Biden’s Attack on Bank Mergers Ignores Neobanks & Fintech Trends

The initial reaction to the White House executive order was that bank deals would slow to a trickle. That may not turn out to be the case, experts now believe. In addition, the fact that the order ignores nonbank competitors is widely criticized.

The Biden administration has taken aim at bank mergers and big tech as part of a far-ranging business-focused executive order that banking industry experts say aims at the wrong issues, ignores current market realities like the rapid growth of fintechs and neobanks, and may exacerbate the industry’s real challenges without solving issues that give progressive politicians concerns.

When on July 9, 2021, the administration announced that the executive order would be published, the financial media quickly issued headlines along the lines of “Biden move slams the brakes on booming bank M&A.” Since then a more nuanced outlook has formed concerning the order’s longer-term impact on dealmaking, as well as greater perspective on the executive order’s significance to the overall evolution of the industry.

The executive order and a detailed explanation of it arrived during a transition in federal anti-trust philosophy, heralded by the change in party at the Department of Justice and the appointment of Lina Khan as Chairwoman of the Federal Trade Commission. Khan is known for a paper written during law school titled “Amazon’s Antitrust Paradox” — sufficiently vehement that the ecommerce giant has requested she recuse herself from FTC investigations of the company. The Wall Street Journal headlined an analysis of the changing antitrust philosophy in Washington this way: “Antitrust’s New Mission: Preserving Democracy, Not Efficiency.”

Really Broad, Not Very Deep:

There is a sense among experts that the order’s passages on bank mergers reflect weak understanding of what’s going on in financial services.

The document reflects a strong “banking merging with banks” attitude that is aimed squarely at concentration of economic power. In terms of explicit orders for banking regulators, regarding mergers, it calls on them to “update guidelines on banking mergers to provide more robust scrutiny of mergers.”

All that said, the order’s specifics are couched as urgings, and other than a deadline of six months for initial action, provide more rhetoric than instruction.

“A fair, open, and competitive marketplace has long been a cornerstone of the American economy, while excessive market concentration threatens basic economic liberties, democratic accountability, and the welfare of workers, farmers, small businesses, startups, and consumers.”

— Opening of President Biden’s “Executive Order on Promoting Competition in the American Economy”

Beyond banking and big tech, the document targets agriculture, big pharma, telecommunications, the shipping business, freight and passenger transportation and more.

“Executive orders are limited in what and how they can effectively change the law,” explains veteran financial services attorney Thomas Vartanian of Vartanian & Ledig, PLLC. To the extent that the order affects bank regulators who rule on mergers, he continues, it will most directly hit the Department of Justice. Vartanian notes that the effect on officially independent agencies like the Federal Reserve and FDIC can be debatable, while the Comptroller’s Office, as part of the Treasury Department, is not independent.

“But at the end of the day, it’s an executive order and executive orders are often cosmetic,” says Vartanian. He is an experienced Washington hand, both in private practice and in financial agency posts. In addition, early in his career, as an attorney for the Comptroller’s Office, Vartanian litigated some of the last government challenges of proposed bank mergers.

Aspirational Edicts and Marketplace Realities

As the executive order points out, the government hasn’t challenged a deal in years, though Vartanian makes the point that informal proposals are often brought to regulators. Those that get shot down privately never become official deals. (“Federal agencies have not formally denied a bank merger application in more than 15 years,” according to the executive order, emphasis added.)

That said, “I wouldn’t want to be part of the next large bank deal announced,” says Joshua Siegel, Chairman and CEO at StoneCastle Partners, LLC. “The first deal announced in the wake of this is going to pick up extra scrutiny.” He notes that there will be significant differences between the political rhetoric and positioning of the executive order — it has hints of Teddy Roosevelt trust-busting and Franklin Roosevelt New Dealism — and the detail level considerations professional staff must bring to analyzing actual proposed mergers.

“I don’t know how well thought out some of these edicts are,” says Siegel. “They’re aspirational. I applaud aspirations, but I worry when lack of detail and lack of understanding of the reality isn’t factored into the aspiration.”

“When there’s an edict from the top like this, they tend not to look at the status quo to understand what’s driving it,” Siegel continues. The executive order talks about the banking industry’s shrinkage over decades and its perception of the impact on consumers, especially minorities. But Siegel points out that with approximately 4,000 banks in the U.S., that’s still a large number of players — especially compared to telecomm, e-commerce, web search and other ultra-concentrated industries.

One Policy to Rule Them All:

While many of the industries mentioned in the order have specific laws governing mergers and monopolies — such as the Bank Merger Act — the Biden administration lays out the case for what it calls a “whole-of-government competition policy.”

The order states that centralization “is necessary to address overconcentration, monopolization, and unfair competition in the American economy.”

Jim Marous, Co-Publisher of The Financial Brand and CEO of the Digital Banking Report, believes the order’s focus on bank mergers is potentially misguided.

“To put mergers of financial institutions under the type of scrutiny they reference misses some of the rationale for the mergers,” says Marous. “The banking industry is extremely inefficient right now. If anyone was to build a new bank, they would not have branches, the platform would use modern technology and the back office would be streamlined for digital engagement. Unfortunately merging multiple inefficient organizations into one, doesn’t resolve the foundation of the problem, it just spreads the costs across a larger asset base.”

Marous believes that open banking reform is much more important than a revised bank merger policy. This is partly addressed by the order’s instruction for the Consumer Financial Protection Bureau to issue rules making consumers’ personal financial data portable.

Indeed, Marous’ view is much the opposite of the administration. The administration wants lots of institutions to ensure competition for consumers’ good. Says Marous: “Consolidation within the banking industry is needed and should be encouraged, while monitored. We don’t need the number of banks we have today and the consumer is not being served well by the ones we have.”

