Former U.S. Federal Reserve Chair Janet Yellen told the Financial Times in an interview that she is “worried about the systemic risks” in corporate leveraged loans, a kind of loan extended to businesses with weaker credit.
Regulators can require banks to hold a certain amount of capital in proportion to the loans they offer, and that proportion has risen in advanced economies since the 2008 economic crash. But Yellen, now an economist at the Brookings Institution, says banks are packaging up that debt and selling it elsewhere in an echo of the infamous collateralized debt obligations that contributed to the last crash due to their opacity and interconnectedness across the economy. The repackaged debt is a growing $1 trillion market unregulated by the U.S. Securities and Exchange Commission, which does not consider the tradeable loans to be securities.
Yellen sounded the alarm last month in an interview with Bloomberg.
She criticized the well-documented weakening of loan covenants, which set conditions to reduce risk on both sides of the contract. “You are supposed to realize from the crisis, it is not just a question of what banks do that imperils themselves, it is what they do that can create risks to the entire financial system. That lesson to me seems to have been lost,” Yellen told the FT.
In the FT interview, Yellen also pushed back against U.S. President Donald Trump’s unprecedented criticism of the Fed’s policies. “To totally undermine these institutions that are assets to the U.S. and the globe is worrisome,” she said.