The unprecedented economic shock of the COVID-19 pandemic has prompted governments to financially support jobs, livelihoods, and distressed businesses on a historic scale. These programmes have been crucial in managing the economic impact on individuals and businesses, including the probability of default by fundamentally viable firms, and in stabilising wider credit market conditions (OECD, 2021[1]).

While necessary as an immediate response to the crisis, government support granted to businesses can have important implications for competition and trade policy down the line. If not well designed, government support programmes aimed at addressing immediate and emergency market disruptions can be disproportionate or hard to phase out, with the result that they become structural support. This structural support has implications not only for ongoing distortions to global markets and competition, and for medium- and long-term economic resilience post-crisis, but also for jobs and, ultimately, for public support for open global markets. Good design principles, such as sunset provisions; taking account of distortions to normal market functioning; transparency; and international co-operation, including taking account of possible impact on trading partners, all matter in avoiding unintended consequences.

This brief begins with an overview of the trends in emergency support to businesses granted to date by OECD countries in response to the COVID-19 crisis. It then identifies the potential risk factors for where necessary emergency support can turn into structural government support. It draws on insights from both competition policy and trade policy to highlight risks to the level playing field for firms and countries.1 It concludes by highlighting some design principles and best practices from competition policy, as well as the framework set by international trade disciplines, to prevent distortions arising down the line.

To get a clearer picture of the emergency support measures used to help businesses directly, the OECD Committee on Financial Markets (CMF) conducted two surveys among its Delegates in April and December 2020.2 The December survey results suggest that the majority of support programmes for businesses continue to take the form of loan guarantees and direct lending facilities, with a number of jurisdictions also introducing targeted direct lending or compensation-based support for small and medium sized enterprises (SMEs). A smaller number of jurisdictions have also introduced direct equity or co-invested equity programmes in various forms to support companies without increasing indebtedness.3

Notable changes to programmes from April to December 2020 were focused on expanding programme conditions, such as increasing the total budget of the programme, extending application deadlines or loosening credit or collateral criteria to access the programme. The cited aims of these changes were to make it easier for companies to access credit, particularly as the second and third wave of COVID-19 restrictions in many jurisdictions suggested that companies would continue to be affected (OECD, 2021[2]).

The OECD CMF survey has identified several channels through which governments have provided support to distressed businesses and industries as part of their COVID-19 crisis response. Two are of particular interest—debt and equity.

As noted above, the majority of government support programmes have been provided in the form of loans or debt guarantees. Loan features can include longer repayment periods and more favourable interest rates than would be available in the market, and repayment options can be more flexible in some instances.

Among the features of programmes that have worked best, debt guarantees served to improve market confidence—even if they were less utilised—allowing for a stronger recovery and lower cash outflows. In this regard, the guarantees that worked better had some features in common: high level of debt guaranteed (> 90%); low costs for the debt to be guaranteed, including interest rate caps; more targeted programmes, with a focus on specific industries or specific company size; and more flexibility with regards to the use and purpose of the loans guaranteed

In some cases, equity can be a reasonable solution when helping distressed but fundamentally viable businesses, whose equity shortage is not of a transitory nature and when other suitable support measures are not available. Equity support can take the form of direct equity injection, or of debt that is convertible to common stock. Such equity support can avoid burdening already distressed businesses with additional debt and payment obligations, while also giving time for an orderly corporate turnaround. Highly leveraged firms might experience financial distress even after the crisis if the economic strength of the recovery and credit market conditions end up being insufficient to facilitate continued borrowing at pre-crisis credit spreads. At the same time, equity injections allow the public, i.e. the taxpayer, to not only carry the risk of a firm’s insolvency, but also to share in the rewards of a return to profitability (if included within programme terms) —a positive outcome observed in several emergency support initiatives during the Great Financial Crisis. A number of countries have taken steps to introduce equity or quasi-equity based financing support programmes.

Beyond direct government equity investments, governments can also consider policies that incentivise private equity investment to help reduce the leverage position of firms and support long-term financing beyond the crisis recovery period. This can be particularly helpful for non-investment grade borrowers and SMEs, who, despite broad-based and targeted programmes, often still struggle to access the government debt-financing provided due to capacity constraints or explicit barriers like rates and terms (OECD, 2020[3]).

