Deposit Nation

The bank industry has gone a little bonkers these past few years, opening branches at more than twice the rate Starbucks opens coffee joints. And if you're in a neighborhood packed with the high-income swells banks count on to generate the biggest profits, you're probably getting more than your fair share. Of course, banks hardly rank up there with brothels and nuclear reactors on the NIMBY scale, but there can be too much of a good thing. Since so many people bank online these days, teller transactions have fallen about 45%; a parking lot could do a better job generating foot traffic. The bank invasion has gotten so bad that a dozen wealthy towns in northern New Jersey and suburban Chicago have considered or passed laws banning new branches from their main streets. In other towns residents simply complain. In bucolic Montclair, N.J., folks have taken to posting their gripes on a community web site, where they refer to banks as "retail black holes" and "the new nail salons." "Forget restaurants and live music," deadpanned one writer. "What's really going to draw people to downtown Montclair is the incredibly diverse, ever-growing selection of banks."

The banks say there's actually a method to their madness. Several years ago they fixated on something known in the industry as the "network effect." Simply stated, it means that the bank with the largest number of branches will garner a disproportionately large share of the deposits. The bank with half the town's branches, for example, will take in far more than 50% of the area's deposits. That's because most of us choose our bank based on convenience. We're likely to open an account at the bank with a branch near our home, says Andy Lesher, director of network strategy for fast-growing Wachovia, but we want to transact at branches near the office and where we shop: "People want all three."

Of course, the network-effect logic has an obvious and fatal flaw: If every bank in town opens a new branch, the end result is that each maintains the same deposit share — spread over a larger number of branches. "It's like an arms race. If everyone builds bigger bombs, no one's ahead," says Steve Reider, president of Bancography, a Birmingham, Ala., consulting firm that helps banks plan their branch strategy. And that's exactly what's happening. According to Reider, the average branch opened in 2001 — old enough to be considered mature, but young enough to be part of the branch boom — has attracted just $17 million in deposits, about half of what's needed to generate enough income to cover expenses and earn a decent profit. In fact, a recent survey of community banks by the American Bankers Association found that 60% believe their market is overbranched. So why do they keep building? Most banks, of course, will explain that their superior branch-planning and customer-service skills will give them a competitive edge. But the truth is, they can't afford not to. As in any arms race, the competitors are in a terrible bind: Banks can't win market share by participating in this branch-building war, but they will surely lose if they don't.