Many banking and finance experts agree that the reaction to inflation — increasing interest rates — could take some serious air out of the economy, leading to a recession. Photo by Sean Robertson on unsplash.com

Historically low inflation has kept loan production strong for the past couple of years, but as inflation skyrockets, the Fed is pumping the brakes with drastic interest rate increases.

The Fed two weeks ago hiked up interest rates by 0.75% — the biggest increase in two decades — to slow inflation.

The goal is to change the behavior of consumers — to rethink the purchase of a home or commercial building or signing a business loan.

And while not across the board, Lo Nestman, CEO of Premier Valley Bank, said he’s seen a few people hold off from these big decisions.

“Inflation means people are going to have less money obviously to spend on other things,” said Nestman. “Everybody feels gas, right? I mean that’s just a cost for all of us.”

Nestman said supply shortages have caused businesses to take out loans to pay for more products and materials in a shorter span of time.

“They’ve been wanting to get as much materials as they could on the commercial side because it’s been hard. It’s been very difficult to get whatever it is that you needed for your business,” Nestman said.

People have also been increasing their lines of credit as well — or opting to stand on the sidelines for now.

Though with inflation comes uncertainty, the backbone of the economy is sound, he said.

“Your major underlying conditions around the market are very strong,” said Nestman.

According to the U.S. Bureau of Labor Statistics, Fresno’s unemployment rate has dropped to 6% as of April 2022. As of January 2021, unemployment was still over 10%.

There’s still a large demand for strong, qualified workers in many industries, Nestman said. In the run up to the Great Recession in 2008, homebuyers didn’t need to prove their income to buy a home. Since then, regulations have been set in place to ensure buyers have the funds to repay their loans.

“You don’t necessarily have that same type of housing problem that we’ve had in the past,” he said. “It’s a much different animal this go around.”

Of course, the specter of another recession looms large.

Antonio Avalos, department chair of economics in the Craig School of Business at Fresno State, looks to the National Bureau of Economic Research, an entity that defines a recession by decreasing gross domestic product over two consecutive quarters.

While the NBER is not a government entity, many look to it as a compass for the market. If the third quarter reflects a decrease in GDP, by definition, the country is headed for a recession.

“It is very likely that we’re facing another recession,” Avalos said. “The question is how long it’s going to take and also how deep it’s going to be.”

Steve Jones, CEO of Murphy Bank in Fresno, says community banks will actually do well with the rate increase because of their excess liquidity in cash.

“I think everything still points to the economy being relatively strong,” Jones said.

Murphy Bank relies on certificates of deposits, otherwise known as time deposits, to fund the portfolio of loans.

Banks tend to be on the receiving end of higher interest rates because earnings go up. However, it can have consequences for customers borrowing money.

As rates rise, Jones notes that it’s relatively low compared to other generations.

“We’re starting from an almost-zero rate environment,” he said. “From a historical perspective, even that increase isn’t out of the norm when you look at traditional rates in the market.”

It does have the potential to slow the economy by decreasing lending to businesses and individuals.

Jones predicts that even if a recession does occur in the next year, it would be fairly mild since there’s a tremendous amount of money in the market.

“The federal government put nearly $6 trillion into the hands of businesses and individuals during the pandemic to stave off massive recession and that’s creating our inflation right now,” Jones said.

Even if a recession does occur in the next year, Jones predicts it will take time for supply and demand to even out after it’s been tested with supply shortages.

Fresno State economist Avalos echoed that his colleagues predict a short and mild recession due to the hike in interest rates. While some argue that the Fed should have intervened a long time ago, it will help curb the depth of a potential recession.

“This recession is not going to be triggered by a collapse of the housing market or a financial market — this is a different type of recession,” Avalos said.

Strong bank liquidity points to households having excess cash, which Avalos said

“Banks are stronger, households are more financially secure, the federal reserve is already taking action. And I think those are the main reasons many economists believe that this is not going to be something that dramatic,” Avalos said.