<PAGE>
 
                                                                    EXHIBIT 10.3

                             AMENDED AND RESTATED
                             --------------------


                             EMPLOYMENT AGREEMENT
                             --------------------


                                    BETWEEN
                                    -------


                  GLENDALE FEDERAL BANK, FEDERAL SAVINGS BANK
                  -------------------------------------------


                                      AND
                                      ---


                              STEPHEN J. TRAFTON
                              ------------------

                                       1
<PAGE>
 
                                 TABLE OF CONTENTS

<TABLE>
<CAPTION>


                                                                 Page
                                                                 ----
<S>      <C>                                                      <C>

1.       Position and Duties..................................      3

2.       Executive's Acceptance of Employment.................      4

3.       Term.................................................      4

4.       Confidentiality......................................      4

5.       Compensation.........................................      4

6.       Termination of Employment............................      6

7.       Compensation Upon Termination, Etc. .................     10

8.       Arbitration..........................................     16

9.       Notices..............................................     16

10.      Miscellaneous........................................     17

</TABLE>

                                       2
<PAGE>
 
  THIS AMENDED AND RESTATED EMPLOYMENT AGREEMENT (this "Agreement") dated as of
the 1st day of January, 1998, is made by and between GLENDALE FEDERAL BANK,
FEDERAL SAVINGS BANK, a federally-chartered stock form savings bank, with its
principal executive offices at 414 North Central Avenue, Glendale, California
(the "Bank"), and STEPHEN J. TRAFTON, resident of 5022 Hook Tree Road, La
Canada, California (the "Executive").

  WHEREAS, the Bank wishes to assure itself of the services of Executive for the
period provided in this Agreement and the Executive is willing to serve in the
employ of the Bank on a full-time basis for said period upon the terms and
conditions hereinafter provided; and

  WHEREAS, the Board of Directors of the Bank (the "Board") has determined that
the best interests of the Bank would be served by providing for the terms and
conditions of Executive's employment as set forth herein.

  NOW, THEREFORE, in consideration of the mutual covenants herein contained and
intending to be legally bound hereby, the Bank and the Executive hereby agree as
follows:

  1.  Position and Duties.  The Bank hereby agrees to, and hereby does, employ
      -------------------                                                     
the Executive, for the term of this Agreement, to render services to the Bank
(and its subsidiaries or affiliates) as its President, Chief Executive Officer
and Chairman of the Board ("President, CEO and COB") and in connection therewith
to perform such duties, not inconsistent with the terms of this Agreement, as
the Executive may reasonably be directed to perform by the Board.  In addition
to his duties as President, CEO and COB, the Executive is a member of the Board
and he shall serve as a member of the Board until such time as the shareholders
of the Bank may decline to re-elect him or he is ordered to be suspended as
described in Subsection 6(f) hereof.  The Executive shall have the right to
devote a reasonable amount of time and effort to industry, community or charity
organizations, and, subject to the provisions of Section 4 hereof, the Executive
may serve as a director of other companies subject to the prior approval by the
Board, except that Executive may not serve as a director of any financial
institution (other than Golden State Bancorp, Inc. (the "Holding Company"), the
Bank or a subsidiary thereof).

                                       3
<PAGE>
 
  2.  Executive's Acceptance of Employment.
      ------------------------------------ 
The Executive hereby accepts such employment and agrees faithfully to perform to
the best of his ability the duties described in Section 1.

  3.  Term.  Subject to Section 6 hereof, the term of the employment of the
      ----                                                                 
Executive under this Agreement shall commence on January 1, 1998 (the "Effective
Date") and shall terminate on the earlier of (i)the Effective Date under the
Amended and Restated Second Employment Agreement of even date between the Bank
and Executive (the "Second Agreement") and December 31, 2000 (the "Expiration
Date").  The term of this Agreement may be extended for one (1) year by a vote
of the Board prior to the end of each calendar year.  This Agreement will be
deemed amended by a certification attached to the contract of a resolution by
the Board, extending the term.

  4.  Confidentiality.  The Executive agrees:
      ---------------                        

  (a)  To keep secret all confidential matters of the Bank, specifically
indicated to be such by the Bank or established as such by written Bank policy,
and not to disclose them to anyone outside the Bank, either during or after his
employment with the Bank, except with the prior written consent of the Bank or
as required by law; and

  (b)  To deliver promptly to the Bank on termination of employment of the
Executive all memoranda, notes, records, reports and other documents (and
all copies thereof) with respect to any such confidential matters and other
proprietary information (such as customer lists, supplier lists, etc.)
which the Executive may then possess or have under his control.

