Bank Failures: Can They be Eliminated?

Author

Homer Lee Martin, Fontbonne College

Year of Award

1987

Degree

Master of Business Administration (MBA)

College

College of Business & Professional Studies

Degree Program

Business

Department

Business Administration

Keywords

Market value, Diversification, Fraud, Liquidity, Federal Reserve System

Abstract

The 1980's has seen more bank failures than any other period of ·time since the great depression. The combined two hundred failures in 1984 and 1985 exceeded the forty year total from the beginning of World War II to the beginning of the 1980's. In economic terms, a bank becomes insolvent when the market value of their net worth becomes zero. Any losses from that point would have to be charged against debt, which is in violation of the agreement to repay these claims at face value when due.

There are several reasons that banks fail. These include bank fraud, insufficient diversification, insufficient liquidity and the risk taking propensity of bank management. Fraud has been the single most important cause of bank failures in the past. A study of insured banks that failed between 1960 and 1974 found that 88 percent were attributable to improper loans, defalcation, and manipulations. All of the reasons for bank failure have one common factor--poor managerial decision-making. Bankers can choose among alternative assets, liabilities, and activities in order to decrease the probability of unfavorable outcomes. Those bankers that take unnecessary risks or do not properly diversify their portfolios will be the most likely to cause their banks to fail.

During the period between 1930 and 1933, over nine thousand commercial banks failed with costs to stockholders, depositors, and other creditors of $2.5 billion. In 1934, a record 4,004 banks failed. After the great depression had taken its toll on the marginable banks and the United states economy had begun to rebound, the banking industry looked very stable. The average number of bank failures from 1943 to 1981 was only six per year. This changed during the 1980's when bank failures in 1984 exceeded any other year since 1939. Another eight hundred banks appeared on the Federal Deposit Insurance Corporation's problem list. The agency expected to pay out insurance losses of $2.6 billion, compared to losses that ranged from $30 million to $100 million prior to 1981.

According to the Federal Deposit Insurance Corporation, there will be over two hundred bank failures in the United States in 1987. This is an increase of over 400 percent in the number of bank failures in just four years when there were only forty-eight failures in 1983. The banks that have been hit the hardest are agriculture and energy related banks. Texas, alone, has had seventy-eight banks fail in the last three and a half years. Over the same period, Iowa has lost twenty-eight banks, Oklahoma has lost forty-nine banks and Kansas has had thirty-seven banks fail.

While many banks have failed in these economically hard hit states, many more have not. The banks that have remained profitable are the banks that had management that diversified their portfolios and reduced their risk. While bank failures cannot be eliminated, their number can be reduced and predicted. This thesis will look at the history of the United states Banking System and examine today's bank structure. Explored will be bank regulation and deregulation, risks of bank failures, consequences of bank failures, and factors leading to the current increase in the number of bank failures. In conclusion, this thesis will look at the future of banking and suggest strategies that may help to reduce the number of bank failures.

Document Type

Restricted Thesis

Recommended Citation

Martin, Homer Lee, "Bank Failures: Can They be Eliminated?" (1987). All Theses, Dissertations, and Capstone Projects. 583.
https://griffinshare.fontbonne.edu/all-etds/583