Mr. Chairman, I am Stephen A. Yoder, Executive Vice President and General Counsel of AmSouth Bank, headquartered in Birmingham, Alabama. I also serve on the Bank Counsel Committee 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 this morning to present the views of ABA's members on the need to reduce the burden of red tape and paperwork. Mr. Chairman, we appreciate your holding these hearings. Cutting unnecessary government regulations is important to all businesses, including banking. We are especially indebted to Senators Shelby and Mack for their tireless dedication to this effort. The bi-partisan accomplishments forged over the last two Congresses have helped to restore the balance in the regulatory process. Importantly, these efforts have created an environment within the bank regulatory community which encouraged review, streamlining and even elimination of some unnecessary regulations. This not only created savings for banks and their customers, but has helped to make the regulatory process much more efficient. We commend these efforts.
This morning we are here to discuss the next round of red tape relief, the "Financial Regulatory Relief and Economic Efficiency Act of 1997", S. 1405. This proposed legislation builds on the accomplishments of the previous two Shelby-Mack bills and we are very supportive of this current effort. In my testimony today, I would like to discuss briefly many of the provisions that we believe make significant contributions. There is an issue relating to corporate demand deposits that is the subject of great debate within our industry. We are going to present an alternative approach, and we are confident that working together we can resolve this issue. It is our hope, Mr. Chairman, that these hearings and the bi-partisan process already established in previous Congresses will lead to further reductions in burdensome regulations.
My written testimony covers three areas:
Mr. Chairman, the cost of regulation is not just a minor nuisance for bankers - it has a significant impact on bank customers and local economies. Compliance costs are a significant drain on bank resources and result in more expensive bank products and lower economic growth - with very little consumer benefit.
Regulatory costs are very significant for banks of all sizes. Large banks spend billions of dollars each year on compliance. At AmSouth, compliance costs exceed $5 million annually. Pound for pound, small banks carry the heaviest regulatory load. Typically for them, about one out of every four dollars needed to keep the doors open every day goes to pay the costs of government regulation.
For my bank, at least 20 people are devoted strictly to compliance activity, and about one-third of my time as general counsel is taken up with compliance issues. We are fortunate that we have staff to do this. Many smaller banks do not. In fact, there are nearly 4,600 banks in this country with fewer than 25 employees and 1,300 banks with fewer than 10 employees. For these smaller institutions, cost is not the only compliance problem they simply do not have the man-power to run their banks and to read, understand and implement the thousands of pages of new and revised regulations they receive every year.
Instead of making new loans, we find ourselves increasingly reporting about loans that we have already made. The losers in this scenario are bank customers and the communities banks serve. The impact is particularly severe in small communities served by community banks, where there are few alternative sources of credit.
In the remainder of my statement this morning, I will touch on several provisions of S. 1405 that are of particular interest to the banking industry.
ABA is pleased to see that the bill eliminates the mandatory haircut on bank capital currently imposed on holders of mortgage servicing rights (MSRs). This action will help to free up more resources to support lending and economic growth in banking communities across the country.
When banks calculate their capital, MSRs are presently valued by regulators at the lesser of 90 percent of their fair market value or 100 percent of their book value. At one time, this haircut may have been justified by the uncertainty surrounding the value of the intangible asset represented by an MSR. Today, however, it is widely recognized that MSRs do not present valuation concerns, allowing regulators confidence in the book values, for two important reasons. First, the market for MSRs is liquid; they are actively traded as separate assets for which prices, discount rates, and prepayment rates are readily available from brokers. Second, Generally Accepted Accounting Principles (GAAP) requires that the reported book value of MSRs be subjected to a conservative impairment test which effectively limits the book value of MSRs to the lower of cost or market value.
We support the elimination of the 90 percent capital limit on purchased and originated MSRs as part of the capital calculation for MSRs. The limit raises the cost of servicing residential and commercial mortgage customers, creates an unjustified competitive disadvantage for banks versus other financial services providers, and unnecessarily restricts the amount of capital available to support lending activities.
This provision would make the community development investment authority of thrifts parallel to that of banks. Thrifts are currently more restricted than banks in the types of investments they can make. We believe that allowing thrifts the same range of investment opportunities as banks would be beneficial to communities, and we support the expansion proposed in S. 1405.
On the other hand, banks are currently more restricted than thrifts in the proportion of their resources that can be invested in community development projects. We believe that increasing the investment limit for banks to parity with that of thrifts would also significantly increase the potential resources available for community development. We urge the Committee to include such an expansion in S. 1405.
