One meaning of the word “occupy” involves asserting sovereignty over a place. For the demonstrators who set up camp in lower Manhattan last fall, “occupying” was a reassertion of popular sovereignty at the very epicenter of our economic system. It was a challenge to the power that giant corporations—and Wall Street banks in particular—have amassed. It was a challenge to the way these firms have captured the levers of government and rigged policy to protect their own positions and profits at the expense of everyone else.
More than three years after their reckless greed triggered the Great Recession, the nation’s biggest banks have paid almost no penalty and are bigger than ever. In 2007, the top four banks—Bank of America, JPMorgan Chase, Citigroup, and Wells Fargo—held assets of $4.5 trillion, which amounted to 37 percent of U.S. bank assets. Today, they control $6.2 trillion, or 45 percent of bank assets, according to the Federal Deposit Insurance Corporation. For them, the recession was a brief hiccup, promptly ameliorated by a public bailout and a return to robust profitability. Last year, these four firms, together with the next two largest banks, Goldman Sachs and Morgan Stanley, paid out $144 billion in compensation, making 2011 their second highest payday ever. According to the Bureau of Labor Statistics, the average bank teller made $24,980 in 2010. Such rank-and-file employees didn’t benefit from the big bonuses and compensation packages which were heavily concentrated at the top of the corporate ladder.
Meanwhile, joblessness, staggering debt, and foreclosure have devastated countless families. Many have shared their stories on the We Are the 99 Percent Tumblr website, which should be required reading for the 1 percent. It provides a heart-breaking account of living in a society “made for them, not for us,” of drowning in debt and struggling merely to secure a means of keeping food on the table.
The Occupy movement brought this injustice to the forefront and reawakened American populism. It set the public discourse in a new direction and launched a conversation about the scale and structure of our banking system. Many Americans seem quite eager to have this conversation, and to act on it. Last fall, more than 600,000 people, citing the issues raised by Occupy, closed their accounts at big banks and moved to small local banks and credit unions.
WE RELY ON BANKS for three basic functions. Banks offer a safer alternative for parking one’s money than under the mattress. They facilitate payments, allowing businesses and individuals to use checks, credit cards, wire transfers, and other means to pay one another without having to physically exchange cash. Lastly, they extend credit, helping people buy homes and make other purchases, and enabling businesses to finance their growth.
For half a century, from the 1930s until the 1980s, this is what banking was all about. Laws enacted during the Great Depression strictly limited banks’ size and scope. Under the 1933 Glass-Steagall Act, banks that accepted deposits (and thus were covered by federal deposit insurance) were barred from investment banking activities, such as trading in securities. Banks were also limited to serving their home states and prohibited from expanding across state lines.
These policies kept much of our banking system in the hands of locally owned banks and credit unions. Banking practiced at a community scale is very different from banking at a global scale. For one thing, it creates a strong mutuality of interest between lender and borrower. Because local banks hold onto most of their loans, they have no interest in luring borrowers into mortgages they can’t repay. Local banks engage in what is often called “relationship banking.” They get to know their customers and the local economy, and use this “soft” information (which doesn’t show up on a credit report) to inform their lending decisions. This enables local banks to successfully make loans to a broader range of businesses and individuals.
This community-rooted banking system proved remarkably stable—between 1940 and 1980, there were fewer than 260 bank failures, compared to more than 2,800 in the years since. But in the 1980s, Congress and federal regulators began chipping away at the policies underpinning this system, lifting caps on interest rates and loosening mortgage rules. The 1990s saw the wholesale dismantling of the Depression-era policies. The barriers that kept banks from expanding across state lines were eliminated in 1994, opening the way for a wave of mergers. In 1999, Congress overturned Glass-Steagall, giving its blessing to the mixing of commercial and investment banking under one roof. Still more deregulation followed in the 2000s, when Congress shielded derivatives (contracts with a fluctuating value derived from underlying assets) from oversight and federal regulators exempted national banks from complying with state consumer protection laws, including, most disastrously, those governing subprime mortgages.
All of this was pushed through under the guise of allowing the financial system to modernize. Bigger banks, the argument went, would be efficient, reduce consumer costs, and produce innovative new financial products. Proponents of deregulation, including the influential former Federal Reserve Chair Alan Greenspan, insisted that oversight of the financial system was largely unnecessary. Financial firms’ own internal risk models and the discipline of the market, he argued, were far better at minimizing risk than government regulators.
Between 1985 and 2007, the number of banks in the U.S. fell from about 14,000 to 7,000, as smaller banks were bought up, first by regional and later by national banks. By 1995, a new breed of “giant” banks had emerged—massive conglomerates with more than $100 billion in assets (in today’s dollars). In 1995, these giants held 17 percent of bank assets. By 2010, their share had mushroomed to 59 percent. Meanwhile, the share of assets held by small and medium-sized banks (those under $10 billion in assets) fell from 47 to 22 percent.
