Week in Review

“Border on fire” as Turkey intensifies Syria campaign. Turkey stepped up its air and artillery strikes on Kurdish militia in northeast Syria on Oct. 11, escalating an offensive that has drawn warnings of humanitarian catastrophe and turned Republican lawmakers against U.S. President Donald Trump. (Reuters)

China trade talks restart as White House explores escalation options. American and Chinese officials met for the 13th round of trade negotiations on Oct. 10 amid growing expectations of a limited deal that could ease tensions and address some of President Trump’s concerns about China’s economic practices. (NY Times)

Lebanon's ailing economy further strained by drop in foreign currency reserves. Financial strains at levels unheard of since the Lebanese civil war raise concerns for the stability of a country where political tensions are never far from the surface. (Haaretz)  

China hit by EU tariffs as high as 66%. The European Union imposed tariffs as high as 66.4% on steel road wheels from China, targeting manufacturers such as Zhejiang Jingu Co. and Xingmin Intelligent Transportation Systems Co. (HSN)

U.S. currency pact with China as part of partial agreement? The White House is looking at rolling out a previously agreed currency pact with China as part of an early harvest deal that could also see the tariff increase next week suspended, according to people familiar with the discussions. (Business Mirror)

The global benchmarks replacing Libor. Libor is an interest rate based on quotes from banks on how much it would cost to borrow money from each other. It is a price reference for financial contracts worth more than $300 trillion globally, from complex derivatives to home loans and credit cards. (HSN)

Hong Kong faces recession. Hong Kong is facing its first recession since the global financial crisis, with little prospect of an immediate recovery as the city confronts its most violent protests in decades. (Business Mirror)

U.K. says chances of Brexit deal slim; EU chides “blame game.” Britain and the European Union traded ill-tempered barbs on Oct. 8 as the United Kingdom said a Brexit deal might be impossible, while insisting it was still working for one with just over three weeks until its scheduled departure from the bloc. (Business Mirror)

Tug of war between Madrid and Washington over U.S. tariffs. The Spanish government summoned the U.S. ambassador to Spain to express its opposition to the new tariff increases announced by the Trump Administration. (EurActiv)

EU-Mercosur FTA: Threats and challenges. When the European Commission announced the signing of the EU-Mercosur free trade agreement, it sounded like a done deal. However, the provisional text must be ratified by all the parliaments of adhering countries, including the European Parliament and Council. Such a process will likely prove time consuming and highly polarizing. (Global Risk Insights)

In historic sale, Greek debt carries negative interest rate. More than a year after Greece exited its bailout programs, investors made history in the country Oct. 9 by buying its short-term debt at a negative yield, meaning they volunteered at least in theory to get less money back than they paid. (Business Mirror)

The good news is the U.S. economy still appears to be pretty healthy despite the challenges that have started to appear. The consumer remains in a good mood, the rate of unemployment is down to a 50-year low, inflation is not showing its ugly head and there have even been some sectors that have surged a little (most notably health care and energy). That is the good news.

The bad news is the U.S. is nearly alone in sporting any of this good news. The rest of the world appears to be teetering on the edge of recession, and some of these countries are already there. The real question for the U.S. and the world is what happens now. Does the global slide toward recession eventually take the U.S. down as well or does the U.S. manage to bring the rest of the world along with it?

In 2017, the rate of global growth was 3.7%. That was seen as pretty anemic compared to what had been the case in prior years when growth numbers were routinely in the 5% range. The current rate of growth is even worse—down to 2.9% and likely dropping even further in 2020. The challenge started with the decline in manufacturing as the trade wars affected export and import numbers. The decline has been spreading to other sectors since—everything from the financial community to retail to energy and construction. The slowdown drags everybody down with manufacturing, as that sector has been as key factor in every nation’s export and import community. The U.S. and China have been locked in the most serious of trade battles, but this is not the only one.

The trade war between Japan and South Korea has damaged both of their economies, and there have been tensions between India and China that have compromised trade. Europe and the U.S. have been at odds with both sides hitting the other with tariffs and other restrictions, but the biggest issue for the EU is the ongoing battle with the U.K. over the terms of Brexit. This conflict has been responsible for the decline in both the U.K. and Germany.

Then, there are the internal issues and failures throughout the world. Brazil is fast becoming a global trade pariah under President Jair Bolsonaro and Argentina seems poised to head back to the bad old days of Peronism with the resurgence of the Kirchner faction. Many of the nations in the EU remain in bad shape financially (Spain, Italy, Portugal, Greece). In short, there is a lot of blame to spread around in global slowing. Recovery from the downturn will depend on the U.S. If the U.S. decides to reverse course and emerge again as the world’s advocate for free trade, the rest of the global business community would likely respond and growth would improve. Such a move is not going to take place under President Donald Trump, however.

