Although the credit union sector remains reasonably stable, changes must be implemented if it is to have a sustainable future, writes CAROLINE MADDEN.
THE BANKS may have been hogging the headlines for the last two years – and for all the wrong reasons – but that’s not to say that other institutions such as credit unions are immune to the chill winds of the global financial crisis.
Although the credit union sector remains reasonably stable, at least in comparison to the banks, changes must be implemented if it is to have a sustainable future.
At least that’s the view of the Credit Union Development Association (CUDA), which has drawn up a detailed proposal for a new financial model for the credit union movement in Ireland.
CUDA, which represents 10 of the largest credit unions, has proposed a number of steps aimed at reducing the possibility that credit union members will ever have to fall back on the State deposit guarantee scheme.
Last September the Government extended this scheme to credit union deposits, and also increased the amount covered under it to 100 per cent of each member’s savings up to a maximum of €100,000.
Until then the credit unions were entirely outside this scheme, although the vast majority are members of the Irish League of Credit Unions (a rival organisation to CUDA) which has a savings protection scheme.
Although CUDA feels that the deposit protection scheme provides peace of mind and is “the ultimate safety net”, it is advocating a number of additional precautionary measures such as the establishment of a central liquidity facility.
The idea is that credit unions would deposit a portion of their surplus funds into this facility, and would be able to access it in the event of a liquidity emergency, thus maintaining the stability of the sector.
The Registrar of Credit Unions, Brendan Logue, who is responsible for regulating the sector, has also drawn attention to the importance of putting a liquidity support system in place.
“There are an increasing number of individual credit unions experiencing liquidity stress,” Mr Logue said in the Financial Regulator’s 2008 annual report.
He explained that this “liquidity stress” has arisen from a combination of increased arrears on members’ loans, increased savings withdrawals and increased lending to members.
“While there are some liquidity support solutions in place at an individual credit union level, such as bank and inter-credit union borrowing, these solutions are limited and usually expensive,” he said.
At the launch of the 2008 annual report last month, Mr Logue indicated that he is currently in talks with the Department of Finance about the creation of a fund of €200 million to €300 million to provide liquidity to credit unions in difficulty.
It appears that CUDA and the registrar are more or less singing from the same hymn sheet, although the former is very much in favour of an internal solution, which it says would be in line with the “self-help” ethos of the movement.
Another key strand of CUDA’s proposed model relates to capital management and specifically the level of capital reserves to be maintained by credit unions.
Proposed new rules expected to come into force by the end of September will require credit unions to keep reserves at a minimum level of 8 per cent of total assets, rising to 9 per cent the following year and reaching 10 per cent by the end of September 2011.
A spokeswoman for the regulator confirmed that at present one in five credit unions would not meet the proposed 10 per cent minimum reserve ratio.
However, she emphasised that the new ratio requirements would be relatively flexible, and they would be phased in on an incremental basis.
CUDA feels that a “one size fits all” reserve requirement does not acknowledge “the divergence in asset quality in credit unions”.
It suggests instead that reserve requirements should factor in a risk weighting to reflect the asset quality, loan security, types of investment and so on of each credit union.
To this end it has developed a reserve strategy model which it says “ensures that strong, stable credit unions are not disadvantaged, while weaker credit unions are appropriately dealt with based on a level of statutory reserve that would be increased proportionally and incrementally depending on the underlying risk”.
In the draft paper relating to the proposed reserve requirement, the Financial Regulator said that it would be up to the board of directors of each credit union to decide on the amount of reserves to hold in excess of the minimum ratio, “taking account of the scale and complexity of the credit union’s business, its risk profile and prevailing market conditions”, which seems a reasonable suggestion.
Furthermore, setting a minimum ratio of 10 per cent doesn’t seem excessive given the importance of having sufficient reserves. Capital reserves not only provide a base for future growth but – more importantly – they protect against unanticipated losses, and so are vital to the survival of credit unions and the protection of their members’ savings.
Finally, CUDA suggests that a stabilisation scheme be established on a statutory basis.
As with the central liquidity facility, individual credit unions would be required to contribute into a central fund, with the difference being that this would be used to “rescue” credit unions that encounter a non-liquidity problem.
CUDA believes that significant elements of this proposed model could be put in place within the next year and the full framework within three years. However it would require legislative changes, including an overhaul of the Credit Union Act.
There are already signs that changes of this magnitude may be on the horizon.
“There is a general consensus that the credit union legislation needs to be modernised,” Jim Farrell, chairman of the Financial Regulator, said in the watchdog’s 2008 annual report.
“We are working with the Department of Finance to bring this about.”
