The biggest problems facing the Australian and other similar economies can be characterised in medical terms – pre-existing conditions dramatically exacerbated by new ones.
While COVID-19 is devastating communities three interlocked aspects of the underlying pre-epidemic social and economic conditions were already setting us up for problems which will make the pandemic aftermath devastating.
The first, despite the relentless focus in recent decades on government debt, there is a real and growing problem with corporate debt compounded by the appalling performance of audit firms which fail to pick up problems before companies collapse.
Second, there is the ongoing problem of using debt, high dividend payouts and share buy backs to boost share prices (and senior management remuneration). The growing number of companies owned by PE firms compound this. The JobKeeper rorts here and overseas are simply a new wrinkle on this process.
Third, the combined impact of this is to make the rich richer, reduce or eliminate the tax burden on companies and rich individuals and thereby increase inequality. There is a bonanza for billionaires supported by governments (particularly in the US), pain for workers and the poor and a massive increase in global financial risk.
As the blog’s scientist friend, John Spitzer, reminded it recently: “The rich and well-off have always gamed the rules of human societies probably since the first cities formed in the Middle East. They behave the same way that bacteria and viruses search out vulnerabilities in various biological systems.”
The first fundamental pre-existing condition is debt.
The Institute of International Finance said that in pre-pandemic 2019 global debt hit an all-time record of almost $US 253 trillion; household debt-to-GDP ratios reached record highs in many countries; non-financial corporate debt to GDP topped in countries from Canada to Switzerland; and, just in case we forgot about Australia and its back in the black next year rhetoric government debt-to-GDP hit an all-time high in Australia.
By April 2020 the Institute reported non-financial corporate debt surged more than 70% since 2007 to represent 92% of GDP while household debt had increased by $US13 trillion in the same time.
The situation is made more complex by the fact that in July 2020 banks in the US are still fairly healthy with some $US 1 trillion of core capital on their balance sheets – thanks to post-GFC reforms. In July this year though, as reported by Laura Noonan in The Financial Times, the Federal Reserve said Goldman Sachs was “America’s riskiest big bank (when) the Fed slapped Goldman with a total capital requirement higher than any other US bank.”
Moreover, nearly one in every five publicly traded U.S. companies is a zombie, according to data compiled by Deutsche Bank Securities (a company which knows a bit about debt, distress and Trump as shown by David Enrich’s Dark Towers). That figure doubled since 2013. But publicly listed companies are nowadays only one part of the problem.
The canary in the mine in all of this was the US fracking industry which many had been warning about for years as potential bankruptcy candidates while Trump and others celebrated what they saw as the emergence of the US as an energy superpower.
The Washington Post (24/2/2020) reported: “In 2019, a dozen years after it began exploring shale formations in Montana, North Dakota and West Texas, Oasis reported $154 million in operating income — well short of the $176 million it owed in interest on its debt. On Wall Street, the Houston-based company’s shares, which traded above $56 in 2014, have spent most of this year hovering around $1.”
The Guardian (29/6/2020) reported that “Chesapeake Energy, the shale gas drilling pioneer that helped to turn the United States into a global energy powerhouse, has filed for bankruptcy protection. The Oklahoma City-based company said on Sunday that it had been forced to enter chapter 11 protection because its debts of $US 9 billion were unmanageable.”
While shareholders and creditors suffered the Chesapeake’s CEO, Robert Lawler, was in 2019 the highest-paid chief executive in Oklahoma with $US 15.4 million in compensation, according to a ranking compiled by Associated Press.
“Chesapeake lost $US 8.3 billion in the first quarter of this year, and it listed $US 8.62 billion in net debt. The company said in a regulatory filing in May that management has concluded that there is substantial doubt about the company’s ability to continue as a going concern,” The Guardian reported.
Now that’s the sort of insightful judgment that earns CEOs $US 15 million a year. Indeed, while 100,000 oil and gas workers were losing their jobs as more than 200 oil producers filed for bankruptcy protection, a number of CEOs got payouts similar to that of Lawler just before their companies entered Chapter 11.
And, of course in this debt-fuelled boom let’s not forget about the auditor sections of the Big 4 accounting firm – who did such a great job in 2007 – as the Big 4 continued to be generously rewarded in consulting fees by governments and companies.
Famous short-seller, Jim Chanos, recently made $100 million betting against the German firm, Wirecard, which went under this year amidst evidence of accounting fraud. Chanos had earlier predicted Enron’s collapse. Wirecard’s auditors, EY have come in for a bit of flak over having missed the fact that $1.9 billion in cash didn’t actually exist.
Chanos told the FT in July: “When people ask us, who were the auditors, I always say ‘Who cares?’ Almost every fraud has been audited by a major accounting firm.” For more on these epic accounting failures and the lack of any real punishment (except for post-Enron and Arthur Anderson’s demise) Richard Brooks’ Beancounters is the best source.
The UK Financial Reporting Council has recently found that a third of audits fell below expected standards and an FT investigation, Time to Audit the Auditors (4/5 July 2020). reviewed the long list of failures through Parmalat in 2003 to Carillion recently and looked at various calls for reforms and how likely we are to face more of the same in the future.
Meanwhile private equity firms are fuelling the debt crisis by taking companies over and loading them with debt.
As Merryn Somerset Webb reported in the FT in August 2020: “The number of US-listed companies peaked at 7,428 in 1997 but had dropped to 4,400 by 2019, fewer than in China.”
“By 2018, private equity was providing five times more capital to companies than IPOs. These days there are more US companies owned by private equity than listed ones,” she said.
Now this looming debt crisis this is part of am impending disaster greater than the threat from increased government debt.