Financial Market Panic Unjustified
November 19, 2008
The conventional wisdom, as President-elect Barack Obama told 60 Minutes viewers Sunday night (Nov. 16), is that “banks aren’t lending.” But as Jon Hilsenrath reported in the Wall Street Journal the following morning (Nov. 17), banks are lending—in some cases at record levels.
Consider the market for commercial paper, a form of short-term indebtedness, usually unsecured, that many companies use to finance inventories and payrolls.
Earlier this fall, the Fed launched an unprecedented program to support this credit market. As MarketWatch described the initiative, the Fed “will buy unsecured commercial paper in an effort to restart a market that’s ground to a virtual halt in recent weeks.”
MarketWatch explained that the Fed’s purpose is “to get lending flowing again.” It quoted John Ryding of RDQ Economics, who predicted dire consequences “if the Fed doesn’t unfreeze the credit markets.”
Such comments have been extremely common for months. Bloomberg’s Commercial Paper Primer quoted New York University economist Mark Gertler’s statement that “large corporations are having difficulty obtaining funds via the commercial paper market.”
The facts, however, tell a different story. The Federal Reserve System publishes comprehensive data on commercial paper issuance, commercial paper outstanding, and interest rates on commercial paper. I presume these data give us a clearer picture of what’s going on in the markets than hyperventilating Wall Street, media, and political commentators.
Consider first the interest rates for commercial paper. For the past several weeks, 30-day non-financial paper has been going for about 1.5 percent to 2.0 percent; 60-day and 90-day loans in this market have required a slightly higher rate of interest. Financial commercial paper has been going for 2.4 percent to 3.2 percent for 30-day loans; 60-day and 90-day rates have been only a few tenths of a point higher.
Given that the rate of inflation at present is more than 3 percent, and presumably will remain so for the next three months, these nominal interest rates on commercial paper mean that lenders, in effect, are giving away money to corporations that sell commercial paper—since the nominal rates of interest are less than the expected rate of inflation. Is this situation what one expects during a “credit crunch” when lending is grinding to a halt? Hardly.
Many commentators have been claiming that virtually no transactions have been occurring in this market. These claims are false. Daily issuances of commercial paper ranged from $169 billion to $212 billion, on average, for the four week period ending October 24. Total commercial paper outstanding (seasonally adjusted) on October 22, for example, amounted to $1,449 billion. Yes, this was down from the $1,511 billion reported a week earlier and down further from the $1,702 reported four weeks earlier, but is a 4 percent drop for the week or a 15 percent drop for the month a reason to panic?
If we go back to March 2008, when nobody was talking excitedly about commercial paper markets “freezing up,” we find that the total amount of outstanding loans, on average, was $1,822 billion, or only 26 percent more than it was on October 22. In March 2008, the market was working fine; now we’re told nobody is lending. This sort of hyperbole has no basis in fact. Slowing down is not the same as stopping.
For the year 2006, when the financial markets were, for the most part, still ripping along very nicely, the total amount of commercial paper outstanding, on average, was $1,983 billion; for 2007, it was $1,781 billion. For the seven month period, March through September 2008, the monthly average was $1,743 billion. Does a 2.1 percent decline from last year’s average give anyone good reason to jump off a tall building?
Indeed, as Hilsenrath reported in the Journal, banks’ commercial and industrial loans are up from a year ago and have grown “at a 25 percent annual rate during the past three months,” according to Federal Reserve data.
Either there has been a deliberate effort to spook us or the panic-mongers have lost their grip on reality.
The banks are lending. And the commercial paper market appeared to be working just fine without Washington’s intervention.
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