Three months after the Federal Reserve raised its key interest rate by 0.25 percent, Alabama credit union chiefs are cautiously optimistic that the effect on small business lending will not only remain minimal but possibly jumpstart activity.
Teresa Owens, senior vice president of finance for Birmingham-based America’s First Federal Credit Union, says the Fed’s Dec. 16 increase — its first since June 2006 — had zero immediate effect on consumer and business loan rates, so she foresees negligible impact on small business lending.
“However, as rates gradually increase, it will have an effect on interest rates for small businesses. Therefore, we could see an increase in applications for start-up or expansion loans as businesses may be encouraged to lock in the lower rate, ” she says.
Taking it a step further, Robert “Bobby” Michael, president and chief executive officer of Daleville-based Army Aviation Center Federal Credit Union, says the majority of financial institutions have long been planning for a rate increase and already built the possibility into their interest rate structure.
“The higher rates should not tighten or loosen credit for business loans. If several more rate increases take place, then at the current lending rates, financial institutions may place funds in government-backed investments rather than at-risk business loans, ” Michael says.
Meanwhile, Joseph H. “Joe” Newberry, president and chief executive officer of Huntsville-based Redstone Federal Credit Union, says he expects the Fed to most likely “move slowly over an extended time period to significantly elevate rates — the idea being not to jolt the economy or suppress small business growth.”
Of the gradual approach he says, “For the foreseeable future, the rate changes will be small, slow in coming and unlikely to adversely affect our small business lending.”
Slow but steady growth
Above all, Newberry says he expects that the Fed, in its attempt to remain “in tune with the overall economic situation, ” will “judiciously gauge (future) increases.”
“Our broad economy nationally and locally here in Alabama tends to be moving upward, slowly but steadily, in spite of the financial markets. These markets, together with oil prices, low inflation, the international economic situation — particularly with China, Russia and Western Europe — may be cause for taking a slower approach to future increases, ” he says.
That global uncertainty, Army Aviation’s Michael says, leads to a lack of spending confidence that will most likely be exacerbated by domestic issues as well.
“I think for any more increases we will need to see continued and steady improvement in the overall economy, which includes employment, overseas stability and getting through the election, ” he says.
Owens says the gradual rate increases could come quicker than many anticipate. “I think we may see an overall increase of 1.00 percent by the end of 2016. However, it will take several years to return to pre-recession levels.”
Moreover, Owens says the recent increase should have little immediate impact, if any, on saving deposit rates, because they are market driven and subject to little competition, owing to an influx of deposits in recent years.
“However, we will likely see a shift in deposit rates later this year, ” she says.
Michael, meanwhile, anticipates a lag on deposit rates because “paying interest on those deposits is an expense, and the financial institutions won’t voluntarily increase their expenses and lower profits.”
“There may be some rogue financial institutions out there [that] need deposits to fuel their loan growth, but the majority are not in that position, ” he says.
Mortgage escalation unavoidable
The most visible impact the Fed’s rate increase will have on credit union customers will most likely come on the mortgage side, with short-term increases in adjustable-rate mortgage loans expected and longer-term impact on the fixed-rate variety, Owens says.
Bear in mind, however, the typical rate on a 30-year, fixed mortgage the day the Fed approved the December increase was just under 4 percent, while identical rates in June 2006 hovered above 6 percent.
Redstone’s Newberry says maintaining mortgage perspective is imperative.
“For the past eight-plus years, mortgage rates have been at or near historic lows. At the rate the Fed is expected to raise rates, it will be a while before we see mortgage rates at levels prior to the great recession. So, while refinancing may see a downturn, mortgages on sales of new and existing homes should not be greatly impacted in the near future, ” he says.
Although Army Aviation saw a “slight uptick” in mortgage activity immediately following the Fed increase, Michael says he does not anticipate a 100 percent correlation going forward.
“I think you will see more of a 50 percent increase in mortgage rates for whatever increases the Fed provides. For example, a 50 basis point increase by the Fed over six months may only increase mortgage rates by 25 basis points, ” he says.
That said, Michael notes that some adjustable mortgage loan products offered by credit unions are tied to the Fed rate, meaning its fluctuations determine the amount of revenue collected on those loans.
“When rates go up, the credit union makes more loan revenue, ” he says.
Nonprofit status matters
In addition, Michael says credit union operations are impacted by the Fed rate in two other primary ways: Some investments adjust quarterly based on the rate — meaning higher investment revenues — and there’s an indirect impact on interest rates paid to members for deposit and CD accounts.
“There is competition all over, so we are competing with financial institutions generally across the United States and with non-banking products like (Treasury) bills and agency investments. Depositors have many alternatives to put their money in, and when the Fed raises rates it can positively affect some of those alternatives, making them more attractive to depositors because of their new higher rates. Those higher rates result in (fewer) funds for the credit union, unless they raise their rates to stay competitive. But again, these shifts aren’t instantaneous, so sometimes that transition can be slow and take six months to occur, ” Michael says.
In turn, Owens of America’s First says credit unions’ status as nonprofit cooperatives means they typically offer lower loan and higher savings rates when compared to the banking industry, so the dichotomy will become more evident as the Fed’s hikes continue.
“As rates rise, the banking industry will likely increase their loan rates before credit unions; whereas, credit unions will likely increase deposit rates before the banks, ” she says.
So when exactly should credit unions begin feeling the impact of the Fed increase more acutely?
“We would probably need 75 basis points to make a noticeable impact. We have some investments tied to the Fed but not many, and most consumer loans are not tied to the Fed either. We would need a big enough raise to affect all financial institutions before any meaningful impact would take place, ” Michael says.
Meanwhile, Newberry says the “vigilant and sensible” approach the Fed is taking amid current economic conditions might ensure credit unions are left relatively unscathed by future hikes.
“The slow and steady increase of rates over the next several years, as part of a measured and cautious undertaking, should not have a great impact on (Redstone Federal’s) operations. And if the hikes are done properly, may, in fact, be good for the economy and (our) members, ” he says.
Kelli Dugan and Art Meripol are freelance contributors to Business Alabama. She is based in Mobile and he in Birmingham.
Text by Kelli Dugan • Photo by Art Meripol