“Based on this method, the sectors whose activity contracts the most suffer the largest increases in credit loss rates,” reads one sentence buried in a 16-page article from the BIS called “How much stress could COVID put on corporate credit? Evidence using sectoral data.”
The piece is part of the BIS’s latest quarterly review, out Monday. As usual, the review is a compendium of risk factors that doubles as an excuse for smart people to pore over esoteric, albeit usually topical, market issues.
The quoted excerpt (above) is indicative of why the general public doesn’t read academic papers or anything styled in their fashion. You don’t need a PhD (let alone several of them) to come to the conclusion that sectors of the economy which experience the biggest hit to activity during a recession are likely to be the same sectors that experience big credit losses.
The article is worth a read and if you’re accustomed to the format, it won’t take you long. If you’re not accustomed, though, it’ll take a while and you’ll hate every second of it.
What’s important is the extent to which it emphasizes dispersion in credit losses attributable to the unique nature of the crisis, the differing composition of developed economies, and divergent recovery arcs.
“Cross country variation in credit losses reflects differences in sectoral output paths and pre-existing credit exposures,” the BIS said. “For example, aggregate credit losses as a share of GDP are projected to be lower in Germany than in the US despite similar GDP paths, because credit exposures to customer service industries are smaller in Germany,” the article noted. “Similarly, projected credit losses in the UK are larger than in France and Italy, despite similar initial sectoral credit exposures, because of the UK’s less favorable output trajectory.”
The figure (below) shows the BIS’s projected credit loss rates. It peaks near 2% this year, well below the GFC high. “Loss rates increase by less than during the GFC because the industries affected by the pandemic account for a relatively small share of total corporate borrowing and because public support measures are likely to translate into a smaller increase in credit losses than is typically the case,” the BIS remarked.
Ultimately, the BIS frets that the world hasn’t seen the worst of things when it comes to credit events. “Our analysis suggests that the effects of the COVID pandemic on corporate insolvencies and resulting credit losses are only starting to be felt,” the same article said.
Across the G7 (plus China and Australia), corporate credit losses spanning the three years from 2020 through 2022 “could be equivalent to about three times the pre-crisis level on average,” the BIS estimated. Cumulatively, that would add up to around $1 trillion.
“Any such losses would be borne by financial intermediaries, investors, or taxpayers,” the BIS remarked, in a somewhat tone deaf summary statement.
Why tone deaf? Well, because while those losses are technically “borne” by banks, investors, and taxpayers, they’re also “borne” by laid-off employees, especially in hard-hit sectors. Here’s an additional passage:
Differences in economic conditions between sectors could widen in the early stages of the recovery. Taken together, the output of customer services industries is expected to remain at least 10% below its pre-pandemic trend until late 2021. Within that grouping, some industries would face particularly challenging conditions. The output of recreation industries, such as cafés, restaurants and tourism, is projected to remain at least 20% below its pre-pandemic trend in most economies throughout 2021.
True, those unfortunate folks are captured in the “taxpayers” category, but I don’t think that’s what the BIS meant.
And that brings me to the real reason I decided to highlight the BIS article in the first place.
As regular readers are acutely aware, I tend to bury the lede. One of the things I wanted to do Monday was find an excuse to excerpt a poignant passage from a piece by Nick Paumgarten documenting the trials and tribulations of the restaurant industry in New York City.
I frequently remind folks that de-urbanization, to the extent it’s real and permanent in some of America’s mega-cities, is akin to a biological disaster. For example, if you remove a large percentage of highly-paid, white collar workers from the downtown ecosystem (e.g., if they flee to the suburbs), that ecosystem will die. Restaurants will close, as will coffee shops, bars, theaters, and retail outlets.
With that (and all of the above) in mind, I’ll leave you with a passage from “It’s No Picnic“:
We have a tendency to think of restaurants as a luxury, a concern mainly of the rich. But they come in all shapes and sizes, from affordable to freakishly expensive, and in their variety and breadth and ubiquity they have long provided both sustenance and a scratchy but durable living for the immigrants, artists, actors, dancers, students, and strivers who continually revitalize the metropolis. Restaurants are also at the heart of a vast biome of farmers, vintners, brewers, liquor distributors, appliance dealers, mechanics, laundry services, butchers, florists, spatula straighteners, menu calligraphers, mint replenishers, picture-frame adjusters, matchbook-and-ballpoint-pen customizers, accountants, and lawyers. The ongoing disruption or even obliteration of all of this is hard to comprehend or abide. The food critic Adam Platt, on Grub Street, offered the metaphor of “a huge teeming reef that has been struck out of nowhere by a poisonous tide. This calamity will change life on the reef forever, especially for the thousands of cooks and servers (and overfed critics) who’ve been making our livelihoods there for as long as we can remember. But the tide will eventually drift away and life will return to the reef—possibly in new, more diverse and vibrant ways than before.” Of course, coral reefs also bleach out and die and don’t come back.
The “reef” is a great metaphor. They are beds for the growth of small fish, nurseries if you will. If the reef goes, so may go the nursery, the little fish, the big fish that eat the little fish, the livelihood of the fisherman and the harbor where the boats are moored, and taxes to keep the harbor storm wall in good repair. The high-paid, white collar jobs are the nursery fish.
This explains the volume of money in the urban ecosystem and the impact when the volume decreases…or disappears entirely.
Somewhere in all this, and maybe it’s already happened, there has to be some research, or thought experiment, into the less well understood effects on the velocity of money in the urban ecosystem from this poisonous tide.
And as near as I can tell even the economists with several PhDs don’t have a serious model that follows the falling dominoes you and H describe so very well. So where we will be after “labor” day is going to be an interesting surprise. One sure thing, all the wannabe politicians getting ready for 2022 will be screaming about how all this or that group got it all wrong but they know the answer, by golly. Me, I’ll still be trying to get a vaccination here in backward MO.
To be fair to the apparent tone deafness of authors of the BIS report, their subject was CREDIT losses. Job losses, although way more tragic than a credit loss are distinct. Many employers have and will avoid imposing losses on their creditors by proactively laying off staff. Conversely some credit restructurings will keep the business going as a concern with most of their staff, while wiping out the equity and imposing a haircut on the creditors.