Canadian households aren’t the only ones feeling credit tightening. Businesses are also reporting easy money is coming to an end — and fast. That was the consensus in the Bank of Canada (BoC) Business Outlook Survey (BOS) for Q1 2022. Businesses generally reported a tightening of conditions over the past 3 months. This is often a sign of lenders seeing risk in the system build, forcing them to lower negative exposure.
Why Are Credit Conditions Important?
The ease at which credit is widely available is a delicate balance, where we want credit to be easy — but not too easy. When the economy is good and risk is low, credit flows because the risk of loss is low. The easy credit helps to boost economic growth, which is a good thing as long as it’s not inflationary.
Credit conditions tighten when lenders see risk and are trying to lower exposure. As conditions tighten, the economy receives friction slowing growth. In an ideal scenario, credit is as free as possible without contributing to excess demand. Excess demand leads to inflation, which is the problem Canada and Western economies are seeing in general. Business credit is an important indicator, since they regularly deal with credit.
Central banks argue this time is different, an ominous statement often preceding a situation that isn’t so different at all. During the outbreak, credit conditions would have typically tightened to decrease loss risk. Central banks flooded the system to prevent any tightening, and conditions loosened. Consequently, the induced recession wasn’t typical for everyone. It actually produced excess for many, like the best economy ever.
Now to purge the excess, the conditions are tightening. It’s a unique situation, so maybe it’s different, maybe it isn’t. In either case, this is what’s happening with business credit in general.
Canadian Businesses Are Reporting Tighter Credit Conditions
The BoC often presents the balance of opinion for credit conditions, so let’s start there. This is the share of firms reporting tightening, minus the share reporting easing. Positive balances mean tightening, while negative means loosening conditions.
The balance of opinion this quarter is the highest since the outbreak first occurred. It came in at 6 percentage points in Q1 2022, up from 2 points in the previous quarter. A year ago this was -16 percent, so it’s a very different environment for loans. Two consecutive quarters of tightening haven’t been seen since the Great Recession.
Canadian Business Credit Conditions
The balance of businesses reporting tighter credit conditions, minus the share reporting easing. Positive numbers mean conditions are tightening, while lower numbers mean conditions are easing.
Source: Bank of Canada; Better Dwelling.
Canadian Businesses Last Reported This Share of Tightening Last Cycle Peak
The share of firms reporting tighter conditions is similar to the level at the last rate peak. In Q1 2022, about 15 percent of firms reported tightening conditions. This is up from 12 percent in the previous quarter, and 8 percent in the same quarter last year. It’s the highest since the initial outbreak. In more regular conditions, it’s similar to the peak of Canada’s last tightening cycle in 2018. This time we’re just getting started.
Only A Small Share of Businesses Are Finding Easier Conditions
Some Canadian businesses are reporting easing conditions, but it’s uncharacteristically low for Canada. In Q1 2022, just 9 percent of firms said they were experiencing an easing environment. This is down from 10 percent in the previous quarter and 24 percent (!) in the same quarter a year before. Historically, this is the smallest share of firms since Q4 2018. That’s not a surprise, since it was the peak of tightening during that cycle.
Canadian businesses are now facing a very different hurdle in this environment. For the past two years, the system was essentially flooded with cheap debt. To the point where it even became inflationary. Now that businesses are struggling with soaring inflation, they’re seeing credit throttled.
Yeh,
We are heading for recession , BOC, cut interest rate and bring back QE.
Sorry Fred. I think QE and MMT were a disaster. Rising commodity and real estate prices created an expanding multi-generational pool of disenfranchised Canadians who with the odds totally stacked against them could never save enough to buy into the only game in town.
Unfortunately, such a state of affairs is inevitable because we live in an unstable world where we can observe an unstable economy and tightening credit conditions go along with it. Everything has a causal nexus and this decision is justified by serious reasons. I would like to say that tightening credit conditions is a necessary measure in certain cases and it can help normalize the economy when we can observe a real economic downturn or inflation. We can’t deny the fact that there are reliable borrowers for which credit conditions can stay the same and it will contribute to their huge development. We will never see a completely stable economic situation, which indicates that no one is immune from such tightening and enterprises need to be ready for this.