Citigroup, Morgan Stanley Discuss Brokerage Combo

There were no talks scheduled for this weekend between the Treasury Department and Citigroup officials.

The potential deal is another sign of the U.S. banking industry's consolidation into a few huge power players — ones that are still heavily reliant on the government for backing as the economy deteriorates.

"It's a bit of a worrying sign, I think," Pirker said. "It seems like the firms are too big as they are, from the brokerage perspective. They are racing to get bigger than the next one. One wonders if they'll have to shrink back again."

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Morgan Stanley is one of the few remaining Wall Street firms after the credit crisis last year sent Lehman Brothers Holdings Inc. into bankruptcy and Merrill to Bank of America.

Citigroup's CEO Vikram Pandit spent decades working at Morgan Stanley before starting his own hedge fund, and has appointed many former colleagues to top-level management positions at Citigroup.

Private analysts said Citi's interest in raising revenue with a Smith Barney deal was likely aimed at demonstrating to the government and Wall Street investors that it was working to bolster Citi's finances.

The company has reported four straight quarters of losses totaling $20.2 billion through September 2008 and is expected to post yet another loss when it releases fourth-quarter results on Jan. 22. Thomson Reuters said analysts it surveyed expect Citi to report a loss, on average, of $1.14 a share for the October-December period.

Citigroup has received $45 billion in support from the government's $700 billion financial rescue fund, an amount that is almost double what has been provided to any other major bank.

Some analysts said that they expected Citi to make further efforts beyond Smith Barney to sell assets to raise cash including selling some of their foreign operations.

"The bottom line is that Citigroup has to shrink its size and sell off assets to bring in cash to shore up their capital base and be in a better position to eventually pay back the government," said Sung Won Sohn, an economist at the Smith School of Business at California State University.