Last week, the NCUA updated  several corporate resolution tables on its website that showed the $16.1 billion losses on investments estimated in July 2010 have now fallen to as low as $8.5 billion. NCUA has used this $7.6 billion overestimate — nearly 50% of calculations — to justify $4.8 billion in credit union assessments in addition to the conserved and (extinguished) capital of $5.6 billion for these phantom future modeled losses.

Based on its latest data, NCUA estimates it now owes credit unions a refund of $1.9 billion in TCCUSF premium overpayments. However, the agency claims it cannot pay the balance until 2021. The updated third quarter data represents a material shift that NCUA provided six months after it assessed credit unions $700 million — eight basis points — for the TCCUSF in third quarter 2013. NCUA did not support its assessment with any objective data, and more recent information shows the premium was not only unneeded but also not permitted by the TCCUSF enabling statute. Under that legislation, NCUA can only assess TCCUSF premiums for corporate resolution expenses, not for temporary funding.

 

The 50% error in potential investment losses from three-year-old estimates is even more troubling, however. NCUA still uses the same people, the same external audit resources (Black Rock), and the same financial models to justify a plan whose very foundation is increasingly suspect. The agency drew up the models, the data, and the assumptions — even the corporate resolution plan — in secret and never subjected them to public review or debate. Now, actual facts are showing how dangerous and costly such a closed process can be.

The lesson emerging from the corporate updates isn’t only about billions of member credit union deposits lost through regulatory mismanagement; it  is also about the notion that NCUA can predict events with such accuracy that all future expenses can and must be accounted for immediately. This approach compromised the cooperative model’s counter-cyclical role during the crisis by emulating bank, not credit union, design capabilities.

This impulse to model future events with omniscient certainty is still present in NCUA’s examination activities today and can be seen in its oversight of interest rate risk modeling as well as its intent to set individual minimum capital levels based on “subjective judgment grounded in agency expertise.”

Playing Poker With Credit Union Funds

In a Feb. 12 press release, NCUA mentions the JP Morgan settlement of $1.4 billion yet fails to say what it did with the funds. Seeking answers, Callahan & Associates filed a FOIA request asking for an explanation of the phrase “net proceeds from the JP Morgan settlement.”  How was NCUA planning to use the funds if not to reduce losses on the securities? And why did NCUA use the term “net?”

The obscure response received from the NCUA’s FOIA attorney dated January 31, 2014, (FOIA 14-FOI-00031) reads as follows:

You requested the following related to the JP Morgan settlement:

1. Gross amount of the settlement allocated to the credit union system;
2. Any documents that describe how this amount was determined;
3. Any dollar amount disbursements  from the $1.6 billion (sic $1.4 billion) that were (would be) used for expenses other than for losses on securities sold to the corporate credit unions, to include the recipient firm’s name and amount disbursed (or to be paid); and
4. Documentation and any communications that describe the services provided and the justification for these expenses. (You also asked that we confirm whether the full $1.6 (sic $1.4) billion amount is to be allocated to losses or potential losses on the legacy securities; and whether the settlement proceeds would be included in the 2013 financial results for the Temporary Corporate Credit Union Stabilization Fund.

The FOIA provides that federal agencies make their records promptly available to any person who makes a proper request for them. . . A proper request must reasonably describe the records sought (see 12 C>F>R> $792.08(b).  The FOIA does not require an agency to conduct an investigation, answer questions presented as a FOIA request, or create records in order to respond to a request.  With regards to 1) and 3) above, as well as the footnote, these are questions presented as a FOIA request and are therefore improper.   In addition, the speculative nature of 3: with the “(would be)” or “(to be paid)” makes it improper insofar as it asks for future possible agency actions, not existing records.

We note that your request in 4) is based on presumptions in 3), which, as a question, is improper for a FOIA request.  Thus if there are any firms who provided NCUA services and received disbursements from the settlement, we construe 4) to be a request for records of any documents and communications describing such services and justification for any expenses.  With regard to 2) and 4), your request necessitates additional time to consult among two or more components of the NCUA having a substantial interest in the matter. Consequently we are extending the time for your request. . .

