A Public Bank for the City of Chicago?

The following blog post examines the possibility of the City of Chicago starting a public bank. It is intended for informational purposes only. The Civic Federation has not taken a position on the idea, which has been discussed during the run-up to the Chicago municipal election later this month.

A public bank is a financial institution owned and operated by a government on behalf of its citizens. It can be used to provide loans to governments for economic development projects and/or invest in infrastructure projects. Profits from investments can be returned to the government treasury. Recently public banks have also been promoted as depository institutions for the emerging marijuana industry which currently operates on a cash basis as federal law prohibits private banks from handling proceeds from an industry that is illegal at the federal level.

Public banks have long history in the U.S. In the 19th century many states, including Illinois, operated public banks. However, most of these were closed by 1900. In 1919, after reformers of the Nonpartisan League swept state elections, North Dakota created a state bank which still exists today. In 2016, the U.S. territory of American Samoa was authorized to open a Territorial Bank with limited services. In 2018 the Federal Reserve Bank of San Francisco granted the Territorial Bank access to the U.S. payments system which will allow it to offer customer services such as debit cards and checking. Legislators and candidates in several states have endorsed public banks in recent years, including Governor Phil Murphy of New Jersey and U.S. Representative Alexandria Ocasio-Cortez of New York.[1] However, Los Angeles voters rejected amending their City’s charter to create a public bank in November 2018 by a vote of 55.8% to 44.2%.

The Bank of North Dakota

The Bank of North Dakota is viewed as a model by many public bank advocates. The Bank is professionally managed and operated and is governed by the State Industrial Commission, a board composed of the Governor, the Attorney General and the Agriculture Commissioner. A seven-member Advisory Board reviews the Bank’s operations, management and procedures. The state Department of Financial Intuitions provides audit oversight but does not exercise regulatory authority.

All state funds from the collection of taxes and fees are deposited in the Bank, unless authority is granted for specific investments. Other funds are provided by corporate accounts, municipal and county governments and individuals. The Bank’s deposits are secured by the full faith and credit of North Dakota, not the Federal Deposit Insurance Corporation (FDIC). It invests only in AAA rated securities backed by the federal government or its agencies.[2] Bank profits are used for three purposes:[3]

1. Transfers to the General Fund as authorized by the legislature;
2. Mission-driven loan programs for economic development and infrastructure approved by the legislature; and
3. Maintaining the Bank’s capital level, which is designated to be a Tier One capital level of 10%.

The Bank of North Dakota is not intended to compete with commercial banks. While it does provide student loans, it does not offer credit cards, ATM services, personal or business loans to the public. The Bank does provide partial funding for home mortgages, businesses, economic development, infrastructure or agricultural projects in cooperation with commercial banks. Individuals can secure student loans directly from the Bank. However, if individuals or businesses seek other types of loans, they must work with and through local commercial lenders. The private financial institution makes requests to access Bank credit programs, not the individual borrower.[4]

Proposal for a Chicago Municipal Public Bank

Ameya Pawar, Chicago’s 47th Ward Alderman and candidate for City Treasurer, has proposed creating a municipally owned bank in the Windy City. Monies from the City’s retirement systems, state linked-development deposits and the City Treasurer’s financial portfolio would fund the bank. The bank would focus on targeting city funds for economic development, investing in affordable housing and refinancing student loans.[5]

Pros and Cons of Public Banks

Supporters of public banks see them as a catalyst for the promotion of social goals such as the development of affordable housing, refinancing of student debt and economic development in underserved communities. They argue that a public bank’s decisions would focus on the values and needs of local communities, unlike private banks which focus on investor profits, charge high interest rates and fees and often take risks with public funds.[6]  Public banks can provide below-market interest rate loans to state and local governments, consumers, students and businesses, potentially reducing costs millions or even billions of dollars. They also can provide banking services to citizens who currently do not have access to these services.[7]

Opponents of public banks argue that problems with public banks include corruption, financial risk, high startup capital costs and competition with existing commercial banks.

One of the biggest concerns about public banks is the possibility of politics and corruption influencing its management and operations. Illinois and Chicago have long been known as centers of public corruption. Since 1976, federal prosecutors have convicted 1,706 public officials of corruption in the northern Illinois federal judicial district, the most from any judicial district in the nation.[8] Given Chicago’s long history of corruption, there would be a possibility of political interference in bank decisions that would seriously impact the ability of the institution to make financially sound decisions. Assuaging those concerns would require strong oversight and professional, non-political management.

There are financial risks involved in the operation of a public bank. Deposits at the Bank of North Dakota are not insured by the Federal Deposit Insurance Corporation. If Chicago followed that model, the City or State would have to provide financial guarantees. Also, there can be a great deal of risk regarding the potential for loan defaults if the public bank directly provides consumer loans. The bulk of losses related to the 2008 subprime mortgage crisis in Germany were from loans provided by that nation’s state banks.

Another key issue in creating a public bank is the need for startup capital. This can be very expensive. For example, a feasibility study commissioned by the State of Massachusetts estimated a state public bank would require approximately $3.6 billion in startup capital.[9]

Finally, depending on how it is set up, a Chicago public bank could compete with existing commercial banks. The Bank of North Dakota does not compete with private banks; rather, it works cooperatively with them.

Considerations for Creating a Chicago Public Bank

If Chicago decides to create a city-owned public bank, there are several issues that must be carefully considered by the Mayor and City Council.  The discussions about a public bank must be transparent and will require adequate time and research to understand the legal, financial and administrative issues inherent in creating this institution so that citizen and taxpayer interests are protected.

State versus Municipal Public Bank: The State of Illinois may be much better positioned to create a public bank than the City of Chicago. It would have readier access to larger amounts of startup capital and a model for such a bank exists in North Dakota. A state public bank also could provide benefits to communities throughout Illinois that could benefit from its services.

Legal Issues: There are undoubtedly legal issues involved in establishing a municipal bank. State charter authorization would likely be required and the bank would be regulated by the Illinois Department of Financial Institutions. There may be other legal issues as well. For example, California state law provides that city bonds can only be used for infrastructure projects. So, startup capital for a city public bank would have had to be provided from general funds or philanthropy.[10]

Financial Issues: A number of specific financial issues would need to be addressed:

• Would the public bank deposits be FDIC insured?  If not, how would they be guaranteed?
• Would the bank provide direct loans to consumers?
• How would bank finances and operations be audited?
• Would capital reserves be available to use for purposes other than economic development, infrastructure, student loans or loans such as transfers to the City General Fund?
• How much startup capital would be needed? Any public bank proposal for Chicago should require a feasibility study to figure out startup capital needs. It might be more financially feasible for the State of Illinois to create a public bank than for the City of Chicago to create a municipal bank.

Administrative Issues: The City would need to create mechanisms for adequate oversight, governance and management of the bank to ensure that its operations are professional and transparent and that undue political pressure is not exerted on its decision making. The Bank of North Dakota model provides for professional management of operations and oversight by state officials and an advisory committee.