The loan dilemma

By Felix Salmon
December 15, 2009
Barack Obama wants the banks to start lending again:

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Barack Obama wants the banks to start lending again:

This is something I hear about from business owners and entrepreneurs across America — that despite their best efforts, they’re unable to get loans.

I would love to see some empirical data on this, because I suspect that insofar as lending volumes have dropped, it’s more a function of reduced demand than newly-recalcitrant bankers.

Tom Lindmark points to a Deutsche Bank survey of small businesses which puts availability of credit way down the list of problems, and “poor sales” easily at the top. During the credit boom, maybe small businesses, facing a drop-off in sales, would try in the first instance to cover the gap by taking out a bank loan. But nowadays people are much more aware of the dangers involved in taking out a loan you can’t afford to repay: if your business is losing money, borrowing more only makes matters worse. Borrowing for productive investment makes sense; borrowing to cover an operating shortfall does not.

What’s more, I’m still convinced that overall there’s too much credit rather than too little, and that over the long term we want to see a less levered economy, with less debt and more equity. Releveraging now is not helpful in terms of achieving that end, even if it does provide a short-term boost to GDP.

At the same time, there’s been an interesting shift in the leveraged loan market, with its $431 billion of loans coming due before 2014. The banks haven’t done much to address the problem — but the borrowers have, by refinancing into longer-term high-yield bonds. Vipal Monga reports:

Among the most popular avenues for balance sheet restructuring is the high-yield bond market, where companies such as Apollo Management LP- and TPG Capital-backed Harrah’s Entertainment Inc. have been issuing longer-dated bonds to pay off loans. Standard & Poor’s Leveraged Commentary & Data unit notes that so far this year about $20 billion of loans have been refinanced in this manner.

All in all, LCD estimates that this year’s work on the 2012 through 2014 maturities (which includes debt pay-downs, high-yield takeouts, defaults and the amend-and-extend activity that has allowed some issuers to push out maturities) has lowered by 17.2% the total amount of loans due by 2014.

This doesn’t solve the problem, of course, but it does make it slightly more manageable. And when debt is being held by real-money investors rather than by leveraged banks, the systemic consequences of a big wave of defaults are seriously reduced.

None of which means there aren’t huge problems with banks’ loan books. Mike Phillips notes that £14 billion (about $23 billion) of highly-structured RBS commercial-property debt is coming due in 2010, with RBS declaring that it has no intention of refinancing those loans when they come due:

It is a fair assumption that a lot of the borrowers within that £14bn will next year be asking other banks to refinance large, complicated loans that are probably under water.

Even if the current market recovery continues, that is not a likely prospect. This could be one of the first places where we find out what happens when the unstopable force meets the immovable object.

I think it’s pretty obvious what’s going to happen: an entirely predictable, and predicted, wave of commercial-property defaults. The question is whether RBS has deep enough pockets to cope with them. And given that the UK government now owns 84% of the bank, the answer has to be yes.

Insofar as there are creditworthy small businesses out there desperate for funding, then, the banks should extend them credit: that will help create much-needed jobs and growth. But I’m not sure just how much demand there is for small-business loans with a high likelihood of being repaid. And more generally, I’m not sure that banks’ loan books shouldn’t be shrinking rather than growing.

Update: Ryan Avent adds some smart thoughts.

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Comments
5 comments so far

I don’t want to scream out “You lie!”, but the O-Man’s comment defies credulity.

The DB survey backs up what economist William Dunkelberg of the NFIB has been saying. He’s also the chairman of a small, young bank, and he doesn’t see much loan demand out there. Check out his recent interview on Bloomberg Radio’s “On the Economy.”

Posted by Mega | Report as abusive

No confidence, no loans, that is the issue and confidence is going to take some time.

If we get no significant change is financial regulations then there will be less basis for confidence and the recovery will be tepid.

That may get Republicans back in power which should be the straw that breaks the camel’s back when they lower taxes and increase spending again.

Posted by jstaf | Report as abusive

Lack of availability of simple credit – to cover float, not for risk taking, has caused more damage to our business than the recession. We cannot hire. We cannot take risks to acquire customers, despite the fact that we are highly profitable. We simply cannot get the credit to float new receivables.

In our case, our bank will likely be closed by the Feds in the next six months. But they have done so much damage to us, it will take another year before we can find a new bank. And to make matters worse, our bank not only engaged in risky loans, but lent us beyond their legal limit without informing us. The execs lost their jobs, but that’s no comfort to the people in our company who lost theirs.

This is a ten year old, 100M business at 15% ebitda. It’s not like I don’t understand the system we operate in. but if we distorted the system to get into this mess, we need to distort the system to get out of it.

Posted by CurtD59 | Report as abusive

The answer as to why lending volumes have dropped is not complex. Loans are simply not being provided to individuals or businesses because lawmakers, regulators and lenders have promulgated initiatives that, during a significant economic downturn, have reduced borrowers credit worthiness.

Lending institutions significantly tightened lending criteria on mortgages and business loans.

Newly enacted credit card regulations resulted in across-the-board credit line reductions on individual and business lines, reducing their credit worthiness while allowing increases in fees and credit interest rates to rise to 29.99% per annum.

The majority of lending institutions providing Small Business Administration lending, refused to lend to small businesses under the newly enacted government loan guaranteed ARC loan program.

Lower real estate values reduced both personal and business equity, further lowering individual and business credit worthiness.

Widespread unemployment lowered personal credit worthiness on greater than 15% of the US population.

The economic downturn reduced business cash flow, resulting in widespread reductions in business credit worthiness.
______________________________________

Fostering the idea that there’s a lack of credit demand is an attempt at pure deception. Regulator and lender initiatives have negatively impacted borrower’s credit worthiness during a period of an unprecedented economic downturn and massive unemployment.

Lower individual income, reduced business revenues, losses in real estate equity, across-the-board credit line reductions, credit interest rate hikes, tightening of lending criteria and institutions unwilling to provide government guaranteed loans are some of the primary reasons as to why there is a lack of lending.

It’s not for a lack of demand as the author purports, it’s because regulations governing consumer and business credit were quickly enacted and carelessly engineered.

The net effect is that lawmakers, regulators, and lenders have together designed an environment allowing broad reductions in personal lines of credit and a significant tightening of lending during a period of lower personal incomes, lower net worth, unprecedented unemployment and lower business revenues.

The result is that businesses and individuals fail because of a lack of available credit.

Posted by Considered | Report as abusive

“CurtD59″ has nailed it. There is still near ZERO credit for float to small businesses right now – even profitable ones.

Your looking at this through reports and math reminds me very much of exactly what you just said about Tishman Speyer and Stuy town. Go out into the real world. The small business credit crunch is a MESS still.

Posted by RIckWebb | Report as abusive
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