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delayed. We had recently a new payment system that covers the Comptoller's Office; checks haven't arrived in time and we have had our own office overdraws because the Government checks have not arrived in time for our own employees.

The CHAIRMAN. Let me generalize about that. I think 1 day is severe. Suppose you had a requirement that all overdrafts carry an interest charge at the market rate and you let the time be discretionary, 3 days, a week, whatever.

Mr. HEIMANN. I think all overdrafts should have a charge. Whether it is market rate or a service fee needs some more thought on our part.

Second, I think the time has to be looked at with some flexibility, when overdrafts are due to acts of God for example.

The CHAIRMAN. The second is a requirement that all bank stock loans have a minimum margin requirement of 20 percent. Governor Partee?

Mr. PARTEE. Yes, I think that would be a reasonable requirement. Some minimum percentage of equity, I think ought to be put up on such loans.

The 50-percent margin requirement that we have for purposes of securities credit regulation is not appropriate, because the purpose to be served is entirely different from the one at issue here.

As a matter of procedure, as we look at bank holding company applications, we ordinarily require that there be a 25-percent equity provided in any financing of bank stock that is involved.

I think something of that sort generally would be appropriate. The CHAIRMAN. Do you gentlemen agree with that?

Mr. LEMAISTRE. I have some difficulty with that, Mr. Chairman, because we deal with smaller banks and we have thousands of banks in which there is no market for their stock. There is just no way to tell what the market value of the stock is if it hasn't been traded in the last 6 months.

You might make it relative to book or something of that sort.

The CHAIRMAN. That is an interesting reservation. But would you require any margin requirement at all?

Mr. LEMAISTRE. I am inclined to look at that as a management decision. If they determine that that loan is worth something to the bank and the borrower is creditworthy, the bank is taking no risk, is earning whatever that note earns, I don't see why the regulatory authorities ought to dictate what use they make of that particular money.

The CHAIRMAN. We are concerned with the abuses, the fact that people can come in without putting up any money at all, and buy a bank.

We are concerned with a practice that is confined to some parts of the country, apparently, but is not uncommon in that section of the country, that has enabled people to step in and buy banks with no money at all.

Mr. LEMAISTRE. I think that is a little different problem. If the purpose of the loan is to achieve a transfer of ownership. But just because it is secured by bank stock, it seems to me it shouldn't necessarily-

The CHAIRMAN. Fine, that is what I had in mind, the transfer of ownership

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Would you suggest where there is a transfer of ownership it might be reasonable to require 20 percent?

Mr. LEMAISTRE. Yes, I have no quarrel with that. Or at least, as we suggested earlier, some notice be given that this is effecting a transfer and some power be given to disallow it if it isn't a proper transfer, or if the people are not properly qualified.

The CHAIRMAN. Mr. Heimann?

Mr. HEIMANN. I feel quite firmly that there ought to be an equity investment made over and above the value. I use the word "value" advisedly, because I agree with Chairman LeMaistre that market value would be very difficult to determine in some small banks. Say book value. The purchaser oug it to have equity investment over and above the value of the shares that he is purchasing. I do not consider that, however, a substitute for the right of the supervisors to approve or at least to disapprove such a transfer of control. I think that is in addition.

The CHAIRMAN. How about a requirement that all loans to bank insiders be made at or above the prime rate? Is that too severe?

Mr. HEIMANN. I don't think I would subscribe to that, Mr. Chairman, because prime is a somewhat arbitrary number that has different meanings in different parts of the country, due to economic and financial conditions in various sectors. There are other factors that go into the lending of money other than just using the prime as the mark by which all should be judged.

I generally feel if prime is what it is supposed to be, the rate at which you lend to the highest creditworthy borrowers of the institution, that prime ought to be the standard. It varies in different parts of the country at different times.

There should be a modest degree of flexibility due to provision of collateral or other circumstances, which might make the loans ordinarily attractive to the institution's own lending portfolio.

The CHAIRMAN. I am talking only about loans to insiders. I am not saying all loans, I am talking about loans to insiders.

Mr. HEIMANN. I generally would subscribe to that on insiders. But I don't consider there are many variations of that particular theme.

The CHAIRMAN. Would you agree with that?

