By Chip Filson
How to train fleas is demonstrated in a one minute video on YouTube that can be found here.
The sequence of events the video illustrates are as follows:
- The fleas are placed in a glass jar.
- A lid is placed on the jar that is left undisturbed for three days.
- When the lid is then taken off, the fleas will never jump out of the jar; their behavior has been set for the rest of their lives.
- Moreover when the fleas reproduce their offspring will follow their example.
The Policy Lessons for Risk Based Capital
NCUA’s revised risk-based capital proposal lists more than 70 categories for which credit unions would be required to calculate capital per their legally mandated risk-weighting.
These weightings, like the lid on the jar, become a primary screen through which decisions will be filtered, such as what assets a credit union should hold, how loans should be priced, and how the balance sheet composition should be composed.
This one-size-fits all formula will reduce the diversity of credit union activity and in so doing change the focus of credit union business planning from serving members needs first, to meeting examiner’s expectations.
Two Commentators Address This Outcome:
Chuck Bruen, CEO of First Entertainment Credit Union in his February 13 comment letter wrote:
The NCUA’s risk-based capital rule is overly complex and inappropriate for credit unions and their business model. . . NCUA’s risk-weights also experimentally incent and dis-incent credit union lending and investment behaviors in unprecedented and untested ways.
This topic of steering lending decisions was also a concern in a new comment posted by Randy Karnes, CEO of CU*Answers:
I believe the revised RBC rule penalizes credit unions for specific activities such as real estate lending, member business lending, and credit unions chartered to assist the un-bankable by placing a capital tax on the resulting assets from low income or credit lending to the poor. We believe the end result will be thousands of homogenous balance sheets in 2025 that NCUA can easily understand from a supervisory perspective. However, this current risk posture of the NCUA cannot but fail to lead credit unions to shy away from diversity or the cooperative reason for the charter and field of membership. The end result of this rule will ultimately force credit unions into potential areas of investment and lending in which the credit union lacks experience or create industry wide concentrations that could be impacted by similar economic variables. In and of itself, this rule creates more risk than it proposes to control.
The FDIC’s Vice Chairman’s Analysis of RBC’s Asset Ranking Incentives
These concerns are not theoretical. The evidence from the banking industry’s reliance upon the RBC formula is that it creates incentives that do not enhance safety and soundness, moreover the outcome can even undermine the critical economic value contributed by financial intermediaries. As stated by FDIC Vice Chairman Thomas Hoenig in a speech to the International Association of Deposit Insurers in April 1013:
If the Basel risk-weight schemes are incorrect, which they often have been, this too could inhibit loan growth, as it encourages investments in other more favorably, but incorrectly, weighted assets. Basel systematically encourages investments in sectors pre-assigned lower weights -- for example, mortgages, sovereign debt, and derivatives -- and discourages loans to assets assigned higher weights -- commercial and industrial loans. We may have inadvertently created a system that discourages the very loan growth we seek, and instead turned our financial system into one that rewards itself more than it supports economic activity.
Comments More Needed Than Ever on RBC #2
The second comment period is even more critical than the initial response to RBC #1. For in this second iteration the debate is not about risk weights, ratios, phase-in periods etc, but whether this new rule is good public policy for cooperatives.
The impact of the rule will be to create behaviors contrary to credit union’s purpose and market place role. It will decrease diversity and increase asset concentrations.
Credit union leaders must not act like fleas in the jar. Comments on RBC#2 are more critical than ever—or this new rule could become the lid on your credit union’s and the movement’s future.
Chip Filson is president/CEO of Callahan & Associates, Washington, D.C., and has more than a quarter century of in-depth experience in government, financial institutions, and business. Mr. Filson co-founded Callahan & Associates in 1985, and previously held concurrent positions at the National Credit Union Administration (NCUA), as president of the Central Liquidity Facility (CLF) and as director of the Office of Examinations.