Rethinking Antitrust

By Brian W. Smith and Mark W. Ryan

As electronic commerce bursts geographic constraints, antitrust policy must evolve. New technology must be taken into account in evaluating market concentrations.

With each wave of technological advances in electronic banking and commerce, traditional federal antitrust policies are becoming more archaic. Improbably, regulators continue to evaluate mergers strictly on geographical definitions of market share at a time when increasing numbers of banks are constructing "virtual branches" offering nationwide services through electronic channels.

Now is the time for regulators to incorporate the market ramifications of new technology into antitrust analyses. Old frameworks overlook the critical alliances between banks and nonbank companies that are transforming the industry. The exchange of information is what electronic financial commerce is really all about, and non-banking firms such as DigiCash Inc. and Microsoft Corp. are leaders in designing and installing the tools for conducting this commerce. Banks are joining forces with these companies to stay ahead of the technology curve.

Such collaboration, which takes the form of joint ventures and alliances, is most evident in home banking and electronic currency. In both arenas, technology companies have insinuated themselves directly into the interface between customers and financial institutions. In home banking, software companies often control the programs that link banks and households. Meanwhile, various electronic payments media -- smart cards, stored value cards and digital money -- are being circulated by nonbank high-tech firms.

Not one of these new forms of competition is reflected in the current regulatory framework for analyzing mergers.

To be sure, it is impossible for regulators and the Department of Justice to "stop on a dime" and reverse course immediately. The development, publication and implementation of a completely new antitrust policy would take many months to accomplish. This difficulty should not forestall efforts to make constructive changes in current policy, however. An interim step would be expanding the method of identifying potential competitors in a given market by including out-of-market players whose entry is enabled by electronics.

Meanwhile, regulators should develop fresh analytical tools for evaluating new forms of competition in electronic realms. Troubling antitrust issues have already emerged, such as access to networks, rules governing joint ventures and the abuse of intellectual property rights. In home banking, for example, certain software providers and banks could establish a proprietary system, then exclude other banks from participation. Is that a fair form of competition?

Emerging technologies will empower virtually all bank customers in a given market to obtain financial services and products from providers nationwide, as opposed to only those having a physical neighborhood presence. As technology enables consumers and businesses to interact with banks without leaving homes and offices, antitrust doctrines based on the number of branches in Peoria or the level of demand deposits in Raleigh gradually lose relevance as measures of competitive significance.

A focus on local markets has long been a basic tenet of antitrust law. In assessing how a proposed transaction likely would affect customers of the merging firms, regulators identify all third parties able to compete effectively for the business of those same customers. Boundaries of the geographic markets are drawn to include the prospective merging firms and their competitors. Then regulators engage in a relatively simple exercise. First, they determine how far customers of the merging parties are reasonably likely to travel for banking services, assessing whether they would be inconvenienced in obtaining services from the merged entity and competitors. Then they total the bank branches and deposits in that area, and see how much of the market pie would be controlled by the proposed merger partners.

This methodology must now be re-examined in light of burgeoning technology. Travel considerations are negated in light of the fact that large and small businesses, and millions of individuals, regularly use technology to reach financial services providers anywhere in the country. And, perhaps more importantly, providers of financial services increasingly use technology to extend their reach beyond local or state borders in the search for new customers.

The proper focus of antitrust analysis should be assessing the probable impact of a proposed merger or acquisition on competition. In discharging their responsibilities, however, it appears that both the Justice Department and bank regulators prefer to err on the side of tradition, operating under outmoded views of the marketplace rather than focusing on what the market will look like in the next two to three years.

Consider that the Office of the Comptroller of the Currency recently ruled that automated teller machines, remote service units, and automated loan machines are not bank "branches" under the National Bank Act. This opened the door for national banks to expand networks of ATMs, RSUs, and ALMs without regard to state-imposed restrictions on bank branching.

Should these automated facilities be taken into account in merger analysis? The OCC ruling states that "certain banks are testing ALMs designed to take loan applications, process the application in about 10 minutes, and if approved, either deposit the loan proceeds into the borrower's existing account or print out a check." It is difficult to see how this does not qualify as competition for another bank's traditional branch network.

