Regional and community banks have an enormous challenge – and opportunity – in front of them. Sustained high interest rates and a continued chance of a potential recession are putting downward pressure on deposit growth, which is the lifeblood of community financial institutions. As the competition for deposits heats up, institutions must leverage their digital channels to attract and retain core deposits. And if they don’t have digital channels, they will need to install them.

Continued interest rate volatility in 2023 has created a few key challenges for community financial institutions. Eleven consecutive interest rate hikes have pushed the federal funds rate to a target range of 5.25% to 5.50% as of September 2023, and Federal Reserve policymakers expect one more potential increase before year end. Here’s what sustained interest rate volatility could mean for community banks:

  • Third-party funding will become more competitive. U.S. banks held more than $1.2 trillion in brokered deposits at the end of the second quarter, which is an 86% increase from the previous year, according to the Wall Street Journal. This source of funding, although it comes at a higher cost and has additional regulatory restrictions, has proven to be beneficial for the livelihood of community banks. However, if interest rates rise, community banks might need to increase the rates they are willing to pay to maintain this level of deposits, thus impacting margins.
  • A credit crunch may be building. While high interest rates may be good for net interest margins, institutions might see their loan portfolio growth slow or shrink. On one hand, there may be less demand for loans from consumers and businesses. At the same time, financial institutions may be maintaining stricter lending standards for fear that a wider recession could drive up loan defaults.
  • Protecting liquidity will be costly. After the collapse of Silicon Valley Bank and Signature Bank, financial institutions will be more mindful of liquidity risks that could jeopardize their business. To make up liquidity shortfalls, institutions may need to borrow from the Fed or other banks, which will be more expensive while the federal funds rate remains high.
  • Core deposits are up for grabs. The good news for community financial institutions is that consumers and businesses are re-evaluating their banking relationships. Since June 2022, over $1 trillion in deposits have been taken out of commercial banks; one in six Americans has moved their money since the banking crisis in March 2023. While some may have been looking for a safer place to temporarily put their money, 23% of consumers are actively searching for a new banking relationship. I believe this trend will continue in perpetuity.

Impact on Community Banks
In the days following the collapse of Silicon Valley Bank, Narmi customers experienced an explosive 23% increase in daily deposits. It wasn’t a special interest rate offer or a well-timed marketing campaign that drove the deposit growth. Instead, those institutions benefitted from having an intuitive digital account opening experience. In other words, these financial institutions made it easy for customers who wanted to do business with them to open accounts.

With that in mind, as community banks look to maintain and grow their low-cost funding options, like core deposits, they should consider the following:

  • Relationships are increasingly shifting to digital channels. Since the start of the Covid-19 pandemic, 78% of consumers have stated a preference for banking through digital channels. While visits to the branch aren’t completely going away, a large majority of banking customers are perfectly comfortable establishing relationships with a financial institution in a digital setting.
  • Create digital experiences that resonate with users. Every month, 80% of consumers leverage a mobile device to manage their bank accounts. While accessibility and ease of use are huge factors for customers, a recent PwC study found that one in three consumers are willing to abandon a business after a single bad interaction. To ensure excellent service while maintaining strong brand loyalty, community banks must prioritize streamlined digital experiences that build trust with customers.

As interest rates continue to move, so do deposits. Prioritizing building and strengthening relationships with customers across digital channels positions community banks to capture new deposits and maintain their current supply.


Nikhil Lakhanpal


Nikhil Lakhanpal is co-founder of Narmi, a NYC based financial technology firm that builds enterprise solutions in digital banking.  Through Narmi’s digital account opening, mobile banking, online banking and banking APIs, banks can become digital-first companies.  Mr. Lakhanpal drives Narmi’s vision to provide a highly adaptable and open framework that empowers banks to reimagine what’s possible with digital banking.  He has long had a passion for technology and financial services as the former CEO of a financial institution and an investment banker at Citigroup.