How Central Banks Will Expand the Zombification of the Economy?

Faced with the coronavirus crisis, the central banks went into "open bar" mode: in the United States, the Federal Reserve announced on March 3 an injection of $1.5 trillion coupled with a cut in its key rate to zero, while the European Central Bank followed with the announcement on March 19 of a €750 billion emergency plan. And it is clear that they can go beyond that, from now on it is "no limit".

This gigantic printing press can degenerate into hyperinflation, but it can also "zombify" the economy, which would be less immediately visible, but no less serious. "Zombie firms" are indebted companies that would go bankrupt if interest rates were normal. The OECD proposes a more technical definition: "Zombie firms as defined as old firms (aged 10 years or more) whose operating income does not cover their interest obligations for two of three consecutive years". However, the zero interest rates we have known for several years now allow companies in difficulty to survive, despite the lack of economic opportunities and competitiveness. This certainly avoids redundancy plans, but this situation worsens the general activity of the country. These companies survive and do not participate in the "destruction-creation" dear to Schumpeter, they hinder the growth of the economy.

In order to avoid massive bankruptcies, governments are encouraging commercial banks to roll over corporate debt. Some are quite competitive and will be able to restart easily after containment, but others were already suffering for a long time and will thus benefit from a further reprieve. The result is a "zombification" of the economy, where over-indebted companies, unable to launch new projects, will be financed, while new innovative companies will be under-financed.

This phenomenon should not be underestimated. According to a study published in 2018 by the Bank for International Settlements, the proportion of zombie businesses in OECD countries has risen from 1% in 1990 to 12% in 2015. With the coronavirus crisis, this figure will jump. 

The central banks are taking part, alongside the governments: the Bank of England is going to buy back bond issues from companies classified as speculative, i.e. already in a very bad situation before the current crisis. With its "Pandemic Emergency Purchase Programme (PEPP)", the ECB is preparing for large asset buybacks, including to support companies in difficulty. The Fed, for its part, has given BlackRock a straightforward mandate to assist it in implementing part of its credit market rescue plan. The asset management company will advise the central bank on the acquisition of corporate bonds. BlackRock insists that there is a "Chinese wall" between its advisory and investment business. Come on, will you take a dose of "crony capitalism"?

Central banks had already helped to create a zombie banking sector, by dint of infusions of liquidity, and this is becoming more pronounced with the epidemic (postponement of the Basel III reform, lower capital requirements), as they are being hit hard by the crisis (recession, higher default rates on loans). But now this zombification is going to spread to the real economy, to our misfortune, for a recession that will never end...