Three essays on credit unions financial stability

Abstract

The credit union sector has grown quite significantly in recent years. Among other strategies, this growth has been achieved via expansion of the portfolio of services (mostly, the types of loans) that credit unions offer, an activity which has been heavily regulated. This regulatory emphasis seems to stem from two considerations. First, growth strategies based on expanding the range of services were thought to lead to significant increases in asset risk, since credit unions were considered to be at a special disadvantage in the selection and management of assets other than personal loans; second, the regulation tried to protect credit union member (shareholders) who probably did not recognize these risks and would not exercise explicit monitoring or disciplining on the credit union. We look at these two issues in the context of the particular example of credit union growth via expansion into member business loans. Using data from the universe of US credit unions we first provide evidence that indeed expanding the business loan portfolio increases the risk profile of the asset side of the credit union. We then show, however, that credit union members exercise significant monitoring of the credit union, in general, and of business loans, in particular. We offer both descriptive and quasi-experimental evidence which suggests that credit union members understand the risk characteristics of business loans and penalize the credit union by withdrawing deposits when business loans increase significantly. Our results have broad implications in that they suggest that risky growth strategies of even the “less sophisticated” financial institutions are subject to significant discipline mechanisms from their main stakeholders.