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| The US economy is facing many challenges. (Source: WSJ) |
High interest rates push businesses to the brink
One after another, corporate giants including SVB Financial, Bed Bath & Beyond and Yellow have filed for Chapter 11 bankruptcy protection this year, blamed on an environment of high inflation and interest rates, weakening government aid and persistent supply chain disruptions. With the race to raise interest rates still rattling, the list of bankruptcies is likely to continue as high interest rates push large companies to the brink.
While bankruptcies reflect hardship, the collapse of large companies carries particularly serious economic risks. They can send chills through financial markets, put tens of thousands of people out of work or — as in the case of Lehman Brothers in 2008 — fuel speculation that a recession is on the way.
Indeed, the collapse of trucking company Yellow this summer sent shockwaves across the U.S. economy, from the domestic transportation and real estate markets to Wall Street.
The U.S. economy is still growing as consumers go on a spending spree and businesses ramp up hiring. Employers added a surprisingly strong 336,000 jobs in September 2023, with hiring across the board.
But bankruptcy filings have surged, with one estimate saying they tripled in the first half of this year compared to the same period last year, along with growing economic risks.
Households are running out of savings due to the pandemic, banks are curbing lending and bond yields are rising. All of this is holding back growth.
The rise in corporate bankruptcies “is a worrying sign for the (economic) outlook,” said Stephen Brown, deputy North America economist at research firm Capital Economics.
The US unemployment rate hit 3.8% last month, up from a half-century low of 3.4% earlier this year. And while overall job growth remains strong, there are signs that it is weaker at large companies than at smaller ones.
ADP, which compiles monthly payrolls, said large private companies laid off 83,000 workers in September 2023. Employment at these large companies was down 150,000 from January.
“Mega bankruptcies,” or those involving companies with more than $1 billion in assets, rose to 16 in the first half of this year, exceeding the 2005-2022 half-year average of 11, according to consulting firm Cornerstone Research.
Cornerstone said SVB Financial Group, the parent company of Silicon Valley Bank, was the largest corporate bankruptcy, with nearly $20 billion in assets at the time of filing. SVB’s financial troubles quickly spread, fueling fears of a recession and prompting the Federal Reserve to step in to calm markets. SVB’s collapse triggered a slump in bank lending and continues to threaten the economy.
Consumers may notice Bed Bath & Beyond stores closing at local shopping malls after the company filed for bankruptcy and announced plans to close stores across the United States.
Yellow, one of the largest trucking companies in the United States, also filed for bankruptcy this summer. Yellow’s shutdown has eliminated about 30,000 jobs, the largest reduction at a single company since Boeing announced in late 2020 that it would cut about 30,000 workers.
Hopes for a "soft landing" are fragile
Still, job cuts across the U.S. remain historically low. The trajectory of the labor market is key to determining whether the Fed can lower inflation to its 2% target without triggering a recession, a so-called “soft landing.”
As inflation eases, many economists are hopeful that a “soft landing” scenario may be more likely than earlier this year. Others, however, are less optimistic.
Steven Blitz, chief economist at GlobalData TS Lombard, said the growing number of bankruptcies, combined with a weak stock market and rising credit card delinquencies, suggests the U.S. economy may be headed for a recession. But Blitz said the downturn would still be much less severe than the 2007-2009 recession.
“You’re not going to see the bankruptcies and balance sheet stress that you saw during that period,” the economist said. The recent surge in bankruptcies does not mean “the economy is going into a vicious cycle.”
Rising bankruptcy filings during periods of expansion sometimes indicate concentrated turmoil in a few industries rather than widespread weakness. That was the case in 2015 and 2016, when falling oil prices led to a wave of oil and gas bankruptcies, but the U.S. economy continued to grow steadily.
Large businesses that borrowed at a time of extremely low interest rates are among the most vulnerable when the economy slows and interest rates rise.
Many companies have survived the past few years by taking advantage of the ultra-low interest rate environment, but many of them are seeing those loans come due and are having trouble refinancing because interest rates are now significantly higher, said Amy Quackenboss, executive director of the American Bankruptcy Institute.
Aircraft leasing company Voyager Aviation Holdings said its bankruptcy filing this summer was partly due to the higher interest rate environment.
Other companies with floating-rate debt are particularly vulnerable to default as borrowing costs rise, said Nick Kraemer, head of analytics at S&P Global Ratings.
Petco is one such company. Moody's downgraded Petco again to junk status over the summer. The pet products retailer borrowed $1.7 billion two years ago at an interest rate of about 3.5%. Now it pays nearly 9%.
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