Occupy the SEC is back! The small group of lawyers, bank compliance experts, and financial services industry product specialists generated an outside reputation with its highly praised, over 300 page comment letter on Dodd Frank. As Law.com wrote:

In detailing how they believe the Volcker Rule can be strengthened, Occupy the SEC has written what may be the longest and most talked-about letter of this comment period, which concluded February 13. From Slate and Mother Jones to Bloomberg, Reuters, and the Wall Street Journal, Occupy the SEC’s doorstopper dispatch to the Securities and Exchange Commission has garnered mega attention this week, helping to define the ongoing debate over the so-called Volcker Rule, a regulation to limit the bets that banks can make through proprietary trading… .

But it has been Occupy the SEC’s letter that has stood out from the rest in the media sphere, being widely praised this week as smart, well-written, and detailed. The letter identifies risky proprietary trading with government-backed funds as the downfall that occasioned the 2008 financial meltdown, and argues that a stronger Volcker Rule must keep that from happening again—sentiments echoed by John Reed, the former chairman and CEO of Citigroup in a five-page comment letter he submitted.

Not to worry, the matter that Occupy the SEC has roused itself to address this time is more straightforward than the Volcker Rule,¹ as you can see from the letter embedded below. Occupy the SEC has responded to a request for additional comments from the Department of Justice’s Antitrust Division over an initiative to update its 1995 rules for analyzing bank mergers. From the agency’s announcement:

The Department of Justice’s Antitrust Division announced today that it is seeking additional public comments until Feb. 15, 2022, on whether and how the division should revise the 1995 Bank Merger Competitive Review Guidelines (Banking Guidelines). The division will use additional comments to ensure that the Banking Guidelines reflect current economic realities and empirical learning, ensure Americans have choices among financial institutions, and guard against the accumulation of market power. The division’s continued focus on the Banking Guidelines is part of an ongoing effort by the federal agencies responsible for banking regulation and supervision.

As you will see in the crisp, concise letter below, Occupy the SEC contends that the Department of Justice’s bank guidelines are defective because they ignore Congressional directives in the Bank Merger Act and use only the sort of Clayton Act size/concentration merger analysis used in other industries. The letter also mentions that the use of the Herfindahl-Hirschman Index screen is problematic, since it depends on how markets are defined, and that can both be gamed as well as a subject of legitimate debate. In banking and finance, where Providers actively seek to bundle services and have considerable latitude to do so, it’s even harder to define markets properly.

Occupy the SEC further points out that the near-total failure to reject any bank mergers and the speed with which approval is given….even under Covid…is proof that the reviews are pro forma.

The problem with this type of process is that even when they seek to be broad-ranging, they seldom allow for basic issues to be debated. Consider this sentence from the Department of Justice request:

Building on the responses, the updated call for comment focuses on whether bank merger review is currently sufficient to prevent harmful mergers and whether it accounts for the full range of competitive factors appropriate under the laws.

The hidden assumption is that most bank mergers are helpful or at least not detrimental.

In fact, every study of bank mergers ever done (until they seemed to drop radically in popularity as a subject of inquiry, around the mid-2000s) is that they all found that once a certain size threshold was achieved, banking had a negative cost curve. In other words, bigger was not better. Bigger was more costly to operate. And back then, the size barrier varied by study, but the largest back then was $25 billion in assets, which is not very large.

There is no reason to think anything fundamental has changed, save the size limit may be a bit higher. Large banks still run massive legacy systems on mainframes. Those systems are fragile. They are even more fragile as a bank gets larger. And banks have no path for migrating off them. Conservative analyses say that well over half of large IT projects fail, and no project to migrate from a legacy system has ever succeeded. Aside from being massively risky, the NC IT bank IT wags estimate it would be pencilled out as taking at least 100% of bank profits for three years. Since big project never get done on time or on budget, that means even if it were successful, it would be more likely to take at least 6 years and eat all of the bank’s profits during that period.

Some readers might object and point to all of the branch consolidations and firings that happen in bank mergers. But they miss two points. The first is the rising cost curve (slight rise in expenses per dollar of assets as banks get bigger) means some combination of:

The cost cuts could have been achieved by each bank separately, but mergers give an excuse for a lot of bloodletting

Any cost savings within lines of business were more than offset by diseconomies of scope, as in higher costs of running a more complicated, bigger operation

Cost savings were more than eaten up by pay increases at the top level. Executive pay in banking is a function of the size and complexity. So bank acquisitions are very attractive for the top ranks of the buying entity, since they can justify higher comp thanks to having supposedly bigger jobs

Needless to say, all other things being equal, larger and more complex financial firms represent more too big to fail risk. Dodd Frank required the Financial Stability Oversight Council to identify as systematically important financial institutions and subject them to more stringent requirements, such as higher capital requirements.

As of 2016, five of the biggest banks didn’t have “credible” living wills. There were also doubts about how Citigroup had gotten a green light. Donald Trump then came into office and weakened many of the Dodd Frank “too big to fail” provisions. Sadly, the Department of Justice no doubt considers its to be outside its authority, but I would start with the position that anything more than a trivial acquisition by one of the largest banks was harmful and put a much stronger onus on the buyer to prove otherwise.

But we should be glad to see progress on the antitrust front, even if getting real momentum will take more concerted effort.

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¹ A big reason the debate became so complicated, and thus amenable to lobbyist watering-down, was that Volcker wanted to customer trading treated differently than proprietary trading, when the difference isn’t necessarily clear cut. Put it another way, it’s easier to say “We want banks to stop gambling with public-backed money” than figure out how to make that happen. We did discuss concrete ideas at the time.

00 Bank Merger – Comment Letter