July 14, 2024

It’s no secret that the US commercial real estate industry is suffering.

And its downturn could lead to bankruptcy for up to 385 American banks, most of them smaller, regional ones, according to a new report by the National Bureau of Economic Research (NBER). That’s because more investors are expected to default on their commercial real estate loans, thanks to continued high interest rates and declining property values. Those defaults could trigger uninsured depositors to run on the banks—like they did with Silicon Valley Bank in March.

Digging into the details

Rising default rates on commercial real estate loans

The new normal of hybrid work has hit the commercial real estate sector particularly hard. Demand for office space keeps plummeting, and vacancy rates reached about 20% in the third quarter. US commercial real estate values have fallen by some 20% between early 2022 and late 2023, and they’ll probably drop another 5% to 15% next year, according to global real estate firm CBRE.

High interest rates mean investors will have a hard time refinancing their commercial real estate (CRE) loans, about 40% of which will reach maturity between 2023 and 2025, the NBER study reports. Lower property values, increased interest rates, and declining office demand could lead more firms to default on their loans in the next few years.

“If interest rates remain elevated and property values do not recover, default rates on CRE loans could reach levels comparable to or surpassing those of the Great Recession,” one of the study’s authors, Tomasz Piskorski, told Quartz.

The report (pdf) estimates that investors could default on between 10% and 20% of CRE loans, which make up about a quarter of all assets held by the average US bank.

Trouble for US banks

For uninsured depositors, that could prompt a run on the banks. Because higher interest rates have reduced the value of banks’ assets, they don’t have as much capital to repay their debts. As a result, more banks could go bankrupt.

While the report doesn’t include a time element, “once the system becomes unstable (like in March 2023) things can happen quite quickly,” Piskorski told Quartz.

The banks hit hardest would be smaller, regional players, the report noted, which could have broader economic impact.

“As the regional banking institutions play an important role in lending to local businesses, their distress could lead to a credit crunch with adverse effects on the real economy,” the NBER study’s authors wrote.

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