 6th Circuit ruled that the challenged Ohio law was preempted because it imposed a prohibition on bank insurance sales activity. Therefore, the court

did not make a holding on the parameters of the ‘‘significant interference’’ test. 2 Cline v. Hawke, No. 02–2100 (4th Cir. Nov. 19, 2002), cert. denied (U.S. October 6, 2003)

(No. 02–1620). 3 Bowler v. Hawke, 320 F.3d 59 (1st Cir. 2003).

ulation outlining a uniform regime for all elements of the financial services industry, and worked with the States to ensure that the model regulation was promulgated as uniformly as possible across the country. To assist NAIFA members in

complying with the new privacy obligations, NAIFA produced an Insurance Producer Privacy Guide that outlines the requirements and compliance steps for producers.

The requirements of the GLBA privacy provisions have been met by regulators

and industry, but they fall short of their potential. In the insurance sector, the lack

of uniformity in privacy requirements makes it burdensome for insurers and producers to comply. Many States have promulgated the NAIC’s privacy model regulation, but a significant number have different laws on their books, many based on

an older NAIC model. In addition, the lack of preemption of State privacy laws

makes it possible that the States could change their privacy requirements at any

time, as demonstrated by California’s privacy law, which was recently found to be

not preempted by the Fair Credit Reporting Act (FCRA).

Finally, to add to the complexity of the GLBA privacy requirements, the FCRA

and HIPPA also impose privacy requirements with which insurers and producers

must comply. These multiple layers of protection arguably confuse, rather than help,

consumers, who must work through pages of disclosure to decipher what their financial services company’s policies are and to determine what their options are. It is

worth noting that the State insurance regulators and the Federal agencies have

deemed it necessary to review GLBA privacy notices to determine if the disclosure

can be simplified to be more understandable.

Preemption of State Insurance Laws

Although GLBA prohibits the States from taking certain actions with respect to

the insurance activities of banks, the parameters of these preemption provisions are

not clear in the statutes and have not been firmly established by the courts. Two

important preemption cases have been decided recently—one by the U.S. Court of

Appeals for the First Circuit and one by the Fourth Circuit.1 In the Fourth Circuit

case, the court rejected the State of West Virginia’s challenge to an OCC ‘‘preemption opinion’’ finding that certain West Virginia bank sales of insurance provisions

were preempted because, in the court’s view, the OCC has full authority to make

that determination.2 In the First Circuit case, the court took exactly the opposite

view, ruling that an OCC ‘‘preemption opinion’’ opining that certain Massachusetts

bank sales of insurance provisions were preempted by Section 104(d)(2) was entitled

to no consideration whatsoever and that the Massachusetts challenge to that opinion letter was therefore moot.3 The Massachusetts banks have begun a court challenge against those provisions but without OCC participation.

Clarification of GLBA’s preemption provisions is important to all participants in

the insurance marketplace, particularly producers. NAIFA supports equal treatment

of all producers—whether or not they are bank-affiliated. However, we would oppose

any effort to unfairly favor a particular group of producers through Federal preemption. Most important, we need to have a clear standard, so that we can make business decisions based on full knowledge of the law and marketplace.

Other Provisions

There are many other provisions of GLBA that affect insurance producers, many

of them involving Federal regulators and their interaction with State insurance regulators. GLBA establishes a system of ‘‘functional regulation,’’ in which responsibility for enforcement of laws generally is determined according to the function of

the activity rather than the type of institution performing the activity. In addition,

the law requires coordination and communication among State and Federal financial services regulators. This coordination was most evident in the implementation

of GLBA’s consumer protection provisions, a process that NAIFA was also heavily

involved in. The Federal agencies and State regulators consulted each other closely

in the promulgation of Federal rules and the amendment of the NAIC Unfair

Claims Practices Model Act.

