Nutman: Approve new bank

This article has been corrected. You may view this article’s correction here.

At a time when the nation’s largest banks are failing — 24 by latest count — and President Obama, Treasury Department officials and Congress continue to debate the best way to prop them up (more loans? convert loans into equity shares?), a group of bankers in New Haven has an idea. They want to open a bank.

First Community Bank of New Haven will not be just another bank. If the state approves the charter and the Federal Deposit Insurance Corporation agrees to insure it, FCB will be a community bank and, like many community banks, will target “inner-city residents, small- to medium-size businesses and nonprofit organizations,” according to a statement William Placke, the chief executive officer of the bank’s organizing group, made in the New Haven Register earlier this week. While this project has been in the works for six years, it is, in light of the financial crisis, more necessary than ever.

Community banking, though relatively new to Connecticut (FCB would be the state’s second community bank), is not novel. In 1973, a group of investors began the first such bank, ShoreBank, with the goal of providing retail banking services, including savings and checking accounts, mortgages, and personal loans, to Chicago’s financially under-served South Shore neighborhood. Their strategy worked; not only did the bank become profitable after two years, but it has also been a factor in the resurgence of many of the city’s neighborhoods. ShoreBank itself has expanded to various cities across the United States and is the model off which many international micro credit organizations, most notably Mohammed Yunus’ Grameen Bank in Bangladesh, are based.

The value of community banks is, perhaps, best seen through the lens of micro credit in developing countries. For a variety of reasons, the costs associated with lending (screening potential debtors to determine creditworthiness, monitoring or observing ability to repay a loan and enforcing the loan) are exorbitantly high. As a result, so are interest rates, whether loans are made though the formal or the informal sector. For example, it is not uncommon for annual interest rates to be above 50 or even 100 percent. Even Grameen, which is nonprofit and heavily subsidized and uses mechanisms such as group lending to lower risk, lends at a rate of 20 percent per year.

A similar phenomenon occurs in places like New Haven. Banks are often less willing to enter poorer neighborhoods (or lend to people in them) because of increased risk. In their absence, many people rely on less formal institutions — which do not usually do background credit checks — such as payday lenders, which offer cash advances, and check-cashing outlets. Both charge a significant premium — generally $15 for every $100 lent — for their services. The loans are short-term, usually only a week or two, which means that, when calculated on a yearly basis, the interest rates are 780 percent and 390 percent, respectively.

Moreover, although the Truth in Lending Act requires lenders to disclose the cost of the loan before it is made, the interest rates tend to be obscured behind the bright colors of advertising. One site I visited advertised, “Get Cash Now, fast & easy” and “$500-$1500 OVERNIGHT INSTANT ONLINE APPLICATION. ALL CREDIT TYPES APPROVED.”

Like the adjustable-rate subprime mortgages, which in 2007 made up almost 20 percent of all mortgages in New Haven, these services prey on those who are less financially literate. And like the mortgages that in the downturn have resulted in foreclosure — 653 in New Haven have become bank-owned or put up for auction, or had loans go into default in the past three months, according to RealtyTrac, which tracks foreclosures — payday lending often leaves its patrons stuck in a debt trap.

In the financial crisis, these problems will only become more acute; as banks are crippled by default and struggle even with bailout money to stay afloat, they are becoming more risk averse. In other words, they are not about to enter neighborhoods that were redlined in the 1930s and whose property values are falling due to foreclosure.

Enter the community bank. FCB will be focused primarily on providing retail-banking services, especially savings and retirement accounts, complemented by efforts to increase financial literacy. Moreover, the bank is not in business for the money. Although FCB’s financial projections demonstrate that it will show “marginal profitability” by the end of its third year, it will be run as a nonprofit organization, funded initially by a $25 million grant from the NewAlliance Foundation and a $2 million grant from Yale.

The state of Connecticut is right to examine the bank to ensure that its business plan is feasible; after all, most of us wish that other banks had been under more scrutiny. Furthermore, the independent group appointed in October by the Banking Department is able to provide constructive criticism before the bank opens.

But I hope that in the coming weeks the Banking Department will vote for the bank. FCB has a building and the money; it just needs a charter.

Sarah Nutman is a sophomore in Trumbull College.


  • Yale 08

    Not at all sure what this article is getting at. For any bank in almost any state, there is an exhaustive initial and ongoing regulatory process that protects depositors as much the broader financial system from undue pressure. Smaller banks have typically struggled with these kinds of regulations since they are not as-able to maintain reserve ratios amid small portfolios of borrowers and depositors, and community banks in particular have additional trouble since the credit profiles of borrowers tend to be undiversified; these banks are therefore more likely to be subject to FDIC intervention and also have much higher turnover rates than other financial institutions.

    Ultimately, however, the only real test regulators will apply to this or any prospective new bank is whether it has met initial capital levels; historically, the rest of the requirements are loosely -- if at all -- enforced. If it seems that regulators are flagging anything other than this and/or taking longer than their typically deliberate speed to review the application, then an article such as this would seem more appropriate.

    (Separately, we should bear in mind that SBA microcredit programs -- which extend small-business financing to many urban residents who have limited or lackluster credit histories -- initiate billions of dollars in lending each year primarily through larger banks such as Bank of America and Chase. If a borrower does not even qualify for an SBA loan, then there are likely a series of egregious credit incidents in a borrower’s history which, mathematically, can only be underwritten with a pool of similarly-qualified borrowers through a fairly high interest rate [as otherwise, the rate of default on principal would exceed the rate of return, causing lenders to see their asset bases decrease].)

  • Anonymous

    Do you mean subprime loans packaged into securities? That worked really well for Bank of America and Chase last time :)

    Which is, of course, why this money is no longer available anywhere, and why New Haven needs a First Community Bank.