Although focus on the national credit crisis has been ratcheted-up considerably over the past few weeks, banks have been feeling the heat for much longer, with fallout for those planning to acquire more insurance agencies.

Indeed, over the past year, the U.S. commercial banking industry has seen performance and stock valuations fall. Balance sheets have been hammered and previously abundant capital is now in short supply. The number of bank failures is up and is threatening to soar.

Against this backdrop, the role of banks in insurance might seem inconsequential, but the future of bank-insurance is at a crossroads. The answers to two distinct but related questions will determine the future.

o Will banks win the relevance challenge?

o And will banks regain their footing in the agency acquisition market?

These two questions will be worked out quietly in the background as the credit crisis grabs the headlines.

As to the first question, many banks are not yet winning the relevance challenge.

The current struggles in the credit markets reinforce the need for banks to continue diversifying into non-interest income (NII) businesses. This need is further evident in the fact that two-thirds of banks that currently sell insurance do so primarily to increase their NII. But are insurance sales making a difference?

Recent research by Michael White Associates shows mixed results. The 100 bank holding companies (BHCs) with the highest NII concentration in insurance have a mean concentration of 29.0 percent. For these banks, 29 of every 100 NII dollars are produced by selling insurance. But for all BHCs that sell insurance, the mean NII concentration is only 6.6 percent.

The issue is relevance. For a bank to have sustained success in insurance, it will need to operate above its relevance threshold. There is no universal threshold, but within each bank, there is a point at which the insurance business has the scale to compete for capital, resources and attention–in other words, to be relevant.

A mean NII concentration of 29.0 percent for the top-100 banks proves that relevance is achievable. But an overall concentration of only 6.6 percent suggests that most banks aren’t there yet. Although two-thirds of BHCs now sell insurance, many aren’t doing enough.

The recently completed American Bankers Insurance Association “Study of Banks In Insurance” found further evidence of the importance of relevance.

Surveyed banks with at least $2.5 million in insurance brokerage income are approximately 50 percent more likely to believe they are successful in insurance than those below $2.5 million. Now, $2.5 million is an arbitrary threshold, but these findings reinforce the correlation between relevance (that is, scale) and success.

Meanwhile, the appetite for agency deals remains strong, but current resistance is stronger.

Between 2000 and 2003, the banking industry was by far the most active acquirer of insurance agencies. During this time, banks completed 295 agency acquisitions, or close to two of every five announced deals.

But since 2003, banks have been less active in the agency acquisition market, even as the market has expanded. By 2007, banks accounted for only one of every five announced agency deals.

So have banks lost interest in acquiring insurance agencies? Apparently not. The ABIA study found 80 percent of banks that have already acquired at least one agency intend to acquire more. Unfortunately, for some of these banks, their appetite for agency deals has been met with a wave of resistance. There are four factors at work:

o First, the soft market has dulled enthusiasm. It’s no coincidence the drop in agency deals by banks began as property-casualty pricing began to fall. Banks like predictable earnings streams, but the pricing cycles of the insurance business don’t cooperate with this penchant. Some banks have been too unnerved by the soft market to continue their pursuit of agencies.

o Second, banks have lost their pricing advantage. As the market softened, publicly-traded insurance brokers were forced to be more acquisitive. Acquired growth was needed to supplement anemic, soft-market-suppressed organic growth. To compete for deals, these public brokers were forced to match or exceed the higher prices banks were prepared to pay.

o Third, community banks have struggled to find suitable targets. Many community banks have been thwarted in their agency acquisition efforts by a lack of attractive candidates. The inability to find a platform-quality agency, for sale at a reasonable valuation, within the geographic footprint of the bank, has sent many would-be acquirers back to the drawing board.

o Fourth, the credit crisis is suppressing all acquisition activities for banks. Many banks are simply too distracted to deal with anything “non-core”–such as insurance. Others are restricted from completing deals of any kind due to a lack of acquisition capital. As a result, 2008 will produce the fewest bank-agency deals in a decade.

How will this dissonance be reconciled? Will the ongoing appetite for agency deals eventually overcome the current resistance?

It’s too early to tell. But it’s likely some hardening in the p-c market, combined with a little light at the end of the credit crisis tunnel, could draw banks back into the agency acquisition market.

The banks that sustain success in the insurance business will be those that win the relevance challenge–and it’s winnable. Many banks now earn significant portions of their NII and net operating revenues from insurance sales.

The fastest path to relevance is through agency acquisitions. But the current resistance to agency deals has temporarily blocked this path, leaving some banks stranded in the irrelevance zone, and leaving bank-insurance at a crossroads.

Is the bank-insurance business reaching a plateau, or is it positioning for the next wave of growth?

Ultimately, the answer may lie in how successfully the banking industry can reestablish itself as a key player in the agency acquisition market.