Underserved Answers

The "modest means" study, MSAP, and the Government Accountability Office (GAO) report are fading into the credit union movement's rear-view mirror. No startling revelations, no damning findings, no sweeping legislative recommendations-and thanks to Congressional transitions, no adversarial Ways and Means Chairman to lead an offensive against credit unions. Actually, it was all a little anticlimactic.

But the issues haven't disappeared.

Bankers found GAO support for their position that credit unions serve proportionately fewer people of "modest means" than banks do. Community Reinvestment Act (CRA) advocates were encouraged by the GAO findings, too; with a number of prominent Democratic supporters in the new Congress, they look forward to reintroduction of the CRA Modernization bill, which would extend CRA to "large" credit unions. Finally, there seems to be growing acceptance for expanded data-gathering on income levels of credit union members-which will likely produce further controversy.

The Federation is especially interested in one byproduct of the recent studies: the NCUA Outreach Task Force, created in mid-December and headed by board member Gigi Hyland. The initial press release announcing the task force identified a few rather specific questions, but did not identify the composition or overall scope of this new body. The Federation quickly responded with our own suggestions, issuing a white paper entitled "Serving Low-Income Communities: Recommendations for the NCUA Outreach Task Force" (available on our web site, www.cdcu.coop).

Contrary to our urging, NCUA has made the Outreach Task Force an entirely internal body: public input is to come from a series of NCUA "town hall meetings" around the country. In December, the Federation expressed our concern that the task force would be focused too narrowly on specific NCUA programs and procedures (such as the Community Development Revolving Loan Fund), ignoring the major policy issues affecting service to low-income people. NCUA officials have assured us that broader issues will, indeed, be addressed, and that NCUA so far has "only questions, not answers."

Time will tell. We wish NCUA had approached this initiative differently. But the task force presents an opportunity that we can't ignore. If it is genuinely willing to question the agency's basic policies and practices affecting service to the underserved, it could perform a very valuable service for the entire movement. That's not a small "if." Here are a few of the broad questions we would like to see the task force examine in the months ahead:

* Why does there seem to be a persistent disconnect between the NCUA board's encouragement to serve underserved people, and the interactions "on the ground" between examiners and credit unions? How can this be rectified?

* Does the CAMEL framework inherently work against credit unions that serve low-income members?

* Do peer-group comparisons by their nature discriminate against low-income and other credit unions that make special efforts and incur additional costs to reach underserved populations?

* Is NCUA's monitoring sufficient to ensure that credit unions receiving "underserved" expansions actually provide the services they promised when they applied for the expansions?

* What will it mean for the movement if small credit unions-including many with a special niche serving low- and moderate-income people-continue to disappear at a rapid rate? How can that trend be halted or slowed?

The Federation's white paper lists a host of specific recommendations for the task force. Here are a few key points:

* Credit unions should not be penalized for serving low-income and hard-to-serve groups. Serving these groups can be more costly than serving a prosperous, well-established field of membership. Asset-size peer-group analyses and CAMEL ratings should be adjusted to take into account the nature of a credit union's membership and the services it provides.

* NCUA should loosen its restrictions on access to capital by low-income credit unions- both non-member deposits, which help subsidize their services, and equity-like subordinated debt (secondary capital), which improve their net worth.

* The $15-million Community Development Revolving Loan Fund (CDRLF) administered by the agency should be restructured to provide secondary capital - not simply deposits to low-income credit unions. This would enhance their safety and soundness and help preserve this segment of the CU industry.

* NCUA should increase its quality control over examination of low-income credit unions. The agency should not use low-income credit unions as "training grounds" for its least experienced examiners.

* The agency should make it a priority to ensure that its examiner guidance "white paper" of February 2005 (Supervising Community Development Credit Unions) is universally understood and appropriately applied by its examiners.

What would it take for the credit union movement to achieve dramatic progress in serving "people of modest means?" Expanded legislation and regulation would probably do it-but that's a non-starter for most credit union advocates. Perhaps there is a different, and less contentious path. If you believe, like most economists, that incentives drive behavior for individuals and institutions, perhaps we can accomplish a lot more by working together to eliminate the disincentives and barriers that currently constrain service to low-and moderate-income people.

It seems to us that the first step is looking CAMEL in the eye. For example, if senior managers need to achieve a "1" to qualify for increased compensation, what is their incentive to add a costly branch in an underserved area, spend more staff time on low-income outreach, or stretch their lending policies to reach deeper on the income scale?

On the other side, what are the incentives for examiners? Are they rewarded for providing a "1" to a highly-capitalized credit union that expands service to the underserved, but sees its expense ratio increase or its net worth drop by 25-basis points? Do examiners receive bonuses or promotions when their credit unions add low- or moderate-income members? Or when they manage to save a low-income credit union, rather than force it to merge? Don't examiners have a built-in incentive to "err on the side of caution" and downgrade a credit union, when it shows even the slightest adverse trend?

If CAMEL is so central, perhaps it's time to look again at adding an "s" for service to the formula. What if a credit union could not achieve the treasured "1" without demonstrating excellent service to the underserved? How would that change credit union behavior and performance?

Here are a few more ideas for incentives "outside the box" in which credit unions operate.

What if credit unions that expand service to the underserved receive a credit against their investment in the Share Insurance Fund? In the early 1990s, former Congressmen Floyd Flake and Tom Ridge successfully pushed for a credit against FDIC premiums for banks that increased their service to low-income communities-a "carrot" to complement the CRA "stick." In fact, the Bank Enterprise Award (BEA) program that was established in 1994 as a part of the Treasury Department's Community Development Financial Institutions Fund provided funding for a similar idea: banks that could document year-over-year increases in community development financing could qualify for cash awards, which sometimes ran in to the millions of dollars. What if the BEA program were expanded to include credit unions as well as banks?

So, let's reexamine the paradigm and realign the incentive structure that drives the credit union system. If we get it right, we may score a win/win: a credit union movement that is financially safe and sound, strongly committed to serving "people of modest means," and free from prescriptive regulation and the looming threat of taxation.

Clifford Rosenthal is Executive Director of the National Federation of Community Development Credit Unions, New York.