March Roundup: Federal Reserve Rate Hike, New CFPB Rules, and Bank Equity Challenges

The US banking landscape is undergoing significant changes, with the Federal Reserve raising interest rates, new CFPB rules on the horizon, and the recent market turmoil affecting bank liquidity and deposit behaviors. This blog post examines these developments and their implications for the banking industry.

Interest Rate Hike and Its Implications:

Last week, the Federal Reserve raised short-term interest rates by 25 basis points to address persistent inflation. This decision will likely lead to higher lending rates for variable-rate loans and short-term securities, affecting various financial instruments. Banks with larger concentrations of C&I loans may benefit, while some asset-sensitive banks could see increased net interest income and NIM in 1Q23. However, tightening credit conditions may impact economic activity, hiring, and inflation to an uncertain degree.

CFPB Rules on Small-Business Loan Data Collection:

Banks are bracing for new CFPB rules that require complex data collection on small-business loan applications under Section 1071 of the Dodd-Frank Act. These controversial rules mandate banks to report a wide range of data, including demographic information. Smaller banks, in particular, may face significant challenges with these requirements, raising concerns about compliance and data privacy. The rule will become effective 90 days after publication in the Federal Register, with compliance required 18 months after publication. Banks worry about potential regulatory enforcement actions or lawsuits from consumer groups due to the data release.

Effects of Market Turmoil on US Banks:

Prior to the recent market turmoil, most US banks saw improvements in AOCI and TCE, with the industry set for further growth in Q1. However, the crisis has diminished confidence in banks’ liquidity and impacted deposit behaviors. Reduced Treasury yields and improved pricing on government bonds are expected to provide banks with a 2.1% mark-to-market benefit to unrealized losses, incrementally building equity in Q1. AOCI trends reveal that US banks posted $326.09 billion in losses in Q4 2022, an improvement from Q3 2022, but year-over-year trends show most banks experienced worsened AOCI and TCE.

Regulatory Developments and Scrutiny:

The Federal Reserve may impose tougher regulations on midsize banks ($100 billion to $250 billion in assets), focusing on deposit stability following recent failures. Interest rate risk is now a core topic of supervision, and the agency is reviewing capital, liquidity, and stress-test regulation. Additional scrutiny of the banking industry is spreading across regulatory agencies and Congress. The FDIC plans to replenish the Deposit Insurance Fund with “special assessments,” which has community banks concerned. The deposit insurance system is undergoing a comprehensive review, and regulators are being questioned about recent bank failures. The Biden administration has made recommendations to Congress to toughen penalties imposed on bank executives responsible for bank failures, mismanagement, and excessive risk-taking. Sen. Elizabeth Warren and Rep. Katie Porter have proposed legislation to revert back to mandatory stress tests for banks with $50 billion or more in assets.

The US banking industry faces a dynamic landscape marked by increasing interest rates, emerging regulatory demands, and heightened market volatility. To successfully navigate these challenges, banks must remain vigilant, proactively adjust their strategies, and prioritize compliance. By doing so, they can continue to thrive amidst a progressively intricate financial ecosystem and ensure their sustained growth and stability.