Interstate banking ; Federal Reserve District, 12th ; Banks and banking - West

Barbara Bennett

Gary C. Zimmerman

English

Research Papers in Economics

FRBSF WEEKLY LETTER
November 13,1987
Interstate Banking in the West
On July 1, 1987, California and Washington
joined six other states in the Twelfth Federal
Reserve District in opening their doors to out-of-
state banking organizations. The West is not
alone in its hospitality, however, as all but ten
states have adopted laws in recent years to allow
the entry of out-of-state banking organizations.
Compared to other regions in the country, the
West was relatively quick to permit interstate
banking, in part because interstate banking
organizations in the West already controlled a
large share of banking assets. This Letter
examines some of the factors that have spurred
interstate banking, and describes the way in
which interstate expansion is occurring with a
particular emphasis on the "gold rush" in the
West.
Restrictions on branching
The UnitedStates has not allowed nationwide
branch banking since the demise of the second
Bank of the United States in 1836. Nationally
chartered banks were not even allowed to
operate branch offices within their home states
until the passage of the McFadden Act in 1927.
With the 1933 amendment to that Act, national
banks were granted the same branching
privileges as those allowed state-chartered
institutions by their state legislatures.
These acts equalized branching opportunities
within a state, but allowed significant differences
in branching laws among states. Some states
permitted statewide branching, whereas others
commonly prohibited branching altogether. In
any case, the McFadden Act implicitly
prohibited branching out of state regardless of a
bank's charter.
To get around such restrictions on branching,
multi-bank holding companies formed early in
this century, enabling banking organizations to
operate in locations where they could not set up
branch offices. Eventually, however, Congress
closed this loophole with the passage ofthe
Douglas Amendment to the Bank Holding
Company Act of 1956. This pieceoflegislation
prevented banking organizations in one state
from owning or controlling banks in other states
unless those states permitted such out-of-state
ownership.
Although the Douglas Amendment allowed
"grandfathered" organizations to continue in
operation, most chose to divest all but their
largest bank subsidiary to avoid regulation by
the FederalReserve. Thus, untiI the 1980s,
interstate expansion of banking organizations
took place largely through such nonbank
subsidiaries as finance companies, loan
production offices, mortgage banking
companies, and in certain instances, thrift
institutions, which were not subject to branching
restrictions.
State laws
The first state to allow entry of out-of-state
banking organizations was Maine in 1975.
Maine's law permitted the entry of banking
organizations headquartered anywhere in the
country, provided that Maine bank holding
companies were allowed to enter the home
states of out-of-state entrants to Maine.
Massachusetts followed in 1982, but unlike
Maine, Massachusetts adopted a bill that
permitted the entry only of bank holding
companies located in New England.
Many states did not pass interstate banking laws,
however, until after the U.S. Supreme Court
affirmed state control over interstate banking
and bank entry in its Northeast Bancorp vs.
BoardofGovernors decision in 1985. This
decision affirmed states' rights to enact laws
forming "regional compacts" that allow entry by
banking organizations located only in selected
states. This ruling, in effect, enabled states to bar
the entry of the large money center banks
located in New York, Illinois, and California.
With this protection, states moved quickly to
adopt some form of interstate banking. Many ofFRBSF
the new laws allow only regional interstate
banking initially, and provide for nationwide
entry at a later date.
In the West •••
By contrast, most western states did not wait for
the Northeast Bancorp decision to enact
interstate banking laws. California, which passed
its interstate banking law in September 1986,
and Hawaii, which has yet to enact an interstate
banking bill, are the exceptions. (Washington
enacted a lawin 1985that did not take effect
until July ofthis year.)
Most of these laws allow for regional interstate
banking initially, with trigger dates for nation-
wide interstate bankingin the future. For
example, Californiawill allow nationwide entry
beginning on January 1, 1991. At the same time,
each state's law defines its initial interstate
region somewhat differently. The most restrictive
is Idaho's law, which permits entry by bank
holding companies located only in the six
contiguous states. The laws enacted by
California, Oregon, Nevada, and Utah all
encompass a broader geographic area, but
Nevada and Utah laws specifically exclude
California bank holding companies from
entering until the national trigger dates. Alaska,
