A co-operative banking strategy for Ireland

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August 2011

A CO-OPERATIVE BANKING STRATEGY

FOR IRELAND

Conceptualising a Strategic Network

Amongst Credit Unions

Creating a national, community focused, citizen owned and governed federated

co-operative banking system.

"The way we see things is the source of the way we think and the way we act"

Stephen Covey

A personal submission by Bill Hobbs to the Commission on Credit Unions, 25th

August 2011.

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A CO-OPERATIVE BANKING STRATEGY

FOR IRELAND

1: Introduction and Summary...................................................................................... 3 2: Background to credit co-operative banking............................................................. 7

Credit Unions and Credit Co-operatives Internationally .......................................... 7 International Models for Centralised Co-operative Banking ...................................10 Structuring Irish credit unions as a modern co-operative banking system .............12

3: Network Rationalisation and Configuration............................................................13 4: The New Model Credit Union.................................................................................16

Savings Products ...................................................................................................16 Lending Products ...................................................................................................17 Operational Model..................................................................................................18 Governance Model & Strategic Orientation............................................................19

5: A Federated Network of Credit Unions ..................................................................22 A Federated Network .............................................................................................24 The Federated Alliance – evaluation criteria ..........................................................26 A proposed federated structure..............................................................................28 Anticipated business advantages...........................................................................30 Anticipated business disadvantages and obstacles ...............................................32 Government support ..............................................................................................32

6: Conclusion.............................................................................................................32 Appendix 1 : Note on Federated Co-operative systems ............................................33 Useful Referent Documents.......................................................................................37

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1: INTRODUCTION AND SUMMARY

This submission considers the concept and high level strategic business case for creating a national

co-operative full service banking alternative for Irish consumers and small business owners through a

strategic network alliance of consolidated credit unions.

The credit union sector should adopt a federated strategic network as its core infrastructure for

ensuring individual credit union financial stability and sustainability and strengthening the sectors

financial stability.

Such a network would be modelled on successful designs for centralised co-operation that have been

key to the success of other co-operative banking systems globally – but which have not yet been

considered or implemented in Ireland.

Given the success of federated credit co-operatives elsewhere and proven resilience of their business

model during the recent global crisis, it would be unwise not to consider this viable and robust form

of co-operative banking in the Irish context.

Envisaged is a citizen owned and governed federated financial co-operative system, guided by credit

union philosophy, values and ethos, offering a full range of consumer and small business banking

products and services.

Such a system would be modelled on the European style federated network, have a customer base of

over 2m ordinary citizens who would also be its owners.

Initially, excelling at providing savings and loans, it could in time provide full banking services through

a national network of enlarged, consolidated credit unions and their jointly owned electronic,

internet and call centre service delivery channels and special purpose subsidiaries.

The shift to a federated model would require three important steps:

1. Network rationalisation through consolidation to realise scale economies

2. Transition to a new model credit union - the “savings and loans” model

3. Strengthening the financial infrastructure through contractual solidarity and cross

guarantees, to be effected by the establishment of a central finance facility

For many reasons the Irish credit union “finance company” business model and network

structuration, with its emphasis on the independent, autonomous credit union and loose form

League associational system, is inappropriate for the future development of the sector.

The movement has not transitioned to the “savings and loans” model nor developed the cohesive

centralist finance systems found in every other credit co-operative sector in mature financial service

marketplaces. It also utilises a model of governance rooted in legacy part-time volunteerism that

confuses non-executive director with executive management roles.

It’s proposed that a new model credit union be defined and credit unions required to transition to it

within a defined period of time.

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Credit unions should focus on excelling at their core business and offer a wider range of updated

savings and lending products that meet the needs of modern consumers. They should 1augment

these core products with related fee earning products and services.

The large scale now required for banking services to be competitive means that smaller players like

credit unions must specialise to survive. It is just not possible for credit unions to be all things for

their customers and still give them the best deal. However their basic business of consumer savings

and lending can achieve scale economies at the size presented by the configuration of consolidated

larger credit unions, an example of which is set out in this submission.

To succeed in the future credit unions will have to excel at delivering low cost, high quality savings

and loans products and services to ordinary people. In short they have to be the best at delivering on

generic category benefits which include choice, service and price elements. They will have to adopt

market-based principles of pricing to ensure better rates and terms for customers. To do this they

will need to upgrade their IT, operational systems and internal controls to achieve greater efficiency

and safety. However in the absence of consolidation to realise scale economies and build human and

operational resources competencies, credit unions will be unable to truly deliver on their economic

and social objectives.

Complexity requires scale economies to spread the costs of the more sophisticated technologies

required to deliver modern financial services and products. The current operational model is one of

high-cost, low-value transactions, mainly handled through manual processes. The costs of operating

a manual delivery and service processes are unsustainable as they have eroded profits in many credit

unions to a point where operating costs exceed core interest income. Routine transactions must be

automated to keep down costs. People now want 365/24/7 service and their lives are too busy to

stand in teller queues. ATM and internet delivery channels are now a given service feature required

by almost all consumers.

Furthermore the heterogeneous aspect of credit union operations, their varying size and restrictive

common bonds prevents the best from expanding their operational footprint, allows poorly

governed and managed operations to continue and inhibits the type of competitive merger activity

that has been a positive aspect of other movements for at least two decades.

The credit union sector of c409 independent credit unions should be rationalised to a size where its

constituents would be of size capable of realising scale economies and participating in a federated

network. I refer to these larger credit unions as “consolidator credit unions” in this submission.

On their own credit unions will struggle to deploy the technologies required to provide low cost, high

quality services. Even when consolidated they would remain quite small operations with limited

financial, IT and human resources.

A central facility as envisaged here would employ the expertise required to deploy the technologies

to enable credit unions transition to the new model credit union. More specifically the central entity

would facilitate the design and implementation of a new operations model including enabling

information technologies and management systems.

Credit unions should establish or source a joint venture and co-own such a 2“Central Finance

Facility”. It would operate as a corporate services centre and wholesale bank providing a range of

shared services which, amongst others, would include treasury, central liquidity, MMR

1 In so far as entering the “current account” market or providing “basic banking accounts”; it is not within the current organisational

resource, capacity or competence of credit unions, regardless of size, to fund the operational costs associated with these products. Any

consideration in this area should be secondary to the core objective of excelling at the savings and loans model for the time being 2 “Central Finance Facility” is a term used by international credit union trade body WOCCU to define central corporate entities owned by

constituent credit unions

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participation, capital funding, loan securitisations, risk management, compliance, audit, legal, HR,

IT systems and intermediated products and services.

This central entity might in time be granted devolved supervisory responsibility for its constituent

credit unions and would also provide a stabilisation mechanism based on contractual solidarity and

cross-guarantees. In essence the central entity would leverage off its constituent owners' combined

balance sheet. Such central facilities are found at the core of European credit co-operatives such as

RaboBank (Holland) and Oko Bank (Finland).

In a federated system, consolidator credit unions, whilst ceding some strategic and operational

autonomy, would retain independent legal status, local governance, with each one having its own

multi-branch network. Such multi-branch networks would be a consequence of the rationalisation of

non-viable credit unions and those that opt to consolidate through mergers. Furthermore, in line

with developments in other markets, credit unions would be likely to open new branches in

underserved areas.

Credit union network reconfiguration would be dependent on a number of variables including

governance and management competence, financial strength and sustainability, geographic location

and type (community, associational, employer based).

The diagram below is a stylised design for the federated network organisational structure envisaged

in this submission.

It is likely that the once dominant, cartel like, oligopoly of the two main commercial “pillar” banks,

Bank of Ireland and AIB will re-emerge leading to a reduction in competition and the mass captivity

of consumers and small business owners. It is unlikely that any new entrants will be attracted into

the Irish marketplace for some time to come and existing foreign banks will respond to the demands

of parent organisations having differing objectives. Pricing of products will be driven to repair their

balance sheets, rather than for the benefit of the customer.

The use of tax-payers funds to stabilise banking could have a wider economic and societal purpose of

enabling the creation of a viable co-operative alternative to commercial banking.

One of the intriguing opportunities to fast track the creation of a federated co-operative banking

system could have seen a joint venture between a building society and credit unions to establish a

central facility which would have incorporated the corporate support service capabilities and

resources of the building society. However, exploring this opportunity appears to be no longer

feasible.

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This submission proposes a movement strategy. Any further development would consider the

strategic rationale in detail including funding implications.