While measures supporting businesses may continue to be needed in the short term, there will come a time when they should be retired or retargeted to avoid these emergency measures turning into structural forms of support. Even before the crisis, longer-standing structural government support in some sectors, including industrial sectors, was raising concerns about market distortions, and excess capacity resulting from market-distorting government support.4 Concerns about market distortions resulting from government support and the lack of transparency of that support were particularly prevalent in the context of countries characterised by a large role of the state in the overall economy (i.e. competition from state-owned enterprises or firms that are otherwise benefitting from the resources of the state).5 Given these concerns, particular attention should be paid to the design of support given now and, in particular, to plans for the unwinding and exit from this support.

Previous OECD work has identified ways in which some government support to businesses and industries has become a structural feature of certain markets, giving rise to concerns over distortions. This work has identified several channels through which governments can provide support to firms that has the potential to distort markets. In the context of the current emergency support programmes discussed above, two channels in particular are of interest—debt and equity (Box 1).

The market-distorting potential of structural government support raises similar concerns in the trade and competition policy communities. Both are concerned about how state support impacts market structures and how it can distort those markets by influencing the entry, exit, or expansion of firms, as well as their pricing and investment behaviour, leading to less efficient outcomes—including for consumers.

State support can affect a firm’s cost and revenue structure, strategic decisions regarding input and output, exit, entry, or expansion decisions, as well as those of its competitors or potential competitors, thereby affecting market structure, functioning and outcomes within and across borders. Unsupported competitors, for example, could decide not to enter the market, or they could lose market share or even be forced to exit the market, despite potentially being more efficient or innovative. A supported firm can also enjoy economies of scale that an unsupported firm might not have access to even if the latter were more efficient. Size can then lead to an improvement in the cost structure—if not efficiency—which may constitute a further barrier to entry or expansion by others.

State support can also encourage predatory pricing and other exclusionary strategies to drive unsupported competitors out of the market. This is even more relevant in the context of an economic crisis, where some firms may have more precarious financial positions and could be more vulnerable to exclusionary behaviours, regardless of their competitiveness in normal times.

If not properly accounted for and designed, state support risks maintaining nonviable “zombie” firms. Such zombie firms are less productive, more leveraged and not able to invest and innovate in a way that contributes positively to productivity and economic growth. Yet, they artificially retain market share, which might prevent entry of more productive, efficient and innovative firms, including from abroad.

Indeed, investment and market entry or exit by more efficient or innovative firms entail a large cross-border component, as competitors or potential competitors are often foreign firms and might struggle to enter because they do not benefit from the same support programmes as domestic competitors already in the market. Furthermore, outbound investments and international expansion can be equally affected. Where certain firms enjoy direct or indirect state support, they may be able to expand into foreign or international markets—not because they are more efficient and innovative, but because they may be entering markets where competing firms have not received any, or the same level of, support.

Government support can also increase the exports of a product from an economy’s territory or reduce imports into its territory, thereby skewing the competitive playing field and distorting the efficient allocation of resources both domestically and internationally.

Public perceptions of unfairness in international trade resulting from support practices can also erode popular support for open markets. A competitive level playing field in trade is a precondition for economies’ willingness to open markets and for the benefits of international trade based on comparative advantage to materialise.

Ultimately, open and competitive global markets are underpinned by open and competitive domestic markets, and vice-versa.

The COVID-19 crisis is not yet over, and it will not be the last crisis requiring large-scale emergency government support for business and industry. Careful design of support measures is critical to avoid market distortions and to safeguard a healthy competition, trade and investment environment. This section provides an overview of policy considerations for the design of government interventions today that can help shape better lives tomorrow. It highlights specific considerations for the trade and competition policy communities.6

In general, selective state support measures during the crisis may be more appropriate for sectors where the crisis will likely only have a temporary negative effect. In cases where there is a permanent shock in demand, state interventions could instead focus on measures aimed at adjusting supply by helping to scale down and restructure businesses.

