Big economic slumps are always followed by a wave of bankruptcies, except for this one
A few days ago, John Authers flagged one of the more intriguing issues in today’s puzzling economic landscape: the number of bankruptcies are historically at a low point at a moment when a year ago the expectations were to have the opposite.
As the diagram shows, the 2000-2001 recession was accompanied by a sharp increase in bankruptcies, followed by a similar sharp decline marking the end of a brutal readjustment to reality.
Over the next few years bankruptcies started to go up as the level of debt was moving into the same direction. 2008 crisis caused an even larger number of failures.
Nothing out of the ordinary, but look at 2020-2021. While the economic activity had the fastest and the biggest plunge in history, the trend of bankruptcies didn’t bat an eye lid. It even went lower. Of all the charts and heated debate on inflation, oil price, etc. this is the scariest.
This data illustrates an impact of the monetary and fiscal interventions that is often overlooked. There is so much money poured into the economy even businesses live on social support. The other data that illustrates the same point eloquently is the high number of job vacancies unable to be filled despite the high unemployment.
The same phenomenon can be observed in UK and elsewhere in EU. In England and Wales the corporate insolvencies are at the lowest level since 1990. In France, the non-financial corporate debt is at the highest level since 1996, close to 90% of the GDP, yet the business bankruptcies are at the lowest level. The government support has been phenomenal.
Modern Monetary Theory meets Keynes
Before the pandemic of 2020 the acceptance of the Modern Monetary Theory (MMT)started to spread and appear to influence socio-economic policies. Slowly, the use expansionary monetary policy has become acceptable not only for supporting near full employment, but to increase the minimum wage, fund universal healthcare, free college tuition and reduce inequality. For MMT theorists inflation is not a concern, but a regulatory signal: if inflation goes up, reduce money supply, spend less and/or increase taxes. The pandemic, the rise of the progressive politicians, the “pulse” on the social media in US and around the world have corroborated to make the opening of the public purse for social causes the new normal economic doctrine to the disbelief of classic economists.
Here we are though, staring at the inflation rising at a time of unprecedented generous money supply with big infrastructure spending plans on the way. We live in a curious time when MMT and Keynes are happily working together to counter the pandemic, but more importantly, as a long term concern, to implement one of the most audacious socio-economic programs. MMT and Keynes, the Fed and the Treasury, Powell and Yellen: more cash, more debt.
The fact that Western countries have the lowest number of bankruptcies worries the banks, the large investors, the traditional market participants in general. For the time being the momentum is on the spending side. Businesses survive for longer even if they are not productive because workers are paid wages with government money. As Alan Greenspan once said, “there’s nothing to prevent the federal government creating as much money as it wants in payment to somebody”, but those benefit payments are meaningless unless “real resources are being created at the time those benefits are paid so that you can purchase those resources, the benefits being cash”.
The problem with too much money
The workers in businesses which would have been bankrupt by historic norms do receive government benefits, but because resources are not adequately available they could only be purchased at a higher price. The initial boost in benefits and sense of improved standard of living my soon evaporate if productivity doesn’t increase at the same pace. For now, workers feel more confident than ever. In an amazing 180 degrees turn around, from desperation to optimism, in the space of one year, employees contemplate changing jobs at the highest rate since 2000. Employers are offering increased financial incentives and non-financial perks to retain talent. Many businesses complain they are unable to find workers, sometimes even when they offer double the normal wage. At this point the MMT begins to become counterproductive if the government doesn’t start reducing the supply of money.
All of this happens while large global supply chains are under enormous strain. Prices are likely to go up rapidly if the imbalance between demand and supply is not addressed soon. Too much money in an inflationary environment does not lead to a better standard of living.
Last week the Fed bowed to reality and adjusted upward the inflation forecast for this year and 2022. However, the stimulus remains in place. The big infrastructure plans are about to be set in motion. The expectation in US, UK, EU and elsewhere is that governments will keep the stimulus tap open. It would be a political suicide to change strategy now. It remains to be seen what happens when the Covid19 wage subsidy programs expire: will market forces do their surgical and healing magic by removing zombies and supporting viable and high productivity businesses, will the supply catch up with the demand due to supply side improvement? Or will the stimulus continue to support an illusory prosperity bringing back the roaring 20s again? It seems more likely that the latter will happen.
As noted in a Wall Street Journal article blue collar workers are getting the upper hand in negotiating higher wages and employers are willing to pay those wages to avoid loss of business. The small businesses are affected the most because a small number of workers has a significant impact on their survivability. To keep paying higher wages they have to pass the increased cost to the consumers which may not always work. The WSJ reports a number of small operators in the food and hospitality industry lost the ability to compete for workers to large corporations (MacDonalds, Walmart). This creates a dilemma for the administration in regards to the continuation of Covid19 wages subsidies. If they are retreated too abruptly the blue collar workers will be hit harder and that will have potential repercussions at the next elections. A difficult balancing act is to get the infrastructure projects approved and started while withdrawing the wages subsidies. Even if the timing is perfectly executed the risk of inflation is high. Nevertheless, one can assume with a high degree of confidence that the priority number one is to keep people paid. Productivity and free market job creation is on the lower pecking order.
In the same time, as there is always a reaction on the other side, small businesses might not be able to keep avoiding the bankruptcy with inflation running higher and that will act as a counter balance preventing the labor market to heat up too much. So while It is tempting to think the roaring 20s could happen all over again when a government is keen to continue supporting one aspect of the economy beyond reason for the fear of the public backlash (in the 1920s the public at large was so invested in the stock market the central bank, or the equivalent of the Fed today, was loath to raise the interest rate despite the broker loans rising higher and higher until it was too late), we have to keep in mind that today’s world is digital, equipped with an enormous computing power and so connected, that any new trend causes a chain of reaction and counter-reactions in a short period of time. For one undesired trend to emerge unscathed and become a long term major trend it takes several developments to simultaneously concur to that end. In the short term, one key development to watch is the retreat of wage subsidies and the more rapid filling of the many job openings that are snubbed by the job seekers today. If this doesn’t happen within the next three months, one of the major trends we fear most (the roaring 20s or even the 70s stagflation) is more likely to set in.