Financial Update (October-December 1998)


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Credit Unions

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New Quarters and $20 Bills

EFT 99


Year 2000

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Data Bank

The Docket

Evaluating Credit Union Competition
In Bank Merger Applications

by Michael Padhi, economic analyst

A lthough representing just over 9 percent of the deposits held in the United States, credit unions have been news lately in the debate over banks' efforts to limit credit union membership. In general, banks believe credit unions have an unfair advantage because they are tax exempt. Credit unions, on the other hand, believe banks have the advantage because they are not limited by membership requirements. But in considering a bank's application to merge with or acquire another bank, the Federal Reserve and other regulators have historically looked at whether credit unions significantly affect deposit or loan competition in specific banking markets.

Competition between banks and credit unions has intensified recently. Atlanta Fed research examines how the Board of Governors assesses this competition in bank mergers.

Regulatory Review

Certain acquisitions of bank holding companies, banks and nonbank depository institutions require the approval of the Fed's Board of Governors and other regulators such as the U.S. Department of Justice and state banking agencies. In reviewing a merger application, the Fed evaluates, among other factors, the proposed merger's likely effect on competition in a local banking market.

As part of this review, the proposed merger institution's pro forma market share and the Herfindahl-Hirschman Index (HHI) serve as the initial screen by which the Fed evaluates the likely impact on competition. The HHI uses a mathematical formula that factors commercial bank deposits at full weight and thrift deposits at half weight to determine whether a market is unconcentrated, concentrated or highly concentrated. Failure to pass the initial screening, however, does not necessarily imply that an application will be denied. Rather, sufficient factors may be present to mitigate the effect of structural change on competition.

Mitigating factors cited in previous Board orders include such arguments as the strength of remaining competitors, potential competition and competition from nonbanks such as credit unions. From 1982 to 1997, the Board cited credit union competition as a mitigating factor in 20 orders approving acquisitions representing less than 5 percent of all Board orders during that period.

The Board views credit unions as less than full competitors of commercial banks because of differences between their operations and functions. Credit unions are mutual, nonprofit institutions that provide services only to their members. Membership in a credit union is limited to a defined segment of people, either along community or occupational lines. Furthermore, credit unions offer very limited, if any, business services.

Therefore, evidence must point to strong credit union competition in order to affect concentration in a banking market. No precise formula is used, however, in determining how the Board will weigh credit union competition in its review of a merger's effect on competition in a particular market.

Assessing Credit Union Competition

In past merger or acquisition cases, the Board has cited several factors in evaluating credit union competition in local banking markets.

Share of market deposits: The size of credit unions' share of bank, thrift and credit union deposits in a market is the most frequently cited statistic (16 times) in Board approval orders that consider the competitive impact of credit unions (see the table). In all but three of these markets, credit union deposits exceeded 10 percent of total deposits. In the three cases in which the market share was below 10 percent, the shares exceeded the 9 percent national average of credit union deposits to total deposits. In most markets, the share of credit union deposits was at least twice as large as the national average.

Membership: The potential credit union membership of residents within the relevant local banking market is the second most frequently cited factor in Board orders. In these orders, the Board considered credit unions that offered membership to all or nearly all of the residents in the relevant markets. In markets where credit unions had an occupational common bond, membership requirements extended to employees of businesses that employed a significant proportion of the labor force.

Evidence must point to strong credit union competition in order to affect concentration in a banking market. No precise formula is used, however, in determining how the Board will weigh credit union competition in its review of a merger's effect on competition in a particular market.

Products and services: In four cases the Board considered that the product and service markets in which the credit unions competed were extensive.

In one market, the Board found that a credit union had $19.3 million in commercial loans and employed a commercial lending officer. In another, the Board stated that credit unions in the market offered a full range of retail banking products. In a third market, the Board stated that credit unions offered substantial consumer finance and accounting services.

Indicative of the importance that it has placed on available products and services, one denial opinion by the Board expressed the view that a large credit union was not competitive with area banks because it had a narrow product line.

Number of credit unions: The Board cited the number of credit unions in a market nine times. The number of credit unions in these markets shows quite a bit of variation, however — from as few as one to as many as 56. Overall, the record of Federal Reserve decisions seems to indicate that the Board gives little weight to the absolute number of credit unions in a market.

Large credit union: In five markets the Board cited the existence of a particularly large credit union as evidence of significant credit union competition. However, most of the credit union characteristics that the Board has considered can exist independently of the size of a particular credit union. Thus, the sheer size of a credit union alone has never been cited by the Board as a consideration in approving a bank merger.

Statewide credit union activity: In four markets the Board considered that credit unions were generally more active in the particular state as a whole. All of these cases dealt with mergers in Hawaii, which had the second-highest number of credit unions per capita and credit union deposits per capita among the 50 states at the time of the Board decisions. The Board has made no further citations of statewide credit union activity.

Weighing the Considerations

The Board of Governors has demonstrated that it will consider the competitive effect of credit unions in banking markets in analyzing bank merger applications. The standards by which the Board evaluates above-average credit union competitiveness, however, are high.

On balance, the Board has no clear-cut method to measure the competitive effect of credit unions in banking markets. Nevertheless, the precedent over the past 15 years points to some factors that have been considered important. First, a credit union deposit market share that is significantly larger than the share of credit union deposits nationwide seems to have weighed strongly. Second, the Board has given some weight to high potential credit union membership in a market. And third, a broad array of banking products and services offered by credit unions in a market has been an important factor in decisions for both approval and denial.

Weight has not been given to the number of credit unions or the larger size of a particular credit union in the absence of other factors. Statewide credit union activity was considered only in Hawaiian markets. No conclusions can be made, however, as to exactly how the Board weighs each characteristic of credit union activity. In many orders, for example, the Board merely stated that it considered the impact of credit unions on competition in a banking market without any further explanation.

Credit Union Membership Access Act of 1998

Recent amendments to the Federal Credit Union Act of 1934 by the Credit Union Membership Access Act of 1998 will officially permit the formation of multiple common bond credit unions. These amendments would not significantly change current credit union activity so as to cause the Board to consider credit unions differently than it has in the past, so conclusions about Board policy regarding credit union competition drawn from previous Board findings remain pertinent.

Mitigating Effects of Credit Unions on Bank Mergers
Summarized by Case, 1982-97
Board Orders for Approval1 Share of
Membership Products
and Services
Number of
Credit Unions
Credit Union
Credit Union
Bancorp Hawaii Inc. (1990)           X
Barnett Banks Inc. (1993) X X        
Boatmen's Bancshares Inc. (1996) X X   X    
CBT Corp. (1993) X X        
First Alabama Bancshares Inc. (1994) X X        
First Bank System (1993) X          
First Bank System (1993) X X   X    
First Hawaiian Inc. (1991) X     X    
First Hawaiian Inc. (1993) X         X
First Union Corp. (1990) X     X    
Iowa National Bankshares Inc. (1994) X X   X X  
KeyCorp (1995) X     X    
National Canton Bancshares (1997)   X X   X  
Norwest Corp. (1996)   X X   X  
Old National Bancorp (1993) X X        
People's Heritage Financial Group (1994) X X   X    
Rio Blanco Holding Co. (1993)     X      
Shoreline Financial Corp. (1997) X   X X X  
West One Bank (1994)   X     X  
WM Bancorp (1990)       X    
Board Orders for Denial2 Share of
Membership Products
and Services
Number of
Credit Unions
Credit Union
Credit Union
Banc Security Corp (1997) X X X X    

1 The year in parentheses indicates the year the order appeared in the Federal Reserve Bulletin.

2 The Board may have considered credit union competition in other cases for denial but did not mention it.