The pandemic has been a bane for bankruptcies

This chart, from the IMF’s latest update to its World Economic Outlook, piqued our interest:

That’s right, bankruptcies have fallen through the floor, despite all of the world’s major economies (bar China) shrinking in 2020.

It’s mainly thanks to the government support which has propped up firms during the pandemic. Here in Germany, for instance, the normal rules of insolvency have not applied, enabling over-indebted companies to remain in business. These companies can, in much of Europe, also ask governments to cover a big chunk of the wages of their furloughed workers.

There are good reasons for this protection. Most of the firms that have been hard hit by the pandemic are smaller ones, especially those operating in the services sector. While larger companies can access finance through capital markets, smaller firms cannot. The same applies to cash flow. The playing field is slanted and driving them out of the market by removing government support too early would be bad for competition.

But, if that support is left there too long, there’s the possibility that you’re storing up trouble for later by creating a whole load of zombie firms, stymying growth and productivity once economies reopen.

So what to do? The Fund has two pieces of advice. The first: banks should “actively identify and manage distressed borrowers, including while moratoriums and other support measures remain in place.” The second is to keep support in place for longer for smaller outfits operating in the services sector.

While that sounds wise, as the IMF points out, the pandemic is probably going to lead to a reshaping of the economic landscape. That adds to the trickiness of the task facing lenders and governments in deciding who the winners and losers are. With that shift in mind, we’d also recommend a third piece of advice: remove as many barriers to starting new businesses as possible.