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March 14, 2017

Bank Loans Taking A Dive...

I am compelled to correct a report posted on Zerohedge about the cliff-dive going on in commercial, industrial and consumer loans. The report in ZH suggested the plunge is connected to two possibilities: 1) this one from a Wall Street sleazebag from Barclays: “it is possible that companies have shifted from the loan to the bond market, and are selling more bonds to lock in cheap financing before rates rise, while not encumbering assets with issuing unsecured debt;” and 2) political uncertainty connected to Trump.

The first possibility could have some small amount of legitimacy except that if you parse through all the data available at the Fed, you’ll see that bank credit has plunged across the entire spectrum of U.S. business (I used size of loan as the proxy). Smaller businesses do not have access to public credit markets and thus the first explanation is the typical apology for a negative economic report that we would expect from a Wall Street con-artist. The second possibility is part of the anti-Trump narrative found in the fake news reports coming from the ignorant.

“It’s The Economy, Stupid”

That quote was created by James Carville as one of Bill Clinton’s campaign slogans in 1992. Those words ring even truer today. A primary example is the restaurant industry numbers discussed above. “Hope” and “confidence” do not generate economic activity. And “hope” is not a valid investment strategy. A better guide to what’s happening to economic activity on Main Street is to see what banks are doing with their lending capital. I borrowed the two graphs below from the @DonDraperClone Twitter feed:



Commercial bank lending is a great barometer of economic activity. The top graph above shows the year over year percentage change in commercial and industrial loans for all commercial banks. You can see that the rate of bank lending to businesses is falling doing a cliff-dive. These are primarily senior secured and revolving credit loans that sit at the top of the capital structure. If bank lending is slowing down like this, it means two things: 1) the ability of businesses to repay new loans is declining and 2) the asset values used to secure new loans will likely decline. In fact, it is highly probable that the tightening of credit by the banks is a directive from the Fed. Yes, the Fed. Despite its public commentary suggesting otherwise, the Fed knows as well as anyone that the economy is tanking. This is why the Fed can’t hike rates up to a level that would bring real interest rates up to at a “neutral” level (using a real price inflation measure, Fed Funds needs to be reset to at least 6%, and likely higher, to get the real rate of interest up to zero).

The only reason the Fed might “nudge” interest rates higher next week is for credibility purposes. Everyone knows inflation is escalating, which makes it difficult for the Fed to keep interest rates so close to zero. In addition, a rate hike now, even though it will be insignificant in magnitude, will give the Fed room to take rates back to zero when the public and Congress begin to scream about economy.

The second graph shows the year over year percentage change in auto loans. The implications there are fairly self-explanatory. Auto sales are slowing down because the “universe” of potential prime and subprime rated car buyers, new and used cars, has been largely exhausted. In fact, with the default rate on subprime auto loans beginning to hit double-digits, the next phase in the automobile credit market will likely be credit implosion crisis.

The views and opinions expressed herein are the author's own, and do not necessarily reflect those of EconMatters.

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