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Statements to Congress.



I appreciate this opportunity to present the views of the Federal Reserve Board on issues raised by various emerging electronic payment technologies that go under such names as "digital cash" or "electronic money." Spurred by recent advances in computing computing - computer , communications, and cryptography, this nascent nascent /nas·cent/ (nas´ent) (na´sent)
1. being born; just coming into existence.

2. just liberated from a chemical combination, and hence more reactive because uncombined.
 industry holds the promise of improving the efficiency of the payment system, particularly for consumers.

While the potential for exciting developments in this field is certainly there, we should all keep the latest round of innovations in historical perspective. First, the concept of "electronic money" is not new; electronic transfer of bank balances has been with us for years. Indeed, some of the new proposals simply make available to consumers and smaller businesses capabilities that large corporations and banks have had for many years. Second, no one knows how this industry will evolve--either qualitatively or quantitatively. Some of us, for example, can recall predictions made a generation ago that the United States United States, officially United States of America, republic (2005 est. pop. 295,734,000), 3,539,227 sq mi (9,166,598 sq km), North America. The United States is the world's third largest country in population and the fourth largest country in area.  would soon be a cashless, checkless Check´less

a. 1. That can not be checked or restrained.
 society.

This last point reminds us that, at present, we do not know which, if any, of the many potential electronic innovations will succeed commercially. In this testimony, I will concentrate on stored-value cards A smart card that is "loaded" with cash. See smart card.  and other types of so-called so-called
adj.
1. Commonly called: "new buildings ... in so-called modern style" Graham Greene.

2.
 "electronic cash" because they seem to raise the most challenging public policy issues. In particular, depending on their design, they could amount to a new financial instrument--an electronic version of privately issued currency. But even the concept of private currency is not entirely new. Travelers checks are, of course, familiar to everyone. And in the nineteenth century the United States had considerable experience--not always happy--with private bank notes. But widespread use of private electronic currency would certainly raise a number of policy questions.

On behalf of the entire Board, I want to state clearly at the outset that the Federal Reserve has not the slightest desire to inhibit inhibit /in·hib·it/ (in-hib´it) to retard, arrest, or restrain.

in·hib·it
v.
1. To hold back; restrain.

2.
 the evolution of this emerging industry by regulation, or to constrain con·strain  
tr.v. con·strained, con·strain·ing, con·strains
1. To compel by physical, moral, or circumstantial force; oblige: felt constrained to object. See Synonyms at force.

2.
 its growth. On the contrary, the Board has encouraged, and will continue to encourage, innovations in payments technologies that benefit consumers and businesses. I am here today to raise questions and to bring some issues to the attention of the Congress, not to provide answers. Given the considerable uncertainties surrounding sur·round  
tr.v. sur·round·ed, sur·round·ing, sur·rounds
1. To extend on all sides of simultaneously; encircle.

2. To enclose or confine on all sides so as to bar escape or outside communication.

n.
 the design and ultimate usage of these products, it is far too soon for answers.

Nonetheless, it is not too early to begin thinking about a number of interesting and complex issues that may be raised by electronic currency. These issues include the impact on federal revenues, the legal and financial structure for these products, risks to participants, the application of consumer protection and anti-money laundering Anti-money laundering ("AML") is a term mainly used in the financial and legal industries to describe the legal controls that require financial institutions and other regulated entities to prevent or report money laundering activities.  laws, and some issues related to monetary policy. Some of these issues may need to be addressed by the Federal Reserve and other regulatory agencies regulatory agency

Independent government commission charged by the legislature with setting and enforcing standards for specific industries in the private sector. The concept was invented by the U.S.
 and some by the Congress. Some may need prompt attention, while others can wait. The present is, we believe, an appropriate time for public debate and discussion but a poor time for regulation and legislation.

Seigniorage seigniorage

Charge over and above the expenses of coinage that is deducted from the bullion brought to a mint to be coined. From early times, coinage was the prerogative of kings, who prescribed the amount they were to receive as seigniorage.
 and the Budget

Let me start with a potential revenue issue that will arise if the stored-value industry grows large. The federal government currently earns substantial revenue from what is sometimes referred to as "seigniorage" on its currency issue. In effect, holders of the roughly $400 billion of U.S. currency are lending interest-free interest-free adjlibre de interés

interest-free adjsans intérêt

interest-free interest adj, adv
 to the government. In 1994, for example, the Federal Reserve turned over about $20 billion of its earnings to the Treasury, most of which was derived from seigniorage on Federal Reserve notes.

Should some U.S. currency get replaced by stored-value products--which are private monies--this source of government revenue would decline. Indeed, one of the major economic motives for institutions to issue prepaid pre·pay  
tr.v. pre·paid, pre·pay·ing, pre·pays
To pay or pay for beforehand.



pre·payment n.
 payment instruments is to capture part of this seigniorage, just as issuers of travelers checks do now. Because the demand for stored-value products and the degree to which they will substitute for U.S. currency is totally unknown at present, the loss of seigniorage revenue is impossible to estimate. It is likely to be small. But it is something that the Congress should keep an eye on. We should not, by the way, jump to the conclusion that the government's lost seigniorage will go to the companies that issue stored value--though that will probably happen at first. It may be technically feasible to pay interest on stored-value products. To the extent that competition forces issuers of these products to pay interest, the lost seigniorage will accrue To increase; to augment; to come to by way of increase; to be added as an increase, profit, or damage. Acquired; falling due; made or executed; matured; occurred; received; vested; was created; was incurred.  to holders rather than to issuers.

This discussion raises the question of whether the federal government should issue electronic currency in some form. (In posing this question, I refer to general-purpose gen·er·al-pur·pose
adj.
Designed for or suitable to more than one use; broadly useful: a general-purpose loan.


general-purpose
Adjective
, stored-value cards, not to special-purpose instruments such as government benefit cards, which, in our view, do not raise major issues.) Government-issued electronic currency would probably stem seigniorage losses and provide a riskless Adj. 1. riskless - thought to be devoid of risk
risk-free, unhazardous

safe - free from danger or the risk of harm; "a safe trip"; "you will be safe here"; "a safe place"; "a safe bet"
 electronic payment product to consumers. In addition, should the industry turn out to be a "natural monopoly In economics, the term monopoly is used to refer to two different things. This has been a source of some ambiguity in discussions of "natural monopoly".[1] The two definitions follow:
  • An industry is said to be a natural monopoly
" dominated by a single provider, either regulation or government provision of electronic money might be an appropriate response.

But such a conclusion seems quite premature. And the availability of alternative payment mechanisms would mitigate mit·i·gate
v.
To moderate in force or intensity.



miti·gation n.
 any potential exercise of market power. Further, government issuance might preempt pre·empt or pre-empt  
v. pre·empt·ed, pre·empt·ing, pre·empts

v.tr.
1. To appropriate, seize, or take for oneself before others. See Synonyms at appropriate.

2.
a.
 private-sector developments and stifle important innovations. Finally, the government's entry into this new and risky business might prove unsuccessful, costing the taxpayer money. So, while we would not rule out an official electronic currency product in the future, the Federal Reserve would urge caution.

Legal and Regulatory Structures

One area that may need prompt attention from both policymakers and the industry is clarification of the legal and regulatory structure that will govern electronic money products. In this case, failure of the government to act may, ironically i·ron·ic   also i·ron·i·cal
adj.
1. Characterized by or constituting irony.

2. Given to the use of irony. See Synonyms at sarcastic.

3.
, impede im·pede  
tr.v. im·ped·ed, im·ped·ing, im·pedes
To retard or obstruct the progress of. See Synonyms at hinder1.



[Latin imped
 rather than facilitate private-sector developments.

