Ten years on from the financial crisis, too many Americans are still unbanked, underbanked or even badly banked.
This doesn’t just mean that sound financial services are hard to find for certain communities, including low- and moderate-income households, minorities, the disabled and others. It also means that financial services do not advance income and wealth equality by providing living returns on savings accounts or sustainable credit for low-balance, higher-risk mortgages, small-business startups and other critical equality-enhancing needs.
The bottom line is that unequal financial services are creating an even more unequal America, with still deeper social and political discord. Either private banks must solve this problem or a government body — be it the post office, the Federal Reserve, state-government banks or others — will enter or even take over consumer banking. This is particularly true given that the U.S. is already the most unequal of all of the advanced market economies.
I like private capital better, and there’s an option already available for the industry to consider. A 21st Century Equality Bank would take an old charter — the bankers’ bank — and make it an urgently needed solution to this problem.
In 1980, the Federal Reserve Act was amended to establish a new framework for so-called bankers’ banks. Intended as a way for small banks to combine technological resources and reduce their reliance on large-bank correspondents, bankers’ banks are essentially cooperatives in which a commonly-owned bank offers an array of services to its members. These days, the services typically associated with bankers’ banks — i.e., correspondent services — are generally of little use to even the smallest banks. As a result, there were only fourteen bankers’ banks with a total of only $8 billion in assets as of the end of last year.
But the bankers’ bank charter has an array of advantages in law and rule that make them uniquely suited for this new, vitally important role. As privately owned cooperatives focusing on equality-enhancing services, new-generation bankers’ banks have tremendous promise.
Using this charter, banks of a certain size, in a geographic area or interested in particular products could form Equality Banks on their own, in concert with a large bank providing certain services, or even with a trade association interested in a new revenue source that serves member institutions and the public good.
Banker’s banks may offer any services desired by member institutions as long as the Equality Bank dealt directly with the general public only in ways preapproved by the Federal Reserve. Given that an Equality Bank would not be an insured depository and that its members would not be at risk if the institution went bust, regulators might even cut the bank enough slack on the safety-and-soundness side to allow it to offer financial services at an even more affordable price.
To show the power of an Equality Bank, consider how it could overcome the profitability problems that generally preclude national banks from acting on the OCC’s new standards giving them clear authority to offer small-dollar, short-term loans.
To ensure that national banks stick to the straight and narrow, the OCC’s rules also impose a lot of costs on loans that, by their very nature of being both small dollar and short term, make them profitable for individual lenders only if a lot of corners are cut. The way to make these payday-like products competitive and still protect consumers is to house costly underwriting, compliance and servicing features in a large enough institution to absorb the cost of all these safeguards through greater efficiency earned via higher origination volumes.
An Equality Bank dedicated to products like these short-term, small-dollar loans would also be set up to service its members, not to make the types of profit necessary for private investors. As a result, costs are cut not only because of volume discounts and in-house expertise in a complex area, but also due to different profit objectives.
Moreover, an Equality Bank might not have to forego profit to provide these payday-like services. With a network of banks originating short-term, small-dollar loans with uniform underwriting standards, the cooperative might generate a sufficient volume of loans to qualify for securitization, akin to credit-card loans. As a result, an Equality Bank could well solve for both profit and purpose in ways few banks on their own are likely to be able to do.
Last time around, bankers’ banks were a brave idea that ultimately failed because profit incentives weren’t sufficient for members or the banks themselves. Trade-association Equality Banks might solve for some of this, as would regulatory advantages earned — and rightly so — by the combination of mission benefits and prudential safeguards that characterize special-purpose Equality Banks. Even so, Equality Banks must meet market needs with economies of scale, efficiencies of scope and specialized expertise that overcome current profitability barriers to equality-enhancing, private-sector banking.
Given the profound damage economic inequality does to social welfare, its direct role in increasing the risk of financial crises and its clear impact on political instability, it’s time to rethink bankers’ banks for the good of the country.