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FABSF

WEEKLY LETTER

December 26, 1986

Banking Antitrust in Transition
Since 1979, there has been an unusually strong
merger movementinthe United States banking
industry. Banking mergers have grown dramatically not only in number, but also in size (see
chart). The causes of this wave of mergers are a
matter of debate, but most observers agree that a
desire for geographic expansion and for self-protective growth in anticipation of interstate banking have been important.
Many of these mergers have involved large
banks of regional and national significance, but,
unlike the 1960s and 1970s, federal authorities
have rejected very few on the basis of antitrust
concerns. As a result, many analysts have concluded that banking antitrust standards are more
lenient now than at any time in the past. Some
observers have even suggested that antitrust concerns are essentially a "dead" issue in today's
banking mergers.
What has happened, then, in the 1980s to cause
this apparent turnabout in the application of
antitrust standards? This Letter identifies a number of developments that have contributed to the
greater leniency in current banking antitrust.

Background
Unlike other U.S. industries, banking in general
has been subject to antitrust review for only a
few decades. Prior to the passage of the Bank
Merger Act of 1960, banking was widely held to
be separate from "commerce" and therefore not
subject to antitrust laws. The Supreme Court's
1963 decision involving the Philadelphia
National Bank, however, removed any doubts as
to the applicability of antitrust to banking.
In this landmark case, the Court found commercial banks to offer a unique "cluster" of products that comprised a separate line of commerce
subject to the antitrust standards of Section 7 of
the Clayton Act (1914). This important antitrust
law prohibits mergers when "in any line of commerce in any section of the country the effect of
such acquisition may be to substantially lessen

competition." The Supreme Court reaffirmed its
stancejn~tbePhiladelphia National case in later
cases involving the Phillipsburg National Bank
(1970) and the Connecticut National Bank (1974).
Since the 1960s, the task of reviewing the antitrust effects of proposed commercial bank mergers and bank holding company (BHC)
acquisitions has rested primarily with the three
federal banking agencies. jurisdiction over mergers is determined by the charter class and
Federal Reserve System membership status of
the surviving bank. The Federal Deposit Insurance Corporation (FDIC) has jurisdiction over
state nonmember banks, the Federal Reserve
System over state member banks and all acquisitions involving bank holding companies, and the
Comptroller of the Currency over national
banks. The Department of justice (DOj) also
plays a role in banking antitrust in that it may,
within 30 days of agency approval, bring suit to
prevent any merger.

Antitrust analysis
Since the Supreme Court's decision in the Philadelphia National case, the three banking agencies have taken a more or less uniform analytical
approach to assessing bank mergers. Of primary
importance in that approach is the theory that
banking market structure influences market conduct which, in turn, influences market performance. It has generally been assumed that
markets with more banking firms and less
deposit concentration will exhibit greater competition and lower profits. (This structure-conduct-performance hypothesis is not accepted by
all economists although numerous empirical
investigations in both the industrial and banking
sectors tend to support it.)
Assessing the antitrust effects of a bank merger,
therefore, entails judging the likely impact
of a proposed merger on the structure of the
market in which the merging banks are located.
To do this requires the delineation of a relevant
geographic market and the identification of all

FRBSF
commercial banking competitors. So-called
"horizontal mergers" occur between banks in
the same geographic market and eliminate
"existing competition." "Market extension"
mergers are those that occur between banks
located in separate geographic markets; such
mergers may eliminate "potential" or " pmbable
future" competition.
The competitive importance of a bank is generally estimated by its share of market deposits.
Thus, horizontal mergers alter market structure
and increase a merging bank's market power by
combining the bank's deposits with those of a
competitor. Similarly, substantial market power
can be obtained quickly by a banking firm that
wishes to enter a new market and does so via a
market extension merger with a leading competitor in the new market. From an antitrust
viewpoint, either type of merger may, at times,
be undesirable if the banking markets involved
are noncompetitive.

