Where now for credit unions?

Where to now for credit unions? The global financial crash has been both a plus and a minus for the organisations often referred to as finance co-operatives.

With confidence in banks at an all time low, many more savers and borrowers are seeing credit unions as a valid alternative. Credit unions have not lost stacks of money in high risk financial derivatives, unlike the banks, and with borrowing from banks having become much more limited, credit unions are an attractive option – especially as the unions comply with constraints on interest rate charges.

But there has been a downside, as well. Some credit unions became over-exposed during the recession. In particular, several Irish credit unions loaned too much money to property developers at the most inflated point of the property market bubble. Several collapsed as a result. This is another strong argument for credit unions, like building societies, avoiding high risk activities.

The situation in the Irish Republic has become so acute that widespread consolidation of credit unions is essential, with substantial rationalization of the sector taking place – which is likely to see many fewer unions survive than the current 409.

Jonathan McMahon, director of the credit institutions at the Irish Central Bank, has congratulated the Irish League of Credit Unions for running an effective system of financial guarantees that prevented savers from losing their funds. But in an important recent speech he added: “While the ILCU support has been important to the maintenance of the sector’s stability, the Central Bank considers that somewhat more definitive actions will also be required if the sector is to be placed on a stable long-term footing.”

McMahon warned a finance conference that the credit union sector must move to a different structure, not least because while in Ireland it has assets of over €14.3bn (about £12.5bn), this was held in unsecured personal loans. Given the depth of crisis in the Irish financial system at present, there are obvious uncertainties about the capacity of borrowers to repay these sums and over what time scale.

But the main focus of McMahon’s speech was that Ireland still has a large number of small credit unions – with over half having assets of less than €20m (£17.5m) and another 21% with assets of less than €40m (£35m). On this basis, he suggested, consolidation offered not only a route towards greater efficiency and solidity, but also for the re-emergence of a viable financial mutual sector in Ireland following the collapse of the Educational Building Society and the Irish Nationwide Building Society.

“In a world where there are no large mutuals, EBS is gone, INBS is gone, there is now an opportunity for the credit union sector through a process of consolidation to step into the gap which has been left by the disappearance of those two institutions,” said McMahon. This process is even more attractive, he believes, because of the consolidation across the main banking sector in Ireland, which will leave only two major players standing: Bank of Ireland and Allied Irish Banks, both with very large levels of support from the Irish government and limited capacity to lend.

The Irish League of Credit Unions seems sympathetic to the proposal. A spokeswoman for ILCU said: “Discussions about the strategic direction of the credit union sector are ongoing. However, we welcome recommendations in relation to the most effective regulatory structure for credit unions taking into account our not-for-profit mandate, volunteer ethos and community focus, while paying due regard to the need to fully protect depositors’ savings and financial stability, and our need to serve our members in the most efficient way possible.

“Credit unions have not been immune to the current financial crisis and when our members suffer, we suffer. However, we have weathered the financial storm well, increased our membership and continue to serve local communities across the country as we have done for over 50 years. The vastly different financial services landscape in which we are now operating offers great opportunity for the credit union movement. This is a very important time for us.”

But with consolidation of the Irish credit union sector underway, there are equally relevant questions about whether this should be the right direction for the movement in Britain as well. While the sector is, in general terms, in good health, there have been problems with some smaller credit unions, particularly in relation to their conformance with best practice in corporate governance.

Mark Lyonette, chief executive of the Association of British Credit Unions, told us: “There are some great examples of effective and successful smaller credit unions, so whether a credit union can operate efficiently and sustainably does not depend entirely on its size. But great benefits can come from consolidation and credit unions that may be struggling with a lack of resources may benefit from merging with other credit unions. This ensures members can continue to receive services, produces economies of scale and increases sustainability. It can result in new products being offered to all members of the new credit union, such as the Credit Union Current Account.

“Credit unions in Britain currently have to prove that everyone who is eligible to receive its services has something in common, whether that is working for the same employer, living in the same area, or belonging to the same association. That is one of the reasons that ABCUL lobbied for a change in the law to allow different groups to be served by the same credit union. Once changes come into force later this year, credit unions will have much more flexibility around which credit unions they can merge with – a credit union serving residents of a city could, for example, merge with a credit union providing services to employees of a certain business, even if the two groups have nothing in common.

“Another way in which credit unions can benefit from working together is by sharing resources behind the scenes. ABCUL’s plans for a central banking platform will enable many important routine tasks to be carried out behind the scenes, leaving credit unions to get on with the important work of assisting their members and developing their businesses. The recently announced £73 million modernisation fund from the Department for Work and Pensions includes some money – subject to successful feasibility studies – to develop this ‘back office’.

“Around the world, even smaller credit unions provide a full range of services to their members because much of the routine work is carried out elsewhere, in collaboration with other credit unions. This creates the economies of scale that helps credit unions exist sustainably, but means a credit union doesn’t lose its identity or local control.

“Like any other business, co-operative or otherwise, credit unions have felt the effect of the financial crisis. But as well as the challenges of coping with more members who are struggling to repay their loans, and reduced levels of interest on money they keep on deposit, credit unions have also benefitted from an increased mistrust in mainstream banks.

“Many have reported an increase in large deposits from new members keen to put their money in a local and ethical financial services provider with a simple business model they can understand. In a survey of members carried out in the wake of the financial crisis, in April 2009, nearly two thirds of credit unions reported an increase in the levels of savings deposits over the previous year.”

All of which suggests that the credit union movement in Britain is also set for a process of rationalisation. Many readers will mourn the loss of local identity – in the same way that they have with consolidation in the retail co-operative sector. But in the finance sector there is a new reality following the banking crisis. Financial institutions must now be better governed and better led than before and demonstrate conformity with tougher regulatory requirements. It may well be that larger credit unions are in the best position to comply with this – on both sides of the Irish Sea.

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