The Effect of Membership Expansion on Credit Union Risk and Returns

In the past two decades, over a thousand credit unions converted to community charters, significantly increasing their pool of potential members. This study attempts to determine whether these conversions reduce risk by allowing credit unions to diversify their membership, or whether risk increases as the social capital of a tight common bond becomes diluted. We improve on previous cross-sectional approaches by utilizing a generalized difference-in-differences model with credit union and quarter fixed effects for the period 2002 to 2017, which allows us to control for unobserved time-invariant endogenous factors between credit unions. Contrary to previous findings in Ely (2014) and Frame et al. (2002), we find that conversion to community charter improves credit union returns (as measured by ROA, membership growth and loan growth), and lowers risk (as measured by the standard deviation of earnings and probability of liquidation or merger). Capital adequacy also decreases, but this is likely the result of active managers responding to a more diversified portfolio and not an exogenous outcome of charter conversion. There is no effect on the Z-score (probability of exhausting net worth), or indicators of interest rate exposure or asset quality.