CDCUs, Democratic Monetary Policy, and New Thoughts on the Socially Responsible Finance Industry...

I heard back from the National Federation of Community Development Credit Unions Communications Officer who gave me the complete list of CDCUs.

Turns out there is one CDCU in Massachusetts, and it's in Winthrop.

To recap for myself, all the CDCUs are members of the National Federation of Community Development Credit Unions. Im curious --what are the costs/ benefits of joining this Federation and thus becoming a CDCU? All CDCUs can be CDFIs but only about 80 of the 225 CDCUs have become CDFIs. What added costs/ benefits come with being a CDCU CDFI?

One point of confusion --in an earlier entry I discovered that there is a South End CDFI in Boston. Why isnt this mentioned in the NationalFederation list?

I want to understand all this because CDCUs and CDFIs sound really promising to me now as a relatively ethical place to have an account. I'll send another email to the National Federation of Community Development Credit Unions Communications Officer!

Today I also made some discoveries while listening to another episode of "Wizards of Money," this one about
democratizing the monetary system. A couple of things stay with me: first, Smithy explains how the national monetary system is not democratic right now. For one thing, banks are one source of creating money --not literally, but in the form of credit/loans. Banks are not democratic organizations where the public gets to decide who we think should get a loan. Rather, the banks get a lot of power to decide this. THANK YOU. I needed this reminder. I have overlooked this, but deep down knew there was something fundamentally problematic about commercial banks. Commerical banks are in conflict with democratically decided development. And they makes their loan decisions almost entirely based on the rate of profit that will translate into earnings for their stockholders, which will ensure that the bank survives, and gets more power to decide loans, and so on.

Smithy also says the Fed creates new money; I don't understand this process yet --I will try to soon-- but I do understand that the Fed is also not a democratic organization. I'll need to review more about how people get appointed to the Fed to clarify exactly how the Fed is undemocratic. But this is key stuff for understanding the fundamental problems with our monetary system: that fact that it is not democratic.

Smithy looks at alternative, or complementary, currencies (such as one in San Francisco called Bread dollars) to see a model of an actually existing democratic monetary system. I had always been charmed by alternative currency projects, but I had not realized that they provide an important model of a democratic monetary system. They are democratic in that every person who has signed onto the currency has one vote --for instance, if the Bread dollars organizers suggest making a bread dollars loan or want to introduce more Bread dollars into circulation. They even aim for consensus, modifying decisions until everyone agrees. (Recall the wisdom of crowds...)

And so, this helps me clarify my suspicion of the term socially responsible investment. Interesting that while reviewing the definition of that term earlier this week I said I kind of liked the definition...I was forgetting that for me, socially responsible means democratic -that everyone can participate in the decisions that affect all of us. I believe in democracy as a spiritual and political good --perhaps the one I care most about right now. Socially responsible investing is NOT about making investment decisions and economic development more democratic. It's a way of lessening certain forms of exploitation and abuse BUT IT SO EASILY DISTRACTS, EVEN ME, FROM THE FUNDAMENTAL PROBLEMS OF AN UNDEMOCRATIC MONETARY SYSTEM. Whew. I prefer what is called socially responsible investing to other kinds of investing, but I want a still more radical term, like democratic monetary system, to ground us and guide the changes we ask for.

So, now I have to clarify the ways in which the national (and international) dominant monetary system is not democratic. And what it would mean/ look like if it were democratic!

This gets to the crux of how capitalism and democracy can (or can't) coexist--something I'm still exploring.

What is meant by the term financial industry?

I want to see banks within a broader context of the whole financial industry. What kinds of businesses are part of the financial industry?

Here is some helpful info from Wikipedia: "[commerical] banks, investment banks, insurance companies, credit card companies and stock brokerages, are examples of the types of firms comprising the industry, which provides a variety of money and investment and related services. Financial services is the largest industry (or industry category) in the world, in terms of earnings; as of 2004, the industry represents 20% of the market capitalization of the S&P 500." To put that in context, the computer hardware & software industry represents 15.30% and the healthcare industry represents 13.40% of market capitilization (a term I don't really understand yet.)

The Gramm Leach Bliley Act of the late 1990s, which I'll write more about later, made it possible for companies to combine financial services. Before this act passed, a commercial bank had to be separate from an investment bank which had to be separate from an insurance agency, etc. Now they can be housed under one business --under the rubric of financial services.

What percent of the financial services industry is commercial banking? I have a feeling it's a small part of this whole system of money lending...How can I find this out?

Here are some more helpful definitions from Wikipedia: "A commercial bank is what is commonly considered a 'bank'. The term 'commercial' is used to distinguish it from an 'investment bank', a type of financial services entity which, instead of lending money directly to a business, helps businesses raise money from other firms in the form of bonds (debt) or stock (equity)."

More: "Investment banks...underwrite debt and equity, assist company deals (advisory services, underwriting and advisory fees), and restructure debt into structured finance products." Where do investment banks get their money?

Another interested fact: "Citigroup is the largest issuer of bank cards, with 150 million cards issued at the end of 2004." Note to self: don't get a Citigroup credit card. Wouldnt it be super cool to create a socially responsible credit card company? How do credit card companies work? What would a socially responsible one look like --man, that would be cool. Charge a whole lot less interest --saying it is ethically incorrect to charge high interest. What is the typical credit card interest rate these days, and how does that compare to a bank loan interest rate?

Under investment services there are a whole bunch of words I don't yet understand:

"Asset management, [which] is the term usually given to describe companies which run mutual funds."

"Custody services and securities processing is a kind of 'back-office' administration for financial services. Assets under custody in the world was estimated to $65 trillion at the end of 2004..."

"Insurance brokers shop for insurance (generally corporate property and casualty insurance) on behalf of customers."

"Stock brokers assist people in investing, online only companies are called 'discount brokerages', companies with a branch presence are called 'full service brokerages' or 'private client services."

Surely subprime lending businesses are considered part of the financial services industry. What category do they fit under?

One way I can get a better sense of financial services is to look at the Citigroup products webpage and see what services they offer:

Banking (accounts and loans like mortgages)/ credit card/ investing and asset management/ bill payment services (they can collect fees on this)/ services for small businesses (brokerage stuff, trade, and other things)/ investment banking services (all these global words like global futures)/ assets management/ funds and securities (?)/ and treasury and cash management (?)

