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structure, and put pressure on the commercial bank to directly fund the insurance and securities departments out of their difficulties. In the event of failure or toobig-to-fail rescue, this would put immediate pressure on the federal safety net. The Federal Reserve discount window would likely feel the pressure first. Then, the FDIC would feel the pressure, and ultimately-depending on the size of the too-bigto-fail institution—the taxpayer.

In these situations, we believe it is imperative to build in maximum insulation of the risky activities from the bank component of the financial conglomerate. The holding company structure does this.

If the risky activities were conducted in an operating subsidiary of a universal bank structure, the threat to the bank is even greater. Any losses experienced in the subs would impact the bank's capital. By contrast, losses incurred by a holding company affiliate would not impact the bank's capital. Thus, the holding company structure better insulates the bank. Deposit Insurance Protection

Protection of the deposit insurance fund is and will remain the top priority of all community bankers. As a community banker who is not protected by the too-bigto-fail doctrine, deposit insurance is the lifeblood of my operation.

Community banking is not what it was 30 years ago, when in many communities the only place to invest your money was in the local bank. Today, we compete with tax-free credit unions and farm credit associations, with mutual funds you can buy over the Internet, with Edward Jones offices in virtually every small community that soon may be offering a full array of banking services under its unitary thrift charter, and with a public equities market that has not faced a real down market in more than a decade.

We pay an insurance premium for deposit insurance and we would differ with Chairman Greenspan that there is a subsidy. It would damage the FDIC and be a misuse of banker premiums to stretch the deposit insurance safety net to cover losses of merchant banking or securities underwriting subsidiaries that threaten to bring down a universal bank.

The bill that was reported out of the House Banking Committee and is before you now would permit an operating subsidiary of a national bank to engage in any banking activity, and in any activity that is financial in nature or incidental to financial in nature, except insurance underwriting and real estate development. Requiring, as the bill does, that a bank over $10 billion in assets must have a holding company if it wants to engage in financial activities through an op sub, does give the Federal Reserve some oversight over the entire entity. But this doesn't provide maximum insulation of merchant banking and securities underwriting activities, and losses from the core bank, as the holding company structure would.

The House bill also provides the Federal Reserve sole authority to prescribe regulations and issue interpretations regarding merchant banking activities. The bank I am associated with does not engage in merchant banking activities, but my gut instinct tells me that these are risky indeed. And one must look with great concern at the Senate Banking Committee bill which permits commercial banks to hold indefinitely the securities of a commercial firm underwritten by a different component of a financial conglomerate while operating the commercial firm on a daily basis.

Again, allowing such activities through a universal bank structure brings them that much closer to the federal safety net. I would much prefer to see the bill amended to push all risky new activities, including merchant banking and non-government securities underwriting, into a separately capitalized affiliate of the holding company, thus providing maximum insulation of the safety net, including the deposit insurance fund. This is Chairman Greenspan's position and we support this position.

Down the road, small national banks like mine could become interested in underwriting local government issues directly from the bank-but I don't believe this detracts from my strong support of Chairman Greenspan's position. I also applaud the initiatives of the OCC in bringing about a heightened awareness of the opportunities afforded banks by forming operating subsidiaries for activities that do not pose safety and soundness problems. Mixing Banking and Commerce

Mr. Chairman, with your indulgence I would like to briefly comment on two other provisions in the bill that trouble community banks greatly. The first is the mixing of banking and commerce. This is an enormously significant public policy issue that risks getting lost in the shuffle as the most powerful men in the world fight over CRA and the operating subsidiary. How this issue is resolved will have a profound impact on our economic and financial structure, which is the envy of the world, and

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on our diversified financial system which has created the remarkable small business infrastructure of our Nation.

The case against mixing banking and commerce is well established, with both Chairman Greenspan and Secretary Rubin, in congressional testimony earlier this year, raising serious concerns about eroding the walls separating banking and commerce. Allowing the common ownership of banks and commercial firms could lead to "crony capitalism," and undermine the impartial allocation of credit, which is the foundation upon which our financial system is based. Taking this issue to the community banking level, why would a bank that owned a grocery store want to lend money to someone who wanted to open a competing grocery story in the community? Credit must be allocated impartially and on merit--not on the basis of ownership considerations.

