Frustration With Regulation

The Dodd-Frank Act isn’t very old, but its effects are causing banking industry insiders to age rather quickly.

The law, fully known as the Dodd-Frank Wall Street Reform and Consumer Protection Act, was signed into law in July 2010. The official purpose of the law — passed in the wake of America’s financial crisis — is to “promote the financial stability of the United States by improving accountability and transparency in the financial system, to end ‘too big to fail,’ to protect the American taxpayer by ending bailouts, to protect consumers from abusive financial services practices and for other purposes.”

The enhanced oversight and regulation affects several industries and pieces of legislation, contains numerous amendments to existing laws and creates several new laws as well, most of which haven’t even been implemented yet.

The document is nearly 2,500 pages long.

“It takes a scholar to interpret it,” said David Wills, the chief operating officer at Gravette-based Bank of Gravett in Benton County. “It’s unyielding.”

There are 400 new rules required by Dodd-Frank and only about 140 of those — approximately one-third — have been completed.

A report in the February issue of The Economist stated, “it is the risk that the Dodd-Frank apparatus will smother financial institutions in so much red tape that innovation is stifled and America’s economy suffers.”

To further illustrate the point, Frank Keating, president and CEO of the American Bankers Association, said regulators have estimated that banks will have to spend 6.6 million hours to implement the Volcker rule, a key component of Dodd-Frank that would ban banks from proprietary trading, in which banks use their own capital on financial bets.

More than 1.8 million hours would be required every year in perpetuity, translating into 3,292 years, or 3,000 bank employees, to comply with this rule.

“It’s spooky,” said Charlie Cross, president and CEO of Cornerstone Bank in Eureka Springs. “You hope some relief and common sense will win out, but it’s spooky what could be heading towards us. If it keeps going the way it’s going, we haven’t seen anything yet.”

Last month, Federal Reserve chairman Ben Bernanke told the Independent Community Bankers of America conference that Dodd-Frank would most likely not affect community banks.

Cross disagrees, saying the regulatory environment that targets big banks will eventually trickle down and create a more difficult environment for community banks to operate in. At least, that is the conventional wisdom.

“It’s just more burdensome for small banks like us,” he said. We’re just on the cusp of this thing. It’s only going to get worse.”

The Northwest Arkansas Business Journal spoke with several bank executives to gauge the law’s impact thus far, specifically for the community bank.

Frustrations with the regulations are evident.

“It’s gotten to the point where we have gone beyond the intent of it, and that was to give the consumer some good information,” said Howard Hamilton, the Northwest Arkansas regional president for Liberty Bank of Arkansas. “Now we’re trying to protect the consumer on everything and anything you can imagine.”

Others shared Cross’ opinion. As one executive explained, “I don’t think you can find a banker in Northwest Arkansas, well, anywhere in the United States, that’s happy with what is happening with the regulations. But that doesn’t mean we’re going to start a revolt, either.”

And the state’s top banking executive supports the claim that the harm done by the massive cost of maintaining compliance and the complexity of the regulations will outweigh the good that might be produced in the future.

“That is my personal and professional opinion, yes,” said Bill Holmes, chief executive of the Arkansas Bankers Association. “There are good aspects, but there is so much wrong with it that it’s overwhelming.”

 

Training is a Focal Point

According to a report in the online column Wall Street Cheat Sheet, Bernanke said the Fed would also attempt to clarify if and how a regulatory measure applies to the smaller institutions, rather than have banks waste resources trying to understand them.

That’s exactly the kind of problem Cross and other community bankers are struggling with.

“We’ve had to step up our training,” said Cross, whose family maintains a majority ownership in the bank. The locally owned institution, known as the Bank of Eureka Springs until 2008, has two branches in Eureka Springs, another in Holiday Island and one in Berryville. It will celebrate its 100th birthday in May.

“Our training committee has become a focal point. You’d love it to be sales training and you’d love it to be help-the-client training, but a lot of it — 90 percent of it — is how-do-we-stay-in-compliance training. What do our people need to know so we don’t step out of bounds, even if accidentally?”

Cornerstone’s performance, Cross said, is what makes it frustrating when he sees community banks and larger national banks painted with the same brush.

“It’s not necessarily going around and giving everybody a spanking for what they’ve done,” he said. “That’s now what is happening here. Most banks, especially community banks, have done a good job of taking care of compliance and regulatory issues. It’s not like Cornerstone Bank has been out there doing the wrong thing so this is going to correct us. We’re just having to deal with it.”

Cross speaks for many in the industry. Wills is also immersed in the issue at the Bank of Gravett, which has four branch offices in Benton County.

“The effort to stay in compliance is our main problem,” he said. “I understand that it has to be that way to a certain degree, but it’s almost not a free-enterprise business anymore.”

Wills said in the last two years the cost of underwriting a home loan has more than doubled to about $1,000.

“Used to be, you could [process] a home loan in a week,” he added. “Now it can be up to six weeks. It’s not as easy as it once was.”

To accommodate this, Wills said the bank has “realigned” job descriptions to monitor compliance issues.

“That [compliance] is basically 75 percent of what a person’s job is now,” Wills said.

James Smith, the NWA market manager for Missouri-based Great Southern Bank, isn’t necessarily in the same boat as a community banker, but does recognize the burden to do business has become more expensive for a smaller bank.

As of March 1, annual compliance costs of Dodd-Frank, according to The Financial Services Roundtable, are already more than $7 billion, despite the fact only about one-third of the regulatory rules have been completed.

The projected number of new personnel required to comply with Dodd-Frank is nearly 27,000.

Bigger banks can absorb that. Smaller banks can’t.

“If you’re a smaller operation, you’ve still got to set up all the infrastructure to comply with the regulations, whereas a larger bank can basically take that same infrastructure cost and spread it over many locations or many states or many departments,” Smith said. “So that initial up-front cost, they don’t have the ability to spread it over very much, so to speak.”

 

Ominous Forecast

So what does this new environment of more stringent and complex regulations mean for a community bank?

If there is no relief, “less of ‘em,” Holmes said matter of factly.

Right now, the average size of a bank in Arkansas has about $175 million in assets with approximately 38 employees.

Most on the lower end of that average are hiring a compliance officer, instead of hiring a new lender, teller or someone in operations.

Compliance is not a profit center. It’s a cost center.

“Instead of having a new lender out developing in the community,” Holmes said, “you’ve got someone in there scouring through hundreds and hundreds and hundreds of pages of [regulations] telling you what you can and can’t do.”

Holmes notes a piece of recent legislation that indicates the pendulum has swung toward reducing the strains of Dodd-Frank.

A “Fair Exams” bill in the U.S. House of Representatives would provide “more transparent, timely and fair examinations” by reducing the disconnect between exams and their regulating agencies.

A sister bill will also be considered by the U.S. Senate, Holmes said.

“That’ll help cut some of this,” he said. “When you start getting the help from the regulators and legislators, that’s when you’ll start to see everything gel a little bit.”

Still, Holmes offered a somewhat ominous forecast for community banks in Arkansas.

“Right now, you’re going to see that $137 million [asset] bank have to partner, probably in the form of a merger, to where two or three of them can afford to have that compliance officer. And that’s what we see happening.

“And when you consolidate [banks] in small towns, small towns go away.”