US Industrial Outlook

Financial services

Financial services – Industry Overview

Wray O. Candilis

Federally insured depository institutions held slightly more than $4.9 trillion in assets in 1993, down slightly from 1992. If the interest rates remain low and prices remain steady, however, assets in 1994 are expected to increase 1 percent to approximately $5 trillion.

For information on the use of sources and references, see “Getting the Most out of Outlook 94” on page 1. For other topics related to this chapter, see chapters 5 (Construction), 7 (Construction Materials), 46 (Securities Industry), and 48 (Insurance).

Commercial banks, savings institutions, and credit unions in 1993 benefited from a widening of spreads between interest rates charged for loans and paid for deposits. Savings institutions reported a record high spread of 4.25 percent between interest earned from mortgage loans and interest paid on deposits.

Depositors in 1993 diverted funds in record volume from banks, thrifts, and credit unions to alternative investments, especially mutual funds and common stock. Commercial banks faced with higher deposit insurance and the need to improve loan quality slowed the growth of deposits and their lending activity.

Despite the slowdown in lending and runoff in deposits, commercial banks and savings institutions continued to increase profits in 1993. Banks in 1994 are expected to report profits for the third consecutive year. Savings institutions are expected to continue to decline in terms of numbers and assets, but should extend a streak of profitable quarters that dates from 1991.

Banks and savings institutions are also expected to continue their evolution into a structure featuring a regional bank holding company that operates independent depository, commercial and consumer lending, mortgage lending and mortgage servicing, insurance, and securities units. Banks expect securities activities to become a significant growth area.

In 1987 the Federal Reserve Board allowed certain subsidiaries of banks to underwrite and deal in asset-backed securities and municipal revenue bonds. The Fed in 1989 expanded the eligible securities to corporate debt and stock. Revenues from underwriting and dealing in these securities are limited to 10 percent of the subsidiary’s total revenues, yet by early 1993 bank subsidiaries accounted for 6.2 percent of the capital of all securities firms. During the 12 months ending June 30, 1993, these subsidiaries underwrote 5.5 percent of all investment-grade corporate debt. Money center and large regional banks in 1993 also competed aggressively with traditional mutual fund sponsors by retailing mutual funds to their customers, in part as an effort to recapture some of the funds flowing from certificates of deposit to other investment vehicles. Some of these banks have limited their activity to retailing funds sponsored by traditional fund management companies. But more than 110 banks or bankholding companies offered proprietary mutual funds, primarily to their existing client base. Bank-sponsored mutual funds in 1993 were the fastest growing segment of the mutual-fund industry, accounting for 10.6 percent of total assets, and 30 percent of new sales.

Community development banking also increased in prominence in 1993. Federal banking and savings institution regulators intensified their audits of lending to lower income communities, and gathered public information on means to increase lending in these neighborhoods. Credit union regulators chartered four new credit unions exclusively to provide services for lower income members, while another 140 credit unions focused services on lower income members.



As economic activity maintained its steady, but modest, upward trend, businesses began once again to turn to banks for their short-term capital needs. With low interest rates and steady price levels as a backdrop, bank lending was expected to fare a little better than in the most recent past, rising 2 percent to $2,327 billion in 1993, and 4 percent to $2,420 billion in 1994. Bank lending dropped slightly both in 1991 and 1992. The growth of bank investments, on the other hand, is expected to continue to decelerate from its recent peak increase of 16.5 percent in 1991 to about 10 percent in both 1993 and 1994.

The broad variety of savings and investments instruments marketed by competing depository and non-depository financial institutions is expected to result in a relatively small 3 percent increase in commercial bank deposits in 1993 and 1994. Over the past few years, consumer bank deposits have been especially hit due to the runoff of certificates of deposit, only partly offset by the growth of passbook and money market accounts. Most of the runoff has flowed into mutual funds providing the strength being experienced in the stock and bond markets. This continuous rivalry from competitors has compelled commercial banks to enter the mutual fund business and to keep up the pressure on legislators and regulators in an effort to open up areas, such as the securities market, that previously were off limits.

Specifically, the Federal Reserve Board has in recent years given approval to a number of banks for broader securities underwriting powers, under “Section 20” of the Glass-Steagall Act, which permits banks, through separately capitalized units, to underwrite and deal in corporate debt and equity. These activities, however, can contribute no more than 10 percent of the unit’s revenues. Banks have long been able to deal in government securities.

Of the more than 30 banks that have received approval by the Board for securities underwriting privileges under Section 20, about one third are foreign banks while the rest are domestic money-center banks and big regional bank companies. It should be noted that 17 additional foreign banks have used “grandfathered” status under the International Banking Act of 1978 to deal in both commercial banking and securities underwriting activities in the United States.

Profitability of Banks

High net interest-rate margins – the spread between interest income and interest expense – and improved quality of commercial bank assets in 1992, set in a framework of a general economic upturn, resulted in lifting banks out of their 1989-1991 depressed profit picture (Table 1). These trends continued in the first half of 1993.


The average return on assets, measured by income as a percentage of average fully consolidated assets for all size categories of banks went from 0.53 percent in 1991 to 0.92 in 1992. The most progress was experienced by large banks – those with more than $5 billion in assets – and the 10 largest banks, the return on assets of the former going from 0.50 to 1.01 percent, and the latter from 0.21 to 0.65 percent.

