WASHINGTON—Car makers have them. So do Target, General Electric and a dozen other commercial enterprises. Now Wal-Mart and Home Depot want their own industrial banks.
But the giant retailers' interest in these obscure but rapidly growing financial institutions, called industrial loan companies, has moved Washington policymakers to the brink of shutting off the last avenue that nonfinancial companies have into the banking business.
Why the fuss over an arcane subject such as who can own a financial institution? Critics say the health of the country's economy is at stake. They're concerned because the nonfinancial businesses that own ILCs aren't regulated the same way that those owning banks are. They fear that nonfinancial firms could use their industrial banks to make loans based on their own business considerations, not on sound financial ones.
While ILCs can sell the same products and services as banks, they don't have standard checking accounts; they can, however, offer a comparable service. Some companies apply for more limited ILC charters. Home Depot wants only to make home-improvement loans, and Wal-Mart wants to process credit and debit card transactions.
The real difference between banks and ILCs is in their ownership and regulation. Nonfinancial companies may not own banks, but they can operate ILCs. Banks can't own or be owned by nonfinancial commercial firms. The Federal Reserve regulates the corporate owners of banks but doesn't have oversight of commercial companies that own ILCs.
"The question of whether to allow broader mixings of banking and commerce has broad-reaching implications for the structure and soundness of the American economy and financial system," Scott Alvarez, the general counsel of the Federal Reserve System, told Congress at a hearing in July on ILC ownership and supervision.
ILC supporters say consumers benefit from the additional competition that industrial banks offer and that they aren't a threat to the economy.
"In the absence of a demonstrated example of regulatory failure, there is no fundamental, underlying reason for a public policy change," G. Edward Leary, the commissioner of the Utah Department of Financial Institutions, said at the July congressional hearing. He noted that ILCs "have operated for over a century without harming competitors, consumers or the deposit insurance system."
This summer, bank regulators imposed a six-month moratorium on new ILC applications and the ones pending from Wal-Mart, Home Depot and 10 other companies.
The announcement came after 98 members of Congress asked the Federal Deposit Insurance Corp. to give them time to consider a bill that would bar more commercial firms from owning ILCs, restrict the business activities of ILCs that commercial companies opened after 2003 and have the FDIC regulate the companies that own industrial banks.
ILC proponents and opponents agree on one thing: Wal-Mart's application for an ILC charter moved the debate onto the radar screens of groups from unions to small-business owners. It also may have spurred other commercial firms to seek ILCs.
"Many companies may not know why they want an ILC, but if their competitors have one, they want to grab one too," said Bert Ely, an independent banking consultant in Alexandria, Va.
An ILC is the only type of bank that nonfinancial enterprises have been allowed to own since the Great Depression, when Congress reacted to the cascade of bank and commercial failures by banning common ownership of banks and commercial firms. It made an exception, however, for the then-tiny ILCs, so that industrial companies could make loans to their low-paid workers, whom commercial banks shunned.
Now, banks are happy to lend to even the poorest workers, and ILCs have expanded into multipurpose, multibillion-dollar financial institutions, including ones that help owners of BMWs and Harley-Davidsons finance their machines.
Nonfinancial companies accounted for nearly half the new ILC charters granted in the last two years (financial companies can also own ILCs, but the controversy is over whether commercial firms should be allowed to continue to own them) and contributed to a 3,900 percent growth in ILC assets to $155 billion from 1987 to 2006, according to the Government Accountability Office. While only 15 of the country's 61 ILCs are owned or affiliated with commercial firms, 11 of the 14 applications in the last three years were from nonfinancial companies.
That concerns an unlikely coalition of union leaders, consumer advocates, small-business owners, bankers, the Federal Reserve and conservative and liberal lawmakers. "It's a motley group, but we found common ground," said Michael J. Wilson, the vice president of the United Food and Commercial Workers International Union.
"Financial trouble in one part of a business organization can spread, and spread rapidly, to other parts of the organization," said Alvarez, of the Fed. By regulating bank owners, he said, the Fed can detect problems "before they pose a danger to the organization's subsidiary insured banks and the federal safety net."
Ed Mierzwinski, the consumer-program director at U.S. Public Interest Research Group, a watchdog organization, said that another reason "we separate banking and commercial firms is to make sure everybody gets a fair shake when they go into a bank."
"When the bank of a big company makes favorable loans to businesses friendly with the commercial parent, such as suppliers, that distorts the economy," he said. "So a company that is doing well might not get a fair shake at the loan, while a company that is not doing well is dangerously propped up with a loan on favorable terms from an ILC."
Wilson, of the workers union, put the concern about mixing banking and commerce into real-life terms.
"It has the potential to drive out competition" from other banks, he said, and revive the company-town model of the early 20th century, when everything in a town was owned by one company. "You rented your home from the company and you purchased your retail stuff from the company. How much pressure will they put on people to bank at the company bank?"
Ely, the Virginia banking consultant, said those arguments were based on fear, not fact.
"The arguments being offered are emotional ones that just don't hold up to close scrutiny," he said. "I'm of the belief that the market will develop that which works most efficiently."
Some companies withdrew their applications after the FDIC announced the six-month moratorium. But Wal-Mart and Home Depot don't plan to give up the fight, company executives said.
Neither retailer said it planned to use an ILC charter to operate a full-service bank. Home Depot has applied to acquire an existing ILC—EnerBank of Utah—that specializes in home-improvement lending.
"We're not creating anything new. We're simply moving an organization that already exists from one corporate owner to another," said Jim Stoddart, Home Depot's senior vice president for growth initiatives. "Our interest in EnerBank is because it fits strategically. It's not just about applying for (an ILC) charter for the charter's sake."
Wal-Mart wants the charter to process credit and debit card transactions. "We want to provide a greater efficiency and more effectiveness in our payment system," Wal-Mart spokeswoman Tara Raddohl said.
In August, Wal-Mart applied for a retail banking license to operate a commercial bank in Mexico. Raddohl said the company didn't have similar plans for its ILC in the United States, should it be allowed to open one.
Still, Wal-Mart's foray into Mexican banking feeds opponents' fears that if it gets an ILC charter, it might use it to expand to a full-service bank. Raddohl said the concern was unfounded.
INDUSTRIAL LOAN COMPANIES AT A GLANCE
Q. What's an ILC?
A. An industrial loan company is a U.S. financial institution that lends money and takes deposits. It may be owned by nonfinancial institutions.
Q. How is it regulated?
A. ILC's are reviewed by state regulators and the Federal Deposit Insurance Corp., but the Federal Reserve doesn't regulate their parent companies.
Q. What kinds of companies own ILCs?
A. Banks and nonfinancial companies such as retailers and automakers. Banks aren't allowed to own nonfinancial companies.
Q. What types of transactions can ILCs make?
A. They can make the same types of loans as banks, as well as issue credit cards and take deposits. They can't offer regular checking accounts, but they can offer NOW Accounts, in which customers are permitted to write drafts against money held on deposit.
Q. Which nonfinancial companies own ILC's?
A. General Electric Co., General Motors, Merrill Lynch & Co. Inc., Morgan Stanley, American Express Co., Target Corp., Nordstrom, Harley-Davidson, First Data, SALLIE MAE.
(c) 2006, McClatchy-Tribune Information Services.
Need to map