The anti-tying provisions of Section 106 impose a significant regulatory burden on banks. The statute requires extensive employee training as well as monitoring and auditing to ensure compliance. In addition, when new packages of services are developed, legal counsel must be sought which adds significantly to the time and cost burdens associated with designing new products. Because the statute is very confusing and difficult to understand, bankers are often reluctant to put together packages of products that would be attractive and useful to consumers. This puts bank customers at a disadvantage.
In today's competitive financial markets, the anti-tying provisions of Section 106 are clearly not necessary. They impose burdens on banking organizations, but not our competitors. The provisions were predicated on the notion that banks, as extenders of credit, had a unique role in the economy that would give them advantage in selling non-traditional products. In the nearly 20 years since the statute was passed, growing competition from non-bank financial service providers makes these tying restrictions on banks anachronistic and unduly burdensome. Repealing Section 106 would permit banks and non-banks to compete more fairly, since non-banks are not subject to the same restrictions. Banks and other financial service providers would remain covered by the anti-trust laws, to assure that consumers are protected.
We are pleased that the sponsors of the bill recognize the burdens associated with call reports. The ABA is disappointed by the regulatory agencies' lack of progress toward implementing the legislative mandate in Section 307 of the Riegle Community Development and Regulatory Improvement Act of 1994 (Riegle Act).
The adoption of GAAP as the measurement basis for regulatory financial reporting in the 1997 Call Report was a significant first step toward streamlining reporting requirements. However, changes to the 1997 and 1998 Call Reports were missed opportunities to fulfill the following aspects of the Riegle Act:
We encourage this Committee to explore ways to make further progress toward reducing the regulatory reporting burden, and we would be glad to work with you in this regard. We recommend four principles be followed in fulfilling the explicit and implicit mandates in this bill and the Riegle Act.
This section of the bill would require bank regulators to take into consideration "real world" factors currently disregarded in the review of the competitive effects of bank mergers. Today, bank mergers are evaluated for anti-trust implications without any regard for the market presence of credit unions, finance companies and other non-depository financial institutions. Even full service S&Ls are only given half the weight of commercial banks in agencies' evaluation of the competitiveness of financial service markets. The consequence is that markets appear to be much more concentrated than they really are. This sometimes leads regulators to turn down merger applications particularly between community banks that would be approved had consideration been given to the full range of competing institutions. With better information, regulators would be able to make better decisions for banks and the markets they serve.
We appreciate the bill sponsors' giving attention to the need for real world factors to be taken into consideration. We would recommend, moreover, that the bill be broadened to include evaluations conducted by the Department of Justice in addition to banking regulators.
I know, Mr. Chairman, that last week's hearing focused specifically on this provision in S. 1405, and the provision that would allow the Federal Reserve to pay interest on sterile reserves. These are important issues to the banking industry, and I would like to spend a few minutes telling you our current position on them.
While the industry has wrestled with this issue for more than a decade, the debate on repealing the prohibition on payment of interest on demand deposits continues. The ABA does support an alternative approach which I will discuss below that we believe would help banks compete with non-bank providers and at the same time meet the needs of our corporate customers.
Increasing competition among financial service providers and improvements in technology have caused big changes in financial markets. In today's competitive environment, the prohibition on paying explicit interest on demand deposits has a significant competitive impact. Banks have responded by paying implicit interest.
Implicit pricing, by its nature, requires bundling together products and services and providing them at lower-than-market prices as compensation for what cannot be provided explicitly. This is evident in corporate banking relationships where compensating balances, transactions services, lending and line of credit arrangements, and other ancillary services are bundled and priced often below cost to compensate for the prohibition on paying explicit interest on corporate checking accounts. Many of these arrangements are set in contracts with the these companies. Systems for calculating compensating services have been developed at considerable cost to the banking industry.
More recently, banks have developed "sweep" arrangements for their corporate customers. These arrangements sweep corporate demand deposit balances out of the bank each evening and put them into interest earning vehicles; the next day, the balances are swept back into the customer's account to meet the daily transactions requirements. While this process helps banks compete for corporate customers, it also reduces banks' lendable funds.
