Magazine article Economic Trends

Mixed Signals on Financial Stability

Magazine article Economic Trends

Mixed Signals on Financial Stability

Article excerpt

Financial markets are still in what seems to be a tentative recovery period, even six years after the end of the Great Recession. We look at the banking trends observed through 2014 and consider what they may signal about the financial sector in 2015.

One indicator that points to a healthier financial system is that the number of problem institutions continues to fall. Problem institutions are banks determined to have financial and either operational or managerial weaknesses that threaten their continued financial viability. The list of problem institutions is confidential and maintained by the Federal Deposit Insurance Corporation (FDIC), but the aggregate numbers are made public. Following the Great Recession, the number of problem institutions reached 888 in the first quarter of 2011, the highest it had been since 1992. The number has now fallen for 14 consecutive quarters and currently stands at 291, the first time it has been below 300 since 2008.

Measures of bank profitability, however, give a picture that is a little more mixed. The number of institutions reporting year-over-year gains in earnings fell in the fourth quarter of 2014 to 3,985 institutions.

Up to that point, the number of banks reporting yearly earnings gains had increased for five consecutive quarters. The current number is still an improvement over the situation at the end of the recession, when the number of institutions reporting earnings gains year over year reached only 2,797 banks in the second quarter of 2009.

Year-over-year revenue growth for the six largest US banks was not uniformly good or bad. Bank of America and Citigroup posted declines, while Goldman Sachs, Morgan Stanley, and J.P. Morgan posted strong growth. Wells Fargo posted a slight increase.

The profitability of community banks shows a much clearer positive trend than that of commercial banks overall. Community banks reported strong income growth in the fourth quarter of 2014, with quarterly earnings rising 28 percent. They reported net income of $4.8 billion, up $1.0 billion from the previous year. The FDIC quarterly banking report noted that this increase in net income resulted from a combination of higher net operating revenue and lower loan-loss provisions. Yet, even with this increase in revenue for community banks, the banking industry as a whole still experienced an earnings decline of 7 percent.

Return on assets--net income as a percentage of average total consolidated assets--is another measure of bank profitability. For the first time in two years, the average quarterly return on assets for the banking industry as a whole has fallen below 1 percent, coming in at 0.96 percent in the fourth quarter of 2014.

Taking a look at the lending behavior of commercial banks, we see that there has been strong growth in total loans during 2015. At domestically chartered commercial banks, year-over-year increases in total loans have been above 2 percent since February 2014. As of May, there has been a leveling off in the year-over-year growth rate, which is currently at 6.9 percent as of the week of May 6, down from 7.5 percent at the beginning of April 2015. While year-over-year changes are down slightly, the level of total loans and leases for domestically chartered commercial banks was at an all-time high of $7. …

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