Statement by Alan Greenspan, Chairman, Board of Governors of the Federal Reserve System, before the Subcommittee on Financial Institutions and Consumer Credit of the Committee on Banking and Financial Services, U.S. House of Representatives, February 13, 1997

By Greenspan, Alan | Federal Reserve Bulletin, April 1997 | Go to article overview

Statement by Alan Greenspan, Chairman, Board of Governors of the Federal Reserve System, before the Subcommittee on Financial Institutions and Consumer Credit of the Committee on Banking and Financial Services, U.S. House of Representatives, February 13, 1997


Greenspan, Alan, Federal Reserve Bulletin


Statement by Alan Greenspan, Chairman, Board of Governors of the Federal Reserve System, before the Subcommittee on Financial Institutions and Consumer Credit of the Committee on Banking and Financial Services, US. House of Representatives, February 13, 1997

It is a pleasure to appear here today to present the views of the Federal Reserve Board on some broad issues associated with financial modernization. The unremitting pressures of technology and the market are drastically changing the financial landscape and eroding traditional positions of competitors, inducing new competitive strategies and participants, forcing new regulatory responses, and building pressures on the Congress to shape developments in the public interest.

I know that you have been an active sponsor and supporter of legislation to modernize the financial system. The Board also has been a strong proponent both of expanded financial activities for banking organizations and enhanced opportunities for nonbank financial institutions to enter banking. We continue to support financial modernization because we believe it would provide improved financial services for our citizens. Moreover, both our experience and analysis suggest that the additional risks of new financial products are modest and manageable. Indeed, technology already has resulted in a blurring of product and service-defining lines so dramatic as to make many financial products virtually indistinguishable from one another and the old rules inapplicable. In the process, we have already seen the public benefits--benefits that removal of old barriers could only enhance.

But as we proceed down the path of reform, reforms both desired for their benefits to the public and required by global markets and new technologies, the Board urges that any modifications be tested against certain standards. In particular, the Board believes that the changes we adopt should be consistent with (1) continuing the safety and soundness of the banking system; (2) limiting systemic risks; (3) contributing to macroeconomic stability; and (4) limiting the spread of both the moral hazard and the subsidy implicit in the safety net.

Thus, if my comments today sound cautious, I want the subcommittee to understand that my observations do not reflect opposition to further freeing of constraints on financial competition. To the contrary. We strongly urge an extensive increase in the activities permitted to banking organizations and other financial institutions, provided these activities are financed at nonsubsidized market rates and do not pose unacceptable risks to our financial system. Although a level playing field requires broader powers, it does not require subsidized ones.

SAFETY NET IMPLICATIONS

In this century the Congress has delegated the use of the sovereign credit--the power to create money and borrow unlimited funds at the lowest possible rate--to support the banking system. It has done so indirectly as a consequence of deposit insurance, Federal Reserve discount window access, and final riskless settlement of payment system transactions. The public policy purpose was to protect depositors, stem bank runs, and lower the level of risk to the financial system from the insolvency of individual institutions. In insuring depositors, the government, through the Federal Deposit Insurance Corporation (FDIC), substituted its unsurpassable credit rating for those of banks. Similarly, provisions of the Federal Reserve Act enabled banks to convert illiquid assets, such as loans, into riskless assets (deposits at the central bank) through the discount window and to complete payments using Federal Reserve credits. All these uses of the sovereign credit have dramatically improved the soundness of our banking system and the public's confidence in it.

In the process, it has profoundly altered the risks and returns in banking. Sovereign credit guarantees have significantly reduced the amount of capital that banks and other depositories need to hold because creditors demand less of a buffer to protect themselves from the failure of institutions that are the beneficiaries of such guarantees. …

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Statement by Alan Greenspan, Chairman, Board of Governors of the Federal Reserve System, before the Subcommittee on Financial Institutions and Consumer Credit of the Committee on Banking and Financial Services, U.S. House of Representatives, February 13, 1997
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