‘On our guard’: Banks and credit unions face near-record inflation
Leaders of local banks and credit unions are flying cardless as they navigate a business environment of high inflation and rising interest rates that most have never experienced.
Prices for everything from groceries to housing have soared at the fastest rate in more than 40 years, forcing the Federal Reserve to raise interest rates in a bid to curb inflation that is biting consumers and businesses. businesses.
Many bank and credit union executives were children — or weren’t even born — when the Federal Reserve raised interest rates to 20% in 1980 to curb inflation, which hit 13.5% in 1980. Financial institutions have long been accustomed to operating with inflation in the 2% range.
“It’s a very different environment in which we operate from a financial services perspective than a year ago,” said Norman Plumstead, president and CEO of Honor Bank in Traverse City. “There is no pre-scripted playbook that many bankers have in place. This forced us to be on our guard.
CEOs of local banks and credit unions say they have seen little impact from rising interest rates so far, other than a slowdown in new mortgage applications and home refinances.
But they are closely watching things like loan defaults, operating costs and the general health of the local economy as the Fed looks set to raise interest rates at least several times over. This year.
The Fed raised its key federal funds rate by 0.5% in May – the biggest increase in two decades – and is expected to raise it another 0.5% in June. The federal funds rate is the interest rate that banks charge each other for short-term loans.
“There are a lot of crystal balls (that are seen by) people trying to figure out what’s going on,” said Andrew Kempf, president and CEO of 4Front Credit Union in Traverse City.
Kempf is monitoring issues in 4Front’s extensive used car loan portfolio. Used car prices have skyrocketed over the past year, but are starting to fall as interest rates on used car loans rise.
Prices for used cars sold at auction fell 6.4% between January and April, but are still 14% higher than the same period a year ago, according to Cox Automotive, a research service.
It could become a problem for banks and credit unions if the value of a used car falls below what a borrower owes, known as being “under water” on a loan. If the borrower suffers a job loss or other economic setback and cannot make the payment, they will usually walk away from the vehicle.
“They just return the keys. That’s historically what happens,” Kempf said. “We’re evaluating it but not losing much sleep” over a potentially problematic loan-to-value ratio imbalance in 4Front’s used car loan portfolio.
Kempf said his credit union may be better prepared for a sharp drop in used car prices than some other financial institutions because it does not offer loans that fund 100% of car purchase prices. second hand.
4Front held $239,070,234 in used car loans as of March 31, the credit union’s largest loan segment.
Banks and credit unions are also seeing a significant slowdown in new mortgages and mortgage refinances as higher interest rates cool the boiling Grand Traverse area real estate market.
“Rising rates certainly had an impact on mortgages and, as is often the case, it happened quickly,” said Doug Zernow, marketing director at Frankfurt-based State Savings Bank.
Mortgage refinancing “has slowed significantly,” Plumstead said, as mortgage interest rates climbed to around 6% locally from just over 2% a year ago. Additionally, rising prices for building materials and labor are slowing new construction, he said.
Karen Browne, president and CEO of TBA Credit Union, said rising mortgage rates are costing borrowers. The monthly principal and interest payment on a $100,000 30-year fixed loan at 6%, about where it is now, is $599. That’s an increase of $164 per month over the same loan at 3.25%, an interest rate available just a few months ago.
But with inflation weighing heavily on family and business budgets, local bankers and credit union leaders say they have yet to see an overall negative impact on the local economy.
“A lot of the companies we talk about are planning to have a busy year and summer,” Plumstead said. “Their challenge is to find employees.”
Commercial lending is “still pretty frothy,” Kempf said. He and others attribute this to a growing local economy and businesses needing more cash to offset rising wages and other higher costs of doing business.
At Fifth Third Bank in Traverse City, “our commercial customers have certainly experienced increased labor and material costs,” said Autumn Gillow, Fifth Third’s North Michigan market manager. “In turn, utilization (of the line of credit) increased and many customers requested increases in the line of credit in anticipation of longer-term inflationary pressures.
“It’s a notable turning point over the past 12 months,” she said, with companies able to fund much of their operations from cash and existing lines of credit.
Leaders of local financial institutions are watching nervously whether the Fed can bring inflation under control through periodic interest rate hikes without dragging the economy into recession. They are divided on this unappetizing prospect.
Acknowledging it’s “more bearish than most,” Kempf said he expects a nationwide recession by year-end or the first three months of 2023.
Kempf bases that assessment on things the Fed can’t control, including the impact of Russia’s brutal February attack on Ukraine. He expects the war, with no end in sight, will continue to play a role in driving up fuel and food prices.
Others see positive signs. Thomas Jalics, chief market strategist at Fifth Third, said he saw “signs that inflationary pressures and supply chain issues may have peaked.” But inflation could set in at a higher pace than businesses and consumers have experienced over the past decade, he said.
Inflation rose to 8.3% in April from a year ago, but down slightly from 8.5% in March.
This cycle of inflation poses a fundamentally different challenge than that of the late 1970s, when prices rose amid slow economic growth and high unemployment, a condition known as “stagflation”.
Today, economic growth is relatively strong and jobs are plentiful. Prices are rising mainly due to the lingering supply chain and labor shortages. Cash-rich consumers are willing to pay the higher prices for scarce goods, which also fuels inflation.
Once inflation takes off, economists say it is very difficult to slow down. This leads to great uncertainty about the Fed’s ability to bring it down.
“Can the Fed navigate a soft landing? I do not know. I don’t think they know,” Plumstead said. “If I had the answer, they would probably put me on the board of the Federal Reserve.”