How the Financial Crisis Made Big Banks Bigger

Banks are finally beginning to lend, the big ones that is. Commercial and industrial lending is up this quarter 0.2% from the third quarter, according to Moody's Analytics. That might not sound like much, but it's the first quarterly increase in two years. This is great, right? After all, if banks are lending more to businesses, they can expand and begin to hire. That's true, but this trend reveals something else: the financial crisis has created an environment where big banks are getting bigger, as the small ones struggle.

This report comes from Ruth Simon at the Wall Street Journal. Here's how it starts:

Some big U.S. banks are starting to increase their lending to businesses as demand for loans rises and healthier banks seek to grab customers from weaker rivals.

After declining steadily for most of the past two years, the amount of commercial and industrial loans held by commercial banks inched upward during the past two months, according to the Federal Reserve.

Unfortunately, the article is a little thin on hard macro-level data that supports this claim. Instead, it provides some anecdotal examples of big banks increasing their lending. JP Morgan's middle market lending is up 7% this year, while its small business lending is up more than 40%. Wells Fargo is also more liberally extending credit to businesses.

But even without a concrete comparison of the lending of big banks and community banks, the observation makes sense. Earlier this week we noted that many small banks who accepted bailout money are in jeopardy of failing. Hundreds have not yet paid back their bailout money. Meanwhile, the larger banks all seem to be faring pretty well, having mostly paid back what they owed the government.

The reasons for the different experience over the past few years of big and small banks is pretty simple to explain. Big banks have more diversified balance sheets, so their loan losses weren't as concentrated or severe as small banks' loan losses. When it came to mortgages, for example, most big banks sold many of them to investors through securitizations, while smaller banks more likely held them on their balance sheets. The big banks also have an easier time getting funding in the capital markets through either debt or equity. This allows them to regain their stability relatively quickly.

This trend is somewhat disturbing. The financial crisis was caused by toxic assets at big banks putting the entire financial system in jeopardy, because panic nearly caused their failures. And since they were too large and interconnected to be permitted fail, the government had to swoop in and rescue them. But that allowed them to regain their health relatively quickly. Meanwhile, smaller banks continue to struggle. That has allowed the big banks to capture much of the growth the smaller banks aren't in a position to experience.

Of course, as big banks become even bigger, their potential failure becomes even more dangerous. The too big to fail problem created a crisis that ultimately made the problem even more serious.