Marous adds that community banks serve local needs and have secured that niche. Siegel says many have to sell out because the executives that run them have grown old and didn’t groom successors. Marous points out that at the other end of the size spectrum, “the largest banks will survive because of scale and investment in digital capabilities.”

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Will the Executive Order be a Bank Deal Killer?

The reaction of banking lobbies to the executive order was relatively predictable.

“By any analysis, banking is among the most competitive, least-concentrated industries in America, as anyone who has shopped for a credit card, mortgage or deposit account knows,” the Bank Policy Institute, which represents large banks, stated. “Moreover, banks continue to lose business to unregulated fintechs or government-sponsored enterprises, whose presence in the market current Department of Justice guidelines inexplicably ignore in assessing market competition.” These matters aren’t touched on in the executive order.

The American Bankers Association took a similar tack, adding a wallop for credit unions grabbing market share and often at a tax advantage. It also called for efforts to increase the number of banks in the U.S. The Independent Community Bankers of America reiterated its endorsement of existing federal legal limits on concentration, including limits of 10% of nationwide total deposits and 30% of total deposits at the state level.

Competition is Multifaceted:

The top three banks together hold one-third of U.S. deposits and have nearly national branch systems. Competing with such formidable competition often requires smaller players to get bigger.

In spite of initial doomsday headlines, stock analysts saw less impact.

An investment note by Wells Fargo Securities was headlined: “Executive Order Unlikely to Halt Tsunami of Bank Mergers over the Long Term.”

“Economics should win out over politics and bank mergers should increase,” over the long term, the Wells analysts state. Medium-term, the order could slow things down, which, paradoxically, would be “potentially reinforcing the position of the incumbents such as Bank of America and JPMorgan [Chase].” The analysis suggested that smaller bank mergers among midcap institutions would be less affected.

“A ding, not a dent, to M&A activity,” was how Keefe, Bruyette & Woods saw the order.

“We view the great potential scrutiny on M&A activity to be modest and manageable when viewed against the voracious pace of M&A activity and the healthy backdrop for consolidations broadly. The executive order seems to be focused on large-cap bank M&A and Big Tech.”

— Keefe, Bruyette & Woods

Restrictions Wouldn’t Just Affect Merging Institutions

Vartanian suggests that a point that may be missed is that wherever the threshold is set for banks that will receive extra scrutiny, that will ripple to other institutions.

“Say you are a moderately sized bank, there’s a premium built into the marketplace with regard to the possibility of selling the bank at two times book,” he explains. “Well, if you were among the next 20 banks after the top six or what have you, you’re probably not selling yourself to the top six who can’t do that acquisition.”

It doesn’t stop there. He says that “the premium is probably not going to be extant in your stock. To the extent it’s not in the stock, it affects your ability to raise capital and the cost of capital. And that trickles down throughout the entire banking business.” (Vartanian has studied industry crises and wrote 2021’s 200 Years of American Financial Panics: Crashes, Recessions, Depressions, and the Technology that Will Change It All.)

What the Executive Order Ignores that’s Important

Curiously, there is little recognition in the Biden document of the revolution that’s been taking place over the last decade in financial services in regard to fintech and neobank incursion, and, more broadly, platform companies like Amazon and Google that want to wet their beak in everything.

Vartanian recalls how in the 1980s it was revolutionary when the courts permitted money market mutual fund balances to be counted as part of the competitive evaluation of a market. Now, he says, the fact that “you just need to get on your computer and access any lender on the globe means the nature of competition in financial services has completely changed.”

Reality Check:

The institution across the street is hardly anyone’s only competition.

While Vartanian doesn’t expect to see many fintechs acquire banks, as LendingClub did with Radius Bank. both he and Siegel see acquisitions of fintechs by banks picking up, due to organic reasons. In addition, for the most part, such acquisitions don’t fall under bank/bank merger rules, according to Vartanian.

In fact, that’s a curious thing about the whole bank and bank viewpoint of the executive order.

JPMorgan Chase can’t acquire more banks, but CEO Jamie Dimon has said that Chase is on the acquisition trail in foreign banking markets and in nonbank tech companies. Chase has already done over 30 deals in 2021 that don’t fall under merger review process. Dimon has said the reason for more acquisitions is increasing competition from Amazon and Google.

Vartanian notes that, in theory, a big bank like Chase could acquire multiple players that would add up to a traditional bank, yet not fall under merger rules.

Marous believes that “Chase’s acquisitions will all be focused on open banking plays that move them towards a platform or embedded solution. They could acquire investment, lending, savings, technology and marketing experience organizations without ever growing their ‘banking’ base.”

For this reason and others, Vartanian believes the executive order addresses only a sliver of what should really be addressed to reflect how financial services has evolved. He believes the time has come for “functional regulation.” It’s a longstanding concept that calls for regulation by what a firm does, not the presence of a charter, license or other differentiator.

‘Reforestation’ Could Benefit Consumers and the Industry

Ultimately, if the Biden administration really wants to increase competition, Siegel believes the banking regulators should be jawboned into loosening up on the chartering of de novo banks.

Hundreds of new banks were approved before the financial crisis and by comparison, since then, there has been a trickle, notes Siegel. More capital must be raised to form community banks now, which precludes some communities from doing this.

Siegel, a longtime advocate of community banking, thinks the administration ought to be looking at ways to loosen up the process.

His message to the administration: “If there are people who are willing to put up the capital, why don’t you let more new banks exist? Why don’t you make it easier for fintechs to actually become fully regulated banks?”

He says the fintech model of adopting narrow slices of banking won’t work long term. Giving them charters will help them expand and bring more banks into being, increasing competition, he says.

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