Regional Outlook
 

FEDERAL DEPOSIT INSURANCE CORPORATION	 SECOND QUARTER 1999 

FDIC
 

National
 

Edition
 

Boston 

Chicago 

New 

York 

Atlanta 

Memphis 

Kansas 

City 

San Francisco 

Dallas 

Division of
 

Insurance
 

In Focus This Quarter 

◆ Economic Conditions and Emerging Risks in Banking—This article 

provides an overview of economic conditions and banking industry trends, with a 

primary focus on potential risks to insured depository institutions. 

● Economic Developments—Low interest rates, dormant inflation, and rising 

stock markets have all contributed to a generally positive near-term outlook for 

the U.S. economy. See page 3. 

●	 Trends Affecting Banking Lines of Business—Although credit conditions 

appear strong, risks exist in the major banking lines of business.	 See page 7. 

Consumer Lending—Continued high consumer loan loss rates raise questions 

about how lenders will fare under less favorable economic circumstances. 

See page 8. 

Commercial Lending—Corporate loan growth accelerated in 1998 even as the
 

corporate sector showed signs of stress. See page 9.
 

Commercial Real Estate and Construction Lending—Selected metropolitan
 

markets are experiencing rapid commercial development despite declining
 

indicators of demand. See page 10.
 

Agricultural Lending—Falling commodity prices threaten U.S. farm operators. See page 11.
 

Funding and Interest Rate Risk—Intense competition and the changing term
 

structure of interest rates have presented challenges for banks and thrifts.
 

See page 12. 

● Indicators of Industry Performance—Weaknesses appear to be developing for 

banks with certain types of exposures, and the dispersion in performance among 

insured institutions is increasing. See page 13. 

By the Analysis Branch Staff 

Regional Perspectives 

◆ Atlanta—The Region’s economic growth continued to 

outpace that of the nation while commercial bank and thrift 

returns remained strong in the fourth quarter, but earnings 

momentum may be slowing. See page 16. 

◆ Boston—The Region’s economy steadily expanded in 

1998, while financial institutions remained healthy. Some 

institutions increased their risk exposures to compensate 

for the effect on earnings caused by narrowing margins. 

See page 17. 

◆ Chicago—Because robust economic growth may be 

unsustainable and financial institutions saw a decline in 

performance during 1998, economic and financial sectors 

warrant careful monitoring in 1999. See page 18. 

◆ Dallas—The Region’s states have benefited from long 

economic expansions strengthened by consumer spending, 

but slower growth is expected in 1999. See page 19. 

◆ Kansas City—The Region’s 1,355 farm banks continued to report good financial results at year-end 1998, as the 

effects of a downturn in the farm economy are not yet widely evident in financial performance. See page 20. 

◆ Memphis—Slowing global economies have led to lower 

prices for many commodities that are important to the 

Region, particularly in the agricultural sector, as 1999 forecasts suggest a second consecutive year of declining farm 

income. See page 21. 

◆ New York—The Region’s savings banks continue to 

underperform commercial banks, while credit card banks 

remain vulnerable to growing consumer debt levels and 

other industry trends. See page 22. 

◆ San Francisco—The Region’s technology manufacturing slowdown presents challenges for communities with 

significant technology employment exposures. See page 23. 

A Publication of the Division of Insurance 
The Regional Outlook is published quarterly by the Division of Insurance of the Federal Deposit 

Insurance Corporation for the following eight geographic regions: 

Atlanta Region (AL, FL, GA, NC, SC, VA, WV)
 

Boston Region (CT, MA, ME, NH, RI, VT)
 

Chicago Region (IL, IN, MI, OH, WI)
 

Dallas Region (CO, NM, OK, TX)
 

Kansas City Region (IA, KS, MN, MO, ND, NE, SD)
 

Memphis Region (AR, KY, LA, MS, TN)
 

New York Region (DC, DE, MD, NJ, NY, PA, PR, VI)
 

San Francisco Region (AK, AZ, CA, FJ, FM, GU, HI, ID, MT, NV, OR, UT, WA, WY)
 

Single copy subscriptions of the Regional Outlook can be obtained by sending the subscription 

form found on the back cover to the FDIC Public Information Center. Contact the Public Information Center for current pricing on bulk orders. 

The Regional Outlook is available on-line by visiting the FDIC’s website at www.fdic.gov/ 

publish/regout. For more information or to provide comments or suggestions about the National 

Edition of Regional Outlook, please call Lynn Nejezchleb at (202) 898-3898 or send an e-mail to 

lnejezchleb@fdic.gov. 

The views expressed in the Regional Outlook are those of the authors and do not necessarily reflect 

official positions of the Federal Deposit Insurance Corporation. Some of the information used in 

the preparation of this publication was obtained from publicly available sources that are considered 

reliable. However, the use of this information does not constitute an endorsement of its accuracy by 

the Federal Deposit Insurance Corporation. 

Chairman Donna Tanoue 

Director, Division of Insurance Arthur J. Murton 

Executive Editor George E. French 

Editors Lynn A. Nejezchleb 

Maureen E. Sweeney 

Publications Manager Teresa J. Franks 
In Focus This Quarter
 

Economic Conditions and
 

Emerging Risks in Banking
 

Periodically, the Division of Insurance assesses conditions in the economy and across the banking industry in an effort 

to evaluate the types of risks that could adversely affect the performance of insured depository institutions. The analysis that follows describes the salient aspects of this assessment by focusing on three areas: 1) developments and conditions in the U.S. and global economies; 2) trends affecting particular banking lines of business; and 3) selected 

indicators of bank performance. 

In brief, the U.S. economy continues to provide a favorable environment for the banking industry. The industry as a 

whole has exhibited strong loan growth and minimal credit losses. Nevertheless, there are areas of concern, including subprime and high loan-to-value consumer lending, higher levels of leveraged commercial lending, localized 

overbuilding of commercial real estate, and the potential for credit quality problems among agricultural banks. 

Although it is uncertain when, or even if, these concerns will ultimately affect overall industry performance, the 

potential for stress among insured institutions is being monitored. 

Economic Developments
 

Conditions Have Improved Markedly 

since Late 1998 

The U.S. economy is now in its eighth year of expansion, the longest peacetime expansion during the postWorld War II era. Although analysts raised concerns 

about the durability of the expansion amid the late-1998 

financial market turmoil, the economic outlook since 

that time has improved for a number of reasons: 1) the 

75 basis point reduction in short-term U.S. interest rates 

between September and November helped to support 

consumer spending and business investment; 2) following several quarters of decline, U.S. exports rose unexpectedly during the fourth quarter; 3) inflation remained 

dormant even though U.S. labor markets were extremely tight; and 4) equity valuations for large-cap stocks 

rebounded and erased most of the losses incurred during August and September. 

Consumer Spending and Business Investment 

Are Key to Economic Strength 

Most of the standard indicators of health for the U.S. 

economy currently register values associated with the 

best macroeconomic conditions in our history. Growth in 

real gross domestic product (GDP) was 3.9 percent for 

all of 1998—the third consecutive year in which growth 

exceeded 3.5 percent. The U.S. economy added over 3.1 

million jobs during 1998, while unemployment averaged 

just 4.5 percent, the lowest annual figure since 1969. 

Despite this robust economic activity, inflation was also 

the lowest in a generation. Consumer prices rose by just 

1.6 percent in 1998, extending a seven-year streak during which prices have risen by less than 3 percent per 

year. At the same time, strong gains in the productivity 

of U.S. workers helped real hourly earnings rise by 2.7 

percent—the best performance since 1972—while unit 

labor costs of businesses rose by only 1.9 percent. 

Growth in business investment spending, which typically peaks in the early years of an economic expansion, 

has actually accelerated during the current expansion 

(Chart 1, next page). A number of factors appear to be 

responsible for this investment boom. One is the need 

for producers to invest in new technologies in order to 

cut costs and remain competitive. Also, rising stock 

prices, low interest rates, and low yield spreads during 

the past few years have helped keep the cost of capital 

relatively low. The result has been an economic expansion in which approximately 20 percent of net growth in 

real GDP has come from investment in producers’ 

durable equipment, versus approximately 10 percent 

during the long expansions of the 1960s, 1970s, and 

1980s. Bank commercial and industrial lending has 

expanded at an average annual rate of 10.6 percent over 

the past five years, largely on the strength of business 

investment spending. 

The underlying factors that drive consumer spending 

are strong. Low unemployment and rising real incomes 

have boosted the Conference Board’s consumer confiNational Regional Outlook 3 Second Quarter 1999 
In Focus This Quarter
 

CHART 1 

Low Interest Rates and High Stock Prices
 

Fuel Consumption and Investment
 

Personal Consumption Investment in Producers’ 

Expenditures* (%) Durable Equipment* (%) 

20 9 

15 7
 

5
 10 

3 5 

1 

0 –1 

–5 –3
 

–5
 –10 

* Annual Inflation-Adjusted Rate of Change 

Source: Bureau of Economic Analysis 

1990–91 

Recession 

’89 ’90 ’91 ’92 ’93 ’94 ’95 ’96 ’97 ’98 

dence index to its highest values since the late 1960s. 

Increases in new home construction reflect these favorable conditions. Almost 1.5 million new homes were 

completed during 1998—the highest level in ten 

years—while a record 4.8 million existing homes were 

sold (Chart 2). U.S. automobile sales reached 15.5 million in 1998, their best performance since 1986. Low 

interest rates also enabled a record number of homeowners to reduce their monthly interest expenses by 

refinancing their mortgages during 1998.1 

Although real disposable personal income grew by 

more than 3 percent during 1998, personal savings was 

essentially zero during the fourth quarter. This was the 

1 The Refinancing Index of the Mortgage Bankers Association posted an all-time high of 4,389 in the second week of October 1998. The 

index is scaled to a level of 100 as of the third week of March 1990. 

