This article is the second part of a two-part series related to deposit insurance applicable to Canadian credit unions.
Overview, History & Pros/Cons: Policy in B.C. & Canada. Unlimited vs limited
Implications & Options: Benefits, cost & regulatory impact. Three policy choices
This series was substantially authored to aid an executive search process. Several system veterans kindly volunteered technical expertise, system memory, and professional guidance. Thank you. Their wisdom, perspective and encouragement were invaluable.
The first article introduced deposit insurance; outlined policy in multiple jurisdictions; and summarized generic pros/cons of limited vs unlimited deposit insurance policies.
This second article has two broad components. First, the implications of unlimited deposit insurance in terms of benefits, costs and regulation. Second, three discrete policy options and recent public positions of the B.C. credit union system. Given subject matter complexity, subjectivity and sensitivity then the author has leveraged significant graphical analysis in efforts to enhance explanation and to aid assessment. Some presented data is marginally stale but this is not believed to impact key themes.
This publication may be easier to read in PDF format. Download per http://bit.ly/dep-ins-pdf
IMPLICATIONS: BENEFITS OF UNLIMITED DEPOSIT INSURANCE
The benefits to B.C. credit unions of a regime of unlimited deposit insurance are broad in nature, and may include -
Market confidence - Growth in collective membership size and deposit amounts at B.C. credit unions
Large depositors - Growth in number or magnitude of deposits that exceeded insurance coverage in other jurisdictions
In-province deposits - Retention of deposits of B.C. members by B.C. credit unions
Depositor Eligibility - it permits institutional entities, such as MUSH (municipal, university, schools and hospitals), to make deposits. Such entities may require that a financial institution have unlimited deposit insurance or a credit rating
Policy simplicity - Members may easily apply unlimited deposit insurance to their circumstances
Between 2007 and 2016 then the B.C. credit union system expanded its membership and attracted larger depositors. System membership increased by over 300,000, from 1.6 to 1.9 million. B.C. member deposits increased from C$36 to C$63 billion. The average member deposit increased from C$22,000 to C$32,000. A range of economic, market and external factors are potential drivers but the dates are also concurrent with the introduction of unlimited deposit insurance. It is possible that unlimited coverage provided members with increased confidence to join, and place higher deposit amounts, with B.C. credit unions.
Unlimited deposit insurance may provide a significant competitive advantage. Three Canadian provinces - BC, SK, MB - have credit union membership that represents in excess of 40% of the population. Each of these provinces has a regime of unlimited coverage. In contrast then Ontario credit union membership represents approximately 10% of its population. The modest market share of credit unions in Alberta and Ontario may be due to the likely strong competition from locally headquartered entities of ATB Financial and Canadian banks respectively.
Unlimited deposit insurance may have attracted larger depositors. At December 2015 then four provinces, each with unlimited coverage, have average credit union deposits in excess of C$30,000 while Ontario credit unions report less than C$25,000. Caution is appropriate with statistics. Higher average member deposit could indicate that many members have increased their deposits or suggest that a modest number of members, perhaps non-consumer, have placed outlier large deposits.
Limited data available in regards the retention of B.C. deposits in B.C. credit unions. It may be notable that, at December 2015, over half of the C$4.2 billion deposits at Concentra Financial were from Ontario customers.
IMPLICATIONS: COSTS OF UNLIMITED COVERAGE
Quantifying the cost of unlimited deposit insurance is tricky. Unlike typical insurance products, the buyer cannot seek a quotation from an alternative service provider or consider costs under multiple coverage insurance terms. Quantifying alternative deposit regimes is beyond the remit of this brief article. But comparable metrics of deposit funds may provide insight -
Historical B.C. levels - Fund levels prior to the introduction of unlimited coverage for B.C. credit unions
Other ‘unlimited’ provinces - Fund levels in other Canadian provinces that offer unlimited deposit insurance
‘Limited’ coverage entities - Fund levels applicable to deposit taking institutions subject to limited deposit insurance
Following the introduction of unlimited coverage, the cost of deposit insurance increased materially. Between 2007 and 2016 then B.C. deposit insurance funding increased from 76 to 95 basis points of member deposits at credit unions. Per current insurer targets then funding is expected to reach 118 basis points by 2021. Higher basis point funding can be associated with an insurer perception of elevated expected loss, say from increased claim sizes (exposure at default) or higher probability of claim (probability of default) that may arise from unlimited deposit coverage or challenging economic conditions.
The B.C. policy may be funded to a lesser extent than funds in provinces with similar coverage. Three other Canadian provinces offer unlimited insurance and each has a higher level of fund size, in terms of basis points of than that of B.C. Relative to its peers then annual assessments may rise the greatest in B.C. as it is currently furthest from its target funding levels.