The average return on equity, measured by net income as a percentage of average equity capital, also grew substantially for the industry as a whole, going from 7.86 percent in 1991 to 12.80 in 1992. As with the return on assets, the greatest gains were shown by large banks and the 10 largest banks, the return on equity of the former increasing from 8.10 to 14.66 percent and the latter from 4.25 to 11.87 percent.

Failures and Problem Banks

The financial health of the commercial banking industry is also evident in the number of failures, which dropped from a peak of 206 in 1989 to 120 in 1992 (Figure 45-1). Unofficial predictions for 1993 put the number of failures at 50 to 60. The number of banks on the problem list of the Federal Deposit Insurance Corporation (FDIC) also dropped considerably, falling by nearly half from the 1987 peak.

As a consequence of bank failures and the depletion of the Bank Insurance Fund, premium rates have been steadily increasing since 1989 when banks were paying 8.3 cents for every $100 of” insured deposits. Beginning in January 1993, the FDIC instituted a risk-based system with premiums ranging from 23 cents for the best-performing banks to 31 cents for the weaker ones. It was at first predicted that by the year 2002 the bank fund would reach the required level of $1.25 for every $100 of insured deposits, at which time premiums would drop to 13.5 cents per $100 of deposits and to 10 cents a year later. More recent predictions, however, based on lower bank failure projections for the years ahead and a slowing in the growth rate of deposits, estimated that the $1.25 level for every $100 of insured deposits, might be reached much earlier than 2002, perhaps as early as 1996. Consequently, premiums are now expected to be reduced quicker than previously predicted.

International Activities

The number of foreign bank offices in the United States rose steadily throughout the past two decades, reaching 747 by the end of 1992 and fell slightly to 720 a year later (Figure 45-2).

These offices include 8 branches, 224 agencies, 90 subsidiaries more than 25 percent owned by foreign banks, 17 Edge Act and Agreement Corporations, and 11 New York State Investment Companies. Nearly one-half of the offices are in New York, with most of the rest in California, Illinois, and Florida. Japan, Canada, France, and the United Kingdom have the largest number of bank offices in the United States. Assets of foreign bank offices in the United States have increased significantly in recent years, rising from $198 billion in 1980 to $865 billion in 1992 or approximately one-fourth of U.S. total banking assets.

In contrast to foreign banks in the United States, U.S. banks abroad have been restructuring and consolidating their activities during the past several years. By the end of 1992, 120 Federal Reserve member banks were operating 774 branches in foreign countries and overseas areas of the United States, a decline from 916 branches at the end of 1985. Of the 120 banks, 88 were national banks operating 660 branches, and 32 were state banks operating the remaining 114 branches.

Technological Developments

Customer use of automated teller machines (ATMs) has been rising significantly over the past few years with the result that branch operating costs have been falling, according to an ATM survey conducted in 1992 by the American Banker. Specifically, the annual growth rate for ATMs between 1989 and 1992 has ranged between 17 and 19 percent, with the top 5 users of teller machines being Bank of America with 4,500; Citibank 1,900; Wells Fargo 1,687; NationsBank 1,678; and First Interstate 1,332.

Increased ATM usage and the consequent decrease in teller transactions does not necessarily mean the demise of branches. There will always be customers who will prefer a live teller to a machine, but it will be bank officers with their sophisticated personal computers and software that will, with increased efficiency, meet new customers, handle their questions, and sell them new products.

Slower progress than the ATM growth is being shown by the debit card which can be used not only in conjunction with an ATM for the withdrawal of funds, but also in conjunction with a point-of-sale terminal for the transfer of funds from a buyer’s account to a seller’s account. The development of the debit card also remains quite modest in the United States, although it has had enormous success in other countries.

In the home banking field, it seems that the problems that existed in the 1980’s still prevail in the 1990’s. It is a relatively expensive service that requires a personal computer, a modern, and the necessary software. However, for the sophisticated customer, it offers the facility of paying bills, transferring funds, and opening new accounts. As the equipment becomes less expensive, however, and as banks offer a broader array of services, home banking could develop into a comprehensive information package that would include such non-bank activities as insurance, entertainment, travel, as well as business and sports news.

Legislative and Regulatory Issues

As a result of the passage of the Federal Deposit Insurance Corporation Improvement Act of 1991 (see 1993 U.S. Industrial Outlook), with its mandated new disclosure rules and tougher auditing and underwriting standards, commercial bankers have been pressuring legislators and regulators to ease the regulatory burden that might have resulted from the implementation of the act. Consequently, regulators decided to rely on examiners to assure that banks are operating safely rather than to set specific managerial standards. Other examples of regulatory sensitivity to bankers’ complaints include a proposal to exempt about 7,500 smaller banks from the act’s proposed capital standards for banks facing unusual risk from interest rate swings, loan concentration and other nontraditional activities; and a proposal to let large banks use their own internal systems, with examiner approval, for measuring interest-rate risk.

The principal banking bills in Congress in 1993 concerned the issues of interstate banking (to authorize nationwide branching subject to restrictions on market share of deposits), community development lending (to establish a fund to support community development by financial institutions), overhauling the Federal Reserve System (to increase accountability of the central bank), Fair Credit Reporting Act Amendments (to make it easier for consumers to obtain copies of their credit reports and correct errors), a secondary market for small business loans (to create such a market by either establishing a federal agency or reducing regulatory impediments to securitization), regulatory relief (to give well-capitalized institutions more favorable treatment, or repeal or modify some of the congressionally mandated regulations), and agency consolidation (to create a single banking oversight agency).

