Draghi, Rajan lead call to arms to avert global solvency crisis

Cliff edge of insolvencies coming as support programmes lose funding and capital is eaten up by losses, says a report authored by the former central bankers

The world's policy makers must act urgently if they are to head off a looming solvency crisis that could cripple economies after the pandemic, according to a report led by two top former central bankers. Mario Draghi, previously president of the European Central Bank, and Raghuram Rajan, the ex-governor of the Reserve Bank of India, headed a Group of 30 study that looked at the response to the crisis. It says the massive flood of liquidity pumped into economies to keep companies afloat during shutdowns is unsustainable, and a "cliff edge" of insolvencies is coming as support programmes lose funding and capital is eaten up by losses.

"The solvency crisis is already eroding the underlying strength of the business sector in many countries," according to the report. "The problem is worse than it appears on the surface, as massive liquidity support, and the confusion caused by the unprecedented nature of this crisis, are masking the full extent." The report recommends three areas of core principles for policy makers to focus on: The long-term health of businesses, which involves shifting from broad-based to targeted support. The most-productive use of resources, which means relying on private-sector expertise to assess the viability of companies and ensuring social objectives such as greening the economy also accelerate the recovery.

Preventing collateral damage by ensuring the financial system is robust, the report acknowledges that its recommendations require "hard choices" such as winding down broad aid programs and limiting government support to areas where the market is failing that could cause a political backlash. It also urges steps to make equity injections into companies easier, an idea already circulating in policy circles, but which has yet to get much traction and reforming bankruptcy laws to save companies that are "fundamentally sound but have unsound balance sheets."

The report was produced by a committee under the G30, a group of economic and financial leaders that aims to deepen understanding of global issues. "There is an urgent need to act before it is too late," the authors wrote. "Providing support to the corporate sector in the most efficient and effective way is essential to protecting living standards around the world, and to preparing the ground for long-term economic resilience and growth once the worst effects of the pandemic have abated." (Bloomberg)

Paul Gordon