Like many small, rural banks, Crookston National Bank in Minnesota has struggled in recent years to attract deposits to fund its agricultural and small-business loans.

But unlike some of its counterparts, $31 million-asset Crookston National has been unable to tap its regional Federal Home Loan Bank for funds because it has not held enough of its assets in home mortgages to qualify for membership in the system. "We've been trying to meet the criteria for the last several years, but we keep coming up short," said Jim Ingeman, its president.

Mr. Ingeman's worries may soon be over, however, thanks to a provision in the historic financial modernization law that relaxed restrictions on joining a Federal Home Loan bank.

Any institution with less than $500 million of assets will soon be allowed to join the 12-bank system regardless of the size of its home mortgage portfolio. Moreover, member banks may pledge farm and small-business loans - not just home loans - as collateral when borrowing from a Home Loan bank.

"This is one of those things that people may not recognize right away as being significant, but they will over time," said Jeff Plagge, president and chief executive officer at First National Bank of Waverly, Iowa. "This is just what rural banks need to remain competitive."

Indeed, though the changes will apply to all small institutions, it is rural banks in the Midwest that are expected to benefit most. An urban community bank generally does not face the same liquidity problem as one in a rural market where the population may be declining or aging.

"Our traditional deposit base is eroding," said Dale Leighty, president of $90 million-asset First National Bank of Las Animas, Colo. "We simply have to have different sources of funds."

The American Bankers Association has estimated that more than 2,500 small banks which have been unable to join a Home Loan bank become eligible under the new law. More than 600 of these banks are in the Federal Home Loan Bank of Des Moines district, which includes Iowa, Minnesota, Missouri, North Dakota, and South Dakota.

"This is a part of the country that has a lot of community banks, and we welcome being able to serve them," said Nicky Schissel, a spokeswoman at the Des Moines Home Loan bank.

Of course, commercial banks of all sizes have been allowed entry into the Federal Home Loan System since 1989. Those with 10% of assets in home mortgages could join by buying stock equal to 1% of those assets while those that could not meet this requirement could become members by buying larger chunks of stock.

The result: Membership has increased from just under 3,200 at the end of 1989 to more than 7,200 as of Sept. 30.

However, member institutions have been limited to borrowing only against their mortgage assets. Under the new law, these institutions will be able to use commercial loans as collateral, which could dramatically increase their lending power.

"The Federal Home Loan banks will not only be sources of liquidity for mortgage lending, they will become important sources for community lending," said John von Seggern, executive director of the Council of Federal Home Loan Banks, a trade group that represents 10 of the 12 institutions.

Michael Middleton, president of Bank of Tri-County in Waldorf, Md., agreed. A former thrift, $220 million-asset Tri-County converted itself to a commercial bank in 1997. Now with access to even more Home Loan Bank funds, it can pursue its goal of making more small-business and economic development-type loans.

"This migrates perfectly with our business plan," said Mr. Middleton.

The Federal Housing Finance Board, the system's regulator, is expected to write rules carrying out this section of the law in early 2000. Until then, it is unclear what percentage of commercial loan assets banks will be able to use as collateral for borrowing from the system.

But the ABA has estimated that a $100 million-asset bank could potentially have access to an additional $22 million of Home Loan Bank funds. Ken Clayton, chief legislative counsel at the ABA, said the average $500 million-asset bank could potentially pledge an additional $94 million of its loans as collateral.

"Regardless of how the rules come down this will provide a significant benefit to the liquidity needs of banks across the country," Mr. Clayton said.

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