At the state level, legislators aimed at using state law to break down interstate banking barriers. Among the latest states to favorably consider interstate banking reform legislation are North Carolina, Alaska, and Oregon. Several Southeastern states are expected to take up similar legislation in the near future, a move that is necessary to modify the regional banking pact system these states adopted in the mid-1980’s. Twenty-two states, including California and New York, require reciprocity as a condition to interstate banking, meaning they will let an out-of-state bank into their state if that bank’s home state will let their banks in.

Despite strong banking industry opposition, the Financial Accounting Standards Board (FASB) adopted rules which require banks to assign market value to a broader classification of securities holdings; and to value impaired or troubled loans at their current value, and to thereafter reserve against expected loss of interest on such loans. However, in a concession to the industry, FASB gave banks the option of adopting its market-value standard in the fourth quarter of 1993 instead of the first quarter of 1994, as requested by some large banks, and delaying the starting date for a new standard on valuing non-performing loans and setting loan-loss reserves to the first quarter of 1995.

Judicial Issues

Following many years of debate over the advantages and disadvantages of the separation of commercial banking and insurance, and with billions of dollars at stake, the U.S. Supreme Court in mid-1993 ruled that a 1916 law, which authorized national banks with branches in towns of less than 5,000 to sell insurance, remains in force. On remand, the U.S. Circuit Court of Appeals for the District of Columbia also decided that there is no geographic limit on where national banks affected by the Supreme Court ruling may sell insurance. In a related case, the U.S. Supreme Court declined to resolve the issue as to whether the Office of the Comptroller of the Currency may permit national banks to sell title insurance under authority of a federal law that permits national banks to exercise “all such incidental powers as shall be necessary to carry on the business of banking.” In refusing to hear this appeal, the Court let stand a decision of the U.S. Court of Appeals for the Second Circuit which barred the sale of such insurance in New York, Vermont and Connecticut. In yet another insurance case, the U.S. Circuit Court of Appeals for the Fifth Circuit ruled that annuities are insurance products, and thus subject to the so-called town of 5,000 rule. Under the ruling, a national bank could sell annuities by mail in small towns, but it would not be able to offer them from branches in larger cities.

Outlook for 1994

The turnaround in the commercial banking industry during 1992 and 1993 was much stronger than the upturn in the economy as a whole, and will probably remain so during 1994. The industry’s liquidity together with its strengthened capital position will provide the means to meet the borrowing requirements of individual and corporate customers, but loan growth is expected to rise no more than 4 percent. Monetary and fiscal authorities will continue to work together to try to prevent any stalling of the economic recovery or any buildup of inflationary pressures.

Long-term Prospects

During the late 1990’s, legislators and regulators alike will feel increasing pressure to address many of the problems affecting the commercial banking industry. Most important among these issues is the need to expand the opportunities for risk diversification for banks by removing the boundaries separating the banking, securities and insurance businesses. With a combination of banks’ application of its proven technological prowess and increasing sophistication of banking regulators’ tools, consumers should benefit without compromising bank safety and soundness.

Another problem relates to the need to impose, on non-banking financial services companies, rules relating to community development, equal lending and other social requirements currently applied only to banks. This will level the playing field while providing improved access to capital for America’s low-income individuals and neighborhoods.

Additional References

1993 U.S. Industrial Outlook, U.S. Department of Commerce. Available from Superintendent of Documents, P.O. Box 371954, Pittsburgh, PA 15250-7954. (S/N 003-009-00618-0, $37.) Modernizing the Financial System: Recommendations for Safer, More Competitive Banks, February 1991, U.S. Department of the Treasury, Washington, DC 20220. Telephone: (202) 566-2000. National Treatment Study 1990, U.S. Department of the Treasury, Washington, DC 20220. Telephone: (202) 566-2000. Annual Report 1992. Board of Governors of the Federal Reserve System, Washington, DC 20551. (202) 452-3000. Brunner, Allan D. and William B. English, “Profits and Balance Sheet Developments at U.S. Commercial Banks in 1992”, Federal Reserve Bulletin, July 1993. Board of Governors of the Federal Reserve System, Washington, DC 20551. Telephone: (202) 452-3000. Federal Reserve Bulletin, various issues, Board of Governors of the Federal Reserve System, Washington, DC 20551. Telephone: (202) 452-3000. Brown, Richard, Industry and Trade Summary. Commercial Banking, U.S. International Trade Commission, Washington, DC 20436. Telephone: (202) 205 1819, ABA Banking Journal American Bankers Association, 1120 Connecticut Ave., NW, Washington, DC 20036. Telephone: (212) 620-7200. American Banker, Volume CLVIII, various issues, One State St. Plaza, New York, NY 10004. Telephone: (212) 943-6700. Braverman, Philip, The Weekly Credit Market Report, DKB Securities Corporation, One World Trade Center, Suite 5047, New York, NY 10048. Telephone: (212) 498-0500. United States Banker, various issues, Kalo Communications, Inc., 10 Valley Dr., Greenwich, CT 06831. Telephone: (203) 869-8200.


