CONTINUOUS LEARNING. INDUSTRY ENGAGEMENT.
FIA / CUIA - Empowering CUDIC - Beyond FICOM's Shadow
CUDIC has outgrown legacy legislation and FICOM’s shadow. CUDIC is responsible for deposit insurance of a C$77 billion industry that is used by almost half of British Columbians. Larger than most Canadian credit unions then it warrants full-time, permanent executive leadership. Larger than most B.C. Crown Corporations then it deserves independent, empowered and accountable governance oversight.
“CUDIC has outgrown legacy legislation and FICOM’s shadow. CUDIC is responsible for deposit insurance of a C$77 billion industry that is used by almost half of British Columbians. Larger than most Canadian credit unions then it warrants full-time, permanent executive leadership. Larger than most B.C. Crown Corporations then it deserves independent, empowered and accountable governance oversight.”
CONTEXT
The following submission was authored by Ross McDonald, in a personal capacity, in response to the Second Public Consultation Paper of a legislative review by the Ministry of Finance of the B.C. provincial government. Under the review, the Ministry of Finance sought public submissions by 19 June 2018. The legislative review considers changes to the Financial Institutions Act and the Credit Union Incorporation Act. This submission provides four recommendations on a targeted subset of relevant topics. Recommendations per this submission are aligned with stated legislative objective and collectively offer policy ideas that have the potential to courageously transform the regulatory environment of B.C. credit unions for the benefit of industry, government, taxpayers and employees.
Ross wishes to thank various credit union system veterans that kindly volunteered leadership inspiration, technical insight and professional encouragement. Thank you, appreciated.
This submission may be easier to read in PDF format. Download per bit.ly/fia-cuia-rm-pdf
EXECUTIVE SUMMARY
This personal submission to the FIA/CUIA Review seeks to frame an alternative regulatory structure for B.C. credit unions. Specifically, the submission provides four recommendations:
Recommendation 1 - Roles & Responsibilities
Transfer the mandate for prudential supervision, including completion of risk-based assessments and determination of deposit insurance premiums, of B.C. credit unions and credit union centrals from FICOM to CUDIC. Terminate any requirement that CUDIC be administered by FICOM.
Recommendation 2 - Legal Entities
Establish CUDIC as a Crown agency. Retain FICOM as branch of the Ministry of Finance. Collaborate with industry to review the legislative mandate, appropriate sustainable resources, and any potential merger of Stabilization Central Credit Union.
Recommendation 3 - Leadership & Governance
Appoint permanent executive and an independent, empowered governance body to provide leadership and oversight of CUDIC. Related competency matrices and governance processes should reflect CUDIC financial size, technical complexity and systemic role. CUDIC Board should adopt, and strive for excellence in, relevant governance best practices.
Recommendation 4 - Public Accountability
Regardless of their legal entity structure then FICOM and CUDIC should, as separate organizations, be subject to the “Performance Reporting Principles” and “Taxpayer Accountability Principles” as published by the B.C. government.
The recommendations are aligned with the primary objective of the legislative and regulatory framework “to maintain stability and confidence in the financial services sector by reducing the risk of failures and providing consumer protection and supporting objectives.” Related execution would necessitate short-term legislative change and organizational restructuring. Some portion of this work may be already actively engaged given the initial recommendations by the B.C. Ministry of Finance.
The recommendations recognize the current size, elevated complexity, resource challenges and peer jurisdiction approaches in regards regulatory oversight of credit unions. Recommendations may create significant benefits to government, to industry and to the public over a medium-term basis. Given numerous, diverse and substantive externalities that face the credit union industry, the recommendations may position the regulatory oversight for the coming decade until the next legislative review.
The author believes that credit unions contribute materially to the economy, employment and communities of B.C. This submission is motivated by personal appetite for a strong and sustainable B.C. credit union industry; for an effective, efficient and appropriate regulatory structure; for best practice adoption in regards governance oversight and public accountability.
RECOMMENDATION 1 - ROLES & RESPONSIBILITIES
Recommendation: Transfer the mandate for prudential supervision, including completion of risk-based assessments and determination of deposit insurance premiums, of B.C. credit unions and credit union centrals from FICOM to CUDIC. Terminate any requirement that CUDIC be administered by FICOM.
B.C. has the largest provincial credit union system in Canada. As at 31 December 2017 then B.C. credit unions reported C$77 billion of assets, C$66 billion of member deposits and 2.0 million members that represent over two-fifths of the provincial population. Three of the top five Canadian credit unions are located in British Columbia. The B.C. credit industry is growing. Between 2005 and 2017, B.C. credit union assets increased from C$36 to C$77 billion and membership increased from 1.5 to 2.0 million.
Over recent years, credit union operations have increased in complexity. Elevated consumer expectations, heightened competition and evolving technological innovation have necessitated significant investment by credit union organizations in digital channels, product offerings and operational efficiency. Increased scale may have permitted increased sophistication by larger B.C. credit unions. For example, between December 2007 and 2017, the total assets of Vancity Credit Union increased from C$14.1 to C$21.7 billion (Source: Vancity CU).