As with other payment mechanisms, issuers and holders of electronic currency take on some degree of ongoing credit, liquidity, and operational risks. The risk to a consumer using a stored-value card for small "convenience" purchases may be inconsequential in·con·se·quen·tial  
adj.
1. Lacking importance.

2. Not following from premises or evidence; illogical.

n.
A triviality.
. But such risks can become significant when larger amounts of money become involved--for example, when merchants and banks accumulate Accumulate

Broker/analyst recommendation that could mean slightly different things depending on the broker/analyst. In general, it means to increase the number of shares of a particular security over the near term, but not to liquidate other parts of the portfolio to buy a security
 and exchange significant amounts of stored-value obligations during the business day.

Risks to participants arise from a number of sources. Cards might malfunction mal·func·tion
v.
1. To fail to function.

2. To function improperly.

n.
1. Failure to function.

2. Faulty or abnormal functioning.
 or be counterfeited. Issuers might invest the funds they receive in exchange for card balances in risky assets Risky asset

An asset whose future return is uncertain.
 so as to increase their earnings. But riskier investments can turn sour, possibly impairing the issuer's ability to redeem redeem v. to buy back, as when an owner who had mortgaged his/her real property pays off the debt. The term also refers to paying the amount due and all charges after a foreclosure (due to failure to make payments when due) has begun.  stored-value balances at par and imposing losses on consumers and other holders (if the obligations are not insured). Further, the clearing and settlement mechanisms for stored-value cards and similar products--if they become widely used--could generate significant credit and other settlement risks.

We believe that both the industry and the government should focus on answering several mundane (jargon) mundane - Someone outside some group that is implicit from the context, such as the computer industry or science fiction fandom. The implication is that those in the group are special and those outside are just ordinary.  questions that seem to be receiving little attention amid the continuing publicity about these products. Some examples follow:

* Whose monetary liability is the particular form of electronic money?

* If an issuer were to become bankrupt BANKRUPT. A person who has done, or suffered some act to be done, which is by law declared an act of bankruptcy; in such case he may be declared a bankrupt.
     2. It is proper to notice that there is much difference between a bankrupt and an insolvent.
 or insolvent INSOLVENT. This word has several meanings. It signifies a person whose estate is not sufficient to pay his debts. Civ. Code of Louisiana, art. 1980.. A person is also said to be insolvent, who is under a present inability to answer, in the ordinary course of business, the responsibility , what would be the status of the claim represented by a balance on a card or other device?

* In such a situation, when and how would funds be made available to the holder?

* Who is responsible for the clearing and settlement mechanism?

Developers of these products have discussed a variety of possible options, but the industry does not appear to be converging con·verge  
v. con·verged, con·verg·ing, con·verg·es

v.intr.
1.
a. To tend toward or approach an intersecting point: lines that converge.

b.
 on one or more models that would be transparent and readily understood by users. In addition, there is no specialized spe·cial·ize  
v. spe·cial·ized, spe·cial·iz·ing, spe·cial·iz·es

v.intr.
1. To pursue a special activity, occupation, or field of study.

2.
 legal framework for stored-value transactions as there is for checks and other common retail payment mechanisms. For example, state or federal law specifies when an obligation is discharged by cash, check, or wire transfer--but not if payment is by stored value.

From the Federal Reserve's perspective, new and exciting technological developments in payments mechanisms should not overshadow o·ver·shad·ow  
tr.v. o·ver·shad·owed, o·ver·shad·ow·ing, o·ver·shad·ows
1. To cast a shadow over; darken or obscure.

2. To make insignificant by comparison; dominate.
 the conventional and ongoing need for clear and soundly based legal and financial arrangements. It is essential that developers and issuers clarify the rights, obligations, and risks borne by consumers, merchants, and other participants in new systems before these products are widely introduced.

The need to attract and retain customers will naturally drive developers and issuers of electronic money products toward investment policies and operational controls that make their products useful and safe. So, to some extent, the market will be self-policing Self-policing, a form of Self-Regulation, is the process whereby an organization is asked, or volunteers, to monitor its own adherence to legal, ethical, or safety standards, rather than have an outside, independent agency such as a governmental entity monitor and enforce those . Nevertheless, it could be costly and difficult for consumers and merchants to monitor and evaluate the safety of electronic money products, especially given their technological complexity. So the government is likely to become involved as well.

To guard against financial instability instability /in·sta·bil·i·ty/ (-stah-bil´i-te) lack of steadiness or stability.

detrusor instability
 and to protect individual consumers, the government has, in the past, mandated a range of regulatory measures for private financial instruments. Three principal approaches are used.

1. Disclosure and surveillance. In the case of mutual funds, securities laws generally require disclosures about asset holdings. Audits and examinations of investment funds Noun 1. investment funds - money that is invested with an expectation of profit
investment

assets - anything of material value or usefulness that is owned by a person or company
 also help ensure that reported assets are actually held.

2. Portfolio restrictions. In some cases, standards or restrictions on portfolios help limit the riskiness of the assets. Money market mutual funds, travelers checks in some states, and, historically, privately issued bank notes are familiar examples.

3. Government insurance. Balances in depository institutions Depository institution

A financial institution that obtains its funds mainly through deposits from the public. This includes commercial banks, savings and loan associations, savings banks and credit unions.
, of course, receive the most comprehensive protection mechanism available: federal deposit insurance. At some point, though certainly not now, the Congress will have to decide which, if any, of these protection mechanisms should be applied to stored-value products.

For example, if stored-value obligations of banks are treated as insured deposits--which is, by the way, another legal question that needs to be cleared up--then credit risk is effectively transferred from consumers to the government. In fact, the European central banks European Central Bank (ECB)

Bank created to monitor the monetary policy of the countries that have converted to the Euro from their local currencies. The original 11 countries are: Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Portugal,
 have gone so far as to recommend that only banking institutions be permitted to issue prepaid cards, presumably pre·sum·a·ble  
adj.
That can be presumed or taken for granted; reasonable as a supposition: presumable causes of the disaster.
 because that gives such cards the same degree of protection and financial oversight
For Oversight in Wikipedia, see Wikipedia:Oversight.


Oversight may refer to:
  • Government regulation — The role of an official authority in regulating a separate authority.
 as traditional bank deposits.

The Federal Reserve Board has not viewed such a restrictive policy as appropriate. But the regulatory structure for electronic money products does merit further analysis. At a minimum, we believe that issuers of stored-value cards and similar products should clearly disclose the various risks that holders bear, including their coverage, if any, by deposit insurance.

Consumer Protection and Law Enforcement

The question of whether and how to apply the Electronic Fund Transfer Act (EFTA EFTA: see European Free Trade Association. ) and the Federal Reserve's Regulation E to these products has received considerable attention from industry participants, at the Federal Reserve, and in the Congress. Among other things, Regulation E limits consumers' liability for unauthorized electronic withdrawals from their accounts, provides procedures for resolving errors, and requires institutions to provide disclosures, terminal receipts, and account statements. Uncertainty regarding the application of Regulation E may be holding back the development of the industry, and resolving this question would help clarify some of the major risks that consumers may bear.

H.R.1858 would exempt all stored-value cards and a potentially wide range of other products, including transactions through the Internet Internet

Publicly accessible computer network connecting many smaller networks from around the world. It grew out of a U.S. Defense Department program called ARPANET (Advanced Research Projects Agency Network), established in 1969 with connections between computers at the
, from the EFTA and Regulation E. The industry seems worried that without such an exemption, the Federal Reserve will apply Regulation E in a heavy-handed heav·y-hand·ed
adj.
1. Clumsy; awkward.

2. Tactless; indiscreet.

3. Oppressive; harsh.



heav
 manner. On behalf of the Board, I would like to assure industry participants and this committee that we have no such intention. The Board recognizes that some of the requirements of Regulation E should not be applied to certain of these new payment products. For example, it makes little sense to require either printed receipts at ordinary vending machines vending machine, coin-operated, automatic device for selling goods. Many vending machines are capable of making change, and some of the more sophisticated ones accept paper money or credit cards.  or periodic statements detailing small transactions.

