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Framework for Analyzing Lending – Federal Reserve
A Framework for Analyzing Bank Lending In August 2008 I joined the Board of Governors of the Federal Reserve System, leaving behind a 30-year career as a commercial banker to become a central banker. My time as a commercial banker spanned numerous business cycles. It also encompassed at least one severe financial system crisis, in the late 1980s through the early 1990s, albeit one that was not as severe as the current one. From my time as a commercial banker, I already understood the factors considered by bankers in the initial lending decision as well as those in loss mitigation when collecting those same loans. As a central banker, I have come to appreciate even more fully the role of credit in our economic well-being. So I thought it would be appropriate for me to provide my perspective on credit conditions in our economy and the current crisis. Today, I would like to discuss a three-dimensional view of the flow of credit to households and businesses and describe the evolving role of banks in the U.S. economy. I will begin by taking a look at recent trends in aggregate borrowing by households and by the nonfinancial business sector. These trends will be placed in a historical context by looking back at previous booms and busts in the credit cycle. One might call this the macroeconomic view of credit. When looking at aggregate borrowing, it is important to remember that a change in debt outstanding can be driven by any one of three factors or, more commonly, a combination of all three. In the macroeconomic view of credit, I will discuss indicators related to changes in demand for credit. I will also examine two determinants of the supply of credit. The first determinant relates to lenders' assessment of the creditworthiness of borrowers given future economic conditions. The second relates to credit constraints caused by the financial condition of the lenders. Although fiscal and monetary policies that improve macroeconomic conditions will also boost the demand for credit and improve the creditworthiness of borrowers, if credit is constrained by the balance sheets of the banks, only programs to relieve such strain will improve credit availability. This condition is the reason for the injections of capital into banks through the Troubled Asset Relief Program, or TARP, and the financing provisions offered through the Public-Private Investment Program, or PPIP, as well as the expansion of Federal Deposit Insurance Corporation (FDIC) deposit and nondeposit guarantee programs.