There is no vaccine for bringing back to life European zombie companies, nor is there going to be one

Călin Rechea (Translated by Cosmin Ghidoveanu)
English Section / 25 noiembrie 2020

There is no vaccine for bringing back to life European zombie companies, nor is there going to be one

"The pandemic is threatening the existence of many companies in the Eurozone", an analysis in the latest financial stability report by the ECB states.

With fears easing about a worsening liquidity crisis amid measures taken by the ECB to ensure ultra-relaxed financing conditions, the authors say that "solvency has now become the main concern".

"The deterioration of the situation of non-financial companies was caused by the decrease in sales, the decline in present and expected profitability and the increase in indebtedness", the analysis titled "Assessing corporate vulnerabilities in the Eurozone" states.

The accelerated rise in insolvencies has only been prevented by measures taken by the authorities, such as guaranteeing new loans or declaring insolvency moratoriums, as ECB economists point out, who warn that "the early scrapping of these measures could lead to an increase in the number of bankruptcies, with major implications for the financial stability of banks".

The issue of over-indebtedness in European companies has also been recently addressed by Bloomberg, which writes that "companies have borrowed directly from banks or through bond issues as a result of government guarantees and new monetary easing measures, to compensate for the lack of revenue".

Unfortunately, such "solutions" only burden companies even more without really solving the problem.

European Commission data shows an increase of more than 400 billion euros in the first half of this year in Eurozone debt, after an increase of 289 billion last year.

In relation to GDP, the highest increase was recorded in France, of 18.1 percentage points, given that public debt increased by 15.9 percentage points.

As expected, Spain and Italy occupy "good" positions in the ranking of corporate debt growth, with 7.7 percentage points and 7 percentage points, respectively. The two countries' public debt increased by 14.6 and 14.7 percent of GDP, respectively, in the first six months of 2020.

A surprise appearance in the top spots is represented by Austria, considered one of the frugal countries of the Eurozone, where corporate debts increased by 7.7 percentage points, and public debt saw an advance of 12.1 percentage points. Finland cannot be said to be "frugal" either, given that corporate debt rose by 6.3 percentage points of GDP and government debt rose by 9.4 percentage points.

Regarding the debts of Eurozone governments, Spanish economist Daniel Lacalle warns that "most of them are unproductive debts, given that governments use the fiscal space they still have to maintain particularly high current expenditures."

The only effect of these new loans will be to "secure" a source of debt growth after the pandemic, as economic growth and productivity will not be enough to reduce the burden on public finances, Lacalle said.

The conclusion also seems to be valid for the corporate "accrued" debts. How else can the almost uninterrupted increase in the share of corporate debt in the GDP since the establishment of the Eurozone be explained?

According to the latest report on global debt from the Institute of International Finance (IIF), total Eurozone debt increased by almost 33 percentage points in the first nine months of 2020, over the end of 2019, to 415.7% of the GDP, as non-financial corporation debt rose by 7.8 percentage points to a new record of 114% of GDP, and government debt rose by more than 16 percentage points to 115.1% of the Eurozone GDP.

A surprise appearance in the first places is represented by Austria, considered one of the frugal countries of the Eurozone, where the debts of the companies increased by 7.7 percentage points, and the public debt registered an advance of 12.1 percentage points. Finland cannot be said to be "frugal" either, given that corporate debt rose by 6.3 percentage points of GDP and government debt rose by 9.4 percentage points.

Regarding the debts of Eurozone governments, Spanish economist Daniel Lacalle warns that "most of them are unproductive debts, given that governments use the fiscal space they still have to maintain particularly high current expenditures."

The only effect of these new loans will be to "secure" a source of debt growth after the pandemic, as economic growth and productivity will not be enough to reduce the burden on public finances, Lacalle said.

Doesn't this whole dynamic reflect an uninterrupted process of "zombification" of non-financial companies, sometimes faster, sometimes slower, but irreparable?

The increase in the number of zombie firms may explain the low level of investment and low productivity, as Patrick Artus, chief economist at investment bank Natixis, writes in a note to clients.

How did it come to this? William White, a former chief economist with the Bank for International Settlements (BIS), said in an interview with The Market that "monetary policy over the last 30 years has led to continued debt growth and instability."

In his opinion, things will get worse as a result of the monetary policy measures adopted by the central banks, but they have no other solution.

This vicious circle was reached because "we know much less about economics than we think we know," as White acknowledged, which only echoes the theme of the "claim of knowledge," developed by Friedrich August von Hayek in his acceptance speech of the National Bank of Sweden award in memory of Alfred Nobel.

Professor Hayek warned then that "recognizing the limits of knowledge must teach those who study society a lesson in humility, which should prevent them from becoming accomplices in people's fatal desire to control society - a desire that not only transforms the into tyrants for others, but can turn them into destroyers of civilization".

William White also recommends a "healthy dose of humility" for decision-makers, especially central banks, and then expresses skepticism about the effectiveness of further monetary easing for a shock of this magnitude.

White also raised a big question mark when he suggested that perhaps the time has come to evaluate monetary policy of the last 30 years so that it can be determined "whether they have done more harm than good."

It is too late for such attempts to "patch" the primitive pride of central bankers. As Patrick Artus writes, "ultra-relaxed monetary policies eliminate the informational content of prices", thus increasing uncertainty about the relationship between supply and demand, but also about risk.

"Interest rates no longer reflect fiscal deficits and inflationary expectations, and stock prices no longer reflect profitability expectations," said the French economist, who goes so far as to say that central banks have undermined, perhaps irretrievably, capitalism and the market economy.

An environment with these characteristics can no longer be called an "economic environment", because all the resource allocation signals are "scrambled".

In an interview with the Swiss publication, William White recalls that the decline in credit quality, reflected in the rating, has accompanied the increase in its volume from 2008 to the present. In addition, "by keeping interest rates too low, central banks have stimulated increasing indebtedness of households and companies, but credit has been used, for the most part, not for investment, but for consumption or share repurchase". "Normalcy cannot be restored without over-indebtedness."

Among the mentioned solutions, saving in the following years is considered unrealistic by the former BIS chief economist, because it will lead to an economic collapse, and the acceleration of economic growth is not possible precisely because of the "weight" of debts.

Under these conditions, the remaining options ar inflation, to reduce the real debt burden, and debt restructuring or write-off.

Inflation is likely to be the "winning" scenario, given that debt restructuring or write-off is a more than plausible "recipe" for the implosion of European "unity".

Until then, Markit Economics reports on 'Purchasing Managers' Index (PMI) have included a particularly worrying "constant" in recent months, along with unexpected increases or contractions: rising production factor prices amid declining prices for products or services.

We are witnessing, therefore, not only a significant reduction in production, but also a radical change in the operating environment.

And it is unlikely that these changes will stop with the transition to mass vaccination of the population, given that the survival of companies depends on adapting as quickly as possible to the new "normality".

The pandemic has only paved the way for revealing the true scale of the phenomenon of "zombification" of the real Eurozone economy and accelerating it.

Unfortunately for Europe's irresponsible authorities, there is not and there will not be a vaccine to bring companies back to life.

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