Speech notes: Michael Cullen to Credit Unions
Speech to the Association of Credit Unions - Dr Michael Cullen
Thank you for the invitation to open your annual conference. I have always been a friend of the credit union movement. The movement in New Zealand is in a period of transition and this conference provides an important opportunity to reflect on progress to date, and to consider the challenges that lie ahead.
The theme of this year’s conference is Credit Unions – Credibility, Quality, Caring. The government shares the Association’s vision of building a credit union movement that is:
a credible participant in the financial services community; comprised of credit unions with robust corporate governance systems and staffed by individuals who have relevant skills, training and resources; and responsive to both the social and financial needs of its local communities and members.
As you all know, credit unions have traditionally played an important role in enhancing the financial opportunities of people from low-income groups by encouraging them to save and borrow at reasonable rates. Your tradition of being co-operative, self-help organisations is one which you are all understandably proud of, and one which the government wishes to see continued.
However, some of the delegates here today represent credit unions with assets of over $10 million, which engage in a wide range of activities and whose commercial operations bear a closer resemblance to those of retail financial institutions than those of “traditional” credit unions. A number of these larger credit unions have continued growth aspirations and ambitions to compete directly with retail financial providers.
The situation will obviously create new challenges for the movement and for the government.
The challenge for the credit union movement is to develop a vision for the future that encompasses the needs and aspirations of its member credit unions irrespective of their size.
The challenge for government is to develop a credible and efficient regulatory regime that is:
calibrated to the needs of the movement and is flexible to meet the distinct needs of the small and large credit unions;
encourages existing and potential volunteers to associate with and join credit unions through the application of clear and reasonable regulatory standards;
fosters public confidence in the movement; and
facilitates innovation and fair competition in the financial services sector.
The decisions to raise the legal limit on the size of credit union deposits (from $40,000 to $250,000) and to require all credit unions to register a Trust Deed were the first steps towards building that credible and efficient regulatory regime.
Raising the deposit limit has enabled credit unions to grow and compete better with other financial service providers.
Implementing the Trust Deed ensures that credit unions have robust investor protection mechanisms in place.
The government appreciates that these measures, particularly the implementation of the Trust Deed, have resulted in significant changes to the way credit unions do business. We are pleased that the movement is responding positively to the new challenges it faces.
The Association deserves particular credit for the way it has mobilised its member unions and provided access to education and training seminars, for example, on Securities Act compliance, to the senior management teams working within your member credit unions.
The next steps in the development of the movement’s regulatory regime will be taken later this year.
In October, the Ministry of Economic Development will release a public discussion document on proposals to amend the Friendly Societies and Credit Unions Act. The reform proposals in the review have been developed with and through the Association and have already been subject to some pre-consultation with the Association of Manchester Unity Credit Unions.
The government shares the Association’s hope that these proposals will, if implemented: update the concept of the “common bond” so that it more adequately reflects social and economic changes in New Zealand society;
increase the ability of credit unions to grow within their common bond of membership;
remove the restrictions on the range of external sources from which credit unions may borrow; and
provide a coherent prudential supervisory regime by removing perceived overlaps between the Securities Act and the Friendly Societies and Credit Unions Act.
In December, Treasury will recommence work on the tax status of credit unions. This review will explore whether credit unions’ existing tax exemption, for business carried on within its circle of membership, should be removed.
As you all know, there is some concern in the wider financial services market that this exemption provides credit unions with a competitive advantage over other financial service providers. They also believe this competitive advantage has been exacerbated by the decision to increase the deposit limit. These are legitimate concerns that need to be carefully explored.
I know that both review processes will trigger significant debate within the Association’s membership and within that of the Manchester Unity-affiliated credit unions. I would like to encourage all of you to participate in these reviews by making written submissions.
As you all know there have been several initiatives to reform the Friendly Societies and Credit Union Act over the last 10 years. The majority of these have been prompted by the need to develop a regime that can specifically accommodate the growth aspirations of larger credit unions. Indeed, this is one of the key drivers behind the latest review.
One of the questions that the movement, and the government, will have to consider at the conclusion of this review is whether it is desirable to keep pushing the boundaries of the present Act to accommodate these growth aspirations.
As credit unions extend the range of services and products they offer to their members, their internal governance and prudential systems must also become more sophisticated to reflect the increased regulatory risks that these new services and products may create.
It is becoming increasingly difficult to adopt a “one size fits all” approach to credit union regulation. The government is therefore monitoring international developments to see how this problem has been tackled in other jurisdictions. The trend, particularly in Australia and Britain, has been to move to a dual regime specifically tailored to the needs and distinct risks posed by small and large credit unions. These dual regimes are administered by a central government regulator which is responsible for credit union registration and day to day oversight as well as their prudential supervision.
It is too early to say whether such an approach is appropriate for New Zealand but the government expects to start work on this issue during this term of office.
In many respects credibility and quality are inextricably linked. The successful implementation of the recent, and indeed the proposed, changes to the credit union regulatory regime will depend on the movement:
retaining public confidence; responding to the changing social and economic needs of its members and local communities; and retaining its unique business niche.
