Death by paperwork for community banks
Overregulation is killing small banks; call it death by paperwork.
In 1985, bank compliance officers filled out an average of 403 items on their call reports, a financial report required from all regulated financial institutions. Today, that average number of call report items is close to 2,000. While that’s a staggering increase, it will surprise no one familiar with the bank compliance process that banks’ regulatory burden has increased dramatically overall in the wake of the 2008-2009 financial crisis. This additional burden is falling on a compliance staff that, in the case of most community banks, is a staff of one.
Despite some efforts to distinguish community banks from Wall Street banks, regulations are still largely one-size-fits-all. For example, while smaller banks are exempt from the same stress tests large banks must conduct, they are told by regulators that sound risk management involves some form of stress testing or sensitivity analysis of loan portfolios. While the guidance isn’t as strict for community banks, stress testing is still recommended and when an examiner recommends something, you’d better do it.
Similarly, in terms of management of the allowance for loan and lease losses, the FASB’s proposed Current Expected Credit Loss (CECL) model would impact small banks in the same way as the bigger ones. Namely, the CECL model would force small banks to gather nearly 1,000 times the data for the ALLL as is currently required.
Some might say this increased regulation is warranted. After all, financial institutions caused the Great Recession, didn’t they? Perhaps, but not all banks had the same role. Look at the losses of the big banks during the crisis compared with community institutions. From 2005 through 2012, Bank of America Corp., JPMorgan Chase & Co., Citigroup Inc. and Wells Fargo & Co. recorded $242 billion in loan loss provisions. That’s only $70 billion less than all other U.S. financial institutions combined.
While banking regulations have dramatically increased since the mid 1980s, the number of community banks has shrunk to approximately 6,000 from more than 17,000. Since Dodd-Frank took effect, only three new community banks have been chartered, according to our analysis. This is no coincidence.
It’s not that these institutions are being purposely targeted. Governmental agencies have simply failed to understand the vast difference between large and small organizations. We see the same thing in our work with privately held companies. Regulations impact a roadside fruit stand in a much different way than they affect IBM. This may seem very basic, but it’s astounding how often this point gets lost.
A large number of community banks, that is, banks with less than $1 billion or $10 billion in assets, depending on your definition, have fewer than 30 employees, and the median bank size is 40 employees. That puts them on par with many small businesses. We think of all banks as having lots of money, but most small ones are characterized by thin margins and scarce resources. The recent Call Report Burden Survey from the Independent Community Bankers of America (ICBA) found that more than 75% of banks surveyed said they were spending $60,000 or more on “staff compensation for call report preparation and oversight.”
These aren’t huge institutions with unlimited funds. Sixty-thousand dollars is a real cost, and it can impact community institutions in a tremendous way. Imagine what that amount of money would mean for a mom-and-pop retailer. However, unlike mom-and-pop retail shops, the reverberations from a community bank’s struggles can be especially widespread and impactful on their communities. These institutions play an important role in providing advice and guidance to local businesses and, perhaps most importantly, providing access to capital. They have real people meeting with customers every day and breathe life into the communities they serve, while also providing financing options.
We want businesses and consumers to have as many banking options as possible. If you think the large banks are short on customer service now, just wait until the number of institutions dwindles further.
To keep smaller banks thriving, we must have distinct segments of regulation. Community banks are different from large banks and should be treated as such. Once Congress and the regulatory agencies acknowledge this simple fact, the real work of customizing and creating different tiers and segments of regulation can begin.