1. Money and Capital Markets 18 C h a p t e r Eighth Edition Financial Institutions and Instruments in a Global Marketplace Peter S. Rose McGraw Hill / IrwinSlides by Yee-Tien (Ted) Fu The Regulation Of The Financial Institutions’ Sector

2.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 2  Learning Objectives   To explore why financial institutions are one of the most regulated industries in the modern world.  To discover the many types of regulation, and to understand how the financial institutions have been affected.  To examine the recent global trend toward deregulation.

3.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 3 The Reasons Behind Regulations  Concern for the safety of the public’s funds.  To promote public confidence in the system.  To ensure equal opportunities and fairness in the public’s access to financial services.  To prevent excessive money creation, and hence excessive inflation.  To aid “disadvantaged” economic sectors.  To ensure that important financial services are provided reliably and at a reasonable cost.

4.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 4 Do Regulations Benefit or Harm Financial Institutions?  Regulations subsidize the growth of financial institutions and protect them from competition.  Regulations tend to increase public confidence.  Regulations spawn innovative escapes (regulatory dialectics) through loopholes in the regulations.  Regulations can benefit financial institutions.

5.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 5 Do Regulations Benefit or Harm Financial Institutions?  Regulatory dialectics are not the most productive form of innovation.  The time and energy spent on regulatory compliance activities are costly.  Regulations can harm financial institutions.

6.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 6 The Regulation of Commercial Banks  Due to their importance in the financial system, commercial banks are typically the most regulated of all financial institutions.  Responsibility for regulating U.S. banks today is divided among three federal banking agencies – the Federal Reserve System, the Comptroller of the Currency, and the Federal Deposit Insurance Corporation – and the state banking commissions of the 50 states.

7.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 7 The Federal Reserve System  Supervises and regularly examines all member banks operating in the U.S.  Imposes reserve requirements on deposits held by all depository institutions and grants temporary loans of reserves.  Must approve all applications of member banks to merge, establish branches, or exercise trust powers.

8.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 8 The Federal Reserve System  Supervises international banking corporations organized by U.S. banks and foreign banks operating in the U.S.  Regulates and examines all bank and financial holding companies in the U.S.  Conducts monetary policy to control the growth of money and credit in the financial system.

9.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 9 The Comptroller of the Currency  Issues charters for new national banks.  Regulates and regularly examines all national banks.  Must approve all national banks’ applications for new branch offices, trust powers, mergers, and consolidations.  Declares insolvent national banks closed.

10.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 10 Federal Deposit Insurance Corporation  Insures deposits of savings institutions (thrifts) and banks conforming to its regulations up to $100,000, and acts as receiver for all national banks declared insolvent and for state banks if requested by a state banking commission.  Must approve applications by insured banks to set up branches, merge or exercise trust powers  Requires all insured banks to submit reports on their financial condition..

11.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 11 State Banking Commissions  Issue charters for new state banks.  Supervise and regularly examine all state- chartered banks.  Approve applications by state banks to form a holding company, acquire subsidiaries, or establish branches.  Declare insolvent state-chartered banks closed and appoint a receiver to liquidate or otherwise dispose of the assets of failed state banks.

12.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 12 Regulations Controlling The Geographic Expansion of Banks  The new geographic markets that banks can enter have been tightly controlled.  National Bank Act (1863-4)  Banking Act (1933)  Bank Holding Company Act (1956, amended 1970)  Bank Merger Act (1960, amended 1966)  Financial Institutions Reform, Recovery, and Enforcement Act (1989)  Riegle-Neal Interstate Banking and Branching Efficiency Act (1994)

13.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 13 Regulation of the Services Banks Can Offer  Regulations controlling the services banks can offer have also been tight out of concern for bank safety and a desire to protect certain nonbank financial institutions from tough bank competition.  Glass-Steagall Act (Banking Act) (1933)  Financial Services Modernization (Gramm-Leach- Bliley) Act (1999)

14.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 14 The Rise of Disclosure Laws in Banking  One rapidly expanding area of U.S. banking regulation today concerns disclosure rules.  Truth in Lending Act (1968)  Home Mortgage Disclosure Act (1975)  Community Reinvestment Act (1977)  Truth in Savings Act (1991)  FDIC Improvement Act (1991)  Financial Services Modernization (Gramm-Leach- Bliley) Act (1999)

15.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 15 The Growing Importance of Capital Regulation in Banking  Another major trend reshaping the regulation of banks and other financial institutions today centers upon their capital.  Basle Agreement (1988)  FDIC Improvement Act (1991)

16.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 16 The Unfinished Agenda for Banking Regulation  Slowly, banking is experiencing an era of deregulation, as legal constraints are lifted on a variety of banking activities.  Supervision of financial institutions in the future will rest primarily upon:  government examinations (of market data and the firms’ risk management systems)  capital requirements, and  market discipline.

