Business forum: Clash of titans hurts community banks

Two laws tend to join forces when government seeks to regulate commerce: the law of the land, and the law of unintended consequences.

No matter how well-meaning a given statute, when governments enact laws -- and then craft the welter of regulations that must support their implementation -- things inevitably happen that lawmakers did not contemplate. This is much more likely if the process is rushed, complicated and angry.

Case in point: Congress is mad at the banks and pleased with the auto industry.

According to a recent story in the Wall Street Journal, the bank "bailout" made $20 billion for the U.S. Treasury and the auto bailout cost $20 billion.

Go figure.

Such is the case with the Dodd-Frank Act, which was passed into law in direct response to our near-financial meltdown triggered by the 2008 housing crisis. The law was meant to protect the economy from another such event, in part by taking measures to mitigate the "too big to fail" phenomenon by limiting the business activities of large financial institutions.

But big isn't necessarily bad, and small isn't necessarily good. They are just different.

One out of two. Not bad: Congress got the "invariably expensive" part right.

In the two years since President Obama signed Dodd-Frank into law, the nation's largest banks are bigger. As of the end of 2011, JPMorgan Chase, Bank of America, Citigroup, Wells Fargo and Goldman Sachs collectively held $8.5 trillion in assets, equal to 52 percent of all U.S. bank assets, according to the Federal Reserve. So although the new regulations failed to control bank size, as I would have predicted, they succeeded in hurting community banks -- an unintended consequence. Dodd-Frank's costs to all banks -- and eventually to their customers and shareholders -- are estimated to exceed $20 billion annually.

Here's where the uneven hand of government regulation distorts the marketplace:

Large financial institutions have been able to access the capital markets to shore up their capital base and to keep up with the new regulatory requirements that they raise reserves.

Left in the dust, essentially, are community banks. With far less access to capital, community banks are at a significant disadvantage when it comes to their ability to grow -- indeed, in some cases, to survive -- in the new world of Dodd-Frank regulations.

But the picture for community banks may not be completely dark. The Federal Reserve's so-called Quantitative Easing 3 (QE3) program, launched last month, may extend a helping hand to community banks, mitigating the impending capital requirements. The Fed's pledge to buy mortgage-backed securities, a program designed to keep mortgage rates low until mid-2015, may help community banks -- at least indirectly.

Refinanced mortgages reduce homeowners' monthly payments and act as an increase in income. New mortgages and refinanced mortgages are good sources of business for both big banks and community banks. What's more, community banks generally know the local markets better, which gives them more flexibility and therefore a competitive edge against large banks when it comes to mortgage origination and refinancing.

Yet even this good news was tainted by 200 pages of additional regulations on mortgages generated by Dodd-Frank, making it exceedingly difficult for the smaller community banks to take advantage of this opportunity.

The Twin Cities has benefited from more jobs since both Wells Fargo and U.S. Bank have increased their market share substantially, some at the expense of Bank of America, which has been constrained in its mortgage lending business by significant losses from the Countrywide Financial portfolio it acquired in 2008. Wells Fargo now does 33 percent of the country's mortgages and U.S. Bank 5.2 percent.

Community banks have significant business in mortgages, as well, and many have hired additional workers to service the boom in refinancing.