As big banks took over, relationship banking was supplanted by anonymous “transactional” banking. Banks no longer shared a mutuality of interest with borrowers. Rather than hold mortgages on their books, the big banks pooled them together, converted them to securities, and sold slices of the resulting pie to investors. They made their money not as small banks had, by earning interest over the life of the loans, but through fees paid every time they issued a mortgage or sold a mortgage-backed security.
The more loans they made, securitized, and sold, the more fees these banks earned. In the lead-up to the crisis, Wall Street began stuffing the U.S. economy with more and more credit. This helped drive up housing prices, which attracted more investment dollars to mortgage-backed securities, which, in turn, spurred lenders to extend still more (and increasingly risky) loans.
On top of this, those promised “new financial products” came in the form of complex derivatives. Although some derivatives serve a legitimate purpose—such as helping a farmer hedge against the possibility of corn prices falling just as her crop comes in—the vast majority of what Wall Street cooked up, like the now-notorious credit default swaps, were nothing more than a means of gambling, a way to speculate on the future value of a mortgage security or a commodity. It was spectacularly profitable. Many financial elites and even policymakers began to see finance not as means of facilitating the “real economy”—the part concerned with producing actual goods and services—but as end in itself.
Unchecked, the financial industry grew to eclipse, and ultimately strangle, the real economy. Although often blamed, subprime mortgages did not cause the financial crisis. The value of these loans wasn’t large enough to deal such a death blow—and, as we can see today, it’s home loans in general, not just subprime ones, that are underwater. What brought down the system were the layers of derivatives piled on top of these loans. Derivatives were used to mislead investors about the risk that they were taking on. Also, because information about them generally didn’t have to be reported to regulators, no one knew who had how many. Wall Street had created an inverted pyramid, with trillions of dollars in speculative positions resting on a small base of doomed mortgages. When derivatives started going toxic en masse, no one knew which customers were going bankrupt next, and the whole pyramid collapsed, leaving the nation’s largest banks insolvent. Had it not been for extraordinary government intervention, most would have failed.
Through all of this, locally owned banks and credit unions stuck to their knitting. Few had any involvement with the Wall Street casino. Indeed, when the crisis hit, the vast majority were fine; they hadn’t made mortgages that were doomed to default or loaded up on toxic securities. Their real challenge came with the recession, as their customers lost jobs and fell behind on loan payments, and with the bursting of the Wall-Street-created real estate bubble, the property providing collateral for these loans plummeted in value. The government offered comparatively little help to community banks; they were treated as small enough to fail. The programs that were available were structured to meet the needs of big banks, not the particular challenges facing small ones. Since 2007, more than 400 community banks have failed.
THE FINANCIAL CRISIS spurred the first serious reconsideration of the bigger-is-better ideology that took hold more than 30 years ago. Some leading economists and policymakers have come out in favor of breaking up the big banks. During the congressional debate on financial reform, which began in late 2009, several proposals were put forward to fundamentally restructure banks, including a bill by Sens. Maria Cantwell and John McCain to reinstate the Glass-Steagall Act and another by Sen. Sherrod Brown to cap the size of banks.
Neither of these proposals passed. Instead, Congress crafted the Dodd-Frank Wall Street Reform Act, which left the banking system largely intact. It had a few good elements to be sure, notably the creation of the Consumer Financial Protection Bureau, but Dodd-Frank did nothing to alter the industry’s current structure. It merely tightened some of the rules under which banks operate. The debate over the law’s passage, meanwhile, offered still more evidence of the dangerous amount of political power held by big banks. Back on their feet and flush with profits, the banks deployed an army of lobbyists who succeeded in weakening many of the Dodd-Frank bill’s already modest provisions.
Wall Street assumed Dodd-Frank would be the last word on financial reform. But, as the Occupy movement and several other populist uprisings last year, including the National Nurses United march on Wall Street in June, made clear, Americans are not at all content with the idea of continued rule by a handful of financial monopolists.
THE EMPIRICAL EVIDENCE is on the side of populism.
Indeed, there is remarkably little hard data to support the idea that bigger banks are superior. They are not safer. Rather than reduce risk, highly concentrated and complex financial systems actually magnify and rapidly transmit it to the rest of the economy. Nor have big banks lowered costs for consumers. Fees for checking account services, such as overdrafts and stop-payment orders, are an average of 20 to 40 percent higher at big banks than at small banks and credit unions. Several studies have also found that big banks pay lower interest on savings and charge higher rates on many loans.
