The day of the crisis
The matter became even more complicated on March 6 when the world’s largest asset manager, BlackRock, with $14 trillion in assets, announced that it would restrict withdrawals from one of its main bond funds. Rival Blackstone followed suit, facing a record number of requests for withdrawals. The move came just weeks after alternative investment firm Blue Owl prevented investors from withdrawing cash at previously permitted times. BNP Paribas also froze capital returns in some securitized debt funds. Deutsche Bank published a $30 billion exposure to private credit. But the financial giant says it can only deal with indirect pressures through counterparties and interconnected portfolios. “The red flags we see in private credit today are strikingly similar to those in 2007,” says Thanos Chonthrogiannis, Chief Economist at Research, Economics & Business advisory firm Trust Economics. Earlier this week, JPMorgan China cut lending to private credit funds. It also downgraded the value of some loans in its portfolios, underscoring how the private credit sector’s problems are spreading. But there are new forces at play.
The Role of AI
One of these is how AI is disrupting key economic sectors in real time. “Venture capital and private lenders have significant exposure to the sector, with financing for acquisition-backed software segments often based on recurring revenue and growth assumptions, rather than real assets or tangible profit margins. The private credit system is less transparent and less liquid, which can make any changes in pricing or risk appetite more abrupt.”The Iran War and a Rerun of the 1970s Shock
These risks are growing as the looming inflationary pressure from the Iran War rattles global debt markets and as major economies, from the US to the Eurozone to Japan, face the risk of stagnation. “The risk of a 1970s-style scenario is increasing,” says Thanos Chonthrogiannis, Chief Economist at Research, Economics & Business advisory firm Trust Economics. If there is a prolonged war that pushes oil prices significantly higher, he adds, then the safe-haven status of government bonds is at risk, and with it all assets. This has made Warren Buffett trend on social media. Namely, the great value investor’s famous observation that “it’s only when the tide goes out that you find out who was swimming naked.” As the tide of global capital recedes, concerns are growing about how many funds will be exposed. Economists such as Mohamed El-Erian of Allianz warn that the debate over the private credit market suggests that a “classic contagion effect” may be underway. Wall Street veteran George Noble, a former Fidelity fund manager, warns that “we are watching a financial crisis unfold in real time. The last time funds started to prevent investors from getting their money back, Bear Stearns collapsed six months later.” “After 2008, regulations pushed risky lending out of banks and into private credit,” Noble notes. “The sector swelled to $3 trillion. But these funds make loans for five to seven years, while promising investors liquidity every quarter.”
The return of the dollar curse
Asian export economies that depend on the dollar would be at the forefront of any contagion from US credit markets. And from the strong dollar, which explains why the ghosts of 1997 and 1998 are haunting the region again. One side effect of the US-Israeli-led war on Iran is that the dollar’s destructive tendencies are returning to the fore. Despite the US national debt approaching $39 trillion, high inflation and Donald Trump’s tariffs, the dollar is strengthening against all odds. This could pose a clear and immediate threat to Asia in 2026. Previous periods of extreme dollar strength have not ended well for the world’s most dynamic economic region. The most obvious example was the Asian financial crisis of 1997-1998. The roots of that crisis lie in the Federal Reserve’s tightening cycle of 1994-1995. At that time, the Fed doubled short-term interest rates in just 12 months. The dollar’s subsequent rise made it impossible to maintain Asian exchange rates that were pegged to the dollar. First Thailand devalued its currency in July 1997. Indonesia followed, then South Korea. Another example was the Fed’s so-called “taper tantrum” in 2013. The turmoil led Morgan Stanley to publish a list of the “fragile five” that no emerging market economy would want to be on. The original group was: Brazil, India, Indonesia, South Africa, and Turkey. The Taper Tantrum was a major upheaval in global financial markets in 2013, when investors reacted sharply to the possibility that the Federal Reserve would begin to taper its quantitative easing (QE) program. Now, a persistently strong dollar is once again complicating Asia’s growth plans.Asian Currencies and the Dollar
The greatest “magnet” in economic history is attracting capital from every corner of the globe, sucking up wealth needed to finance budget deficits, stabilize bond yields and prop up stock markets. Clearly, Trump won’t like this dynamic, as Asia’s two major currencies are falling against a strong dollar. Trump has been trying for years to weaken the dollar — an effort that has led him to try to limit the Federal Reserve’s autonomy in setting interest rates. Artificial intelligence and the uncertainty that comes with it are also adding vulnerabilities across Asia. As Trust Economics notes in a report, “the Middle East conflict has sent shockwaves through Asian stock markets, exposing uneven vulnerabilities across the region, with South Korea recording the biggest drop. The shock followed a strong AI-fueled rally that had left South Korea’s and Taiwan’s tech markets with high valuations, making them particularly vulnerable to a sudden shift in risk appetite.” Trust Economics argues that the Iran conflict “has triggered macroeconomic and financial shifts that are weighing most heavily on economies where AI optimism had recently driven valuations to excessive levels.” And “while the initial shock may be receding, market volatility looks set to remain elevated.” These risks are compounded by the fact that a stronger dollar could pull huge waves of capital out of Asian assets. One concern is that as Asian exchange rates come under downward pressure, external debt could become harder to service. Then there is what could happen to the so-called “yen-carry trade.”
The Yen Carry Trade and Takaichi’s Policy
Japan’s zero-interest-rate policy since 1999 has turned the country into the world’s largest creditor. For decades, investment funds have borrowed cheaply in yen to invest in higher-yielding assets around the world. As a result, sudden movements in the yen have affected markets almost everywhere. It has become one of the most popular strategies worldwide, but one that is particularly prone to sharp corrections. At the same time, Japanese Prime Minister Sanae Takaichi is pushing for a weaker yen. That includes pressuring the Bank of Japan to limit interest rate hikes and tighten quantitative easing. The slightest hint that Tokyo is manipulating exchange rates could prompt Trump to threaten new trade restrictions against Japan. No one can predict how a weaker yen will affect Beijing. As China’s growth slows and deflationary pressures intensify, a weaker yuan could do much to revive Asia’s largest economy. Meanwhile, problems in U.S. credit markets and inflationary threats from the Iran war are putting Asia at the center of the collateral damage zone. And they are forcing policymakers across the region to take seriously the dire lessons of the crises of 2007, 1997, and beyond.Please follow and like us:
