Credit Union Liquidity: Déjà Vu All Over Again?

From 2012 to 2018, the aggregate credit union loan-to-savings ratio rose by almost 20 points, from 68% to 86%, its highest level in 40 years. During those six years, loans outstanding grew by 73% (9.6% per year) while savings rose only 39% (5.6% annually). If these growth rates continue, the loan/savings ratio will reach 89% by the end of this year and 92.4% by the end of next. The credit union system doesn’t yet face a liquidity crisis, as it did in the late 1970s, but for many credit unions, tight liquidity is a pressing issue.

To help understand the current liquidity crunch and how to deal with it, it’s helpful to look back briefly at the liquidity crisis of four decades ago, when the loan-to-savings ratio reached 94%.  That liquidity drain occurred in a time of very high interest rates and a 12% federal credit union loan rate ceiling, which also applied for many state charters. Interest rates on Treasury Bills and deposits at banks and savings and loans at times exceeded 12%, so credit unions simply could not compete. Members even took out credit union loans to buy CDs at other institutions: Call it consumer arbitrage. Many credit unions had to take drastic actions to slow loan growth. The system-wide liquidity crisis even led to the creation of the NCUA’s Central Liquidity Facility and the modern corporate credit union system to source additional liquidity for credit unions. Soon after, with the lifting of the loan rate ceiling, credit union loan rates soared along with deposit yields, and the loan to savings ratio rapidly receded (helped by a temporary mandatory federal credit restraint program imposed on all consumer lenders in 1980).

Ever since that crisis, I had believed that credit unions would never again run short of liquidity because the loan rate ceiling had effectively been eliminated (the NCUA can and has kept it high enough for credit unions to operate). Without the ceiling, credit unions would be able to charge high enough loan rates, to both moderate loan growth and be able to pay attractive savings rates to fuel deposit growth, keeping loan and deposit growth in relative balance.

Obviously, credit unions could have done that, but recently many haven’t. This is most evident in the auto lending market. The good news is that the credit union share of total vehicle loans outstanding (new and used) has soared by more than 10 points, from 21.7% in 2012 to 32.3% in 2018. That’s astounding, and of course means that auto loans outstanding at credit unions have grown much, much faster (more than doubled) than at all other lenders taken together (increased by less than a quarter). This phenomenal growth was fueled by increasingly competitive credit union auto loan rates, with credit union rates rising by less than either Treasury rates or other lenders’ rates during the period. From 2012 to 2018, two-year T-Bill rates rose by 250 basis points more than the average credit union auto loan rates, and bank auto loan rates were up by 40 basis points more than credit union rates.

On the savings side, average dividend rates also lagged market rates, stunting share growth.  From the end of 2012 to December 2018, while average money market mutual fund rates rose by slightly more than 200 basis points, credit union money market account rates rose by only 30 basis points. Over the same period, while one-year Treasury rates rose by 250 basis points, credit union one-year CD rates rose by less than 100 basis points. Since banks also kept deposit rates low for most of the period, credit unions didn’t lose market share of deposits at financial institutions, but low rates encouraged members to look elsewhere with their savings dollars – the stock market and money funds.

This suggests that the current liquidity crunch, if not intentional, is at least somewhat self-inflicted. By maintaining very – in some cases overly – competitive loan rates, credit unions have encouraged very strong loan growth while limiting their ability to strengthen share growth with more enticing deposit rates. Perhaps this was motivated by credit unions’ experience of the preceding three decades, when consumer loans were very hard to come by.

At the most basic level, liquidity can be restored by raising the trajectories of both loan and savings rates, bringing them more in line with the competition. Unpleasant as this may be on the loan side, it’s far better than having to restrict or allocate lending. In addition, in the short-term, so long as earnings and capital are healthy enough to bear the additional expense, borrowing or CD specials can be good ways to fund appropriately priced loans. In the longer term, other steps could stimulate deposit growth: Greater emphasis in marketing (targeted to the saving demographic), offering business services or providing excess share insurance.

Finally, it’s likely that the current liquidity crunch will be solved without anyone having to lift a finger (or a loan or dividend rate). Every recession in the U.S. since World War II has brought slower loan growth and faster deposit growth for credit unions. Although far from certain, signs are building that a mild recession is likely sometime in the next few years. Once that happens, credit unions will once again have to chase loans: No rest for the weary.

Bill Hampel is a credit union consultant and former CUNA executive. He can be reached at mdbhampel@gmail.com.