U.S. Banks Expanding Nonbank Footprint: Trends and Implications

As the landscape of financial intermediation evolves, U.S. bank holding companies (BHCs) have significantly broadened their horizons by incorporating nonbank financial institutions (NBFIs) into their operations. This shift challenges traditional definitions of banking, which have primarily focused on deposit-taking and loan-making roles. Instead, since the mid-1980s, BHCs have expanded their reach, establishing a substantial presence in the nonbank sector.

The Historical Background

Historically, the Glass-Steagall Act of 1933 demarcated clear boundaries between commercial banking and investment banking. However, changes in regulatory interpretations since the mid-1980s have allowed BHCs to diversify their activities significantly. This regulatory flexibility paved the way for banks to develop into diversified financial conglomerates, expanding into various nonbank sectors.

In our recent analysis featured in the paper “The Nonbank Footprint of Banks,” we leverage a unique dataset containing the organizational structure and financial reports of BHCs along with lesser-known regulatory filings. This allows us to present compelling evidence of the profound changes within the U.S. banking industry, concerning how banks' operational boundaries have shifted over time to embrace elements traditionally regarded as nonbanking.

Expanding Nonbank Activities

The evolution of BHCs is marked by four key trends that highlight their increasing engagement in nonbank activities:

Fact 1: Departure from Traditional Banking Models

Since the late 1980s, BHCs have integrated a wide array of NBFI subsidiaries, encompassing investment funds, securities dealers, insurance firms, and specialty lenders. Data indicates that the asset shares of these nonbank subsidiaries surged from about 10 percent in the mid-1990s to over 30 percent prior to the global financial crisis (GFC). Although there was a reversal during and after the GFC, the share has stabilized around 20 percent over the last two decades.

Fact 2: High Diversification Across Business Lines

Another important observation is the high level of diversification exhibited by BHCs across nonbank business lines. Analysis of the nonbank activities of these companies reveals that, at their peak, the "typical" BHC actively engaged in approximately thirty-seven unique nonbank activities—double the number from the 1980s. This diversification reached its apex just before the GFC, only to decline somewhat afterward, suggesting a complex interaction between regulatory changes and market conditions that influence business scope.

This pattern illustrates that BHCs have evolved well in advance of the partial repeal of Glass-Steagall in 1999. Their expanded operations are not merely a consequence of new entrants characterized by complex organizational structures as seen in the case of firms like Goldman Sachs and Morgan Stanley.

Fact 3: NBFI Holdings Beyond the Largest Banks

Crucially, this trend of expanding nonbank presence isn't limited to the largest entities within the banking sector. A substantial number of BHCs across various asset sizes now have NBFI subsidiaries. As early as the first quarter of 1990, around 69 percent of the top 200 BHCs had at least one specialty lender subsidiary, showing considerable diversification not just among the largest players. Further analysis reveals a persistent presence of medium-sized banks in this sector; by Q1 2020, a significant percentage of BHCs continued to diversify into a range of NBFI activities.

Fact 4: Substantial Contributions to the NBFI Industry

BHC-affiliated NBFIs play a vital role within the broader nonbanking industry. Our findings show that not only do the NBFIs of BHCs represent a substantial share of their assets, but they also constitute a significant portion of the U.S. NBFI market as a whole. This includes a wide spectrum of broker-dealers, nonbank lenders, and insurance subsidiaries. The assets under management from BHC-affiliated mutual funds and annuities, even if not reflected directly on BHC balance sheets, indicate a considerable segment of the asset management business.

Comparative data reveals that the share of BHC-affiliated NBFIs has fluctuated over time, suggesting that they form a non-negligible segment of the financial intermediation ecosystem. This underscores how integral BHCs have become to the functioning of the entire NBFI sector.

Implications for the Future of Banking

The expansion of BHCs into NBFI territory raises significant questions regarding the nature of financial intermediation in the U.S. With the regulatory landscape having evolved favorably for banks to stretch their operational boundaries, understanding the strategic motives behind this expansion is paramount. Why have banks sought to broaden their business scope significantly? What advantages do they perceive in incorporating NBFIs into their operations?

As we navigate the complexities of this transitionary phase in U.S. banking, these questions remain critical. The ability of BHCs to adapt and integrate diverse financial services will likely shape the industry's trajectory, influencing competition, regulatory policy, and economic outcomes.

Final Thoughts

Throughout the periods of relatively loose regulatory oversight, particularly from the mid-1980s until the GFC, U.S. BHCs have consistently shown a propensity to diversify and expand their operational structures. This trend toward the inclusion of a wide range of NBFIs signifies a paradigm shift away from traditional banking practices.

Moving forward, it will be essential to continue exploring the motivations and impacts of such a strategic pivot within the banking sector. In our forthcoming analysis, we will delve deeper into the reasons behind banks’ pursuit of broader business scopes and the implications for their ongoing evolution in a complex financial environment.