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In July, Euler Hermes published a report that claimed that insolvency will explode due to covid by late 2020, the first half of 2021.

To support their statement, they show the evolution of what they call the "global insolvency index". I want to further understand how they compute this index. Unfortunately, they give very few details on this, probably because this index is a proprietary tool and they want to protect their IP.

I was nevertheless wondering what are the main factors that can explain insolvency at the macro level. I can think about:

  • global debt
  • interest rate
  • corporate profitability

Am I missing some important factors here?

Any references or links to online resources that can help me to better understand the dynamics of insolvency at a macro level will be highly appreciated.

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  • $\begingroup$ this is a beautiful question, really, I hope you get some good answers! $\endgroup$ – the_rainbox Oct 29 at 9:33
  • $\begingroup$ I don’t see how a global index will work, unless it is an aggregation of national indices. Individual firms default, not averages. Different countries have very different conventions for acceptable debt loads, so aggregating them is aggregating apples and oranges. We had a global default event in 2008 because international banks failed/were on the verge of failure. That was not a typical event, and a methodology should not be premised on it being normal behaviour. $\endgroup$ – Brian Romanchuk Oct 29 at 12:24
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Regarding the Index

I want to further understand how they compute this index. Unfortunately, they give very few details on this, probably because this index is a proprietary tool and they want to protect their IP

Their index is actually open access, you can access the data here and the index is based on evolution of insolvencies with base year being 2000.

They also provide data on the evolution of insolvencies but I can't see anywhere any methodology of how the evolution of insolvencies was itself created (which is a red flag if you ask me). Based on the way how data look it seems it is the percentage change in in how many insolvencies occurred. So that would imply they have access to data on number of insolvencies which is also corroborated by the their references to number of filled insolvencies within the report.

However, the report includes author will full contact information, so I would hope that if you would reach out they would share their methodology with you.

Regarding Factors affecting Insolvency:

I am not completely sure what you mean by explaining insolvency at a macro level. Any macroeconomic aggregate of insolvencies will be based on individual insolvencies driven primarily by microeconomic factors - but they would still affect any aggregate of insolvency, so I suppose they would affect insolvency on 'macro level', but I assume you wanted only macroeconomic variables.

According to Sang et al. 2013 examining impact of macroeconomic variables affecting insolvencies in construction industry in South Korea the authors show that insolvencies can be affected by:

  • changes in GDP (especially negative changes; recessions)
  • interest rates
  • consumer price index
  • corporate bond yields
  • exchange rate (this is most likely due to S. Korea being small open economy)

In addition other studies (e.g. Bonfim, 2009; Bhattacharjee, et al. 2009 and sources cited therein) generally find that what is driving firm insolvency from macroeconomic is general macroeconomic instability (in fact many of the above listed variables can be considered proxies for macroeconomic stability e.g. change in GDP, inflation etc.) and also to non-trivial degree country specific institutional framework (which is not surprising since true economic insolvency is difficult to observe so often firm is considered insolvent when it is declared insolvent by law). However, the above answer is quite general the drivers can actually differ by industry as studies also show competition is important factor. Furthermore, the insolvencies in financial sector and real economy are not necessary affected by the same factors, but to go further in depth within a single answer on these issues is beyond the scope of SE.

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    $\begingroup$ From the corporate default data that I have seen (data is probably proprietary), they obviously cluster around recessions. Although that’s similar to “changes in GDP”, the concern is more falling GDP rather than oscillations when at a high level. $\endgroup$ – Brian Romanchuk Oct 29 at 12:17
  • $\begingroup$ @BrianRomanchuk you are right, I mean that is what the research also shows but given recession is not always consistently defined I (and also literature) opted for words like 'changes in GDP' or 'macroeconomic instability' (the latter seldom occurs during expansions) but I added recession in brackets to make it more clear to the readers $\endgroup$ – 1muflon1 Oct 29 at 12:22
  • $\begingroup$ @1muflon1 thank you for the detailed answer. This is super helpful. Apologies if the OP is a bit unclear but this is a new topic for me so maybe the wording is not optimal. What I had in mind when asking " how can we explain insolvency at a macro level" is to identify a set of macro indicators/factors that somehow correlate with the evolution of the number of insolvencies (for example at a country level). I think the second part of your reply directly addresses this point with the example of South Korea. So again, thanks for your reply. It really helped me. $\endgroup$ – totoalamer Oct 29 at 13:48

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