During recent times, the United States banking industry has gone through a major
restructuring by means of deregulation, technological advancement, and international
competition and expansion. This trend has also allowed companies to cross into
previously restricted arenas involving financial services thereby unifying much of the
BACKGROUND AND DEVELOPMENT
The banking industry, one of America’s largest and oldest industries, had a major
impact on the U.S. economy and the nation's money supply during the 1900’s. In 1913
the Federal Reserve Act was passed, creating the Federal Reserve Board (FRB). The
Federal Reserve was the first central U.S. bank acting as the “lender of last resort” to
banks that needed access to immediately spendable funds (Zebib, 1997, <http://cber.nlu.
edu/DBR/Z1.htm>). The establishment of the Federal Reserve was to prevent bank
panics and prevent depressions similar to those before its creation. For more detailed
information on the Federal Reserve System, refer to Appendix A.
The Fed began to adopt the attitude that “what’s good for banks is good for
America,” and began setting interest rates below market level while keeping low reserve
requirements. This resulted in a huge money supply increase of 60% leaving the big
banks extremely content (America’s Great Depression: An Overview, 1998,
<http://amatecon.com>). Although the stock market seemed to be flourishing, this period
did not last for long.
The Great Depression and the Stock Market Crash of 1929
By early 1929, the Fed started to realize that it couldn’t maintain it’s current
policies and interest rates quickly began to rise. They began putting a hold on the money
supply and for the next three years it declined by 30%. The stock market crashed and the
bank runs began to start. The amount of bank failures skyrocketed between 1929 and
1933. The number of banks dropped from 25,000 to 14,000 . During the depression the
prices of stock fell by 40% and while simultaneously 9 million savings accounts were
wiped out (Gart, 1994). After the depression there was little faith left in the banking
system and many described it as a holocaust. Depression brought cries of blame on the
government from the public who was left feeling helpless and betrayed.
The Banking Act of 1933 (The Glass-Steagall Act)
This incident along with the unethical activities of commercial banks led
Congress to the creation of the Banking Act of 1933, (or the Glass-Steagall Act). This act
helped to restore confidence and safety in the American financial system. Its main
objective was to separate investment banking from commercial banking, establishing
them as separate lines of commerce (FDIC: Important Banking Legislation, 1999).
Another important part of this legislation was the formation of the Federal Deposit
Insurance Corporation (FDIC), which guaranteed deposits up to a certain limit. For more
on the FDIC and its regulatory control, refer to Appendix B.
After 1945 and the creation of the FDIC, banks began to change their structure
and expand their operations to offer a wide variety of financial services to their
customers. By 1960, banks began referring to themselves as “full-service banks,” giving
an indication to the customer that they offered an extensive range of financial services
The Savings and Loan Failures
During the 1970’s, the government’s method of financing the Vietnam War
contributed to the failure of the Savings and Loan Industry. When faced with problems of
financing the war, the U.S. government decided to print more currency. This rapid
creation of money resulted in a period of inflation for the U.S. economy. The U.S. dollar
depreciated, literally destroying the Savings and Loan industry by running them out of
business. With interest rates flying and the value of the dollar falling, S&L’s disappeared
at an alarming rate. The rate at which the S&L’s borrowed money from the Federal
Reserve had increased to about 20% while the rate at which S&L’s were lending to
customers was 6%. With such an unattractive outlook for the customer because of
continual increases in market interest rates, consumers began withdrawing their deposits
and looking to put their money in other areas with higher rates of return. With a spread
this large, bankruptcy was inevitable for more than 5,000 S&L’s. In 1979, the number of
S&L’s dropped from 6,000 to 1,000 (Rakes, 2000).
Later in the 1970’s after the devastating banking crisis, the need for new
legislation became extremely evident to regain stability in the industry. However, this
time it would have a reverse impact, deregulating former restrictions to facilitate industry
survival and foster competition and adaptation (Bank Regulation, 1998,
cc.az.us/pratt/bank/mandb3.html>). Deregulation began to be the trend of the latter part
of the twentieth century, and eventually banks began to expand into the foreign
marketplace starting the globalization of the industry.
The concept of deregulation began in the 1980’s as an opposing force to strict
regulatory developments within the banking industry.
“The OCC (Office of the Comptroller of the Currency) was the first to lobby Congress for
deregulation and did so most actively while the FDIC (Federal Depositor’s Insurance Corporation)
and FRB (Federal Reserve Board) were less sanguine about some of the proposals”(White, 1991).
