The Secular Decline of Traditional Banking: Drivers and the Changing Transmission of Regulation and Monetary Policy

The Secular Decline of Traditional Banking: Drivers and the Changing Transmission of Regulation and Monetary Policy We document the secular decline in traditional banking since the 1970s and analyze its implications for monetary policy and financial regulation. The share of lending to households and firms financed on bank balance sheets fell from 55% in the 1970s to 33% in 2023, alongside declines in deposits as a share of savings (from 21% to 13%) and loans as a share of bank assets (from 70% to 55%). We develop a model, disciplined by micro and aggregate evidence, that captures the interaction between traditional balance-sheet lending and originate-to-distribute (OTD) intermediation via bank securities holdings. Four forces drive the transformation: (i) borrower demand shifting toward informationally insensitive debt; (ii) saver demand moving away from deposits; (iii) regulatory changes; and (iv) unconventional monetary policy through central bank asset purchases. Borrower demand shifts, reflecting the expansion of debt securities markets, account for most of the decline in balance-sheet lending. Saver reallocation primarily shrinks bank balance sheets. Bank regulatory changes play a secondary role. Post-2008 quantitative easing (QE) further shifted bank portfolios away from loans and partially crowded out traditional lending. Simulations show that higher capital requirements reduce banks’ footprint with modest effects on aggregate credit, as securities markets absorb the shift, highlighting diminishing regulatory influence over aggregate lending. Our framework clarifies monetary transmission in a world where non-bank intermediation is central by separating conventional interest-rate policy channel from unconventional asset purchases. We show that these policies have distinct effects on financial intermediation, with persistent QE shifting credit away from bank balance sheets toward debt securities markets and thus reshaping where and how credit is intermediated.