There is a vision of banking for the twenty-first century shared by the regulators, the banking trade associations, many banking professors and most of the officers in the big bank holding companies.

It is, to begin with, a vision of nationwide or nearly nationwide institutions, certainly no more than twenty of them, with electronic links to their corporate customers, to the markets and other financial service institutions, to each other and to smaller banks, and to many if not most of their individual customers. Those who do not have telephone or computer links to the bank will do most of their business with plastic, while an ever-shrinking cadre of older depositors will still write checks. Customers will pay fees for services, including standardized stock brokerage and insurance agency, and the money left on account, a steadily diminishing fraction of the country's financial assets, will be invested in a variety of securities, including packages of loans.

Some of these institutions will be banks, some will be brokerage houses, some will be data processors like the credit card banks and consortia, the ATM networks, Microsoft and Intuit, ADP, First Data, EDS and Fiserv, delivering services to consumers who don't have the faintest notion who really supplies them. It is by no means impossible that some of these institutions will be subsidiaries of holding companies in the telecommunications business, for the link between telecommunications and banking tightens daily. It will be noted that this pattern of industrial organization makes no contact whatever with our current system of government regulation.

-an excerpt from Martin Mayer's

The Bankers: The Next Generation

FutureBanking: What's your vision of banking and its players in the next several years?

Mayer: What's happening increasingly is the separation of the payment system from the lending function. That's the most important thing that's happened.

Historically, banks got their money by providing payment services, and they lent it at interest and that was their income. The cost side of the business was getting the deposits and servicing them. The income side was lending the money at interest. In the last 30 years, banks have become more and more dependent on money that is borrowed in the same markets that their customers use, and the provision of payment services in many banks- instead of being the cost of raw materials-has become a profit center on its own.

Electronic payments will make the provision of payment services cheaper and cheaper and cheaper, and it will also mean that newcomers who are not burdened with legacy systems of the banks will be able to compete very effectively.

And you already see it. You see it with First Data, EDS, Fiserv, the rapidly rising ATM switches-which the banks presumably own, but which are really quite independent-and of course one sees it with credit card companies. All of these people are providing payment services and the banks are a facade. The banks are a marketing agent.

This is big business. First Data has 36,000 employees; not many banks have 36,000 employees. EDS has an income stream of $1.8 billion a year from doing electronic work for banks. These are really important movements. And there is a wild card in the deck right now, which is very important looking forward and that is that the law now orders the U.S. Treasury to make all of its payments electronically starting January 1, 1999. It was part of last year's Budget Reconciliation Act. now the Treasury has to find a way to get some sort of account for somewhere between 10 and 20 million people who do not have bank accounts. They also have to find a way to make payments economically (to those) who historically have been paid by paper check.

Actually, today, if you want to sell anything to the federal government, you must provide an account to which they can pay by direct deposit. They will not send you a paper check. That's going to change the habits of businessmen, and it's going to be a big push on the banks to get ready for a much more electronic payments system.

But the Fed is in denial and is not being helpful to the banks on this. And won't be. They're going to try to defeat it. I can't prove it, but I think they're going to try to get it rolled back. They're very hostile to them-hostile to the idea of the Treasury making all of its payments electronically.

FutureBanking: How do you define the term bank in an electronic age?

Mayer: It's become very difficult. The old definition-the definition that's in the 1956 and 1970 Bank Holding Company Acts and some other laws, too-is that a bank both accepts deposits and makes commercial loans. That's the legal definition of a bank. We had this big flap in the '80s over the nonbank bank, which did only one of those things. In many ways, I'm on Jim Leach's side; the holding company structure is a much better structure than the structure that Ludwig is promoting. But at the same time, a non- financial operation can own an S&L and an S&L is an endpoint on Fedwire. An S&L is part of the ACH There really is not now any significant prohibition against non-financial companies getting into the payment system.

And of course other people are in the lending business; GE Capital- even after all the mergers-is probably the second or third-maybe fourth- largest commercial lender in the country. There are also securities firms that are unquestionably arranging the sort of things that banks once arranged.

The important function of the banking system is the provision of credit to commerce; that's not cheap to do. And there's a stronger and stronger desire to securitize everything, to become the broker between the investor and the borrower rather than to be the financial intermediary, which banks have historically been.

FutureBanking: Where do you see the most significant impact of the electronic revolution in banking?

Mayer: Right now, it's unquestionably on the wholesale side, but there's an effort to convert retail to a wholesale business. Look at personal loans, which is the most obvious place; look at the mortgage business. The mortgage business was a hands on, one-on-one, lender to borrower (business). The personal loan business; all the installment plan stuff. All of this has been turned over to Fannie (Mae) and Freddie (Mac) on the one hand and to the credit card securitization operations on the other hand.

