Company births and insolvencies

A guest post by Niall McGeever (Central Bank of Ireland) on new company registrations and corporate insolvency in Ireland during the pandemic. [Disclaimer: This blog represents the author’s views and not those of the Central Bank of Ireland]

The severity of the COVID-19 shock and the modest liquid asset holdings of many Irish firms (Financial Stability Review 2020 I; McGeever et al., 2020) raises the question of how the pandemic is affecting business dynamism and failure rates. A marked reduction in new firm formation or a spike in insolvencies could lower the productive capacity of the economy and negatively affect output and employment.

Cecilia Sarchi, Maria Woods, and I look at recent trends in a new Economic Letter on Irish company births and insolvent liquidations during the COVID-19 shock.

There’s lots of economic research showing the importance of new firms for productivity and employment growth. Lawless (2013), for example, shows that young firms contribute disproportionately to employment growth in Ireland.

While a certain level of insolvency over time is inevitable and even desirable to ensure resource re-allocation to productive firms, the failure of otherwise viable firms due to the pandemic could reduce output and productivity growth. See Lambert et al. (2020) for more discussion on this point.

The chart below, Figure 2 from the Letter, shows the new company registration rate between January 2001 and September 2020. The rate averages around 9.5 per cent per annum and is broadly pro-cyclical.

The initial Covid-19 shock coincided with a sharp decline in new company registrations, with the rate falling to 5.3 per cent in April and 6.1 per cent in May. The Companies Registration Office tell us that over 90 per cent of applications to register a new company are made online, so the decline in April and May cannot be explained by procedural delay due to the pandemic. Instead, it likely reflects a temporary decline in both new enterprise formation and stalled investment decision-making by pre-existing corporate groups.

The largest declines during this period were, perhaps unsurprisingly, in Accommodation and Food and in Arts, Entertainment and Recreation. New registrations in these sectors were down 50 per cent on the same period in 2019.

Whilst the number of registrations in the first nine months of 2020 were down around 12 per cent on the same period of 2019, new company registrations rebounded quite strongly over the summer and had returned to roughly pre-pandemic levels by September. An emerging trend in the Wholesale and Retail trade category is the consistent increase in new registrations in “retail sales via mail order houses or via internet” and in “other retail sales not in stores, stalls or markets” between June and September relative to the same period in 2019. This trend is also reflected internationally. US Census Bureau data, for example, shows higher new business applications by non-store (e.g., internet sales) retailers during 2020.

We next look at insolvent liquidations. The next chart (Figure 4 in the Letter) shows the insolvent liquidation rate from January 2001 to September 2020. The rate generally tracks macroeconomic conditions very closely and it is worth noting that it rose notably rose with the unemployment rate in early 2008.

The immediate impact of Covid-19 shock was to sharply reduce insolvent liquidations. The annualised rate was exceptionally low at 0.07 per cent in April 2020 and only a touch higher at 0.10 per cent in May. This is due principally to the inability of company directors to safely convene creditors’ meetings. Prior to the pandemic, it was a requirement to hold a physical meeting with creditors to initiate a creditors’ voluntary liquidation. This became impractical during the acute phase of public health restrictions and so the main channel for insolvent liquidations was blocked. This procedural issue was quickly resolved and the Oireachtas passed a company law amendment to facilitate creditors’ meetings by electronic means.

The insolvent liquidation rate reverted to pre-pandemic levels in June and showed no signs of a marked increase up to September. At a sectoral level, Accommodation and Food and Wholesale and Retail Trade show signs of higher liquidations both during the pandemic and relative to 2019. These patterns are aligned with the negative labour market shocks in both sectors.. To a lesser extent, we also see the Arts and health sectors recording higher numbers.

Despite the clear evidence of financial distress facing many firms, there is no evidence yet of a marked increase in corporate insolvencies. The striking contrast between the insolvent liquidation rate and current labour market conditions is unusual and points to the significant role of government supports, loan payment breaks, and forbearance from other creditors in helping firms to stay cash-flow solvent.

Resolving credit distress after COVID-19 – new articles and data from the Central Bank

Over the last fortnight, the Central Bank has published several articles and new data on trends and policy challenges relating to credit.

This includes articles on payment breaks for mortgages by Ed Gaffney and Darren Greaney and for firms by David Duignan and Niall McGeever, as well as enhanced statistics on mortgage arrears by David Duignan, Andrew Hopkins, Ciaran Meehan and Martina Sherman. The new data shows a “persistently high number of PDH [owner-occupier] mortgages that remain in long-term arrears some ten years on from the financial crisis”.

To coincide with a Central Bank Webinar on Distressed Debt on Monday 28 September, Fergal McCann and Terry O’Malley published an article on “Resolving mortgage distress after COVID-19: some lessons from the last crisis”. The article is presented as a “stock-taking exercise as COVID-related [payment breaks] begin to expire”. It draws on the lessons of the last decade, emphasising the need for early engagement and a focus on long-term sustainable solutions. The paper also provides rich new information on the financial position of borrowers as they engaged with the restructuring process over the last decade, highlighting the sharp falls in living standards that had been experienced by many. It also provides clear evidence of the role of deeper up-front payment relief in explaining lower re-default after modification Finally, it highlights the need for lenders and credit servicing-firms to put in place plans and capacity to help customers in financial distress.

