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Greenspan vs. the Banks: Is a Rematch in the Making?

Two years ago, as Congress was considering the repeal of Depression-era rules that walled off banking, insurance, and securities from one another, Federal Reserve Chairman Alan Greenspan warned that letting banks make big investments in other companies could put the deposit insurance fund at risk. That won him some safeguards when Congress approved almost unfettered merchant banking, in which banks take venture-capital-style stakes in everything from the corner store to high-tech startups.

But Greenspan and other federal banking regulators haven't given up the fight. Now, they're trying to force banks to offset the risks of merchant banking by boosting the capital they keep in reserve. The regulators, led by Fed Governor Laurence H. Meyer, also want to limit banks' role in managing companies in which they hold large stakes.

Unhappy with what they see as a regulatory straitjacket, banking execs are asking Congress to force their overseers to back off. The struggle could lead to a reopening of the landmark Gramm-Leach-Bliley financial-services act of 1999. "It's a major battle," says Robert J. Kabel, a Washington attorney representing a coalition of banks. "A lot of people feel that how the merchant banking issue turns out will largely determine how well the [act] works."

HOWLS. Before 1999, banks had been able to make only limited merchant banking investments. The new law allows them to own up to 100% of a company. The merchant banking unit of Wells Fargo & Co., for example, wants to step up investments in management buyouts and international communications ventures, says John P. Whaley, a partner in Wells Fargo's Norwest Equity Partners. But a Fed proposal to boost reserves--as much as 25 cents for every dollar of merchant banking investment--puts banks at a competitive disadvantage, he says. The Fed initially proposed a 50 cents-on-the-dollar requirement, which drew howls. Bank execs insist that other safeguards, such as a requirement to isolate merchant banking activities in a subsidiary, make additional reserves unnecessary.

Merchant banking's risk to the bank insurance fund is distant, but not zero. Under the new law, banks and their merchant banking siblings share the same parent. If the merchant bank suffers losses, the holding company might have to shore it up. That, in turn, could cripple its ability to support the bank if it, too, runs into trouble. The result: a drain on the insurance fund.

Unable to persuade regulators to back down, the banking lobby is turning to Capitol Hill. There, it has three influential allies: Michael G. Oxley (R-Ohio), chairman of the House Financial Services Committee; Richard H. Baker (R-La.), head of the capital markets subcommittee; and Spencer Bachus (R-Ala.), head of the financial institutions subcommittee.

Clearly, the GOP leaders are ideologically aligned with the bankers, but generous campaign contributions probably haven't hurt. The financial-services sector supplied the biggest chunk of campaign cash to the 2000 reelection efforts of Oxley, Baker, and Bachus. Commercial banks in particular were the No. 1 bankrollers of Baker and Bachus, giving them $107,550 and $95,700, respectively.

Any measure introduced in Congress would likely reduce capital requirements and ease restrictions such as the ban on cross-marketing between banks and companies in which they invest. House Republicans seem willing to consider a bill, and the industry coalition is prepared to push it. But attempts to water down the rules could raise the ire of consumer groups and resurrect the decade-long fight to overhaul financial services that Washington thought it finally settled. In an important reversal of voter turnout patterns, blacks are now more likely to vote than whites, according to what both groups told a bipartisan Battleground 2002 Poll. In fact, African Americans are far more enthusiastic about voting than are Protestant fundamentalist whites, a key component in the Republican electoral base. Since black support for the Democratic Party is at an all-time high, that could be good news for Dems in hotly contested 2002 Senate elections in Arkansas, Louisiana, Georgia, and the Carolinas, as well as 2001 gubernatorial races in New Jersey and Virginia. Why the change? Blacks continue to be angry about alleged voter intimidation in Florida during the last Presidential election. Vice-President Dick Cheney's controversial energy plan has been under attack by Democrats and environmentalists for weeks. But now the plan is angering some Congressional Republicans, too. The energy report, expected in mid-May, is likely to call for additional drilling on public lands, expanded use of coal and nuclear power, and less onerous rules for building pipelines, electricity transmission lines, and refineries. But in an early May meeting with Cheney, about 16 members of California's Republican delegation. California Republicans criticized the draft plan for focusing too much on boosting the supply of energy and not enough on conservation and energy efficiency. The GOP lawmakers told Cheney that the report won't pass muster in Congress without some changes.

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