What electronics has done is make possible true economies of scale in banking, which really didn't exist before. But you can now convert a lot of businesses that were personalized businesses and expensive to operate. Just the move from the teller to the ATM machine, and there are economies of scale. The fact that you can run a huge operation from a central computer and servers rather than having to have a lot of branches has been quite helpful, bringing down the cost of the larger bank, by comparison, with the smaller bank. And the smaller banks are clearly going to have to find niches.

FutureBanking: Who defines the future of financial services and what are their key characteristics?

Mayer: Where is (Travelers CEO) Sandy Weill in all of this. Here's the most successful single person in the financial services industry. Absolutely spectacular. He had this little brokerage house when I first knew him This little operation acquired half the brokerage houses on Wall Street. He sold out to American Express; got put out to pasture at Firemen's Fund; was jimmied out of the business by Jimmy Robinson; and winds up acquiring Commercial Credit, a finance company subsidiary of Control Data. On the chassis of Commercial Credit, which is a lending operation, he builds this enormous empire, which is now Travelers. It's a remarkable story. He doesn't get considered a banker. He is a banker.

FutureBanking: So what does he possess that makes him so brilliant in the business?

Mayer: In some ways, Sandy is Japan, Inc. Sandy sees openings that other people don't necessarily see. When the Japanese were really riding high, if you went back and analyzed what it was they were doing in this market, they were very good at spotting the things that there was a demand for that other people weren't doing terribly well.

If you ask me who is the outstanding banker of this time, it would have to be John Reed. Reed has really grasped what the technology has made available to the industry. But the second person you'd have to take is Sandy Weill.

FutureBanking: For too many institutions, growth is not part of their initiative with electronic banking. Instead, they're using electronic channels just to decrease the cost of transactions. Isn't that problematic?

Mayer: Well, there is overcapacity in banking. I don't think anybody's denied that for quite a while now. I guess the Fed had a paper denying it, but the question is the size of the group of bankable assets against which you put the liabilities of the system. There's always Treasuries and there's lots of mortgage paper, but whether a bank qua bank, given that it must carry various expenses-including the burden of regulation, which they make a little more of than is absolutely necessary- (and) given that these assets can be generated and held by institutions other than banks, many of which are cheaper to run, can the industry expect to grow. The answer is no.

A lot of the sort of routine intermediation functions, which banks have performed historically, are probably going to migrate elsewhere. Now they may be migrating elsewhere to companies which bank holding companies will own. The factoring business is, after all, owned by banks.

FutureBanking: What's your take on the movement away from asset- based manufacturing to distribution and fee-income generation?

Mayer: That's part of the marketing function which we were talking about earlier on the payments system with EDS and First Data. In terms of trying to get equity mutual funds going for banks, that's a big effort, and I'm not sure that it's going to work. I have this gut sense that, just as people don't want to interact with their television set and a lot of money has been dropped getting people to do that, people don't very much want to do their equity business with banks. They think of banks as places where there are debt instruments or money market funds or such things.

They may be able to make it work. Historically, they haven't been able to. They clearly want to tap into the mutual fund business if they possibly can. I used to argue with the Investment Company Institute that if banks can run trust funds for deceased clients, there's no reason why they can't run trust funds-mutual fund type things-for living clients. That argument seems to be ending at this point in the game since half of the membership of ICI is now banks.

FutureBanking: Many of these banks have identified the Internet as a convenient way to strike up virtual institutions that bring comprehensive financial services packages together for customers. Over time, is this a sound strategy versus manufacturing their own product?

Mayer: I'm not entirely certain what competitive advantage banks will have on the Internet against other service providers. I do believe that one of these days Microsoft will find its door into this business. And once Microsoft has found its door into this business, the banks are going to have a very tough time competing against the Microsoft and Intuits who are now making strategic alliances with them, but expect to stab them in the back at some point in the game.

I'm not sure that, over time, the Internet is bank-friendly. The smart card has a great future as an Internet access device, and to the extent that the banks really move ahead on this, which they're not doing much-I can sympathize with them; having three different systems in play doesn't help-it would help them though if the access and information card is a bank card. That would be a big strategic and competitive advantage over time. If the access and information card is going to be issued by somebody else, then the notion that the bank is going to be able to keep the money business that's accessed by that card I'm not so sure it works.

FutureBanking: You say that "banking has never been a licensed occupation, let alone a profession." What's the essence of this statement?

Mayer: This is still, in significant ways, a personal service business. You look at a guy like Dick Rosenberg and how well he did at Bank of America-which basically he did, though I think he paid too much for Security Pacific. He solidified the position of that bank; he's a guy that's basically got marketing skills. He's a smart man; generally, he's a very good guy. But a number of these guys who are real modern, it's-all-in- the-numbers types, I'm not sure that banking ever does get to be an it's- all-in-the-numbers game. We really want to be able to pay bankers for judgment, and you don't learn judgment at the business school. You learn it out in the field, and you're also born with an ability to see behind the facades.


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