As is typical of insurance, the fund capital is proportional to insurable risk. For deposit taking institutions, such as credit unions, the size of ex-ante fund increases with the magnitude of insurable deposits and so indirectly by deposit insurance policy. Ontario credit unions, federal credit and banks are each subject to C$100,000 deposit insurance. Related deposit insurer funds are, in basis points terms, materially smaller than in any of the provincial funds that provide unlimited insurance.
While the cost of unlimited coverage requires significant analysis, the author suggests a few ballpark frames of reference-
Were 2007 funding (76bp) effective in 2016 then B.C. credit unions may have an estimated C$100 million more capital
Were 2016 ex-ante funding metrics in B.C. consistent with Ontario then the B.C. funds could be smaller by almost C$200 million
The forecasted increase in target fund levels may account for approximately C$15 million of annual CUDIC assessments
Published 2012 target funding may require continuance or escalation of CUDIC assessments at 18% of system earnings
IMPLICATIONS: REGULATION AND DEPOSIT INSURER
The author considers that unlimited deposit insurance for B.C. credit unions includes discrete financial implications:
Large depositors* - Growth in number or magnitude of high-value deposits enables lending but may increase liquidity risk
Annual premiums* - Elevated exposure at default increases insurance assessments to build a larger investment pool
Opportunity cost* - A larger insurance fund dilutes current earnings and reduces capital adequacy of credit unions
Market confidence** - Growth in membership size and deposit amounts at B.C. credit unions
In-province deposits** - Policy competitiveness encourages retention of deposits of B.C. members by B.C. credit unions
Regulatory compliance** - Insurance risk supports regulatory guideline issuance and supervisory expectation intensity
* High probability, ** Medium probability (author assessment)
CUDIC 2016 assessments represented 18% of the net income of the B.C. credit union system. This proportion is up from 14% in 2014. CUDIC assessments appear to wholly increase its investment asset pool. Between 2014 and 2016 then CUDIC investment portfolio returns have exceeded all expenses and taxes. CUDIC expenses include approximately $5 million charged, but significantly unspent, by FICOM. Deposition by Tara Richards, FICOM Acting CEO, to the B.C. Legislative Assembly states that ‘with the shortage of staff, we have a surplus ... of $3.5 million to $5 million on an annual basis. Last year [to 31 March 2015], for the record, the recovery [unspent income returned to B.C. government general fund] was $4.8 million’.
The B.C. ex-ante deposit insurance funds have increased in size relative to the aggregate capital of B.C. credit unions. In 2007 then the asset pools represented 12.2% of system capital but this had increased to 14.6% in 2016. Were the equity of Coast Capital Savings Credit Union excluded, assuming its future achievement of federal charter without CUDIC coverage, then the insurance asset pools would represent almost 20% of system. Payments by B.C. credit unions to CUDIC reduce their net income and, over time, retained earnings and capital adequacy.
In recent years regulatory compliance costs of B.C. credit unions may have increased materially. Based on the substance and frequency of regulatory guidance issuance the level of oversight appears to have expanded at an ever greater rate. Between 2013 and 2016 FICOM issued seven Guidelines; required extended reporting on various topics; and executed several system-level initiatives, such as stress tests. Some Guidelines issued by FICOM have resulted from task force or other consultative processes that involved executives, board members or advisors from B.C. credit unions.
CONCLUSION: POLICY OPTIONS
Option 1 - Maintain current unlimited deposit insurance regime
The current regime may have supported growth, reinforced strength and showcased confidence within the B.C. credit union system. During the current regime period then membership size and deposit amounts collectively at B.C. credit unions have increased by 19% and 72% respectively. Unlimited insurance appears to have attracted larger depositors, with average member deposits increased by 45%. System capital has increased by 78%. All Western Canadian provinces offer unlimited coverage.
The B.C. credit union system and most individual credit unions to be materially supportive of the current regime.
But an elevated level of moral hazard may enable inappropriate risk appetite, insufficient risk management or unsound business practices by B.C. credit unions. The regime is increasingly expensive. Assessments drain 18% of credit union system earnings. The ex-ante funds represent almost 15% of system capital. Regulatory requirements have intensified and compliance costs increased. Unlimited insurance may be acutely costly for credit unions under regulatory intervention.
