Banks would tighten lending standards if yield curve inverts, new Fed survey finds

Banks haven’t changed their lending policies so far in response to the flattening of the yield curve but would if it inverted, a new Federal Reserve survey finds.

The Fed’s questions — an addition to the senior loan officer survey it conducts each quarter — found that banks would tighten standards or price terms across every major loan category if the yield curve were to invert, a scenario that they interpreted as a signal of a deterioration in economic conditions.

Concern about a flattening yield curve — when the yield difference between longer- and shorter-dated bonds narrows — has been a talk of financial markets this year, particularly in the summer when the curve was the flattest it’s been since the boom years of 2016.

An inverted yield curve has often been a precursor to a full-blown recession. The yield curve can be defined as the difference between the yields on the 10- TMUBMUSD10Y, -1.27%  and 2-year Treasurys TMUBMUSD02Y, -1.27%  . The curve has inverted when the yield on the 2-year is higher than the yield on the 10-year.


Meanwhile, the Fed’s quarterly senior loan officer survey found that standards for commercial and industrial loans eased in the third quarter.

Banks left their standards on commercial real estate loans unchanged, while demand for those weakened as well, the survey found.

Banks eased their standards on most categories of residential real estate loans, the Fed reported, while demand fell. They kept standards on auto and credit card loans unchanged, as demand remained basically unchanged as well.

Banks reported they were less likely to approve such consumer loans for borrowers with FICO scores of 620 in comparison with the beginning of the year, while they were more likely to approve such consumer loans for borrowers with FICO scores of 720 over this same period, the Fed said.