CHART 2 

Housing Starts and Home Sales Reflect the 

Strength of the Consumer Sector 

Sources: U.S. Census Bureau; National Association of Realtors 

2,250 

2,750 

3,250 

3,750 

4,250 

4,750 

5,250 

5,750 

’86 ’87 ’88 ’89 ’90 ’91 ’92 ’93 ’94 ’95 ’96 ’97 ’98 ’99 

One-Unit 

Housing 

Starts (000’s) 

550 

650 

750 

850 

950 

1,050 

1,150 

1,250 

1,350 

1,450 

1990–91 Recession 

Existing 1- to 

4-Family 

Sales (000’s) 

lowest rate of personal savings recorded in the United 

States since the Great Depression. The decline in personal savings has prompted much discussion of its causes and potential implications for the economy and for 

consumer credit quality. Most analysts have argued for 

the importance of a “wealth effect” from rising stock 

values on consumer spending.2 They note that although 

consumers are saving little out of current income, 

household wealth continues to grow rapidly, driving 

consumer spending higher. The willingness of American consumers to spend has been a prime factor in prolonging the economic expansion for the United States 

and in supporting the economies of countries around the 

world that depend on exports to the United States. This 

high degree of reliance on the U.S. consumer has led 

analysts to voice concerns that the wealth effect might 

reverse itself, leading to a sharp drop in consumer 

spending if there is a sustained stock market decline. 

Conditions Vary across Industry Sectors 

While overall conditions in the U.S. economy are good, 

certain sectors have been undergoing significant strain 

because of low commodity prices and weak foreign 

demand. 

Commodity price weakness extends across a wide range 

of items, from agricultural goods to industrial commodities to basic manufactured goods (Chart 3). 

Among agricultural commodities, grain prices have 

fallen substantially from their record-high levels of just 

three years ago, while prices for hogs and soybeans have 

also been under severe pressure. Industrial commodity 

prices have fallen sharply, with steel prices down by 

nearly 30 percent since January 1997. Certain manufactured goods show a similar pattern. The price of the 

industrial chemical benzene has fallen by 40 percent 

since January 1997, while the price of computer memory chips fell by more than 80 percent during that time. 

Oil prices decreased by nearly 50 percent between January 1997 and February 1999. Since mid-March, however, oil prices have increased as a result of agreements 

among oil producers to limit output. Analysts are uncer2 Personal savings is measured as the difference between disposable 

personal income (personal income less tax payments) and total consumption outlays. Increasing household wealth may reduce personal 

savings either through a reduction in disposable income or through 

increased consumption outlays. Tax payments resulting from capital 

gains will reduce measured disposable personal income. Increasing 

household wealth may lead to higher consumption outlays by means 

of the wealth effect. 

National Regional Outlook 4 Second Quarter 1999 
0 

In Focus This Quarter
 

CHART 3 

Price Weakness Extends across 

a Wide Range of Commodities 

Percent Decline in Prices from January 1997 to March 1998 

All 

commodities* Tin Steel Wheat Benzene Crude Oil 

–5 

–5.3%
 

–10
 –7.7%
 

–15
 

–20
 

–25
 

–30 –29.1%
 

–35
 

–36.2%
 –40
 

–40.6%
 –45
 

–50
 –47.4% 

* Producer Price Index (PPI)
 

Source: Journal of Commerce, Bureau of Labor Statistics
 

tain how long any reductions in output will be maintained or how much oil prices may increase during the 

next several months. 

Three trends in the global economy appear to be responsible for weak commodity prices. First, sustained low 

inflation has taken root both in developed nations and in 

many emerging economies. Low inflation has eliminated much of the speculative demand for commodities 

that was evident during the 1970s. Low inflation has 

also made it difficult for manufacturing firms to raise 

prices, while at the same time encouraging the implementation of new technologies to cut costs. Second, 

large-scale investment in plant and equipment during 

the 1990s in both developed and emerging countries has 

added vast amounts of new global manufacturing 

capacity, making industrial overcapacity a source of 

price weakness in a number of industries. Third, successive currency crises and the resulting recessions that 

have taken place in Asia, Eastern Europe, and Latin 

America have reduced global demand for commodity 

goods. Moreover, U.S. firms find that their products are 

less price competitive abroad because of the relative 

strength of the dollar. 

One reason the overall U.S. economy has proven so 

resilient in the face of weakness in the manufacturing 

sector is that firms have been able to restructure to cut 

costs and improve their market positions. Global overcapacity in industries such as oil and autos has been a 

driving force behind the record number and dollar value 

of merger deals announced during 1998. Mega-mergers 

involving Exxon-Mobil and Daimler Benz-Chrysler 

helped push the dollar volume of mergers announced in 

1998 to almost $1.2 trillion—nearly double the level 

announced in 1997 and far greater than any year during 

the “merger mania” of the 1980s (Chart 4). 

U.S. Foreign Trade Reflects Recent Turmoil 

in the Global Economy 

The U.S. economy increasingly relies on exports to fuel 

its overall growth. Between 1994 and 1997, export 

growth contributed about 1 percentage point each year 

to total net growth in real GDP. However, with the onset 

of the Asian economic crisis in 1997, the export sector 

stalled and became a drag on overall U.S. economic 

activity. During the first three quarters of 1998, exports 

decreased at an annualized rate of 4.4 percent, led by 

declines in capital goods, industrial material and supplies, and food and agricultural products. Weakness in 

exports was not limited to Asia; in fact, Canada, Mexico, and South America were also weak markets for U.S. 

goods and services during most of 1998. Declining 

goods exports and rising imports combined to push the 

U.S. balance of trade to a record deficit of $169 billion 

during 1998—a 50 percent increase from the year 

before. The trade deficit continued to increase in early 

1999. Data for January show an imbalance of nearly 

$17 billion, the largest monthly deficit ever recorded. 

Despite the weakness in foreign demand that was 

observed during much of last year, U.S. exports rose 

sharply at the end of 1998. Total exports jumped by 19.7 

percent during the fourth quarter, contributing 2.0 percent of the total 6.0 percent growth in GDP during the 

CHART 4 

0 

1,000 

2,000 

3,000 

4,000 

5,000 

6,000 

7,000 

8,000 

9,000 

0 

200 

400 

600 

800 

1,000 

1,200 

1,400 

Deal Value 

(Billions $) 

(Columns) 

Number of 

Deals (Line) 

Source: Houlihan Lokey’s Mergerstat 

Pressure to Maintain Profit Margins 

Has Led to Record Merger Activity 

Recessions 

’65 ’67 ’69 ’71 ’73 ’75 ’77 ’79 ’81 ’83 ’85 ’87 ’89 ’91 ’93 ’95 ’97 

National Regional Outlook 5 Second Quarter 1999 
In Focus This Quarter
 

quarter. This unexpected increase in U.S. exports 

involved nearly every region of the world except Eastern Europe. Export shipments increased across most 

product types, with the greatest increase in activity 

observed in capital goods. 

The Outlook for the Global Economy 

Remains Uncertain 

Developments during the past six 

months have resulted in an 

improved outlook for the global 

economy, but some key uncertainties remain. While the global 

financial system is more stable 

today than it was six months ago, 

some of the world’s most important economies either 

remain in recession or are experiencing slower growth. 

In this environment, the potential remains for shocks to 

arise in the global economy that could adversely affect 

the performance of the U.S. economy and the credit 

quality of insured depository institutions. 

Canada. The Canadian economy is healthier than at any 

time during the past several years. Canada’s economy is 

expected to track overall growth in the United States, in 

part because U.S. demand for goods and services is the 

principal support for Canadian exports. Canada’s relatively high dependence on weak commodity industries, 

such as metals, grains, and livestock, poses risks for 

producers and for local economies closely tied to these 

commodities. 

Mexico. Mexican GDP growth was 4.6 percent in 1998, 

reflecting relatively strong employment and wage gains, 

high levels of foreign direct investment, and robust nonoil export growth. Looking ahead, inflation remains a 

concern. At the end of 1998, the inflation rate was 18.7 

percent, up from a low of 15 percent in the middle of the 

year. The Blue Chip Economic Indicators consensus 

forecast calls for real GDP growth of 2.9 percent during 

1999, down from 4.6 percent in 1998. 

Western Europe. Europe’s problems are similar to 

those of the United States in that they stem from declining growth in manufacturing exports. Despite a 175 

basis point cut in short-term interest rates in the U.K. 

since October 1998, the Bank of England forecasts economic growth of less than 1.0 percent in 1999. In Germany, manufacturing activity has also decreased, owing 

to weakness in export markets. German GDP shrank by 

0.4 percent during the fourth quarter of 1998, while 

unemployment remains above 10 percent. In response to 

signs of growing weakness in Germany and other major 

economies in the 11-member “Euro-zone,” the European Central Bank cut short-term interest rates by 50 

basis points to 2.5 percent on April 8, 1999. 

Eastern Europe. Much of Eastern Europe is faced with 

slow growth or recession following the devaluation of 

the ruble and the default on Russian government debt in 

August 1998. The Russian economy shows few signs of 

recovery amid high inflation and halting progress in 

economic reform. Poland and Hungary, Eastern 

Europe’s engines of growth before the Russian crisis, 

are facing rising current account deficits and a slowdown in export growth. 

Asian Pacific Rim. The Japanese economy remains 

mired in a long-running recession that has resulted in a 

greater number of bankruptcies (up 17 percent in 1998), 

falling domestic demand, and pessimism among consumers and businesses alike. Japanese GDP fell by 2.8 

percent during 1998, and analysts call for a drop of 0.8 

percent in 1999. 

There are signs that the worst phase of the Asian economic crisis may have passed.3 In the Philippines, South 

Korea, Hong Kong, and Thailand, current accounts have 

moved from deficit to surplus as devalued currencies 

continue to depress imports. Foreign capital is returning 

to the region, as evidenced by the 27 percent increase in 

foreign direct investment in Korea during 1998. However, weak consumer spending remains a problem for 

the entire region, which ships fully 40 percent of all 

exports to other Asian Pacific Rim nations. 

In China, which has been relatively immune to the worst 

of the region’s economic crisis, slower growth is also 

forcing economic restructuring. With annual economic 

growth below the targeted 8 percent mark, economic 

planners have been forced to reduce production and 

close plants in the oil, steel, glass, and cement industries. Meanwhile, the government is trying to stimulate 

demand by investing in public infrastructure and by urging banks to increase lending to the private sector. 

3 See “The Asian Economic Crisis: Implications for the U.S. Economy,” Regional Outlook, Third Quarter 1998. Also available at 

http://www.fdic.gov/publish/regout/ro19983q/ny/infocus1.html. 

National Regional Outlook 6 Second Quarter 1999 
In Focus This Quarter
 

Latin America. With the apparent stabilization of the 

Asian economies, attention has now focused on emerging problems in Latin America. The 50 percent devaluation of the Brazilian real versus the dollar that began in 

January 1999 has depressed economic activity and 

renewed fears of inflation. Consensus estimates place 

Brazilian economic growth at negative 3.5 percent for 

1999, while short-term interest rates are likely to remain 

high (currently about 42 percent) to prevent further capital flows out of the country. 