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2: BACKGROUND TO CREDIT CO-OPERATIVE BANKING

Credit Unions and Credit Co-operatives Internationally Credit unions have historical roots in the credit co-operative movements that first appeared in 19th

Century Europe. During times of industrial development and social disruption, small groups of

people banded together to pool their savings and grant loans to one another. The primary economic

and social purpose of these co-operatives was to provide credit to people who were financially

excluded – unbanked because commercial banks were not interested in serving them on an

affordable basis.

Credit co-operatives spread throughout Europe, crossed the Atlantic to Canada, and in turn were

adapted in the U.S. in the form of credit unions. It was the U.S. credit union model that was

eventually established in Ireland in the 1950’s.

Today, in developed countries other than Ireland, most credit unions and similar credit co-operatives

have adopted the “fractional reserve banking model” and are regulated as authorised credit

institutions. Although they typically operate under legislation specific to their unique mutual

ownership and democratic governance, outside Ireland they are supervised under regulatory regimes

every bit as robust as those which traditionally governed commercial banks.

The evolutionary path common to all credit co-operatives has been a three stage process, which has

followed a different time line in each country. At first, the business model was that of a “finance

company” or type of “narrow bank” in which member’s accumulated savings by purchasing

withdrawable capital shares, thereby providing funds for making loans. Only after a member had

purchased some minimum amount of shares could he or she then borrow. Shares formed part of the

capital base and were exposed to the risk of the business. Tight common bonds of association acted

as collateral for members loans.

Lending was typically done at a simple interest rate of 1% per month on the unpaid balance

regardless of market conditions.3

Instead of receiving interest on their savings based on market

rates, members shared in the co-op’s lending profits by receiving a dividend declared at the end of

the year. Management was typically in the hands of unpaid volunteers. Initially credit co-operatives

banded together loose form associations e.g. credit union “Leagues”, establishing some shared

services and mutual stabilisation funds used to support growing balance sheets – in particular

providing early stage capital support.

In the second stage, they evolved into “savings and loans co-operatives”, thereby shifting to the

fractional reserve banking model, adopting market based pricing and offering a broader array of

deposit and lending products to their personal and small business customers. Those were typically

augmented with fee based services such as transaction accounts and simple insurance products, and

credit unions in this stage were managed by professional staff. This stage also saw credit co-

operatives establishing corporate central facilities through which they pooled excess liquidity,

accessed liquidity support from one another and the wholesale banking market. In some cases these

central facilities evolved into wholesale banking arms with devolved supervisory powers. Most

operated as lender of last resort for their constituent members. This stage also sees the

development of robust financial safety nets with developed legal frameworks, differentiated

3 The “1% per month” loan rate is still widely used by smaller Irish credit unions, which then may pay a year-end interest refund if earnings

are sufficient. Although it is seen by some as having its roots in credit union philosophy, the practice is actually an obsolete carryover from

the days when credit unions lacked even electronic calculators. On a paper-based system, even relatively untrained volunteers could

readily calculate the interest due on a loan each month.

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regulation and supervision and deposit insurance systems closely mirroring or integrated with wider

banking systems.

Although Irish credit unions have broadened their product range somewhat, they remain stuck in

transition between these first two stages of development. With deposit products largely limited to

the member share account, their savers are still paid an annual dividend out of net earnings at a non-

market-based rate. Lending is still done using the basic instalment credit loan first introduced in the

1950’s. While the larger ones have paid staff, many of the smaller ones are still operated largely by

volunteers. IT systems are relatively primitive, and Irish credit unions do not provide current account

and only very limited electronic transaction services. Nor are they full members of the national retail

payment system. Furthermore credit unions have not developed the central facility commonly found

today in developed credit co-operatives elsewhere.

In these countries, credit co-operatives have long since entered the third and final stage of

development. This occurred earliest on the Continent with the evolution of full service co-operative

banks offering a broad range of financial products. Credit unions in other major markets such as the

U.S., Canada, and Australia have likewise become “full-service consumer banks”, while still operating

as mutuals and governed on the basis of “one member, one vote.”

Credit co-operative evolution is illustrated in the diagram below:

The diagram on the next page illustrates the gap in product and services offered by Irish credit unions

when compared to their international peer group’s full service models.

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Ireland U.S. Canada Australia

Payments Services

Current account equivalent No Yes Yes Yes

Debit cards No Yes Yes Yes

EFT payments No Yes Yes Yes

Proprietary ATMS Yes Yes Yes Yes

Bank ATM network access No Yes Yes Yes

Savings and Deposits

Rates vary by type/maturity No Yes Yes Yes

Certificates of deposit equivalent No Yes Yes Yes

Tax deferred or sheltered Yes Yes Yes Yes

Lending Services

Secured auto loans No Yes Yes No

30 Year 1st mortgage Loans No Yes Yes Yes

Open-end, revolving credit No Yes Yes Yes

Credit cards No Yes Yes Yes

Small business loans Yes Yes Yes Yes

Wealth Management & Insurances

Trust services No Yes Yes Yes

Pensions Yes(PRSI) Yes Yes Yes

Mutual funds No Yes Yes Yes

Life Insurance No Yes Yes Yes

General Insurance Yes Yes Yes Yes


Payments Services










Lending Services













Payments Services










Lending Services












Today, credit unions and other credit co-operatives provide affordable financial services to hundreds

of millions of ordinary people worldwide.

Across Europe, co-operative banking systems represent a major force through which 140 million

people, or one citizen in five, are customers and/or members. With over 4,500 individual banks,

720,000 staff and 60,000 branches, European credit co-operatives collectively have a combined

market share of 20%. In five European countries they represent 40% or more of local banking

services.

In the U.S., credit unions serve over 90 million consumers and have total assets exceeding US$880bn.

Their current share of the consumer savings and non-mortgage lending markets are 9.8% and 9.9%,

respectively. Credit unions in Canada and Australia enjoy comparable scale and market shares.

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International Models for Centralised Co-operative Banking A key characteristic of these successful credit union/co-operative banking systems internationally has

been the existence of strong centralised support mechanisms. Development of these structures was

essential to achieving the scale economies and professional management systems required for credit

co-ops to exploit the savings and loans model and to compete as full service financial institutions.

For example, European evolution resulted in modern day federated networks such as Rabobank in

The Netherlands and Raiffeisen Banks in Germany and Austria. OKO Bank, a central bank for Finnish

co-operatives, has established a listed subsidiary for accessing equity markets. Some of the largest

co-operatives, such as Rabobank, have expanded beyond retail banking into corporate and

wholesale, and even international banking. In all cases, the European co-operative banks provide a

full compliment of consumer and small business financial products.

In Quebec, the Movement Desjardins followed the European model, whereas in the other Canadian

provinces, credit unions developed federated networks around central (wholesale) credit unions.

Two of the largest Canadian 4centrals have recently merged operations.

U.S. credit unions evolved a more fragmented model using a blend of “corporate” central credit

unions and credit union-owned service corporations for specialised functions such as IT, ATM

network administration, and support for shared branching. CUNA Mutual Group, the dominant

international provider of insurance services to credit unions, began life as a subsidiary of Credit

Union National Association (CUNA), the U.S. trade body. CUNA also created U.S. Central Credit Union

as a central liquidity and investment facility for state-level corporate CUs. Both CUNA Mutual and

U.S. Central are now completely independent from the trade association.

Australian credit unions receive central services from their national body, CUSCAL, which is itself an

authorised depository institution. Recently, CUSCAL amended its charter to allow membership by

building societies and friendly societies, and it also provides transaction services to superannuation

(retirement) funds5.

From their start-up in the early 1990’s, Polish credit unions adopted a hybrid integrated model under

the oversight of a central body, and they operate more like franchised branches than independent

entities. Based on a system of mutual cross-guarantees, the Polish federated system fulfils EU capital

standards by means of a consolidated balance sheet. Its central body provides payment system and

insurance services through listed subsidiaries, and it now has more retail outlets than any other

financial group in Poland.

4 British Columbia and Ontario “central financial facilities” merger in 2008 created Central 1. Serving 164 member credit unions having

CAD$70bn in assets and 2.9m members, Central 1 has 500 staff and CAD$14bn in assets. 5 The close association between Australian credit unions and building societies is illustrated in the merger between Maitland Mutual

(building society) and Phoenix (credit union) in New South Wales. Australia has also seen the recent establishment of ABACUS as the

combined national trade body for 99 credit unions, 8 building societies and 15 friendly societies, which collectively have AU$75 billion in

assets and 5.5 million members.

