A Top Priority for New NCUA Chair Hood: Lead the Way in Setting a New Tone

While NCUA Chairs have different leadership approaches, all share one common challenge: setting the “tone” for the relationship between the regulator and the regulated.

Whether a chair is a hands-on manager or distant from operations, the chair’s attitude toward the industry will be seen and heard by all within and without the agency.

For the past decade the relationship between NCUA and credit unions has varied from openly adversarial to indifference to credit union knowledge and judgments. There has been a lack of respect for the experience, capabilities, and analysis of credit union professionals. This attitude is still present in some exam confrontations, and at the board level, in the total dismissal of required credit union commentary on issues such as the merger of the TCCUSF and NCUSIF.

The Relationship Needed

Chairman Hood enjoys opera. He is not tone deaf. His professional experiences focus on outreach efforts. The tone needed between NCUA and the regulated is one of mutual respect.

This is more than public speeches or a specific set of policy initiatives. NCUA should acknowledge the overwhelmingly positive track record of credit unions and their leaders’ deep, proven, expertise: wisdom and commitment to cooperative evolution.

A Place to Start with a New Tone

On May 7, NCUA released the names of nine credit unions who were fined a total of $4,069 in civil money penalties for late filing of the September 2018 call report, which was due at the end of October.

For nearly four decades NCUA had never fined a credit union for a late call report. During this time the report was extended semi-annually to quarterly, and the data requested increased exponentially.

NCUA’s rationale for public fining was in part because the late filers were holding up the timely release of all credit union data.

So, six months after the deed has occurred, NCUA releases the names for public shaming and sends the pennies collected to the US Treasury.

Timely submission of call reports is critical. But instead of fining shouldn’t the agency just send to all examiners the day after each filing deadline all reports not received? Examiners make a follow up phone call, and if not filed promptly, that would warrant a special visit.

Why the delay? Is it due to bookkeeping shortcomings (no timely cash reconciliations), personnel issues, or even operational problems?

How much staff time and effort has been wasted analyzing each late report with the three criteria below—and how many were not fined as a result of these investigations?

Mutual respect would direct that the agency use any report delay as a signal for examiner follow up. Get the data, forget the shaming and get on with the process of ensuring a safe and sound credit union operation.

Stop the penny ante, power trip of imposing a “parking ticket” fine. Treat credit unions with respect knowing that problems occur all the time that should be looked into.

Putting a CMP scarlet letter stamp and publishing the name of credit unions as an example of effective regulatory oversight is not professional. Some in authority may believe acting tough makes them effective. Most will see it as lacking grasp of the situation.

Regulators live in a glass house. Until McWatters became Chair, NCUA had failed to meet the statutorily deadline of April 1 for submitting its Annual Report to the President and Congress for decades–even missing the filing entirely in one year.

Chairman Hood, take away the CMP stamp and ask examiners to do their job. It would be a small, but important first step, in making the system more cooperative.

The Cooperative Liquidity Advantage of Member Ownership

The primary focus of credit union strategy is the member-owner. While business lending is growing, it is only a small percentage of loans. For almost all credit unions, member shares are the primary source of funding, not borrowings or large organizational deposits. The same is not true, on average, for banks.

Following is a comparison of insured deposits (balances less than $250,000) as a % of total deposits for banks and credit unions for the past five years:

Year-end:              Credit Unions % Insured Savings         Bank % Insured Deposits

2018:                                     93.0%                                                    59.6%

2017:                                     93.2%                                                    59.0%

2016:                                     93.6%                                                    59.2%

2015:                                     94.1%                                                    59.5%

2014:                                     94.5%                                                    61.0%

The $79.9 billion in savings in excess of the $250,000 NCUSIF insurance coverage are dispersed among 3,628 credit unions.

Over 40% of banks’ total funding is in uninsured deposits totaling $4.99 trillion at December 2018 year end. The peak year for insured deposits for banks was in 1991 at 82.1%.

In evaluating liquidity risk, the most common assumption is that consumer deposits, are the most dependable source of funding in a crisis.

The cooperative member-owner design further enhances this financial strategy. It is the member relationship, sometimes developed over generations, that is the intangible capital providing credit unions stability and relevance, especially when financial markets are disrupted. The value is real, even when unrecorded or perhaps unrecognized.

As a member, I trust the credit union values my participation as more than a consumer of products.

E Pluribus Unum or the Reverse?

“Out of many, one” is the motto of the United states. The many states joining to form one union.

This is often how we approach any project, piece by piece, brick by brick, member by member.

Yet cooperative design rests on a different premise.  From a place of community (later called field of membership), the credit union emerges to serve individual needs.

Community is the foundation of cooperative design. Even as individual credit unions become financially self sufficient (post sponsor era), and accountable for their individual performance, sustainability requires continuing to create a sense of community. This may be geographic, values based, common employment or even shared purpose.

A shared commonality is the key to maintaining member relationships, which are the real capital on which every credit union depends.

Junk

This play by Ayad Akhtar is a story of the financial industry in the mid-1980s and the disruption caused by the creation of junk bond financing. The play is loosely based on the career of Michael Milken who perfected the technique of leveraged buyouts funded by high-risk high reward bonds.  It introduced a whole new means of financing outside the traditional options provided by the “white shoe” Wall Street investment firms that had dominated market access.

The play’s leading character describes this financial innovation by his repeated assertion that “debt is an asset.”

