Early Developments Could Keep Debt Markets Depressed in 2010

Even though many consumers and businesses took much of the last two weeks off and financial news was relatively light, there were economic developments that could impact, or at least presage, credit market activity in 2010.

Credit card issuers continued to scramble to raise fees and change cardholder agreements before the Credit Card Holders Bill of Rights takes effect on Feb. 1; the Federal Reserve announced that it was offering certificates of deposit for banks; and Fed Chairman Ben Bernanke told the American Economic Association that keeping rates too low for too long can lead to inflation.

“Even as we continue working to stabilize our financial system and reinvigorate our economy, it is essential that we learn the lessons of the crisis so that we can prevent it from happening again,” Bernanke said. “Because the crisis was so complex, its lessons are many, and they are not always straightforward. Surely, both the private sector and financial regulators must improve their ability to monitor and control risk-taking.”

Bernanke’s remarks, as well as the moves by the Fed and by card issuers, are signs that interest rates may move upward. Mortgage rates and credit card rates have already gone up. While the Fed has kept its benchmark at a target rate of 0 to .25 percent, Bernanke’s comments are seen by many as an indication that it might not be too long before government interest rates start going up.

Increased rates and the certificates of deposit are a couple of strategies the Fed is expected to use to soak up extra liquidity in the market.

Increased rates could mean that the banks will be more willing to lend, according to Dan North, chief economist at Euler Hermes, a trade credit insurance firm. However, with the higher fees, lower lines of credit and more careful scrutiny of consumer financial health before granting credit, many consumers won’t have the same access to credit that they had a few years ago, even when financial institutions are finally more willing to lend.

Financial institutions will only be lending to the most credit worthy customers, North said, pointing to increased advertising by Chase, American Express and a couple of other lenders for their credit card products. “They’re trolling for customers, but they’ll only make offers to the highest credit [rated] customers.”

The savings rate is also increasing, North pointed out. “Banks are accused of not lending, but there’s been a significant drop-off in demand as well. That may change very soon.”

The yield curve is extremely steep right now, North said. Once that starts flattening out a little, there will be more of a demand for credit, especially from businesses. Firms will want to borrow before rates go up too much. Additionally, rates won’t increase until there are definite signs the economy is improving. Many firms will need to borrow in order to take advantage of the economic rebound.

While consumers will continue to save at a higher rate than they have for a few years, which has prompted a few financial prognosticators to predict a double-dip recession, North doesn’t see that happening. Savings rates tend to go up in economic recoveries, he said.