Credit unions and NCUA have made tremendous progress over the past five years in resolving the corporate credit union crisis. Now that the remaining projected Corporate Stabilization Fund assessments are lower than the total assessments charged through 2013, it’s a good time to reflect on the road ahead, as well as on how far we’ve come.
Stabilizing the System
In 2008, five troubled corporate credit unions suffered massive declines in the market value of their investment portfolios due to growing credit losses resulting in other than temporary impairment charges under accounting rules. As a result, the corporates lost billions of dollars, which depleted their capital, and many member credit unions began withdrawing funds, creating severe liquidity pressures. Many other credit unions began putting their remaining membership capital on notice for withdrawal, further straining the corporates.
It became clear that these corporates could not recover on their own, as they were experiencing insurmountable market and economic turmoil. Only NCUA’s intervention and extraordinary liquidity support stemmed this lethal outflow.
Thorough reviews by the Government Accountability Office and NCUA’s Office of the Inspector General confirmed NCUA’s actions to conserve the five troubled corporate credit unions were necessary and timely.
The five corporates were no longer viable from three perspectives:
- Economically, their assets were worth far less than their liabilities under both fair and realizable value bases.
- Based on accounting rules, they were required to take investment write-downs through their income statements, depleting all capital in U.S. Central and WesCorp and leaving the three other corporates critically undercapitalized.
- These corporates were illiquid and depended on extraordinary government support.
Consistent with principles set by Congress for consumer credit unions, NCUA needed to take prompt corrective action or risk greater losses.
If NCUA had let the failed corporates continue to operate, the consequences would have been untenable.
- If the full extent of the failed corporates’ losses had cascaded down to consumer credit unions, as many as 2,500 more credit unions would have failed. The first wave of more than $30 billion in capital losses would have caused 850 to 1,200 credit unions to fail. These losses would have depleted the National Credit Union Share Insurance Fund. Compounding these losses, all federally insured credit unions would have been forced to write off most of their 1% Share Insurance Fund deposit.
- At the same time, NCUA would have been required to charge multiple premiums to restore the Share Insurance Fund to its minimum normal operating level. These write-downs and premiums would have triggered a second wave of losses, causing another 100 to 1,300 credit unions to fail. The total cost to the system would have been in excess of $40 billion.
Instead, NCUA’s innovative actions saved the credit union system from a catastrophic collapse.
Managing the Losses
As part of the share insurance system, all federally insured credit unions have borne the losses from the failed corporates. To manage those costs over time—rather than assessing credit unions for billions of dollars in corporate losses in a single year—NCUA worked with Congress to create the Corporate Stabilization Fund. Later we created NCUA Guaranteed Notes (NGNs) to reduce the immediate impact of the legacy asset losses and damage to the system. To align the Stabilization Fund with the lifespan of the NGNs, we worked with Treasury to extend the lifespan of the fund from 2016 to 2021.
From 2009 through 2012, short-term cash needs to satisfy maturing obligations of the corporates’ asset management estates drove annual assessments.
Now the primary remaining obligation is repaying Treasury borrowings and interest.
NCUA has discretion on the timing of Treasury repayments, and the loss projections on the legacy assets have improved this year. In setting the 2013 assessment, NCUA considered:
- NCUA has $6 billion in base borrowing authority shared by the Share Insurance Fund and the Stabilization Fund. Of that, $4.7 billion is committed to outstanding Treasury borrowing, leaving only $1.3 billion available for cash management, including obligations related to the NGNs.
- Realized losses on the legacy assets to date, about $7.5 billion, exceed the depleted capital from the failed corporates by about $2 billion.
- Stabilization Fund assessments to date total about $4.8 billion, including the 2013 assessment. Even with the improving legacy asset projections, assessments to date are still short of the low end of the projected net remaining assessments range.
With these factors in mind, the NCUA Board determined that the best available option when setting the 2013 Stabilization Fund assessment was 8 basis points, the lowest assessment in the past three years.
The Road Ahead
An improving economy and growing credit union strength are helping to smooth the road ahead. If loss projections continue to improve, the low end of the range may decline to the point where no future assessments would be needed—provided actual losses come out at the bottom of the range. NCUA has the flexibility to take industry performance and future uncertainties into account when determining Stabilization Fund assessments. If losses are higher, NCUA must make guaranty payments to NGN investors. If losses are lower, NGN investors will get paid faster, saving credit unions money and making funds available at the end of the life of the NGNs to repay remaining resolution obligations or be refunded to credit unions.
Based on projected residual legacy assets value, the NCUA Board may have more flexibility in future years to wait for the NGNs to mature to repay the Treasury in whole or in part.
Keep in mind that “projected net remaining assessments” means the estimated remaining costs to be borne by credit unions over the life of the NGN program as a result of any shortfall of cash inflows versus outflows. However, it does not account for the timing of cash flows. Remaining cash flows include guaranty payments on some NGNs, assets remaining to be monetized from the failed corporates, and some projected residual value remaining from the legacy assets collateralizing the NGNs that will not be available until the NGNs mature.
One last point: NCUA’s projections are driven primarily by independent modeling of cash flows that are updated regularly by the investment management firm BlackRock Solutions. Projections are point-in-time estimates that can change. The legacy assets are very complicated; it’s hard to precisely predict borrowers’ behavior and where the economy is headed. There are other factors, such as potential future legal recoveries, that can’t be estimated at this time.
The corporate crisis threatened the future of the entire credit union system and demanded decisive intervention. Based on the best possible information, NCUA created a sound, transparent strategy to get the industry through an unprecedented situation.
Each year NCUA carefully evaluates all the considerations that go into assessments, consistent with legacy assets and credit union performance. We are confident we will bring this difficult chapter in the industry’s history to a successful close.
Larry Fazio is director of NCUA’s Office of Examination and Insurance. More information on the Corporate System Resolution is available here, and details of the costs of the program are available here. Information about the NCUA Guaranteed Note (NGN) program is available here.