Dive Brief:

• Banks expect to tighten credit standards for all types of loans during the remainder of this year, the Federal Reserve said, highlighting a trend that preceded a March flare-up in the banking system and persisted through June.
• “The most cited reasons for expecting to tighten lending standards were a less favorable or more uncertain economic outlook, an expected deterioration in collateral values and an expected deterioration in credit quality of CRE [commercial real estate] and other loans,” the Fed said Monday, describing results of its quarterly Senior Loan Officer Opinion Survey.
• The proportion of banks that hardened terms for commercial and industrial loans to medium and large businesses during the second quarter increased to 50.8% from 46% during the first three months of 2023, the central bank said. Demand for loans also cooled.

Dive Insight:

Banks have tightened lending standards as the Fed, beginning in March 2022, raised interest rates 11 times — the most aggressive pace in four decades.

Policymakers, aiming to curb inflation to the central bank’s 2% target, increased the federal funds rate on July 26 by a quarter percentage point to a range between 5.25% and 5.5%, the highest level in 22 years.

Fed Chair Jerome Powell, during a Wednesday press conference, said the loan officers survey is “broadly consistent with what you’d expect. You’ve got lending conditions tight and getting a little tighter, you’ve got weak demand and, you know, it gives a picture of a pretty tight credit conditions in the economy.”

Despite higher borrowing costs, the economy shows few signs of cooling. The expansion accelerated last quarter, with gross domestic product increasing 2.4% compared with 2% during the first quarter. Stronger business fixed investment fueled growth.

Consumer spending — which drives about 70% of growth — remains robust and the labor market has proven resilient, with a gap between job openings and unemployed workers slowly closing.

Job vacancies in June declined to 9.6 million, the lowest level since April 2021, the Labor Department said Tuesday.

Meanwhile, layoffs fell to the lowest level since late 2022, according to the Job Openings and Labor Turnover Survey, as the tight labor market prompted employers to hold on to workers.

Powell noted that the Fed has eased price pressures without kneecapping employment.

“We’ve seen so far the beginnings of disinflation without any real costs to the labor market,” Powell said. “That’s a really good thing.”

Powell expressed confidence that the central bank can reduce inflation to 2% without prompting significant job losses.

Fed economists, after forecasting in March and June that the economy will tip into a mild recession, now only expect “a noticeable slowdown in growth starting later this year,” he said.

Despite signs of resilience, banks remain cautious in planning for the coming months, according to the Fed survey of senior loan officers.

Many banks “cited an expected reduction in risk tolerance, an expected deterioration in their liquidity position, increased concerns about funding costs and deposit outflows, as well as increased concerns about the effects of legislative, supervisory, or accounting changes as reasons for expecting further tightening,” the central bank said.

“Survey results indicate a substantial tightening of standards from a year ago,” the Fed said.

Demand for credit sagged from March through June. The proportion of banks that reported flagging demand for commercial and industrial loans from mid- and large-size companies decreased to 51.6% from 55.6% during the first quarter.