CORPORATE DEBT: WHAT ARE THE ISSUES AND WHAT ARE THE CHOICES

A few economists take a very apocalyptic view of the growth in corporate debt. The main concern is that a downward shock in the economy will cause the failure of a large number of companies overextended by debt. The inability of these companies to meet debt service obligation will, in turn, precipitate bank failures and may ultimately lead to a financial collapse. This extreme view does not appear to be widespread among economists. A more widely held view is that increased corporate leverage may result in the next recession being deeper and longer lasting. No one knows what role corporate debt plays, if any, in creating or strengthening recessions and depressions. Perhaps the most frequent explanation for rising corporate debt is that the US tax system encourages debt by allowing deductions for interest payments but not for dividends. Another explanation is the growth in financial innovations, particularly high-yield subordinated debt and below investment grade subordinated debt (junk bonds).