Thursday, October 2, 2008

Not more anecdotes!

Small Businesses Feeling the Chill:
Some small companies say they are no longer able to get loans from newly cautious banks as credit tightens across the country, and even those who do qualify are increasingly reluctant to borrow and expand, fearful of overextending themselves in the midst of the financial crisis. ...
Even with the current turmoil in the credit markets, big established businesses generally have far greater access to credit than their smaller cousins. For borrowing, small businesses often rely on banks, credit cards and small-business loans. Big businesses have substantial bank lines of credit that they can draw down as needed if they have trouble issuing new debt, usually a less expensive option. While the markets remain cool to financial companies and those with any hint of debt problems, many corporations have been able to sustain their financing, often by selling commercial paper, a form of short-term financing, albeit at higher rates than a month ago....

This article would be worrying if it weren't so anecdotal. Several issues here that are not being fleshed out:
1. We should expect to see some tightening of lending standards since it was lax lending that got us into the current mess in the first place.
2. We should also see some businesses that are less willing to borrow and lend given that aggregate uncertainty has increased. (Option value of waiting, blah, blah, blah.)
3. Given that aggregate uncertainty has increased, some firms that may have been considered healthy once in boom times may now be considered marginal e.g. they may have expanded too quickly during the boom and are now vulnerable to a downturn.
3. We want to know this: Given the level of uncertainty, are there more firms than what we would expect who want and qualify for loans who cannot get them. This assumes that we know what the average should be, which means that we can identify the underlying fundamentals for total loans in the economy.

Update from Cato Institute (October 5, 2008) - so I'd take it with some salt:
In August, bank loans to consumers were 9.5% higher than they were a year earlier--the fastest increase since 2004. The year-to-year increase in consumer and industrial loans was 15.5%, down only slightly from a recent record high of 21.6% in March. Real estate loans were up 4.1% for the 12-month period ending this August--flat lately, but not down.

Did bank lending suddenly turn south since August? The latest data is for the week ending Sept.17, when the U.S. expropriated 80% of AIG (nyse: AIG - news - people ) equity and thus tanked most financial stocks. U.S. bank credit hit a record of over $7 trillion in the latest week--up from $6.57 trillion a year earlier and $6.92 trillion at the end of July.

Contrary to many comments, consumer and industrial loans actually increased in the latest week. Troubled giant banks have cut back on lending, but smaller banks have picked up the slack. Consumer and real estate loans dipped insignificantly through Sept. 17, remaining much higher than they were a year earlier.

If all the recent hysterical chatter about lending being "frozen" or "shut down" refers to anything real, it is not about banks loans (through Sept. 17) but about such arcane financial markets as asset-backed commercial paper or loans between banks. But this too is mainly about financial firms, not Main Street. Non-financial commercial paper increased from $156 billion at the start of the year to more than $204 billion from Sept. 3 to Sept. 17, dipping only modestly since then.

Economic journalists seem oddly fascinated with the last column of the table--interbank loans from one to another (aside from fed funds). "Banks won't even lend to each other," said a TV reporter, "so how can we expect them to loan to business or consumers?" But interbank loans are obviously tiny, and banks rightly regard lending to other banks more risky than lending to Main Street. There is no reason to expect the minuscule flow of interbank loans to determine consumer and business loans. That little tail can't wag the big dog.

The table referred to is Assets and Liabilities of Commercial Banks in the United States

Update (October 7, 2008):
Here's the evidence that there is some credit problems - the commercial paper affects large companies - so, yes, if they are unable to have cash for day to day operations, I would be worried.
The Federal Reserve Board on Tuesday announced the creation of the Commercial Paper Funding Facility (CPFF), a facility that will complement the Federal Reserve's existing credit facilities to help provide liquidity to term funding markets. The CPFF will provide a liquidity backstop to U.S. issuers of commercial paper through a special purpose vehicle (SPV) that will purchase three-month unsecured and asset-backed commercial paper directly from eligible issuers. The Federal Reserve will provide financing to the SPV under the CPFF and will be secured by all of the assets of the SPV and, in the case of commercial paper that is not asset-backed commercial paper, by the retention of up-front fees paid by the issuers or by other forms of security acceptable to the Federal Reserve in consultation with market participants. The Treasury believes this facility is necessary to prevent substantial disruptions to the financial markets and the economy and will make a special deposit at the Federal Reserve Bank of New York in support of this facility.

The commercial paper market has been under considerable strain in recent weeks as money market mutual funds and other investors, themselves often facing liquidity pressures, have become increasingly reluctant to purchase commercial paper, especially at longer-dated maturities. As a result, the volume of outstanding commercial paper has shrunk, interest rates on longer-term commercial paper have increased significantly, and an increasingly high percentage of outstanding paper must now be refinanced each day. A large share of outstanding commercial paper is issued or sponsored by financial intermediaries, and their difficulties placing commercial paper have made it more difficult for those intermediaries to play their vital role in meeting the credit needs of businesses and households.

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