Why It’s Too Late to Save the Financial Supermarket

Those with a sense of history will remember that the idea of a financial supermarket was an essential part of the setup for the recent collapse of Wall Street. It’s one of the ironies of the current crisis, because the financial supermarket never got off the ground.

The dismantling of Citigroup is the best evidence that the financial supermarket concept didn’t work out. The people I’ve met at Citigroup are among the most astute and dedicated workers I’ve seen in the financial world. If they couldn’t get the financial supermarket concept to make a profit, there isn’t much of a chance that anyone else could do it.

The idea of a financial supermarket was supposed to be that a company that could offer a wide range of financial services could create more impulse purchases, the way a supermarket, and therefore, it would be more profitable. People who came in for an auto loan would buy health insurance and a retirement plan on whim, just because they happened to be in the office. Like fun. It turns out people never made their major financial decisions that way, and can’t be persuaded to start doing it now. I used a consumer example here, but businesses are even more particular about dividing up their financial services so that no one institution can hold them over a barrel later.

Citigroup was formed in a merger of Citibank and insurance company Travelers Group in 1998, and the idea all along was to create the ultimate financial supermarket. Intead, the trouble began almost immediately. The higher costs of operating the combined company forced both the bank and the insurance company to change the way they ran their businesses. That was when Citibank stopped being the friendly giant of banking and started to look for more aggressive ways to squeeze revenue out of its business customers and cardholders. It was also the last time Travelers’ insurance rates were really competitive. Citigroup was forced to sell off its insurance units in 2002 and 2005, but continues to sell insurance, apparently at a loss. The two resulting Travelers units have all but disappeared from the public eye.

But it is the large scale of Citigroup subsequent to the initial merger that has put it at such a competitive disadvantage. Citi has taken some losses from subprime mortgages, mortgage-backed securities, and commercial real estate loans, along with the rest of the industry, but its fundamental problem is its weight. It is too large to manage effectively, which means that problems can become extremely costly before senior managers learn of them and are able to react.

Citigroup may ultimately survive, though at this point, it does not appear to be shrinking fast enough to ever again be able to compete with other large banks or return to operating profits (as distinct from stock-trading profits). And few of the other giant banks in the United States or Europe are doing much better.

If you want more proof that the financial supermarket will never happen, just read between the lines in the recent story by Heather Landry of American Banker, Financial “Supermarket” Idea Re-Emerges, in Humbler Form. The reason it has a second chance, she says, is:

With the quest for new sources of earnings getting all the more urgent, banks are still looking for ways to squeeze more business out of every customer they can.

Seriously? Yes, if you read on through the rest of the article, that’s the whole rationale, with quotes from analysts to back it up. The quotes from actual banking executives demur, however. The way they see it, banks’ needs to squeeze their customers, however urgent it may have become, is hardly a reason to believe that a failed business model will suddenly start working now.

And there is every reason to think that the financial supermarket model is the completely wrong direction right now. Consider that the biggest trend on the Internet this year is people’s worry that Facebook knows too much about them. Then, consider that people trust their insurance companies and banks even less than they trust Facebook. By next year, people will be asking, “Do you really want any one company to know so much about your financial habits?” They will worry about this for a couple of years, and then there will be a sea change as consumers and business managers look for ways to be more financially anonymous.

At the same time, the Internet is providing people, consumers especially, with better information about their financial options. Sick of doing business with the megabanks? Late last year, a web site sprang up to tell you how to take all your banking business elsewhere. Think you’re paying too much in service fees? You know longer have to spend the day making phone calls to find out where you can pay less. This information may be scattershot now, but within a couple of years, it will form into a coherent picture of financial customer options and alternatives. Banks that, for the last 25 years, have been pushing their customers to think of banking as a commodity may come to regret it when customers can easily get together and compare notes.

The truth is that there was never any customer benefit in the financial supermarket concept — it was always all about upsell. If you’re going to be paying thousands of dollars in interest or banking fees, it really isn’t any trouble to go visit the right business to provide those services (or its web site). You’re a victim of the system if you make that kind of decision on a whim, or out of a sense of impatience, the way people might buy a bag of potato chips in a supermarket. And in the future, the suckers will not be so easy to find. Upsell depends on customers who are confused or poorly informed. Customers who know exactly where they can get a better deal won’t be so willing to sit still and discuss the other things you wish you could sell them.

The early attempts at the financial supermarket model sank under their own weight. And current trends in consumer information suggest that it is too late for the banking industry to try it again.

This Week in Bank Failures

So far, there is no indication that the financial reform bill currently in Congress will do anything about banks that are considered too big to fail. The bill would seem to make future bailouts more difficult, but would seem to encourage the largest banks to grow to as much twice their current size. Richard Fisher, a Fed president, commented this week on the market distortions that result when any business is so large that the government feels compelled to help it out when it gets in trouble, and urged a limit on bank size that would be smaller than the five largest banks. Economist Nouriel Roubini warned that the largest banks in the United States and Europe have now become “too big to save” — they are so large that there is not enough government money to keep them afloat if they falter badly. Roubini believes a $2 trillion business of any kind is too large for any board of directors and management team to keep track of, virtually ensuring that further financial mishaps will come to light only after it is already too late for the bank to adjust its strategy and avoid disaster.

CitiFinancial is shrinking by more than 10 percent and will be taking on a new name before the end of the year, according to a Citigroup announcement this week. Citigroup hopes to sell or spin off the lending division, and is restructuring it to make it more attractive to possible buyers or investors.