  5.  Compensation.  In consideration of the Executive's agreements contained
      ------------                                                           
herein and as compensation to the Executive for the performance of the services
required hereunder, the Bank shall pay or grant to him the following salary and
other compensation and benefits:

  (a)  A base salary, not less than $735,000.00 per year, as is determined from
time to time by the Board or an appropriate committee thereof, payable in
equal installments not less frequently than monthly in accordance with the
Bank's payroll practices; provided, however, that the Executive's base
salary shall be reviewed by the Board no less frequently than annually on

                                       4
<PAGE>
 
the basis of the types of factors it generally takes into account in evaluating
the salaries of executive officers of the Bank;

  (b)  Participation in and the right to receive awards under the terms and
conditions of the Holding Company's Amended and Restated Stock Option and Long-
Term Performance Incentive Plan (the "Incentive Plan");

  (c)  Participation under any other compensation plan, program or arrangement,
now existing or hereafter adopted by the Bank, as applicable to executive
officers of the Bank, but only if and/or to the extent the Board, or an
appropriate committee thereof administering such plan, program or arrangement,
may determine is appropriate;

   (d)  Participation on the same terms and conditions as all other employees in
all employee benefit plans, programs or arrangements, pension plans (including
any supplemental pension plan), whether or not qualified within the meaning of
Section 401(a) of the Internal Revenue Code of 1986, as amended (the "Code"), or
welfare plans, including, but not limited to, the defined benefit plan
maintained for the benefit of employees of the Bank (the "Qualified Pension
Plan"), the Sheltered Pay Plan (the "401(k) Plan"), and any Employee Stock
Ownership Plan (the "ESOP"), and any health, life, disability or other welfare
plans, as may be now or hereafter sponsored or maintained for all employees of
the Bank;

  (e)  Reimbursement for reasonable travel and other expenses incurred by the
Executive in performing his obligations hereunder, pursuant to the terms and
conditions of the applicable policy of the Bank in respect thereto;

  (f)  Reasonable vacations, absences on account of temporary illness, corporate
perquisites and fringe benefits customarily enjoyed by employees or officers of
the Bank, each under the terms and conditions of the policy of the Bank in
respect thereto;

  (g) Indemnification and protection from liability under 12 C.F.R. Section
545.121; and

  (h)  An amount not to exceed Seven Thousand Five Hundred Dollars ($7,500.00)
per annum for personal financial planning services.

  Nothing contained in this Agreement shall prevent the Board from amending or
otherwise altering any plan, program or arrangement, so long as such amendment
or alteration (i) is

                                       5
<PAGE>
 
accomplished pursuant to the terms thereof as in effect on the Effective Date or
on the date such plan or arrangement is adopted, if adopted after the Effective
Date, and (ii) equitably affects all employees, executive or otherwise, of the
Bank previously covered thereunder.

  6.  Termination of Employment.  This Agreement shall terminate upon the
      -------------------------                                          
Expiration Date or upon the death of the Executive; provided, however, those
                                                    --------  -------       
obligations which are contemplated to be performed after the termination of this
Agreement shall survive such termination.  The Bank may terminate this Agreement
and the Executive's employment hereunder prior to the Expiration Date for
"Disability" or "Cause", as such terms are herein defined.  The Executive may
terminate this Agreement and his employment hereunder prior to the Expiration
Date by his "Resignation for Good Reason", as such terms are hereinafter
defined.  Termination of this Agreement, for any reason not set forth above,
shall not be deemed a permitted termination and shall be deemed a breach of this
Agreement.  In the event of any termination of this Agreement and/or the
Executive's employment hereunder prior to the Expiration Date, whether a
permitted termination or otherwise, the provisions of Section 7 of this
Agreement shall determine the amount, if any, of any compensation thereafter due
the Executive in respect to such termination.

