COVID Questions: Does economic cryogenics actually work?

Can you put a business on ice and thaw it out a few months later? That is the bet the government is making as it shuts down the economy to battle the coronavirus.

We are dismantling the consumer economy and, using fiscal measures, attempting to snap freeze it so it can be thawed when the virus is gone. The government wants businesses to keep their staff on, keep their leases active and avoid being put into administration until we’ve beaten this insidious little virus back enough to do business again.

The state and federal governments appear to be dancing with each other. The states are shutting everything down, while the federal government is doing everything in its power to help keep businesses alive during the shutdown. 

The dance is a fast one. The government’s $68 billion economic package announced on Sunday morning seemed enormous. Until a few hours later it didn’t.

Doubling the dole? That was unprecedented. Unbelievable. Enormous.  I couldn’t believe my ears when Treasurer Josh Frydenberg announced it. Not even social welfare advocates were suggesting a doubling.

And yet in a blink of an eye the payment formerly known as Newstart (also formerly known as the dole, and now technically called Jobseeker Payment) went up to $1100 a fortnight.

That’s expected to cost $14 billion and it’s not even the biggest part of the government’s package.

Later on Sunday afternoon the states came through with their shutdowns, and suddenly it was fair to ask if the enormous economic support package was just dust in the wind. With a stroke of the pen Victorian Premier Daniel Andrews froze vast swathes of the Victorian economy — pubs, clubs, restaurants, cafes and gyms. Other states did similar.

Can you put a business on ice?

On the one hand, businesses close temporarily all the time. They shut at night and open the next morning. They close over the weekend and open on Monday. Some even shut over summer and return tanned and rested in February. 

But those are planned shutdowns. There are two big problems with an unscheduled pause. 

Problem one: businesses have fixed costs. Rents, salaries, electricity connection, internet connections, and equipment leases. All these need to be paid whether the business is open or not.

If cash is not coming in the door, most businesses will run out of liquidity with which to pay these fixed obligations in a very short time indeed. 

Problem one means without huge support businesses will fail anyway.

Problem two: businesses have variable costs — casual staff and supplies. Put a business on ice and it stops paying for these things. When you thaw the business out, you find that it has starved its casual staff and its suppliers so badly they aren’t available any more.

This problem means even if business structures survive, the economic environment in which they operate will be suffering from a bad case of freezer-burn.

The government’s support package is not ignorant of these problems. There are payments to help businesses with cashflow so they can meet their fixed costs while they are shutdown. And there is support for individuals who lose their jobs so they are not rendered destitute during the shutdown.

The question is whether this support can possibly be enough. A lot of the support for business takes the form of loans. Will businesses take out a loan they suspect they can’t repay? Should they? How much bad debt will the banks end up holding when all this is over? And will the government be on the hook for that debt too?

Zombie companies lurking

In all things there are trade-offs, and the economic package announced yesterday is no exception. One aspect of the package could help business structures survive, but worsen the economic environment: the government has made it easier for businesses to operate while insolvent.

“A creditor issuing a statutory demand on a company is a common way for a company to enter liquidation. The government is temporarily increasing the current minimum threshold for creditors issuing a statutory demand on a company under the Corporations Act 2001 from $2,000 to $20,000. This will apply for six months.”

This makes it easier for companies to not pay their bills during the crisis. Sounds nice. But even in a time of social distancing we are all connected. If one company doesn’t pay its bills, another company goes hungry.

If I were a small business operating under these newly relaxed rules, I’d start thinking about trading for cash up front only. This is not good for the economy — fears about the solvency of the people you do business with are the driving force behind credit crunches.

The briefer the freeze…

Freezing an economy is comparatively easy. Thawing it out is the hard part.

We don’t know whether it is more like a green bean and it unfreezes very nicely indeed, or whether it is more like an apple and it is ruined by the process.

One thing is for sure, and that is the briefer the freeze, the better the chance what we get back is something resembling what we have now. For that reason, the best thing we can all do for the economy is to deny the virus what it wants most — a host to replicate in.