It seems like the financial sector is getting back to offering risky loans, a decade after the economic crisis, which was triggered by uncontrolled home lending.
As we speak, finances are bypassing the stringently regulated banking system reaching more and more businesses that chipped in offer loans to this sector of the economy that banks abandoned after the 2008 crisis.
Some experts would call it shadow banking; and currently, it is the primary source of credit driving the US economy. With assets worth nearly $15 trillion, this system of banking in the US is more or less comparable to Britain’s entire banking system. It should be remembered that Britain is the globe’s fifth-largest economy.
In some sectors — like mortgages, automobile lending, and some business loans — shadow-banking has dominated over traditional banking, which has offered unforgiving lending rules over the past to stay out of trouble.
However, new issues arise when the sector relies on lenders that are in cut-throat competition and run in a less regulated environment with almost no measures against losses to mitigate the risk.
No wonder, a cohort of policymakers and industry leaders, as well as the chairman of the Federal Reserve, Jerome H. Powell, have begun to warn on the alarming growth of risky non-bank lending.
“We regulated banking institutions hoping the move would stabilize the financial system, which shouldn’t take as many risks, but when banks become reluctant, shadow banks chipped in,” says Amit Seru, a Finance Professor at the Stanford School of Business.
Shadow lending is now being offered by a group of businesses, including loadDepot, Quicken Loans, Caliber Home Loans, and many more. These businesses have increased mortgage lending down from 9% to over 52% between 2009 and 2018, according to a business publication known as Inside Mortgage Finance.
So is this an advantage for those looking to purchase a home?
Well, these shadow banks are competitive and ready to lend to any borrower with moderately lower credit scores or high debt levels put side by side with their income. They’ve also invested in high-end tech and will process sooner than you expect.
However, there’s a downside to this system of borrowing. Because shadow lenders aren’t as strictly regulated as to their bank counterparts, it is not clear how much capital they operate with. Capital refers to the amount of non-borrowed finances they have.
Insufficient capital may mean difficulty in surviving If any significant slip in the economy and the mortgage market.
And though these lenders do not have a federal regulator to monitor their practices like banks do, shadow banks claim they are controlled by a group of government entities led by the (CFPB) Consumer Financial Protection Bureau as well as other state regulators.
Final Words
The pain in shadow lending is in the lack of regulation. Otherwise, these businesses are helping Americans live their dreams in one way or another. The government may need to address this issue before conditions get worse for the borrower.
Author Bio: As the FAM account executive, Michael Hollis has funded millions by using high risk business loan solutions. His experience and extensive knowledge of the industry has made him finance expert at First American Merchant.
