Q: WHAT IS A PUBLIC BANK?
A: A public bank is a bank operated in the public interest, owned by the people through their representative governments. Public banks can exist at all levels, from local to state to national or even international. Any governmental body which can meet local banking requirements may, theoretically, create such a financial institution. Public banks can fund public projects at reduced cost, generate profits for the local government, and create low-cost credit for the local community.
A public bank is a chartered bank, owned by a government unit—a state, county, city, territory, tribe, or nation, serving as a depository for public funds, and mandated to serve a public mission reflecting the values and needs of the public it represents. In existing and proposed US public bank models, skilled bankers, not politicians, make bank decisions and provide accountability and transparency for how public funds are used.
Privately-owned banks, by contrast, are mandated to put short-term profits for their shareholders as their highest priority.
Q: WHAT PRECEDENT IS THERE FOR PUBLIC BANKING IN THE US?
A: Public banking was an ideal of the Founding Fathers, first tested in the colony of Pennsylvania. It had several precedents, successful and unsuccessful, in the 19thcentury.
At the state level, the Bank of North Dakota has existed for a century and provides an excellent example of the power of public banking.
Since 2010, nearly half of U.S. states have introduced legislation to create public banks. This surge in legislation shows an attempt to regain control over regional economies after Wall Street destroyed much of the U.S. economy and was bailed out at the public’s expense.
Q: WHAT IS THE DIFFERENCE BETWEEN A PUBLIC BANK AND OTHER BANKS?
A: Public banking is distinguished from private banking in that its mandate begins with the public’s interest. Privately-owned banks, by contrast, have shareholders who generally seek short-term profits as their highest priority. Public banks are able to reduce taxes within their jurisdictions, because their profits are returned to the general fund of the public entity. The costs of public projects undertaken by governmental bodies are also greatly reduced, because public banks do not need to charge interest to themselves. Eliminating interest has been shown to reduce the cost of such projects, on average, by 50%.
Q: AREN’T PUBLIC BANKS A FORM OF SOCIALISM?
A: The Constitution of the United States specifies a number of services that the government is required to provide; for example, a military, a postal service, etc. These services are not based on economic philosophy (capitalism, socialism, etc.); rather, they are sovereign requirements. The Constitution vests Congress with the power “To coin Money, regulate the Value thereof…” This, too, is a sovereign requirement, and should not be characterized as an economic philosophy. It’s also worth noting that the states are forbidden to issue “bills of credit” (currency), which implies only Congress may do that.
In the 18th Century, when the Constitution was written, coins were the most prevalent form of money. Today, most money comes from bank credit. Regulating the value of money can only be done today by regulating bank credit, which is properly a public utility. All of our money today is backed only by the full faith and credit of the United States.â€ The credit of the United States is an asset of the people and is properly dispensed and administered through publicly-owned banks using sovereign currency as legal tender.
Q: WHO BENEFITS FROM PUBLIC BANKS?
A: Taxpayers will benefit from both the profits the bank makes and the services the bank provides. Those services depend on the model the state or city chooses to follow, but possibilities include:
- Affordable financing to municipalities for public projects.
- Access to credit lines, loans, and other forms of finance to help local businesses succeed and grow.
- Affordable loans for students to attend college.
- Affordable loans on reasonable mortgage terms for home buyers
Q: WHAT PROBLEMS DO PUBLIC BANKS SOLVE?
A: City and state governments pay billions of dollars to banks and investors in interest on loans issued for public purposes. Fifty percent of the cost of infrastructure, on average, goes to interest. Public banks can make below-market loans to state and local governments, saving them millions or even billions of dollars.
Without that alternative, state and city governments today routinely cut programs that benefit low-income citizens and students to close “budget gaps” that appear on a regular basis, leaving many unmet needs for roads, bridges, public transit, energy, housing, education, water, and telecommunications services. If interest payments on infrastructure, housing, economic development, and student loans were going to the public instead of private shareholders, we could lower taxes and create the money to meet basic needs.