Whew! And I'm sure there is more, since they probably own other financial services companies not listed explicitly on the Citigroup site.

Incidentally, Citigroup is the second largest financial service companies in the world. The largest is Mizuho Holdings, Inc. (based in Japan), and the third largest is Deutsche Bank (operating in Europe, Asia, and the US.)

One other bit of info, not precisely related to the financial services industry, for developing my financial services literacy, specifically about bank profit making--this is from a web page entitled, "The Banking Industry."

Turns out fees are a safer way for banks to make money (than going with the ups and downs of the interest rate.) So, "many bank financial statements will break up the revenue figures into fee-based (or non interest) and non-fee (interest) generated revenue."

What is meant by the term socially responsible lending/ investing?

I was told that the "socially responsible" investing community has clear definitions of what they mean by this term. According the Social Investment Forum website, socially responsible investing means: "Integrating personal values and societal concerns with investment decisions...SRI considers both the investor's financial needs and an investments impact on society. With SRI, you can put your money to work to build a better tomorrow while earning competitive returns today....How does it work? Three key SRI strategies have evolved over the years: Screening, Shareholder Advocacy, Community Investment and Social Venture Capital."

Screening means the investor assesses whether a company has a good enough record in areas like employee relations, environmental and social impact, human rights...What information do they use to make these decisions?

Shareholder advocacy means that an investor goes to shareholder meetings of a company and voices praise or concern over aspects of the company. They threaten to pull out their investment if the company refuses to address a concern (for instance, about the number of women and people of color on the Board, or about labor issues, or environmental abuses.)

Community investment means offering money, at low interest rates, to community groups (often via a community development financial institution which brokers such deals) who do work on things like land trusts, permanently affordable housing, small business loans to people who have low incomes.

How do I feel about this definition of socially responsible investing?It's not so bad. Community investing seems cool, as least from what I learned in my ICE research. I wonder what percent of a socially responsible mutual fund goes towards community investment.

Shareholder activism seems interesting --again, I wonder how much the socially responsible mutual funds engage in this. Do they ever pull out of a company? What impact has shareholder activism had?

Screening is the one that feels most vague to me --and that I feel most suspicious of. I mean, these screened companies may pay workers more than minimum wage and the company may not torture anyone or dump pollutants. But they are probably hierarchical and patriarchal and, well, do they produce anything that I really respect? They are surely using a lot of resources; people use a lot of energy to get to the workplace. It might help me to look at a list of companies in a socially responsible mutual fund to get a better sense of what companies are considered kosher.

Incidentally, I located a CDFI bank and a CDFI credit union in Massachusetts.

OneUnited Bank
133 Federal Street, 8th Floor
Boston, MA 02110-1703(617) 457-4415

South End Federal Credit Union
100 West Dedham St.
Boston, MA 02118-1601(617) 247-1673

Im still trying to locate a list of CDCUs in Massachusetts and the rest of the country --funny, there is no list on the National Community Development Credit Unions website, or at least not one I can find.

Recap -where shall I move my account?

Back to the central impetus for this blog --What shall I do with my account at Banknorth? I made a grid the other day comparing several options:

staying at Banknorth;
moving my money to a socially responsible bank like Wainwright in Boston (not convenient, but still
curious)
moving my money to the local credit union;
seeing if there is a community development credit union nearby;
considering the future possibility of Common Good Bank, which I'll talk about later --a cool sounding bank-to- be.

I'm comparing these options according to:

convenience (things like ATM availability and fees);
the interest rate they offer on a year-long CD;
the organizational structure -including the way they decide how to invest their assets;
the ways they make their earnings --including the percent of the investments and loans that are "socially
responsible"

Here is what I am leaning towards now: opening a checking account at the local credit union. But I am reluctant to open a CD/savings account there (or even in Wainwright Bank) without knowing more about where they invest their assets. (Of course, even my checking account deposits may be invested by them...) So I could put my savings elsewhere: for instance, investing in a community development financial institution like ICE, described previously. That way I'd know that the money is being invested entirely in low income housing and land trust projects. The CDFI is not insured --am I willing to take that risk? Ooh, maybe I could open a savings account in the Santa Cruz CDFI CDCU...it would be insured! But I'm not a resident!

Subprime

The prime rate, according to Wikipedia, is the “interest rate charged by lenders to borrowers who they consider most creditworthy.”

The Wall Street Journal defines the prime rate as, "The base rate on corporate loans posted by at least 75% of the nation's 30 largest banks."

So does this mean that corporations are the most creditworthy borrowers? If so, why?

Subprime rate, then, is the interest rate charged by lenders to borrowers they consider not so creditworthy. How much above the prime interest rate is considered to be the subprime rate?

According to the Fair Housing and Equal Opportunity website , subprime loans "carry a higher rate of interest than prime loans to compensate for increased credit risk.”

According to the same government source, “Studies reveal that even in upper-income African-American neighborhoods one is one-and-a-half times as likely to have a subprime loan than persons in low-income white neighborhoods. In neighborhoods where Hispanics comprise at least 80 percent of the population, they were 1.5 times as likely than the nation as a whole to have a subprime mortgage loan.”

HUD has a 2002 study that looks at “ lending practices in the sub-prime mortgage market and the current and potential role of Fannie Mae and Freddie Mac…” But I’m not yet able to open this pdf file.

I dont think all subprime lending is considered predatory lending, but certainly all predatory lending is subprime.

It sounds like someone would opt for a subprime mortgage or loan if they have a bad credit history, can't document their income (illegal immigrants?), or want to borrow more money than most institutions would give them, based on their current assets.

What are the different ways a company can do predatory lending?

The Center for Responsible Lending has a list:

Excessive Fees on a loan (Approx 5% of the loan amount; for a non predatory loan, the fee is more like 1%)

Abusive Prepayment Penalties (Most predatory loans require that the borrower pay six months of interest as a penalty if they refinance or change the loan before three years pass. Yet, because the loan is at such a bad rate, people want to refinance earlier...)

Kickbacks to Brokers (Yield Spread Premiums) (I dont understand this one)

Loan Flipping (The lender convinces the borrower to refinance a loan and charges a refinancing fee, without making the loan any better.)

Unnecessary Products (Lenders add on unnecessary insurance.)