Central Bank Quarterly Bulletin 3 2020

Guest post by Stephen Byrne, Central Bank of Ireland

Today the Bank published its third Quarterly Bulletin of the year. The report contains a detailed overview of developments in the economy since the publication of last Bulletin in early April as well as our latest macroeconomic forecasts out to 2022.

Given the scale of uncertainty surrounding the economic impact of Covid-19, two different scenarios for the economic outlook are outlined in the Bulletin (see featured image above).

In the “baseline” scenario, the economy reopens in line with the Government’s phased plan, allowing for a rebound in economic activity in the second half of the year. Some containment measures would remain in place meaning that activity would be constrained in some sectors for a longer period. Beyond the initial rebound, recovery is expected to be gradual, in line with a slow unwinding of precautionary behaviour as the effects of the shock on consumers and businesses lingers. The unemployment rate is set to decline from its second quarter peak of about 25 per cent as the year progresses and is projected be around half that level by the end of this year, before averaging just over 9 per cent next year and 7 per cent in 2022.

The baseline scenario sees output recovering to its pre-crisis level by 2022. However, the level of activity will be significantly below where it would have been had the economy grown in line with expectations before the outbreak of the pandemic.

In the “severe” scenario, the strict lockdown period is assumed to have a more damaging impact on economic activity and is not successful in effectively containing the virus. Stringent containment measures would remain in place, or would be re-instated, albeit not as severe as before, based on an assumption that there would be a resurgence of the virus at some point over the next year. In this scenario, there is a subdued economic recovery with a larger permanent loss of output. Unemployment remains higher for longer in this scenario and would average just below 17 per cent in 2020, while consumer spending is projected to fall by around 14 per cent and GDP by over 13 per cent this year. In this scenario, the projected recovery in growth in 2021 and 2022 would not offset the loss of output this year, leaving the level of GDP in 2022 about 5 per cent below its pre-crisis level.

Both of these scenarios assume that a Free trade agreement in goods between the UK and the EU, with no tariffs and quotas on goods, takes effect in January 2021. If such an agreement is not reached, then the EU and the UK would move to trading on WTO terms from January 2021. Box D of the Bulletin discusses the implications of such an outcome.

The bulletin also contains analysis of the impact of Covid-19 on debt dynamics and sustainability, as well as a detailed examination of the regional labour market impacts of the pandemic.

Finally, an accompanying signed article explores alternative long-term recovery paths for the economy and assesses the impact of fiscal and monetary policy supports. The Article considers how hysteresis – or scarring ­­– effects could influence the pace and nature of the recovery. The paper shows that, as a highly open economy, Ireland benefits from the positive effects of monetary and fiscal policy measures implemented abroad. The assessment of the combined effects of domestic and international policy supports indicates that the actions will help to meaningfully reduce the scale of the output loss in Ireland from the pandemic.

Central Bank event: Labour Markets over the Business Cycle

The Central Bank is hosting a one-day conference on “Labour Markets over the Business Cycle” on 11 December in Dame Street (programme below). There is a limited number of places still available. If you wish to attend, please email ieaadmin@centralbank.ie by 9 December. Please note that places will be allocated strictly on a first-come-first-served basis.

Labour Market Adjustment over the Business Cycle

A one-day conference at the Central Bank of Ireland

11 December 2014
Liffey room, Dame Street, Dublin 2

email ieaadmin@centralbank.ie to confirm attendance by 9 December

   
Programme

 

11 December  
   
08:45 Registration and coffee
09:00 Opening remarks – “Prospects and Challenges for the Irish Labour Market 2015 – 2020”. John Flynn (Head of Irish Economic Analysis Division, Central Bank of Ireland).
   
Session 1 

09:20-11:00

Cycles in employment, unemployment and wages
  Labour market transitions in Ireland – Thomas Conefrey (Irish Fiscal Advisory Council)
  Wage Cyclicality – Mario Izquierdo (Banco de Espana)

 

11:00 Coffee & tea break
   
Session 2
11:15-13:00
Labour market attachment
  Are the marginally attached unemployed or inactive? – Martina Lawless (CBI/ESRI)
  Sources of wage losses of displaced workers – Pedro Portugal (Banco de Portugal)
   
13:00 – 14:00 Lunch
   
Session 3
14:00 – 15:45
Wage flexibility
  Wage flexibility in Ireland – Olive Sweetman (Maynooth University)
  Wage Setting – Flexibility and Rigidity in the UK since 1975 – Jennifer Smith (University of Warwick)

 

Session 4

15:45

Labour market adjustment during and after the crisis: the role of policies and institutions
  Pedro Martins (Queen Mary University of London)
  Questions & discussion

 

  Closing remarks

Conference Ends

Some Very Positive Labour Market Numbers

The results of the Quarter 4 2013 National Household Survey are available here.
The year-on-year increase in the numbers at work of 3.3% is all the more remarkable in view of the continuing decline in public sector employment.
The overall unemployment rate (seasonally adjusted) fell from 12.7% to 12.1%, and the long-term rate from 8.2% to 7.2%.