Wells Fargo sets aside $1.4 billion to cover loan losses, tightens lending standards, and plans to liquidate $11.9 billion portfolio.

Wells Fargo & Co., the second-largest U.S. mortgage lender, said late Tuesday that it will set aside $1.4 billion during the fourth quarter to cover higher losses on home-equity loans caused by deterioration in the real-estate market.

The special reserve covers an $11.9 billion portfolio of loans that the bank originated or acquired through indirect sources such as mortgage brokers, according to the bank. That portfolio will be sold off under the guidance of a dedicated management team, Wells added.

The company, which originated almost $150 billion of mortgages in the first half of 2007, also said that it will tighten lending standards further. While still lending directly to its customers, Wells said that it will stop originating and buying new home-equity loans from some of its previous, indirect sources.

‘We believe it’s prudent to further tighten our standards, to stop acquiring new loans in these segments and to manage the portfolio as a liquidating, nonstrategic asset’ said John Stumpf, CEO Wells Fargo.

The $11.9 billion of home loans that were acquired through outside sources will now be liquidated. The bank already has stopped buying home-equity loans through so-called correspondent relationships, which include other financial institutions and mortgage companies.

In one word this is what John Stumpf, CEO Wells Fargo is describing: deflation. There is simply no other word for it.

Deflation is a decrease in money supply and credit. Wells Fargo is liquidating (cutting its losses in existing credit), while tightening lending standards for new credit.

Perhaps new credit at Wells Fargo exceeds the decrease in existing credit for a while, but the trend is clear and that trend is not just about Wells Fargo. Capital impairment is everywhere and capital impairment is going to restrict the ability of banks to lend whether Bernanke or anyone else likes it or not.

Take a look at Citigroup as Petrodollars Return Home. Citigroup raised capital at 11% interest in a desperation move to restore its balance sheet yet it is presumably offering prime loans at 7.5%. How long can this keep this up?

Bernanke and everyone else who is focused on capacity utilization, oil prices, the US dollar, wheat, or food at the local grocery store are simply focused on the wrong things.

The correct focus is on the ability and willingness of banks to lend, and the ability and willingness of consumers and businesses to borrow. Everything else is a sideshow.

Mike Shedlock / Mish
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