The Condition of the Banking System: March 31, 2012

 The FDIC banking statistics for March 31, 2012 were released last week.  There is room for hope in the statistics, but we are still not out-of-the-woods, yet.

The FDIC press release trumpeted the fact that the number of commercial banks on the FDIC list of problem banks fell for the fourth quarter in a row and reached a total of 772 banks, which was the lowest level this list has seen since year-end 2009. 

However, there are still 772 commercial banks on the problem list, which is more than 12 percent of the total number of commercial banks in existence. 

Only 16 commercial banks were closed in the first quarter of 2012, but there were 27 fewer banks in existence at the end of the quarter than there were at the end of 2011.

Over the last 12 months the number of commercial banks in the banking system declined by 190 and only 82 of these were closed. 

So, the banking system continues to decline with the majority of banks leaving the system due to merger or acquisition.  The vast majority of the decline (175 banks) is in the smaller banks (banks with assets of less than $100 million) where most of the problems seem to center. 

Over the past five years, the number of commercial banks in the banking system has declined by almost 1,000 banks.  The number of the smaller banks leaving the industry over this five-year period totaled 1,110!

At the end of the first quarter of 2012, there were only 6,263 FDIC-insured commercial banks in the industry. 

Even though the number of FDIC bank closures has dropped substantially in recent quarters, mergers and acquisitions continue to take place at a fairly rapid pace. 

I believe that we will continue to see results like this over the next several years.  The number of commercial banks in the banking system will continue to decline as troubled small- and medium-sized banks continue to be acquired.  If the decline in the number of banks continues in the 150 to 200 range for the next three years, the banking system will drop to between 5,700 and 5,800 banks by the end of 2015.  These numbers are above the 4,000 number that I had been predicting over the last couple of years but are still stunning given that there were 14,000 commercial banks in the banking system early in my banking career.

Regardless of the exact number, there are few reasons for new commercial banks to be formed and there are plenty of reasons why existing commercial banks will continue to consolidate.  This will mean that there will be fewer and fewer of the smaller banks in the banking system and more and more larger banks. 

Right now, according to the FDIC statistics, the largest 525 commercial banks in the United States (about 8 percent of the banks in the system) hold almost 91 percent of the assets in the banking system.  According to Federal Reserve statistics, the largest 25 domestically chartered commercial banks in the United States hold approximately two-thirds of all the assets in domestically chartered commercial banks.

In a real sense, the small- to medium-sized banks are almost irrelevant to the banking system except that their failure or clumsy exit could cause trouble to the rest of the system.   

Whether you like it or not, the number of banking units in the United States is shrinking relatively rapidly and more and more of the assets of the banking system are being found in the larger banking institutions.  And, this does not include the impact of the growing number of foreign commercial banks that are becoming players in the United States. 

Given the weakness in the commercial banking sector it is not surprising that bank loans are not showing much bounce.  Loan balances at FDIC-insured commercial banks declined in the first quarter of 2012 by slightly more than $56 billion. This decline occurred after loans had increased modestly over the previous three quarters.  Loan increases generally took place at the larger commercial banks. 

Revenues and bank profits continue to rise, but most of the increase, as expected, came in commercial banks that had more than $1.0 billion in assets.

It is still my belief that the general thrust of the monetary policy of the Federal Reserve is to keep commercial banks open and operating so that the FDIC can continue to close the weaker institutions in an orderly fashion and to allow the stronger, larger banking institutions to acquire the weaker ones, who are generally the smaller banks.  This strategy will continue to be followed until the condition of the banking industry improves sufficiently to grow stronger on its own.

Continued weakness in bank lending, particularly at the smaller institutions, will signal to us that the banking system, as a whole, has not fully recovered from the financial crisis that took place several years ago. 

This continued weakness in bank lending will also contribute to tepid growth in the economy as consumers and small- and medium-sized businesses cannot obtain the funds they need to spend and expand.  All these pieces seem to go together.