Small banks strategically adjust their lending behavior after a natural disaster, says Cleveland Fed researcher

After a natural disaster such as a hurricane, tornado, or flood, banks in the affected area experience a sharp rise in the demand for loans as property owners look to repair the damage. To meet the increased loan demand, small banks strategically adjust their lending behavior in three ways, according to Kristle Romero Cortes, a research economist at the Federal Reserve Bank of Cleveland.

• First, small banks that operate in more than one market decrease their lending in the markets that did not directly experience the disaster. “The HMDA data show that between 2001 and 2010, for every dollar banks lent in counties that were affected by a disaster, they lent 42-50 cents less in all of their other markets,” says Romero Cortes. The researcher says this strategy extends the negative impact, or negative spillover effect, of the disaster to economies not actually hit by the disaster. Romero Cortes notes that the reduction in lending is more pronounced in banks’ noncore markets, i.e., those in which the banks have no branches.
• Second, banks originate more mortgage loans that qualify for the housing GSEs’ credit guarantees and then they sell more of the loans they originate in the secondary market. Romero Cortes says securitizing more loans allows banks to quickly recoup their capital and continue to lend.
• Third, in order to attract more deposits, banks increase the interest rates they pay on short-term deposits.

According to Romero Cortes, local banks increase their total lending at least 25 percent in the year following a disaster. She says most of this lending occurs within the two quarters immediately after the disaster and most of it reflects an increase in the demand for mortgage loans.

Read How Small Banks Deal with Large Shocks

Federal Reserve Bank of Cleveland

The Federal Reserve Bank of Cleveland is one of 12 regional Reserve Banks that along with the Board of Governors in Washington DC comprise the Federal Reserve System. Part of the US central bank, the Cleveland Fed participates in the formulation of our nation’s monetary policy, supervises banking organizations, provides payment and other services to financial institutions and to the US Treasury, and performs many activities that support Federal Reserve operations System-wide. In addition, the Bank supports the well-being of communities across the Fourth Federal Reserve District through a wide array of research, outreach, and educational activities.

The Cleveland Fed, with branches in Cincinnati and Pittsburgh, serves an area that comprises Ohio, western Pennsylvania, eastern Kentucky, and the northern panhandle of West Virginia.

Media contact

Doug Campbell, doug.campbell@clev.frb.org, 513.455.4479