The savings industry continued its recent string of profitable quarters-primarily reflecting the advantageous interest-rate spread that continued through the first half of 1993, and the decline in troubled assets in the industry. In the first quarter of 1993, there were 2,352 savings institutions insured by the Federal Deposit insurance Corporation (FDIC) holding slightly more than $1 trillion in assets, excluding institutions in Resolution Trust Corporation (RTC) conservatorship. These savings institutions’ net income increased 37 percent to $2.4 billion in the first quarter of 1993. Pre-tax net operating income – a measure of long-run viability – rose 39 percent to $3.1 billion. Noncurrent loans and leases – a measure of asset quality – declined 30 percent to $17 billion.

The savings industry is currently divided into three segments. The Savings Association Insurance Fund (SAIF) insures 1,802 private sector savings associations holding $735 billion in assets whose financial condition is reported to the Office of Thrift Supervision (OTS). The Bank Insurance Fund insures 410 savings banks holding $202 billion in assets whose financial condition is reported to the FDIC. The SAIF and/or BIF insure 140 recently chartered “hybrid” savings banks holding $76 billion in assets.

Since 1989, there has been a downward trend in the number of SAIF-insured savings associations transferred to the RTC and an upward trend of charter conversions, mergers, and acquisitions. Of 354 savings associations that were operating in January 1992, 108 were converted into another type of financial institution (primarily state savings banks), 79 were either merged or acquired, and 59 were transferred to the RTC.

SAIF-insured Savings Associations

The bulk of the industry is still SAIF-insured savings associations, which are generally stronger and healthier in early 1993 than a year earlier. In the first quarter of 1993, SAIF-insured institutions earned $1.8 billion and reported a 0.96 percent return on assets (ROA). The ninth consecutive profitable quarter for the industry reflected a favorable interest-rate environment and improved credit quality of assets. The industry’s continued profitability has allowed some weak institutions to raise capital through new stock issuance – some for the first time since before the thrift industry crisis – and to build capital internally by retaining earnings. As a result, average “core” capital has increased 40 percent since early 1991. More than 90 percent of the savings associations, whether measured by number or assets, were well or adequately capitalized, as defined by the Federal Deposit Insurance Corporation Improvement Act of 1991. Many savings associations continue to downsize to meet capital requirements. During 1992, assets at savings associations fell 8 percent to $735 billion.

Industry Profitability and Capital Position

A more detailed examination of the condition of SAIF-insured savings associations reveals that all thrifts have not benefited equally from improving savings industry trends. The OTS classifies savings associations according to supervisory ratings using a system called MACRO. MACRO I and MACRO II institutions, the healthiest of all savings associations, constitute 72 percent of the industry, and have above-average earnings, and capital levels. During the first quarter of 1993, this group reported a combined net income of $1.4 billion and an average ROA of 1.18 percent. Combined, net income of MACRO I and II institutions increased $341 million, or 32 percent, above the comparable level a year earlier. The average ratio of capital to assets was 7.4 percent. MACRO I and II savings associations increased their asset holdings approximately 3 percent per annum over the past four years. These healthier institutions have maintained the majority of their assets in single family, multifamily, and consumer loans – the traditional assets of savings institutions.

The remainder of the savings associations are weaker; however, these institutions showed considerable improvement during the past year. MACRO III savings associations, a group that includes 317 institutions holding 18 percent of the industry’s assets, increased net income 95 percent to $214 million in the first quarter of 1993. The MACRO III group’s quarterly ROA increased from 0.21 percent in 1992 to 0.62 percent in 1993. Only 5 percent of MACRO III institutions were unprofitable during the first quarter of 1993. In addition, tangible capital as a proportion of total assets was 5.5 percent.

The remaining 183 savings associations, MACRO IV and MACRO V savings associations, are the weakest institutions, with average capital equal to 3.7 percent of total assets. This group registered a modest, yet positive income of $133 million during the first quarter of 1993 yielding an average ROA of 0.45 percent-indicating a positive potential for the future. To put these numbers in perspective, the percentage of unprofitable thrifts fell by nearly half to 4 percent from a year earlier. Losses at these institutions totaled $143 million in March 1993 compared to a loss of $312 million one year earlier.

Overall, net income rose 20 percent to $1.8 billion in early 1993 for the current 1,802 SAIF-insured savings associations. In addition, net income for SAIF-insured institutions in each quarter of 1992 was more than double the average quarterly net income for the year 1991, reflecting the benefits of the interest-rate spread and the reduction of troubled assets (Figure 45-3).

Profitability continues to be hampered by losses associated with credit-quality problems. At SAIF-insured savings associations, net charge-offs during the first quarter of 1993 were 0.47 percent of total assets. Albeit this represents a significant reduction from the first quarter of 1992, the level of charge-offs is still quite high given long-run historical averages. Trouble spots still remain with the continued devaluation of real estate in certain geographic areas, especially California, and the dogged persistence of the sluggish economy that impact the performance of existing loans.

