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Consolidation in FSI

Consolidation in FSI. Causes • Technological progress • Improvement in financial condition • Accumulation of excess capacity / financial distress • International consolidation of markets • Deregulation of geographical / product restrictions. Consolidation in FSI. Consequences

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Consolidation in FSI

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  1. Consolidation in FSI Causes •Technological progress • Improvement in financial condition • Accumulation of excess capacity / financial distress • International consolidation of markets • Deregulation of geographical / product restrictions

  2. Consolidation in FSI Consequences •Changes in market power • Efficiency • Availability of services to small customers • Changes in payment system efficiency • Financial system safety and soundness

  3. Risks of Product Segmentation • Lack of diversification •Bank exposure to nonbank competition 3

  4. Commercial & Investment Banking Activies • 1863 National Bank Act 分業 • 1927 OCC解禁 • 1933 GS法案 • 1956. 1977 BHC法案 • 1987 Federal Reserve Act • 1997 Fed & OCC • 1999 Financial Service Modernization Act (GLB Act) FHC

  5. Banking and Insurance • Prior to Financial Services Modernization Act of 1999: • Barriers to banks and insurance companies entering one another's lines of business • Citigroup as a catalyst

  6. Banking & Insurance • 1956,1970 禁止BHC併購保險公司 • 1986 NationsBank sell annuities • 1980’s 保險公司或企業設立nonbank bank • 1987 CEBA重新定義bank • 1998 Citicorp + Travelers→financial conglomerate

  7. Commercial Banking & Commerce • 1863 禁止聯邦立案銀行以控股方式介入產業 • 1956 BHC Act • 1999 GLB Act

  8. Financial Services Modernization Act • Financial Services Holding Companies • Functional Regulation

  9. Nonbank Financial Services Firms and Commerce • Barriers generally weaker than for banking sector • Financial Services Holding Company • 85 percent of assets financial • maximum of 15 percent in commercial or real assets • Nonfinancial assets grandfathered( in 10+5 yrs)

  10. Why Form a Financial Conglomerate? Formation of Financial Conglomerates in Europe and U.S. are Market Driven Key Drivers Quest for Profitability Risk Diversification Efficient Use of Capital Changing Customer Needs Growth Opportunities Technological Advances

  11. FHC’s Drive Towards High Margin Businesses Profitability versus Revenue Growth Compound Annual Revenue Growth Rate from 1995-2000 ROE Weighted Average from 1995-2000 Source: Lehman Brothers Research

  12. Merger & Acquisitions Cross-Industry Mergers resulting in Financial Conglomerates • Significant growth in financial services sector M&A • Increasing cross-industry M&A activity in recent years • Banks have been the major consolidators in cross industry mergers European & U.S. Financial Institution Cross-Industry M&A European & U.S. Financial Institutions M&A Source: SDC Source: SDC

  13. Cost Savings Financial Conglomerates vs. Specialized Banks • Significant sources of cost savings for financial conglomerates • Studies indicate that financial conglomerates are more profitable than Specialized Banks Source: Vennet 2000, data from 1995 to 1996

  14. Efficient Use of Capital Major benefits of FHC establishment include the ability to leverage excess capital FHC Excess Capital Redistribution Releases Funds for M&A Insurance Asset Management Bank

  15. Issues Involved in Expansion of Product Powers • Safety and soundness issues • Economy of scale and scope issues • Conflict of interest issues • Deposit insurance issues • Regulatory oversight issues • Competition issues

  16. Safety and Soundness • Risk of securities underwriting • Firm Commitment • British Petroleum • Firewalls as protection from securities affiliate • Benefits from product diversification and geographic diversification

  17. Economies of Scale and Scope • Economies of scale opportunities for firms up to $25 billion in asset size. • Economies of scope

  18. Conflicts of Interest • Six potential conflicts • Salesperson’s stake • Stuffing fiduciary accounts • Bankruptcy risk transference • Third-party loans • Tie-ins • Information transfer

  19. Reality of Conflicts of Interest • Emphasize Potential conflicts of interest • Chinese Walls • Exploitation requires • monopoly power • imperfect or asymmetric information • low value on reputation

  20. Deposit Insurance • Deposit insurance • may provide competitive advantage to banks over other FIs. • Banks may also gain an advantage from being too big to fail.

  21. Regulatory Oversight • Large bank holding companies with extensive nonbank subsidiaries face a complex structure of regulators. • If further integration of financial services then there may be argument for a single regulatory body.

  22. Competition • Procompetitive • capital access for small firms • commissions and fees • degree of underpricing of new issues • Anticompetitive

  23. European Financial Conglomerates Pioneers in integrated financial services Universal Banks Historical Development • Majority of financial conglomerates are universal banks • Universal banks first developed in 1884-1913 • Banks were viewed as the logical informed intermediary between capital markets and corporations • Establish history of bancassurance • Many of the world’s largest financial conglomerates are European • Important legislative development: 2nd Banking Directive 1989 allows EU financial services firms to share cross-holdings in each other Perception of Risks • Diversification into other financial services

  24. Protection of depositors is paramount American Financial Conglomerates A Relatively New Notion Financial Holding Company Historical Development • Bank failures related to Great Depression of 1929: Banks underwrote risky securities • Glass-Steagall Act of 1933 established to prohibit banks from conducting securities business • Bank Holding Company Act of 1956 established to clarify which businesses banks are allowed to operate and acquire • As a result, financial conglomerates did not exists in the U.S. until the formation of Citgroup in 1998 • Subsequent passage of the Gramm-Leach-Bliley Act in 1999 allows affiliations amongst financial service businesses Perception of Risks

  25. Gramm-Leach-Bliley Act 1999 • Repeals the Glass-Steagall Act of 1933 • Allows for affiliation amongst financial institutions • Firewalls exists to protect depositors • Federal Reserve Board is the overall regulator • FHC is not allowed to invest in non-financial services assets • Privacy clauses to protect consumers

  26. Universal Banks versus FHC

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