In today ’ s financial markets , one can find pockets of highly levered , arguably unproductive assets . … Many of these lie outside the purview of regulatory oversight . of financing through mortgage and debt markets meant that the collapse in house prices would trigger a chain reaction .
In today ’ s financial markets , one can find pockets of highly levered , arguably unproductive assets . Even more worrying , many of these lie outside the purview of regulatory oversight . For example , roughly 70 % of leveraged loans and mortgages in the U . S . are now held in the shadow banking sector , where institutions take on debt and provide financing without being subject to traditional banking regulations , and without recourse to emergency federal bailout facilities should they become illiquid or insolvent .
These investments obviously carry risk by dint of their debt exposure , and it remains unclear whether they are supported by productive or unproductive assets . Because they are in the shadow banking sector , there is far less visibility regarding the capital structure ( the nature and sources of capital used to finance the investments ). Specifically , we don ’ t know whether investments are being financed with leverage or through savings that have been accumulated over time . Moreover , if a company has taken on debt , it is hard for outsiders , including regulators , to discern how much the asset is leveraged .
While a loss taken by someone who used accumulated savings will have only a limited effect on the wider economy , losses taken on “ borrowed ” money , especially with high leverage , could prove contagious .
A system with low visibility regarding the sources and forms of capital underlying many investments is a risky one . Greater scrutiny of unproductive , leveraged assets is crucial to avoiding a financial crisis .
DAMBISA MOYO , an international economist , is the author of four New York Times bestselling books , including Edge of Chaos : Why Democracy Is Failing to Deliver Economic Growth — and How to Fix It ( Basic Books , 2018 ).
© Project Syndicate
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