Charting Banking XVI: loans to deposits

by PlanMaestro

Traditional banking is easy, you pool deposits and loan them. Hopefully to a productive use so you get paid back.

In 2008, most American banks were not over-extended. They didn’t depend on the frailties of wholesale funding.  In contrast, banks in countries suffering a balance of payments crisis like Greece, Italy or Spain and you will see loans to deposits ratios of 120% and more.

Source: Federal Reserve Board

The most severe abuses were not by banks but by shadow banks with the now infamously famous CDOs and other alchemists inventions.  Initially it seemed that investors were going to take losses but for the most part commercial banks were isolated and in consequence also the real economy. The crisis was confined to these shadow banks housing malinvestments. (Wink to the libertarian friends … but the spellchecker still does not recognize the word.)

Until September 2008.

The shadow banks were caught dependent on wholesale funding and their issues reverberated to the rest of the financial system. The moment a few large commercial banks were thought compromised, and Citicorp indeed was a large shadow bank attached to a small domestic deposit base, the crisis reached another tone.

From September 2008 over the next year, a staggering $700 billion in loans dried up despite the government efforts to stabilize them with TARP. And remember that this is traditional banking, it doesn’t included the trillions in shadow banking assets (CDOs, CLOs, CMBS, ABS) which were decimated. The run also affected productive loans, unrelated to the housing issues, and came back to the banks  affecting their pricing of real assets  securing a large percentage of their loans.

The good news is that banks started loaning again at then end of 2009, supported by the initial positive outlook from the FED survey of lending practices. However, we are is still significantly under-loaned and suffering fits and starts.