Yields and Spreads

The increase in the SAIF-insured savings associations’ earnings over the past two years reflects the fact that the cost of funds has fallen drastically relative to the yield these institutions earn on mortgage portfolios (Figure 45 -4). During the first quarter of 1993, savings associations had a cost of funds of slightly more than 3 percent, down more than 150 basis points from year-end 1991. During the same period, the mortgage portfolio yields declined 100 basis points to 7.4 percent. The almost 425-basis-point spread in the first quarter of 1993 was among the highest on record. The combination of an unusually steep yield curve and the low short-term interest rates that led to this spread are not likely to be sustained ad infinitum.

Balance Sheet Developments

As the number of savings associations has contracted, its holdings of mortgages have declined. Overall, savings association assets fell 14.5 percent in the year ending March 1993, with single family mortgages falling by 16 percent and commercial mortgage loans by 63 percent. (By contrast, commercial mortgages on the books of commercial banks were off only 8 percent.) Nevertheless, mortgages are still the backbone of savings associations’ portfolios. Fifty-three percent of savings associations’ assets as of March 31, 1993 were in single family and multi-family mortgage loans. At the same time, mortgage-backed securities and commercial mortgage loans constituted 21 percent of savings associations’ assets.

On the liability side of the balance sheet, retail deposits continue to be the mainstay of savings associations, comprising more than 80 percent of their liabilities. Deposits at savings associations were down by $125 billion as of March, from a year earlier – and approximately $400 billion less than the peak levels of year-end 1988. As the number of savings associations has contracted, the remaining institutions have altered their sources of funds. Borrowings from the Federal Home Loan Bank System were up 6 percent to $66 billion, and reverse repurchase agreements – a short-term financing vehicle – increased by 22 percent to $23 billion during the same period. Brokered deposits, which are deposits of individuals and business placed through an intermediary to earn higher rates of interest, fell below 1 percent of total deposits.

Savings Banks

The 550 savings banks currently insured by the FDIC also profited from the wide disparity in borrowing and lending rates. These savings banks earned $638 million in the first quarter of 1993 – their fifth consecutive profitable quarter. For the first time since 1989, no savings banks failed during the quarter ending March 1993. Moreover, the number of savings banks on the FDIC’s “Problem Bank List” continued to decline, falling to 72 banks holding $50 billion. The comparable figures for 1992 were 72 banks with $56 billion in assets. Only 4 percent of all BIF-insured savings institutions lost money during the first quarter, whereas 27 percent of all savings banks recorded losses two years earlier.

In New England, where aggressive entry into real estate markets has hurt many savings banks in the past, the percentage of banks losing money dropped to 4 percent from 13 percent the previous quarter. The average first-quarter ROA for the 308 institutions in New England was 1.03 percent, compared to 0.84 percent for the 88 savings banks in the remainder of the Northeast. The 14 mutual savings banks elsewhere in the country registered a robust 2.30 percent ROA during the first quarter of 1993.

Savings banks, like savings associations, are contracting as a group, with total assets down 14.3 percent in the year ending March 31, 1993. The industry capital-to-asset ratio was 9.3 percent at the end of the first quarter; the comparable figure a year earlier was 7.1 percent.

Outlook for 1994

An improved economy in 1994 would help thrifts by generating increased demand for residential mortgage loans, and easing the strain of troubled real estate-related assets. The added benefit of a wide interest-rate spread should enhance profits.

Long-Term Prospects

The future performance of the savings industry will primarily depend on how well savings institutions can compete with commercial banks and secondary lenders in the mortgage market. Savings institutions’ specialized home-mortgage lending business, and role as mortgage servicers should work to their advantage. The size of the savings industry of the future will depend on how well it can attract capital and deposits. Having recovered from years of failures, and severe credit quality problems, thrifts now are in a better position to compete in widening financial services markets.

Additional References

1992 U.S. Industrial Outlook, U.S. Department of Commerce. Available from the National Technical Information Service, Springfield, VA 22161. Telephone: (703) 487-4650. FDIC Quarterly Banking Profile, First Quarter, 1993. Available from FDIC Office of Corporate Communications, 550 17th Street N.W, Washington, DC 20429. Telephone: (202) 898-6996. Office of Thrift Supervision Quarterly Earnings Statement, Press Release 93-47, Office of Thrift Supervision, 1700 G Street N.W., Washington, DC 20552. Telephone: (202) 906-6677. American Banker, Volume CLVIII, various issues, One State Street Plaza, New York, NY 10004. Telephone: (212) 943-6700. National Mortgage News, Vol. 17, various issues, 212 West 35th Street, New York, NY 10001. Telephone: (212) 563-4008. Rossi, Clifford, et al., The Viability of the Thrift Industry, December 1992, Office of Thrift Supervision, 1700 G Street N.W., Washington, DC 20552. Telephone: (202) 906-6677. White, Lawrence J., The S&L Debacle, 1991, Oxford University Press, 200 Madison Ave., New York, NY 10016.


Credit unions in 1993 heightened their focus on community development banking with more than 140 institutions increasing their services to lower income members. During 1993, four new credit unions were chartered to exclusively assist underserved communities. The credit union system, through its voluntary associational “leagues,” is also focusing more attention on helping credit unions that have taken on these special challenges, and making sure the lower-income sector of each credit union’s field of membership is served.

