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Bruce J. Summers

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Research Papers in Economics

SHORT-TERM  BUSINESS  CREDIT IN THE  RECOVERY 
Bruce  J.  Summers 
Short-term  business  credit  is  watched  both  as  a 
financial  indicator  and  as a gauge  of business  activity. 
Traditionally,  attention  has  been  focused  on  large 
commercial  banks  and  the  commercial  paper  market 
as  the  primary  sources  of  such  credit.  This  narrow 
view,  however,  neglects  the  role  of  smaller  banks  and 
finance  companies-both  significant  suppliers.  A 
comprehensive  measure  of  short-term  credit  must 
include  (1)  commercial  and  industrial  (C&I)  loans 
of  all  commercial  banks  (2)  finance  company  busi- 
ness  credit  and  (3)  nonfinancial  company  commer- 
cial  paper.* 
1 Significant  amounts  of  C&I  loans  and  finance  company 
business  credit  have  intermediate  and  long-term  maturi- 
ties.  This  should  he  kept  in  mind  as  a  qualification 
whenever  these  series  are  used  as  part  of  a  short-term 
credit  proxy. 
The  pattern  of  debt  financing  followed  by  nonfi- 
nancial  companies  is  closely  related  to  the  business 
cycle.  Short-term  credit  grows  in  importance  rela- 
tive  to  long-term  credit  in  business  recoveries,  while 
the  opposite  is generally  true  during  recessions.  This 
pattern  is evident  in  Chart  1, which  plots  the  ratio  of 
bank  loans,  finance  company  credit,  and  commercial 
paper  to  total  short-term  and  long-term  borrowings. 
As  the  chart  illustrates,  however,  the  recent  experi- 
ence  is  somewhat  unusual.  In  the  latest  business 
cycle,  short-term  sources  of  credit  were  favored  until 
late  in  the  recession.  The  short-term  to  total  debt 
ratio  reached  a  peak  of  49.0  percent  in  the  fourth 
quarter  of  1974,  a  year  after  the  business  slide  had 
begun.  It  then  declined  sharply,  the  decline  continu- 
ing  through  the  first  five  quarters  of  the  recovery. 
,,  ‘<  y;  ‘j  P  T 
P =  Business  Cycle  Peak 
T  =  Business  Cycle  Trough 
P  T 
1 
I 
12  ECONOMIC  REVIEW,  JANUARY/FEBRUARY  1978 ,.’ 
‘Chart  2 
SOURCES  OF  SHORT-TERM  BlJSiNEiS  CREDIT 
SeasonollyAdjikted;  Aybrithly 
”  I’  ”  I”, ,,  .:.  :,  ,, 
j  :  ;: 
(Dec.)  (Nov.)  (Nov.) 
T  P 
(March) 
T 
Totol  Sources  of  Short-Term 
Business  Credit 
ZI..L***- 
i 
All  Commercial  Banks 
---  -------- 
I  Finance  Company 
Nonfinancial  Company 
Commercial  Poper 
, 
<  ‘_  !?69’<  j:  1970 
,r  I.’  19711  i972  Ii  ,; ,I973 
j  ,:;i  i  .,,’ 
: Sources:  ‘j  $%mmerci&  and  Industrial  Loons,  Federal.  ieserv, 
_’  .,  :  ernors  .of  the  Federal  :Reserve  System,:Releasb  ‘d.’ 
~Richmoncf!; ~Nonfinanciol  BCompariy  ,komme&al 
,*,  ,” 
,,’ 
;  I  ^_.  ;,_  !’ 
‘.  : 
: 
1  : 
.  : 
t 
,“’ 
,, 
+ 
: 
: 
: 
increasing  since  March  1976,  and  has  been  brisk 
since  late  in  that  year.  This  is  shown  in  the  top  line 
of  Chart  2, which  is the  sum  of  the  three  components 
of  a  comprehensive  measure  of  short-term  credit. 
Analysts  lookin g  only  at  large  banks  and  the  com- 
mercial  paper  market  would  have  overlooked  this 
expansion  in  its  early  stages,  and  would  now  be 
underestimating  its  strength.  A  narrowly  defined 
monthly  proxy  including  only  C&I  loans  of  large 
weekly  reporting  banks  and  nonfinancial  company 
commercial  paper  indicates  that  short-term  business 
credit  peaked  in  December  1974,  fell  through  Sep- 
tember  1976,  and  then  rose  $13.5  billion  between 
Demand  for  short-term  business  credit  has  been  September  1976  and  October  1977.  The  more  com- 
prehensive  measure  that  includes  the  three  compo- 
nents  shown  on  Chart  2  indicates,  by  comparison,  a 
peak  in  January  1975  and  a  trough  in  March  1976. 
From  March  through  September  1976  this  compre- 
hensive  measure  increased  $5.4  billion.  From  Sep- 
tember  1976  to  October  1977  it  has  increased  $35.6 
billion,  over  two  and  a  half  times  the  increase  in  the 
narrowly  defined  proxy.  This  increase  is close  to  the 
$34.0  billion  raised  in  1974,  the  largest  yearly  in- 
crease  on  record.  The  behavior  of  the  comprehensive 
proxy  of  course  reflects  the  behavior  of  its  individual 
components,  as discussed  below. 
FEDERAL  RESERVE  BANK  OF  RICHMOND  13 Commercial  and  Industrial  Loans  In  the  past 
two  cycles,  C&I  loans  of  all  commercial  banks  have 
