Copyright thehindubusinessline
Financial regulators and central banks in the US, the UK and Europe, spooked by revelations emerging from the bankruptcy of little-known firms like First Brands (a producer of windshield wipers and brake pads) and Tricolor (an automobile loan provider), are being haunted of fears of a return to 2008. To recall, at the centre of the 2008 financial crisis was a speculative frenzy involving opaque derivative instruments riding on mortgage loans, stretching from straight mortgage backed securities to synthetic derivatives and credit default swaps, among other “innovative” financial assets. That chain created an impression that rapidly rising credit risk was spread so thin across instruments and investors that the volume of loss for any individual player was small and systemic risk was minimal. On the other hand, such financial “innovation” was seen as facilitating a credit boom that was good for growth without increasing financial vulnerability. Those presumptions were proved wrong. One of the few lessons learnt was that the system was bigger than the individual players involved and can be downed by the herd-like adoption of actions that individual players consider normal or even beneficial. Banks argued that Glass-Steagall style regulation, that limited diversification in activity warranted by their access to savings and their physical reach, was a constraint on the flexible decision making that is good for both their business and the economy. All players held that regulation should be light and market mediated. And assessment of risk should be left to market players with banks allowed to use internal ratings-based approaches to assess risk and regulators confining themselves to specifying market-mediated parameters like capital adequacy requirements, accounting standards and disclosure norms. That “consensus” generated by the epistemic community of finance paved the way for a crisis which, though still with us, was reined in at the cost of trillions of dollars in public money. Similar trend Yet First Brands and Tricolor have collapsed after having ridden a wave that has similar characteristics and gave rise to similar vulnerabilities. The common features between the 2008 crisis and the current troubles are systemic drivers that led to an unsustainable expansion of credit with no due diligence. In both cases unregulated non-depository financial institutions (NDFIs), that are “non-banks” in that they are not licensed to receive deposits from ordinary depositors whose savings are insured by deposit guarantees, excessively lent funds mobilised from “investors” to suspect borrowers that were “allowed” to conceal the uses to which they put that money. This has been made possible by the entry of private equity into the credit markets, encouraged by the availability of large volumes of liquidity at interest rates that are low relative to that which can be charged to borrowers unable to access traditional credit sources like the banking system. The higher risk associated with lending to these borrowers makes them unapproachable targets for banks and institutions that must comply with ratings standards or capital adequacy norms that dissuade lending to entities that attract higher risk weights. It is into that space that the NDFI’s stepped in. Non-bank financial intermediaries (NBFI) have been growing rapidly over the last decade, outpacing the growth of the banking sector. According to data from the Financial Stability Board’s 2024 report, with financial assets valued at $239 trillion in 2023, the NBFI sector accounted for 49 per cent of the stock of global financial assets. These institutions, especially private equity firms and hedge funds, were willing not just to lend to firms that banks avoided, but when faced with the prospect of default were willing to accept “payment in kind”, involving the deferment of payments that were added to the principal a cost (such as a higher interest rate). The higher rate was seen as adequate compensation for the risk of lending to stressed borrowers. In the case of First Brands, for example, that reported borrowing and other liabilities in excess of $10 billion had been supported by collateralised loan obligations (CLOs), lending vehicles designed to take on tradable debt. These CLOs were the creation of asset managers such as PGIM, Franklin Templeton, Blackstone, and Oaktree. These institutions in turn were financed by traditional financial firms especially banks. The loans they provided First Brands included credit against invoices, or immediate liquidity against evidence of expected future receipts, and “supply chain finance” or paying First Brands bills due to suppliers for recovery against a charge from the implicit borrower. There are allegations of fraud in First Brands evidence of unencumbered receipts supplied to the creditors, though their greed for high returns led to inadequate scrutiny or due diligence on their part. The fear that the bankruptcy of First Brands and Tricolor has generated is not only related to the huge losses running into billions of dollars in the private equity segment of the credit market. It also arises because of the exposure of the commercial banking system to this new-fangled lending space. As Chart 1 shows US bank lending to NDFIs has risen from $215 billion at the beginning of 2015 to $1.3 trillion by mid-October 2025. That growth has meant that a substantial share of the exposure of US banks is to non-bank institutions: 23 per cent to private equity funds, 21 per cent to business intermediaries, 18 per cent to mortgage intermediaries, 9 per cent to consumer intermediaries and 30 per cent to all others (Chart 2). Loans by US banks to NDFIs are also concentrated in private credit intermediaries (23 per cent or the same as to mortgage intermediaries who were more important in 2007), and in business intermediaries (21 per cent) (Chart 3). The problem is not restricted to the US alone. According to the IMF October 2025 Global Financial Stability Report: “Banks’ exposure to NBFIs is large: in Europe and the United States, NBFI loans represent, on average, 9 percent of banks’ loan portfolio, with exposures amounting to about $4.5 trillion, of which $2.6 trillion corresponds to loans and the rest to undrawn commitments.” Entanglement has gone further. The Financial Times reports that Allianz, Coface and AIG “have written policies shielding trading partners or investors (of or in First Brands) from losses through their trade credit businesses.” Entangled exposures of this kind are raising fears that a 2008-style financial collapse can occur. That warning has come from financial circles in the US, and also from the Bank of England that according to Bloomberg has warned of parallels between the $1.7 trillion private credit boom and the subprime debt crisis. The story has perhaps just begun. Published on October 28, 2025
