FROM THE OFFICE OF PUBLIC AFFAIRS

Thank you for the opportunity to speak here today.

I’d like to talk about financial modernization, and the Treasury’s approach to dealing withthis important issue. Our objective is simple: modernizingfinancial services in a way that will benefit consumers,businesses, and communities, enhance competitiveness of ourindustry worldwide, and protect the safety and soundness of ourfinancial institutions.

And the stakes here are enormous. The Bureau of Economic Analysis estimates that in 1995, Americans spent nearly$300 billion on brokerage, insurance, and banking services. Evenif increased competition from financial modernization were toreduce costs to consumers by just 1 percent, that would besavings of $3 billion a year. And, as I'll explain a bit later,substantiality greater savings than that may be likely.

In many respects, moving forward on financialmodernization is a logical next step in the financial servicesagenda the Administration has pursued since 1993.

We helped bring to conclusion one of the mostcostly chapters in the history of U.S. finance, the savings andloan debacle, by helping four years ago to pass the ResolutionTrust Corporation Completion Act, and last year by helping passlegislation to increase capitalization of the Savings AssociationInsurance Fund, which insures deposits at thrift institutions.

We’ve also worked to enact landmarkinterstate banking legislation, which will go into effectnationwide on June 1st. And the bank and thrift regulators havebeen eliminating unnecessary regulatory burdens that serve noclear purpose, while protecting consumers and communities.

In 1995, at President Clinton’s urging,regulators completely rewrote their Community Reinvestment Actrules, to enable banks and thrifts to focus on performance, notpaperwork. Today depository institutions and communities arecoming together in innovative ways to help serve creditworthyborrowers and rebuild areas long left behind. Similarly, theTreasury has established the Community Development FinancialInstitutions Fund, whose primary purpose is to helpnon-traditional lenders meet the financing needs of economicallydistressed communities.

All of these measures were good for the consumer,businesses and communities that depend every day on financialservices.

Today, our nation’s financial marketplace isexceptionally strong. Unprecedented numbers of Americans haveaccess to credit. We have the most reliable, liquid marketsanywhere. Our financial institutions are innovative, and functioneffectively in a highly competitive global economy.

The Challenge

But in the midst of all this progress, we’restill operating under an outdated legal and regulatory structure.National banks can sell insurance, but only from a town of fivethousand. Securities firms provide bank-like products, butcan’t actually own a bank. Bank holding companies canunderwrite securities, but with arbitrary limitations on therevenues they can derive from that activity.

The Glass Steagall law may have been appropriatewhen we had a dramatically different financial system. But thinkof the enormous changes that we’ve seen since then: We havedeveloped a very sophisticated system of bank supervision. Oursecurities markets are the most liquid and reliable in the world.Geographic barriers to competition have come down. Financialproducts are rapidly converging. Globalization has spurredgreater opportunity and competition. And technological innovationis a driving force behind the development of sophisticatedfinancial products.

As you know better than anyone, the old linesthat separated the insurance, securities, and banking industrieshave increasingly blurred as new financial products and serviceshave appeared. And regulatory and judicial rulings continue toerode many of the barrier that were put in place to restraincompetition among financial services firms.

Our goal now is to create a regulatory and legalenvironment in which: 1) consumers benefit from lower costs,better services and greater convenience; 2) financial servicesproviders operate on a level playing field; 3) financialinstitutions can offer products and services without maneuveringthrough a maze of archaic laws; and 4) we protect the depositinsurance funds and safety and soundness. However, we don’tsimply want regulation to reflect the market realities of 1997.We want to create a framework in which US financial markets caninnovate, evolve and compete well into the 21^stcentury.

The Approach

Let me share with you our current thinking onseveral legislative changes we think should be considered.

First, we would propose to break down barriersthat inhibit or prevent competition among various providers offinancial products and services. We would permit banks,securities firms and insurance companies to affiliate with oneanother, reflecting the consensus that this reform is longoverdue. These affiliations would help promote a genuine two-waystreet, one in which all participants have the opportunity tocompete and innovate.

Second, we would give firms the choice toorganize their financial activities in the most efficient waythey see fit -- either as a subsidiary of a bank, or as anaffiliate of a bank holding company regulated by the FederalReserve Board. Banks would, if they took the subsidiary route,have to subtract from their regulatory capital 100% of anyinvestment in subsidiaries that undertake activities notpermissible for the bank itself, and banks would have toestablish firewalls restricting certain transactions between thebank and its subsidiary. Safeguards like these --which will bethe same for subsidiaries as for holding company affiliates --will protect banks and the federal deposit insurance funds fromany risks posed by subsidiaries.

In establishing subsidiaries, banks could expandthe range of financial products and services they offer, anddiversify the sources of their earnings. In this respect,subsidiaries can help promote safety and soundness at bankinginstitutions.

We should not and do not favor one form ofcorporate structure over another. But, by developing equal andconsistent safeguards for subsidiaries and affiliates, we givecompanies the power to choose their structure for business, notregulatory, reasons. And let me emphasize: banks and the federaldeposit insurance funds will be equally well protected undereither format.

Third -- and perhaps the most difficult questionin this debate -- is whether to permit companies that includebanks to engage in non-financial activities, the so-called"banking and commerce" issue.

