Posts filed under ‘Economy’
Those of us hoping that an analysis of the impact that Dodd-Frank regulations were having on credit unions and community banks would help bolster the case for regulatory overkill were sadly disappointed to read a recent report detailing the impact that Dodd-Frank. While acknowledging the concerns of small bank and credit union representatives, it concluded that it is too soon to definitively say whether smaller financial institutions are facing headwinds because of Dodd-Frank or macro trends unrelated to regulations. Nevertheless, the GAO was willing to note:
- The numbers of both full-time and part-time employees generally have decreased since the third quarter of 2010.
- Noninterest expenses as a percentage of assets are generally the same for credit unions of different sizes and generally have decreased for credit unions of all sizes since the third quarter of 2010.
- Smaller credit unions tend to have lower earnings as a percentage of assets than larger credit unions, but earnings at credit unions of all sizes generally have increased since the third quarter of 2010.
- Smaller credit unions tend to have fewer residential mortgage loans on their balance sheets as a percentage of assets than larger credit unions, and most of the smallest credit unions have no residential mortgages at all. However, residential mortgages generally have decreased as a percentage of assets for larger credit unions —those in the third, fourth, and fifth quintiles—but have increased for the smaller credit unions in the second quintile.
In fairness to the GAO, the TRID requirements have just kicked in. My concern is that if policy makers wait for definitive proof of Dodd-Frank’s negative consequences before taking more decisive action, they will be doing the equivalent of an autopsy instead of a medical intervention.
Here is a copy of the report:
Our Ground Hog Day economy is at it again. It’s Winter which means that it’s time for the economic intelligentsia to be reminded that the economy is not as good as they think it is. Yesterday came news that U. S. factories ended last year mired in their worst slump since 2009 and that Chin’s stock market is once again tanking http://www.wsj.com/articles/ism-manufacturing-index-falls-to-48-2-in-december-1451921036…..
As we speak the Governor is giving a preview of his State-of-the State Speech. It’s worth a listen particularly for those of you who are downstate.
I like to use my final blog of the year to look ahead to the trends that will most impact the industry next year. Here is my list of educated guesses.
Accounting for the next disaster. The Federal Accounting Standards Board is poised to finalize accounting standards that will directly impact how credit unions and banks account for potential loses. The proposal could have a bigger impact on credit unions than the Risk Based Capital rules, so get your accountant on speed dial.
Overdraft Overhaul. Are you ready to have your members opt in to all overdraft services? How about limits on the size and number of overdraft fees? What about new disclosures? All of these are possible when the CFPB formally looks to limit the use of overdraft services this year.
China Syndrome. World events have had more and more of an impact on the economic environment in which credit unions operate. My nominee for this year’s Greece is China. If the slowdown in the Chinese economy ends up being more sustained and severe than pundits currently suspect we could be looking at a recession in the U.S. and political instability in an increasingly nationalistic China for years to come. In a worst case scenario think Putin on steroids.
Political Fantasy. Donald Trump offers a blanket insult to everyone in America and his poll numbers skyrocket because of his level-headed even handedness. Not to be outdone, Senator Cruz insults the entire world. Jeb Bush performs surprisingly well in New Hampshire and gets enough momentum to stick around. Speculation rises that Republican Party elders hope that no one gets the delegates they need to secure the party’s nomination. In a brokered convention, Paul Ryan emerges as the consensus candidate and narrowly defeats Hilary after Trump and Ben Carson both run as independents. My point is, Silly Season is fast approaching. Don’t expect to see anything useful accomplished in Congress next year.
Will the industry hang together or hang separately? With dual membership requirements being phased out, I certainly hope that whatever new structure emerges continues to emphasize the need for a coherent and unified voice on credit union issues. I would hate to see a circular fire squad emerge that would benefit no one but banking lobbyists.
The year of Guidance. With the overhaul of MBL regulations and further regulatory tutorials on interest rate risk on the horizon, we will start finding out just how much more flexibility credit unions have when complying with general mandates as opposed to black and white regulations.
