Small, Community Banks Suffering Under Dodd-Frank

By at 20 February, 2015, 4:13 pm

Bank door

by Raymond J. Keating-

There are certainties in this world. The sun rises in the east, sets in the west. Water boils at 212 degrees Fahrenheit. Death and taxes, as Ben Franklin noted, are certain. And the burdens of government regulation fall more heavily on small businesses, no matter what politicians might claim.

This policy truth has been confirmed, once again, in a study published earlier this month by the Harvard Kennedy School’s Mossavar-Rahmani Center for Business and Government, titled The State and Fate of Community Banking and authored by Marshall Lux and Robert Greene. The study looks at the role of community banking in the marketplace, as well as the impact of Dodd-Frank on these small banks.

As for the market served by community banks, the authors explain, “Community banks provide 77 percent of agricultural loans and over 50 percent of small business loans.” In particular, “community banks provide 51 percent of small business loans.”

The burdens of regulation on these small financial institutions have been well established. For example, Lux and Greene quoted William Grant, then chairman of the Community Bankers Council of the American Bankers Association: “The cost of regulatory compliance as a share of operating expenses is two-and-a-half times greater for small banks than for large banks.”

As for the impact of Dodd-Frank, key points from the study are highlighted:

Dodd-Frank Worse Than the Financial Meltdown.

“Community banks (defined as banks with less than $10 billion in assets) withstood the financial crisis of 2008-09 with sizeable but not major losses in market share – shedding 6 percent of their share of U.S. banking assets between the second quarter of 2006 and mid-2010… But since the second quarter of 2010, around the time of the Dodd-Frank Wall Street Reform and Consumer Protection Act’s passage, we found community banks’ share of assets has shrunk drastically – over 12 percent.”

Too Small to Succeed.

“What is behind the decline of the community bank? Technology is obviously a factor. It may drive consolidation but ensure that some traditional banking services will be available if community banks’ role in the banking sector naturally diminishes. Yet many commentators, community bankers, and regulators have also expressed fear or produced research showing that Dodd-Frank has exacerbated the preexisting trend of banking consolidation by piling up regulatory costs on institutions that neither pose systemic risks nor have the diversified businesses to support such costs. As a small North Carolina lender told the Wall Street Journal, ‘When they created “too big to fail,” they also created “too small to succeed.”’ Our findings appear to validate concerns that an increasingly complex and uncoordinated regulatory system has created an uneven regulatory playing field that is accelerating consolidation for the wrong reasons.”

Community Bank Consolidations Double.

… [C]ommunity bank consolidation trends have almost doubled since the passage of Dodd-Frank, relative to the Q2 2006 and Q2 2010 time frame, which includes the crisis period.”

Too Big To Fail? Not So Much.

“Interestingly, community banks’ vitality has been challenged more in the years after Dodd-Frank than in the years during the crisis. Clearly … Dodd-Frank did not mitigate concerns over banking sector concentration: The top five bank-holding companies control nearly the same share of U.S. banking assets as they did in the fiscal quarter before Dodd-Frank’s passage. Meanwhile, community banks with $1 billion or less in assets have seen a significant decline, while large community banks have also suffered losses, albeit at a less drastic pace. The rapid rate of consolidation away from community banks that has occurred since Dodd-Frank’s passage is striking given that this regulatory overhaul was billed as an effort to end ‘too-big-to-fail.’”

Regulation Forces Consolidation.

“As the GAO reports, regulators, industry participants, and Fed studies all find that consolidation is likely driven by regulatory economies of scale – larger banks are better suited to handle heightened regulatory burdens than are smaller banks, causing the average costs of community banks to be higher.”

Market vs. Regulation-Driven Consolidation.

“Consolidation is not inherently a bad trend, but policymakers should be concerned that a critical component of the U.S. banking sector may be withering for the wrong reasons – inappropriately designed regulation and inadequate regulatory coordination.”

In the end, the negative fallout from Dodd-Frank has been twofold for small businesses. First, we see the rising costs, losses and forced consolidations among community banks due to increased regulatory burdens. Second, given the important role that community banks play in small business and agriculture lending, small business owners and farmers seeking loans have a diminished universe of lenders from which to choose.

A Cato Institute Research Brief, “How Are Small Banks are Faring Under Dodd-Frank?” also reviews the cost and compliance burdens of the law. 


Dodd-Frank is another costly case of the government cure being worse than the disease. Of course, in terms of the 2008 financial crisis, government’s role in creating that crisis must not be ignored either. In the end, the political blame for the 2008 mess was focused on “big banks.” The so-called cure – Dodd-Frank – not only did nothing to redress the actual causes of the meltdown, but raised costs and imposed serious damage on small banks, along with their small business clients.

To repeat, one of life’s certainties is that the burdens of government regulation fall more heavily on small businesses, no matter what politicians might claim.


Raymond J. Keating is chief economist for the Small Business & Entrepreneurship Council. 

Keating’s latest book published by SBE Council, Unleashing Small Business Through IP: Protecting Intellectual Property, Driving Entrepreneurship is available free on SBE Council’s website here.


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