Six years ago banking regulators put in regulations aimed to prevent such high-risk lending from once again damaging the economy. But in recent years the big banks and financial companies have created massive pool of credits, known as leveraged loans, to hundreds of cash-strapped companies, many of which could be unable to repay if the economy slows or interest rates rise.
In 2011 Timothy Long, chief national bank examiner at the Office of the Comptroller of the Currency (OCC) warned that high- risk, leveraged loans could potentially cause a repeat of the financial crisis in 2008 and 2009. Subsequently “guidance” warnings, usually observed by banks, were issued, there was a big regulatory push in 2015, resulting in a drop in the value of dodgy leveraged loans made from $607 billion in 2013 to $423 billion in 2015 – and bitter complaints from bankers. The tightening up has now been un-tightened.
Politicians such as Sen. Patrick J. Toomey (R-Pa.) clamored to loosen up the rules and regulations. (10 of Toomey’s 17 biggest campaign contributors are financial companies), and other Republicans demanded the regulators not enforce leveraged-lending “guidance” warnings, claiming that they were confusing, In early 2018 the new head of the Office of the Comptroller of the Currency, Joseph Otting, commented that banks, with regard to leveraged loans, “have the right to do what you want as long as it does not impair safety and soundness. It’s not our position to challenge that.” As a result the banks went crazy, issuing a total of $1.271 trillion in leveraged loans in 2017 and 2018, 40 percent more than in 2015 and 2016, all with fewer restrictions on the borrower and fewer protections for the lender in the event of default.
Sensible regulators believe that, with the U.S. economy entering its 10th year of growth, it is only a matter of time before a downturn begins and many of these loans unravel. When companies default on their loans, bankers retrench and won’t lend as freely, worried about extending money to other companies that could also default. This can quickly affect the broader economy, leading to layoffs and bankruptcies, and halting new investment.
Officials at the Fed, which is charged with spotting risks posed by large financial institutions to the financial system and broader economy, announced plans in March to scale back the process they use to monitor the way large banks weather a recession. Officials said banks had made improvements in how they prepared for the next downturn. And now Trump has nominated Herman Cain and Stephen Moore, to open seats at the Fed. Both are big proponents of stripping back regulations and have called for immediate steps to make the economy grow even faster. Some people are slow learners.
We are all going to be affected by stupid actions of politicos and ignorant placemen with very short memories and no idea what they are doing. (A foreshortened version of an article in the Washington Post, 6 April 2019).