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Reform, Or A Crackdown On Banking?



The banking reform package wending its way through Congress is widely seen as a virtual wish list for banking. The version approved on June 28 by the House Banking Committee, which has a long way to go before becoming law, would open a lot of doors for banks. It would allow them to branch into other states and enter a passel of new businesses, from securities underwriting to insurance. But buried in the measure are harsh proposals that would have a quite different impact. They would impose stiff constraints on banking regulators and crack down, probably too soon, on banks that fall on hard times.

Stung by the lax supervision that led to the savings and loan debacle, lawmakers have decided that the banking industry's cops can't be trusted to be tough with the banks on their own. The Federal Deposit Insurance Corp.'s request for a $70 billion loan to bail out the agency's ailing insurance fund has made Congress even more antsy. "Regulators blew it in the `80s," says Representative Charles E. Schumer (D-N. Y.), a member of the Banking Committee. "They took 50 years' credibility and lost it."

A mechanism in the bill would require regulators to move swiftly when banks start to deteriorate, preventing government dithering that at times lets bad situations get worse. The further a bank falls short of certain requirements for capital, asset quality, and earnings, the more the government overseers have to do: freeze growth, stop dividend payouts, and curb executives' salaries and bonuses. The Treasury Dept., author of the reform plan, thinks regulators could be more hard-nosed. Says a senior Treasury official: "It would be healthy to have a clear road map, which sets out actions for regulators."

GOOD RECORD. But many critics think that the clamping down on regulators goes too far. "Congress cannot micromanage banking in its attempts to respond to the current crisis," says Kenneth A. Guenther, executive vice-president of the Independent Bankers Assn. "Once the crisis is over, it will have put in a set of guidelines that may not work."

The Office of the Comptroller of the Currency argues that regulators have a good track record of letting shaky banks rejuvenate themselves without tapping the bank insurance fund. OCC official Leonora Cross says that if the tougher standards had been in effect when Bank of America got in trouble, "Bank of America would not be here today." Regulators kept the San Francisco bank open during its worst days in the mid-1980s, and now it is one of the most successful in the country. The reform bill does allow some leeway, letting regulators circumvent some mandated actions if they deem it necessary. But they may have to explain themselves before Congress--not an appetizing prospect.

Industry experts complain the legislation undercuts the flexibility of bank executives. It could prompt banks with battered loan portfolios to use their available resources to rebuild capital instead of reserves set up to absorb loan losses. The bill "will end up not only eliminating regulatory discretion but managerial discretion as well," says Washington banking consultant Karen Shaw.

The bank bill's strictures make sense in at least one area: curbing the Federal Reserve Board's lending to ailing banks via the discount window. The Fed used loans to prop up such sick banks as Boston's Bank of New England and Washington's Madison National Bank. The House Banking Committee found that the Fed has $8.3 billion in loans outstanding at 320 banks. Since it has first claim on bank assets, the Fed gets its money back. Many depositors--whose accounts exceeding $100,000 aren't insured--were happy: The banks used the Fed money to pay them off. Yet that left the FDIC holding the bag. "This is a massive form of forbearance granted in secret by the Federal Reserve," fumes House Banking Committee Chairman Henry B. Gonzalez (D-Tex.).

Faced with the threat of strict limits on discount-window lending, Fed Chairman Alan Greenspan struck a deal with Gonzalez. Under the bill, if the Fed wants to lend to a bank for more than 60 days, either the Fed chairman or the bank's top regulator must certify that the bank isn't failing. If the bank then goes under, the central bank would have to reimburse the FDIC for any losses caused by discount-window loans. The impact of that compromise could force the Fed to back away from its "too big to fail" stance of propping up the largest banks at all costs.

OVERDUE. The reform bill also is sensibly tough on the disposal of failed banks. It calls for the FDIC to choose the least expensive method, which would likely mean dissolving the institutions and selling their deposits for a premium to other banks. Under current law, the FDIC typically prefers to keep failed banks intact by selling them to investors, believing that this better serves the community and protects the financial system.

Moves to strengthen bank oversight are overdue. Forcing prompt regulatory action, especially if banks are allowed into new businesses, may well be a sound approach. But regulation, like banking, is a judgment business. If Congress writes rules that are too rigid for the new era of financial services, it may win the war of the `80s--and lose the war of the `90s.Catherine Yang and Mike McNamee in Washington

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