The Impact of Monetary Policy on Credit

Apollo Chief Economist

The Fed is trying to slow down the economy to slow down inflation. Specifically, the Fed is trying to slow down hiring, capex spending, and earnings growth.

The tool the FOMC has available is the cost of capital. By raising the cost of capital, the Fed makes it harder for firms to get new loans and to finance existing loans that are maturing.

This monetary policy transmission mechanism first hits companies with high leverage and little or no cash flow, e.g., tech, growth, and venture capital.

This is exactly what is happening at the moment. Companies with high debt and little cash flow are being downgraded, and there are now significantly more downgrades than upgrades, see chart below.

With the Fed funds rate staying at the current level for a couple of years, high cost of capital will continue to create problems for more and more companies characterized by high leverage and low earnings.

Credit downgrades are vastly outpacing upgrades.
Source: S&P Global Ratings, Apollo Chief Economist

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