Senior Loan Officer Opinion Survey: January 2007

January 2007

The January 2007 Senior Loan Officer Opinion Survey
on Bank Lending Practices

The January 2007 Senior Loan Officer Opinion Survey on Bank Lending Practices addressed changes in the supply of, and demand for, bank loans to businesses and households over the past three months. The survey also contained special questions about changes in terms on commercial real estate loans during 2006, the effects of the 2005 bankruptcy reforms, and expected changes in asset quality over 2007. This article is based on responses from fifty-seven domestic banks and twenty-two foreign banking institutions.

Overall, the survey respondents reported mixed changes in lending standards and terms in January, while demand for most loan types was reportedly somewhat weaker. Domestic and foreign institutions noted that they had eased some terms on commercial and industrial (C&I) loans over the past three months, while credit standards on such loans had changed little. By contrast, domestic respondents indicated that they had tightened credit standards on commercial real estate loans over the previous three months. Demand for C&I loans at domestic banks was reportedly little changed, on balance, in the January survey, while demand for commercial real estate loans at these institutions was said to have weakened over the past three months. Foreign institutions, by contrast, reported that they had experienced stronger demand for commercial real estate loans over the same period. In the household sector, domestic respondents noted that they had tightened credit standards on residential mortgage loans over the survey period, while demand for such loans continued to weaken. Lending standards and terms on credit card and non-credit-card consumer loans were little changed in the January survey, but a considerable net fraction of domestic banks reported that they had seen weaker demand for consumer loans over the past three months.

C&I Lending
(Table 1, questions 1-6; Table 2, questions 1-6)

In the January survey, domestic institutions reported that credit standards on C&I loans to large and middle-market firms were unchanged, on net, over the past three months. These respondents, however, noted that they had eased some terms on C&I loans to such firms over the same period. Forty-five percent of respondents—a somewhat larger net percentage than in the previous survey—indicated that they had trimmed spreads of loan rates over their cost of funds over the past three months, while smaller net fractions reported that they had eased loan covenants or reduced the costs of credit lines. Credit standards on C&I loans to small firms were also reportedly little changed, on balance, in the January survey, but 30 percent of domestic banks, on net, reported that they had trimmed spreads of loan rates over their cost of funds for such customers over the past three months.

As they did in the previous survey, U.S. branches and agencies of foreign banks reported that their standards on C&I loans had changed little over the past three months. However, significant net fractions of these institutions indicated that they had increased the maximum size of credit lines, eased loan covenants, and narrowed spreads of loan rates over their cost of funds.

Nearly all domestic banks and all U.S. branches and agencies of foreign banks that indicated having eased their lending standards and terms in the January survey cited more-aggressive competition from other banks or nonbank lenders as the most important reason for having done so. A significant percentage of domestic institutions also pointed to a more favorable or less uncertain economic outlook, while considerable fractions of foreign institutions cited increased liquidity in the secondary market for such loans and increased tolerance for risk as reasons for their move toward a less stringent lending posture.

At both domestic and foreign institutions, demand for C&I loans was reportedly little changed, on balance, over the past three months. Among domestic institutions that experienced stronger demand for C&I loans, more than 80 percent cited a rise in merger and acquisition activity as a reason for the strengthening in demand, while about two-thirds pointed to borrowers' increased needs to finance investment in plant or equipment. Among domestic respondents that saw weaker demand for C&I loans, about two-thirds attributed the softening to borrowers' decreased needs to finance investment in plant or equipment, while one-half cited borrowers' decreased financing needs for accounts receivable or a shift in customer borrowing to another bank or to nonbank sources of credit.

Regarding future business, a small net fraction of domestic respondents indicated that the number of inquiries from potential business borrowers had decreased over the previous three months. By contrast, about 10 percent of foreign respondents, on balance, reported that the number of inquiries from potential business borrowers had increased in January.

Commercial Real Estate Lending
(Table 1, questions 7-10; Table 2, questions 7-10)

About one-fourth of domestic institutions—a somewhat smaller net fraction than in the October survey—reported that they had tightened lending standards on commercial real estate loans over the past three months. Thirty-five percent of domestic respondents—a slightly larger net percentage than in the previous survey—indicated that they had seen weaker demand for such loans over the same period. At foreign institutions, by contrast, lending standards on commercial real estate loans were unchanged, on net, in the January survey; in addition, about one-fifth of these institutions reported that they had experienced stronger demand for such loans.

For several years, the January survey has asked banks to report the changes over the past twelve months in various commercial real estate loan terms. This year's responses indicate that at both domestic and foreign institutions most terms on such loans were little changed, on net, over the past year. However, 55 percent of domestic respondents, on balance, reported that they had trimmed spreads of loan rates over their cost of funds, while relatively small net fractions of foreign respondents noted that they had increased maximum loan sizes or reduced debt service coverage ratios. Nearly all domestic banks and all foreign institutions that had eased terms on commercial real estate loans over the past twelve months cited more-aggressive competition from other banks or nonbank lenders as the most important reason for having done so.

Lending to Households
(Table 1, questions 11-20)

On balance, about 15 percent of domestic banks reported that they had tightened credit standards on residential mortgage loans over the past three months, the highest net fraction posted since the early 1990s. Almost 40 percent of domestic institutions—a somewhat smaller net fraction than in the October survey—indicated that demand for such loans had weakened over the previous three months.

Domestic respondents reported that their willingness to make consumer installment loans was little changed in the January survey. Similarly, standards and terms on credit card and non-credit-card consumer loans had reportedly changed little, on balance, over the previous three months. One-third of domestic institutions indicated that they had experienced weaker demand for consumer loans, a slightly smaller net percentage than in the previous survey.

A set of special questions asked domestic banks about the effects of the bankruptcy reform legislation that took effect on October 17, 2005. Virtually all domestic respondents reported that they had not changed their lending policies for credit card loans in response to the reforms. Two institutions indicated that they had tightened credit standards for approving applications for credit card loans. About one-fourth of domestic institutions indicated that, after accounting for changes in their lending standards and terms, they anticipate that their chargeoffs on credit card loans will be lower in the long term as a result of the reforms.

Special Questions on the Outlook for Loan Quality in 2007
(Table 1, questions 21-22; Table 2, question 11)

A final set of special questions queried banks about their outlook for delinquencies and chargeoffs on their loans to businesses and households in 2007 under the assumption that economic activity will progress in line with consensus forecasts. Overall, the responses suggest that banks expect a deterioration in loan quality this year. About 45 percent of domestic respondents, on net, reported that they expect the quality of their loans to businesses—including both C&I and commercial real estate loans—to deteriorate somewhat. At U.S. branches and agencies of foreign banks, the fraction of respondents that expected a decline in the credit quality of loans to businesses was somewhat smaller. About 35 percent of domestic institutions, on balance, indicated that they anticipate that the quality of both credit card and non-credit-card consumer loans will deteriorate in 2007. A similar net fraction of domestic respondents reported that they expect the quality of their traditional residential mortgages to decline. One-half of domestic banks, on net, reported that they expect a worsening of the quality of their nontraditional residential mortgage loans this year; a few institutions noted that they anticipate that the quality of such loans will deteriorate substantially in 2007. Banks were asked the same set of special questions about their outlook for loan quality in the January 2006 survey. A year ago, the net fraction of institutions that anticipated some deterioration in credit quality was notably smaller for loans to both businesses and households.

This document was prepared by Fabio Natalucci with the research assistance of Arshia Burney, Division of Monetary Affairs, Board of Governors of the Federal Reserve System.