The stock market, it seems, looking at different sources of information as compared to what the economists are generally seeing. Or maybe, the stock markets are looking only at availability of ample liquidity. Fact is, there is a great disconnect this time. I have been maintaining for quite a long time now, that while the liquidity is there, it is not flowing as much into the real economy as it should to jump start the growth process. Availability of liquidity is the oxygen for an economy and clearly it is being deprived of adequate flow. The problem lies at both the lender and borrowers’ end.
From the lenders perspective, the Fed’s Senior Loan Officer Survey in July exposes the real scenario. In the July survey, domestic banks indicated that they continued to tighten standards and terms over the past three months on all major types of loans to businesses and households, although the net percentages of banks that tightened declined compared with the April survey. Demand for loans continued to weaken across all major categories except for prime residential mortgages.
Fact is, the overall level of credit is dropping. Bank lending expanded in the thick of the crisis as companies tapped pre-agreed credit lines. But it has since fallen back sharply, from $7.14 trillion in May to $6.78 trillion in September, with the decline accelerating recently. This is not surprising because the loan losses are yet to show signs of abating. Data from Fed shows that provision for loan loss by all commercial banks during Q3 2009 was to the extent of USD 571 bn and increasing every month. Even J P Morgan Chase, which recently reported better earning numbers have warned against continual loan losses going forward.
As the above survey shows, banks have record levels of reserves parked at the Fed. Even those in good shape may want to hold back given uncertainty over capital requirements and accounting rules for off-balance-sheet assets. And even the companies are also seeking fewer loans, as they think twice before hiring or investing in equipment, what with the existence of record under utilization of capacity. Fact is, demand for “commercial and industrial” (or C&I) loans has fallen in every month since October 2008, and a YoY decline of nearly 11% in Sept’09, which is the highest ever decline recorded. Also, it hardly helps that one of America’s biggest small-business lenders, CIT, has run aground.
The same situation exists in the consumer loan segment. Let us take the consumer credit outstanding scenario.
Consumer credit has been falling every month since August 2008 (as compared to the previous month) except for a couple of month when there was minor reversals). Infact, from July 2008, outstanding consumer credit has been down by nearly USD 119 bn. Clearly the fall has been precipitous. The actual fall could have been even worse in the absence of the stimulus package in the form of cash for clunkers scheme. Lenders have also pulled back most from “revolving credit”, such as credit cards, where they have more flexibility to cut. In the past two years credit-card lines have been cut by a whopping $1.25 trillion and it is estimated that another $1.5 trillion will disappear by the end of 2010.
While this does indicate some impact of strengthening lending standard, the demand side is constrained by lower consumer demand. This is evident from faltering retail sales data. While the same did hold up to a certain extent when the cash for clunkers programme was on, it fell by as much as 2.1% after the scheme expired.
Not surprisingly, outstanding mortgage loans have also come off. As compared to Q1 2008, outstanding mortgage loans of consumers are down by over USD 140 bn as of Q2 2009. In fact, the YoY growth rate has been negative for 3 continuous quarters, first time ever in history that this has happened. The fall, however, could have been greater but for credit given by the US government to the extent of about USD 8000 to first time home buyers to perk up the market. This scheme comes to an end on 30th November 2009. Thereafter, things can even get worse.
Indeed, the over-extended households are saving more as they adjust to the shock of seeing their net worth fall by $11 trillion. Balance-sheets need to be repaired but the effects are painful. As I have mentioned in my article in Analyst of the Institute of Chartered Financial Analysts of India (http://kunalsthoughts.weebly.com/uploads/1/9/2/3/1923881/analyst_-_jul09.pdf) with household debt still at 129% of disposable income, deleveraging could go on for some time. Add to that the unemployment situation and we are faced with pretty gloomy scenario.
To conclude, with lending standard unlikely to be relaxed soon, what with fear of loan losses and unwillingness of borrowers (both corporate and consumer) to take loans, economic growth will be at stake. In fact, fall in outstanding consumer credit and mortgage loans not noly indicate aversion toward creation of addiitonal liability, but also willingness on the part of the consumers to repay existing loans. From the consumers’ point of view, therefore, deleveraging is continuing. And, this has a long way to go for settling down. My feeling is that, savings rate will not increase much during the period of deleveraging. Savings will start increasing only after adequate deleveraging has taken place. This implies prolonged period of abstinence from consumerism.