Irish personal loans market: Why Basel III is bad news for Credit Unions

Category: Personal Loans Published: Monday, 13 October 2014 Written by Admin

The introduction of Basel III framework sought to improve regulation and enhance minimum capital levels for banks, hedge funds, financial intermediaries and bank holding companies.

Basel III is a formidable reading assignment. But despite the layers of complexity of the rules - including the many new liquidity metrics, coverage ratios and risk models - the broad aims of the policy should be easy to understand.

A key principle of the new regulatory regime is that higher capital levels to ought to compel banks to reconsider how much capital to allocate to clients and, by implication, to investigate with a greater degree of diligence the clients to whom they lend.

So what is not to like? After all, such strict capital requirements for large institutions should be applauded, since such measures will lessen systemic risk and therefore reduce the chance of a repeat of the 2008 financial meltdown.

The introduction of the Third Basel Accord, inevitably, has had an effect on the costs of lending. The combination of increased capital requirements, particularly in the common equity element of Tier 1 capital and capital buffers and minimum liquidity requirements, will reduce the return on equity for banks.

The difficulty with the accords is that beyond the well-known capital increase, the rules contain new and, crucially, unproven macroprudential capital buffers that impose costs on large banks with uncertain stability benefits. One area where this has had an adverse effect is credit unions.

According to the Irish League of Credit Unions, Irish commercial banks are citing the cost of capital the Basel III rules impose on wholesale deposits as the main reason they have adjusted the interest that they will pay on credit unions term deposits. In this instance, the interest rate has been reduced from as high as 3% annual interest to as low as 0.6%, with an average spread between the yields on retail/small business and wholesale of 150 basis points. By way of comparison, in the United Kingdom, several large banks have stopped doing business with credit unions altogether.

The Republic of Ireland has nearly 400 credit unions, of which twenty have over EUR 100 million in assets and four have assets between EUR 200 million and EUR 350 million. At the end of 2013, the total system asset amounted to EUR 12 billion, with the average credit union balance sheet fo EUR 30 million.

The average lending ratio is 40%, so the average credit union has EUR18 million on deposit with a number of banks. Most credit unions spread their deposits across 5 or 6 counterparties, meaning that the average amount on deposit with each counterparty would be between EUR 3 million and EUR 3.5 million if spread across banks equally.

Irish credit unions bank deposits remained stable during the financial crisis. The credit unions did not move their money away from the Irish banks during the financial crisis as many other non-retail type depositors did at that time.

Further, it is up for debate whether the withdrawal of individual deposits of this size is going to create funding problems for these banks even in a crisis.

On the other hand, Basel III implementation will negatively impact underserved communities in Europe, especially in rural areas where credit unions are often the only financial institution serving the community.

This is particularly true in Ireland, where credit unions are the only remaining financial institutions with local branch offices in many rural areas.

For more information on the Irish personal loans market, see the latest research: Ireland Personal Loans Market

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