by Mae Saslaw

The Big Banks

piggy bank

There probably isn’t much we can say about big banks that hasn’t already been said. From the major news outlets to your friends’ Facebook walls to countless cardboard signs, people are talking. Count as many banks as you can, and chances are you won’t run out of fingers. It’s also (still) likely that everyone you know keeps their money in one of the top ten largest banks.

Where Have All the Small Banks Gone?

Was this always the case? Not at all. Between 1980-1998, almost 8,000 small banks were acquired by larger institutions in the US. In 2010, 1,668 banks were listed as large commercial banks by the Federal Reserve, down from 3,431 in 2001. The trend toward consolidation has remained steady, and thanks to the deregulation of the past thirty years, there is no reason to believe this trend will change.

A Tale of Two Banks

Prior to the 1980s, it was much more difficult for banks to operate over more than one state, and for large banks to acquire smaller banks across state lines. The argument for deregulation and ease of interstate bank mergers is based on competition and stability. Imagine that you live in a small mining town in West Virginia, where there are two community banks. You and everyone you know deposit money into one of these, and the banks are both able to offer services such as car loans, mortgages, and savings accounts. The problem with small local banks is that they are constricted by their local deposit pool, so a large company looking to raise capital would have to find funding elsewhere—most likely a non-bank financial institution, such as an investment bank. Also, your town’s economy is based on mining, so the assets in both banks fluctuate with the productivity of one coal mine. When the mine produces less, workers can’t make as many deposits to the bank, and thus the bank can’t provide as many loans. If a very large, national financial institution purchases your community bank, the financial landscape of your town will change. The large bank’s assets are not as heavily dependent on how much money you and your neighbors have, and more assets mean that you and your neighbors can take out larger loans at better rates. So, interstate bank mergers enable banks to achieve scale and compete with non-bank financial institutions.

Merge Ahead

Regulations governing bank mergers have changed several times over the past decades as Congress has modified the minutiae of how and when banks may purchase other banks and financial institutions. Banks are subject to the same antitrust statutes that other companies must obey; bank mergers must be approved by federal regulators and the Department of Justice has the authority (PDF) to prevent mergers that may violate antitrust standards. Remaining regulations set limits on how much of the regional market share one bank may control. The limits and formulas are established on a case-by-case basis, so no single standard exists. Regulators are charged with calculating the change in market share at the time of the merger, and with predicting how the acquiring bank’s presence will shape the region’s market going forward. So, the regulator approving the acquisition of your community bank in West Virginia must look at predictive formulas and try to guess whether or not the large bank making the purchase will eventually absorb too much of your local banking economy.

One Bank to Rule Them All?

While allowing banks to exist in multiple states and markets helps banks grow and make bigger investments in local economies across the country, it’s important for regulators to ensure that one bank does not become too large or powerful. Big banks, as we know, can also fail, and failures of large banks can be most devastating in small communities where all other banks have been subsumed.