by Wolf Richter, Wolf Street:
What does it mean when the Fed and other central banks jointly bemoan the effects of their own policies? Worried about not being able to keep all the plates spinning?
The Federal Reserve, the ECB, the individual central banks of Eurozone countries, such as the Bundesbank and the Bank of France, the central banks of negative-interest-rate countries outside the Eurozone, such as in Switzerland and Sweden, they’re all now lamenting, bemoaning, and begroaning one of the consequences of low and negative interest rates, the ballooning record-breaking pile of business debts.
This is ironic because these outfits that are now lamenting, bemoaning, and begroaning the pileup of business debts are the ones that manipulated interest rates down via their radical and experimental monetary policies, thereby triggering the pileup of business debts.
This debt pileup isn’t an unintended consequence of their policies. It was one of the purposes of their policies.
But central banks also know from history that this historically high level of business debts is a powder keg waiting to explode – company by company at first, and then as contagion spreads, all at once.
The Fed is a superb example. In its most recent “Financial Stability Report,” released in November, the Fed warns about the historic record-breaking pileup of business debts in the US, as a consequence of low interest rates, and it considers this business debt the biggest risk to financial stability in the US.
But this warning came after the Fed had just cut its policy interest rates three times, and after it had begun to bail out the repo market with over $200 billion so far, and after it had begun buying $60 billion a month in T-bills, in total printing over $300 billion in less than three months, to repress short term rates in the repo market and to bail out its crybaby-cronies on Wall Street – and not necessarily banks – that had become hooked on these low interest rates.
In its Financial Stability Report, the Fed warns about the ballooning debts of non-financial businesses. These are businesses that are not lenders. Excluding lenders from the tally prevents double counting of debts, since lenders borrow money to lend money. So this is money that non-financial companies owe, and they range from mom-and-pop restaurants to Apple.
The Fed measures this debt in several ways. In absolute dollars, these debts have skyrocketed from record to record and have hit $18 trillion. And as a percent of GDP, these debts have reached historic highs. The Fed says that “the most rapid increases in debt are concentrated among the riskiest firms amid weak credit standards.”
So we’ve got historically high debt levels, especially among the most leveraged companies with negative cash flows, amid loosey-goosey underwriting standards.
And the Fed warns about, laments, and bemoans the speed of this debt pileup, with business debts jumping by 5.1% over the past 12 months, much faster than the economy grew.
The Fed warns that “excessive borrowing” leaves businesses “vulnerable to distress,” in which case they will need to “cut back in spending,” which means layoffs and lower spending on other stuff and cutting back on investments. This ricochets through the overall economy. And it comes with a decline in overvalued asset prices, and suddenly the collateral for those debts begins to vanish.
So the Fed says: “These vulnerabilities often interact with each other. For example, elevated valuation pressures” – meaning high asset prices – “tend to be associated with excessive borrowing because both borrowers and lenders are more willing to accept higher degrees of risk and leverage when asset prices are appreciating rapidly. The associated debt and leverage, in turn, make the risk of outsized declines in asset prices more likely and more damaging.”