1. Banking in the U. S. ECO 473 Dr. D. Foster I. Structures II. Management

2. I. Banking Structure in the U. S.

3. Institutions... Commercial Banks  “Money Center” banks  Regional (& Super-) banks  Community Banks Savings Institutions  Lost 50% of deposits 1989 - 2001  1980s - Congress relaxes lending rules Credit Unions  1934-strict member rules; relaxed since.  no fed’l tax -  deposit rates &  loan rates

4. Commercial Bank Assets ($ Billions), June 2008 Commercial & industrial loans 1,507 13.5% Consumer loans 831 7.5% Real estate loans 3,645 32.7% Interbank loans 454 4.1% Other loans (net) 918 8.2% Total loans 7,355 66.1% U.S. government securities 1,113 10.0% Other securities 1,35812.2% Total securities 2,471 22.2% Cash assets 300 2.7% Other assets 1,004 9.0% Total assets 11,130 100.0% Dec. 2014 1,78411.9% 1,1988.0% 3,62924.2% 860.6% 1,1958.0% 7,89252.6% 2,045 13.6% 8845.9% 2,929* 19.5% 2,821 18.8% 1,363 9.1% 15,005 100.0% * $1,393 bill. is in mortgaged- backed securities (MBS)

5. Commercial Bank Liabilities and Equity Capital ($ Billions), June 2008 Transactions deposits 603 Small time and savings deposits 4,180 Large time deposits 2,126 Total deposits 6,909 Borrowings from banks 480 Other borrowings 1,829 Total borrowings 2,309 Trading liabilities --- Other liabilities 674 Net due to foreign offices-18 Equity capital 1,155 Total liabilities & equity 11,029 5.5% 37.9% 19.3% 62.6% 4.4% 16.6% 20.9% --- 6.1% -0.2% 10.5% 100.0% Dec. 2014 --- --- 8,73658.2% 1,700 11.3% 10,43669.5% 1180.8% 1,66311.1% 1,781 11.9% 2261.5% 4232.8% 505 3.4% 1,642 10.9% 15,013 100.0%

6. Commercial Bank Asset Allocations Dec. 2014 60% 20%

7. Commercial Bank Liabilities and Equity Capital Dec. 2014 70% 19% 11%

8. Misc. Data on Banks & Savings Institutions (FDIC)

9. Misc. Data on Credit Unions (FDIC)

10. The Top Twenty Banks* [based on assets] in the U. S. *As of March, 2016

11. Sources of Commercial Bank Revenues Commercial Bank Expenses

12. Equity as a Percentage of Bank Assets in the United States, 1840–Present

13. II. Banking Management in the U. S.

14. Evolution of theories of bank management & risk. Real bills doctrineReal bills doctrine Shiftability theoryShiftability theory Anticipated incomeAnticipated income Conversion of fundsConversion of funds Gap managementGap management Duration gap managementDuration gap management

15. Real bills doctrine – managing liquidity riskReal bills doctrine – managing liquidity risk Shiftability theory Anticipated income Conversion of funds Gap management Duration gap management  Make low-risk loans with high liquidity…  Lend to finance shipment of goods:  Lend to finance shipment of goods: -- paid off quickly to known buyer. -- earns low return.  Lend for production…  Lend for production… -- “self-liquidating” loans; repaid as sold. -- relatively low risk.

16. Real bills doctrine – managing liquidity riskReal bills doctrine – managing liquidity risk Shiftability theory Anticipated income Conversion of funds Gap management Duration gap management AssetsLiabilities Cash Reserves $5,000Equity $50,000 Shipping Loans $35,000 [payable in 30-120 days] Production Loans $10,000 [payable in 30-60 days] $50,000

17. Real bills doctrine Shiftability theory – managing credit riskShiftability theory – managing credit risk Anticipated income Conversion of funds Gap management Duration gap management   Return with longer-term loans…   Return with longer-term loans… -- adds to the default risk. -- offset with purchases of gov’t. securities. - “Secondary reserves” add liquidity.  Popular until the Crash of 1929:  Popular until the Crash of 1929: -- falling prices means converting to cash involves a capital loss. -- exacerbated circumstances, as loans were going into default as well.