Arizona, and Washington, by contrast, already
allow nationwide entry.
Whynow?
States have had the authority to permit interstate
banking at least since the passage of the Bank
Holding Company Act of 1956. What has
changed in recent yearsto make interstate
banking seem so irresistible now? Perhaps the
most important development has been the
growing number of failing institutions that must
be handled by banking and thrift regulators.
Because many of these institutions cannot be
absorbed by in-state organizations, regulators
frequently have taken advantage of their
authority to arrange acquisitions by out-of-state
organizations.
Moreover, interstate banking may have become
more attractive because therisks of undiversified
portfolios have become all too apparent of late.
For example,thetroubles ofagricultural banks
in the Midwest and of energy lenders in Texas
and Oklahoma are directly related to the Jack of
diversification. Finally, some states may have
chosen to enact interstate banking laws as a
means of pre-empting potential federal legisla-
tion that may turn out to be less favorable to the
interests of those states' banking industries. By
passing legislation now, the states have
attempted to control the way in which interstate
entry occurs.
In one sense, however, it may be misleading to
look for explanations of interstate banking in
sudden changes in state laws governing bank
expansion. The formation of multi-state bank
holding companies beginning in the early part of
this century suggests that there always have
been economic forces that make the operation
of an interstate banking organization advan-
tageous. For example, multi-state organizations
always have afforded a relatively low-cost
means of reducing credit risk through geo-
graphic diversification of the organization's port-
folio. Moreover, interstate banking organizations
provide a more economical means of collecting
and disbursing out-of-state payments associated
with the growth of interstate commerce and the
increasing mobility of the u.s. population.
Finally, improvements in information processing
technology in the last 20 years also have made
interstate banking organizations more
economical.
Thus, the forces for change have been growing
stronger over time. These forces have spurred
the geographic expansion of nonbank subsidi-
aries of bank holding companies, as well as
interest in supervisory mergers with out-of-state
institutions that have failed.
Are we there yet?
In view of the flurry of legislative activity at the
state level, one might expect a tremendous surge
of interstate banking. There have been, in fact, a
number of interstate acquisitions in the past two
years as a result ofnew state laws. However, in
a comprehensive article on interstate banking,
Donald Savage suggests that assets held by bank
holding companies outside their home states still
account for only a relatively small proportion of
total banking assets - six percent as ofJune 30,
1986. Savage also notes that interstate activity
largely has been concentrated in areas which,
because of the size of deposit bases or their
growth, represent attractive markets. Clearly
then, full nationwide interstate banking has not
yet arrived.
The West, however, may be closer to full inter-
state banking than most other regions. Even
before states began to change their laws to per-mit out-of-state entry, a number of interstate
banking organizations existed in the West and
controlled over ten percent of the region's bank-
ing assets. Bank of California operates branches
in California, Oregon, and Washington under a
grandfather provision in the Federal Reserve Act
in 1913. Multi-state organizations such as First
Interstate Bancorp, which has banking subsidi-
aries in twelve western states, and First Security
Corporation, which has subsidiaries in three
states, were "grandfathered" under the Bank
Holding Company Act of 1956. Other organiza-
tions such as BankAmerica and Moore Financial
ofldaho have acquired out-of-state subsidiaries
through purchases of failing institutions.
Following the enactment of state laws authoriz-
ing interstate acquisitions, western banks have
increased their interstate presence and interstate
banking organizations now control almost two-
thirds of total assets. Because of the prepon-
derance of regional compacts, western banks,
like their counterparts elsewhere, have tended
almost exclusively to acquire other banks within
their own region.
Typically, the larger banks have sought to
acquire medium-sized banks in major markets to
establish a strong presence throughout the
region. These acquisitions are creating so-called
"superregionals." For example, Security Pacific,
based in southern California with $58 billion in
assets, has acquired or is seeking to acquire
banks in northern California, Washington, Ari-
zona, Oregon, and Nevada. U.S. Bancorp,
based in Oregon with $9 billion in assets, is
seeking to expand its operations in the Pacific
Northwest through acquisitions in eastern and
