Wednesday, August 15, 2012

Is Your City Still too Reliant on a Handful of Banks?

One lesson from the financial crisis of 2008 and accompanying recession of 2008-2009 was that large financial firms could be dangerous to the economy at large due the possible impacts of their bankruptcy.  So have we made any headway on diversifying assets amongst more banks?

(photo: Ernie McClellan)

The concept of "too big to fail" was a defining characteristic of the panic.  It does not have a strict definition, but is often considered an institution whose bankruptcy would cause contagion amongst other institutions and increase downside tail risk to the economy at large.  The Dodd-Frank Wall Street Reform and Consumer Protection Act created the Financial Stability Oversight Council whose job it is to monitor systemic risks within the economy.

Bailouts were seen as a necessary evil during the financial crisis, when the Federal Reserve Bank of New York effectively gave a bailout while facilitating the sale of Bear Stearns to JPMorganChase.  It also provided lending to AIG, and the U.S. Treasury Department created the TARP program to facilitate loans to many banks across the United States.  The financial services company Lehman Brothers was not given a bailout, when a confluence of factors emerged including the inability to find a buyer, a lack of assets for secured loans from the Federal Reserve Bank of New York, and the lack of authority from Congress for more generalized lending programs as would later be introduced in TARP.

The chart above shows the financial crisis compared to the savings and loans crises in the late 1980s.  Many more institutions collapsed then, but in monetary terms the financial crisis of 2008 nearly equaled it (largely with one major collapse: Washington Mutual).  This shows part of the problem with the concept of 'too big to fail.'  WaMu was, by this measure, almost as impactful as the entire savings and loans crises.

Banks have become increasingly large in part due to deposit insurance and 'too big to fail' can be considered a component of that.  In the 1930s, bank failures and the capital that they excluded from the economy during their drawn out bankruptcies were a major contributing factor to the deflationary environment of the early to mid Great Depression.  After that calamity, deposits became insured through the FDIC, and depositors were no longer incentivized to closely watch the quality of their banks, but rather the quality of their banking agreements such as the size of the bank's ATM network, free checking, or another of the many perks that banks began to offer to attract customers.  Less worry was paid to asset to equity ratios or other banking metrics that define bank balance sheet quality.

In 2006, Gary Stern and Ron Feldman wrote a book titled Too Big to Fail: the Hazards of Bank Bailouts and they defined the 'too big to fail' issue as the biggest one in the banking industry.  This caused quite a stir, in part, because Gary Stern was President of the Federal Reserve Bank of Minneapolis at the time.  This could have been a timely primer on the approaching crisis, but it was largely ignored.  Frederic Mischkin, who was on the Federal Reserve Board of Governors, said that they overstated the problem, and understated the role of banking regulation at solving it.  Mischkin was quickly proved wrong.

The series of charts below show the bank holding company proportions for the twenty largest cities in the United States.  The data is pulled from the FDIC's Summary of Deposits database.  The series starts at the top left and descends and repeats the process in the second column.  The chart can be clicked on for a larger image (as all images on this site can).  The largest bank is always in dark blue, the second largest is in red, third in green, fourth in purple, fifth in lighter blue, and the remaining banks are in orange.  In every city except Saint Louis, the top five banks make up more than 50% of the deposits, and in some cities you can see it is quite skewed.

Generally, you can see JPMorganChase has huge proportions in New York and Houston; while Bank of America has huge proportions in Dallas, San Francisco, and Riverside.  Wells Fargo has a huge proportion Minneapolis, which has the most concentrated banking market.  71% of Minneapolis' deposits are divided between Wells Fargo and U.S. Bancorp, and it drops off after that.  Saint Louis, Miami, and Chicago have the most balanced banking markets.

The city pie charts mask the differences between the overall deposit sizes of the cities.  The market sizes are shown in this scattergram which also shows the correlation between their deposits and population ranks.  They are pretty correlated, with one major outlier, New York City; and a few minor outliers, San Francisco on the high side, and Dallas and Riverside on the low side.

It seems that despite the massive bailouts and all of the moral hazard issues that came to the forefront in 2008 and 2009, there has been no movements towards addressing this problem.  If there is another financial crisis, it seems that we will face the same issues of contagion and systemic risk posed by one of the the major banks potential collapse.  While the Federal Reserve has begun engaging in stress tests and are more on the lookout for systemic problems, they have not made any real attempts to reduce market share for large banks.

Anari, Ali, James Kolari and Joseph Mason.  "Bank Asset Liquidation and the Propagation of the U.S.
     Great Depression"  Journal of Money, Credit and Banking.  Columbus: Ohio State University Press. 
     Vol. 37, No. 4.  August 2005.  Journal.
Financial Stability Oversight Council.  Annual Report.  Washington D.C.: Department of Treasury.  2012. 
Mishkin, Frederic.  "How Big a Problem is Too Big to Fail?"  Journal of Economic LiteraturePittsburgh:
     American Economic Association.  Vol. 44, No. 4.  Dec. 2006.  Journal.
Stern, Gary and Ron Feldman.  Too Big to Fail: the Hazards of Bank Bailouts.  Washington: Brookings
     Institution Press.  2009.  Print.

1 comment:

  1. how easy is it to blame GOP-engineered congressional gridlock ?