Bailout a Double-Edged Sword for Community Banks

(MoneyWatch)  Community banks and credit unions are finding themselves in a strange situation these days. They stand to benefit greatly from the financial meltdown of their much bigger brothers as customers look for safer harbors for their money. Yet they don't necessarily want to participate in the $250 billion federal infusion of funds and are miffed that the bailout exists at all.

Across the country, community banks and credit unions are finding themselves suddenly popular since they can distance themselves from the woes of the likes of Wachovia and Washington Mutual. "The big banks are going to be very distracted," banking consultant David Danielson told the New York Daily News. "The small banks with clean loan portfolios and adequate capital are going to take advantage of this."

Some customers have taken dramatic steps to show their lack of confidence in large banks. On Sept. 17, for instance, a distraught customer in Manassas, Va., was so worried about troubled Wachovia that she demanded her savings in cash. For the next eight days, she removed $19,000 in stacks of $50 and $100 bills and put it in Burke & Herbert, a small, family-owned bank in Alexandria.

Her money would have been safe at Wachovia because the sum was well within federal insurance limits, but the woman told The Washington Post that she just felt safer with her funds at a smaller bank.

Another banking possibility getting a boost in popularity is the credit union. Not everyone is eligible for membership in the country's 8,000 credit unions because many are related to workplaces. Nor do credit unions offer the same level of service as retail banks, but their deposits are federally insured and they often offer better interest rates on deposits and more personal service.

Despite such sudden market opportunities, many community bank execuitves are angry over Treasury Secretary Henry Paulson's plan of investing $250 billion into financial firms.

"We don't need a bailout, and if other banks had run their banks like we ran our bank, they wouldn't have needed a bailout, either," Brady Adams, chief executive at Evergreen Federal Bank in Grants Pass, Ore., said.
The American Bankers Association and the Independent Community Bankers of America both believe that few community banks will participate in the bailout, which is designed to get banks lending again through massive infusions of federal money.

If the federal government invests in banks, the Treasury Department gets preferred shares in that bank that pay five percent for up to five years. After that period, if the banks haven't paid, the interest rate shoots up to nine percent.

Understandably, community banks that have managed themselves responsibly and frugally don't find those terms terribly attractive, particularly if they don't need public money in the first place. Who can blame them?