Banking Regulators Consider Policy Reforms for Community Banks
FDIC Chair Martin J. Gruenberg and Federal Reserve Board Governor Michelle W. Bowman considered community banking reforms and applying lessons learned from recent bank failures.
FDIC
At the 2023 Community Banking Research Conference, Mr. Gruenberg touted the resiliency of community banks following the failures of Silicon Valley Bank, Silvergate Bank and First Republic Bank, but warned that "significant downside risks" remain. These include the concentration of long-maturity assets, continued interest rate increases and the exposure of commercial real estate to changing work patterns. He stated that an "important lesson" of the 2023 bank failures is the role of uninsured deposits in the banking system. Mr. Gruenberg recommended reexamining the stability of uninsured deposits, which made up the majority of funding of the failed banks and made them "more susceptible to runs."
He identified several other vulnerabilities of the failed banks that should be considered by policymakers, including (i) the speed with which depositors withdrew funds in light of "today's technology," (ii) the banks’ rapid growth leading up to their respective failures and (iii) the maturity mismatch of assets on balance sheet and interest rate risk exposure.
Mr. Gruenberg highlighted findings from the FDIC report on Options for Deposit Insurance Reform, positing that the report's recommendation of Targeted Coverage is the option with the "greatest potential for meeting the fundamental objects of deposit insurance relative to its costs."
FRB
Ms. Bowman emphasized the importance of an "evidence-based approach" to banking regulatory policies so that the banking system is insulated "from wide swings in policy over time." She warned of the "significant, adverse impact" that imposing expensive regulations on community banks could have on small business formation. She cited research findings that (i) validated "the power of 'relationship banking'" leveraged by community banks which operate as a source of credit for smaller firms and (ii) confirmed the importance of local community banks to support service sector job creation. Ms. Bowman advocated for policies that consider small businesses when reviewing potential bank mergers, and also argued that the current "lengthy review periods" for merger proposals can create "a number of negative outcomes," such as (i) loss of key staff, (ii) pauses on new investment and development and (iii) costly delays in system integrations.
Ms. Bowman recommended areas for further research, beginning with the "often-inconsistent definitions" usage of "community banks" and whether their asset size thresholds create incentives for "prudent lending while appropriately balancing risk[.]" She also advocated for further research on how banks fund themselves and potential improvements to deposit insurance infrastructure. She argued that policymakers should not "react to a narrow scope of options developed in reaction to a bank run crisis," but instead should examine "evidenced research and analysis."