Wal-Mart and the Separation of Banking and Commerce
Arthur E. Wilmarth Jr.
George Washington University Law School
Connecticut Law Review, Vol. 39, May 2007
GWU Legal Studies Research Paper No. 271
GWU Law School Public Law Research Paper No. 271
During 2005-2006, Wal-Mart, Home Depot, and several other commercial firms applied to the Federal Deposit Insurance Corporation (FDIC) for permission to acquire FDIC-insured industrial loan companies (ILCs). Those applications were opposed by business groups, labor unions, community activists, and members of Congress. In January 2007, the FDIC imposed a one-year moratorium on all acquisitions of ILCs by commercial firms and asked Congress to determine whether such acquisitions should be prohibited.
As the FDIC noted, acquisitions of ILCs by commercial firms raise three important policy issues, which are addressed in this Article. First, commercial ownership of ILCs conflicts with the policy of separating banking and commerce, which has been generally followed in the United States since 1787 and has gained strength over time. Banks have frequently tried to engage in commercial activities, and commercial firms have often attempted to gain control of banks. However, federal and state legislators have repeatedly passed laws to separate banking and commerce whenever it appeared that either (i) the involvement of banks in commercial activities threatened their safety and soundness, or (ii) commercial firms were acquiring large numbers of banks. ILCs represent the last remaining exception to the policy of prohibiting commercial ownership of banks.
Second, acquisitions of ILCs by commercial firms will produce serious risks for our nation's financial system and economy. Commercially-owned ILCs will extend federal safety net subsidies to the commercial sector, and ILCs will have strong incentives to make loans and investments that benefit their commercial affiliates. Commercial ownership of ILCs therefore creates a competitive imbalance between commercial firms that own ILCs and those that do not. Commercially-owned ILCs are also vulnerable to contagious losses of confidence resulting from problems at their parent companies. Accordingly, federal regulators may feel compelled to arrange too big to fail bailouts of large troubled parent companies of ILCs.
Third, the FDIC currently does not have authority to exercise consolidated supervision over commercial owners of ILCs. Any grant of such authority to the FDIC would have adverse consequences. The FDIC does not have the expertise or resources to identify and control the risks presented by commercial owners of ILCs. In addition, mandating FDIC supervision of commercial parent companies would significantly increase the federal government's interference in the general economy. FDIC supervision of commercial owners could also impair market discipline by causing market participants to expect FDIC support for such owners during financial crises. For all these reasons, Congress should prohibit further acquisitions of ILCs by commercial firms.
Number of Pages in PDF File: 85
Keywords: Separation of banking and commerce, industrial banks, consolidated supervision, federal safety net subsidies
JEL Classification: E44, E53, F30, G20, G21, G30, K22, K23, N20, N21
Date posted: May 8, 2007