A large decrease in the value of asset holdings of financial institutions resulted in dramatic intensification of the agency problems in those institutions … Credit spreads widened and credit rationing became widespread. The diminished ability to finance the acquisition of capital goods resulted in huge cutbacks of all types of investment.
The same story was widespread in the business journalism world, with people like Andrew Ross Sorkin writing, “Commercial paper, the workaday stuff that lets companies make payroll, was suddenly viewed as radioactive — and business activity almost stopped in its tracks.” Most importantly, this was the view of the crisis that motivated — or at least justified — the choice of both the Bush and Obama administrations to make strengthening bank balance sheets their number one priority in the crisis. But is it right? There are reasons for doubt.
|Data from FRED.|
See, here’s a funny thing. I haven’t seen it discussed anywhere, but it’s very interesting. The commercial paper of financial and nonfinancial firms, normally interchangeable, fared quite differently in the crisis. Up til then, both had tracked the federal funds rate closely, except in the early 90s (the last by-general-agreement credit crisis) when both had risen above it. But as the figure above shows, in the fall of 2008, right around the Lehmann failure (the arrow on the graph), an unprecedented gap opened up between the interest lenders demanded on commercial paper from financial versus nonfinancial companies.
The implication: The state of the interbank lending market isn’t necessarily informative about the availability of credit to nonfinancial firms. It’s perfectly possible that lots of big banks had made lots of stupid bets in the real estate market, and once this became known other banks were unwilling to lend to them. But they remained perfectly willing to lend to everyone else — perhaps even on more favorable terms, since those funds had to go somewhere. The divergence in commercial paper rates is hardly dispositive, of course, but it at least suggests that the acute phase of the financial crisis was more of a problem for the financial sector specifically than for the economy as a whole
Second. Sorkin calls commercial paper “the workaday stuff that lets companies meet payroll.” This kind of language was everywhere for a while — that the financial crisis threatened to stop the flow of short-term credit from banks, and that without that even the most routine business functions would be impossible.
Short-term debt as a fraction of cashflow
(FIRE is finance, insurance and real estate. Short-term here means maturities of less than a year. Cashflow is defined as profits plus depreciation.)
This isn’t a secret; but it’s striking how different are the financing structures of financial and nonfinancial firms, and how little that difference has penetrated into public debate or much of the economics profession. For the median financial firm, losing access to short-term finance would be equivalent to a 70 percent fall in revenues; few could survive. For the median nonfinancial firm, by contrast, loss of access to short-term finance would be equivalent to a fall in revenues of just 4 percent. Short-term finance is just not that important to nonfinancial firms.
So, the breakdown in short-term credit markets was largely limited to financial firms, and financial firms are anyway the only ones that really depend on short-term credit. I don’t claim these two pieces of evidence are in any way definitive — I’ve got a long paper on this question in the works, which, well, won’t be definitive either — but they are at least consistent with the story that the financial crisis, on the one hand, and the fall of employment and output, on the other, were more or less independent outcomes of the collapse of the housing bubble, and that the state of the banks was not the major problem for the real economy.
EDIT: For the life of me, I can’t get either graphs or tables to look good in Blogger.