Insured Commercial Banks with Assets > $250 Million & < $500 Million As of December 31, 1985 ($ Amounts in Millions) TO PRESERVE THE AUTHORITY OF THE FEDERAL BANKING SUPERVISORY AGENCIES TO ARRANGE INTERSTATE ACQUISITIONS AND MERGERS FOR FAILED AND FAILING BANKS THURSDAY, MAY 8, 1986 HOUSE OF REPRESENTATIVES, SUBCOMMITTEE ON FINANCIAL INSTITUTIONS, COMMITTEE ON BANKING, FINANCE AND URBAN AFAIRS, Washington, DC. The subcommittee met at 10 a.m. in room 2128, Rayburn House Office Building; Hon. Fernand J. St Germain (chairman of the subcommittee) presiding. Present: Chairman St Germain; Representatives Annunzio, Barnard, LaFalce, Oakar, Roemer, Nelson, Wylie, McKinney, Shumway, Wortley, Parris, Bereuter, and Bartlett. Also present: Representative Carper. Chairman ST GERMAIN. This morning, we move into our fourth day of hearings on legislation proposed by Federal regulatory agencies dealing with emergency interstate acquisitions, as well as FSLIC recapitalization. Our witnesses today are directly on the firing line. They deal with the day-to-day problems that have led the regulators to draft H.R. 4701 and the proposals for recapitalization of FSLIC. In addition to the three Federal regulators, we have with us James Sexton, the banking commissioner of Texas, who supervises banks in a State hard-hit by declining fortunes in the energy industry. We will also be receiving testimony from Under Secretary of the Treasury George Gould, who will tell just how far the administration is willing to go in providing assistance to the banks. I am hopeful that these witnesses can give us meaningful data on the depth of the problems and how the regulators and the administration envision H.R. 4701 being employed as a solution. As I am sure this panel of witnesses recognizes, H.R. 4701 does go a very long way down the road to interstate banking. When this committee last considered and approved interstate banking in June 1985, it included provisions to assure that local communities would be served by these new institutions and that there would be safeguards against undue concentration of banking resources in any market. At the same session, the committee approved H.R. 20, which would define banks more precisely and prevent the proliferation of nonbank banks. In drafting H.R. 4701, the regulators have chosen to ignore the committee's previous votes on these issues that are very important, as well as a great deal of data that the Office of the Comptroller of the Currency has collected from consumers and committee groups and hearings across the Nation. I will look forward to the witnesses telling the subcommittee whether the omission of language dealing with community commitments, problems of concentration and nonbank banks are oversights or policy decisions on the part of the regulators and the administration. At this point, I call on our distinguished ranking minority Member, Mr. Wylie, for an opening statement. Mr. WYLIE. Thank you very much, Mr. Chairman. We have a very impressive panel of witnesses this morning, and I am sure that we have a long session facing us, so I will be brief. I would like to say that we have had several days of extensive hearings addressing both the extension and enhancement of the Garn-St Germain emergency acquisition authorities and the issue of FSLIC recapitalization. On the Garn-St Germain front, everyone seems to agree that the supervisors must have adequate tools to deal with emergency situations; however, disagreement surfaces over the question of the present need for additional authority. Chairman Volcker told this panel yesterday that the additional powers sought by the regulators are precautionary, in his words, that they perhaps will, in the end, not have to be used, but that it would be imprudent to rely on that hope. I am particularly interested this morning in hearing from Secretary Gould and Chairman Gray as to what they have to say about FSLIC recapitalization. On this critical issue, there does not appear to be any disagreement about the need for action. The administration, the Bank Board and the thrift industry are all on board, and I gather that the differences lies more in the assessment of the magnitude of the problem. I will want to explore these issues more in depth this morning. And again, thank you, Mr. Chairman, and welcome to our very distinguished panel. Chairman ST GERMAIN. Thank you, Mr. Wylie. And now I'd say to all the witnesses that, without objection, we'll put your entire statements in the record, so that I won't have to repeat that in each instance. Our first witness will be Mr. George Gould, who is Under Secretary of Treasury for Finance. Mr. Gould, you may proceed, and welcome to each and every one of you. STATEMENT OF HON. GEORGE D. GOULD, UNDER SECRETARY FOR FINANCE, DEPARTMENT OF THE TREASURY Mr. GOULD. Mr. Chairman and members of the subcommittee. I appreciate this opportunity to present, in conjunction with Chair man Gray, the administration-Federal Home Loan Bank Board proposal to recapitalize FSLIC. We have developed this plan in alliance with the leadership of the 12 Federal home loan banks, whose contribution of up to $3 billion of capital is at the core of this effort to strengthen FSLIC. We also have worked closely with the leaders of the thrift industry, to our substantial benefit. In particular, the officials and staffs of the U.S. League of Savings Institutions and the National Council of Savings Institutions have given us thoughtful and constructive counsel. The result, I believe, is a popular proposal that will strengthen FSLIC, free FSLIC to resolve its