Commercial Banking Structure, Regulation, and Performance
Commercial banks are the largest group of depository institutions
Although the industry has gone through a great wave of deregulation, regulations are still in place. The industry historically has been regulated to protect investors and to "preserve soundness" of the banking system. However we have also seen regulation to ensure fairness in lending
Fed is the most important regulator, but it is not the only regulator. The controller of the currency and the FDIC also play roles in the regulation of the industry.
Regulators
FDIC- Insures deposits of member banks. 97.5 % of banks belong. The FDIC has been successful in stopping bank runs. Charges insurance premiums based on risk of loans and does periodic inspections. After the S&L crisis, this agency also assumed the risk of the FSLIC.
OCC-Office of the Comptroller of the Currency
Established during the Civil War. It is responsible for chartering national banks. Also must approve mergers between federally chartered banks.
Fed- responsible for reserve requirements, approves mergers, and looks out for the overall safety of the banking system.
Banks must be chartered with either the federal government or a state government. This is to ensure that the banker knows what he/she is doing and is not merely trying to accept deposits and take off with the proceeds. Size is not the sole determinant, as some very large banks remain state chartered.
The Office of the Comptroller of the Currency is the Federal agency that is responsible for chartering banks at the federal level. Similarly, each state has an agency that likewise grants bank’s permission to do business. This is called a dual banking system.
Federally charted banks belong to the Federal Reserve System and must be insured by the FDIC. (note that all three groups, Comptroller of the currency, FED, and FDIC therefore regulate national banks.)
State banks can join the Fed and/or FDIC but do not need to.
By count most banks have state charters (72% as of 1998) however national banks tend to have more branches and are larger with more deposits.
Approximately 1000 of the 6500 state banks elect to join the Fed, but most do belong to the FDIC.
FDIC was created in 1933 to end bank panics. Has been revamped periodically it has been altered and strengthened. For example in 1989 deposit insurance was given the full backing of the US government.
The Dual regulatory environment is not the most efficient organizational form. It frequently comes under attack for being burdensome and difficult to understand.
The Commercial Banking Industry
Historically the US has had many small banks. This is partially due to technology (or lack thereof) but more a result of regulations. Regulators saw small banks as safer. This safety component was caused by two things:
1. a run in one town would not lead to runs in other towns
2. the bank would have better information in their small circle and thus would be less likely to make bad loans.
Moreover, a large number of small banks would lead to increased competition and hence more services provided to customers.
However, this "small is good" mentality led to high cost structures. As technology has improved and the banking industry has faced growing competition, the industry has been going through a major consolidation wave.
Moreover, the lack of geographical diversification led to an increased number of bank panics.
In the face of deregulation and increased technology, the number of commercial banks is falling. As of late 1997 the US had 9,308 commercial banks (Cornett and Saunders) but this number is down from 14,416 in 1985.
US commercial Banks from (Cornett and Saunders)
Asset Size
0-100m 100m-$1B 1B-10B 10b +
Number of banks 6,047 2,888 306 67
% of US banks 65.0 31.0 3.4 0.7
Total assets $273.4B $711 b $916B $2,871B
Percent of total assets 5.7 14.9 19.2 60.2
Generally the banking industry is classified along size lines:
1. Community banks - less than $1b in assets
? retail banking (mortgages etc.)
? Small, example First-Tier
1. Regional or super-regional
- larger
- a complete line of banking activities
? residential and commercial C&I loans
? Involved in Fed Funds market
? Ex. Key, Fleet, Corestates
1. Money center banks
- rely heavily on nondeposit or borrowed sources of funds
- large banks ex BONY, Chase
Size alone does not make a money center bank. The key distinction is how they get their funds. As Cornett and Saunders point out, Bank America is large bank but due to its large retail branching network, it is not a money center bank.
The commercial banking industry has gone through (is going through?) some rough times. The 1980s saw a record number of bank failures. Even in the 1990s commercial banks have been hit with many changes, from increased competition, to international lending crises, to increased competition and a changing investor mind-set.
Major Bank regulations
1. McFadden Act- this 1927 act outlawed interstate branching by requiring nationally chartered banks to operate under the same rules as a state chartered bank in the area.
While states lessened the role of this and many banks did find some ways around this act, it was a major deterrent to the creation of large banks up until the IBBEA-Interstate Banking and Branching Efficiency Act took effect in 1997.
2. The Glass Steagall Act (AKA The Banking Acts of 1933)
Prohibited commercial banks from investment banking activities EXCEPT in Municipal General Obligation bonds, US government bonds, Private Placements, and real estate loans.
3. The Bank Holding Act (1956)
A bank holding company is a corporation that owns several firms, at least one of which is a bank. By forming a bank holding company many banks can get around laws and regulations that effect banks. (for example when their were state branching laws). As a result most large banks are organized as a holding company.
Commercial Bank management
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