What has changed?
Prior to this decade, it was common for the
banking agencies to reject pmposed bank mergers and BHC acquisitions for antitrust reasons.
Since 1980, legislative changes, judicial rulings,
and agency decisions have combined to create a
regulatory climate that has pmduced far fewer
rejections of both horizontal and market extension mergers.
On the legislative side, it is difficult to understate
the importance of the Depository Institutions
Deregulation and Monetary Control Act of 1980
and the Garn-St Germain Act of 1982. These
two laws substantially increased the "banking"
powers (asset and liability) of thrift institutions
and further weakened the much-attacked concept of commercial banking as a separate line of
commerce. As a result, the banking agencies
and the DOJ have recognized thrift institutions
as at least partial competitors of commercial
banks. Including thrifts in the competitive framework tends to lead to a new view of market
structure as being more atomistic and less concentrated than in the past. Within this new view,
horizontal bank mergers now tend to cause
fewer objectionable changes in competition.
The inclusion of thrifts as banking competitors
has also made it less likely that regulators would
reject market extension mergers under existing
antitrust laws. Prior to 1980, market extension

bank mergers and BHC acquisitions were disapproved with some regularity. A 1981 ruling by
the u.s. Fifth Circuit Court of Appeals, however,
changed this by overturning the Federal
Reserve's 1980 rejection of two market extension acquisitions in Texas. (In another important
198LdedsJon, this Court also ruled that no
banking acquisition or merger could be denied
for competitive reasons unless the merger or
acquisition constituted an antitrust violation.
Thus, the antitrust standards of the banking
agencies cannot be more strict than those of the
DOJ.)
Although careful not to invalidate the theory of
potential and probable future competition, the
Court delineated four specific criteria that would
have to be met before a market extension merger could be rejected on antitrust grounds: (1)
the target market is operating noncompetitively
(i.e., it is highly concentrated), (2) the acquiring
firm is a likely entrant (either foothold or de
novo) into the target market, (3) there are few
likely potential entrants, and (4) alternative entry
by the acquiring firm would significantly
encourage competition in the market structure.
Experience since this ruling has demonstrated
that most banking markets are reasonably competitive - that is, not highly concentrated when thrifts are included as banking competitors. This is especially true of states such as California and Florida where thrifts are prevalent.
Also, because of the branching powers that
thrifts generally enjoy there are almost always
more than a "few" potential entrants into any
banking market. The number of potential
entrants into many banking markets has also
increased dramatically because of recent
changes in interstate banking laws that now permit entry into local markets by out-of-state firms.
The combined impact of the 1980 and 1982 legislation and the 1981 Fifth Circuit Court ruling
on market extension mergers has been significant. No banking agency has denied a market
extension merger since 1980.
Agency rulings in merger cases since 1980 have
also contributed to more lenient antitrust standards. One such ruling by the Comptroller of the
Currency (OCC) in 1984 further expanded the
universe of firms that the OCC considers to be
competitors to banks. The ruling was made in
connection with the approval of a horizontal

Bank Mergers Soar in Recent Years
$ Billions

Number

600

60

500

50

.
.
,
:
:
•
·
•
•
!·
:
.
:

400

40

I

300

200

,........

100
..

- - ..-..

.......,'"

,/

''''''....,','..v ",

30

20
10

Assets Acquired/
- .....'
Ou:::t:1:...L.I:L-LJ-L.L..L--l.-LL...L.....1--l.-L..L...L....I----L-.l-l....J.....J

a

1960 1962 1964 1966 1968 1970 1972 1974 1978 1978 1980 1982 1984'
*

1984 Figures Are Preliminary

merger of two Pennsylvania banks and gave
competitive weight not only to thrifts but also to
certain nonbanking firms such as finance companies and brokerage firms - some of which
had no physical presence in the relevant geographic market.
Similarly, in 1985 the FDIC adopted new
explicit merger guidelines that support the
notion of a disaggregated (multiproduct) line of
commerce in banking. As a result, future bank
mergers decided by the OCC and the FDIC are
virtually certain to assign a competitive role for
firms traditionally believed to be noncompetitive
with banks.
A development unrelated to the line of commerce issue but one that has greatly facilitated
bank mergers in the 1980s has been the use of
branch and deposit divestitures to eliminate or
reduce the negative antitrust effects of certain
horizontal mergers. In contrast to the industrial
sector, where selective divestitures in mergers
have been acceptable for many years, bank regulators have discouraged the use of selective
divestitures in bank mergers prior to this decade.