problem cases more expeditiously and increase depositor confidence. This subcommittee is well-informed about the problems of FSLIC and the savings and loan industry, so I will not dwell long on the need for this proposal. Nevertheless, a brief statement of need may give you the context within which we developed this plan. Estimates of the size of the problem confronting FSLIC vary widely. Most range from about $10 billion to $25 billion. The crux of the problem is that the assistance costs, even under the most conservative estimates, exceed FSLIC's present financial reserves of about $6 billion. If we do not recapitalize the fund, FSLIC would need to continue to defer the resolution of many problem S&L's. This deferral would only increase the fund's ultimate costs. With the appropriate financial and organizational resources, the Federal Home Loan Bank Board and FSLIC could set more ambitious targets and resolve more cases more quickly. This is a propitious time to act. The attractive interest rate environment provides the ideal window of opportunity to move ahead vigorously to deal with ailing S&L's. Action now on the thrift industry problem should reaffirm depositor confidence in the health and stability of depository institutions and the viability of the deposit insurance funds. Furthermore, prompt handling of the most debilitated S&L's should help healthy S&L's by lowering their cost of deposits, which has been bid up by the feeble S&L's call for funds at any price. If we do not strengthen FSLIC now, we may place the S&L industry at considerable risk in the future, should interest rates rise significantly. Six major objectives guide our FSLIC recapitalization proposal: First, the proposal balances the financing burden between the Federal home loan banks and the S&L's. The cost will be borne entirely by them without any taxpayer funds. Second, we transfer funds from these sources to FSLIC through a combination of assessments and stock purchases to avoid a negative budgetary effect. I will explain more about this stock investment later in this statement. Third, this plan can supply up to $25 to $30 billion to FSLIC over approximately the next 5 to 6 years, with approximately $15 billion available in the first 3 years. Given FSLIC's organizational constraints, this infusion probably represents the maximum level of resources that FSLIC_can effectively use to resolve problem cases. Because the plan is flexible by design, FSLIC need not draw this full amount, if the size of the problem turns out to be at the low end of the estimated range. Fourth, the funds transfer to FSLIC is not dependent on any U.S. Government or FSLIC guarantee of debt. Fifth, the proposal seeks to accommodate the FHL banks' concerns about a substantial increase in their debt costs and the accounting treatment of their capital contribution. It also recognizes that the allocation of the contributions among these FHL banks needs to take into account their proportions of FDIC-insured members. Sixth, this plan addresses the S&L's industry overwhelming concern-the continuation of the FSLIC special assessment-by creating the substantial likelihood that this extra assessment can be phased out over the next 5 years. We believe it is important to show the high probability of eliminating this extra premium over time, because it is a heavy burden on the industry, and because we would like to decrease the incentive for healthy thrifts to switch from FSLIC to FDIC insurance. In essence, the recapitalization proposal leverages both the current earned surplus of the FHL banks and future FSLIC assessments to get equity funds into FSLIC more quickly. A separate corporation, capitalized by the FHL banks will undertake a specially designed financing over time to channel equity investments into FSLIC. The proposal contains important safeguards to ensure that both the principal and interest of the Financing Corporation's special borrowings will be repaid. Most of the Financing Corporation's investment in FSLIC, however, will be in the form of nonredeemable capital certificates that will never need to be repaid. The remaining investment of the Financing Corporation in FSLIC will be in the form of nonvoting capital stock that may or may not be repaid, with or without a return, depending upon FSLIC's financial performance. The key elements of the proposal are as follows: The Federal Home Loan Bank Board charters a "Financing Corporation," capitalized with no more than $3 billion of the Federal home loan banks' surplus over about 5 to 6 years. This Financing Corporation will not have its own paid staff. The Financing Corporation then borrows approximately $10 billion through long-term bonds over these 5 to 6 years. It assures payment of the bonds' principal, without passing any debt obligations to FSLIC, by buying approximately $2 billion of long-term, zero-coupon instruments, which will equal the bond principal upon maturity. The Corporation will be subject to stringent limits on activities, leverage and life. The Financing Corporation then invests the same amount the FHL banks invested in it, a maximum of $3 billion, in nonvoting capital stock of FSLIC and an additional $8 billion or more in nonredeemable capital certificates of FSLIC. FSLIC employs some of its assessment income to pay dividends to the Financing Corporation, which uses this money to pay interest on its bonds. FSLIC uses the rest of its assessment income to add to its case resolution resources. The combination of equity and assessments enables FSLIC to deploy about $15 billion in case resolution funds |