Martin Mayer solidified his reputation as a business journalist with "The Bankers," a 1974 book that described an industry on the brink of major changes in competition, globalization, and technology. In the next few weeks his long-awaited sequel, "The Bankers: The Next Generation" (Truman Talley Books/Dutton), will arrive in bookstores.

Between those tomes, and aside from his part-time output as an opera critic, Mr. Mayer, 68, wrote many articles and books on subjects ranging from housing and the savings and loan crisis to Salomon Brothers and Lloyds of London. He is currently a Brookings Institution guest scholar in Washington, where his wife, Karin Lissakers, is U.S. executive director of the International Monetary Fund. In this recent conversation with Jeffrey Kutler, Mr. Mayer discussed how he put a forward spin on his 22-year-old classic.

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You estimated that you saved 5,000 words from your first book?

There are about 5,000 words from the first book in the 150,000-odd of this one. There are some things I went over and decided I couldn't phrase any better.

Do you realize you could fit 5,000 words on a smart card?

Yes. Not to mention Drexler's LaserCard. I could put the whole book on that.

At the time of "The Bankers," senior executives were talking about technology. It was kind of an undercurrent. Where does that issue stand 20 years later?

The most obvious change, which I only began to hint at in the first book, is that technology has bifurcated the business of banking. There is a payment systems business, and there is a lending business. Once upon a time they were very closely linked. The lending business dominated the payment systems business; payment systems was the cost center that got you the raw material for your lending activities.

One of the things I did with the new book is, I went back to the people I talked with in 1974. The three guys I really talked about technology with were John Reed (then a Citicorp executive vice president), Barry Sullivan (then of Chase Manhattan, later retired from First Chicago), and Robert Lipp (then of Chemical Bank, now of Travelers Group). I think it was Lipp who told me operations was the ass-end of the bank. That was beginning to change in 1974. All these guys were technicians who went on to be heads of enormous operations. They became policymakers because they understood very important parts of the business, which the guys running the banks in those days didn't understand.

Don't we still have a two-cultures situation in banking?

It's more than that. You have two businesses. I say at the end of the book that, having discovered there weren't economies of scale in banking, the big guys found things in which there are economies of scale and called them banking. What troubles me is, we don't seem to have developed a good institutional structure to take over the kind of information-rich lending that banks have always done, which is the central social function of banking. All of them want to securitize their small- business loans. That's the central drive in this industry today - not to put our own money behind things if we can possibly avoid it. Let's find a way to securitize. Let's make fees, commissions, and origination money and then turn it over to other people.

Isn't that just market creativity combined with the general aversion to risk that seems part of our culture today?

I got hold of a fascinating letter on bank auditing that the American Institute of Certified Public Accountants sent around to accounting firms some years ago. In the wake of the S&L crisis, it said accountants' ability to practice their profession could be damaged if they weren't tough on the banks. They couldn't allow the same thing to happen in banking. My view is that the worst of the credit crunch in 1991-92 was from the accountants' leaning on the banks. They were not prepared to accept valuations that they did accept in previous years.

It isn't only risk aversion. Back in the 1970s, 75 basis points was not a bad return on assets. Then you had people like George Moore and Walter Wriston at Citicorp talking about 15% on equity, or 75 basis points on a 5% equity ratio. Today people are making 150, or in Wells Fargo's case, 170 basis points. Over time, ROA becomes a less important measure than ROE, and the "E" has had to go up. But when you look at an outfit like GE Capital and its leverage versus that of the banks, and GE's reputation for savvy lending versus that of many banks . . . .

Also, suddenly we are back to cross-border lending, and the banks want to participate it out to diversify risk. But they may be putting their heads into places where maybe they shouldn't be. So basically, yes, there is risk aversion. But there is also a feeling that the real money to be made is in fee activities of various kinds in both the consumer and business sectors, and in trading.

And in that, you say, this industry has lost something essential?

Yes, and it's not just this industry. The reason all these diversification theories work in the marketplace is that there is a bank lending officer out there making the first cut. If you diversified your investments across the whole spectrum of new business, you'd lose your shirt, because most new businesses go bust. After a bank officer, whose career is at stake, has said, "yes, this guy has a chance to grow and pay back his loan," the bank has a chance to make money on that customer over time, on the loan, on the checking account, and other aspects of the relationship. Who is going to substitute for that if the banks just want to hold paper?

You can count on the genius of capitalism to find substitutes. There will be more factors, more GE Capitals, who borrow from the market. After all, that is what banks are doing now anyway; 16% of the liabilities are insured deposits. That was beginning to happen in the 1970s, and banks now borrow money shamelessly.

When the cost of funds and the cost of providing services were relatively stable, banks liked high interest rates. They made more money. Now that they borrow what they lend, their liabilities price before their assets, they are terrified of higher interest rates.

A lot of them took a big beating in 1994, bigger than was admitted for a while. Accounting practices are a disaster. I now have more sympathy with the Fed on market-value accounting than in 1991. If you are going to hold paper rather than whole loans, I don't see how you can get away from market-value accounting. I also don't see how you can get away with so much bank secrecy.

One theme of the book is what (former J.P. Morgan chairman) Dennis Weatherstone said a few years ago, that we live in a time when the capital markets have overwhelmed the credit markets. When I wrote "The Bankers," it was still true that banks set a prime rate, and it mattered. Today banks are rate-takers like everybody else, not rate-setters at all. That's an enormous change, and that's a technology change.

How good do you think bankers and banking are at understanding technology?

Citicorp chairman John Reed said it at the recent Treasury conference: Banking is going to become an application code on a smart network. And he wasn't sure all banks can be good at that.