Now, proposed mergers between large banking
firms that operated in one or more common
markets can almost always meet agency standards governing the elimination of existing competition through such divestitures. The banking
agencies currently also allow firms to "fine
tune" theirmergerproposals by reducing or
eliminating altogether the amount of deposits
and assets to be acquired in markets where
existing competition is an important issue.
Finally, some observers believe that the Department of Justice also has promoted a climate of
leniency toward bank mergers during the 1980s.
In addition to indicating (in 1980) that it
intended to be more receptive to mergers in general, the DOJ has twice (in 1982 and 1984)
revised its horizontal merger guidelines in ways
that most observers agree allow more mergers.
The DOj's infrequent legal challenges to bank
mergers in recent years has underlined the view
that the DOJ has become more receptive to
bank mergers.
Conclusion
The current merger movement in banking is
being abetted by antitrust practices and standards that have become significantly more
lenient during the 1980s. The current antitrust
climate in banking is largely the result of the
changing nature of banking and recent legislative, judicial, and agency rulings. One important
consequence of these developments has been a
retreat from the traditional concept of commercial banking as a separate line of commerce and
a leaning toward a view of banking as a multiproduct activity in which numerous types of
financial services firms engage. Because of these
developments, it appears that existing antitrust
laws and standards will not be important constraints on the industry consolidation that is
expected to occur as the result of extensive
interstate banking.
Anthony W. Cyrnak

Opinions expressed in this newsletter do not necessarily reflect the views of the management of the Federal Reserve Bank of San
.
. .
Francisco, or of the Board of Governors of the Federal Reserve System.
Editorial comments may be addressed to the editor (Gregory Tong) or to the author .... Free copIes of Federal Reserve pubhca~lOns
can be obtained from the Public Information Department, Federal Reserve Bank of San Francisco, P.O. Box 7702, San FranCISco
94120. Phone (415) 974-2246.

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BANKING DATA-TWELFTH FEDERAL RESERVE DISTRICT
(Dollar amounts in millions)

Selected Assets and Liabilities
Large Commercial Banks
Loans, Leases and Investments1 2
Loans and Leases 1 6
Commercial and Industrial
Real estate
Loans to Individuals
Leases
U. 5. Treasu ry and Agency Secu rities 2
Other Secu rities 2
Total Deposits
Demand Deposits
Demand Deposits Adjusted 3
Other Transaction Balances 4
Total Non-Transaction Balances 6
Money Market Deposit
Accounts-Total
Time Deposits in Amounts of
$100,000 or more
Other Liabilities for Borrowed MoneyS

Two Week Averages
of Daily Figures

Change from, 12/4/85
Dollar

Amount
Outstanding

Change
from

12/3/86

11/26/86

204,087
183,827
51,044
67,134
39,677
5,593
12,679
7,582
210,264
57,550
39,900
18,951
133,762

-

-

-

46,561
32,053
27,162
Period ended

12/1/86

324
480
966
166
48
16
24
178
1,654
1,039
2,663
723
110

-

-

4,662
3,060
1,025
1,238
1,598
169
1,405
198
6,238
6,069
6,112
3,846
3,678

158

-

302
799

1

2

3
4

S
6
7

93
23
70

-

5,943
626

Period ended

11/17/86
66
63
3

Includes loss reserves, unearned income, excludes interbank loans
Excludes trading account securities
Excludes
government and depository institution deposits and cash items
ATS, NOW, Super NOW and savings accounts with telephone transfers
Includes borrowing via FRB, TT&L notes, Fed Funds, RPs and other sources
Includes items not shown separately
Annualized percent change

u.s.

-

783

Reserve Position, All Reporting Banks
Excess Reserves (+ )jDeficiency (-)
Borrowings
Net free reserves (+ )jNet borrowed( -)

-

2.3
1.6
1.9
1.8
4.1
3.1
12.4
2.6
3.0
11.7
18.0
25.4
2.6
1.7

-

15.6
2.2