As we examined this issue, we recognized thatpeople on all sides have strongly held views about this issue.There are, for example, some who believe that permitting broaderaffiliations between banking and commercial firms could have notonly significant economic implications but also importantcultural and social effects. Therefore, because of the nature ofthe issues and the complete lack of consensus, we think the issueneeds to be further debated by Congress before settling on afinal approach.

Consequently, we believe that Treasury can bemost helpful in resolving this issue by providing two possiblealternative legislative models.

Under the first model, Congress could decide topermit some modest measure of non-financial activity for bankholding companies. In such a case, it would be sensible to set ahigh threshold -- expressed in terms of gross domestic revenues-- to qualify the organization as predominantly financial. Underthis model, Congress also could prohibit any affiliation betweena bank and any of the 1,000 largest non-financial companies.

This alternative, would provide a basis forCongress to unify the regulation of banks and thrifts.

Under the second model, Congress may decide notto relax limits on non-financial activities of firms affiliatedwith banks, while as I’ve already said permitting bankholding companies to engage in the broad range of financialactivities.

Under this alternative, the likely outcome wouldbe for Congress to retain the separate thrift charter and thecurrent rules relating to unitary thrift holding companies. Whilethis alternative would not eliminate the current disparitiesbetween banks and thrifts, it does permit bank holding companiesto engage in the full range of financial activity.

Let me now turn to the fourth item in ourapproach -- the creation of a new wholesale financial institution(so-called "woofies"). WFIs would be banks which acceptonly wholesale uninsured deposits, but they would not beconsidered banks for the purpose of holding company regulation.As chartered financial institutions with access to the paymentssystem, they would be subject to prompt corrective action andother safeguards to ensure they don’t pose a significantrisk to the financial system. We would also require these banksto comply with the Community Reinvestment Act.

Lastly, we believe that we should move closer toa system of regulation by function, whereby specific financialactivities would be regulated by the appropriate federal or stateagency, regardless of where these activities are conducted. Inthis way, consumers would receive consistent regulatoryprotections. In the securities area, we would maintain andstrengthen the important role of the Securities and ExchangeCommission, without pushing current securities activities out ofbanks. With respect to insurance, we’d permit states toapply state laws to bank insurance activities as long as thoselaws were truly non-discriminatory. Finally, we would propose tocreate a council of financial regulators that would help resolvequestions about the regulation of specific financial products.

Safeguards

With all these changes, of course, we must ensurethat any and all financial modernization proposals are safe. Inthe past eight years, we’ve made great strides in restoringsafety and soundness to our financial system. We’re mindfulof the S&L experience and are committed to avoiding anythingof this sort again.

The Treasury approach would enhance existingconsumer safeguards. We would provide for important disclosures-- in plain, straightforward terms -- so buyers can understandwhether or not the products they purchase from financial servicesproviders are insured.

For financial institutions, we believe that ourproposal for expanded activities, which employs a "belt andsuspenders" approach, is safe and sound because it provideseven greater safety and soundness protections than current law.The expanded business opportunities we described above are linkedto greater protections for insured depository institutions. Bankswould have to be well-capitalized -- the highest regulatorycapital category -- and well-managed to qualify for broaderaffiliations. They would have to meet other important prudentialsafeguards that prevent subsidiaries or affiliates from weakeningthe depository institution.

And finally, this proposal comes with an absolutecommitment to safeguard communities. This Administration will nottolerate any weakening of CRA in any legislation.

Benefits

In the past, when we have permitted greatercompetition in the financial services industry, consumers offinancial products have benefited significantly. For example,after the New York Stock Exchange eliminated fixed commissionrates in 1975, brokerage rates dropped by over 20 percent and anentire new industry -- discount brokers -- was created. From 1986to 1989, as affiliates of banks began to underwrite municipalrevenue bonds, issuers like local governments saved as much as $9per $1000 of borrowed funds -- savings that could be passed ondirectly to taxpayers to help build roads, schools, hospitals andtheir communities.

Even more dramatic savings have accrued toconsumers after the government has lifted barriers to competitionin other industries.

As I mentioned earlier, the Bureau of EconomicAnalysis estimates that in 1995, American consumers spent nearly$300 billion on brokerage, insurance, and banking services. Ifincreased competition from financial modernization were to reducecosts to consumers by 1 percent, that would be a savings of about$3 billion a year. Based on the efficiencies that could berealized from increased competition, it is plausible to expectultimate savings to consumers of up to 5 percent from increasedcompetition in the securities, banking and insurance industries-- as much as $15 billion per year. The bulk of these savingsshould come as financial services firms, driven by increasedcompetition, adopt best-practices.

As I indicated earlier, the financial servicesindustry is undergoing fundamental and dramatic change. Thequestion we need to address is: what will be the rules of theroad in the years to come? Will we rely on the old rules --crafted primarily in the depth of the Depression -- or will welook forward to creating a legal and regulatory structure thatwill meet the needs of a dynamic and ever-changing system?

I share the views of many others who feel thatthe time has come to modernize the rules of our financialservices system. Such a move, if done with due regard for safetyand soundness, will benefit the broad range of users of financialservices: consumers, small and large businesses, communities, andstate and local governments. A more rational system, with a levelplaying field and appropriate safeguards, is in everyone’sinterest.

We look forward to working with the Congress onthis important initiative in the time ahead.