Good regulation should be proportional and take into account the potential impact on economic growth, argued Prof Donal McKillop from Queen’s University Belfast. An issue of great concern for credit unions, regulation is perceived by some as an extra burden.
Prof McKillop was speaking at a special breakout session at the World Credit Union Conference in Belfast, where he described some of the main impacts of regulation on credit unions. He explained that the financial sector was regulated more severely than other sectors because in the finance market failures can have devastating consequences.
The key principles of good regulation are sustainable growth, which regulation should not hinder, and proportionality. “If a financial organisation is a really simple organisation with a straight forward business model, then checks and balances on that type should be less than on one that has a more complex model,” he said, adding that regulation should not hinder innovation either.
Looking at specific case studies, Prof McKillop gave the example of the credit union movement in the UK, which he described as “vibrant, but small”. The UK credit union movement includes 500 credit unions with assets of £2.8bn and 1.7 million members.
In line with UK capital requirements, a credit union having fewer than 5,000 members and total assets below £5m must have a capital-to-total assets ratio of at least 3%. Those with 5,000 members or more and £5m or more in assets must have a capital-to-total assets ratio of at least 5%. In addition, credit unions with 15,000 or more members and over £10m in total assets must have a ratio of at least 10% (8% capital and 2% capital buffer).
Lending requirements for UK credit unions also differ, depending on the capital position of the credit union. For example, a single large exposure must not exceed 25% of the credit union’s capital while the aggregate of all large exposures must not exceed 500% of the credit union’s capital. A credit union must not enter into a regulated mortgage for a term of more than 25 years. The Prudential Regulation Authority (PRA) was also considering introducing a £500,000 absolute lending cap on credit unions but abandoned the idea after a consultation with the Association of British Credit Unions (ABCUL) and credit union members.
In the Republic of Ireland a Credit Union Act passed in 2012 introduced a series of new regulatory requirements on credit unions. However, the tiered approach initially intended in the review did not occur. For credit unions the current “one-size-fits all” approach means that small credit unions are subject to much larger regulatory requirements than expected, explained Prof McKillop. Credit unions of all sizes are subject to the same capital requirement.
Credit unions in Northern Ireland are represented by the Irish League of Credit Unions, but regulated by the UK’s PRA. The League includes 339 credit unions in the Republic of Ireland and 95 from Northern Ireland. These credit unions hold €11.9bn of savings and €15.1bn in assets. The Act carries over lending restrictions from the 1997 legislation, which only allows 10% of credit union loans to have a term of more than 10 years. Furthermore, members can only save a maximum of €100,000 with their local credit unions. In terms of capital requirements, credit unions must have 10% of assets in a reserve fund.
2016 research by Prof McKillop and Dr Barry Quinn found that Irish credit unions have moved from a position of increasing returns to scale to constant returns to scale and now to decreasing returns to scale. Potential factors that brought about the change include the meltdown of the Irish economy and the regulatory environment, which add costs to credit unions.
Another report by KPMG from 2013 suggested that the cost of regulation exceeds the benefits of preventing a financial crisis.
Regulation is also a great concern for credit unions in the USA. Bill Hampel, chief economist and chief policy officer of the Credit Union National Association (CUNA), argued that regulation should take into account not only the different products, but also the business that the regulated person is engaged with. As co-operative financial institutions, credit unions have a different approach to other financial providers and fewer incentives to take risks, he said.
“We can make mistakes and we can be bad managers. We do need regulation, but at a different degree. Credit union members need less protection from the institutions they own and manage than consumers of investor-owned institutions,” he told delegates.
Following the 2008 financial crisis the US Congress created a Consumer Financial Protection Bureau to make sure a crisis would not occur again. “Credit unions are subject to this regulation even through they didn’t engage in such abusive behaviour,” he commented.
CUNA members told the organisation the biggest issue that required advocacy was regulation. To address this, CUNA has conducted a study into the cost of regulation on credit unions, also looking at expenses and lost revenue.
The study included 53 credit unions from 28 states. The report concluded that the total impact of regulation for the credit unions surveyed was $7.2bn or 0.64% of assets for the year 2014. The percentage increases to 1.16% of assets for smaller credit unions while larger credit unions spend 0.44% worth of assets on complying with regulation.
Our concern is the increase in regulation and whether or not it is appropriate given our co-op structure and the proportionality. Since we apparently didn’t engage in the anti-consumer practice that led to the crisis, we do maintain that this is inappropriate
The regularity burden accounts for 19% of the total operating expenses.
“Those with higher costs should engage with those with lower costs to exchange experience. Credit unions can learn from each other on how to minimise the costs of regulation,” said Mr Hampel.
He added: “Our concern is the increase in regulation and whether or not it is appropriate given our co-op structure and the proportionality. Since we apparently didn’t engage in the anti-consumer practice that led to the crisis, we do maintain that this is inappropriate.
Credit union chief executives surveyed also added that the 75% increase in resources in recent years would have been allocated to member services had it not been for the regulatory burden. Overall, 26% of small credit unions with less than $25m in assets closed since 2008 due to the rising costs of technology and regulation. Membership of small credit unions has also decreased by 17%. This has resulted in more mergers and consolidations – smaller credit unions affiliating with larger ones to be able to respond to the challenges.
Mike Mercer, chief executive of Georgia Credit Union Affiliates and chair of the debate added that at federal and state level credit union regulators in the USA are starting to realise the impact of credit union regulation.
“Regulators are nervous. If they see crisis happening they want to make sure they can never be blamed. We just have to keep up the message,” said Mr Hampel. “Credit unions are different.”