Public banks can also reduce the interest paid by consumers and businesses on student loans, home loans and business loans, and they can provide banking services to the un-banked and under-banked.
Q: WON’T GREEDY POLITICIANS USE A PUBLIC BANK TO FUND PET PROJECTS AND LINE THEIR POCKETS?
A: Recent studies have shown that public banks are actually less corrupt – and more profitable – than private banks. They can be structured in their charter to ensure that they are run free of influence from legislators and other high public offices.
Q: WILL A PUBLIC BANK COMPETE WITH LOCAL BANKS?
A: A public bank on the Bank of North Dakota model would not compete with local banks. It would accept deposits only or principally from state and municipal governments—not individuals, organizations or businesses.
Public banks following the lead of the Bank of North Dakota would partner with local and regional banks, allowing them to make loans and take deposits that normally would be out of reach because of their small size. North Dakota (home of the only publicly-owned bank in the United States) has more banks per capita than any other U.S. state.
Rather than competing with local private banks, public banks thus help create adverse, robust private banking system that truly serves the public.
Q: WHY ARE SOME BANKS OPPOSED TO PUBLIC BANKING?
A: The banks that oppose public banking tend to be large, multinational institutions that provide banking services to city and state governments and invest their funds in out of state projects, such as the Keystone XL pipeline and the tar sands in Canada. Government deposits are a cheap source of liquidity for these banks and help to bolster their credit ratings. For local community banks, on the other hand, the high collateralization requirements for government deposits make them of little use; and partnering with a public bank has many benefits. This is evidenced by the fact that the North Dakota Bankers Association endorses the Bank of North Dakota.
Q: HOW COULD A PUBLIC BANK HELP AN ECONOMICALLY STRUGGLING CITY OR STATE?
A: A public bank can help protect the local economy during larger economic crises by providing the city or state government with money in the form of low- or no-cost credit to inject into the economy to maintain essential services and stimulate production and commerce. The Bank of North Dakota supported North Dakota’s economy in this way during the Great Depression and the Great Recession.
Q: CAN’T CITIES AND STATES JUST DEPOSIT THEIR FUNDS IN A CREDIT UNION? WOULDN’T THAT AMOUNT TO THE SAME THING?
A: Credit unions contribute to the economic strength of the communities they serve by returning their profits to local members rather than to out-of-state investors. But they are too small by law to handle the banking needs of a city or state. A public bank also differs from a credit union in that its profits go to the public—all the residents and taxpayers of a city or state—for public use.
Q: WOULD A PUBLIC BANK REQUIRE A CITY, COUNTY OR STATE TO RAISE NEW FUNDS THROUGH TAXES?
A: No. Nearly all city, county, and state governments have the money required to capitalize a public bank in the form of existing financial assets. If new money is needed, the local government can issue a commercial bond, repayable over time from bank profits.
Q: WHO WILL SET POLICY FOR PUBLIC BANKS? WHO DECIDES WHETHER TO APPROVE LOANS? HOW ARE DECISION MAKERS INSULATED FROM BRIBES AND PRESSURE FROM POLITICIANS AND BUSINESS INTERESTS?
A: The success of the Bank of North Dakota shows that a public bank can and must be run free of influence from legislators and other high offices.
Elected government lawmakers or policy makers determine the policies that govern the activities of a public bank , or in other words, the bank’s mission or “charter.” Policy makers can do this with the help of an informed advisory committee. Day-to-day decisions about credit worthiness and lending, on the other hand, are made by professional bankers. These decisions are governed by the bank’s charter and subject to transparency and administrative review.
In the case of the Bank of North Dakota, a three-member “State Industrial Commission” oversees the bank’s activities. The commission is made up ofthe Governor, the Attorney General and the Commissioner of Agriculture. The Bank of North Dakota also has a seven-member “Advisory Board”appointed by the governor, the members of which must be knowledgeable about banking and finance. The Advisory Board reviews the Bank’sactivities and makes recommendations about the bank’s management, services, policies and procedures to the Industrial Commission.