There are two ways in which banking and commerce can be mixed. The first is through a "commercial basket,” which would allow banks to acquire a "basket” of commercial holdings with certain restrictions based on asset size or earnings. Wisely, this concept was rejected by the full House and the Senate Banking Committee last year and has not been reincarnated in this legislation. It was, unfortunately, kept very much alive in the merchant banking language in this year's Senate Banking Committee bill. Unitary Thrift Holding Company Loophole

The second way in which banking and commerce can be, and is, mixed, is through the unitary thrift holding company loophole. Under current law, there are no restrictions on what a unitary thrift holding company can own, or who can own a unitary thrift, including commercial firms. This, of course, runs counter to the prohibition against bank and commercial affiliations, despite the fact that there is very little difference between a bank and a thrift.

While the bill before you partially closes this loophole by prohibiting the chartering of new unitaries owned by commercial firms, it fails to close the loophole completely and allows each of the 600-or so grandfathered unitary thrifts (most of which are not currently owned by commercial companies) to be acquired by commercial firms. Equally troubling is the fact that under the bill, there are no restrictions on who could buy what unitary, leaving open the possibility, for example, for a large commercial firm to buy Washington Mutual, the largest unitary thrift in the world.

Chairman Greenspan has warned that these kinds of affiliations pose serious safety and soundness hazards. We believe Secretary Rubin concurs. In the current strong economic climate, commercial firms have shown considerable interest in getting into the banking business. But we all know that this boom period will not last forever. Commercial firm ownership of banking could have negative consequences in the future because of their lack of experience in assessing credit and other bankrelated risk. Again, let's not follow the failed paths of Japan and other Pacific Rim nations.

I believe strongly that the unitary thrift holding company loophole should be closed completely and for good. Grandfathered unitaries should not be allowed to be acquired by commercial firms. Discriminatory Insurance Provisions

I also would like to comment briefly on the insurance sales provisions in this legislation. A fair reading of the insurance sales language in this bill has to conclude that banks seeking to retail insurance products are disadvantaged. For example, the bill spells out in thirteen separate paragraphs thirteen specific ways in which states can pass laws that discriminate against insurance sales by national banks. These so-called "safe harbors” range from permitting discriminatory restrictions in advertising, to rules governing the payment of commissions, to where a customer's files may be kept in a bank. In addition, the bill provides that a state may impose any other restrictions on insurance sales in banks that are no more burdensome than these 13 “safe harbors.”

These “safe harbors” will have the effect of making it very difficult for a national bank to get into, or remain in, the insurance business. It seems to me that in today's financial world, where regulators have authorized the common ownership of Citicorp and Travelers, such restrictions are not only anti-competitive, but also absurd.

We also note that without judicial deference being accorded to the OCC (just as it is any other federal agency), any challenges relating to interpretations of how future state laws impact national banks could end up in the courts for years.

What banks get in return is a shell of the Barnett standard. We get a “non-discrimination” standard that applies only if state laws expressly distinguish and discriminate against depository institutions, have a “substantially more adverse” im

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pact on banks, or if the state law "effectively prevents” the bank from selling insur

This is what Comptroller of the Currency John Hawke had to say about these provisions at a recent banking convention:

“One of the most controversial issues in the financial modernization legislation has arisen from the efforts of the independent insurance agents to burden banks with restrictions that would encumber their ability to sell insurance as agents in a free and competitive marketplace. And the most recent formulations of those efforts have been embodied in H.R. 10 and they include a list of socalled sale harbors—13 paragraphs describing areas in which states will be free to discriminate against banks with impunity. We think that banks should be treated on a completely non-discriminatory basis with respect to the sale of insurance—they shouldn't be treated differently from any other individual or entity licensed to sell insurance in the state. And we certainly should not tolerate laws that prohibit bank-related entities from selling insurance and as I'm sure you know that Comptroller of the Currency's office has taken a vigorous position on that issue in litigation. But this legislation would essentially empower the states-state legislatures—to adopt with impunity legislation that discriminates against banks..." Most

banking lawyers agree with Comptroller Hawke's interpretation. Mr. Chairman, selling insurance as an agent is not a risky activity: We are not talking about underwriting insurance and assuming the actuarial risks. We are talking about selling a policy across a counter for a fee. Many community banks, like mine, already struggling to maintain their core deposits and compete with taxfree credit unions and farm credit associations, will want to get into this activity to diversify their earnings if they are not already there. And our getting into the business is very pro-competitive and pro-consumer in the emerging world where any large insurance company will be able to own a bank and cross market all its products. But if the language in this legislation remains intact, insurance sales in banks will be in real jeopardy in many states. Closing

