uploads///Credit Growth in the US

How Zero-Bound Money Restricts Credit Growth


Nov. 18 2015, Updated 8:53 a.m. ET

Restricted credit growth

Bill Gross, the well-known asset manager who is currently associated with Janus Capital (JNS), recently came out with his Investment Outlook for November 2015. In his newsletter, Bill Gross explains how “Zero-bound money – quality aside – lowers incentives to expand loans and create credit growth.”

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A liquidity trap

When interest rates in the economy are low over an extended period, they tend to create a “liquidity trap.” A liquidity trap is a condition where the general public is prepared to hold on to whatever amount of money is supplied, at a given rate of interest. The public does so because of the fear of adverse events like deflation or recession.

With short-term interest rates at 0%, investors are no longer willing to hold bonds, since money—also paying zero percent interest—at least has the advantage of being usable in transactions. Hence, the increased money supply as a result of accommodative monetary policy is not invested in productive assets and is instead held more as cash.

Credit growth has fallen short of expectations

Moreover, in a situation where the perceived risk in the credit markets seems to be increasing, even lenders pull back on their lending. Lenders refrain despite low-interest rates, as they seek to mitigate losses from the subsequent defaults that an increased credit risk environment entails.

Credit growth has started to slow in the United States. From the 12% annualized growth rate of commercial and industrial credit attained in 2014, the rate is currently down to around 10.8% (current, annualized). Growth in consumer credit is also down to a sluggish 7.5% while consumer loans are at an anemic 4.8% rate of growth. Consumer loans have grown at a 10% rate during periods of boom in the past.

Exchange-traded funds (or ETFs) such as the Financial Select Sector SPDR ETF (XLF), the SPDR S&P Regional Banking ETF (KRE), and the SPDR S&P Bank ETF (KBE), track the performance of such banking and lending institutions in the United States (SPXL).

Good time to take “a little cash off the table”?

In early September, we heard hedge fund billionaire David Tepper of Appaloosa Management say: “You don’t have a cushion of safety in the markets right now,” and that it’s a good time to take “a little cash off the table.”

Gross points out that the current market environment seems to defy the historical logic that says lower borrowing costs should lead to increased borrowing and spending. We’ve explained his reasoning for borrowing or credit growth being limited in the United States. Let’s now take a quick look at why low-interest rates also fail to boost spending, when operative over an extended period.


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