The B.C. credit union industry and its regulator gained national, systemic impact. In recognition of its importance to Canadian credit unions then, in 2014, FICOM designated Central 1 Credit Union as a Domestically Systemically Important Financial Institution. As such, it subject to commensurately elevated regulatory requirements and prudential supervisory expectations. Between 2005 and 2017, Central 1 Credit Union assets increased from C$5 to C$18 billion. While asset growth includes a 2008 merger with Credit Union Central of Ontario then the majority of asset growth was driven by higher member deposits at B.C. credit unions. As of 1 January 2017, responsibility for regulatory oversight of Central 1 Credit Union passed from the federal Office of the Superintendent of Financial Institutions to FICOM. Central 1 Credit Union holds mandatory liquidity deposits for all B.C. and some ON credit unions. It provides wholesale payments, treasury and numerous other services to credit unions nationwide. The nature and complexity of its operations, and therefore its regulatory policies and prudential supervisory approach, are materially different from that of a credit union.
FICOM does not appear to have the operational capabilities to fulfil its mandate in regards credit union prudential supervision. In 2016, the BC Auditor General concluded that “FICOM may not be able to detect a worsening situation at a credit union in time to address and reduce the risk of failure.” This expert, independent determination strikes at the heart of the prudential supervision function. FICOM Supervisory Framework publication states that “the objective of FICOM’s supervision is to reduce the likelihood that a provincially regulated financial institution will fail.”
Over recent years, FICOM appears to have completed a very small number of supervisory reviews of credit unions. B.C. has 42 credit unions. The 2014 BC Auditor General report stated that “With their shortage of staff, it would take over 14 years to review all of BC’s credit unions instead of FICOM’s intended target of two to three”. It could be inferred that FICOM completed supervisory reviews of three credit unions (42 divided by 14), or equivalents thereof, each year. This compares to the 14 to 21 credit unions, or equivalents, that require prudential supervisory reviews annually to achieve FICOM’s target. The 2016 BC Auditor General report stated that “FICOM’s actions to address its staffing shortage are not working. FICOM has further reduced the number of credit union reviews it will do each year”. This suggests that FICOM prudential supervision team may review each credit union once every couple of decades or so. This frequency of review compares extremely poorly to regulatory standards in other jurisdictions and in other regulated industries. The lack of timely supervisory assessments of credit unions may increase deposit insurance risks for B.C. taxpayers, given current unlimited deposit insurance policy.
“FICOM may not be able to detect a worsening situation at a credit union in time to address the risk of failure.”
The extent of FICOM’s responsibilities are materially greater than those of peer provincial regulatory entities. FICOM regulates multiple industries - credit unions, trust companies, insurance companies, real estate, mortgage brokers, strata properties and pension plans. FICOM performs substantially all regulatory function for B.C. credit unions. Specifically FICOM - inclusive of CUDIC - is responsible for regulatory policy, statutory approvals, prudential supervision, deposit insurance and market conduct. Most, if not all, other Canadian provincial regulatory structures use multiple organizations to perform equivalent industry coverage and functional responsibilities.
Despite FICOM’s multi-year resource challenges, its authority was recently further extended. In 2017, the BC Ministry of Finance tasked FICOM with the new function of Office of the Superintendent of Real Estate, a seemingly prominent and impactful role given the substantive recommendations of the B.C. Government’s Independent Advisory Group.
The B.C. Ministry of Finance should revisit any business case that requires CUDIC to outsource its administration and/or operations to FICOM. The BC Ministry of Finance FIA/CUIA March 2018 recommendations state that “CUDIC was merged with FICOM in 1990 to allow expertise to be pooled; that pooling of expertise continues to be relevant and important today.” At that time then both FICOM and CUDIC were startup organizations, perhaps with an all-hands-on-deck mindset. But CUDIC and FICOM are now mature organizations. The rationale of pooled expertise between FICOM and CUDIC may reflect legacy pragmatism rather than current circumstances or future needs of the B.C. credit union industry and related regulation.
FICOM operational capabilities to set regulatory policy for credit unions appear effective under the current organizational structure. Since the prior FIA/CUIA review then FICOM has introduced, and updated, a significant number of regulatory guidelines. It has also progressed multiple adhoc initiatives, such as stress tests, in efforts to assess industry risk and/or to enhance credit union capabilities.
RECOMMENDATION 2 - LEGAL ENTITIES
Recommendation: Establish CUDIC as a Crown agency. Retain FICOM as branch of the Ministry of Finance. Collaborate with industry to review the legislative mandate, appropriate sustainable resources, and any potential merger of Stabilization Central Credit Union.
The size of CUDIC net income may warrant it being a standalone organization. For the year to March 2017, CUDIC net income of C$57 million. Such earnings are large relative to a) BC’s largest credit unions, b) aggregate earning of BC credit unions, and c) many BC Crown corporations. For comparison, Coast Capital Savings Credit Union reported C$58 million net income in the year to December 2016. In the same period, BC credit unions collectively reported net income of C$263 million. Over recent years then net income of CUDIC relative to that of BC credit unions has increased materially, from 13% to 22%, principally due to material increases in deposit insurance premiums. Investment returns from the CUDIC deposit insurance portfolio funds FICOM operations.
The size of CUDIC assets may warrant it being a standalone organization. Between December 2007 and 2017, CUDIC assets increased from C$230 to C$596 million (Source: CUDIC). CUDIC assets have grown materially through higher system deposits, elevated funding policy target and fund transfer.