Mandatory Arbitration (Ouch --the borrowers sign something saying they won't "seek legal remedies in a court if they find that their home is threatened by loans with illegal or abusive terms.")

Steering & Targeting (Predatory lenders somehow convince a large number of borrowers to accept subprime mortgages and loans, even though the borrowers are eligible for regular loans. The lenders can be agressive and even lie. "Fannie Mae has estimated that up to half of borrowers with subprime mortgages could have qualified for loans with better terms.")

The Center for Responsible Lending says: "Between 1994 and 2004, subprime mortgage lending grew from $35 billion to $530 billion. " According to an LA Times article, "These loans have been the fastest-growing segment of the mortgage market and now account for an estimated 20% of all such lending."

Wow, this is a big deal. Who are some corporations/ companies that have been known for predatory lending?

Household Finance, now owned by HSBC Holding (ACORN won a settlement from Household in 2002, for $484-million.)

Wells Fargo (ACORN has a law suit against them now on behalf of 3,000 borrowers.)

Ameriquest (This week, 1.21.06, Ameriquest is paying a $325 million settlement --many borrowers get about $700 each--because of its predatory lending practices.) The company has to change its practices. Turns out the head of this company, who donates lots of money to Bush, is now Ambassador to the Netherlands. HIs appointment was delayed while this case was being deliberated. They should refuse him in the Netherlands!

Associates First Capital, acquired by Citigroup, paid a $215 million settlement to the Federal Trade Commission, on behalf of consumers, in 2002.

I'm sure there are others.

What kind of activism is there around predatory lending?

Aside from the ACORN lawsuits, the Center for Responsible Lending endorses state legislation, like that in North Carolina since 1999, that makes it illegal for a lender to charge excessive fees on loans, to have long pre-payment penalties, to make kickbacks to brokers, and to prevent borrowers from taking the lender to court.

Meeting with a credit union Board member...

Today I met with a Board member of the credit union near my town. We spoke for about an hour. This person was inspired to join a credit union herself after she learned about and then visited Mondragon, a network of worker-owned cooperatives (employing about 26,000 people) in Spain. Mondragon has their own credit union, which has enabled them to have access to large reserves of capital and to grow their cooperative enterprises. The credit union is a crucial part of what makes Mondragon thrive.

What I learned from this Board member of our local credit union:

The Board of Directors of a credit union in the U.S. has a lot of responsibility and power in the workings of the credit union. The Board meets monthly, with the CEO present, and makes sure that the credit union is following all the regulations. The Board decides personnel policy and can set the interest rates! The Board has the power to renew (or not) the CEO's contract. The Board can also suggest new kinds of loans or other programs. For instance, this Board member suggested that, given the rising cost of oil, the credit union give out energy efficiency home improvement loans at a good rate. The Board agreed with her and they have created this kind of loan.

Most interesting to me, I learned that each month the Board reviews losses --this means that the Board decides what to do about people who aren't paying back their loans or are not able to pay their credit card bills. As an illustration, the Board member told me about one credit union member who had a very high credit card bill, and the credit union suspected this person would never be able to repay the debt. So, the Board decided that it would forgive the interest and ask the person to pay back to principle of the loan --the actual amount borrowed. They had the power to forgive the interest!

I also learned a little about how the credit union makes its earnings. Like a bank, it creates earnings from interest on loans as well as from investments. According to the Board member (and she is still learning about all this), the credit union primarily makes investments in other credit unions. She also thought that the credit union could invest by putting money in a commercial bank account, like a CD.

This still feels pretty vague to me --how the credit union invests its money. I may see if I can ask the CEO.

I did learn that, along with the Assistant Director of the Credit Union, the Board sets the investment policy for the credit union. So, the Board can say: we want 10% of our assets to be in "socially responsible" funds or accounts. And the staff will have to do that.

The staff of the credit union can be members of the credit union, but they dont have to be. It seems they can also run for the Board, but I dont think any of them has done that lately.

I believe this is one way that the typical US credit union is different from the Mondragon credit union, where the workers are the decision makers. I'll have to clarify how the Mondragon credit union differs from the typical US credit union.

The Board member pointed out one difference: the Mondragon credit union offers business loans for emerging coops. The credit union in my town does not offer any business loans. There may be some laws prohibiting federally chartered credit unions from giving business loans --but this Board member is researching this. She is not too worried about this because there is a great Community Development Corporation (CDC) in town and they give business loans to risky ventures --though apparently the interest is high, about 7-8%. How is a CDC different from a CDFI?

I shared with the Board member what I recently learned about community development credit unions, and she was very excited about this info! She may see if her credit union can become a community development credit union!

Some other memorable thoughts from this Board member:

I asked her about a socially responsible bank like Wainwright and she said her big concern was that, since it was not a cooperative, it could be easily purchased by a bigger banking company. I wonder if Wainwright has any policy about this.

Well, it turns out there are a number of community development credit unions!

Well, it turns out there are about 80 CDFI credit unions, according to the National Federation of Community Development Credit Unions, which has their OWN website. The CDFI credit unions are a subsection of community development credit unions. There are 225 community development credit unions, though only 80 have chosen to be recognized as CDFIs, as I mention above. (It sounds like ALL CDCUs are eligible to be CDFIs; it's not yet clear to me why they don't all become CDFIs.) I'm having a hard time finding a full listing of the community development credit unions, including the CDFI community development credit unions on this website --which seems to be oriented more to credit unions who are considering community development status.


I was very cheered by the Santa Cruz community development credit union website --wow. Looks like such a great credit union. The Chair of the Board is a economics professor at UC Santa Cruz, John Isbister, who has written some very relevant books, such as Thin Cats: The Community Development Credit Union Movement in the United States (1994), and, more recently, Capitalism and Justice, Envisioning Social and Economic Fairness (2001). (Thin Cats is a hard to find book --Amazon and Powells dont carry it; none of the libraries in my region has it...)

Some helpful info on the precise definition of a CDCU from the National Federation of Community Development Credit Unions website:

"A community development credit union (CDCU) is a credit union with a special mission of serving low- and moderate-income people and communities.

A CDCU:
is nonprofit and tax-exempt (but not a charity)
is cooperatively owned and governed -- one member, one vote
is government-regulated and has deposit insurance
provides fairly priced loans, including to members with imperfect, limited or no credit history
a safe place to save
a place to conduct transactions at reasonable cost
financial education for its members
has a commitment to serve the broader community, which it demonstrates through community outreach, participation in government programs, partnerships with the private-sector in community revitalization efforts, and/or collaboration with other CDCUs.

