As a result of the Supreme Court’s recent decision in Obergefell v. Hodge, in which the Court legalized marriage for same-sex couples, the autonomy of the states and the interplay between federal law and state law are being discussed incessantly across the nation.
Being that I incurably view the world through a community banking lens, I thought I would take the opportunity to discuss the banking industry’s own version of federalism—the dual banking system.
A longstanding history
When banking first became a part of our nation, the states held all the cards. It was not until the creation of the Office of the Comptroller of the Currency by the 1863 National Currency Act that banks could choose between a federal or state charter.
Initially, significant differences between state law and federal law left banks with an actual choice. However, since the passage of the Banking Act of 1933—the Act that required banks to obtain federal deposit insurance—federal oversight became a reality for all banks. Since that time, laws and regulations applicable to state banks versus national banks have largely homogenized things, leaving the Comptroller’s Office and the state banking departments to vie for banks’ favor.
Admittedly, some differences in regulation remain within the dual system, but these differences are largely theoretical. Most of them come down to which regulator is more “user-friendly” for the specific bank.
The reality is that federal law prevents states from significantly restricting activities of national banks within those states, and state laws typically grant the home state banks all of the powers and privileges available to national banks, through the “wild card” statutes.
Yet the differences make a difference
So the differences really are nominal when you simply look at the black-and-white text of the laws and regulations. That said, the practical banking experience of an OCC-regulated bank versus a state-regulated bank can be night and day. So the dual banking system offers benefits to all.
For larger, multi-regional behemoths, as well as some larger regional banks, a federal charter makes the most sense. (This is, of course, a rule of thumb, as there are always exceptions.)
It would not make much sense, for example, for Bank of America to be a state-chartered organization that had to comply to the fullest extent with various states’ applicable branching and compliance laws in order to grow.
Additionally, can you imagine a state regulator in Tennessee trying to assess the risks of the bank’s operations in Michigan?
For these geographically broad-sweeping banks, a federal charter and OCC regulation provides consistency. These banks have very little “hometown feel,” so the benefit of a state banking regulator that understands the ins and outs of specific communities is not all that necessary.
For most small community banks, however, a state charter makes overwhelming sense. In practice, state regulators are simply better at regulating small banks operating within one state or primarily one state with a couple of border towns thrown in the mix.
Why is the state option better for such banks? In many states, the state banking commissioner or superintendent (or whatever the appropriate title is) is a banker or former banker. Executives of banks operating in a specific state like to drive to the state capitol and sit down with the bank commissioner face-to-face and discuss pertinent issues.
This type of close contact is exactly what many community bankers want in a regulator. It is highly unlikely that those same community bankers would pack up and drive to Washington, D.C. to try to speak with the Comptroller.
That is not a knock on the OCC, it is simply a mismatch within the system.
Dual banking still gives benefits
I, for one, remain a big advocate of the dual banking system.
We can argue all day long about whether the “too big to fail” banks are necessary or should be downsized. But the reality is that there are many larger regional banks that are beneficial to the communities they serve that simply need regulations that are applied evenhandedly across the states and a regulator with a larger scope. Local community banks, on the other hand, need the local expertise and community knowledge of the state banking regulators. In those situations, federal oversight by FDIC or the Federal Reserve should truly be “oversight.”
As I mentioned earlier, there are always exceptions to these general rules of thumb. Having been in this industry for a few decades now, I have seen a lot. The good news is a dual banking system allows banks across the board to find their fit, even if there is some overlap along the way.