Credit unions slowed their asset growth rate in 1993, as did commercial banks, largely due to the continued decline in interest rates that encouraged savers to seek alternative investments than share and deposit accounts, such as mutual funds. Credit unions far outstripped thrift institutions, which as an industry continued to decline in 1993 and is expected to shrink again in 1994. Credit union asset growth is expected to slow in 1994. Most of the deceleration will be in the volume of credit union-held investments because credit unions expect to increase lending by approximately 7 percent, and to increase both mortgage originations and the value of mortgages-held in portfolio.

Credit unions, for purposes of this chapter, include cooperative thrift and loan associations organized under either Federal or state charters to finance short-term credit needs of their members under the following SIC categories: Federal Credit Unions (6061) and State Credit Unions (6062).

Credit unions are cooperative financial institutions that provide saving and lending services to their members. In addition to basic services, larger credit unions offer transaction accounts (analogous to checking accounts), automated teller machines (ATMs), credit cards, individual retirement accounts (IRAs), and other services. Total credit union assets of $288.5 billion compare with assets of $3.7 trillion for commercial banks and slightly more than $1 trillion for thrifts.

The National Credit Union Administration (NCUA), an agency of the Federal Government, insures 12,500 credit unions that hold 96 percent of all credit union assets. NCUA examines and regulates most federally insured credit unions to ensure their safety and soundness. Slightly more than 500 credit unions are insured either privately or by states. State agencies regulate these state and privately insured credit unions and some federally insured credit unions. The remainder of this report deals only with federally insured credit unions (FICU).

Credit unions’ equity consists entirely of retained earnings – money earned but not paid out to members as dividends. Equity and reserves provide a safety net against loan losses and other possible losses. Federally insured credit unions’ equity increased 21 percent to $23 billion from mid-1992 to mid-1993, which was more than sufficient to cover deposit growth of 8.6 percent during the same period (Table 2). During a 10-year period in which deposits more than tripled, FICU equity nearly quadrupled.


FICU lending increased 7.5 percent to $144 billion from mid-1992 to mid-1993, while FICU investments rose 13 percent to $113 billion. Credit unions make most of their investments in U.S. Government obligations and Federal agency securities of less than one year in duration. Federal law prohibits credit unions from engaging in riskier investments, such as stocks and “junk” bonds, and speculative activities such as arbitrage.

Federally insured credit unions’ loan portfolios are generally safer than those of either banks or thrifts (Figure 45-5). FICU portfolios are safer than thrifts because they are more diversified, and shorter in duration. FICU portfolios are safer than banks because there is minuscule business lending, and no lending to foreign countries. Commercial and foreign loans are, in general, riskier than consumer loans.

At the same time, the insurance fund backing federally insured credit unions has become stronger. For some time now it has held more than $1.25 for each $100 of deposits. By contrast, the Bank Insurance Fund of the Federal Deposit Insurance Corporation moved from a small deficit in 1992 to a surplus in 1993, and expects to reach its fully-funded level of $1.25 per $100 of deposits no earlier than 1996.

Credit Union Market Share

Credit unions have a small share of the total financial services industry. Credit unions account for approximately 13 percent of consumer lending, such as credit cards, installment debt and car loans, and about 7 percent of household savings.

Though making more loans, credit unions’ market share of all consumer borrowing is in a long-term decline. In 1982, the share of lending was 15 percent, compared to about 13 percent in 1993, after bottoming out at 12 percent in 1990.

The decline in market share for consumer loans probably results from the increased competition from non-financial institution, such as captive car finance companies and corporate credit cards.

For consumer savings the story is different: credit unions have nearly doubled market share from 4 percent in 1982 to approximately 7 percent in 1993. The growing market share of savings is probably the result of the two factors: (1) the shrinking thrift industry, and 2) the expanding services being offered by credit unions, such as certificates of deposit.

The presence of more competition has driven credit unions to merge to make larger institutions that can offer more services more efficiently. There have been more than 300 voluntary mergers per year during the last decade.


Outlook for 1994

Credit union assets are expected to increase nearly 6 percent in 1994. Gains in lending are expected to continue with a resulting slowing growth rate for investments. Deposit growth is expected to continue at about the same rate as in 1993, which represents a decline from the double-digit gains of 1991 and 1992 when interest rates for credit union share accounts declined more slowly than interest rates for commercial bank and thrift depositors.

Long-Term Prospects

Spreads between loan interest rates and cost of funds were very favorable for all financial institutions in 1993. Because credit unions are not in a position of having to build capital as aggressively as other financial institutions, they may be able to cut loan rates faster than can other institutions, thereby increasing their market share for consumer and mortgage loans.

Additional References

Annual Report 1992, National Credit Union Administration, 1775 Duke St., Alexandria, VA 22314. Telephone: (703) 518-6300. (The 1993 annual report will be available in April 1994). Annual Report 1992, National Credit Union Share Insurance Fund, 1775 Duke St., Alexandria VA 22314. Telephone: (703) 518-6300. Credit Union Newswatch, Credit Union National Association, P.O. Box 431, Madison, WI 53701. Telephone: (608) 231-4042. Credit Union Magazine, Credit Union National Association, P.O. Box 431, Madison, WI 53701. Telephone: (800) 356-9655, ext. 4093. The Federal Credit Union, National Association of Federal Credit Unions, 3138 10th St. North, Arlington, VA 22201. Telephone: (800) 336-4644.


