duced unemployment claims, lesser pressure on state and local budgets, and diminished strains on the fiscal and monetary policies of our nation.

Viability of the Tax-Exempt Bond Market.-It can be stated without qualification that no sector of the fixed-income securities market has a larger share of critics and doomsayers than the municipal sector. Charges range the full shopworn gamut from the alleged inefficiency of tax exemption as a subsidy, to the limited absorptive capacity of the market in the face of inexorably surging demands. Yet apart from the sharp rise in volume between 1969 and 1971 where new issues of long and short term debt increased from $23.4 billion to $50.6 billion, the demand in subsequent years have varied narrowly from $48.2 billion and $47.5 billion in 1974. It is claimed nonetheless that this lull on the demand side is being well overmatched by one lessening investment in tax-exempt bonds by commercial banks, which have been the traditional mainstay of the municipal bond market.

The facts, however, prove otherwise. But to understand both the root of the myth and one reality concerning commercial banks, their story must be told in two parts:

1. tax-exempt holdings of the 100 largest banks-Investment of these banks in state and local debt rose steadily from a year-end total of $23.5 billion in 1969 to a peak of $32.7 billion by yearend 1972. In the following years through 1974, exempt holdings fluctuated slightly on a quarterly basis from $30.6 billion in third quarter of 1973 to $32.1 billion in the second quarter of 1974. The year-end sum of $31.3 billion represented 5.7% of total large-bank assets, compared with 10.3% of such assets in 1965 when year-end holdings amounted to $18.1 billion. In that year large banks accounted for almost half the holdings of all commercial banks, in contrast to the 31% share which their holdings represented at year-end 1974. While exempt investments in the aggregate showed a 73% increase for large banks from year-end 1965 to 1974, total state and local debt outstanding more than doubled in that period from $100.3 billion to $207 billion. The fact, then, that the growth rate of large-bank holdings of municipal debt obligations has failed to keep pace with either the rate of debt issuance or the growth in bank assets, has given rise to the myth that the same conclusion applies to commercial banks as a class whose performance is less widely reported.

2. tax-exempt holdings of all commercial banks insured by the Federal Deposit Insurance Corporation-Total bank ownership of exempt securities has risen virtually without interruption for the last 25 years. In the most recent 10-year period, such ownership increased 157% from $38.9 billion to $99.8 billion, or 48.2% of the total against the 106% growth in exempt securities outstanding. Unlike the large banks whose holdings as a percentage of assets dropped sharply from 1965 to 1974, this measure for all bank holdings to assets rose from 10.3% to 10.9%. The peak year for bank holdings of municipal debt as both a percentage of assets and total debt outstanding occurred in 1971, with readings of 12.5% and 51.1% respectively. In a historical context, the modest variation in these measures since 1971 shows scarce cause for alarm. Commercial banks in general were under unusual pressures between 1972 and 1974, by reason of the massive loan claims of businesses, a prevailing inflationary psychology impaired liquidity, and the erratic monetary posture of the Federal Reserve. While these pressures in 1975 have abated in each case to a greater or lesser extent, the increased taxexempt buying power of commercial banks which typically is associated with periods of declining loan demand, easier money, and recession has been significantly usurped this year by record borrowing requirements of the U.S. Treasury. The outlook for a repetition of this event as well as for commercial bank investment in municipals for 1976 and future years is largely a function of the pace of economic recovery. Views on this subject differ sharply, but it was recently reported that a number of veteran government economists believe that one recovery pattern over the next five years will be strikingly similar to the sluggish 1961-65 period. This forecast would additionally suggest at the outset, a moderate to easy monetary posture, stable interest rates, tolerable financing demands, and no fresh burst of inflation. Considering such an environment, it is hardly surprising that commercial bank holdings of tax-exempts as a percentage of assets rose more sharply between 1961 and 1965 than during any other fiveyear period in history. And there is no fundamental reason why this result should not recur in the latter half of the 1970's. Far too much is made of the lesser need of commercial banks for tax-exempt income because of their manifold access to other sources of earnings offsets through leasing activities, foreign operations, and the like. While these offsets in recent years have demonstrably

