By Robert Barone of Ancora West AdvisorsNEW YORK ( TheStreet) -- The banking landscape is rapidly changing. We had 126 bank failures in 2009, and, through May 7, 2010, there have been 68 additional closures. Sheila Bair, FDIC Chairwoman, has indicated that we can expect a significant number of additional failures for the next few years. The system that America got used to from 1990 through 2007 where credit was easy to get and consumption and investment grew as a result, has disappeared. In its place is emerging a system that is 180 degrees opposed. Those that are "Too Big to Fail" are getting bigger. Meanwhile, the small community bank, the source of working capital for America's small businesses, is being choked by the regulatory system. Ask any CEO of a community financial institution who he/she works for -- the answer won't be the Board of Directors or the Shareholders -- inevitably, the answer will be the regulator (FDIC, OCC, Fed, OTS). It appears that, having failed to detect the subprime, housing and derivative bubbles (which emanated from Wall Street), the regulatory agencies have decided to get tough on Main Street lenders. Never mind that community institutions didn't participate in the subprime debacle or didn't sell synthetic securities to their clients while simultaneously taking short positions. And, ignore the $20 billion of capital that these institutions lost at the flick of the Treasury Secretary's magic wand (FNMA and FHLMC preferred stock). If you want to figure out why the economy cannot find solid footing, look no further than the way the regulators are treating commercial real estate loans in community bank portfolios.
Thus, for community banks, there is a conflict between the desire and the need for transparency and the nature of their balance sheets. What could be done? For investors, the market values of assets and liabilities should be disclosed. But, because of the nature of a community bank's balance sheet, rules for regulatory capital should not require write downs to prices where markets are clearly in turmoil. Regulators should use some measure of tolerance and allow community banks time to work their way through the current negative environment as they have successfully done in countless other economic contractions. Without community banks, who will lend to small business? And without small business expansion, how will we regain the 8.5 million jobs lost in this recession? Under today's regulatory regime, here is the new paradigm for community banking:
For the foreseeable future, perhaps as long as three to five more years, we will continue to see record numbers of community bank failures where the FDIC closes an institution and sells off the assets for pennies on the dollar; For the surviving community bank institutions, credit standards will be quite tight. Loan-to-value ratios will be very low, and many businesses that got credit (and deserved to get it) in the last 20 years will be excluded. Community banks will shrink in asset size, and when they do start to grow, it will be at single-digit rates; The "Too Big to Fail" will get bigger; but, they haven't been equipped to make loans to small business since they gave up that function in the 1980s. The new paradigm for American banking is that the big will get bigger and the small will dwindle. But because it is the small institutions that lend to small business, and it is small business that create the majority of new jobs, this new paradigm means much slower economic growth and therefore a continuation of high levels of unemployment. -- Written by Robert Barone in Reno, NV