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Commercial and industrial loans rise, and with them, risk

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U.S. banks, large and small, are loosening their purse strings again. Not too long ago, they were rebuked for taking billions from the government but passing precious little of it on to job-creating business borrowers. Persistently low interest rates have given them reason to lend, though; increasing loan volumes is one way to offset lower interest margins (the difference between what banks make on loans and what they pay for deposits) at a time when investment securities are also paying next to nothing. Some banks have lot of real estate debt remaining on their books, making business loans an attractive diversifier.

U.S. commercial and industrial (C&I) loans totalled $1.5-trillion (U.S.) at the end of April, according to the Federal Reserve. That is up 10 per cent from last year and about 25 per cent higher since credit diminished in the years after the financial crisis. Indeed, C&I loans are not too far from the $1.6-trillion pre-crisis peak. Banks ranging from huge Bank of America to tiny Maryland-based OBA Financial Services increased C&I loans by about 20 per cent year over year in the first quarter, says SNL Financial.

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More C&I lending is both good and bad. Diversification is welcome not just in the type of borrower, but also the type of cash flow. Most C&I loans are floating rate. Once interest rates do rise, banks will be happy to have them. If companies are borrowing, presumably they are investing in plants, equipment and people, which all benefit the economy. The lending environment has become very competitive, though. Both bank executives and rating agencies have voiced concerns about underwriting standards. It is hard to know which banks, if any, are losing track of common sense. At best, some may be making unprofitable loans, which will not do much for their margins. At worst, when rates rise, defaults will, too.

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