  As used in this Agreement, the following terms shall have the meanings set
forth:

  (a)  Disability.  The Executive shall be entitled to leaves of absence from
       ----------                                                 
the Bank in accordance with the policy of the Bank, for illness or other
temporary disabilities for a period or periods not exceeding an aggregate of six
(6) months in any calendar year, and his compensation and status as an employee
hereunder shall continue during any such period or periods. If, as a result of
the Executive's incapacity due to physical or mental illness, the Executive
shall have been absent from his duties with the Bank on a full-time basis for
six (6) consecutive months, and within thirty (30) days after written notice of
termination is given by the Bank, the Executive shall not have returned to the
full-time performance of his duties, the Executive shall be deemed to have
experienced a Disability and the Bank may terminate the Executive's employment.

  (b)  Cause.  Termination by the Bank of Executive's employment for "Cause" 
       -----                                                                 
shall mean termination for reason of the Executive's personal dishonesty,
incompetence, willful misconduct, breach of a fiduciary duty involving personal
profit, intentional failure to perform stated duties, willful violation of any
law, rule, regulation (other than traffic

                                       6
<PAGE>
 
violations or similar offenses), final cease-and-desist order or material breach
of any provision of this Agreement. Notwithstanding the foregoing, the Executive
shall not be deemed to have been terminated for Cause unless and until there
shall have been delivered to him a copy of a resolution duly adopted by the
affirmative vote of not less than a majority of the total number of outside
directors of the Board at a meeting of the Board called and held for that
purpose (after reasonable notice to the Executive and an opportunity for the
Executive, together with his counsel, to be heard before the Board), finding
that in the good-faith opinion of the Board the Executive was guilty of conduct
set forth above and specifying the particulars thereof in detail, which
resolution shall constitute, with respect to a termination for Cause by the
Bank, a Notice of Termination for purposes of Subsections 6(h) and 6(i) of this
Agreement.

  (c)  Resignation for Good Reason.  For purposes of this Agreement, 
       ---------------------------                                         
"Resignation for Good Reason" shall mean the Executive's election to resign as a
result of the occurrence of one of the events referred to in Subsection (d)
below.

  (d)  Good Reason.  For purposes of this Agreement, "Good Reason", absent the
       -----------                                                            
Executive's express written consent to the contrary, means the occurrence of any
one of the following events:

       (i)  removal of the Executive as President and/or CEO and/or COB of the
  Bank or the Holding Company(by reason other than death, Disability or Cause),
  or any other material breach by the Bank of its obligations contained in this
  Agreement;

       (ii) without the prior written consent of the Executive, the assignment
  to the Executive of any duties inconsistent with his status as President, CEO
  and COB of the Bank or a substantial alteration in the nature or status of the
  Executive's duties and responsibilities which renders the Executive's position
  to be of less dignity, responsibility or scope, provided, however, it shall 
                                                  --------  -------    
  not be an event of Good Reason if the Executive is assigned additional duties
  for the Bank or any affiliate or subsidiary of the Bank which are not
  inconsistent with the duties described in Section 1 hereof, so long as the
  aggregate of all duties assigned to the Executive in connection with his
  service with the Bank, its affiliates or subsidiaries do not require the
  Executive to devote, on a consistent and sustained

                                       7
<PAGE>
 
  basis, substantially more time than other senior level executives of the Bank
  are required to devote to their duties;

       (iii)       the failure of the Holding Company or the Bank to
  continue in effect any compensation plan, program or arrangement in which the
  Executive then participates specifically set forth in Section 5 hereof or the
  failure by the Bank to continue the Executive's participation therein, except
  for across-the-board reductions or discontinuance similarly affecting all
  Executives of the Holding Company or the Bank, if applicable, unless an
  equitable arrangement reasonably acceptable to the Executive (embodied in an
  ongoing substitute or alternative plan, program or arrangement) has been made
  with respect to such plan;

       (iv) the failure of the Bank to obtain an agreement from any successor to
  assume and agree to perform this Agreement, as contemplated in Section
  10(b)(ii) hereof;

       (v) the failure of the Holding Company or the Bank to nominate the
  Executive to stand for election as a director of the Holding Company or the
  Bank, respectively;

       (vi) any purported termination of the Executive's employment which is not
  effected pursuant to a Notice of Termination satisfying the requirements of
  Subsection (h) below and, if applicable, Subsection (b) above, and for
  purposes of this Agreement, no such purported termination shall be effective;
  or

       (vii)  [intentionally deleted]

  (e) Change in Control. [intentionally deleted]
      -----------------                         

  (f) Suspension and Special Regulatory Rules.
      --------------------------------------- 

