WASHINGTON — Community bankers are close to winning a key change to the Senate regulatory reform bill that would require the government to base deposit insurance rates on assets instead of domestic deposits.
The amendment from Sen. Jon Tester, D-Mont., and Sen. Kay Bailey Hutchison, R-Tex., has been one of community bankers' top priorities as regulatory reform debate slowly gets under way this week. If enacted, it would mean large banks and other institutions that rely less on core funding from deposits would pay much more for deposit insurance.
"Our amendment would force big banks to pay their fair share of insurance," Tester said on the Senate floor Tuesday. "And it would fix the lopsided assessment system that we currently have — which unfairly burdens community banks."
With the amendment expected to pass with broad bipartisan support, experts predicted that some banks may reduce their level of subordinated debt, Federal Home Loan Bank advances and foreign deposits as a result.
"Depending on the amount of a bank's premium, it could have an impact in shifting the funding structure for some institutions," said John Bovenzi, a former chief operating officer at the Federal Deposit Insurance Corp. and now a partner at Marsh & McLennan Cos.' Oliver Wyman. "On balance, it's raising the cost of nondeposit funding, without impacting the cost of deposit funding."
Many banks have already started moving away from noncore funding as regulators have stepped up criticism that an excessive amount is a sign of increased risk. Banks will change funding structures "as part of an overall trend toward moving a portion of the commercial bank community away from gorging themselves on more nondeposit liabilities than they should have," said Douglas Landy, a partner at Allen & Overy LLP. "A reliance on those tends to be a sign of weakness in the regulators' eyes. Like brokered deposits, they're not the preferred form of funding for banks with the regulators."
The amendment would change the assessment base from domestic deposits to a bank's average asset total during the assessment period, minus its tangible equity.
Asset-based premiums have long been sought by community banks, which argue the current assessment base rewards behemoths that can fund a large piece of their operations in the debt markets, without being assessed for the risk those instruments present. Meanwhile, smaller banks rely more heavily on deposits, which means higher payments to the FDIC.
Ultimately, however, switching to assets would produce both winners and losers throughout the industry, with some larger institutions paying less in premiums, and some small banks facing higher fees.
The FDIC sided with community banks a year ago when the agency used an asset-based calculation for a special assessment to replenish the dwindling resources of the Deposit Insurance Fund. The special assessment was followed by proposals in Congress to use assets instead of deposits, including in a proposed $50 billion fund to help with the resolution of systemically risky institutions. (The fund was removed Wednesday under a deal cut by Senate Banking Committee Chairman Chris Dodd and Sen. Richard Shelby, R-Ala. See related story.)
With the political winds in Washington favoring community banks, Tester's amendment quickly won support from Dodd and others. "The amendment is fundamentally about fairness, which I think is one of its most important features," Dodd said Tuesday. "Community banks, as we all know, have been victims of a severe economic recession brought on by the behavior of major Wall Street firms."
It is unclear when the Senate will vote on the amendment. Senators have filed dozens of amendments to the reform bill, the first of which were expected to be voted on Wednesday.
Some industry representatives cautioned the Tester amendment may have a bigger impact than its supporters intend. Among the potential effects are more aggressive pricing by institutions to compete for deposits, and even some shrinking of banks' portfolios, observers said.
"The expansion of the base raises the cost of all nondeposit liabilities. That means there's naturally going to be a restructuring of the funding and it likely means there's going to be more deposit competition," said James Chessen, the chief economist of the American Bankers Association. "It likely means that banks with foreign deposits will restructure how those deposits are booked. It has broad implications for how the funding structure of any bank will be."
Michael Bleier, a partner at Reed Smith, said consumers may ultimately benefit.
"If the FDIC's focus is on the asset side of the balance sheet, the answer would be … banks would shift to core deposits," he said. "If banks turn their focus to deposits, for the depositors that might be very good. Banks are going to have to pay up for those deposits."
But institutions may also consider shrinking their assets, Bleier added. "Ultimately, what it might lead to is less lending," he said.
Chessen warned that expanding the assessment base risks moving deposit insurance too far away from its original purpose. "You're breaking that nexus between premiums and deposits, and that has potential consequences for how Congress might define a base sometime in the future," he said. "Once Congress changes the base to an asset test, what is to stop them from thinking up other kinds of incentives that meet whatever social agenda they might have?"
Yet Camden Fine, the president and chief executive of the Independent Community Bankers of America, said the current base is outdated.
The Tester amendment would "guarantee parity in the FDIC premium assessment base," which "was created in 1933, and over the last 80 years it's become badly out of balance," Fine said. "It needs to be corrected, and it should be corrected by statute."