Option 2 - Reintroduce a limited deposit insurance regime
Many depositors may want rather than need unlimited deposit insurance. Deposit taking institutions with limited deposit insurance have significant levels of uninsured deposits. 30% of deposits in Ontario credit unions are uninsured by DICO. 72% of deposits in banks and federal credit unions are uninsured by CDIC. Yet DICO and CDIC regimes currently apply maximum coverage of C$100,000 per depositor per account type. Per its federal credit union disclosures, fewer than 4% of personal members of Coast Capital Savings Credit Union have deposits that exceed CDIC's limited policy coverage.
The author understands that the current deposit insurance regime was introduced by the B.C. government as a surprise to, rather than at the request of, the B.C. credit union system. The re-introduction of limited deposit insurance could boost credit union earnings, redeploy system capital, simplify consumer expectations and/or ease regulatory burden. This may be welcomed given significant financial margins compression; elevated member expectations and technology investment; the system FIA/CUIA submission theme of ‘every bit of capital counts’; and 2014 and 2016 Auditor General of B.C. findings of resource challenges at the provincial regulator. Credit unions may ensure their adoption of sound risk management practices.
But limited coverage could negatively impact B.C. credit unions. Members with large deposit balances, market confidence sensitivities or depositor profile requirements may migrate their deposits outside of B.C. credit unions. The potential impacts of any material withdrawals from the B.C. credit union system include lending capacity, liquidity position, earnings potential and/or economic growth. Any regime transition need be carefully implemented and thoughtfully communicated to both B.C. credit unions and to their membership.
Option 3 - Seek alignment of deposit insurance regimes across provincial jurisdictions
Few, if any, significant jurisdictions outside Western Canada have deposit insurance regimes that provide unlimited coverage. Some jurisdictions introduced unlimited coverage regimes to consciously have a temporary impact. Credit unions in Ontario, Quebec and Atlantic Canada; all Canadian banks and federal credit unions; and most, if not all, deposit taking institutions in Europe and U.S.A. operate in deposit insurance regime with limited coverage. Federal credit unions will likely gain traction.
There may be an opportunity to concurrently align deposit insurance regimes in Canada. Any use of a deposit insurance regime to attract out-of-province deposits may be contrary to the principle of ‘cooperation among cooperatives’, may encourage in a race-to-the-bottom policy mindset, and/or may concentrate risk within provincial systems with the highest risk appetite. A regime could potentially distinguish between insurance coverage for members that reside in-province versus out-of-province.
But such changes would likely be complex, political and lengthy. Related regimes are enacted in provincial policy design and legislative execution would require buy-in from multiple provincial governments and demand extensive system resource. Some provincial credit union systems may be significantly adverse to the policy concept. A consistent regime between both credit unions and banks is likely infeasible, partly as large Canadian banks are effectively too-big-to-fail.
CONCLUSION: B.C. CREDIT UNION SYSTEM VIEW
Submissions to the B.C. Ministry of Finance FIA/CUIA review provide insight into the related views of B.C. credit unions.
Individual credit unions
The B.C. Ministry of Finance website in regards the FIA/CUIA Consultation process provides weblinks to submissions by ten individual credit unions. This represents approximately one-quarter of the number of B.C. credit unions, and likely a significantly higher proportion of its membership and deposits.
One B.C. credit union, Community Savings Credit Union, provided significant critical commentary and provided details of its historical CUDIC assessments, that increased by 575% between 2008 and 2014. Its submission highlights the ‘subjective assessment by FICOM’ and the 2012 CUDIC methodology change as key related drivers, in addition to the typical impact of increased aggregate member deposit balances.
B.C. credit union system
The credit union system submission reiterates its prior stance in support of a regime of unlimited deposit insurance.
‘The system is thus still united in its position from the last substantive legislative review where it argued “as integral components of their communities and their regional economies, credit unions have played a ... role in providing financial services to public bodies. Each of these public bodies is responsible for raising and administering public monies.'
Further, the system response makes an express recommendation that 'the deposit insurance regime must respect the following five principles:
Maintenance of a competitive credit union system;
Supports provincial money staying in the province;
Recognizes the value of self-regulation in the system;
Is easily understandable by depositors; and
Any transitions must be well thought out and very carefully managed.'
The author suggests that deposit insurance policy is neither a question of right or wrong, nor of decisions on isolated topics. But rather of choices and their collective implications to all stakeholders. Would B.C. credit unions be more inclined to advocate for limited deposit insurance if it were accompanied by lower CUDIC assessments, rebated CUDIC capital, aligned jurisdictional policies and/or lesser regulatory intensity?
This report is intended as a discussion document. The author expresses no opinion and proposes no recommendation.
This concludes the second article of a two-part series. For reasons of brevity, this report does not significantly consider related implications of current and emergent federal credit unions; the legislative history in jurisdictions other than B.C.; the mandate fulfilment by B.C. deposit insurer(s); the value-for-money of relevant services; or the funding levels, roles and responsibilities, or other matters between CUDIC and SCCU.