       (i)  If the Executive is suspended and/or temporarily prohibited from
  participating in the conduct of the Bank's affairs by a notice
  served under Sections 8(e)(3) or 8(g)(1) of the FDI Act (12
  U.S.C. 1818(e)(3) or 1818(g)(1), the Bank's obligations under
  this Agreement shall be

                                       8
<PAGE>
 
  suspended as of the date of service of such notice, unless stayed by
  appropriate proceedings. If the charges in the notice are dismissed, the Bank
  may in its discretion (x) pay the Executive all or part of the compensation
  withheld while its contract obligations were suspended and (y) reinstate (in
  whole or in part) any of its obligations which were suspended.

       (ii)  If the Executive is removed and/or permanently prohibited from
  participating in the conduct of the Bank's affairs by an order issued under
  Sections 8(e)(4) or 8(g)(1) of the FDI Act (12 U.S.C. 1818(e)(4) or
  1818(g)(1), the Bank's obligations under this Agreement shall terminate as of
  the effective date of the order, but vested rights of the contracting parties
  shall not be affected.

       (iii)  All obligations under this Agreement shall be terminated, except
  to the extent it is determined that continuation of such employment is
  necessary for the continued operation of the Bank, (x) by the Director of OTS
  (the "Director") or his or her designee at the time the FDIC enters into an
  agreement to provide assistance to or on behalf of the Bank under the
  authority contained in Section 13(c) of the FDI Act, or (y) by the Director or
  his or her designee at any time the Director or his or her designee approves a
  supervisory merger to resolve problems related to operation of the Bank or
  when the Bank is determined by the Director to be in unsafe or unsound
  condition, but in any of the above-described events, the vested rights of the
  Executive shall not be affected.

       (iv)  If the Bank is in default (as defined in Section 3(x)(1) of the FDI
  Act) or in the event of receipt of any notice or order of a default, an
  agreement to provide assistance or an approval of a supervisory merger, the
  suspension or termination of the Bank's obligations hereunder shall be (x)
  automatic and shall not be conditioned upon any further action by the Bank or
  delivery of any notice to the Executive and (y) deemed a suspension or
  termination of employment jointly and severally by the Bank and the regulatory
  body providing assistance or delivery

                                       9
<PAGE>
 
  of such document; provided, however, that (i) such suspension or termination
  shall not prejudice the Executive's vested rights under this Agreement and (2)
  notwithstanding the foregoing, the Bank's obligations hereunder shall not be
  suspended or terminated to the extent deemed necessary by the Director or his
  or her designee for the continued operation of the Bank as provided in
  Subsection 6(g)(iii) and 12 C.F.R. Section 563.39(b)(4) and (5).

  (g)  Notwithstanding other provisions in this Agreement, the Bank may
terminate the Executive's employment at any time, but termination pursuant to
this Subparagraph (g) shall not prejudice the Executive's right to compensation
or benefits as provided in this Agreement.

  (h)  Notice of Termination.  Any purported termination by the Bank or
       ---------------------                                           
Resignation for Good Reason by the Executive shall be communicated by written
Notice of Termination to the other party hereto in accordance with Section 9
hereof.


For purposes of this Agreement, a "Notice of Termination" shall mean a notice
which shall indicate the specific termination, resignation or retirement
provision in this Agreement relied upon and shall set forth in reasonable detail
the facts and circumstances claimed to provide a basis for such termination,
resignation or retirement under the provision so indicated.

  (i)  Date of Termination, Etc.  "Date of Termination" shall mean (i) if the
       -------------------------                                             
Executive's employment is terminated for Cause, the date the Notice of
Termination is given; (ii) if the Executive's employment is terminated for
Disability, thirty days after Notice of Termination is given (provided that the
Executive shall not have returned to the performance of the Executive's duties
on a full-time daily basis during such thirty-day period); or (iii) if the
Executive's employment is terminated for any reason other than Cause or
Disability, the date specified in the Notice of Termination (which shall not be
less than thirty days nor more than sixty days, from the date such Notice of
Termination is given).

