Sunday, May 16, 2010

How Can The Economy Grow Without Bank Loans?

The economy seems to be picking up steam, yet bank lending does not seem to be keeping pace. Also, money stock growth does not give off positive signals in terms of how people are allocating their short-term assets in the banking system.

The question is: can the economy continue to pick up if people are staying very conservative in terms of their asset allocation in the banking system and the banks, themselves, continue to stay out of the lending market?

Overall, the total assets in the banking system (according to the H.8 release from the Federal Reserve System) have only grown modestly in recent months, up 1.3% from March to April at all commercial banks in the United States, with large banks (the twenty-five largest banks in the United States) showing a 2.1% rise and all other banks increasing at a 1.0% rate.

Over the past year Total Assets at all commercial banks are down by -1.5%, decreasing by 0.8% in the largest banks and rising 1.0% in the larger banks.

The problem with this is that the rise in the last month is due to a reporting change in the banking system and is not the result of real growth. On March 31, banks were required to bring a substantial amount of securitized loans onto their balance sheets from being accounted for as memoranda items.

The vast majority of this movement was connected with consumer loans. Thus we see that from March to April consumer loans at all banks rose by slightly more than 31%. The largest banks saw the greatest change, rising over 35%, while the smaller banks consumer loan accounts rose by slightly more than 17%.

The thing is, consumer loans are not increasing. The increase is coming solely fromt the change in the accounting for these securitized consumer loans.

All other loan classifications rose by much smaller amounts over the past month but actually declined over longer periods of time.

For example Commercial and Industrial loans, business loans, at all commercial banks rose by only 0.6% from March to April. They are actually lower over the past three months, down 4.0% and down 18.0% year-over-year.

Commercial banks are just not lending to businesses! And, this is across the board, in both the biggest 25 banks in the country and all the rest. Over the past year Commercial and Industrial Loans at large commercial banks dropped by over 19% while this same category of loans at small banks dropped by almost 9.0%

Real Estate loans have not fared any better. Up only modestly in the past month, these loans have declined for the past three months, the past six months and the last 12 month. Again, Real Estate loans at the biggest 25 banks have declined by slightly more than 2.0%, year-over-year, and they have declined by a little more than 4.0% at the smaller banks.

Shall we take these modest increases as a positive start to the increase in bank loans? Well, one month does not make a trend. We need to keep watching the banks to see if loan volume is increasing giving us some feel that not only loan demand is rising, but that the banks are actually lending again.

Cash assets at all banks declined over the past month. Whether this was a response to the Treasury’s use of their Supplemental Financing Account at the Federal Reserve (See my posts: “Federal Reserve Exit Watch Part 10”,; and “The Fed’s New Exit Strategy?”, or the portfolio behavior of the banks themselves, there was a fairly sizeable drop in cash asset at all commercial banks.

Still over the past three months cash asset rose at both the biggest banks and the smaller ones. Again, the direction the banking system is taking with respect to excess reserves is still unclear. All one can say is that they have declined recently.

The banking system is still facing the fact that people are continuing to move their assets into the banking system and primarily into transactions accounts. This is seen by the fact that the M1 measure of the money stock has risen by almost 7.0%, year-over-year in April while the M2 money stock measure has risen by only about 2.0%. Thus, since there is almost no growth in the M2 measure of the money stock, there must be a substantial amount of shift between the non-M1 portion of M2 to the M1 measure.

In fact the total non-M1 M2 has risen by only 0.4% from April 2009 to April 2010.

As I have argued many times before, this is very conservative money management on the part of asset holders. People are putting their funds into transactions accounts so that they have them for spending. They are removing funds from non-transaction accounts which are less liquid and, with interest rates so low, not worth the effort of keeping their funds in these accounts.

This movement is also picked up in the decline in Retail Money Funds which have dropped almost 28%, year-over-year, and Institutional Money Funds which have dropped about 23%, year-over-year. These declines have continued at rapid paces for the last three months and the last month as well!

The efforts of the Federal Reserve are not being translated into bank loans or money stock growth. Monetary policy is not being translated into assets that support economic growth!

People and businesses are still in a defensive mode with respect to their asset management!

The Great Recession is over and the recovery has begun. Yet, the statistics coming from the banking system do not promote a lot of optimism. This is consistent, I believe, with consumers that are still reeling from being unemployed and losing their homes and with a banking system that is not out-of-the woods in terms of solvency issues (except for the largest 25 banks, of course.)

Strong recoveries are usually connected with strong growth in bank loans and the various measures of the money stock. Especially important is an increase in commercial and industrial loans…business loans. This is not happening.

From all we see the large banks are making a “killing” being subsidized with extraordinarily low interest costs. We learned last week that many large manufacturing and industrial business firms are sitting on huge amounts cash and other assets ready to “make a killing” when things do start to pick up. The big guys are in great shape!

If anything the financial collapse, the Great Recession, and government policy have done for big business what they could not have done for themselves. The transfer of wealth in America is going to be huge in the next five years or so thanks to Bush 43 and Obama 1. Greater wealth inequality…here we come!


jeff campbell said...

Your analysis seems spot on. As for transfer of much worse can it get? I would love to have your opinion on the legitimacy of the Fed Reserve...and also what steps you would take to correct what seems to be a faltering system.


Conchscooter said...

"The great recession is over the recovery has begun"- your words.Jolly good; perhaps now we can explain to the despression-sized unemployment lines where their evaporated jobs are? There is no work, there is no production therefore, and the FIRE economy is all a fake. Thus there is no possibility of a real recovery.