Goldman Cuts GDP Outlook On Small Bank Stress Blowback

Earlier today we highlighted comments by TS Lombard’s Steven Blitz, who laid out the path to the end of this asset cycle, pointing out that, given current liability structures and the low ratio of reserves to deposits, we “have reached the point (usually happens when banks fail) where credit will be rationed going forward to strengthen bank balance sheets.”

This “credit rationing” that the TS Lombard strategist mentions, is how expansions turn into contractions, adding that “recession is inevitable.”

According to Blitz, events like SVB and the knock-on impact on bank credit activity brings forward the timing of that contraction in growth.

And now Goldman Sachs appears to agree, cutting its GDP growth forecast as ongoing pressure could cause smaller banks to become more conservative about lending in order to preserve liquidity in case they need to meet depositor withdrawals, and a tightening in lending standards could weigh on aggregate demand.

Manuel Abecasis and David Mericle point out that small and medium-sized banks play an important role in the US economy.

Banks with less than $250bn in assets account for roughly 50% of US commercial and industrial lending, 60% of residential real estate lending, 80% of commercial real estate lending, and 45% of consumer lending.

Based on two separate approaches – driven by a fundamental accounting of the drag on lending from a more conservative risk-taking regime; or by linking any impulse in Goldman’s financial conditions index to bank lending standards and through to growth – Goldman’s Economics team sees a drag on 2023 Q4/Q4 GDP growth of 0.3% to 1.2%.

On the bright side (kinda), bank lending standards had already tightened significantly over the last few quarters to levels previously unseen outside of recessions, presumably because many bank risk divisions shared the recession fears that have been widespread in financial markets.

This is important because it means that lending standards started at a tight rather than a normal level, and as a result the incremental impact of a further tightening brought on by recent small bank stress might be more limited than it seems at first.

But the lagged effect of that lending constraint has yet to show up en masse.

Finally, Goldman explains that this level of tightening in lending standards is equivalent to one to two additional 25bps hikes, which could help explain why expectations for Fed hikes from here have collapsed amid systemic risk and financial stability threats.