As the federal government considers imposing new regulations on financial entities, a new report shows that only one New York-based bank has taken advantage of sweeping deregulation a decade ago that freed banks and insurance carriers to compete against one another.
Citigroup Inc. had $3.5 billion in income from its insurance operations in 2007, more than double the amount earned by San Francisco-based Wells Fargo Co. New York City-based Citigroup is the third largest bank in the lower Hudson Valley with 10 percent of deposits, and the company had more than $210 billion in deposits nationwide at last report.
Enacted in 1999, the Financial Services Modernization Act repealed many elements of the Glass-Steagall Act, which the federal government passed in 1933 in response to the 1929 stock market crash and the Great Depression. Glass-Steagall restricted banks to their core business of taking deposits and making loans, limiting the damage bank failures could have on the overall economy.
Popularly called Gramm-Leach-Bliley for its senatorial authors, the Financial Services Modernization Act relaxed some of those limitations, allowing banks, securities dealers and insurance companies to compete against one another.
The law”™s passage legitimized the 1998 merger of New York City-based Citicorp with the then-Hartford-based insurance carrier Travelers Group, with the combined company becoming today”™s Citigroup. The merger and new regulatory environment failed to spark additional mega-mergers in the insurance industry, however, despite the potential for banks to cross-sell insurance in branches and raise cash through underwriting, which produced strong profits for much of this decade after premiums escalated following the 2001 terrorist attacks.
The risk-averse culture may have stemmed from both the banking crisis of the early 1990s and Hurricane Andrew in 1992 ”“ then the most expensive storm in history ”“ after which insurers were slammed with claims.
“There are different cultures between insurance, banking and securities (companies),” said Howard Pitkin, Connecticut”™s commissioner of banking. “They are more different than they are alike. The (Citigroup) model just never caught on.”
In 2007, banks increased insurance income just 0.5 percent, according to a Michael White Associates study sponsored by the American Bankers Insurance Association (ABIA).
Insurance brokerage fee income flattened last year in part due to softening property-casualty premiums, according to Valerie Barton, ABIA executive director. Also, the results were affected by several large banks selling off insurance agencies, including Charlotte, N.C.-based Bank of America Corp. and Providence, R.I.-based Citizens Financial Group Inc.
“Insurance brokerage remains healthy,” Barton said. “The prospects for resumption of growth in bank insurance revenues are very positive.”
Gramm-Leach-Bliley also allowed commercial banks to add investment banking capabilities, many of which were doing so anyway.
Economists like Paul Krugman and Robert Kuttner have theorized that Gramm-Leach-Bliley is at least partly responsible for the collapse of the mortgage market, saying the law created an incentive for banks to securitize subprime mortgages, creating a market that in turn encouraged brokers to sell such mortgages to homeowners who could not afford them after they reset to higher rates.
“In many ways, the business models of banks and non-bank financial institutions ”“ especially large securities firms ”“ have converged, with banks playing a greater agency role in the credit process and securities firms doing more of the financing,” said Timothy Geithner, president of the New York Federal Reserve, in testimony this month to the U.S. Senate Banking Committee. “Investment banks now perform many of the economic functions traditionally associated with commercial banks, and they are also vulnerable to a sudden loss of liquidity. Unlike commercial banks, which rely significantly on deposits for funding, investment banks operate according to a business model in which they fund large portions of their balance sheets on a secured, short-term basis.”
It is just that environment under which policymakers like U.S. Sen. Christopher Dodd, who chairs the Senate Banking Committee, are assessing new federal laws affecting banks and possibly other types of financial institutions.
“When your neighbor”™s house is burning, you don”™t charge him for the use of your garden hose ”“ you simply lend it to him,” Dodd said last week at a federal hearing. “Today, hundreds of thousands of our neighbors”™ homes are figuratively burning, and like any fire, the damage threatens to spread ”“ every home that goes into foreclosure lowers the value of the other homes on that block by $5,000 ”¦ The ripple effects are severe and widespread.”
