Tougher lending standards pose risk to outlook for Fed

WASHINGTON: A recent tightening of credit for US companies is threatening to undermine economic growth, making it less likely the US Federal Reserve will raise interest rates anytime soon.
Federal Reserve Chair Janet Yellen said recently it was still too soon for the central bank to change its view that rate hikes are needed, a position supported by a still-robust pace of hiring that is helping consumers borrow more readily.
But a tightening of lending standards for US businesses and rising corporate credit spreads suggest global financial market turmoil could lead the Fed next month to signal fewer rate hikes this year than the four increases policymakers signaled in December. “Financial conditions are tightening the Fed’s belt,” Deutsche Bank, which expects one rate increase this year, said in a note to clients.
A net 4.2 percent of banks tightened standards on US commercial and industrial loans to small firms in the fourth quarter, the highest level since late 2009, when the United States was just emerging from a deep recession, according to the Fed’s Senior Loan Officer Opinion Survey.
While US banks are still making it easier to get credit cards, tighter credit standards for small companies suggest global financial stress is spreading beyond export-oriented US companies. The question facing the Fed is: How much further will the tightening spread?
Yellen told lawmakers on Wednesday the Fed was assessing the potential impact from tighter lending standards and widening corporate credit spreads but said it was “premature” to decide whether the global shocks could change the interest rate outlook.
“It depends in part on whether they persist,” she told lawmakers at a second hearing on Thursday.
The Fed was in a similar situation in September, when plunging global equity markets — including a 9 percent drop in the S&P 500 in the prior two months — and worries about China’s economy helped convince policymakers to hold off on a rate hike.
Financial markets subsequently recovered and the Fed went on to raise rates in December and signal expectations of four more increases in 2016.
Since then, global markets have soured once again, with European banking shares hit by concerns over Deutsche Bank’s financial health and the potential for a recession in China, the world’s second-largest economy.
Prices for Federal Funds futures suggest investors do not expect any rate hikes this year. Tighter lending standards were a factor leading JPMorgan to increase its view of the chance of a recession in the next 12 months to 32 percent from 21 percent in mid-January.