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Net Net: Promoting innovation and managing change

The Mystery of Bank Balance Sheets Right Now

David Schawel

This is a guest post from David Schawel, a fixed income portfolio manager at an institution in North Carolina. He previously resided in New York City as an equity research analyst covering housing and investment banking. Current CFA charterholder. Schawel runs the blog Economic Musings.

Bank assets are rising, yet lending activity is falling. What's going on? With total assets up slightly, the shift out of loans must end up somewhere on the balance sheet, but where?

Sorting through the FRB’s bank data, clear trends emerge with respect to the growth (or lack thereof) in the banking system. Total loans & leases are down 2.4% year-over-year. Declines in real estate (-5.4%) and Consumer (-6.6%) overcome moderate C&I (Commercial & Industrial) growth (+3.3%). See graph below which shows year-over-year C&I and Real Estate changes. Contraction in real estate can be attributed to, among others, continuing write-downs and maturing loans not being renewed. There's no precise way of knowing this exact breakdown, but nevertheless it's clear contraction is taking place.

Contraction More Prevalent in Small Banks

Taking a deeper dive into the data uncovers greater loan contraction within small banks, where total loans fell over 3% from last year versus the 2.4% contraction for all banks.

These small banks (defined as any bank not in the 25 largest), increased total investment securities by ~12% YoY. Treasury and Agency Debt securities grew 15% while Agency MBS rose 23%. Cash at the Fed (eligible banks earn the overnight IOER rate of 25bps) also grew ~7%. Agency MBS includes Fannie Mae, Freddie Mac, and Ginnie Mae securitized mortgages.

In aggregate, total commercial banks added a net ~$150bil over the last year in both Treasury, Agency Debt, and Agency MBS. With quality lending opportunities scarce and tightening credit standards, banks have chosen to essentially forgo current earnings on these incremental assets for the relative safety and liquidity of government securities, and cash at the Fed. Astute readers will note that Bernanke recently indicated the possibility of lowering the IOER (Interest on Excess Reserves) rate, likely in an effort to further reduce short term rates and encourage borrowing.

Below: Banks continue to plow deposits into their investment portfolio with growth in government securities outstripping the total.

Loans Fall, Cash Rises

Commercial bank cash (vault cash, balances at other institutions, and amounts at the Fed) is up over 38% from last year. Clearly there are big implications with ~$2 trillion sitting in cash (~30% of total loans) at commercial banks. Despite a banking system flush with liquidity, it’s not turning over in the form of new loans. As evidenced by the data, banks (especially small) have been funneling this cash into government securities or leaving it at the Fed to earn 25bps (IOER).


Commercial & Industrial lending is showing a pulse, but contraction in real-estate & consumer lending outstrips this growth. As total assets rise, banks have been forced to deploy deposits into either government securities or settle for earning 25bps at the Fed. The above data leaves more questions than answers including:

  • How much longer will it take for Banks to dig through their real estate book?
  • As bank NIM continues to contract, will banks get more aggressive with their excess liquidity by taking on greater duration (longer bonds) and/or credit risk with their securities?
  • Is this data representative of the rest of the credit provided? (A Feldman & Lueck study in 2007 showed that regulated commercial banks provide at most one-third of the total credit to firms in the US economy)


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