Rescue packages need to be carefully designed to safeguard a healthy corporate and competitive environment and to ensure an appropriate allocation of risks and returns. Lessons learnt from prior crises can help contribute to a faster recovery and build a more resilient and sustainable economy in the wake of COVID-19.

Governments should consider the following principles in designing state support for business and manage their role in the economy carefully:

  • Distinguish viable from non-viable firms. Governments should focus on companies that were previously solvent but are suffering from liquidity and solvency problems deriving directly from the crisis.

  • Safeguard integrity and transparency. Ensuring integrity should be a high priority in government intervention, particularly amid the recapitalisation of the corporate sector, which can be exposed to risks of fraud and corruption. Clear communication and transparency are also important in managing business expectations and providing a focus to guide action by economic actors.

  • Strengthen government capacity to handle support to the private sector. The enormous task ahead requires investment in human capacity and technology to design and provide the best support to companies as well as plan the needed phase out strategy. Options include building teams with experts from the public and private sectors, public-private-sector boards or working directly with private investors, who could also be co-investors.

  • Plan for an exit. Once the economic emergency abates, the state should only continue to own corporate assets in cases where there is a clear public policy rationale. The support measures should be stopped as soon as conditions allow for governments to obtain value for money for taxpayers, and conditions for market competition are ensured. An effective way to ensure a timely exit strategy is to envisage from the start a review of the intervention. Incentives for exit should be built in, such as a high premium for government recapitalisation, strict rules on dividends and share buy-backs, and bonus caps for management. Sunset clauses should be built in to ensure that they are temporary and subject to review. Where the state provides debt guarantees clear signalling about the end of such guarantees can prevent ongoing support in the form of implicit government guarantees.

  • Where governments need to stay, invest in effective state ownership. The state may remain an equity partner for years to come – not necessarily by choice, but because economic conditions may not be conducive to a rapid re-privatisation. Governments will need to empower state institutions to act as active and informed enterprise owners. If the state retains a significant position as an enterprise owner, it should set “the tone at the top” within the corporate sector and do its part to restore trust in business.

  • Governments must ensure that market competition is not distorted…. Robust enforcement of competition rules is key to laying the basis for a recovery with greater innovation, and faster productivity growth. Following a first phase of policy measures to prevent massive defaults and unemployment, the second phase must focus on ensuring a level playing field so that no company is unduly advantaged or disadvantaged due to its ownership. The state’s role as an owner should be separate from its other functions, including its regulatory functions to avoid distorting competition between state-owned and privately owned competitors (Box 1)

  • …including in international markets, to uphold rules-based global trade. As we emerge from the worst of the crisis, we are likely to see increased calls for restricting access to domestic markets in the face of competitors that have benefitted from greater state largesse – not least given the very different capacities of governments to provide support to their firms. Market-distorting structural support and trade restrictive measures risk undermining the rules-based multilateral trading system.

  • Transparency will be key in global efforts to discipline government support. Transparency in government support helps pave the way for international co-operation to reach a shared understanding of permissible support and to update the international rulebook on trade-distorting government support. Transparency is particularly important where continued state involvement in some companies or sectors is foreseen, to ensure that this remains aligned with the domestic public interest and to avoid trade tensions with partner countries.

In taking these principles forward, there are useful tools and approaches from both the competition and trade policy communities. Together, these promote both sound domestic policy and functioning international markets.

Governments, even in times of crisis, should maintain competitive neutrality, whereby state intervention in the form of emergency support to otherwise viable firms is transparent, time-limited, should not distort competition, and is consistent with longer-term objectives.

Competitive neutrality is a crucial policy lens. The OECD Recommendation on Competitive Neutrality, adopted by OECD Ministers at the June 2021 Ministerial Council Meeting, provides important parameters for promoting a level playing field among competitors (Box 2), preventing situations where unfair advantages are bestowed upon some firms based on, for example, their nationality or ownership.

Competition authorities with their specific skill sets and knowledge of markets from their enforcement actions (analysis and remedies), market studies and other advocacy actions are well placed to help governments design emergency support measures that minimise market distortions, ensuring markets work well and play a key role in economic recovery (OECD, 2020[8]). Competition policy advocacy in the design of these state support measures can thus play an important role in promoting economic recovery (Box 3).

