The Wachovia Corp. deal rumors triggered by G. Kennedy Thompson's downfall were just part of Wall Street's standard playbook.
It was not even particularly surprising that the favored acquirer in those rumors was JPMorgan Chase & Co., since it has emerged — for reasons that will not be explored here — as the acquirer of choice in just about every market rumor these days.
But what was surprising as Wachovia's fate was bandied about was the fact that one not-so-trifling detail went unmentioned: A pairing of JPMorgan Chase and Wachovia would be illegal, or at least probably illegal, since it would leave one company with roughly 13.5% of the nation's deposits.
As simple as it sounds, the 10% deposit cap specified in the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 is murky. Even familiar concepts like "bank" and "deposit" take on new meaning under the law, and other questions, such as why the cap exists in the first place, are even harder to crack.
For now interpretation of the deposit cap rules has been left largely to the Federal Reserve Board, which, as a philosophical matter, likely would prefer that the cap did not exist.
As a practical matter, it has rarely emerged as a barrier to deals. Whenever Bank of America Corp. has come within sniffing distance of the threshold — through deals for FleetBoston Financial Corp., LaSalle Bank Corp., and Countrywide Financial Corp. — either it has whittled deposits or the Fed has found a way to explain why the threshold does not matter.
So the good deal of skepticism about whether the cap has any relevance to banking mergers and acquisitions is not surprising.
"If people want to do a deal, the lawyers will figure out a way to structure that deal to get around that cap," said Gil Schwartz, a former Fed lawyer and now a partner at Schwartz & Ballen LLP. "Assuming the regulators feel the deal should be done, they'll cooperate."
There may be no loophole bigger than the one illuminated in the Fed's approval of B of A's Countrywide deal: Under the statutory language of Riegle-Neal, thrifts do not count.
For the most part, that is. For the purposes of the cap, a bank holding company must include the deposits held by its thrift affiliates in determining where it stands in relation to the cap if it is looking to acquire a commercial bank. But the math is irrelevant if its target is a federal savings bank.
The implications are clear. B of A, which by the Fed's calculations would have 10.9% of the nation's deposits once the Countrywide deal closes, likely would be barred from acquiring any commercial bank, no matter how small. But it would be perfectly capable of acquiring Washington Mutual Inc. and the $192.4 billion of deposits held by its thrift subsidiaries.
The thrift loophole makes little sense at first blush and even less sense upon further review. After all, the Fed's definition of a "deposit" under Riegle-Neal (an effort that required its own appendix, over 500 words, and two pages in the central bank's March 2004 approval of B of A's deal for Fleet) clearly includes thrift deposits. And in justifying numerous deal applications that bumped up against or exceeded market-concentration limits, the Fed has half-weighted thrift deposits to give the acquirers more breathing room.
A little background on the cap might offer some explanation for the apparent inconsistency of those facts. Community banks lobbied hard against Riegle-Neal, fearing that unrestricted interstate banking would be their death knell. State regulators also were generally against it, fearing that large out-of-state banks would swoop in and merge their reason for being out of existence.
But they were no match for the big-bank coalition that supported the bill, and the deposit cap — which had been discussed in negotiations leading up to the 1991 passage of the Federal Deposit Insurance Corp. Improvement Act — was seen as a minor sacrifice to buy off opponents.
"We were outgunned," said Ken Guenther, who lobbied against the bill as head of the Independent Community Bankers of America. "Passage of the bill was inevitable, and they wanted to throw a bone to the community banks."
There were over 13,000 bank and thrift charters at the end of 1993; there are roughly 8,500 now.
"History speaks for itself — after that bill passed, you had a formidable wave of bank mergers," Mr. Guenther said. "The cap was not effective in stemming or curtailing major bank mergers."
The cap may be due for a resurgence. It is a far more pressing issue now than it was in 1994, when no bank was anywhere near it. And it is finding relevance as a limit on concentration, rather than market share — as many people say was the original intent.
"It's an artificial number that was picked out of the air, but it had a philosophical underpinning: Congress was concerned about concentration of banking resources nationwide," Mr. Schwartz said. "The deposit cap is not an antitrust measure; it's not about unfair competition."
The idea, of course, is that no one bank should be so big that its economic and political influence dictates a unique course of action. As the "too big to fail" debate ripens in the fertilizer of the current financial markets, there may be little political will to remove such a limit.
It is widely imagined that the bill affects only B of A, but some rough numbers show this is clearly not the case. Keep in mind that, given the complexity of calculating deposits — those held by the potential acquirer and the national total — call-report data is only a strong starting point.
The Fed's June 5 approval of Countrywide's acquisition implied a national aggregate of about $7.09 trillion as of the end of last year. JPMorgan Chase reported $534 billion of domestic deposits as of March 31, or roughly 7.5% of the national total. Wachovia reported $421 billion, or 5.9% of the national total. After buying Countrywide, B of A would hold $954 billion, or 13.5% of the national total.
Balance sheets, of course, are not static. Much has been made of the way B of A managed its deposit base to scoot under the national threshold when it was buying Fleet and LaSalle, but in the case of JPMorgan Chase and Wachovia, a little fudging around the edges would not get the job done. Letting time deposits mature and substituting a little more capital-markets funding may not be a good strategy, and a few divestitures here and there would not make much difference, either. They would have to shave off $248 billion of deposits. For a little perspective, there are only five banks nationwide with that many.
The long-rumored acquisition of Wachovia by Wells Fargo & Co. would be a bit more interesting. That would leave Wells, again in rough terms, with $726 billion of deposits, or 10.24% of the national total. That would be eminently doable.
But nothing about the deposit cap is simple, and as with most things, never say never. Astute readers will find an important exemption straight out of 12 U.S.C. Section 1842(d)(5): "an acquisition of one or more banks in default or in danger of default."
