Will AI Data Centers Crash The US Economy?

They use the terms“unleveraged” and“credit”, but what they really mean here - and the way they define their variable for credit growth - is specifically bank loans, not bonds. In the 2008 crash, most of the debt was held by banks, in one form or another. Thus, a wave of defaults threatened the solvency of the banking system, causing the entire economy to freeze up.

But the banking system wasn't in any real danger of collapse from the dot-com/telecom crash, because banks hadn't lent a lot of money to people involved with the tech industry, so there weren't a lot of loans to go bad. The telecom companies had borrowed a lot, but primarily via the bond markets rather than from banks, which at the time were more focused on housing and small business.

Households also didn't become significantly more indebted in the 90s (relative to their income), which is probably why there wasn't a long and painful period of household deleveraging following the dotcom boom, the way there was after 2008.

So if we believe this basic story of when to be afraid of capex busts, it means that we have to care about who is lending money to these Big Tech companies to build all these data centers. That way, we can figure out whether we're worried about what happens to those lenders if Big Tech can't pay the money back.

Paul Kedrosky has a list:

And The Economist writes :

Some of these funding sources don't seem that dangerous, in the macroeconomic sense. When Big Tech or other companies spend their own cash, issues stock, or issue bonds, it looks more like the telecom boom of the 1990s than the railroad boom of the 1800s.

But what about all this“private credit”? These are the potentially scary part. Private credit funds are basically companies that take investment, borrow money, and then lend that money out in private (i.e. opaque) markets. They're the debt version of private equity, and in recent years they've grown rapidly to become one of the US economy's major categories of debt:

Private credit funds take some of their financing as equity, but they also borrow money. Some of this money is borrowed from banks. In 2013, only 1% of US banks' total loans to non-bank financial institutions was to private equity and private credit firms; today, it's 14% . A recent note by Berrospide et al. of the Federal Reserve shows the rise in bank lending to private credit:

BDCs are“Business Development Companies”, which are a type of private credit fund. If there's a bust in private credit, that's an acronym you'll be hearing a lot.

And I believe the graph above does not include bank purchases of bonds (CLOs) issued by private credit companies. If private credit goes bust, those bank assets will go bust too, making banks' balance sheets weaker.

A recent article by Fillat et al. of the Boston Fed argues that bank lending to private credit funds might pose a systemic risk to the banking system:

The authors point out that most of these are very short-term loans - hence safer than long-term loans like the ones that sunk banks in the financial crisis of 2008. And most of them are senior loans - if private credit goes bust, banks get paid out first. But they caution:

If all the private credit funds are lending to data centers, then their correlations are probably pretty high - if there's a bust in AI, a lot of them will go bust at once. This could be the“tail risk” that the Boston Fed folks are worried about, and it seems like there's a chance it could hurt the US banking system.

A private credit bust also could hurt insurance companies, which are the main LPs in the funds, but also lend money to the funds. For example, Carlino et al. (2025) show how life insurers have basically become a kind of bank that borrows money from institutional investors and lends it to private credit:

They note, ominously, that“life insurers' exposure to below-investment-grade firm debt has boomed and now exceeds the industry's exposure to subprime residential mortgage-backed securities in late 2007.”

I'm not exactly sure how systemically important life insurance companies are; they're intertwined with the rest of the financial system through a number of channels, and it's hard to tell how significant those challenges are.

But it seems like the possibility is there for some systemic effects. Meanwhile, other types of insurers are starting to lend to private credit as well. Remember that AIG, an insurance company, was one of the most important bailouts in the financial crisis of 2008.

So when I look at this entire landscape, it seems to me that some of the basic conditions of a financial crisis are at least starting to fall into place:

We have systemically important lenders (banks, and possibly insurance companies) enmeshed in the new sector in a multitude of ways.

So far, the danger doesn't scream“2008.” But if you wait until 2008 to start worrying, you're going to get 2008. It's good to start worrying early. Jamie Dimon, CEO of JP Morgan Chase, is not waiting to start sounding the alarm , warning that private credit could trigger the next financial crisis, even as his own company expands into the private credit market.

As a former Citibank CEO said after 2008,“As long as the music is playing, you've got to get up and dance.”

Notes

1 Some people also worry that the US power grid won't be big and reliable enough to handle the new power demands from all these data centers. With Trump continuing his all-out attack on solar and wind energy, this is a real concern.

This article was first published on Noah Smith's Noahpinion Substack and is republished with kind permission. Become a Noahopinion subscriber here.

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