CDCUs and "Low-Income Credit Unions"
Often, the term "community development credit union" is used interchangeably with "low-income credit union." The great majority of CDCUs have low-income designation -- however, most credit unions with low-income designation are not CDCUs. Here's the distinction:
Designation as a "low-income" credit union must come from the National Credit Union Administration (or occasionally, a state regulatory agency). This designation gives a credit union certain special powers, such as the right to accept non-member deposits and secondary capital. Many low-income designated credit unions serve narrow fields-of-membership (for example, groups of employees), rather than their broader communities.
Only members of the Federation are "community development credit unions." Community development credit unions have access to the wide range of services and programs offered by the Federation. However, designation as a CDCU does not, by itself, give a credit union the legal power to accept non-member deposits or secondary capital; low-income designation is still required.

CDCUs and Community Development Financial Institutions (CDFIs)
CDCUs make up an important segment of the community development financial institutions movement. The Federation was a co-founder of the CDFI Coalition, and our Executive Director, Clifford Rosenthal, served as the first elected chairman of the independent Coalition of CDFIs.
The Federation regards all CDCUs as CDFIs within the meaning of the CDFI Act. All CDCUs are eligible to apply for CDFI certification, and 80 currently enjoy that standing.

So, exactly how is a CDCU different from a regular credit union --in terms of how my deposited money is used and in terms of what the credit union supports? And, then how is a CDFI CDCU different from a CDCU in this regard?

Consider the Institute for Community Economics (ICE)

In my research, I’ve been interested in banks, credit unions, and alternatives to banks. The Institute for Community Economics (ICE) in Springfield, Massachusetts, is one of the alternatives I’m trying to learn more about.

ICE is, among other things, a Community Development Financial Institution (CDFI). They are members of National Community Capital Association, the national association of CDFI’s. [News alert: As of January 2006, the national association of CDFI's is called the Opportunity Finance Network.] I’ve never heard of CDFI’s before, and want to learn more about them.

For starters, some info about ICE...

Founded in 1967, ICE is committed to the needs of low-income families, especially to the issues of locally controlled, permanently affordable housing and community economic development. ICE has a special affinity for community land trusts.

To meet their goals of creating permanently affordable housing, community land trusts, and locally controlled economic development, ICE established a Revolving Loan Fund. Sine 1979, ICE has loaned $42 million, making over 430 loans to community organizations in 30 states and helping with the development of more than 4,400 housing units. Typically, ICE uses loans to help buy land or to buy/ construct/ rehab housing. They also offer loans to buy office space for non-profits doing related work.

Here is how the Revolving Fund works, from what I can piece together:

About 400 individuals and a few "socially responsible" mutual funds (80% of the investors are individuals and those participating in mutual funds like Domini; 20% of the money comes from religious organizations and foundations) pool their money in the ICE Revolving Fund--the amount now comes to $13 million.

Then, “investors propose the size, term, and interest rate of their investments. Because many of ICE's borrowers require low-interest loans to adequately serve community residents, we encourage our investors to consider their actual need for interest returns in relation to the needs of those whom the Fund serves. ICE seeks investments of at least $1,000 for at minimum of one year. We ask that investors propose a fixed rate of return between zero and our maximum rate that is adjusted quarterly. Currently, ICE is able to offer interest rates of up to 3.5% for loans of five years or more, and up to 3% for loans of four years or less. We readily accept loan offers within these constraints, but we hope for lower interest rates to subsidize our work and that of our borrowers.”

So, it sounds like a person like me could put $1000 into the Revolving Fund for 1 year and negotiate an interest rate with ICE, up to 3%. Hey, I could even say --you can use this money interest free! ICE would get to loan out the $1000 to a community group who wants to buy land or develop housing and that group would return the borrowed money with the amount of interest agreed on. (Presumably, the community group would generate money by charging rent, or selling the units to people with low incomes.)

In terms of risk, ICE explains, "Although loans to the Fund are not insured, ICE has loss reserves and a pool of permanent capital as a cushion against potential losses. No investor to the Revolving Loan Fund has ever lost a penny. Loan losses to date have been less than 1.5% of total loans placed."

I wonder what interest rate ICE charges the community group borrowers --how does this rate compare to what a commercial bank would charge for a loan?

I'm tempted. Here is how to make a loan offer: "investors...should contact ICE's development office for a Loan Fund Response Form. Upon completion of this form, ICE will prepare a loan agreement in duplicate to be signed, according to individual needs and preferences..."

It sounds like the U.S. Department of Treasury offers support for CDFI funds like ICE's Revolving Fund. In 1998, the Department of Treasury's gave (or lent?) ICE $1.125 million to help ensure the long-term health of its Revolving Loan Fund. ICE also received a $405,000 award from the Treasury to create a 10- to 30-year long-term financing program for ICE's borrowers. (According to the national association of CDFI’s, "The House and Senate passed and the President signed into law spending legislation that would provide $55 million for the CDFI Fund in FY 2006, the same level as last year.")

Sounds like ICE is pretty cool --they are a founding member of the Social Investment Forum, a national non-profit trade association of socially responsible investment advisors.

So, what's up with CDFI's?

The ICE website says CDFI's are "financial institutions that have community development as their primary mission and that develop a range of strategies to address that mission."

They describe 5 kinds of CDFI's:

* Community Development Banks
* Provide capital to rebuild economically distressed communities through targeted lending and investment

* Community Development Credit Unions
* Promote ownership of assets and savings and provide affordable credit and retail financial services to low-income people with special outreach to minority communities

* Community Development Loan Funds
* Aggregate capital from individual and institutional social investors at below-market rates and lend this money primarily to nonprofit housing and business developers in economically distressed urban and rural communities

* Community Development Venture Capital Funds
* Provide equity and debt with equity features for community real estate and medium-sized business projects

* Microenterprise Development Loan Funds
* Foster social and business development through loans and technical assistance to low-income people that involved in very small business or self-employed and unable to access conventional credit

I checked the CDFI umbrella website and found a few CDFI organizations that are, in fact, credit unions. How exciting. Santa Cruz (Santa Cruz Community Credit Union), Ithaca (Alternatives Federal Credit Union) and Burlington,Vermont (Opportunities Credit Union) have CDFI credit unions...