Mr. Chairman, that concludes my testimony. Thank you, again, for the opportunity to present my views. I would be pleased to respond to any questions.

Mr. OXLEY. Thank you, Mr. Schultz. Thank you for coming all the way from Iowa for this. Mr. Zimpher.

STATEMENT OF CRAIG W. ZIMPHER Mr. ZIMPHER. Mr. Chairman, members of the subcommittee, thank you very much for the opportunity to be here today. This is the second opportunity and privilege I have had to appear before your committee on this important issue. So on my behalf and Nationwide's behalf, we appreciate the opportunity for input today. I just trust that today's experience and prior experiences will not prove to be the victory of hope over experience, however, on final enactment and passage and enactment of H.R. 10, which we certainly are pleased to endorse today and endorse and support your efforts.

Mr. Chairman, my testimony has been submitted and I am going to try to just very briefly summarize a couple of key points in that testimony that we are interested in.

First, as we testified last year and we want to do again today, is our strong support and belief in the issue of functional regulation which you have heard a great deal about already by preceding witnesses and testimony. My predecessor on the prior panel, Mr. Nichols and his organization, the NAIC, outlined what could be serious consequences if functional regulation were eroded, or if it were eroded by this bill.

We would certainly agree with their testimony and support any effort to prevent that. As a matter of fact, on page 10 of our testi

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mony, we make the statement that to exempt, either advertently or inadvertently, insurance offered by banks from State regulation would be unsound and counterproductive to protecting consumers of insurance products.

Just as important as we believe functional regulation is for leveling the playing field through which and on which various financial products will ultimately be offered by different industries, we believe there are very strong and compelling consumer protection interests to continue the regime of State-based insurance regulation.

Several instances come to mind, Mr. Chairman. Those safeguards include market-conduct examinations conducted by every State insurance department; triennial financial and solvency examinations conducted of all companies by departments; the applications of fair claims practice laws; guarantee funds in place in every State for both property casualty and life insurance policies for payments in cases of insolvencies; licensing and continuing education requirements for agents; consumer complaint and inquiry resolution procedures in place in all 50 States; and policyholder surplus investment regulations and supervision in place in all 50 States. So we strongly encourage the continuation of functional regulation by State insurance departments as it relates to the delivery—to the manufacturing and delivery of insurance products.

Second, Mr. Chairman, we would encourage the subcommittee to maintain the holding company structure that is contained in H.R. 10 for mutual companies such as Nationwide. As it is currently structured and governed, this is the only practical governance structure for them to participate under the bill's affiliation opportunities if it were to become law and avoid the dilemma of dual regulation, both at the State and the Federal level.

Mr. Chairman, I will just conclude my comments there, and again I appreciate the opportunity to be here.

[The prepared statement of W. Craig Zimpher follows:] PREPARED STATEMENT OF W. CRAIG ZIMPHER, VICE PRESIDENT OF GOVERNMENT

RELATIONS, NATIONWIDE INSURANCE ENTERPRISE Mr. Chairman and members of the subcommittee, my name is Craig Zimpher. I

Vice President of Government Relations for Nationwide Insurance, headquartered in Columbus, Ohio. Nationwide Insurance is a group of core insurance companies, including Nationwide Mutual Insurance Company, Nationwide Life Insurance Company, Nationwide Financial Services. Our products range from personal auto, homeowners, commercial/workers' compensation to life insurance, annuities, financial services, and health insurance. Our companies are licensed to engage in the business of insurance in all 50 states. In addition, Nationwide operates several affiliated insurance operations in Europe and has entered into partnerships with other companies to market our products in Asia and Latin America.

