Sweeping reform proposed for banking system WAR IN THE GULF

WASHINGTON — WASHINGTON -- The Bush administration proposed yesterday the broadest overhaul of the nation's banking system in a half-century, including curtailing the scope of deposit insurance, ending the barriers to interstate banking and allowing industrial enterprises to own banks.

In addition, commercial banks -- many of which are under severe economic stress -- would be permitted to merge with investment firms, tearing down a wall between those businesses that dates to the Depression.


The plan, drafted by the Treasury Department, also recommended streamlining bank regulation by ending the authority of the Federal Deposit Insurance Corp. to supervise banks. The proposal would have the effect of increasing the administration's control over banks.

Most of the recommendations focused on long-term changes that would have little immediate impact on the ailing banks. But the depleted condition of the deposit insurance fund put pressure on the administration to come up with a comprehensive overhaul plan.


"The banking system is safe, but it is not as efficient and competitive as it ought to be," said Treasury Secretary Nicholas F. Brady. "If we expect to exert world economic leadership in the 21st century, we must have a modern, world-class financial-services system in the U.S."

The long-awaited proposal, one of President Bush's chief domestic initiatives of the year, faces major hurdles on Capitol Hill, where lawmakers are fearful of expanding bank powers in the aftermath of the savings and loan bailout.

Bankers also were sharply divided on the plan. A leader of community banks said that it "favors Wall Street to the detriment of Main Street" because it would lead to a concentration of financial power in the large banks.

The part of the plan with the most direct impact on consumers would limit federal insurance on an individual's bank deposits to one account of $100,000 per institution, plus similar insurance on a retirement account. The limit would begin two years after enactment of the overhaul legislation.

Depositors could obtain greater insurance only by dividing their funds among additional banks.

The Treasury had considered limiting individuals to a total of $100,000 in insured accounts in six years, but Treasury officials backed away from that idea late last week when they received a telegram from the FDIC warning that it would cost $1 billion a year to enforce such a broad plan.

Instead, the Treasury asked the FDIC yesterday to conduct an 18-month study of the costs and benefits of a limit of $100,000 per person.

The administration sought a limit on deposit insurance to return the system to its original purpose of protecting small depositors. Many experts blame the savings and loan crisis in large part on the insurance system, which allowed S&L; operators to make risky investments using funds guaranteed by the government.


Honoring deposit insurance in the S&L; industry will cost as much as $130 billion, the administration estimated last week. Widespread bank failures also have seriously weakened the bank insurance fund.

By limiting deposit insurance, the administration also hopes that large depositors will be more careful where they place their funds, which should give banks more incentive to avoid risky investments.

Richard A. Kirk, president of the American Bankers Association, said in a statement that his group was against the proposed change in deposit insurance on grounds that it would create "needless uncertainty for consumers" that could lead to "deepening economic problems nationwide."

"The ABA does not believe that any changes are needed or justified at this time," he said.

Other highlights of the plan, which will go to Capitol Hill in about two weeks for hearings, include:

* Higher deposit insurance premiums for institutions that make riskier investments.


* Dilution of the "too big to fail" doctrine. The FDIC would be discouraged from continuing its practice of protecting even uninsured deposits in large institutions that become insolvent. In rare instances in which protecting all depositors was considered crucial to sustaining confidence in the financial system, the Treasury Department and the Federal Reserve could authorize such a bailout.

* Scrapping the restrictions of the Glass-Steagall Act of 1933, which limits the ability of banks to underwrite and trade securities. A bank holding company could own affiliates that engage in securities, mutual funds and insurance. But funds used in non-banking operations would not receive federal deposit insurance, and only well-capitalized banks would receive the new powers.

* Scrapping the McFadden Act of 1927, which restricts the ability of banks to open branches across state lines. Three years after enactment of the new legislation, a bank holding company would be allowed full branches nationwide. Also, companies such as General Motors Inc. and General Electric Co. would be allowed to own banks.

* Supervision by the Federal Reserve of all state-chartered banks and their holding companies. A new Federal Banking Agency under the Treasury Department would be created to oversee all national banks and their holding companies, stripping the FDIC of authority to supervise banks.

Under the proposal, funds to replenish the deposit insurance fund would come from the banks themselves rather than from federal borrowings or the taxpayers.