Mr. LEMAISTRE. I agree we should not put that limitation on for several reasons. As I pointed out, there was a period when every legal loan in the States of Tennessee and Arkansas was below the prime.

The CHAIRMAN. I certainly accept that reservation. That is an excellent point, and I agree. You would concur with Mr. Heimann in his indication that there are other situations too, but in general this might be a reasonable guideline?

Mr. LEMAISTRE. I would say that is a very good guideline for the examiner when he visits that bank, but I don't thing it should be

The CHAIRMAN. Again, I am talking about insider borrowing.

Mr. PARTEE. I agree with the others. I would point out a technical problem, that the published prime is a rate for very large banks. There is a good deal of volatility in that rate: It has gone to 12 percent in 1974, and gone nearly as low as 6 percent since then. I think you will find a great many banks around the country never went as high as 12 and never went as low as 6. So saying what the prime is would be quite difficult for the individual smaller banks in the country.

The CHAIRMAN. How about a requirement that no loan be made to an insider of a bank which had a deposit at the lending bank? In other words you wouldn't make any insider loans on the basis of the correspondent balance, you just wouldn't be allowed to make it. If the insider wanted to borrow money, he would have to go to another institution, an institution where he didn't have a correspondent balance.

Mr. PARTEE. I think that might limit the attractiveness of being a bank director to the point where we would have difficulty getting qualified persons to serve. There is a tendency for families of banks to exist through the correspondent relationships. And I think if you were to exclude the possibility of going to the customary big city correspondent of a country bank for the fellow who might decide to become a director of that country bank, there would be a serious consideration in his mind that might keep him from director service.

Mr. HEIMANN. I think that observation is quite accurate. On the other hand, the concept of payment of interest on demand deposits or unbundling would help to resolve part of that, without having the negative effect Governor Partee talked about.

The CHAIRMAN. I hope we can do that and do it promptly. Because it just seems to me there is an unfortunate conflict of interest there. A requirement that all correspondent balances earn interest and correspondent services by explicitly priced. You just responded to that.

Do you all agree with that motion?
The CHAIRMAN. Governor Partee?

Mr. PARTEE. I cannot comment on that. I think we would have to study the implications of it.

Mr. LEMAISTRE. In that connection, I would say I don't think the legislative authorities ought to mandate how they unbundle. I think the idea of unbundling is excellent.

The CHAIRMAN. I agree with that. What I had in mind is we simply remove the present prohibition against paying interest on a correspondent balance, and we ought to unbundle, as you say, by making that permissive, not statutorily defining what had to be paid.

Mr. HEIMANN. I would like to add I favor the concept of unbundling. I do not think we would have to step our way through a considerable study, though. I wouldn't want to leave the impression that we would just do it, without some review of how the process is working

The CHAIRMAN. I take it all of you agree with the statement-I think Mr. Heimann was the one who gave it the greatest emphasis—whenever change in control of a bank takes place, the regulatory agency must give its approval.

Do you agree with that?

Mr. LEMAISTRE. Yes, I do. There is a proposal before the Congress now that that approval be obtained prior to the change, which I think would really be unworkable. But I think really what we ought to do is to give them the right to disallow the transfer within some period of time, 60 to 90 days, because trades ownership might be impeded otherwise.

The CHAIRMAN. Governor Partee?

Mr. PARTEE. Mr. Chairman, that is a great deal of power to give a regulator—to permit him to approve or disapprove what otherwise would be a legitimate business transaction.

I guess reluctantly I would say something needs to be done. I think I perfer Chairman LeMaistre's suggestion that there be a right to disapprove, or to hold up the change in ownership, but we must pay very careful attention to the constitutional and legal rights of the individuals involved, so they have access to the courts and so forth.

The CHAIRMAN. Why should you have that feeling when we have such-that may be right. But we have a restriction now, if I wanted to go out and start a bank, I am not a very good example, but say you have somebody who has great expertise in banking, great experience in banking, has plenty of capital, he wants to go out and start a bank, he can't do it unless you fellows decide that would serve the convenience and needs of the community.

On the other hand, you say anybody should be free to buy a bank and you interfere with his constitutional rights somehow, or his basic rights as a free enterprise American if you provide some kind of standard.

