WASHINGTON - The Federal Reserve Board is poised to let bank affiliates expand their previously ineligible securities activities because low interest rates are pinching revenues from other investments.
But the permissible increase is likely to fall short of bankers? desires, primarily because the Fed doesn't want to upset Congress and the securities industry.
Bankers have been urging the central bank to let them get up to 25% of revenues in holding companies' "section 20" subsidiaries from areas such as corporate debt and asset-backed instruments.
Currently, only 1% of revenues of such units may come from those nontraditional sources.
Some observers were expecting the Fed to permit a smaller jump, perhaps to 15%, but the central bank now seems likely to change the formula for calculating the maximum. The effect would still be to increase the banks, latitude, but not as much as the banks want.
Nearing the 10% Ceiling
Commercial bankers say that with low interest rates reducing the yields on eligible securities like municipal bonds, many subsidiaries' ineligible activities are bumping up against the 10% ceiling.
"The 10% limit has actually been shrinking because of the decline in interest rates," said Melanie Fein of the Washington law firm Arnold & Porter.
By changing the calculation formula, the Fed could give banks near the 10% limit - about one-quarter of the 28 section-20 subsidiaries - breathing room without spurring vigorous protest from lawmakers and securities firms.
The Glass-Steagall Act prohibits bank affiliates that are "engaged principally" in underwriting and dealing in bank-ineligible securities.
Last summer, the Fed proposed altering the way eligible activity is measured. The board suggested two alternatives:
* An indexed test, with revenues adjusted to what would have been earned under the Treasury yield curve in September 1989. The 10% limit would apply to these indexed revenues.
* An asset-based test, where assets instead of revenues would be subjected to the 10% limit.
While the Fed, in its request for comments, did not propose increasing the 10% limit, bankers expressed strong support for 25%.
"Twenty-five percent is still a conservative approach to measuring ineligible underwriting and dealing activities," wrote Robert Adams, assistant general counsel of Chase Manhattan Corp. "Indeed, cogent arguments can be made for a higher percentage."
Role for Small Banks Seen
Some argued that increasing the limit would allow smaller banks to enter the ineligible-securities market.
"Regional section 20 subsidiaries have been unable to participate to any meaningful extent ... since they simply do not have the base of eligible securities activities provided by primary-dealer transactions," wrote John P. O'Brien, president of Fleet Securities, a unit of Fleet Financial Group Inc.
Bankers called the Fed's suggestions cumbersome and difficult to calculate. The American Bankers Association, for example, called the indexing method "too burdensome and costly to implement."
Richard G. Tilghman, chairman of Crestar Financial Corp., Richmond, took an even stronger position. "For itself, Crestar questions whether the regulatory relief would be worse than the disease itself," he told the Fed.
Nonetheless, industry representatives said, banks would prefer any Steps the Fed might take to loosen the limit - including the two proposed this summer - to no action at all.
The Fed's proposals generated criticism from Capitol Hill as well. Although the law allows regulators to set the threshold, some Congress members have cautioned the Fed against acting without their approval.
Rep. John D. Dingell, D-Mich., chairman of the House Energy and Commerce Committee, has questioned the Fed's proposals. He lambasted Fed Chairman Alan Greenspan in a letter for not discussing "significant legal and policy issues" raised in the proposal.
Securities firms have also warned the Fed against broadening the test significantly. They have argued that some banks are already breaking the law by "tying" commercial lending to affiliates' securities underwriting.