Readers Question: There appears to be a lack of credit to companies whereas there are huge amounts of money in money market funds.
Why can’t those funds provide short term funding?
I’m not an expert in money markets, but, I would imagine some of the factors discouraging lending.
Financial institutions are nervous because of recession. A corportate loan has become a lot more risky because of the economic downturn. e.g. firms like Zavvi’s / Woolworth’s suddenly closing down. Therefore, even if banks have money to lend they would rather use it for secure investment. This is one reason why there is huge demand for US treasuries / bonds. Because even though they were only yielding 2%, they were considered one of the safest investments. Finance institutions are looking for low yielding, low risk investments before anything else.
Poor Liquidity. Although the sums involved in money markets is very high. Many hedge funds / finance institutions have had to write off bad loans meaning their balance sheets are pretty bad. Therefore, they are seeking to cover up their losses and improve their balance sheets by lending less – including even short term lending. The credit crunch is essentially characterised by banks not wanting to lend but hoard any cash.
Falling asset prices. With property prices falling and falling commercial prices forecast for 2009, loans become more risky.
Maybe these reasons apply more to long term investment. But, market sentiment is so low that finance institutions just don’t have the confidence to engage in normal lending practises.