It seems premature, however, to legislate To enact laws or pass resolutions by the lawmaking process, in contrast to law that is derived from principles espoused by courts in decisions.  a blanket exemption from the EFTA without first exploring some of the basic issues raised by these new payments mechanisms. Disclosure policy is a good example. If a consumer who loses a stored-value card with a balance of several hundred dollars is not entitled en·ti·tle  
tr.v. en·ti·tled, en·ti·tling, en·ti·tles
1. To give a name or title to.

2. To furnish with a right or claim to something:
 to a refund TO REFUND. To pay back by the party who has received it, to the party who has paid it, money which ought not to have been paid.
     2. On a deficiency of assets, executors and administrators cum testamento annexo, are entitled to have refunded to them legacies
, he or she should know this fact when the card is purchased. In this case at least, Regulation E requirements could be beneficial at minimal additional expense. The Federal Reserve would like to develop, and then put out for public comment, proposals for applying parts of the EFTA, such as appropriate disclosures, to stored-value cards--and for exempting them from the remainder. We would hope to be able to accomplish this within a few months.

Another issue related to consumer protection is privacy. While physical cash leaves no audit trail, many electronic currency products would. Such a trail may be desirable for certain purposes. But consumers would almost certainly be concerned if each purchase from a vending machine was recorded for possible reporting to marketers and others. Privacy is not a traditional Federal Reserve issue, but we do think it should be of concern to members of the Congress.

The mention of privacy leads naturally to some potential, future law-enforcement concerns. While we would caution against establishing restrictive rules that could stifle innovation, the eventual opportunities for money laundering The process of taking the proceeds of criminal activity and making them appear legal.

Laundering allows criminals to transform illegally obtained gain into seemingly legitimate funds.
 using electronic products may be serious. At present, the menu of new products proposed for distribution in the United States holds little appeal for illicit Not permitted or allowed; prohibited; unlawful; as an illicit trade; illicit intercourse.


ILLICIT. What is unlawful what is forbidden by the law. Vide Unlawful.
     2.
 activities because of their relatively low balance limits, the potential audit trail, and their limited acceptability as a means of payment--at least in the near term. In fact, most of the proposed stored-value products are not designed to circulate cir·cu·late  
v. cir·cu·lat·ed, cir·cu·lat·ing, cir·cu·lates

v.intr.
1. To move in or flow through a circle or circuit: blood circulating through the body.

2.
 freely like currency and thus should be of limited concern to law-enforcement authorities. Over the longer term, however, it seems possible that electronic mechanisms that can hold large balances and make large untraceable transfers over communications networks The transmission channels interconnecting all client and server stations as well as all supporting hardware and software.  could become attractive vehicles for money laundering and other illicit activities--especially if they are widely used and bypass the banking system. Existing anti-money laundering regulations may then need modification.

A related side issue is the possibility that nonbank non·bank  
adj.
Of, relating to, or done by a business or an institution that is not a bank but performs similar services.
 entities could offer banking services illegally over the Internet. Using the term "bank" to market banking services without an appropriate license is generally a violation of federal or state laws. But new electronic technologies may challenge both traditional definitions of "banking services" and the ability to enforce existing laws. At some point, therefore, the Congress and the state legislatures A state legislature may refer to a legislative branch or body of a political subdivision in a federal system.

The following legislatures exist in the following political subdivisions:
 may want to review the basic legal concepts that define banking and their methods for preventing fraud and unlicensed banking activity. Because electronic messages show little respect for national borders, these issues will likely require the coordinated attention of the banking authorities in various countries.

Monetary Policy Issues

Finally, let me say a few words about monetary policy. Concerns have been expressed that introducing what amounts to a form of private currency might damage the Federal Reserve's control of the money supply and lead to inflationary in·fla·tion·ar·y  
adj.
Of, associated with, or tending to cause inflation: inflationary prices; inflationary policies.

Adj. 1.
 pressures. I can assure you that this is most unlikely. The Federal Reserve currently issues or withdraws currency passively to meet demand, adjusting open market operations Open Market Operations

The buying and selling of government securities in the open market in order to expand or contract the amount of money in the banking system. Purchases inject money into the banking system and stimulate growth while sales of securities do the opposite.
 accordingly to keep monetary and credit conditions on track. We would presumably continue to do this if private parties began issuing electronic currency that reduced the demand for paper currency.

In any event, electronic currency, if it grows large, will be only one of several changes in financial markets in the years ahead. Some of these may change the details of how monetary policy is implemented, just as financial innovations have in the past. We believe we have the capability of adjusting to these changing circumstances CIRCUMSTANCES, evidence. The particulars which accompany a fact.
     2. The facts proved are either possible or impossible, ordinary and probable, or extraordinary and improbable, recent or ancient; they may have happened near us, or afar off; they are public or
 while continuing to meet our traditional responsibilities for economic stability.

However, there is a technical issue relating to relating to relate prepconcernant

relating to relate prepbezüglich +gen, mit Bezug auf +acc 
 our reserve requirements Reserve Requirements

Requirements regarding the amount of funds that banks must hold in reserve against deposits made by their customers. This money must be in the bank's vaults or at the closest Federal Reserve Bank.
. Depository institutions are required to maintain reserves, either in cash or on deposit with Federal Reserve Banks, in proportion to their outstanding transaction accounts. Under current regulations, stored-value balances issued by depository institutions would be treated as transaction accounts and hence subjected to reserve requirements; the Board will need to review this treatment as stored-value devices come into use. But the Federal Reserve does not currently have the authority to impose reserve requirements on nondepository institutions. Thus there is a potential issue of disparate treatment of bank and nonbank issuers.

Depository institutions benefit from their access to the federal safety net; but they pay for this privilege by being subject to reporting obligations, reserve requirements, regulation, and supervision by the banking agencies. Nonbank issuers are free of most such burdens and hence may have a competitive advantage over banks in certain product lines. The Federal Reserve has often expressed concern in the past about potential competitive inequities that disadvantage banks. But because of the pervasive pervasive,
adj indicates that a condition permeates the entire development of the individual.
 uncertainties that I emphasized at the outset, it is far too early to have any useful insights into the implications of this disparity dis·par·i·ty  
n. pl. dis·par·i·ties
1. The condition or fact of being unequal, as in age, rank, or degree; difference: "narrow the economic disparities among regions and industries" 
. We simply want to call it to your attention.

Conclusion

In summary, it is clear that new electronic payment products raise a number of diverse policy issues, both for the Congress and for the Federal Reserve. I have not had time to mention all of them here. But, at this point, the uncertainties regarding the future of "electronic money" are so overwhelming that we mainly suggest patience and study rather than regulatory restrictions. We do believe, however, that certain rules need to be clarified and that future developments should be monitored closely. We look forward to working with the Congress and other regulatory agencies in this regard.

I am pleased to appear before this subcommittee sub·com·mit·tee  
n.
A subordinate committee composed of members appointed from a main committee.


subcommittee
Noun
 on behalf of the Federal Reserve Board to discuss issues related to mergers among U.S. banking organizations. The past fifteen years have seen considerable consolidation of our banking system, a process that probably will continue for some time. This ongoing consolidation is in many ways a natural response to the changing banking environment. However, the very large bank mergers that have been consummated con·sum·mate  
tr.v. con·sum·mat·ed, con·sum·mat·ing, con·sum·mates
1.
a. To bring to completion or fruition; conclude: consummate a business transaction.

b.
 or announced in recent years, and particularly in recent months, have raised a number of public policy questions and concerns. In the Board's view, the primary objectives of public policy in this area should be to help manage the evolution of the banking industry in ways that preserve the benefits of competition for the consumers of banking services and to ensure a safe and sound banking system. My statement today will focus on how, within the context of existing law, the Federal Reserve is pursuing these goals and will review the potential economic effects of bank mergers.