How can this be? The deregulation of the 1990s was sold to us on the grounds that economies of scale would enable bigger banks to operate more efficiently and cut costs. But it turns out that banks peak in efficiency at about $5 billion to $10 billion in assets, according to economists. Beyond that size they become weighed down by bureaucracy and actually operate less efficiently. Today’s giant banks are orders of magnitude larger—JPMorgan Chase, for example, has more than $2 trillion in assets—which suggests their dominance is less a function of market optimization than the exercise of political and economic power.
Nor does size deliver a wider array of services. Most local banks and credit unions offer the same services that big banks do. About 90 percent have online bill-pay and three-quarters offer credit cards. They adopt new technologies at nearly the same pace. One in seven local banks, for example, already allows customers to make payments with their smartphones, while half plan to install the service within two years. What they cannot do on their own, small institutions often accomplish by working together. Most credit unions, for example, belong to a national cooperative that gives their customers surcharge-free access to more than 28,000 ATMs.
Most compelling of all, small community-based financial institutions do far more for the real economy than their gambling-minded Wall Street rivals. Although small and mid-sized banks hold only 22 percent of bank assets, they account for 54 percent of all small business lending. The largest 20 banks, meanwhile, control nearly 60 percent of assets but provide only one-quarter of small business lending.
What accounts for this huge gap? Small business lending thrives in the context of relationship banking because it requires a nuanced judgment about the likelihood of a particular entrepreneur succeeding in a particular local market. Big banks, which make decisions at a distance, often relying on computer models, are not very good at sorting good credit risks from bad, so, rather than face higher defaults, they keep a tight rein on small business credit. The economic consequences are significant: Research has found that, all else being equal, regions dominated by big banks are home to fewer small businesses.
HOW DO WE RETURN to a banking system that is more local and more responsive to the needs of communities? Hundreds of thousands of people have already taken direct action by dumping their accounts at big banks and moving to a local bank or credit union. The shift has been sizable enough to expand the market share of credit unions by about 10 percent and give many small banks a boost. But we should remember that, while banks need deposits, loans are how they generate income. To have more of an impact, we need to move our borrowing too, including ditching our big bank credit cards for locally issued cards, and turning to local banks and credit unions when we need a new car loan or plan to refinance a mortgage.
But direct action by consumers will only get us so far, in part because big banks have other sources of funding besides our deposits. Ultimately, we must marshal our real power, as citizens, to deliver another round of policy change and tackle the problem of bigness head-on. That may seem a tall order, but it’s worth remembering that it took Franklin Roosevelt years to enact his full suite of banking reforms. Here are the policies we might start with:
Break up the biggest banks. In January, Public Citizen, a nonprofit group, petitioned federal regulators to break up Bank of America on the grounds that it “is too large and complex to manage or regulate properly, and its financial condition is poor and could deteriorate ... causing a devastating financial crisis.” While the financial condition of other giant banks is not quite as precarious, the same logic applies to them. Regulators should untangle these conglomerates before we find ourselves in another financial crisis.
Enact anti-concentration policies. To spur more decentralization, Congress should reinstate Glass-Steagall’s separation of commercial and investment banks, cap the share of the nation’s deposits that any one bank can amass, and introduce a graduated tax on bank assets that would further deter bigness.
Protect consumers. Big banks have made much of their money by fleecing consumers, not only through fees but also by funding some of the nation’s worst predatory lenders. By cracking down on abusive practices, the new Consumer Financial Protection Bureau could create a more level playing field for responsible financial institutions.
Penalize speculation. A growing movement is calling for a financial transaction tax, a modest tax on each Wall Street trade. The tax would be too small to burden legitimate investment, but would dampen high-speed trading and other forms of Wall Street speculation while raising revenue that could be invested in the real economy.
Establish public partnership banks in each state. The only state where local banks have flourished in recent decades is North Dakota, which has four times as many local banks per capita as the national average. Their strength is owed largely to the Bank of North Dakota, a publicly owned “bankers’ bank.” BND does not serve consumers directly but partners with local banks to increase their lending capacity. It’s a smart model, and more than half a dozen other states are now considering legislation to replicate it.
There is nothing inevitable about a highly concentrated banking system, in which speculation trumps productive investment. Today’s giant banks are the product of policies adopted in the 1980s and 1990s. Recent events have made the consequences of those policies painfully clear. It is time for a new set of rules—a banking policy for the 99 percent.
Stacy Mitchell is a senior researcher with the Institute for Local Self-Reliance, where she directs initiatives on community banking and independent business. She is the author of Big-Box Swindle and produces a popular monthly newsletter, The Hometown Advantage Bulletin.