Tightening of lending standards continuing to come down, July loan survey finds

By Sara Rosenberg

New York, Aug. 17 - Domestic institutions continued to tighten their lending standards and terms on commercial and industrial loans over the past three months, but the amount declined since the April survey, according to the Federal Reserve July Senior Loan Officer Opinion Survey on Bank Lending Practices.

About 30% of domestic respondents, on net, reported tightening standards on loans to large firms over the past three months, down about 10% from the April survey, and standards on loans to small firms were reported as having been tightened by a net fraction of about 35% of domestic respondents, down from more than 40% in April.

In addition, tightening of the various terms on loans by domestic respondents continued, but, in general, the net fractions that reported tightening continued to fall from their late-2008 highs.

About 60%, on net, reported increasing spreads of loan rates for large firms, compared with 80% in April, and for small firms, about 65% reported increasing spreads, compared with 75% in April.

Significant net fractions of respondents continued to report tightening of other price terms on loans to firms of all sizes. Specifically, the costs of credit lines and the premiums charged on riskier loans were reported as having been tightened by net fractions in excess of 50% of respondents.

Domestic banks mostly reported a less favorable or more uncertain economic outlook, a worsening of industry-specific problems and a reduced tolerance for risk as important reasons for tightening credit standards and terms on loans.

As for demand, banks continued to see a decline, with about 45% of domestic respondents reporting a further weakening from large firms, and about 55% reporting weaker demand from small firms.

Domestic banks unanimously said that they saw weaker demand indicated that a decrease in their customers' needs to finance investment in plant or equipment was an important reason for the change. The other predominant reasons for weaker demand included decreases in their customers' needs to finance inventories, accounts receivable, and mergers and acquisitions.

Also, about 25% of domestic respondents reported that inquiries from potential business borrowers had decreased during the survey period, a slightly smaller percentage than was reported in April.

The survey also included a special question asking banks to rank the relative importance of five potential sources of the decline in lending this year.

According to domestic banks, the most important factor, on average, was lower loan demand from creditworthy borrowers because their funding needs had declined, followed by a deterioration in the credit quality of potential borrowers. Despite strong corporate bond issuance over the past few months and improved functioning in the commercial paper market, domestic banks indicated that one of the two least important factors among those listed on the survey was the ability of borrowers to tap other sources of funding. Respondents also indicated that higher loan spreads and fees were relatively unimportant.

In response to a second special question, most banks reported that they expected their lending standards across all loan categories would remain tighter than their average levels over the past decade until at least the second half of 2010.

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