Peter deSilva, chief executive at UMB Bank, predicted earlier this summer that 300 to 500 more U.S. banks would fail before the current spate of federal takeovers could run its course.

Who knew then that he might have been playing the role of optimist?

Since the end of the second quarter, the pace of bank failures in the

U.S. has accelerated and is approaching triple digits for the first time in 17 years. Even before it drew to a close, the third quarter of 2009 produced more failures than we saw in the first half of the year. This, after just 26 bank failures in 2008, and 25 in roughly the previous six years —combined.

Reflective of what has been dubbed the “Zone of Sanity” with more conservative banking practices in the nation’s interior, it’s worth noting that only three Kansas banks and four Missouri banks are among the casualties to date. But sane or not, banks in the Kansas City region have been pummeled. According to FDIC statistics for the second quarter, 29 of the 52 in-district commercial banks saw their assets decline from first-quarter levels, and 21 posted losses for the quarter ended June 30.

If you’re on the positive side of those numbers, though, this may be look- ing more like an opportunity than a crisis.

“Certainly, there are opportunities afforded by the fact that some of our competitors are distracted and in a serious workout situation,” said Mark Jorgenson, regional CEO for US Bank in the Kansas City region. The bank’s new enterprise revenue office has generated a long list of ideas for new income streams, he said, capitalizing on market shifts in commercial real estate, consumer accounts and business banking.

“We have not exited other core business, and we’ll continue to innovate all the way through the recession,” Jorgenson said.

For Julius Madas, an executive vice president at Intrust Bank, some of what’s going on now was predictable.

“I think you have in almost any economic cycle periods of excess,” he said. “What we’re experiencing now is clearly a residual impact of an economy that started with the real estate credit markets. But it’s also a little due to the fact that we had a tremendous expansion of community banks that occurred in the past 10 to 15 years, and the Fed’s willingness to promote competition—specifically for the benefit of the consumer in retail banking—that, in my humble opinion,  led to the creation of perhaps more banks than frankly we needed to have.”

A Historical Perspective

If you go back to 1990-1992, the tail end of the savings-and-loan crisis, you may have a better frame of reference for what’s going on now, banking officials say. The economic boom that began in the mid-1990s preceded another long expansion after the brief recession of 2001. Thus, many who have been in the financial-services sector less than 17 years are experiencing the worst banking environment in their collective memory.

In this case, though, memory may not serve them well. Between 1990 and 1992, the nation saw 838 banks fail. And while it’s significant that today’s failures are taking place among a more consolidated ownership, those who populate Web sites with gloomy forecasts of banking system implosion seem to overlook that we’re still a nation of more than 8,000 banks; that the federal deposit insurance fund, while strained, is still working; and that banks that have failed continue to operate in most cases— they just have new owners.

In other words, the impact on end-users, to this point, has been minimal. The question many in the industry have is, where do things go from here?

The real concern about the overall health of the nation’s banking system is not what we’ve seen recently, but where we could be headed. In September, the FDIC said it had been monitoring 416 troubled banks at the end of the second quarter, an increase of 36 percent since the end of March, and the highest level since 434 were under watch in mid-1994. The combined assets of those banks, $299.8 billion, were the highest since the end of 1993, regulators report.

But an overly aggressive regulatory response to those conditions, banking officials say, will have not only have a bottom-line impact on banks, but eventually will be felt by consumers as banks trim services and staff to comply with new performance mandates.

 “Some of the things being discussed, particularly as it relates to new consumer protections,” could prove challenging, said Alan Farris, president of Citizens Bank. While some regulatory change is needed in the investment banking sector, he said, it’s not likely any solution out of Washington would stop there.

“Government tends to creep. You begin with protections on home mortgages, but are they going to move into other things? Debit cards? Checking accounts? Services that consumers use on a daily basis. And what’s gong to be the impact?

One significant difference between the recent spate of failures and historical spikes is that they are now taking place within a universe of fewer, larger banks, so some of those failures will cause bigger ripples in the financial waters. In fact, the average asset level of a problem bank this year, $730 million, represents nearly a fivefold increase over the $130 million asset level from such banks as of 2005.

Farris, though, said many of the current failures—and those to come—will be from the ranks of the smaller community banks, which have tend to have fewer lending lines to generate revenue.

“It’s reasonable to think a fair number of banks in the Kansas City area already are stressed because of their position in residential real estate,” Farris said. “Now the commercial foreclosures are really beginning to hit. If there’s not a significant upturn in the market quickly, there’s going to be huge losses on some of these types of credits.

“Take that, coupled with losses of banks in real estate lending and to residential developers, it’s enough to push a few banks over the edge.”

Madas, at Intrust, said that what was happening to many of the troubled banks could be directly attributed to banking practices that were less than conservative during the run-up to the real estate bubble.

“What you saw were people, and many of them associated with real estate, who thought ‘This is a chance to put together our own bank and attract people who are part of our network, and make money not only on the real estate portion of portfolio, but here at the bank, pay ourselves” for servicing the loans on projects they’d had a hand in developing, Madas said.

Some, he suggested, even believed that they could make a significant return on that banking investment by selling out at some point to a larger bank.

“We saw people with the focus on short-term ideas that really didn’t have a solid base and perhaps all the controls and personnel with experience to step back and say, ‘You know what? We need to be diversified, not have all our eggs in one basket,’ and if they were a niche player, have tighter underwriting controls, a need to be more selective and not all the concentration in one specific area.”

Up Next?

There’s a long way to go before the bank shakeout is over.

And the FDIC, armed with billions of dollars after raising the premiums paid by banks for deposit insurance this spring, has used much of that money to staff up for the process of washing out troubled banks, Farris noted.

Some bankers expect that the ritual of Friday-afternoon closing announcements by the FDIC will continue for months to come.

“Do we really know the extent of the banks that are going to fail?” Ferris mused. “I’m not sure at end of day we’ll be able to make the statement that it hasn’t been as bad as ’90s. In reality, I think it will probably be worse.

“I think the next six months,” he said, “are going to be a very interesting time.”