  7.  Compensation Upon Termination
      -----------------------------

      (a)  Death.  If the Executive's employment hereunder terminates by
           -----
reason of his death, the Executive's surviving spouse and/or beneficiary or
estate (as designated in accordance with any applicable plan) shall be entitled
to receive

                                       10
<PAGE>
 
a payment, as determined below, in a lump sum in cash within 30 days of the date
of death, and any benefits to which the Executive is entitled (i) under any
insurance policies on the life of the Executive which by their respective terms
are payable to the Executive's beneficiary, estate or personal representative,
(ii) under the insurance programs and other employee benefit plans, programs and
arrangements then in effect of the Bank, and (iii) under the 401(k)Plan. The
payment referred to above in this Section 7(a) shall be equal to the sum of (i)
the Executive's annual base salary in effect on the date of death and the
Executive's target bonus for the Bank's fiscal year in which death occurs
multiplied by the sum of the number of whole years remaining on the term of the
Agreement and a fraction, the numerator of which is the number of days remaining
from the date of death in the current year of the Agreement and the denominator
of which is 365. The Bank shall have no further obligation under this Agreement
with respect to the Executive.

  (b)  Disability.  If the Executive's employment hereunder terminates by reason
       ----------                                                               
of his Disability, the Executive shall be entitled to receive a payment, as
determined below, in a lump sum in cash within 30 days of the date of death, and
any benefits provided under such plans and programs then maintained for the
benefit of the Executive or in which he then participates. The payment referred
to above in this Section 7 (b) shall be equal to the sum of (i) the Executive's
annual base salary in effect on the date of the Disability termination and the
Executive's target bonus for the Bank's fiscal year in which the Disability
termination occurs multiplied by the sum of the number of whole years remaining
on the term of the Agreement and a fraction, the numerator of which is the
number of days remaining from the date of the Disability Termination in the
current year of the Agreement and the denominator of which is 365. The Bank
shall have no further obligation under this Agreement with respect to the
Executive.

  (c)  Cause.  If the Executive's employment hereunder is terminated by the Bank
       -----                                                                    
for Cause, the Bank shall pay to the Executive his full base salary through the
Date of Termination at the rate in effect at the time Notice of Termination is
given and the Bank shall have no further obligations to the Executive under this
Agreement, and the Executive shall have no right to receive compensation or
other benefits for any period after the Date of Termination, except as provided
in Section 8 of this Agreement.

  (d)  Voluntary Resignation.  In the event the Executive resigns other than
       ---------------------                                                
pursuant to his Resignation for Good Reason, the Bank shall pay to the Executive
his full base salary

                                       11
<PAGE>
 
through the Date of Termination at the rate in effect at the time Notice of
Termination is given and the Bank shall have no further obligations to the
Executive under this Agreement.

  (e)  Suspension and Special Regulatory Rules.  In the event the Bank's
       ---------------------------------------                          
obligations hereunder are terminated by the Bank and/or a regulatory body
pursuant to the Suspension and Special Regulatory Rules for reasons that do not
constitute Cause, the Bank shall (i) pay to the Executive his full base salary
through the Date of Termination at the rate then in effect, (ii) honor any other
rights of the Executive that shall have vested through the Date of Termination,
and (iii) have no further obligations to the Executive under this Agreement.

  (f)  Other.  If, prior to the Expiration Date and for reasons other than the
       -----                                                                  
death of the Executive, the Executive's employment hereunder is terminated (A)
by the Bank pursuant to Subsection 6(g), in breach of this Agreement or
otherwise (other than for Cause or Disability), or (B) by the Executive pursuant
to his Resignation for Good Reason, then the Executive shall be entitled to
liquidated damages, and not as severance, in the amounts, property or rights
determined as follows:


       (i)  the Bank shall pay the Executive his full base salary through the
  Date of Termination at the rate in effect at the time Notice of Termination is
  given;

       (ii) with respect to regular base salary for the period specified
  herein, such regular base salary shall be determined at the rate in effect on
  the date a Notice of Termination is delivered (unless a reduction in
  compensation has preceded the Executive's Resignation for Good Reason in which
  case the rate of base salary shall be the rate in effect prior to such
  reduction). In the case of a termination by the Bank (other than for Cause or
  Disability) or a termination by the Executive pursuant to his Resignation for
  Good Reason under Subsections 6(d) (i), 6(d)(ii), 6(d)(iii), 6(d)(iv),
  6(d)(v), or 6(d)(vi), the Executive shall be entitled to receive his regular
  base salary for a period of thirty-six (36) months if the termination occurs
  at a time when two (2) years or more remain on the term of the original or
  extended contract; twenty-four (24) months if the termination occurs at a time
  when two (2) years or less but more than one (1) year remains

