FRB Governor Reviews Economic Consequences of Declining "De Novo" Bank Start Ups

Federal Reserve Board ("FRB") Governor Michelle W. Bowman asserted that declining numbers in de novo bank formation in the United States over the past decade has resulted in negative consequences for the economy.

In a speech at the Wharton Financial Regulation Conference, Governor Bowman said these consequences include: (i) increased banking concentration and reduction of banking competition, (ii) limited availability of banking services to underserved communities and (iii) the encouragement of acquisitions and the shift of activities outside of bank regulatory oversight. She pointed out that the decline in the number of banks has been largely driven by consolidation and mergers of existing financial institutions, and while there has been a slight uptick in de novo (newly chartered) bank formation, it has been significantly outpaced by consolidation.The FRB Governor called on policymakers to address any dysfunction in the de novo formation process.

Unmet Demand for de novo Bank Charters

Governor Bowman identified three features of the current U.S. banking system that suggest an "unmet demand for de novo bank charters":

(1) Continued demand for "charter strip" acquisitions. Ms. Bowman said purchasers acquire existing banks instead of going through the de novo formation process. She noted that "charter strip" acquisitions may be easier and faster as they benefit from existing management performance, supervisory and compliance records, and third-party relationships, but they can have adverse effects on local banking markets and signal dysfunction in the de novo chartering process.

(2) The shift from traditional banking activities towards non-bank financial entities. Ms. Bowman said that the "shadow banking" sector operates with fewer regulatory constraints, which has implications for credit availability and financial stability, as losses from nonbank activities can be transferred back to regulated banks.

(3) Growing demand for "banking-as-a-service" partnerships. Ms. Bowman said that banks are increasingly entering into partnerships with fintech companies to provide customer-facing technology, while the bank provides banking services such as accepting deposits, access to payments systems, credit extensions and card issuance.

Consequences of Limited De Novo Formation

According to Governor Bowman, when there is a reduction in new bank charters and branches, the result is a smaller local banking market that reduces competition and ultimately limits consumer choices for mortgage loans, small business loans and core bank account services. She stated that fewer banking options also signals less confidence in the economy.

Governor Bowman suggested that the regulatory framework should be more accommodative toward the de novo process to encourage new bank formation and maintain a diverse and resilient banking system. She clarified that she is not advocating for making bank mergers and acquisitions more restrictive, but rather for addressing the disparity in treatment between de novo formations and charter strips, and creating a regulatory environment that supports the formation of new banks pursuing innovative business models. Governor Bowman said that the de novo charter bank application process creates timeline and capital barriers as they are often required to submit multiple applications to different regulators.

Governor Bowman acknowledged recent bank failures and stresses in the U.S. banking system, but expressed confidence in its overall safety and resilience. Governor Bowman emphasized that smaller banks often outperform larger banks during times of economic and financial stress, such as the recent pandemic and the 2008 financial crisis.