18. Real bills doctrine Shiftability theory – managing credit riskShiftability theory – managing credit risk Anticipated income Conversion of funds Gap management Duration gap management AssetsLiabilities Cash Reserves $50,000Demand Deposits $250,000 US Treasuries $200,000Savings Deposits $500,000 Short Term Loans $200,000 Long Term Loans $325,000Equity $25,000 $775,000 During a panic, depositors withdraw funds. Cash reserves are quickly depleted but US Treasuries can be liquidated to cover what is needed … up to a point. In the GD, failing loans encouraged withdrawals and flooding the market with UST depressed prices.

19. Real bills doctrine Shiftability theory Anticipated income - managing interest rate riskAnticipated income - managing interest rate risk Conversion of funds Gap management Duration gap management  Initiation of the “installment loan”…  Initiation of the “installment loan”… -- mitigates default risk through ongoing payments. -- gives the bank a highly predictable stream of income. -- has features that make it a “super- liquidating” loan.

20. Real bills doctrine Shiftability theory Anticipated income - managing interest rate riskAnticipated income - managing interest rate risk Conversion of funds Gap management Duration gap management AssetsLiabilities Cash Reserves $50,000Demand Deposits $250,000 US Treasuries $200,000Savings Deposits $500,000 Short Term Installment Loans $200,000 Long Term Installment Loans $325,000Equity $25,000 $775,000 A panic will have less of an impact in that the loans now generate predictable income and defaulting loans are less likely to burden the bank.

21. Real bills doctrine Shiftability theory Anticipated income Conversion of funds - managing interest rate riskConversion of funds - managing interest rate risk Gap management Duration gap management  Match asset & liability maturities…  Match asset & liability maturities… -- long-term loans with CDs. -- short-term loans with deposits.  Events that change interest rates will be neutralized.

22. Real bills doctrine Shiftability theory Anticipated income Conversion of funds - managing interest rate riskConversion of funds - managing interest rate risk Gap management Duration gap management AssetsLiabilities Cash Reserves $50,000Demand Deposits $300,000 US Treasuries $150,000 Credit Card loans $400,000Savings Deposits $575,000 Short Term Consumer Loans $200,000 Long Term Business Loans $250,000Certificates of Dep. $950,000 Mortgage Loans $825,000Equity $50,000 $1,875,000 As interest rates rise and fall both sides of the balance sheet are approximately equally affected.

23. Real bills doctrine Shiftability theory Anticipated income Conversion of funds Gap Management – managing profitGap Management – managing profit  Relate assets & liabilities by interest…  Relate assets & liabilities by interest… -- manage the “gap” to bank’s advantage. -- if i e is rising, then make gap positive. -- if i e is falling, then make gap negative. AssetsLiabilities Cash Reserves $50,000Demand Deposits $300,000 US Treasuries $150,000 Credit Card loans $400,000Savings Deposits $575,000 Short Term Consumer Loans $200,000 Long Term Business Loans $250,000Certificates of Dep. $950,000 Mortgage Loans $825,000Equity $50,000 $1,875,000

24. Real bills doctrine Shiftability theory Anticipated income Conversion of funds Gap Management – managing profit Duration gap managementDuration gap management  Measure ave. time for payments (in or out)…  Measure ave. time for payments (in or out)… -- if positive and interest rates fall, bank profits rise. -- if negative and interest rates rise, profits rise. AssetsLiabilities …… Auto Loans (5 yr.) $400,0003-5 yr. CDs $575,000 Portfolio average payoff = 36 months Portfolio average payout = 32 mo.

25. Does Bank Size Matter? Economies of scale -- Efficient structure theory. -- Cost savings seem minor; mgt. savings. Concentration will... -- raise costs? -- lower costs? Consolidation stats: 96% 14% Community bank % of all banks: 96% (ICBA, 2015) Community bank % of total bank assets: 14% (FDIC, 2011)ICBAFDIC

26. Universal Banking Banks own firmsBanks own firms -- Better informed about financial condition. -- Conflict of interest? Firms own banksFirms own banks -- Does the FED regulate the firm as well? Banks do...Banks do... Whatever (economies of scope): -- Insurance. -- Real estate. -- Stock brokers.

27. Banking in the U. S. ECO 473 Dr. D. Foster I. Structures II. Management