                                       12
<PAGE>
 
  on the original or extended term of the contract; and twelve (12) months if
  the termination occurs at a time when one (1) year or less remains on the
  original or extended term of the contract. By January 15th of each calendar
  year prior to a Change in Control, the Executive shall elect to receive his
  base salary as aforesaid either (A) at the times and in installments
  consistent with the Bank's payroll practices then in effect, or (B) in lieu of
  any further payments of regular base salary, a lump sum payment payable not
  later than the fifteenth day following the Date of Termination, equal to the
  amount due hereunder discounted to present value at a per annum discount rate
  equal to the weekly average auction rate for the sale of fifty-two (52) week
  notes of the United States Treasury as published in the Western Edition of the
  Wall Street Journal for the auction most recently held as of the Date of
  Termination applied to each future payment from the time it would have become
  payable ("Discount"). If Executive fails to exercise his election hereunder,
  then he shall be deemed to have elected payment by installments pursuant to
  the Bank's regular payroll practices. Regardless of the option exercised by
  Executive hereunder, the Bank may, at its option, pay a lump sum to Executive
  but at no greater Discount than that specified herein.

  In the case of a termination by the Executive pursuant to his Resignation for
  Good Reason under Subsection 6(d)(vii), the Executive shall be entitled to
  receive a lump sum payment payable not later than the fifteenth day following
  the Date of Termination and equal to his regular base salary for a period of
  thirty-six (36) months. This payment shall not be subject to the Discount
  specified above.

       (iii)  upon entry of judgment favorable to the Executive in a court of
  competent jurisdiction or by an arbitration pursuant to Section 8 hereof or,
  if earlier, upon settlement of claims brought by the Executive in arbitration
  or a court of competent jurisdiction.

       (iv) the Executive shall be deemed to have elected continuation coverage
  within the meaning

                                       13
<PAGE>
 
  of Section 4980B of the Internal Revenue Code of 1986 as amended ("Code") and
  the Bank shall bear the cost of such coverage until the earliest of (i) the
  date continuation coverage need no longer be provided under Section 4980B of
  the Code, (ii) the date which is eighteen (18) months from the Date of
  Termination, or (iii) the date the Executive is covered under the plan of
  another employer. In addition, the Bank shall pay for the continuation of life
  and long-term disability insurance in an amount equal to the coverage in force
  at the time of termination for the same period specified above.

       (v)  a payment representing a pro rata portion of any incentive
                                     --------                         
  compensation under Subsection 5(c) determined to be due for the portion of the
  incentive period then completed.

       (vi) the payments provided for in this Subsection (f) shall be made not
  later than the applicable date set forth above for such payment, provided,
  however, that if the amounts of such payments cannot be finally determined on
  or before such day, the Bank shall pay to the Executive on such day an
  estimated amount, as determined in good faith by the Bank, of the minimum
  amount of such payments and shall pay the remainder of such payments (together
  with interest at the rate provided in Section 1274(b)(2)(B) of the Code) as
  soon as the amount thereof can be determined but in no event later than the
  thirtieth day after the date upon which such estimated amount shall have been
  paid. In the event that the amount of the estimated payments exceeds the
  amount subsequently determined to have been due, such excess shall constitute
  a loan by the Bank to the Executive payable on the fifth day after demand by
  the Bank (together with interest at the rate provided in Section 1274(b)(2)(B)
  of the Code).

       (vii)  all options that have not yet vested at the time of termination
  under this provision shall immediately vest. This provision shall constitute
  an amendment to the Stock Option Agreements between the Executive and the
  Bank.

Notwithstanding the foregoing provisions of this Subsection 7(f), and pursuant
to RB 27a, the total amount of any payment to

                                       14
<PAGE>
 
Executive provided for in this Subsection 7(f) in connection with a termination,
regardless of the reason, shall not exceed three times the Executive's average
annual compensation. The term "compensation" as used in the preceding sentence
means "compensation" as that term is defined in RB 27a, and the Executive's
average annual compensation shall be based on the most recent five taxable years
as of the Date of Termination, or the Executive's tenure with the Bank as of the
Date of Termination in the event such tenure is less than five years.