Quality government regulation, quality prudential safeguards, quality financial services delivered by quality staff will therefore be central to the movement’s future success.
I want to change the subject completely now, and reflect on my recent attendance at the Apec Finance Ministers Meeting in Los Cabos, Mexico. Two topics dominated discussions, especially outside of the formal set pieces. They are related. One was the outlook for the global economy, especially in the light of the recent stock market turbulence. The other was the whole mix of corporate fraud and accounting standards, which are obviously impacting on investor confidence.
There is clearly uncertainty in the immediate outlook for stock markets, and an additional level of uncertainty over how that will affect consumer confidence, consumption and trade.
I have to say that I had the advantage of being one of the more relaxed Finance Ministers at Apec.
The global asset value decline has had little direct impact on New Zealand. We didn’t have the asset bubble that many other countries had in the 1990s, and therefore didn’t have the degree of share price correction that they had. In fact our share market has fallen by a little over ten percent from its 1999-2000 peak, compared with declines of between 30 and 50 percent in other countries.
There has been an indirect effect from the share market turbulence, mainly through reduced export prices and volumes. In our case, though, these have been offset by higher tourist flows, an increased level of net inward migration, more construction activity and robust consumer spending.
As I said, the future is still uncertain. But we have relatively high interest rates, not the close to zero rates that have closed out monetary policy options in some parts of the world. We also have good fiscal surpluses and low debt. These factors give us some fiscal options in responding to a crisis. And our historically high labour market participation rate and low unemployment rate, give us the potential to absorb some shocks without catastrophic social consequences.
I need to stress that there is absolutely no intention to move to a more stimulatory macroeconomic stance. We went on alert after 11 September, but made it clear we would react if, and only if, those events provoked a deeper recession, and then only to the extent necessary. We held our nerve and that proved to be the correct decision.
The economy is growing well and there are capacity constraints emerging in some areas, particularly with some skill shortages. There is no need for us to alter our economic settings, but I just make the point that I return from Apec with slightly more comfort and a wider range of options than some of my colleagues as we consider the possibilities of lower global growth scenarios.
There is one thing that none of us will escape. That is the inevitable overhaul of accounting standards, audit practices and financial disclosure rules that will flow from the scandals at Enron and WorldCom. Enron and WorldCom grabbed the headlines, but the extent of fraud in the American corporate scene was so widespread and so extensive that it is impossible to avoid a conclusion that the causes were systemic rather than a few isolated incidents.
Clearly, the main emphasis of reform will be on corporate financial reports. The major scandals have revolved around inflating revenue, overvaluing assets and hiding debts, and so that is where the clean-up starts. In some ways, the first-round fall-out from the loss of investor confidence may benefit organisations like your own as people abandon equity investments and seek safety in financial deposits.
In the long run, though, everybody is going to have to rethink how they disclose and report the true financial health of their organisations.
My advice from officials is that the risk of similar financial scandal is considerably lower in New Zealand than in the US, but that risks do still exist. There are a number of reasons for this.
A much larger proportion of the remuneration packages of US executives is in the form of share options, which gives them an incentive to inflate reported profits and company asset values.
In New Zealand, companies tend to have a few large shareholders, often with seats on the board and therefore with direct access to company information.
Our tradition is to have non-executives chair Boards of Directors. In the US, the tradition is to have a Company President, who chairs the Board and is CEO.
Accounting standard setters are free from political influence here.
There have been fewer Initial Public Offerings here. This has meant that we have not been exposed to conflicts of interest where investment advisory firms are involved with the financial business of the company making the offer.
There have been steps taken to reduce the risks. Arthur Anderson is no more, and that has sent a clear message to the large accounting firms that they are not bullet proof. Press reports claim that Arthur Anderson collected $25 million in audit fees and $27 million in consulting fees from Enron during 2001. It would naturally be reluctant to put $27 million at risk by an audit that criticised the accounting practices that its consultancy was instrumental in developing.
Now accountancy firms have clearly separated their audit and consultancy arms. Companies are paying closer attention to governance arrangements and reporting standards. The investment environment now is quite different to that which operated before the scandals erupted, and no organisation that operates in the wider investment arena will be unaffected by it.
We have a lower level of risk, and some corrective actions have already been taken, so the New Zealand government is taking a careful rather than a hurried approach to regulatory change.
The Ministry for Economic Development is conducting a benchmark study comparing New Zealand’s regulatory environment with the US, European, Canadian, Singaporean and Australian models. The Institute of Chartered Accountants has produced a discussion paper that debates a number of ideas for regulatory change.
Submissions on that paper will be provided to the Ministry, who will then be advising the Minister of Commerce. The Ministry is also evaluating a proposal from the Securities Commission to expand their oversight of financial reporting practice activity. Plus of course, we will be assessing the effectiveness of regulatory changes introduced in other countries.
My message, though, is that regulation is at best a backstop. It is never ideal to regulate for good behaviour or possible to conscript confidence. Operators in the financial sector, big and small, need to go through a process of self-evaluation to ensure that we avoid the disruption that bad practice has caused.
I wish you every success for your conference and
hope that you enjoy your time here in Nelson. Thank you.