Crawl Across the Ocean

Wednesday, March 09, 2011

The Difference Between Lending and Democracy

I read an article many years ago that questioned why banks were getting out of the student loan business when almost 3/4 of students paid back their loans. What the reporter failed to understand was that, unlike 'democracy', where if you have 40% of the people onside you're good to go with a 'majority' government, in the lending business you need a far, far higher percentage of loans to repay you in order to stay solvent.

The logic is simple (especially when lending to 'prime' customers (people with a relatively clean credit history, i.e. most people), where margins are fairly tight) - it takes a lot of 'good' loans that repay in full to offset one bad loan that a bank has to write-off.

I was reminded of this simple truth when reading an article in the Vancouver Sun today, which offered as good news that, "Almost three-quarters of respondents in the RBC poll said they are well positioned to withstand a decline in the housing market."

That is not good news! If there was a decline in the housing market, and one quarter of Canadians were not able to 'withstand it,' that would be a massive financial crisis for this country.

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