Montreal, Canada

According to the March 19 issue of Grant's Interest Rate Observer, bank lending in the United States continued to contract over the last three, six and twelve month periods. Unless it turns positive soon, this will mark the first post-WW II economic recovery without bank credit expansion.

Though we're definitely witnessing a recovery off the Q4 2008 lows as the global economy makes a comeback, bank credit remains elusive. Without bank credit growth an economic recovery might not be sustainable.

Credit markets, however, have not only healed since the collapse of Lehman Brothers in September 2008 but have probably overshot fair-value estimates in many cases. All facets of credit, including leveraged loans, are posting strong returns over the last several months.

Some fixed-income sectors within the junk bond space have surged more than 75% over the last 12 months. Junk bonds, where huge sums of capital continue to find buyers despite yields under 8% based on the Bank of America Merrill Lynch High Yield 100 Index, continue to rally this year with barely a correction since prices hit a bottom more than a year ago.

But if credit markets are healing or, in some cases, in a full-fledged recovery, then why haven't banks started to lend money? After all, banks have benefited enormously from fudged accounting rules passed last year resulting in an overnight earnings boon. If you believe bank financial statements, and I certainly don't, you'll see piles of cash on the balance sheets.

One explanation might be the steep yield-curve, or the difference between short-term interest rates and long-term rates, whereby banks have earned "free money" buying longer term Treasury bonds and borrowing at the Fed window for close to nothing. But that trade is coming to an end as rates continue to ratchet higher at the long end of the curve; also, the Fed is approaching the end of this historical period of near-zero money and will begin hiking rates before the year is over, if only in gradual steps.

Another explanation why banks refuse to lend might be that they are hoarding cash for an upcoming tidal wave of bad commercial real estate loans.

There's a mountain of refinancing coming due this year and into 2011; according to some estimates these loans will top almost two trillion dollars. There's no doubt a percentage of loan renewals will not be rolled over and some will default. Banks will have to provision for these losses, unless the government steps in again to change general accounting practices and makes bad loans an asset on the balance sheet!

One thing is for sure: you can't have a sustainable economic recovery without bank credit. And right now, banks aren't lending.