  (g)  The Executive shall not be required to mitigate the amount of any payment
provided for in this Section 7 by seeking other employment or otherwise, nor
shall the amount of any payment provided for in this Section 7 be reduced by any
compensation earned by the Executive as the result of employment by another
employer, or otherwise.

  (h)  In addition to all other amounts payable to the Executive under this
Section 7, the Executive shall be entitled to receive all benefits vested and
payable to him as of the Date of Termination under (1) the Qualified Pension
Plan, the 401(k) Plan and any other plan, program or arrangement relating to
retirement, profit sharing, or other benefits including, without limitation, any
employee stock ownership plan, or any plan established as a supplement to any of
the aforenamed plans; (2) the Incentive Plan; and (3) any health, life,
disability or other welfare plan; provided, however, notwithstanding the
                                  --------  -------
foregoing, the Executive shall not be entitled to receive any benefit otherwise
payable to him under any severance plan or policy of the Bank as of the Date of
Termination. No amount payable to the Executive under Subsection 7(f) shall be
considered for any benefit calculation or other purpose under the Qualified
Pension Plan.

  (i)  Notwithstanding the foregoing provisions of this Section 7, the amounts
payable under this Agreement (i) are subject to and conditioned upon their
compliance with 12 U.S.C. (S)1828(k) and any regulations promulgated thereunder,
and (ii) shall be reduced to the extent necessary to cause the aggregate of all
payments which must be taken into account for purposes of Section 280G of the
Code and any regulations thereunder to be $100.00 less than the amount which
would be deemed an excess parachute payment as defined in Section 280G(b)(1) of
the Code. If, after a reduction to comply with Subsection (ii) above, the
aggregate of payments will comply with Subsection (i), said condition shall then
be deemed met and the payments may then be made, as reduced.

                                       15
<PAGE>
 
  8.  Arbitration.  Any disputes hereunder shall be settled by arbitration in
      -----------                                                            
Los Angeles, California, under the auspices of, and in accordance with the rules
of, the American Arbitration Association, and the decision in such arbitration
shall be final and conclusive on the parties and judgment upon such decision may
be entered in any court having jurisdiction thereof.  A party wishing to
initiate an arbitration proceeding with respect to a dispute regarding a
termination shall give the other party written notice to that effect within
thirty (30) days from the Date of Termination.  In any arbitration initiated
hereunder, whether by the Bank or the Executive, in which the issue of whether a
valid basis exists for a termination of the Executive by the Bank for Cause
under Subsections 6(b) and 6(f) above is in dispute, the Bank shall continue to
pay to the Executive his regular base salary for a period of nine (9) months
from the date of the written notification from the party initiating the
proceedings and during the pendency of such arbitration, or until such time as a
final order has been entered in the arbitration proceeding to the effect that a
valid termination for Cause by the Bank occurred, whichever occurs first;
provided, however, that the Bank's obligation to continue making such payments
--------  -------                                                             
of regular base salary, as aforesaid, shall be conditioned on receipt from the
Executive of a written undertaking to repay all such payments, together with
interest thereon at a rate equal to the Bank's average cost of funds for the
period during which such payments are made, in the event that the final judgment
rendered in connection with such arbitration proceeding is that the Bank had a
valid basis for termination of the Executive for Cause.

  9.  Notices.  All notices and other communications which are required or may
      -------                                                                 
be given under this Agreement shall be in writing and shall be delivered
personally or by registered or certified mail addressed to the party concerned
at the following addresses:

 
                             If to the Bank:
                             -------------- 

                             Chairman, Compensation Committee
                             of the Board of Directors
                             Glendale Federal Bank,
                             Federal Savings Bank
                             414 North Central Avenue
                             Glendale, California  91203
 

                                       16
<PAGE>
 
                             If to the Executive:
                             ------------------- 

                             Stephen J. Trafton
                             5022 Hook Tree Road
                             La Canada, California  91011


or to such other address as shall be designated by notice in writing to the
other party in accordance herewith. Notices and other communications hereunder
shall be deemed effectively given when personally delivered, or, if mailed, 72
hours after deposit in the United States mail.