A range of WTO rules aim at curbing distorting forms of government support; in particular, for industrial sectors, the Agreement on Subsidies and Countervailing Measures (ASCM). The ASCM has provided a unique platform to discipline domestic policies that could distort international markets including the possibility for dispute settlement. With its notification requirements, it has also taken important steps towards more transparency about such policies.

However, as market-distorting government support has continued and evolved, discussions are increasingly focusing on whether the existing rules are adequate to address the evolving situation, including with respect to the role of commercially active state-owned enterprises and other firms with sizable government investment (direct or indirect). A number of challenges have been identified in terms of the existing disciplines: ensuring transparency; establishing market benchmarks to quantify the provision of financing and inputs on below-market terms; and identifying state actors (state-owned, state-invested, state-controlled, or state-influenced) (OECD, 2021[4]).

A lack of transparency in government support is a major concern. Although the ASCM has notification requirements, many countries have not provided the required notifications in the past or have failed to provide complete information. According to the WTO, over the last years, the number of countries not notifying any measures at all has grown steadily, reaching more than 50% in 2019.7

That said, even if all WTO Members were to notify the measures that they themselves view as subsidies, information gaps would likely remain in relation to below-market finance. Deciding whether a loan or an equity infusion falls under the definition of a “subsidy” under the ASCM hinges on an agreed definition of state actors (“public body”) and, unlike in the case of a grant, a market benchmark to assess whether a “benefit” is conferred.8 More generally, there is a dearth of public information on potentially relevant commercial transactions, such as the terms and conditions of loans and equity infusions complicating any assessment.

The determination of whether the transactions involve state actors also requires sufficient information on companies’ ownership structures. Such information is not always readily available, especially where government stakes are indirect and involve a chain of entities. WTO notifications currently do not appear to address the ownership structures of the firms in which governments have invested. While there is a large debate over the definition of state ownership and the scope of rules targeted at SOE behaviour, OECD analysis of government support delivered through below-market financing shows that in many cases majority control or influence over an enterprise are not necessary for a below-market investment to lead to market distorting support.9

Concerns over transparency could be addressed in a number of ways. The notification requirements in the ASCM could be enhanced, by updating transparency provisions to expand the scope and depth of WTO Members’ notifications, or enhancing information-request procedures. This could potentially involve enabling Members to obtain more detailed information on particular financial transactions involving government-invested enterprises. Members could be required to provide sufficient details about individual loan, guarantee, and equity transactions, upon request, to enable other WTO Members to assess the consistency of the transactions with market benchmarks.10 In order to address concerns over insufficient reporting of below-market finance – including because of lack of consensus over what constitutes an adequate benchmark – governments may also be asked to provide data on all financial contributions in the form of loans, guarantees, and equity that government-invested firms provided or injected.11

Whether existing WTO rules cover the support provided by all government-invested or influenced firms is a debated issue. For the ASCM to apply, a financial contribution has to be provided by a government or any “public body”; there have, however, been different views over how this should be interpreted. In order to ensure that the support provided by government-invested firms is captured by the ASCM, it might be useful to clarify and expand the range of subsidy providers to which subsidy rules under the Agreement apply. Provisions in recent preferential trade agreements might provide a useful guide in this respect (Box 4).

Governments may also wish to complement their efforts in the WTO with parallel efforts. Soft law approaches could also encourage government-invested firms to enhance their corporate disclosures. The OECD Guidelines on Corporate Governance of State-Owned Enterprises provide guidance for government owners (OECD, 2015[9]).

A lack of transparency in government support is a major concern.

As the world moves into a new stage of the economic recovery from the COVID-19 crisis, governments should take a longer-term view of their emergency support programmes, not only to ensure financial and fiscal sustainability but also to avoid future market distortions. This involves three priorities: Ensuring sound design of future programmes to avoid distortions; reviewing existing programmes to ensure a timely phase out; and international co-operation on transparency, policy guidance and disciplines to ensure today’s emergency measures do not create tomorrow’s structural support and distortions.

Given the shared concerns and goals of the trade and competition policy communities, there is scope for co-operation and mutual learning, building on the complementary roles they play in disciplining behaviour and promoting best practices. With its multidisciplinary expertise and engagement by policy makers across its Committees, the OECD is well placed to foster this mutual learning and co-operation between the trade and competition policy communities.

