Macroeconomic backdrop 

A decade of low-interest rates has fuelled real and financial asset valuations and given rise to a legion of zombie companies. The recent tightening of financial conditions, while painful, will help the economy in the long run.​ 

High-interest rates are generally thought to be harmful to the economy: they reduce borrowing and investment, increase the cost of servicing debt, and reduce the present value of assets, leading to a negative wealth effect and weaker aggregate demand.  

This is why central bankers and politicians are incentivised to keep low. The flip side is that low-interest rates lead to bubbles in asset valuations and give rise to zombie companies, increasing financial fragility.​ 

After a decade of unprecedentedly low-interest rates, governments, households, and companies are all sitting on a massive pile of debt. According to the Global Debt Monitor from the IFF, The global debt stock grew to USD 305 trillion in Q123 or 333% of GDP. This is the highest level on record (starting in 1999) and among the highest level in terms of GDP since the end of WW2. ​ 

Against this backdrop, it is not surprising that higher interest rates have led to a spike in insolvencies and bankruptcy filings. Data from the American Bankruptcy Institute shows that in the US there were over 5,000 Chapter 11 bankruptcy filings in the 12 months to August, this is 52% more than in the same period one year earlier. The same is happening on these shores: the insolvency rate in the UK (% of firms not meeting their financial obligations) doubled in the last year (see figures). ​ 

It is worth noting, that both in the US and the UK insolvency rates are coming from very low levels and the current rates are still below historical averages. In addition, we believe that the insolvency rates are likely to stabilise around current levels, as the yield on riskier corporate bonds (HY bonds) has been flat in recent months and is a good leading indicator of insolvencies (9-month lead).​ 

Normalisation of the insolvency rate is good news for the economy in the medium term. Low-interest rates have allowed unproductive and unviable (zombie) firms to survive for too long. Zombie firms have a serious impact on economic growth: a study by the BIS finds that zombies weigh on economic performance because they are less productive and because their presence crowds out investment and employment in more productive firms.  

There is a lot of purge to do: some recent estimates put the number of zombie firms at around 10% of all listed firms. This means that if AI zombies go down too fast this could create risks to financial institutions’ balance sheets. The dezombification is necessary but not exempt from risks. 

Santiago Rossi, Senior Economist 

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