Risks Remain despite a Positive 

U.S. Economic Outlook 

Robust economic growth, low inflation, and stable 

interest rates appear to be the most likely economic scenario for the remainder of 1999, according to the consensus forecast of the Blue Chip Economic Indicators. 

If this outlook actually comes to pass, we can expect 

that the vast majority of insured institutions will continue to enjoy moderate loan growth and generally favorable indicators of financial performance and condition. 

Despite this positive outlook, the risk remains that the 

expansion could be derailed by one of three types of 

shocks. The first would be a resurgence of inflation 

resulting from demand-induced shortages of labor or 

other key economic resources. Although inflation has 

been consistently low in recent years, investors remain 

on the lookout for any signs of higher prices. While it is 

not certain that a recession would result, it is worth noting that rising short-term interest rates in response to 

increasing inflation have preceded every recession during the past 40 years. 

The second type of shock that could end the expansion 

is a sustained period of deflation. Concern about deflation arises from the low prices many commodity producers are receiving and the effects of foreign currency 

devaluations on U.S. import prices. Although these 

trends have helped to keep U.S. inflation and interest 

rates low, at some point they could impose a heavier 

burden on U.S. businesses by shrinking revenues and 

profit margins, mirroring what has already occurred in 

some commodity-based industries.4 

The third type of shock is financial market instability. 

Consumer confidence, which has reflected recent 

increases in stock market wealth, could tumble in the 

event of a severe and prolonged decline in the stock 

market. Business investment has also depended on the 

support of strong and stable financial markets that offer 

firms access to capital on favorable terms and facilitate 

restructuring in troubled industries. A recession accompanied by financial market instability could pose a particular threat to bank loan performance because it would 

likely produce a disorderly shakeout of troubled firms 

marked by a rise in bankruptcies and loan defaults. 

4 See “How Will the Expansion End?” Regional Outlook, Second 

Quarter 1998. Also available at http://www.fdic.gov/publish/regout/ 

ro19982q/sf/infocus2.html. 

Trends Affecting Banking Lines of Business
 

Overview 

Trends in bank and thrift lines of business align closely 

with those of the economy. Most insured institutions 

have prospered during this economic expansion, as 

shown by the industry’s continuing earnings growth, 

strong capital levels, and improving or stable loan performance across most major loan categories. Likewise, 

today’s strong economy depends to a great extent on the 

continuing availability of consumer and business credit 

from banks and thrifts. Even during the closing months 

of 1998, when capital market funding sources became 

quite volatile, credit continued to flow from insured 

institutions. During that turbulent period, insured institutions may have acted as a stabilizing force for businesses, consumers, and farmers by continuing to provide credit, albeit at higher prices and with stricter 

underwriting terms in some cases. 

Although credit conditions appear strong, a number of 

insured institutions’ loan portfolios are shifting toward a 

riskier mix of credits. Underlying reasons for these 

shifts vary, but likely explanations include opportunities 

to earn higher yields and confidence about the overall 

economic outlook. The following paragraphs discuss 

credit risk trends and highlight possible areas of concern in the major lending lines of business at insured 

institutions. The influence of recent interest rate 

changes and competitive factors on asset/liability and 

credit risk management is also explored. 

National Regional Outlook 7 Second Quarter 1999 
In Focus This Quarter
 

Consumer Lending 

Debt Growth Sustains Consumer Spending but 

Could Contribute to Financial Strains under 

Less Favorable Economic Conditions 

Much of the strength and stability of the overall U.S. 

economy owes itself to the continuing growth in consumer spending. While higher personal incomes and 

consumer confidence are important contributing factors, lower interest rates and expanding avenues of credit access have also played key roles in supporting 

consumer spending. With mortgage debt leading the 

way, consumer loan growth rates accelerated in 1998. 

The key factor driving mortgage loan growth was lower 

interest rates, which encouraged many consumers to 

purchase homes, refinance existing mortgages, and 

consolidate their personal debts through home equity 

loans. As a result, the growth in home mortgage credit 

during 1998 reached a post-recession high of 10 percent. Other consumer loan types, such as auto and credit card debt, grew at slower but accelerating rates of 8 

percent and 5 percent, respectively. 

Nonmortgage consumer loan loss rates remain above 

previous recession levels despite the apparent strength 

of the consumer sector. Chart 5 shows that nonmortgage consumer loss rates have declined slightly from 

their peak in the fourth quarter of 1997, but remain 

above the rates experienced during the prior recession. 

The chart also shows that consumer credit loss rate 

trends are closely related to the rise in personal bankruptcy filings, which reached an all-time high of 1.4 

million in 1998.5 The good news for consumer lenders 

is that the growth rate in personal bankruptcies has 

slowed. However, this leveling off does not mean that 

consumer credit quality concerns have abated. The 

overriding concern is how personal bankruptcies and 

consumer credit losses, already at high levels, would be 

affected by less favorable economic conditions. Another concern is whether current consumer spending patterns will be supported by a new round of credit card 

growth. Since revolving credit card balances typically 

carry higher interest rates than home equity loans, this 

5 Reasons for the rise in personal bankruptcy rates are further 

explored in a series of Bank Trends articles published by the FDIC. 

See, for example, “A Time Series Model of the U.S. Personal Bankruptcy Rate, 1970-1996,” February 1998, and “The Effect of Consumer Interest Rate Deregulation on Credit Card Volumes, 

Charge-Offs, and Personal Bankruptcy Filings,” March 1998. Both 

reports can be accessed at www.fdic.gov/publish/bktrnds/index.html. 

CHART 5 

0.0 

0.5 

1.0 

1.5 

2.0 

2.5 

3.0 

1Q91 2Q92 3Q93 4Q94 1Q96 2Q97 3Q98 

0.0 

0.2 

0.4 

0.6 

0.8 

1.0 

1.2 

1.4 

Consumer Charge-Offs and Bankruptcies 

Have Leveled Off at a High Rate 

Bankruptcy Filings 

per 1,000 Population 

(Right axis) 

Sources: Administrative Office of the U.S. Courts; Federal Reserve Board 

1.6 

Consumer Loan 

Charge-Off Rate (%) 

“reloading” of credit card debt would further strain the 

financial flexibility of consumers. 

High Loan-to-Value Mortgage Products 

and Subprime Lending Transform 

Consumer Lending 

Consumer lending practices have changed significantly 

since the last recession. Because of intense competition 

and declining net interest margins, consumer lenders 

are reaching out to borrowers further down the credit 

quality spectrum and relaxing traditional collateral 

requirements. Bank supervisors have indicated that a 

growing number of insured institutions are involved in 

some form of subprime lending. Subprime loans, 

designed for borrowers with blemished or limited credit histories, can take a variety of forms, including home 

equity, automobile, and credit card loans. As compensation for increased risk, subprime loans carry higher 

interest rates than prime-rate loans and often require 

substantial collateral margins. 

Insured institutions are also embracing another relatively new consumer loan product: high loan-to-value 

(LTV) loans. High LTV loans, where the combined 

amount of senior and junior liens against a home 

exceeds its value, are usually made to borrowers with 

“clean” or unblemished credit histories. However, the 

lack of collateral protection results in much higher loss 

experience when a borrower defaults. As Chart 6 shows, 

high LTV loans have had a higher loss rate experience 

(adjusted for seasoning) than either traditional home 

equity loans or subprime loans. Moreover, the delinquency rates on recent-vintage home equity loan pools 

National Regional Outlook 8 Second Quarter 1999 
In Focus This Quarter
 

CHART 6 

0 

1 

2 

3 

4 

5 

6 

7 

0 2 4 6 8 10 12 14 16 18 20 22 

Months since Origination 

High LTV Mortgages* Have a Higher Loss 

Experience than Other Mortgage Types 

Charge-Off Rate (%) 

* Includes home improvement loans 

Source: Moody’s Investor Services 

High LTV 

Subprime 

Traditional 

Home Equity 

have deteriorated as high LTV loans have proliferated.6 

At the same time, recent regulatory surveys of credit 

underwriting practices show easing standards on home 

equity loans.7 The loss experience of these higher risk 

consumer products during less favorable economic circumstances is unknown and continues to be a concern. 

Commercial Lending 

Commercial Loan Performance Remains 

Strong but Corporate Financial Strains 

Are Developing 

Continued strength in the corporate sector is reflected in 

the level of corporate bankruptcy filings, which have 

declined since the middle of 1997 to just under 10,000 

in the fourth quarter of 1998. Bank losses on commercial credits remain low but did register a modest 

increase during the fourth quarter (see Chart 7). In addition to strong economic fundamentals in high tech, construction, finance, service-related, and other sectors, 

U.S. businesses have benefited from significantly lower 

interest rates and an abundant supply of credit. Credit 

access provided by banks was particularly important to 

U.S. businesses in the latter part of 1998. During this 

6 “Moody’s Home Equity Index Update.” Moody’s Investor Services, 

October 2, 1998, p. 3. 

7 For example, the Office of the Comptroller of the Currency’s “1998 

Survey of Credit Underwriting Practices” indicated that 33 percent of 

the banks offering home equity loans eased standards, compared with 

only 7 percent that tightened standards. The report is available at 

http://www.occ.treas.gov/cusurvey/scup98.pdf. 

period, sharply higher interest rate spreads on corporate 

bonds8 and commercial paper led many companies to 

tap cheaper funding sources, including existing unused 

credit and commercial paper lines held by commercial 

banks. As a result, commercial banks experienced a 15 

percent (annualized) rate of growth in fourth quarter 

1998, the highest rate of commercial loan growth in 16 

years. 

Although commercial loan loss rates are low, financial 

strains are becoming apparent among certain U.S. business sectors. Bank lending to U.S. businesses has grown 

at a faster pace than GDP during each of the past eight 

quarters. Moreover, growth in bank commercial lending 

through 1998 has come at a time when total after-tax 

U.S. corporate profits have begun to decline.9 Deteriorating profits are especially prevalent in sectors with 

exposure to weak commodity prices and slower export 

growth. For many businesses, lower profits have resulted in a reduced capacity to service outstanding debt 

obligations. For instance, a recent Bank of America 

Corporation study reported that amendments to syndicated loans in the latter half of 1998 were driven 

increasingly by borrowers seeking relief from financial 

performance-related covenants.10 Financial strains are 

8 The Merrill Lynch U.S. Investment Grade Corporate Bond Master 

Index indicates that corporate bond spreads over ten-year Treasury 

rates rose 58 percent, an increase of 63 basis points, from the end of 

July 1998 to the end of October 1998. 