Signed Regina Metz, Staff Attorney

The public comments of NCUA’s General Counsel Mike McKennamatch this lawyerly circumlocution. In a Feb. 13 Credit Union Times article, McKenna offers the following explanation as to why NCUA would not disclose how much of the recovery would go to cover actual losses: “When you are playing high-stakes poker against the most powerful, deep-pocketed financial interests in the country — with billions of dollars at stake — you don’t show your cards in your hand. Any strategic information we share would give our opponents a competitive advantage at the negotiating table.”

If McKenna had looked at NCUA’s website, he would see the stabilization fund reports a December payment to Treasury of $1.0 billion, which leaves at least $400 million from JP Morgan’s funds for playing poker. The real issue is why any of these funds should go to third parties. The Department of Justice negotiated and signed the settlement on behalf of NCUA, and as previously disclosed in correspondence between Rep. Darrel Issa and NCUA Inspector General William DeSarno, executive order 13433 prohibits federal agencies from entering into contingency fees.

In response to Rep. Issa, NCUA said the order did not apply because it “does not receive appropriations of tax dollars for the agency’s insurance or regulatory functions.” But DOJ does. Moreover, on NCUA’s website under the description of the NGN note program, the agency states: “As part of the NGN Program, NCUA utilized securitization to provide long-term funding for the Legacy assets and guaranteed notes in its capacity as an agency of the Executive Branch of the United States Government. (emphasis added) NGN’s are backed by the full faith and credit of the United States.”

NCUA wants to have it both ways. It wants to be part of the executive branch when it comes to raising funds but not when it comes to following executive orders. Again, what is the agency doing with the $400 million?

Next Steps For Credit Unions

NCUA’s latest partial update on the corporate resolution plan provides the following conclusions:

• NCUA acknowledges it overstated its loss estimates on the corporate investments by nearly 50% up to now.
• NCUA acknowledges it should give back at least $1.9 billion of the $4.8 billion total in TCCUSF premiums.
• NCUA is not accounting for at least $400 million of the JP Morgan settlement so it can play high-stakes poker. But who is on the other side of the poker table? Is it credit unions? The DOJ? The executive branch? NCUA’s private lawyers?

NCUA needs to take three actions:

1. NCUA should adopt cooperative design principles as the basis for all regulatory actions.Congress did not charter credit unions because the country needed 6,800 more financial firms acting like banks. Congress wanted institutions that could play a counter-cyclical role and focus on member-owner benefit.
2. NCUA should immediately rebate the $700 million TCCUSF premium from JULY 2013.However,even though there will be a surplus from the program, NCUA says it cannot rebate the funds until the last NGN is paid off in 2021. So credit unions have not only paid an unneeded expense but also lost the use of these funds for up to eight and a half years. This is going to cost credit unions almost double the initial $700 million assessment. Funds are available to repay immediately under the TCCUSF line from Treasury.
3. NCUA should establish an independent oversight board similar to the oversight board that reports on the Treasury’s use of TARP funds as soon as possible. This board should report to credit unions, Congress, and the public on all aspects of NCUA’s expenditures and oversight. It should also have total access to all records and decisions. If NCUA is unable to do this by its own leadership, then Congress should require it.

An Opportunity To Learn From The Past

NCUA’s actions on the corporate system continue to have an immediate financial and systematic impact. The dissolution of the CLF/corporate liquidity safety net has left the cooperative financial system, as a whole, weaker today than before the crisis. That lack of strength is compounded by NCUA’s move to obtain emergency support outside our cooperative system by suggesting credit unions should join the Federal Reserve’s discount window for help with liquidity needs.

At the time of the crisis, the solution of paying for losses as incurred was detailed in plans from both individual corporates and system observers. Instead, NCUA insisted on projecting all potential future costs and then immediately expensing these estimates in full — estimates now shown to be increasingly and significantly wrong. The latest data shows the enormous magnitude of error that has resulted from NCUA’s projections. It also shows the hundreds of millions of dollars in extra expenses incurred by setting up a parallel funding and monitoring system when the corporates already had one in place.

Ultimately, what is at stake is the confidence of the credit union industry and the public in NCUA. Does the leadership, both board and senior staff, have the capacity to assess their own actions, look at the new data objectively, and respond openly to the radically changed circumstances documented in the NCUA’s own updates?

Change does not come on the wheels of historical inevitability. It requires continuous struggle, to paraphrase Martin Luther King, Jr. NCUA’s inability to recognize the new objective realities of its own deeds is not just a cooperative system’s or financial regulator’s failure. It is a failure of democratic government to be responsible to the people that elected it.