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Michael Baxter

Zombie alert

Written by: Michael Baxter on February 11th 2013

Category: Thought for the day

I have stumbled across the word zombie half a dozen times this morning, but the articles I read had nothing to do with movies or television. So is that the problem, is the economy being overrun by zombie companies, banks and households?

There is a new zombie film out at the moment. It’s called ‘Warm Bodies’ and it’s about a zombie falling in love. It is unlikely I will ever see the film, so I am afraid I can give you no critique. Later this year, a film called ‘World War Z’ will be released starring Brad Pitt, and I think this looks set to be one of the summer’s blockbusters. I have used this column to predict, not totally seriously, that some bright spark will take the poster promoting the film and airbrush over it, replacing Brad Pitt with Mark Carney and with George Osborne and co as the zombies.

So what do we mean by zombies?

Well actually there are several. A couple of years back a book was published call zombie economics. It was talking about old ideas that should have gone extinct still being used to describe what is going on today. For example, the book suggested the efficient market hypothesis is out of the school of zombie economics. In the ‘Telegraph’ this morning, Roger Bootle said the strategy being applied by today’s government “is a direct response to the financial crises of the 1970s, whereas the current predicament shares more in common with the 1930s.” So that’s zombie economics: when we learn the lesson of the past, but the lesson is no longer relevant.

Here is another example: low interest rates propping up businesses.  The British Venture Capital Association fears that one of the reasons why the UK’s employment figures look so good at the moment is that low interest rates have created ‘zombie companies.’ That is to say companies that may only be able to survive because interest rates are so low. Cast your mind back to 2007. Back then private equity was in the news every day. We were told about the magic of leverage, as deal after deal was completed involving massive levels of debt. You saw a position in which a company purchase was funded by debt, using monies borrowed from a leverage fund, which itself had been funded by highly leveraged investors. For me, one of the big surprises of the last few years is that we have not seen a collapse in private equity. Maybe low interest rates have stopped this collapse from occurring. But is that good or bad?

Still on the subject of the UK’s surprisingly buoyant employment figures, maybe the UK’s companies have been kept afloat by falling wages. I am sure you have heard about the productivity puzzle. Why is it that the UK is seeing employment rise, but GDP fall? Theories abound, but one explanation put forward last week by the Institute of Fiscal Studies is that the flexibility of the labour market has led to falling wages, thus enabling companies to employ staff, even when the resulting increase in production is quite modest. If companies are able to survive because they can employ labour for less money, is that a good or a bad thing?

Then there are banks, and QE.

In the US, the government rescued banks via its Trouble Asset Relief Program (TARP). US banks were able to get rid of their bad assets and pretty much start afresh. In the US, the Fed targeted quantitative easing (QE) quite carefully, buying up all sorts of assets. In the UK, in contrast, QE has been a blunt instrument. Banks may have been saved from collapse, but they are still weighed down by those bad assets that were built up during the boom years. In today’s ‘Guardian’ Larry Elliot referred to Danny Gabay at Fathom, who has been making this precise point. Elliot says that, according to Gabay: “the failure to follow the US lead has cost the UK £120bn in lost output and created a nation of ‘economic zombies’.” See: Banana republic or first world country? Welcome to Britain in 2013, Mr Carney 

The truth be told, failure is essential for an economy to grow. Too many people see the economy and indeed innovation as a something we can predict. They can’t get their heads around the idea of allowing companies to go bust. They think that failure can be avoided, if only company’s management thought things through properly in the first place. In a funny kind of way the venture capital industry is a part of this myth. They lecture companies on the need to stick to their business plans, on being focused. In a world of certainty such a strategy would indeed be sound, but we don’t live in such a world.

Companies with five year plans, and very specific strategies, will fail in the long run because they find it hard to cope with surprise. These are the companies that are made obsolete by innovations they had not predicted; these are the victims of innovators’ dilemma. Companies that are good at improvising and experimenting may be subjected to criticism because their plans may look too vague, but these are the companies that are more likely to have a long term future.

As for the economy as a whole, when failure is allowed to occur, room is created for companies with more appropriate strategies and products to thrive. Labour that is not employed by companies with low productivity may be retrained, and enter a new area of high potential.

Dixons has said it benefited from the demise of Comet this Christmas. This was creative destruction at work.

GM has once again become a successful company after it filed Chapter 11, and started with a clean balance sheet.

Contrary to the sentiments expressed in the movie ‘Warm Bodies’, we should have little sympathy with zombies; instead we need to let capitalism work its zombie cull.

These views and comments are those of the author alone and do not necessarily reflect the view of The Share Centre, its officers and employees

Tags: creative destruction, efficient-market hypothesis, failure is essential in business and for the economy, private equity bubble, Trouble Asset Relief Program TARP, zombie companies banks and households?, Zombie economics

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