9 See the Bureau of Economic Analysis Corporate Profit Index. 10 “Covenants Provide Loan Repricing Opportunity.” Bank of America 

Report, January 25, 1999. 

CHART 7 

0.0 

0.2 

0.4 

0.6 

0.8 

1.0 

1.2 

1.4 

1.6 

1.8 

2.0 

1Q91 3Q92 1Q94 3Q95 1Q97 3Q98 

Sources: U.S. Courts; Bank Call Reports 

Net Charge-Off Rate (%) Business Bankruptcies 

9,000 

10,000 

11,000 

12,000 

13,000 

14,000 

15,000 

16,000 

17,000 

18,000 

19,000 

20,000 

Domestic Commercial Loan Losses Remain Low 

and Business Bankruptcies Decline 

National Regional Outlook 9 Second Quarter 1999 
In Focus This Quarter
 

also reflected in the level of corporate bond defaults, 

which Standard and Poor’s reported at 48 ($10.8 billion in affected debt) in 1998, up 182 percent from 1997 

levels (up 150 percent in dollar volume terms).11 

As Debt Markets Become More Cautious, 

Syndicated Lending Shifts toward Higher 

Risk Borrowers 

Although the longer-term trend has been toward more 

aggressive corporate lending strategies, many insured 

institutions responded to the financial market turmoil in 

late 1998 with a heightened sense of caution. Recent surveys of underwriting practices conducted by the federal 

banking agencies show that many banks tightened standards in late 1998 across many product lines.12 However, 

tighter lending terms do not appear to have quelled 

either loan demand or loan production substantially. 

Syndicated lending trends suggest an increase in corporate lending risks.13 Despite the flight to quality that 

occurred in the latter part of 1998, syndicated loans to 

leveraged companies jumped 41 percent to $273 billion 

during 1998. Over the same period, nonleveraged loans 

declined 35 percent to $599 billion. Although corporate 

merger activity accounts for much of the increase in 

leveraged lending volume in 1998, some lenders appear 

to be taking advantage of the higher yields available in 

this market relative to yields on lower risk credits. The 

apparent shift toward a higher risk mix of total syndicated credit outstanding is occurring at the same time 

that corporate bond defaults for speculative grade issues 

are trending upward.14 Moreover, trends in corporate 

bond spreads and rating agency actions on corporate 

bond debt suggest a bond market that is becoming 

increasingly cautious about the outlook for U.S. businesses (see Chart 8). 

11 “Corporate Defaults Rise Sharply in 1998,” Standard & Poor’s, 

March 5, 1998. 

12 See Federal Reserve Board Senior Loan Officer Opinion Surveys 

for November 1998 and January 1999, http://www.bog.frb.fed.us/ 

boarddocs/snloansurvey/. 

13 Syndicated loans are credit facilities made to medium and large corporate borrowers by a group or syndicate of lenders. Analysts often 

segment this market into “leveraged” lending (loans to heavily indebted companies) and nonleveraged lending. 

14 Moody’s Investor Services reports that trailing 12-month default 

rates for speculative-grade issuers rose from 2.02 percent at the end 

of 1997 to 3.31 percent at year-end 1998. These default rates compare 

to an all-corporate trailing default rate of 0.68 percent in 1997 and 

1.27 percent in 1998. 

CHART 8 

0.4 

0.6 

0.8 

1.0 

1.2 

1.4 

1.6 

1.8 

2.0 

4Q93 4Q94 4Q95 4Q96 4Q97 4Q98 

–120 

–80 

–40 

0 

40 

80 

120 

160 

200 

Corporate Bond Ratings and Required 

Yields Reflect Greater Market Uncertainty 

Merrill Lynch Corporate Bond 

Master Index Spreads to Comparable

 Maturity Treasuries (bps) 

Sources: Moody’s Investor Service; Merrill Lynch 

Ratio of Corporate 

Upgrades to 

Downgrades 

Commercial Real Estate and 

Construction Lending 

Construction Loan Growth Accelerates 

as Overbuilding Pressures Increase 

in Certain Markets 

In 1998, the value of private commercial construction 

rose 4.0 percent over 1997 levels, reflecting a moderate 

slowdown in growth compared with a compounded 

average annual growth rate of 8.4 percent since 1992. In 

contrast, the pace of residential development has accelerated. The value of private residential construction rose 

11.5 percent in 1998, compared with an annual average 

growth rate of 8.0 percent since 1992. Construction 

loans at insured institutions grew 20 percent in 1998, 

the highest growth rate since 1986.15 

Although market fundamentals are strong throughout 

most major U.S. markets, some metropolitan areas 

appear to be vulnerable to an oversupply of commercial 

space. The Regional Outlook, First Quarter 1999, highlighted nine markets that may be susceptible to commercial overbuilding on the basis of the following 

factors: 1) the rapid pace of current construction activity in those markets; 2) high vacancy rates relative to 

construction in progress in some cases; 3) projections of 

rising vacancy rates by market analysts; and 4) various 

recent shifts in demand indicators. Data through June 

1998 indicate that construction activity in these markets 

15 Construction loan growth captures growth in both residential and 

nonresidential development. 

National Regional Outlook 10 Second Quarter 1999 
In Focus This Quarter
 

has not yet abated to reflect moderating demand levels.16 

Overbuilding concerns may be tempered to the extent 

that tighter commercial real estate lending standards 

slow the pace of development.17 

Loan Underwriting Study Reveals Sounder 

Practices Compared with the 1980s, but Intense 

Competition Forces Some Concessions on 

Pricing and Structure 

Beginning in August 1998, FDIC analysts set out to 

investigate construction loan underwriting practices in 

banks servicing various rapidly growing markets. The 

study identified several differences between today’s 

lending practices and those prevalent during the last 

cycle. Most importantly, today’s lenders are making 

credit decisions on the basis of improved appraisals, 

increased attention to project cash flows and project 

feasibility, and better market information on competing 

projects. However, intense competition has forced an 

across-the-board reduction in loan pricing margins even 

compared with margins at the height of the 1980s building boom. 

The study also identified some instances of aggressive 

loan structures, including pricing at extremely thin margins, waiving or limiting personal guarantees, waiving 

cash equity requirements, and lending on thin collateral 

margins. Borrowers who secured the most aggressive 

loan terms were typically larger developers, who presumably have the resources and financial flexibility to 

weather adverse conditions. Nevertheless, waiving personal guarantees and eliminating a borrower’s financial 

exposure to project risks are practices often cited in 

conjunction with the heavy construction loan losses 

experienced during the previous real estate downturn. 

Finally, the study found that many real estate investment 

trusts and large corporate developers have been able to 

obtain long-term unsecured financing for development 

purposes. The lack of collateral protection could make 

16 The nine markets are Atlanta, Charlotte, Dallas, Las Vegas,
 

Nashville, Orlando, Phoenix, Portland, and Salt Lake City. “Commercial Development Still Hot in Some Markets but Slower Development May Be Ahead.” Regional Outlook, First Quarter 1999,
 

www.fdic.gov/publish/regout/ro19991q/na/index.html.
 17 Consistent with commercial and industrial underwriting trends,
 

commercial real estate lenders reacted to market volatility in late
 

1998 by tightening loan terms and raising pricing margins. See, for
 

example, the Federal Reserve Board Senior Loan Officer Opinion
 

Survey for November 1998 and January 1999.
 

these loans particularly vulnerable to declining commercial real estate prices.18 

Agricultural Lending 

Farm Banks Threatened by Falling 

Commodity Prices 

Farm banks generally performed well in 1998, reporting 

a modest increase in nonperforming loans from 1.09 

percent at year-end 1997 to 1.13 percent as of year-end 

1998. Although delinquent loans rose only slightly 

in the aggregate, farm banks in some localized areas 

such as northeast North Dakota and northwest Minnesota experienced sharply higher problem loan levels 

and reduced profits in the aftermath of three consecutive years of low prices, bad weather, and crop diseaserelated problems. Moreover, recent surveys by the 

federal banking agencies, which show rising levels of 

farm carryover debt at farm banks, suggest that nonperforming loan data may understate borrower difficulties. 

During 1998, the outlook for significant portions of the 

farm sector deteriorated following a dramatic fall in 

prices for several major farm commodities. Prices for wheat, corn, 

soybeans, and hogs fell to ten-year 

lows and were below the economic breakeven cost of production for 

many producers. For areas heavily 

dependent on these commodities, 

the U.S. Department of Agriculture (USDA) projects that producers will experience 

substantial declines in net cash income from 1999 

through 2003.19 In 1999, the USDA projects farm 

income to fall 7.1 percent, to $44.6 billion, from last 

year’s level of $48 billion. 

Although current conditions have the potential to cause 

stress for substantial numbers of farm banks in certain 

regions, some significant differences exist between 

today’s circumstances and those that led to the farm 

18 Loan covenants may mitigate some of the risks of lending without 

collateral protection. Common covenants include maximum leverage 

ratios, minimum equity requirements, and limits on encumbered 

assets through recourse or cross-collateralization to third parties. 

19 A substantial portion of the USDA’s projected decline in the net 

cash income for U.S. farmers over the next five years is attributable 

to reductions in government payments to farmers. 

National Regional Outlook 11 Second Quarter 1999 
In Focus This Quarter
 

bank crisis of the mid-1980s. Current favorable factors 

include 1) lower debt-to-equity for farm producers; 2) 

substantially lower interest rates; 3) moderately appreciating farmland prices relative to the more rapid appreciation (and subsequent price corrections that followed) 

in the 1970s and 1980s; and 4) better underwriting practices by farm lenders. Nevertheless, if weak exports of 

farm products and low commodity prices continue for 

the remainder of this year, the condition of farmers 

could deteriorate significantly, increasing financial 

stress at insured farm banks. 

