We’re all too painfully aware of the impact that the coronavirus pandemic is having on the world economy.
However, what we’re not so sure of is what the extent of the damage will be. How far can economic output fall? When will it begin to recover? When will markets return to their previous levels?
So far, the predictions have varied. According to The Conversation, one leading economist predicted that global GDP would decline by 10% if economic activity was halved for a month.
On the other hand, last week the OECD predicted that global economic activity would drop by 6% below its forecast. However, it also warned that a second wave of COVID-19 could cause it to drop by a further 10%.
Another article on the BBC website looks at the impact on the USA and suggests that the pandemic has completely transformed the way that people live their lives and that working from home and automated services may be here to stay.
If this does happen, there will be major economic implications. Economist Todd Knoop says it is unlikely that employment will quickly return to pre-COVID levels even if a vaccine is found.
But the reality is – there is no consensus and predictions are highly speculative. In particular, comparisons to the 2008 financial crisis are unfounded. We’re going to take a look at why this crisis is different and how it has affected lending.
How Is This Different to 2008?
Sadly, this isn’t the first time in living memory that the global economy has taken a seismic hit.
Back in 2008, the Global Financial Crisis (GFC) saw world markets in freefall, leading to the worst economic turmoil since the Great Depression of the 1930s.
This has led many to draw comparisons and use the GFC as a model for how the current situation might play out.
However, there are several differences between the two events which make a direct comparison problematic:
2008 Was a Systemic Issue
Before the GFC, financial institutions were under far less regulation than they are today. Banks took on more and more mortgage customers who were becoming increasingly less able to pay off their loans. The original bad debt was compounded by a slew of financial instruments that went under the radar from regulators, meaning it was the financial system itself that drove the crash.
In contrast, the current recession was produced by external factors which quickly and suddenly caused large parts of the economy to grind to a halt.
Different Types of Business Have Been Affected
In 2008, the primary victims of the recession were banks and property companies (although many companies felt some effects). This time around aviation, travel and oil and gas have been struck. However, it is SMEs that have suffered the most significant impact.
This has made emergency measures far more complicated as instead of dealing with hundreds of large banks, governments are trying to support millions of small businesses.
In 2020 the Economy Shut Down
Many people lost their jobs in 2008. However, in 2020 large swathes of the world’s population have been unable to work due to government lockdown restrictions. This has meant that the current crisis has impacted society’s ability to deliver goods and services, two factors which underpin most modern economies. This could make the severity of the collapse—at least in the short term—far worse.
Financial Institutes Are Stronger
The good news is that governments did learn a valuable lesson from the GFC and put in place regulations to ensure that financial institutions would be more robust.
In the UK, a bank must have a sufficient capital buffer to absorb its losses should there be an economic shock. In the US, the Dodd-Frank law was put in place to reform the stock exchange, and the Troubled Asset Relief Program was introduced to allow the government to bail out failing banks.
A Biological Recession
It’s important to remember that the economic troubles currently being faced are only one aspect of the coronavirus pandemic. Economies went into freefall the moment lockdown was announced and will hopefully rally as restrictions are lifted. But from there it’s a guessing game.
At the moment the scientific community still doesn’t fully understand coronavirus or COVID-19, so it can’t give governments reliable guidance on the short or long-term epidemiological course of the virus. The long-term behavioural changes and the spectre of a second wave mean we’re still at the mercy of considerable unknowns.
Lending in a Pandemic
Lenders that rely on algorithms may struggle to make decisions when factors such as past business performance now has little relevance to whether a business qualifies for a loan. As a result, many lenders are being more cautious or are simply refusing to finance anything.
At Reparo, we’ve always based our decisions on the business case, including business model, sector, exposure to risk and the management’s ability to make sound decisions.
During this pandemic, we’re remaining true to our principles and taking an even closer look at the quality of business planning. Here’s what we look out for:
Planning: In a crisis, planning is more critical than ever. We want to understand what you need the funding for, how it will be repaid and how you plan to mitigate risk.
Scenario Planning: As discussed above, the depth and length of the current crisis is unknown. Therefore, it’s sensible to consider the worst possible scenario.
Risk Analysis: We need to understand the top three external threats to your business—things that you can’t control but would impact the viability of your company. This allows us to assess the risk to your business.
Contingency Planning: Now we understand the dangers that your business faces and its worst-case scenario, it’s time to tell us how your business will manage this situation. We’re looking for a realistic plan that accepts the economic uncertainty the UK is facing. Our team are always willing to pick up the phone and discuss an application. We’ll always try hard to find a solution, and if we can’t help we’ll let you know quickly. To discuss a loan of between £25,000 and £1m, please get in touch with one of the team at email@example.com or on 0161 451 5710.