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In each of these cases, the functions and structure of the central system reflect unique local

circumstances of history, market environment, legal convenience, practical political compromise, and

so on. Conceptually, however, these international models which are defined by their degrees of

integration can be broadly categorised into the following basic types:

Atomised: A system of autonomous and independent credit co-operatives where particular

centralised services are provided on a contractual basis by specialised commercial firms owned by

credit unions. (E.g. corporate credit unions, IT providers, ATM networks, insurance and brokerage

companies in the U.S.) Typically credit unions or co-operatives remain autonomous in what’s called

an atomised system.

Federated Network: Comprehensive finance, liquidity, and other services are provided through a

federated structure led by a credit co-operative-owned central facility, which may itself be a

wholesale credit union (Canada) or a commercial bank (Australia, The Netherlands). This system is

referred to as a federated network.

Integrated/Merged: Credit co-operatives share a consolidated financial structure, in which local

outlets operate in practical effect, if not legally, as branches of a central co-operative bank (Quebec,

Poland).6

This system has been termed an integrated or merged system and is similar in almost all

respects to a branch banking system.

For the reasons discussed later, the appropriate model for Ireland is likely to be some variation of the

second category.

Critics of credit co-operatives have long argued they are inefficient pointing out they hoarded capital.

Those critics have been largely silenced since credit co-operatives proved the worth of their business

models as their longer term orientation and prudent focus on capital retention ensured resilience

during the global crisis. The evidence highlights the need for legislators and regulators here to

understand the difference between co-operative banking and commercial banking. That is to

understand how the longer term co-operative orientation, unique governance structures, inherent

focus on consumer value and capital retention policies differ from their publically quoted joint stock

bank competitors.

Whilst the co-operative model has evolved in many differing forms, they all have one thing in

common; they are owned and governed by their members who are also their customers and all

employ the empowering democratic principle of one member one vote. This defining democratic

principle, allied to embedded customer advocacy ensures co-operatives remain culturally and

operationally focussed on delivering affordable and valued financial services to meet their member’s

needs along with educating them in the wise use of money.

The inherent financial stability of the federated co-operative model has proven resilient during the

global credit crisis due to its prudent levels of capital and longer term orientation. It is for this reason

that many consider federated co-operative banking systems to be resurgent as regulators begin to

truly understand how their unique organisational form helped to underpin financial stability and

keep credit flowing when commercial banking had all but collapsed.

6 With the exception of the Co-operative Bank in the UK, the European and North American models do not involve consolidation of co-

operative banking into a single, legal entity. Even systems such as Rabobank fall more into the second category. While Rabo has the

outward appearance of an hierarchical bank, it is in fact a network of individual co-operatives. In that system, the emphasis is on local

control over product quality, which in turn creates pressure on the central to compete on quality and price. Thus, a local Rabobank may

offer the products of third party suppliers who compete with the Rabobank central subsidiaries.

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Co-operatives were maximising stakeholder’s interest long before commercial banking began to talk

of corporate social responsibility, triple bottom line or recognise a wider stakeholder responsibility

paradigm. In some respects the existence of co-operatives, their social contribution and successful

enterprise model is focusing minds on alternatives to the joint stock bank model of banking with its

singular focus on profit maximisation and shareholder value.

Commercial bankers and stock market analyst critique of cooperative bankers prudence and strong

capital positions has been silenced. In many countries, at national level, cooperative banking is seen

as a customer champion and a vibrant, safe alternative to commercial banking.

Structuring Irish credit unions as a modern co-operative banking system

The strategy would see credit unions restructuring as a European style credit co-operative system in

two phases.

The first phase would require the rationalisation of credit unions into a reconfigured network of

larger consolidator credit unions of a size large enough to realise scale economies.

The second phase would require these consolidator credit unions to transition to a new model credit

union focussed on excelling at savings and loans.

Consolidator credit unions would be required to be members of a federated network which would

establish a central finance facility along the lines proposed in this submission.

Alternatively such a central facility could evolve from a special authority established by Government

charged with overseeing and implementing a rationalisation programme and transition to the savings

and loans model. The authority would be empowered to create the federated network and establish

the central finance facility. If required, state funding could be made available to the authority.

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3: NETWORK RATIONALISATION AND CONFIGURATION The credit union movement should be realistic about the future of the smallest credit unions and

those that have been poorly governed and managed.

In the U.S., for example, the movement reached a maximum of over 24,000 credit unions in 1973,

but that was at a time when only one American in seven was a member. Today the U.S. has about

7,500 credit unions, but their average assets are close to 50 times greater and nearly one third of

Americans belong. Canada and Australia had similar experiences.

The chart below shows overall sector size and comparative data.

Source: WOCCU Statistics (U.S., Canada & Australia 2010), CBI (Republic of Ireland 2010)

In all these countries, the decline in the total number of credit unions was mostly the result of small

but healthy credit unions merging into larger ones. The office of the merged credit union often

stayed in place as a branch to serve the local community.

There are three reasons why the number of credit unions could have been expected to decline here

as well.

First, the smallest credit unions, with no employees and in which volunteers do all the work, are

finding it hard to recruit the volunteers they need. This is understandable. When credit unions were

the only reasonable source of credit for most people, there was a powerful incentive for volunteers

to donate time to credit union service. That incentive is considerably lessened today.

Secondly, the compliance burden on credit unions has increased over time. All consumers deserve

financial services that are delivered in a safe and reliable fashion, and the members of small credit

unions are no exception. It will be difficult for a credit union to absorb the resulting costs of

compliance unless it can spread those costs over a sufficiently large asset base.

But most important, it will not be possible for many credit unions to offer the service levels that

today’s consumers are demanding. The best strategy for many will be to join forces through mergers

that can give the surviving credit unions the scale they need going forward.

While these reasons for rationalisation have been acknowledged here, the negative impact of

external forces (global and domestic) and internal financial stability shortcomings inherent within the

business model have starkly brought the need to rationalise to the forefront as a sectoral financial

stability and sustainability challenge.

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In the past, rationalisation was an inevitable consequence of success which for various reasons was

delayed by the Irish movement. Today it has become an inevitable consequence of poor governance

and management of many credit unions, an economic recession and a consumer credit crisis.

One way in which to consider rationalisation is to focus on the number of customers served as these

numbers drive savings and loans volumes, data management requirements, transactions, operating

costs and interest revenues. They also indicate the potential for add on sales of associated fee

earning products and services.

To achieve scale economies it’s possible to define the appropriate network size by the numbers of

customers served. For example, whilst somewhat of an arbitrary number, 50,000 customers per

credit union is useful to consider network reconfiguration.

The chart below illustrates the resultant configuration should new model credit unions service 750,000 customers each.

Using this approach, the network would consolidate through a planned programme of mergers down

to about 60 credit unions. In turn these “consolidator” credit unions would be required to transition

to the new model credit union – the savings and loans model.

The resultant network is aligned on a loose form “county” common bond rather than the current

narrow parish basis. It is likely that members would continue to perceive their credit union as being

“local” and be persuaded by the promise of continuing access to improving quality products and

services. Indeed consumers should be free to shop around credit unions for the best deal, in which

case membership should be open to anyone who wants to join.

In so far as occupational/employer based credit unions are concerned, they have generally provided

a postal type service from a central office to their dispersed members. More recently, most have

embraced the on-line or internet facilities. Some provide a branch/office/agent type location/facility

to deal with their walk-in member transactions. Even immediately, these occupational/employer

7 Credit union total member numbers include active, inactive and dormant relationships. On current experience less than a third of the

50,000 would be active users of credit union products and services.

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based credit unions could be consolidated into just one central office to provide branded services to

their members from one location.

As mentioned above the scale of rationalisation would require an empowered body charged with its

central planning and execution. No such body exists at this time.

One option would be to establish an interim central facility whose immediate objective is to define

and execute a rationalisation programme through which consolidator credit unions become founding

members of the central.

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4: THE NEW MODEL CREDIT UNION

Transitioning to the savings and loans model will require substantial changes to the balance sheet,

and financial and business operations of consolidated credit unions.

A credit unions competitive advantage lies in its relationship with and understanding of its members

needs. While customer value is embedded in “why things are done” this has not successfully

translated into “the way things are done” which remain rooted in outdated, legacy business systems

and processes.

