Regulators and Issue Spotting

Posted by Anthony Demangone

In the past few months, I have read a number of blogs and articles that make the point that financial regulators mishandled the housing crisis.  The articles argue that the regulators should have warned the industry of the looming crisis.  On a related note, I have heard quite a few complaints about the Federal Reserve's move to regulate overdraft protection programs by amending Regulation E.  These complaints often mention that the changes came out of left field, hinting that any regulatory action that threatens so much income should have given the industry some additional warning.

I'm not going to defend regulators, but I wanted to point out how much information was pushed out to the industry on these issues.

Mortgage Crisis.  I don't think anyone could have predicted the current mortgage crisis accurately.  But take a look at the following guidance documents that NCUA and others issued. Granted, some of the guidance may have been issued too late to help certain credit unions in specific situations.  But the list does get your attention, especially looking back through the years. 

• In September of 2004, NCUA issued Letter to Credit Union 04-CU-13.  The letter notes that credit union shares were increasing faster than loans.  Credit unions may have been tempted to pursue "alternative lending arrangements."  These arrangements included sub-prime lending, indirect lending, and outsourced lending arrangements.  NCUA said all three were viable, if the credit union understood and properly managed the risks.
• In May 2005, NCUA and others issued Letter to Credit Union 05-CU-07 to warn of the risks of home equity lending.  Rising housing values coupled with low interest rates were driving growth in this area. NCUA and other regulators outlined risks, noting that many institutions had relaxed underwriting standards.  
•   In October 2005, NCUA and others issued Letter to Credit Unions 05-CU-15.  They didn't beat around the bush, as this was titled "Risks in Real Estate Lending." 
•  In October 2006, NCUA and others issue Letter to Credit Unions 06-CU-16. This one ramped up the guidance, providing risk management expectations for non-traditional mortgage products and home equity lending. 
• In April 2007, NCUA and others issued Letter to Credit Union 07-CU-06.  This was to provide guidance to credit unions on how to work with borrowers who were suffering from "payment shock" when ARMs readjusted.  Later that year, they issued another Letter to Credit Unions about sub-prime mortgage lending. 
• By 2008, the guidance turned to dealing with loss mitigation efforts in real estate lending.   And consumer information for hybrid ARM products. 
• In June 2008, NCUA issued this guidance that directly spoke about the affect of the mortgage market on corporate credit unions.  
• There are more pieces of guidance as you move through the rest of 2008 through the current day. 
• Enter 2009, and you see a number of laws and regulatory changes dealing with this issue: HVCC, MDIA, HOEPA changes to Reg Z, to name a few. 

Overdraft protection.  How did we get to the Reg E rule?  It started back in 2005, and it quickly gathered steam via a number of areas. 

• In 2005, NCUA issued Letter to Credit Unions 05-CU-03 to address concerns with overdraft protection programs.  It offered a set of "best practices."  Guess what was part of the suggested best practices? That's right, a discussion of an opt-in.

Provide election or opt-out of service. Obtain affirmative consent of consumers to receive overdraft protection. Alternatively, where overdraft protection is automatically provided, permit consumers to “opt out” of the overdraft program and provide a clear consumer disclosure of this option.

• In 2005, the Fed and NCUA issued a rule (effective July 1, 2006) that provided additional information to consumers about overdraft fees if the institution marketed the ODP program.
• In January 2007, Rep. Carolyn Maloney (D-N.Y.) announces her plan to introduce legislation dealing with ATM and debit card overdraft fees.  Over the course of the new few years, other bills are introduced, and hearings are held on the issue of overdraft protection.
• In December 2008, the Fed issued another rule (effective January 1, 2010) requiring added disclosures about overdraft fees for all institutions.  
• In December 2008, the Fed issued a proposed change to Reg E to address overdraft fees for ATM cards and debit card transactions.  Last November, they issued a final rule, which will take effect July 1 of this year. 

Hindsight is 20/20.  I understand that.  But there is a lesson to be learned here. NCUA and other regulators usually deal with problems first by sending out guidance.  If the problem persists, they persist with more.  If the problem is still there, and if Congress and consumer groups lean on them, there might be a rule.  And if that doesn't move fast enough, Congress very well may step in. Remember this lesson as time marches forward.  Other crises will arise.  That's a guarantee.  When NCUA and others issue guidance to alert you to a risk, take notice.