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Credit union regulation and the Credit union


regulation and
financial services authority: less the FSA
is more, but better!
Andrew Baker 301
School of Law, Liverpool John Moores University, Liverpool, UK
Abstract
Purpose – The UK’s financial watchdog, The financial services authority (FSA) took over prudential
regulation and control of credit unions on 2nd July 2002. The purpose of this paper is to assess the
impact of the new regulatory framework and its impact on the continued poor perception of credit
unions among users of financial services products. It also aims to assess what the future may hold for
the direction of the UK credit union sector.
Design/methodology/approach – An assessment is made of the impact of the new regulatory
framework and its impact on the continued poor perception of credit unions among users of financial
services products. Also, an assessment is made of what the future may hold for the direction of the
UK credit union sector.
Findings – The paper finds that credit union membership is growing, as are members’ deposits and
loans, however at the same time the numbers of individual credit unions are falling. Overall, with
supervision and regulation passing to the FSA, the outlook for credit unions in the UK is better than
at any time in their history. The result of the new regime will ultimately lead to a strong, secure and
professional credit union sector, capable of meeting the credit needs of a wide range of persons.
Originality/value – The paper provides a useful overview of the history and present status of UK
credit unions, and the effects of recent legislation and regulation.
Keywords Credit unions, United Kingdom, Regulation
Paper type Viewpoint

Introduction
The UK’s financial watchdog, The Financial Services Authority (FSA) took over
prudential regulation and control of credit unions on 2nd July 2002. Credit union
membership is growing, as are member’s deposits and loans, however at the same time
the numbers of individual credit unions are falling (FSA, 2007; Ward and McKillop,
2005). The issue of regulation and legislation is back on the agenda. In May 2007 HM
Treasury put out for consultation a number of questions in relation to legislative and
regulatory issues relevant to credit unions, with respondent and government responses
published in November 2007. On 30th June 2008 HM Treasury announced its intended
reforms as a result of the consultation, although some attempt to alleviate the impact of
the current credit crunch seems to have influenced the decision to reform. What effect,
if any, has this change in regulatory regime had on the UK movement and what will be
the future? This article aims to assess the impact of the new regulatory framework and
its impact on the continued poor perception of credit unions among users of financial
services products. It also aims to assess what the future may hold for the direction of
the UK credit union sector.

The financial services authority International Journal of Law and


The birth of the FSA came about as a result of the Chancellor of the Exchequer Gordon Management
Vol. 50 No. 6, 2008
Brown’s decision to sweep away the self regulatory nature of financial services pp. 301-315
regulation inherent in the Financial Services Act 1986 (MacNeill, 1999). The decision # Emerald Group Publishing Limited
1754-243X
was followed by swift action and within six months following the decision to merge DOI 10.1108/17542430810919259
IJLMA banking supervision with the regulation of investment services, the securities and
50,6 investment board (SIB) was renamed the FSA. This was followed in June 1998 of the
transfer of banking supervision and regulation to the FSA from the Bank of England
by virtue of the Banking Act 1997, the trade off being that the Bank of England took
greater control of monetary policy, setting interest rates to manage the government’s
inflation target. In June 2000 the Financial Services and Markets Act (FSMA) 2000
received Royal Assent, with the primary provisions commencing in December 2001
302 (Blair and Minghella, 2001).

Credit unions
Credit unions in the UK are traditionally not for profit, member owned financial co-
operatives that provide basic savings (in the forms of shares on which a dividend is
paid) and loan facilities to its members (Griffiths and Howell, 1991). The word savings
is in part a misnomer, as they are not interest earning savings in the traditional sense,
which is currently not permitted by the Credit Union Act 1979 (CUA, 1979), although
the June 2008 Treasury announcement shows that reform is to be forthcoming.
Deposits made by members are in effect shares that earn a dividend; so that when a
member pays in savings they are buying shares in that credit union, each of which has
a value of £1. Owning more shares does not increase voting rights; each member has
equal voting rights with the other members. A dividend is only paid where the credit
union has sufficient surplus in any given year. In respect of loans, rates were originally
capped at one per cent per month on a reducing balance, however, this was increased to
two per cent by the Credit Unions (maximum interest rate on loans) Order 2006 (2006/
1276), which came about as a result of an earlier HM Treasury consultation (HM
Treasury, 2006).