FOM Reform. NCUA’s proposed FOM reforms are out for comment and, although they are a step in the right direction, my guess is that the industry will find that not enough can be done by amending regulations. Congress needs to act, but don’t hold your breath. In the meantime, state policy makers are where credit unions will have to turn if they want greater FOM flexibility.
Fewer but Larger Credit Unions. Are credit unions an endangered species? No, but expect their number to decline and the survivors to get even bigger. In 2014, the majority of credit unions lost members. In addition, at the end of October, CUNA Mutual reported that there were 6,264 CUs in operation, down 36 credit unions from one month earlier. Year-over-year, the number of credit unions declined by 316, more than the 254 lost in the 12 months ending in October 2014. There is no good reason to think that this trend won’t continue or even accelerate. (https://www.cunamutual.com/~/media/cunamutual/about-us/credit-union-trends/public/dec_2015_cu_trends_report_media_file.pdf)
On a happier note, thanks for reading, Happy Holidays and I will be back blogging next year. Now it’s off to Grandma’s house I go.
To put this in perspective, the last time the Fed raised rates no one had an IPhone; Alan Greenspan was still being lauded as a Maestro for his stewardship of the Federal Reserve Board, which had recently been taken over by this guy named Ben Bernanke; Bernie Madoff was an investment genius, A-Rod didn’t take steroids and your faithful blogger had hair – kind of. Back then, the Fed raised the Fed Funds Rate 25 basis points to five and a quarter percent because “inflation fears” remained.
Who ever said the more things change, the more they stay the same was, of course, dead wrong. Now that the Fed has raised rates the new questions upon which to speculate are: How quickly will the Fed raise interest rates? By how much? The most unequivocal thing I will say in this blog is that now that the Fed has decided to raise rates it makes no sense to stop at 25 basis points. For my money we are looking at a series of raises that will raise rates by at least a point over the next year. The Fed has made its bet and now must play out its hand.
Allow me to digress.
I love poker. The most challenging hands to play are the ones that could go either way. Let’s say you are dealt a pair of eights with five cards left to be dealt. If you don’t bet too low you are inviting people to stick around and get one more card that might beat your hand; if you bet too much and someone calls you might find yourself losing a bunch of money when every subsequent card is higher than an eight.
The Fed has one of those high-risk/ high-reward hands that could go either way especially since it has a twin mandate to help maximize both employment and price stability. Look at the Fed’s hand: Unemployment is down to levels at which you would expect to see the Fed raise rates. After all, at some point all these newly employed workers have to put sustained upward pressure on wages, don’t they? Besides, all this cheap gas should boost spending even though it hasn’t had much of an impact yet, right?
Conversely, inflation is actually too low and shows no signs of taking hold in the near term. Janet Yellen must decide how much to bet in the form of higher interest rates: too low an increase and she has done nothing to tamper the possibility of the median term inflation spike that the Fed has decided must be guarded against; too big a raise and she might do more harm than good by stifling growth; sending the bond market tumbling and laying the groundwork for the next recession. It’s a tough call but the worst thing she could do is not act decisively.
In a speech in September signaling that rates would be on the rise by the end of this year, she explained all this not by talking about poker but by explaining that “[b]y itself, the precise timing of the first increase in our target for the federal funds rate should have only minor implications for financial conditions and the general economy. What matters for overall financial conditions is the entire trajectory of short-term interest rates that is anticipated by markets and the public.” In the same speech, she commented “[i]f the FOMC were to delay the start of the policy normalization process for too long, we would likely end up having to tighten policy relatively abruptly to keep the economy from significantly overshooting both of our goals. Such an abrupt tightening would risk disrupting financial markets and perhaps even inadvertently push the economy into recession.”
What does this mean for you? I was talking to a credit union executive the other day and I assumed wrongly that a rate hike would automatically be welcomed news. Not necessarily. The executive pointed out that if rates get too high, members might start shopping around for better rates. While the big guys might be able to absorb the cost of higher interest payments, many medium size and smaller ones might be further squeezed. Remember that the majority of credit unions lost members last year.
At what point will this increasingly fickle lot click on their iPhones and start searching for better rates? No one knows, but if I’m right the Fed is going to make it more tempting for them.
