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2019 Community Banking in the 21st Century
Research and Policy Conference
Federal Reserve Bank of St. Louis
St. Louis, MO
October 2, 2019

Patrick T. Harker
President and Chief Executive Officer
Federal Reserve Bank of Philadelphia

The views expressed today are my own and not necessarily those of the Federal Reserve System
or the Federal Open Market Committee (FOMC).

2019 Community Banking in the 21st Century Research and Policy Conference
Federal Reserve Bank of St. Louis
St. Louis, MO
October 2, 2019
Patrick T. Harker
President and Chief Executive Officer
Federal Reserve Bank of Philadelphia

Good morning and thank you. It’s great to be here, and to share space on an agenda with so
many experts and voices of authority on community banking issues, including some of my
Federal Reserve colleagues. The one problem is that when you speak on day two of a
conference like this, you run the risk that your colleagues already made the most important
points, and you’ll just sound repetitive.
And while we hopefully won’t sound exactly the same, I’m sure we’re all touching on at least
some of the same themes. Because if there’s one thing that I’ve found unanimous agreement
on, it’s the importance of community banks.
Since I’m mentioning the views of my Fed colleagues, now is probably a good time to interject
the standard Fed disclaimer that the views I express today are mine alone and do not
necessarily reflect those of anyone else in the Federal Reserve System. Which is something else
you’ve probably already heard …
As I said, if there is one overarching message to both this conference and our work within the
Federal Reserve, it is the critical importance of community banks. The Philadelphia Fed is largely
a community bank supervisor, so we have a front-row seat to the effects of community banking
throughout our District, and the way it’s embedded in the DNA of our local economies.
We were particularly proud to note that the winning team in the CSBS’s case study contest was
won by a Pennsylvania school —congratulations again to Juniata College — and, in fact, almost
one-third of the teams hailed from Pennsylvania.

The Philadelphia Fed has the smallest geographic District in the System, which I actually see as a
strategic advantage. Within those borders, we have areas that reflect the makeup of the
country as a whole: urban, rural, suburban, postindustrial. So we get insight on a diverse set of
economic profiles. Our size also makes it easier to spend time out in the District, talking to
business and community leaders to get a better take on what they’re seeing day to day.
Something I’ve seen again and again is that the places that are doing well are the places where
there’s a strong community banking presence. In fact, I’d say that, particularly for smaller cities
and towns, community banks are essential to their economic success.
But community banks don’t just have local or regional impact; the insight we get from our
contacts gives context to a remarkably complex national economy. And that factors into my
own views on monetary policy when we’re considering what steps to take for the country as a
I often note that the U.S. economy — the biggest, and arguably most complex, in the world — is
fundamentally just a collection of myriad microeconomies. It’s communities and localities,
neighborhoods and families, and businesses of all sizes. As both businesses and as the
touchstones of those individual economies, community banks play a key role in their success.
For that reason, it’s important that regulators recognize — and help mitigate — the challenges
you face. Because there are several issues on the horizon, including technological change,
demographic pressures, and regulatory burden.
Again, I know I’m repeating the messages you’ve already heard from my colleagues and
contemporaries. But given the importance of community banks to the economy and the
financial system, they’re worth repeating.
Technological Change
I’m being followed on the agenda by a panel on technology’s impact on banking, and that’s
been a central discussion across industries for some time. Cybersecurity, of course, has been a
concern for banks of all sizes, but the pressure on smaller institutions can intensify when they
can’t attain the same economies of scale as the larger ones.

Then there are advances in fintech and changes to businesses of all sorts with the continued
march of overall technological disruption.
We at the Philadelphia Fed have a particular focus on technological advancement — how
machine learning and AI affect the workforce and business decisions; how it’s impacting choices
people make about education and training; and how, frankly, it is changing the entire economic
landscape. And community banks are certainly not immune.
But I think there are two important things to remember for this sector in particular.
First, that change isn’t new; it’s been a constant feature of the industry for decades. It just looks
different now. Second, I think those advancements in general amplify the unique importance of
community banks, and, in fact, create opportunities.
Taking those in turn, technological change itself is not new — many of you have been in the
industry for a long time and have seen that firsthand. Fintech absolutely presents a
fundamental change in the way we bank — but so did securitization, credit scoring, and prepaid
cards. So did ATMs. It’s true that they all look pretty quaint when you compare them to today’s
technology — just like a Walkman looks virtually antique compared to a streaming app on your
phone. But both the Walkman and the ATM were revolutionary at the time.
Banking has seen constant change and churn for the past half century. The difference is that
today’s technology makes the delivery system more advanced than ever before, and it
turbocharges the pace of change. Peer-to-peer lending, for instance, has been going on since
humanity first established a barter system; it’s just being delivered via a different platform. In
my day, it took the form of Frankie borrowing $20 from Jimmy at the local bar. I suppose one
big difference is that Jimmy knew where Frankie lived, so default rates were significantly lower
in the low-tech version.
Overall, however, with fintech, it’s the platform that’s new, rather than the product or service.
That, of course, presents a business opportunity. It’s likely that partnerships between
community banks and fintechs are going to increase, because the fundamentals of the banking
system aren’t going to change. Whatever mode or method technology provides to deliver those