Trends in Mergers and Banking Structure

It is useful to begin a discussion of the public policy and other implications of bank mergers with a brief description of recent trends in merger activity and overall U.S. banking structure. The statistical tables in the appendix of my statement provide some detail that may be of interest to the subcommittee.(1)

Bank Mergers

From a variety of perspectives, the pace of bank mergers (including mergers of banks and bank holding companies and acquisitions of banks by bank holding companies) has accelerated since 1980. For example, excluding acquisitions of failed or failing banks by healthy banks and bank holding companies, in 1980 there were less than 200 bank mergers involving about $10 billion in acquired assets; by 1987 the annual number of mergers reached about 650 with almost $125 billion of acquired assets. In 1989, the number of mergers dropped back to 350, involving about $43 billion of bank assets acquired. In the 1990s, however, the number of mergers began to rise again, to nearly 450 in 1994 with about $1 10 billion of acquired assets. Through September September: see month.  1995, the pace of merger activity has remained high, and there has been an exceptional number of very large bank merger announcements including Chase-Chemical, First Union-First Fidelity, NBD-First Chicago, Fleet-Shawmut, and PNC-Midlantic. Very large mergers occurred with growing frequency after 1980. In 1980, there were no mergers or acquisitions of commercial banking organizations in which both parties had more than $1.0 billion in total assets. The years 1987 through 1994 averaged fourteen such transactions per year and--reflecting changes in state law--an increasing number of these reflected interstate in·ter·state  
adj.
Involving, existing between, or connecting two or more states.

n.
One of a system of highways extending between the major cities of the 48 contiguous United States.

Noun 1.
 acquisitions by bank holding companies. Three of the largest mergers in U.S. banking history took place during 1990-94--Chemical-Manufacturers Hanover Hanover, city, Germany
Hanover, Ger. Hannover, city (1994 pop. 524,820), capital of Lower Saxony, N Germany, on the Leine River and the Midland Canal.
, NCNB-C&S Sovran, and BankAmerica-Security Pacific. These mergers would all be surpassed by the recently announced proposal to merge Chemical and Chase Manhattan.

National Banking Structure

The high level of merger activity since 1980, along with a large number of bank failures, is reflected in a steady decline in the number of U.S. banking organizations from 1980 through 1994. In 1980, there were more than 12,000 banking organizations, defined as bank holding companies and independent banks; the independent banks and banks owned by bank holding companies numbered nearly 14,500 banks. By 1990 there were about 9,200 banking organizations, and in 1995 the number of organizations had fallen to about 7,700 (including more than 10,000 banks)--declines of more than one-third in organizations and more than one-fourth in numbers in numbered parts; as, a book published in numbers.

See also: Number
 of banks from 1980. These trends have also been accompanied by a substantial increase in the share of total banking assets controlled by the largest banking organizations. For example, the proportion of domestic banking assets accounted for by the 100 largest banking organizations went from just more than one-half in 1980, to nearly two-thirds in 1990, to more than 70 percent in June 1995.

The trends I have just described must be placed in perspective because taken by themselves they hide some of the key dynamics of the banking industry. Although there was a large decline in the number of banking organizations over the period 1980-94, reflecting about 1,500 bank failures and more than 6,300 bank acquisitions, about 3,200 new banks were formed, in spite of in opposition to all efforts of; in defiance or contempt of; notwithstanding.

See also: Spite
 a sharp decline in formations after 1989. Similarly, although during the period more than 13,000 bank branches were closed, the same period saw the opening of well over 28,000 new branches. Perhaps even more important, the total number of banking offices increased sharply from about 53,000 in 1980 to more than 65,000 in 1994, a 23 percent rise, and the population per banking office declined. Fewer banking organizations clearly has not meant fewer banking offices serving the public.

Data on the nationwide concentration of U.S. banking assets must also be viewed in perspective. The increases in nationwide concentration and mergers reflect to a large degree a response by the larger banking organizations to the removal of legal restrictions on geographic expansion both within and across states. That is, the industry is moving from many separate state banking structures imposed by legal barriers toward more of a nationwide banking structure that long would have been in existence if legal restrictions had not stood in the way. The sudden adjustment to a new legal environment should not be a surprise, nor is the large adjustment necessarily one that will continue for an extended period.

The removal of legal restrictions on geographic diversification Diversification

A risk management technique that mixes a wide variety of investments within a portfolio. It is designed to minimize the impact of any one security on overall portfolio performance.

Notes:
Diversification is possibly the greatest way to reduce the risk.
 began in earnest ear·nest 1  
adj.
1. Marked by or showing deep sincerity or seriousness: an earnest gesture of goodwill.

2. Of an important or weighty nature; grave. See Synonyms at serious.
 during the mid- mid-
pref.
Middle: midbrain. 
1980s, as did the merger movement. For example, twenty-two states during the 1980s reduced branching restrictions compared with only six states during the 1970s. Also during the 1980s, most states passed laws allowing the acquisition of in-state banks by out-of-state organizations. As a result, although in 1987 only about 11 percent of banking assets were owned by out-of-state organizations, by mid-1995 that figure had risen to more than one-fourth. Looked at another way, even by 1987 almost 92 percent of U.S. banking assets were open to access by at least some out-of-state bank holding companies, and by September 1995 that proportion had risen to more than 99 percent. Passage of the Interstate Banking and Branching Efficiency Act in September 1994 further expanded geographic diversification opportunities--opening up interstate branching by banks and all interstate banking to common rules. It is undoubtedly a major factor behind the several large bank mergers and announcements of mergers during 1995 as firms expand into new areas or respond to the potential for major firms entering their markets.

Other forces have also been transforming the banking landscape, and the resulting acceleration of competitive pressures has encouraged many banks to seek merger partners. Chief among these is technological change: the rapid growth of computers and telecommunications Communicating information, including data, text, pictures, voice and video over long distance. See communications. , which has allowed a scale of operations that would not have been manageable previously. Technological change has also encouraged financial globalization globalization

Process by which the experience of everyday life, marked by the diffusion of commodities and ideas, is becoming standardized around the world. Factors that have contributed to globalization include increasingly sophisticated communications and transportation
, with expanded cross-border asset holdings, trading, and credit flows, and, in response, foreign and domestic banks and other financial institutions have increased their cross-border operations. The resulting increase in domestic competition, especially for larger banking organizations, has been intense. Today, for example, more than 40 percent of the domestic commercial and industrial bank loan market is accounted for by foreign banks.

Local Market Banking Structure

Given the Board's statutory responsibility to ensure competitive banking markets by applying antitrust Antitrust

The antitrust laws apply to virtually all industries and to every level of business, including manufacturing, transportation, distribution, and marketing. They prohibit a variety of practices that restrain trade.
 standards, it is critical to understand that nationwide concentration statistics are not the appropriate metric for assessing competitive effects. Virtually all observers agree that in the vast majority of cases the relevant issue is competition in local banking markets. From 1980 through 1994 the average percentage of bank deposits accounted for by the three largest firms in both urban and rural markets has remained steady or actually declined slightly even as nationwide concentration has increased substantially. This trend has continued since the mid-1970s. Essentially similar trends are apparent when local market bank concentration is measured by the Herfindahl-Hirschman Index (HHI HHI Herfindahl-Hirschman Index (measure of market concentration)
HHI Heinrich Hertz Institut (Germany)
HHI Hilton Head Island
HHI Household Income
HHI Hyundai Heavy Industries Co, Ltd
). Because of the importance of local banking markets, I would like to provide somewhat more detail on the implications of bank mergers for local market concentration.

