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Financial fragilities in COVID-19 time: assessment and policy answers

A swift policy response during the first phase of the pandemic has prevented a widespread liquidity crisis; without intervention, one third of firms would have run out of liquidity in 3 months of time.

Yet, new OECD research suggests that the share of previously healthy firms at risk of turning insolvent could reach 9%, on average across countries and sectors, and up to 32% in the most hit sectors.

Recapitalisation and debt restructuring are key policy tools to flatten the curve of insolvencies and help firms to continue operating smoothly. Meanwhile, improving the efficiency of liquidation frameworks is critical to handle potential large-scale bankruptcies.

Insolvency and debt overhang following the COVID-19 outbreak

This paper investigates the likelihood of corporate insolvency and the potential implications of debt overhang of non-financial corporations induced by economic shock associated with the outbreak of COVID-19. Based on simple accounting models, it evaluates the extent to which firms deplete their equity buffers and increase their leverage ratios in the course of the COVID-19 crisis. Next, relying on regression analysis and looking at the historical relationship between firms’ leverage and investment, it examines the potential impact of higher debt levels on investment during the recovery. Against this background, the discussion outlines a number of policy options to flatten the curve of crisis-related insolvencies, which could potentially affect otherwise viable firms, and to lessen the risk of debt-overhang, which could slow down the speed of recovery.

Presentation

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Insolvency: Further reading

  • Read the full Working Paper: Insolvency and debt overhang following the COVID-19 outbreak: Assessment of risks and policy responses
  • Read the Issues Note: Insolvency and debt overhang following the COVID-19 outbreak: Assessment of risks and policy responses  Lire la Note de réflexion : Fragilités des entreprises durant la pandémie de COVID-19 : évaluation et réponses des pouvoirs publics
  • Read the Ecoscope blogpost
  • Read the VoxEU article

Liquidity shortfalls during the Covid-19 outbreak

The paper investigates the financial vulnerability of non-financial firms during the Coronavirus (COVID-19) epidemic crisis. In particular, it evaluates the extent to which firms may run into a liquidity crisis following the COVID-19 outbreak and the impact of stylised policy measures to reduce the risks and depth of such crisis. The analysis relies on three ingredients: a simple accounting model, a large dataset reporting firms’ balance sheets for 14 countries and granular data on the magnitude of the shock measuring the impact of confinement measures on economic activity (notably depending on the capacity of each sector to operate by teleworking). Results suggest that, without any policy intervention, up to 38% of firms would face liquidity shortfalls after 10 months since the implementation of confinement measures. Comparing the impact of different policies (tax deferral, debt moratorium and support to wage payments), the analysis shows that government support to relieve wage bills is the most effective tool to reduce liquidity shortages, followed by debt moratorium policies. Finally, the paper zooms into labour market policies and compares the cost-efficiency of short-term work and wage subsidies schemes, highlighting how their relative efficiency depends on their design.

Presentation

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Liquidity: Further reading

  • Read the Working Paper: Liquidity shortfalls during the COVID-19 outbreak: Assessment and policy responses
  • Read the Issues NoteCorporate sector vulnerabilities during the COVID-19 outbreak: Assessment and policy responses  | Lire la Note de réflexion : Fragilités des entreprises durant la pandémie de COVID-19 : évaluation et réponses des pouvoirs publics
  • Read the Ecoscope blog post
  • Read the VoxEu article