Banks Cry Foul over Fed's Check Clearing

The long-simmering feud between the Federal Reserve and correspondent banks over check clearing services has erupted once again.

Bankers are concerned about recent Fed moves that they say could give the central bank unfair competitive advantages:

* Last spring, the Federal Reserve Board quietly lobbied to include language in the Treasury Department's banking reform package that would give the Fed supervisory power over bank-owned check clearing houses.

* Despite opposition from banking groups, the Fed last month approved a plan that would allow all Federal Reserve banks to undercut the fees correspondent banks charge large banks for processing checks.

* Intense opposition from banking groups forced the Fed to put on hold a plan that bankers said would create an uneven playing field for cross-country check transportation services.

While central bank officials say the moves are designed to benefit all banks, these incidents have shaken the uneasy alliance that the Fed and large commercial banks have enjoyed over the last two years.

During that time, they have been working together, either one-on-one or through industry groups such as the American Bankers Association, to iron out differences concerning proposals that affect commercial banks' ability to compete with the Fed for check clearing services.

A case in point is a proposal to eliminate some check presentment fees banks charge each other, but Fed banks do not levy. The change, supported by most bankers, is expected to be adopted soon.

But a sluggish economy and a shrinking market for payment services have raised the stakes for both the Fed and commercial banks seeking fee income.

Consolidation in the banking industry is reducing the volume of interbank payments. Big correspondent banks, such as Corestates Financial Corp., Mellon Bank Corp., NBD Bancorp., First Chicago Corp, and Fed banks are now forced to compete for slices of a smaller pie. The Fed now has about 40% of the market for check processing.

Fed officials say what they are really after is a more efficient payment system that benefits all the banks the Fed serves. Increased competition between the central banks and correspondent banks is sometimes a by-product, they acknowledge.

As to concerns about the dual role of the Fed as a regulator and payment services provider, officials say there is a church-and-state separation between the two functions.

System Defended

"The reserve banks cannot play an insider role in the rules we're promulgating," says Federal Reserve Board Governor Wayne Angell. "It's the board of governors' responsibilty and the board's staff to make those determinations. It does not give the reserve banks an inside track."

Fed officials also say that they do not exploit the central bank's position as dominant service provider to gain a competitive advantage. In the case of the banking reform bill, the Fed's reason for suggesting a supervisory role over clearing houses was to protect the payment system in the event of a bank failure.

"One of the places where the failure of one bank could affect other banks could be in the clearing systems," said Oliver Ireland, a Fed lawyer.

Clearing organizations, such as the New York Clearing House, and bankers from institutions that are members of clearing houses were up in arms after word of the proposal leaked out. It was eventually dropped from the bill.

Mr. Ireland said it is doubful the proposal will surface again, but clearing house executives disagree.

"Don't think for a minute that we've heard the last of this proposal," said John Lee, president of the New York Clearing

Discounts Were Feared

House. "It could be added as an amendment to the bill later."

Bankers have concerns about other Fed moves. For example, they opposed a new check-processing pricing plan because, in effect, it allows Federal Reserve banks to reduce on large volumes of checks.

Correspondent bankers fear that their large customers may shift their business to Federal Reserve banks for the lower fees.

Changes Approved

"We believe that granting increased pricing flexibility to reserve banks may cause results similiar to those which would occur from predatory pricing by a dominant market supplier," wrote Irwin L. Gubman, senior vice presdient and associate general counsel at BankAmerica Corp. in a letter commenting on the measure.

Despite a majority of negative responses from bankers, the Federal Reserve Board approved the plan, called tiered pricing, last month. Fed officials say the changes will enable the central banks to more closely match prices to the costs of check collection.

Bankers are also up in arms over a Fed plan to limit the fees it charges to transport checks from one reserve bank district to another.

The plan has been put on hold because of an avalanche of negative comments. [Graph Omitted]

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