Whatever reforms are legislated, it seems to me that much care must be taken to preserve the basic safety and soundness of the system. It should have independent institutions.

These institutions must make objective credit judgments. They must weigh their fiduciary duties against their legitimate desire to make profits. They must fully disclose their financial positions on the basis of realistic and conservative accounting standards. And they must operate under strict but reasonable regulatory standards developed to conform with both domestic and international market conditions.

The ideal is to create a financial system that buttresses the real economy; facilitates sustained, noninflationary growth; and supports business enterprises during periods of temporary stress.

These principles cannot be maintained under a financial system in which commercial and industrial firms own and control banks. On this fundamental issue, I am unalterably opposed. Let me briefly explain my reasoning.

Allowing commercial and industrial corporations to own commercial banks would have far-reaching and long-term adverse consequences. Merging banking and commerce would eventually alter our economic and financial system for the worse because it would hurt free enterprise and lead to a corporate state.

Over a period of time, the joining of industry and banking would produce mammoth entities. These combines would have a strong influence on the flow of credit and thus on business competition. A large corporation that controls a big bank would use it for extending credit to those who can benefit the whole organization.

The captive bank would attract low-cost funds through insured deposits and would deploy them to finance retailers, jobbers, manufacturers, and individuals who further the distribution of the parent's products and services.

The bank would be inclined to withhold credit from those who are, or could be, competitors of the parent corporation. Thus, the cornerstone of effective banking, independent credit decisions based on objective evaluation of creditworthiness, would be undermined.

For monetary policy, the merging of banking and commerce also would be detrimental for at least two reasons.

The first is that, no matter how many times the authorities may say the opposite, in an emergency the safety net that now covers large banking institutions deemed to be "too big to fail" would have to be extended to shield their parent corporations as well, when they were in difficulty during a period of monetary restraint or during a business recession. Otherwise, the bank would inevitably be vulnerable to huge withdrawals of deposits. Firewalls between a bank and its parent cannot prevent this because they will not work.

There is a second detrimental impact on monetary policy. If large commercial firms controlled big banks, support for a steady anti- inflationary monetary policy would wane.

There is a basic difference between banking and industry. Banks are the channel through which the central bank tries to achieve its objectives. By contrast, business corporations are the targets. It is their profits that are restrained or enlarged through monetary policy. Consequently, it is in their nature to have more of an inflationary bias than independent financial institutions.

As for our long-term economic growth potential, the creation of giant banking-industrial combines would have numerous detrimental consequences. It would create a powerful self-perpetuating elite. It is folly to believe that government would stay aloof from this elite group. Through the back door would come an insidious form of "industrial policy."

This industrial-banking-governmental leadership group would become highly protective of existing organizations. For many corporations and very wealthy families, the emergence of a corporatist state in which there is an elitist control over the economy may be quite desirable. Economic inefficiencies could be covered up. Downside economic risk could be limited through the safety net.

However, for most Americans, this anti-growth and elite-managed industrial policy would incite envy and dull economic aspirations. Economic renewal and vitality would be retarded as our traditional embrace of healthy, free-wheeling markets gave way to discriminatory treatment of emerging businesses and the overall discouragement of market disciplines.

For the ordinary shareholder, the conglomeration of banking and business would be another way of subverting the shareholder's role. If a corporation has sufficient excess cash to invest in a bank to control it, the better alternative would be to return that cash to the shareholders.

They can then make their own decisions about whether to invest in a bank. This would encourage economic democracy rather than erode it.

I would go further - to maintain that a merger of banking and commerce provides no significant compensating benefits. Ownership and control of banks by large commercial and industrial firms are not necessary for attracting new capital into the industry.

That is conspicuously true now, when the vast majority of depository institutions are well capitalized and are generating whatever additions to capital they require to support expanded business through internally generated funds or through access to the public credit markets.

Should they experience some financial difficulties somewhere down the road, what would be necessary to retain investor confidence is sound, experienced management.

A commercial or industrial enterprise is generally unable to provide such executives for a bank (nor would a financial institution be the natural place to look for the scientists, engineers, and marketers that are central to the success of a commercial or industrial enterprise).

But what about the special case of an ailing and failing commercial bank that the government might otherwise have to close down at some public expense? Should a commercial and industrial firm be allowed to buy such a bank? I say it should not.

The relatively modest sum that might be saved in the short term by permitting (such a purchase) will be far overshadowed by the potential financial liability to the public that will come at some later date as the commercial firm sooner or later slips in under the federal (financial umbrella).

In fact, it is precisely a commercial or industrial company with a certain concern about its long-term viability that is most likely to take advantage of permission to buy a defunct banking company. I don't see how the public would be better off if today's bankrupt airline or manufacturer or retailer had been able to buy an ailing and failing banking a few years ago, when problems in the banking industry were widespread.

Over the longer term, a sound, profitable banking industry will normally have no trouble attracting both equity and debt capital in satisfactory amounts without the ownership and control of commercial and industrial firms. Mr. Kaufman is president of Henry Kaufman & Co., New York. The following is excerpted from his April 5 testimony before the House Committee on Banking and Financial Services.

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