Commercial real estate lending slowed in the second quarter of 2023 and may not improve for several months if market conditions persist, regulators and industry groups warn in new reports.

The slowdown in new lending is tied in part to rising troubles in the office market, according to a new analysis from the Federal Deposit Insurance Corp., which released its annual banking risk review on Monday.

Bankers have reported tighter lending policies and weaker demand for all types of commercial real estate loans over the past year. In addition, they have said they also expect to tighten lending standards in 2023 across all loan categories.

The office sector is particularly vulnerable to deterioration in new lending and asset quality, the FDIC reported. With a decline in office demand and weak rent growth, some borrowers may have difficulty refinancing.

Longer-term leases, which are prevalent in the office sector, helped to insulate property owners from reduced occupancy as tenants continued to pay during 2022, the FDIC reported. However, the inability to renew expiring leases at viable rental rates, coupled with the erosion in office values, could make refinancing more difficult for some property owners without raising additional capital.

While overall commercial real estate loan delinquencies remained low among the banking industry through the first quarter, commercial real estate lenders may face challenges — particularly among loans backed by office properties in some large, urban markets — should conditions continue to weaken this year, according to the FDIC.

The slowdown in lending has been pronounced over the past three quarters, according to the latest research from CBRE.

The CBRE Lending Momentum Index, which tracks the pace of CBRE-originated commercial loan closings in the United States, declined by 5.4% in the second quarter from the first quarter and 52.2% when compared with the strong loan volume of a year earlier.

“Despite ample available debt, commercial lending has been hampered by choppy markets,” Rachel Vinson, president of CBRE’s debt and structured finance business in the U.S., said in a statement. “Borrowers who have to transact in the current environment are turning to shorter-term fixed loans until stability returns. Costlier credit with tighter terms continues to encourage many to sit on the sidelines.”

The Mortgage Bankers Association is forecasting that total commercial and multifamily mortgage borrowing and lending is expected to fall to $504 billion this year, which is a 38% decline from 2022’s total of $816 billion.

“Higher and volatile interest rates, uncertainty about property values, and questions about some property fundamentals have led to an impasse in property sales and mortgage originations activity this year,” Jamie Woodwell, MBA’s head of commercial real estate research, said in a statement. “Our baseline economic forecast anticipates that interest rates will moderate over the next year and a half, helping to break the current logjam in transaction activity and bringing relief to financing costs and property valuations.”

Before the markets can see much improvement, interest rates and cap rates will have to fall, the MBA added.

“Different interest rate paths would lead to different forecast outcomes,” Woodwell said.

Commercial mortgage originations have historically followed property prices — with increases in values pushing mortgage borrowing and lending volumes higher and declines pulling them lower.

“If interest rates and cap rates fall, as we anticipate, that should help boost values and promote borrowing,” Woodwell said. “If they remain higher for longer, that will suppress activity. The uncertainty about future interest rate paths is a contributing factor to today’s slowdown.”