Declining turnover is often identified as the initial sign of corporate distress, but according to a new study from Euler Hermes it is not as reliable as it seems.

The study highlights three other indicators that can provide warning signs up to four years before an acute insolvency risk for European small and medium enterprises (SMEs) and midcaps.

 Jointly produced by Euler Hermes Economic Research and Euler Hermes Rating, the study focuses on 250,000 small- and medium-sized enterprises in Germany, France, Italy and Spain. Amongst them, Euler Hermes identified 1,653 insolvent companies with a data history of four years or more prior to insolvency.

The first and most important indicator of insolvency risk is profitability, according to the study. Four years prior to their insolvency, the average return on capital employed (ROCE) is very weak for defaulted SMEs—around 7% for German SMEs, 6% for French SMEs and below 4% for Spanish SMEs. In Italy, the ROCE is close to 0%. In comparison, the average ROCE of all SMEs and midcaps in the four countries is between 10% and 14%.

“Earnings power drops off significantly in subsequent years and ends up deep in negative territory in all four countries in the last year before insolvency, with the Italian companies showing the greatest deterioration in the course of distress (Germany, ‑16%; France, ‑62%; Spain, -61.5%; Italy, -109%),” said Kai Gerdes, director of credit risk at Euler Hermes Rating.

The second indicator is capitalization, which tends to decline along with the decline in earnings, albeit at a slower pace. Four years before their insolvency, defaulted companies have average equity ratios of 20.6% (Germany), 23.2% (France), 15.6% (Italy) and 23.3% (Spain), as compared with an average 30% for all SMEs and midcaps. Once again, the companies’ capitalization deteriorates significantly in the last year prior to insolvency.

 The third leading indicator for a corporate distress is the interest coverage ratio, which becomes very poor three years prior to an insolvency: 0.5x in Italy, 0.8x in Germany, 1.0x in Spain and 1.1x in France. In comparison, the average interest coverage of all SMEs and midcaps is about 3x. In other words, at this early stage, operating profits are already or close to being unable to cover interest expenses.

Most insolvencies of European SMEs and midcaps do not come as a surprise, the report says. In fact, they are typically the consequence of ongoing corporate distress over several years. Euler Hermes identified three phases companies go through, each different in type and length, before facing an acute insolvency risk: a strategy crisis, a profitability crisis and then a solvency crisis.

“In the first phase, companies still have a relatively wide range of strategic options available,” said Ana Boata, senior economist for Europe at Euler Hermes. “If they fail to recognize the situation, the corporate distress will intensify and their available options will shrink substantially as they enter and move through the second phase. In the final phase, their options tend to be so limited that it becomes extremely difficult to avoid a potential default.”

Singapore is the world’s most competitive economy for 2019, according to the World Economic Forum’s (WEF’s) Global Competitiveness Report 2019. The report—based on the WEF’s Global Competitiveness Index (GCI) 4.0—provides an annual assessment of the drivers of productivity and long-term economic growth.

The United States remained the most competitive large economy in the world, coming in at second place. Hong Kong SAR, the Netherlands and Switzerland rounded up the Top 5, respectively.

Although rising trade tensions are fueling uncertainty and could precipitate a slowdown, some of this year’s better performers in the GCI appear to be benefiting from the trade feud through trade diversion, the report states, including Singapore and Viet Nam, at 67th place the most improved country in this year’s index.

"The report shows that those countries that integrate into their economic policies an emphasis on infrastructure, skills, research and development, and support those left behind are more successful compared to those that focus only on traditional factors of growth,” said Klaus Schwab, founder and executive chairman of the World Economic Forum.

Global Trends and Highlights

In addition to providing an annual assessment of economies’ long-term health, the report also highlights five trends in the global economy and their implications for economic policymakers:

• The last 10 years saw global leaders take rapid action to mitigate the worst of the financial crisis, but this alone has not been enough to boost productivity growth.
• With monetary policy running out of steam, policymakers must revisit and expand their toolkit to include a range of fiscal policy tools, reforms and public incentives.
• Information and communication technologies (ICT) adoption and promoting technology integration is important, but policymakers must in parallel invest in developing skills if they want to provide opportunity for all in the era of the Fourth Industrial Revolution.
• Competitiveness is still key for improving living standards, but policymakers must look at the speed, direction and quality of growth together at the dawn of the 2020s.
• It is possible for an economy to be growing, inclusive and environmentally sustainable—but more visionary leadership is needed to place all economies on such a win-win-win trajectory.

The report’s data also show growing inequalities in the global economy.

