One has to go back to 2011 to see commercial and industrial loan growth this slow according to the Fed’s weekly data released late Friday. The y/o/y gain moderated to 2%. It was growing at an 8% y/o/y pace around the time of the US election and the y/o/y increase was almost 11% one year ago. This weakness is not new and has been highlighted multiple times over the past few months. On an absolute dollar basis, outstanding C&I loans are at the same level they stood at 7 months ago. See chart.
COMMERCIAL AND INDUSTRIAL LOANS:
Total loan growth has slowed to a 3.8% y/o/y growth rate. This pace was 6.4% in 2016 and was growing at 7% y/o/y last November. Is it in response to higher interest rates as 3 month LIBOR has almost doubled over the past year? Is it is due to the unknown’s of the timing of tax, regulatory and healthcare reform? Is it just a natural exhaustion of economic growth as we’ve pulled forward a lot of economic activity already and thus there is no more pent up demand? Is it companies tapping the capital markets instead of banks? I’ll answer all of the above.
With respect to auto loans, in a replay of the mid 2000’s, Moody’s last week said that Santander Consumer USA Holdings, a large subprime auto finance company, checked the income on only 8% of individuals they lent to and whose loans ended up in ABS securities that Moody’s rated.
All this loan data release follows comments from non voting FOMC member James Bullard on Friday who said he would go along with a rate hike in June if voting but also said the case for a hike “is not looking that great” because of the mediocre economic data he’s seen of late. On the other hand he believes the Fed should get on with reducing the size of its balance sheet. Therein lies an inherent contradiction in Bullard’s comments. He and other Fed members, including Yellen, think that reducing its size will just be some benevolent process that won’t be a big deal. I strongly disagree, again considering the dramatic impact on markets when QE was full on. A smaller Fed balance sheet is quantitative tightening just as the enlargement of it was quantitative easing. The other thing that amazes me is Bullard and others are now arguing that QE should be used again if needed to ward off future downturns. They therefore have not looked at their own record that QE completely failed in generating sustainable economic growth with their own actions as evidence. They can argue that QE1 was to ‘save the financial system.’ I’ll give them that but the only reason we had QE3 was because QE2 and Operation Twist failed in its stated purpose. And QE3 failed in helping the economy as well. It only blew up more asset bubbles instead. I’ve always said that introspection and self criticism do not exist within the walls of the Federal Reserve.
We enter the week with the 2s/10s spread at just 96 bps for the 3rd straight day which compares with 100 bps on election day. It’s becoming clear the reasoning and that is a Fed that is intent on raising short rates due to their statistical employment and inflation hurdles having been met (and thus backward looking viewpoints) and market worries about how the economy will handle that reflected in the drop in long rates. When you see loan data like we’re seeing in the 9th year of an expansion, you can’t blame the market for this flattening.
2 Year Yield
10 Year Yield
While a touch below expectations, the Japanese trade data continues to point to a turn up in global trade. In April exports grew by 7.5% y/o/y vs the estimate of up 8%. It’s the 5th straight month of gains and follows 14 months in a row of declines. On a volume basis, exports were up by 4.1% y/o/y with growth to all 3 major regions. Imports were higher by 15.1%, a touch above the estimate. Bottom line, after seeing Japan’s economic data for Q1 last week where nominal growth actually shrunk, exports are the key bright spot. Also, this run in exports happened without any help from the yen and points instead to an improvement in global economic trade which for more than year prior was a major drag. The Nikkei closed up almost .5% while the yen is down slightly. JGB yields closed up small.
The euro is jumping to the highest level since late September vs the US dollar after German Chancellor Merkel chimed in on the FX markets. It was a strange audience as she spoke to a group of students in Berlin and said “The euro is too weak, that’s because of ECB policy, and so German products are cheap in relative terms. So they’re sold more.” The context she was saying this in was in her description over why Germany has such a high trade surplus but the euro moved anyway. With regards to Mario Draghi, the Germans are already lobbying for a German replacement when he exits stage left in 2019. I continue to be bullish on the euro and extremely bearish on European bonds as that epic bubble is on its last legs as the ECB further tapers.