The following article is the abridged version of a 6,000 word document that originally appeared on Credit Unions Rising last week. The entire article is available in an easy to print PDF here. Please feel free to forward the full document along to peers, coworkers and board members alike!
In reading the NCUA's July 31 press release, listening to their August 11th webinar, and talking with Corporates about NCUA's unilateral change to the CLF's twenty-five year funding structure, an age old nursery rhyme came to mind:
Humpty Dumpty sat on a wall. Humpty Dumpty had a great fall.
And all the king's horses and all the king's men couldn't put Humpty together again.
Every credit union is a member of the CLF. This collective funding provides the maximum capital base for CLF borrowing. However the overwhelming majority of members have no contact or even knowledge about what this means. NCUA's most recent actions would appear to have no immediate financial costs for them.
Yet, this decision to re-open the way CLF membership is conferred could accelerate the dissolution of the unitary credit union system. The outcome would then be the exact opposite of what NCUA said its intentions were, that is to bring greater stability to the industry.
The CLF Changes-The Latest Shoe
In mid July, the NCUA, in its management role at US Central, announced in a phone call with their corporate members that the Agency is breaking the collective funding solution for CLF capitalization. No explanation was initially provided for why the Agency was withdrawing CLF's $1.8 billion U.S. Central deposit in a time of seasonal outflows and while the Agency was urging credit unions to continue to support the system.
Subsequently on July 31, and in a webinar on August 11, the Agency provided its explanation. The pattern of partial information, ex post rationalizations and inconsistent logic of prior actions continues in these communications.
But piecing together the incomplete explanations, it now appears that because the CLF, US Central and NCUSIF are under the common management of the NCUA, the accounting for the CLF's funding deposit is no longer considered an arm's length transaction. As such it has to be characterized as a contra account thus negating US Central's contribution of CLF capital.
This is not how the Agency stated its actions, but obviously this is one of the issues holding up all the Agency's audits. This is another unintended consequence of NCUA's conservatorship of US Central. In its press release, NCUA would not even state this fact outright, but said the accounting rules may require; in fact the rules would require a change, a clarification made in the Q & A during the webinar.
Why this Action Matters
So what will be the consequences of the change and why is this another "Humpty Dumpty?"
The deposit draws $1.8 billion out of the credit union network and puts it in treasury bills—so then the CLF can go to the Treasury and borrow money if the system needs liquidity! Talk about circular reasoning. The CLF has broad investment authority and placing the money in Treasuries is the lowest possible yield available. This change will entail both a loss of liquidity and of earnings for US Central and the corporate network.
But the most important consequence is that NCUA's clear intention to change the CLF's funding solution. "It does not make economic sense for US C[entral] to hold the vast majority of stock on behalf of credit unions. Thus it is necessary for the CLF to consider ways for the orderly exchange of CLF stock ownership from US C[entral] to other credit union owners in a manner that fully preserves the CLF's role as a stabilizing agent . . ." (NCUA press release of July 31).
The CLF funding done by US Central was the least expensive funding solution, covering virtually all credit unions. The Corporates are the delivery and underwriting arm for the CLF. Before this solution in 1983 only a few Corporates had joined the CLF and coverage was limited to 20-30% of the industry's assets. Through US Central and the membership share requirements at each corporate, all credit unions gained access to the CLF. This funding procedure was consistent with not only the CLF statute but also was affirmed by CLF and US Central auditors for 25 years.
The Agency stated that it wants to maintain as much CLF capital as possible to retain the CLF's maximum borrowing limit of 12 times capital and retained earnings (subject to Congressional authorization). However, by changing the membership structure there is only one way to go from the 100% capital contribution, and thus maximum borrowing capability, that exists today.
The CLF's Response to the Credit Crisis
During the past year of the greatest credit crisis in a generation, the CLF has been unresponsive to repeated industry requests from both natural person and corporate credit unions. Both the HARP and SIP programs were agency-designed, unilateral efforts that were not only ineffective, but in the case of SIP with its 25 and 75 basis point charges, more expensive than alternate financing for the Corporates.
When the Corporates requested direct CLF loans in 2008, citing both historical precedent and legal justification, the Agency turned a deaf ear. Only in March 2009 did it grant $10 billion of CLF loans to US Central and WesCorp, anticipating potential funding problems when the agency's conservatorships were announced later that month.
Instead of being a collective resource used for the benefit of the credit unions helping their members, the CLF has been turned into another form of regulatory control by the Agency. That is not a function or practice that credit unions will be anxious to support with future voluntary CLF capital funding.
The New Bottom Line
The unintended consequences of NCUA's actions continue to mount. The corporate system has been "locked down" in a critical period when credit unions need to be assured of credit lines, loan participations and other balance sheet support. The CLF has been unavailable as credit unions have reached out to help members in difficulty with home mortgages. The capital injection capability of the NCUSIF, which resulted in a $1 billion note in US Central, has not been used to help credit unions maintain capital levels so they can continue to serve members' urgent borrowing needs. For example, one credit union said they have run off over $400 million in assets just to stay within the 7% well-capitalized PCA "trip wire" in the first seven months of 2009.
Instead of using the system's collective resources to help credit unions, these funds have been withheld sometimes, as in the corporate situation, waiting for credit unions to become more troubled so they could take them over.
Cooperatives are different from for-profit financial institutions. Assets are held in common to promote the common good. NCUA is part of the credit union system. All of its funding is from credit unions; any outside borrowings are repaid only from their earnings capability.
All the king's horses and all the king's men, could not put Humpty together again. Well hopefully a new chair, who is not a king, can at least take a second look at the value of CLF's collective funding. Credit union's market-facing member benefits are best achieved by collaboration. The CLF's use in a liquidity crisis gives credit unions the ability to help members when they are most in need.
And rather than using all the king's horses and men, she might want to go to credit unions directly and ask for their solutions, not just their checkbooks.