The B.C. Ministry of Finance should revisit its seeming business case for FICOM’s expansive mandate scope and instead prioritize effective structure, functional excellence and public accountability. The BC Ministry of Finance should strive to identify, and to adopt, best practices in regards the regulatory structures for credit unions. With the exception of BC then most, if not all, regulatory structures in other Canadian provinces separate regulatory functions into multiple organizations. Typically, regulatory policy and statutory approvals are performed by a provincial government organization, while deposit insurance and prudential supervision are executed by a provincial crown corporation (commonly a ‘Credit Union Deposit Guarantee Corporation’).
CUDIC prudential supervision may enable a simple, transparent funding model. The B.C. credit union industry would directly fund the majority of regulatory costs, including prudential supervision activities, through deposit insurance premiums to CUDIC, while the B.C. Ministry of Finance and/or stakeholders would fund residual FICOM functions. Most, if not all, monetary transfers between CUDIC and FICOM, and between FICOM and the BC Ministry of Finance, would terminate. The current funding model may be needlessly complex and appears significantly different from practices in other provinces.
“The B.C. Ministry of Finance should revisit it seeming business case for FICOM’s expansive mandate scope and instead prioritize effective infrastructure, functional excellence and public accountability.”
Legal separation between FICOM and CUDIC may be beneficial to government, industry, taxpayers and employees. The competency matrix, staffing requirements and labour market rates across the regulatory functions likely vary materially. There may be some functions that are performed to a higher standard; with greater timeliness; or on a cost-effective basis by public servants employed by the B.C. Ministry of Finance. For example, public servant direct access to B.C. government resources may provide clarity of discussions towards better and/or more timely decisions for statutory approvals. B.C. Ministry of Finance may seek to have direct input - perhaps to partly mitigate its deposit insurance risk - into processes that introduce, edit, or alter the intensity of regulatory policies. Employees may benefit from legal separation of FICOM and CUDIC as some current FICOM employees may prefer to remain in the public service.
Risk assessment responsibility and related funding source were significantly migrated from industry to government. In 2005, the relationship between FICOM/CUDIC and Stabilization Central Credit Union (‘SCCU’) - an entity owned and governed by B.C. credit unions - was significantly revised and “this resulted in the Stabilization Fund being reduced by $83 million to approximately $30 million, with the CUDIC deposit insurance fund increased by a like amount.” (Source: SCCU 2005 Annual Report). “These new arrangements restrict the flow of information between Stabilization Central and FICOM/CUDIC, with the result that Stabilization Central’s role in assessing risk is more limited” (Source: SCCU 2005 Annual Report). The 2005 fund $83m transfer was transformative in size relative to then asset sizes of CUDIC and SCCU.
SCCU should be considered as part of any regulatory restructuring. SCCU has a legislative mandate to act as the stabilization authority to B.C. credit unions. SCCU - owned, governed and operated by industry - appears to provide a valuable force for betterment in the credit union system. It advises specific credit unions that voluntarily choose, or have been required by FICOM, to initiate organizational changes. It promotes best practices across B.C. credit unions. In an environment of increased complexity and elevated regulations then it may act as an informed, cost-effective and trusted counsellor to boards of directors of B.C. credit unions - especially those of small and medium size. Its role contributes to the mitigation of deposit insurance risk. Annual reports of, and the 2015 FIA/CUIA submission by, SCCU disclose deliberations by its board in regards organizational viability and potential merger partners. They also highlight significant desire for a clearly defined, appropriately informed and credibly sustainable role. SCCU could play various future roles. Its functional responsibilities could be extended. Its legal status could remain as a standalone entity or be merged with Central 1 Credit Union or CUDIC. This submission does not consider related matters or propose specific recomendation(s). The B.C. Ministry of Finance should collaborate with industry to critically assess the business case, alternative strategic options, and effective future role of SCCU.
RECOMMENDATION 3 - LEADERSHIP & GOVERNANCE
Recommendation: Appoint permanent executive and an independent, empowered governance body to provide leadership and oversight of CUDIC. Related competency matrices and governance processes should reflect CUDIC financial size, technical complexity and systemic role. CUDIC Board should adopt, and strive for excellence in, relevant governance best practices.
By virtue of legacy legislation, CUDIC has never had dedicated executive leadership. The Superintendent of Financial Institutions also holds the official capacities of Superintendent of Pensions, Registrar of Mortgage Brokers, Superintendent of Real Estate plus CUDIC Chief Executive Officer. The CUDIC Executive Director, and limited CUDIC staff members, are FICOM employees. FICOM completes executive functions, such as establishment of the deposit insurance fund target policy, on behalf of CUDIC (Source: CUDIC annual report). FICOM staff provide significant operational services and administrative support to CUDIC.
For over two years, FICOM absence of permanent executive leadership has impacted CUDIC. Carolyn Rogers resigned as Superintendent of Financial Institutions in May 2016. Jeffrey Wu, Executive Director CUDIC, left FICOM at a similar date. Since that time FICOM has been led by an Acting Superintendent, Acting Superintendent Regulation, Acting Deputy Superintendent Prudential Supervision and Acting Deputy Superintendent Market Conduct. FICOM corporate functions are directed by an Interim CEO. Day to day operations of CUDIC are overseen by a FICOM employee that was appointed Acting Executive Director CUDIC.