As credit unions increasingly push access to “secondary capital” to the top of their regulatory or strategic priorities, it may be useful to remember that “secondary capital” is nothing more than an unsecured term borrowing at rates much higher than credit unions pay their members for shares.

Calling these long term, high cost financial borrowings capital, because of payment priority in the very remote event of liquidation by NCUA, seems akin to calling “debt an asset.”

The New Capital: Member Data

Member data is an asset. It is so potentially valuable that FDIC Chair Jelena McWilliams calls it the “new capital.” But that asset is nowhere on the balance sheet. However, it might be inferred from traditional institutional numbers such as average loan and share balances.

Because member data is not recorded financially, the necessity to convert this “capital” into a member service opportunity is often opaque. That is, until an outside party comes and wants access to some information to promote a new service or solution such as a software to manage an aspect of member’s life such as teen spending.

The member-owner design can help position credit unions as trusted fiduciaries with this information. Fintech innovators often view credit unions as valuable partners for targeted solutions because of their trove of member information and assumed trust.

What is the opportunity within the cooperative movement for the stewardship of this “capital?” How can credit unions both teach the value of and facilitate member benefit from their information?

Several countries including the United Kingdom have implemented the concept of “open banking.” https://www.americanbanker.com/opinion/us-way-behind-the-curve-on-open-banking

One way to explore this concept would be for credit unions to provide members the ability to grant permission of their financial data to other third parties. Under this concept, members would gain the ability to seamlessly and securely allow trusted third parties access to their member information.

Today this process is partially accomplished by aggregators such as Yodlee, but this is an uncertain process subject to operational disruptions. It is frequently limited to traditional product information available by screen scrapping.

By teaching members to value their data, credit unions can initiate member experiences that can help test new financial tools or solutions—thus enhancing the cooperative’s role as an intermediary.

As a member, I would certainly be interested in participating in these kinds of consumer innovations. Increasing my financial awareness, can only enhance my relationship to the cooperative.

Why Financial Disruption is an Attractive Fintech Opportunity

Many factors are powering the multiple fintech startups in the financial sector.

The advantages of internet-based platforms are clear: low startup costs, rapid and continuing market responsiveness, easy scalability, preferred channel for younger demographics just entering markets, etc.

An example of the fintech ecosystem’s many segments can be read here.

But another reason financial services are subject to such extensive external disruptive efforts is that the barriers to entry for traditional charters are enormous. New charters for both banks and credit unions are costly, time consuming and closely monitored.

As a result, de novo charters are few and far between. Five new CU charters have been approved by NCUA in the last decade. The average organizational effort is more than four years, and often longer.

For cooperatives, incumbent credit unions are protected from new entrants by a massive regulatory chartering obstacle that effectively prevents new competitors, no matter how much needed by organizers.

However, if one looks at the number of new and innovative CUSO startups by credit unions, the appetite for innovation and new solutions is clearly understood. But without an openness to new charters, these ventures will be outside the traditional charter structure. While that may be a necessary short-term path for innovation, is that approach hindering a credit union’s ability to change themselves?

Outsourcing technology innovation and solutions to new organizations is expedient. But will it stymie more dynamic and necessary approaches in traditional credit union operations and services?

Understanding Disruption Within a Full Economic Cycle

At the FDIC’s April 23 Fintech conference, frequent reference was made to the growing role of “marketplace lenders”; firms using internet technology to reach customers directly versus traditional branch based, depository strategies.

Two frequent credit disruptors were cited: Quicken and peer lenders such as Lending Tree, Sofi, etc.

One estimate is that 40% of unsecured consumer credit was provided by fintech firms last year. Quicken was the number one mortgage originator in 2018.

While the advantages of internet based providers were easily listed–convenience, speed, ease of use, targeted market capabilities–the potential challenges were also noted. Most internet providers rely on external funding, which could disappear in a sectoral or broader economic downturn. Moreover the majority of marketplace lending innovation has been done in the very low and benign post-2008-crisis interest rate environment. Would their funding strategies be as viable in a higher or more volatile rate climate?

More importantly, the credit quality of most unsecured consumer lenders has not been subject to the stress of a economic downturn with rising unemployment. This part of the cycle is when capital adequacy is most tested.

There are real consumer benefits from financial innovation. However the lesson is to be careful about concluding that disruption in the short term will necessarily reshape markets over a full cycle. Market shakeouts may seem immediate, but the ultimate restructuring may not be known until incumbent firms and innovators experience a full cycle of financial competition.

Might such a perspective have informed credit unions’ and NCUA’s responses to the disruption of the taxi medallion industry? A subject for ongoing examination.

Treasury Secretary Mnuchin Says Financial Regulatory Consolidation Not an Administration Goal

As the opening speaker at the FDIC’s Fintech conference on April 23, Treasury Secretary Mnuchin was asked by an attendee if consolidation of the financial regulatory agencies was an administration objective. He replied that it had been evaluated early on in the administration but was no longer an issue.

If the topic of regulatory consolidation arises, NCUA might be the most vulnerable of the independent agencies. A precedent has been set by the Savings and Loan industry in which FSLIC was merged into the FDIC and the OCC became the chartering, supervising authority for federal charters. The FHLB system was “spun off” the S&L system in the late 1980s when its charter was opened to serve all mortgage related financial providers.

When asked to comment on the recent OMB suggestion that all independent agency rules be submitted for review prior to issuance, Mnuchin suggested this was not an area for him to comment.

So the question remains: to whom is the NCUA answerable to, if anyone? Or does independence imply free of all accountability?