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It’s official: When it comes to banking, bigger is better, at least in the eyes of Washington. While the much-anticipated bank merger wave of 2004 is expected to be bigger than anything the industry has seen before, it is unlikely to provoke much attention from Washington. Industry experts expect big bank mergers will sail through the Federal Reserve Board and the Department of Justice as financial services companies apply the lessons of the last big merger wave to their current deals. “The banks are all stronger today than they have been in years,” says Robert Clarke, a former comptroller of the currency who is now a partner at Bracewell & Patterson in Houston. “It will be easy for regulators to see why mergers make sense. You won’t be seeing weak commercial banks trying to merge with strong banks.” Such optimism on the regulatory environment for giant bank deals seems counterintuitive. After all, megadeals outside of banking typically raise significant public interest worries. But banking may be different. Experts say banks that can diversify both geographically and productwise are much less likely to fail and are not much more difficult to regulate. So big bank mergers tend to stabilize the industry. “Size alone is no longer a safety and soundness issue,” says Diane Casey-Landry, president of America’s Community Bankers, a trade group that represents community banks and thrifts. That’s good news for banks. Today’s deals dwarf the record-setting transactions from the great merger wave of 1995. A record 10 deals in 1995 had a purchase price that exceeded $2 billion. Just as significant, the total assets of the combined banks set new records. Chemical Banking Corp. shocked the financial services industry in 1995 by buying Chase Manhattan Corp. for a mind-boggling $10 billion. It created a bank with $297 billion of assets. By today’s standards, even the Chemical-Chase deal appears quaint. J.P. Morgan Chase & Co. on Jan. 14 offered $58 billion for the Bank One Corp. The deal followed the Bank of America Corp.’s $47 billion proposal to buy the FleetBoston Financial Corp. Both deals are awaiting regulatory approval. In the mid-1990s, the big bank mergers sparked congressional hearings, warnings of gloom and doom from banking experts, and bitter fights over whether the banks were meeting their community reinvestment obligations. But today’s deals hardly get any scrutiny. Several of the initial research notes issued on the J.P. Morgan Chase-Bank One merger do not even raise the issue of regulatory risks to the transaction. Why? Experts say that Citigroup, J.P. Morgan Chase, and the other megabanks have demonstrated over the past eight years that bigger can be better. Shocks that would have taken down banks historically have had little effect during the more recent economic downturn. Many banks had ties to the Enron Corp. and other scandal-ridden companies and were forced to incur losses and pay out millions of dollars in settlements. They also put their reputations at risk by being associated with such serious corporate wrongdoing. Despite this, none of the banks came even close to being in real financial distress. With their enormous heft and diversified product lines, the exposure to corporate financing scandals was barely material to many big banks. “Banks have become so big, with such diverse revenue sources, that no single event can cause a failure,” says Gilbert T. Schwartz, a partner at Schwartz & Ballen in Washington, D.C. The mergers of the mid-1990s sparked fears that the big banks would become so large that regulators could not allow them to fail. Knowing that regulators would bail them out, shareholders would pressure management to take big risks in the hope of getting big rewards, or so the argument goes. But Clarke says that fear has not been borne out: “Time has shown that despite people’s misgivings, these large institutions have been well-managed.” The other major issue last time centered on compliance with the Community Reinvestment Act, the law requiring banks to make loans in low-income areas where they accept deposits. CRA allows regulators to block mergers for banks that are inadequately serving their communities. Activists protested every significant bank merger of the 1990s, contending that the banks involved failed to make adequate loans to low-income and minority consumers. The result: The big banks used the experience gained in the 1990s to thwart CRA protests of today. Both Bank of America and J.P. Morgan Chase were quick to unveil community investment commitments in connection with their most-recent mergers. They also formed alliances with activists, and they went into the mergers with “outstanding” CRA grades, the highest score possible. “On the big ones, it is much harder to make the protests meaningful,” admits Matthew Lee, executive director of Inner City Press, a New York-based activist organization. The other issue — Justice Department antitrust review — is not likely to come into play often. Both the Bank of America and J.P. Morgan Chase deals involve efforts to expand geographically. As such, they present few antitrust issues. Most other deals are expected to involve out-of-market targets, which minimize the antitrust issues. Where companies do have branch overlaps, the remedy has become almost automatic. The banks find buyers for the overlapping branches. The Justice Department typically demands a single acquirer, though it has permitted multiple buyers on occasion. Of course, while the old issues may be dead, new questions are likely to arise. Yet these new questions go more to the future of the regulatory system than to whether banks should be so large. ACB President Casey-Landry expects Congress to hold hearings on whether to retain a law barring any bank from pursuing a merger that gives it more than 10 percent of domestic deposits. Once Bank of America closes the Fleet deal, it will have just under 10 percent of domestic deposits, making it the first bank affected by the cap. Also under scrutiny will be issues of geographic concentration, especially if any of the megabanks tries to do in-market acquisitions. “What happens with local communities?” Casey-Landry asks. “These are not small towns but cities like Chicago or L.A.” Another issue centers on the future of state bank charters. For much of the 1990s, the health of the national bank charter was in doubt. Many large banks such as Chase turned to state charters, which had lower assessment fees. The thinking at the time was that banks had little incentive to pay for regulation when they could essentially get it for free from the states. The Office of the Comptroller of the Currency, which relies on the assessments to pay for its operations, has been on the offensive for more than a decade to demonstrate the benefits of a national charter. The OCC has won Supreme Court fights giving national banks the right to sell insurance and annuities at a time when many states were trying to keep banks out of this business. It also has used its power to pre-empt state laws to exempt national banks from state restrictions on interest rates, ATM fees, and predatory lending limits. The OCC has succeeded in its campaign and as a result, experts say, national bank charters have become the charter of choice for multistate banks. “The national charter has become far superior,” Schwartz says. So far, the OCC has repeatedly defeated challenges by the states. But the OCC has become so successful that some experts predict that the Federal Reserve, which regulates some state-chartered banks, may appeal to Congress for help. A related issue is whether a rapidly consolidating banking sector still needs four federal regulators — the OCC, the Fed, the Federal Deposit Insurance Corp., and the Office of Thrift Supervision — as well as one regulator in each state. “We are getting to the point where we have to address the number of regulators,” Schwartz says. Eliminating even one of the federal bank regulators would be a political nightmare. Yet Schwartz says it could happen. Most at risk is the OTS, which like the OCC is supported by exam fees. With the differences between thrifts and banks disappearing, its charges may begin to question why they pay for oversight that really is no longer that specialized. The political repercussions that could erupt as big cities lose large banks may also be muted this time around. While mergers reduce the overall number of banks, groups continue to start new ones every year in areas where megamergers have taken place. Often, these banks were able to quickly become key sources of funding to the city’s business community as leaders put their resources behind the local institutions rather than appeal to the out-of-state megabanks for help. “For all the consolidation, you will see more on the other side,” Casey-Landry says. “The business community wants banks headquartered in their local communities.” Jaret Seiberg is Washington bureau chief at The Deal, a New York publication affiliated with American Lawyer Media.

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