The termination by the Central Bank of a credit union strategic review process, originally requested of it by Finance Minister Brian Lenihan in late 2009, comes as no surprise.
In the intervening fourteen months, in line with expected outcomes, credit union financial stability has progressively worsened.
Predictably these outcomes are a result of a combination of credit union boom time investment strategy, poor lending practices and a post-boom economic recession. Given that a credit union’s ability to generate sufficient profits to pay a decent dividend is the primary indicator of financial stability and sustainability, the dividend outcome for last year is quite telling. Three out of four paid less than 1%. One in five was unable to pay any dividend at all.
Yet the full impact of loan losses has yet to be realised as many credit unions kicked the can down the road by rescheduling troubled loans. With loan arrears breaching 15% and heading for 20%, using last June’s regulatory stress test parameters, total sectoral losses could reach €1.7bn. This figure is the mid-range of stress tested loan losses and estimated investment losses to date.
However loss estimates could be higher. Significantly under-lent, credit unions have holdings of close to €1.3bn in bank bonds of which about €300m is in subordinated paper. These could be exposed to losses under new bank resolution rules.
Since late 2009, the worsening economic recession and Central Bank intervention have exposed badly governed and managed operations. The bank’s robust requirements of credit unions to rebuild capital buffers, provide properly for bad debts, restrict lending and manage liquidity along with the impact of escalating bad debts and collapsing demand for new loans have eroded profitability to a point where the continuing independence of many credit unions is highly unlikely. As everywhere else, badly governed and managed credit unions are either shut down or merged with others, the new bank resolution laws will provide the Government with powers to respond to this eventuality. It will have the power not only to arrange for closures and mergers of credit unions with others but will also be able to order a bank to takeover their operations.
Meanwhile the Irish League of Credit Unions, having seriously dented its small bailout fund of €119m in supporting just twenty of its over five hundred affiliates, is probably left with a little over €30m in uncommitted funds. It is now asking credit unions to double their contributions to its fund to about €16m a year. But as it’s quite clear that the fund is wholly insufficient to meet the likely scale of financial stablisation support required, tax-payer’s funds could be at stake. Depending on the severity of financial stress, the cost of state support could come to well over €500m.
In the past six months two significant developments have also overtaken the strategic review. Firstly the EU/IMF programme required the Central Bank to not only to stress test the banks but to also stress test credit unions and implement a stablisation plan by the end of the year.
Secondly, many observers considered the strategic review to have been an abdication of ministerial responsibility to define policy concerning the sector. It seems the new government considers credit unions of some importance and is to set up a credit union commission.
If taxpayers’ funds are to be committed and if credit unions are to have a role in any future domestic banking system then a commission will need to be given the powers to ensure that credit unions finally deliver on long overdue reforms.
A version of this article appeared in the Irish Examiner, Business Section, Saturday 19th March 2011.
I would be concerned that any new model might not continue to lend to people banks will not look at - the unemployed or State Pensioners. Most of these people borrow small amounts and pay them back on time, and are not the cause of any current issues in CUs. As an accountant, I agree that many CUs need more general brains on the Board, and some financial savvy. But remember our banks were run by financial people, and Sean Fitzpatrick is a chartered accountant. So is Charlie McCreevy. A financial background is no certainty of anything very solid or safe!
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