Credit to the Private Sector Remains Weak

• Author: José M. Cartas and Martin McConagha
• Position: Prepared by and of the IMF's Stattics Department.

THE period preceding the international financial crisis of 2008 was characterized by excess global liquidity and a rapid expansion of credit, especially to the private sector. But as a consequence of the global crisis, the banking system cut back its lending to the private sector, as banks sought to improve balance sheets hit by declining asset prices, absorb a growing number of nonperforming loans and, in general, reduce risk by deleveraging. Bank credit growth has fallen sharply in real terms and is likely to remain subdued across most major economies and country groups.

A massive infusion of government funds and credit-easing policies in advanced economies, intended to fight a recession and support bank balance sheets, did not translate into increased credit to the private sector. After growing at an average annual rate of about 7 percent until mid-2008, bank credit growth in mature markets slowed and by the end of 2009 turned negative. Bank credit growth in 2009 dropped the most in the United Kingdom—by about 20 percent. In the United States, by early 2010 credit had fallen by almost 10 percent year on year. The euro area followed a similar trend.

Several factors explain why better financial conditions did not result in renewed credit growth to the private sector in these economies. First, as economic conditions weakened, demand for credit declined as firms cut output and households reduced consumption, decreasing their need for credit. Second, banks tightened lending standards in the face of greater uncertainty, weakening capital positions, and rising loan losses. Banks’ balance sheets still remain under strain and funding conditions are becoming tighter. In a flight to quality, banks are favoring government bonds over loans to the private sector. And uncertainty about future regulation may be reducing banks’ willingness to...