Should we kill off unproductive companies?

The out-of-business business.

The out-of-business business has done a roaring trade this month, as a walk down any high street will testify.  But the staff of one closed store using their empty shop window to advertise themselves as available for work was a heartbreakingly public illustration of what each redundancy actually represents. Stories like that one have been painful to read, but it was both right and necessary that the media (including this newspaper) made space for the victims of these events.

Amid the concern for the newly-jobless, however, has come new talk around an old idea: the notion that some insolvencies can actually promote recovery in the economy. The theory is that labour and capital can be released from fundamentally unproductive companies, to re-enter the system in some more productive context.

For that to hold true in practice, however, the conditions must be in place for capital and labour to be reabsorbed into the economy. That means strong growth – assets find a market, staff find new jobs, creditors can offset loss. But an economy which is currently only adding new jobs at the rate of a few thousand a month will struggle to place the newly-redundant back into work. Therefore, one must sound a note of caution before we decide that unproductive companies should all be killed off.  If the current rash of large-scale insolvencies was indeed a side-effect of the recovery, there would be no cause to worry, but that is clearly not the case.  The economy is simply not adding enough jobs to re-employ those left without work.

By the time a business enters administration, it is generally beyond all help, but the end should not come as a surprise to those in charge. One reason that it might, is that the means used to measure productivity within companies are often inadequate, and provide an incomplete picture at best.  It’s fairly easy for the leader of a small business to look around his or her office and, from the ringing of the phone alone, gain a fairly clear grasp of the productivity of their company.  It’s far harder for the management of a retail chain with hundreds of locations and thousands of employees. That’s a major problem because, if business leaders cannot analyse productivity effectively, then many of their decisions will be based on little more than guesswork.

When attempting to arrest a slide in revenue, or a loss of market share, it ought to be relatively simple to identify the points at which productivity and effectiveness can be improved.  These might include things like closer centralised control of planned absences like holidays, to reduce reliance on costly agency staff; another might be better assessment of the peaks and troughs of customer demand.  Indicators like these allow a much clearer insight into whether problems are internal or external, and whether internal reforms, or more radical measures, are required to return the organisation to health. 

Similarly, the measurement (and projection) of customer loyalty is often left to the most basic analysis, while the factors affecting it are multifarious and complex. No business’s cashflow is immune from the impact of customer loyalty, whether positive or negative, and any kind of long-term planning demands some means to accurately predict what will motivate customers to keep spending.  Indeed, research suggests business leaders are not doing enough to impress their customers: less than half of UK consumers say they are satisfied with the service they receive from organisations including retailers, banks and phone companies.

Of course, some firms do fall victim to truly exogenic factors, and not all businesses can succeed, but those are largely the exception rather than the rule.  Bosses should not be spared blame if they do not do all they can to identify and fix inefficiencies within their business or, indeed, if they pretend to be surprised when their creditors finally run out of patience.

One of the most horrid features of the recent series of bankruptcies was the extent to which staff were kept in ignorance of the state of the company.  At the shop mentioned previously, employees only found out that the company had folded when a journalist phoned the store to ask for comment. That’s unforgiveable – when the writing is on the wall, executives should recognise it, and seek to wind up their company in an orderly fashion. 

Equally unforgivable is if they never made an effort to read that writing in the first place. Business leaders carry an inherent responsibility for those that work for them, ensuring that they stay productive and that the business keeps competing. That entails a duty to make mature decisions about the future of the business, and a duty to do so in full possession of the facts.

Claire Richardson is a VP at customer relations consultants Verint.

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We're racing towards another private debt crisis - so why did no one see it coming?

The Office for Budget Responsibility failed to foresee the rise in household debt. 

This is a call for a public inquiry on the current situation regarding private debt.

For almost a decade now, since 2007, we have been living a lie. And that lie is preparing to wreak havoc on our economy. If we do not create some kind of impartial forum to discuss what is actually happening, the results might well prove disastrous. 

The lie I am referring to is the idea that the financial crisis of 2008, and subsequent “Great Recession,” were caused by profligate government spending and subsequent public debt. The exact opposite is in fact the case. The crash happened because of dangerously high levels of private debt (a mortgage crisis specifically). And - this is the part we are not supposed to talk about—there is an inverse relation between public and private debt levels.

If the public sector reduces its debt, overall private sector debt goes up. That's what happened in the years leading up to 2008. Now austerity is making it happening again. And if we don't do something about it, the results will, inevitably, be another catastrophe.

The winners and losers of debt

These graphs show the relationship between public and private debt. They are both forecasts from the Office for Budget Responsibility, produced in 2015 and 2017. 

This is what the OBR was projecting what would happen around now back in 2015:

This year the OBR completely changed its forecast. This is how it now projects things are likely to turn out:

First, notice how both diagrams are symmetrical. What happens on top (that part of the economy that is in surplus) precisely mirrors what happens in the bottom (that part of the economy that is in deficit). This is called an “accounting identity.”

As in any ledger sheet, credits and debits have to match. The easiest way to understand this is to imagine there are just two actors, government, and the private sector. If the government borrows £100, and spends it, then the government has a debt of £100. But by spending, it has injected £100 more pounds into the private economy. In other words, -£100 for the government, +£100 for everyone else in the diagram. 

Similarly, if the government taxes someone for £100 , then the government is £100 richer but there’s £100 subtracted from the private economy (+£100 for government, -£100 for everybody else on the diagram).