affected the exempt-investment activity of certain large banks, the limited availability of such tax shelters to most banks has had an equally modest impact on their municipal purchases. Furthermore, it has been shown that large-bank ownership of tax-exempts has represented a declining share of total bank holdings even as these holdings have risen in both par value and as a percentage of bank assets. A further diminution of the large-bank presence would obviously not be helpful, yet nor will it be catastrophic. Commercial banks as a class, with whatever support from the large banks, are and will continue to be important investors in the tax-exempt market. There is no basis for concluding otherwise, the doomsayers and mythmakers notwithstanding.

Mr. CONTE. Would the gentleman yield?

Mr. BERGLAND. Certainly.

Mr. CONTE. You know, there is one big difference here. This is something that the Congress imposed on the small businessman, through no fault of his own, and you are taking out this-I forgot the percentage-the capital investment, for pollution.

Mr. ALDRICH. For small business it runs about 45 percent.

Mr. CONTE. The 45 percent, for which you get no return. So you have got to come up with some gimmick. Nobody is taking care of them right now. They are going to go down under. And if they go down under, you are going to lose a lot of money in taxes, small corporate

taxes.

So, one offsets the other.

Mr. EISNER. It is a "Catch-22." On the one hand, if you do not fund them, they will go under. And the basic taxes which they pay will disappear. On the other hand, you may question the way in which the governmental subsidy is being given to them.

But, we think that this is the most efficient conceivable subsidy. It does not use direct governmental funds. It only has the Government standing in, and the Government has a full faith in credit stand-in, which means that your interest rate is the lowest; and we are giving the SBA leeway to develop a fund which will hold it harmless.

In other words, actuarially they should develop enough money on the front end so that there will be no net output on the part of the Federal Government.

Mr. SMITH. When you use that 45-percent figure, what is the size of the small businesses involved?

Mr. ALDRICH. You will find that in this list of companies here that I have, that the 45-percent figure I used is the actual capital requirements, compared to the net worth, or net assets of the plant.

Mr. SMITH. I mean what size of small businesses?

Mr. ALDRICH. We are talking, generally, up to 150-500 employees, in particular industries such as cement, nonferrous metals, papermills, things like that. This problem currently defines small business as with other loan programs. Perhaps an increase in size standards for pollution might be desirable.

Mr. EISNER. We tried to use the SBA guidelines, different number of employees for different businesses.

Mr. BERGLAND. Mr. Chairman, I think he just made a very excellent argument, in answering questions of those who doubt the propriety of tax-free bonds as an answer to the many needs of the country, in that we are infinitely better off to surrender some income from these bonds than we are to allow these job-creating, tax-paying enterprises to go down the drain.

The answer, oftentimes, when that happens, is to put them on the public payroll. Well, it seems to me that they have just put their finger on the classic argument we need to advance as this matter progresses.

One last question, Mr. Chairman. Do you have any suggested changes to H.R. 78?

Mr. EISNER. We have.

Mr. BERGLAND. Have you prepared a list of recommendations in this regard?

Mr. EISNER. We are in the process of it. And, in fact, you put your finger on precisely that which we would like to protect ourselves against. Which is, that the big business program may develop hostility in Washington and may be voted out of existence.

And, right now, H.R. 78 is keyed into section 103 of the IRS Code, in order to gain tax exemption for the bond. And it does not have, as do, for instance, the bonds of Puerto Rico, which does not tie into section 103, instead in the legislation creating the tax exemption for those bonds that legislation itself contains the tax exemption.

Our bill relies upon the IRS Code which can be tampered with. So I would propose that we put the tax exemption right in here. The thought being that if Congress passes this, then the intent must be to make small business equal to large, and this is going to take a few years of very active work in order to get the kind of moneys out that big business has today.