By the mid 1980’s however, all three of these agencies were allowing banks to enter new
product areas through their individual agency’s regulations. Further explanation about
the powers and structure of these agencies can be found in Appendix B. Moreover, with
the introduction of globalization during the late 1980’s, these regulatory agencies saw it
necessary to repeal some of the laws passed earlier in the century. These laws hindered
our financial industry from staying competitive in the global marketplace. With the
advancement of globalization in the marketplace during the 1990’s, these agencies saw it
even more necessary to further deregulate the banking industry. This goal was recently
accomplished through the passing of the Gramm-Leach Bliley Act of 1999.
With the passing of the Riegle-Neal Act of 1994 and the Gramm-Leach Bliley
Act of 1999, legislation had finally repealed the last remnants of the Glass-Steagall Act
of 1933. This act was developed in light of the Great Depression and restricted our
banking industry for more than half a century.
“Although Glass-Steagall has been chipped away at over the last 20 years, it has until
now survived almost annual onslaught by legislators. In the end, it became increasingly clear that
the legal divisions in the financial services industry caused by Glass-Steagall were a hindrance to
America’s retaining its leadership in global finance” (Banking Deregulation, 1999,
In other words, the Glass-Steagall Act was finally done away with following the passage
of the Gramm-Leach Bliley Act of 1999. The revisions made in the Riegle-Neal Act
allowed “Bank Holding Companies to acquire banks in any state and interstate mergers
between adequately capitalized and managed banks, subject to concentration limits, and
state laws ” (FDIC, 1999). Moreover, the revisions under the Gramm Leach Bliley Act
allowed affiliations between banks, insurance companies, and investment banks. More
information on these and other acts that have affected the history of the banking industry
and chipped away at the Glass Steagall Act can be found in Appendix C.
Much of the deregulation within the banking industry has occurred during the
1990’s. It is noted that one of the major driving forces behind deregulation, was the
pressure and influence that the banking industry, securities, and insurance industries had
on legislation. These three influential financial industries increased political contributions
throughout the 1990’s, as compared with other industries such as the automotive, which
has decreased donations. “In 1997, GMC stopped making such contributions because it
said there was no way to know how they were being spent. Now, Ford Motor Company
and Daimler-Chrysler AG have followed suit” (Auto.com, 1999, <http://auto.com>).
These contributions put pressure on politicians to pass deregulation acts that allowed
industries to compete globally. This is portrayed through the charts on the next page that
show the contributions of the banking, securities, and insurance industries during the
middle to late 1990’s.
Top Left: Banking Industry
Top Right: Securities Industry
Bottom Left: Insurance Industry
Interest Group Perspectives
While all of the financial industries mentioned above have the common goal of
increasing their chance of success in global finance, some of these interest groups see
things slightly differently. First, there were the banks, that “ were the leading proponents
of legislation that would permitted them to offer checking accounts, insurance, and
investment banking under one roof. Banks also favored oversight from federal banking
regulators, specifically the FRB in regards to financial supermarkets. Rather than
complying with 50 different sets of rules, banks wanted an overall federal precedent”
(Banking Deregulation, 1999, <http://opensecrets.org/news/index.html>).
Next, there was the state regulated insurance industry that strongly supported
deregulation but wanted a level authority with banks. “Because legislation made it easier
for lenders to sell insurance, agents lobbied for provisions that required banks to abide by
the same state rules the insurance industry would be subject to. Insurance agents feared
banks would gain a competitive advantage if federal authorities oversaw the new
industry” (Banking Deregulation, 1999, <http://opensecrets.org/news/index.html>).
Finally, securities firms lobbied for legislation that allowed the SEC (Securities &
Exchange Commission) to supervise banks that sell stocks. “Banks, however wanted
federal banking authorities to regulate the new financial conglomerates. Lawmakers
were at odds on the two proposals… but House Members finally agreed to terms that
gave the Federal Reserve Board and SEC dominant roles in the new system” (Banking
Deregulation, 1999, <http://opensecrets.org/news/index.html>). This was all
accomplished after years of debate with the Gramm Leach Bliley Act of 1999.
Effects of Deregulation
Now that it is clear how and why deregulation has taken place, it is necessary to
discuss the effects that it is having in both national and international environments. The
emergence of deregulation has provided for profound results upon the structure and
capabilities of the financial industry. With the passing of recent acts relaxing restrictions
on the financial industry, we now see… “Local banks becoming national banks, and
national banks becoming global banks”(Jayaratne & Strahan, 1997). In addition, we are
beginning to see financial institutions that offer a wide variety of financial services.