There is at least one CDFI bank (Shorebank), though there may be more; it's not always clear from the names which ones are banks. Most have names like Economic Development Fund.

And, aside from ICE, I found another CDFI in Western Mass, the Western Massachusetts Enterprise Fund in Greenfield, MA: wmefcs@aol.com

Why arent there more CDFI's that are credit unions and banks--this seems like an appealing alternative to a commerical bank! And maybe even better than a typical credit union --who knows where their investments usually go.

The assistant bank manager has been very sweet --staying in touch with me and letting me know she hasn't had time to answer my (admittedly daunting) list of questions. She said she will try to work with an experienced branch supervisor to answer my questions.

I sent the assistant bank manager a new email today:

Dear X,

Thanks so much for staying in touch with me and letting me know you haven't yet had time to answer my list of questions.

I have been able to get answers to several of my questions. And, since my prior email list of questions was so lengthy, I am sending you a revised (and considerably shorter!) list of questions --this should be easier to answer when you and the branch supervisor have a few extra minutes.

The more succinct list of questions:

1. Are there different rates of interest for different kinds of loans (say, education, personal, car)? If so, why are there different rates for different loans?

2. If I understand correctly, the bank makes money by charging various fees, but then also by collecting interest on loans and making investments. What are the kinds of things the bank invests in? Is the list of investments that a bank makes public information, available to customers?

3. And, what group of people make the decisions about what the bank invests in?

4. (This is a new question) How is the bank's Board of Director's selected? What does the Board do, and do the members of the board get compensated for their work on the Board?

Thanks again for helping me understand the structure and workings of banks, as I work on this kid's book/blog.

Differences between commercial banks and credit unions

A commercial bank is a for-profit business, owned by members of a corporation, while a credit union is a not-for-profit cooperative, owned by everyone who has an account there. (Could a bank be owned by one person and not by a corporation?)

A commercial bank typically has stockholders. Some of the bank’s profits are shared with these stockholders, to retain and attract more stockholders. By contrast, a credit union has “no stockholders and earnings are returned to the membership in the form of lower loan rates, better savings rates and invested back into the credit union to expand services members need and want.”

A bank can be bought by a larger bank without the input from customers. A credit union, which is a cooperative, can't be easily bought, I dont think.

Anyone with at least a little money can open an account in a commercial bank. By contrast, credit unions are restricted by law to people belonging to a defined group --such as a geographical region, occupation, company, or association.

A commercial bank’s Board of Directors are selected by Y and do X…[check]
A credit union’s Board of Directors are elected by members (those with accounts) for three year terms, and they do a lot: they set interest rates, review losses, make personnel policy, make sure the credit union is following the laws, and set investment policy. A bank’s Board of Directors get compensation for their work (as much as what?) while the a credit union’s Board works voluntarily.

Commercial banks pay taxes on their earnings. Credit unions do not pay taxes on their earnings. (To be precise, federal credit unions pay no income tax; state credit unions still have to pay state income tax. Why would a credit union opt to get a state rather than a federal charter, given this added cost for state credit unions?) Are credit unions exempt fromincome tax because they are non-profits? Apparently, the American Bankers Association has made it a priority to change this law, so that credit unions would have to pay taxes.

A commercial bank is insured by the Federal Deposit Insurance Corporation (FDIC.) That means that the government guarantees any money you put in a commercial bank, up to $100,000 per person. If the bank closes for whatever reason, the government promises to give you the full amount of your deposit. (Does this insurance money come from tax dollars?) A credit union is insured by a comparable institution called the National Credit Union Share Insurance Fund (NCUSIF.) So, if a credit union closes, the government still promises to give you the full amount of your deposits, up to $100,000.

Interestingly, there are a similar number of banks as credit unions in the U.S. but more money is actually deposited in banks. According to one source, in 2004 "the National Credit Union Administration insured more than $500 billion in deposits at 9,000…credit unions. The [FDIC] insured more than $3,000 billion in deposits at 8,900 banks and thrift institutions.”

Two other interesting bits of information, one about credit unions, one about banks:

First, credit unions formed in the 1900s in the US as the “poor persons’ banks” after banks consistently refused to offer loans to poor people.

Second, it turns out commercial banking is a very profitable business:

“Large banks in the United States are some of the most profitable corporations, especially relative to the small market shares they have…For example, the largest bank, Citigroup, which for the past 3 years has made more profit than any other company in the world, has only a 5 percent market share. Now if Citigroup were to be as dominant in its industry as a Home Depot, Starbucks, or Wal Mart in their respective industries, with a 30 percent market share , it would make more money than the top ten non-banking U.S. industries combined.”

International Banking: Not Properly Supervised?

Today I listened to a very interesting audio lecture, part of an excellent series you can get for free on the web called "Wizards of Money." The whole series is an accessible introduction to and critique of the global financial system.

In episode two, "Financial Risk Transfer," the writer/narrator Smithy makes the argument that the international banking system is not properly supervised.

The body that claims to supervise the banking industry on an international level is based in Basel, Switzerland, and is called the Bank for International Settlements (BIS). BIS is funded by the central banks of the richest countries in the world, and is, apparently, as important as the IMF and World Bank, and yet few of us have heard of the BIS, while many people have heard of the IMF and World Bank.

Smithy sees a few problems with the BIS: namely, it works in secrecy and is run by people who also sit on the Boards of central banks and, I think in some cases, by those who sit on the Boards of large financial services companies. These people, even with the best intentions, have too many connections to those who can personally profit from BIS policies. They are not in a good position to make sound banking policies that serve the public at large. Smithy argues instead for a democratically elected international banking supervisory system, one that is more transparant and actually accountable to the public.

Why do we need a supervisory structure for the international banking industry?

Smithy explains that "banks want to hold as little capital as possible, so that they can create a maximum amount of loans (or money) that can bring in higher profits. From their perspective a safety net [enforced by a supervisory structure] has an 'opportunity cost' which limits the profits they can make."

Banks and others in the finance industry want to take big risks in order to make big gains. And, in the current system they can take big risks without paying the full price if their risks fail. In the event of an impending failure, there will be a bailout to prevent a breakdown of confidence in the global financial system. Thus, Smithy argues, the financiers can take big risks and either make big bucks or get bailed out. They really can't lose. This seems to be most true in the extreme cases, as when speculators mucked up the Thai currency and more or less destroyed the Thai economy. Thailand was then bailed out with an IMF loan, which refinanced Thailand's debt (and imposed structural adjustment policies) so that it could still pay back its US creditors.

