What Credit Crunch?

Paul Krugman points to the new Federal Reserve senior loan officer survey which reports that standards for commercial real estate loans are tightening creating in Krugman’s words "an incredible credit crunch in progress."

Over at Carpe Diem, however, Mark Perry looks to Federal Reserve data on actual loans and finds that commercial loans from large banks are at an all time high and increasing rapidly.

The credit crunch, if that is what one should call higher standards, appears to be contained to the real estate market.



I can see how loan officers would say "oh sure, we're tightening." And at first sight I believed the Fed report. Maybe the Fed's report is a little more forward looking ... future intent.

Is there any way to measure this from the customer side? How would we know what small and medium business feel about their credit lines?


Shouldn't some of that commercial loan growth be involuntary lending by the banks to customers drawing down preexisting lines of credit when the capital markets shut down? Note the huge spike right after the credit crunch began in the summer.


Finally a subject on this marvelous site that I know something about; two jobs ago I was the Senior Lending Officer of a community bank in suburban Maryland and completed the Senior Lender’s survey quarterly and in my last job one of my responsibilities was analyzing it to assess market conditions for my non-bank small business real estate lender employer.

Student—loans outstanding continue to grow because banks have commitments outstanding for fundings that they are contractually obligated to fund. The “cycle time† for loan origination is typically months for initial contact, underwriting, approval and closing. Additionally, and especially for real estate construction loans, the funding time can be years for a project. And, if the borrower gets in trouble the bank will continue to fund the loan because a completed empty building/house/condo is easier to sell in liquidation than a half-built building/house/condo. Which is why you still see so much residential construction going on in markets with no demand.

I consider loan funding data to be a lagging indicator because conditions may change but banks are still funding last year’s, or even two or three years ago’s, commitments.

The market for all real estate loans is in the toilet, especially construction, which today is most of the real estate market that banks originate for portfolio. Longer term commercial mortgage loans are quickly securitized and competition from non-bank originator sources is tremendous and cut throat. If a borrower is willing to pay the risk premiums over treasuries demanded today they’ll have no problem finding money from a number of sources if the deal passes underwriting.

While I have no data to back this up I know from discussions with former colleagues that bank money is available almost everywhere for small, medium and large business loans. Pricing and underwriting discipline have returned to the market and the excesses the market saw in 2003-2005 (e.g., no cash flow underwriting “stated income† loans are gone, as are ridiculously high collateral advance rates or high cash flow multiple business valuations) are gone. Business borrowers with reasonably strong balance sheets, positive cash flows, good management and expectations for continuation can find money. But the spreads over Prime, LIBOR, or whatever rate index is being used, are now much higher.

Dr. Krugman is letting his politics, yet again, influence his analysis.

Krugman is charting commercial real estate loans, Perry is charting commercial and industrial loans. Papayas to bananas. No country and MAS are on the right track.

Krugman is not even charting loans. What he is charting is the percentage of loan officers who say standards for real estate loans have "tightened."


nocountry and MAS are correct. C&I loans by banks rose because of the liquidity needs that resulted from the collapse in credit markets, in particular asset-backed commercial paper. ABCP and their veihcles, the notorious SIVs, have special provisions to ensure the support of a bank credit line in case market liquidity should dry up, as it was the case in the summer. These arrangements are known as "liquidity back-stops". Here a good primer on the structure of these financial instruments:


The risk is that, as banks face increasing obligations to meet the liquidity needs by SIVs to support ABCP and other asset-backed securities, their balance sheets will come under pressure, and credit to other borrowers will be curtailed.


You know, I found the same Federal Reserve Report by a different path, even before the Krugman post. Is that why I see it less "Pauls?"

The MarketWatch story I saw

"Banks are raising their credit standards for mortgages, consumer loans and commercial real estate loans at a pace never seen in the 17-year history of the Fed's quarterly survey of senior bank loan officers, the Fed said."

What the "Fed said" struck me as significant in itself.

(I see that the MarketWatch article is dated 2 hours earlier than the Krugman post. Heck, when I blogged the MarketWatch story maybe I beat Krugman.)

Unless tightened credit in real estate is offset by looser credit elsewhere, then, yes, it is a credit crunch, even if it is only returning to where it should have been all along.

1) I do not have the data in front of me, but residential refinancings have not gone up dramatically despite the number of applications that have. This means that borrowers are putting in more applications because the probability of getting rejected has gone up.

2) Rates on Jumbo loans have gone up by at least 75 bps and these are for high income earners with good FICO scores. This would be helped by the proposal in Congress to temporarily raise the conforming limit to ~$600K.

3) LIBOR delinked with Fed Funds temporarily and actually increased when the Fed was cutting. It did eventually relink, but has risen 7 bps in the last two days. For those of you who didn't know it, a huge amount of corporate loans are pegged to LIBOR.

The other factor to consider in looking at this data is what is happening in other markets.

The bond market has been closed to many poorer credits. As a consequence these poor credits are drawing on long established bank credit lines that the banks have a legal obligation to fulfill.

That happens to a certain extent every cycle, but it is bigger than normal this cycle. Typically at or around cyclical peaks this type of behavior inflates C&I loans. That is why C&I loans are considered to be a lagging not leading indicator.


What you said would make sense if Mr. K had been complaining about a credit crunch in 2001-2003. Seems like most of the drop was a consequence of the sluggish economy then, from which we have recovered smartly. Comparing current loan volume to 2000 just before the recession is - dare I say - Krugmanesque.

It is amusing to watch little Paul toss out his poorly thought out posts and leave his admirers to provide justification ex post facto.

Well Spencer, I don't think I need a 20-year old book to see flaws in your arguments. In one post you claim that C&I loans are 25% below their 2000 peak (in constant dollars), supposedly supporting PK's argument. But then you say:

"NO RICH -- Comparing credit demands now in real terms shows how the sources of credit in the economy have changed this cycle. In the old days banks loans were the dominant source of business credit. But over the cycles firms have developed methods of directly taping credit markets so bank lending does not play as nearly an important role in providing business credit now as it use to. That is why real C&I loans are now much smaller then they were in 2001."

Your second post seems to undercut the earlier one. How do you reconcile the two?

the two are perfectly compatible. Overall C&I loans are much less important then they use to be. But in the middle of 2007 when other sources of credit dried up firms returned to the banks and we saw a pop in C&I loans. but towards the end of the year this short run pop also faded.

What was supporting PK's argument was that it was just a minor pop in the middle of the year.

You will have to better then this.


I give up. I have no idea what your argument really is. Have a nice day; see you 'round.

Good post, Andrew. Both opaque structured finance debt and risky private equity deals are shunned.

I suppose you could call it a credit crunch, but it seems like the risk premium went from almost nothing during the private equity boom to a much more significant number. http://calculatedrisk.blogspot.com/2008/02/junk-bond-defaults-expected-to-rise.html

As a comment on "What Credit Crunch" and the thoughts about how commercial lending is at an all time high, wait 1 year and we will see what happens to the commercial credit crunch. With supply currently outstripping demand for commercial loans and the residential real estate market in contraction mode, we must think about what effects the recession will have on commercial lending standards and commercial real estate values.

As the economy slows and anticipated closings of many retail establishments that accompany a recession, commercial owners will find their ROI's diminishing and rent premiums disappearing quickly. With demand slowing for retail space in many locations, the subsequent values of the commercial spaces will drop in value. Just take a look at industrial real estate values as they plummet. The same effect as in the residential market as investors paid very high premiums for properties is taking place in commercial real estate. Banks are going to be left with these properties that become foreclosed on. When this does take place, the commercial credit crunch will become realty just as it has become in residential.

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