Global banks are entering the United States and American banks are entering the global
market. With the increase of deregulation, globalization, and technology, there is bound
to be many more profound changes within the financial industry.
Globalization is the process of moving U.S. based financial institutions into
foreign markets; this term also applies to the placement of foreign businesses into the
United States. Globalization is important to the banking industry in regards to customer
service for two reasons:
1. Globalization enables customers to internationally access their banks through
Internet resources. It also provides financial services to more people across
the globe, thus expanding their customer base.
2. Globalization offers a multitude of financial services. Suppose a bank in the
United States merges with an investment firm in the United Kingdom. This
merger gives the people of the United Kingdom access to American banking
services in return. People of the United States are allocated resources to the
UK investment firm.
The Growth of Globalization
In 1960 there were eight banks from the United States in foreign markets. By the
late 1980’s, approximately150 U.S. banks had close to 900 foreign branches (Microsoft
Encarta, 1998). The largest increase of foreign banks in the United States occurred
during the late 1970’s and 1980’s. Most of these banks have a commercial orientation
but some have residential interests.
Legislation and Globalization
In 1978 Congress passed the International Banking Act; this act imposed
restrictions on foreign banks based in the United States. This gave U.S. banks a leading
edge in domestic markets. Also, the North American Free Trade Agreement is largely
responsible for the flourishing globalization of financial services. This Agreement
recognizes that all firms providing some kind of financial service should have equal
access to customers in all participant countries (White, 1996). For a further explanation
of NAFTA, refer to Appendix D.
WTO (World Trade Organization)
Along with NAFTA and the various acts in the US that have affected deregulation
and globalization, there have been some events which have significantly impacted
deregulation on a direct global scale. One of these important events was the creation of
the WTO. “On a global basis, substantial deregulation was achieved on December 12,
1997 when 102 World Trade Organization Members reached a multilateral agreement
which established a set of rules with respect to financial services” (US Industry and Trade
Outlook, 1999). These rules created new opportunities for financial service firms to
operate globally. They
“Created the right to establish and operate competitively, provided the same access to domestic
markets as is accorded to domestic companies, required treatment on the same basis as domestic
companies, removed restrictions on cross-border services, and granted majority ownership by
foreign entities” (US Industry and Trade Outlook, 1999).
Furthermore, organizations such as the WTO have put pressure on countries that didn’t
want to open up their markets to the world, to enter the global marketplace and diversify
the global economy.
Incentives of Globalization
When a bank goes into another country it automatically gains a number of
advantages over domestic banks. An international bank gains a significant number of
new customers as soon as it opens its doors on foreign soil. Most successful financial
institutions follow their customers faithfully. Every year, more and more clients expand
their business with overseas customers. Successful financial institutions realize the
importance of providing services to support their organizations, domestically and
internationally (US Industrial Trade Outlook, 1999). More customers and a faithful
clientele are going to give the bank a greater opportunity for success among enhanced
A growing number of the countries that are emerging in the international
marketplace are realizing the benefits that financial institutions receive (White, 1996).
This competition can be beneficial to the customer by lowering fees or any other means
by which financial institutions can contend with neighboring financial players.
Many technological changes are taking place in the business world today. These
advances allow businesses to re-evaluate their marketing and production strategies.
Many different industries are looking to the Internet as a major way of developing and
advertising goods and services. Technology and competition within the financial service
industry makes globalization a must. With the development of Internet technologies,
globalization is increasing at a rapid rate. In the financial services industry, it is
customary for companies to follow their clients internationally. With the huge impact of
Internet banking, it is now easier and more efficient for financial institutions to provide
all financial services to their customers across the globe. As a result of utilizing
technological advances, many institutions have climbed to the top of their industries.
Some of these leaders can be found in Appendix E.
The Internet enables many industries, including the financial industry to become
available on an international scale. Now, with electronic banking available, many banks
operate overseas as well as in the United States. Many large-scale financial institutions
have a common goal, which is to offer a wide variety of financial services on a global
level. Not only must financial firms determine how to survive in the domestic market,
but also in the rapidly changing global market (Deloitte Touche Tohmatsu Financial
Services www.deloitte.com). Due to the rapid increase in technology, globalization will
continue as the trend. This significantly affects the financial services industry. Banks are
merging with other financial institutions such as investment banking and insurance
companies, in order to provide more services, and increase international competition. Up
to 50% of bank branches are expected to close in the next ten years due to technological
advances and globalization. In the past decade, the number of American commercial
banks has declined from 14,417 to 9,941 (Fast Facts, 1999 <http://www.dbm.com
/trends/facts/facts9608v1/strange.html>). Globalization in the financial services industry
is the cause of mergers and consolidations. This causes the number of actual banks to
decrease. It looks as though this trend will continue to expand and will play a large role
in how financial service companies compete and survive in the global market. “In
addition to the other major trends of consolidation and globalization, technology is
helping to transform banking and the financial services industry” (Lee M. Kunkel).
