To help banking companies compete for securities underwriting deals, the Federal Reserve Board Wednesday proposed tearing down more than a dozen firewalls that prevent banks and their section 20 units from working together.
The proposal would permit banks to make loans to section 20 affiliates and their customers. Banks also could finance holding company underwriting affiliates with repurchase agreements. And investments in section 20 units could count toward holding company capital requirements.
"This is an effort to significantly improve the ability of banks to compete against nonbanks in the investment banking area," Fed Governor Susan M. Phillips said. "This will allow for a reduction in burden and costs."
Bankers applauded the plan. "I am very pleased," said Richard B. Roberts, treasurer of Wachovia Corp., Winston-Salem, N.C., and chairman of the ABA Securities Association. "This goes a long way toward creating an environment for conducting business in a very efficient manner."
"We are delighted," said Rachel F. Robbin, general counsel at J.P. Morgan & Co. "This is going to allow us to provide more-efficient, full- service products to our clients."
Lawrence R. Uhlick, executive director of the Institute of International Bankers, said the proposal would bring the United States in line with other industrialized nations, which do not erect firewalls between banks and their securities activities.
The biggest change would let banks offer letters of credit and other credit enhancements to the issuers of securities underwritten by section 20 units. These loans must be made at market rates.
The Fed also would permit banks to make direct loans to companies that bought underwriting services from a section 20 unit. The ban originally was intended to prevent banks from propping up the balance sheets of underwriting customers. But the Fed said it instead impeded the ability of banks to renew loans to long-term customers.
Also permitted would be loans from a bank to its underwriting unit. Provisions in the Federal Reserve Act, however, would limit these deals to 10% of capital and require substantial collateral. Also, the bank must charge market rates.
The Fed also would permit repurchase agreements between parent and unit, the preferred method for funding section 20 units. Currently, section 20 units must be financed by unrelated securities companies.
Under the proposal, holding companies could count as capital all investments and loans to section 20 units. The Fed said these are no different than investments made in other subsidiaries, which qualify as capital. The change also is consistent with generally accepted accounting principles.
Also slated for the chopping block is a rule preventing banks from buying securities from section 20 units owned by their parent company. But such purchases must be approved by a majority vote of the bank's outside directors.
The Fed also asked for comment on whether it should abolish two other firewalls. One now prevents banks from loaning money to customers who want to buy section 20-issued securities during the initial public offering.
The second requires that section 20 units hold capital "in accordance with industry norms." The Fed said this firewall is confusing and partly duplicated by a Securities and Exchange Commission rule.
The proposal will be published shortly in the Federal Register. Comments are due by March 8.