Smithy's larger point is that the banking system should have supervision that PREVENTS the need for bailouts, rather than having a system, as we do now, that has few preventative measures on things like speculation, and relies on bailout as a way to avoid a meltdown of the whole system.

One more point worth mentioning: Smithy links poor supervision of the finance industry to growing income inequality.

She says, "An increasing amount of financial activity [is] driven by those who have so much excess money that the bulk of their transactions are speculative. This inequality and these risks increase with each publicly funded bailout, which then further increases income and wealth gaps. And so the cycle continues, with this positive feedback built in to make the whole system more and more unstable."

It seems that speculation (and a whole bunch of related financial activities that Idont yet understand, except to know that they are not investments in actual companies or goods, but rather bets on things like changing currencies) is the big threat to the safety of the global financial system. There may be a time when the system collapses in such a big way that even an IMF bailout won't fix it, and Smithy alludes to the scary facist possibilities that could emerge.

So, the questions for me are:

Is it public knowledge who sits on the BIS?
How does speculation work?
Could I talk to a speculator?
Is it possible that if I had a savings account or a CD in a commerical bank that my money was being used in speculation schemes? How common is speculation?
Are there any politicians or NGOS, in the US or elsewhere, who are addressing the regulation of speculation?
What other kinds of companies comprise the financial industry --aside from banks?

So, how does the Federal Reserve affect interest rates?

The Fed, made up of 12 Board of Governors who are Presidential appointees with 14 year terms, affects banks’ interest rates indirectly.

They indirectly affect the interest rates in three ways:

First, the most influential thing the members of the Fed do is referred to as open market operations. This means they sell or buy government securities, also known as Treasury securities, on the open market. If they want to shrink the national money supply, they sell securities (who are the typical buyers, I wonder.) And, if they want to increase the national money supply, they buy securities (from whom, I wonder, and with what money –money is transferred from where to where? How does the buying and selling of these securities affect the national money supply?)

These securities transactions directly influence the amount of reserve funds that commercial banks have to lend each other. (How do these security transactions affect the reserve funds of commercial banks?) The open market purchase of securities, for instance, increases the amount of money that banks have available to lend. The amount of money a bank has to lend affects what’s known as the banks’ federal funds rate. The federal funds rate is the rate banks charge each other for overnight loans. The federal funds rate falls if the banks have lots of money to lend each other, and rises if banks have little money to lend each other. (Why do the banks lend money to each other “overnight”? Is this a big part of banking?)

So far, it seems that the Fed’s selling or purchasing of Treasury securities affects the federal fund rate, but then how does this affect interest rates?

A member of the Federal Reserve Board of Governors, named Laurence H. Meyer, explains:

“While the federal funds rate itself is not a particularly important influence on the economy, movements in the federal funds rate (and expectations about future federal funds rate encouraged by any change) influence the broad spectrum of interest rates and financial asset prices in the economy. In this way, changes in the federal funds rate exercise an important influence on the demand for goods and services, especially those that are relatively interest-sensitive.”

I still don’t know exactly how the federal funds rate influences interest rates, but it must be because the amount of money a bank has influences the amount of interest it needs to charge on loans.

(Incidentally, the open markeet operations are decided eight times a year by a committee called the Federal Open Market Committee (FOMC.) After each meeting, the FOMC reports to the news media the targeted federal funds rate, the inter-bank lending rate the Fed hopes will be achieved with the securities they have sold or purchased. The media usually mislabels this as a change in the interest rate.)

A second way that the Fed can influence the interest rates in banks is by altering something called the discount rate. This is the rate of interest on the money the Fed is willing to lend commercial banks. The discount rate is usually adjusted in relation to the open market operations. Commercial banks sometimes need to borrow money from the Fed, because of unanticipated shortages or demands.

Finally, the Board of Governors can influence interest rates by manipulating the reserve ratio –the amount of money the banks are required to have on hand. As mentioned in a previous blog entry, the Fed doesn’t change this often. They last changed this ratio in 1992.

Later, I’ll try to explain why the Fed does all this manipulating of securities and federal funds rates. It’s part of its larger goal to create a “healthy economy,” one that is growing and employs many people.

Comparing Local Bank Interest Rates

A local insurance/ financial services agency runs a regular ad in the Advocate, a popular magazine in my area. The ad lists the interest rates for ten "local banks," including one credit union. I'm not entirely sure why the insurance agency offers this info as their ad -are they supporting local financial institutions?

I mostly want to mention here that, when comparing loan and CD rates in this ad, the credit union is the way to go! For instance, last week the rate for a personal loan at most of the commerical banks was around 14%, while it was 11.99% at the credit union.

Plus, the interest one can earn on a 1 yr CD in the local commercial banks is 2-3%, while it is 4% at the credit union.

So, now I'm curious how these number compare to the big commercial banks in town --the non-local ones like TD Banknorth, and Bank of America. Since they have so much money, maybe they offer more return in their CD's...

Actually, a TD Banknorth 1 yr cd is 2.47%. Even if you take their promo, a 15 month CD and get 3.45%, it's still pays less interest than the credit union's 4%.

Bank of America, (which only lists the phone number of one of its local branches in the phone book, and lists a 1-800 number for every other branch in the area!) will pay only 3.2% on a 1 yr CD.

And what about the credit union in the town nearest to me? They will offer 3.75 on a 1 yr CD, higher than both of the huge banks.

Why don't more people use credit unions? Why don't I?

I suppose they may be less convenient --fewer branches around, fewer ATM machines to use, less ATM transactions allowed for free.

At the Franklin First credit union, which I am considering joining, one can get 4 ATM transactions from a SUM-member ATM every month without being charged. After the 4th, one is charged $1 for every ATM transaction that month. So, there is that issue. Is this the case at the other big credit union in the area?

Otherwise, there is free checking and bettter CD rates at the credit unions, and, most likely, better Money Market rates, too.

And a credit union is a coop. I'll write more about the significance of that later.

No news from the assistant bank manager...

I think the email I sent her was too long, detailed, and daunting.