Funding and Interest Rate Risk 

Deposit Funding Becomes 

More Difficult to Obtain 

Competitive pressures in the banking industry are not 

restricted to lending. Insured institutions are also finding it difficult to attract deposits in today’s marketplace, 

largely because of the existence of higher yielding 

investment products. For example, the Investment 

Company Institute reports that net inflows into mutual 

funds have exceeded net increases in deposit accounts 

in all but three quarters since mid-1991. The fourth 

quarter of 1998 marked the sixteenth consecutive quarter that mutual fund inflows outstripped deposit increases. As deposits have become more difficult to attract, 

loan portfolios have expanded in line with the overall 

growth in the economy. As a result, institutions have 

turned increasingly to other borrowings for funding. 

These trends are captured in Chart 9, which shows that 

the ratio of bank and thrift loans to deposits reached a 

record 88 percent in December 1998. Small community 

CHART 9 

banks and thrifts (institutions with less than $1 billion in 

assets) are most affected by deposit trends, since they 

tend to rely more heavily on deposit funding than larger institutions with greater access to the capital markets. 

Interest Rate Changes Pose Asset/Liability 

Management Challenges 

Interest margin pressures are posing challenges for 

insured institutions. In addition to the effect of competitive pressures, changes in interest rates have had a substantial influence on institutions’ net interest margins. 

The flattening of the yield curve in 1998, for example, 

appears to have contributed to a decline in margins to 

their lowest levels since 1991 for both large and small 

insured institutions (see Chart 10). For insured institutions with more traditional asset/liability structures 

(longer-term asset holdings funded with shorter-term 

deposits and borrowings), a flatter yield curve results in 

lower spreads between asset yields and interest costs. 

The decline in long-term interest rates during 1998 also 

led to a record volume of mortgage refinance activity, 

as indicated by the Mortgage Bankers Association’s 

Refinancing Index.20 Among many mortgage lenders, 

the most immediate impact from this refinancing activity was the revaluation of servicing assets and lower servicing fee income. Some mortgage lenders also saw a 

significant increase in overhead as they expanded staff 

to accommodate higher loan application volumes. A 

20 This index hit its peak in mid-October and has since declined in line 

with a modest upward movement in fixed mortgage rates. 

CHART 10 

65 

70 

75 

80 

85 

90 

95 

’84 ’85 ’86 ’87 ’88 ’89 ’90 ’91 ’92 ’93 ’94 ’95 ’96 ’97 ’98 

Loans and Assets Are Growing Faster than 

Deposits at Insured Institutions 

Loans to Deposits 

Deposits to Assets 

Source: Bank Call Reports and Thrift Financial Reports 

Percent 

A Flatter Yield Curve in 1998 Placed 

Pressure on Net Interest Margins 

Sources: Federal Reserve Board; Bank Call Reports; Thrift Financial Reports 

1.0 

1.5 

2.0 

2.5 

3.0 

3.5 

4.0 

4.5 

5.0 

–50 

0 

50 

100 

150 

200 

250 

300 

350 

’84 ’85 ’86 ’87 ’88 ’89 ’90 ’91 ’92 ’93 ’94 ’95 ’96 ’97 ’98 

Assets 

< $1 Billion 

(right axis) 

10-Year Less 1-Year 

Treasury (bps) 

Mean Net Interest 

Margin (%) 

Assets 

> $1 Billion 

(right axis) 

National Regional Outlook 12 Second Quarter 1999 
In Focus This Quarter
 

longer-lasting impact involves the shift in borrower 

preferences toward fixed-rate mortgages. According to 

Freddie Mac, approximately 65 percent of adjustablerate mortgages refinanced in 1998 were replaced with 

30-year fixed-rate mortgages. Another 30 percent were 

refinanced into 15- and 20-year fixed-rate mortgages. 

As a result of this activity, mortgage lenders may tend 

to have a higher proportion of assets held in longer-term 

mortgage loans, leading to further margin pressures 

should interest rates rise. 

As discussed in previous sections, many insured institutions appear to be turning toward higher risk consumer 

and corporate lending strategies. Such strategic shifts 

may be at least partially in response to pressures on net 

interest margins. The search for higher yield spreads 

may also explain the continuing growth in nondeposit 

funding sources, which often take the form of complex 

obligations with embedded options that can reduce 

funding costs at the expense of additional interest rate 

risk. 

Indicators of Industry Performance
 

Market Signals for the Banking 

Industry Are Mixed 

Diminished concerns over the near-term economic outlook and reduced financial market volatility resulted in 

a sharp turnaround in investor attitudes toward banks in 

the fourth quarter of 1998. During the quarter, the SNL 

Bank Stock Index21 rose 21 percent, recovering all of 

the value it lost during the turmoil of the third quarter. 

The index has continued to rise in 1999. 

Although equity indicators have been generally positive, ratings actions in 1998 for the long-term debt of 

U.S. banks and finance companies reflect developing 

problems for certain industry segments. In sharp contrast to the previous six years, when upgrades far 

exceeded downgrades, Moody’s downgraded as many 

bank and finance company debt ratings as it upgraded 

during 1998. In the fourth quarter of 1998, Moody’s 

downgraded the long-term debt ratings of 27 bank and 

finance companies and upgraded only 15—the highest 

quarterly ratio of downgrades to upgrades since 1992. 

Downgrades during 1998 were centered in finance 

companies specializing in nonportfolio subprime lending and bank holding companies with exposure to 

emerging markets. 

Bank Performance Remains Strong but 

Earnings Variability Is Increasing 

Recent stable industry profitability in the aggregate has 

masked an increasing range of profit variability for 

individual commercial banks. Over the past six years, 

21 This index tracks the market capitalization of approximately 520 

banking companies. 

the annual aggregate return on average assets (ROA) for 

commercial banks has shown little fluctuation, ranging 

from a low of 1.15 percent in 1994 to a high of 1.24 percent in 1997.22 However, the variability in commercial 

bank profitability, as measured by the distribution of the 

industry’s ROA excluding the top and bottom 5 percent, 

has widened since 1994 (see Chart 11). For example, 

ROA for the worst 5 percent of the industry was negative 0.29 percent or less in 1998, reflecting a steady 

decline from 0.2 percent in 1995. Similarly, ROA for the 

most profitable 5 percent of commercial banks was 

above 2.16 percent, up from 1.94 percent in 1994. 

Reasons for the increasing variability of commercial 

bank ROA can be further analyzed by segregating institutions along predominant product or business lines. 

Chart 12 (next page) details the distribution of 1998 

22 FDIC Quarterly

www2.fdic.gov/qbp. 

CHART 11 

 Banking Profile, Fourth Quarter 1998, 

3.0 

’84 ’85 ’86 ’87 ’88 ’89 ’90 ’91 ’92 ’93 ’94 ’95 ’96 ’97 ’98 

Source: Bank Call Reports 

Bottom 5th Percentile 

Top 5th Percentile 

Mean 

The Range of Profitability for Commercial 

Banks Is Increasing 

Return on Asset Distribution 

–4.0 

–3.0 

–2.0 

–1.0 

0.0 

1.0 

2.0 

National Regional Outlook 13 Second Quarter 1999 
In Focus This Quarter
 

CHART 12 

–5% 0% 5% 10% 15% 

1998 Performance Varies by 

Business Specialization 

Return on Assets Percentage Distribution 

Agricultural 

(2,274) 

International 

(11) 

Consumer 

(211) 

Commercial 

(3,150) 

Specialized 

(621) 

Credit Card 

(68) 

Note: Group institution count is in parentheses. 

Source: Bank Call Reports (Research Information System) 

Industry Mean ROA=1.13% 

Bottom Fifth Percentile 

Top Fifth Percentile 

ROA for six selected groups of banks segregated by line 

of business concentrations. This chart reveals that bank 

performance varies considerably by business specialty. 

For example, the distribution of ROA of credit card 

lenders23 differs significantly from that of other bank 

groups, including other consumer lenders.24 Small specialized banks25 and commercial lenders26 followed 

credit card lenders as the groups with the greatest variability in profitability in 1998. Moreover, 75 percent of 

the least profitable commercial banks were members of 

small specialized or commercial groups. New banks 

have also influenced the dispersion of bank ROA. Banks 

chartered in 1997 and 1998 make up more than 60 percent of the industry’s worst performers. However, earnings variability widened in 1998 even when newer 

institutions are excluded from the analysis. 

23 Banks with at least 50 percent of managed loans in managed credit 

card receivables and at least 50 percent of managed loans in total 

managed assets. 

24 Banks with consumer loans and single-family mortgages in excess 

of 50 percent of assets that do not meet separate credit card or mortgage lending concentration thresholds. 

25 Banks with total assets less than $1 billion, and less than 40 percent 

of assets held in loans, that do not fall in other business specialties. 

Members of this group include de novo banks and more seasoned 

banks with low loan activity, such as trust companies. 

26 Banks with 25 percent or more of assets in commercial and commercial real estate loans. 

Far fewer commercial banks posted losses in 1998 than 

during the period from 1984 to 1992. Still, the number 

of unprofitable institutions appears to be rising despite 

generally favorable economic conditions. These concerns are mitigated somewhat, since today’s worstperforming institutions are generally much better 

capitalized and are burdened with fewer problem assets 

than their counterparts during the 1980s. 

Summary 

Most indicators of U.S. economic health remain robust 

in spite of the difficulties posed by low commodity 

prices and falling exports during 1998. The consensus 

forecast of leading economic analysts calls for continued growth in the U.S. economy for the rest of 1999. At 

the same time, a number of threats to this favorable outlook exist, including the possibility of higher inflation 

and higher interest rates stemming from strong economic growth. Other scenarios involve a very different 

threat—namely, price deflation brought on by global 

overcapacity and a decline in U.S. exports. Shocks that 

might arise in the foreign sector or in the financial markets, as experienced during 1998, remain a significant 

concern during 1999. Consumer spending and business 

investment seem particularly vulnerable to such shocks 

at this stage of the expansion. 

Favorable economic conditions are reflected in the overall performance of the banking industry. Still, a number 

of indicators suggest that the risk profile of some 

insured institutions is increasing. Responding to significant competitive pressures, and perhaps emboldened 

by the long duration of the current expansion, many 

institutions are expanding their involvement in higherrisk consumer loan products, such as subprime and high 

LTV loans and higher-risk leveraged commercial loans. 

