There are many small business people who contend that they cannot get a loan. The press reports that banks are sitting on their money and not loaning any. They are just making a safe spread between very low bank rates and Treasury bonds.  By driving interests rates down even further this spread decreases and thus will force the banks to actually loan to customers.  This is supposedly the purpose of QE2.

But what if the problem is that there is a deficit of good loans to make?  The banks are in the business of lending money.  If I have a warehouse full of steel but I do not want to sell a customer with bad credit am I being stingy or prudent?

There may be demand for loans but the critical element is the quality of the loans. There is a big difference between loaning to someone who is losing money and wants money to stave off bankruptcy until the ‘ market turns’,  and a loan for a profitable company who wants to expand or buy new equipment. The first is trying to borrow his way to solvency and the latter is borrowing to grow.

Borrowing to remain solvent is just postponing the inevitable and the remaining banks are not, nor should they be, willing to make these loans.  Opportunities to grow require liquidity.  If the growth history and plans are sound then the loan makes sense.

Banks used to be more comfortable loaning against sound plans and forecasts than they are today. Today they want assets to secure and the most common assets, and real estate has become so illiquid that their value for collateral has been discounted.

QE2’s attempt to unfreeze bank lending is an example of using monetary policy to solve fiscal problems.  Business growth has been stilled because of reckless legislation with the ruinous combination of uncertainty and higher costs.  No one knows what the costs of the health care bill will be, what a new employee will cost, or what their taxes will be.  Few businesses are being created and many are closing or cutting back. There is already plenty of money in the system. It is foolish to believe that interest rates are the reason it is not being deployed.

Solutions to provide liquidity will not solve problems of solvency.

Monetary solutions will not solve fiscal problems.