Prudential PLC couldn’t round up the votes to approve the purchase of AIA from AIG, so that deal is off. Now AIG will probably plan a stock offering to sell AIA to the public early next year. The stock offering might raise only $10–15 billion, though, less than half of the amount that AIG was hoping to get from Prudential. In light of the news, some observers are now saying there is no reason to hope that AIG will be able to pay back the money it got from the U.S. Treasury.

Ireland has committed to keeping Anglo Irish Bank going for at least the rest of this year. This is costing the government about $27 billion, but banking officials think it would have cost more than $60 billion to shut the bank down when it became insolvent last year. The bank still may be wound down next year.

One of the largest banks in Nebraska failed tonight. TierOne Bank had 69 locations, most in Nebraska, with a few in Kansas and Iowa. It had $2.2 billion in deposits and $2.8 billion in assets. It opened in 1907 and took on the TierOne name in 2002, only to see its fortunes turn for the worse just three years later. Its problems snowballed this year. A series of deals to sell the bank, or large parts of it, fell through — the last, a deal to sell nearly half the bank’s branch locations and deposits, rejected in April because regulators believed it would leave the bank insolvent. On April 23, the bank’s auditor resigned, complaining that the bank was withholding information about loan losses. This prevented the bank from filing its already delayed financial statements and led to at least 7 investor lawsuits in May and, at the end of the month, a delisting action from Nasdaq. At the same time, it missed a regulatory deadline for raising new capital.

Some in the news media seem to believe, mistakenly, that all bank problems stem from subprime mortgages. TierOne appears to be the rare case where that is actually true. The bank specialized in home mortgages in a region that has been hit hard by defaults on subprime mortgages. In addition, it operated loan offices in other states, notably including Nevada, Arizona, and Florida. Loans originating in these offices had unusually high foreclosure rates, blamed on lapses in underwriting and management supervision. The loan offices were closed only in 2008 after the bank had begun to report a series of quarterly losses. The bank has also had problems with its loans to builders, but the losses on construction loans appear to be fewer and smaller than those seen at other banks.

Regional bank Great Western Bank, based in South Dakota and already one of the largest banks operating in Nebraska, paid a 1.5 percent premium for the deposits and is also purchasing the assets.

These small bank failures also occurred tonight:

• First National Bank, with its one office on Main Street in Rosedale, Mississippi, along the Mississippi River. Deposits have been transferred to local bank Jefferson Bank, which is also purchasing the assets.
• Arcola Homestead Savings Bank, located in Arcola, Illinois. Demand deposits (checking account balances) are being placed temporarily at the First Mid-Illinois Bank & Trust office 6 blocks away. Depositors who want to get these deposits quickly can go there in person next week to claim the deposits. Otherwise, the FDIC will send checks to depositors. The failed bank had been operating since 1883. It lost $3.3 million last year, leaving it in a negative capital position. It reported another loss in the first quarter of this year, and at that point had $1 million more in deposits than it had in assets.

Crowdsourcing in Action

BBC News this afternoon looked at the public suggestions for sealing the BP oil well as an example of crowdsourcing. It includes a quote from Crowdsourcing author Jeff Howe on why crowdsourcing is sometimes essential:

But one time out of a hundred the problem seems intractable. Crowdsourcing has revealed — in those intractable cases — you need someone who is not trained. All the steps the experts have thought to do haven't worked. You need the unexpected.

All-You-Can-Eat is More Now

I am seeing signs of financial stress related to food costs at all-you-can-eat buffets. There have been some price increases, but mostly restaurants are changing the physical arrangement of the buffet or the signs around it to try to find ways to get people to eat a little less.

It is not that the cost of food has gone up. Prices for most food ingredients are less than at the 2007-2008 peak. Rather, it is that customers are eating more. This is apparently the result of financial pressure on consumers from the malaise of the job market. At the buffet, what this means is that more people arrive hungry — and this is not merely the social hunger of being emotionally ready to eat a full meal, but the kind of hunger that economists talk about, in which people are feeling the physical effects of eating less than usual for a couple of days. People may also be affected by the fear of a shortage of food in the near future well before the shortage actually materializes. Given the chance to eat as much as they want, hungry people eat more at a meal, as much as 25 percent more.

If I am seeing this in the prosperous suburbs of southeastern Pennsylvania, seemingly unaffected by the recession, I have to imagine the effect is larger in other areas. It is a tricky problem for the buffets to address. With revenue already down because of the recession, they don’t want to lose any more customers — the hungriest customers are still more profitable than an empty table. This means they don’t want to raise prices or make obvious cutbacks or compromises. Nevertheless, they may need to find ways to spend less on the food they are providing.

Lid Trouble

I stopped by Starbucks over the weekend, and they were having trouble with their new lids. Unlike the old lids, which would snap in place and hold tight, the new lids come loose at random times, potentially spilling hot and cold drinks on people. It makes coffee more of a high-risk experience than people were used to.

I am sure Starbucks will get its lid problem sorted out quickly, but still: If they are going to change the shape of the lid, wouldn’t they test the new design to make sure it works satisfactorily before they introduce it? If the objective was to save money, hasn’t Starbucks lost more money in spilled coffee than it might have saved in the manufacture of the new lids?

It made me think, of course, of the troubles BP is having with its out-of-control oil well. The problem there too is a lid that won’t fit. The lid, actually a valve, apparently wasn’t tried to see how well it would work. Before the explosion, it was said to be partly functional, but an equally plausible explanation after the fact is that it wasn’t functioning at all. If BP thought it was saving money, it was being lid wise and barrel foolish. It has lost far more money in spilled oil alone.