NAIFA supports interaction between the Federal and State regulators. As supporters of State regulation, however, we do not want the Federal banking and securities agencies to exert undue influence on the insurance regulatory process. InsurVerDate 11-MAY-2000 18:31 Mar 29, 2006 Jkt 025856 PO 00000 Frm 00099 Fmt 6621 Sfmt 6621 26700.TXT SBANK4 PsN: SBANK4
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ance is different from banking and securities, and it is important for regulation of

the industry to be handled by insurance experts. Having said that, it would be extremely beneficial to have an insurance presence at the Federal level. Although the

NAIC and State insurance regulators do their best to assist the Federal agencies

and Congress on insurance issues, the lack of a knowledgeable insurance professional at the Federal level makes the education process much more difficult. An expert at the Federal level of Government would be able to educate policymakers so

the implications of their decisions on the insurance market are well-understood. In

addition, a Federal presence could serve an important role in international and

trade issues, where it is important to speak with one voice. Banking and securities

regulators currently serve this role with respect to the industries they regulate, and

we believe it is sensible to add an insurance voice to the mix.

Full Promise of GLBA Requires Insurance Regulatory Reform

NAIFA members are long-time supporters of State regulation and remain steadfastly committed to this tradition. We believe, as others do, that fixing the problems

with the insurance regulatory system will yield a strong and healthy insurance marketplace, ultimately providing better and greater choices for consumers.

Having said that, we also recognize the challenges facing State regulators in their

efforts to achieve reform. In addition, the changing dynamics of the financial services industry in the 21st century compel NAIFA to be open to all promising options

to improve the regulation of the industry. There is widespread agreement that the

State insurance regulatory system is in need of improvement in numerous areas and

that reform is critical to protect consumers and ensure a strong and healthy insurance marketplace. Insurance producers have been working with State insurance regulators for years to encourage sensible reforms to make the quilt of State insurance

laws and regulations more uniform, thus enabling producers to better compete in

an increasingly crowded financial services marketplace. Improvements in regulation

benefit consumers, as well, who share the heavy burden of paying for the costs of

complying with the current system.

Although State insurance regulators have made great efforts in the past several

years to reform and modernize the system, the necessary improvements have not

been made. Insurance regulation has failed to adapt to changes in the industry and

the markets it serves, resulting in the significant regulatory deficiencies that exist

today. Unnecessary distinctions among the States and inconsistencies within the

States on issues such as licensing, product approval, and consumer protection,

thwart competition, reduce predictability and add unnecessary expenses to the cost

of doing business. Similarly, these outdated rules and practices do not serve the

goals of regulation in today’s converging financial services marketplace.

It has proved to be very difficult for State regulators and their legislatures to unilaterally correct the identified deficiencies in State insurance regulation. Both practical and political realities dictate that, if identical bills are proposed in 50 State

legislatures, 50 different bills will emerge from those 50 separate legislative processes. There are numerous reasons for this lack of success—lack of will, disagreements over substantive details, structural impediments, and the fact that it is simply very difficult to get 50 different jurisdictions to act in a coordinated fashion, and

act quickly in a constantly changing global marketplace.

To their credit, the State insurance regulators have recognized to some degree the

need to improve and modernize the insurance regulatory system currently under

their control. Ernst Csiszar, the South Carolina Insurance Director and current

President of the National Association of Insurance Commissioners (NAIC), has acknowledged publicly that change is needed and that holding the regulators’ ‘‘feet to

the fire’’ could lead to improvements in the regulatory system. The Commissioners

have adopted an ‘‘Action Plan for Regulatory Modernization’’ that outlines their plan

for reform.

Despite their good intentions, however, the commissioners’ action plan is limited

in scope and sparse on details. It is unclear what the States will accomplish or how

long it will take to achieve the reforms that are so important for the insurance marketplace. Even for those initiatives that are clearly addressed in the action plan, the

commissioners’ ultimate goal is less than ambitious. For example, the State regulators have drafted an interstate compact establishing a single point of filing for regulatory review and approval of certain life, annuity, disability income, and long-term

care insurance products. This is extremely important to NAIFA members, and

NAIFA supports the compact wholeheartedly. We are disheartened to note, however,

that its implementation is not on a fast track. Very few States have adopted the

compact and obtaining timely enactment of the compact in identical form in every

State presents a very challenging legislative obstacle. Moreover, even if the compact

is someday adopted in a substantial number of States, the compact itself permits

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States to opt out of particular products, which would undermine the uniformity that

is needed in the product approval process. These circumstances lead us to conclude

that Congressional involvement in the reform effort could help improve the regulatory environment.