These market factors set the stage for the current debate on repealing the prohibition on payment of interest on demand deposits. On one hand, some bankers have voiced concern that the prohibition against explicit interest makes it difficult to compete for corporate funds against money market funds and investment firms that offer similar services. Even credit unions offer interest-bearing checking accounts to small businesses. Many small banks find sweep arrangements and systems for calculating compensating balances too expensive and cumbersome and believe that explicit pricing would enhance their competitiveness.
On the other hand, many banks have invested considerable resources in setting up systems that calculate the appropriate compensation for other services rendered and in sweep systems. Explicit contractual arrangements would have to be unwound at considerable cost to the banks and their customers. And it is not just demand deposit pricing that would be affected. All the services that have been bundled together to make up implicit pricing arrangements would also have to be unwound and these services would also have to be explicitly priced or terms reset. In many instances, pricing on loans may be affected, and some banks believe that they would have to adjust their asset and liability mix to account for changes in the expected maturity of the deposits. It is noteworthy that all these changes, many of which would involve significant systems changes, would have to take place while the industry is dealing with the difficult "year 2000" issue.
It is because of these divergent views within the industry that we developed and found broad consensus for an alternative approach that would create a new type of account a non-reservable money market deposit account that would permit 24 transactions per month. The concept of creating a new vehicle to blend transaction features with an interest-bearing account draws on the history of the of the 1980s in which Congress created NOW and Super NOW accounts to phase out interest rate limits for individuals and the 6-transaction money-market deposit account (MMDA) for all customers. There is a significant industry consensus in favor of this account.
We believe this approach of creating a new account represents a middle ground that would provide an important option for banks to meet corporate customer needs, cause fewer market disruptions (such as renegotiating contracts for transaction and banking services), maintain deposit funds within the bank to meet loan demand at reasonable interest rates, and provide a valuable product for businesses.
The 24-transfer account would enable banks to transfer each business day during the month balances from a non-interest bearing checking account into an interest-bearing money market account offered by the bank. Current restrictions on similar accounts allow only 6 transfers per month, thus limiting the value of this option for banks' corporate customers. The majority of bankers believe that such a system would help them to be more competitive and the ABA is supportive of such an approach.
We would note, however, that for this account to be effective in competing with nonbanks for corporate customers, it is important that it be a non-reservable account. If reserves are imposed, the account would be so expensive to provide vis-a-vis non-bank competitors that banks would in many cases continue to sweep corporate balances outside the bank, thus defeating the purpose of creating the account in the first place.
As you know Mr. Chairman, the Federal Reserve has stated its preference for removal of the prohibition on payment of interest over the 24-transfer account. In part, the Fed is concerned with the issue of whether these accounts should be subject to reserve requirements. Under current law and regulation, reserves are required on demand deposits, whereas they are not currently required of savings accounts such as MMDAs. Reserves have declined over the past few years, due to customers transferring funds out of banks to brokers, money market funds and even credit unions, and, in part, due to bank corporate sweep arrangements. Thus, the concern is that creating a non-reservable 24-transfer MMDA account would reduce reserves even further.
There are several key questions worth considering here. The most basic is how much reserves the Fed needs to effectively conduct monetary policy. After all, the Fed does not conduct monetary policy today using changes in reserves to adjust up or down the money supply. Rather it targets interest rates. While this debate is unsettled, it appears that the Fed has been quite effectively managing monetary policy without regard to reserve levels. In fact, the effect of interest-bearing alternatives has lowered the level of reserves considerably, from about $30 billion to about $10 billion between 1994 and 1997. Not only have interest rates been stable and low, but there has been no appreciable increase in the variability of the federal funds rate. Over this time, inflation has been very low and stable -- the object of monetary policy.
Even though reserves have declined......there has been no increase in interest rate volatility....
Even if maintaining sufficient reserves is important for monetary policy, requiring that reserves be held on the 24-transfer accounts would not be effective. Programs to sweep accounts outside the bank were developed not only to provide compensation for account balances but to reduce the cost to banks of maintaining non-interest bearing reserves held at the Fed. If reserves were required on 24-transfers, this cost and competitive imbalance would remain and banks would continue to sweep funds outside the bank. It is important to note that this cost could remain if the Fed were to pay interest on reserves at a rate below that set in the market. The opportunity costs, while certainly lower than today, would still be high enough that banks would remain at a competitive disadvantage vis-a-vis our non-bank competitors.
Finally, with the non-reservable 24-transaction accounts, deposit funds will be kept in the banking system and thus subject to Fed regulatory oversight.
