Interest rates, economic slowdown on bankers’ minds in 2019

A steady uptick in interest rates to keep the economy on a normalized pace has bankers closely watching moves by the Federal Reserve Bank.

With four fed fund rate hikes in 2018, banking regulators have hinted that more may be on the way in the second half of 2019, according to many observers. Federal officials are doing their part to balance better-than-expected GDP growth, low unemployment, and inflationary pressures against a slowing national housing market and concerns of a worldwide economic downturn. Financial institutions have had consistently strong earnings growth, especially in the last two years, thanks to regulatory relief and a stimulus from corporate tax cuts that have helped bottom line growth.

However, factors far beyond the control of local banks may make or break some Arkansas institutions’ profitability margins. Tariff and trade concerns have produced a series of new winners and losers in the U.S. economy. For instance, agriculture and manufacturing — two areas of utmost importance in Arkansas — have been roiled by the international tariff wars. Meanwhile, the steel industry is seeing a boon from the change in trade policy, but that has also inflated costs for construction that residential and commercial builders contend will curtail activity in the near future.

“I think the trade war is very real and very tangible and my main comment on this is it’s causing uncertainty inside the U.S., which might be affecting business investments,” St. Louis Federal Reserve Bank President James Bullard told an Arkansas audience last month. “However, it’s causing a lot more angst and uncertainty outside the U.S. Investors abroad are not sure what’s going to happen, especially between the U.S. and China, and because of that they’re not sure how they should progress with their investment plans.”

Davy Carter, regional president with Home Bancshares’ Centennial Bank in Jonesboro, echoes Bullard’s concerns about the trade wars and how they’re impacting the state’s largest industry.

“The agriculture sector has seen the most volatility with the trade war with China. It’s created a lot of uncertainty. Of course, that’s the most important industry in the state. The farmers and others need certainty for their business models,” said Carter.

He contends in most other areas of business the “fundamentals have been strong” and from his banker’s perspective 2019 should continue to see economic activity in retail, transportation, construction and small business growth.

American consumers are doing their part with spending thanks to low unemployment that has added to incomes. Rising interest rates, however, could cool spending for bigger ticket items, such as homes, cars, or major appliances. With consumer spending accounting for nearly two-thirds of all economic activity, bankers will be watching monthly reports on the spending front as well as consumer confidence.

The rising interest rate hikes of 2018 haven’t killed any big deals though, says Carter. “From a customer’s perspective, rates are still low, but I think they’re becoming more mindful that borrowing costs could go up in the future,” he said. “Up until this point, there haven’t been any negative effects from the rate increases so far.”

If the Fed’s Bullard has his way, it’s unlikely interest rates will climb any higher anytime soon. For now, he considers future rate hikes “the precipice of a policy mistake.”

Disruptive technologies continue to challenge banks, while presenting opportunities for growth for early adopters. As fintech companies create new ways to conduct commerce, banks that can’t adapt could see small erosion in market share for interest and non-interest income streams that have been the bread-and-butter of the industry.

Cathy Owen, president of Eagle Bank of Little Rock and the chairman of the Arkansas Bankers Association, expects more banks to partner with fintech companies in 2019 and beyond, but local banks will still thrive.

“Banks will continue to grow and prosper in 2019. There is no place safer and more secure to keep your money than your local bank. Banks have a huge stake in the economic growth, health, and vitality of their communities,” she said.

Owen says there is always a vigilant need for the banking industry to call on Congress and the administration to alter policies that are restrictive for community banks, which most all Arkansas banks can be defined. From mortgage regulations to capital thresholds to other one-size-fits-all credit standards, she says smaller banks can’t easily cope with rules intended to reign in multi-billion dollar banks that conduct international business.

“Some of these [regulations] are complex and expected to be costly to community banks and consumers. These overly burdensome regulations may reduce the lending products provided and raise the cost of credit. A provision should be implemented to exempt community banks from these regulations if they are recognized as ‘highly capitalized banks,'” Owen said.

She also predicts that cannabis banking, which Arkansas will soon deal with, will elevate in the public discussion in 2019. Medical marijuana cultivation facilities and pharmacies should open for business in the Natural State later this year.

“While bankers take no moral stance on the moral issues raised by legalizing marijuana, the rift between federal and state law has left banks trapped between their mission to serve the financial needs of their communities and the threat of federal enforcement action,” she said. “This leaves a significant state-legal business sector, which includes indirect vendors, landlords and employees, without access to banking products and services.”

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Editor’s note: This article first appeared in Talk Business & Politics State of the State 2019 magazine, which you can access here.