We invited readers to send questions this week to Martin Wolf, the FT’s chief economics commentator. Here is the third question, from Richard Brown. Martin’s response is below.
Richard Brown: What is the reason banks are not lending? Specifically, why are US banks not lending to small business, even to those in good financial standing and with whom they have had long term relationships?
Martin Wolf: I do not know the data on this or whether data on borrowing by the kind of small businesses you mention even exists. But I imagine that we are dealing with a “multiple equilibrium” problem. In the bad equilibrium, banks think the economy is weak and so downgrade the perceived creditworthiness of many of their borrowers. Thus, they refuse to lend. That makes their judgement a self-fulfilling prophecy: if nobody can borrow, everybody indeed faces a weaker economy. What is needed is policy aimed at shifting the whole economy into a better equilibrium. That can only be done by raising aggregate demand, by forcing banks to lend or, more plausibly, by doing both these things together. In practice, the government has not done enough to achieve this shift. We seem to be stuck in the bad equilibrium.