BANKING LAW OUTLINE
Thursday, January 15 – The business of Banking
*What is banking? The loaning of money and interest at a specified rate over a period of time. Sell the funds to another party to use over a period of time.
Usury: Lending money at an excessive rate of interest. The notion exists that all interest is excessive. Today, many of the laws focus on coercion, loan sharking and the method used to collect debts.
*Thomas Aquinas on Usury – To take usury for money lent is unjust in itself, because this is to sell what does not exist, it is against the law. Aquinas also says it is lawful to borrow money for usury from a man who is ready to do so and is a usurer by profession – provided the borrower have a good end in view (such as the relief of his own or another’s need).
*Sub-Prime lenders are doing favors for individuals and letting them purchase a home, even though the interest rate is higher – this is because they are taking a bigger risk.
*Pope Benedict Encyclical: Does not matter what the borrowed money is used for, nor that the gain is only moderate – it is still a sin.
§438.31: Basic interest rate is set at 5%, with a rate of 7% if it is agreed in writing. Need to look at all the exceptions in order to see if the usury statute may be bypassed.
§438.41: A person is guilty of criminal usury for charging a rate exceeding 25%.
*Jeremy Bentham: The sale of money is subject to the laws of supply and demand, and the market should set the price of money. This is the dominant economic view today.
-How Banks Work: Process of transferring funds from the ultimate source to the ultimate user. Banks obtain money from depositors who pay interest, and re-lend it to other borrowers at a higher rate (the credit spread). The depositors are lenders to the banks. As a result, banks are very sensitive to cost of interest rate fluctuations.
*Credit Intermediation – Loaning money to the marketplace may only result in a few potential borrowers, banks may pool money and achieve economies of scale, diversify lending and spread risk around.
**Commercial Banking – Loaning money out for a fixed return.
**Investment Banking – Borrowing money and the investors are paid based upon the performance of the borrower. This type of banking is more risky, but the returns are greater.
*Free Banking Statutes: Allowed banks to be chartered without legislative charter. State banks grew significantly, but many were reckless and under-capitalized.
Green, Receiver of the Bank of Niles v. Graves: The bank was in receivership, and the receiver is attempting to recover. (D) gave a note to the bank for $100, and he is sued for repayment. (D) contends he does not owe money, since the bank has no legal existence, and argues it is not a legal entity with the capacity to sue. The argument made on behalf of the bank was that these “Free Banking Statutes” allowed them to be chartered without legislative approval. (D) succeeds because the statute is held to be unconstitutional, as the plain meaning of the statute would lead to an “absurd result.”
Thursday, January 22, The Chartering Process
*The federal government was interested in enticing state chartered banks to convert to national charters under the National Bank Act (2/25/1886 – A U.S. Federal law that established a system of national charters for banks. It encouraged development of national currency based on bank holdings of U.S. Treasury securities. It also established the Office of the Comptroller of Currency as part of the Dept. of the Treasury. This was to establish a national security holding body for the existence of the monetary policy of the state. The Act raised money for the Federal Government in the America Civil War by enticing banks to buy federal bonds and taxed state bonds out of existence) in order to meet federal concerns such as 1) the development of a national currency, uniform circulating medium replacing state bank notes as money, 2) the development of a market for federal bonds to finance the Civil War effort, and 3) the use of the national banks as federal depositories.
*The Federal government hoped the state chartered banks would convert to national banks, and increased the tax on state bank notes from 2% to 10%. The heavy taxing made bank notes unprofitable and state banks increasingly converted to national charters. The national banking system required a minimum capital for each bank, and placed restrictions on loans extended and funds borrowed.
*A bank, like any other corporation needs a charter issued by the appropriate government authority before it can commence doing business. The chartering process for a bank may often take a year or more, and there is no guarantee that the charter will be approved.
-The Dual Banking System: The organizers of a bank may seek a charter under federal or state law. Primarily, the presence of two regulators reduces the likelihood of unimaginative and unresponsive regulation of the banking system that could occur with a monopoly or regulation.
*Today, the most important source of federal control over state chartered banks is found in 12 U.S.C.A. §1831(a). The provision was enacted in 1991 in response to losses resulting from state-chartered, federally insured depository institutions, under powers granted by state law.
*Factors to consider when choosing between state and national charters: 1) availability of charters, 2) regulatory considerations (nationally reviewed by the Comptroller of the Currency, state are subject to the Federal Deposit Insurance Corporation).
*The Comptroller (effectively a bureau within the Treasury) exercises discretion to grant or deny a charter according to his view of the impact of the proposed bank on the banking industry. The four most frequently cited policies that underlie the regulation of banks are 1) the prevention of bank failures, 2) the attainment of a competitive market, 3) the convenience and needs of the public, and 4) the preservation of “competitive equality” between state and national banks. The Comptroller must certify to the FDIC that consideration has been given to 1) the bank’s future earnings prospects, 2) the general character of management, 3) the adequacy of its capital structure, 4) the convenience and needs of the community to be served by the bank, 5) the financial history and condition of the bank, and 6) whether or not it has complied with all propositions of the Bank Act and FDIC.
