Should we be worried about business failure?

You hear a lot in the news about companies downsizing and businesses going into administration. Recently Honda in Swindon announced it would be losing 800 jobs. In addition high street brand names such as Blockbuster (4000 jobs), HMV (4,350 jobs) and the camera shop Jessops (1,500) all floundered this January.

Going into administration is an option open when a company is insolvent and cannot pay its creditors. The more powerful creditors will be demanding payment and imposing threats because they are concerned at not getting what they’re owed. The company’s directors or creditors can apply to the court to place the company into administration, with the effect of halting legal actions against the company. The administrator works on behalf of the creditors looking at all options. This could include keeping the business open, finding a buyer where parts of the business remain viable or selling off all assets where it is deemed to be beyond rescue. Going into administration (or for sole traders and partnerships, becoming bankrupt) is not a new thing. It happens all the time and will continue to happen. But is the recent spate of firms going under something to worry about, for the wider UK economy?

Firstly the extent of the negative multiplier will influence the knock on effect. Honda for example, may lay off 800 jobs, but its suppliers will also suffer. Of course the value of the multiplier is not a constant for all businesses. The multiplier effect in the UK maybe higher for Honda if they buy from UK suppliers than say for Jessops who import foreign cameras.

There is also a cost to the public sector and communities. The demise of Jessops, Blockbusters and HMV means a potential hole of 954 shops in the high street or out of town shopping centres to be filled and a loss of rates to local authorities.

In a growing economy this would not be a significant problem, because the factors of production would simply shift to organisations that were going concerns that would use the resources more efficiently. Empty shops would be taken over by other companies and the staff who lost their jobs would simply find others. There would be a growth within a decay.

It’s natural for growth and decay to happen because some companies gain a competitive advantage by finding more efficient ways of production or producing higher quality goods and services. For example, it might be that former Jessops customers are turning to Amazon to buy their cameras, because Amazon has a distinct cost advantage.

Secondly, growth and decay occur because of a change in tastes or derived demand. For example we no longer need to buy CDs or DVDs as we can download these, hence the difficulties faced by HMV and Blockbuster.

If the growth matches or is greater than the decay, then roughly speaking so the negative multiplier effect will be matched by a positive one. However this maybe skewed geographically with growth being more concentrated in some regions.

At best the UK is a stagnant economy with a definite regional imbalance favouring London and the South East. At worst it is in decline. Stagnant wage increases over the past few years have resulted in cuts in real wages for many workers. This combined with above inflation increases in energy prices, has lowered the amount people have for discretionary spending. Companies with cost advantages such as those having an online presence may still grow. Some recent news reports suggest that one fifth of high street shops face closure in the next few months. There is already a shop vacancy rate of 14% in Scotland. The high street will never be the same, but exactly what it will look like in the future remains unknown. Physical shops won’t totally die, because people still want things fast, and online shopping can’t give you that. The shops can provide expert advice and you can feel and look at the goods.  Services maybe encouraged to move into town centres.