Credit union membership eligibility is dependant on a close knit membership field,
referred to as the common bond. Those currently permitted by the Credit Union Act
1979 (CUA, 1979) include following a particular occupation (Section 1(4)(a)), residing in
a particular locality (Section 1(4)(b)), being employed in a particular locality (Section
1(4)(c)) or being employed by a particular employer (Section 1(4)(d)). They also include
being a member of a bona fide organisation or being otherwise associated with other
members of the society for a purpose other that of forming a society to be registered as
a credit union (Section 1(4)(e)), or residing in or being employed in a particular locality
(Section 1(4)(f) as inserted). In addition to those membership qualifications contained
in the CUA 1979 the regulator has from time to time added its own qualifications,
although these tend to be very limited in scope. The latest amendment by the FSA is
that the membership qualification was changed to include employees of subsidiaries
(The Credit Union Sourcebook (CRED) 13, Annex 1C). These qualifications, and the
regulators interpretation of what constitutes a common bond have long been criticised
as a factor that has limited the development of credit unions in the UK, as it restricts
the number of people who are entitled to become a member, and the range of people a
credit union can attract, a view supported by Fuller (1998) who argues:
In spatial terms, the rigid demarcation of common boundaries, whether based around pre-
existing common attributes, or what are perceived to be common attributes, is exclusionary
in nature (Fuller, 1998).
Although the common bond does impose restrictions, arguably it forms a fundamental
component of the unique nature of credit unions, binding the membership together in a
common cause and for smaller loans at least, actually provides the security for that
loan, in what Ferguson and McKillop (1997) termed a ‘‘reciprocal interdependence’’. Credit union
This viewpoint was confirmed by the FSA in its Guidance Note on the common bond
(FSA, 2003). The common bond acts analogously to an honour clause, as to default on
regulation and
such a loan would in effect be to default on a loan from the community in which you the FSA
live, and from where the funds for the loan originated.
However, The common bond has long been a problem for credit unions’, and the
movement has consistently argued for expansion to their fields of membership, which
to the regulators credit has been forthcoming, albeit not as rapidly as the movement
303
may have wanted. Arguably, however, any future development of credit union
membership must be based on the concept of the common bond. It defines the scope
of a credit unions community influence, without which the whole identity of the
credit union would be called into question. Indeed in the USA it is the regulators
interpretation of the legislation and common bond that have arguably resulted in such
explosive growth and continued development during challenging periods (Baker and
Ryder, 2003).

Credit Unions, Legislation and Regulation


The issue of legislation and regulation has been a recurring one for credit unions,
evidenced by the current HM Treasury consultation process. The path to dedicated
legislation has often been tortuous and is at the centre of claims of why the credit union
movement in the UK failed to take-off. The UK did not attain specific credit union
legislation until 1979, some 15 years after the first credit union. In comparison Ireland
has had credit union legislation since 1966 and the USA’s Federal Credit Union Act has
been in force since 1934, with some individual state legislation pre-dating even this.
This meant that credit unions either had to register under the Companies Act 1948 or
the Industrial and Provident Societies Act 1965, or to remain unincorporated, a path
obviously risky where people’s deposits are concerned. At this time credit unions
would have been regulated and supervised by the Registry of Friendly Societies,
however, it soon became evident by the lack of membership growth in the sector that
neither of these two legislative provisions was appropriate (Griffiths and Howells,
1992), and to remain unincorporated exposed them to the dangers of unlimited liability.
The Crowther Committee on Consumer Credit extolled the virtues of credit unions and
after several abortive attempts in the 1970s the Credit Union Act received Royal Assent
on 4th April 1979, just prior to the demise of the Callaghan Labour government.
The Act was drafted narrowly, arguably necessarily so, to ensure the soundness and
safety of members ‘‘deposits’’, however, as Ryder (2003a) argues the legislation was
overly restrictive particularly in relation to member eligibility and lending powers,
with others calling it ‘‘inhibiting’’ (Ward and McKillop, 2005), and that this restrictive
nature jeopardised their ‘‘safety and soundness’’ (Ryder, 2005). This was a
determinative factor in the lack of growth seen in other jurisdictions, where in the USA
for example credit unions have achieved much higher growth rates (Baker and Ryder,
2003). Indeed the world council for credit unions (WOCCU) noted that that UK credit
union legislation was the most restrictive in the world and has constructed a set of
model laws aimed at promoting the need for credit union specific legislation (Baker,
2003).
