Rising Interest Rates Put Dent In Small Bank Deposits

Smaller banks around the country are feeling the pinch as rising interest rates keep earnings static on loans and customers want more interest on their deposits, according to a report from The Wall Street Journal.

The Federal Reserve began raising interest rates about three years ago from almost zero, and after the financial crisis, many small and regional banks ramped up their lending with long-term and low-rate loans. Since the banks are now paying out more to their depositors, earning rates on those loans are scarcely making a profit.

These pinched institutions include 34 branches of Banc of California and its 68 percent rise in interest costs over the last year, as it paid to get more depositors. The Southern National Bancorp of Virginia is now shelling out 2.25 percent interest on some of its checking accounts, as bigger national banks pay almost 0 percent.

New York Community Bancorp is dealing with a situation where deposit costs are elevating more than the yields on loans for apartment buildings in the city.

While profit margins for lending at all sizes of banks are still rising, smaller banks’ profit margins have begun to go south. For example, one key metric that banks use to measure profit is net interest margin, which went down at almost one half of a sample of small banks from the third quarter a year before, according to an analysis.

These happenings are indicative of the growing chasm between smaller and larger banks. Many large banks spend millions on new technology, like mobile apps, to keep customers without paying increasing rates.

Smaller banks, however, face a more urgent need to increase deposit rates. They use more of their deposits for loans, and customer loss could affect a bank’s ability to frugally fund lending. Also, depositors at smaller banks tend to lean toward business accounts and customers with certificates of deposits – groups that have a tendency to watch rates closely.

Back when rates were closer to zero, small banks would use interest-free deposits to grow loans, in many cases in the area of commercial real estate. The result of that, though, was a record amount of loans with low, fixed rates for extended periods. The Fed raising rates has jeopardized that practice.