services, they still need a trusted broker of money. And while bigger institutions may be better
positioned to take on the risk of a fintech partnership, the fundamental advantage of
community banks is the high level of trust their customers have in them. While community
banks will obviously have to do their due diligence in forming partnerships, I’d argue that their
deep base of trust is a valuable, competitive asset from the fintech perspective.
The second technology-based issue is the advances in AI and machine learning, which actually
makes the case that the skills and expertise particular to community banking are more
important now than ever before. Technology is only as smart as the data we input, and,
particularly in the case of functions like algorithmic lending, the advantage of community
banking is even more clear cut.
Community banks know their customers. There’s a local understanding that can’t be
programmed into a one-size-fits-all approach to lending. You heard yesterday from the Bank of
Bird-in-Hand’s CEO Lori Maley. They’re actually an example I often use, because it’s a perfect
case study in local understanding. On paper, the communities they serve wouldn’t look
creditworthy to most banks. But Bird-in-Hand knows that when something happens, the
community comes together to fix it. When a barn burns down, the community comes together
to build a new one. If someone’s in danger of missing a scheduled payment, the community
pools their resources to make it. That knowledge and understanding of who your customers are
is an advantage that just can’t be replicated by an algorithm.
My daughter and son-in-law encountered the same thing when they tried to buy insurance for
their first house. Philadelphia, like most places, has some linguistic quirks, like the extra “r” in
the word water — or “werder.” We also have row houses, while most of the East Coast has
townhouses or brownstones. In conversation, it’s not a big deal. In real estate dealings, it’s a
very different story. My daughter’s first broker didn’t have row houses listed in the database,
and they couldn’t just reclassify the property because the roof didn’t fit the narrow description
of the alternatives. After a lot of time spent in a “Who’s on First”-type back and forth, they
walked down the street to a local agent who got the insurance approved that day.


That’s just one example of how a molehill can turn into a mountain for customers. And the
flexibility community banks have to meet local needs creates a loyal base.
So it’s not just that technology highlights the competitive advantage of community banks’ local
knowledge; I honestly think it creates an opportunity as that specialist insight becomes more
and more clear in comparison.
Demographic and Other Changes in Community Banking
So community banks have expert local knowledge, they know their customers, and they reflect
the needs of the communities they serve. But the demographics of communities across the
country are changing, as is the community banking landscape. Since 2009, the number of
community banks has declined by about one-third. Nationwide, bank failures have accounted
for about a fifth of the reduction, while the rest are due to M&As. In the Philadelphia Fed’s
District, the reduction in community banks has been slightly higher than the national average
over that period — 38 percent for the Third District versus 34 percent nationwide. But the size
of banks in the Philadelphia Fed’s District has increased significantly more than the national
average, with Third District banks’ median assets increasing by 89 percent, versus the national
rate of 57 percent. Those data point to rates of M&A activity that appear to have strengthened
the resulting institutions and community banking overall. Over the same decade, we’ve seen a
concurrent change in the asset mix with a significant rise in multifamily loans — 91 percent
overall — though they still represent just 4 percent of total assets. And while securities have
declined slightly, they remain the largest portion of the asset mix at 17 percent.
So while there are fewer community banks in the District, they’ve grown larger and more
Demographic changes, such as aging and increasingly less-mobile populations, have already
affected community banking as a whole, and that will likely continue, meaning they may have
to rethink their business models. That might mean more personal lending and greater small
business lending. It could mean more commercial real estate lending or more projects with
greater potential risk, but also greater possibilities for reward. From the regulatory and

supervisory perspective, it will be important to watch for those changes and work to take them
into account.
Regulatory Burden
We do a lot of work on economic mobility in our District, and community banks have been
central to our impact. Given how much is tied up in their success, I think it’s incumbent on us as
regulators to be supportive of community banks’ continued viability.
We are well aware of the regulatory burdens that community banks have faced. I think that
humanity has a propensity to overcorrect in response to crisis, so the pendulum sometimes
swings a bit too far in the other direction. In the aftermath of the financial crisis, it made sense
to put every mechanism in place to prevent a reoccurrence of the worst economic disaster
since the Great Depression. But there’s virtually universal agreement that community banks
wound up on the wrong end of that pendulum swing. We’ve made progress in correcting that,
including easing up on timelines and reporting requirements, but there’s still more to do.
For me, a crucial element is how we work with banks. It’s important that we’re able to fix errors
by working together, rather than at odds; to distinguish mistakes from bad faith. It’s also critical
that we continue to provide research and support. At the Philadelphia Fed, we’ve been looking
at succession planning in particular, and our LINC program helps build relationships between
community banks and community development organizations.
Because community banks play such a vital role in the vibrancy of local communities, it’s
important that their business strategies take that impact into account, particularly for groups
on the margins. And from the regulatory side, it’s important to make space for efforts that
might involve more risk, but also have the potential for greater reward.
We have a bank in our District, ESSA Bank & Trust, that partnered with an existing program to
ease ex-offenders’ transition back into the community. They’ve set aside $250,000 to make
loans of up to $15,000 per person for housing, transportation, or education and training. The
participants have to take financial literacy courses and provide a plan for the loan: One needed


a car to get to work, one trained to become a commercial truck driver, one started a small
So far, things are going well. But I would argue that even if they did lose money, there’s more to
consider. ESSA is investing in their community, in an important way that’s often overlooked and
generally underfunded. It has the potential for a significant return on investment for the
community, and that creates a new customer base for the bank. I think there’s room for
flexibility and a little more risk appetite to encourage innovation.
To sum up: Community banks are important. They play vital roles in communities across the
country, and they make the difference between a local economy that merely survives and one
that thrives. They offer insight to policymakers and a chance at success to their customers.
There are challenges, as there are in any industry. We’ve moved the needle on some, while
others still have a ways to go. It’s important that we work together as we address them,
because the outcomes will have effects that resonate beyond a single sector. Because
ultimately, community banking matters to all of us.