Amazon.com, Facebook Inc., Walmart Inc. and other corporate giants may soon give Wall Street a run for its money as a key U.S. regulator smooths the path for nonbanks to get into lending.
The Federal Deposit Insurance Corp. approved a final rule governing so-called industrial loan companies that will allow major businesses to seek banking charters while escaping capital and liquidity demands faced by dedicated financial firms.
The measure will “provide transparency to market participants regarding the FDIC’s minimum expectations for parent companies of industrial banks,” said Chairman Jelena McWilliams. The new rule formalizes years of agency practice with the ILC charters, which were created to let commercial firms make small loans to workers but have morphed to become a back door into big-time banking.
The proposal released earlier this year sparked alarm in the banking industry over the prospect of competition against massive companies that could leverage their huge customer bases and guaranteed consumer traffic to gain meaningful toeholds in banking. And they could offer customers financial services backed by the government — including FDIC deposit protections — with fewer regulatory demands.
Bankers, in an unusual alliance with Democratic lawmakers and consumer groups, have called for a halt in approving new charters until Congress closes a loophole that allows what they see as an unfair advantage.
The FDIC cleared two ILCs earlier this year when it granted conditional deposit-insurance approval for mobile payments firm Square Inc. and student lender Nelnet Inc. But an effort by Japanese online retailer Rakuten Inc. to set up its own bank is seen as a major test case for a non-financial firm to break down the traditional barrier between banking and commerce.
“If the FDIC approves Rakuten’s application, it will set a precedent for every other Big Tech company (Amazon, Facebook, Google, etc.) to enter banking through an ILC charter without consolidated supervision,” the Bank Policy Institute, a Washington-based industry lobbying group, wrote in a blog post last month.
Facebook declined to comment, and Amazon and Google didn’t respond to emails seeking comment.
The FDIC said in a rule notice released Tuesday that the agency is obliged to implement federal law as it exists today, citing an increased urgency to clarify the application process as more companies express interest in seeking charters.
“Whether commercial firms should continue to be able to own industrial banks is a policy decision for Congress to make,” the agency said in its notice.
Industrial loan companies have existed since the early part of the 20th century, and were initially used to provide credit for workers being underserved by commercial banks. They grew into wider use as financing arms of industrial giants such as General Motors Corp. and General Electric Co., and other retailers including Target Corp.
ILC growth exploded after Congress in 1987 exempted them from the definition of “bank” under the Bank Holding Company Act, freeing the companies from business restrictions faced by traditional lenders and supervision by the Federal Reserve. That growth has reversed since 2007, after the FDIC imposed a moratorium on considering new applications in response to bankers’ opposition to a previous bid by Walmart that was scrapped because of the furor it raised.
The Dodd-Frank Act then shut the window on ILC applications for three years until 2013. Since 2017, banking regulators appointed by President Donald Trump have often been more receptive to breaking down the wall between banking and commerce. GM, which sold its ILC in 2006, is among firms interested in getting a new banking charter, the Wall Street Journal reported last month.
After Square and Nelnet were cleared for ILC banking this year, Senator Sherrod Brown of Ohio invoked the 2008 financial meltdown that gave rise to Dodd-Frank in warning about the potential threat.
“Just before the last crisis, regulators gutted financial rules and even considered letting mega-corporations like Walmart own banks — and here we go again,” said Brown, the Senate Banking Committee’s top Democrat.
Each bank holding company must have enough capital across the entire firm to guard against losses and ensure its balance sheet is sufficiently liquid, and Fed oversight brings stress tests and other supervisory requirements. While ILCs also face capital demands, their parent companies are only required to pledge that they’ll provide support if the bank gets into trouble. Bankers say these differences, coupled with restrictions on their ability to engage in non-financial businesses, leave them at a competitive disadvantage under the new FDIC rule.
The agency said it will be able to consider the potential impact of each applicant on the goal to keep banking services competitive, safe and sound. It also said applicants will have to agree to examinations and annual reports, and to ensure that they’ll financially support the bank when needed.
The ILC approvals from the FDIC and Utah’s banking regulator leave Square Financial Services “uniquely positioned to build a bridge between the financial system and the underserved,” a company official said in March. That argument for greater accessibility is a central point for those who favor the new ILCs.
“Proponents contend that opening up the banking system to tech and retail companies will enhance financial inclusion in underserved communities, but the evidence for that claim is pretty limited,” said Jeremy Kress, a former Fed lawyer who is now teaching at the University of Michigan’s Ross School of Business. “A Bank of Walmart or Amazon Bank could easily attract trillions of dollars in deposits, thereby increasing concentration and systemic risks in the financial sector.”
Opponents recognize that their best bet could be getting Congress to intervene again and shut down the ILC process.
The FDIC is “violating the cardinal rule established almost 70 years ago that banking and commerce should remain separate,” said Steve Hall, legal director for Better Markets, a Washington-based group advocating for tougher financial rules. “Those combinations cannot be adequately supervised, they pose instability risks, and they can even foster unfair competition.”