Key learning points
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A difficult economy caused a new wave of bank failures in March 2023.
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To reduce liquidity risks, nearly half of U.S. banks have tightened credit requirements across the board.
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Due to stricter lending standards, subprime borrowers (those with less than perfect credit) will have a harder time getting loans and securing affordable interest rates.
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This reduction in lending could also lead to tighter household budgets as inflation continues to put pressure on America’s wallets.
The American economy has experienced quite a bit of turmoil in recent months. Sky-high inflation, rising interest rates, a looming recession and – most recently – multiple bank failures.
In March 2023, three major regional banks – Silicon Valley Bank, Silvergate Bank and Signature Bank – all collapsed within days of each other in the biggest banking crisis since 2008. This series of events, combined with the current economic climate, has left lenders more conservative, making it more difficult for subprime borrowers to access credit and obtain affordable loans.
Key statistics about the banking crisis
- The Federal Deposit Insurance Company (FDIC) was founded in 1933 to increase consumer confidence in financial institutions by insuring deposit accounts of up to $250,000 in the event of a bank failure.
- Before the creation of the FDIC, it was estimated that on average 635 banks failed every year starting in 1921 and ending in 1929.
- Bank failures have become increasingly rare in recent years. Between 2015 and 2023, only about 3.6 banks failed each year.
- The largest bank failure in US history occurred in September 2008, when Washington Mutual Bank, which had total assets of more than $424 billion, failed.
- In March 2023, three small to mid-sized regional banks: Silicon Valley Bank, Silvergate Bank and Signature Bank all failed within the same week in the largest banking crisis since 2008.
- Small banks are an integral part of the U.S. economy because small businesses – which employ more than a third of the private sector population – 70% of their financing by them.
- The fear of a liquidity shortage has made banks more conservative 46% tightening credit requirements for 2023.
- Consumer confidence has also declined given the short-term outlook for income, business and labor market conditions decreasing from May 2023.
The banking crisis of 2008
Between 2007 and 2008, the US experienced its worst financial crisis since the Great Depression, caused by a collapse in the housing market. This financial crisis resulted from banks’ poor credit, lending and securitization practices.
The problem started when banks started providing cheap credit to borrowers (particularly mortgages), despite the credit risk involved. The fact that mortgages were easier to obtain led to saturation in the housing market and a sharp drop in prices.
To slow things down, the Fed raised the federal funds rate, making adjustable-rate mortgages more expensive. As a result, a wave of subprime borrowers defaulted on their loans, causing a devaluation of mortgage-backed securities and creating a liquidity crisis among banks. It is estimated that this is over 500 As a result of the crisis, banks went bankrupt between 2007 and 2014.
What does this banking crisis mean for borrowers?
The Fed, the FDIC, and the Treasury Department all were react fast to the events of March 2023, by devising measures to mitigate the impact of the recent banking crisis. However, this will continue to have a negative impact on consumers’ wallets, especially those with less than perfect credit.
It will become more difficult to get a loan
According to the latest Fed report Senior Loan Officer Opinion SurveyAbout 46 percent of lenders will increase their lending requirements, while 3.2 percent say they have tightened their lending requirements “significantly.” That means that in the current climate it will be more difficult for people with a good or bad credit score to get a loan, as they are considered a greater risk than someone with excellent credit.
“The underwriting criteria will become stricter because it is a period when banks need to be confident that the loans they make will pay out, as a lower success rate in granting loans, given the already problems with their liquidity, will be detrimental to them would be,” said Doug Duncan, senior vice president and chief economist at Fannie Mae, says.
“It could certainly take several months,” Duncan adds. deposits, and that will take some time.”
The interest rate will be higher
Since March last year, the Fed has continuously raised interest rates. While this is positive for deposit accounts, such as CDs and savings, because they earn more interest, it is detrimental to borrowers. Rate increases automatically translate into higher annual interest rates, so any loan you take out now will be significantly more expensive than if you had taken it out about a year ago.
Budgets will become tighter
TransUnionThe latest report shows that household debt has increased across the board. Not only that, but minimum payments have risen at record levels, especially among near-prime and prime borrowers. This, combined with high inflation and stagnant wages, has clearly put pressure on consumers’ budgets, making them more reliant on credit products to keep up with household expenses.
Given that we are currently in an environment of rising interest rates and a possible recession is on the horizon, debt levels will only continue to rise, eating away at more of a consumer’s income.
Frequently Asked Questions
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According to Duncan, the chance of an economic crash is small. “In 2007 it was about credit risk. In other words, the quality of the assets the banks held was highly questionable,” says Duncan. “That’s not what’s happening today. Government bonds are solid from a risk perspective; the underwriting behind mortgage-backed securities is very strong these days. There may be more bank failures, but it is very unlikely that we will see anything close to what we saw between 2007 and 2009.”
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According to Bankrate, the chance of a recession in the next twelve to eighteen months currently stands at 65 percent. As for when we can expect the situation to worsen, Duncan says Fannie Mae predicts the recession will begin in the second half of 2023 and will most likely continue into the coming year.