Making money from payment systems is extraordinarily technology- intensive. Look at companies like First Data, Fiserv, EDS, ADP - they have business that the banks gave away because people who didn't have the legacy systems could do it cheaper. There is a lot of payments business out there. But as Hugh McColl of NationsBank said in The Wall Street Journal, this is terrifying. If you go too soon, you waste a lot of money. If you go too late, the business can be taken away. How do you know what is too soon and what is too late?

Can banks handle it? The value of the franchise has eroded quite a lot in the last 22 years, but it's still there.

A friend of mine told me he has been protesting his credit card fees, and winning. I asked him who he called, and he said "Visa," when of course there is no Visa to call. It's his bank.

Is that indicative of the branding challenge banks face?

The line between the proprietary automated teller machine and the anonymous, or nonbank-owned, ATM, did not have to be drawn as it was. To make the machines proprietary at the beginning was nutty, but at the same time you didn't have to give the franchise away to Cirrus and Plus and Most and NYCE. You could have maintained a degree of identification of the bank. That was a marketing failure with a certain resonance.

By the way, I see the ATM network switches as sleeping giants. They will be much more heavily used in the future, not just for cash. A lot of home banking over open networks is likely to go through ATM switches.

What does all this say about the regulatory tradition that still rules?

When the Comptroller of the Currency and state commissioners controlled entry into this business, somebody who wanted a charter had to prove there was a need for another bank. That's one of the major changes. The old notion was that, if you are going to insure the liabilities, you can't have cutthroat competition, and the state had to make sure there wasn't an oversupply, because the exit process was so painful. That sense got completely lost by the 1980s. While government controlled entry, and people had to go to the bank to get cash, location was crucial to the business - banking was a real estate business. There was an art of locating branches. Another enormous impact of technology, which you saw in credit cards, is to remove that question of where a bank is.

A great deal of the changes in law really followed what technology was doing.

You have editorialized favorably over many years about smart cards. What have you found so interesting about them?

The security aspects. I think the industry is making a great mistake insisting, as the government has proposed, that stored-value cards are like cash and if you lose them, too bad. Particularly if you are dealing with only $50 or $100. What made the credit card go was the $50 maximum liability if lost or stolen. It made people feel safe. They are not going to feel safe with these new cards.

There are such values in the identification aspects of smart cards, the medical aspects as in the German health care system, its ability to be used for authentication and encryption in other electronic devices. And it is a big convenience. ATMs' problem is, they pay out a fixed amount. With smart cards you can put exact amounts on the card, and the ability to charge up the card at home will have great value. Cash is in many ways undesirable at this point in the world's development. It's dirty, it can be counterfeit . . . .

Do you think banks are so insistent about cardholder liability because they still think they can exercise control, when in fact the new technology has a bias toward openness?

And a lot less secrecy. The legacy of William Isaac when he left the FDIC chairmanship was a message to Congress to publish the first half of bank examination reports. If you are negotiating a friendly takeover of a bank, you can get into their books and (files), look at everything in the bank - except the examination reports. They are absolutely secret; it speaks to that culture of secrecy, and it's also part of the culture of the Federal Reserve and the regulators.

That attitude is going to change. In a market-dominated system, the banks will have to reveal very much more, including the contents of the portfolios when they consist of paper. If they consist of loans, a guy has a right for the world not to know he is borrowing X dollars from X bank. But if it's a portfolio of government paper and Fannie Maes and junk bonds and various participated-out loans that are basically securities, why should they be valued at historic cost and be kept secret from the market? Maybe the best way to go is to take the front two-thirds of the examiners' reports and put them on the record.

How much has the Internet come into your recent conversations with high-level bankers?

To tell you the truth, it's the guys on the vice president level who educate me. The trope now is toward intranets. With the growing concern about security, people feel safe using this nonproprietary technology but protected by firewalls. That may or may not be true. A Citibank network was penetrated by Russians. I do hear talk about the Internet, about encryption. They are worried about security, and they don't know what their liabilities are. These guys grew up in the checking system, where they are protected by the holder-in-due-course doctrine.

Also, you have to get to EDI (electronic data interchange), because without it, EFT (electronic funds transfer) is essentially meaningless. To get real savings, you have to be able to send the bill electronically and register the payment electronically. In home banking today, 70% of the payments are actually made by writing a check. Somebody has to go to work - I know Checkfree is doing this - building a file of payees, and whoever owns that file could rule the world. Verifone, Visa, MasterCard, First Data are the kinds of companies wired to a lot of payees. The people who will make home banking profitable are those who can make payments electronically.

A theme at the end of my book is that electronics makes it possible for everybody to do banking. Adding the marginal customer costs virtually nothing. And yet at this time we see enormous growth of check-cashing shops. I believe close to 25 million people in this country are unbanked, and that doesn't make any social or economic sense. Once you get to the tipping point where the electronic payment is routine and the paper item is the exception, then suddenly the CEOs will all realize paper is costing them a lot of money, the banks will become EDI-equipped, and all of this will take off.

You were a close observer of the last generational change in top management of banks, typified by Wriston to Reed at Citicorp. How do you assess the next one?

Where are the lenders? The wisdom of this business comes out of lending, and it would be sad to see that relegated. There is a big difference between information and knowledge, and I do worry about the tehnician types getting to run the banks and not understanding that financial matters do not always fit neatly under bell curves.

That said, it is also true that if a guy with a computer can con you, you are not going to be able to run a bank. You are going to have to know a fair amount about what he is talking about if you are to allocate the resources of the bank. And you will have to make decisions about where you are going to make your money.

I have a quote in the book from Bud Baker of Wachovia, who is very savvy and very involved in making commercial loans. He said it's a tough way to make a living and it's going to get tougher. That's dangerous to the future of this industry. God knows, we don't want the world dominated by GE Capital. But look at their cost structure compared to the banks'. Regulation doesn't help matters for the banks, but that's not the whole story.

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