Along with the past seven years that the federal funds rate has stayed between 0 and 0.25 percent, the consequence of increased federal regulatory requirements for financial institutions is fewer commercial banks can sustain enough income to continue operating.
And the undeniable tendency is a polarization of the surviving institutions to be the ones with the largest assets.
The low fed rate and derivative prime loan rate have strangled a major revenue stream for commercial banks – interest income from loan – resulting in reduced Return on Equity (ROE) for investors.
A 10 percent ROE is considered the break-even point with a bank’s capital cost. While only two of the 10 largest banks in the country recently exceeded a 10 percent ROE, the advantage large banks have is an economy of scale in the cost of compliance with state and federal regulations, as well as providing the technology many consumers have come to expect with their bank accounts.
The FDIC reported that between June 2009 and June 2015, the industry lost nearly 1,100 of the 2,680 banks with assets below $100 million. The number of banks with assets between $100 million and $1 billion dropped more than 10 percent in the same period (down to 3,315). By contrast, the number of banks with more than $1 billion increased. The long-term perspective is the total number of commercial banks has shrunk from nearly 10,000 in 1995 to fewer than 5,500 as of June 2015. The current trajectory is the industry loses about 250 banks a year.
There is no reason to believe there will be a resurgence in smaller financial institutions. Even if the fed rate increases, allowing a more traditional profit margin on consumer lending, the overhead costs of operating a small bank likely will remain prohibitive to compete with larger banks on technological services, such as smart phone applications, online banking, remote loan applications, and the security and compliance necessary to sustain such services as well as operations.
• Brad Stewart is an attorney with Zukowski, Rogers, Flood & McArdle in Crystal Lake. Stewart mainly practices corporate and local government law. He can be reached at firstname.lastname@example.org.