• The new model credit union exists as a constituent member of a federated network and

outsources its non-essential operations to the central shared services provider.

• It excels at servicing its customers and encouraging them to deepen their relationship with

their credit union.

• It distinguishes between the “member as owner” and the “member as customer/consumer”.

As an owner, a member can expect to share in the profits but as a customer a member should

rightfully expect to be paid a market based rate of return on their savings.

The notion of providing fee-free services, particularly high cost over the counter transactions, will

have to end with credit unions charging a reasonable fee for the level of service they are providing –

in many cases services that banks and others have ceased to provide or have priced according to

cost.

At the very least credit unions should have some element of cost recovery rather than what is

currently happening which amounts to the cross subsidisation by infrequent-users of frequent-users

free services.

In addition the practice or habit of paying or charging one rate for all accounts, whether savings or

loans, should cease replaced with appropriate rates being paid or charged for differing product

categories. For example a high transaction, low value savings account attracts the same rate as a high

value, low transaction long term savings account. Similarly the same rate is charged on a short six

month loan of €1,000 as a longer term loan of say €10,000 over three years.

The era of free life insurance came to an end elsewhere years ago as credit unions switched to

member-pay insurance coverage. The cost of insuring for free loans of upwards of €100,000 and

savings balances to €13,500 is a crippling burden that given credit union member demography is

unsustainable. Credit unions should as a matter of urgency significantly reduce the level of coverage

and move to member pay models that effectively switches what is currently an operating cost to a

fee earning revenue stream.

To excel at their core business of savings and loans credit unions need to offer a much wider choice

of modern savings and loans products along with learning how to “ask for the business” from their

customers.

Savings Products The traditional share account is manifestly outdated as the primary product and funding mechanism.

Limited to paying dividends only once a year and then only in arrears after the annual accounts have

closed it is a mechanism that has been exposed as an anti-consumer practice in the current climate.

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The share account should be retained only as an account denoting member’s ownership share in the

credit union. It should be repositioned as being purely the means by which members have an

ownership stake in their credit union. In good years, shares could pay a much better rate than

savings deposits. But credit unions need to be straight with their members, making it clear that share

dividends are not market based and that last year’s rate is no indicator of what it will be this year and

that in any event, non dividend on shares is ever guaranteed.

A variety of deposit accounts should replace shares as the primary place for customer savings.

Interest rates should track the market and exceed where possible what banks are paying in the

normal market environment. This is not the case today as banks fight for deposits to replace the high

cost of funding from the interbank market.

Products should expand to incorporate a full range of retail deposit accounts such as:

Demand Deposits: for in-and-out money would pay a low rate reflecting the transactional nature of

services which might carry a fee or unless a minimum balance is maintained no interest is paid. These

accounts could also offer electronic payment facilities such as standing orders and direct debits and

be the primary transaction account offered online and by ATM

Regular savings accounts: regular savings accounts could be designed to encourage regular savings

and pay higher rates for balances saved whilst allowing for infrequent withdrawals

Term Deposits: for longer term lump sum savings would pay higher rates depending on the pre-

established period of time. These accounts would have limited if any withdrawal privileges.

Zero rate deposit accounts: where set-off is offered against loan interest charges.

As permitted by law credit unions might develop special retirement savings accounts.

Linked accounts: the attached savings rule should end and replaced by assignment of deposits where

such collateral is required.

The practice of nominated ownership in event of death should also cease. Instead the banking

approach to joint accounts should be adopted.

Credit unions would not offer current accounts, cheque books or overdraft facilities until such time

as they and the central developed the technological capability, supporting architecture and

assembled the resource capability required to provide such accounts and facilities.

Lending Products A full range of consumer lending products should be made available shifting from the traditional

instalment credit facility to fixed and variable term loan type structures.

Additionally consideration should also be given to developing a revolving credit facility eliminating

the cost of involved in the multi-issuance of small facilities.

Given their numbers of customers, credit unions should have the collective strength to negotiate

with product providers to offer white label fee-earning products offering attractive rates to their

customers. These would include insurances, retail investments, debit cards, prepaid debit cards,

credit cards, car leasing and other durable goods financing facilities.

- 18 -

Credit unions should partner with high quality, reputable mortgage lenders as loan originators. Over

the longer term, via the central finance facility, they could develop the competencies and legal

authority required to act as mortgage producers.

Credit unions should be required to comply with consumer protection codes and develop robust

organisational competencies in credit assessment and risk management. In particular they should

have the capacity to continue to provide loans to the less well off and financially marginalised – to

people of good character who cannot borrow elsewhere.

Modern credit risk and lending assessment practices should be deployed including affordability

assessment techniques and full membership of credit bureaux. Additionally in keeping with affording

credit to marginalised borrowers, credit unions should develop specific credit assessment techniques

using non-financial information to better manage and understand credit risks.

Just as important as introducing a new high quality product is the adoption of correct pricing

methodologies. This means setting rates at different levels depending on the service involved and

rebalancing rates on a regular basis to stay competitive in the market.

As mentioned earlier, fees should be charged, where appropriate, for services provided. As its stands

credit union fee income to total income is less than 1%. In other advanced markets, fee income

represents a substantial percentage of total income earned by credit unions.

Operational Model Providing a modern range of high quality consumer savings and loans requires substantial upgrading

of IT, operational systems and internal controls to achieve greater efficiency and safety.

Compared with the peers in other countries, Irish credit unions spend too small a percentage of

overheads on data processing and information systems. This false economy has driven up costs by

limiting flexibility and increasing reliance on manual processes as well as amplifying operational risks.

Non-standardisation of IT core systems leads to differing capacities, capabilities and responsiveness

to increasing complexity in particular regulatory reporting and risk management requirements. It is

unlikely that any of the current systems are capable of supporting a wider range of products or

providing the operational flexibility required under the new savings and loans operations model

proposed here.

Deploying modern IT systems will be required to provide customers with the convenience they

expect these days. For example customers should have access to their funds 365/24/7 via ATM

machines. They should be able to manage their accounts and effect transactions over the internet.

There is an urgent need to upgrade loan underwriting and arrears management processes as well as

credit risk management and reporting processes. Credit unions need to employ more sophisticated

tools for asset/liability management, investment analysis and product pricing and for monitoring and

reporting on legal compliance obligations. Credit unions should have internal audit capabilities

including appropriate systems for assessing and managing risk and testing for sufficiency of internal

controls.

More efficient and effective operations will require substantial expenditure on IT and IS as well as

staff and director training.

In many cases IT projects are being developed and implemented without a coherent supporting

business strategy or business case. In some cases, individual credit unions have gone on solo runs

implementing new systems at some considerable cost without it appears tangible business benefits

being established or achieved.

- 19 -

The sector should guard against IT projects driving the business strategy. IT should enable delivery of

the business requirements and not define what the business is or isn’t.

It is highly likely the new model credit union proposed here will require an enabling modern core

banking system, database model and architecture to support an operational model that excels at

delivering savings and loans products.

Even if consolidated as illustrated above, credit unions will not have the resources, operational

capability or competencies required to transition to the new operations model. Their scale will

remain small. All the more reason for a federated alliance and its central finance facility, which

through its shared services delivery model, would provide the requisite upgraded technology

platform, management information systems and delivery channels.

Governance Model & Strategic Orientation Consolidating to larger operations and transitioning to the new business model will require higher

levels of governance and management capabilities to achieve the standards of operational excellence

required to excel at delivering low cost, high quality consumer savings and loans products and

services.

A new form of governance will be required as boards should switch to the principles based strategic

board approach and empower senior employees to deliver on the business strategy.

Larger consolidated credit unions will need to be managed by full-time professionals with the

training, experience and skills required for any institution that is holding people’s money.

Current governance practices confuse the very different roles of non-executive directors and

executive management. This results in part-time volunteers making management decisions and

performing management roles for which they are neither trained nor qualified.

Volunteer directors’ crucial leadership role should be to establish business goals and policies that

advance the credit union ethos of fairness to members and service over profits and to ensure the

safe and sound prudent management of the business.

Directors should not be distracted from their real job by dealing with day to day operational

decisions and routine matters.

Management of the credit union should be the responsibility of a professional chief executive. The

CEO should in turn be supported by full-time management team of qualified professionals with

specialist skills in finance, operations, risk management, compliance, marketing, audit and so on.

