While much of the Federal Government has been temporarily shut down, bank regulators continue to work. In his role as chairman of the Federal Reserve, Ben Bernanke welcomed guests last Wednesday (October 3rd) to a conference on issues that are important to community bankers and the unique challenges they face.
Bernanke and other regulators tend to classify all but the largest banks (those with more than $10 billion in assets) as community banks. By their definition all but 106 banks are currently considered community banks. Bauer takes a narrower view and you will see on the graph on page 2 that assets are broken into four size categories. The smallest group being the true community banks, we’ll call the second group community banks too, and the third group we’ll call the regional banks.
One problem that has plagued community banks in the past ten years is the narrowing of the net interest margin (the difference between interest earned on loans and investments and interest paid on deposits). While larger banks can generate revenue through “non-traditional” avenues (i.e. investment banking & trading), community banks rely on traditional banking (deposit taking and making loans). As a result, the current environment of low interest rates continues to weigh heavily on earnings.
In 2002, the average net interest margin (NIM) for all community banks was 4.2%. By 2012, that average had dropped to 3.7%. When you combine that with the expense of added staff needed to comply with the plethora of new regulations that have been adopted over the decade, you can see that community banks are suffering.
Perhaps the best way to measure performance variations by asset size is with the efficiency ratio (noninterest expense to net operating revenue (see chart). The efficiency ratio has increased in all asset sizes over the past ten years but the smallest banks now have to spend over 78 cents to generate $1 of revenue. According to the FDIC Community Banking Study (December 2012), “An ‘efficiency gap’ in favor of noncommunity banks grew from 1.3% percent in 1998 to 9.7 percent in 2011.”
According to the study, even though Big Banks lost some efficiency, that 9.7% gap was due almost entirely to the deterioration of the efficiency ratio at community banks… and most of that comes from the squeeze in net interest margins.
Mr. Bernanke says he understands the concerns of community bankers and is committed to crafting policies and regulations that take size into consideration, but he hasn’t said anything about raising interest rates.
What he says instead is that community bankers are resilient and he has faith they will thrive in the years ahead. BauerFinancial also has faith in community bankers and believes that community banks will overcome current obstacles. They will be ready to serve their local communities for many years to come… in spite of low interest rates.