FDIC Report Suggests Biggest Drop in Lending Since The 1940s

The FDIC released its Quarterly Banking Profile Report (.pdf). While it contains a lot of information, one pretty startling statistic that the Washington Post picks up on is that it implies a huge drop in lending in 2009 -- $587 billion or 7.5%. The Post says this is the largest decline since the 1940s. That sounds pretty awful, especially considering that Washington has been trying to get banks to lend more. But let's think a little more deeply about what's really going on here.

Not Necessarily (But Probably) Less Lending

I dug into the spreadsheet provided by the FDIC that contains the aggregate balance sheet data for the banks it tracks. The line that shows a $587 billion decline is "Total Loans and Leases." In other words, at the end of 2008, banks had $587 billion more loans and leases on their books than at the end of 2009.

This statistic doesn't necessarily spell a decrease in lending, and almost certainly doesn't indicate as large a decline as it implies. The FDIC report doesn't contain statistics for actual new lending. In order to figure out if banks were lending more or less, you should compare the volume of loans originated in 2008 versus in 2009. The number the report (and Washington Post) cites to show that lending has declined doesn't necessarily mean that banks decreased their lending during the year -- just that they have less loan exposure.

Where Did The Debt Go?

So where did it these loans go? Digging into the report and spreadsheet, you find a few things. First, as you probably expect, banks incurred lots of losses during 2009. The report indicates that banks endured $186 billion in net charge-offs during the year. That wiped out 2.4% of their loan exposure.

Second, banks ramped up their capital levels. The report also says that banks' equity capital increased by $177 billion in 2009. They also increased their loan reserves by $54 billion, which is more money they set aside to cover future losses. It's pretty hard to criticize banks for raising their capital levels, given this is another explicit demand of most policymakers in Washington and is likely to be a part of whatever financial reform we end up with. Combined, that would prevent another 2.9% of new lending.

If you sum up all those numbers, you find where $417 billion of that $587 billion decline in loan exposure comes from. This implies that the decline lending that you might choose to hold banks blameworthy for was just $170 billion, or a 2.2% decrease, which is much less alarming.

Another important note: the FDIC spreadsheet shows that the loan exposure of banks at the end of 2009 was $7.29 trillion, more than the $7.23 trillion at the end of 2006. Yet, pretty much anyone who has been paying attention to the trouble the credit bubble caused should agree that banks did too much lending through 2006. But as it turns out, 2009 levels still exceed that.

Less Loan Demand

Still, it's almost certainly true that banks did curb their lending in 2009, even if to a less significant extent than what's superficially reported. Was this just banks being thrifty? That was certainly a part of it. And it's hard to blame them: it's a wholly rational response to develop stricter loan underwriting requirements after you experience a massive market correction caused by too easy lending.

But that's not the whole story. Businesses and individuals are almost certainly exhibiting less demand for loans than they did over the past few years. Their savings levels serve as evidence of this. I noted a few weeks back that companies are hoarding cash. If that's the case, then there's less reason for them to want to borrow.

Back in December, I also wrote that personal savings and borrowing indicate that Americans who are in a position to do are paying down their debt and saving more. Again, if you're saving, then you're almost certainly not borrowing more. And evidence indicates that Americans are actually paying down their loans, which reduces banks' loan exposure.

Through all of this, I find it a little hard to be too angry at banks for shrinking their loan balances. Given their recent loss experience for lending too much, it's completely rational. We're also asking them to hold more capital, which makes it pretty hard to simultaneously lend more. Finally, it's very likely that businesses and individuals are actually exhibiting weaker demand for lending than they did over the past several years.