Credit Musings: August 8, 2022

Aug 08, 2022


Public Trust Credit Team

The U.S. government has passed new legislation which offers $52B in support for domestic computer chip and semiconductor production.

The CHIPS Act is an attempt for the U.S. to remain competitive in the field of semiconductor production, one crucial area of manufacturing that directly affects production of just about every electronic device from automobiles to smartphones to military and healthcare-related products; all of which have been dramatically impacted by the global semiconductor shortage that has been crippling global supply chains since the onset of the COVID-19 pandemic. The bill has been passed amidst significantly heightened tensions with China over political and economic influence of the largest producer of semiconductors globally, Taiwan; this was recently highlighted by a controversial visit from House Speaker Nancy Pelosi. With respect to domestic production in the U.S., this bill is an effort to close the widening gap in production capacity and technological advancements between the U.S. and Asian competitors such as China, which has laid out more than $150B (~3x) of similar investments and subsidies through 2030. China, Taiwan, and South Korea currently account for about 75% of global chip production and capital expenditures received, and the U.S. still has a lot of money to invest if it hopes to remain competitive and raise its share of both metrics above current levels of 13%. Currently, semiconductor production in the U.S. is ~30% more expensive than Taiwan, South Korea, and Singapore, and can be as high as 50% more expensive than China. This is mainly due to lack of government subsidies vs competing nations as well as higher labor and utilities costs – all things this bill addresses directly. According to Intel CEO Pat Gelsinger, this act may be “the most important piece of industrial policy” in the U.S. since WWII.

However, especially in the short term, critics are quick to point out that the sheer intricacy and complexity of the supply chain in semiconductor manufacturing is far too large and advanced to be entirely on-shored. Morris Chang, former chairman of semiconductor giant TSMC has said “If you want to re-establish a complete semiconductor supply chain in the U.S., you will not find it a possible task… Even after you spend hundreds of billions of dollars, you will still find the supply chain to be incomplete, and you will find that it will be very high cost, much higher cost than what you currently have.” Additionally, critics have also noted that the bill does little to address the current cause of the semiconductor shortage: crippling supply crunches upstream. From highly precise and specialized equipment to ordinary valves and tubes, chip manufacturers simply do not have access to critical manufacturing components needed to meet production demand which tax breaks and subsidies will not be able to remedy in the near-term.

July 2022 Senior Loan Officer Survey: Banks move towards a more conservative risk tolerance.

Results from the July 2022 Senior Loan Officer Survey are out and showed that banks are positioning themselves for less risk based on tighter underwriting standards. Underwriting for construction and industrial loans (C&I) tightened and the market saw an increasing demand for these types of loans which was attributed to companies raising liquidity due to economic uncertainty and paying more to finance inventory purchases. Real estate lending saw demand decline across the board except for multi-family housing and home equity lines of credit which remained robust. Lending standards are tighter across the board for this category as economic uncertainty clouds the outlook. Finally, consumer lending standards were unchanged across the different categories but the banks noted that demand for credit cards was higher and that demand for auto lending was lower. The shift to credit cards signals that consumers are back to utilizing credit cards for purchasing and rising rates coupled with high prices continue to keep people from large asset purchases like cars.

The July survey also includes questions about how banks are viewing lending for the rest of the year. Most banks believe that lending standards will continue to tighten across the board and that demand will slow across the major lending categories. Banks cited a couple of items of note: most banks believed that credit conditions would deteriorate and that inflation would lead to lower debt-servicing capacity from borrowers. Numerous banks also cited changing legislative and regulatory risks which is interesting considering there isn’t anything specific on the horizon but lends insight as to how the banks are viewing regulatory risk amid a hotly divided U.S. government. Finally, most banks noted that the secondary market for loans was becoming less liquid and this would lead to tighter credit standards. We would expect global secondary loan markets to slow when moving into a recession. Overall, banks are beginning to tighten and we have seen loan demand start to shrink but we still have no material concerns regarding lending in the short term.

All comments and discussion presented are purely based on opinion and assumptions, not fact. These assumptions may or may not be correct based on foreseen and unforeseen events. The information presented should not be used in making any investment decisions. This material is not a recommendation to buy, sell, implement, or change any securities or investment strategy, function, or process. Any financial and/or investment decision should be made only after considerable research, consideration, and involvement with an experienced professional engaged for the specific purpose. Past performance is not an indication of future performance. Any financial and/or investment decision may incur losses.

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