The Big Idea

Lending standards ease as the economy gains strength

Stephen Stanley | August 6, 2021

This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors.

Getting a read on the bank lending situation can offer a helpful window into financial conditions and often provide insight into how the economy is likely to perform. The Federal Reserve’s latest survey of senior loan officers offered compelling evidence of both easing lending conditions and a strengthening economic picture.

Fed Senior Loan Officer Opinion Survey

Roughly once a quarter, the Federal Reserve canvasses bank senior loan officers for a read on lending standards as well as the demand for various types of loans. The latest survey came out on August 5. Respondents are asked whether loan standards have tightened or eased over the past three months and whether the demand for various types of loans has strengthened or weakened.

Lending standards

It is probably not especially surprising to find that after tightening sharply in the early days of the pandemic, banks’ lending standards have eased substantially in 2021. Starting with commercial and industrial loans and credit lines to mid-sized and large firms, of the 74 domestic respondents, 50 said that standards had stayed the same from three months ago while 24 noted that they had eased somewhat. For small firms, 52 said unchanged while 18 had eased somewhat. None tightened standards for any size customer. The net percentage easing standards was the highest ever in the history of the survey going back to 1991.

The story for commercial real estate loans was more muted. For construction and land development loans and for loans secured by nonresidential properties, standards on balance eased only slightly, with all but a few respondents stating that they were unchanged from three months earlier. The exception was loans secured by multifamily residential properties, where 53 cited unchanged standards, 3 had tightened and 16 had eased.

For residential mortgages, changes in standards varied by loan type. For GSE-eligible loans, standards were largely unchanged. However, for QM non-jumbo, non-GSE-eligible QM jumbo loans, and non-QM jumbo loans, the net proportion of respondents easing standards was substantial. Standards for approving home equity lines also loosened at a noticeable number of banks over the last three months.

Standards for all types of consumer loans were on balance eased. Roughly 30% of respondents were more willing to make consumer installment loans, 40% had eased credit card standards, and 20% loosened auto loan terms. The most common move was to lower minimum credit scores.

Of course, these are diffusion indices, so they tell us which direction standards are heading but not so much whether they are actually tight or loose in an absolute sense. However, the Fed asked special questions in the July 2021 survey to get at that question. Judging current loan standards compared to the period since July 2005, respondents considered that for C&I loans, terms were slightly easier than the midpoint. For CRE loans and residential mortgage loans, standards, though easing, were still viewed as tighter than the midpoint. Similarly, standards for consumer loans were considered tighter than the midpoint, especially for subprime borrowers.

The broad conclusion from these findings is that banks are reacting rationally to an improving economic environment, which means healthier potential borrowers, both businesses and consumers, but they remain reasonably conservative in their approach at this point.

Loan demand

The Federal Reserve’s Senior Loan Officer Survey also asks about the demand for various types of loans. For C&I loans, there was a very small net proportion that saw increased rather than decreased demand, but it would be most accurate to say that demand for loans was roughly steady. However, a significant net percentage reported that inquiries from potential borrowers, potentially a leading indicator for loan demand, had strengthened.

Demand for commercial real estate loans strengthened more significantly over the last three months. Roughly a third of banks reported increased demand for construction and land development loans, almost a quarter reported stronger demand for loans secured by nonresidential properties, and almost half saw firmer demand for loans secured by multifamily residential properties.

Demand for residential mortgage loans was moderately stronger, with the largest net proportions reporting strength for jumbo loans. Demand for home equity lines was on balance steady. Meanwhile, for consumer loans, demand had strengthened considerably for credit card and auto loans, but less so for other types of consumer borrowing.

Follow-up on business borrowing

In the wake of the Fed’s survey, the Wall Street Journal posted a front-page article in Thursday’s print edition on C&I lending that offered additional color. The broad assessment was that companies are loaded with cash and do not need to borrow at the moment. They also have less need to spend because of the supply-side constraints that have crimped production and prevented a replenishment of inventories; one of the biggest uses of C&I lending is to finance inventories. For example, auto dealers are sitting on large unused credit lines because their inventories are depleted.

However, consistent with the Fed’s findings, bank executives reported that businesses are asking about expanded and new credit lines. Demand is coming from companies in health care, industrial products, food products, and wholesale supply. The firms appear to be lining up expanded credit in anticipation of building their inventories back up once supply chain snags unravel.

The article cites a JPMorgan survey of the bank’s commercial-banking clients. 46% expect to increase capital spending and 38% anticipate a rise in their borrowing needs, unusually high percentages. The fact that businesses are upbeat about their prospects and that they are trying to line up more borrowing room is a positive sign that firms are looking ahead to a bright future.

Stephen Stanley
stephen.stanley@santander.us
1 (203) 428-2556

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