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How does an Economy respond to a financial crisis?
When Mark Carney announced the unprecedented cut in UK interest rates last week, he interestingly alluded to the crisis of 2008 and said that there was no reason for the shock to turn into an equivalent of 2008, as long as we handle it well.
These are extraordinary times. Perhaps we are facing a crisis for a generation. But most economies have put in place a failsafe system that fights to restore the health of its financial and monetary system at a time of crisis. Although countries can never fully prepare for every eventuality (case and point Coronavirus), we have the advantage of learning from the past. Most economists didn’t see the 2008 coming and therefore it took a while for institutions to understand the scale of the problem and mobilise any meaningful response. There is an overwhelming sense that Governments across the world do not want to repeat these mistakes and want to act quickly.
In the last week alone, there have been a raft of measures across the world to resuscitate the ailing world economy. The US Federal reserve announced that it would inject $1.5 trillion into the money markets (yes, trillion), BoE made an emergency rate cut to 0.25 per cent and both UK and Irish Governments have announced unexpected measures to support small businesses.
It is important to recognise that there is substantial firepower available to fight a crisis:
- Central Banks can regulate cash reserves, lower interest rates and use quantitative easing;
- Governments can cut taxes, boost public spending and manage debt/GDP ratio;
- Financial markets can relax regulatory controls, stress testing or halt trading; and
- Businesses have diversified operations and thereby risks, invested in R&D, innovation and technology and also have Business Continuity Plans in place.
Companies that respond to a slowdown by re-examining every aspect of their business models, reduce their operating costs on a permanent basis, so that when demand returns, costs will stay low, allowing their profits to grow faster than those of competitors, says Ashok Thomas FPM
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Dark clouds have been gathering (no, that’s not because I live in Ireland) over the world economy for some time. We seem to have been sleepwalking into a financial crisis only to be rudely awoken by a fast approaching train! The political rhetoric that we have been hearing throughout this crisis, that the ‘right action at the right time’, can sometimes be true. Some of these measures have a lifespan and therefore should be used judiciously so that there is always room for further action. However, isn’t it better to over-react than to under-react? Needless to say, Governments across the world appear to be spurred to action by the crisis at hand, but, there is much more that needs to be done.
The Great Opportunity?
An interesting study by Harvard Business Review post the Great Recession in 2008 titled ‘Roaring Out of Recession’ made some profound observations:
- Companies that respond to a slowdown by re-examining every aspect of their business models—from how they have configured supply chains to how they are organised and structured—reduce their operating costs on a permanent basis. When demand returns, costs will stay low, allowing their profits to grow faster than those of competitors.
During recessions, progressive companies develop new markets and invest to enlarge their asset bases. They take advantage of depressed prices to buy property, plants, and equipment. This helps them both during the recession and afterward, when they can respond faster than rivals to a rise in demand. Without in any way diminishing the negative impact of the Coronavirus on our world, it is important to recognise that there is a lot that we have done to prepare and respond to economic cycles.
Finally, it is vital for us to act today to address challenges that we may face tomorrow!