In 1992, the U.S. exported $578 billion in goods and services. Since 1984 U.S. exports have represented an increasing portion of U.S. GDP growth. In 1990, exports accounted for 65 percent of U.S. economic growth and in 1991 increased export sales cushioned contractions in the U.S. economy. Because of the growing dependency of economic growth on exports, and because of the risk associated with trading in international markets, the ability to finance exports is gaining in importance as a key ingredient to fostering U.S. economic growth and competitiveness.

For purposes of this chapter, trade finance encompasses any and all financial instruments that expedite or finance trade. In general, the more protection from risk that the exporter has, the less protection from risk does the importer have. Finance transactions may be short-term with payment terms up to 1 year, medium-term up to 5 years, or long-term with payment terms of 5 years or more. Each of these financing terms entails its own risk profile.

The growth of privatization efforts in developing countries and the implementation of the Basel Accord Capital Adequacy Requirements in 1990 that deal with capital reserves and export finance transactions for which banks are engaged has increased pressure on the availability of trade finance products. In general, private sector financial institutions compete for the bulk of short-term trade finance transactions such as letters of credit, bankers acceptances, drafts or bills of exchange, and credit insurance. Also, multinational corporations support intra-corporate trade through internal accounting mechanisms. The balance, or roughly 6 percent of the $578 billion in exports in 1992, was financed through government “official credits” by export credit programs. These programs include: the Commodity Credit Corporation, at the Department of Agriculture, the U.S. Export-Import Bank (Exim), the Overseas Private Investment Corporation (OPIC), the Trade and Development Agency (TDA), and the Agency for International Development (AID). Official credits supplement or “fill the gap” between what trade finance products are available in commercial markets and what is necessary to promote exports, especially for exports to developing countries where risk is high.

Structure of Trade Finance

Trade-finance structures can, in general, be broken down by type, term and geographic region. To mention a few, financial instruments include letters of credit (L/C), drafts or bills of exchange (B/E), bankers acceptances (BA), open account, insurance (export credit), factoring, forfaiting, barter, countertrade, leases, hedges, financial derivatives, commodity-linked, and project finance techniques. Maturity terms of trade-finance transactions usually fall into three categories: short-term, medium-term, or long-term. Finally, the pricing of these instruments is highly correlated with the credit worthiness of the host country, and the adequacy of the economic, commercial and other information available in the host country. Normally any trade-finance instrument will receive a credit status no higher than the status of the host country. Financial risk management techniques do exist that can assist in mitigating country risk, however, because of limitations placed on developing countries by multilateral lending organizations on the host, these techniques tend to be complex for developing countries.

In 1992 approximately 60 percent to 75 percent of all trade finance was of the short-term or export-finance variety, most often in the form of L/C’s, B/E’s or short-term credit insurance, and on terms that did not exceed 90 to 180 days. Factoring, forfaiting, and in most cases, barter and countertrade transactions round out the short-term category.

As in any business transaction, a risk versus return scenario is evaluated by the exporter for the different types of trade-finance instruments available. For exporters to successfully compete in export markets, they must carefully assess the amount of risk they are willing to assume in expectations of a specified return in terms of the financing structure they select. An irrevocable-confirmed letter of credit is most advantageous for the exporter (seller), whereas, trade by open account is most advantageous for the importer (buyer).

Drafts or bills of exchange (B/E) are the most common instruments used in trade finance because they provide flexibility for both the seller and buyer as a readily negotiable instrument. In a commercial transaction, if the drawee is a buyer, the draft is called a trade draft, or if the drawee is the buyer’s bank, the draft is called a bank draft. A draft can either be:

* a sight draft payable on presentation to the drawee, or

* a time draft, or usance draft, which can allow for delayed payment.

When a time draft is drawn on, and accepted by, a bank it is called a bankers acceptance; when it is drawn on, and accepted by, a firm it is called a trade acceptance. Drafts can promote liquidity in a trade-finance transaction as secondary markets exist for buying and selling drafts. Bankers acceptances are more prominent in these markets than trade acceptances for credit reasons.

Other types of trade-finance transactions involve project finance, credit insurance, hedging, and financial derivatives. These transactions involve medium-term to long-term instruments used to finance infrastructure development, privatization efforts; and to manage foreign exchange, interest rate, and sovereign-risk exposures. In addition, commodity-linked finance and specific types of project finance such as variations on the build-operate-transfer (BOT) models promote off-balance sheet financing for developing countries. Project-finance mechanisms are complex and may entail the participation by multilateral development agencies, export credit agencies (ECA), and a multiple of other financial markets.

Commercial and Country Risk

In evaluating an export transaction an exporter must be able to evaluate a transaction’s risk and return. A common problem facing exporters is sourcing sufficient information to enable them to evaluate risk associated with their foreign clients. Language, culture, law, the maturity of the host country’s credit market, country economic conditions, and commercial and country risk are a few of the elements that an exporter needs to consider in evaluating risk and return. In industrialized countries, sufficient information usually exists for the U.S. exporter in the host market. However, in some developed countries and in most developing countries the ability to obtain credible information may be limited.

Risk can be divided into two broad categories: commercial risk and country risk. Commercial risk refers not only to the buyers ability to pay or to their credit quality but also to social or economic conditions that may impede a buyers ability to pay. In addition, language barriers such as in the translation of contracts and potential loss of meaning therein, and legal barriers such as bankruptcy laws, corporate immunity and other rights and privileges need to be carefully assessed.

