Liberating Credit Unions and Entrepreneurs

Now more than ever, “civility” is the rage on Capitol Hill. The civility craze may have reached its nadir with what was called “date night” at last week’s State of the Union address, a brainchild of Sen. Mark Udall (D-Colo.), in which members of different political parties sat together. 

Being civil is of course a virtue in political and other discourse, but libertarians are right to be skeptical of many calls for “civility” in politics. Often, it can mean nothing more than Democrats and Republicans “working together” to build a bigger government. 

At same time, however, libertarians should be open to genuine bipartisan efforts to shrink the state. Every so often, a law or regulation’s outrageousness will become so apparent that there will be politicians on both sides joining together to repeal or at least relax the particular rule. When this happens, libertarians should embrace such moves as small but significant steps for freedom, while utilizing the flawed policy as another case study to make the larger point of why government intervention doesn’t work. 

And it just so happens that in the last Congress, Udall became the lead sponsor in the Senate for one such effort at bipartisan deregulation — an effort long supported by Congressman Ron Paul in his co-sponsorship of similar bipartisan measures in the House. Should such a measure be introduced again, activist libertarians should give it their full support. 

The Udall measure and similar House version backed by Dr. Paul in the last Congress concerned credit unions and an illogical rule that bans them from making any more than a fraction of their loans to the small businesses of their members. Credit unions are cooperative financial institutions owned by member depositors who receive excess funds in the form of dividends. Members can also take out loans from the credit union for items such as cars and homes, often on better terms than at banks.

But if a credit union member wants to borrow money to start or expand a small business, he or she will likely run headlong into a decade-old rule that clipped credit unions’ wings and is holding back economic growth. In 1998, bank lobbyists looking to halt competition succeeded in getting Congress to put in place a rule limiting the amount of business lending a credit union may engage in to just 12.25 percent of its assets. 

There is no credible research to show that the 12.25 percent cap does anything to contribute to credit unions’ safety and soundness, and in fact, this arbitrary cap actually creates lending risk for these institutions. The cap, which is separate and aside from reserve requirements, puts limits on business lending that don’t exist for other types of lending, such as mortgages and car loans. There is nothing inherently safer about these types of loans over business lending. This rule not only discourages beneficial lending to small business; it may encourage a dangerous concentration in other types of loans such as mortgages, which we all know could often be anything but safe. 

Last July, Udall introduced an amendment that would raise the government’s current cap on the amount of business loans credit unions can make from 12.25 percent to 27.5 percent of a credit union’s assets. Dr. Paul has cosponsored similar bipartisan House bills lifting the cap since 2004

The Credit Union National Association has estimated that this measure would create billions in new loans and more than 100,000 jobs in its first year of enactment, and it has been endorsed by trade groups from the National Association of Manufacturers to the National Association of Realtors — as well as policy groups from free market stalwarts such as the Competitive Enterprise Institute, Heartland Institute, and Americans for Tax Reform to the left-leaning League of United Latin American Citizens (LULAC) – as a way to make credit more available for entrepreneurs. 

But though both Senate Majority Leader Harry Reid and the Obama administration initially expressed support for the Udall measure in the last Congress, they ended up preventing the measure from coming to a vote as an amendment to a larger bill, with the lame old excuse that there just wasn’t enough time to debate its merits. Yet the administration and last Congress found plenty of time to rush through stimuluses and bailouts to “save the economy,” even though this cost-free step of simply lifting the barriers to business lending would have probably “saved and created” more jobs and businesses than all those spending bills put together. 

Bank lobbyists have been ferociously opposing any increase in the credit union business lending cap that would give more borrowing options to small businesses. They complain of “unfair subsidies” to the credit unions. An “action alert” of the American Bankers Association warns about “the expansion on unfair credit union competition in business lending.” The alert intones, “Credit unions were given a tax exemption to serve people of modest means, not to aggressively go after business loans.” 

But it’s a bit rich for the banking industry, which has received more than $700 billion from TARP and other measures, to complain about unfair subsidization. Yes, credit unions have an exemption from taxation at the corporate level because they are member-owned cooperatives that don’t have the many means that banks have to raise money such as the issuance of shares of stock. 

Credit union members, however, are fully taxed on the dividends on their accounts, and are taxed at the “ordinary income” rate for interest and not the lower rate for dividends. Conservatives and libertarians have long argued that business income should only be taxed once, and credit unions provide a successful example of single taxation. They should also argue for expanding this structure, rather than for unduly restricting credit union activity simply because the tax system for all businesses hasn’t yet been reformed. 

One free market-leaning politician who was a fan of credit unions was Ronald Reagan. In Presidential Proclamation 5211 in 1984, Reagan said: “Credit unions are uniquely democratic economic organizations, founded on the principle that persons of good character and modest means, joining together in cooperative spirit and action, can promote thrift, create a source of credit for productive purposes, and build a better standard of living for themselves. Because credit unions exemplify the traditional American values of thrift, self-help and voluntarism, they have carved a special place for themselves among the Nation’s financial institutions.” 

Through his chairman of the National Credit Union Administration, Edgar Callahan, Reagan lifted barriers to credit union modernization, such as allowing credit unions with different fields of memberships to merge. Upon Reagan’s death in 2004, an article from the website stated that “the Reagan legacy means that individuals can choose a cooperative form of financial services in most communities today.” 

Today, there is another principled politician — following in the steps of Reagan and of Ron Paul — who touts the value of credit unions. This would be the new Senator from Kentucky, Rand Paul. Last year, when running for his seat, several events were held for him at Kentucky credit unions. Rand Paul said: “What I like best about credit unions is that they just want the government to leave them alone so they can meet their members’ financial services needs. When I represent Kentucky in the U.S. Senate, I’ll work to protect everyone from excessive government intrusion.” 

More important than sitting with members of the other party is working with them to seek out genuine bipartisan initiatives to limit government and increase freedom. Relaxing — and ultimately repealing — the business lending cap for credit unions is just such an initiative that freedom-minded individuals should support.