Commentary: A Banking Rule For Another Era

Why an old prohibition against linking loans and services is obsolete

What's so terrible? Big banks give big loans to big companies in return for a promise to do future business deals. The banks make money by selling a bundle of services, while Corporate America gets cheap loans and a bulk discount for one-stop shopping. Yet the whole transaction may be illegal.

That's because a law born of antitrust concerns seven decades ago stayed on the books in 1999 when most other Depression-era restrictions on banks were swept away. The broader reforms allowed banks to do both commercial and investment banking. But banks of all stripes still are banned from making so-called tied loans, or loans granted only on the condition that a borrower agrees to buy other services.

It's time to dump that rule, too. As it stands, the law applies to banks that have a dominant position in the services they provide. But in today's competitive markets, "no one bank has dominance over bank credit," says bank regulator John D. Hawke Jr., Comptroller of the Currency. The notion of widespread abuse "is one of the phoniest issues of all time," he adds. "Are we to believe that big, sophisticated borrowers are going to be coerced?" The Fed agrees. "Cross-marketing and cross-selling, whether suggestive or aggressive, are part of the nature of ordinary business dealings and do not, in and of themselves, represent a violation," it said in an Aug. 25 statement.

Still, the debate rages on. In March, the Association for Financial Professionals, a trade group based in Bethesda, Md., reported that 56% of companies with sales greater than $1 billion say that a commercial bank had denied them credit or changed its terms because they did not award the bank other financial business. "It's naive to think that banks don't hold market power over credit," says James A. Kaitz, AFP's chief.

Investment bankers, no surprise, second that view. The likes of Morgan Stanley and Goldman Sachs Group Inc. -- whose market share in either brokerage services or invest-ment banking has been under attack by banks and other new entrants -- argue that they are at a competitive disadvantage because they have far less capital and don't want to use it to fund low-margin lending. Says one veteran Wall Street banker: "[Tying] is a form of extortion." But that can cut both ways: Enron Corp. executives may have bullied Wall Street into granting credit in return for receiving investment banking business.

Representative John D. Dingell (D-Mich.) has asked the General Accounting Office to investigate illegal tying -- for a second time in five years. There are abuses: In August, the Fed fined German bank WestLB $3 million for requiring that loan clients use it for debt underwriting in 2001. But after studying bank practices from 1990 to 1996, the GAO found "limited evidence" of wrongdoing. Insiders say the new report is unlikely to conclude that tying has resulted in widespread disadvan-tages to corporate clients.

A bank is entitled to consider its overall relationship with customers before extending them credit. Some banks are doing so quite aggressively: Bank of America has more than halved its loan portfolio in three years, and Bank One Corp. dropped 200 large borrowers because they didn't do enough other business. Chief financial officers are smart enough to raise cash with bonds if they can't get bank loans. They don't need protection from an antique law harking back to the time when it was bank credit, or nothing.

By Mara Der Hovanesian

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