Will upcoming regulation thwart your bank transfer?
In the years since the financial crisis, many consumers have rediscovered the charms of community banks and moved their money to local institutions.
Banks with less than $1 billion in assets have seen their domestic deposits rise 7.5 percent per year between the end of 2008 and the end of 2011, according to data from the Independent Community Bankers of America.
But whether they were escaping the death of free checking at large national banks or just wanted more personalized service, some new community bank customers may see themselves shuffled back to bigger banks, thanks to upcoming "Basel III" rules from the Federal Reserve that will begin taking effect in 2013.
A new flavor of Basel
While the name might be reminiscent of an advanced Italian spice or a monocled British aristocrat, Basel III is a set of international banking standards designed by the Basel Committee on Banking Supervision, an international forum on banking guidelines, to reduce the risk of worldwide financial meltdowns like the one that happened in 2008-2009.
One of the ways it does that is by requiring banks to keep a larger stash of safe assets on hand to help them ride out economic downturns, says Mayra Rodriguez Valladares, managing principal of MRV Associates, a financial consulting firm specializing in risk management in New York City.
"You want banks to be ready for unexpected losses," Valladares says. The first set of Basel rules were about banks having enough capital on hand to protect them from losses due to unpaid loans, Valladares says. Subsequent Basel rules expanded capital requirements to protect banks from the massive market downturns and internal failures known as "operational risk," she says.
While community bankers would no doubt agree that the safety and soundness of the financial system is a worthwhile goal, the Federal Reserve's proposed regulations have been met with a great deal of skepticism from community bankers.
That's because a significant number of community banks don't have the capital on hand to comply with the Basel III regulations proposed by the Federal Reserve, and their options for raising it are limited, says Chris Cole, senior vice president and senior regulatory counsel for the Independent Community Bankers of America.
Oftentimes, raising capital comes down to asking a small group of shareholders to pony up the necessary funds, Cole says.
"Many people do not realize that 85 percent to 90 percent of community banks are privately owned and about one-third of them have (fewer) than 100 shareholders," he says. "They have a small shareholder base."
Complicating matters is that because the new standards require a series of complex evaluations of banks' loan commitments and other factors, community banks probably will have to significantly retool their computer systems and even hire more workers to determine on a day-to-day basis what their capital requirements are, Cole says.
That concern was echoed by Federal Reserve Governor and former community banker Elizabeth Duke when the new standards were announced in June:
I would like to stress the importance of understanding the trade-offs between the costs of significant changes to bank accounting and reporting systems and the benefits of more granular calibration of risk. Some parts of these proposals seem to me likely to require significant reprogramming by smaller banks. Before we impose such burdens, it is important that we understand the costs involved with each data element and weigh it against the expected improvement in the resiliency of the financial system.
The last straw?
For community bank owners already battered by a tough few years for the industry, that may be the last straw, says Nathan Stovall, New York bureau chief for SNL Financial, a financial analysis firm.
"The capital hit is not going to be enough to where it forces somebody immediately to say, 'I can't do this.' I think if you're already there, you had a problem anyway," Stovall says. "But what they could say is, 'We're kind of considering (selling out). It's a tough environment right now. It's hard to grow loans. Compliance costs are going up across the board. There's heightened regulatory scrutiny in everything we do. And now all of a sudden, we're going to have a much more difficult capital regime? … I don't want to do it.'"
The result could be increasing mergers and sales of community banks, Stovall says, effectively accelerating a process of thinning out the community banking sector that had slowed due to the bad economy. For consumers, such thinning out means fewer alternatives when larger banks catch the fee-hiking bug, Cole says.
"It means that consumers and borrowers in those communities will have to deal with a bank that may not be familiar with the needs of that community," Cole says. "It often means higher rates on loans, lower rates on deposits, and it just loses the local connection that so many community banks have with their community."
Phasing in a long way off
While many community bankers were taken off guard by the proposed regulations, much could change between now and 2013 when they begin gradually phasing in new rules, including a possible exemption for small banks, MRV Associates' Valladares says.
But even if regulators push forward with the plan as is, the impact may not be as far-reaching as community bankers fear, in part because community banks are less complex than their larger counterparts, Valladares says.
"If people take a step back and really start analyzing this, they will realize that actually many of the community banks are in very reasonable shape when it comes to not only the amount of capital but also the quality of capital," she says. "Yes, Basel III will apply to the community banks, but it is going to be in a more simplified way because they are simpler banks."
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