The financial crisis of 2008 rocked the foundation of the U.S. banking sector. The shock left banks short of capital and hesitant to lend, even as the recession cut deeply into loan demand. The Federal Reserve has pumped in an ocean of lendable funds, trying to prime the process of bringing banks and borrowers together. But many still wonder when, if ever, bank lending will return to normal.
We’re not there yet, but recent signs have been encouraging. Despite the sluggish economy, loan growth is finally beginning to pick up in key areas, reflecting both greater willingness to lend and increased desire to borrow. Loan volume of U.S. commercial banks rose at a one percent annual rate in June as expansion in business loans and non-mortgage consumer lending more than offset the ongoing contraction in http://www.thefiscaltimes.com/Articles/2011/07/20/AP-Home-sales-on-pace-... real estate financing. It was the third consecutive monthly increase after steady declines for more than two years, and weekly reports from the Fed show the trend is continuing in July.
The upturn in bank lending, which follows substantial easing in bank lending standards over the past year, will offer crucial supports to help the economy weather the first-half slowdown. Gross domestic product grew a tepid 1.3 percent in the second quarter, the Commerce Dept. reported last Friday, with first-quarter growth revised down to only 0.4 percent, while hiring has slowed to a crawl. However, economists at UBS believe that easier lending standards are a sure-fire indicator of future job growth and that payroll gains will most likely pick up in coming months. “We are not particularly disturbed by what we see as a temporary slowdown in private job formation in May and June,” says UBS economist Maury Harris.
Banks are increasingly looking to lend in large part because their balance sheets are stronger, as seen in many second-quarter earnings reports. Both large money-center banks and smaller regional lenders say credit quality is improving as delinquencies decline, freeing up funds that would otherwise have to be set aside for loan losses. Fed surveys note that competition among banks for new business is increasing, with a rising percentage narrowing the spread between loan rates and the exceptionally low cost of funds. With profits rising, loan losses shrinking, and loan portfolios expanding, banks are making themselves more attractive to investors by lifting dividends and buying back shares.
Lending to businesses is leading the credit upswing. The volume of commercial and industrial (C&I) loans in the second quarter rose at a 9.6 percent annual rate, the largest increase in 2½ years. Banks have progressively eased lending standards for C&I loans to large and medium-sized companies for the past six quarters. Small companies have seen easier terms and conditions in each of the past four quarters. Economists expect to see signs that this loosening in standards is continuing when the Fed issues it third-quarter report from bank senior loan officers in mid-August.
More credit is starting to flow to small businesses, as well. That’s important, because small firms account for about half of U.S. job creation, and depend greatly on banks for credit, unlike large corporations that have the option to raise funds in the capital markets by issuing bonds. In the second quarter, the balance of banks reporting stronger vs. weaker demand for commercial and industrial (C&I) loans by small businesses was positive for the first time in five years, according to the latest Fed survey. Another positive sign is the gradual rise in C&I loans made by small banks, whose customers tend to be small local companies. Small-bank C&I loan volume has been rising gradually in 2011 after hitting bottom late last year.
Despite increased attention by policymakers over the past year to the dearth of small business lending, the problem has been not so much banks’ unwillingness to lend but simply a lack of loan demand, reflecting weak sales. Although the percentage of small companies saying credit is harder to get is still somewhat higher than before the recession, it has fallen steadily over the past two years, from a peak of 16 percent, to 9 percent in June, according to the National Federation of Independent Business.