I am honored to be with you today and intend to discuss Nationwide Insurance's perspective on financial services modernization. These issues are significant and have vast public policy ramifications for they affect the financial security of millions of Americans. Overall, we are encouraged by the direction that Congress is taking on financial services reform. But, there are three major areas where we believe that problems could arise. I would like to discuss these areas today, specifically: 1. The need to retain the mutual holding company structure for mutual insurers; 2. The risk the use of operating subsidiaries pose to the solvency of financial service

entities; and, 3. The need for continued consumer protection at the state level.

Nationwide continues to support H.R. 10. We believe that the bill represents a good compromise and an excellent place to begin the process of modernizing the nation's financial services laws. However, absent the mutual holding company struc

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ture, mutual insurers that retain their unique corporate characteristics cannot participate fully in a post-financial services reform world.

Under current law, utilization of the unitary savings and loan holding company is currently the only structural model available for an insurance company to affiliate with a depository institution. Some state laws may prohibit or impede the ability of a mutual insurance company to affiliate with a unitary savings and loan holding company.

Mutual insurance companies are incorporated under state law for the benefit of their policyholders. Because mutuals do not have stockholders, they utilize a holding company structure, unless domiciled in a state that has adopted a mutual holding company act. Such statutes provide for the conversion of the mutual insurer into a stock company controlled by its mutual holding company parent. In addition, mutual insurers are subject to a variety of state laws that prohibit or limit the size of an investment the insurer can make in a bank subsidiary.

While the language contained in H.R. 10 would allow any financial services company to become a bank financial services holding company, for regulatory reasons there are only two practical ways a mutual insurer could affiliate with a depository institution: • Demutualize and create an upstream holding company; or, • Create a mutual insurance holding company.

A mutual insurer could demutualize and create an upstream stock holding company, which could form or acquire a bank as an affiliate of the insurance company. However, demutualization is not a solution many mutual insurers would be eager to adopt, as they are either committed to the mutual concept or do not want to undergo the disruption and significant costs posed by demutualization. The second option is to permit a bank and an insurance company to become affiliates of one another and subsidiaries of a parent holding company.

As you know, while the Bank Holding Company Act currently prohibits such affiliations, federal financial services reform proposals would amend that Act to allow affiliations and, therefore, preempt state laws. This means that the state insurance laws would not apply to stock companies; however, mutual insurance companies, like Nationwide, still could not avail themselves of the holding company affiliation model unless they are domiciled in one of the 21 states that have laws permitting mutual insurance companies to convert to a mutual holding company structure. These include Iowa, Minnesota, Ohio, Pennsylvania, Rhode Island, Vermont, Missouri and California.

As we understand it, some would like to prohibit the use of mutual holding companies. We would strongly oppose such a move and urge Congress not to prohibit mutual life and mutual property/casualty insurance companies from creating mutual holding companies under state law, in order to affiliate with depository institutions. Otherwise, you would condemn an entire sector of the financial services sector to a slow death, because mutual insurers would not be able to fully participate in the new financial services arena.

Nationwide believes that all insurance activities should occur within an affiliate of a bank or financial services holding company, because this is the only way to guarantee functional regulation. Allowing these operations to occur in an operating subsidiary would defeat the concept of functional regulation and would lead to a dual regulatory system.

Appealing features of the affiliate model include the following: 1. It is consistent with functional regulation and so entails minimum federal intru

sion into the affairs of insurance company affiliates of the depository institution. 2. There is no restriction on the types of activities that can be conducted in the hold

ing company; i.e. affiliations with non-financial commercial companies are per

mitted. 3. It provides sufficient supervisory mechanisms and authority for appropriate over

sight for financial system stability. Nationwide believes that expansion of banking powers into the insurance business, absent continued state regulation of such business, would be misguided. We believe that state insurance regulation has worked effectively and efficiently for both those regulated and those protected, the consumers. To exempt the bank-owned insurance operations from such regulation would disrupt and distort the insurance marketplace across the country.

Nationwide strongly endorses appropriate safeguards and provisions for state regulation of insurance products, regardless of risk bearer or distributor of such products. Our concern about bank exemption from insurance regulation has been heightened by a series of rules and opinions issued by the Comptroller of the Currency over the past several years, that have unilaterally expanded insurance authority of

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