Community banks need compliance relief from Washington

Community Banks Desperately Require Regulatory Relief

Despite frequently lauding their vital contributions to local economies and their commitment to relationship-based credit, Washington often seems to sideline community banks. The regulatory system has been pushing the smallest institutions towards the brink of extinction, a trend backed by a decade of empirical evidence. The data clearly indicates that the burden of compliance costs falls disproportionately on those least equipped to bear them. Find more about this here.

Compliance Costs: The Unsustainable Burden on Community Banks

Data drawn from the Conference of State Bank Supervisors’ Annual Survey of Community Banks from 2015 through 2024 highlights this disparity. It reveals that smaller community banks spend approximately double the proportion of their operating costs on regulatory compliance than their larger counterparts.

The smallest community banks spent between 11% and 15.5% of their payroll on compliance activities over the decade, while the largest quartile of banks spent only 6% to 10%. This imbalance was also evident in data-processing costs, accounting and auditing expenses, and even consulting. In every expense category, compliance acts like a fixed cost, penalizing smallness.

Unintended Consequences: Consolidation and Loss of Diversity

The unintended consequence of this regulatory structure is an accelerating consolidation in the banking sector. With the steady loss of community banks and the scarcity of new bank formation, rural towns and small communities are losing critical sources of credit and financial access. This negatively impacts economic diversity, stifles entrepreneurship, and concentrates risk in fewer, larger institutions.

Many policymakers argue that relaxing compliance would weaken consumer protection or financial stability. But the plea here is not for deregulation. Instead, the call is for proportional regulation. The regulatory complexity designed for larger firms should not be imposed wholesale on smaller community lenders.

Proposed Solutions: Proportional Regulation and Technological Adoption

Supervisors should be encouraged to streamline documentation for well-capitalized, low-risk banks, reduce unnecessary reporting, provide clearer expectations, and support technology adoption that lowers compliance costs.

These steps would preserve safeguards while removing a structural penalty on relationship banking. Financial stability relies on diversity, not homogeneity. Yet, the existing regulatory framework disproportionately strengthens the largest institutions while squeezing the smallest.

Communities lose choices and families lose opportunities when small banks absorb compliance costs and disappear. The damage extends beyond statistics – it affects the family farm suddenly without a lender, the prospective first-time homebuyer unable to get a mortgage and the local business that can’t secure funding.

For a robust banking system, America needs a diverse mix of local, regional, nationwide and global institutions, each serving distinct purposes and communities. If policymakers indeed value community banks, they must align their regulatory approach with their rhetoric. It’s high time that small banks are not forced to scale a regulatory mountain built for giants. The evidence is on the table. The question now is whether Washington will act before community banks are regulated out of existence. This is not a test of economic understanding but a demonstration of political will.

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