Colin Barr

Following the money in banking, economics, and Washington

The bedridden banking recovery

August 31, 2010: 11:33 AM ET

The banks are feeling less woozy but have yet to get back on their feet -- let alone lend a struggling economy a hand.

Banks had their most profitable quarter in almost three years, the Federal Deposit Insurance Corp. said Tuesday. "The economic recovery that began last year is beginning to be reflected in rising earnings and improved credit quality," FDIC chief Sheila Bair said.

Sidelined

But the happy profit picture belies the many other signs that the banks simply aren't participating in whatever economic recovery is taking place now.

They certainly aren't lending. Outstanding loans have declined 7.5% since the second quarter of 2008, the FDIC said.

They aren't taking deposits. Domestic deposits at FDIC-insured institutions posted their slowest year-over-year growth in at least three years, according to FDIC data.

They aren't even buying many Treasury bonds. Insured banks' Treasury holdings rose at their slowest pace in two years in the second quarter, the FDIC said.

Instead, they are slowly repairing the damage done over years of profligate lending. In the process, they risk being sidelined when a recovery does start.

"The banking sector has made progress in cleaning up their balance sheets," Bair said. "Recent surveys show that lending standards are starting to ease for some types of credit, but lending will not pick up until businesses and consumers gain the confidence they need to hire and spend."

In the meantime, the industry seems to be stuck in some sort of suspended animation.

Take the bond-buying spree banks have been on. Treasury debt holdings at the 7,942 institutions covered by the federal deposit insurance fund rose 5% from first-quarter levels, the FDIC said Tuesday in its quarterly report on the health of the banking industry.

That rise takes banks' Treasury holdings to $165 billion, which is nearly triple their year-ago level. But the latest quarter's increase is the slowest since the end of 2008.

Also slowing in the latest quarter was the flow of insured deposits into banks. Domestic deposits at FDIC-insured institutions rose just 1.88% from a year ago in the latest period. That's the slowest deposit growth in at least three years, according to FDIC data.

Deposits soared during the financial crisis, rising as much as 9% in the fourth quarter of 2008 as savers fled the stock market for the safety of insured banks. But since then, the flow of assets has slowed down, and the absolute level of domestic deposits actually slipped slightly in the second quarter, to $7.7 trillion.

And while the industry is slowly regaining its health – industrywide profits rose 20% from the first quarter to $21.6 billion -- banks still aren't making loans. Though the biggest banks, the Bank of Americas (BAC) and JPMorgan Chases (JPM), are raking in big profits, they continue to be choosy about loans. That doesn't help a slow recovery that has yet to gain momentum.

"We also continue to see declining loan balances, unfortunately, especially at the largest banks," FDIC chief Sheila Bair said at a press conference Tuesday. Call it declining loans from reclining banks.

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About This Author
Colin Barr
Colin Barr
Senior Writer, Fortune

Colin Barr has covered finance for Fortune.com since November 2007. Previously he was a writer and editor for TheStreet.com, winning a 2006 Society of American Business Editors and Writers award for "The Five Dumbest Things on Wall Street," and for Dow Jones Newswires. He is a 1991 graduate of Penn State and lives in Port Washington, N.Y., with his wife Meena Bose and their two kids.

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