Forecasting Interest Rates and the Future of Small Banks

YOUNGSTOWN, Ohio – Will interest rates be cut by the central bank this year? Loretta Mester, Cleveland Fed president and CEO, did not rule it out if economic factors continue to evolve positively.

Mester spoke Tuesday at the 2024 Ohio Bankers League Economic Summit in Columbus, addressing the possibility of cutting interest rates and the future of small banks, as well as taking the opportunity to thank bankers in the room for working with the Fed during the trying road since the Covid-19 pandemic.

Mester, who sits on the Federal Open Market Committee that makes that interest rate decision, indicated she is not in favor of lowering interest rates too soon.

“The current strength in labor market conditions and the strong spending data give us the opportunity to keep the nominal funds rate at its current level while we gather more evidence that inflation truly is on a sustainable and timely path back to 2%,” Mester said.

The FOMC works to keep strong labor markets and inflation at 2%. Although inflation now has fallen to below 3%, Messer said she believes it would be a mistake to lower the rates too soon.

Mester, who steps down later this year, talked about how important it has been for her to work not only with the great staff of the Cleveland Fed, but with others in the banking industry who provide on-the-ground, real-time information about what they are seeing.

Mester said she is a big advocate for a strong and diverse banking system with a lot of voices, views and backgrounds. But when it comes to smaller community banks, she thinks they may have to get bigger.

“Community banks really serve their communities. They do relationship lending, which is crucially important. They actually were instrumental in making sure that households, businesses and communities overall got through the pandemic, and I think that will continue to happen.”

However, Mester says she sees some challenges for smaller, community banks, including cybersecurity issues and technology costs, which cut into the bottom line and may force some community banks to continue to consolidate with others in the future. With higher costs, she believes the size of the smallest community banks must be bigger than 10 years ago, but she does not see a future of only large banks either.

“The vital role that community banks play in the economy, I don’t think can be understated,” Mester said. “It is very important that we have community banks serving underserved communities, underserved people, underserved households. And I think that is the future, right, to continue to have a strong industry.”

Mester also addressed the increase in regulation and the importance of bank funding source diversification to keep banks afloat in the future. She does not think the regulations are too restrictive.

“I don’t think the perspective is to try to restrict banks. I think, really, the focus is on good management, being attuned to risk, making sure that you have robust systems and you are resilient, because no one can predict what shocks are going to hit. What we can do is make sure we are prepared so we can get through those shocks.”

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