Corporate zombies are eating our brains

By John Stepek

published 27 March 2019

in Features

Today I want to talk about zombies.

Not Night of the Living Dead-type zombies, unfortunately. Rather "zombie" companies and "zombie" economies.

The special effects aren't as good. The story-telling isn't as compelling.

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But these zombies do still end up eating our brains (metaphorically).

Forget happiness here are the two key indicators we should care about

Most countries in the world have a problem with productivity right now. That is bad. Productivity is the way that our standard of living gets better. It's about doing more with less. It's about using scarce resources more efficiently. It's the whole point, basically.

One big bugbear I have about economics right now is these constant, facile debates about whether we should be measuring "happiness" or some other touchy-feely nonsense.

To be clear, we absolutely should care about making people's lives better. That's what we'd all like to see. And that's what annoys me about this "happiness" cul-de-sac.

You can't measure happiness. Moreover, you can be a happy person in an objectively awful situation, or a miserable person in an objectively amazing situation. It's a stupid idea, and it's usually put forward to cover up some other political agenda, typically one which is almost certain to make a great many people unhappy.

Want to know if life is getting better? There are two basic indicators we should care about (and then build on). One is life expectancy most of us want to live for as long as we can (and then you can build on this with things like "health span", etc). The other is productivity is the overall quality of life improving?

If most people are living longer, and productivity and therefore the standard of living is rising, then that's about as close to a recipe for gradually improving happiness as you'll get.

So economists should focus on productivity. After all, it's hard enough to measure that accurately, let alone something as nebulous as happiness.

Anyway. That's a long and ranty way of telling you that productivity matters. So why is it so poor right now?

The likes of Larry Summers, former US Treasury Secretary, keeps pushing the "secular stagnation" argument. Summers didn't come up with it, but he likes it because it backs up his arguments and rather excuses some of his own errors of analysis.

In essence, it's the idea that the economy is permanently stagnating, and so it needs permanent government and central bank stimulus.

Why the stagnation? It varies, but excuses include the idea that we have run out of technological improvements (the idea that the internet is rubbish compared to mass production, for example); or that we're all getting old (never trust an argument founded on demographics, they're almost always wrong) you get the idea.

The theory was originally put forward in the late 1930s by Alvin Hansen in the wake of the Great Depression. Back then, he argued that innovation was at an end and that, combined with falling immigration, it meant long-term stagnation.

Funny isn't it? We only worry that slow growth is here to stay when growth is slow.

In other words, the re-emergence of this theory is a predictable psychological reaction to epic recessions. It's a function of the human mind's addiction to pattern seeking and extrapolation. It's the idea that: "Wow things are so bad, that they can surely only get worse." When you put it like that it sounds stupid but that's the way our brains work.

OK, so I'm saying that secular stagnation is a duff theory (even if elements of it might have merit, it's all a bit wooly and "too capacious for its own good" as The Economist once put it). That still leaves the problem: why is productivity so rubbish?

And that's where the zombies come in.

Zombie companies really are eating our brains

We've argued on a number of occasions over the years that low interest rates are counter-productive. For example, low rates might make some people take more risks, while others become even more risk-averse. Incentives matter.

Now Noah Smith on Bloomberg has just put out a piece pulling together how various economists are coming around to this idea that maybe low rates are the problem rather than a solution (or even a symptom).

Why? Mainly because low interest rates severely damage the competitive discipline that keeps an economy from getting flabby. When rates are low and banks are vulnerable (and also under pressure from governments to lend), a lot of companies that would otherwise go bust are given an ever-renewing lifeline of credit.

These companies are "zombies". These are what sucked the life out of the Japanese economy, for example.

Worse still, notes Smith, according to a paper by economists Ernest Liu, Atif Main and Amir Sufi, big companies can use low rates to entrench their positions. Put simply, big firms that are more able to take advantage of low rates expand faster and dominate the market. These companies I'd perhaps class as "weeds". Sending out their tendrils and choking the life out of their smaller rivals.

There is plenty of evidence for both of these things happening "winner takes all" markets and increased market concentration, plus an increasing number of companies that are unable or barely able to service their debts even at these low interest rates. And it makes intuitive sense to me.

So have we run out of people and good ideas some sort of endpoint of progress as secular stagnation suggests? Or have low interest rates and endless government interventions stifled the process of renewal and reinvention that keeps capitalism moving forward?

I'd say that the latter is surely a much more convincing theory. It certainly explains the productivity problem. Productivity growth stems from ingenuity. Ingenuity is about doing more with less. It's about solving problems more effectively. It's about efficiency. And it's hard work.

Low rates and a landscape dominated by bloated or undead companies means there is little payoff in undertaking the hard work and investment needed to create genuine improvements in the world.

"Necessity is the mother of invention", as the old saying goes. Without healthy competition and a reasonably high hurdle rate (the return an investment needs to make before someone funds it), there's no necessity to deploy ingenuity.

In other words, in a way, zombies really are eating our brains.

Time is a healer, but only when you leave things alone

So what is the solution? I hate to say it, because it's not an idea that most would welcome, but this suggests that we need higher interest rates to get rid of the zombies and to get the market working again.

Alternatively, time will probably act as a healer too. Zombies can only survive for so long before either banks decide to call in their loans or a particularly persistent competitor wipes the floor with them.

But that can take a long time. And it really won't help if jittery central banks slash interest rates and flood the system with money every time a recession threatens.

Worse still, we're now at a point as we were, following the Depression where it's increasingly being claimed that the government can and should take a much more active role in resource allocation in all areas of society.

That sounds like a fine idea in theory. But if you want to see it in practice, have a look at the UK housing market. The persistent, aggressive, taxpayer-backed provision of credit to the sector, along with heavy government regulation of resources (principally land in this case), has created nothing but discontent, low-quality, unimaginative housing, and a system that epitomises the worst of crony capitalism.

It's not secular stagnation. But you can see why it might look like a lot like it.

Anyway, I know that was heavygoing today but this is one of those topics where I'd really like your views (which are of course, always welcome in any case). So if you've any take on this topic in particular, email editor@moneyweek.com and put "secular stagnation" in the subject line. Or ping me on Twitter at @John_Stepek (you'll get me direct that way).

John Stepek is a senior reporter at Bloomberg News and a former editor of MoneyWeek magazine. He graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.

He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news.

His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.