I would argue, however, that there was no real choice for the legislation, as it had to
protect potential depositors from losses that may have emerged in a fledgling industry
sector. A priority for the legislation was arguably the need to provide confidence for
potential depositors at a time when the UK economy was weak. This restrictive start
IJLMA undoubtedly had a positive outcome for the UK credit union sector, firstly, allowing
them to start up in a safe and secure legislative environment, forming a solid base from
50,6 which arguably the movement has built upon and secondly, the strict operating
framework provided consumers with the confidence to entrust their savings to credit
unions. It is possible that a more relaxed legislative and regulatory early framework
may have endangered the solid foundations that the Credit Union Act 1979 set-up. The
problem, however, and the missed opportunity came later when the needed legislative
304 updates and deregulation necessary for their growth materialised with painfully slow
progress.
Between 1979 and 2002 few substantive legislative amendments were made to the
Credit Union Act save for the increase in lending capabilities from £2000 above
member shareholding to £5000 above that came in the Credit Unions (increase in limits
of shareholdings, deposits by young persons too young to be members and of loans)
Order 1989 (SI1989/2423), and the addition of a new common bond of ‘‘reside in or
being employed in a locality’’ (Section 1(4)(f)), more commonly referred to as the ‘‘live or
work’’ common bond, allowing anyone living or working within the qualifying area to
become a member of that credit union. This paucity in legislative drive was despite
what Ferguson and McKillop (1997) noted as being ‘‘a dissatisfaction. . .with regard to
the legislative framework within which credit unions operate’’. This new membership
qualification had a significant effect, dramatically widening the scope of membership
to a much wider area than previously available. The only other legislative amendment
of any real note was the Deregulation (credit unions) Order 1996 (1996/1189) in which
HM Treasury noted the burdens imposed by the Credit Union Act 1979, feeling it was
possible to ‘‘remove or reduce the burdens without removing any necessary protection’’
(ibid.) and therefore relaxed some of the restrictive lending limitations imposed by
the 1979 legislation, allowing larger credit unions certified to do so, to increase the
amounts they could lend to members. This required the credit union to apply to the
regulator for a certificate allowing them to extend their lending capabilities. Those
credit unions that were granted the certificate became known as 11C credit unions after
the section of the Credit Union Act that the Deregulation Order inserted. The
amendments in this respect were generally welcomed as a step in the right direction
(Ward and McKillop, 2005); however, they were limited in nature, again erring on the
cautious side, at a time when further deregulation would have provided impetus for
growth.
All this was changed by an HM Treasury announcement of 1999 (HM Treasury,
1999a) when it was stated that credit unions were to join the financial services
regulatory revolution, in joining other mainstream financial services providers,
becoming part of the single regulatory regime of the FSMA 2000, to be regulated and
supervised by the newly empowered FSA (FSA, 1999). This meant becoming a part of
the same regulatory framework as banks, building societies and other financial
institutions.

The FSA and credit union regulation


By virtue of Part XXI (Section 338 (1)(f), and provisions contained in Schedule 18
(Section 338(4), Schedule 18 Part V)) of the FSMA 2000, the FSA took over prudential
supervision and regulation of the credit union movement on 2nd July 2002 (relevant
sections of Credit Union Act 1979 repealed by schedule 22 FSMA 2000), although, in
reality the process goes back nearly two years previous with consultations starting in
December 2000 (FSA, 2000), and a further three consultations taking place prior to the
July 2002 handover (FSA, 2001a, b; 2002). Undoubtedly this contributed to the time Credit union
taken to bring credit unions under the FSA’s umbrella, but arguably allowed time for
credit unions to sufficiently prepare themselves for the large scale change that the new
regulation and
regulatory regime was to bring. Consultation Paper 107 laid down draft rules that the FSA
would apply specifically to credit unions (by virtue of Section 138 FSMA), ultimately
leading to the FSA’s sourcebook for credit unions, CRED. CRED lays down the FSA’s
supervisory and regulatory requirements for credit unions including the approved
persons regime (CRED, Chapter 6), liquidity requirements (CRED, Chapter 9) and
305
systems and controls (CRED, Chapter 4) to name just a few.
One of the key changes brought about by CRED is the classification of credit unions
as Versions 1 and 2. AVersion 1 credit union may lend up to a maximum of £10000 for
up to three years if unsecured or seven years secured, whereas a Version 2 credit union
can lend the greater of £10,000 or 1.5 per cent of total shares, and can lend for five years
unsecured and 15 secured (subject to liquidity requirements). Arguably these lending
limits are a vast improvement on the original restrictions of a maximum of £2000
above a member’s shareholding in the original act. While it is arguable that the
introduction of the Section 11C lending certificate created a two tier credit union
movement, the overt designation of Versions 1 and 2 credit unions has reinforced this
perception. These larger Version 2 credit unions, furnished with increased lending
limits generating increased incomes, in turn leading to further increased lending
power. It is only from these Version 2 unions, it is submitted, that a long-term self-
sustainable movement will emerge.