CUDIC deserves full-time, permanent executive leadership:
its organizational size is larger than most B.C. credit unions and most B.C. crown corporations
its operating environment - the B.C. credit union industry - has increased materially in terms of size and complexity
its impact on supervisory risk assessments, and potential remedial interventions, to B.C. credit unions may be significant
its leadership competency matrix - including technical expertise, management skills and stakeholder relationships - may differ significantly from that required to set regulatory policy or assess statutory approvals
its responsibilities and resources, subject to above recommendations, may increase materially
By virtue of legacy legislation, CUDIC has never had dedicated governance oversight. Members of the FICOM Commission also act as Board Directors of CUDIC. As at March 2018, there were six appointed members of the FICOM Commission. It may be indicative of the conjoined relationship, of limited resourcing and/or of perceived functional priorities that CUDIC appears not to have submitted a response to the 2015 Initial Public Consultation Process of the FIA / CUIA consultation review. Were this the case then its Board of Directors should justify why CUDIC elected not to offer thought leadership, policy opinion and/or regulatory input on legislative matters at the core of its organizational purpose.
CUDIC Board may have mismatched competencies. Conjoined governance of FICOM and CUDIC implicitly requires compromise in appointee selection. Competency matrices are commonly used by a Board of Directors to balance its collective professional experience, environmental or contextual knowledge and personal attributes and skills. FICOM provides regulatory oversight for multiple industries including credit unions, insurance, trusts, pensions, real estate and mortgage brokers. FICOM Commission members presumably have appropriate expertise and experience across these industries, and understanding of related regulatory issues. Implicitly then only a subset of that expertise, experience and skills are relevant to credit unions and to CUDIC. Yet the CUDIC Board and FICOM Commission have identical membership.
Diverse conflict of interest requirements may limit the candidate pool for CUDIC Board. The Board Resourcing and Development Office related posting stated that “to be considered as a [FICOM] Commission member an individual must not have any real or perceived conflict of interest with the industries or institutions regulated by FICOM.” The conjoined governance structure therefore means that a candidate with a potential conflict of interest in the pension, mortgage broker, insurance or real estate industry is automatically prohibited from providing governance oversight of CUDIC and its credit union mandate.
CUDIC has outgrown legacy legislation and FICOM’s shadow. The size, complexity and impact of the B.C. financial services industry is material. Largely devised in the late 1980s then legacy legislation in regards leadership and governance of CUDIC may be outdated. CUDIC is responsible for deposit insurance of a C$77 billion industry that is used by almost half of British Columbians. Larger than most Canadian credit unions then it warrants full-time, permanent executive leadership. Larger than most B.C. Crown Corporations then it deserves independent, empowered and accountable governance oversight.
CUDIC Board should have the authority - and the resultant responsibility - to appoint and to assess its Chief Executive Officer and to develop executive compensation plans. Multiple governance experts identify CEO selection as a key function:
‘Selecting the chief executive officer and planning for CEO succession are among the most important responsibilities of a company’s board of directors.’ - Harvard Law School Forum for Corporate Governance & Financial Regulation ‘Advice for boards in CEO Selection and Succession Planning’
‘Choosing the next CEO is the single most important decision a board of directors will make.’ - Harvard Business Review, ‘The Art and Science of Finding the Right CEO’
‘During a CEO search process, boards might do well to keep their long knives sheathed because, in fact, real leaders are threatening to those intent on preserving the status quo’ - Harvard Business Review, ‘Don’t Hire the Wrong CEO’
CUDIC Board should demonstrate leadership to credit unions through its compliance with governance best practices.
RECOMMENDATION 4 - PUBLIC ACCOUNTABILITY
Recommendation: Regardless of their legal entity structure then FICOM and CUDIC should, as separate organizations, be subject to the “Performance Reporting Principles” and “Taxpayer Accountability Principles” as published by the B.C. government.
“Political accountability is the accountability of the government, civil servants and politicians to the public and to legislative bodies”
Governance bodies that oversee public service organizations are typically obligated to publish service plans, annual reports and other documents to public stakeholders. Disclosures may be driven by legislative requirement, government expectations or voluntary engagement.
Substantially all Canadian financial regulatory agencies appear to make extensive public disclosures. For example, Credit Union Deposit Guarantee Corporation - typically responsible for deposit insurance and prudential supervision functions in peer provinces - publish annual reports that are comparable to a public company. Such reports may contain some or all of audited financial statements; management discussion and analysis; CEO and Board reports; executive team profiles; governance practices; industry developments; regulatory updates; supervisory performance metrics; and/or executive compensation.
Public disclosures by FICOM and/or CUDIC appear to be negligible. Neither FICOM nor CUDIC publish an annual report or similar document that provides insight and rationale into goals, achievements, risks, key decisions, financial performance and/or other information. CUDIC publishes limited annual financial statements. As a ministry branch, FICOM disclosures could potentially be provided in the service plans and other reports published by the B.C. Ministry of Finance. But the most current Annual Service Plan Report (2015-2016) published by B.C. Ministry makes no reference whatsoever in regards financial statements, performance metrics or any other information for either FICOM or CUDIC.
Regardless of their legal entity structure, both CUDIC and FICOM should initiate compliance with the B.C. Performance Reporting Principles. In 2003, the B.C. government established “Performance Reporting Principles For the British Columbia Public Sector”. The related publication frames eight principles of deemed best practice that were approved by the Auditor General of B.C. The principles seek to support an open and accountable government.
FICOM should dislose, and provide credible rationale, to industry and to the public its plan to achieve key organizational goals. For example, the 2018/19 to 2020/21 Service Plan of the B.C. Ministry of Finance establishes a performance target for FICOM that, in 2017/18, 85% of financial institutions have a supervisory assessment completed in the prior three years.
In June 2014 “Taxpayers Accountability Principles”, the B.C. government introduced a new expectation “for deputy ministers ... to hold the entity [B.C. public service organization] accountable for the outcomes and measurements identified by the minister responsible, in consultation with the respective board chair.”
Executive leadership is obligated to make difficult decisions. This is the case in industry, government and communities. Some decision may involve topics that have high complexity, elevated sensitivity, material implications, accelerated timeline and/or significant subjectivity. Decisions may impact the organization, employees, communities and other stakeholders. Decisions may be made with imperfect information, unknown external forces and without the benefit of hindsight. Regardless, executive leadership and related governance body should be accountable to stakeholders for the resulting outcomes.
“The Taxpayer Accountability Princples state that ‘Board members act independently from the organization’s executive and have the best interests of taxpayers and shareholder as their primary consideration.’”
For example, FICOM executive and governance body should be accountable for decisions to return millions of dollars to B.C. general revenues rather than spend it on mandate fulfilment and/or operational betterment. Related funds were ultimately sourced from credit union deposit insurance premiums. Gerry Kyllo, MLA, neatly captured the situation in a Select Standing Committee - observing that FICOM executive faced multiple options and, regardless of whether “it’s a wrong decision”, a distinct choice was made. That such disclosures result from adhoc testimony to public officials rather than from routine stakeholder engagement processes may conflict with the intent of the Taxpayers Accountability Principles. Respectful of their primary consideration, FICOM Commission should routinely report to the public details of important goals, decisions and perfomance of FICOM and provide related rationale on how it perceives key aspects to reflect the best interests of taxpayers.
The funding basis and governance model of credit union regulation may be subject to a principal-agent gap. Despite industry funding FICOM/CUDIC operations then its contribution to related governance, and its receipt of perfoamnce disclosures, are both minimal and contary to practices in peer provinces. Lack of industry participation in oversight may have denied due challenge to FICOM Commission and executive. The 2015 submission to the FIA/CUIA consultation process by the B.C. credit union system noted that “as the funder of CUDIC, credit unions should have a greater voice in its governance.”
REFERENCES
Selected Deposit Insurance Organizations
CUDIC (BC) - http://www.cudicbc.ca
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
CDIC (Federal) - https://www.cdic.ca
Stabilization Central Credit Union - https://www.stabil.com/
Government References
FICOM - Supervisory Framework - https://www.fic.gov.bc.ca/pdf/aboutus/FICOMSupervisoryFramework.pdf
B.C. Government - “Taxpayer Accountability Principles” - https://www2.gov.bc.ca/assets/gov/british-columbians-our-governments/services-policies-for-government/public-sector-management/taxpayer-accountability-principles.pdf
B.C. Government - “Performance Reporting Principles” - https://www2.gov.bc.ca/assets/gov/british-columbians-our-governments/services-policies-for-government/public-sector-management/performance_reporting_principles.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
B.C. Ministry of Finance - “2015/16 Annual Service Plan Report” - http://www.bcbudget.gov.bc.ca/Annual_Reports/2015_2016/pdf/ministry/fin.pdf
B.C. Ministry of Finance - “2018/19 – 2020/21 Service Plan” - http://bcbudget.gov.bc.ca/2018/sp/pdf/ministry/fin.pdf
Federal Department of Finance and Treasury Board of Canada - “Directors of crown corporations: an introductory guide to their roles and responsibilities” - http://publications.gc.ca/collections/collection_2016/fin/BT77-1-1993-eng.pdf
Statistics Canada - 2016 Census data - https://www12.statcan.gc.ca/census-recensement/2016/dp-pd/hlt-fst/pd-pl/Table.cfm
Sources Referenced in Submission
Canadian Credit Union Association - Top 100 Credit Unions, Q4 2017 - https://www.ccua.com/~/media/CCUA/About/facts_and_figures/documents/Largest%20100%20Credit%20Unions/top100-4Q17_12-Apr-18.pdf
Canadian Credit Union Association - System Results, Q4 2017 - https://www.ccua.com/~/media/CCUA/About/facts_and_figures/documents/Quarterly%20National%20System%20Results/4Q17SystemResults_14-Mar-18.pdf
Harvard Law School Forum on Corporate Governance and Financial Regulation, ‘Advice for boards in CEO Selection and Succession Planning’ - https://corpgov.law.harvard.edu/2012/06/11/advice-for-boards-in-ceo-selection-and-succession-planning/
Canadian Coalition for Good Governance - ‘Building High Performance Boards’ - https://www.ccgg.ca/site/ccgg/assets/pdf/building_high_performance_boards_august_2013_v12_formatted__sept._19,_2013_last_update_.pdf
McKinsey & Company - “The CEO Guide to Boards” - https://www.mckinsey.com/featured-insights/leadership/the-ceo-guide-to-boards
FIA/CUIA System Response - http://www.fin.gov.bc.ca/pld/files/BC%20Credit%20Union%20System%20Response.pdf
Wikipedia - Accountability - https://en.wikipedia.org/wiki/Accountability
DISCLAIMER & COPYRIGHT
This article reflects the personal recommendations and statements of the author, Ross McDonald. It is wholly intended to assist the B.C. Ministy of Finance as part of the FIA/CUIA Public Consultation. This article does not represent the views of any financial cooperative, corporate organization, regulatory body or government ministry. All content is wholly based on information that is in the public domain. Where relevant, sources have been identified and referenced.
Although the author has made significant effort to ensure that the information in this submission was accurate at the date of completion then the author does not assume 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.
All rights reserved.
Credit Union Deposit Insurance Policy - 1/2 - Overview, History, Pros & Cons
A policy of unlimited deposit insurance may have significantly supported system growth and membership confidence. But it is unknown outside of Western Canada, may cause moral hazard, and may be increasingly expensive to credit unions in terms of earnings, capital and compliance.
“A policy of unlimited deposit insurance may have significantly supported system growth and membership confidence. But it is unknown outside of Western Canada, may cause moral hazard, and may be increasingly expensive to credit unions in terms of earnings, capital and compliance.”
SERIES OVERVIEW
This article is the first 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 authored earlier in 2017 to aid an executive search process. A formatted PDF of the article series is available on request and will be published in due course. Several system veterans kindly volunteered technical expertise, system memory, and professional guidance. Thank you. Their wisdom, perspective and encouragement were invaluable.
This article has five sections - Executive summary; Deposit insurance; Canadian provincial credit unions; B.C. credit unions; Unlimited vs limited coverage.
Given subject matter complexity, subjectivity and sensitivity then the author has leveraged significant graphical analysis in efforts to enhance explanation and to aid assessment.
This document may be easier to read in PDF format. Download per http://bit.ly/dep-ins-pdf
EXECUTIVE SUMMARY
“Deposit insurance policy may gain prominence due to emergent federal credit unions and a current B.C. legislative review.”
Most credit unions, banks and other deposit taking institutions are legally obligated to maintain deposit insurance. Such insurance refunds depositors in the event of institutional insolvency. An ‘ex-ante’ policy involves the establishment of a fund to subsequently settle claims. Canada has multiple deposit insurers that collectively manage approximately C$5 billion of investment funds. Deposits in B.C. credit unions are covered by Credit Union Deposit Insurance Corporation (CUDIC) and by Stabilization Central Credit Union (SCCU) that collectively manage approximately C$600 million of investment funds.
The coverage terms and resultant cost of deposit insurance vary materially across Canadian deposit taking institutions. Deposi- tors in some institutions, including B.C. credit unions, currently receive insurance to an unlimited amount.
Individual credit unions can mitigate assessment cost through prudent operations, regulatory compliance and good gover- nance. Collectively, credit unions may influence deposit insurance by policy advocacy for coverage terms and target funds.
For some credit union industry stakeholders, deposit insurance policy is an acutely sensitive topic. Elevated, or unlimited, levels of deposit insurance coverage is a competitive advantage for some credit unions against Canadian banks. Over recent decades then B.C. credit unions have operated in regimes that offer both unlimited and limited coverage. There are advantages and disadvantages, costs and benefits of each policy and there are international best practices.
Deposit insurance policy may gain prominence due to federal credit unions and a current B.C. legislative review.
A hybrid future with federal and provincial credit unions may create four implications for deposit insurance - entity funding, policy inconsistencies, consumer confusion and deposit transition. Provincial ex-ante deposit insurance funds may retain historical premiums paid by federal credit unions, potentially creating material insurance surplus. Deposit insurance policies across Canadian jurisdictions and between entity types currently vary materially and may differ from international practices. There is a risk that consumers may not understand the difference in deposit insurance coverage offered by a federal credit union and a provincial credit union. The transition from a provincial to a federal credit union may displace a subset of deposi- tors, say those with relatively large account balances. This article does not expressly address federal credit union matters.
An active legislative review by the B.C. Ministry of Finance is considering the optimal level of deposit insurance for B.C. credit unions. FIA/CUIA submissions by the B.C. credit union system and by most, but not all, individual credit unions appear to significantly support the maintenance of the current regime of unlimited deposit insurance. Data suggests that this regime may have supported growth in membership, deposits and market share of the B.C. credit unions. Further, the regime may have contributed to the relatively strong market share by, and large average member deposits in, B.C. credit unions compared with provinces that have limited coverage. But a policy of unlimited deposit insurance is unknown outside of Western Canada, may cause moral hazard, and may be increasingly expensive to credit unions in terms of earnings, capital and compliance.
This article seeks to stimulate collaborative discussion. It may highlight history or facts that are unfamiliar. It may aid profes- sional education or support policy formulation by the Board or executive of a credit union or system entity. In this article, most analysis related to B.C. aggregates information for CUDIC and SCCU. The report is framed in the following sections-
Overview: Deposit insurance; Deposit insurance in Canada; Deposit insurance in B.C; Pros & Cons of alternate regimes Implications: Bene ts of unlimited coverage; Costs of unlimited coverage; Regulation & Deposit insurer Conclusions: Policy options; B.C. credit union system view
References, About the author, Disclaimer
As a discussion document, it consciously does not provide a policy recommendation. But it does strive to gather objective data; present relevant analysis; consider advantages, disadvantages, and implications; and frame three discrete policy options.
Maintain current policy of unlimited deposit insurance
Re-introduce policy of limited deposit insurance
Seek policy alignment of deposit insurance across Canadian jurisdictions
DEPOSIT INSURANCE OVERVIEW
Many jurisdictions or legislatures require that their deposit taking institutions maintain deposit insurance. Most North American deposit insurers were established decades ago.
