Bernanke: Banks healthier despite ongoing challenges

Federal Reserve Chairman Ben Bernanke believes conditions in the U.S. banking system have “improved significantly,” though he acknowledges lending for residential mortgages and for small business owners remains challenging. 

In remarks prepared for a speech May 10 at the 48th Annual Conference on Bank Structure and Competition in Chicago, Bernanke said several  key measures of systemic risk have improved in recent months and are now well below their levels during the financial crisis. Banks have made considerable progress in repairing their balance sheets, and overall, the sector has substantially improved its liquidity, he said. 

The 19 largest banking institutions have boosted Tier 1 common equity by more than $300 billion since 2009, and their ratio of Tier 1 capital to risk-weighted assets stood at 10.5 percent at year end, Bernanke noted.

“Credit quality of large banks’ assets is looking better as well, although the improvements have been uneven across types of loans,” he said.

And while profitability of large banks has been edging up, community banks have also experienced improvement in their overall condition, Bernanke said.

“Capital ratios have increased significantly since 2009 and stand well above their recent norms,” he said. “As has been the case at large banks, delinquency and charge-off rates at community banks have declined across most major categories of loans, and fewer institutions failed in 2011 than in each of the previous two years.”

Despite those positives, Bernanke said he recognizes the challenges related to the economic environment and new regulatory requirements. For example, in addition to regular supervisory stress tests for the most systemically important financial firms, those institutions will also be required to submit so-called living wills that could facilitate their orderly resolution if necessary, he said. 

Most of the enhanced regulatory and supervisory measures focus on the largest institutions, and the Fed aims to ensure that community banks aren’t subjected to “rules designed primarily to constrain risks at larger institutions,” he said.

Bernanke said many businesses and households are finding it easier to borrow than they did a few years ago, and banks that supply credit by purchasing securities have grown their purchases rapidly in recent months.

At the same time, credit conditions in mortgage lending remain tight and may be limiting or preventing loans to many credit-worthy borrowers, he said.  “Tight lending standards and terms remain especially evident.”

“Many factors suggest that this situation will be difficult to turn around quickly,” he said. “Financing conditions in the commercial real estate sector also remain strained,” he said, amid high vacancy rates, depressed property prices and the poor quality of existing loans.

And while the amount of small loans to businesses on bank balance sheets appear to have ticked up in the fourth quarter, they remain more than 15 percent below the 2008 peak. Small business owners, he noted, have been especially challenged because in the past, they might have tapped into their home’s equity or used their homes as collateral for small business loans.

Bernanke said the Fed monitors how shifts in loan supply, loan demand and borrower quality may be affecting lending and the broader economy. But he noted that it’s hard to identify the influence of loan demand vs. loan supply. “For example, a shift in the economic outlook can affect both the willingness of the banks to lend and the desire and ability of firms and households to borrow,” he said.

The Fed chairman also acknowledged concerns of some bankers and borrowers that tighter supervision and regulations are making it tougher for banks to expand their lending. He said the Federal Reserve has taken a variety of steps to ensure supervisory actions don’t unintentionally constrain lending to credit-worthy borrowers. 

“For example, we have issued guidance to supervisors stressing the importance of taking a balanced approach to supervision and of promptly upgrading a bank’s supervisory rating when warranted by a sustainable improvement in its condition and risk management,” he said. In fact, he said, upgrades in the fourth quarter of last year and the first quarter of this year exceeded the number of downgrades for the first time since 2005. And the Fed has stepped up examiner training and emphasized the importance of an open dialogue with bank management.

“As the recovery gains greater traction, increasing both the demand for credit and the creditworthiness of potential borrowers, a financially stronger banking system will be well positioned to expand its lending. Improving credit conditions will in turn help create a more robust economy,” he said.

Read Bernanke’s entire speech here. What do you think of Bernanke’s assessment? Was there anything in his comments that surprised you?

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