Overview
If you read the credit runes, the US economy looks by some measures to be bang in the middle of another credit crunch. As this week’s Chart Room shows, bank lending surveys’ measure of loan demand in both the United States and the euro zone has fallen faster in the past year than it ever did in the 2008 Global Financial Crisis, or when the dotcom bubble burst a decade earlier. Yet the US stock market, fuelled by hype over artificial intelligence, continues to rise. How much longer can the fundamentals be ignored?
Not forever. Our sense now is that the pressures that appeared primed to pop earlier this year are simply proving substantially more drawn out. The US regional banking crisis this spring added to the stress on the financial sector generally, and bank managers are preparing for a period of real tension over liquidity, deposits, and credit.
US banks have significant funding concerns in response to the flight of deposits over the past year (which led to the regional crisis in March), and euro zone banks have also seen their funding through the ECB’s short-term loan programme cut back. James C. Leonard, CFO at one of the United States’ largest regional banks, Fifth Third Bancorp, warned last month that liquidity conditions are going to tighten markedly over the back half of 2023 as the Treasury launches more than $1 trillion in Treasury-bill sales in the wake of June’s debt ceiling resolution. This, in conjunction with $80 billion in quantitative tightening (QT) by the Federal Reserve every month, should significantly constrict monetary conditions and leave banks competing hard for the remaining available deposits.
Credit is likely to weaken substantially as higher rates permeate through the economy, and we can see that especially in the commercial real estate market in the US. Corporate bankruptcy filings have spiked recently, and banks are scared of throwing good (money) after bad (loans). Their customers are also reading the writing on the wall, and hence demand for credit has sunk.
The big unknown of course is the continuing flexibility and ability of households and businesses to adapt - proven time and again since the start of the pandemic. Even if we are starting to see a minor bump up in unemployment, it is unclear how long it will take for the resulting stress to show up in a fully fledged downturn. But it seems more obvious than ever that it is in the mail - and most likely in the next two or three quarters.