Public banks have a mandate to be fiscally conservative, balancing their requirement to lend in the public interest with careful considerations of the risks involved in lending. Public banks are more cautious in their lending than Wall Street banks. The major credit rating agency Standard & Poor’s has consistently awards the Bank of North Dakota an “A” rating, indicating the highest possible levels of confidence in the bank’s standards, practices and credit worthiness. According to North Dakota Attorney General Wayne Stenehjem, “The  S&P review of the bank confirmed that it is well-managed and supports the economic needs of North Dakota . . . The report recognized BND for its conservative management strategy.”
Q: WOULDN’T THIS PUT STATE FUNDS IN A SIGNIFICANT AMOUNT OF RISK? AND WOULDN’T POLITICAL INTERESTS END UP FORCING THE STATE BANK TO MAKE BAD LOANS?
A. No. The Bank of North Dakota is staffed by a professional banking staff, not an economic development agency, and a state bank would be run based on prudent financial policies, not high risk practices.
The primary asset of a state bank based on the BND model is participation loans where the loan originator is a private bank. This not only serves the purpose of avoiding competition from a state bank, but it also provides market driven checks and balances against manipulation by political actors.
No loan portfolio is immune to loan failures, and a state bank would inevitably have some loan defaults. The Bank of North Dakota’s allowance for loan loss ratio (allowance for loan loss/total loans) in Q3 2010 was 1.79%, while the average allowance ratio for comparably-sized (small- and medium-sized) private banks in the U.S. over the same period was about 2.03%. As with other banks around the world, a state bank would have a loan loss provision and would follow prudent banking practices. Thus, even if some loans held by a state bank fail, a state bank could not only cover its deposits, but provide a profit to both the bank and the state (beyond the deposit interest) — through state dividend payments. In 2009, the Bank of North Dakota showed a profit of $58 million–including loan defaults. And on average, the Bank of North Dakota has returned over $30 million per year to the state general fund over the past decade. Analysis suggests that this would be the case in other states as well.
Also, a state bank would work hand in hand with state bank regulators to evaluate its loan portfolio, risk exposure and profitability. A state bank would also be required to meet certain safety and soundness criteria in order to access its own liquidity sources to manage liquidity and interest rate risk (e.g., S&P ratings).
Q: DON’T WE ALREADY HAVE ECONOMIC DEVELOPMENT PROGRAMS THAT DO THESE THINGS?
A: A state bank is NOT an economic development program, and does not replace current state ED efforts. There is still a need for economic development programs and individuals to put together deals and work with businesses; a state bank can simply be a source of revenue to fund these programs as well as liquidity to help underwrite those deals. And because a state bank has the power to leverage funds (10 to 1 as a rule of thumb), it can increase the state’s ability to fund economic development, along with helping to support private banks, consumers and businesses across the lending industry.
Q: THE STATE TREASURER ALREADY GETS A GOOD RETURN ON THE INVESTMENT POOLS WE USE, WHY CHANGE THAT?
A: A state bank is NOT a substitute for an investment manager, and we would expect that the treasurer would retain these functions. For example, in North Dakota, BND does not manage the state pension fund investments.
Q: HOW CAN A STATE BANK ACT AS THE STATE’S FISCAL AGENT (CONCENTRATION BANK); WOULDN’T IT BE COST PROHIBITIVE TO SET UP THAT OPERATION?
A: There is nothing to indicate that a state bank would not be able to handle the functions of a fiscal agent and still be profitable. The Bank of North Dakota has certainly done so for North Dakota. And state banks tend to have much lower overhead than comparable private banks due to the lack of branch offices, ATM services, marketing costs, etc. Over the last 15 years (1995-2009) the Bank of North Dakota averaged an efficiency ratio of about 28%, while small and medium sized banks in North Dakota averaged about 62%.
No matter the costs of operating the bank, the cost to the state is nil once the bank is up and running; indeed, as noted elsewhere, the bank should generally return money to the state. The primary difference is that while a concentration bank (like Bank of America) is the only bank to benefit from state deposits, a state bank would spread the benefit to small and medium sized banks throughout the state (through participation loans).