Most importantly the current short term strategic and business orientation focussed on

maximisation of dividends to members will have to be replaced with a longer term orientation

focussed on economic sustainability.

Professionalisation of governance and management is a key feature of network maturity which is

best illustrated in the strategic orientation of credit union boards and management.

The diagram on the next page illustrates the stark difference in strategic orientation between

Canadian and Irish credit unions:

- 20 -

These findings show a result that most people will find surprising. Financial exclusion is not seen as

the primary orientation for the majority of Irish credit unions.

The Irish responses clustered within (2) and (3) starkly highlight the short term Irish credit union

strategic orientation of the dividend distribution finance company business model - to pay the

highest dividend - and lack of emphasis on competiveness and sustainability.

In essence a credit union board is custodian of an intergenerational endowment represented not

only by the credit union’s financial strength – its reserves, but also its capacity to achieve its

economic and social objectives.

Intergenerational handover of fiduciary care and responsibility can only happen where governance

places the credit union itself front-and-centre and not on the periphery of strategic decision making.

Indeed it’s the combination of the careful husbandry of the intergenerational endowment with its

longer term strategic orientation, and embedded customer advocacy of the

member/owner/customer relationship that creates robust credit co-operative systems.

Thus the leadership job of a board of directors should be to focus on formulating and directing the

strategic governance of the credit union, to establish and regularly review its top-level policies, to

hire and supervise the chief executive, to set financial and other goals, and to monitor management’s

performance in achieving those goals.

These are the essential functions of top level governance in a financial institution. They deserve the

undivided attention of the board, whose energies should not be wasted on day-to-day decisions

which staff are paid to make.

There are two additional and very important advantages to this model of governance called the

strategic board.

The first is that it prescribes roles for volunteers that can be fulfilled without an undue commitment

of time. By adopting a modernised model of board governance, credit unions discover that the

challenge of recruiting capable directors diminishes considerably.

Secondly, and even more importantly, effective governance is indispensable to attracting and

retaining professional managers with the talents and skills that are needed to run excellent credit

unions. Highly capable people gravitate to organisations where roles are well defined: Where

- 21 -

directors establish clear policies, expectations and goals, where results are objectively measured and

rewarded – and where directors then get out of the way and let managers manage to achieve those

goals to their best professional ability. Excellence in the board’s governance of the credit union is key

to excellent performance by its CEO and staff.

Graphically the shift in governance emphasis is shown below:

It is to be expected that the new model governance will require directors who are fit and proper for

their important roles. In which case a specific credit union fitness and probity regime should set out

the requisite skills and experience required of directors. Given the increasing complexity of financial

services providers generally and specific complexity envisaged with larger credit unions, directors

should be remunerated accordingly.

- 22 -

5: A FEDERATED NETWORK OF CREDIT UNIONS

It is a matter of historic record that while credit unions in Ireland have long recognised the need to

develop a cohesive centralist system, they have been unable for a variety of reasons to transition and

mature as credit co-operatives in line with their international peers.

Furthermore the Irish credit union business model and network structuration within an atomised

independent system operating within restrictive common bonds has meant that 8economies of scale

and scope have not been achieved.

Long before 2008 the business model in use contained a number of flaws which are exposed when

credit unions grow and mature as they have in Ireland.

Emphasising dividends paid from profits, the inclination of voluntary boards is to adopt risk adverse

practices focussed on maximising dividends and to compete with one another to pay the highest

rate. This behaviour leads to a strategy of dividend maximisation which eschews investment in

improving products and services and adopting market based pricing mechanisms. It also comes at a

cost of building the reserves required to ensure economic viability and sustainability and invest in

improving operational competence. Moreover aging boards tend to represent a sectional savers

interest and favour maximising dividends and minimising investment in building long term

sustainable business capacities.

The business model was at high risk to the possibility of an external shock which would have

negatively impacted on both system and individual credit union financial stability. Both the global

credit crisis and domestic recession have created these negative shocks and adverse conditions.

Addressing trends emerging the sector in a recent speech the Register for Credit Unions said:

“As yet it is unclear as to the level of restructuring that is likely to take place over the next couple of

years. However it cannot be ignored in that we are now seeing an increasing number of credit unions

coming under financial stress. The trend in arrears is continuing upwards and the opportunities for

prudent lending are decreasing. Income is depressed and costs are either remaining static or

increasing. Should these trends continue it is not implausible that a significant restructuring

programme for the sector may be required. If the sector is to remain sustainable in the long term then

the time for progressive solutions to the circumstances arising in the credit union sector may be

coming soon – if it’s not here already.” Address by James O’Brien, Registrar of Credit Unions, to the

National Supervisors Forum, 6 November 2010

While significant stability intervention has been implemented by the Central Bank, there is a risk that

the all too necessary regulatory cure may kill the patient, unless an overarching national policy and

development framework is created through which restructuring is achieved.

Such a policy and framework should ensure that the sector transitions at pace to a modern business

model within a federated network.

The sector faces significant issues that would challenge better resourced and competent credit co-

operatives. On their own credit unions haven’t the resources to make the changes necessary to

8 Lack of scale and scope is leading to rising costs and without a commensurate increase in income, margins are dramatically reducing.

Undiversified, credit unions are wholly reliant on income from unsecured consumer finance augmented by investment income from excess

funds. Operational efficiencies have not been achieved through the deployment of modern IT systems and automated processes. Adjusting

for cost of funds (dividend rate) credit unions were operating at over 80% cost income ratio in 2007 which left little head room to finance

investment losses and inevitable loan losses from unsecured consumer and small business lending.

- 23 -

survive and thrive. And collectively they demonstrate an inability to co-operate together and create

the central finance systems found elsewhere.

Uniquely amongst developed credit union and credit co-operatives Irish credit unions have remained

stuck in transition between a start up phase “finance company” business model and more mature

“savings and loans” model. (For a discussion on this please see the appendix)

Critical to transitioning to savings and loans co-operatives is the creation of central finance facilities,

a robust flexible regulatory system, professionalisation of governance and management,

considerable investment in IT and improving operational capabilities.

Unfortunately Irish credit unions were never likely to make this transition unless driven to do so by

an external forces.

Transitioning to a savings and loans business model within a federated network is an urgent

requirement if the sector is to deliver on its oft mentioned latent potential to offer a viable consumer

and small business banking alternative to commercial banking.

There is a need for a step change, creating the dynamic which will cause this to happen. Credit

unions will not be able to accomplish this step change on their own.

If Government and the Oireachtas consider the sector of national importance then policy must

address one key question: is the future to be defined by the autonomous, independent, atomised

credit union or is the future to be defined through a federated network of which consolidated

credit unions are constituent owners. Deciding on the latter is the first step to beginning to craft a

viable credit co-operative system that works.

- 24 -

A Federated Network

Creating a federated financial infrastructure and shared services alliance between credit unions

would solve for the strategic dilemma facing credit unions today. The sector doesn’t have the

collective resources, scale, scope or competencies to offer a viable savings and loans alternative to

commercial banking.

A 9federated network structure consisting of a “10central finance facility” owned by credit unions

would have the potential to:

1. Fulfil the strategic economic and social objectives and needs of participating credit unions.

2. Improve scale economies and achieve broader market reach

3. Leverage synergies

4. Utilise capital more efficiently, while enabling more effective access to wholesale funding

and capital markets

5. Enable credit unions to become a dominant provider of consumer savings and loans services

in Ireland.

6. Have the potential to provide banking services to small business

7. Facilitate the orderly rationalisation of the credit union network

8. Through contractual solidarity and cross guarantees effect stablisation intervention where

required

Critically the central facility or apex organisation, would also serve as the basis for the long overdue

rationalisation of the credit union movement, as well as provide financial stabilisation for viable

credit unions.

However, the facility would primarily operate as a wholesale commercial enterprise serving the

institutions that own it. It would operate as a wholesale bank to the constituent members of the

federated network. It would not act as a trade association or representative body.

Creating such a facility would be a significant undertaking, requiring a substantial commitment by

credit unions that join in its formation. For this reason, it would be sensible to begin with a relatively

small number of larger qualifying credit unions. The idea, however, is to build a facility in which all

Irish credit unions participate as both a co-owner and user.

Rather than creating such a facility from scratch, it might be possible to source a commercial

organisation that would have a number of the skills, organisational structure and the ability to act as

a contractor or in a joint venture operation with the credit unions that join the structure.

A diagram depicting the high-level model of a federated network is shown below.

