Lack of Credit Growth Need Not Be a Disaster

The recession may be nearing an end -- in France and Germany, it already may be over -- but is the banking sector strong enough to support a sustained recovery? Can an economy expand if companies and households can't boost their borrowing? The Bank of England this week cited lack of credit growth as one of the main reasons for its downbeat economic forecast. But history and recent evidence suggest its gloom is overdone.

In fact, the early stages of economic recoveries usually go hand-in-hand with continued deleveraging, according to a recent study of all nine post-World War II U.S. recessions by Barclays Capital. In the first year of recovery, net new borrowing almost always lags behind the increase in nominal gross domestic product, incomes and profits so that debt as a proportion of GDP falls. Indeed, stripping out residential mortgages, private-sector borrowing -- both by households and the corporate sector -- actually fell in the first year of recovery in each of the nine recessions.