First deposit insurance entity - Reportedly by Czechoslovakia
US banks - US established the Federal Deposit Insurance Corporation (FDIC) following the 1933 banking crisis
Canadian banks - Canada established the Canada Deposit Insurance Corporation (CDIC) in 1967
US credit unions - US National Credit Union Share Insurance Fund (NCUSIF), administered by the National Credit Union Administration (NCUA), was created by Congress in 1970
BC credit unions - Credit Union Deposit Insurance Corporation of British Columbia (CUDIC) was formed in 1958
BC credit unions - Stabilization Central Credit Union (SCCU) was created by legislation in 1989
EU - Member state requirements introduced in 1994 with policies subsequently increased and harmonized
Deposit insurance entities actively manage risk and monitor deposits. Assumptions on risk drive actuarial models that typically frame target fund size. is mitigated through of legislative requirements; issuance of regulatory guidelines; maintenance of prudential supervision and oversight of market conduct. Each function may be operationally executed by the deposit insurer staff or outsourced to a government entity or other entity. Insurers may penalize financial institutions that are perceived as high risk. Assessed premiums may be elevated if a deposit taking institution is subject to active regulatory intervention; reports poor or deteriorating financial performance; or has other factors that suggest elevated depositor risk.
The terms of deposit coverage are determined by legislation and can change over time. Currently, coverage for Canadian institutions varies from C$100,000 to unlimited. European Union members coverage of EUR 100,000. U.K. offers coverage of GBP 85,000. Terms in jurisdictions, including the UK, are significantly more restrictive than in Canada - a UK depositor is insured for GBP 85,000 per financial institution where a Canadian depositor is insured per account type (e.g. C$300,000 across TFSA, RSP and taxable accounts in a jurisdiction with C$100,000 coverage) per financial institution. During the 2008 financial markets challenges the then B.C. government replaced limited with unlimited coverage for member deposits at B.C. credit unions. In 2012 then U.S. authorities consciously let lapse legislation that provided temporary unlimited insurance at FDIC, a major U.S. deposit insurer, thereby resuming coverage up to US$250,000.
Canadian provincial credit unions are mandated members of a provincial deposit insurance fund while banks and federal credit unions are mandated members of Canadian Deposit Insurance Corporation (CDIC). All Canadian deposit insurers are funded on an ex-ante basis. Under this approach then each financial institution member makes regular financial contributions to build a collective fund that is intended to settle the costs of any future claims.
Multiple types of Canadian entities provide deposit insurance. Depending on the applicable legislation then the provider may be a provincial government ministry, a provincial crown corporation, and/or a credit union system organization. Related stakeholder representation, nominations authority and regulatory independence vary.
Critics highlight moral hazard concerns, that escalate commensurately with the level of insurance. Depositors, reliant on full reimbursement, may place minimal effort to select or to monitor their financial institution. Deposit taking institutions may be incentivized to undertake elevated risks, underprice risk, and/or insufficiently adopt sound risk management practices.
DEPOSIT INSURANCE IN CANADIAN PROVINCIAL CREDIT UNIONS
Deposit insurance coverage terms vary materially. The monetary value, depositor profile and account type that are eligible under deposit insurance regimes are markedly different across different provincial credit union systems; between provincial credit unions and federal credit unions; and between provincial credit unions and banks.
Western Canadian provincial governments all currently have legislated regimes that provide unlimited deposit insurance to their provincial credit unions. Depositors in other provincial credit unions are subject to maximum coverage between C$100,000 and C$250,000. Federal credit unions and banks are subject to C$100,000 deposit insurance.
Deposit insurance is impacted by federal charter. Should it secure a federal charter then member deposits of Coast Capital Savings Credit Union would be insured to C$100,000. Coast Capital Savings Credit Union, in its member documentation related to federal credit union resolution, included informative tables that outlined the deposit insurance regimes of CUDIC (provincial credit union) and CDIC (banks and federal credit unions).
Where deposit insurance is capped, limits are usually by account type and may not apply to registered accounts. Depositors may have the ability to arrange their banking affairs across more than account type or deposit holder to achieve higher levels of aggregate deposit insurance.
Deposit insurance amounts typically apply per account type per person per financial institution. A couple residing in a jurisdiction with maximum C$100,000 deposit insurance may be able to access in excess of $500,000 deposit insurance coverage between RSP, TFSA and taxable accounts for each person - or multiple times that level if deposits are spread across multiple financial institutions. Some international jurisdictions have more restrictive policies that aggregate accounts per institution.
Some may question the strategic need for, and perhaps operational of, elevated or unlimited deposit insurance policy for any credit union. Historically, credit unions may have courted the operational banking needs of small community members rather than high net worth or institutional depositors.
All depositors do not appear to require unlimited insurance. At December 2015, 30% of member deposits in Ontario provincial credit unions were uninsured, being in excess of the maximum amount or otherwise ineligible under DICO terms. At March 2016, 73% of deposits with CDIC members were uninsured.
DEPOSIT INSURANCE IN BRITISH COLUMBIA CREDIT UNIONS
B.C. credit unions are required by the Financial Institutions Act to be members of Credit Union Deposit Insurance Corporation (CUDIC) and of Stabilization Central Credit Union (SCCU).