shown  strength  prior  to  the  peak  in economic  activity, 
temporarily  paused  at  the  peak,  and  then  increased 
well  into  the  recession  period  before  dropping  off. 
The  degree  and  timing  of  these  swings,  however, 
vary  greatly  by  bank  size  and  location.  For  example, 
business  loans  at  large  banks  in  financial  centers, 
such  as  New  York  City,  experience  the  greatest 
cyclical  variation.  Also,  the  turning  points  for  loans 
at  large  money  center  banks  lag  those  for  loans  at 
large  regional  banks  [3]. 
Business  lending  for  the  large  weekly  reporting 
banks  taken  as a group  behaves  quite  differently  than 
that  at  the  smaller  banks,  as  shown  in  Chart  3. 
Over  the  past  three  cycles,  declines  in  C&I  loans 
were  concentrated  entirely  at  large  weekly  reporting 
banks.  Continuously  increasing  lending  at  the  smaller, 
non-weekly  reporting  banks  has  tended  to  dampen 
the  C&I  loan  cycle  shown  on  Chart  2.  For  example, 
from  December  1975  to  August  19f6-the  peak  and 
trough  months  respectively  for  the  large  weekly  re- 
porting  bank  index  plotted  at  the  bottom  of  Chart  3 
-C&I  loans  fell  $11.3  billion.  This  decline  was  sub- 
stantially  offset  by  an  $8.4  billion  increase  at  smaller 
commercial  banks. 
Finance  Company  Credit  Finance  companies 
specialize  in  several  types  of  business  financing,  in- 
cluding  commercial  vehicle  and  retail  equipment  fi- 
nancing,  accounts  receivable  financing,  factoring,  and 
most  importantly,  wholesale  iinancing  of  vehicle 
dealer  inventories.  Their  primary  customers  have 
traditionally  been  medium  and  small  sized  firms  [ 11. 
Business  credit  outstanding  at  finance  companies  in- 
creased  during  the  recent  recession  through  January 
1975.  It  then  leveled  off  before  resuming  its  rise  in 
April.  Since  January  1976 finance  company  business 
credit  has  expanded  very  rapidly,  led  by  gains  in 
retail  equipment  and  commercial  vehicle,  and  whole- 
sale  automobile,  financing.  The  gain  from  January 
1976  to October  1977  has  been  $14.1  billion. 
Commercial  Paper  The  outstanding  volume  of 
nonfinancial  company  commerciai  paper,  whiie  rela- 
tively  small,  is  subject  to  wide  cyclical  variation. 
For  the  nearly  500  nonfinancial  companies  that  are 
active  in  the  market,  commercial  paper  issues  meet 
the  same  types  of  needs  as  do  bank  loans.  In  both 
cases,  credit  demand  is  a  function  of  seasonal  credit 
requirements,  as well  as credit  market  conditions  that 
make  long-term  financing  temporarily  unattractive. 
Commercial  paper  issues  and  bank  loans  are  substi- 
I 
:1 :  ‘. ., i 
Tr  l,  ;[ 
-  Large  Weekly  Reporting  Banks 
: ‘i?O,/ 
-  Other  Commercial  Banks 
tutes,  and  relative  interest  costs  help  determine  their 
relative  utilization.  Generally,  the  prime  rate  moves 
more  sluggishly  than  does  the  paper  rate,  and  conse- 
quently  commercial  paper  becomes  an  attractive  sub- 
stitute  for  bank  loans  in  periods  of  declining  interest 
rates.  This  helps  explain  why  commercial  paper 
reaches  cyclical  peaks  later  than  C&I  Ioans  [Z],  as 
is  shown  in  Chart  2. 
Nonfinancial  company  commercial  paper  outstand- 
ing  declined  from  a  peak  of  $14.0  billion  in  March 
1975  to  a  cyclical  low  of  $10.4  billion  in  November 
1975.  A  favorable  rate  differential  relative  to  bank 
loans  has  subsequently  encouraged  growth  in  com- 
mercial  paper,  the  outstanding  volume  rising  to 
$15.1  billion  by  October  1977. 
References 
Kurley,  Evelyn  M.  “Business  Financing  by  Basi- 
ness  Fmance  Companies.”  Federal  Reserve  Bulletin, 
(October  1968),  pp.  815-827. 
“The  Commercial  Paper  Market.” 
Federal  ReseAe  Bulletin,  (June  1977),  pp.  525-536. 
Summers,  Bruce  J.  “A  Time  Series  Analysis  of 
Business  Loans  at  Large  Commercial  Banks.”  E’co- 
nomic  Review,  Federal  Reserve  Bank  of  Richmond, 
(May/June  1975))  pp.  8-14. 
14  ECONOMfC  REVIEW,  J  lANlJARY/FE8RlJARY  1978 

Business Financing by Basiness Fmance Companies.” Federal Reserve Bulletin,

The Commercial Paper Market.” Federal ReseAe Bulletin,

Short-term business credit in the recovery

http://www.richmondfed.org/publications/research/economic_review/1978/pdf/er640103.pdf

Short-term business credit in the recovery

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Research Papers in Economics