An official from the Kansas City Federal Reserve Bank told a group of area bankers Wednesday that the Fed thinks the industry is in much better shape, but its examiners are concerned about long-term bank earnings.
James Wilkinson, economist and assistant vice president at the Kansas City Fed, was the keynote speaker at the Risk Management Association Kansas chapter’s luncheon Wednesday at the Petroleum Club in downtown Wichita.
He said that while earnings and profitability are up for banks in Kansas and in the Fed’s 10th District, “the increase in earnings is as much about a decrease in provisions as it is an increase in revenue.”
The provisions he was speaking of were loan loss provisions, which is money banks set aside for loans they think have the potential to go bad. When banks move the money out of loan loss provisions, it goes back to their earnings.
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But the concern is not as much about a temporary shift of funds from one part of the balance sheet to another as it is the longer-term implications of a narrowing net interest margin for banks, which is where they make money from their loans. Wilkinson told the bankers that there is a “sort of long-term, secular decline of net interest margin.”
“With the low (interest) rate environment we’re in, we don’t see that changing anytime soon,” he said.
What will be key to improving bank earnings in the face of a sustained, low-rate environment is “a recovering economy and a growing loan portfolio.”
And “loans are starting to increase,” he said. They are increasing the most in the commercial and industrial category, which generally includes loans that businesses use to finance expansion of buildings and to add or replace equipment.
Wilkinson, who leads the Fed’s surveillance and risk assessment department, said bank examiners have seen a number of issues during examinations that have raised concerns. Those issues include a relaxation of underwriting standards, additional risk in banks’ investment portfolios and banks cutting costs by eliminating staff positions in areas such as risk management and regulatory compliance.
“By all means, keep costs under control, but try to think about the implications of it,” he said.