9 See appendix for more detailed discussion on federated co-operative networks

10 Central Finance Facility is a term used by international credit union trade body WOCCU to define central corporate entities owned by

constituent credit unions.

- 25 -

The creation of a comprehensive, centralised support system has been a long-term goal of Irish credit

unions, and it has been endorsed in principle both by Government and the Central Bank. However, it

is an objective that credit unions and their trade bodies ILCU and CUDA have been unable to achieve

on their own.

Given current economic, political and financial market conditions, there is now a unique opportunity

to facilitate the creation of such a network.

The balance of this submission summarises the relevant international precedents and Irish

environmental circumstances, discusses potential models for a credit union alliance, identifies a

conceptual structure for such an alliance (including the potential advantages, disadvantages and

challenges in creating it), and suggests a roadmap for taking this visionary concept forward.

- 26 -

The Federated Alliance – evaluation criteria

To be achievable, any plan for an alliance must meet the following criteria:

1. A compelling and achievable business case for new model credit unions.

2. A compelling and achievable business case for a central finance facility

3. The plan must respect and preserve core credit union values, and provide for a degree of

local autonomy.

4. The number of credit unions will need to consolidate considerably to realise the scale

economies required to excel at their core business of saving and loans.

While these conditions are necessary, in my view they will not be sufficient to achieve acceptance by

a critical mass of credit unions.

Over the past decade, several services providers have presented compelling commercial proposals

that would have enabled Irish credit unions to achieve better scale economies or offer a broader

range of products. For a variety of reasons, these have either failed to achieve sufficient credit union

support to be implemented or have generated only modest results.

Furthermore the sector has long talked of centralist co-operative initiatives but has been unable to

progress these beyond publishing high level discussion documents. Long on talk and short on action

the system and its constituents are demonstrably incapable of transitioning to higher level business

models or creating the centralist systems required to underpin financial stability and sustainability.

Irish credit unions confront an imminent 11crisis which can only be addressed if they move quickly to

modernise their business model and rationalise the number of independent operations. And this will

require a step change which can only be accomplished by Government intervention.

Accordingly, an undertaking on the scale of that contemplated in this note is unlikely to succeed

unless a fifth criterion is satisfied:

There must be strong pressure on credit unions by Government and the Central Bank to participate

in a federated alliance.

Indeed such is the challenge, I would suggest that a special body be established by Government

charged with driving credit union rationalisation, transitioning consolidator credit unions to the new

business model and establishing the central facility.

Evidence from other countries suggests that transitioning to higher level structures occurred only as

regulators and government officials pressurised credit unions to adopt higher standards of

performance in return for greater flexibility. This intervention was in turn used by small groups of

larger, progressive credit unions and their managers to effect change. Pushed from behind by

concerned regulators and pulled from the front by larger credit unions, change occurred over time.

For example the modern day federated Australian credit union system arose from governmental and

regulatory responses to the collapse of the Pyramid Building Society. Likewise US federal deposit

insurance came about from credit union pressure to establish a federal guarantee over concerns the

private system was insufficient. The concern in Canada has been to allow for the ordered

consolidation of the number of credit unions in particular those without a viable future. In all three

countries whilst the numbers of credit unions have dramatically declined they have evolved as

11 New lending volumes have dramatically declined since 2008 which will cause a rapid deterioration in loan book quality and critical

interest income stream.

- 27 -

vibrant alternatives to banks through expanding products and services, delivery channels and

number of branch outlets. In Canada some centrals now have their own branch networks having

bought them from banks.

None of these changes would have been possible were it not for the creation of central finance

facilities, professionalisation of governance and management, investment in modern technologies,

adoption of the savings and loans model and in time transitioning it to the full banking model.

Of the three basic models for credit union/co-operative cooperation mentioned above I believe that

only the second, the Federated Network, is likely to meet all of these 12criteria.

The Atomised model is dependent on a wide and deep markets for credit union outsource services

and service providers. The development of the US credit union service organisation (CUSO) model

was only possible given the continental scale of its financial service marketplace.

Proposing a fully Integrated/Merged structure in which credit unions become, in effect, local

branches, the third model would be viewed as a takeover of the credit union movement. Even the

suspicion that this was the goal would result in overwhelming opposition from the credit union

sector.

Conceptually, the three alternatives are diagrammed as follows:

Atomised“Loose Alliance”

LeagueRepresentational/Development

Credit Unions

Members dominate

Autonomous status

A la carte membership

+ Good customer experience

-Inefficient

Federated Network“Coalition of the Willing”

Central HubCentral Co-operative Wholesale Bank

Credit Unions

Balanced management

Credit union drives local delivery


+ Efficient

Integrated/Merged“Command Hierarchy”

Cooperative Bank

Branches

Centre Dominates

Branch there to sell

+ Efficient Sales Machine

- Poor customer service

Adapted from Mercer Oliver Wyman

Degree of Integration



Credit Unions

Members dominate

Autonomous status



-Inefficient



Credit Unions

Balanced management



+ Efficient


Cooperative Bank

Branches

Centre Dominates





Cooperative Bank

Branches

Centre Dominates





Degree of Integration

The left hand column represents the current Irish credit union form of loose association through

trade bodies and their business services. The far right column represents a mutual building society

organisational system of a central head office and branch network.

The best way forward, is for a federated network. In this model, credit unions would receive

centralised support services from an entity they would both own and over which they would share

joint control.

Developing an appropriate governance structure for such a central federated body would be one of

the most challenging elements involved in designing and implementing this concept. Needless to

say, people would have to be convinced that the resulting central body would operate at a high level

12 Credit union ownership is crucial to the long term durability of an alliance. When U.S. credit unions entered the third stage of

development in the mid-1970s, they first obtained current accounts, card processing and investment services from commercial banks.

Within a decade, they were abandoning those contractual arrangements, building credit union-owned corporate credit unions and other

service corporations to perform those functions. Credit unions did not want to remain dependent on actual or potential competitors for

their core functions. CUNA Mutual preserved its position because it was always owned by its credit union policyholders. Similar

considerations were also present in Canada and Australia.

- 28 -

of financial soundness and operational professionalism. This critical dimension is discussed in greater

detail below.

A proposed federated structure

The proposed structure for a credit union alliance involves creating a new central finance facility that

would be owned by participating credit unions, who would also be its only customers. Although they

would receive central support services from the new entity, credit unions would continue to trade

independently under their own names.

The facility would likely be incorporated as a commercial bank, although ownership might be held

through a holding company organised as a co-operative. A diagram of the proposed structure is

shown again below:

Fully implemented, the central banking facility would allow credit unions to collectively achieve

greater efficiencies of scale in back office operations such as IT and payments systems, as well as

obtain other services such as liquidity and investment management, regulatory compliance, internal

audit, risk management, human resources, marketing support, and group purchasing.

Depending on the final design, it is likely that a significant portion of operational capabilities would

be centralised to the new entity. Some functions of the central might be conducted through one or

more wholly owned subsidiaries. In addition a stablisation mechanism for credit unions based on

contractual solidarity and cross guarantees could be provided as a 13backstop to the DGS.

While there are many legal, regulatory and tax issues that would require research before an optimal

structure could be validated, it would appear that the structure above should confer the following

advantages:

13 Some Canadian provincial central finance facilities provide a stablisation mechanism and funding under devolved authority and

authorisation of provincial deposit insurers and regulators.

- 29 -

Legal Simplicity. Participating credit unions would retain their current legal forms, pursuant to the

Credit Union Act. It does not appear that setting up this structure would require amendments to

primary legislation.

Ownership. Credit union acceptance of this concept depends on the perception that it conforms to

established international norms for credit union support organisations. Key to those norms is the

concept that credit unions should own the support structures that are strategically essential to their

on-going independence as a unique social movement. This structure would satisfy that requirement.

Governance. Using a co-operative holding company as the vehicle for joint ownership allows for use

of a capital structure that would recognise disproportionate contributions of its owners, while

affording representation on the holding company board.

Although governance is the most difficult aspect of designing a central facility, I believe that a

structure can be set up that is acceptable if the governing board is constrained by certain agreed

upon principles. Those should include, for example, that the central provides services to its owners

on a fair and equitable basis, with uniform pricing reflecting actual costs given the respective volume

of business each brings.

Access to Capital. Whilst a co-operative holding company structure would be used to maintain credit

union control of the central banking facility, it would also allow for the facility itself to be 14publicly

listed. This would enable access to equity markets on a basis that could be advantageous to the

majority owners.