The common bond has itself been the subject of some regulatory focus. The
Regulatory Reform (credit unions) Order 2003 (SI 2003/256) allowed the associational
common bond (Section 1(4)(d)) to be combined with any one of the other common bond
qualifications, thus widening the available membership scope, albeit in a limited way.
Additionally in respect of decisions to authorise a membership qualification the FSA
introduced three presumptions where a credit union with a potential membership of
less than 100,000 will have a positive presumption and a potential over one million
members will have a negative presumption, with those in-between requiring a case to
be made in favour of the qualification being granted (CRED, Chapter 13 Annex 1A).
The latest HM Treasury consultations have again looked to what flexibility may be
added to the membership qualification problem, and the June 2008 announcement
includes an intention to liberalise membership criteria. Some credit union trade
representatives advocated a field of membership qualification similar to that in New
Zealand, which at its broadest allows for a common bond providing that its it
‘‘objectively verifiable’’ (HM Treasury, 2007b). This could theoretically allow a live or
work in the UK common bond. This seems very unlikely, as the governments position
maintains the need to keep limits on membership qualification, to ensure that it does
not become a fiction, while two other trade representatives argued in favour of keeping
some limits to ensure that the common bond concept has some meaning.
It can be said that this new regulatory regime for credit unions has had both a
positive and negative impact on the movement. From a positive perspective credit
unions are now part of the single financial services compensation scheme (FSCS) and
the financial ombudsman service (FOS). For any credit union that became insolvent
before 1st October 2007 Members’ deposits were protected by the compensation
scheme with a guaranteed return of 100 per cent of the first £2,000 and 90 per cent of
the next £33,000[1]. This has now received a further boost that from 1st October 2007
the compensation scheme may compensate losses of 100 per cent up to £35,000 (FSCS,
IJLMA 2007). With credit union member statistics suggesting an average of under £1,000
50,6 (ABCUL, 2004) in deposits the previous compensation allowances under scheme was
more than likely to guarantee 100 per cent for the overwhelming majority of members
at present, while the new allowances strengthen this position. The inclusion in this
important scheme will undoubtedly improve the perception of credit unions in the UK,
which has long been dogged by consumers’ viewpoints that deposits in credit union are
306 not as safe as in other institutions. Added to this is their inclusion in the financial
ombudsman scheme giving users of credit unions’ an effective, independent and free
complaints procedure.
However, even though membership of these schemes will undoubtedly help with
negative perception issues of credit unions, they will not help with arguably the
greatest perception problem, that of being labelled a ‘‘poor persons bank’’ (Jones, 2001
cited in Ward and McKillop, 2005). Credit unions have long been stigmatised as being a
provider of credit for the less well off within our communities, and this has prevented
more affluent members of those communities from engaging with the movement; a
position that has long annoyed credit union activists. This may have resulted from the
way in which credit unions have originated and grown in the UK following what Jones
(2005a, 2006) calls a ‘‘social development model’’, which gave priority to ‘‘community
involvement, member participation and the social and personal education of the
volunteer’’ (ibid.) at the expense of a more commercial, business focus, which has now
become the focus of the new model for credit union development (ibid.).
The strong argument in favour of credit union expansion in this sector is that people
traditionally regarded as financially excluded are usually forced in to the hands of
lenders offering high rates of interest to mitigate against risk, with some claiming that
the annual percentage rate (APR) can climb as high as 177 per cent (BBC Online, 2004).
In contrast, as noted, credit unions have had their interest rate capped at one per cent
per month a reducing balance, even on relatively small borrowings. For credit unions
this legal cap has brought its own problems, in that it restricts the earnings of a credit
union no matter what the loan amount is. As an example a typical loan of £300 over 12
months would cost £19.86 in interest (ABCUL, n.d.), not a great return for the credit
union. It would take a lot of loans of this size for a credit union to become self sufficient.
As noted above this has now been increased to 2 per cent per month. While this may
prove of use in low and moderate income communities it will not attract the kind of
credit unions covet, namely the more affluent consumer of financial services products.