Metropolitan statistical areas (MSAs) and non-MSA counties are often used as proxies for urban and rural banking markets. The average three-firm deposit concentration ratio for urban markets increased only two-tenths of a percentage point between 1980 and 1994. Average concentration in rural counties actually declined six-tenths of a point. Similarly, the average bank deposit-based HHI for both urban and rural markets fell between 1980 and 1994. When thrift thrift: see leadwort.  deposits are given a 50 percent weight in these calculations, average HHIs are sharply lower than the bank-only HHIs, but the trend becomes somewhat positive. On balance, the three-firm concentration ratios and the HHI data strongly suggest that despite the fact that there were more than 6,300 bank mergers between 1980 and 1994, local banking market concentration has remained about the same.

Why have not all of these mergers increased local market concentration? There are several reasons. First, many mergers are between firms operating primarily in different local banking markets. Although these mergers may increase national or state concentration, they do not tend to increase concentration in local banking markets and thus do not reduce competition.

Second, as I have already pointed out, there is new entry into banking markets. In most markets new banks can be formed fairly easily, and some key regulatory barriers, such as restrictions on interstate banking, have been all but eliminated. New banks continue to be formed in states throughout the country, although the number of new bank formations has declined sharply during the 1990s.

Third, the evidence overwhelmingly indicates that banks from outside a market usually do not increase their market share after entering a new market by acquisition. An oft-mentioned example here is the inability of the New York City New York City: see New York, city.
New York City

City (pop., 2000: 8,008,278), southeastern New York, at the mouth of the Hudson River. The largest city in the U.S.
 banks to gain significant market share in upstate New York Upstate New York is the region of New York State north of the core of the New York metropolitan area. It has a population of 7,121,911 out of New York State's total 18,976,457. Were it an independent state, it would be ranked 13th by population. . More general studies indicate that, when a local bank is acquired by a large out-of-market bank, there is normally some loss of market share. The new owners are not able to retain all of the customers of the acquired bank.

Fourth, it is important to emphasize that small banks have been, and continue to be, able to retain their market share and profitability in competition with larger banks. Our staff members have done repeated studies of small banks; all these studies indicate that small banks continue to perform as well as, or better than, their large counterparts, even in the banking markets dominated by the major banks. Indeed, size is not an important determining factor even for international competition. The United States has not had any banks among the largest twenty in the world since 1989 and even if all of the proposed mergers were consummated, U.S. banks would still not rank among the largest twenty. Yet those U.S. banks that compete in world markets are consistently among the most profitable in the world and include those that are ranked as the most innovative. It is notable that US. banks, besides being among the most profitable, have in the 1990s demonstrated their ability to attract capital. When measured by equity, two of the largest ten banks in the world are U.S. banks and the number will be three of the largest ten if the Chemical-Chase merger is consummated.

Finally, administration of the antitrust laws antitrust laws n. acts adopted by Congress to outlaw or restrict business practices considered to be monopolistic or which restrain interstate commerce. The Sherman Antitrust Act of 1890 declared illegal "every contract, combination....  has almost surely played a role. At a minimum, banking organizations have been deterred from proposing seriously anticompetitive an·ti·com·pet·i·tive  
adj.
That discourages competition among businesses: anticompetitive foreign trade restrictions. 
 mergers. And in some cases, to obtain merger approval, banks have divested banking assets and deposits in certain local markets in which the merger would have otherwise resulted in substantially more concentrated markets.

Overall, then, the picture that emerges is that of a dynamic U.S. banking structure adjusting to the removal of longstanding legal restrictions on geographic expansion, technological change, and greatly increased domestic and international competition. Even as the number of banking organizations has declined, the number of banking offices has continued to increase in response to the demands of consumers, and measures of local banking structure have remained quite stable. In such an environment, it is potentially very misleading to make broad generalizations without looking more deeply into what lies below the surface. In part for the same reasons that make generalizations difficult, the Federal Reserve devotes considerable care and substantial resources to analyzing individual merger applications.

Federal Reserve Methodology for Analyzing Proposed Bank Mergers

The Federal Reserve Board is required by the Bank Holding Company Act (1956) and the Bank Merger Act (1960) to assess the effects when (1) a holding company acquires a bank or merges with another holding company, or (2) the bank resulting from a merger is a state-chartered member bank. The Board must evaluate the likely effects of such mergers on competition, the financial and managerial resources and future prospects of the firms involved, the convenience and needs of the communities to be served, and Community Reinvestment Act Community Reinvestment Act (CRA)

Enacted by Congress in 1977, the CRA encourages banks to help meet the credit needs of their communities for housing and other purposes, particularly in neighborhoods with low or moderate incomes, while maintaining safe and sound operations.
 requirements.

This section of my statement briefly discusses the methodology the Board uses in assessing a proposed merger. In light of the subcommittee's interests, emphasis is placed on competitive factors.

Competitive Criteria

In considering the competitive effects of a proposed bank acquisition, the Board is required to apply the same competitive standards contained in the Sherman and Clayton Antitrust Acts Clayton Antitrust Act, 1914, passed by the U.S. Congress as an amendment to clarify and supplement the Sherman Antitrust Act of 1890. It was drafted by Henry De Lamar Clayton. . The Bank Holding Company (BHC BHC benzene hexachloride.

BHC,

?-BHC see benzene hexachloride.
) Act and the Bank Merger Act do contain a special provision, applicable primarily in troubled-bank cases, that permits the Board to balance public benefits from proposed mergers against potential adverse competitive effects.

The Board's analysis of competition begins with defining the geographic areas that are likely to be affected by a merger. Under procedures established by the Board, these areas are defined by staff members at the local Reserve Bank in whose District the merger would occur, with oversight by staff members in Washington. In mergers in which one or both parties are in two Federal Reserve Districts Federal Reserve District (Reserve district or district)

One of the twelve geographic regions served by a Federal Reserve Bank.
, the Reserve Banks cooperate, as required. To ensure that market definition criteria remain current, and in an effort to better understand the dynamics of the banking industry, the Board has recently sponsored several surveys, including the 1988 and 1993 National Surveys of Small Business Finances, a triennial tri·en·ni·al  
adj.
1. Occurring every third year.

2. Lasting three years.

n.
1. A third anniversary.

2. A ceremony or celebration occurring every three years.
 national Survey of Consumer Finances The Survey of Consumer Finances (SCF) is a triennial survey of the balance sheet, pension, income, and other demographic characteristics of U.S. families. The survey also gathers information on the use of financial institutions. The study is sponsored by the U.S. , and telephone surveys in specific merger cases, to assist it in defining geographic markets in banking. These surveys and other evidence continue to suggest that small businesses and households tend to obtain their financial services The examples and perspective in this article or section may not represent a worldwide view of the subject.
Please [ improve this article] or discuss the issue on the talk page.
 in their local area. This local geographic market definition would, of course, be less important for the financial services obtained by large businesses.

With this basic local market orientation of households and small businesses in mind, the staff constructs a local market index of concentration, the HHI, which is widely accepted as a sensitive measure of market concentration, to conduct a preliminary screen of a proposed merger. The HHI is calculated based on local bank and thrift deposits. The merger would not be regarded as anticompetitive if the resulting market share, the HHI, and the change in that index do not exceed the criteria in the Justice Department's merger guidelines The Merger guidelines are a set of internal rules promulgated by the Antitrust Division of the United States Department of Justice (USDOJ) in conjunction with the Federal Trade Commission (FTC).  for banking. However, while the HHI is an important indicator of competition, it is not a comprehensive one. In addition to statistics on market share and bank concentration, economic theory and evidence suggest that other factors, such as potential competition, the strength of the target, and the market environment may have important influences on bank behavior. These other factors have become increasingly important as a result of many recent procompetitive changes in the financial sector. Thus, if the resulting market share and the level and change in the HHI are within Justice Department guidelines guidelines,
n.pl a set of standards, criteria, or specifications to be used or followed in the performance of certain tasks.
, there is a presumption A conclusion made as to the existence or nonexistence of a fact that must be drawn from other evidence that is admitted and proven to be true. A Rule of Law.

