CUs Can Expect Economic Tailwinds

The economy is gaining traction in several sectors, according to CUNA's senior economist.

December 5, 2013

With 2014 right around the corner, credit union executives are wondering what’s in store for the economy.

Credit Union Magazine asked Steve Rick, CUNA’s senior economist, for his outlook.

Q: Will the economy be better or worse in 2014?

A: The U.S. economy is expected to grow 3%, up from 2% in 2013, but it could be better than expected. The economy is gaining traction in many different sectors, and what were headwinds are switching to tailwinds. Sectors that will do well include housing, auto, energy, medical care, business investment, and consumer spending.

Consumer deleveraging will end, and people will once again accumulate debt relative to their incomes. This will turn one of the major economic headwinds into a significant tailwind for economic growth. Fiscal headwinds will remain a modest drag on growth, however, but not enough to derail the recovery.

Q: Will the Federal Reserve’s quantitative easing program lead to significantly higher inflation and interest rates in 2014?

A: The short answer is no. Inflation occurs when you have too many dollars chasing too few goods.

To get to “too many dollars,” you must have banks and credit unions lending out significant amounts of funds in a short period of time. While we do expect loan growth to rise in 2014, it will not be sufficient to push inflation across the Fed’s 2.5% inflation threshold—the rate at which the Fed may start raising short-term interest rates. We expect core inflation, excluding food and energy, to rise to 2% in 2014 from 1.75% in 2013. So we expect the Fed to maintain its 0% interest-rate policy for the federal-funds interest rate through 2014.

Low core inflation will keep inflation expectations under control and long-term interest rates low. We expect the Fed to begin its quantitative easing tapering [reducing the pace of bond and mortgagebacked security purchases] in the fourth quarter of 2013, and ending the program by midyear 2014. This will move the 10-year Treasury interest rate over 3% by early 2014 and around 3.5% by year end.

The Treasury yield curve will steepen in 2014 as long-term interest rates rise faster than short-term interest rates. This may increase credit union’s net interest margins as borrowing short term and lending long term becomes more lucrative— but only with loan demand.

Q: Will gains in the job market bring CU loan delinquency and charge-off rates back to normal?

A: We expect the unemployment rate to fall below 6.5% by the end of 2014. This level is the second threshold the Fed has adopted as to when it might begin raising their federal-funds interest rate target. Economists consider an unemployment rate of 5.2% to 5.5% to be full employment, so the labor market will not be fully healed until 2016.

So the higher-than-normal unemployment rate in 2014 will keep credit union loan delinquency rates slightly above its historical average of 0.75%. We expect the loan delinquency rate to fall to 0.8% in 2014, the lowest level since September 2007, as job growth continues.

Q: Will CU earnings improve?

A: We expect average credit union return on assets to rise slightly to 0.80% in 2014, from 0.78% in 2013. Many factors are at play. Rising long-term interest rates will slow or even halt the decline in asset yields. This will stabilize credit union net interest margins albeit at record-low levels, 2.8%.

The end of the mortgage refi boom will lower gains on sale of mortgages and mortgage origination fees, which will reduce noninterest income. Provisions for loan losses as a percent of assets will fall below 0.3% in 2014, below the 0.43% recorded in 2007 before the onset of the recession.

On another positive note: CUNA believes there will be no NCUA corporate assessment in 2014. The combination of corporate capital written off ($5.6 billion) and total assessments paid to date ($4.8 billion) total $10.4 billion, which is near where the losses might end up.