Mr. BERGLAND. Thank you very much. That is all I have, Mr. Chairman.

Mr. EISNER. I would like to present that, Mr. Chairman, in a memorandum to counsel.

Mr. SMITH. We will be glad to have that. We may have some jurisdictional problems, but under our new rules. that can be worked out. So we would be glad to have any recommendations you have.

[Information subsequently received follows:]

Attached hereto is a copy of the text of H.R. 78 with suggested amendments thereto. H.R. 78 was introduced by Representative John J. McFall on January 14, 1975 and referred to the Committee on Small Business. These amendments are offered to insure that the objective of H.R. 78 is fulfilled. H.R. 78 was proposed for the purpose of making tax-exempt financing to purchase pollution abatement equipment available to small businesses, a financing vehicle that has been available to large businesses for quite some time. Congress is expected to reconsider the tax exemption for air and water pollution control facilities granted by Section 103 of the Internal Revenue Code. The addition of the new sub-section (c) to Section 404 of H.R. 78 will insure that tax-exempt pollution control financing for small businesses guaranteed by the Small Business Administration will be allowed should the blanket exemption of Section 103 of the Internal Revenue Code, used almost exclusively by large business, be repealed. The definition of "pollution control facilities" has been amended to include noise pollution and liquid, as well as, solid waste. "Prevent" has been added to make it clear that new equipment which has a lower level of emissions is meant to be included as well as equipment which reduces emissions from existing facilities. The bracketed language is being removed because it is unnecessary and could possibly be construed as a limitation on the discretion of the Small Business Administration in determining what is or is not a "pollution control facility".

The bracketed language in sub-section (b) of Section 404 is being eliminated in view of the contemplated Congressional action with regard to Section 103 of the Internal Revenue Code.

That section 403 of the Small Business Investment Act of 1958 is amended(1) in the first sentence thereof by striking out "and part B of this title"; (2) by striking out "$10,000,000" and inserting in lieu thereof "$25,000,000"; and

(3) by striking out "programs" each time it appears therein and inserting in lieu thereof "program".

"Sec. 2. Title IV of the Small Business Investment Act of 1958 is amended by adding at the end thereof the following new section:

"Sec. 404. (a) For purposes of this section, the term—

"(1) Pollution control facilities' means such property (both real and personal) as the Administration in its discretion determines is likely to help prevent, reduce, abate, or control noise, air or water pollution or contamination [by removing, altering, disposing, or storing pollutants, contaminants, wastes, or heat,] and such property (both real and personal) as the Administration in its discretion determines will be used for the collection, storage, treatment, utilization, processing, or final disposal of solid or liquid waste. "(2) 'Qualified contract' means a lease, sublease, loan agreement, installment sales contract, or similar instrument, entered into between a smail business concern and any person.

"(b) Whenever the Administration determines that small business concerns are or are likely to be at an operational or financing disadvantage with other business concerns with respect to the planning, design, or installation of pollution control facilities, or the obtaining of [private] financing therefor, [(including financing by means of revenue bonds issued by States, political subdivisions thereof, or other public bodies),] it may guarantee, upon such terms and conditions as the Administration may prescribe, either directly or in cooperation with a qualified surety company or other qualified company through a participation agreement with such company, the payment of rentals or other amounts due under qualified contracts, and any such guarantee shall be for the full amount of the payments due under such qualified contract. Any guarantee made by the Administration pursuant to this section shall be a full faith and credit obligation of the United States.

"(c) Obligations, including interest thereon, issued by States, political subdivisions thereof, or other public bodies, for the purpose of financing pollution control facilities, payable from amounts due under qualified contracts which are guaranteed by the Administration pursuant to Section 404(b) shall be exempt from all taxation now or hereafter imposed by the United States, whether such interest is paid by such States, political subdivisions thereof, or other public bodies or by amounts due under any such guarantee.