If certain facts are established, a judge or jury must assume another fact that the law recognizes as a logical
 that the merger is acceptable, but if they are not, a more thorough economic analysis is required.

Because the importance of the other factors that may influence competition often varies from case to case and market to market, an in-depth economic analysis of competition is required in each of those merger proposals when the Justice Department guidelines are exceeded. To conduct such an analysis of competition, the Board uses information from its own major national surveys noted above, from telephone surveys of households and small businesses in the market being studied, from on-site investigations by staff members, and from various standard databases with information on market income, population, deposits, and other variables. These data, along with results of general empirical research Noun 1. empirical research - an empirical search for knowledge
inquiry, research, enquiry - a search for knowledge; "their pottery deserves more research than it has received"
 by Federal Reserve System staff members, academics, and others, are used to assess the importance of various factors that may affect competition. To provide the subcommittee with an indication of the range of other factors the Board may consider in evaluating competition in local markets, I shall briefly outline these considerations.

Potential competition, or the possibility that other firms may enter the market, may be regarded as a significant procompetitive factor. It is most relevant in markets that are attractive for entry and when barriers to entry, legal or otherwise, are low. Thus, for example, potential competition is of relatively little importance in markets in which entry is unlikely for economic reasons, such as in smaller markets. For potential competition to be a significant factor, it will generally be necessary for there to be potential acquisition targets as well as meaningful potential entrants. These conditions are most likely to be relevant in urban markets.

Thrift institution Thrift institution

An organization formed as a depository for primarily consumer savings. Savings and loan associations and savings banks are thrift institutions.
 deposits are now typically accorded 50 percent weight in calculating statistical measures of the effect of a merger on market structure for the Board's analysis of competition. In some instances, however, a higher percentage may be included if thrift institutions in the relevant market look very much like banks, as indicated by the substantial exercise of their transactions account, commercial lending, and consumer lending Consumer lending or consumer loans refers to any type of loan product that is not a mortgage; such as a car, boat, manufactured home, home equity loan, home equity line of credit, signature loan, signature line of credit, recreational vehicle, or Certificate of Deposit loans.  powers.

Competition from other depository The place where a deposit is placed and kept, e.g., a bank, savings and loan institution, credit union, or trust company. A place where something is deposited or stored as for safekeeping or convenience, e.g., a safety deposit box.  and nonbank financial institutions may also be given weight if such entities clearly provide substitutes for the basic banking services used by most households and small businesses. In this context, credit unions and finance companies may be particularly important, and over time, nonbank competition has become substantially more important.

The competitive significance of the target firm can be a factor in some cases. For example, if the bank being acquired is not a reasonably active competitor in a market, its market share might be given a smaller weight in the analysis of competition than otherwise.

Adverse structural effects may be offset somewhat if the firm to be acquired is located in a declining market. This factor would apply when a weak or declining market is clearly a fundamental and long-term Long-term

Three or more years. In the context of accounting, more than 1 year.


long-term

1. Of or relating to a gain or loss in the value of a security that has been held over a specific length of time. Compare short-term.
 trend, and there are indications that exit by merger would be appropriate because exit by closing offices is not desirable and shrinkage Shrinkage

The amount by which inventory on hand is shorter than the amount of inventory recorded.

Notes:
The missing inventory could be due to theft, damage, or book keeping errors.
 would lead to diseconomies of scale Diseconomies of Scale

An economic concept referring to a situation in which economies of scale no longer function for a firm. Rather than experiencing continued decreasing costs per increase in output, firms see an increase in marginal cost when output is increased.
. This factor is most likely to be relevant in rural markets.

Competitive issues may be reduced in importance if the bank to be acquired has failed or is about to fail. In such a case, it may be desirable to allow some adverse competitive effects if this means that banking services will continue to be made available to local customers rather than be severely restricted or perhaps eliminated.

A very high level of the HHI could raise questions about the competitive effects of a merger even if the change in the HHI is less than the Justice Department criteria. This factor would be given additional weight if there has been a clear trend toward increasing concentration in the market.

Finally, other factors unique to a market or firm would be considered if they are relevant to the analysis of competition. These factors might include evidence on the nature and degree of competition in a market, information on pricing behavior, and the quality of services provided.

Some merger applications are approved only after the applicant proposes the divestiture The breakup of AT&T. By federal court order, AT&T divested itself on January 1, 1984 of its 23 operating companies, which became known as the Regional Bell Operating Companies (RBOCs).  of offices in local markets, retention of which would otherwise violate Justice Department guidelines, and when the merger cannot be justified using any of the criteria I have just discussed. We believe that such divestitures have provided a useful vehicle for eliminating the potentially anticompetitive effects of a merger in specific local markets while allowing the bulk of the merger to proceed.

Safety and Soundness Criteria

In acting upon merger applications, the Board is required to consider financial and managerial resources and the future prospects of the firm. In doing so, the Board's goal is to promote and protect the safety and soundness of the banking system and to encourage prudent acquisition behavior by applicant banking organizations. Indeed, except in very special circumstances special circumstances n. in criminal cases, particularly homicides, actions of the accused or the situation under which the crime was committed for which state statutes allow or require imposition of a more severe punishment. , usually involving failing banks, the Board will not approve a merger or acquisition unless the resulting organization is expected to be strong and viable.

The Board expects that holding company parents will be a source of strength to their bank subsidiaries. In doing so, the Board generally requires that the holding company applicant and its subsidiaries be in at least satisfactory overall condition and that any weaknesses be addressed before Board action on a proposal. The holding company applicant must be able to demonstrate the ability to make the proposed acquisition without unduly diverting di·vert  
v. di·vert·ed, di·vert·ing, di·verts

v.tr.
1. To turn aside from a course or direction: Traffic was diverted around the scene of the accident.

2.
 financial and managerial resources from the needs of its existing subsidiary banks.

These general principles apply regardless of the size or type of acquisition--banking or nonbanking. The financial and managerial analysis of an application includes an evaluation of the existing organization, including bank and nonbank subsidiaries, the parent company, and the consolidated organization, as well as an evaluation of the entity to be acquired. Also included in this analysis are the financial and accounting effects of the transaction, that is, the purchase price, the funding and sources thereof, and any purchase accounting adjustments. Numerous factors are analyzed an·a·lyze  
tr.v. an·a·lyzed, an·a·lyz·ing, an·a·lyz·es
1. To examine methodically by separating into parts and studying their interrelations.

2. Chemistry To make a chemical analysis of.

3.
 for strengths and weaknesses, including earnings, asset quality, cash flow, capital, risk management, internal controls, and compliance with law and regulation. As the size of the applicant or resulting organization increases because of mergers or internal growth, so generally does the complexity of this analysis. Additionally, areas in which weaknesses or potential issues are identified receive more intense scrutiny. The financial condition and management of the resulting organization are expected to be satisfactory and financial and managerial resources to be sufficient in relation to the risk of the transaction; thus, significant problems or issues must be resolved for favorable fa·vor·a·ble  
adj.
1. Advantageous; helpful: favorable winds.

2. Encouraging; propitious: a favorable diagnosis.

3.
 action.

Community Reinvestment Act Criteria

The Community Reinvestment Act (CRA See Community Reinvestment Act. ) performance of banking organizations that seek the Board's approval to acquire a bank or thrift institution is a major component of the "convenience and needs" criteria that must be considered by the Board. In making its judgments, the Board pays particular attention to CRA examination findings. In addition, any comments received from the public regarding an applicant's CRA performance become part of the official record, and such comments are reviewed carefully. The Board has developed a substantial record in this area.

