Regulators learned exactly the wrong lessons from the Global Financial Crisis, which itself was largely caused by regulatory failures that incentivized the financial sector into originating and securitizing bad loans that ultimately collapsed many banks. Subsequent rules protected large banks with too-big-to-fail status but destined small and regional banks to fail.

The latter group was severely penalized by the Dodd-Frank Act and other rules, forcing them into riskier banking practices to stay competitive with their larger rivals. One example is lending to non-depository financial institutions, which in turn lend to consumers to finance buy-now-pay-later services. Borrowers are increasingly missing payments on these debts.

Small banks have also loaded up their balance sheets to more than 30% with commercial real estate (CRE) loans compared to less than 6% at large banks. CRE is a ticking time bomb—it showed cracks in 2019 but the Federal Reserve’s near-zero interest rates in early 2020 allowed everyone to refinance bad loans, papering over the problem. In 2023, an emergency lending program by the Fed kicked the can down the road again.

Regulators pushed small and regional banks into risky financial positions and then ironically never bothered to evaluate the new situation that evolved from overregulation.