All Access Week: Commercial Banking Monitor

Welcome to The Observatory. The Observatory is how we at Prometheus monitor the evolution of the economy and financial markets in real time. The insights provided here are slivers of our research process that are integrated algorithmically into our systems to create rules-based portfolios.

Our primary takeaways are as follows:

  • Over the last year, bank credit growth has improved modestly, primarily driven by increasing deposits and drawdown of cash assets.
  • This improvement in banking credit has remained a support for the overall credit impulse in the economy. Additionally, manufacturing sales have also sequentially increased driven by a positive credit impulse. The combination of these dynamics supports a growing economy.
  • While credit conditions have improved, they are far from the dominant driver of growth conditions during this growth cycle, with incomes dominating GDP conditions. Even a further improvement in credit conditions is unlikely to have a dramatic effect on broader growth today, keeping us in a regime of a Slowing, But Growing economy. In the context of markets, our Alpha Strategies remain long stocks and bonds, and short commodities.

Banks are the primary source of credit in the economy. Banks expand and contract credit as a function of how many deposits they create relative to the amount of cash they keep. We begin by showing our latest tracking of bank credit outstanding, and its major drivers. The recent change has been primarily driven by a significant drawdown of cash assets:

To offer further context, we zoom out to show how these drivers have evolved over the last year to impact bank credit growth. Over the last year, bank credit growth has sequentially increased, driven by increasing deposits:

Diving deeper into the composition of credit, we examine how the distribution of credit grows into industrial activity, real estate, and consumption. Over the last year, the modest expansion of bank credit has been driven primarily by real estate and other loans, while commercial & industrial as well as consumer loans have been negligible:

While banks predominantly lend to the real economy to generate returns, they also have the option to allocate capital to securities. All else equal, an allocation to securities at the expense of credit expansion is typically detrimental to economic growth conditions. We visualize banks’ security investments below. Over the last year, banks have modestly increased their allocation to Treasuries & MBS:

Now that we have examined the primary asset-side shifts that have driven credit growth, we turn to liabilities. Particularly, we zoom in on deposit growth as they are the dominant driver of liability growth. Over the last year, deposits have contracted as we have seen a significant decline in checking & savings deposits. On the other hand, time deposits have shown expansion, catalyzing a modest acceleration in the overall trend in bank deposits:

Next, we show how the slowdown in bank credit has made its way into the economy. Below, we visualize our estimates of the credit impulse present in nominal gross investment in the economy. As we can see below, the credit impulse has sequentially increased and credit pressures have diminished significantly, thereby supporting aggregate investment conditions. However, the contribution remains minimal:

Finally, we isolate the sector most exposed to changes in bank credit conditions: manufacturing. Manufacturing activity involves significant leverage and debt service burdens; as such, the availability and price of credit significantly impact manufacturing activity. Currently, the yearly change in the manufacturing credit impulse remains positive, which is supportive of sales. Nonetheless, the profit pressures are sizeable and therefore remain a future headwind for the credit impulse. We visualize this below:

Overall, bank credit growth has improved modestly, primarily driven by increasing deposits and drawdown of cash assets. This improvement in banking credit has remained a support for the overall credit impulse in the economy. Additionally, manufacturing sales have also sequentially increased driven by a positive credit impulse. The combination of these dynamics supports a growing economy. While credit conditions have improved, they are far from the dominant driver of growth conditions during this growth cycle, with incomes dominating GDP conditions. Even a further improvement in credit conditions is unlikely to have a dramatic effect on broader growth today, keeping us in a regime of a Slowing, But Growing economy. In the context of markets, our Alpha Strategies remain long stocks and bonds, and short commodities. Until next time.

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