Banks supervised su·per·vise  
tr.v. su·per·vised, su·per·vis·ing, su·per·vis·es
To have the charge and direction of; superintend.



[Middle English *supervisen, from Medieval Latin
 by the Federal Reserve System--regardless of the size or the geographic scope of a bank's operations--are examined for CRA purposes generally every eighteen months. Banking organizations with identified weaknesses in their consumer compliance are examined even more frequently. Our practice is to review the performance of banks with large intrastate in·tra·state  
adj.
Relating to or existing within the boundaries of a state.

Adj. 1. intrastate - relating to or existing within the boundaries of a state; "intrastate as well as interstate commerce"
 branching systems by examining a sample of branches, which consists of all major branches plus one-tenth of all small branches selected on a rotating ro·tate  
v. ro·tat·ed, ro·tat·ing, ro·tates

v.intr.
1. To turn around on an axis or center.

2.
 basis. The agencies will need to develop a similar procedure for large interstate branch systems as well. Some adjustments may be necessary, though, to ensure that the CRA examination process continues to work well for banking organizations that span several states.

The Board expects that banking organizations will have policies and procedures Policies and Procedures are a set of documents that describe an organization's policies for operation and the procedures necessary to fulfill the policies. They are often initiated because of some external requirement, such as environmental compliance or other governmental  in place and working well to address and implement their CRA responsibilities before Board consideration of bank expansion proposals. The Board generally does not accept promises for future action in this area as a substitute for a demonstrated record of performance. Instead, the Board has accepted commitments for future action as a means of addressing areas of weakness in an otherwise satisfactory record. When commitments have been accepted, the Board monitors progress in implementing the proposed actions, both through reports and through the application process.

POTENTIAL IMPLICATIONS OF BANK MERGERS

The increased rate of bank mergers has raised a number of concerns regarding the potential effects of banking consolidation on those consumers whose demands for banking services are primarily local in nature and on the performance of the merged banks (including prices paid by consumers at those banks).

Effects of Mergers on Locally Limited Customers

The current merger wave in the banking industry is likely to have only modest effects on the availability of services to households and small businesses that rely primarily on local providers for their financial services and often have few convenient alternatives for such services. There are two reasons for this: (1) to date, most mergers have not been between banks operating primarily in the same local banking markets; and (2) the effects of intramarket mergers can be, and thus far have been, limited by both market forces and antitrust constraints CONSTRAINTS - A language for solving constraints using value inference.

["CONSTRAINTS: A Language for Expressing Almost-Hierarchical Descriptions", G.J. Sussman et al, Artif Intell 14(1):1-39 (Aug 1980)].
 on such mergers.

Even in those places in which in-market mergers have occurred, the effect on competition has, on average, not been substantial. This, of course, does not mean that users of bank services will never be harmed by mergers. No policy can guarantee that result. But, the trends in local market concentration I discussed earlier indicate that the Board's application of antitrust standards to within-market merger applications generally has preserved competition. In addition, the Board's policies have almost certainly discouraged dis·cour·age  
tr.v. dis·cour·aged, dis·cour·ag·ing, dis·cour·ag·es
1. To deprive of confidence, hope, or spirit.

2. To hamper by discouraging; deter.

3.
 some potential bank mergers before an application was ever filed. Moreover, considerable intramarket consolidation could occur without significant anticompetitive effects. Many urban markets could see a relatively large number of in-market mergers before antitrust guidelines would be violated vi·o·late  
tr.v. vi·o·lat·ed, vi·o·lat·ing, vi·o·lates
1. To break or disregard (a law or promise, for example).

2. To assault (a person) sexually.

3.
. Furthermore, legislation passed during the 1980s made thrift institutions more important competitors for banking services, and this has helped to reduce concerns about anti-competitive effects from intramarket bank mergers. Proposed legislation before this subcommittee may make thrift institutions even more bank-like, encouraging even greater competition.

Although many small banks remain viable competitors in markets after larger bank mergers, some research suggests that large banks may adopt new banking technologies--such as automated teller machines automated teller machine (ATM), device used by bank customers to process account transactions. Typically, a user inserts into the ATM a special plastic card that is encoded with information on a magnetic strip.  and bank credit cards--more rapidly than small banks. Thus, bank mergers may enhance consumer convenience. On the other hand, in-market bank mergers often lead to some branch closings, raising concerns that consumer convenience may be harmed. Indeed, one of the factors reviewed in a CRA examination is the bank's record of opening and closing offices. However, as I pointed out earlier, there has been a substantial increase in the number of bank offices in the United States in recent years, and the number of ATMs has increased dramatically (from almost 14,000 in 1980 to almost 110,000 in 1994). More important, there is no reason to suspect that the market factors that have led to this increase in the number of offices and ATMs have changed. Indeed, the abolition The destruction, annihilation, abrogation, or extinguishment of anything, but especially things of a permanent nature—such as institutions, usages, or customs, as in the abolition of Slavery.

In U.S.
 of constraints on interstate branches will greatly facilitate this process. That is, if merging banks should close branches, the opening of branches by existing competitors or by new entrants to the market is likely to occur as new profit opportunities arise. Such opportunities should become even easier with full interstate branching, which will take effect in June 1997 under the Interstate Banking and Branching Efficiency Act of 1994. If consumers demand locational convenience, banks of all sizes will need to be responsive if they expect to remain viable competitors for retail customers.

Effects of Mergers on Bank Performance

Federal Reserve System staff members and others have conducted numerous studies over many years on the effects of bank mergers and acquisitions. Some of these studies have focused on the effect of mergers on bank profits and prices, while others have looked at the potential for cost savings and efficiencies derived from mergers.

Of those studies concerned with profits and prices, some have looked directly at the effects of mergers, while a majority have approached this issue more indirectly by examining how bank profits and prices differ across banking markets. Each type of study is relevant to an assessment of the impact of bank mergers on performance.

Studies of differences in bank profitability across markets with varying degrees of concentration represent the oldest type of study relevant to the issue. Typically, such studies have found that banks operating in more concentrated markets exhibit somewhat higher profits than do banks in less concentrated markets. These higher profits may reflect the lesser degree of competition in more concentrated markets. Many have argued, however, that they are simply an indication of the greater efficiency and lower costs of the largest firms in such markets. This challenge is suspect because if a market is competitive, above-normal profits, whatever their origin, should be driven down to a competitive level.

Other studies have looked across banking markets for differences in the prices that banks charge their loan and deposit customers. For the most part, such studies have found that banks located in relatively concentrated markets tend to charge higher interest rates for certain types of loans, particularly small business loans, and tend to offer lower interest rates on certain types of deposits, particularly transactions accounts, than do banks in less concentrated markets. These studies have been less subject to question than profit studies and therefore tend to be clearer in terms of their implications for merger policy. In particular, they suggest that mergers resulting in relatively high levels of local banking market concentration can adversely affect local bank customers. That is, these studies support the need to maintain antitrust constraints if locally limited bank customers are to continue to receive competitively priced banking services.

A related issue relevant to the effect of mergers concerns the prospect that, through merger, greater bank efficiency can be achieved, thus yielding a healthier, more competitive banking firm. Studies that are relevant to the effect of mergers on bank efficiency may be divided into those that do and those that do not look directly at the effects of mergers.

A large number of studies have sought to determine whether larger banking organizations exhibit lower average costs than do smaller organizations. In general, these studies of "scale economies" find that cost advantages of large firms either do not exist or are quite small and that most do not find scale economics to exist beyond the range of a small- to medium-sized bank. Thus, simply by achieving larger size, mergers seem unlikely to yield greater efficiency.

