A survey conducted by the Federal Reserve revealed a slight tightening of credit standards in the last quarter of last year. This reflects the negative effects that the Eurozone crisis is having on our banking system stateside. The survey is called the Senior Loan Officer Opinion Survey on Bank Lending Practices, and it is conducted on a quarterly basis. It culled answers from 56 different banks’ loan officers to get a picture of credit standards in the American banking system.

Last survey, for the third quarter of last year, we saw lending standards loosen a little bit, which was a good sign for the economy. Now, despite the slow turnaround in the economy, some banks tightened credit standards back up, possibly due to exposure to Europe. 

Tightening Ever So Slightly

While most loan officers reported that they haven’t changed their lending standards significantly, some did. About five percent of respondents said they have tightened standards for large corporate borrowers, and seven percent have tightened the maximum size of credit lines. According to the Wall Street Journal, this is the first significant tightening of credit standards since 2009.

This isn’t an alarm bell exactly, but it’s not a good thing, especially considering another finding: that loan demand is up.

The WSJ points out that one pain point from this dynamic is that caused by heightened demand from small firms (defined by the Fed as those with annual sales less than $50 million) combined with tightened lending standards for these firms; 26.4 percent of banks reported that loan demand was up from this group, while 3.8 percent also reported that they had tightened their standards somewhat.

Unlike larger firms,  which the WSJ notes can turn to the bond market if they’re short on cash, small businesses rely on banks to finance expansion.

It should be noted, though, that 3.8 percent of 53 responses to the question regarding lending standards is only two banks — one big bank and one smaller bank. This could be an anomaly, or it might not. The sample size is quite small.

But if it is reflective of a larger trend, it means that our recovery is being hurt by banks’ negative outlook on the future, which might very well be a product of the European debt crisis. In fact, of those who said they were tightening credit standards, 75 percent said that their “less favorable or more uncertain economic outlook” was somewhat important, and 12.5 percent said it was very important. Some big American banks are a bit overexposed to risk in European markets, and though they have made efforts to hedge, these might be made moot in the event of a significant credit crunch.

Good News, Perhaps?

There is some good news in the survey, however. Of those that have eased their lending standards, one of the main drivers was “more aggressive competition from other banks or nonbank lenders.” Forty-five percent said this was a very important factor. That number was 58 percent among big banks.

We wish that the Fed would change this question to split other banks and nonbanks up so the source of external competitive pressure is more clear. It would be interesting to know how much of this external pressure comes from nonbanks, and how much comes from direct competitors. It could shed light on banks’ complaint that they don’t compete on an even playing field with non-traditional financial entities.

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