Mortgage rates are as low as ever recorded. Refinance rates could save homeowners hundreds of dollars per month with lower payments. If you compare mortgage rates, you'll love what you find. Why, then, are mortgage loans closing at an amazingly low number? Banks are simply not lending.
Bank Liquidity High
You might wonder whether banks have enough money to lend. The answer is a resounding, "Yes." Most banks have very high liquidity - cash reserves are strong. Those that have received government cash infusions - can you say "Bail-out funds" - are too liquid.
So, why are banks not lending if they have plenty of cash? The answer: Fear. Unfortunately, this problem is really a three-headed monster for banks. After suffering massive losses in mortgage and business lending during the recent recession, banks fear that more, as yet unidentified, problems lurk in their lending portfolios. Financial institutions want to conserve extra reserves to "absorb" the future losses they predict.
Banks fear that the recession is still living under the surface. Although many experts, including the Federal Reserve, believe the recession is over, they speak from a technical perspective. It appears most larger employers also feel this fear, as few have started rehiring employees in significant numbers. This fear is keeping most banks "on the sidelines" even with high liquidity.
Banks also fear federal regulators and stockholders. Making new loans always poses some level of risk. Banks are fearful that those new loans that become problems, as some certainly will, may bring the wrath of regulators, who might assert that these loans were made with government assistance money. This perceived added scrutiny might also scare stockholders into selling shares, which might depress the price of bank stocks.
Finally, banks fear that, until the real estate/mortgage market recovers, their earnings will suffer, as local refinance rates can be significantly lower than those on currently performing mortgages. Those who compare mortgage rates find it easy to decide to refinance. However, these homeowners often learn that their current lender has tightened qualification rules so much that good borrowers cannot be approved. Yet, these lenders have millions to lend.
When Will the Madness End?
Unfortunately, we live in a classic catch-22 situation. Banks are not lending because they fear the negative ramifications and fail to see hard evidence that the recession is over. At the same time, their refusal to lend to individuals and businesses is only prolonging the economic stagnation.
Combined with the business community's lack of confidence—and hiring—the bank's fear of future loan problems is understandable. People can't pay their loans if they're not working. Businesses can't pay their loans if people don't buy their products and services.
Statistics show that, because of the incredibly low local mortgage rates, mortgage lending increased by 35 percent in early 2010 compared to 2009, while home equity loans were up by 17 percent compared to the end of 2009. However, both of these increases a) would have been much higher if qualification rules hadn't been tightened, and b) would have been much lower if volume was compared to years other than 2008 and 2009, with some of the lowest mortgage volumes on record.
Unfortunately, during this same period lending to businesses declined by 47 percent, which was a combination of bank rejections and fewer applications for financing. Regardless of the reasons, this is another example of sharply reduced bank lending.
Since September 2008, excess bank reserves have risen from almost zero to over $800 billion. As all experienced bankers know, cash is very "expensive," since it earns nothing unless loaned out or invested. In most economies, banks keep only the minimum cash reserves needed to meet regulations for safety.
In this environment, however, banks are obviously "sitting on" the billions pumped into the system from the government. The White House and Congress injected these massive dollars to stimulate bank lending and, thereby, reverse the down economy. It appears that banks have yet to understand the purpose of this cash infusion.
Until some banks put aside their fear of future loan and mortgage problems, they will not start important lending again. A first quarter 2010 survey of 21 banks revealed that nine of them increased some lending activities, while 12 decreased loan volume. All of those banks surveyed received cash infusions from the government.
If you have good credit and steady employment, you might enjoy a successful mortgage refinance, since the secondary market is, once again, buying quality loans. However, when you compare refinance rates, try to learn about the qualification rules these lenders mandate.
Since refinance loans are new mortgages, all borrowers are subject to these tightened qualification standards. You might also consider asking for a loan modification—lower interest and payment—if your payments have always been on time and you don't qualify under the new rules.
It's impossible to predict when the banks will start lending aggressively again. When the business community finally believes the recession is over and rehires in large numbers, banks should be ready to begin lending again on a grand scale. There is simply no other historical or scientific indicator to support any other prediction. You could try your crystal ball, but there are no guarantees even with magic.