CUDIC is a provincial crown corporation that is administered by the Financial Institutions Commission (FICOM), an agency of the BC provincial government.
SCCU is a cooperative organization that is owned by BC credit unions and managed by a small dedicated team.
Each related entity is wholly governed by nominees of either the government or the credit union system. Currently, the Superintendent and Commission of FICOM are also the CEO and Board of CUDIC, with Commission/Board members appointed by the Lieutenant Governor in Council. While the Board of SCCU is comprised of executives and directors of credit unions, largely appointed by credit union peer groups.
CUDIC and SCCU collectively manage almost C$0.6 billion of investment assets. SCCU currently provides CUDIC with coverage of the first C$30 million of depositor losses. In the event of a deposit claim larger than available CUDIC assets, the B.C. government may - but is not required to - provide incremental funding to CUDIC to settle depositor losses.
The evolution of ex-ante investment assets, roles & responsibilities, and stakeholder relationships between SCCU and CUDIC /FICOM, while of potentially significant historical impact and future opportunity, are beyond the scope of this article.
A system-led deposit insurance fund was introduced in B.C. in 1968 following credit union losses that required financial support from the B.C. credit union system to permit the refund of member deposits. Unlimited coverage, insured by the credit union system, was effective from 1968 to 1988. In 1988 then B.C. government formally legislated an explicit deposit insurance guarantee but imposes a limited regime that was capped at C$100,000. This compared to C$60,000 coverage at Canadian banks. Limited coverage applied until 2008, at which time the BC provincial government replaced the then limited regime with an unlimited regime, partly in response to the then turbulence in financial markets and economic conditions. To the knowledge of the author then, in 2008, the current unlimited deposit insurance regime in B.C. was proposed by the provincial government rather than requested by the credit union system.
Deposit insurance premiums represent a material cost to B.C. credit unions. CUDIC 2016 assessments represented approximately 18% of the net income reported by the B.C. credit union system (C$46.7m and C$260.9 million respectively).
The extent of credit union deposits that would become uninsured the B.C. government to re-introduce a regime of limited deposit insurance is not publicly quantified. But insight is available from Coast Capital Savings Credit Union. In documentation issued to members prior to its federal credit union resolution then Coast Capital Savings disclosed that “As of July 2016, fewer than 4% of Coast Capital Savings’ personal members require deposit insurance beyond $100,000. This means the eligible deposits of 96% of our personal members fall within CDIC’s coverage limits today.” The dollar value of member deposits in excess of C$100,000 may represent a materially larger amount than 4% of total member deposits given that, by definition, noted personal members have relatively large deposits and there may also be ineligible deposits from non-personal members. Further insight may be available from the significant level of non-insured deposits in Ontario credit unions and in Canadian banks, each of which currently has coverage capped at C$100,000.
“A credit union opting to continue into the federal jurisdiction would not be able to bring their funds that were provided to CUDIC to the federal jurisdiction. Those funds would be retained by CUDIC.”
PROS & CONS OF UNLIMITED AND LIMITED DEPOSIT INSURANCE
A significant number of policy and economic papers have been written on deposit insurance regimes and related topics. This may reflect the increased adoption, over recent decades, of deposit insurance regimes internationally. Most, if not all, papers that consider alternative regimes do so between those with limited deposit insurance versus no insurance. The absence of policy critique in regards unlimited coverage may reflect the exceptional rarity of such policies outside of Western Canada.
Deposit insurance can bolster depositor confidence, especially in times of uncertain market or economic conditions. Former US Treasury Secretary Tim Geithner, in his thoughtful book 'Stress Test', may frame such a policy as ‘putting money in the window’ to visibly demonstrate sufficient liquidity and to prevent bank runs - typically on a short-term basis. It may also represent a legislated competitive advantage, to encourage depositors to place savings at institutions with favorable insurance regimes. Regime competition can distort the profile of depositors and borrowers, and/or create treasury dependence on liquidity from non-consumer and/or out-of-market depositors.
Critics of deposit insurance typically frame two conceptual concerns - moral hazard and principal/agent gap. Each of these concerns applies in a limited coverage regime and is likely significantly augmented in a regime with unlimited coverage.
Moral hazard refers to the incentive for insured financial institutions to engage in riskier behavior than would otherwise be feasible. Depositors in insured institutions may conduct limited selection or ongoing monitoring. Executives in insured institutions may set an appetite, risk in products and/or tolerate poor risk management practices. In aggregate then this may cause excessive risk taking, economic resource misallocation, bank failures and/or higher remedial costs. Losses will be absorbed by the institution before deposit regulators may mitigate moral hazard risks through higher capital adequacy requirements; greater prudential supervision intensity; and/or rigorous intervention penalties or processes.
Principal/agent gap refers to potential disconnects between the incentives of the agent (regulator or elected official) and the interests of the principal (taxpayer). The FDIC notes that agents may “ignore the problems of troubled institutions and delay addressing them in order to cover up past mistakes; wait for hoped-for-improvements in the economy; avoid trouble ‘on their watch’ or serve some other purposes of self-interest”. the principal lacks the information or power to effectively monitor the agent. Challenges may delay remedial action and/or institution closure, ultimately increase the cost of a resolution.
This concludes the first article of a two-part series. The second part will present significant objective evidence and supporting commentary to explore related and regulatory implications; and will frame three discrete policy options. A list of sources and references will be appended to the final article in this series.
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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