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Plumbing ideas for crisis abatement

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Via VOX EU

European governments are searching for ways to abate the sudden economic shock from the coronavirus pandemic. This column proposes four ideas on lessening the negative effects of the sudden economic shock on private businesses. (1) Governments may defer or waive the collection of corporate and value-added taxes to enhance liquidity. (2) Credit bureaus and registries give governments data on which businesses to target with lines of credit or other financial assistance. (3) Governments can use the procurement system to prioritise publicly funded projects. (4) Businesses should be kept as going concerns through temporary suspension of certain bankruptcy procedures.

European governments are searching for ways to abate the sudden economic shock. Relief policies are being implemented to (1) minimise permanent job losses, (2) expand the social safety net for workers whose jobs are in peril, and (3) keep essential sectors in operation (Baldwin and Tomiura, 2020). The IMF has set up a crisis policy tracker that covers all European economies.1

The urgency is warranted as economic activity across Europe has grounded to a halt, though similar issues arose during the euro area crisis a decade ago (Djankov 2014). An analysis of past experience reveals four ‘plumbing’ ideas for how to mitigate the negative effect on businesses.

First, governments may defer or waive the collection of taxes to provide liquidity for struggling businesses (Djankov et al. 2010). Belgium, for example, has implemented automatic deferral of value-added tax (VAT) and corporate income tax for three months. Bulgaria has extended the submission of the corporate income tax until the summer. In total, 22 European countries have resorted to tax deferrals.

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A group of countries have instituted measures that allow for quicker tax refunds, especially for VAT input credits. Latvia, for example, reimburses excess input VAT refund claims within 30 days and allows excess input VAT credits that have been carried forward from previous periods. Fourteen European countries have implemented faster VAT refunds.

Another set of tax policies – manifested in VAT rate reductions – are intended to limit the collapse in consumption. Greece has cut its VAT rate from 24% to 6% for medical products; Turkey has reduced its VAT rate from 18% to 1% for domestic air transportation; and Norway has decreased its VAT rate from 12% to 8% for cultural and touristic services. 

Second, credit bureaus and registries give governments useful information on the liquidity status of businesses (Bertrand and Klein 2020). Poland, for example, has a credit bureau that covers 97% of the population and can share more than two years of historical data. Many credit agencies also provide information on microloans, giving governments insights on smaller firms that could benefit from easier access to credit in times of crisis. The credit bureau in the UK collects data on loan amounts below 1% of income per capita. Bureaus and registries that have data beyond banks and financial institutions can provide useful credit-worthiness information even on businesses that were never borrowers. In Lithuania, the credit bureau – which has a full coverage for firms – collects information on payment history from retailers and utilities.

With such information in hand, governments can reach every formal business. This outreach can take place in coordination with commercial banks, through state-owned development banks, or by engaging other financial institutions like micro lenders (Beck 2020). The government can guarantee loans, as in Albania and Turkey. The government can extend liquidity to the banking sector, as has been done by the ECB. 

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Third, governments need additional fiscal space for unexpected healthcare and unemployment insurance expenditure. Procurement procedures can do just that, by prioritising publicly funded projects. Procurement agencies can be tasked to evaluate the existing pipeline of projects and select those that provide significant job opportunities without draining the budget. Conversely, projects that can be delayed would allow for the necessary fiscal resources to be redeployed (Bandiera et al. 2009). This job is easier in countries that publish procurement plans and regularly update them. In Latvia, for example, procurement plans for all contracting entities are made publicly available on the electronic procurement platform. In the UK, large contracting authorities such as the Highways of England prepare multi-year procurement plans that are updated on a rolling basis. The plans contain a detailed timeline for the award and execution of each project, alongside its estimated value.

Also, some countries make it easy to get paid once a business has completed work on a public contract. In Finland, companies get paid within 21 days of submitting an invoice. In contrast, it takes 80 days in Greece for a contractor to get paid once the invoice has been submitted and more than 10 different documents need to be attached to the invoice for every single payment (Bosio et al. 2020).

Finally, businesses that experience liquidity problems should be kept as going concerns. Yet a number of European countries have insolvency laws that trigger foreclosure or receivership procedures after just weeks of illiquidity. These include a diverse range of countries from Albania to Italy. Countries that do not have reorganization procedures in their bankruptcy law may need to temporarily freeze the possibility of distressed businesses closing down (Djankov et al. 2008).

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These are all palliative measures, designed to ease the immediate burden on European businesses. Should the economic slowdown persist, bolder ideas will be needed.

References

Baldwin, R and E Tomiura (2020), “Thinking ahead about the trade impact of COVID-19”, in R Baldwin and B Weder di Mauro (eds),  Economics in the Time of COVID-19, a VoxEU eBook.

Bandiera, O, A Prat, and t Valletti (2009), “Active and Passive Waste in Government Spending: Evidence from a Policy Experiment.” American Economic Review 99(4): 1278-1308.

Beck, T (2020), “Finance in the times of COVID-19: What next?”, R Baldwin and B Weder di Mauro (eds), Mitigating the COVID Economic Crisis: Act Fast and Do Whatever It Takes, VoxEU.org eBook.

Bertrand, J and P-O Klein (2020), “Creditor Information and Relationship Lending,” mimeo, Finance Department, IESEG School of Management.

Bosio, E, S Djankov and R Ramalho (2020), “3 Ways to Increase Liquidity in the Business Sector,” World Bank “Lets Talk Development” blog, 27 March. 

Djankov, S (2014), Inside the Euro Crisis: An Eyewitness Account, Peterson Institute for International Economics.

Djankov, S, T Ganser, C McLiesh, R Ramalho, and A Shleifer (2010), “The Effect of Corporate Taxes on Investment and Entrepreneurship.” American Economic Journal: Macroeconomics 2(3): 31-64.

Djankov, S, O Hart, C McLiesh, and A Shleifer (2008), “Debt Enforcement Around the World.” Journal of Political Economy 116(6): 1105-1150.

Endnotes

1 https://www.imf.org/en/Topics/imf-and-covid19/Policy-Responses-to-COVID-19


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