"European banks cut lending to businesses last month even before the demise of Silicon Valley Bank and Credit Suisse Group AGshook global financial markets.
Fears about the health of banks are likely to feed into even tighter lending in coming months.
The banks cut their lending to eurozone businesses by 3 billion euros in February, equivalent to $3.23 billion, while the increase in lending compared with a year earlier slowed to 4.9% from 5.3% in January, according to data released by the European Central Bank on Monday. There also was a slowdown in lending to households.
The tightening came despite the fact that banks at the time were earning higher profits from lending than they used to during the low-interest years. Some economists think the decline in lending could accelerate in coming months as the strains in the banking system make banks even more cautious, giving greater force to the impact of the ECB's rate rises on economic growth.
"The full effect of recent hikes on the economy still has to come through, and recent turmoil, while very uncertain at this point, will likely hamper economic activity," said Bert Colijn, an economist at ING Bank.
The European Central Bank has been raising its key interest rate since July in response to a surge in consumer-price inflation following sanctions on Russia last year.
It believes those moves work by tightening financial conditions, such as by raising borrowing costs for businesses and households.
Strains in the banking system claimed one of Europe's giants when Swiss regulators shepherded UBS Group AG's takeover of longtime rival Credit Suisse, which had been weakened by years of self-inflicted scandals and trading losses.
But share prices have fallen and funding costs have risen for a number of European banks since the collapse of Silicon Valley Bank in the U.S. earlier this month brought the challenges of adjusting to a sharp rise in central-bank interest rates into focus.
Shares of Deutsche Bank fell sharply on Friday while the cost of insuring against a potential default by the bank shot up, raising fears that the loss of confidence since the collapse of Silicon Valley Bank and the emergency state-engineered takeover of Credit Suisse was spreading to other markets. On Monday, the shares rose 6% after several analysts said Deutsche Bank wasn't facing any difficulties.
Switzerland's move to wipe out $17 billion of Credit Suisse's AT1 bonds undermined confidence in the roughly $250 billion market, threatening to drive up funding costs for European banks.
"It is clear that risks to financial stability have increased," said Kristalina Georgieva, head of the International Monetary Fund, in a speech Sunday. "The rapid transition from a prolonged period of low interest rates to much higher rates inevitably generates stresses and vulnerabilities."
Facing the threat of a withdrawal of deposits -- a feature of both the SVB and Credit Suisse strains -- banks are likely to have to pay savers more, and will therefore have to charge more for their loans. The figures released Monday showed households and businesses withdrew deposits from banks for the second straight month in February as they looked for higher returns.
"They invested some of that money into bonds issued by banks, so this isn't necessarily a sign that customers were losing faith in the banking system," said Jack Allen-Reynolds, an economist at Capital Economics.
Some ECB policy makers are warning that the decline in bank lending has been sharper than during previous periods of monetary policy tightening, possibly amplifying the impact of the central bank's monetary policy on the economy.
"The size and the speed of the adjustment indicate that the transmission of our monetary policy to the economy may have become stronger," said Fabio Panetta, an ECB official, in a speech Wednesday.
But while strains in the banking system may amplify the impact of rate rises on the economy in the months to come, there also are signs that the eurozone economy is proving even more resilient than policy makers had anticipated.
Surveys of eurozone businesses released Friday recorded an unexpected pickup in activity during March, while a survey of German businesses released Monday recorded a pickup in confidence.
That suggests inflation may prove more persistent than expected, and leaves policy makers with some difficult calls over the coming months.
"Sticky inflation will force the ECB to raise rates for longer than we previously expected, unless the market turmoil undermines the current outlook for growth and inflation," economists at Standard & Poor's wrote in their latest report on the eurozone outlook Monday." [1]
1. Eurozone Banks Throttle Back Lending --- Fears could intensify the trend, which was under way before this month's failures
Hannon, Paul. Wall Street Journal, Eastern edition; New York, N.Y. [New York, N.Y]. 28 Mar 2023: B.6.
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