• Market concentration: The report finds that business leaders in the United States, China, Germany, France and the United Kingdom believe that market power for leading firms has intensified over the past 10 years.
• Skills gap: Only the United States among G7 economies features in the Top 10 on the ease of finding skilled employees. It is, in fact, the best economy in the world in this category. Of the others, the United Kingdom comes next (12th) followed by Germany (19th), Canada (20th), France (41st), Japan (54th) and Italy (63rd). China comes 40th.
• Technology governance: Asked how the legal frameworks in their country are adapting to digital business models, only four G20 economies make it into the Top 20. These are; the United States (1st), Germany (9th), Saudi Arabia (11th) and the United Kingdom(15th). China comes 24th in this category.

"What is of greatest concern today is the reduced ability of governments and central banks to use monetary policy to stimulate economic growth,” said Saadia Zahidi, head of the Centre for the New Economy and Society at the World Economic Forum. “This makes it all the more important that competitiveness-enhancing polices are adopted that are able to boost productivity, encourage social mobility and reduce income inequality.”

Regional and Country Highlights

G20 economies in the Top 10 include the United States, Japan, Germany and the United Kingdom, while Argentina, which fell two places to 83rd overall, is the lowest ranked among G20 countries.

The United States is the leader in Europe and North America followed by the Netherlands, Switzerland, Germany, Sweden, the United Kingdom and Denmark. The most improved country was Croatia at 63rd.

The presence of many competitive countries in East Asia and the Pacific makes this region the most competitive in the world, followed closely by Europe and North America, the report finds. In Asia-Pacific, Singapore leads the regional and the global ranking followed by Hong Kong SAR, Japan and Korea. China at 28th is the highest ranked among the BRICS. Although the region is home to some of the most technologically advanced economies in the world, the average scores of the innovative capability (54.0) and business dynamism (66.1) are relatively low, lagging behind Europe and North America, the report further states.

In Latin America and the Caribbean, Chile at 33rd place is the most competitive economy due to a stable macroeconomic context and open markets. It is followed by Mexico, Uruguay and Colombia. Brazil, despite being the most-improved economy in the region, is 71st; while Venezuela with a six-place drop to 133rd and Haiti at 138th close the regional ranking. The region has made important improvements in many areas, yet it still lags behind in terms of institutional quality (the average regional score is 47.1) and innovation capability (34.3), the two-lowest regional performances, the report notes.

In the Middle East and North Africa, Israel at 20th and the United Arab Emirates at 25th lead the regional ranking, followed by Qatar (29th) and Saudi Arabia (36th); Kuwait is the most improved in the region (46th, up eight), while Iran (99th) and Yemen (140th) lose some ground. The region has caught up significantly on ICT adoption and many countries have built sound infrastructure. Greater investments in human capital, however, are needed to transform the countries in the region into more innovative and creative economies, the report says.

Eurasia’s competitiveness ranking sees the Russian Federation on top at 43rd, followed by Kazakhstan (55th) and Azerbaijan (58th), both improving their performance. Focusing on financial development and innovation capability would help the region to achieve a higher competitiveness performance and advance the process toward structural change, it says.

In South Asia, India, in 68th position, loses ground in the rankings despite a relatively stable score, mostly due to faster improvements of several countries previously ranked lower. It is followed by Sri Lanka (the most improved country in the region at 84th), Bangladesh (105th), Nepal (108th) and Pakistan (110th).

Led by Mauritius at 52nd, sub-Saharan Africa is overall the least competitive region, with 25 of the 34 economies assessed this year scoring below 50. South Africa, the second most competitive in the region, improves to the 60th position, while Namibia (94th), Rwanda (100th), Uganda (115th) and Guinea (122nd) all improve significantly. Among the other large economies in the region, Kenya (95th) and Nigeria (116th) also improve their performances, but lose some positions, overtaken by faster climbers. On a positive note, of the 25 countries that improved their health score by two points or more, 14 are from sub-Saharan Africa, making strides to close the gaps in healthy life expectancy.

About the New Global Competitiveness Index 4.0

The WEF’s Global Competitiveness Index 4.0 is a composite indicator that assesses the set of factors that determine an economy’s level of productivity—widely considered as the most important determinant of long-term growth.

Launched in 1979, the Global Competitiveness Report provides an annual assessment of the drivers of productivity and long-term economic growth. The assessment is based on the Global Competitiveness Index, which maps the competitiveness landscape of 141 economies through 103 indicators organized into 12 pillars.

These pillars are: institutions, infrastructure; ICT adoption; macroeconomic stability; health; skills; product market; labor market; financial system; market size; business dynamism; and innovation capability. For each indicator, the index uses a scale from 0 to 100, and the final score shows how close an economy is to the ideal state or “frontier” of competitiveness.

This year, the report finds that, as monetary policies begin to run out of steam, it is crucial for economies to boost research and development, enhance the skills base of the current and future workforce, develop new infrastructure and integrate new technologies, among other measures.

 Week in Review Editorial Team:

Diana Mota, Associate Editor and David Anderson, Member Relations