BLOG VIEW: Small Banks, Large Banks And The Mortgage Banking Problem

To call the banks the core of the U.S. banking system might seem slightly redundant. But for a financial healing to take place – and, more specifically, for commercial mortgages to be originated in any decent number once again – the specific maladies of banks large and small must be remedied.

After all, in the fourth quarter of 2008, commercial/multifamily loans for commercial bank portfolios fell by a full 86%, compared to the same quarter in 2007, according to data from the Mortgage Bankers Association. That drop was the second largest among the investor types included in the report – behind only commercial mortgage-backed securities conduits.

Why the decline? Popular industry belief right now seems to indicate that banks have withdrawn from commercial mortgage activity chiefly due to cautious avoidance of a frightening sector, or perhaps because of damage from losses on subprime residential loans.

But according to George Blackburne III, president of Blackburne & Browne Mortgage Co. Inc., the issue – particularly for small or mid-sized banks, may actually be more a matter of inability than unwillingness right now.

‘In plain English, they simply don't have the money to make many new commercial loans,’ he states.

‘Banks have always preferred to make short-term loans, like construction loans or bridge loans,’ Blackburne explained in a recent blog post at (a portal providing data on commercial lenders). ‘This way, they constantly have a few outstanding loans paying off every month, giving them the liquidity to make new short-term loans.

‘Unfortunately, ever since the credit crisis began, [banks'] outstanding loans have not been paying off,’ he continues. ‘Borrowers with construction loans and bridge loans have been unable to refinance their loans with longer-term lenders. The banks have been forced to extend these short-term loans into mini-perms.’

Further draining liquidity, many businesses with existing lines of credit through these banks have fallen on hard times and begun drawing down on their credit lines in earnest. Finally, with the prime rate at 3.35% and the 11th District Cost of Funds Index – which indicates a bank's usual cost of funds – at 2.75%, small banks in particular have felt the crunch.

Consequently, Blackburne says, many small banks are currently trying to survive on a gross interest margin of around 50 basis points, as raising interest rates in order to compete for more deposits is no longer a viable option.

The large banks, meanwhile, are contending with proportionally larger problems. With the biggest of the banking behemoths continuing to grow (in this one respect, at least) by acquiring the remains of their more troubled counterparts, the four biggest (Bank of America, Citigroup, JPMorgan Chase and Wells Fargo) now face swirling rumors of nationalization, unless continued doses of federal rescue money eventually do the trick.

If nothing else, the continued talk of potential nationalization has already provoked dialogue on the true meaning of nationalization, and the history of this much-feared action within the U.S.' own banking history. In practice, nationalization of a bank in the U.S. could include complete day-to-day governmental operation – with taxpayer liability – or simply government ownership of 51% of a firm's common stock, notes Kathleen Pender in a recent San Francisco Chronicle article called ‘What Really Happens When Banks Are Nationalized.’

No matter the form, inherent dangers would include stockholder and creditor losses, potential taxpayer losses and political pressures to take the companies in certain directions. Of course, this situation could also lead to a fresh version of the sort of public-private competitive imbalance problem that plagued Fannie Mae and Freddie Mac, banking analyst Bert Ely told the Chronicle.

Are those pitfalls more undesirable than the consequences of the government's current efforts at helping the big banks? Is there another, better alternative?

‘The fear is that Washington will continue to prop up Citi and other wounded banks in their current form,’ Shawn Tully wrote recently in Fortune magazine. ‘The best course would be to force battered banks to sell enough assets to store their financial health – if that's possible – or to dissolve.

‘That would demonstrate that Washington is serious about reviving the industry – the one that is absolutely essential to the nation's economic recovery,’ Tully adds.

Indeed, restoring functionality to banks of all sizes remains the pressing priority. Within their own space, what should be done to enable small and midsize banks to re-enter commercial mortgage lending? What about the large banking institutions? Please send your ideas to

– Jessica Lillian, Commercial Mortgage Insight


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