‘On Our Toes’: Banks and credit unions navigate near-record inflation

Local bank and credit union executives are flying without a map as they navigate a high-inflation, rising-interest-rate business environment that most have never experienced.

Prices on everything from groceries to housing have been climbing at the fastest rates in more than 40 years, forcing the Federal Reserve to boost interest rates in an attempt to bring down inflation that is stinging consumers and businesses.

Many bank and credit union leaders were children – or weren’t even born – when the Federal Reserve jacked interest rates to 20% in 1980 to slay inflation that hit 13.5% in 1980. Financial institutions have long been used to operating with inflation in the 2% range.

Plumstead

“It’s a very different environment we’re operating in from a financial services perspective than a year ago,” said Norman Plumstead, president and CEO of Honor Bank in Traverse City. “There’s not a pre-scripted playbook that many bankers have in place. It’s forced us to remain on our toes.”

Local bank and credit union CEOs say they’ve seen little impact so far from rising interest rates, aside from a slowdown in new mortgage applications and home refinancings.

But they’re keeping a close eye on such things as loan payment delinquencies, operating costs and the general health of the local economy as the Fed seems poised to raise interest rates at least several more times this year.

The Fed boosted its bench federal funds rate by 0.5% in May — the biggest increase in two decades – and is expected to hike it another 0.5% in June. The federal fund rate is the interest rate banks charge each other for short-term loans.

Kempf

“There are a lot of crystal balls (being viewed by) people trying to figure out what’s going on,” said Andrew Kempf, president and CEO of 4Front Credit Union in Traverse City.

Kempf is watching for trouble in 4Front’s large used car loan portfolio. Used car prices have been skyrocketing over the past year but are starting to slide as interest rates on used car loans rise.

Prices of used cars sold at auction fell 6.4% between January and April but are still 14% above the same period a year ago, according to Cox Automotive, a research service.

That might become a problem for banks and credit unions if the value of a used car falls below what a borrower owes, known as being “under water” on a loan. If the borrower suffers a job loss or other economic setback and can’t make the payment, he or she will typically walk away from the vehicle.

“They just turn in the keys. That’s historically what happens,” Kempf said. “We’re evaluating it but not losing a lot of sleep” over a potential problematic imbalance of the loan-to-value ratio in 4Front’s used-car loan portfolio.

Kempf said his credit union might be better prepared to weather a sharp downturn in used car prices than some other financial institutions because it did not offer loans financing 100% of used car purchase prices.

4Front held $239,070,234 in used car loans as of March 31, the credit union’s single largest loan segment.

Banks and credit unions also are seeing a significant slowdown in new mortgages and home mortgage refinancings as higher interest rates are cooling the Grand Traverse region’s hot housing market.

Zernow

“Higher rates have certainly impacted mortgage lending and, as it often does, it happened quickly,” said Doug Zernow, marketing director at Frankfort-based State Savings Bank.

Mortgage refinancing “has slowed dramatically,” Plumstead said, as mortgage interest rates have climbed to about 6% locally, up from a little over 2% a year ago. Plus, rising prices for construction materials and labor are slowing new construction, he said.

Karen Browne, president and CEO of TBA Credit Union, said rising mortgages rates are costing borrowers a bundle. The principal and interest monthly payment on a 30-year, fixed $100,000 loan at 6%, about what it is now, is $599. That’s up $164 a month from the same loan at 3.25%, an interest rate available just a few months ago.

Browne

But while inflation is taking a big bite out of family and business budgets, local bankers and credit union executives say they’ve yet to see much of an overall negative impact on the local economy.

“Many of the businesses we’re talking to anticipate having a busy year and summer,” Plumstead said. “Their challenge is finding employees.”

Commercial loans are “still pretty frothy,” Kempf said. He and others attribute that to a growing local economy, and to businesses needing more cash to offset rising wages and other higher costs of doing business.

Gillow

At Fifth Third Bank in Traverse City, “our commercial clients have certainly experienced increased labor and material costs,” said Autumn Gillow, Fifth Third’s northern Michigan market executive. “In turn, (credit) line utilization has increased and many clients have requested line of credit increases in anticipation of longer-term inflationary pressures.

“It’s a notable turn in the last 12 months,” she said from companies being able to fund much of their operations from cash and existing credit lines.

Local financial institution leaders are nervously watching to see if the Fed can tame inflation through periodic interest rate increases without spiraling the economy into recession. They’re split on that unappetizing prospect.

Acknowledging he’s “more bearish than most,” Kempf said he’s expecting a national recession by the end of the year or in the first three months of 2023.

Kempf bases that assessment on things the Fed can’t control, most notably the impact of Russia’s brutal February attack on Ukraine. He expects the war, with no end in sight, will continue to play a role in boosting fuel and food prices.

Others see some positive signs. Thomas Jalics, Fifth Third’s chief market strategist, said he sees “signs that inflationary pressures and supply chain problems may have peaked.” But inflation might settle in at a higher rate than businesses and consumers have seen over the past decade, he said.

Inflation rose 8.3% in April from a year ago, but that was down slightly from 8.5% in March.

This round of inflation poses a fundamentally different challenge from that of the late 1970s when prices were rising amid sluggish economic growth and high unemployment, a condition known as “stagflation.”

Today, economic growth is relatively strong and jobs are plentiful. Prices are rising mainly because of persistent supply chain and labor shortages. Consumers flush with cash are willing to pay the higher prices of scarce goods, also fueling inflation.

Once inflation takes off, economists say it’s very difficult to slow. That’s leading to a great deal of uncertainty about how successful the Fed will be in bringing it down.

“Can the Fed navigate a soft landing? I don’t know. I don’t think they know,” Plumstead said. “If I had the answer, they would probably put me on the Federal Reserve Board.”

 

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