The crisis gripping the nation's banks took a troubling turn on Monday as investors' confidence in even the largest and strongest institutions spiraled lower. Financial shares plunged 16 percent on one of the darkest days for the American stock market since the 1987 crash. After the House of Representatives rejected a rescue for the financial industry Monday, fears grew that more banks, particularly small and midsize lenders, could run into trouble unless a new plan emerged quickly. Even shares in the three banks that have survived the crisis as the largest in the industry – Bank of America, JPMorgan Chase and Citigroup – fell more than 10 percent Monday as anxiety gripped markets. Goldman Sachs and Morgan Stanley, which transformed into bank holding companies last week, fell more than 12 percent. – NY Times

Dominant Social Theme: Banks will "do the right thing" if necessary – and that's good.

Free-Market Analysis: Except what is "good " for some may not be good for all, or even many. The contraction of banking in the United States proceeds apace with that country's largest banks merging one after the other. What is most fascinating about the consolidation is that it begins to bring America in line with Europe when it comes to large entrenched financial entities.

America was founded, not that long ago really, within an agrarian, republican tradition. The country was organized around a kind of banking (known historically as "wildcat banking") that was fairly close to a kind of free-market banking that was also practiced in Scotland for several centuries. Free-market banking, as practiced in both Scotland and the United States was a kind of private fractional reserve banking. It was prone to instability not because of the model itself but because many US banks when they were chartered were forced to include on the books risky municipal paper that caused losses, investor nervousness and eventually bank runs. Nonetheless, the model lurched along until after the Civil War when the consolidation of the United States and the removal of the silver standard worldwide began to bring the big New York banks to the fore.

Since the Civil War, banking consolidation in the United States has been fairly rapid. The Great Depression saw a convulsive change in banking. Banks were split in half, setting off the rise of "Wall Street firms" that dominated finance through the 20th century. Then, at the end of the 20th century, the law that bifurcated American banking came down and commercial banks and insurance companies expanded their Wall Street activities. Now, with the latest "crisis" American banks are again consolidating, creating a kind of European model dominated by just a few powerful players responsive as much to federal power as to regional concerns. This evolution has already been noticed and commented on, though its ramifications remain to be seen. Here's how the New York Times explained it in a continuation of the above article excerpt:

Bankers say that the industry is quickly headed to a new era dominated by two types of banks. On the one hand, there will be small community banks and credit unions that offer personalized service and take advantage of their local ties. On the other, there will be behemoths like Bank of America, Citigroup and JPMorgan Chase that compete on the breadth of their products and potential cost savings from their size. But the towering presence of the biggest banks brings heightened concerns. Bank of America, JPMorgan Chase and Citigroup now sit on more than 30 percent of the industry's deposits. For consumers, that may turn out to be good news. … Charles Geisst, a Wall Street historian at Manhattan College, said that belief was now firmly embedded in the financial culture. "Bank of America, Citi, and JPMorgan are going to be quasi-state entities now. They will never be allowed to fail, and they will be closely monitored," he told The Times. "They are surrogates for the American economy.

America's founders had feared the European model of banking because in their eyes it constricted credit while consolidating financial power at high level. The concerns were not theoretical; the idea was that when banking was controlled by the highest levels of the state, the benefits of credit and capital were not apt to be enjoyed at the local level. The availability of money and credit at all levels of American society can fairly be credited with the tremendous industrial boom of early America and the formation of what was to become that nation's great middle class. And now? Again, from the New York Times:

At a state level, the same thing [consolidation] occurred in Texas's banking industry in the late 1980s which, in many ways, may turn out to be a model for today's nationwide mess. The result was that virtually all of the largest banks in Texas – names like Republic Bank, InterFirst Bank, First National City Bank, and Texas Commerce Bank – either failed or were snapped up by bigger, out-of-state institutions. Crippled by their widening losses, they pulled back on the amount of money they lent. North Carolina National Bank, which acquired several ailing Texas banks during this period and was Bank of America's predecessor, earned the nickname "No Cash for Nobody" for its reputation as a stingy lender.

In America today, a confluence of financial events will likely lead to an increased constriction of capital at a local level. The previous American model of "federalism" which saw a fairly significant dispersal of monetary assets around the country has probably ended. There are still regional and local "community" banks of course, but significant money power resides with fewer and fewer entities.

With a graduated income tax, a powerful central bank and a consolidation of financial and commercial banking into a single, powerful tier, the American monetary system is truly becoming "Europeanized." That nation's founders feared the European system as fairly sclerotic, unresponsive and evidently authoritarian. It was prone, because of its size and uniformity, to manias, retrenchments and busts. While there was, within the European system, room for a gold standard, the bias was toward government based fiat money with all the instability that entailed. America's current generations are destined to relearn what their ancestors knew from observation and experience.