Business Strategies: Bank Commercial Lending vs. Finance Company Lending

Donald Simonson reviews the shift of a large share of the credit market to commercial financial companies during the last decade and asks whether the banks' loss of market share resulted in a loss of efficiency. In every year from 1983 to 1992 business credit at commercial banks. Reasons for this include the following: (1) Reduction in bank loans to businesses is a continuation of losses of business relationships. (2) Banks have lost the their historical funding cost advantage compared to nondepository intermediaries. (3) With the loss of banks' traditional "blue chip" corporate loan market, profitability concerns and the opportunity to exploit FDIC protection of their uninsured deposits attracted banks promise larger payoffs on high-risk loans to less-developed countries, energy development and production, real estate, and highly leveraged takeovers. This resulted in less lending to core customers in the small and middle markets. (4) Overzealous regulators and tough banks examinations may have been responsible for the cyclical decline in the availability of bank credit. The surge of financial company lending during the recent period of stagnant bank lending presents an opportunity to test the goodness of bank lending by comparing the performance of banks with unregulated competitors. Simonson concludes that finance companies were no riskier, and possibly less so, than commercial banks. And yet,they appear to have produced greater accounting returns, as well as significantly greater risk adjusted market returns fir their shareholders despite substantially greater capital markets for business, financial companies make attractive acquisition targets.