“We think we can cut regulations by 75 percent. Maybe more,” said President Trump on the first Monday after the Inauguration. Shortly after the election, his website stated:
“The Financial Services Policy Implementation team will be working to dismantle the Dodd-Frank Act and replace it with new policies to encourage economic growth and job creation.” Dodd-Frank and sometimes rabid regulators and internal compliance personnel have helped to create a culture of defensiveness and even fear at many banks. It is worth noting that Dodd-Frank provides 400 new rules for regulators. Of that about 115 have either not yet been proposed or finalized. Post-election most bankers I know have expressed hope and cautious optimism about the possible changes ahead.
How would the future be different? What happens to banks and bankers if regulations begin to disappear and regulators “lighten” their approach? Will a change unleash innovation, increase lending to underserved consumer or small business groups, and allow banks to put their customer rather than compliance first? Our educated guess (or since we are consultants I should write “our extensive analysis indicates”) is that for most banks “no” is the answer.
For over a generation many line bankers and executives have been subjected to increased scrutiny and a diminishment in their independence and authority. Unfortunately, increased internal and governmental scrutiny has often occurred after disaster has struck a particular business line and the customer has been harmed (that is, the horse had already escaped the barn). Increased oversight has been aimed at all banks, whether they merited it or not. A few weeks ago I was meeting with one of the top executives of a bank that has generated years of consistently strong performance. This exec, from a bank that has an extraordinary reputation and a strategy that others try to copy, said about his regulators: “They treat us like criminals.” Similar situations exist at other banks that have long track records of excellence yet are increasingly distracted by non-customer oriented activities.
What could change with fewer regulations?
• Reduced operating expenses. Compliance should not be a major personnel growth area for a bank, but it often is. The Financial Times states that compliance and regulation-related direct costs total $270B per year.
• Internal meetings with fewer attendees from multiple support groups. Consider the productivity impact if bankers did not spend so much of their day meeting with one another to address compliance-related hurdles.
• Improved morale. Too many bankers have been driven to something close to paranoia because of the regulators. Most of the commercial bankers I know care about their customers and want to help them. Instead of being able to focus on the customer’s needs, many bankers have to focus on addressing internal requests for information.
• Increased lending. Banks have been forced to narrow the credit box in which they operate. Competition from other banks is intense within that chosen space, but the space is relatively narrow. This has allowed for the growth of alternative finance companies that will lend to consumers and businesses that banks avoid. While not suggesting that the loan floodgates should or will open, banks may be able to selectively explore new areas of direct lending, potentially increasing loan income and their franchise value.
• Increased partnering. While third-part vendors need to be vetted carefully, the extensive hurdles put up eliminate some good vendors from consideration and in some cases have resulted in vendors (including potential lending partners) deciding that cooperation versus competition requires too great an effort, in effect, increasing bank competition.
• Fewer excuses for mediocre performance. As noted below, some bankers have hidden behind the regulators, in effect using them as an excuse for slow decision making and inaction. Imagine if that crutch was taken away.
What will not change?
• Culture. In November, a Washington Post article reported, “Small banks portray themselves as small businesses that were innocent victims of the financial crisis, that are crucial to economic growth and that don’t threaten the financial system’s stability.” Victimization is not a strategy. Too many small banks seem to lack a reason for their existence beyond management well being. Many lack the ability to sell and are dependent upon “One offs” such as funding out-of-market loans that create no franchise value and fail to meet local needs. Fewer regulations will give these banks some additional breathing room but does nothing to slow down the speed at which customers are likely to go elsewhere as their sophistication outpaces their bank’s capabilities.
Yes, the excellent banks are hindered down and frustrated by inappropriate bureaucratic activities, but they still perform well. They possess the talent, strategy, and leadership to overcome roadblocks. And, by the way, many much smaller bankers with limited resources have done the same. Fewer regulations may mean that the best banks outperform others by an even greater margin.
• Customer care. Top banks have a culture that strives to improve the customer experience. If anything, too many regulations make this more difficult for them to deliver on.
• Integrity. We should all be offended that a great bank is being treated like a criminal by regulators who should be focusing elsewhere. The best banks will continue to operate with integrity. As press reports illustrate, no matter the regulations, some banks will continue to skirt around them, if senior management allows that to happen.
We hope that the new administration will help to focus regulators on the banks that merit intense analysis and encourage the banks that operate with the appropriate strategy and discipline to flourish. I am not suggesting that a return to the Wild West of the 1980’s is likely or should be allowed. However, at many banks the pendulum has swung so far to the other side that now is the time for the government to let bankers be bankers. The bigger issue centers on the extent to which banks will take advantage of any changes.