Monday, September 29, 2008
Recently, I argued that the Federal Reserve Bank loan data painted a picture that differs sharply from the mainstream media’s representation of the loanable funds market. I still am of the opinion that issued bank credit is not as bad as the media’s banter would have you believe, but going forward, anecdotal evidence suggests that a credit crunch may be on the horizon. Credit card companies are increasing rates on revolving credit significantly.
At the beginning of September, I reported this about bank loans:
The chart illustrates consumer loans and commercial and industrial loans (business loans) in levels and in growth rates on a weekly basis spanning 2000-2008. Consumer loans are growing at a healthy rate, 8.8% four-week average, since June. Likewise, commercial and industrial loans are growing, 13% four-week average, but admittedly down from their peak (around 22%) and consistent with levels earlier in the year. Through 9/17/08, loan data for consumers and firms do not illustrate a credit crunch.
However, what is not depicted in the chart is the type of loan that is extended. Are these newly-originated loans? Or are consumers and firms simply drawing on lines of credit?
The chart illustrates weekly consumer loans broken up into revolving credit (credit cards) and "other" types of consumer loans. Revolving loans account for the smaller share of total consumer loans, roughly 40%, and have been accelerating since July. On the other hand, other loans account for the larger share of total consumer loans, roughly 60%, and have been either constant or falling since the end of July. Therefore, revolving credit has been the driving factor in recent consumer loan growth.
According to Fortune Magazine: “When John Dykstra got his September credit card bill from Advanta, a small-business card issuer, he was shocked: Dykstra says he has a good credit score and has never missed a payment, but his interest rate had jumped from 7.99% to 26%.
He was even more shocked by the explanation: A brochure in the mail told him he needed to be aware of the 'continually changing business environment.'
He's not alone. Card issuers from Bank of America to Capital One are using the economic crisis as a reason to raise rates. According to Consumer Action's 2008 survey of card companies, Bank of America, Citi, and Capital One have recently said that "market conditions" could cause them to increase APR's.” RW: Revolving lines of credit will start to fall with the rising cost of borrowing (rising credit card APRs). Going forward, the chart for consumer loan growth will look much more like what the mainstream media has been reporting all along: “Simply put, the meltdown on Wall Street has made it tough for many Americans to get a loan to buy a home, purchase a car, start a business or even send a kid to college.”…”And with all the talk of a credit crunch -- some are even calling it a credit freeze -- it may get even tougher.” RW: The story may be the same with commercial and industrial loan growth, which looks healthy in the data, but may simply be recording businesses drawing on already-in-place lines of credit. The Financial Ninja reported anecdotal evidence to this fact in Bank of America Not Lovin' It: “Can you say CREDIT CRUNCH?
McDonald's Says Bank of America Won't Boost Loans (Update3): “McDonald's Corp., the world's largest restaurant company, told some U.S. franchisees to seek other ways to finance store improvements after Bank of America Corp. declined to increase lending.
Store owners have exhausted financing used to pay for upgrades and equipment to make lattes and espressos, and Bank of America won't provide more money as it works on the planned purchase of Merrill Lynch & Co., McDonald's said in a memo that was obtained by Bloomberg News.”
Sorry, we can’t make productive loans because we are too busy digesting the toxic waste we’ve acquired…” Conclusions
Recently, rising prices have forced consumers to draw on their credit cards (revolving lines of credit) more and more to finance everyday purchases like gasoline and food, and increasing credit card APR’s will force consumers to cut back on their credit card borrowing; this will almost certainly curtail consumption. Further, evidence suggests that commercial and industrial lending is set to fall as lines of credit dry up, forcing businesses to cut back on investment. Get ready for a rocky fourth quarter.
I was much more positive about the economy in July, but the trends across several key indicators have worsened. Although it is unlikely that the U.S. economy was in a recession in July, it is becoming more likely that the National Bureau of Economic Research (NBER) will date the fourth quarter of 2008 as a recessionary period.