western Washington. Valley National of Arizona
($10 billion in assets) has acquired banks in
Utah and California, thereby expanding its
southwestern presence.
Big vs. small
Although out-of-region organizations also have
acquired western banks, they usually acquire
smaller institutions than those being bought by
banks in the West. To a certain extent, this dif-
ference is due to the restrictions western states
have placed on out-of-state entry. For example,
only Alaska, Arizona, and (only very recently)
Washington currently allow nationwide entry.
Since most of the larger acquisition candidates
in these three states have been snapped up by
within-region organizations, only the smaller
banks remain to be acquired by out-of-region
organizations. The larger size of within-region
acquisitions probably is due to a perception on
the part of some of the larger western banks that
rapid attainment of superregional stature is
necessary to compete with the large money cen-
ter banks once those banks are allowed to enter
all western states.
In light of the trend toward superregionals, it is
interesting that the market appears to be placing
a premium on the purchase of larger banks. A
recent survey of interstate acquisitions by Cates
MergerWatch indicates that the larger banks
(over $500 million in assets) sold for higher pre-
miums (measured by purchase price to book
value) than smaller institutions.
While a number of factors may explain this
divergence, a recent Letter on acquisitions in
banking found that increased share values asso-
ciated with bank acquisitions were due largely
to anticipated gains from geographic expansion
and operating synergies available to the
expanded banking organization, and not to
anticipated increases in concentration and mar-
ket power. Thus, the attractiveness of the larger
banks in the West may arise from opportunities
their acquisition offers to a within-region
acquirer to operate a regional network with a
significant presence in all the major markets.
Whereto?
All of the changes in state laws and the acquisi-
tions that have occurred under those laws still
represent only a modest step in the direction of
full nationwide banking. For now, the develop-
ment of superregionals is dominating interstate
banking in the West and elsewhere. Whether
interstate banking will progress beyond regional
banking in the near future will depend on how
quickly the large money center banksare
allowed to expand. It is clear, though, that bank
holding companies are actively taking advantage
of the opportunities given them and that eco-
nomic forces will continue to push the u.s.
banking system toward interstate banking.
Barbara Bennett and Gary C. Zimmerman
Opinionsexpressed in this newsletterdo not necessarily reflect theviewsofthe managementofthe Federal Reserve Bank ofSan
Francisco, orofthe Board ofGovernorsofthe Federal Reserve System.
Editorialcommentsmaybeaddressedtotheeditor(GregoryTong) ortotheauthor....FreecopiesofFederal Reserve publications
can be obtainedfrom the Public Information Department, Federal Reserve Bank ofSan Francisco, P.O. Box 7702,San Francisco
94120. Phone (415) 974-2246.uo~6U!Ljsom Ljo~n U060JO OpOA0U
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BANKING DATA-TWELFTH FEDERAL RESERVE DISTRICT
(Dollar amounts in millions)
Selected Assets and Liabilities
Large Commercial Banks
Amount
Outstanding
10/21/87
Change
from
10114/87
Change from 10/22/86
Dollar Percent?
Loans, Leases and Investments1 2 207,684 610 3,300 1.6
Loans and Leases1 6 183,490 366 - 103 0.0
Commercial and Industrial 51,097 98 328 0.6
Real estate 71,792 171 4,871 7.2
Loans to Individuals 36,850 - 57 - 4,431 - 10.7
Leases 5,423 18 - 167 - 2.9
U.S. Treasury and Agency Securities2 16,998 235 4,121 32.0
Other Securities2 7,196 9 - 719 - 9.0
Total Deposits 206,413 - 2,713 1,684 0.8
Demand Deposits 51,869 - 2,687 564 1.0
Demand Deposits Adjusted3 36,645 1,660 - 10,597 - 22.4
OtherTransaction Balances4 19,937 - 159 2,223 12.5
Total Non-Transaction Balances6 134,608 134 - 1,102 - 0.8
MoneyMarketDeposit
Accounts-Total 43,988 - 553 - 2,228 - 4.8
Time Deposits in Amounts of
$100,000 ormore 31,323 267 - 2,505 - 7.4
Other Liabilities for Borrowed MoneyS 23,701 1,405 - 4,167 - 14.9
Two Week Averages
ofDaily Figures
Reserve Position, All Reporting Banks
Excess Reserves (+)/Deficiency(-)
Borrowings
Netfree reserves (+)/Net borrowed(-)
Period ended
10119/87
61
22
39
Period ended
10/5/87
o
158
157
1 Includes loss reserves, unearned income, excludes interbank loans
2 Excludes trading account securities
3 Excludes U.s. governmentand depository institution deposits and cash items
4 ATS, NOW, Super NOW and savings accounts with telephone transfers
S Includes borrowingvia FRB, TT&L notes, Fed Funds, RPs and other sources
6 Includes items notshown separately
7 Annualized percentchange

Interstate banking in the West

http://www.frbsf.org/publications/economics/letter/1987/el87-46.pdf

Interstate banking in the West

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