A number of countries have taken steps to introduce equity or quasi-equity based support programmes. In most cases either as an equity contribution using co-investment, or a direct preferred equity contribution made through a government institution (such as a national development bank). In some cases, the two approaches have been combined. The main aim is to reduce the leverage of stressed companies and improve the future economic recovery, both for companies and for governments, which will be able to reap any economic and financial upside benefits of equity investment. A number of additional countries are considering equity contributions in light of possible benefits compared to debt. In the air transport sector a number of outright government equity injections have occurred, but so far mostly into companies where the state was already an owner or major block-holder.

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Contacts

Julia Nielson (✉ julia.nielson@oecd.org)

Ruben Maximiano (✉ ruben.maximiano@oecd.org)

Notes

← 1. The two policy communities use a number of similar terms; however, there are some differences in their precise application or definition. This brief does not aim to reconcile any differences or to formalize any definitions of shared terms.

← 2. In April 2020, the OECD Committee on Financial Markets undertook a survey to better understand the types of programmes introduced in Delegate jurisdictions, followed by an assessment of programme features, terms and potential limitations to help consider the extent to which further government financing support programmes may be warranted (OECD, 2020[3]). To ensure that the assessment remained relevant, a second survey was conducted in December 2020 to take into account the new programmes introduced and any amendments to existing programmes. The findings in this note represent the survey responses of 21 CMF Delegate jurisdictions from the December 2020 survey (OECD, 2021[2]).

← 3. A recent sectorial study of air transportation conducted by the Working Party on State Ownership and Privatisation Practices confirmed these trends, while arguing that a major build-up of leverage in the sector could still trigger a wave of recapitalisations unless the coming months bring significant improvements in corporate earnings (OECD, 2021[30]).

← 4. Many governments also provide significant structural government support to the agriculture sector. Government support to agriculture is covered extensively in the 2021 OECD Agricultural Monitoring and Evaluation Report (OECD, 2021[26]).

← 5. These concerns have been prominent in sectors such as steel (Mattera and Silva, 2018[27]) and (Michele Riminii, 2020[28]), aluminium (OECD, 2019[5])), shipbuilding (OECD, 2019[29]) and semiconductors ( (OECD, 2019[6]).

← 6. This section benefits greatly from the 8 June 2020 Statement from the OECD Secretary-General, ‘Shaping government interventions for a faster and more resilient economic recovery.

← 7. See WTO, WTO G/SCM/W/546/Rev.11, available at www.wto.org.

← 8. It is important to note that below-market borrowings and below-market equity infusions are in principle covered by the WTO ASCM. Under the Agreement, a loan or an equity infusion would be regarded as a subsidy if it confers favourable terms compared with market benchmarks. In practice, however, this comparison is easier said than done as it can be hard to find a loan or an equity infusion that was provided on comparable terms and conditions in the market and can be used as a benchmark

← 9. The OECD often uses the term “government-invested firms” to refer to firms in which governments, as a factual matter, have invested, but without prejudice to the size of those investments or the implications they have for the effective level of state control.

← 10. For instance, while being mindful of commercial sensitivities, Members could be required to provide on request the detailed terms and conditions of loans and equity transactions (e.g. size, duration, risk profile, premium and interest rate, currency, jurisdiction, etc.). This kind of transparency exists in other contexts. For example, under the OECD Arrangement on Officially Supported Export Credits, Participants agree to provide detailed information on the terms and conditions of individual export credit transactions.

← 11. Information requests could also be expanded to include information on government-invested firms, for example on the percentage of shares held by governments and the government officials who serve on the board of directors. This would not be information on support per se, but could be helpful in facilitating further investigation of whether such firms are involved in receiving or providing support.

Disclaimer

This paper is published under the responsibility of the Secretary-General of the OECD. The opinions expressed and the arguments employed herein do not necessarily reflect the official views of OECD member countries.

This document, as well as any data and map included herein, are without prejudice to the status of or sovereignty over any territory, to the delimitation of international frontiers and boundaries and to the name of any territory, city or area.

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