In-system stability. Through contractual solidarity and cross guarantees, credit unions would

effectively leverage off their combined balance sheets.

Special Purpose Subsidiaries. To the extent desirable for tax or other reasons, the structure would

permit for the incorporation of subsidiaries for special purposes. Those might be owned by the

central finance facility (as shown in the diagram above) or by the co-operative holding company.

14 OKO Bank (Finland) provides for public listing

Members

Credit

UnionCredit

Union

Credit

Union

Central Finance Facility

Bank

Insurance Leasing Credit CardsAsset

Management

Conceptual Federated Model

Credit

UnionCredit

Union

Members

Credit

UnionCredit

Union

Credit

Union

Central Finance Facility

Bank

Insurance Leasing Credit CardsAsset

Management

Conceptual Federated Model

Credit

UnionCredit

Union

- 30 -

Anticipated business advantages

Notwithstanding the logic of the proposed ownership structure, the likely success of the alliance

depends on the business advantages it actually brings credit unions. From an overview perspective,

the business case appears to be compelling:

Scale Economies. Credit unions would be able to afford resources they individually lack the size to

obtain affordably.

The functions performed by the central body could start with payment systems, IT and

investment/liquidity management, and they could grow over time to include most or all of the

following back office and support functions:

• Regulatory compliance

• Legal services

• Internal audit

• Risk management

• Human resources (recruitment, training, payroll, etc.)

• Group purchasing of supplies and equipment

• Market research and analysis

• New product development

• Product support and development

Funding and Liquidity Management. The central would have the capability to help credit unions

participate in the wholesale funding markets. The proposed facility would be designed to facilitate

this process and to manage more efficiently the liquidity and capital of its owner institutions.

Specifically, this could be accomplished through the following mechanisms:

• Through the central platform, credit unions would be provided with investment services.

• Credit unions would be allowed to borrow from the central facility to meet their short term

liquidity needs, such borrowing to be fully secured by the funds they hold on deposit with

the central.

• To the extent that any one party requires greater liquidity, the professional management

provided by the central would be used to obtain funding from wholesale markets. As a bank

in its own right, the central could also draw funding from the Central Bank of Ireland.

• Participating credit unions could access ECB MMR support which is something they cannot

do at present.

The central could provide for stabilisation funding for credit unions similar to the system deployed in

Canada where centrals working with deposit insurers are authorised by their regulators to stabilise

troubled but viable credit unions. Such a mechanism would be dependent on contractual solidarity

and cross guarantees together with an appropriate relationship with the Central Bank and its DGS.

It should be noted that in advanced markets stablisation funds are no longer utilised. Risk

minimisation is effected through early state interventions, prompt corrective actions and enforced

mergers. Funding where required is frequently used to temporarily support the acquiring credit

union. For a more detailed consideration of stabilisation please see the attached submission to the

Central Bank on stablisation.

- 31 -

Given their need for professional liquidity management, credit union access to current account

services should be conditioned on their maintaining a substantial share (if not all) of their liquidity at

the central.

As already noted, the proposed structure could provide access to equity markets if the central (or

one of its subsidiaries) becomes a listed company. To the extent they need to free up their existing

capital to support growth, participating credit unions could transfer assets into the central; thereby

taking advantage of the latter’s access to capital market funding and capacity to securitise assets.

Broader Retail Reach & National Footprint. The proposed alliance would offer credit unions the

ability to offer products through a larger 15branch network, as well as conduct workplace affinity

marketing via employer credit unions.

Broader Product Line. Credit unions would benefit from access to a broader array of financial

products. Representing a primary retail distribution channel to millions of consumers, the central

would have enhanced market power to enter into alliances with product providers 16

unavailable to

individual credit unions at this time.

Credit unions individually lack the size to be effective participants in the home mortgage market.

However in line with developments in other markets the central could provide the resources,

competencies and capabilities to enable credit unions to offer mortgages.

Enhanced Financial Services to Small Business. Whilst credit unions provide limited financial

services to small business, they are not recognised as primary bankers to small enterprises. In other

countries, central finance facilities have developed competence and expertise in this important area

of co-operative banking.

A central could assemble the resources required to allow credit unions to expand their small business

service capabilities. Typically, centrals establish mobile small business lending teams who, operating

on a shared branch basis, are supported by dedicated central expertise. Some also provide internal

loan syndication processes which pool and allocate loan assets to participating members. They also

leverage their collective market purchasing power, building third party alliances to increase the

scope of small business products and services offered.

Social Finance. Effective social finance is a specialised form of commercial lending requiring expertise

that credit unions do not possess. A central could establish a special purpose finance facility and

specialist lending team providing social finance facilities through credit unions.

Movement Stability and Rationalisation. The central facility could provide a platform for

professionally managing the rationalisation of the credit union system. It is widely recognised that

the number of credit unions in Ireland will need to reduce, but there is no vehicle currently available

to handle that process in an orderly fashion.

In General. Credit unions have neither the scale efficiencies nor the operational competencies to

deliver on a long standing objective to deliver a full banking service. An alliance along the lines

proposed in this submission has the potential to create the roadmap to achieve this business and

social objective.

15 There are a significant number of underperforming credit unions in high density urban and provincial locations that would benefit from

rationalising with a larger neighbouring credit union and participation within the alliance structure. 16 Alliances to provide consumer products (insurances, credit cards etc) require distribution scale in customer numbers which an alliance

would make available.

- 32 -

Anticipated business disadvantages and obstacles

The potential disadvantages of the proposed structure come from the execution risks of its

implementation. Obviously, it would represent a major strategic initiative that would have

significant implications for future operations.

The primary obstacle to accomplishing this vision is in getting credit unions to participate. Credit

union decision making processes are notoriously slow. In the past, even where credit union boards

agreed to proceed with a joint initiative they have changed their minds at the last minute and failed

to actually commit to and fund commercial joint ventures. Even in much more highly developed

credit union movements, volunteer boards are reluctant to fully embrace new business ideas. The

history of credit union modernisation in the U.S., Canada and Australia has been characterised by

major new initiatives being launched by a handful of leading institutions, with the rest following in

time once the concept is proven to work.

Moreover, the process of developing an alliance would be complicated geometrically by the number

of credit unions initially involved. On the other hand, a structure that is developed and implemented

by a founding group could be presented on a basically “take it or leave it basis” to those credit unions

who follow.

It is likely the Central Bank will look favourably at credit unions participating in an alliance and afford

them the greater flexibility they have advocated for. This has been the experience elsewhere where

federated centrals supervise their members under devolved powers from state regulators. In this

case it is envisaged that credit unions anxious to grow and expand services to members will want to

join a federated network system.

Government support

An important first step will be support for this concept from Government and the Central Bank.

Although Government has been largely preoccupied with its rescue of the Irish banking industry,

officials in both the Department of Finance and Central Bank are undoubtedly very conscious of the

critical need for reform of the credit union sector.

6: CONCLUSION

In conclusion the immediate future of credit unions should be defined by sticking to the knitting of

savings and loans and excelling at their delivery. The current network should rationalise through a

planned programme of consolidation with resultant consolidator credit unions required to transition

to a new model of business operations. These credit unions could be required to be constituent

owners of a central finance facility which is underpinned by contractual solidarity and cross

guarantees. In effect what’s proposed is the creation of a European style community focussed, credit

co-operative banking system guided by credit union operating principles and ethos.

Bill Hobbs

August 2011

- 33 -

APPENDIX 1 : NOTE ON FEDERATED CO-OPERATIVE SYSTEMS

Atomisation or Federation

Globally credit co-operatives have developed from individual loose form groups of individual credit

co-operatives (atomised) to highly integrated networks coalescing around a central finance facility

(federated). Frequently this facility is a wholesale bank providing a range of services to its constituent

owners.

The following diagrams illustrate the typology found in credit co-operative systems. Ireland

regrettably remains rooted in the start up phase in all these models.

This diagram illustrates the stages of development found in credit unions internationally. The Irish

system has been stuck between Nascent and Transition for almost two decades.