"(d) The Administration shall fix a uniform fee which it deems reasonable and necessary for any guarantee issued under this section, to be payable at such time and under such conditions as may be determined by the Administration. Such fee shall be subject to periodic review in order that the lowest fee that experience under the program shows to be justified will be placed into effect. The Administration may also fix such uniform fees for the processing of applications for guarantees under this section as it determines are reasonable and necessary to pay administrative expenses incurred in connection therewith. The Administration may require that an amount, not to exceed one-fourth of the average annual payments for which a guarantee is issued under this section, be placed in escrow upon such terms and conditions as the Administration may prescribe. "(e) Any guarantee issued under this section may be assigned with the permission of the Administration by the person to whom the payments under qualified contracts are due.

"(f) Section 402 shall apply to the administration of this section."

Mr. SMITH. Mr. Stanton?

Mr. STANTON. Thank you, Mr. Chairman.

Once again, this is a good example of legislation that came before our committee several years ago, and Lud Ashley said the other day it was an idea which just did not fly.

I think the time has come. It is overdue. And I remember-did you ever get an expression out of the SBA on this legislation?

Mr. ALDRICH. Yes; we did. We got very positive expressions, Mr.

Stanton, at the time that we originally brought this over, and there continue to be--and it was sent over to the OMB for their approval. They went as far as to join us in an appeal to the IRS which we received an acceptable ruling from, and they argued in favor of the bill in front of the OMB.

And, to this date, I believe they continue to support the bill from their aspects of recognizing the need for it. But, of course, the jurisdictional problems with the OMB continue to persist, and I would suspect that creates some sort of a problem.

But, being out of Government, I do not know what it is. I get the feeling that there is a problem.

Mr. STANTON. Was it not a couple of years ago?

Mr. ALDRICH. Yes; 2 years ago.

Mr. STANTON. The Bank of America has done a tremendous job in researching this. Thank you, Mr. Chairman.

Mr. SMITH. Mr. Hungate?

Mr. HUNGATE. Thank you, Mr. Chairman.

Is this 45-percent figure related to capital or annual gross? What is it related to?

Mr. ALDRICH. Interestingly, it follows that the 45 percent relates both to the annual sales and to their capital because generally in these industries they have a dollar's worth of worth, or a dollar's worth of capital for a dollar's worth of sales. In that rough-remember, we are combining a lot of industry together, so indeed, if you look at the small businesses, they must spend, if they have $1 million worth of sales, they are going to have to spend some $400,000 to $450,000 on pollution control equipment.

That is one way of measuring it. And the other way of measuring it, they have $1 million worth of equipment generally not land. It takes another $450,000 to upgrade it.

Mr. HUNGATE. This is not, I take it, an annual expense, however? Mr. ALDRICH. No. That is the point. It is not.

Mr. HUNGATE. Are there any composite figures on maintenance and operation after the equipment is installed?

Mr. ALDRICH. Maintenance and operation runs about 6 to 8 percent. of the cost.

Mr. HUNGATE. Where do you whip it? Or do you try to?

Mr. ALDRICH. Well, we are trying to whip the principal and interest cost and spread it from 7 years-5 to 7 years-which is normal, out to 20 years.

Mr. HUNGATE. What sort of depreciation schedule is available to the small businessman on that? Can he write it off over 3 years, 5 years, 10 years, or what?

Mr. ALDRICH. He has his choice. In certain areas he can write it off in 5 years. But he cannot take investment tax credit. In other areas, he can take investment tax credit, and gain rapid depreciation, or depreciation on the facility. If it is a special-purpose type of equipment, he gets special-purpose tax treatment. But, it might be tied in with the actual useful life of the equipment, which is frequently fairly short.

Mr. HUNGATE. Yes; that is what I am struggling with. Of course we are talking about a number of industries and I suppose there is