This Is An Industry That Needs Capital Reform?
The single biggest shortcoming of NCUA’s pitch for its risk-based capital proposal is its unwillingness or inability to articulate why it feels reform is necessary at this time.
I know, I know; some credit unions made bad investments, some made bad loans and these incompetent malcontents did this — or so NCUA believes — despite the clairvoyant predictions of doom by well-meaning examiners, who like the stars of those 1970’s disaster movies, were powerless to prevent the imminent calamity. If only Jack Lemon were alive he could play an NCUA examiner predicting that the whole industry was about to blow up.
Leaving aside NCUA’s somewhat self-serving view of history (were examiners really telling corporate credit unions they were headed for disaster and telling natural person credit unions that their corporate capital was at risk and I just missed the memo?), these are hardly the type of systemic problems that justify imposing system wide constraints on an industry. As the latest summary of credit union performance results shows, this is hardly an industry that has a capital problem — instead it is an industry making commonsense decisions given the economic environment in which it finds itself.
No doubt Chairman Matz had NCUA’s RBC proposal on her mind when she lead off NCUA’s press release summarizing the latest credit union quarterly results by commenting “The continued growth in credit union lending and gains in membership during the first quarter are positive signs . . . Investing in people and communities will produce dividends for credit unions in many respects, but the higher interest rate environment of late 2013 and the first quarter of 2014 slowed mortgage originations. To protect the Share Insurance Fund, NCUA continues to closely monitor the risks posed by rising interest rates, long-term investments and fixed-rate mortgages.”
Therein lies the rub. I look at these statistics and see an industry that is cautiously but logically creeping toward higher yielding longer-term investments, where Chairman Matz sees a risk that needs to be “weighted” against. Why are credit unions acting logically? Because they have more money to invest than they want and are seeking the most money for their members’ funds. There are only a relative handful of credit unions with strong loan to share ratios and if the economy, as seems likely, continues to slog along for the foreseeable future, there simply isn’t much of a risk that credit unions will have to turn away potential borrowers because of a lack of liquidity. Conservatively speaking, NCUA has been warning about interest rate risk for more than a decade. At some point, legitimate examiner concerns become the white noise of Chicken Little.
I’m not minimizing interest rate risk; it is a risk that is always present for any financial institution. What I am questioning is whether the current environment is so unique and the investment decisions being made en masse by credit unions so reckless as to justify risk-based capital reform designed in part to discourage longer term investments and lending products beyond certain concentration thresholds. NCUA has already forced credit unions to develop more detailed interest rate risk management strategies. Examiners have the authority to make sure that individual credit unions are taking the steps to manage interest rate risk properly given their unique set of circumstances.
Finally let’s look at mortgages. Originations are tumbling not only because the refinancing boom caused by historically low interest rates has ended, but also because Dodd-Frank imposed mortgage underwriting requirements have made it more difficult for many first-time homebuyers, many of whom are saddled with gobs of student loan debt, to justify the expense of getting a house and having the credit profile to qualify for a mortgage. This actually represents a growth opportunity for credit unions that can fill a gap caused by retreating banks for which more individualized lending decisions simply aren’t cost effective. Let’s let individual credit unions respond to this unique marketplace in the way that best meets the needs of their members and the underlying strength of the communities in which they live. Unfortunately, by categorically assuming that mortgages above certain concentration thresholds are bad for the industry as a whole, NCUA’s RBC proposal would deny certain credit unions the flexibility they need to make their own lending decisions.
This brings us back to NCUA’s rationale for RBC reform. The Share Insurance Fund must be protected at all costs, or at least that’s the way Chairman Matz is interpreting her mandate. Just take a look at the rising net worth of credit unions. On what basis can you conclude that this is an undercapitalized industry? Perhaps NCUA feels that it has the obligation to guard against any risk by any credit union that could result in a conservatorship, thereby causing a loss to the Share Insurance Fund. This means that the best run credit unions are going to be to subject to capital restraints to guard against the excesses of their most incompetent peers. It’s a recipe for an industry not to grow and not to be able to meet evolving member needs or appropriately react to unknown financial risks just beyond the horizon.
But at least the Share Insurance Fund will be in pristine condition.