The overall shift toward higher-risk credits is occurring 

despite signs of financial strain on the part of many consumers (in the form of record personal bankruptcies) 

and businesses (in the form of declining profits and 

increasing bond default rates). Credit-related concerns 

also extend to commercial real estate, where some markets are exhibiting rapid commercial real estate development at the same time that demand indicators are 

National Regional Outlook 14 Second Quarter 1999 
In Focus This Quarter
 

trending downward. Finally, sustained weak commodity 

prices are placing strains on farmers and could eventually lead to higher agricultural loan delinquencies. 

Bank and thrift net interest margins are being pressured 

by a flatter yield curve and heightened competition. 

Community institutions, which rely most heavily on 

interest income, are particularly vulnerable to tighter 

margins. The major concern in this area is that insured 

institutions will combat falling margins by entering into 

riskier funding and lending strategies. 

Market indicators and reported financial data reflect 

favorable industry performance as well as new sources 

of risk. Investor attitudes toward banking companies 

have improved since late 1998 because of an improved 

near-term economic outlook and a reduction in financial market volatility. However, a recent increase in 

ratings downgrades of bank and finance company longterm debt suggests growing concern over bank exposures to such areas as subprime lending and emerging 

markets. Despite relatively strong aggregate industry 

performance, profit variability among individual commercial banks has increased because of new chartering 

activity and pressures in consumer and commercial 

lending. As a result, for the first time since 1992, the 

worst performing 5 percent of all commercial banks 

were unprofitable last year. 

This article was prepared and coordinated by the staff of the Analysis Branch of the Division of Insurance. Contributions and feedback from analysts across the Division were essential to its completion. 

Maureen E. Sweeney, Associate Director 

Paul C. Bishop, Senior Financial Economist 

Richard A. Brown, Chief, Economic and Market Trends Section 

Steve Burton, Senior Banking Analyst 

Steven E. Cunningham, Chief, Financial Institutions Section 

Alan Deaton, Economic Analyst 

Diane Ellis, Senior Financial Analyst 

Jim Heil, Economic Analyst 

Brian Kenner, Financial Analyst 

Allen Puwalski, Senior Financial Analyst 

National Regional Outlook 15 Second Quarter 1999 
Regional Perspectives
 

Atlanta Regional Perspectives
 

Economic growth in the Atlanta Region and the 

nation remains strong, especially given the age of the 

current expansion. In February 1999, the current 

expansion, at 95 months, became the second-longest 

since World War II, according to the National Bureau 

of Economic Research. Employment in the Region in 

February 1999 was up 3.1 percent 

from one year earlier, compared 

with a 2.2 percent increase 

nationwide. Nonetheless, growth 

may have moderated slightly 

after reaching a peak during the summer of 1998, when year-over-year job 

growth in the Atlanta Region and the 

nation measured 3.7 percent and 2.7 

percent, respectively. 

The Atlanta Region commercial bank return on 

assets (ROA) of 1.40 percent in the fourth quarter of 

1998 comfortably outpaced the national average of 

1.11 percent. North Carolina, Georgia, Virginia, and 

South Carolina reported above-average returns in the 

quarter, while Florida, Alabama, and West Virginia 

lagged their regional and national peers. The gap 

between large and small bank performance widened in 

the fourth quarter. Large banks (assets over $1 billion) 

benefited from noninterest income gains, lower reserve 

provisions, and profitable credit card banking operations. Small banks (assets under $1 billion), which 

account for 95 percent of the Region’s institutions, continued to be hurt by declining net interest margins and 

limited fee income production. Banks in the Atlanta 

Region had limited direct exposure to the troubled foreign markets that led to trading losses and asset writedowns for some of the industry’s largest institutions in 

the second half of 1998. 

Although performance remains strong overall, earnings momentum may be slowing. The percentage of 

unprofitable commercial banks in the Atlanta Region 

has been edging higher on a comparative-quarter basis 

over the past three years. The upward trend in unprofitable institutions has been consistent across asset sizes, 

although the constraining factors differ for large and 

small banks. The ratio of unprofitable small banks has 

been influenced by heavy de novo activity, as more than 

half of the unprofitable institutions with assets under 

$100 million in the fourth quarter of 1998 were chartered within the past three years. Conversely, unprofitable banks with assets over $1 billion generally have 

been affected by restructuring and merger-related 

expenses. 

Consumer loans at insured commercial banks in 

the Atlanta Region actually have been falling relative 

to assets since 1995. A few factors may help to explain 

the downward trend in the consumer portfolio allocation. First, the data exclude institutions with more than 

$1 billion in assets as well as all credit card specialty 

lenders. This exclusion ignores the potentially large inRegion consumer lending activity of 55 commercial 

banks and 11 credit card specialty banks headquartered 

in the Region. (The exclusion was necessary because 

Call Reports do not collect geographic lending data, and 

the activities of these institutions extend well beyond 

Regional boundaries.) Second, the Region’s continued 

strong economy has sustained high demand for larger 

and potentially more attractive real estate and commercial and industrial loans at many institutions. A third 

possible explanation may be that credit unions and nonbank finance companies are becoming increasingly 

competitive with insured institutions and may have captured some of the consumer market in recent years. 

Consumer credit exposure at Atlanta Region institutions is not excessive, but the Region’s exposure to 

the potentially more risky nonmortgage segment is 

slightly above the national average. These conclusions 

are supported by a recent nationwide survey conducted 

by National Decision Systems, Inc. (NDS), which 

found total household debt in the Atlanta Region to be 

less than the national average when measured as a percentage of household income. However, the annual survey found nonmortgage debt-to-income levels for 

households in the Atlanta Region to be slightly above 

the national average. The fact that Call Report data and 

the NDS survey show higher levels of nonmortgage 

consumer debt in the Atlanta Region is notable because 

delinquency and charge-off rates for this portfolio segment have been rising since 1994 and are nearing levels 

reached during the 1991 recession. Given high employment, rising household incomes, record levels of unrealized financial-market wealth, and low interest rates, 

these would appear to be the “best of times” for U.S. 

consumers. For that reason, upward trends in consumer 

delinquencies and charge-offs raise some concern, as an 

economic slowdown (lower income and employment 

growth) or an increase in interest rates (higher interest 

burden) could weaken consumers’ ability to service an 

unprecedented level of personal debt. 

National Regional Outlook 16 Second Quarter 1999 
Regional Perspectives
 

Boston Regional Perspectives
 

The Boston Region enjoyed another year of solid 

economic expansion in 1998. Manufacturing was the 

only sector to show some weakness, although a net gain 

in factory jobs was still seen in many of the Region’s 

states last year. The Region’s job growth seemed likely 

to continue at a somewhat slower pace in the early 

months of 1999, as ongoing global weakness was still 

being offset by a very strong national economy. 

Existing home sales for the Region rose at almost 

twice the rate seen nationally between 1994 and 

1998. Favorable interest rates, continued job and 

income growth, a strong stock market, rising household 

wealth, and still-affordable pricing contributed to the 

home sales advances. Across the Region, residential 

building permit issuance rose by 13 percent. Last year’s 

gain was the strongest since the first year of the expansion in 1992. Nevertheless, permit volume remained 

only 40 percent of the volume seen in 1986, when residential construction activity last peaked in the Region. 

The Boston Region’s insured institutions reported 

another strong year for earnings in 1998. Earnings 

continue to benefit from strong asset quality. Aggregate 

loan losses remain subdued; however, consumer loan 

losses are elevated but stable. The only other sector 

exhibiting credit quality weakness in 1998 was commercial and industrial (C&I) loans. This weakness was 

limited to the larger institutions in the Region, suggesting that the losses resulted from exposures to sectors 

hurt by weak international and capital markets in the 

second half of the year. Many of those losses were well 

publicized and included several finance companies 

involved in subprime consumer lending. 

For institutions with limited exposure beyond the 

Region, C&I losses remained low. Core deposit 

growth remains lackluster for the Region’s insured institutions. The inability to grow core deposits has longterm liquidity implications. It is also weighing heavily 

on net interest margins, as incremental 

asset growth is being supported largely 

by funds that are effectively priced at 

national market rates of interest. 

Aggregate data are masking a 

weakening earnings posture 

for many of the Region’s 

insured institutions. In 1998, 

strong performance by credit card 

banks, coupled with increased levels of securities gains, bolstered 

profits; however, underlying trends pointed to a weakened earnings posture for the industry. Weaker earnings 

are arising primarily from increased loan loss provisions 

at larger institutions and a narrowing net interest margin 

that is negatively affecting a wide range of institutions. 

The internal and external pressures related to building shareholder value are resulting in an increasingly higher risk profile for the Region’s insured 

institutions that are affiliates of publicly traded 

companies. When compared with closely held and 

mutually owned institutions, public companies operate 

with significantly higher degrees of leverage. Public 

companies also have been steadily shifting the mix of 

both the loan and securities portfolios toward higher 

risk instruments. 

National Regional Outlook 17 Second Quarter 1999 
Regional Perspectives
 

Chicago Regional Perspectives
 

The Region’s economy remains healthy. Yet, as typically happens in an aging expansion, some indicators 

suggest that its robust economic health of recent 

quarters may not be sustainable as the year unfolds. 

Additional improvements—such as significantly lower 

unemployment rates or a pick-up in hiring by manufacturers—may be both small and hard to achieve. 

While some important manufacturing industries, 

like autos, continue to post strong sales, overall 

growth in the industrial sector is slowing. The Midwest Manufacturing Index (MMI) illustrates that a 

broad-based slowdown is under 

way. The steel and farm equipment industries have experienced sharp output declines 

recently, while the production of chemicals 

and of paper and related products has fallen 

less sharply. Because 

the MMI is a leading 

indicator of manufacturing employment in the Region, a 

recent slowdown in the MMI’s pace of expansion suggests that factory employment growth likely will remain 

tepid through midyear, at least. 

Unemployment remains low, but job growth is slowing unevenly across the Region. Since midyear 1998, 

the Region’s unemployment rate has hovered around 3.9 

percent, while job growth in 1998 was a moderate 1.7 

percent. However, the pace of job growth has both 

slowed in a growing number of counties and been 

uneven across the Region. The most dramatic downshifting has taken place among counties in Michigan 

and Ohio. 

New residential construction and home resales continue to be buoyed by low unemployment, favorable 

interest rates, and households’ rising net worth. Only 

Michigan fell short of posting double-digit growth in 

both permits for new single-family homes and home 

resales in 1998. The widespread weakening of job 

growth in the state may have contributed to the relatively weaker performance of its housing market. 