Such customers can borrow at considerably lower rates and charges, arguably
affecting credit unions real ability to breakthrough into the mainstream. Increasingly
credit unions do, however, offer lower rates of interest, especially if secured against
deposits.
These restrictions on lending rates places credit unions in a strong position in
respect of tackling financial exclusion, as a large percentage of loans will be small, very
often in the £100 to £500 bracket (Jones, 2005b). Credit union promotional literature
state that the cost of a £500 loan over one year will be a little over £20 per week with a
total cost of loan being a fraction over £33. One problem however, is that in most cases
credit unions require a probationary period of typically between 8 and 13 weeks saving
by a member before a loan can be advanced, forcing many requiring credit urgently
back into the hands of predatory lenders. Seemingly this situation is being remedied
with an increasing number of credit unions now offering immediate loan facilities to
new members or limited emergency loans in special cases.
Credit unions will argue that they can and do provide services to those sections of Credit union
our communities without access to financial services provision, in particular low cost
credit, but by focussing too heavily in this area there is a danger that they will miss the
regulation and
opportunity to grow sufficiently to further increase their lending opportunities. As the FSA
the report of Policy Action Team 14 (PAT 14) (HM Treasury, 1999b) noted the most
successful credit unions are ones where the membership comes from a varied income
background (PAT 14 was one of 18 Policy Action Teams set up to look into financial
exclusion). This is predicated on the basis that people on higher incomes will save more
307
and take larger loans, thus, providing more income for the credit union. Equally credit
unions need to attract younger members as this demographic are more likely to be in
the borrowing phase of life with a greater propensity to take loans, and older persons
who are more likely to maintain higher levels of savings. To develop a self-
sustainability model credit unions have to exploit the full membership potential within
the common bond area, credit unions capable of achieving this will continue to offer
affordable credit to traditionally underserved members of the community as well as the
more affluent. Additionally successful self sustaining credit unions will be in a position
to offer financial services to communities affected by bank branch closure
programmes. This tying of credit unions to financial and social exclusion was again
highlighted in the government’s 2004 spending review (HM Treasury, 2004), and
continues to be a major focus of thinking. The timing of the announcement to reform
some elements of credit union legislation to tackle a credit crunch reinforces this view
(BBC Online, 2008b).
This ‘‘poor persons bank’’ perception problem is at the heart of the reason that credit
unions are underachieving. This perception has been propagated by government
initiatives, central, local and devolved, which have identified credit unions as weapons
in the war against financial and social exclusion, with two government reports in the
late 1990s strongly associating the movement with tackling these twin problems.
Much of the problem, reinforced by more recent comments (HM Treasury, 2007a, b),
stems from two HM Treasury reports commissioned a year after Labour came to power
in 1997. Both reports were delivered in November 1999; the Credit Unions of the Future
Taskforce Report and the Access to Financial Services, Report of Policy Action Team 14
Report, and highlight similar issues, namely that credit unions help financial exclusion
because they are open to low income groups, provide low cost credit, encourage small
scale savings and instil a feeling of self reliance in their membership. This may be true,
however, as any credit union official, volunteer and member will testify credit unions
are not only open to people from low income groups, they are open to people from all
income groups within their common bond.
Both reports focus on the issue of credit unions being primarily an instrument in
tackling financial and social exclusion, an approach that has helped to reinforce the
long held misconception and stigmatism that credit unions are ‘‘poor persons banks’’,
only suitable for people on low or no incomes or generally from socially deprived
communities. This branding has undoubtedly harmed the movement, preventing it
from attracting much wider sections of the communities in which they are located, who
will not engage with an organisation that they see is only for ‘‘poor people’’. Indeed as
Davis and Brockie (2001) note, much of the growth of credit unions resulted from local
and central government policies and that supported credit unions as a means of
tackling financial exclusion, poverty and local and community development (ibid.).
They note that is was the ‘‘abiding policy’’ to use credit unions in the regeneration and
anti-poverty strategies (ibid.). Other commentators note, however, that this focus may
IJLMA have had little contribution to community development (Heenan and McLaughlin,
50,6 2002), and be one of the reasons why credit union development in the UK has been
‘‘sluggish’’ (Ward and McKillop, 2005). Paradoxically PAT 14 while extolling the
virtues of credit unions as financial inclusion tools stated that:
The most successful credit unions include a high proportion of people in work. Indeed, long-
term sustainability is only achievable by community credit unions if they have an appropriate
308 mix of people in work, providing the savings needed to ensure they have the capacity to lend
to less well off people. Without an adequate savings base, no credit union can perform its core
lending position. People in work have an obviously greater capacity for savings than those
who are not.
