Academic journal article Economic Perspectives

A Bank by Any Other Name

Academic journal article Economic Perspectives

A Bank by Any Other Name

Article excerpt

Introduction and summary

Banks come in a wide variety of forms. These include commercial banks, savings banks, savings and loans, and credit unions. But, all banks are not perceived as equally vital to the economy so as to require the same degree of government regulation to promote their safe and efficient operation. To regulate efficiently, it is necessary to carefully define the entity to be regulated. The issue of what constitutes a bank for regulatory purposes emerged in 2005 from being an arcane subject of interest primarily to a small number of regulatory attorneys to being of interest to a much larger and broader group. This interest was sparked when the large retailer Wal-Mart applied to the Federal Deposit Insurance Corporation (FDIC) to obtain federal deposit insurance for a newly chartered "bank" in Utah that was not subject to the ownership restrictions applicable to most other "banks." This article examines the definition of "bank" for financial regulatory purposes, traces and explains the evolution of the definition through time, and explores the controversy surrounding the recent attempt by Wal-Mart to establish its own bank. Wal-Mart has since withdrawn its application.

All depository institutions, including commercial and savings banks, need to obtain a special charter from either the federal government or their home state government rather than a general corporate charter. The charter identifies the activities in which the institutions are permitted to engage. Each chartering and regulatory agency specifies a definition of "bank" to which its authority applies. Restrictions on permissible activities may be imposed by the FDIC on insured banks and by the Board of Governors of the Federal Reserve System on holding companies that own bank subsidiaries.

The definition of bank need not be the same across agencies nor for any one agency through time. Differences and changes in definition may occur for a number of reasons, including differences in regulatory objectives among agencies, changes in legislation, changes in the demand for different types of financial services, changes in the supply of particular financial services, innovations in financial products and institutions, and changes in the operations of financial institutions.

In recent months, controversy about the definition of a bank has been ignited by an attempt, since abandoned, by Wal-Mart to obtain FDIC insurance for an industrial loan company (ILC) to be chartered in Utah. (1) An ILC is a "bank" chartered in a limited number of states that is granted the same or slightly fewer product powers than are commercial banks chartered in that state. Importantly, ILCs are currently explicitly exempted from the definition of "bank" in the Bank Holding Company Act (BHCA) if, among other characteristics, they do not accept demand deposits when their assets exceed $100 million. As long as the proposed ILC had satisfied these conditions, the parent holding company Wal-Mart would not have been legally classified as a bank holding company--a holding company that owns one or more institutions legally defined as a "bank"--and would have been subject neither to regulation by the Federal Reserve nor to the restrictions of the Bank Holding Company Act. If it had been, the nonfinancial activities of the parent company Wal-Mart would have prohibited its ownership of a bank subsidiary.

To some, this "loophole" in the legal definition of a bank permits the piercing of the separation of banking (financial) and commerce (nonfinancial) that the BHCA was designed to maintain and is perceived as providing holding companies owning an ILC an unfair advantage over holding companies that own legally defined banks, such as commercial banks. This generated opposition to the Wal-Mart application for FDIC insurance, which was necessary for it to be an ILC that is exempt from the restrictions of the BHCA. In response to this opposition, the FDIC imposed a six-month moratorium in July 2006 on this and all other pending applications for federal insurance either for a new ILC or for an existing ILC undergoing a change in control through January 31, 2007. …

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