The Business Review reports an explanation from Hugh Johnson:
Hugh Johnson, chief investment officer for Johnson Illington Advisors in Albany, said there may be other reasons why big banks aren’t throwing open the purse strings, and he expects the tightness to continue as long as the Federal Reserve keeps short-term interest rates low.
He said low short-term rates, coupled with rising longer-term rates, “present an interesting opportunity for banks” by allowing them to borrow funds at bargain prices and then buy U.S. Treasuries with higher returns. According to the FDIC, banks increased their Treasury holdings by 49 percent in the third quarter.
“In other words, banks can be very profitable without taking any credit risk,” Johnson said. “The Fed is hoping that bank financial strength will be restored this way, and once that happens their appetite to lend will come back. That is the unspoken agenda, to get the big banks back on their feet financially.”
But Johnson believes inflation will force the Fed to raise rates later this year, making Treasuries less attractive.
“So to maintain those profit margins, banks will have to take the risk and start lending again,” he said. “My guess is that by mid-2010, banks will have to take more risk and will have to respond to stronger loan demand.”