Another strand Strand, street in London, England, roughly parallel with the Thames River, running from the Temple to Trafalgar Square. It is a street of law courts, hotels, theaters, and office buildings and is the main artery between the City and the West End.

1.
 of research has attempted to discover whether there are important differences in the efficiency with which banks use inputs to produce a given level of services. These studies, which essentially focus on the efficiency effects of management skills, suggest that some banks, both large and small, are just a lot better than others at using their inputs, such as labor and capital, in a productive way. Indeed, estimates of these so-called cost efficiencies suggest that management skills dominate any benefits from economies of scale. In addition, there is some evidence that these differences in management efficiencies play a role in the incidence of bank failure. It is estimated that more than 50 percent of the bank failures in the 1980s came from the highest (noninterest) cost quartile Quartile

A statistical term describing a division of observations into four defined intervals based upon the values of the data and how they compare to the entire set of observations.

Notes:
Each quartile contains 25% of the total observations.
 of banks, while fewer than 10 percent are estimated to have occurred in the lowest cost quartile.

In the past several years, numerous researchers have sought to determine whether past mergers have resulted in cost savings. Many such studies examine the changes in noninterest expenses observed before and after the merger and, in some cases, compare them to the same changes observed concurrently in banks that did not participate in mergers. Other research has used the event study methodology to examine how the stock market reacted to merger announcements. The great majority of these studies have not found evidence of substantial efficiency gains from mergers. Evidence on the relative efficiency of acquiring and acquired firms is mixed.

Let me emphasize that most of these studies are based on many mergers and thus provide the basis for statistically valid generalizations. However, in some individual merger cases, cost savings and improved efficiency have been reported. Furthermore, the previously noted evidence indicating substantial differences in the relative efficiency of banks suggests that substantial cost savings are theoretically possible for many banks. For example, a study done at the Board a few years ago estimated that annual cost savings of about $17 billion would result if the lowest cost banks in the country were to acquire the highest cost banks, and if the costs of the acquired banking organizations were subsequently reduced to the level of the acquiring banks This article or section deals primarily with the English-speaking world and does not represent a worldwide view of the subject.
Please [ improve this article] or discuss the issue on the talk page.
. While some of these cost differences may simply reflect differences in the level and types of services offered to the public, such results are nevertheless suggestive of suggestive of Decision making adjective Referring to a pattern by LM or imaging, that the interpreter associates with a particular–usually malignant lesion. See Aunt Millie approach, Defensive medicine.  potential gains from acquisitions of inefficient firms by efficient ones. In addition, it appears that in the evolving world of high technology and global markets for corporate banking, there is greater emphasis on efficiency to survive. This has probably played a role in the efficiency gains noted in some of the individual recent large mergers. On balance, a possible future scenario is that it may become increasingly common for relatively efficient banks to take over relatively inefficient ones and convert the more poorly performing institutions into viable, low-cost competitors. Surely consumers of financial services could only be better off if such a future occurs and competitive markets are maintained.

CONCLUSION

The recent wave of large mergers and merger announcements reflects to a large degree a natural response to new opportunities for geographic expansion as legal restraints are removed. The industry is moving away from a legally fragmented frag·ment  
n.
1. A small part broken off or detached.

2. An incomplete or isolated portion; a bit: overheard fragments of their conversation; extant fragments of an old manuscript.

3.
 banking structure toward a nationwide banking structure. Rapid technological changes and global competition in corporate banking are almost certainly a motivating factor for the very large banks.

The increased pace of bank mergers since the early 1980s has greatly reduced the number of U.S. banking organizations and resulted in a substantially higher nationwide concentration of banking assets at the 100 largest banks. However, concentration in local banking markets, which is normally considered most important for the analysis of possible competitive effects, has remained virtually unchanged. In addition, there continues to be new bank entry and there is a continuing increase in the number of banking offices. This illustrates that the U.S. banking structure is highly dynamic and that sweeping generalizations are extremely difficult to make.

The dynamic nature of U.S. banking means that analysis of the potential competitive and other effects of individual bank mergers must be done on a case-by-case, market-by-market basis. The Federal Reserve devotes considerable resources to this end. Many factors are considered in the analysis, including actual competition from bank and nonbank sources, potential competition, the general economic health of the market, and a variety of other factors unique to a given market. In addition, safety and soundness and CRA concerns are highly relevant.

To date, the available evidence suggests that recent mergers have not resulted in adverse effects on the vast majority of consumers of banking services. It is certainly possible that some customers have been disadvantaged This article or section may contain original research or unverified claims.

Please help Wikipedia by adding references. See the for details.
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 by some mergers. And mergers can no doubt be very disruptive disruptive /dis·rup·tive/ (-tiv)
1. bursting apart; rending.

2. causing confusion or disorder.
 to bank employees as functions are consolidated and reorganized re·or·gan·ize  
v. re·or·gan·ized, re·or·gan·iz·ing, re·or·gan·iz·es

v.tr.
To organize again or anew.

v.intr.
To undergo or effect changes in organization.
. But these disruptions do not appear to differ substantively from similar disruptions in other industries that have experienced or are undergoing fundamental change.

It is also clear that substantial harm to consumers would occur if mergers were allowed to decrease competitive pressures significantly. However, market developments and the removal of geographic restrictions on banks have significantly lessened less·en  
v. less·ened, less·en·ing, less·ens

v.tr.
1. To make less; reduce.

2. Archaic To make little of; belittle.

v.intr.
To become less; decrease.
 the chances for anticompetitive effects. In addition, the antitrust standards enforced by the bank regulatory agencies and the Department of Justice have helped to ensure the maintenance of competition.

The evidence to date does not indicate that, on average, substantial efficiency improvements have resulted from bank mergers. However, in recent years, there appear to have been some cases of improvements in efficiency, and our staff work does suggest the potential for such savings if well-managed entities acquire and modify the operations of high-cost organizations. Given the continuing pressures for cost minimization in banking, it certainly seems possible that some of this potential will be realized in the future.

In sum, law, regulation, and market forces have so far kept banking markets competitive, and the same forces should continue to do so as banks adjust to a new legal and more competitive environment. Bank consolidation to date has not reduced competition in any meaningful way, and we see no reason why it should begin to do so. While there have been only a few cases of demonstrable de·mon·stra·ble  
adj.
1. Capable of being demonstrated or proved: demonstrable truths.

2. Obvious or apparent: demonstrable lies.
 efficiency gains from past mergers, there is reason to expect that there may be a higher incidence of such gains in the future. Given that potential and the antitrust laws protecting competition, the Board sees no reason to be concerned if a banking organization's management and stockholders choose to respond to the changing environment by consolidating with other such organizations.

(1.) The attachments to this statement are available from Publications Services, Mail Stop 127, Board of Governors of the Federal Reserve System Board of Governors of the Federal Reserve System

The managing body of the Federal Reserve System, which sets policies on bank practices and the money supply.
, Washington, DC 20551.

Statement by Alan S. Blinder, Vice Chairman, Board of Governors of the Federal Reserve System, before the Subcommittee on Domestic and International Monetary Policy of the Committee on Banking and Financial Services, US. House of Representatives, October 11, 1995

Statement by Janet Janet: see Clouet, Jean.

JANET - Joint Academic NETwork
 L. Yellen, Member, Board of Governors of the Federal Reserve System, before the Subcommittee on Financial Institutions and Consumer Credit of the Committee on Banking and Financial Services, US. House of Representatives, October 17, 1995
COPYRIGHT 1995 Board of Governors of the Federal Reserve System
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1995, Gale Group. All rights reserved. Gale Group is a Thomson Corporation Company.

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Publication:Federal Reserve Bulletin
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Date:Dec 1, 1995
Words:9155
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