Thursday, January 24, 2008

NY TIMES 1988: "banking establishments are more dangerous than standing armies."


IDEAS & TRENDS: American Shakeout; In the Darwinian Age Of Global Finance, Only Megabanks May Survive

Published: June 26, 1988

THOMAS JEFFERSON wrote in 1799 that ''banking establishments are more dangerous than standing armies,'' and, indeed, since the earliest days of the nation, the fear of concentrated economic power has permeated public opinion and Government policy. But almost two centuries later, attitudes seem to be changing as the American financial system enters the era of big banks and financial conglomerates.

Evidence builds weekly that by the end of the century many of the country's 17,000 banks and savings institutions will have disappeared because of mergers, takeovers and failures. At the same time, the biggest banks, brokerage firms and insurance companies will have evolved into financial supermarkets, while industrial giants like General Electric Company, Ford Motor Company and Sears, Roebuck & Company extend their range of products to include checking accounts, certificates of deposit, mutual funds, life insurance policies, home equity loans, individual retirement accounts and zero-coupon bonds.

''What we are seeing is a slow but steady concentration of assets,'' said William M. Isaac, former chairman of the Federal Deposit Insurance Corporation and now head of the Secura Group, a Washington-based banking consulting firm. ''The competition for depositors' money and funds has gotten so intense that the weak are being squeezed out and in the end only the strong will remain.''

Last week, for example, the Federal Home Loan Bank Board arranged for the $6.5 billion Merabank F.S.B. of Phoenix to buy three Texas savings and loan institutions with assets of about $1 billion, part of a plan to sell off $50 billion in troubled thrifts in the Southwest to large investors. The bank board also announced that one-third of the nation's 3,118 savings and loans were unprofitable in the first quarter of 1988, posting a huge loss of $3.8 billion. Weakened by more than 500 insolvent savings and loans, many of which fell prey to high-risk real estate investments, the industry is going through a shakeout that is bound to lead to more concentration. In the end, many thrifts could require so much direct help from the Treasury that Congress could decide that it can no longer justify maintaining a separate industry and merge the savings and loan institutions into the banking system.

While the thrift industry is declining, the banks are gaining power. The Supreme Court decided this month that under the Glass-Steagall Act of 1933, which has separated banking from the securities business for more than half a century, banks could underwrite commercial paper, municipal revenue bonds and other securities. Many banking experts predict the eventual repeal of the Glass-Steagall Act and the unleashing of big banks as major players on Wall Street.

Several inescapable forces are driving this Darwinian process of consolidation. Deregulation of banking and the entry into different parts of the banking business of less-regulated American financial institutions such as brokerage firms and insurance companies have placed what was once a highly protected industry under intense competitive pressure. Adding to the pressure is the rising competition from less regulated Japanese and European banks and financial concerns, which are often several times the size of those in the United States. At the same time, telecommunications and data processing technology provide an electronic nervous system that can support these growing financial organisms, enabling them to rapidly transact business worldwide.

For the consumer, the result of all this is likely to be the emergence of a dozen or more huge financial conglomerates with offices throughout the country. These institutions will offer every type of financial service - banking, brokerage, real estate, insurance. Price competition could be cutthroat.

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IDEAS & TRENDS: American Shakeout; In the Darwinian Age Of Global Finance, Only Megabanks May Survive

Published: June 26, 1988

But not all the little banks will disappear. Many experts predict that there always will be areas of the country - the little town in Wisconsin or Illinois - where the big banks will not want to go, as well as specialized products and services that require more personal attention.

Perhaps the biggest concentration will occur on the institutional side of the banking industry, which caters to such large customers as the pension funds that are becoming the dominant investors on Wall Street. One large bank has projected that by the year 2000 there will be no more than 20 world-class banks, and perhaps only 10, of which one or two will be based in the United States. While 30 years ago seven of the world's largest banks were American, today only one - Citicorp - ranks in the top 25. Of the top 10 banks in the world, seven are Japanese. These institutions will develop the most sophisticated communications networks, allowing them to trade 24 hours a day, wielding enough capital to make multibillion-dollar transactions.

As Congress considers the regulatory and antitrust problems that will inevitably arise, the issue will not necessarily be whether Chase Manhattan can compete with Bankers Trust, but whether the American financial system is competitive with the Japanese or the West German giants.

Given a rise in bank failures, third world debt and the problems of the thrift industry, some financial experts are surprised that the public seems to be taking these shocks in stride. Many experts attribute the feeling of confidence to the Federal Government's repeated intervention and bailouts during such financial calamities as the collapse of the Continental Illinois Bank and Trust Company in 1984 or the stock collapse last October.

''In every major economic crisis since the Depression, the Government has stepped in to rescue the system,'' said Robert E. Litan, senior fellow at the Brookings Institution. ''And you can see that in the fact that we have had headline after headline on the thrift crisis, but no erosion of confidence.''

But some analysts wonder whether the public is a bit too trusting as the world enters the age of the megabank and the financial mass merchandiser. Is the move to giant financial organizations sound public policy, or should the public be re-examining the Jeffersonian warning? Will concentration allow enough diversification for a stable financial system, spreading enough of the risk?

Felix G. Rohatyn, investment banker at Lazard Freres & Company in New York, said he is worried about the power of the financial giants to extend - and retract - huge amounts of credit at will. If only a few institutions make a few bad credit decisions, the effects could be devastating and worldwide.

But Mr. Rohatyn conceded that at this point it is impossible to reverse the tide. The alternative, he said, is to step up Government policing of big banks and financial institutions. ''I don't think it is healthy to have this dramatic concentration of economic power,'' he said. ''But just like the nuclear age, you can never uninvent the atomic bomb, any more than we can now uninvent these astronomical capital markets.'

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