Well functioning deposit insurance mechanism

Rigorous financial management of operations

Emphasis on economic viability and long term sustainability

Diversification of products and services based on market rate structures

Organised progressive trade bodies

Need for greater effectiveness and professionalism of trade bodies

Well developed central servicesDevelopment of central services

Professionalisation of management

Weakening reliance on volunteerism

High commitment to traditional self-help ideas

Electronic technology environment

Greater product diversificationSingle savings and loan product

Competitive environmentWidened customer baseServes weak sections of society

Loose common bondAdjusted common bondTight Common Bond

Large asset sizeLarge asset sizeSmall asset size

Mature IndustryTransition IndustryNascent Industry

Well functioning deposit insurance mechanism

Rigorous financial management of operations

Emphasis on economic viability and long term sustainability

Diversification of products and services based on market rate structures

Organised progressive trade bodies

Need for greater effectiveness and professionalism of trade bodies

Well developed central servicesDevelopment of central services

Professionalisation of management

Weakening reliance on volunteerism

High commitment to traditional self-help ideas

Electronic technology environment

Greater product diversificationSingle savings and loan product

Competitive environmentWidened customer baseServes weak sections of society

Loose common bondAdjusted common bondTight Common Bond

Large asset sizeLarge asset sizeSmall asset size

Mature IndustryTransition IndustryNascent Industry

Adapted from

“An Industry Approach to Classifying Credit Union Development” C Ferguson & D G McKillop 2007

This typology of Nascent, Transition and Mature can be translated in turn into generic business

models deployed in each stage:

Credit Union Business Models

International Phases of CU Development

Model A Model B Model C

Co-operative Finance Company

Savings & Loan Specialist

Full Service Co-operative Bank

Source Third Way Alliance 2009

- 34 -

The following diagrams capture the stages of development from atomised credit co-operatives

(Ireland) to federated strategic networks seen in European style co-operatives such as RaboBank, The

Netherlands and OkoBank, Finland. Farther afield the Canadian Movement Desjardins and Australian

credit unions amongst others have also evolved strategic networks.

Irish credit unions can been seen to be lying somewhere between atomised and cohesive networks

.

Separation of strategic and operational management and control

Prudential supervisiondelegated monitoring

Contractual solidaritycross guarantees

Strategic Network

CIRPÉECentre interuniversitaire sur le risque, les politiques économiques et l’emploi

The Power of Networks: Integration and Financial Cooperative PerformanceMartin Desrochers

Klaus P. Fischer

May/2005

Atomised

Representation

Cooperative Education

AdvisoryServices

Pooling resources/standardisation

Market Sharing

Standardised Image

Delegation of strategicplanning

Cohesive Network

Consensual

Networks

Atomised

System

Strategic

Networks

The network adopts mechanisms of collective insurance designed to assist members or the central in difficulties

Contractual solidarity

The central assumes the role of prudential supervisor (or auxiliary supervisor) of the members

Prudential supervision role

There is a separation of strategic and operational decision management between the central (strategic) and members (operational). The central and members are bound by network decisions. This includes mandatory pooling of resources and standardisation of operations in areas chosen by the network

Separation of strategic and operational decision management

The central performs strategic planning for the network, although there is no mandatory compliance with approved strategic plans

Delegation of strategic planning function

The network assumes a unique trade mark and image to which all members adhere

Unique image

The network has rules eliminating inter member competitionMarket sharing

The central is responsible for the management of common resources and supports standardisation of operating procedures across the system

Voluntary pooling of resources and standardisation

The central provides business and or/prudential management services for the members

Advisory & Prudential services

Provides or supports cooperative education among members of the first tier

Cooperative education

The central represents the system in issues of common concern (regulation) taxation, other cooperative movements etc

Representation

The network adopts mechanisms of collective insurance designed to assist members or the central in difficulties

Contractual solidarity

The central assumes the role of prudential supervisor (or auxiliary supervisor) of the members

Prudential supervision role

There is a separation of strategic and operational decision management between the central (strategic) and members (operational). The central and members are bound by network decisions. This includes mandatory pooling of resources and standardisation of operations in areas chosen by the network

Separation of strategic and operational decision management

The central performs strategic planning for the network, although there is no mandatory compliance with approved strategic plans

Delegation of strategic planning function

The network assumes a unique trade mark and image to which all members adhere

Unique image

The network has rules eliminating inter member competitionMarket sharing

The central is responsible for the management of common resources and supports standardisation of operating procedures across the system

Voluntary pooling of resources and standardisation

The central provides business and or/prudential management services for the members

Advisory & Prudential services

Provides or supports cooperative education among members of the first tier

Cooperative education

The central represents the system in issues of common concern (regulation) taxation, other cooperative movements etc

Representation

Adapted from: CIRPÉECentre interuniversitaire sur le risque, les politiques économiques et l’emploi

The Power of Networks: Integration and Financial Cooperative PerformanceMartin Desrochers

Klaus P. Fischer

May/2005

Characteristics of Networks

- 35 -

In a more recent document published by Oliver Wyman the following typology was illustrated:



Credit Unions

Members dominate

Autonomous status



-Inefficient



Credit Unions

Balanced management



+ Efficient


Cooperative Bank

Branches

Centre Dominates







Credit Unions

Members dominate

Autonomous status



-Inefficient



Credit Unions

Balanced management



+ Efficient


Cooperative Bank

Branches

Centre Dominates





Cooperative Bank

Branches

Centre Dominates





The following diagram illustrates a typical federated European co-operative network:

Members

Local

Co-opLocal

Co-op

Local

Co-opLocal

Co-op

Local

Co-op

Central bank

Insurance Leasing MortgagesAsset

Management

Listed

Arm

International

arm

Stylised organisational structure for a co-operative bank

Members

Local

Co-opLocal

Co-op

Local

Co-opLocal

Co-op

Local

Co-op

Central bank

Insurance Leasing MortgagesAsset

Management

Listed

Arm

International

arm

Stylised organisational structure for a co-operative bank

As owner members of the central bank, local co-operatives are provided with a range of corporate

services, central liquidity, treasury, loans securitisation, monetary system participation, IT systems,

access to national payment systems, operational platforms and products and services. These

products are either intermediated from external providers or provided through subsidiaries e.g. life

insurance, fund management etc. The centrals may also have devolved regulatory responsibility to

ensure compliance by local co-ops. Using cross guarantees, centrals participate in wholesale markets

obtaining a rating none of the local co-ops would ever achieve. For example RaboBank’s AAA rating is

based on the underlying cross guarantees of the local Rabobanks.

Many have grown in line with their members needs and have international subsidiaries providing

corporate banking services, capital markets services and in the case of Rabo, own banks in other

countries. In one case OkoBank (Finland) has a listing allowing it to raise equity funding but its

member co-operatives own and control the central.

Canadian provincial credit unions have evolved a similar approach using central credit unions.

From a standing start in the 90’s the Polish credit union movement adopted a federated system and

now offer a broad range of products and services through the largest network of retail outlets in

Poland.

- 36 -

Taken together these illustrate the transition required of Irish credit unions. Indeed to survive they

will need to make a step change as they do have the luxury of the time taken by systems elsewhere

which have evolved since the 1950’s – save for Poland.

- 37 -

USEFUL REFERENT DOCUMENTS

Call to Action - Re-inventing Credit Unions for the 21st Century CUDA (2006)

Ratonalisation Report ILCU (2006)

Strategy for the Movement ILCU (2007)

An examination of the key factors of infuence in the development of credit unions Sibbald, Ferguson, McKillop Annals of public and cooperative economics 2002

The Power of Networks: Integration and Financial Cooperative Performance Desrochers and Fischer Cipree

Investigating diversity in the banking sector in Europe: The performance and role of

savings banks Ayadi,Schmidt,Valverde Centre for European Policy Studies 2009

Co-operative Bank: Consumer Champion Oliver Wyman 2009

UK Building Societies: Deregulation change myths Tayler, The Service Industries Journal, Sept 2005

A study of the initial returns and the aftermath of initial public offerings of

demutualised building societies in the UK Shiwakoti,Hudson, Short Applied Economics Letters, 2005

An industry approach to classifying credit union development Ferguson, McKillop (1997)

Can mergers ensure the survival of credit unions in the third millenium Ralston, Wright, Garden CAFI, University of Queensland

Ethical banking: The case of the Co-operative Bank Harvey Journal of Business Ethics, 1995

Governance, regulation and mutual financial internmediaries performance Fischer CREFA (2002)

Financial cooperatives: structure, conduct and performance McKillop Annals of public and cooperative economics 2005

Cooperative banks in Europe - Policy Issues Fonteyne IMF Working Paper (2007)

Economy & Finance

A co-operative banking strategy for Ireland