The most effective method of maintaining reserves is for the Fed to pay market interest rates on both required and "excess" reserves. This would enable the Fed to maintain reserves at a level it felt necessary to facilitate monetary policy. Importantly, paying interest on reserves makes the need for required reserves moot, and removes any concern over the new non-reservable 24-transfer account.
The ABA supports the provision authorizing the Fed to pay interest on reserves. For years this has represented a significant opportunity cost for banks, as is clearly evidenced by the introduction of the sweep accounts. The declining amount of required reserves and the ability of most banks to meet reserve requirements through vault cash held in the bank makes the benefits far less today than a decade ago.
I would like to state the ABA's support for Section 120 of the legislation. This section adds Federal Housing Administration and other federally insured or guaranteed loans to the categories of eligible mortgage loans acceptable as collateral for advances from the Federal Home Loan Bank System. This is a small, but positive change which will increase the number of eligible loans available for lenders to use as collateral to gain advances from the Home Loan Bank System.
The American Bankers Association would urge the committee, however, to go a step further and consider including additional categories of eligible collateral for Federal Home Loan Bank advances. Legislation introduced by a member of the Banking Committee, Senator Chuck Hagel of Nebraska, would significantly improve the Home Loan Bank System's ability to meet the advance needs of its members and the communities those members serve. Specifically, Senator Hagel's bill, S.1423, would expand the categories of eligible collateral for all FDIC-insured Home Loan Bank members with total assets of less than $500 million. Secured loans for small business, agriculture, rural development, or low-income community development (or securities representing interests in those loans) could be accepted as collateral for advances. Similarly, eligible advances would be expanded to include funding for small businesses, agriculture, rural development, or low-income community development.
Expansion of eligible collateral in the manner envisioned by Senator Hagel would greatly enhance community-based lenders' ability to serve their customers and to support greater growth and redevelopment and prosperity. These changes would also enhance the Federal Home Loan Bank System's mission of supporting housing finance by recognizing that supporting a community's economy helps to support and enhance the ability of the community's residents to achieve homeownership. We commend Senator Hagel for his efforts and urge the committee to include his collateral provisions in S. 1405.
The following are suggestions that we would encourage the Committee to consider for inclusion in the final bill. We may have some additional suggestions as this bill moves through the legislative process.
Regulations implementing the Government Securities Act of 1986 require daily confirmation of overnight hold-in-custody repurchase agreement transactions. Confirmation of the specific securities that are the subject of a hold-in-custody repurchase transaction must be issued by the end of the day on which a transaction is initiated and on any day on which substitution of securities occurs. Customers frequently complain to their bankers about receiving those daily notifications.
The ABA believes banks should be permitted at the customer's option to provide monthly account statements of overnight hold-in-custody repurchase transactions rather than daily confirmations. This would improve efficiency in two ways. First, it would reduce the cost of producing and sending the confirmations. Second, it would reduce the administrative burden on customers who have no way to opt out of receiving the daily confirmations. These notifications have a short period of usefulness as they are received after the specific transaction has been effected and quite possibly after several other transactions have been executed.
The replacement of daily notification with monthly notification need not reduce the amount of information made available to a customer. Moreover, customers always would have the ability to request daily information.
The Bank Secrecy Act recordkeeping requirements should be streamlined in a way that would improve the efficiency with which financial institutions detect and report money laundering. Institutions still should follow those procedures the Treasury Department feels are important to combat crime. These procedures include verifying the identity of customers and non-customers purchasing monetary instruments with over $3,000 in cash, and reporting possible criminal activity engaged in by those individuals. However, financial institutions should be allowed to meet their requirements for information retention by maintaining copies of such monetary instruments (cashier's checks, traveler's checks, and money orders) rather than having to keep logs of information on these purchases.
Financial institutions had been keeping logs on the sale of these monetary instruments pursuant to a Treasury Department regulation put in place in 1990. However, these logs have not proven useful to crime fighting, and in 1994 Treasury eliminated the logging requirement. The law still requires this information to be retained, though not in the form of the log required by the old Treasury regulation. Replacing the old requirement with a new requirement to maintain copies would update the law to fit Treasury's latest thinking on the most efficient way for financial institutions to help law enforcement authorities.
Mr. Chairman, the cost of unnecessary paperwork and red tape is a serious long-term problem
that will continue to eat away at the competitiveness of the banking industry and erode our ability
to serve our customers and support the economic growth of towns and cities across the country.
We believe S.1405 is a positive step toward restoring balance and sanity to the regulatory
process.
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