At NCUA's recent board meeting it was announced that the National Credit Union Share Insurance Fund's (NCUSIF) equity ratio had reached 1.31%, and as a result no premium would be charged to credit unions in 2013. After paying $15 billion over the last five years to clean up other credit unions and some of the corporates, I'm sure there was a collective sigh of relief. However, this could not be worse news for credit unions and could virtually guarantee no regulatory relief in the near term. Let me explain.
According to the Federal Credit Union Act the equity ratio of NCUSIF must be between 1.2% and 1.5%. For years the normal operating level or target ratio for the fund has been 1.3%. Think about this. The capital cushion in NCUSIF is 0.1%! Do any credit unions manage their capital cushion within a 0.1% band or even 0.3% band? No, because risks are too variable. In the deposit insurance systems I've designed for foreign governments and on behalf of the International Monetary Fund they have never wanted such a narrow band for an equity ratio, and the average equity ratio in G20 countries is 1.6% and up to 6.2% in Brazil.
Remember Those Rebates?
Pre-crisis, I recall NCUA having to issue premium rebates because NCUSIF had grown above 1.3%. It felt good at the time but credit unions didn't really need the rebate as they had healthy earnings and capital ratiosjust like the movement does right now. ROA levels in credit unions are back to pre-crisis levels and capital is healthy and growing. A cap on NCUSIF does make sense but maybe it should be higher.
As I asked CEOs if they would rather have NCUSIF rebates of the 2000s when ROA was 1.2% or did they wish they had the funds available to cushion the NCUSIF blows in 2009 and 2010, their choice was clear. That said, I recognize the real concerns regarding the operation of NCUSIF. The thought of increasing the size of the fund, however modestly, or instituting risk-based assessments is likely unappealing to many.
You'd never guess from the way Washington has been acting recently, but most policy makers are rational and try to look at the whole financial system, not sectors. With Basel III banks will have to increase capital levels 2.5% and this capital will have to be of a higher quality. The biggest systemic banks will also have to increase capital levels an additional 0.5% to 2%. Dodd-Frank also increased the FDIC's minimum ratio to 1.5%, but the reserve ratio is set to 2% and their fund can rise to 2.5%. FDIC charges risk-based premiums (not deposits that are assets on books) based on total liabilities. Lastly, Dodd-Frank instituted a 2% countercyclical capital buffer for banks, but credit unions were rightly exempted because of their lower risk profile. These structures are starting to adjust for the reality that most banks are riskier than most credit unions.
Painful Trade-Offs
The last time credit unions had any meaningful legislative changes trade-offs were involvedunfortunately, banks had a big hand in determining those trade-offs and they were not based on research. If you were at Treasury or a Congressional staffer on financial services would it make sense that banks are making real changes to tighten their deposit insurance fund and capital levels while at the same time another part of the financial system wants to do riskier lending (MBLs) and/or modify their capital base (which is overly restrictive) without any compensating controls?
Do the math on your foregone investment revenue from holding an additional 30 to 50 basis points of insurable deposits at NCUSIF versus a true risk-based capital structure, access to supplemental capital and/or more MBL loans.
We just experienced a 100-year flood and the levee didn't work so well. There will be more big rains yet we're just adding dirt to the same levee that was last improved and structurally reviewed 30 years ago. It's time to at least call in the Army Corp of Engineers to review the structural design of what we know has faults. Without this, is realistic to hope for more water diverted to our canal?
Dave Grace is Managing Partner of Dave Grace & Associates and has been on the board of credit unions, worked at the Federal Reserve and led global advocacy efforts for the World Council of Credit Union for 14 years.
