The Unique Power Of Cooperative Design And The Regulatory Role

Lack of cooperative principles led to NCUA missteps during the financial crisis. Restoring those principles, widely tested through 75 years should, be our guide forward.


Observers of the causes of the recent financial crisis focused on the perpetrators and how institutions failed; then the victims, and finally the regulators. A recurring theme is that regulators weren't on the ball beforehand and have failed since by not punishing the guilty.

"Tough" is a word constantly used in these assessments, and today NCUA uses it about itself. Unfortunately sounding tough does not mean being effective in regulatory actions.

The NCUA Board has praised itself for the unilateral actions it took seizing five corporates and liquidating their assets. But the facts do not support their self-congratulation.

The total capital of the five corporates, conserved and subsequently liquidated, was, as of December 2007, $5.83 billion, of which membership capital shares were $3.4 billion. The potential losses on investment NCUA took from these corporates, and refinanced with the NGN program, were the rationale for these regulatory takeovers.

However, according to NCUA's website, after four years of nationalized corporates, the actual losses from these investments is less than the $5.8 billion capital in the corporates as of December 2007.

The difference in actual ($3.97 bn) and implied ($0.97 bn) losses and the December 2007 capital total is over $888 million. This means members' remaining capital shares are still over 26% of the December 2007 balances.

Moreover, NCUA assessed $6 billion in premiums to cover losses on these assets even though the original capital of the five is still not used up. In addition, NCUA has retained over $2.0 billion in CLF capital from credit unions.

The bottom line is that NCUA has taken almost $9.0 billion more in credit union funds than the actual real losses on the investment assets.

The Loss Of Cooperative Regulatory Principle

How could such a misjudgment occur? Why were the strengths, long-term capabilities, and expressed willingness of credit unions to resolve the corporate issues not used? While motivations are unknown, the facts are that the cooperative design options for regulatory solutions were ignored. Instead experts and advisors from Wall Street were used in ways that both profited the advisors and reinforced NCUA's intent to act unilaterally.

At a moment when the unique innovative capacity of the cooperative system was most needed, NCUA turned its back on the institutions that created it. In taking the funds of members and dismantling their institutions without credit union input, NCUA jeopardized 75 years of evolving cooperative regulation.

The 75 -Year Legacy

Congress in 1934 mandated a separate and unique system of cooperative financial charters. This authority was housed in the Department of Agriculture, not in existing regulatory structures.

The reason was simple: There were no federally chartered credit unions to regulate. For the next 40 years NCUA personnel along with CUNA and the Leagues helped to charter over 25,000 federal credit unions. Up through 1977, examiners were recognized with annual awards for the most new charters they had assisted in forming.

New charters had no capital and required the voluntary support of organizers and sponsors. These efforts often took a generation of "sweat equity" to reach a self-sustainable level of financial resources. Credit unions and their regulators were joint participants in these system-building efforts. They also created new organizational solutions including stabilization and insurance funds, corporate credit unions, and joint business companies (later called CUSOs) for back office support.

In 1977, credit unions and the newly independent NCUA (by then in the old Department of HEW) worked with Congress to broaden federal credit union powers, establish a three-person presidentially appointed board, and a new regulatory component called the Central Liquidity Facility.

The expansion of CLF membership to all credit unions took over six years and resulted from a creative agreement with the emerging corporate network to share responsibilities for assuring system liquidity in the event of a systemic crisis.

Again in 1984–‘85, credit unions with NCUA created the 1% Solution that provided a uniquely cooperative financial structure for the underwriting of credit unions' mutual share insurance fund.

By the mid-1980s a fully realized cooperative system was in place. Federal regulation, in partnership with states and private insurance options, was transitioning to a financial world where markets would determine which firms succeeded.

Credit unions prospered during the era of deregulation. The system successfully navigated the periodic economic and financial downturns as well as the technology-driven revolution in operations during the following decades. These shocks included the failure of the thrift industry, the bailout of both FDIC and FSLIC by Congress during the bank and thrift adjustment to deregulation, economic recessions, Y2K, and the 9|11 terrorist attacks.

The cooperative system provided new solutions in CUSOs, developed more progressive solutions for risk and operational management, and most importantly added millions of new members with credit unions' focus on value.

Regaining A Cooperative Design Imperative

Cooperative principles are valuable, but they are not self-implementing. The critical challenge for credit union leaders and their regulators is to unleash the innovative capacity previously present. Regulation should facilitate member-owners' awareness of their cooperative institutions — for that is an advantage no other financial sector can claim.

If this change can be made, the $9 billion costs for unrealized losses may not have been in vain; without change, the loss could become just a down payment.