Davis v. Elmira Savings: The Elmira Savings Bank, a state chartered bank in NY had on deposit with the Elmira National Bank, a bank with a national charter, a sum of $42,704.67. The national bank defaulted and the state bank attempted to use state law to withdraw the funds on deposit. Charles Davis was appointed to a receivership of the national bank and refused to immediately honor the demands under state laws because of overriding federal laws. The NYDC and Appeals court ruled in favor of the state bank. The USSC reversed the decision, holding “National banks are instrumentalities of the Federal Government, created for a public purpose, and as such is subject to the paramount authority of the United States. It follows that an attempt by a state to define their duties or control their conduct is absolutely void wherever such attempts conflicts with the laws and authority of the United States and frustrates the purpose of the national legislation.” Preemption may be apparent if 1) explicitly stated by Congress, 2) implicitly through the statute, and 3) an actual conflict with federal and state law.
Veazie Bank v. Fenno: This important case arose out of the need to finance the Union effort in the Civil War. In 1866, Congress enacted a statute that increased a 1% tax on state bank notes to a rate of 10 percent. The Veazie Bank of Maine refused to pay the increased tax, and a case ensued between the bank and Fenno, a collector of Internal Revenue. The bank contended that the 10‐percent levy was excessive and threatened it with extinction. Congress, the bank argued, could not use its taxing power to destroy the bank. Such an action was an unconstitutional use of Congress’s power to tax because the levy was a direct tax forbidden by the Constitution and because the levy was a tax on a state agency, as Veazie Bank had been chartered by the State of Maine. The Court held that the tax on bank notes did not constitute a direct tax within the meaning of the Constitution. Nor was the levy a tax on a state instrumentality. Finally, the Court ruled that the tax was not unconstitutional simply because Veazie Bank thought the tax excessive. Congress’s authority in this matter was clear, Chase concluded, and the remedy for excessive taxes was through the political process, not the courts. Indeed, Chase concluded that the act could be viewed not as a tax but as an action to control the national currency, clearly a congressional function. Chase’s explanation of the power to tax would prove to be an important landmark in the years ahead, as the taxing power became a powerful instrument of public policy. In dissent, Nelson insisted that Congress had overreached its authority. Nelson thought that the statute impaired the authority of the states, as constitutionally sovereign bodies, to incorporate and control the banks that operated within their borders.
**Federal Reserve: Each of the 7 members of the Board of Governors is appointed by the President and approved by the Senate; they have staggered 14 year terms. There are 12 regional Federal Reserve Ban
urity Industry Association (SIA) challenge regulations of the FDIC governing the activities of insured banks that are not members of the Federal Reserve System. Federal regulation essentially divides commercial banks into three major categories; 1) banks that choose to become members under the Federal Reserve System fall under the jurisdiction of the Board of Governors of that system; 2) national banks come under jurisdiction of the Comptroller of the Currency; and 3) insured state banks that are not members of the Federal Reserve System operate under the FDIC (although the FDIC insures all three, it only directly regulates the third). The Glass-Steagall Act seeks to draw a sharp line between the activities of these three categories of commercial banks and the activities of investment banks and other securities firms. The specific issue presented here is the extent to which Congress intended to bar subsidiaries and affiliates of non-member insured banks from engaging in the securities business. In September 1982, the FDIC published a policy statement that found the Glass-Steagall Act “does not prohibit an insured nonmember bank from establishing an affiliate relationship with or organizing/acquiring a subsidiary corporation that engages in the business of issuing, underwriting, selling or distributing stocks, bonds, debentures or notes or other securities (The FDIC did note that the securities activities may raise questions of unsafe or unsound banking practices not consistent with the purpose of deposit insurance). In November 1984, the FDIC adopted a final rule regulating the security activities of affiliates and subsidiaries of insured nonmember banks which restricted the activity in a number of ways; 1) banks may only maintain “bona fide” subsidiaries that engage in security work; 2) separate accounting methods and corporate formalities must be maintained; 3) the two entities cannot share officers or policies and 4) the subsidiary/affiliate must be “adequately capitalized.” The DC dismissed the complaint, and the US SC held affirmed, holding despite (P) considerable efforts, the language and structure of the Glass-Steagall Act do not support the view that §21 bars insured nonmember banks from maintaining affiliate or subsidiary relationships with securities firms. The policy argument put forth by (P) carry little weight, as the Court’s duty is to interpret the banking laws, not set national banking policy. The representatives had standing to challenge the regulations under both the Glass-Steagall Act and the FDIC regulations, but the FDIC regulations did not violate either Act. The fact that these securities were easily redeemable placed much more pressure on the banks to produce results quickly or risk getting the money withdrawn by its customers. This is not the case with trust funds, where the money sits for an extended period of time. Also, the concern is that the bank may start playing favorites and loan money to companies that it is heavily invested in. As a result, confidence of the bank’s investors may be destroyed causing a run on the bank.
Dissent (Blackmun): There is an area of illogic in the ready admission that on one hand a national bank has the power to manage, by way of a common trust arrangement, those funds that it holds as fiduciary and to administer separate agency accounts, and in the other hand a bank placing agency assets into a mutual fund. Blackmun finds it impossible to locate any statutory root for that line drawing.
**Opinion of the Texas Attorney General (DM-329): Although we have found no statute which expressly authorizes a state university to operate a debit card program, we believe that it is likely that a court would construe the broad powers of a board of regents to impliedly authorize a state university to do so.