Nobody is under any illusions about the tough times ahead. National Debt is at record levels and has increased sharply since 2008 mainly as a result of recession. This includes lower tax receipts, higher spending on unemployment benefits and the financial bailout of Northern Rock, RBS and others.
Whilst there may be some disagreement about timing, politicians from all sides agree drastic cuts in public expenditure are inevitable to reduce public borrowing. Experts, as usual, have different opinions. As recently as February the International Monetary Fund gave strong backing to Labour’s “wait-and-see” approach to cutting Britain’s budget deficit. They are warning the weakness of growth requires tax increases and spending cuts delays until next year.
Meanwhile, more recently the Governor of the Bank of England, Mervyn King, openly supported the new Government for its plan for an immediate £6 billion cut in public spending. The problem with any economic model is that there are so many variables which can influence the outcome. On the one hand some fear that cutbacks will trigger higher unemployment which in turn will reduce income from taxation and perhaps impact on spending habits and nudge us back into recession. On the other hand, the issue of public debt needs addressing.
Historically, the peak in business insolvencies has occurred after coming out of recession. This is caused by a combination of factors.
Many businesses will have had to draw on reserves to survive the downturn. So just when the need for working capital increases to cope with business starting to pick up, there is depleting of reserves. In normal times companies would turn to the banks for support. However, the banks are still licking their wounds from the recession and are not in great shape themselves. At a time when they are risk-averse, they are not going to look favourably on a company with a weak balance sheet.
So, unless alternative forms of lending (e.g. invoice finance) or private investors are available to plug the financial gap, businesses face potential failure.
Fortunately, even at that stage all is not necessarily lost. There are often alternatives means of rescuing a business after the exploring of all other traditional avenues. These usually involve insolvency procedures and possible restructuring.