gives me real confidence about the benefits of combining banking and commerce. and i can find no empirical support for any benefits for combining banking and commerce based on experience abroad. take risk diversification. do we really believe that in the day of stock index mutual funds, options on individual stocks, and evolving credit derivatives that any firm must own another in order to diversify its risks in virtually any way it cares to do so? i think not. if diversification of asset return risk were our only goal, financial modernization would be easy. how about synergies in crossselling? maybe. but i think we must be skeptical here, because the admittedly weak literature on economies of scope in banking has been hard pressed to find strong evidence of significant synergies even in financial activities, although i think we all believe that there are some. the argument that we need to combine banking and commerce to attract capital to banking seems, well, pretty silly. in a market economy, capital flows to profit opportunities. if banking is viewed as a vibrant and growing industry, it is hard to see why capital will be a problem. indeed, the banking industry just completed its fifth straight year of record profits, and it is no coincidence that by all measures capital has been flowing into the industry. if it were not profitable, i cannot see why we would want to create a structure to attract capital to banking. the notion that mixing banking and commerce would reduce information costs in bank lending, and would facilitate monitoring and management control by the bank probably has some merit. banks that hold both a debt and equity stake in a firm would probably be better able to deter excessive risk taking by the other equity holders, and might even have access to better information about the firm. however, the internalization of these principal - agent problems would come at a price : a price that could include less vibrant money and capital markets, an unwarranted expansion of the federal safety net, potentially dangerous conflicts of interest, and excessive concentration of power. on balance, in my view, this is an area where we should be very cautious and where we need far more research before we can come to any definitive conclusions. an additional reason for caution is the necessity of modifying supervisory techniques. i believe that all of the banking agencies can meet the challenges of expanded financial activities. but adding commercial firms before we have digested the financial side of the business could well be a bridge too far. indeed, i believe that prudent public policy requires that

mr. meyer looks at issues in financial modernization in the united states remarks by mr. laurence h. meyer, a member of the board of governors of the us federal reserve system, at the seventh annual conference on financial structure in annandale - on - hudson, new york, on 10 / 4 / 97. it is my pleasure to take part in what has become an important annual meeting on financial policy issues. it is my job to get you warmed up for a reception and dinner. our hosts have a curious view that a discussion of financial modernization will whet your appetite for food. maybe so, but it will almost surely increase your thirst. it seems that people have been talking about financial modernization for a long time. indeed, in the short - run it is easy to become discouraged about how often we talk, but how rarely we do anything, about financial modernization. however, if we step back and look over the last twenty years, it seems to me remarkable both how much progress has been achieved and how much the concerns of financial modernization have changed. two decades ago we still had regulation q, the glass - steagall act was widely viewed as requiring a virtual prohibition of combinations of commercial and investment banking, interstate banking and branching were barely fantasies even at the state level, and combinations of banking and insurance were off most people ’ s radar screens. today, many of the issues of 20 years ago have, blessedly, been resolved. but some remain, and new ones have inevitably appeared. the contemporary concerns of financial modernization include repeal of glass - steagall, expanded insurance activities for banking firms, the entry of insurance and securities firms into banking, the possibility of unlimited mixing of banking and commerce, and ongoing technological changes and financial innovations. tonight i would like to address some aspects of these concerns. i will suggest to you that while financial modernization is still, as it was twenty years ago, a necessity, it is also the case that in an uncertain world characterized by rapid change caution is not a dirty word. i will begin with what for me is the easiest topic : banking and commerce. the separation of banking and commerce has a long history in english - speaking countries. indeed, the policy can be traced back to the founding of the bank of england in 1694. it appears that commercial firms were concerned that the bank ’ s monetary powers would give it a competitive advantage in mercantile activities if there were no separation of banking and commerce. the young american state governments adopted, at least