These are some of my observations from a conference that I attended recently organised by the National Community Investment Fund (NCIF) for a specific class of US institutions: CDFI (Community Development Financial Institutions) Banks. The regulators present at the conference were deeply appreciative of the critical role that these banks had played over the last few years and reported that several of these small banks had weathered the entire crisis well and overall, unlike in the case of larger banks, had even seen a small increase in their overall lending portfolio.
CDFI Banks are typically:
- Full service banks.
- Have FDIC insurance and offer checking and savings bank accounts.
- They are for-profit institutions.
- Of the over 7,500 banks in the US, 6,700 have less than $1 billion (Rs.5,000 crore) in assets and 4,400 have less than $250 million (Rs.1250 crore) in assets. Of these 6,700 small banks / community banks about 85 are certified by the CDFI Fund as CDFI Banks which gives them access to several financial benefits from the US government.
- CDFI Banks are about 10% of the total CDFIs in the country but they control/manage over 50% of the total CDFI assets.
- NCIF estimates that there are another 400-500 institutions that have not yet been certified or don’t want to be certified despite their mission of serving low- and moderate-income communities. NCIF uses the term “Community Development Banking Institutions or CDBIs” to describe them.
The opening speech at the conference was given by Sandra Thompson, Director, Division of Risk Management Supervision, FDIC. It was an unusual speech coming from a regulator in its warmth and appreciation of the strong role that community banks like CDFI Banks were playing in the economy. This warmth was also displayed by other regulators that spoke at the conference and was perhaps due to that the fact that, unlike in India where there is a sense that the government owned financial institutions need to be protected and the private sector is viewed with suspicion, here there is no such predisposition. Several issues were raised by her that suggested that these institutions needed special consideration:
- CDFI Banks were working in very difficult parts of the economy, ones that larger banks were unwilling or unable to serve. This meant that even though the overall economy, in her words, was “experiencing a fragile recovery”, the areas being served by the CDFI Banks were still in deep trouble.
- The TARP programme was really designed for the larger banks and such funds were not made available to the smaller community banks. During 2010 the Treasury created a special Community Development Capital Initiative to support CDFI Banks and Credit Unions.
- The new compliance requirements (over 2300 pages of them) imposed on Banks by the Dodd-Frank Act were proving to be very expensive for several of the smaller banks.
These comments of hers were related to the big issues that kept coming up during the entire day of discussions:
- If CDFI Banks wishes to be banks and collect deposits should they be treated any differently from a prudential perspective from other, larger banks. If they wished to serve higher risk communities should they not be required to provide additional capital against that higher level of risk? Should there be a special category for CDFI Banks to support their mission focus? A number of CDFI Banks seem to not be able to articulate their overall competitive strategy in a sharp way or even that of their customers (there were several notable exceptions though). Several of these CDFI Banks seem to be more focussed on “picking up pieces” and helping people “survive” rather than supporting the growth and development of a community that had some real growth prospects. Such banks (that are unable to articulate their strategy) accordingly have:
a. Limited cost advantages allowing them to drive profitability.
b. Have given up on their superior knowledge of their customers allowing them to contain default.
c. Are unable to charge appropriate rates.
d. Have lower profitability that was low to negative despite being for-profit banks.
2. This brought up the whole issue of social return that could be added to the often times low or negative financial returns. While there was a great deal of enthusiasm from the CDFI Banks about this idea the investors that were at a panel (from CITI, Bank of America, TIAA-CREF, and Prudential Financial) were not as enthusiastic. They had the following comments:
a. Social performance was seen as a screen – the financial performance was the quantitative measure and was used to guide actual investment decision making and not social returns.
b. The more sharply the CDFI Bank could distinguish itself from a mainstream bank the more attractive it would be to investors – if it presented itself as just a “better” or more “socially conscious” bank that “works harder” for its clients, it would not be as attractive.
c. More investors preferred debt / deposit instruments that had a guaranteed (even if low) return of both principal and interest to equity investments since exits were few and far between.
Despite all these concerns there was a great deal of enthusiasm about the very high level of importance of the 6,700 community banks (CDFI and non-CDFI) and the role that they were playing in the economy. The NCIF itself is working hard to quantify social returns of CDFI Banks and find other ways to preserve the unique value proposition of these banks, even while diversifying income sources and reducing costs through shared platforms and so on.
There was a presentation from John Hale III, Deputy Associate Administrator of the Office of Capital Access, Small Business Administration (SBA). He was working hard to make the SBA guarantee programme much more attractive to the small banks. There was also a discussion of Treasury guaranteed loan sale / bond sale programme by CDFIs which sounded very much like a securitisation effort.
Within the CDFI community there was much interest in:
1. Better use of technology both in the back-office and in front of the customer.
2. Development of shared service platforms for back-office management. There was a strong sense that such a platform would help reduce costs as well as enhance the operating capabilities of the smaller banks.
There were several CDFIs (such as United Bank from Atmore, Alabama and City First Bank of DC) that had done well and their core strengths seem to be:
1. Deeper knowledge of the customer relative to other banks due primarily to their proximity and continuous presence (some for over 100 years) in the community.
2. Better product designs suited to their customer’s needs which were hard for their competitors to copy.
3. On cost and technology front they did not seem to be at all competitive relative to the bigger banks.
Also amongst the regulators there was a real sense that partnerships between financial institutions were desirable that that, unlike in India, larger banks did not have to do it all “themselves” to fulfil all of their priority sector requirements (which exist even in the US).