There is a paper by three economists at the Federal Reserve Bank of Minneapolis that is getting a lot of attention on the Internet today. (How often can you write that sentence?) V.V. Chari, Lawrence Christiano, and Patrick J. Kehoe set out to debunk four myths about the financial crisis:
- Bank lending to nonfinancial corporations and individuals has declined sharply.
- Interbank lending is essentially nonexistent.
- Commercial paper issuance by nonfinancial corporations has declined sharply and
rates have risen to unprecedented levels.
- Banks play a large role in channeling funds from savers to borrowers.
In short, they are saying that despite all the hand-wringing about banks not lending to consumers and businesses, it just ain’t true, and even if it were, most lending isn’t done by banks anyway. The implication, to simplify somewhat, is that we are in a media storm of hype that may itself have negative effects.
While I would love to believe this, I don’t think they make the case conclusively. A few quibbles (for this to be understandable, you may have to look at the original paper):
- Total bank credit has not decreased (Figure 1): This measure includes everything on the asset side except vault cash, so any shift from, say, corporate bonds to T-bills is not reflected here.
- Lending has not decreased (Figures 2-4): First, total lending is a sticky number. When a bank has loaned you money for 30 years to buy a house, they can’t call it in. Similarly, it takes time to reduce credit limits on credit cards. Lehman failed on September 15. Assume it took a week for banks to change their underwriting guidelines in the field (and that would be extraordinarily fast). It takes time for a loan application to flow through the system. How big an impact would you expect to see by October 8, when the authors pulled the data? I would be more convinced by a chart of new lending than one of total loans outstanding. Second, the chart says nothing about duration; one very real possibility is that banks are lending money for short durations but not for long ones.
- Interbank lending is not down that much (Figure 5): Again, this conflates overnight lending with 3-month lending. There is a big gap in LIBOR between those durations right now (although it is smaller than a week ago).
- Non-financial commercial paper is not down that much (Figure 6): This one shows a drop from 9/15 to 9/29 and then no data after that, so I’m not sure. Again, a fair amount of longer-duration commercial paper would not have expired yet, so the number is inherently sticky. Also, it hides any shortening of durations.
- Commercial paper rates are not up (Figure 7): The chart hides a huge jump in commercial paper rates for lower-grade companies. The spread for A2/P2 companies versus AA companies is 4.45 percentage points, up from historical levels of 20 basis points and just 80 basis points this summer. (Thanks to Calculated Risk for this indicator.)
- Banks provide less than 20% of the lending to nonfinancial companies (the rest is in bonds held outside of banks): Yup, this is true. But it ain’t so easy to issue new bonds these days, either.
Besides, like most people, I know that I should be convinced by data, but I place an irrational weight on conversations I have with other people. I just talked to my contractor (bathroom remodel), and he said that he’s been having a tough time all year. One client recently backed out of a job because her bank wouldn’t lend her the money because the equity in her house had dropped. So there. (Yes, I know this paragraph is completely irrational.)
I certainly haven’t proven that they are wrong. It’s possible that there is different data that will prove them right. In particular, if they could show me Figures 2-4, for a few more weeks, showing just new lending activity, I might be convinced. And I want them to be right. But I think it’s too early to blame it all on the media.