WASHINGTON - Now that the Supreme Court has heard oral arguments in a linchpin banking case almost 145 years in the making, two mysteries endure: what the court will do, and just how much does it matter.
At issue is whether the preemption powers in the National Bank Act extend to a national bank's operating subsidiaries, which are corporate instrumentalities that could scarcely have been envisioned when the law was enacted in 1863.
The central issue - preemption - is at the root of some of the most pressing banking policy questions: What role do states play in regulation of federal entities? What will become of the dual-charter system? What businesses ought banks be able to conduct? How can small banks compete against large ones? How should business interests be balanced with consumer protection?
Watters v. Wachovia Bank, which was argued before the Supreme Court Wednesday and is the first banking preemption case in a decade to reach the high court, has been widely perceived as the best forum to sort out those nettlesome issues. But some experts are suggesting it might be wise to start preparing for disappointment.
"Everyone seems to expect some fundamental change in the regulatory relationship," said one banking lawyer. "I don't see this case doing it."
The lawyer, like almost all of the lawyers contacted for this article, spoke on the condition of anonymity. The topic is sensitive, and those best qualified to weigh in on what the court may do - and what a decision's implications are - fear angering regulators, judges, and clients. Not to mention being wrong.
"My policy with cases that I've argued is not to try to read the tea leaves," said Robert Long, a lawyer at Covington & Burling LLP who argued the case on behalf of Wachovia.
In April 2003, Wachovia informed Michigan's Office of Financial and Insurance Services that it was surrendering its state lending registration, citing rules promulgated by the Office of the Comptroller of the Currency that preempted state regulation of national bank operating subsidiaries.
When Linda Watters, the commissioner of the Michigan office, told Wachovia it would no longer be authorized to make mortgages in the state, the bank sued.
The U.S. Court of Appeals for the Sixth Circuit upheld a lower-court decision that concluded Michigan's laws were preempted. Similar cases in three other circuits reached the same conclusion, so many lawyers were perplexed when the Supreme Court agreed to hear the case.
What makes it particularly confounding is the mishmash the case makes of the usual lines of battle. Justices with a particular interest in consumer protection might find themselves at odds with their usual preference for federal regulation over state regulation. Justices inclined to support states' rights must reconcile that inclination with their interest in strong, unified markets.
"This is a hard decision for conservatives," said Patricia McCoy, a law professor at the University of Connecticut. "On the one hand, federal preemption goes to the idea of a unified national economy, but it also overrides states' rights. We might really see some of the justices struggle with this."
Among them, Chief Justice John Roberts took the most active role, occasionally overshadowing E. John Blanchard, a lawyer in the Michigan Attorney General's office who argued the case for the state.
"You could tell that the chief justice wished he could just rip his damn robe off and go down and argue the case himself," said one person present at the arguments.
A spokesman for Michigan Attorney General Mike Cox said the state was satisfied its points had been made. "We made our case, the chief justice picked up on that and ran with it," the spokesman said.
Chief Justice Roberts seemed skeptical that an operating subsidiary could simultaneously maintain separate legal status from its parent bank yet enjoy the same protections the bank gets. Justice Antonin Scalia, who is considered a strict interpreter of statutes, three times said the OCC regulation "eliminated" the distinction between national banks and their affiliates in federal law.
Most observers concluded that Justices David Souter, Ruth Bader Ginsburg, and Stephen Breyer could be reasonably expected to support Wachovia. Few wanted to predict what conclusions Justices John Paul Stevens, Anthony Kennedy, or Samuel Alito would reach.
Because Justice Clarence Thomas has recused himself, the possibility of a 4-4 tie looms. The Sixth Circuit ruling would be affirmed, but a draw could tee up similar cases from other circuits in which Justice Thomas might participate.
Lawyers also noted that the justices barely addressed the two questions presented in the court's official grant of certiorari. The first involved the level of deference afforded federal agencies under a landmark 1984 case, Chevron USA v. Natural Resources Defense Council. The second asked whether the OCC's regulation impermissibly encroached on states' rights, which some say the 10th Amendment implicitly protects.
Still, Nina Simon, an AARP attorney who filed an amicus brief supporting Watters, said the justices may still decide the case on either issue. "If they made up their minds about something, they don't need to raise the question," she said.
That's consistent with the popular wisdom that the justices make decisions based more on the briefs than the oral arguments.
A decision is due by June and could be issued as early as March. Pinning down the consequences of a decision against Wachovia is difficult.
Banks can use operating subsidiaries for all types of lending, not to mention investment advisory services, brokerage, and back-office functions. A Nov. 3 brief submitted by Clearing House Association LLC - a consortium of 11 large banks that supply payment, clearing, and settlement services to banks and other financial institutions - said operating subsidiaries give national banks the opportunity to establish separate brands, marketing campaigns, and even cultures. Incentive compensation can be tied to the unit's performance. Internal benchmarking is easier, and costs can be more easily detailed and controlled.
It is structurally cleaner, as well. "Holding a banking business in a separate entity facilitates the bank's ability to sell that entity if the bank later decides to exit the business," the association said in its brief.
The very existence of operating subsidiaries argues for their structural advantages, as does the sustained legal fight banks have mounted to preserve their preemption rights.
"Banks have made a clear decision that doing this type of lending or business through op-subs is the most cost-efficient way they can do it, and if they have to pull it up, there is going to be a cost to doing that," said Van Beck, an assistant general counsel for Wachovia.
Wells Fargo & Co. and National City Corp. have already taken the step, disbanding their primary mortgage lending operating subsidiaries and pulling the business into their banking units.
But bankers' reluctance - or inability - to quantify the cost of such moves has left some skeptical.
"I've heard all the arguments before, and I have the same reaction: There is nothing I've heard that couldn't be done through a good internal accounting system in the bank itself," said one banking lawyer.
Mr. Beck at Wachovia said the bank could not estimate the cost of a decision against its operating subsidiaries' preemption rights. Spokesmen for Wells and National City declined to engage in substantive discussions of the uses and advantages of operating subsidiaries.
But it is not just about costs.
"The reason these cases were filed initially … was really for clarity - it's a national banking industry issue, not Wachovia-specific," said Mr. Beck. "We need clear, consistent guidance on who the regulator is."
