State-chartered banks could become obsolete unless their regulators remove roadblocks to interstate branching, Federal Reserve Board Chairman Alan Greenspan is warning.

The liberalization of national banks' interstate branching powers last year has already affected state banks, Mr. Greenspan said in a speech he was to deliver Saturday. State banks' share of industry assets dropped 2.5 percentage points in 1997, the first decline in eight years, he noted.

The text of Mr. Greenspan's speech to the Conference of State Bank Supervisors annual convention in Nashville was released Friday.

"If state jurisdictional issues make it inefficient for state banks to branch across state lines, the national bank charter will gain more adherents," Mr. Greenspan said. And that would hurt the financial services industry, he said, because state regulators have often been at the forefront of innovation.

"It is too early to tell whether this is the beginning of an irreversible trend or a short-term adjustment," he said. "Clearly, conventional wisdom argues interstate branching is less burdensome for national banks."

To protect the state charter, Mr. Greenspan said, regulators must take advantage of a change the supervisors group persuaded Congress to make to the 1994 interstate law. That 1996 amendment gives the home-state regulator authority over an entire institution including branches in other states. This eliminates the need for these banks to deal with multiple state regulators.

"The future ... is very much in your own hands," the Fed chief said.

Nearly every state has agreed to share supervision, but details of implementing the deal are still being worked out. About 500 state supervisors and bankers were scheduled to attend the conference.

Mr. Greenspan praised the states' performance as banking regulators. "State supervisors are used to adjusting to market realities, having led their federal counterparts in permitting more experiments and flexibility, from NOW accounts to adjustable rate mortgages, from insurance sales to regional compacts."

The fear that national banks would switch to state charters has prevented federal regulators from imposing "overzealous" rules, he said. "That choice has served as a constraint on the arbitrary and capricious policies on a federal level."

Mr. Greenspan also said that federal deposit insurance has been a "mixed blessing."

"The federal safety net for banks clearly diminishes the effectiveness of private market regulation, creates perverse incentives for some banks to take excessive risk, and requires that we substitute more government supervision and regulation for market discipline," he said.

For instance, Mr. Greenspan blamed deposit insurance for the thrift crisis: "Without federal deposit insurance, private markets presumably would never have permitted thrift institutions to purchase the portfolios that brought down the industry insurance fund and left taxpayers responsible for huge losses."

Deposit insurance also gives banks access to low-cost funds, he said. Preventing banks from using this "subsidy" to fund nonbank products has been the major stumbling block to passage of a financial reform bill.

Still, Mr. Greenspan said pulling in the safety net would be tough. Deposit insurance has "contributed significantly to financial stability" and enjoys wide support in Congress, he said.

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