As has been previously stated, the trend is now towards a financial services
company, rather than a “traditional” bank. These financial services companies offer
different products and services to their corporate and individual customers in order to
both attract and retain these customers. It is important to realize that many of the services
being offered today have a great deal to do with technology and a paperless society.
Current Revenue Sources
With the trend towards financial services that are described later in the analysis,
banks are finding themselves in a relatively new position regarding sources of income.
Banks have realized that for every service they offer, they can charge customers a fee for
this, and in recent years this has become a major source of income for financial
institutions. The fees banks make money on include some of the following:
ATM Fees Late Fees
NSF Fees Consulting Fees
Interest Fees Item Copy Fees
General Service Fees Legal Fees
Teller Assistance Fees
Gone are the days when banks relied solely on interest income to support the bank. Now,
there is a major focus on lucrative fee income, which has no foreseeable end.
One of the most obvious and arguably one of the most lucrative services offered is
credit cards. These cards have opened many new doors in the financial services industry.
Credit cards are being offered to consumers by more and more companies, and are
accepted virtually anywhere that one would want to shop. The current world economy is
definitely being shaped by the credit card frenzy. More and more, our society is moving
towards a paperless society, and financial services companies that offer these short term
loans to consumers will prosper in years to come.
The popularity of credit cards has given rise to a similar service known as “pre-
paid” cards and debit cards, also known as “plastic cash.” These cards operate similar to
credit cards, except these do not have the strings attached such as interest and other
typical constraints that a credit card would. Financial services companies are accepting
this money in trust for many other companies, but it is most often seen in the gasoline or
other retail-type industries. By moving to pre-paid and debit cards, a consumer has the
ability to “carry” large amounts of cash without actually carrying the cash, proving to be
a major security benefit (Consumer Products and Services, 2000
Hand in hand with credit cards, pre-paid cards, and debit cards comes the
technology needed to utilize these cards. Many different companies are branching out
into different technological fields such as ATM’s, ATM networks, the Internet, and
online banking. All of these fields provide customers with convenient, “real-time” access
to any and all of their account information. In addition, the individual institutions benefit
from this trend as well, because the ATM’s and other services generate a large amount of
fee-based revenue for the bank. It is quite safe to assume that if a company does not join
the e-banking industry, their survivability in the market will be low. Obviously, the
economy is being driven by the Internet and other electronically based industries, as seen
in the booming technology stocks today.
Another major service being provided to consumers is personalized financial
planning. In this arena, companies are offering expertise in the financial world to the
“everyday” customer regarding investments, and what the future may hold for their
money. Many times customers feel overwhelmed by the vastness of the banking
industry. If a company is established and willing to aid them in understanding and using
the industry to the best of their abilities, the marketability of that company goes up.
Nowadays, customers feel inundated by the number of options available to them, and are
concerned about using their money in ways they may not understand. Large firms that
take the time to explain options to their customers could actually end up being better
suited for the average retiree’s long-term financial needs. (Consumer Products and
Services, 2000 <http://www.financeservices.minin…ss/financeservices/library/
In addition to planning for a persons financial needs, firms have begun to offer
personalized investment and retirement planning for their everyday customers (GE
Financial Assurance Products, 2000 <http://wwwgefinancial.com/products>). These
services are quite helpful to the would-be investor who may be unsure of what areas
would be best suited for their personal investing style. In addition to the investor’s
uncertainty, there is much doubt as to the longevity of the Social Security program
making way for more demand in regards to a solid retirement plan. Because of the state
of the Social Security programs, and the diversity of investment possibilities, sound
personalized advice is required to attract the investor who may not know what they want
to invest in. The ultimate result of this trend has been that people who may not have
invested on their own in the past, have begun to invest in their futures with the aid of a
financial services company. An example of retirement planning would be investments in
mutual funds. More information involving this activity can be found in Appendix F.
