Magazine article American Banker

Technology Investments Have Led to Excess Banking Capacity

Magazine article American Banker

Technology Investments Have Led to Excess Banking Capacity

Article excerpt

THE TRADITIONAL MEASURE of a bank's capacity is the loans that can be handled based on capital and on deposit levels. When loan demand is low, the excess funding capacity goes into securities. When loan demand is high, banks buy large Eurodollar deposits in the overnight market. In banks' role as financial intermediators, this approach is timeless. But the balance sheet is no longer a complete explanation of a bank's capacity. Banks are turning into transaction and information processing institutions. Much of the value they provide to their customers is no longer a part of the balance sheet. This new value is measured in different ways such as accounts, transactions, accuracy, or quantity of information processed.

Take today's modern transaction account. The value provided to the customer isn't measured by the balances or the interest generated. Rather, corporations are interested in the speed of payment delivery, the accuracy of the transaction, controls over credit risk, associated payment information, and, or course, low costs. Consumers are interested in convenience, comprehensive reporting, accuracy, and, again, low cost.

Yet, bank and industry statistics only cover deposit levels. Rarely do government banking statistics mention the number or type of accounts or transactions processed, the amount of backup information, the volume and accuracy of statements, etc. Of course, some banks know this. They monitor how many checking, savings, club, or Christmas accounts they have. They know average transactions per account; and possibly even cost, revenue, and profit per type of account. But, they don't reveal the information publicly and, as a consequence, there is no reliable industry data. How many checking accounts are consumed annually in the United States? Of those, what fraction have a minimum balance requirement? How many new passbook savings accounts were opened last year in California? The basic answer to all these questions is: Guess.

Were such data available, it would greatly help banks to understand and value their growing investments in information processing. But even that wouldn't be all we need to know. Output -- or current volumes -- needs to be measured against capacity, defined as the level of accounts, transactions, or other information processing activity units that a single bank, or the industry, could produce without any additional investment.

Capacity is widely followed in other industries. Airlines watch revenue seat miles and load factors very closely. Freeways can handle up to 2,000 vehicles per lane per hour in peak periods. The Organization of Petroleum Exporting Countries knows that its capacity to increase crude oil output by 5 million barrels a day gives it political power. When the world tanker fleet has overcapacity, prices drop precipitously and every ship owner suffers. Unused industrial and manufacturing capacity in the U.S helps control inflation by keeping down wages. The relative degree of undercapacity or overcapacity in an industry to produce a particular good or service influences the investment decision of individual competitors. But in banking, such nonfinancial analysis is rarely possible.

There is every reason to believe that banking suffers from severe overcapacity. Some say it's the number of banks, but technology, back offices, and branches produce bank products, not corporate organizations. Consolidation may be part of the answer, but the number of banks itself is not the measure of the overcapacity. Others point to the number of branches, yet brick and mortar is increasingly just one of several retail delivery channels. Reducing the number of branches won't reduce capacity at all if every teller is simply transferred to a telephone service center.

How should we measure a bank's capacity to produce information-based products? It's certainly not raw data processing statistics. It isn't enough to say that with a data center processing 600 MIPS (millions of instructions per second), 20,000 PCs on employees' desks, or a new application package, a bank could produce x number of mortgages or funds transfers. …

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