FindingApr 28, 2020

Disruptions in Some Sectors Can Persistently Harm the Entire Economy

Kilian Huber
Evidence from Germany after the financial crisis indicates that disruptions to a few firms can have negative spillover effects on all firms and employees in the economy, not just the disrupted sectors.
Size of the Indirect Effect of Reduced Commerzbank Lending

The COVID-19 pandemic initially led governments to shut down a few sectors, for example the service, hospitality, and travel industry. Huber’s 2018 study highlights that such disruptions can harm the entire economy, even if they initially only affect a few companies. To make this point, Huber shows that Commerzbank, one of Germany’s largest banks, cut lending to its German borrowers during the 2008-09 financial crisis. The lending disruption reduced the growth of companies that relied directly on loans from Commerzbank.

Importantly, the disruption also affected companies and employees that had no direct relationship with Commerzbank. Indirectly affected companies experienced spillover effects due to both a general decline in demand and a temporary lack of innovation at directly affected companies. When Commerzbank’s customers made job cuts, overall household consumption fell, which then affected revenue and employment at other companies. Further, declining research-and-development activities at directly affected companies spilled over to other companies, thus slowing overall productivity growth. The employment of indirectly affected companies remained low even beyond the duration of the initial lending disruption.

These findings may apply to the current economic shock due to the COVID-19 pandemic. For example, if directly disrupted companies fire workers, those workers will spend less, which will spill over to negatively affect other firms. Moreover, the economic harm of the current crisis may last longer than the actual disruption due to COVID-19.