As Jones (2005a) noted, the origins of the UK credit movement lies in its social mission
allied to local government strategy, leading to a community focus at the expense of a
more commercial, business like outlook. This resulted in community credit unions that
were grant reliant and therefore financially weak (Jones, 2005a), a position that has
proved difficult to rectify. McKillop et al. (2007) recommend that those organisations
that provide grants to credit unions should take note that in doing so the self help ethos
and therefore long-term viability may be harmed as a result, and that such grants may
be better placed in preparing credit unions for long-term self-sustainability, such as
training. It is arguable the money and attention focused on credit unions to tackle
financial exclusion may have been better spent on a more direct approach of getting
financial institutions to provide better access to affordable credit, possibly by the
enactment of primary legislation similar to the United State’s Community
Reinvestment Act 1977 (McDonald, 2005; Marshall, 2004).
A limiting factor in the ability to reach out to a wider audience is the lack of
capability to offer a contractual rate of interest, limited as they are to dividend
payments only. While credit unions are able under the CUA 1979 to offer up to eight per
cent dividend on members deposits, many credit unions are not able to do so,
particularly among the smaller community based credit unions, and the consultation
did note the potential risks for these smaller operations, which in turn represents a
reputational risk to the movement as a whole. Again trade representatives made
comment on advantages such as allowing them to reach a wider group of consumers,
and allowing them to respond to interest rate movements above the eight per cent cap,
while the disadvantages ranged from the risk to smaller credit unions to losing the link
to their cooperative roots, where the dividend payment represented a collective effort of
self help and support. The government’s response was to recommend a middle course
in any future legislative or regulatory change, allowing credit unions to choose which
way to go. It is submitted however that if credit unions are to become self sustaining,
which seems to be the consensus, the ability to offer a contractual rate of interest needs
to be a priority. The emergence of a Versions 1 and 2 classifications allows mitigation
against risk as only Version 2 credit unions should be given such permission and are
the only ones likely to be able to do so anyway. This now seems to have been taken up
by the government with the announcement (HM Treasury, 2008) that a Legislative
Reform Order will be brought forward allowing credit unions to pay interest on
members’ deposits. Although as noted above the rationale for the change is a desire to
militate the effects of the current ‘‘credit crunch’’ and is on one hand a desperate
attempt to ensure access to affordable credit.
The above makes clear argument that for credit unions to develop and meet their
potential they must be allowed to reach out to the whole of the community they serve,
and not just the disadvantaged (Ryder, 2002). This is arguably the correct approach; Credit union
however, it would seem at odds with government’s position, local, central and
devolved, in using credit unions to tackle financial and social exclusion.
regulation and
To its credit the FSA focus does not seem to call for credit unions as financial the FSA
exclusion tools, taking a much more pragmatic role that credit unions are financial
institutions offering consumers financial products and as such must be properly
supervised and regulated. It should make no difference who the customer base is.
309
The consolidation issue
Credit union statistics are showing a definite decline in the numbers of individual
credit unions, even though membership (492,173 at 30th June 2005), assets
(£425,849,000 at end 2004, up from £390,519,000 at end 2003) and loans (£309,810,000
at end 2004, up from £286,071,000 at end 2003) continue strong growth trends (FSA,
2007). Figures show that as at the end of September 2006 there were 557 credit unions
registered by the FSA in England, Scotland and Wales, down from 569 credit unions at
end of September 2005, (FSA, 2006) this in turn was down from 597 at the end of
September 2004, a further drop from the all time high of 697 at the end of 2001. This
represents a loss of 140 credit unions in five years. Additionally the number of credit
union registrations is falling (Taylor, 2006). Why then this downturn in numbers?
Undoubtedly some credit unions close down completely either voluntary due to lack if
local interest (BBC Online, 2003) or as a result of insolvency (BBC Online, 2008a).
However, the primary reason for the reduction in credit union numbers is as a result of
merger and consolidation between existing credit unions into larger entities, as
evidenced by the mergers in Sheffield, Cardiff and Leeds.
