I recently released a report, "Serving Consumers' Needs for Loans in the 21st Century," and testified before two House Financial Services subcommittees in July about the impact of Dodd-Frank on consumer credit availability and a proposed bill to address this issue. Institutional inertia and resistance to change by regulators and some commentators inhibit creative or innovative thinking to actually try new solutions to a problem that has been collectively identified.
The proposed bill, H. R. 6139, would create a federal charter for National Consumer Credit Corporations. Basically, this bill would allow nonbank financial services providers to offer installment loans up to $5,000 with affordable repayment terms over several months or years. These loans would not be funded by FDIC-insured deposits, thereby eliminating any risks to taxpayers.
The new charter would provide Office of the Comptroller of the Currency (OCC) oversight of nonbank financial services providers and would open up the market for unsecured consumer installment loans. These companies now operate under disparate state licenses and regulations, which limit these loans in many states. The charter would allow these firms to offer unsecured loans directly to consumers nationwide.
What does this have to do with community banks? At first blush, the bill would appear to offer competition. However, in reality, most community banks have abandoned relatively low dollar unsecured installment loans in favor of credit cards, home equity lines of credit and overdraft coverage. The poor economy and recent regulations have significantly limited these options to moderate income consumers. Additionally, the traditional consumer finance companies that provided these loans have all but disappeared in the last ten years.
A recent American Banker article, "2,000 Banks Should Sell Now, M&A Veteran Says," quoting the former head of mergers and acquisitions for Citi, supports the contention that low loan demand, low earnings and high operating and compliance costs make the community bank business model untenable. The low loan demand centers on mortgages, home equity loans and small business loans. The loan demand for unsecured consumer loans is significant, but the legacy cost structures of most banks makes it impossible to profit off them.
There is potential for these alternative financial services companies to develop alliances with community banks so they both can provide loans to low-to-moderate-income consumers, a demographic that banks cannot profitably serve with traditional products. These companies would provide proven and effective marketing and servicing and analytic activities for the banks with software the AFS providers have developed in serving these consumers.
There are over 60 million unbanked or underbanked individuals in the U.S. and that number is growing by almost 3 million every year, according to a study by the Washington Credit Union League. This represents a huge market that banks are not serving right now. This legislation could help save community banks by generating income from otherwise non-profitable customers since it establishes a relationship that may lead them to purchase traditional banking products in the future.
G. Michael Flores is the CEO of Bretton Woods Inc., a consulting and research firm in St. Simon Island, Ga. He has taught at the Pacific Coast Banking School at the University of Washington and at the University of Wisconsin.