Since 2002, NAIFA policy has supported Congressional action to improve and augment the regulation of insurance, provided such action meets NAIFA’s specific

guidelines aimed at maintaining fairness to agents and protection for the consumers

they serve. Early this year, we clarified this policy to highlight our support for the

NAIC’s regulatory modernization action plan and to identify certain Federal proposals that could, if properly crafted, improve the regulation of our industry. A copy

of our current Insurance Regulatory Reform Policy is attached as Addendum A.

While our regulatory reform policy continues our century-long support for State

regulation of insurance and confirms our commitment to improve the State-based

system, we believe the status quo of insurance regulation is detrimental to consumers and NAIFA members. Thus, the recent strengthening of the policy was necessary to acknowledge that all options are on the table and that NAIFA is willing

to consider a breadth of alternatives in our desire to fix the problems confronting

us. As a result, we have adopted a policy that embraces Federal initiatives to improve the regulation of insurance. Simply put, NAIFA favors reform, improvement,

and progress over the status quo.

Conclusion

It is still early to judge the ultimate effectiveness of the Gramm-Leach-Bliley Act

because the full impact of such sweeping legislation may not be evident for years,

if not decades. Nonetheless, discussion of the benefits and drawbacks of the law is

worthwhile to determine if changes need to be made to realize the full potential of

the law. As this statement makes clear, there are several specific areas in which

changes can be made to improve GLBA’s effectiveness. Most important in the view

of NAIFA members is insurance regulatory reform, which is critical to enable insurance producers to enjoy streamlined, effect regulation and take full advantage of

GLBA’s promise for the benefit of insurance consumers.

*****

Addendum A

NAIFA POLICY ON INSURANCE REGULATORY REFORM

NAIFA supports the principles underlying State regulation of the business of insurance and efforts to improve the State-based system of insurance regulation, including support for the National Association of Insurance Commissioners’ Action

Plan for Regulatory Modernization. NAIFA also supports Congressional initiatives

to improve and augment the regulation of the business of insurance, such as the

creation of a Federal insurance regulator, optional Federal charters for insurance

companies and agencies, a national producer’s license for insurance professionals,

and other Federal efforts to improve the insurance regulatory system. NAIFA supports reform of the insurance regulatory system that meets the following guidelines:

(1) With respect to producer licensing and continuing education requirements:

• All insurance producers must be licensed.

• All duplicative licensing requirements should be eliminated to ensure that each

insurance producer will be required to demonstrate to only one regulator that he/

she is qualified to receive a license to engage in insurance representing either a

State-chartered or Federally chartered insurer.

• Uniform substantive and procedural licensing requirements should be established

for each class of similarly situated producers.

• The uniform licensing requirements should include the mandated performance of

a criminal background check on all applicants for licensure.

• A database to which only financial services regulators have access should be established to help ensure that individuals who have committed fraud or engaged

in other behavior which should bar their participation in the business of insurance are identified and tracked.

• Each insurance producer should need to satisfy only a single set of continuing

education requirements for each line of business for which he/she is licensed.

• Uniform continuing education requirements should be established for each class

of similarly situated producers.

(2) With respect to other consumer protection requirements:

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• The tax incentives supporting life and other insurance products must be preserved.

• Uniform trade practices and consumer protection requirements should apply to all

insurance sales and service activities.

• Adequate solvency requirements for insurers must be in place such as guarantee

funds or comparable fail safe mechanisms.

• Regulators’ responsiveness and accessibility to consumers must be preserved.

(3) With respect to rate and form filing and approval requirements:

• Duplicative filing and approval requirements should be eliminated.

• Unifonn filing and approval requirements should be established.

• ‘‘Quality to market’’ concerns should not be sacrificed for ‘‘speed to market.’’

(4) With respect to changes in regulatory rules, structures and procedures:

• Current regulatory expertise should be preserved to the maximum extent possible

as consistent with efficient regulation.

• Any ‘‘reform’’ should be viable for both accumulation and risk-shifting products.

• Submission to the jurisdiction of any additional newly created regulatory authority should be truly optional for all producers.

• Producers should have an institutionalized role in the development and application of all new regulatory rules, structures, and procedures.

Approved by the NAIFA Board of Trustees 1/16/04