A key argument is that this consolidation is being driven by the new regulatory
regime itself, an attempt by the movement to spread the burden; which Donnelly (2001)
termed ‘‘of a more severe nature than before’’. As Goth et al. (2006) noted that the
rationale for merger were, inter alia, volunteer burnout, regulatory burden, promotion
of growth, scale economies and professionalism. The extra requirements that the new
regime is placing on credit unions is seemingly increasing the strain on the very small,
wholly volunteer run credit unions (McKillop and Wilson, 2003). This position may
confirm the suspicions of the main credit union trade body in the UK, The Association
of British Credit Unions Limited (ABCUL), who were concerned at the time of the
proposed regulation that credit unions would be lost in the ‘‘one size fits all’’ approach
to financial services regulation (Ryder, 2003b). By 2003 there was beginning to
surface some evidence of an increase in ‘‘red tape’’, which was proving a burden
to some in the movement, with ‘‘regulation. . .overshadowing the tangible benefits’’
(Dey, 2003, p.2). This would seem to echo the rationale for the large scale merger
activity seen in the 1990s in the USA where Rick (1998) noted that ‘‘. . .the growing
regulatory burden and the rising cost of compliance forced many smaller credit unions
to seek out merger partners because of their inability to shoulder the compliance
burden’’ (ibid.).
A key underlying factor behind merger activity is the beneficial side effect of
economies of scale, for which McKillop et al. (2002) noted that there was ‘‘considerable
scope’’. These economies of scale will be felt more by Version 2 unions, which in turn
will allow credit unions to increase the range and professionalism of services they
provide. Increasing numbers of credit unions, particularly those that have merged to
form larger entities, are employing professional personnel in key roles such as
managers, indeed, if the regulatory burden is increasing this becomes essential; again
IJLMA this can only serve to improve the general perception of credit unions in the minds of
potential consumers. In its own guidance note on the common bond the FSA alludes to
50,6 mergers being the way forward in stating ‘‘The FSA recognises the value of
consolidation in providing stronger entities’’ (FSA, 2003).
This position would seem to mirror that of the credit union movement in the USA
where from a high of nearly 24,000 credit unions in 1969, the figure now stands below
10,000 (CUNA, n.d.). This figure is remarkable due to the fact that over the same time
310 period the actual membership increased from 21.5 million to 84.8 million (ibid.),
underlying the amazing growth potential for the global credit union movement, where
membership currently stands at around 172 million (WOCCU, 2006). In Ireland there
has also seemingly been a slight drop in credit unions numbers, down to 521 at the end
of 2007, compared with 532 at the end of 2003, while at the same time membership
remains static at 2.9 million (ILCU, 2007). Savings increased to E13.4 billion at the end
of 2007, up from E9.5 billion at the end of 2003 (ibid.). This small reduction in credit
union numbers is not on the same scale as displayed in the USA and UK, and it is too
early to come to any real conclusion, however after showing consistently strong
growth for so long, there may yet be some significance in the slow down. Arguably
merger and consolidation provides the credit union movement with opportunities.
Simple economies of scale benefits are obvious with larger credit unions able to offer
more services without disproportionate increases in the costs of providing such
services. Mergers provide competitive opportunities also, particularly where banks are
the competition. This has been the case in the USA and Australia where large scale
consolidation noted above has led to credit unions coming into direct competition with
the banking industry, much to the chagrin of the banks given the favourable tax status
of US credit unions.
Additionally, consolidation may allow these enlarged entities to offer a wider range
of services that the current basic savings and loans currently provided. This move to
offer additional services is well underway with ABCUL working on the provision of
basic bank account facilities, ATM services and direct debit services (ABCUL, 2006).
Although, it is again difficult to anticipate anyone other than the Version 2 credit
unions being capable of effectively offering these services, again forcing smaller unions
to, at the very least, think about their future.
Counter to this concern, is of course, that this is indeed the correct and natural way
forward, the volunteers have taken the movement so far, and now is the turn of a more
professional and business like approach, with bank like shop fronts and the possibility
of offering wider services. Indeed, on this issue, as of 1st November 2004, four credit
unions decided to change their permission registration to allow them to offer twenty-
five year mortgages, coincidentally with the FSA taking over regulation of mortgage
business, a big step for the movement. Although, again it could be argued that with
only a small number of Version 2 credit unions going to be able to offer mortgages, then
this too could further squeeze smaller volunteer run unions into mergers, even if this is
not what they desire.
There is a downside to the merger, consolidation drive, in that it is arguable that
such moves will ultimately threaten the viability of smaller credit unions, forcing them
into merger and possibly affecting new start up rates. The credit union ethos has
always been as a self help financial co-operative, the push to merge into larger
professionally managed and run credit unions will inevitably call this into question,
which in turn will push out the volunteers who have taken the movement to its present
stage. Smaller credit unions may see that the only way to keep up is to merge with
other Version 1 credit unions to form Version 2 credit unions, allowing them to offer Credit union
larger loans for longer periods. This drive to merge may have the effect of self regulation and
correcting the two tier split created by the FSMA 2000.
