The Head of the Fed

President Trump has signaled that he is likely to replace Janet Yellen as Chair of the Federal Reserve Board of Governors. Beyond the fact that Yellen has been a champion for CDFIs, community development generally, and the Community Reinvestment Act (CRA), the President’s choice will deeply affect CDFIs and CDFI strategy.

The two people the President reportedly is most interested in–current Fed Governor Jerome Powell and Stanford University Professor John Taylor (no, not the John Taylor who runs the National Community Reinvestment Coalition)–are substantially more conservative than Yellen on both regulatory and monetary policy.

Powell seems to support CRA and to like CDFIs, from what I have heard from him. He will not be the active advocate that Yellen and, to an extent, former Chairman Ben Bernanke are. On the other hand, he is unlikely to be as disinterested as Chairman Alan Greenspan was during his tenure.

Powell is the closest thing to a “stay the course” nominee we are likely to see. (You can always hope that Trump sticks with Yellen, of course, but don’t bet the farm.)

Taylor, on the other hand, is a leading, vocal critic of CRA, does not seem to favor community development efforts, and is disinterested in CDFIs, as far as I can tell.

Taylor is the disruptive choice and, therefore, de facto the more likely Trump choice.

Both Powell and Taylor would be steps backward for CDFIs and CRA advocates, with a difference in the size of the steps, the number of steps, and the speed with which they would walk backward.

That is probably not the most important difference for CDFIs and community developers, however.

The primary authority of the Chair of the Federal Reserve Board of Governors is interest rates–the big hammer of monetary policy. Taylor is outspoken about the need to raise the Fed rate aggressively, making it more expensive for banks to borrow. Higher rates tend to discourage consumer borrowing, as well.

CDFIs to date have been insulated from interest rate increases. They have argued successfully for decades with bankers, other investors, and bank regulators that lower-cost funds are essential to their business model.

For the first time ever, CDFIs may be facing pricing challenges that will require aggressive and nimble balance sheet strategies. They have met many big challenges before, but this is a new one.

There is already upward pressure on loan pricing to CDFIs, and I strongly suspect that banks will be much more likely to pass along costs in a rising interest rate. When CDFIs were smaller, they got less attention from senior bank management. Not anymore: the flip side of bank CEOs talking up CDFIs is the commensurate understanding that CDFIs are paying discounted rates and the expectation that they should pay more. Most banks have pushed CDFIs to do so since 2012.

In a rising interest rate world with regulatory disinterest bordering on neglect among bank regulatory leaders–particularly the Fed Chief–CRA is not going to be the lever CDFIs need. Borrowing will likely get more expensive, squeezing margins, putting some CDFI borrowers at risk, and slowing CDFI lending generally. As long as rates remain as low as they have been, the impact on CDFIs may lag.

For the first time ever, CDFIs may be facing pricing challenges that will require aggressive and nimble balance sheet strategies. They have met many big challenges before, but this is a new one.

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