According to the NCUA Examiners Guide (Chapter 11) a good ALLL policy includes “Descriptions of qualitative factors (e.g., industry, geographical, economic and political factors) that may affect loss rates or other loss measurements.”
Good luck complying with that one. We face more economic uncertainty today than at any point in the last decade. Plausible arguments can be made that in the next two years we could be in an economic downturn, a robust expansion, or continuing in this current slog. No one knows.
Take the Fed. Will they or won’t they raise rates? I blogged about a speech by Chairman Yellen a little more than a month ago in which she laid out a convincing case for raising rates now to guard against future inflation but that speech was quickly swamped by lackluster economic indicators. The Fed is as confused as anyone. The statement it released earlier this week would seem to indicate that a rate increase is coming just in time for Christmas but with so many unknowns, ranging from China’s economy to home sales, all this could change. The world is so interconnected and so unstable that “geographic factors” half a world away are impacting your credit union. And remember the question is not just when the Fed will raise rates but by how much and over how long a period?
Then there are the political factors. Here the news is a little better. By getting a budget deal done and raising the debt ceiling raised before riding off into the sunset John Boehner did the country a huge favor. By not being able to put the country in default or shut down the Government the matches have been put out of the reach of the Congressional children. Besides Paul Ryan is a great pick. I’ve given up on thinking that Washington will do anything to help the economy but I’m pretty sure it can’t hurt it.
Where does all this leave us? To me the more flexibility you have the better. We just don’t know how sensitive all those new members you have will be to even slight interest rate increases and the search for yield today could leave you squeezed for profits tomorrow. Hope for the best and prepare for the worst.
Here are some links to some of the material to which I am referring so you can decide for yourself.
For those of you responsible for anticipating the direction of interest rates, yesterday’s speech by Federal Reserve Board Chairwoman Janet Yellen is a must read. In refreshingly blunt and relatively unequivocal terms, she made it quite clear that the Fed will move to nudge up short-term interest rates by the end of the year.
After laying out the case that the slack in the labor market is gradually decreasing and likely to continue to do so and that core inflation is likely to rise over the next few years, she noted “. . .most of my colleagues and I anticipate that it will likely be appropriate to raise the target range for the federal funds rate sometime later this year and to continue boosting short-term rates at a gradual pace thereafter as the labor market improves further and inflation moves back to our 2 percent objective.”
Even as she did everything but announce a rate increase, Yellen conceded that this policy shift is not without risk and used the speech to explain to skeptics why now is the best time to raise interest rates.
Given the highly uncertain nature of the outlook, one might ask: Why not hold off raising the federal funds rate until the economy has reached full employment and inflation is actually back at 2 percent? The difficulty with this strategy is that monetary policy affects real activity and inflation with a substantial lag. If the FOMC were to delay the start of the policy normalization process for too long, we would likely end up having to tighten policy relatively abruptly to keep the economy from significantly overshooting both of our goals. Such an abrupt tightening would risk disrupting financial markets and perhaps even inadvertently push the economy into recession. In addition, continuing to hold short-term interest rates near zero well after real activity has returned to normal and headwinds have faded could encourage excessive leverage and other forms of inappropriate risk-taking that might undermine financial stability. For these reasons, the more prudent strategy is to begin tightening in a timely fashion and at a gradual pace, adjusting policy as needed in light of incoming data.
Yellen’s speech provides the latest evidence that even as interest rates rise we are unlikely to see the type of dramatic increase in interest rates that regulators have been warning against for the last decade. A second take-away is that you should look to see what happens to bond yields today. A sharp increase in yield and maybe even a drop in the Dow Jones would demonstrate that the wizards of Wall Street have gotten Yellen’s message that this unprecedented era of easy money is coming to a close, albeit a very gradual one.
While guessing when the FED will begin raising short-term interest rates is a fun parlor game, a more technical but almost as important question is just how the FED will accomplish this goal. This question was raised in a recent article in the New York Times.
Raising interest rates is not as easy or mechanical as it once was. It seems to me that credit unions would be well advised to understand precisely how the FED plans to raise interest rates under these somewhat unprecedented circumstances.
