Friday, January 29, 2021

Zombies might return and fighting them is art as well as science

See Zombies Could Stunt the Bank Recovery: Europe’s lockdown-support programs risk creating the kind of festering bad-debt problems that damaged its economy after the financial crisis by Rochelle Toplensky of The WSJ. Excerpts:

"The region’s generous lockdown-support programs and patchwork of insolvency laws could create so-called zombie firms—inefficient companies kept alive by cheap debt. Last month, the European Central Bank said this remains a risk."

"Following both the global financial crisis and the eurozone crisis, nonviable companies in Europe were kept alive by politicians worried about job losses and lenders hesitant to acknowledge bad debts. The zombies lowered markups, net investment and productivity in their markets as well as inflation in the wider economy, according to a recent report from the Federal Bank of New York—problems that have come back to bite their lenders too."

"Pandemic support programs, such as loans and bankruptcy moratoria, aspire to give businesses the time needed to secure their finances and pivot operations to better serve pandemic and post-pandemic customers. Sometimes, though, the support simply provides cheap funds that help unsustainable companies limp on. It is very hard for policy makers to get the timing right on these programs: Rolling back too early could hurt viable businesses, but too late can create zombies."

"New accounting rules aim to recognize loan losses earlier, but these estimates are art as well as science. Payment holidays make it particularly difficult to know who might be in genuine trouble"

I use the book The Economics of Public Issues in my micro classes. Chapter 1 is called "Death by Bureaucrat." It discusses how the Food and Drug Administration can make either a Type I error or a Type II error.

Type I error: The FDA approves a drug before enough testing is done and when people take it, there are harmful side effects.

Type II error: The FDA tests a drug longer than necessary to stay on the safe side. But people might suffer because the drug is not yet available. 80,000 people died waiting for Septra to be approved.

The FDA would usually rather make a Type II error because the public can blame the FDA if a Type I error occurs.

What if we think about government aid to business like a new drug. The passage in red in the article above indicates that the government cannot be sure which way to go: give assistance for too long and create Zombies (which seems like a Type I error because harm is caused by a policy that is too easy) or not long enough and lose good firms (which seems like a Type II error because good firms are not helped because a policy is too strict, like people not getting a drug in time).

Related posts:

Do We Have A Zombie Economy?

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