Country risk refers to the possibility that actions by a host country’s government can influence the buyer firm’s ability to pay. Examples of country risk include political and currency risk. Political risk refers to political unrest, expropriation of foreign currency and assets, export license revocation, and other actions that affect the conduct of business or may impede trade. Currency risk refers to risk associated with a host country’s currency resulting from currency inconvertibility, general liquidity, volatility, devaluation, or restrictions of use or ownership in the conduct of international commerce.

For the most part, commercial risk and country risk can be assessed, and “coverage” can be obtained to protect the seller, buyer or both. The more developed the host country, the more complete is its credit market, and the more established it is in international trade, the less commercial- and country-risk coverage is necessary.

Both government and private financial institutions that engage in supporting international commerce can assist the U.S. exporter with foreign commercial- and country-risk information. The agency reference sources provided at the end of this chapter provide additional assistance.

Trends in Trade Finance

The aggressive move toward privatization in many developing countries, especially in Latin America, Mexico and Asia; the explosive growth and improved economic conditions in these developing countries; the recovering U.S. banking industry; and the implementation of the Basel Accord Capital Adequacy Requirements in 1990 are all playing a role in changing the trade-finance environment.

The Basel Accord Capital Adequacy requirements have increased the use of guarantees from ECA’s by the banking community as a mechanism to mitigate capital-reserve requirements imposed by the accord. Privatization efforts by developing countries have increased the need for project-finance assistance in order to compete for large capital projects that have strong export potential. The combined strong growth in U.S. small businesses and the likelihood that increased exports will continue to fuel the U.S. economy place pressure on the nation’s short-term, export-finance structure, which traditionally has catered to large businesses, to develop export-finance mechanisms for small and medium-sized businesses that have been entering the export arena in large numbers.

Outlook for 1994 and Beyond

Competitive pressures are inducing changes in the national, regional and local financial community to provide products for small to medium-sized firms, which are increasingly becoming an integral part of the export community. The U.S. Government is concentrating resources on export promotion and development through the Trade Promotion Coordinating Committee in an effort to harmonize the multitude of government export promotion programs. In addition, the Exim-Bank, the Small Business Administration, the Overseas Private Investment Corporation, and other Federal agencies are working to provide assistance to small and medium-sized businesses interested in exporting. The private financial community is also playing an active role. For example, large U.S. banks have begun to focus products on the small business export market.


Types of Foreign Banks in U.S.

Branches of foreign banks – Full service banking offices that compete directly with local banks and are subjects to all local banking laws and regulations.

Agencies – Agencies make commercial and industrial loans, and finance international transaction, but cannot accept deposits or perform trust functions, but cannot accept deposits or loan limits.

Commercial bank subsidiary – Any bank that is majority-owned or effectively controlled by a foreign bank. Unlike branches, which are administratively and legally integral parts of a foreign bank, subsidiaries are separate entities.

Edge Act corporations – Banks chartered buy the Federal Reserve to engage only in international banking and financing. They are allowed to have offices in more than one state.

Agreement corporation – State-chartered Edge Act corporation.

New York State Investment Companies – New York State charters only for wholesale international commercial banking activities. Like agencies, the companies cannot accept deposits and they are limited to short- and medium-term lending.

Representative offices – These maintain contact with correspondent banks, monitor local business conditions, and serve as a contact point for clients, but handle no banking business.

Principal U.S. Banking Laws

McFadden Act of 1927 – Prevents interstate deployment of bank branches and gives states authority to set branching standards for banks within their jurisdictions.

Bank Holding Company Act of 1956 – Known as the Douglas Amendment, this prohibits multibank holding companies and one-bank holding companies from acquiring a bank in another state, unless the law of the state in which the bank to be acquired is domiciled affirmatively provides for such an entry.

National banking Act of 1993 – Known as the Glass-Steagall Act, this bans affiliation between banks and securities firms, and generally prevents banks from engaging in the issue, flotation, underwriting. public sale, or distribution of stocks, bonds, debentures, notes, or other securities.

Additional References

Economic Prospects for Developing Countries, December 1992, OMA Research Series 4-92, U.S. Department of Commerce, Economics and Statistics Administration, Washington DC 20230. Telephone: (202) 482-2000. Export Credit Competition and the Export-Import Bank of the United States, May 1993, Export-Import Bank of the United States, 811 Vermont Ave., NW, Washington, DC 20571. Telephone: (800) 424-5201. Multinational Business Finance, Sixth Edition, April 1993, edited by Eiteman, D.K.; Moffett, M.H.; and Stonehill, A.I.; Addison-Wesley Publishing Co., Inc. The Handbook of International Trade Finance, Dunford, C., Woodhead-Faulkner Publishers Ltd., 1991. International Trade Finance, News and Analysis of Trade and Project Finance, The Financial Times, 1 Southwark Bridge, London, SE 1, London, England. Telephone: 44-71-411-4414. Project Finance International, IFR Publishing, Ltd. 90 Broad St., 2nd Floor. New York, NY 10004. Telephone: (212) 266-4900. Project and Trade Finance (Formerly Trade Finance), Export and Project Finance, and Project Finance Yearbook, Euromoney Publications POLC. Telephone: 44-71-779-8888.

COPYRIGHT 1994 U.S. Department of Commerce

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