Global financial crisis - Credit union reform is an urgent need

In the midst of the global financial crisis, nobody should be surprised that credit unions are also coming under pressure. They have accumulated losses of at least €700 million as a result of bad loans and underperforming investments.

Credit unions performed an invaluable service as the primary source of unsecured borrowing for Irish households during the last recession, but they may not be able to perform the same role in the current recession. Some may be unable to pay any dividends for 2008, or even provide a decent return on customers’ savings.

During the initial stage of the financial crisis last month, the Irish League of Credit Unions, which represents the interests of 521 credit unions, proclaimed that credit unions were safer than banks because they were not exposed to the subprime crisis. But the financial crisis is so far-reaching that credit unions are to some extent more exposed than banks.

Most credit unions have larger deposits on their books than loans. They have been investing the excess in loans to business ventures as a means of securing better returns. But most of the credit unions do not have the necessary financial expertise and underwriting skills to engage in such transactions, which means that their risks were all the greater.

Credit unions incur the same risks that have undermined Irish banking stability. Their loan assets have been under considerable pressure. In 2006, during the economic boom, more than two-thirds of the credit unions admitted that loan defaults were significantly higher than safety standards.

At the peak of the property boom, two-thirds of first-time buyers who borrowed their home deposits used unsecured credit union finance. With the recent fall in property prices, the credit unions are effectively financing a huge pool of negative equity.

The market share enjoyed by credit unions has been falling significantly in recent years. It dropped from 8.9% in 2000 to 5.5% in 2004, and current estimates have it as low as 4.6% for 2006.

While savers are protected under the Government’s guarantee for saving deposits, the credit union itself is not covered under the banking guarantee scheme, or the Central Bank’s liquidity funding scheme. Many depositors have been moving funds to banks that have been providing more attractive interest rates.

Problems could be further compounded with the publication of credit union accounts for 2008. These will inevitably show lower dividends, and this could prompt the withdrawal of additional deposits.

Ultimately, the Government could be forced to bail out the credit unions.

If this happens, it will undoubtedly trigger state intervention to consolidate and modernise the credit unions. Even leading officials in the credit union movement have been calling for reform in recent years.

We must learn from our other mistakes and introduce necessary reform without further delay.