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Wall Street Investment Banking Veteran Calls for Consumer Credit Reform, Innovation

Shane Hadden, CEO of Float Money LLC, who as an investment banker for Credit Suisse developed ways for banks and large companies to reduce borrowing costs, noted that “Consumer lending is broken and needs to be fixed for the benefit of both borrowers and lenders. The social and economic costs of a failing consumer credit market are enormous. High rates and fees create stress in households and lead to an unnecessarily high level of personal bankruptcies. Lack of bank credit alienates millions of potential savers from the banking system resulting in reduced savings.” Problems he cites include:

  •     Very high interest rates – most companies would reject rates in the mid to high teens, yet this is what credit card issuers charge most of their customers. Fees for small mistakes can raise the effective interest rate to nearly 100%. This additional stress on the consumer is slowing the economic recovery.
  •     Over reliance on FICO scores –only those with high FICO scores are able to access consumer credit, so millions are left out of the credit market. There are too few avenues for improving FICO scores.
  •     Lack of affordable overdraft protection – additional millions are left out of the banking system.

Remedies and Areas for Innovation
Hadden continued, "Fortunately there are alternatives for creating a better system if pro-consumer, low rate lending becomes a priority. Broadly accessible low rate loans would improve the financial health of American families, which would improve consumer purchasing power, build greater institutional loyalty and increase economic mobility. Disclosure is good, but not a solution. With disclosure of high rates, consumers can either choose to knowingly accept the high rates or just not borrow. Neither of these alternatives solves the problem." Reforms and innovation Hadden suggests include:

  •     Set a maximum interest rate – Empirically, there are no financial metrics that are sustainable over the long term at 20% or even in the high teens. GDP growth, equity returns, inflation, housing price growth, real risk free rates, etc. may rise to 20% for a year or two, but they always “correct” towards an average in the single digits or low teens. Why would we think that a family can sustain 20% rates of interest ad infinitum without a similar “correction”/default? The maximum sustainable rate for an individual is somewhere between 15% and 20%. Any interest rate above 20% is dangerous.
  •     New asset classes, e.g., consumer spending – There are alternative sources of value that consumers possess that could be monetized to replace or lower interest and fees.
  •     New legal forms – New contractual arrangements could be developed to create a senior/subordinated relationship for consumer financing similar to that of debt and equity in the corporate context. Subordinated debt could either be a traditional debt claim that is subordinate to the senior or it could actually have features of equity, such as no ability to force bankruptcy.
  •     Targeted guarantees – New forms of government or charitable guarantees could be developed to target highly specialized risk types that are not being reasonably priced in the private markets due to lack of information or liquidity.
  •     Non-bank lenders – Non-bank lenders can incur any type of risk as dictated by consumer demand. They can then repackage this risk into risk that is “bank eligible” and get at least partially funded by banks. The benefits of this two-tiered system in promoting innovation could outweigh the costs of adding another layer in the funding chain.
  •     Guaranteed overdraft lines -Banks as an industry could benefit from offering a reasonable amount of overdraft protection to all users with no or low cost. Banks could either do this directly or in partnership with a non-bank lender that specializes in this risk type.

Hadden concluded that, “The common refrain from high rate lenders is “there are no alternatives.” This has been used so many times that it is now repeated by commentators and even some regulators. Ironically, this statement may point to the vulnerability of the high rate industry. Consumers are already at work looking for alternatives which are often worse (payday lenders) or impractical (peer-to-peer lending). Once scalable alternatives are adopted, this rationalization goes away and the marketplace could correct itself very quickly.

About Shane Hadden:
Shane Hadden is CEO of Float Money LLC, an innovative consumer lending and shopping platform based in Lexington, KY. He has spent the past 15 years developing creative ways for banks and large companies to borrow money more cheaply. He is now using this experience to help consumers. Prior to Float, Shane was an executive at Credit Suisse where he developed and executed over $20 billion of innovation financing transactions. Shane has also provided bank consulting services with Promontory Financial Group and Auriemma Consulting Group. Shane is a Chartered Financial Analyst with a JD/MBA from Georgetown University and a BA in Economics and International Studies from Miami University. ####

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