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Banks Are Still Lending


The popular tone seems to be that banks are not lending to small businesses. There are counter-examples, and bankers insist they are making loans to those who can offer both some decent collateral and a reasonable prospect of making payments. I conclude that the problem—if it is a problem—is that banks have tightened their underwriting standards.

Banks have to do this because they can’t afford more bad loans. The Federal Reserve requires bankers to hold some small fraction of real assets against all the promises of payment (loans) they hold.

Bankers try to lend as much as they can because that’s how they earn income; interest payments are income to banks. When defaults increase, banks’ real assets are devalued and they do not make as much income. This means more of what income banks do collect must be applied to restoring required reserves, and that money is not available for new loans. To prevent a worsening cycle, bankers have to tighten underwriting so the more risky business propositions can’t borrow like they have in the near-past.

There is also a demand side to borrowing. We hear that banks are not making loans. But we do not hear about the loan requests that are not made because of the slower economy or uncertainty about proposed regulations and taxes.

But, back to the supply side of lending. When banks need to be more careful who they lend to, they can always turn to a borrower with insatiable demand and an almost 100% guarantee of making payments: The Federal Government.

That’s what’s happening:

Chart of government loans vs.commercial loans

The red line is loans to businesses, the blue is loans to government.

In late 2008, when the bubble(s) burst, lending to businesses began decreasing while lending to government resumed rising. In late 2009, government borrowing surpassed commercial borrowing.

Banks are still making plenty of loans. To Uncle Sam.

Businesses are actually paying off debt, improving their financial positions. (The same is true of individual consumers.) Meanwhile, the Federal government is worsening its position.

Bankers keep collecting interest income as long as they make loans. The U.S. Treasury is, in essence, keeping banks solvent and profitable.