17.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 17 The Regulation of Nonbank Thrift Institutions  Credit Unions  Chartering: National Credit Union Administration (NCUA) / state  New branches: No approval required  Mergers & acquisitions: NCUA / state  Deposit insurance: NCUA Share Insurance Fund / state  Supervision: NCUA / state  Depository Institutions Deregulation and Monetary Control Act (1980)

18.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 18 The Regulation of Nonbank Thrift Institutions  Savings and Loan Associations  Chartering: Office of Thrift Supervision (OTS) / state  New branches: OTS / FDIC / state  Mergers & acquisitions: OTS / FDIC / state  Deposit insurance: FDIC / state  Supervision: OTS / state  Financial Institutions Reform, Recovery and Enforcement Act (1989)  FDIC Improvement Act (1991)

19.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 19 The Regulation of Nonbank Thrift Institutions  Savings Banks  Chartering: Office of Thrift Supervision (OTS) / state  New branches: OTS / state  Mergers & acquisitions: OTS / FDIC / state  Deposit insurance: FDIC / state  Supervision: FDIC / state

20.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 20 The Regulation of Nonbank Thrift Institutions  Money Market Funds  Chartering: Securities and Exchange Commission (SEC)  New branches: No approval required  Mergers & acquisitions: No approval required  Deposit insurance: no government insurance  Supervision: SEC (selected activities)

21.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 21 The Regulation of Insurance Companies  While not quite as heavily regulated as commercial banks, insurance intermediaries face tough regulatory rules that are imposed primarily by state insurance commissions.

22.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 22 The Regulation of Pension Funds  Because pension funds have risen rapidly to hold the bulk of the retirement savings of workers, they are heavily regulated by the courts and government agencies today.  Employee Retirement Income Security Act (1974)  Pension Benefit Guaranty Corporation, or “Penny Benny” (a federal agency)

23.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 23 The Regulation of Finance Companies  The bulk of regulation of finance companies is at the state level and focuses principally upon the making of consumer loans.

24.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 24 The Regulation of Investment Companies  Investment companies or mutual funds are regulated predominantly by the federal government in the U.S.  Securities and Exchange Commission  Investment Company and Investment Advisers Acts (1940)

25.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 25 Trends in The Regulation of Financial Institutions  Regulation seeks to promote the safety and stability of financial institutions in order to preserve the confidence of the public and avoid institutional failures.  However, regulation can become a costly burden that significantly increases the operating costs of financial institutions and limits the cleansing effects of failure and competition.

26.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 26 Trends in The Regulation of Financial Institutions  Increasingly,  market discipline is playing a bigger role,  regulators are cooperating more (because the distinctions between the financial institutions are blurring),  the focus of regulation is moving away from control over the services offered and geographic expansion to controlling risk taking, and  there is increasing attention to public disclosure.

27.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 27 Money and Capital Markets in Cyberspace  The government commissions and agencies that regulate financial institutions have become increasingly visible on the world wide web:  http://www.federalreserve.gov http://www.federalreserve.gov  http://www.occ.treas.gov/ http://www.occ.treas.gov/  http://www.fdic.gov/ http://www.fdic.gov/  http://europa.eu.int/index_en.htm http://europa.eu.int/index_en.htm  http://www.wdfi.org/ http://www.wdfi.org/  http://www.banking.state.ny.us/ http://www.banking.state.ny.us/  http://www.insurance.state.pa.us/ http://www.insurance.state.pa.us/  http://www.sec.gov/ http://www.sec.gov/

28.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 28 Chapter Review  The Reasons Behind the Regulation of Financial Institutions  Do Regulations Benefit or Harm Financial Institutions?  The Regulation of Commercial Banks  The Federal Reserve System  The Comptroller of the Currency  Federal Deposit Insurance Corporation  State Banking Commissions

29.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 29 Chapter Review  The Regulation of Commercial Banks … continued  Regulations Controlling the Geographic Expansion of Banks  Regulation of the Services Banks Can Offer  The Rise of Disclosure Laws in Banking  The Growing Importance of Capital Regulation in Banking  The Unfinished Agenda for Banking Regulation

30.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 30 Chapter Review  The Regulation of Nonbank Thrift Institutions  Credit Unions  Savings and Loan Associations  Savings Banks  Money Market Funds  The Regulation of Insurance Companies  The Regulation of Pension Funds  The Regulation of Finance Companies

31.  2003 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw Hill / Irwin 18 - 31 Chapter Review  The Regulation of Investment Companies  An Overview of Trends in the Regulation of Financial Institutions