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Shouldn’t banks use bailout money to lend, not buy other banks?

Congressional Democrats and the White House are begging banks to lend out the bailout money they’ve received instead of using it to acquire other banks. But what do analysts and economists think of banks using the money to merge rather than lend? Here’s what they told us: It isn’t necessarily so terrible for banks to be merging right now. Or maybe it is. But either way, expect higher ATM fees.

The Treasury’s bailout of banks was sold as a way to get them to start lending to one another and to businesses, and to thaw the frozen credit market. Without credit, businesses can’t function normally, people get laid off, and our economy screeches to a sickening halt.

Now instead of using the money to lend, banks are using it to bulk up their capital case (i.e. the amount of money they have on-hand). Acquiring other banks can be a way of doing that, analysts told us.

“It is constructive because otherwise what those banks would be doing is selling assets or contracting their balance sheets,” said Desmond Lachman, resident fellow at the American Enterprise Institute and former strategist at Salomon Smith Barney. “What they’re doing is the right thing to do.”

Stronger capital base
Charles Morris, who predicted the current turmoil in his book ‘The Trillion Dollar Meltdown,” agrees.

“Mergers are used to strengthen bank’s capital base. That kind of makes sense,” he said. “A bigger bank can use capital more efficiently.”

It also may mean cutting branches or laying people off, he said. But since there’s no shortage of banks in the United States, it may be good in the long run to shrink the whole sector.

But some analysts say that more mergers could translate into more risk for the banks and costs for consumers.

“The benefits are that we’re potentially shoring up banks that are having difficulty,” said David Scharfstein, professor of finance and banking at Harvard University. “The cost is that we’re bringing on to the balance sheets of healthy banks these troubled assets. The question is, what will the lending policies of the merged banks be like?”

Scharfstein said that mergers could actually hinder the ability of previously healthy banks to make loans, because junk acquired from sick banks would shrink their capital.

Should banks have been required to make loans as part of the deal they struck with the Treasury? Economists are generally slow to advocate government intervention in how companies operate.

Less competition
But this time is different, said Gary Dymski, a former University of California economics professor who has written about bank mergers.

“The thing we have to ask is, if we’re using the people’s money to recapitalize these institutions, shouldn’t we have accountability for them to lend?” he asked.

In any case, a more concentrated banking sector may mean a less competitive one. There are already fewer big national banks than there were a few months ago.  For you and me, that might mean higher fees.

“Those big banks will charge systematically higher fees, charger higher interest on loans, their penaltiesall that stuff will be higher,” said Dymski.

Kristin Jones reports for ProPublica, an independent and non-profit newsroom.

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Comments (2)

  1. Submitted by Bernice Vetsch on 10/29/2008 - 02:59 pm.

    Why is Congress “begging” instead of cutting off funds? Both the banks and Treasury need to accept that Congress is in charge and is accountable to us.

  2. Submitted by Ron Wheeler on 10/31/2008 - 11:00 am.

    PNC merger with National City

    This is why the majority of America said no to the bailout, with this merger I feel like once again I was lied to about how the bailout would be used. I don’t recall at anytime hearing the Financial Services Committee saying they were going to select only certain banks to give money to and by the way yes you can use taxpayer’s money to go and buy banks that are weak. I feel every American believed this was for helping banks that were weak. I think this merger will not only cause great job losses throughout Ohio and other states, but will in the long run cause a monopoly with PNC who will come in later and not help small business and the middle class that NCC has done for so many years. I believe PNC will charge whatever they feel to the average consumer, Once again making PNC bigger and our pockets even emptier. This merger should be investigated to make sure it is best for America not PNC. I understand buying the weak but the last time I checked NCC was one of the top 10. Why did NCC not get help? Now the latest from the Treasury Department is please take taxpayers money and use it to pay dividends to stockholders. How do we as Americans stop this?

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