Fewer bankings regulations means a more stable system

See Why Would Elizabeth Warren Want More Banks? Her reform aims to avoid ‘too big to fail’ but would produce many institutions ‘too small to survive’ by Stephen Matteo Miller. He is a senior research fellow and member of the Program on Financial Regulation in the Mercatus Center at George Mason University. Excerpts:

"Why were there 12,000 banks in 1990? For most of U.S. history, banks were generally barred from branching across state lines. States grant bank charters for a fee. In part to protect this revenue source, they prohibited out-of-state banks from operating. To generate still more chartering revenue, many states even prohibited branch banking within state lines. That meant demand for financial services had to be met by a plethora of small banks. The number peaked in 1921, at almost 31,000. Not until the late 1970s did states begin to allow out-of-state banks to open branches, and interstate banking was recognized at the federal level with the Riegle-Neal Act of 1994.

Rather than protecting against banking crises, this system made them more common. Whereas large branching banks can better diversify their investments to limit exposure to regional market fluctuations, small unit banks are acutely affected by local economic trends and likelier to implode during downturns. One recent American Economic Association study reports that between 1825 and 1929 the U.S. had seven major banking crises and 20 minor crises. Crises were short-lived and seasonal until the Depression. Then came a relatively quiet period, followed by the savings-and-loan crisis of 1986-1995.

Compare that record with Canada’s, which has long had a small number of large branching banks. Since confederation in 1867, Canada has been hit by recessions and bank failures, but no systemwide banking crises. Canada experienced a merger wave in the latter half of the 19th century, long before the U.S. did, and it contributed to stability. Canada didn’t introduce central banking until 1935 and deposit insurance until 1967.

Today Canada has 37 domestic commercial banks (about one per million people), while the U.S. has more than 4,500 (14 per million). If the American bank-to-population ratio were the same as in Canada, there would be only 327 U.S. banks. That isn’t necessarily the number of banks the U.S. “should” have, but it puts in perspective the claim that 4,500 is too few."

"Current regulations do a poor job of making sure banks maintain a safe balance of debt and equity. The current legal framework, introduced by the International Lending Supervision Act of 1983, calls on regulators to maintain high capital requirements, largely defined by the Basel Committee on Bank Supervision. These guidelines have become increasingly and unnecessarily complex, but most U.S. banks satisfy Basel requirements. Those regulatory guidelines did little leading up to the last financial crisis. Even the large U.S. commercial banks at the center of that crisis satisfied regulatory capital requirements, yet they still experienced distress."