Troy Bank and Trust and First National Bank of Brundidge recently announced a merger. Both are community banks, meaning locally owned banks with assets under $1 billion. How do community banks matter for America’s communities?
Small banks, both in Alabama and nationally, do behave differently than large banks. First, loans represent a larger share of their assets. Beyond this, a larger share of their loans go to small businesses and farmers. Consequently, a larger portion of depositors’ money will be invested locally than with deposits at the branch of a large bank.
Does keeping money local matter? From an economy-wide perspective, businesses with growth-creating ideas should get funded, wherever located. We benefit from new products developed across the nation. And as investors, we want a good return on our savings.
Some people think that supporting the local economy is a worthwhile cause. Similarly, others believe in socially responsible investing. I favor allowing people to accept a lower return to support worthy causes.
Economic self-interest provides most of us a reason to care about the economic health of our community. We have numerous attachments in our communities: ownership of homes and other property, jobs or businesses, and friends and family. We face costs of packing and moving if we choose to relocate. These represent specific investments, meaning investments whose value would be largely lost if we moved.
Our stake in the local economy should not dominate our investing. We need our retirement savings, for example, to earn an adequate return, and will not want to pass up great opportunities. Local investments must be competitive with others.
Local banks have a long history in the U.S., but for decades their position was basically protected by law. States (which charter and regulate banks) and the Federal government long limited interstate and branch banking, protecting weak banks from competition, which led to poor customer service. Interstate competition only became a reality nationally with passage of the Riegle-Neal Interstate Banking Act in 1994.
Today community banks must compete with regional and national banks, offering enough value to keep both depositors and borrowers happy. Economics helps us see how community banks compete against the big guys. Community banks generally employ people with roots in and knowledge of their communities. Bank officers who personally know loan applicants can draw on more than just the information in the application. This helps explain why community banks make so many loans to small businesses. Local knowledge allows community banks to better identify creditworthy small businesses, creating value for the national economy.
The merger of Troy Bank and Trust and First National reflects a national trend. The number of banks declined from around 14,000 in the 1980s to around 6,000 today, with small banks being the main casualties. Some of this was inevitable and beneficial, because the law previously protected weak and poorly run banks.
Recently, however, community banks appear to be foundering under the requirements of the Dodd-Frank Wall Street Reform Act of 2010. Regulatory compliance hits small banks (and small businesses generally) hard because many regulatory costs must be incurred regardless of whether a bank has hundreds or hundreds of thousands of customers. Regulatory costs might be a few cents per transaction for large banks but a dollar or more for community banks, creating a disadvantage. Research by my Johnson Center colleague Thomas Hogan documents a pronounced increase in employee expenses (the likely form of compliance costs) for small banks since 2010.
Dodd-Frank’s reforms were largely intended to prevent a repeat of the financial crisis. Although economists debate the contributions of government policy and Wall Street greed, community banks did not cause the crisis, nor are they “too big to fail.” Legislation addressing the financial crisis need not harm small banks.
Our two local banks have served the community for 224 years. Hopefully this merger will create a new institution to serve our local economy for years to come. And perhaps Washington will refrain from needlessly crushing community banks with regulations.