Bank regulators are punishing the wrong institutions for the financial crisis and are exacerbating the credit crisis by being overzealous in their restrictions on banks, a top Democratic lawmaker said.

In a letter to the five federal bank regulators, House Financial Services Chairman Barney Frank (D-Massachusetts) urged the agencies to “show some temperance in their regulation of traditional banks.”

Cracking down on banks – particularly small community banks that are trying to respond to the government’s call to resume lending – is not necessarily the right response to the lessons of the crisis, he said.

“While there is no question that regulatory gaps and other regulatory shortcomings were a significant contributor to the crisis, those gaps were largely within the non-bank lending market and Wall Street banks,” Frank wrote in a letter that was also signed by Rep. Walt Minnick (D-Idaho).

Frank listed some of the common complaints he was hearing from small banks:

• Examiners are insisting on capital ratios significantly higher than those called for in the regulations.

• The CAMELS ratings are now pinned almost exclusively to asset quality, without any consideration for mitigating factors like capital, core earnings and liquidity.

• Examiners are forcing banks to write down assets to “market” value even where there is temporarily no market for them.

• Banks are being discouraged from using sources of refinancing other than deposits, which is forcing some of them to curb their lending.

“A self-fulfilling prophecy of community bank failures, shrinking credit availability, and a slower economic recovery can all result from a regulatory overreaction to the current crisis,” Frank said in the letter.

Federal bank regulators have hit hundreds of banks with formal and informal sanctions this year, the Wall Street Journal reported, ordering them to boost capital requirements and sometimes to shake up management. Regulators have closed 115 banks since January, and bankers across the country are complaining examiners are criticizing the health of even the strongest banks.

Other politicians are also complaining, the Journal said. Washington Gov. Christine Gregoire wrote to the state’s congressional delegation that “federal regulators have applied inflexible ‘one size fits all’ regulatory standards on community banks,” the newspaper said.

While Frank’s letter expresses concern for community bank lending, the House’s draft legislation for coping with the “too-big-to-fail” problem, which was approved by Frank’s committee, was criticized this week by community mortgage lenders for its “risk retention provision”:http://www.dsnews.com/articles/reform-bills-new-risk-retention-clause-vexes-small-mortgage-lenders-2009-11-04. They said the requirement would put community lenders out of business or drastically reduce their activity.