Jitters Over Private Credit

Could jitters in private credit — shorthand for lending by non-bank financial institutions — emerge as the canary in the coal mine of America’s fiat money system? This slice of the finance sector, also called direct lending or shadow banking, encompasses trillions of dollars loaned out by asset managers. Concerns are rising over the health of this sector, with, say, Apollo Global Management and Ares Management limiting withdrawals from private credit funds.Those moves today bar investors from retrieving even half of the money they sought to withdraw from Apollo’s and Ares’s funds, Bloomberg reports, calling it “a sign of mounting strain in the $1.8 trillion market.” On Monday Moody’s downgraded its debt rating to “junk” on a private credit fund operated by Kohlberg Kravis Roberts & Co. and Future Standard, CNBC reports, “amid rising bad loans and a string of weak earnings.”It’s not our intention here to sow undue alarm about these developments in the private credit sector. Yet the turmoil shows signs of vindicating concerns voiced by, say, JPMorgan Chase’s chief executive, Jamie Dimon. In July, Mr. Dimon had cautioned that “Wall Street’s hottest trend,” private credit, “reminded him of the craze in subprime mortgages that sparked the 2008 financial crisis,” as the Wall Street Journal summarized his private views.Mr. Dimon’s concerns, in the Journal’s telling, related to the risks associated with private credit. The recent “boom in lending to financially risky companies” was led by financial firms, the Journal reported, as opposed to banks. The traditional lenders “have typically shied away from this business because of stiff regulations meant to protect depositors,” the Journal added. The private credit market, NPR reports, “exploded” starting around 2010.That timing is not coincidental, analysts reckon, as that was the year the Dodd-Frank regulatory regime was imposed on banks in the aftermath of the 2008 financial crisis. PwC reports that the Dodd-Frank law, meant to avoid a repeat of the meltdown, “constrained banks’ risk taking, providing an opening for private credit.” The sector is, per PwC, “both unregulated for the most part and beyond the reach of regulators to compel reporting.”It wouldn’t be the first time that financial markets have sought to evade onerous regulations from Uncle Sam, triggering unintended consequences. Feature the results of the Sarbanes-Oxley Act of 2002, an attempt to regulate away risk in the aftermath of the crash of, say, Enron and WorldCom. By putting constraints on the bond market, Sarbanes-Oxley pushed the finance world toward novelties like derivatives, helping to spark the meltdown of 2008.In a similar way, the Panic of 1907, prompted in part by lending activity by trusts, dubbed the “shadow banks” of their time, led liberals at Washington to blame what Congressman Carter Glass called “the handicap of an unscientific currency system.” The ensuing creation in 1913 of the Federal Reserve was envisioned to put an end to economic crises. Instead, within 16 years the Fed’s mismanagement of the 1929 crash helped trigger the Depression.These attempts reflect the hubris of trying to regulate away what monetary sage James Grant calls “the cycle of decay and renewal” that “is as much a part of capitalism as it is of the forest floor.” Under a gold standard, booms and busts helped preserve economic equilibrium. A dollar convertible to gold at a weight defined in law held prices steady over the long run. A fiat dollar fuels asset bubbles, and the kind of tumult seen today in private credit. Call it fiat debt.

Jitters Over Private Credit

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