Nearly half of US banks are tightening their lending standards, according to a new quarterly survey from the US Federal Reserve Bank.
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With the economy sending mixed signals about a potential recession, investors and policymakers are paying close attention to bank lending. The less lending that banks do, the more likely that firms of all stripes are to cut back on investment, which in turn slows the growth of employment and the economy overall.
The latest data come from the Federal Reserve’s senior loan officer opinion survey (SLOOS). Senior loan officers oversee underwriting at banks or other financial institutions; the Fed talked to officers at 65 banks between March 27 and April 7.
Since March 2022, the Federal Reserve has increased its benchmark interest rate from 0% to a range of 5% to 5.25% in an effort to battle elevated inflation.
Banks are gradually raising the cost of business loans
Today, 46% of the banks consulted by the Fed have raised the cost of financing for commercial and industrial loans (C&I) to mid-to-large businesses as of the first quarter this year, which is a slight increase from 45% in the survey from the previous quarter. C&I loans are important for helping businesses expand their operations and finance new equipment among other things.
The monetary policy committee at the Fed had access to the results of this survey before they made their decision to hike by 25 basis points, so the new data is unlikely to impact whether the Fed pauses or hikes again in June.
Not only are the Fed’s interest rate hikes raising the cost of capital for banks, but the recent spate of regional bank failures—Silicon Valley Bank, Signature Bank, and First Republic Bank—has also rattled public bank stocks and made lenders more skittish as they fret about potential deposit flight. This is the first Fed survey of bank lending to be released since these banks failed.
“Although banks of all sizes cited the same reasons for tightening, mid-sized and other banks more frequently cited the bank’s liquidity position,” the Fed wrote in its SLOOS report.
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Recent news from the Federal Reserve regarding interest rates has rippled throughout the economy, forcing U.S. banks to pull back on lending. The central bank recently announced plans to raise the interest rate for the fourth time in 2018, in a move that could dampen borrowing activity.
As a result, many banks have tightened their lending policies in order to limit their exposure to further rate increases. This has left many prospective borrowers and current loan holders in a precarious situation, as they struggle to secure the financing they need.
The effects are especially pronounced among smaller businesses, as larger firms often have better access to financing. Small business lending is also more vulnerable to changes in the rate environment, as loans often come with adjustable rates that can rise quickly if market conditions change.
In addition to the direct impact on borrowers, the rate hike is also creating financial market volatility, which has further contributed to the banks’ decision to pull back on lending. Equity markets have reacted sensitively to the rising rates, with the Dow Jones Industrial Average dropping more than 1,000 points following the announcement from the Fed. This has made lenders wary of making further commitments, as the uncertainty of the market makes loan losses more likely.
For those seeking credit, it could be a long wait until markets become more stable. In the meantime, banks are likely to continue to be cautious with their lending in order to avoid further losses. Borrowers hoping to secure financing will need to work even harder to prove their creditworthiness and demonstrate that they can weather any turbulence should markets remain volatile.