Also, as mentioned earlier, a state bank does not replace all functions of a state treasurer”s office, and we would expect that the same procedures around investment funds would remain.
Q: WOULD A STATE BANK IMPAIR THE NEED FOR LIQUIDITY IN STATE DEPOSITS?
A: No. Just like any private bank, a state bank has to carefully manage liquidity in order to be able to meet all its operational needs. However, this is obviously equally true of any other depository institution a state would use to manage state monies. If state deposits are currently deposited at a private financial institution (say Bank of America), that institution has to manage liquidity so that funds are available to the state to withdraw to meet payroll and other obligations as necessary. A state bank would be no different, and the Bank of North Dakota has demonstrated over the past 90+ years that it can do so capably and still turn a profit.
Q: HOW MUCH DO YOU NEED TO START A BANK?
A: There is no set minimum for start-up capital. Of course, a state bank would need to sustain its capital adequacy, so depending on how much state deposits will be held at the state bank, this could drive the capital needs. It seems likely that there will be a transition stage where the state bank’s participation loan portfolio grows and there are arguments for growing the capital at a similar rate. Ultimately, a state bank can be thought of as an economic engine that will be greatly impacted by the inflow of state deposits and reinvestment of profits into state bank capital. CSI analysis shows that even after accounting for debt service obligations due to start-up capital, a state bank would still be profitable after a few years and a strong economic tool for a state.
Q: WHERE WOULD THE CAPITAL COME FROM?
A: The likely sources of state bank start-up capital are the state General Fund, General Obligation Bonds, or other dedicated state funds.
Q: ISN’T SETTING UP A BANK JUST TOO COMPLEX?
A: While setting up a state bank is more complex than, for example, establishing a single revolving loan fund, and there is only one such bank in the country, there are thousands of banks in operation in the U.S. and new private banks are formed every year. In many ways a state bank would be more straightforward to set-up than a private bank. We expect that a state bank would have one location, no marketing, very little direct lending and a single source of deposits (the state). A reliance on participation loans would also reduce the need for bank loan officers and loan brokers.
Q: ISN’T THE REASON THAT BANKS ARE LENDING LESS NOW DUE TO A DECREASE IN LOAN DEMAND OR GOOD LOANS?
A: Not completely. While a reduction in lending during an economic downturn is in part a reflection of decreased demand for new loans (i.e., businesses holding off expansion plans), some part of the demand curve is directly tied to the cost of debt. As lenders tighten their underwriting standards and increase the interest cost to borrowers, demand for new loans naturally drops. This does not mean that there aren’t any “good” loans available, only that there is heightened price sensitivity (especially during less stable economic conditions). CSI analysis shows that banks in North Dakota reduced lending 33%-45% less than comparable states, and we believe that this is in no small part due to the stabilizing effects of its state bank.
Q: SURE, A STATE BANK WORKS FOR NORTH DAKOTA, BUT ISN’T MY STATE COMPLETELY DIFFERENT, BOTH POLITICALLY AND ECONOMICALLY?
A: Of course every state has a unique political and economic context. However, it is important to note that the Bank of North Dakota has enjoyed the support of both Democratic and Republican administrations and legislators. Sen. John Hoeven, the Republican former Governor of North Dakota, was President of the Bank of North Dakota earlier in his career.
Economically, it is, of course, difficult to separate the health of the lending market in a state from the overall economic health of the state. Over the past two years, North Dakota has been one of the states least impacted by the recession and it is difficult, if not impossible, to know to what extent that is due to the presence of the BND as opposed to other factors. However, attempting to tease apart the economy-lending linkage slightly, analysis has found that the health of North Dakota’s small and medium sized bank lending market has been relatively independent of other major components of the state’s economic health (namely, the housing markets and oil and gas industries). This provides circumstantial evidence, at least, that the BND has played an important role in supporting the state’s lending market.