So what implications does this kind of bookkeeping have for the overall economy? It means that if the government goes into surplus, then everyone else has to go into debt.

We tend to think of money as if it is a bunch of poker chips already lying around, but that’s not how it really works. Money has to be created. And money is created when banks make loans. Either the government borrows money and injects it into the economy, or private citizens borrow money from banks. Those banks don’t take the money from people’s savings or anywhere else, they just make it up. Anyone can write an IOU. But only banks are allowed to issue IOUs that the government will accept in payment for taxes. (In other words, there actually is a magic money tree. But only banks are allowed to use it.)

There are other factors. The UK has a huge trade deficit (blue), and that means the government (yellow) also has to run a deficit (print money, or more accurately, get banks to do it) to inject into the economy to pay for all those Chinese trainers, American iPads, and German cars. The total amount of money can also fluctuate. But the real point here is, the less the government is in debt, the more everyone else must be. Austerity measures will necessarily lead to rising levels of private debt. And this is exactly what has happened.

Now, if this seems to have very little to do with the way politicians talk about such matters, there's a simple reason: most politicians don’t actually know any of this. A recent survey showed 90 per cent of MPs don't even understand where money comes from (they think it's issued by the Royal Mint). In reality, debt is money. If no one owed anyone anything at all there would be no money and the economy would grind to a halt.

But of course debt has to be owed to someone. These charts show who owes what to whom.

The crisis in private debt

Bearing all this in mind, let's look at those diagrams again - keeping our eye particularly on the dark blue that represents household debt. In the first, 2015 version, the OBR duly noted that there was a substantial build-up of household debt in the years leading up to the crash of 2008. This is significant because it was the first time in British history that total household debts were higher than total household savings, and therefore the household sector itself was in deficit territory. (Corporations, at the same time, were raking in enormous profits.) But it also predicted this wouldn't happen again.

True, the OBR observed, austerity and the reduction of government deficits meant private debt levels would have to go up. However, the OBR economists insisted this wouldn't be a problem because the burden would fall not on households but on corporations. Business-friendly Tory policies would, they insisted, inspire a boom in corporate expansion, which would mean frenzied corporate borrowing (that huge red bulge below the line in the first diagram, which was supposed to eventually replace government deficits entirely). Ordinary households would have little or nothing to worry about.

This was total fantasy. No such frenzied boom took place.

In the second diagram, two years later, the OBR is forced to acknowledge this. Corporations are just raking in the profits and sitting on them. The household sector, on the other hand, is a rolling catastrophe. Austerity has meant falling wages, less government spending on social services (or anything else), and higher de facto taxes. This puts the squeeze on household budgets and people are forced to borrow. As a result, not only are households in overall deficit for the second time in British history, the situation is actually worse than it was in the years leading up to 2008.

And remember: it was a mortgage crisis that set off the 2008 crash, which almost destroyed the world economy and plunged millions into penury. Not a crisis in public debt. A crisis in private debt.

An inquiry

In 2015, around the time the original OBR predictions came out, I wrote an essay in the Guardian predicting that austerity and budget-balancing would create a disastrous crisis in private debt. Now it's so clearly, unmistakably, happening that even the OBR cannot deny it.

I believe the time has come for there be a public investigation - a formal public inquiry, in fact - into how this could be allowed to happen. After the 2008 crash, at least the economists in Treasury and the Bank of England could plausibly claim they hadn't completely understood the relation between private debt and financial instability. Now they simply have no excuse.

What on earth is an institution called the “Office for Budget Responsibility” credulously imagining corporate borrowing binges in order to suggest the government will balance the budget to no ill effects? How responsible is that? Even the second chart is extremely odd. Up to 2017, the top and bottom of the diagram are exact mirrors of one another, as they ought to be. However, in the projected future after 2017, the section below the line is much smaller than the section above, apparently seriously understating the amount both of future government, and future private, debt. In other words, the numbers don't add up.

The OBR told the New Statesman ​that it was not aware of any errors in its 2015 forecast for corporate sector net lending, and that the forecast was based on the available data. It said the forecast for business investment has been revised down because of the uncertainty created by Brexit. 

Still, if the “Office of Budget Responsibility” was true to its name, it should be sounding off the alarm bells right about now. So far all we've got is one mention of private debt and a mild warning about the rise of personal debt from the Bank of England, which did not however connect the problem to austerity, and one fairly strong statement from a maverick columnist in the Daily Mail. Otherwise, silence. 

The only plausible explanation is that institutions like the Treasury, OBR, and to a degree as well the Bank of England can't, by definition, warn against the dangers of austerity, however alarming the situation, because they have been set up the way they have in order to justify austerity. It's important to emphasise that most professional economists have never supported Conservative policies in this regard. The policy was adopted because it was convenient to politicians; institutions were set up in order to support it; economists were hired in order to come up with arguments for austerity, rather than to judge whether it would be a good idea. At present, this situation has led us to the brink of disaster.

The last time there was a financial crash, the Queen famously asked: why was no one able to foresee this? We now have the tools. Perhaps the most important task for a public inquiry will be to finally ask: what is the real purpose of the institutions that are supposed to foresee such matters, to what degree have they been politicised, and what would it take to turn them back into institutions that can at least inform us if we're staring into the lights of an oncoming train?