Mr. PARTEE. Convenience and need is one thing. That is, it is a question of whether the community needs a bank. The particular characteristics of the buyer are another thing. You might well say, he doesn't have banking experience. But he can hire it.

What bothers me about this is simply that there might sometimes be reasons for rejection that are capricious. I hate to say this in the presence of my fellow regulators, but I think we have to pay very careful attention to the possibility of excess power within the regulatory framework.

The CHAIRMAN. You are going to be saved by the bell, because that is a rollcall and I haven't missed a rollcall since April 1966. So I am going to make this one.

I will ask two quick questions before I have to run. First, total loans to insiders amounted to $14.9 billion, according to the survey. This represents about 20 percent of total bank capital. Therefore some banks must have had loans to insiders that totaled more than 20 percent of their capital.

Isn't that ratio of 20 percent high, and does it represent a level you might consider unsafe and unsound? Mr. Heimann?

Mr. HEIMANN. No, I don't consider it necessarily unsafe or unsound, because it is an insider

The CHAIRMAN. Is there any ratio of insider loans to bank capital that you would consider unsafe or unsound?

Mr. HEIMANN. I am not sure I would have a figure. Again, I don't like it to seem that I am trying to duck a simply answerable question in terms of what the number would be. It would have to depend upon the creditworthiness of the insiders or the existence of preferential or abusive treatment business interests of that insider. I think it really has to be looked at on a case-by-case basis.

The CHAIRMAN. OK, Mr. LeMaistre, your published insider regulations do not prohibit all preferential lending to insiders, only preferential lending likely to result in loan losses or other severe consequences. That appears to be a deep policy difference with the Comptroller's regulations, which seek to prohibit all preferential lending to insiders.

As a matter of national policy, why should one group of bankers be able to make preferential loans to its insiders, while others might not?

Mr. LEMAISTRE. It isn't national policy, if they do one and we do the other. We have two different policies.

The CHAIRMAN. That is a problem. That is why we need a bank commission.

Mr. LEMAISTRE. No, that is why we need to leave it like it is. Because of those ways is better than the other. Whichever one is better is the one we will both adopt.

Mr. HEIMANN. Mr. Chairman, I voted on that as one of the two members of the Board of FDIC. We are taking somewhat different approaches, but I think we both agree, FDIC and the Comptroller, whichever one works the best, or if it is a combination of the two, we will finally adopt that.

It gives us a chance to try different approaches to a very complicated problem.

The CHAIRMAN. Governor Partee, where do you fit in?

Mr. PARTEE. I don't know, Mr. Chairman. I am totally at sea on this question. I don't know whether we have such a thing, or whether we haven't done it, and if we haven't done it, why we haven't done it.

(Governor Partee subsequently submitted the following letter for inclusion in the record:]



Washington, D.C., March 22, 1978. Hon. WILLIAM PROXMIRE, Chairman, Committee on Banking, Housing and Urban Affairs, U.S. Senate, Washington, D.C.

DEAR MR. CHAIRMAN: At the close of the committee's March 16 hearing on the special survey of loans secured by banking stock, loans to insiders and overdrafts, you asked about the Federal Reserve's position on the need for additional regulation on the insider transactions covered by the survey. I have had the opportunity to refresh my memory on the subject, and recall not that we had thought that legislation was the much preferred route to take. In particular, we felt that limitations on insider transactions were very well covered in S. 71, as passed by the Senate last year. As you are aware, that bill extends the loan to one borrower limitations of section 22 of the Federal Reserve Act to member bank officers, major shareholders and their controlled corporations and also places additional restrictions on loans to officers, directors, major shareholders and controlled corporations. In addition, S. 71 would improve the enforcement capacities under section 22 by making violations of that section subject to a civil penalty up to $1,000 a day for each day of violation.

The Board has hopes for the quick passage of S. 71, and believed that new statutory restrictions on insider transactions, along with the enforcement tools needed to effect remedies, would be a much stronger result than adoption of either a regulation or a policy statement as proposed by the othe Federal bank regulatory agencies. However, if S. 71 does not appear to move smoothly through the House in the current legislative year, I will plan to take up with the Board the question of reconsideration of how the added supervisory attention needed in this case might be provided.

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