Credit Union and Bank Subprime Lending in the Great Recession

We develop a theoretical model that predicts that credit unions will offer relatively less risky loans (e.g., fewer “subprime” mortgages) compared to similar commercial banks due to credit unions’ focus on member utility as nonprofit financial cooperatives. The model also predicts that banks will increase subprime lending more than credit unions during economic expansions and decrease subprime lending more than credit unions during recessions. We use the financial crisis and Great Recession period of 2007–2009 to test our model and find that, as predicted, commercial banks engaged in approximately five times more subprime lending relative to credit unions during the period leading up to the financial crisis (2003–2006). Banks also had delinquency and charge-off rates that were two to three times higher during and immediately following the crisis. We also find that banks were about two-and-a-half times more likely to fail and were significantly more likely to receive TARP government assistance funds. The results are robust to controlling for important differences between credit unions and banks besides structure and incentives, including asset size, portfolio concentration, market share, earnings, liquidity, leverage, mortgages sold to the secondary market, core deposits, and state-level indicators of economic performance and housing prices. We argue that the findings explain why credit unions often appear more risk averse relative to commercial banks, and hold important implications for researchers, policymakers and regulators.