Why are these conditions unprecedented? Because, since 2008, Congress has given the Federal Reserve the authority to pay interest to financial institutions holding excess reserves in Federal Reserve Banks. Regardless of whether or not you think this was a good move, the result has been that the Federal Reserve is now sitting on more than a $1 trillion in bank reserves. This huge amount of reserve held by the FED greatly complicates the mechanisms it will have to use when it finally decides it is time to raise interest rates.
For instance, the FED used to be able to have a decisive impact on short-term interest rates by simply raising the interest rate it charged for financial institutions wishing to borrow funds overnight. It would do this primarily by selling treasury securities that were purchased by banks. This decreased the amount of excess money financial institution had to lend to each other and nudged the interest rate they charged to lend to one another upward. Today it would be virtually impossible for the FED to jettison the huge amount of securities it would have to sell in order to put upward pressure on interest rates. In addition, non-bank financial intermediaries, that don’t have direct access to interbank loans, are beginning to have a large impact on lending.
So how exactly does the FED plan to raise interest rates? Most importantly, in addition to its more conventional techniques, it is going to effectively borrow money from banks and non-banks at interest rates higher than they could get making traditional bank-to-bank loans. As Simon Potter, the Federal Reserve Bank of New York official in charge of executing this policy explained in a speech in 2014, the FED assumes that these higher interest borrowings will effectively set the floor at which other loans will be made by and to financial institutions. The thinking is that the financial intermediaries will not be willing to lend money at rates lower than they can get from the FED.
We will have to wait and see if he is right and hope that the FED’s unchartered financial manipulation doesn’t have intended negative consequences for smaller lenders. In the meantime, I provided you with some background information that you can further delve into if you choose.
The late Met announcer Ralph Kiner used to say that a team is never as good as it looks when it’s winning and is never as bad as it looks when it’s losing. The same could be said of a stock market.
With apologies for those of you recalibrating your retirement plans with every 100 point drop in the market, this rout is not as bad as it looks.
What does the investing class know today that it didn’t know yesterday morning? We already knew that the economies of developing countries were weakening. Brazil is in the midst of a major government corruption scandal, Russia is busy trying to restart the Cold War, India needs to further decentralize its economy and the Chinese economic engine had to slow down at some point. All of this has been going on for months. Since March 2014 an estimated $1 trillion has been pulled out of emerging markets by investors. (http://money.cnn.com/2015/08/24/investing/emerging-markets-capital-outflows/index.html)
Was there surprising news about the state of the Western economies? No. In July, the Word Bank downgraded its economic growth forecast in response to an “unexpected output contraction in the United States, with attendant spillovers to Canada and Mexico.” As for Europe, growth in the EU declined from 0.4 to 0.3% in the second quarter.
What we also knew yesterday morning was that the world economy could only take off if the American consumer started spending again. As explained in that same IMF forecast, ”[t]he underlying drivers for acceleration in consumption and investment in the United States—wage growth, labor market conditions, easy financial conditions, lower fuel prices, and a strengthening housing market—remain intact.” http://www.imf.org/external/pubs/ft/weo/2015/update/02/. I could take issue with each one of these conclusions, but I’ll just point out that anyone who thinks the American consumer is feeling flush with higher wages is wrong. Wages are barely budging and took a beating over the last five years,
So what really happened yesterday? Nothing more or less than an overdue correction to an overheated market. The best piece of analysis I have read comes from Mohamed El-Erian, the chief economic adviser at Allianz SE and a columnist for Bloomberg News who writes: “Some commentators have rushed to describe the recent global stock market turmoil as “historic” and “unprecedented,” yet its evolution has been quite traditional so far.” The markets are adjusting to the reality that central banks can’t quickly stabilize asset prices. Quantitative easing is over.
What all this means is that markets are trending towards reality, which is exactly what markets should do. Expect bond yields to remain low and the Fed to put off raising short-term rates especially now that China has moved to cut its own rates. The economy has never been as strong as some people thought it was. Wall Street is just waking up to this reality.