What Credit Crunch?

For months, the news media have been dispensing reports of a “credit crunch.” I have been puzzled by these reports because scarcely a day passes that I do not receive offers in the mail or via the Internet from lenders who want to lend me money to refinance my mortgage or to make purchases with a credit card they stand ready to issue me. Am I the only one in America currently deemed creditworthy at attractive rates of interest?

Having my doubts, I checked some standard interest-rate data conveniently available online at the St. Louis Fed site.

The first series I checked pertains to the bank prime lending rate. During the latter half of the 1990s, this interest rate varied from 7.75 percent to 9.0 percent. It hit 9.5 percent in May 2000, then began a long decline, gradually reaching a low of 4.0 percent in June 2003. Afterward it climbed slowly to a high of 8.25 percent in June 2006. For the past two years it has fallen again, reaching 5.0 percent in April 2008. Given that the rate of change in the producer price index has been substantially greater than 5 percent during the past year, borrowing money at 5 percent seems to me to indicate, not a credit crunch, but a credit bonanza. A business borrows, finances inventory, holds it for a year, and earns a 5-10 percent rate of return. What could be simpler and more delightful?

But, you protest, the credit crunch is really in the housing industry. Well, let’s have a look at mortgage rates for 30-year conventional mortgages. Although rates have risen in the past few months, they still compare favorably with rates that prevailed in 2006 and 2007, and they are not more than about 1 percent higher than rates that prevailed during the housing boom in the first half of this decade. Given that the rate of inflation is greater now, present real rates may be lower than they were during those halcyon days. If a credit crunch exists, it is certainly not showing up in the mortgage-lending markets. Are we to believe that lenders are simply refusing to lend, rather than lending at higher rates to reflect a diminished supply of loanable funds?

If credit were being crunched, one supposes that lenders would be willing to pay higher rates for funds placed at their disposal. Yet six-month certificates of deposit are now yielding less than the rate of inflation—people are paying the banks to take their money! Some credit crunch: banks and thrift institutions don’t even have to pay a positive real rate of interest to attract funds! This situation makes sense only if the world is awash in loanable funds, so much so that people are clamoring to part with their money for less than zero reward.

Perhaps someone can enlighten me. I simply don’t understand how we can have a “credit crunch” without substantial increases in real interest rates across the board.