Early studies, using data from the 1980s, failed to find scale economies much beyond bank asset sizes of around $ million (Pulley and Braunstein (1992)). Empirical studies in the 1990s nudged up the optimal bank scale to around $ billion (Amel et al (2004), Mester (2005)). 8  BIS central bankers’ speeches  Most recently, a small number of studies using data from the 2000s have pointed to scaleeconomies at much higher asset thresholds. For example, Wheelock and Wilson (2012) find scale economies for banks with assets up to $ trillion and Feng and Serilitis (2009) for bank with assets up to around $ trillion. Using data on banks with assets in excess of $ billion, Mester and Hughes (2011) not only find scale-economies, but argue that these may increase with bank size. At face value, these findings pose a real challenge to policy options which re-size banks. Or do they? Bank of England research has re-looked at the evidence on economies at different banking scales (Davies and Tracey (2012)). As Chart 8 shows, in standard models there is evidence of scale economies for banks with assets above $ billion. Indeed, these economies tend to rise with banking scale. But this finding is based on estimates of banks’ funding costs which take no account of the implicit subsidy associated with too-big-to-fail. Removing this subsidy raises banks’ funding costs, lowers estimates of bank value-added and thereby reduces measured economies of scale.
This process of re-intermediation put considerable  2  BIS Review 139/2007  pressure on the profitability, asset quality and capital adequacy, to the extent of creating great tension in the inter-bank market, as financial institutions hoarded liquid funds. Ninth, as you all know, major central banks had to step in to provide liquidity in order to ease tightness in the money market. They have been doing so for about three months now, which is not a good sign, because of the implication of a continuing lack of trust among financial institutions in lending to each other. In one particular jurisdiction, a problem at the wholesale money market level triggered a breakdown of depositors’ confidence at the retail level, resulting in a bank run. In the United States, the Fed further responded with a shift in monetary policy, notwithstanding continuing concerns over rising inflation, and cut interest rates twice, presumably to pre-empt credit tightness from adversely affecting economic prospects generally and the property market in particular. Tenth, meanwhile, financial institutions in the United States are writing off large amounts quarter after quarter and this is affecting the general availability of credit and prospects of the economy, notwithstanding lower interest rates, and increasing the probability of a recession, although many still put this at less than 50-50. This seems to be the general sentiment currently reflected in financial market performance in the United States. There has also been much greater short-term volatility, as new information is absorbed by the market, indicating considerable nervousness.