Clusters and Business Lines

In 1963's U.S. v. Philadelphia National Bank, the Supreme Court analyzed a bank merger's effect on "local" geographic markets and defined the relevant product market as the "cluster of products and services" offered by commercial banks. Since that time, however, the agencies have developed different approaches, with the Federal Reserve Board and OCC favoring the "cluster of services" approach and the Justice Department using a "business line-by-business line" approach to product market definition.

These approaches made the most sense back in an era when the cluster of services was, either individually or as a group, available principally from commercial banks and thrifts, and when banks were largely limited to providing only those services within the cluster. Information on overall deposit levels in a community was widely agreed to be the best evidence of an institution's ability to provide one or several of a bank's products and services, and the data were readily available.

But is there anyone today who would seriously assert that community availability of financial services is limited by the number of bank branches and thrifts found in a given locale? Regional, even national, markets exist for home mortgages, home equity loans, auto loans and credit cards. Retail demand deposit account equivalents can be established at any number of brokerage firms. Loans can be obtained and securities purchased through ATMs. Individual banking can be done entirely via personal computers.

The lifting of many barriers defining what kinds of institutions may offer what kinds of services and the ability of banks to cross state lines, electronically or otherwise, renders the "cluster versus product line" debate largely academic. Premised on the notion that there was something truly unique about the services available from banks, the cluster approach is now difficult to support in light of the expanding array of financial products offered by all sorts of institutions. The same goes for the business line-by-business line approach to evaluating bank mergers.

Given the extent to which technology enables financial service providers to reach across the country for customers, it is difficult to pinpoint any single line of business in which the combination of two banks could realistically harm customers in a particular community.

Electronic Commerce

Mergers and joint ventures between firms in different industries have infrequently occupied the attention of antitrust enforcers. But that may change as electronic financial commerce blurs distinctions between technology and financial services sectors.

Perhaps nowhere is the banking and technology collaboration more evident than in home banking and electronic currency. Home banking relies on sophisticated technology in enabling customers to manage their bank accounts via home PCs. Personal finance software, such as Managing Your Money and Quicken, serves as the customer gateway for a wide variety of personal deposit, credit, bill-paying, check writing, and investment functions.

Customers view the institution providing the financial services as a hybrid -- a blend of the software program and bank account comprising home banking. In a very real sense, for each home banking relationship, the high-tech company (or customer) could access one or more financial institutions for each function of the home banking account, or link a combination of bank and non-bank service providers. Consequently, the threat that high-tech firms will gain power to direct consumers' choice of financial institutions is quite real -- at least in the minds of today's bankers.

Even distribution agreements could pose substantial antitrust questions. For example, might a bank that agrees to aggressively market a software program for home banking extract concessions from the software manufacturer that make it difficult (or impossible) for competing banks to have access to the software? Should antitrust regulators care about such agreements? Should it make any difference if the bank extracting the concessions played a critical role in developing the market for the software program or simply paid for the concession after the program had already gained widespread market acceptance? These are the types of inquiries that are likely to occupy the energies of antitrust enforcers in the new era of electronic commerce.

The emergence of electronic currency -- smart cards, stored value cards and digital money, for example -- illustrates the potential for competition between technology providers and banks. For the most part, electronic currency is the result of technological -- not banking -- innovation. It presently links existing electronic currency products to bank accounts, and acts as the means by which to obtain the value that is stored or to be exchanged. However, the bank account linkage conceivably could be discarded in the future. The banking industry is well aware that it could be bypassed in the electronic payments system.

Such electronic distribution has empowered both banks and their customers to reach new markets and product providers. This calls into serious question the long-standing paradigms antitrust and bank regulatory policy makers have employed to evaluate the antitrust significance of mergers, joint ventures and intellectual property rights of emerging players.

Mr. Smith and Mr. Ryan are partners in the Washington, D.C. office of Mayer, Brown & Platt.

Copyright © 2003 by Banking Strategies, published by BAI.

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