Another service that banks have traditionally offered, but must continue to push
aggressively is the organization’s lending operations. The notion of lending one
customers’ money to another customer in order to make money for the bank is one of
great importance. Although today, fees account for a large part of a bank’s income,
customers like to be able to rely on their financial institution in order to help them obtain
the things in life that they may not be able to do on their own. These may include college
education loans, auto loans, mortgages, and many other types of personal loans.
Corporate Financial Services
In addition to services offered to the personal customer, the financial services
companies must offer packages to their corporate customers who keep larger amounts on
deposit with the institution, and have the ability to generate more fee revenue for the
bank. Some of the financial services offered to individuals could also be applied to the
corporate customer as well. For example, many institutions will offer their retirement
planning and management services to a corporation in order to manage the company’s
401(k) plan for all of its employees. The financial institution can also assist in providing
capital for the business, or loans for new equipment, based on corporate needs.
Another emerging service in the corporate arena is that of Accounts Receivable
purchasing. In this transaction, a financial services company will purchase the
outstanding balances owed to the corporation, and the corporation will receive the cash
they might need for other functions within the business. By doing this, the corporation
no longer has to worry about the possibility that one of their accounts will default. This
is a major trend in corporate America today. Many companies are outsourcing whenever
and wherever they can. Accounts receivable purchasing is simply a variation of
outsourcing. (Business Products and Services, 2000 <http://www.financeservices.minin
Another big trend of today is the merging of banks and other financial institutions.
The main reason for this is so banks can offer their customers a wider variety of financial
services. Banks of today are straying away from being just a bank, and leaning towards
becoming a full financial service company. These companies not only offer the services
of a bank, but the services of an investment firm, a credit firm, and an insurance company
along with numerous other services. Mergers have become a way of life in banking;
recently the Union Bank of Switzerland and the Swiss Bank Corporation merged to
become the second largest bank in the world for now (Price Waterhouse Coopers, 1999,
<http:// www.pwcglobal.com/extweb/industry.nsf/docid/>). According to the Industrial
Bank of Japan Ltd., the five main principles of consolidation are:
1. To offer a wide range of the highest quality financial services to customers.
2. To maximize shareholders’ value and earn the trust of the society at large.
3. To offer attractive and rewarding job opportunities for employees.
4. To fully utilize the advantages and strengths of each bank and maximize the
benefit of the consolidation through cost reduction.
5. To create a new corporate climate and culture.
(IBJ, 1999, <http://www.ibjbank.co.jp/English/faq.html>)
A major effect of consolidation is intensified competition among banks. During
these times, banks are not only in competition for customers, but also for the dwindling
number of smaller financial institutions. This increased competition has caused banks to
expand their market share, increase efficiency, and offer a wide variety of financial
services. This idea of “increased efficiency” has generated an “…acquire or be
acquired…” mentality in the banking industry (S&P).
Mergers also help the consumers in some aspects as well. For instance, banks
which lower their operating costs through a merger may lower their rates or increase their
services. Another main purpose of mergers is so a bank can afford more expensive
technologies that are needed to provide more services that a customer has come to expect.
Even though consolidation and mergers play a big role in the industry today,
studies have shown that merger activity is decreasing. In 1998, 557 FDIC-insured
commercial banks were acquired through mergers. This number was down from 599 in
1997, and 606 in 1995. The reason for this decrease in consolidation could be because of
the cost of such activity. In 1995, the average bank was acquired for 1.7 to 1.9 times its
book value. However, recently a price of three times book value has not been uncommon.
One must look at the laws of supply and demand when examining the recent
consolidation activity in the financial services industry. As the supply of available
merger partners declines, acquisition prices will continue to rise, making mergers harder
to come by (Standard and Poor’s, 1999).
Over the course of history, banks and the entire financial services industry have
gone through many changes. Much has happened over the last twenty years deregulation
has taken place, technology has become more advanced, and globalizations within the
industry has begun. There is no evidence that shows an end to these trends, especially
with technological advances taking place every day. All of the deregulation has allowed
banks to take on a whole different meaning. No longer do banks just accept deposits and
make loans. These new “financial service companies” offer a wide range of services to
their customers including credit cards, technological services such as ATM’s and on-line
banking, financial planning, retirement/investment planning, lending, and corporate
financial services. Deregulation and technology have also allowed financial service
companies to enter the global market by way of mergers and electronic means. Currently
globalization and technology are two huge trends in the industry. Companies are
expanding across the globe to offer a wider variety of financial services and expand their
customer base. Technology is allowing these companies to do so. As we approach the
twenty-first century, these trends will continue to impact the industry. Financial service
companies will continue to focus on customer service and adapt to their changing
expectations and technologies.