The Evolving Role of Commercial Banks in U.S. Credit Markets

The Evolving Role of Commercial Banks in U.S. Credit Markets
By Katherine SamolykSenior Financial EconomistDivision of Insurance and ResearchFederal Deposit Insurance Corporation
EXECUTIVE SUMMARY:
How important a role do commercial banks play in funding nonfinancial borrowing? Ten years after the end of the industry's most significant crisis since the Great Depression, does banking remain a major player in financing the nation's economic activity? This paper examines the evolving role that commercial banks play in U.S. credit markets.
The available data reveal several consistent patterns over the past two decades. First, there has been a permanent increase in the overall borrowing capacity in credit markets?in other words, an increase in the credit market pie associated with the functioning of the economy. This increase was associated with a decline in the share of domestic nonfinancial borrowing that is directly funded by commercial banks, but when debt growth leveled off in the early 1990s, so did commercial banks' share of this credit-market pie. Banks' smaller share of the credit-market pie reflects a dramatic shift in the way loans to households and businesses are being financed. Specifically, asset securitization (the pooling of loans and their funding by the issue of securities) has allowed loans that used to be funded by traditional intermediaries, including banks, to be funded in securities markets.
The data also reveal, however, that commercial banks still play a significant role in funding business borrowers: we estimate that the share of nonfinancial-sector business borrowing that commercial banks fund on their balance sheets has not declined notably in five decades. Nevertheless, there has been a clear shift in how banks lend?a shift from shorter-term lending not secured by real estate to loans collateralized by business real estate. This shift may reflect banks' continuing comparative advantage in real estate lending, a form of lending less well suited to the standardization necessary for asset securitization.
With respect to borrowing by households, in contrast, we find that the securitization of home mortgages and?more recently?of consumer credit has reduced the extent to which these types of loans are directly funded by commercial banks (and savings institutions). This finding is consistent with the broadening of household-sector credit markets over time; longer-term increases in borrowing by households have generally not been associated with greater intermediation through banks. The securitization trend, however, has had a more severe effect on savings institutions than on commercial banks.
At the same time, the commoditization of credit markets?that is, the standardization, unbundling, and repackaging of payments and risks associated with credit flows?makes it harder to measure the importance of banks as well as other intermediaries in providing creditrelated services. Balance-sheet data on who is funding loans can be a poor proxy for who is providing the financial services associated with the credit flows. Commercial banks, particularly larger institutions, provide significant services in originating, servicing, and enhancing the liquidity and quality of credit that is ultimately funded elsewhere. Hence, market-share measures based on balance-sheet data are likely to understate the importance of banks to a greater extent than even a decade ago. The provision of financial services is, however, reflected in bank earnings. And indeed, when one looks at income-based measures of market share, one does not see any evidence of a secular decline in the importance of commercial banking. Thus, the conclusion of this study is that although the role of commercial banks in U.S. credit markets has certainly evolved, banks remain a critical part of the modern flow of funds that has broadened the availability of credit in the U.S. economy.