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Commercial Banking


Banking in the United States tracks the growth of capitalism and free enterprise. Economist Adam Smith famously called capitalism the “invisible hand” guiding the allocation of goods and services in the economy. Through their long, colorful, and sometimes controversial history, banks were the guiding hand. Privately owned merchant banks performed the capital distribution function in the first half of the 19th century. The old-style merchant banks, copying the European private banks, ran a very club-like business; bankers put up capital from family wealth and well-connected private investors who came in as limited partners.

Commercial banks, much like their investment bank counterparts, began to take on the structure we recognize in the post-Civil War period—state-chartered banks and national banks. Prior to the Civil War, all commercial banks were state-chartered financial institutions. State-chartered banks in the 19th century issued their own bank notes, backed only by the gold or silver in a bank’s vault. The banks were under no obligation to disclose their financial condition and many were under-capitalized. Bank runs and bank failures were frequent events. The weak bank problem was partially resolved by the National Banking Act of 1863, which created a new class of banks, national banks chartered by the U.S. Treasury Department. The National Banking Act also gave the nation a common currency, bank notes issued by the national banks and backed by U.S. government bonds. The creation of the Federal Reserve System in 1913, following the banking panic of 1907, gave the nation a strong central bank for the first time in U.S. history.

The stock market crash in 1929 and the Great Depression that followed convinced many in government that the financial marketplace, lightly regulated through much of its history, needed stronger supervision to protect the interests of average Americans.

Financial market reforms in the 1930s fundamentally reshaped the industry; commercial banking was formally separated from investment banking by the Glass-Steagall Act of 1933; commercial banks received government backing through a new agency, the Federal Deposit Insurance Corporation, restoring public confidence; and new rules were written for public offerings of securities. The Glass-Steagall separation of commercial banking from investment banking was finally removed in 1999, and the distinctions between the largest commercial banks and investment banks have become less obvious. The very largest banks in either category compete directly with one another for business.

As a result of the Great Recession of 2008 (called the worst financial crisis since the Great Depression) and other factors, the commercial banking industry is in an ongoing period of transition. The industry is consolidating, more people are banking online (which is reducing demand for some customer-service positions), and banks are increasingly competing with non-financial institutions to provide financial services to customers, among other developments.

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