Zombies walk among us. For nearly a decade, economists have issued increasingly strident alarms about the impact of ultralow interest rates on the business ecosystem, warning that easy money prevents the turnover of companies that promotes productivity. Central bank efforts to fend off the catastrophic economic effects of the COVID-19 crisis have amplified the alerts: “Japanification,” a permanent state of sluggish growth, is a possible, if not likely, future for developed economies.
Zombies may be more of a cosmetic problem than a genuine menace. In the short term, keeping companies on life support makes sense given the exceptional circumstances of the pandemic. But even over the long-term, a readiness to pull the plug betrays assumptions about economic health and social well-being that must be more closely examined.
A zombie company is defined as a firm that can’t generate enough business to operate without ongoing financial assistance. More specifically, it is unable to cover debt servicing costs from current profits over an extended period. One analysis of firms in 79 countries from 2005-2016 found that about 10% could be called zombies. Deutsche Bank estimated that about 20% of publicly traded U.S. companies are zombies, a doubling since 2013. That aligns with a November 2020 Bloomberg News assessment in which 527 companies in the Russell 3000 index of large U.S. corporations, with a combined debt of $1.36 trillion, are zombies; this is a substantial increase from the 335 firms that had $378 billion of debt at the end of 2019.
It’s a global problem. An estimated 25% of all European companies with more than 20 employees will run out of money by the end of the year. Germany has weathered the pandemic reasonably well, but economists believe that one-sixth of all companies –some 550,000 businesses — could be called zombies. In the U.K., the figure is 20%.
Zombies were spreading before COVID-19 struck. A 2018 paper for the Bank of International Settlements (BIS) estimated that the share of zombie companies in Western countries increased from 1% in 1990 to 12% by 2016. The COVID outbreak is increasing the number of businesses on the brink, producing “super zombies,” wounded businesses that are piling up even more debt. Another Bloomberg analysis reckons that zombies have added $1 trillion in debt during the pandemic.
Like their cinema namesakes, such zombies feed off the living. They are companies that should close their doors but don’t, cannibalize healthy businesses, depriving them of customers, income and monies that can be the difference between financial health or a persistent vegetative state. They lower prices (because they create competition) while preventing new, and perhaps better, competitors from entering the market. Zombies sap economic dynamism and reduce investment, productivity and inflation. The BIS study found that a 1% rise in a country’s share of zombie firms reduces productivity growth by 0.3%. Zombies also cut government revenue since there is no profit to tax, coupled with periodic demands for bailouts.
The zombie infection is contagious. Easy money keeps companies in business and the infection propagates. More zombies means more pressure for low interest rates and the downward spiral intensifies. The affliction often isn’t temporary: Easy money is an addiction. Research shows that once a company is “zombified,” its “performance is significantly poorer than that of nonzombie firms.”
Every struggling company shouldn’t be beheaded. Zombie companies in the U.S. currently employ some 2.2 million people; shutting them down would be a disaster. In moments like these, especially when money is cheap, it makes sense to extend a lifeline to struggling firms. More than ¥100 trillion in Bank of Japan loans has helped limit bankruptcies — they fell 1.6 percent last July from the previous year — even as the economy contracted 28.1 percent in the second quarter. Other government aid packages have had similar results. German insolvencies were down 35% in September; U.K. bankruptcies were down 42% in October; in France, the fall was 30% for September, while corporate insolvencies in Canada were down 14.5% in the third quarter.
Japan might be ground zero for the zombie contagion. The term was first used to describe companies kept alive after the bursting of the bubble economy in the late 1980s and whose survival lead to “the lost decade” of the 1990s. Zombies overwhelmed Japan’s financial system; support for them crowded out investment in healthy firms. Despite ultralow interest rates that have been in place since the ’90s — Japan even experimented with zero interest rates — the economy remains anemic and zombies shamble on. One 2019 study found that the 21% of Japanese small- and medium-size enterprises are zombies. Another study attributes more than a third of the decline in Japan’s productivity to zombies.
Slowing growth and declining productivity — sometimes called the “Japanification” of developed economies — is considered a curse, but the supernatural is often used to explain what we don’t understand. Fear of zombies might be cultural. Killing zombies makes sense if there is a safety net for the unemployed — training, not just money — along with an entrepreneurial culture to absorb labor and where failure isn’t a permanent reputational stain. That isn’t the case in Japan.
A focus on efficiency and productivity is a choice — as is the priority, if not fetishizing, of high growth. Japan also values sustainability or longevity. That’s why the country has the largest number of old businesses, a story that The New York Times highlighted last weekend. (Thanks for the tip, Mom!) Japan has over 33,000 companies that are over 100 years old, over 40% of the world’s total. Some 140 have been in operation for over 500 years. Kongo Gumi, a temple and shrine construction company, absorbed by Takamatsu Construction Group Co in 2006, was founded in 578; Nishiyama Onsen Keiunkan, an onsen in Yamanashi, has been in operation since 705; Tsuen Tea Kyoto has been open since 1160. By contrast, in the 1960s the average company on the U.S. S&P 500 had a lifespan of more than 60 years; today, it’s dropped to 18 years.
Ulrike Schaede, professor of Japanese business at University of California, San Diego bluntly dismisses the zombie talk. “There is no reason why a company should ever die, as long as managers have the foresight to pivot and position the company such that it can grow with the times.” Her latest book, “The Business Reinvention of Japan,” discussed in this space in July, explains how Japanese companies are doing that. With calculated technology bets, investments in new businesses, and careful internal management change, companies are positioning themselves for the future. Even companies that sell “tradition” — like those that sell lanterns for Buddhist temples or kimono weavers — can innovate to stay profitable. Schaede points to Buddhist temples that now run day-care centers.
“Pivoting is happening everywhere, all the time. The Buddhist temples are not an exception but the rule. Where it doesn’t happen, some weeding out is good. But incentivizing companies to pursue new business models is a much better route that also maintains social stability and is much less messy and expensive.”
The hard part is figuring out how to create those incentives, which, among other things, means knowing when and how to tighten the screws as a crisis recedes. This also demands a new look at economic fundamentals, most notably how we assess corporate performance. Low growth, with stability and long-term prospects, may be good enough. Economists are talking about a paradigmatic shift in thinking about low-interest rates, which includes acknowledgement that fears of crowding out investment have been overstated. This world may yet be big enough for zombies and “normies” alike.
Brad Glosserman is deputy director of and visiting professor at the Center for Rule Making Strategies at Tama University as well as senior advisor (nonresident) at Pacific Forum. He is the author of “Peak Japan: The End of Great Ambitions” (Georgetown University Press, 2019).
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