Main Street Banks Struggle as Fed Maintains High Interest Rates

Main Street banks are facing significant challenges as the Federal Reserve maintains its high interest rate policy, which is impacting their lending and profitability. Regional banks have reported steep profit declines in the first quarter of 2024, with many predicting further pain ahead.

The higher-for-longer interest rates have put pressure on the traditional banking model of taking in deposits and making loans. Banks now have to pay more on deposits, making their business less profitable. "The pressure to pay higher rates on deposits has made their plain-vanilla business model less profitable," according to industry analysts.

CVB Financial Corp, the parent company of Citizens Business Bank, reported a decline in net interest income and net interest margin for the first quarter compared to the previous quarter and the same period last year. The decrease in net interest income was primarily due to a rise in interest expense associated with time deposits and borrowings, as well as a decline in average earning assets.

The uneven toll on regional banks highlights the difficulties they encounter in the current economic environment. Profits have fallen by more than a fifth to a third or more at major regional banks. However, some banks have seen a rebound in fee-based businesses like wealth management and investment banking.

The Federal Reserve's signal that it may keep rates high for longer is a particular problem for banks without much diversity and scale. Banks are also facing scrutiny from regulators, customers, and investors after last year's high-profile failures, leading many to be in "pullback mode" in anticipation of potentially stricter capital rules.

Commercial real estate losses have also been a concern, with regulators, bankers, and analysts expecting these issues to play out over several quarters without broader risks to the financial system.

Why this matters: The struggles of Main Street banks have broader implications for the economy, as these institutions play a vital role in lending to small businesses and local communities. The impact of high interest rates on their profitability could lead to tighter credit conditions and slower economic growth.

Despite the challenges, some banks are taking steps to adapt. First Northwest Bancorp, a bank based in Port Angeles, Washington, reported a return to profitability in Q1 2024 following a balance sheet restructuring in Q4 2023. The bank has focused on reducing its reliance on term deposits, managing operating expenses, and improving its small business lending program and digital banking platform. As the Federal Reserve maintains its high interest rate policy, Main Street banks will need to continue to navigate the difficult operating environment and find ways to remain profitable while serving their communities.

Key Takeaways

• Main Street banks face challenges due to high Fed interest rates.
• Regional banks report steep profit declines in Q1 2024, more pain ahead.
• Higher deposit costs make traditional banking model less profitable.
• Regulators, customers scrutinize banks after failures, leading to pullback.
• Struggles of Main Street banks could lead to tighter credit, slower growth.