How to identify and support fast-growing firms that can take off, create jobs, and yield significant value in a short period of time is one of our biggest dilemmas in nurturing private sector development in emerging markets.
The Sustainable Development Goals (#8) include the need for decent jobs as an important developmental priority, and small and medium size enterprises (SMEs) are expected to create most jobs required to absorb the growing global workforce.
But many young firms will fail; by some accounts more than half of new firms won’t make it to their second birthday.
However, despite the high rate of firm failure, research from the US and evidence from India, Morocco, Lebanon, Canada and Europe shows that (net jobs are jobs created minus jobs lost) and lasting employment opportunities.
In addition, even when a firm survives beyond the first two years of operation, there are no assurances it will become a fast-growing firm -- a gazelle.
Although estimates vary widely, the share of gazelles -- fast-growing firms that generate a lot of value-added and jobs -- is thought to be only between 4% to 6% of all SMEs, and, possibly, even less in many emerging countries.
All this makes creating favorable conditions for entrepreneurship a priority.
Easing business entry -- the time and cost involved in establishing a new enterprise -- is extremely important. As the annual Doing Business report shows, many countries have made a lot of progress on this indicator over the past decade.
But business exit is an equally critical piece of the puzzle.
The 2008 financial crisis precipitated a global economic downturn, credit crunch, and reduction in cross-border lending, trade finance, remittances, and foreign direct investment, which all adversely affected businesses around the world. The increase in the number of distressed firms has made policymakers more concerned about the effectiveness of existing bankruptcy regimes, including both the laws that address reorganization and liquidation, as well as improved enforcement of laws in court.
In a recent paper with Elena Cirmizi and Mahesh Uttamchandani, my co-authors and I summarize the theoretical and empirical literature on designing bankruptcy laws; discuss the challenges of introducing and implementing bankruptcy reforms; and present examples of the most recent reforms in this area from around the world. As policymakers use the current recession as an opportunity to engage in meaningful reform of the bankruptcy process, it is important to assess experiences from previous crises.
Did the bailout of Chrysler by the U.S. government overturn bankruptcy law in the United States?
Almost two years ago, the outgoing Bush and incoming Obama administrations announced a series of steps to assist Chrysler, the struggling automaker, in an extraordinary intervention into private industry. The federal government intervened in Chrysler’s reorganization in a manner that, according to many analysts, subordinated the senior secured claims of Chrysler’s lenders to the unsecured claims of the auto union UAW. As one participant interpreted the intervention, the assets of retired Indiana policemen (which were invested in Chrysler’s secured debt) were given to retired Michigan autoworkers.
Critics claim that the bailout turned bankruptcy law upside down, and predicted that businesses would suffer an increase in their cost of debt as a result of the risk that organized labor might leap-frog them in bankruptcy. A long-standing principal of bankruptcy law requires that a debtor’s secured creditors be repaid, in full, before its unsecured creditors receive anything.