18 January 2008

FT: Credit squeeze hits Eurozone borrowing

Borrowing by eurozone businesses and consumers is being hit severely as the global economic outlook darkens, according to a European Central Bank survey released on Friday that could act as an additional deterrent to further rises in official interest rates.

The sharp tightening in the credit standards applied by banks and a decline in demand for loans, especially by large businesses and housebuyers, suggest that the global financial turmoil and fallout from the US slowdown are having a significant impact on the 15-country eurozone.

Financial markets have become increasingly convinced that the ECB will cut interest rates later this year in response.

But so far the Frankfurt-based institution has hinted at the opposite – that it might raise interest rates to head off the inflationary threat posed by excessive wage demands.

The latest survey is unlikely to change the ECB’s thinking dramatically. Its governing council had an advance warning of Friday’s bank lending survey at a meeting last week, after which Jean-Claude Trichet, ECB president, warned that “pre-emptive” interest rate rises were possible.

The ECB could also argue that much of the deterioration in eurozone lending conditions was apparent at the end of last year, since when financial market tensions have eased. At the same time, hard data on actual lending by financial institutions continue to show strong growth rates.

The survey results were consistent with a slowdown in credit growth this year, argued Gilles Moec, economist at Bank of America, but so far “softer credit growth would appear more as a symptom than as a cause of the ongoing economic slowdown in the eurozone”.

The ECB survey reported a “sharp tightening” of standards applied to lending to business, largely because of the changing economic outlook. The net percentage of banks reporting that they had tightened credit conditions in the final quarter of 2007 on loans to business rose to 41 per cent, up from 31 per cent in October’s survey – which was already the highest since the survey began in early 2003.

A net balance of just 2 per cent of banks reported an increase in demand in corporate loans in the fourth quarter – the weakest since July 2005 – with the deterioration at the end of last year largely due to the decline in financing needed for mergers and acquisitions and corporate restructuring.

At the same time, banks reported that “securitisation activity was severely hampered” at the end of last year. Banks also reported a further significant tightening of credit standards for people borrowing to buy houses and a sharp drop in demand for such loans to the weakest level since the survey began in early 2003.

This probably reflects a gradual slowdown in the eurozone housing market that was under way before the global credit squeeze took hold last August.

The results are likely to strengthen the hands of those on the ECB’s governing council, who argue that the financial markets have done their job in tightening monetary conditions – especially with the euro remaining at historic highs.

By Ralph Atkins in Frankfurt

© Financial Times