FACT CHECK: Have Small Banks Struggled Under Dodd-Frank?
Republicans in the House will vote this week on a bill that would roll back much of Dodd-Frank, the Wall Street reform law passed in the aftermath of the 2008 financial crisis.
Speaker Paul Ryan has marketed the bill as regulatory relief for small banks. “Small, community banks give the majority of small business loans in this country,” reads one press release from Ryan’s office. “Since Dodd-Frank, these banks have struggled. Many community banks have gone under.”
Surveys of community banks consistently show they have experienced regulatory burdens under Dodd-Frank. Many bankers believe the current regulatory environment has contributed to recent drops in the number of community banks. Several studies support the anecdotal evidence.
Since the passage of Dodd-Frank in 2010, surveys of community banks suggest the law has adversely impacted local banking.
In 2015, the Government Accountability Office (GAO) found that bankers “cited an increase in compliance burden associated with [Dodd-Frank] rules. This included increases in staff, training and time allocation.”
A 2014 survey by the Independent Community Bankers Association (ICBA) determined that over the prior 10 years, the annual cost to complete regulatory paperwork increased for 86 percent of banks surveyed. Total hours to complete the paperwork went up by 73 percent over the same period.
Dodd-Frank does attempt to ease the burden on community banks. For instance, it exempts these banks from the Durbin amendment, which puts a cap on how much in fees banks can charge for debit card purchases. In addition, federal regulators are supposed to consider the financial impact of rules on community banks.
A survey by the Federal Reserve and the Conference of State Bank Supervisors (CSBS) reveals that bankers are not only concerned about increasing compliance costs, but also Dodd-Frank’s restrictions on selling mortgages. Bankers argue the qualified mortgage rule, which standardizes mortgages to reduce the risk a borrower will default, penalizes small banks by diluting their competitive advantage over larger banks – the ability to be flexible with local borrowers whom they trust to make their payments.
“Many small business owners have excellent credit and equity but lack the documented income to show the ability to repay a loan,” said bankers from New Mexico. “Prior to the current regulatory environment, community bankers were able to exercise discretion and accommodate these customers based on their long-standing business relationships.”
The GAO survey concludes that the qualified mortgage rule may reduce lending among small banks. “Some regulators and industry representatives expected the reforms to lead smaller institutions to decrease certain lending activities, or, at the extreme, exit the mortgage business.”
Additionally, a 2014 study by the Mercatus Center found that nearly 64 percent of surveyed banks planned to change their mortgage offerings due to Dodd-Frank and about 10 percent planned to discontinue residential mortgages altogether.
Bankers in several states in the CSBS survey also attributed bank closures to the tighter regulatory environment under Dodd-Frank. North Carolina bankers questioned, “whether some banks are simply too small to survive in the current regulatory environment.”
“The plethora of lending regulations promulgated by the Dodd-Frank Act has moved employees away from helping customers to analyzing and implementing regulations,” said bankers in New Hampshire. “Bank consolidations will continue unless something changes.”
Since the passage of Dodd-Frank, the number of U.S. banks has declined by 1,678, about 22 percent. This trend of consolidation is expected to continue. The Mercatus Center study found that over 25 percent of banks surveyed anticipated merging with another bank in the near future.
Much of the debate around how Dodd-Frank impacts community banks has centered on this consolidation. And while the anecdotal evidence shows that some small banks have decided to merge as a result of the law, it’s more difficult to demonstrate that Dodd-Frank has caused a significant decline in the number of community banks.
The Minneapolis Federal Reserve conducted an analysis that suggests a correlation between the passage of regulatory laws like Dodd-Frank and the decline of small banks, but warned against reading “anything definitive into this apparent link.”
Advocates of Dodd-Frank point out that the decline of small banks fits into a broader pattern of consolidation that began decades ago when states started to relax restrictions on interstate branching. This consolidation started to accelerate in 1994 with the passage of Riegle-Neal, a law that opened the door to interstate mergers. The trend has continued in recent years as small banks merge with one another to achieve economies of scale.
Ryan mistakenly characterizes many small banks as “going under” when really the rate of bank failures has roughly returned to pre-recession levels. The Federal Reserve Bank of Richmond agrees that “the decline in the total number of banks could be viewed as a continuation of the trend that began in the 1980s, and exit rates do not differ sharply from previous periods.”
It also notes that regulatory burdens under Dodd-Frank may partially explain a similar, but unprecedented trend in recent years – the lack of new banks entering the market.
Advocates of Dodd-Frank disagree with the idea that community banks are in dire straits because of the law. They point to data compiled by the Federal Deposit Insurance Corporation (FDIC) that shows core return on assets – a measure of profitability – for community banks has been relatively stable since 1985. In addition, the Obama administration noted in a 2016 report that lending by community banks has increased since 2010.
The Obama administration conceded that the economic recovery has not been felt evenly across the banking sector. Banks with assets less than $100 million, which make up about a third of all community banks, have not experienced the same rebound. These are the banks most susceptible to regulatory pressures.
While the decline in community banking long predates Dodd-Frank, many studies support the notion that community banks are struggling under the law and that some have or will merge with other banks due to regulatory burdens.
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