Since sending her that email, I found two answers to my questions in the Federal Reserve Bank of Boston kid's document, "Basics in Banking."

In response to my question, "What are the various kinds of accounts a customer can get?" I learned that banks typically offer:

-Savings accounts, which allow one to collect a little interest

-Checking accounts, which allow one to write checks without earning interest

-NOW (Negotiable Order of Withdrawal) accounts, which enable one to write checks and collect interest. NOW accounts usually require a minimum balance.

-Money market deposit accounts, which pay a higher rate of interest, allow one to write checks, and require a higher minimum balance of about $2,500

-CD’s (Certificates of Deposit), which are savings deposits that bring in a still higher rate of interest. The customer agrees to leave the money in the CD for a certain amount of time, say a year.

-Individual retirement accounts, which are savings accounts kept in the bank until one reaches a certain age, I think 65.

In response to my question, "What info does the bank need from a customer if he/she is applying for a loan? " I learned that, in addition to collecting information about job and salary, the bank usually does a credit report on the customer. A credit report records how well the customer has been at paying his/her bills. The credit report is compiled by credit bureaus, which are private companies.

I learned from “Banking Basics” that if the bank gives a customer a loan, say for a car, the bank will write the check to the car dealer, and will then hold the legal title for the car, until the customer pays off the loan.

Finally, during my ongoing research on the Federal Reserve, I learned the answer to my question about the current fractional reserve amount. The fractional reserve amount, which has not changed since 1992, is 10%. This means that the bank can legally lend out 90% of its deposits and other assets, while 10% of its money and other assets must be on hand, available in case customers want to withdraw money.

Reviewing the Federal Reserve Bank of Boston educational materials for kids

I continue to feel stunned. I just read my first download of kid’s educational material from the Federal Reserve Bank of Boston, a 20-page trippy comic book called “Wishes and Rainbows,” written in 1980.

A synopsis of “Wishes and Rainbows” (Note: I am not making this up.)

Roota, our heroine, lives in an underground tiny world that has no color –only white, gray, and black. One day she is playing hide and seek in a cave and discovers golden sunlight seeping through a crack. She follows the light and stumbles onto a world of color and flowers. Roota picks a red tulip and returns back home to her colorless world, eager to share the red flower with her grandmother, who is delighted. Roota then plants the tulip in the town center so everyone can enjoy it, but soon the tulip withers from lack of sun, leaving three seeds.

Roota and her friend try to fetch more colorful flowers for people in town –everyone wants one! But the passageway to the sunlit, colorful world is now blocked by boulders. Roota succeeds in finding light seeping through another high crack. She plants the three tulip seeds in the soil beneath the light and soon three new tulips grow. Roota ponders who in town should get the three new tulips –the mayor, the richest person, the eldest? She decides that the fairest system is to make a list with everyone’s name on it. The people at the top of the list. The oldest people, will get the first three tulips. Then, Roota will plant the seeds from those three withered flowers to grow new ones, and give the fresh flowers to people next on the list, and so on. This plan succeeds wonderfully, and in time a new sunlit spot opens, allowing even greater cultivation of flowers.

What this has to do with the Federal Reserve or banking eludes me.

I’m impressed that the Federal Reserve would turn to such interesting allegorical material and, further, that it would make our heroine a girl! I agree that girls are good candidates for devising a fair economic system that offers satisfaction to the greatest number of people. And that fairness means regulating the economy so that everyone’s needs are met.

But is this what they intended to say in this comic book?

According to the teacher’s guide, the story is about “one society and its attempts to assimilate, with least disruption, a rare and much coveted new resource,” the colorful flowers. The story is about scarcity. There is a high demand for the colorful flowers but little supply. Since the flowers are scarce (a limited resource), Roota suggests that they ration the flowers, and this works as the story concludes.

But it might not work for long, since the demand for flowers is so high and people can be self-interested. Readers are encouraged to imagine what could transpire in the near future in this village. With the help of investments, might someone try to meet demand by boosting production of the flowers, whether by exploring the caves for more sunlit planting areas, or by developing rock-moving technologies, or by creating fake flowers? Or, as the guide also suggests, perhaps the village mayor will fund increased production of flowers with tax money and share all the proceeds with the people.

I'm happy that the teacher's guide emphasizes the value of "unrestricted imagination" in thinking about future scenarios. This spirit is far too scarce in most economic classes or books.

Let's boost production of the imagination!

Alert! The Federal Reserve Bank of Boston has kid’s books!

I’m having a stunned moment. In my efforts to learn about the Federal Reserve, I checked out the Federal Reserve regional branch closest to where I live (there are 12 Federal Reserve Regional banks spread across the country.) Turns out the Federal Reserve branch in New England, which is in Boston, has a hearty educational program. Who knew? They have free publications for kids including “Banking Basics,” “What is the Balance of Payments?” and even a comic book about economic ideas like scarcity. More on these documents soon as I read the downloads. Im interested to learn about the topics and also to see the assumptions these booklets make about economics and finance.

The Federal Reserve branch in Boston has educational programs on topics like: “Federal Reserve System Overview,” “Introduction to Monetary Policy,” and “Banking Basics.” I spoke to the person who teaches the 90 minutes interactive programs, and he said I could attend an upcoming one.

Plus, there is a program for high school students at the Boston Federal Reserve building called New England Economic Adventure - www.economicadventure.org The "economic adventure" is a contest in which students are given $10,000 to invest in three historical periods in the United States: early industrial, later industrial, and the 1970s. The "winner" is the one who makes the most money from these investments. Why is this how they define winner? Why cant the winner be the one who increases the quality of life for the most people? And how might we measure that?

So much else to discover: Federal Reserve and interest rates

As I await a response from my bank's assistant manager, I can think of so much else I want to learn, and I have some free time today.

I dont really understand how the Federal Reserve influences the interest rate on loans that banks offer. Im going to see if I can piece this together.

Bank research, continues...

Today, I sent the assistant manager of my Banknorth branch the following set of questions (we agreed email was the most efficient way for her to help me):

1. What are the services that a bank like Banknorth offers that it collects fees on? I am assuming that banks collect fees for the following types of services: safety deposit boxes; wire transfers; cashier checks; overdrawn accounts; boxes of checks, ATM use by someone without an account at Banknorth. Can you clarify the other kinds of fees --are there fees for getting a loan or mortgage, or fees if someone invests through the bank? Anything else that there are fees for? If a savings account falls too low?

