Capital and Capitol Conundrums
Sometimes things you didn’t think would affect you sneak up on you by surprise, whether out of nowhere or ignorance or you’re merely preoccupied with other things.
Dodd-Frank has certainly become something that can’t be ignored. In fact, during a recent web seminar we hosted concerning regulatory compliance, more than 66% of attendees said the law would play a significant role in their planning for 2013. On the other hand, 34% reported it would have a minor role or none at all. Hopefully, those are the ones who are already prepared for the consumer protection and transparency regulations that are coming to fruition.
Executive compensation disclosure could be a part of the transparency trend, and as I’ve advocated in the past, it should be. Currently, only state charters are not exempted from compensation disclosure. As the last of the tax-exempt, not-for-profits not to disclose, it can make outsiders and members more suspicious of salaries paid to top credit union executives when, in most cases, there’s really nothing to hide. And where there is, then problem solved.
Every year their top executives’ pay is released and the industry groans about the figures. If you expect transparency from your regulator, you have to walk the talk. Interestingly, 59% of our Dodd-Frank web seminar participants said greater transparency will be good for credit unions. Respondents weren’t specifically referring to executive compensation, but that’s certainly a piece of it.
Dodd-Frank was initiated to fix the financial institution crisis brought on by many of the larger players–systemically important financial institutions–that made the bad loans and doubly bad investments. But like so much of legislation and regulation, the community banks and credit unions that followed the rules were still ensnared in that trap even if only indirectly in some cases.
The same could be true for the Basel Accords and all of its sequels, which were intended to only apply to international financial institutions. I won’t even pretend to understand all of what is being discussed (and don’t you either), but it’s capital reform. The intention of Basel is to prevent the largest banks from overleveraging themselves and wreaking havoc in the global financial system should one fail.
Credit unions are in serious need of capital reform because the ratios fixed in the Federal Credit Union Act under prompt corrective action (Wasn’t PCA thrust upon credit unions primarily because of bad actors in the banking sector? Hmm, methinks I see a pattern.) can actually make them riskier or force them to miss out on business opportunities because their risks aren’t properly weighted.
Credit unions are required to carry 7% capital to be considered well-capitalized, even though the credit union movement in aggregate is barely a SIFI, yet the international banking regulators are just getting around to considering 6% Tier 1 capital for systemically important banks? FDIC currently requires 10% risk-based, 6% Tier 1 capital and 5% leverage ratio to be well-capitalized.
What could affect credit unions is the risk weighting of assets. According to the NCUA’s Larry Fazio, as the banking regulators rework their regulations, the agency is required to consult with the banking regulators (Section 216 of the FCUA, I looked it up.) regarding any increase or decrease in the minimum level for the leverage limit. Fazio explained that the potential effect on credit unions would be in the modification of some of the risk distinctions, and that it could increase or decrease a credit union’s need for capital based upon its risk profile. More Treasuries, less capital necessary. Commercial real estate loans, more capital might be necessary. But it would all depending on how Basel III shakes out. With an industry-wide net worth ratio of 10%, well above the required 7%, the credit union community as a whole won’t be in dire straits. It could open up opportunities for many credit unions. In any case, the better the risk is measured the more efficiently and safely the business can run.
Some credit unions might make that opportunity member business lending, which of course, could automatically drive up the risk portfolio. Still, it doesn’t mean credit unions can effectively manage that risk. While member business lending legislation will not move forward on its own, there’s still a possibility for it to move as part of another bill. Unfortunately. that would take a Christmas miracle.
As of press time, Senate Majority Leader Reid, who promised credit unions a floor vote on business lending, filed cloture on the transaction account guarantee bill, which means they likely have the 60 votes to pass the legislation the community bankers have been pushing hard for and kept credit unions from adding member business lending to. It will be a real kick in the pants for credit unions’ lobbying prowess if TAG, legislation that encourages moral hazard, passes in a single legislative session and credit unions can’t get business lending–a zero-expense, economy-boosting, job-providing bill–within a decade.