  10.  Miscellaneous
       -------------

       (a)  The terms of this Agreement are intended by the parties as a final
expression of its terms and may not be contradicted by evidence of any prior or
contemporaneous agreement, and no extrinsic evidence whatsoever may be
introduced in any judicial or arbitration proceedings involving this Agreement.
This Agreement supersedes all prior agreements, arrangements (including, but not
limited to, severance arrangements) and undertakings, written or oral, relating
to the subject matter hereof and shall provide for the sole remedies of the
Executive upon termination of employment (other than as provided in the Second
Agreement).

       (b)  (i) This Agreement shall inure to the benefit of and be binding
upon the Executive, the Executive's heirs, representatives or estate.

           (ii) This Agreement shall be binding upon and inure to the benefit of
the Bank and its successors and assigns.  The Bank shall require any successor
(whether direct or indirect, by purchase, merger, consolidation or otherwise) to
all or substantially all of the business or assets of the Bank, by written
agreement, expressly to assume and agree to perform this Agreement in the same
manner and to the same extent that the Bank would be required to perform if no
such succession had taken place.  As used in this Agreement, "Bank" shall mean
(A) the Bank as defined in the preamble to this Agreement, and (B) any successor
to the business or any of the assets of the Bank which executes and delivers the
agreement provided for in this Subsection 10(b)(ii) or which otherwise becomes
bound by all the terms and provisions of this Agreement by operation of law.

       (c)  Except as provided in Paragraph 3, this Agreement may be amended,
modified, superseded, canceled, renewed or extended and the terms or covenants
hereof may be waived, only

                                       17
<PAGE>
 
by a written instrument executed by both of the parties hereto, or in the case
of a waiver, by the party waiving compliance. The failure of either party at any
time or times to require performance of any provisions hereof shall in no manner
affect the right at a later time to enforce such provisions thereafter. No
waiver by either party of the breach of any term or covenant contained in this
Agreement, whether by conduct or otherwise, in any one or more instances, shall
be deemed to be, or construed as, a further or continuing waiver of any such
breach or a waiver of the breach, preceding or succeeding, of any other term or
covenant contained in this Agreement.

       (d)  In the event any one or more of the covenants, terms or provisions
contained in this Agreement shall be invalid, illegal or unenforceable in any
respect, the validity of the remaining covenants, terms and provisions contained
herein shall be in no way affected, prejudiced or disturbed thereby.

       (e)  This Agreement is personal in nature and neither of the parties
hereto shall, without the consent of the other, assign or transfer this
Agreement or any rights or obligations hereunder, except as provided in
Paragraph 10(b) above. Without limiting the foregoing, the Executive's right to
receive payments hereunder shall not be assignable or transferable, whether by
pledge, creation of a security interest or otherwise, other than a transfer by
his will or by the laws of descent or distribution, and in the event of any
attempted assignment or transfer contrary to this Subsection 10(e), the Bank
shall have no liability to pay any amount so attempted to be assigned or
transferred.

       (f)  This Agreement shall be governed by and construed in accordance with
the laws of the State of California regardless of its principles of conflict of
laws, except as such laws of the State of California may be preempted by the
laws of the United States.

       (g)  All payments required hereunder shall be made from the general
assets of the Bank and the Executive shall have no rights greater than the
rights of a general creditor of the Bank.

       (h)  The Bank may withhold from any payment required hereunder such
amounts for federal, state and local income tax as the Bank, in good faith,
determines to be required by applicable laws, provided, however, the Bank shall
provide the Executive with notice of the amount so withheld and shall promptly
pay over such amounts to the appropriate taxing body.

                                       18
<PAGE>
 
       (i)  All rights and duties of the parties with respect to a change of
control of the Bank or the Holding Company shall be governed exclusively by the
provisions of the Second Agreement.
/////
/////
/////
/////
/////
/////
/////
/////

  IN WITNESS WHEREOF, the parties have caused this Agreement to be executed and
delivered as of the date first above written.



ATTEST:                                  GLENDALE FEDERAL BANK,
                                         FEDERAL SAVINGS BANK


/s/ James R. Eller, Jr.             By:  /s/ Diane C. Creel
_________________________                ____________________________
Secretary                                Diane C. Creel, Chairperson
James R. Eller, Jr.                      Officer Compensation and
                                         Personnel Committee




WITNESS:                                 EXECUTIVE:


/s/ James R. Eller, Jr.                  /s/ Stephen J. Trafton
-------------------------                ----------------------------
James R. Eller, Jr.                      Stephen J. Trafton

                                       19