Mullins Says Loan Spreads Slow Recovery

WASHINGTON - Unusually wide spreads between banks' cost of funds and loan yields are muffling loan demand and holding back the recovery, Fed Vice Chairman David W. Mullins Jr. said Tuesday.

"It's true that banks are facing weak loan demand, but loan demand is weak in the context of higher spreads," Mr. Mullins said in a speech to the National Economists Club.

In the public capital markets, he added, "there is plenty of loan demand. We've had very large debt issues."

No Help for Borrowers

Repeated easings by the Fed over the past year have not had their full effect in reducing interest costs to borrowers, Mr. Mullins said. That is because banks are taking advantage of low funding costs to improve their capital positions and bolster loan reserves.

The Fed's discount rate is currently 4.5%, the same as the federal funds target. The last time the discount rate was this low, the prime rate was 5.25%, but it now stands at 7.5%, Mr. Mullins noted.

Though his comments implicitly criticized banks for not passing along lower rates to customers, Mr. Mullins appeared to be giving banks the benefit of the doubt.

Disparity Persists

He noted that spreads widened to about 300 basis points at the end of recessions in the 1970s and in 1981, but only for about one quarter.

"Now that process of increased spreads, which is a necessary part of the healing process, has continued for quite a few quarters," he added.

Mr. Mullins said he is confident that banks will be ready to lend by spring or summer when, he predicted, many businesses will be poised to grow, having cleaned up their balance sheets.

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