(From the website, it looks like the bank also collects fees/ gets income by selling insurance and offering investment planning and wealth management.)

2. What are the various kinds of accounts a customer can get? I know of a checking account, for which one gets no interest, and then a savings account, for which one gets some interest. And then there is a CD, for which one gets a higher rate of interest if one agrees to keep the money in the account for a certain amount of time. Are there other kinds of accounts, perhaps some that have higher interest payments?

3. What are the various kinds of loans (i.e. higher ed, mortgage, small business, etc) at Banknorth --is this the typical list of loans in most banks? Are there different rates of interest for different kinds of loans? If so, why are there different rates for different loans?

4. Are there loans/ programs specifically intended for low income people --say first time home buyers? Im especially interested in understanding first time home buyer programs. Do they get any special help from the bank? Does this vary from bank to bank?

5. What info does the bank need from a customer if he/she is applying for a loan? Does this info affect the amount of interest on the loan that the customer gets? (That is, if someone has a bad credit report, or if the bank thinks that the customer's business venture is a bad idea would the customer possibly get a higher interest rate on a loan?) On what basis does the bank decide whether or not to give a loan?

6. Approx. what percentage of customers default on a loan, say in your branch or in Banknorth at large, or just generally in the US (whatever numbers you have) and what happens then?

7. If I understand correctly, the bank "makes" money by charging various fees, but then also by collecting interest on loans and making investments. What are the kinds of things the bank invests in? And what group of people make the decisions about what to invest in?

8. I understand that the Federal Reserve has the power to set the fractional reserve amount, that is the percentage of money each bank has to have available on hand (and thus how much of its assets it can lend out at a given time.) Do you know what this fractional reserve amount is right now, and how often that fraction changes? If you dont know this, no problem --I will try to ask the regional Federal Reserve bank.

9. I read the TDBanknorth has assets of approx $30 billion. Approximately what percentage of the bank's assets is actually deposits/ bank accounts? Im assuming some portion of the assets are bank accounts, and some other portion of the assets is profit from investments, but Im not certain one can easily distinguish these things...Any thoughts? Im mostly trying to see if bank accounts are, in fact, a small or large portion of the bank's assets.

Adventures in Banking, part 2

Just after Banknorth informed me of its new name and I was feeling worried about ongoing mergers, I stopped by the window of the University of Massachusetts-Amherst Credit Union to see what other options there are for depositing and storing money. I had never understood credit unions –were they as convenient, safe, and free of fees as banks could be? Was the deposited money actually put to better, more ethical use? Were credit unions democratically run? What is the difference between a bank and a credit union, really?

I was open to switching to a credit union, but also felt reluctant to close my account at Banknorth, wary of the hassle and full of unanswered questions. I decided that before making any moves, I would talk with people at my bank and at the credit union, and see what other options exist. I wanted to proceed in an informed way.

To start my research, I stopped by my Banknorth branch –I was quite nervous actually, checking my reflection in the bank window to make sure I didn’t look too eccentric. I didn’t want them to think I was researching for a bank robbery.

I sat down with a customer service rep, and said, “I m working on a kid’s book/blog, and I want to know if I can ask you a few questions.”

She said, herself nervous but cheerful, “Okay, I’ve only worked here 7 months, but… okay.”

I asked:

“Who decides what loans and investments are made?
Where is the money invested?
What fraction of the deposited money is actually on hand in the bank, and what fraction is lent out at a given time?”

The customer rep said she didn’t know the answers to any of these questions and that she’d like to read this bank blog/ kid’s book when it’s finished. She told me to try the assistant manager.

Adventures in Banking, part 1

I have a checking account at a western Massachusetts bank called Banknorth, a New England bank.

I opened my account at Banknorth after my prior bank was bought out three times, changing from BayBank to BankBoston to FleetBoston over the course of five years. When the name changed to Fleet, I was sufficiently freaked out by this ever growing, monolithic banking business that I fled for a bank that seemed more local. (After I fled Fleet, it was gobbled up and re-named Bank of America.)

1995 - BayBank bought out by Bank of Boston, becoming BankBoston
1999 - BankBoston bought out by Fleet Financial Group, becoming FleetBoston
2004 - FleetBoston bought out by Bank of America, becoming Bank of America

It turns out my new choice, Banknorth, is smaller (as of 2005, $31.8 billion of total consolidated assets, as compared to Bank of Amercia’s $851 billion) but not exactly local anymore. Earlier this year, I received a letter informing me that Banknorth is now going by the name TD Banknorth, a subtle, almost imperceptible name and logo change.

Old Banknorth stationery:





And new stationery:





Yet, the change is significant: it turns out that, as of March 1, 2005, Banknorth sold 51% interest in itself to Toronto-Dominion Financial Group, the second largest Canadian bank! [News alert! I was just informed that Boston's Fleet Center, a huge sports/music arena, was recently renamed the TD Banknorth Garden.] I feel oh-so-uncomfortable with this logo/ letter-head changing experience and with being part of a monolithic banking venture. I admit: I am wary of change. But I have grounded concerns. I fear businesses and organizations around me growing bigger and bigger. I fear a few far away people having a lot of power and making decisions that affect my neighborhood. I feel suspicious.

At an auction this week, I bought the book pictured here:

Having Junior Bank Book in my hands helps me embark on my own bank book/ blog, for kids and others. I generally turn to kid's books in the public library when I want to understand something (i.e. soil, the French Revolution, the eye) clearly. I had wanted to understand banks clearly, but was unable to find a book that answered my questions.

Unlike Junior Bank Book, which is a series of rhymes with places to insert coins so that the reader can save five dollars (coincidentally, the price I paid for my copy of the book) this here kid-friendly bank blog will describe what banks are up to.

Here is a list of some of the questions I will address:

What do banks do?
How do banks "make" money?
Who makes decisions in a bank about how to use the money deposited in the bank?
How does one start a bank?
What is life like if one doesn’t have a bank account?
What is meant by predatory lending?
How many people in the world use banks?
What is recent U.S. government legislation about banks and what is the impact of this legislation?
What is my dream bank?
What are other peoples’ dream banks?
What is a credit union?
What do "socially responsible" banks do that makes them different from other banks?
How is a community development corporation like and unlike a bank?