1. Regulation of the Banking and Financial Services Industry Chapter 17 © 2003 South-Western/Thomson Learning

2. Slide 2 Learning Objectives  Why regulation is needed in financial services industry  Who regulates whom in banking system  Some of major pieces of legislation important to the banking industry today  Regulatory challenges facing Congress and the regulators

3. Slide 3 Role of Regulation  “Free to compete” means “free to fail”  Potential conflict between the two objectives of regulation  Competition and efficiency  Safety and soundness  Most bank activities were regulated in the 1930s until the 1980s  During the 1980s, banks and most other intermediaries were substantially deregulated  Deregulation did not necessarily cause the subsequent insolvencies

4. Slide 4 Role of Regulation  Depository Institutions Deregulation and Monetary Control Act of 1980 (DIDMCA)  Removed many of the regulations enacted during the Great Depression  Phased out Regulation Q  Established uniform and universal reserve requirements  Increased assets and liabilities held by depository institutions  Authorized NOW accounts  Suspended usury ceilings

5. Slide 5 Role of Regulation  Deregulation  Remaining Regulation Q ceilings phased out  Asset and liability powers of banks and thrifts expanded  Assets: S&Ls and savings banks allowed to extend loans to businesses and offer more services to customers  Liabilities: All depository intermediaries permitted to offer household NOW accounts (interest-bearing checkable deposits)  State usury ceilings (maximum interest rates FIs are allowed to charge borrowers on certain types of loans) were suspended

6. Slide 6 Role of Regulation  Monetary control  All depository institutions were subject to reserve requirements (so-called universal reserve requirements)  Reserve requirements were to be the same o particular types of deposits across institutions (so-called uniform reserve requirements)  Provision phased out over an 8-year period that ended in 1987

7. Slide 7 Basel Accord – Introduction of International Capital Standards  1988 agreement among 12 countries  Established international capital standards for banks

8. Slide 8 Financial Institutions Reform, Recovery and Enforcement Act (FIRREA)  SAIF: established to provide insurance for deposits of S&Ls replacing the Federal Savings and Loan Insurance Corporation (FSLIC)  Two new government agencies were created  Office of Thrift Supervision (OTS)  Resolution Trust corporation (RTC) The FIRREA was passed in response to the S&L crisis of the 1980s and was an attempt at re-regulation. The provisions include:

9. Slide 9 Financial Institutions Reform, Recovery and Enforcement Act (FIRREA)  Deposit insurance was made a full faith and credit obligation of federal government, rather than the FDIC  New regulations restricted the investments of S&Ls by:  Limiting commercial mortgages lending  Phasing out junk bond investments  Capital requirements were imposed on the S&Ls

10. Slide 10 Federal Deposit Insurance Corporation Improvement Act (FDICIA) - 1991 Legislation passed by Congress in 1991 to enact regulatory changes to ensure the safety and soundness of the banking and thrift industries.

11. Slide 11 Federal Deposit Insurance Corporation Improvement Act (FDICIA) - 1991  Insurance premiums were scaled to the risk exposure of the banks or thrifts  Limited insurance coverage of regular accounts to a maximum of $100,000  Retirement accounts, limit is $100,000 per depository institution The FDICIA enacted several reforms including:

12. Slide 12 Federal Deposit Insurance Corporation Improvement Act (FDICIA) - 1991  Required to use the least costly method to resolve any insolvency  Payoff Method  Paying off depositors  Closing institution  Purchase and Assumption Method  Finding a buyer for the institution  “Too Big to Fail”  Failure of large bank resolved using purchase and assumption method, not payoff method

13. Slide 13 Federal Deposit Insurance Corporation Improvement Act (FDICIA) - 1991  Established system that divided weak banks into different categories-greater degree of undercapitalization, more severe restrictions on bank’s operations  Undercapitalized  Significantly undercapitalized  Critically undercapitalized  Ability of foreign banks to use certain categories of deposits in the U.S. was limited.

14. Slide 14 Community Reinvestment Act – Outlawing Discriminatory Lending Practices Legislation passed by Congress in 1977 to increase the availability of credit to economically disadvantaged areas and to correct alleged discriminatory lending practices.  Redlining  Practice of restricting number or dollar amounts of loans in area regardless of the creditworthiness of the borrower

15. Slide 15 Community Reinvestment Act – Outlawing Discriminatory Lending Practices Guidelines call for banks to:  Continue efforts to discover community needs  Develop, market, and advertise products and services that the community needs  Participate in government-insured lending programs  Train employees to be responsive to guidelines of the Community Reinvestment Act  Market credit services directly to target groups

16. Slide 16 Interstate Banking & Branching Efficiency Act (IBBEA) of 1994  Eliminated most restrictions on interstate bank mergers  Made interstate branching possible  Permits all bank holding companies to acquire banks anywhere in the nation as long as certain conditions are met

17. Slide 17 The Gramm-Leach-Bliley Act (GLBA) of 1999  Allows bank holding companies meeting certain criteria to be certified as financial holding companies (FHCs)  Engage in broad array of financial and nonfinancial activities  Bank must file a declaration with Fed certifying that all of its depository institutions  Well capitalized  Well managed  Have “satisfactory” or better rating under the Community Reinvestment Act

18. Slide 18 The Gramm-Leach-Bliley Act (GLBA) of 1999  FHCs may engage in:  Financially related activities  Securities underwriting and dealing  Insurance agency and underwriting activities  Merchant banking activities  Other financial activities Fed determines are financial in nature or incidental to financial activities  Nonfinancial activities Fed determines are complementary and do not pose substantial risk to safety or soundness of depository institutions or financial system

19. Slide 19 The Gramm-Leach-Bliley Act (GLBA) of 1999  Banks are:  Authorized to underwrite and market municipal revenue bonds  Authorized to own or control a “financial subsidiary” that engages in activities that national banks are not permitted to directly engage in if prior approval of the Office of the Controller of the Currency if received