The Region’s banks and thrifts reported generally 

healthy financial conditions in the fourth quarter of 

1998. However, aggregate results reflect a modest 

deterioration in some performance measures. The 

decline in aggregate performance was driven chiefly by 

a narrowing net interest margin. Noninterest income 

continues to bolster net income for many insured institutions; however, an increase in the aggregate level of 

noninterest income in the fourth quarter was offset by a 

larger increase in noninterest expenses. 

Ongoing weakness in commodity prices, declining 

farmland values in specific areas, and emerging 

repayment problems pose risks to insured institutions active in agricultural lending. The United States 

Department of Agriculture forecasts that farmers will 

continue to face low commodity prices in 1999. Despite 

the continuing weakness in this sector, most insured 

institutions active in agricultural lending continue to 

report strong capital positions and financial conditions. 

However, financial institutions typically do not immediately show the effects of one or even two consecutive 

years of poor agricultural conditions. Loans to farmers 

who experience financial difficulties are often “carried 

over” into operating loans for the subsequent year or are 

restructured to reflect “current” status. As a result, current reported asset quality measurements may not reveal 

a rising risk profile in the agricultural loan portfolio. 

Continued low commodity prices may impede farmers’ 

ability to demonstrate adequate cash flow for both current operating and carried-over loans. Inadequate cash 

flow may force banks to base lending decisions on the 

value of available farm collateral rather than cash flow. 

Institutions making lending decisions based on the 

underlying value of farmland are most at risk to potential asset quality problems when cash flow difficulties 

combine with declining farmland values. 

The Homeowner’s Protection Act of 1998 is intended 

to prevent consumers from paying more private 

mortgage insurance premiums than necessary and 

to facilitate the cancellation of such insurance. The 

new law becomes effective in July 1999. Failure to 

ensure that requisite systems are in place to meet the 

Act’s requirements may expose insured institutions to 

potential liabilities for noncompliance. 

National Regional Outlook 18 Second Quarter 1999 
Regional Perspectives
 

Dallas Regional Perspectives
 

Insured institutions in the Dallas Region continued 

to report strong financial results and few credit 

quality problems for 1998, despite some signs of 

weakness in the fourth quarter’s results. The Region’s 

return on assets (ROA) and return on equity (ROE) for 

the fourth quarter were 1.00 percent and 11.60 percent, 

respectively, the lowest figures reported for both profitability measures in the past 12 quarters. Despite this 

fourth-quarter decline, the Region’s 1.16 percent average ROA for 1998 was equal to the national average. An 

important factor driving the decline in fourth-quarter 

profitability was the increase in the number of banks 

that lost money during this period. Increased loan losses and a declining net interest margin for small banks 

(those under $100 million in assets) also contributed to 

declining profitability. 

Farm banks in the Dallas Region continue to report 

financial strength, despite significant losses experienced by Texas and Oklahoma cotton and livestock 

producers. Crop insurance and early disbursements of 

production flexibility contract payments have provided 

cash flow to help farmers meet short-term needs. Prices 

for grain and cotton that are forecast to remain weak in 

1999 could stress agricultural producers. 

The four states in the Dallas Region have enjoyed 

economic expansions of longer duration and with 

typically faster growth than the current national 

expansion. The Region’s economy, however, is expected to experience slower growth in 1999 because of weak 

commodity prices, continued global economic turmoil, 

and a tight labor market. The Asian crisis could continue to weaken demand for the Region’s chemicals, oil, 

semiconductor chips, cattle, wheat, and cotton. Economic conditions for each state in the Region are summarized below. 

Colorado is one of the most diversified states in the 

Dallas Region, with a large share of employment in the 

fast-growing services, trade, and communications 

industries. Weak oil and natural gas prices have resulted 

in continued consolidation in the energy industry, placing pressure on the state’s mining employment. However, the state’s expanding services, construction, and 

trade sectors should more than offset weaknesses in its 

mining and manufacturing base. 

New Mexico has lagged behind the nation in employment growth since 1996. Employment growth is forecast to grow moderately from 1.5 percent to 2.0 percent 

in 1999. The fallout from weak commodity prices in oil, 

copper, and molybdenum has hurt the state’s mining 

sector. New Mexico’s oil producers account for approximately 4 percent of the state’s gross product on an 

aggregate basis. Many small producers have had to stop 

production, often permanently, because of low prices. 

2.5 percent and 3 percent for 

the past five years. An ailing 

oil and gas industry, however, 

is expected to cause some 

deceleration in Oklahoma job 

growth in 1999. Although oil and 

gas employment is a much smaller 

share of total nonfarm employment now 

than in the past, many manufacturers still 

depend heavily on the industry (e.g., producing oil 

machinery equipment, pipelines, etc.). A robust housing market, aggressive state and local economic development activities, and strengthening sectors in 

transportation and communications will help offset 

these losses. 

Oklahoma employment has 

grown consistently between 

The Texas economy showed few signs of slowing in 

1998. Still, job growth fell during the year, from 

approximately 4.5 percent at the beginning of 1998 to 

approximately 3 percent at year-end. Asia’s problems 

and the lowest oil prices in a decade affected the state’s 

manufacturing and mining industries, resulting in many 

job losses. Texas exports declined in the second half of 

1998, primarily because of weaknesses in Asia and 

South America. 

Consumer spending has been the key to the Region’s 

growth, but continued growth could increase consumer 

credit risk. Financial institutions in the Dallas Region 

held $36.2 billion in consumer loans at year-end 1998, 

representing 19.5 percent of all loans in the Region. 

This exposure exceeds the national average of 15.8 percent. A total of 683 insured institutions in the Dallas 

Region have grown their consumer loan portfolios by 

25 percent or more over the past three years. However, 

increasing debt-to-income levels, slowing job growth, 

and high consumer bankruptcy rates may make consumers vulnerable to potential adverse events such as an 

increase in interest rates, a slowing stock market, or a 

recession. 

National Regional Outlook 19 Second Quarter 1999 
Regional Perspectives
 

Kansas City Regional Perspectives
 

The Region’s economy continued to be strong at the 

end of 1998, as the unemployment rate continued its 

decline late in 1998, falling to 2.9 percent in December, 

compared with a national rate of 4.3 percent. Annualized employment growth declined slightly to 1.8 percent in December, with growth declining more in the 

manufacturing sector than in the services sector. 

Despite generally strong employment trends, points 

of vulnerability have begun to appear in the 

Region’s economy. Low prices for agricultural products, including corn, soybeans, wheat, and hogs, have 

resulted in a decline in farm 

purchase decisions. Through 

accumulate across the Region, 

farmland values continues to 

culture. Evidence of eroding 

communities that depend on agriincomes, and in turn have 

negatively affected the rural 

as expectations of reduced 

farm earnings influence land 

the third quarter of 1998, personal income has grown at 

a rate of 4.3 percent, compared with the national rate of 

5.0 percent. 

In aggregate, as of December 31, 1998, the Region’s 

farm banks (institutions where agricultural operating loans and agricultural real estate loans total at 

least 25 percent of their total loans) continued to 

report sound financial conditions. Reported earnings 

and capital levels remained historically strong. 

In aggregate, farm banks reported few problem loans 

despite the precipitous drop in corn, soybean, and wheat 

prices that occurred in 1998. Generally, significant 

changes in farm bank past-due loan ratios lag decreasing prices by at least two harvests because banks typically “carry over” unpaid loans from a poor year into 

subsequent years, suppressing the loans’ delinquency. 

As such, aggregate past-due ratios in the Region still 

reflect farmers’ strong earnings in 1996 and 1997. However, in the northeast corner of North Dakota and the 

northwest corner of Minnesota, farmers have experienced several poor years, first because of diseaseravaged wheat harvests and then because of low wheat 

prices in 1998. As a result, past-due and noncurrent loan 

rates are rising in these areas, and continued low prices 

forecasted for 1999 could signal even higher levels of 

problem loans. 

Low energy prices threaten jobs in Kansas and 

North Dakota. Prices of crude oil and natural gas have 

declined significantly since early 1997, threatening 

employment in the energy industries of Kansas and 

North Dakota. Much of the employment at risk is located in sparsely populated areas that are already suffering 

the effects of low cattle prices during the past several 

years. These areas also lack other significant employment opportunities for displaced workers. The current 

period of low prices may lead to a long-term contraction 

of the industry as many marginal oil wells are permanently abandoned. 

According to an analysis by the Kansas Geological Survey, as many as 3,600 jobs in the extraction sector will 

be at risk in 1999. The same study estimates that another 2,000 jobs will be lost in 1999 owing to indirect 

effects of depressed energy prices throughout the state’s 

economy. Companies have been laying off less-experienced and lower-paid workers, but the cuts are now 

moving up the experience ladder, depleting the industry 

stock of human capital in the form of expertise. 

Sprint’s new office complex may challenge Kansas 

City’s office market. Sprint, Kansas City’s largest 

employer, is building a new 3.9-million-square-foot 

world headquarters in suburban Johnson County, 

Kansas. Sprint plans to vacate about 2.5 million square 

feet of leased office space in Kansas City over the next 

three years, which could significantly drive up office 

vacancy rates in the metropolitan area. Developers have 

slowed but not stopped speculative office construction 

in anticipation of Sprint’s move. Perhaps more important, however, is the timing of this significant office 

project so late into an economic expansion. A recession 

could dampen the growth in office employment and 

related demand for office space. Sprint’s new world 

headquarters is expected to increase area vacancy rates, 

which could adversely affect both owners of existing 

office properties and the financial institutions that fund 

such properties. 

National Regional Outlook 20 Second Quarter 1999 
Regional Perspectives
 

Memphis Regional Perspectives
 

Employment growth in the Memphis Region continues to slow. The trend will likely persist throughout 

1999 because of continuing tight labor markets, the 

potential for slowing real estate construction, and the 

cumulative effects of the economic crises in Asia, Russia, and Brazil. Employment growth in 1998 was hindered by slowing growth in the service sector, which 

represents approximately 25 percent of the Region’s 

total employment, and accelerating job losses in the 

manufacturing sector. 

The Region’s banks and thrifts reported generally 

healthy financial conditions as of December 31, 

1998, although earnings performance declined. The 

Region’s average return on assets ratio (ROA) was 1.06 

percent for the year, down 6 basis points from 1997. 

Lower net interest margins (NIMs) were the driving factor in lower performance. The average NIM was 4.33 

percent, compared with 4.47 percent in 1997. 

