Are Credit Markets Locked Up?
By Arnold Kling
Depends who you ask. Robert Higgs says no.
Commercial and industrial loans of all commercial banks, which are reported monthly, have grown rapidly. The most recent report, for August 2008, shows outstanding loans of $1,514 billion, an all-time high. This loan volume is 15.5 percent greater than it was a year earlier, and 30.8 percent greater than it was two years earlier.
Thanks to Don Boudreaux for the pointer.
In early August Caterpillar brought a 5 year bond to market, the 4.90 of August 2013. That bond priced 175 basis points cheap to the benchmark 5 year Treasury note. With the turmoil in the credit markets the last several weeks, the issue has widened on spread and this morning it was quoted 225/ 210.
The talk on the new issue is T + 325 basis points. That is fully 100 basis points cheap to the outstanding issue and 150 basis points above where the same maturity was priced six weeks ago
If the Treasury rate is 3 percent, and you have to pay 1.75 percent higher (175 basis points), that means you pay 4.75 percent. If you have to pay 3.25 percent higher (325 basis points), that means 6.25 percent. It certainly does seem as though Caterpillar Tractor’s funding costs have gone up. However, keep in mind that Treasury rates did not stay constant over this time period. They have fallen sharply. So the nominal interest rate for Cat may not be so high. In fact, if we measure Cat’s interest cost relative to expected inflation, they may not be doing badly at all.
To a bond trader, the spread over Treasury is a big deal. You live and die by that. But to a company, it’s the interest rate relative to expected inflation that matters.
If the credit markets were really bad for firms, they would be pulling their offerings from the market and running to their banks for loans. If their bank terms were onerous, they would be laying off workers to conserve cash. That’s how you know you’re in a crunch.
To my eyes, the crisis has not yet arrived. Allan Meltzer feels the same way, and obviously so does Bob Higgs. However, I think most other knowledgeable folks feel differently.
When I played tournament bridge many years ago, it was usually best to “bid with the field” unless your particular bidding system gave you clearly superior knowledge about your your partner’s hand. I don’t have a reason to believe I have superior knowledge about whether credit markets are locked up, so I think I will bid with the field as opposed to what my own eyes are telling me. That means agreeing that we are in a crisis.