Thrift Bank Vs Commercial Bank

Thrift Bank

A bank whose main purpose is to take deposits from consumers and make
home mortgages.

Investopedia Says... Thrift banks typically don't bother themselves with

corporate banking, brokering, or underwriting.

Commercial Bank

A financial institution that provides services such as a accepting deposits and

giving business loans.

Investopedia Says... Commercial banking activites are different than those of

investment banking, which include underwriting, acting as an intermediary
between an issuer of securities and the investing public, facilitating mergers
and other corporate reorganizations, and also acting as a broker for
institutional clients.

A thrift bank deals with consumers and not corporations, while a

commercial bank is geared to corporations

Bank Charters vs. Thrift Charters

• Comparing the two charters

• Proposed legislation
• Conclusion

One of the key issues in Congress's current debates about modernizing the
financial services industry is whether to eliminate the charter for thrifts
(savings and loans). The savings and loan associations originally were
created with a special mandate to channel funds to the housing industry. But
over the years, the charter has changed and so has mortgage financing,
raising the question of whether a "special" charter is needed. For example,
the thrift charter was greatly liberalized during the savings and loan debacle
in the 1980s in an attempt to rescue the industry; and with the advances in
the mortgage market and the prevalence of other financial institutions that
engage in mortgage financing, the role of thrifts in house financing has
faded.
With liberalized charters, thrifts today still emphasize mortgage lending, but
they also offer their customers an array of financial products similar to those
of commercial banks. Indeed, in some respects, thrift charters are more
liberal than bank charters. For example, while the Glass-Steagall Act
separates commercial banking from investment banking and the Bank
Holding Company Act separates banking from commerce, certain thrift
holding companies have relatively unfettered financial and commercial
powers. These and other differences in the charters give financial services
providers the opportunity to engage in structural and regulatory arbitrage,
choosing the charter that is most advantageous to their operation. In this
Economic Letter, I discuss the major differences between bank and thrift
charters and recent developments that may affect their future.

Comparing the two charters

Today, both banks and thrifts can offer virtually the same bundle of financial
services products, from transactions, savings, and time deposits to
consumer, real estate, and commercial loans. But they differ noticeably in
their commercial lending capacity. Unlike banks, thrifts face a statutory
lending limit for commercial loans of less than 20 percent of assets, of which
half may only be used for small business loans. In addition, to be eligible to
obtain advances from a Federal Home Loan Bank, a thrift must meet the
qualified thrift lender test. This test restricts a thrift's commercial lending by
requiring that 65 percent of its portfolio assets be in mortgage and
consumer-related assets. The commercial lending limit does not appear to be
much of a constraint for thrifts: as of 1997, the aggregate commercial and
industrial loans made by thrifts represented only 1.5 percent of their assets,
compared to 14.8 percent of commercial bank assets that are in commercial
loans.

Banks and thrifts also differ in terms of their authority to affiliate with other
nondepository entities through a holding company structure. Banking firms
are governed both by Glass-Steagall, which separates commercial banking
from investment banking, and by the Bank Holding Company Act. Although
recently, commercial banking organizations have made inroads into
investment banking via their so-called "Section 20 subsidiaries," these Fed
authorized securities subsidiaries can only engage in a limited amount of
bank-ineligible securities activities (see Kwan 1997). Specifically, revenues
from bank-ineligible securities activities at the Section 20 subsidiaries are
limited to 25 percent of total revenues. Regarding other nonbank activities,
the Bank Holding Company Act states that bank holding companies' non-
bank subsidiaries can engage only in activities that are closely related to the
business of banking. This prevents banking firms from underwriting most
insurance products, although insurance agency activities have been
authorized for direct operating subsidiaries of banks subject to geographic
restriction. Thrift holding companies that control more than one thrift face
restrictions similar to those for bank holding companies.

Unitary thrift holding companies, that is holding companies controlling only

one thrift subsidiary, have far broader affiliation rights. They are free to
engage directly or indirectly in any legitimate business activities, provided
the activity does not pose a safety and soundness risk to their thrift
subsidiary. There are currently 102 unitary thrift holding companies that
actively engage in nonbanking activities, including securities underwriting
and dealing, real estate development, insurance sales and underwriting,
automobile sales, fast food, and dairy farming. Their thrift subsidiaries hold
approximately $196 billion in assets, representing about 26 percent of the
industry total.

In addition to broader affiliation rights, the thrift charter also provides

greater flexibility to firms seeking to offer financial services nationwide.
Federally chartered thrifts have long been allowed to establish branches
nationwide. Before the enactment of the Riegel-Neal Interstate Banking and
Branching Efficiency Act, banks were prohibited from branching across state
lines. And banks still cannot branch into Texas and Montana, states that
opted out of the federal interstate branching law. But a federally chartered
thrift can operate branch offices nationwide without geographic restrictions.
Furthermore, federal pre-emption of state laws allows federal thrifts to
operate under one set of federal rules, rather than also complying with
different state statutes, which can greatly enhance their efficiencies in
providing financial services across the country.

Reflecting the greater flexibility in affiliation that comes with the thrift
charter, a number of nonbank financial institutions and commercial firms
recently either have obtained or have applied for a thrift charter. They
include Merrill Lynch, General Electric Company, Morgan Stanley-Dean
Witter-Discover, A.G. Edwards, Travelers Group, Transamerica, State Farm
Mutual Automobile Insurance Company, Allstate Corporation, and
PaineWebber Group Inc. For firms that already have a nationwide network of
offices, the thrift charter allows them to offer banking products through their
existing distribution channel, providing consumers access to a wider array of
financial products. This is particularly appealing to securities firms and
insurance companies that are prohibited from owning commercial banks.

Proposed legislation

It is not surprising that the Congress currently is debating the future of the
thrift charter. Clearly, while both banks and thrifts are selling the same
financial services products, they have very different powers and are
regulated somewhat differently. Furthermore, it is unclear whether the thrift
charter is still needed in today's environment to provide financing for
housing (see Laderman and Passmore, forthcoming). Finally, the thrift
charter gives financial services providers the opportunity to engage in
structural and regulatory arbitrage.

While the latest financial modernization proposal would not eliminate the
thrift charter outright, it calls for somewhat more parity between the two
charters. While grandfathering most existing arrangements, going forward,
the proposed Financial Services Competition Act would eliminate the unitary
thrift loophole by limiting new thrift holding companies to activities that are
permissible for bank holding companies, and it would close the branching
gap between banks and thrifts by allowing federal thrifts to open new
interstate branches only to the extent permissible for national banks. The
proposed legislation also would merge the thrift and bank regulators, as well
as the two deposit insurance funds.

Conclusion

The thrift charter was originally intended to promote home ownership by

channelling funds to the housing industry. Over time, it has evolved into a
very flexible vehicle for providing a broad array of financial services products
by firms that are not allowed to operate commercial banks. While thrifts are
allowed to engage in virtually the same activities as banks, they can more
freely affiliate with securities firms and insurance companies than banks.
Thus, the thrift charter allows financial conglomerates to complete their
financial services product line-from securities brokerage to insurance to
banking. As the debate about thrift charters continues, these advantages will
weigh at least as heavily in the discussion as whether the thrift charter is still
needed to promote residential financing.