The staff at the Federal Reserve Bank of New York has issued a report revealing that although big banks have been forced to cut back on their leveraged lending, nonbank lenders have stepped in and increased their lending activity.
According to a new report from the Federal Reserve Bank of New York, nonbank lenders have increased their leveraged lending activities as a result of a 2013 decision by U.S. regulators that curtailed leveraged lending activity by the big banks. The report reveals this shift, arguing that nonbank lenders have been the main beneficiaries of the 2013 decision.
The effect of the guidance on LISCC banks’ leveraged lending business was meaningful. Compared to the pre-guidance period, the market share of these institutions in the post clarification period declined by 11.0 and 5.4 percentage points depending on whether it is measured by the number or volume of leveraged loans, respectively. This decline is meaningful, particularly if one takes into account that it happened over about one year (November 2014 – December 2015). Nonbank lenders appear to have been the main beneficiaries of this response, as their market share based on the number of loans increased by more than 50 percent while their market share based on the volume of lending more than doubled over that period of time.
But the report concludes that the shift of risk activity from the big bank lenders to nonbank lending institutions did not accomplish the goal of reducing the risk that loans pose to the stability of the financial system. “Further, while the guidance achieved its goal of reducing banks’ leveraged lending business, the migration of leveraged loans to nonbanks makes it less clear that the guidance accomplished its broader goal of reducing the risk that these loans pose for the stability of the financial system,” the report reads.
Matt Turner of Business Insider writes that this serves as a reminder of one of the first rules of finance, that “risk doesn’t disappear, it just moves around.”
The researchers conclude that such regulations only impacted large, closely supervised banks, and mitigated risk activity to nonbank lenders. They argue that such a conclusion suggests that increases the importance of monitoring closely macroprudential goals.
We find that the guidance primarily impacted large, closely supervised banks, but only after supervisors issued important clarifications. It also triggered a migration of leveraged lending to nonbanks. While we do not find that nonbanks had more lax lending policies than banks, we unveil important evidence that nonbanks increased bank borrowing following the issuance of guidance, possibly to finance their growing leveraged lending. The guidance was effective at reducing banks’ leveraged lending activity, but it is less clear whether it accomplished its broader goal of reducing the risk that these loans pose for the stability of the financial system. Our findings highlight the importance of supervisory monitoring for macroprudential policy goals, and the challenge that the revolving door of risk poses to the effectiveness of macroprudential regulations.
Tom Ciccotta is a libertarian who writes about economics and higher education for Breitbart News. You can follow him on Twitter @tciccotta or email him at tciccotta@breitbart.com
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