B.C. Deposit Insurance Organizations
CUDIC: Guide to BC Credit Union Deposit Insurance - http://www.cudicbc.ca/pdf/cudic/CUDICGuide.pdf
CUDIC: Target Fund Policy - http://www.cudicbc.ca/pdf/cudic/TargetPolicy.pdf
CUDIC: 2016 Annual Report - http://www.cudicbc.ca/pdf/cudic/CUDICFinancials2016.pdf
Stabilization Central: Annual Reports - https://www.stabil.com/about/
Other Selected Deposit Insurance Organizations
CUDGC (AB) - http://www.cudgc.ab.ca
CUDGC (SK) - https://www.cudgc.sk.ca/about-us/
DGCM (MB) - http://depositguarantee.mb.ca/home/
DICO (ON) - http://www.dico.com/design/0_0_Eng.html
CDIC - https://www.cdic.ca
NCUA - https://www.ncua.gov
B.C. Ministry of Finance
FIA/CUIA Consultations - http://www.fin.gov.bc.ca/pld/fiareview.htm
FIA/CUIA Consultations Stakeholder Summary - http://www.fin.gov.bc.ca/pld/files/Response%20report%20to%20FIA%20review%20initial%20consultation%20paper.pdf
FIA/CUIA System Response - http://www.fin.gov.bc.ca/pld/files/BC%20Credit%20Union%20System%20Response.pdf
FIA/CUIA Response of Community Savings Credit Union - http://www.fin.gov.bc.ca/pld/files/Community%20Savings%20Credit%20Union%20(CSCU).pdf
BC Select Standing Committee on Public Accounts - Draft minutes, October 2016 - https://www.leg.bc.ca/documents-data/committees-transcripts/20161005am-PublicAccounts-Vancouver-Blues
Coast Capital Savings CU: CUDIC vs CDIC deposit insurance coverage - Report: https://www.coastcapitalsavings.com/SharedContent/documents/OnlineVoting/2016/ContinuanceBooklet.pdf
C.D. Howe Institute, ‘A New (Old) Way of Thinking about Financial Regulation’ (2014) - Report: https://www.cdhowe.org/sites/default/files/attachments/research_papers/mixed/Commentary_401_0.pdf
FDIC: Termination of unlimited deposit insurance - https://www.fdic.gov/news/news/financial/2012/fil12045.html
FSB: Guidance for Developing Effective Deposit Insurance Systems - http://www.fsb.org/wp-content/uploads/r_0109b.pdf
Time: Why ... a Huge Decline in Drivers Licenses - http://time.com/money/4185441/millennials-drivers-licenses-gen-x/
OECD: ‘Financial Turbulence - Some Lessons Regarding Deposit Insurance’ (2008) - Report: http://www.oecd.org/pensions/insurance/41420525.pdf
CATO: ‘The Explicit Cost of Government Deposit Insurance’ (2014) - Report: https://object.cato.org/sites/cato.org/files/serials/files/cato-journal/2014/2/v34n1-8.pdf
FDIC: ‘Deposit Insurance Reform: State of Debate’ (1999) - Report: https://www.fdic.gov/bank/analytical/banking/1999dec/1_v12n3.pdf
CCUA: 2015 Annual Report - https://www.ccua.com/~/media/CCUA/member_corner/publications/pdfs/CanadianCentral_AnnualReport_2015.pdf
World Bank: ‘Deposit Insurance Around The World - Issues of Design and Implementation’ (2008) - Report: https://mitpress.mit.edu/sites/default/files/titles/content/9780262042543_sch_0001.pdf
NBER: ‘Deposit Insurance Around the Globe’ (2001) - Report: http://www.nber.org/papers/w8493.pdf
Book: ‘Stress Tests: Reflections on Financial Crises’ (2014) - Book: https://www.amazon.ca/Stress-Test-Reflections-Financial-Crises/dp/0804138591
The author wishes to thank selected credit union system veterans that generously volunteered technical expertise, system memory and professional guidance. Out of discretion then no names are noted. Thank you. Their wisdom, perspective and encouragement were most appreciated.
DISCLAIMER & COPYRIGHT
This article reflects the personal comments of the author, Ross McDonald. This article does not represent the views of any financial cooperative, corporate organization, regulatory body or government ministry. Comments are wholly based on information that is in the public domain.
Although the author has made every effort to ensure that the information in this article was correct at press time, the author does not assume and hereby disclaim any liability to any party for any loss, damage, or disruption caused by errors or omissions, whether such errors or omissions result from negligence, accident, or any other cause.
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