Indeed two studies have shown that consolidation does not always bring the the FSA
desired results. Fried et al. (1999) found that although on average members of
acquiring or acquired credit unions do not see a deterioration in service provision
around half of acquiring credit unions experience a decline in service provision
and around 20 per cent of acquired credit unions suffered such a decline following
311
a merger (ibid.). This would suggest that although many credit unions do see
improvements after merger this is by no means universal and in fact has a detrimental
effect on a large number of unions. Ralston et al. (2001) in a study of Australian credit
union mergers also concluded that mergers alone cannot guarantee credit union
survival:
Maintaining competitiveness with much larger rivals demands that credit unions focus on
both efficiency and customer/member service satisfaction. While mergers can potentially
increase efficiency, they can also reduce member satisfaction through rationalisation of staff
and/or branches and from problems in the integration of systems, procedures and
technologies (Ralston et al., 2001).
Indeed they concluded that ‘‘mergers are not associated with improvements in
efficiency superior to those achieved by internal growth’’ (ibid.), while Sibbald and
McAlevey (2003) noted that ‘‘clear efficiency improvement occurred in moving from
small to medium sized organisations, less compelling was the evidence of economies
scale in large credit unions’’. The arguments go on to conclude that the better way
forward for credit unions is to align with other small financial institutions and
centralised bodies to provide specialist backroom support (Ralston, 2001). Arguably
this opportunity was missed in the UK when the mooted Central Services Organisation
failed to gain sufficient backing, making consolidation the one real option for self
sustainability (Ryder et al., 2002).

Devolution
This drive for consolidation and professionalism is supported at both central and
devolved government level, with the Welsh Assembly Government and the Scottish
Parliament providing large sums of money to assist credit unions in growing to meet
their potential, a large proportion of this money being spent on employing full time
staff and development staff. The Welsh Assembly stance seems to echo that of central
governments in its approach to credit union development, citing the movement’s value
in tackling financial and social exclusion, with Drakeford (2002) noting that the focus
in Wales on ‘‘broadening the scope of credit union activity’’ has been to attract persons
classified as financially excluded (ibid.). In Scotland credit unions are a success story
while accounting for 21 per cent of the total numbers of UK credit unions in 2002,
membership accounts for some 39 per cent of the total. Ryder and Shepherd (2004) note
that this success may lie with a wider recognition of the value of credit unions taken by
the Scottish Parliament where they state ‘‘the main vision is for a vibrant, self
sustaining credit union movement that is accessible to all potential members’’ (ibid.).
This focus on attracting all available members is to be applauded and one the credit
union movement is keen to exploit, arguably, this embracing of the all persons within
the common bond will ultimately lead to the self sustainability longed for, not the focus
on financial exclusion.
IJLMA Conclusions
50,6 Overall, it is submitted, with supervision and regulation passing to the FSA, the
outlook for credit unions in the UK is better than at any time in their history. The result
of the new regime will ultimately lead to a strong, secure and professional credit union
sector, capable of meeting the credit needs of a wide range of persons. However, it must
be noted that this will not happen overnight. The move away from wholly volunteer
312 run organisations will not be universally popular. The enforced professionalism will
put off many people getting involved, with an increased administrative load leading to
a possible reduction in the number of new credit unions, further increasing the pressure
of consolidation, and the move to Version 2 capabilities. This, however, in the long
term, may lead to a move away from the long held ethos of self help community credit
institutions, to much larger financial services providers as evidenced by the movement
in the USA. Additionally, central, devolved and local government have a part to play.
Credit unions can help social and financial exclusion, however, state bodies must also
recognise that they will only be able to help if they prove successful at attracting
members from the wider community and legislation and regulation must reflect the
need to allow credit unions to attract members from all sectors of society, by allowing
them to provide services that consumers want.

Note
1. www.fsa.gov.uk/vhb/html/COMP/COMP10.2.html

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Further reading
HM Treasury (2005), ‘‘Pre-budget report Chapter 5: Building a fairer society’’, available at:
www.hm-treasury.gov.uk./media/4/5/pbr05_chapter5_203.pdf

Corresponding author
Andrew Baker can be contacted at: a.h.baker@ljmu.ac.uk

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