The Region’s important agricultural sector continues to be monitored closely as weaknesses are projected to continue into 1999. The United States 

Department of Agriculture projects the value of agricultural exports to fall for a second consecutive year in 

1999 in response to weaker worldwide demand. Prices 

for many commodities are expected to remain low, and 

some crop prices, such as soybeans and cotton, will 

likely finish the year well below 1998 levels. Net farm 

income in the Region is expected to decline for the second consecutive year. 

Although agricultural loan losses remain low, other 

asset quality indicators are showing the effects of lower 

commodity prices and 1998’s poor growing conditions. 

Total past-due agricultural loans rose at the end of 1998, 

and anecdotal evidence suggests that carryover debt is 

increasing. Asset quality concerns for the Region’s agricultural lenders will likely increase in 1999 with a second consecutive year of declining farm income. During 

the most recent period of two consecutive years of 

declining farm income, past-due agricultural loans and 

agricultural loan losses at the Region’s agricultural 

lenders were largely unaffected at the end of the first 

year of lower farm income, but rose substantially in the 

second year. 

Other financial institutions in the Region may be 

affected by lower farm income. Low commodity 

prices and last year’s poor growing conditions also have 

an indirect effect on commercial banks that do not have 

high agricultural loan concentrations but are located in 

agriculture-dependent counties. Such counties have historically reported greater employment and personal 

income volatility than other parts of the Region. 

Farmland values may weaken in 1999 because of 

expectations of lower farm income. Early indications 

of falling land values already have been 

reported in parts of some states in the 

Midwest. Declining land 

values could erode collateral 

protection for banks as well 

as a primary source of farmers’ net worth. Some farmers 

may have difficulty arranging 

financing in the coming years 

because of the combination of 

lower farm income, reduced collateral values, and declining net worth. Other farmers may 

be unwilling to “farm on their equity” and could sell 

out, adding to the downward pressure on land values. 

The energy, timber, and primary metals industries 

also have been affected by weaker worldwide 

demand. Louisiana’s energy sector reported a loss of 

3,000 jobs in the second half of 1998. The rebound in 

oil prices in the first quarter of 1999 could benefit the 

sector’s employment, but efforts by energy companies 

to cut costs may limit job gains. The timber industry 

also experienced job losses in 1998, primarily in 

Louisiana. Employment in the primary metals industry 

was stagnant during 1998. New hiring plans have been 

announced recently because the Region’s metals producers have comparative advantages, primarily lower 

labor costs and newer production facilities. 

National Regional Outlook 21 Second Quarter 1999 
Regional Perspectives
 

New York Regional Perspectives
 

With the nation prospering from the longest peacetime expansion ever, the Region’s economy is growing steadily. The combined gross state products for the 

Region increased for the seventh consecutive year, 

climbing 2.9 percent in 1998. This performance represents the highest increase since 1994, but it is a full percentage point below the nation’s growth rate. 

The financial services industry, which includes the 

banking, insurance, real estate, and securities sectors, is significantly more concentrated in the Region 

than in the nation. This industry accounted for 25 percent of the Region’s total economic output in 1998, 

compared with 19 percent for the nation. Fueled by the 

stock market, this industry has experienced increased 

profitability, which in turn has 

led to a surge in workforce productivity in the Region. However, because of the strong link 

between economic growth and 

the stock market in the 

Region, a sustained disruption 

in the stock market could have 

particularly adverse consequences for the Region’s economy. 

The combination of recessions in Asia, Russia, and 

Brazil is putting pressure on the economies of both 

the Region and the nation. Regional exports to Brazil 

dropped more than 11 percent between 1997 and 1998, 

after rising for several years. During the same time, 

Regional exports to Asia dropped more than 14 percent. 

The Region’s exporters could face a further drop-off if 

the Brazilian economy continues to contract. Moreover, 

some of the Region’s manufacturers are being harmed 

by an influx of cheap imports from these troubled 

economies. 

The Region’s banks and thrifts reported generally 

healthy financial conditions in the fourth quarter of 

1998. The Region’s average return on assets (ROA) was 

0.94 percent, compared with 0.97 percent at year-end 

1997. The average net interest margin (NIM) declined 

to 4.0 percent in the fourth quarter, compared with 4.16 

percent a year earlier. Aggregate past-due ratios continued to decline, although they rose slightly in commercial and industrial loans and consumer loans. The 

Region’s international banks, after reporting lower earnings in the third quarter, rebounded in the fourth quarter, despite continued weakness in emerging markets. 

The Region’s 358 savings institutions (savings banks 

and savings and loan associations) are underperforming commercial banks. As of December 31, 1998, 

this group had an average ROA of 0.71 percent, compared with 1.10 percent for commercial banks. The primary reasons for the difference are lower average NIMs 

and a comparative lack of noninterest income. This 

group reported an average NIM of 3.37 percent as of 

year-end 1998, compared with 4.40 percent for commercial banks. The average NIM in savings institutions 

declined significantly from year-end 1997. Savings 

institutions are feeling the effects of two years of a flat 

yield curve and low long-term interest rates. 

Different measures of consumer debt suggest a 

mixed picture for the nation’s borrowers. For example, in 1998, household debt grew much faster than personal income. However, debt levels as measured against 

rising household net worth have been declining over the 

past several years. Further, the nation’s debt service burden seems to have leveled off in the past two years 

because of lower interest rates, higher personal income 

levels, and the fact that mortgage-related debt is 

increasingly being substituted for credit card and other 

forms of consumer debt. This substitution reduces current debt payments but increases future liability. 

Consumer borrowing behavior is very important to 

the New York Region because of its concentration of 

credit card banks. Growth rates of card receivables 

declined in 1998, reflecting increased competition, 

industry consolidation, and the influx of new products 

such as high loan-to-value loans and subprime loans. 

Nonetheless, unfunded commitments on credit cards in 

the Region surged 23 percent in 1998, suggesting 

intense competition for market share. Institutions that 

do not monitor card usage closely could be vulnerable 

to credit quality problems, because cardholders tend to 

draw down unused lines when they face financial distress. Although banks can reduce card lines voluntarily, 

knowing when to do so is difficult; warning signs may 

not be readily apparent, and banks may notice trouble 

only after cardholders have run up their balances. 

National Regional Outlook 22 Second Quarter 1999 
Regional Perspectives
 

San Francisco Regional Perspectives
 

Although the San Francisco Region’s manufacturing 

sector slowed significantly during 1998, its economy 

continued to outperform the nation in job growth. 

The Region added jobs at a seasonally adjusted 3.0 percent rate—well above the nation’s 2.3 percent rate—for 

the 12 months ending December 1998. Nevada, Arizona, and California significantly outperformed the 

nation, while Wyoming and Hawaii were far off the 

pace. The Asian crisis, a key factor in the Region’s manufacturing job losses, did not materially affect the performance of most insured financial institutions. Insured 

institutions without international or subprime exposure 

benefited from the Region’s strong economy and reported solid profits. 

The emerging story in the San Francisco Region’s 

economy in 1998 was the downturn in hightechnology manufacturing jobs. The Region is 

heavily dependent on high-tech manufacturing jobs and 

exports, both of which have weakened following the 

Asian crisis. The weakness is even more pronounced in 

several states and metropolitan statistical areas (MSAs) 

in the Region because they have large high-technology 

job clusters. In part because of the expansion of hightech industries prior to 1998, several of these MSAs 

experienced rapid growth in their real estate markets. In 

several of these MSAs, community bank exposure to 

construction and commercial real estate (CRE) lending 

now is far above the national averages of 3.3 and 16.5 

percent of total assets, respectively. 

The slowdown in San Jose’s manufacturing sector in 

1998 was sufficient to dampen employment growth 

in the entire San Francisco Bay Area. Measured in 

terms of total job growth, San Jose fell from one of the 

Region’s fastest-growing MSAs in 1997 to one of its 

slowest-growing in 1998. Computers, defense electronics, and electronic components all reported job losses in 

1998. Past growth in technology jobs had made San 

Jose one of the Region’s most active real estate markets. 

Consequently, San Jose’s community banks have much 

higher exposure to construction and CRE loans, at 11.8 

and 31.7 percent of total assets, respectively, than similarly sized institutions in the Region and nation. 

Portland, like other MSAs in the Region with a hightech manufacturing cluster, has been hurt by the 

continued Asian crisis. Much of Portland’s economic 

strength prior to 1998 had been attributable to its growing manufacturing sector, particularly high technology. 

However, after significantly outpacing the nation in 

terms of job growth, Portland’s economy is showing 

signs of slowing, because of declines in exports to Asia. 

Although Portland’s community banks have not yet 

been hurt by the high-tech slowdown, these institutions 

have significantly more exposure to construction and 

CRE loans at 7.8 and 26.4 percent of total assets, 

respectively, than their peers in the nation. 

In 1998, combined employment figures for the Salt 

Lake City and Provo MSAs showed continued weakness in durable goods manufacturing, likely because 

of a reduction in high-technology exports to Asia. 

High technology also has conincrease the risk to area commuThe current high-tech 

tributed significantly to the economic expansion of Salt Lake 

City and Provo over the past 

decade. 

slowdown in these MSAs may 

nity banks that have significantly increased their exposure to 

traditionally higher-risk loan 

categories like construction and 

CRE loans. Community banks in Provo and 

Salt Lake City now have combined construction loans 

to total assets of more than 15 percent, well above averages for both the Region and the nation. 

The Sacramento MSA also saw its manufacturing 

employment growth rate slow considerably during 

1998. While the expansion of high-tech companies in 

Sacramento has brought manufacturing jobs to an 

MSA suffering from defense cutbacks, it has made the 

MSA more susceptible to the global trends hurting 

some high-tech firms. Before the recent high-tech 

slowdown, the expansion of technology companies had 

led to rapid development. Consequently, community 

banks headquartered in Sacramento now have construction and CRE loans totaling 12.6 and 33.7 percent 

of their assets, respectively, well above the national and 

regional averages. 

Although the Phoenix-Mesa MSA continues to grow 

rapidly, its manufacturing sector is beginning to 

slow, principally in the area of high technology. The 

Phoenix MSA is relatively heavily dependent on hightech exports. As yet, the slowdown in high-tech manufacturing has not hurt the MSA’s strong real estate 

market or community banks. 

National Regional Outlook 23 Second Quarter 1999 
✁
 

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