Community Banks Getting on Board with 'Glass-Steagall 2.0'

WASHINGTON — The growing support for a reinstatement of restrictions separating commercial and investment banking has so far come from a smattering of commentators, policymakers and industry insiders.

But community bankers appear to be joining the push, a development that may give the nascent movement more momentum.

In interviews with multiple small-bank executives, nearly all backed a framework closer to the days of Glass-Steagall, which was repealed in 1999, although they disagreed on exactly what the new system should look like.

"I wish the regulatory structure that was in place in 1998 was still in place today," said Stephen Hailer, the president and chief executive officer of the $158 million-asset North Akron Savings Bank in Ohio. "I was never in favor of repealing Glass-Steagall. There was a reason it was put in place."

Many said the Gramm-Leach-Bliley Act, the law that broke down the walls between banking, insurance and securities firms, dangerously allowed companies to combine government-insured banking platforms with complex trading activities.

Several voices have called for stronger walls between behemoths' operations to thwart off bailouts, but proposals vary.

A strict return to Glass-Steagall — and its ban on banks engaging in other activities — is unlikely. But a proposal by Federal Deposit Insurance Corp. board member Thomas Hoenig is narrower. It would forbid a bank with FDIC-backed funding to operate the types of riskier trading units that in the crisis greatly increased the government's exposure. The result would effectively break up the large banks. Yet unlike Glass-Steagall, Hoenig's plan would still allow banking companies to engage in certain activities deemed less risky, such as asset management, issuing stocks and bonds, and advising investment-bank clients about merger deals.

Community bankers, who have often railed against the notion of "too big to fail," mostly agree that stronger restrictions on a bank's ability to expand into complex activities are necessary.

But some worry that just rewinding to Glass-Steagall would have unintended consequences, including limits on some community bank activities that, they say, are now effectively regulated.

"There is such a diverse view on this. I've had several community banks say that tearing down the walls was the worst thing ever … and now you can't separate the risk side from the traditional banking side. I've had others who still want to be involved in insurance or brokerage who say that it can be modified to eliminate some of the risk while allowing banks to still do some of these things," said Randy Dennis, president of DD&F Consulting Group in Little Rock, Ark. "Most of our smaller bank clients are for some type of restoration of the walls, … but there is not a clear technical understanding of how that would work."

Some executives say stronger limits on the complex activities of a large firm are different than the desire of some Main Street banks to operate affiliates.

"There may be a day here when we're looking for noninterest income and have to go the route of buying or selling an insurance agency. There may be a day when some of my customers may want to have some type of stock or wealth management account," Salvatore Marranca, president and chief executive of the $187 million-asset Cattaraugus County Bank in Little Valley, N.Y. "Those are consistent with normal financial products and services. But when you get into the world of hedge funds and derivatives and proprietary trading, that's a whole other world and has to be separated."

Many small bank executives appear to be coalescing around Hoenig's idea.

"If you're going to take on activities that include hedge fund activities or proprietary trading where you're using federally insured deposits … they just don't belong within a commercial banking structure. There should be a firewall," said Stephen Gardner, president and chief executive of Pacific Premier Bank, a $1.1 billion-asset institution in Costa Mesa, Calif. "Otherwise you shouldn't be in the business of taking federally insured deposits."

The Independent Community Bankers of America says it is prepared to support legislative steps to implement the Hoenig proposal.

"I would call the Hoenig plan a 21st century version of Glass Steagall," said Camden Fine, ICBA's president and chief executive officer.

Fine said that while simply reinstating Glass-Steagall "would only impact community banks around the edges," the Hoenig plan "is a superior model to the original version."

"When the new Congress reconvenes next year, ICBA will go back to the policymakers on Capitol Hill and very much advance and support the Hoenig proposals. What form that will take legislatively, I don't know," he said. "But we'll be very supportive of any bills introduced that would implement the Hoenig proposals."

But some bankers said restoring Glass-Steagall today as it existed in the nineties would be impossible.

"You can't put the toothpaste back in the tube very easily. … Glass-Steagall was written decades ago, and decades ago they did not have the technology they have today. The financial world has changed," said Michael Middleton, chairman and chief executive officer of Tri-County Financial Corp. and its $972 million-asset Community Bank of Tri-County in Waldorf, Md.

Middleton, whose bank operates other affiliates such as a wealth management arm, said there are regulatory firewalls that exist post-Glass-Steagall, but examiners can more effectively monitor them at smaller institutions.

"There is a myriad of regulations that already separate deposit and non-deposit products. Community banks' firewalls are constantly examined at a much more granular level than a large bank," he said. "Whatever the answer is it has to be crafted in a way not to limit the ability of community banks to engage in the full spectrum of safe and sound financial services that our communities need and want. An example would be: We don't do interest rate swaps. At a community bank level, that would be very rare."

But Wayne Abernathy, head of financial institutions policy and regulatory affairs at the American Bankers Association, said community banks may also need to be wary of policies pushing large firms toward more traditional banking. He argues that could force big banks to become more competitive in areas that are now dominated by smaller institutions.

"B of A, JPMorgan and Citi and those banks would be much more competitive with the community banks if they were half their size compared to their size now," he said.

Others said reining in the risky activities of large banks may not require structural reforms.

"There are two different issues. Should there be additional restrictions on large and complex banks to better examine or control some of their non-commercial bank activities? My answer would be: 'Yes.' Do I think the way to get there is to repeal Gramm-Leach-Bliley and go back to Glass-Steagall? My answer would be: 'No,'" said Steve Wilson, chief executive officer of the $827 million-asset LCNB National Bank in Lebanon, Ohio.

"The reason for that is I have no problem with [large banks] doing whatever they want to do as long as it's adequately controlled and there is adequate capital held for it. I had an insurance company that I've recently sold. I have a brokerage unit, I have a trust unit. I would not want to have to get out of any of those businesses because of a return to Glass-Steagall."