US Bank Failures Recur

Don’t look now, but banks are failing again in America. The past several years have been relatively placid for the banking industry. After the wholesale failure of the system during the financial crisis, banks gradually recovered their footing.

Aided by essentially free money from the Federal Reserve, bailouts, and widespread federal and central bank guarantees, banks once again became rock-solid American institutions. As the expansion rolled on, companies and individuals did a much better job keeping up with their financial obligations. The result: record profits for banks and an extremely low rate of bank failure, Business Insider reported.

In 2016, banks covered by the Federal Deposit Insurance Corporation reported $171.3 billion in profits. Only five banks failed last year—“the smallest number of bank failures in a year since three FDIC-insured institutions failed in 2007,” the FDIC noted. What’s more, the banks that failed were truly marginal, counting just 18 branches and a mere $277 million in assets between them. In 2015, seven banks in the continental US failed; they had combined assets of $826 million.

But something worrisome is happening in 2017. So far this year, five banks have already failed—as many as in all of 2016. More important, the banks that are failing are significantly larger. Last week, Guaranty Bank of Milwaukee ($1 billion in assets and 118 branches) bit the dust. The week before, it was First NBC Bank of New Orleans ($4.7 billion in assets and 29 branches).

The US economy is, by most accounts, rolling along. The current expansion is now in its 95th month. The economy has added payroll jobs for a record 79 months, and the unemployment rate is at 4.4%.

When expansions get longer, a few things happen. Banks, consumers, and companies all get more confident about their ability to handle debt, which leads to more credit being extended.

At the same time, lenders seeking growth start to become more aggressive about putting money in the hands of people. Once all the people who can easily afford to purchase cars have taken car loans or mortgages, banks must seek out more marginal borrowers in order to keep boosting their profits. And once credit gets distributed a little too widely, borrowers begin to default—even if nothing else changes in the economy or the climate for credit.

Yellen Raising Interest Rates

But something is changing. For the first time in a decade, the Federal Reserve is raising interest rates—thus increasing the cost of borrowing and servicing debt. Janet Yellen has since raised rates in 0.25% increments twice.

When interest rates were low and generally declining, people could refinance their way out of trouble. But when interest rates go up, it becomes harder to avoid trouble. And so as rates rise this deep in an economic cycle, it’s not surprising that the rate of financial failures is increasing.

After hitting the lowest level since 2006 in the third quarter of 2016, mortgage delinquency rates rose in the fourth quarter to 4.8%.

In addition, it’s worth recalling that this recovery has been remarkably uneven. Guaranty Bank, which failed in early May, lends primarily to lower- and middle-income people in urban areas, a demographic slice that hasn’t fully participated in the expansion. New Orleans’ First NBC Bank, the biggest failure so far this year, is a relatively new bank (founded 2006) that lent heavily to the oil and gas industry, which has been traumatized by persistently low prices.

The business cycle continues to age, Yellen has telegraphed her intention to jack up rates further, and there are still plenty of people and companies struggling in this economy. What’s more, a sudden increase in financial failures tends to push banks and other lenders to pull back credit and tighten lending terms—which means it will be harder for people to refinance their way out of trouble or ask for leniency. There’s a lot more failure where these failures came from.