The business cycle

A Changing Europe Monitor: Flash note

By March 9, 2018 April 25th, 2018 No Comments

A wide dispersion in the size of corporate balance sheets is a common feature of any economy. On the basis of Eurostat data, the average turnover of a small/micro-company employing under 10 workers was EUR230,000 a year in 2015 (the latest data available), while the average turnover for a company with over 250 workers was EUR167mn. SMEs in the aggregate contribute to 50% of total value added and as much of employment. The small-micro companies, with less than 10 workers, on their own contribute 30% of value added and on average as much to employment.
In the last ten-fifteen years, in our view three intertwined factors have contributed to the rise of titans: companies that in terms of revenues or profits are equivalent, or bigger in size, to a middle-high income small country, such as Hungary or Luxemburg. These three factors are the advancement of AI-big data technology, low interest rates and globalisation. None of these factors will really U-turn any time soon in our view, which means titans are doomed to get bigger and more common.
In our view, the aggregate effect of these titans is beginning to have a material impact on economies that go beyond the widely discussed and documented improvements related to investment and productivity, usually associated with multinationals and foreign direct investment. The sheer size of these companies in our view implies that economic variables such as the balance of payment or inflation are directly affected by strategic decisions of relatively few multinationals.
We cannot claim to have the full picture yet, but we sketch here some of the strong trends we think are becoming visible, on the back of the research we have been conducting in the past year.
The very wide gap between the titans and SMEs balance sheets has reached levels that in our view can no longer justify a level plain field between the two. Titans have access to lower cost of capital, their size implies greater benefits from the legal system, faster response to the business cycle and consumer preferences, to name a few. The traditional comparative advantage of being small (flexible and in some sectors greater emphasis on quality), is greatly eroded by the combination of balance sheet size and the new technological paradigm. All this means the distribution of profits is becoming increasingly uneven, and that has repercussions on investment, consumption and will affect productivity in the long run. This process may also be partially influencing already the puzzling low inflation.
There are also political implications from this process. On the back of the fieldwork we conduct across Europe, this trend is one of the factors driving the weakness of the Left. In our view, no popular support for the Left is likely unless the left-wing parties acknowledge and embrace these changes. As the European Parliamentary 2019 elections loom on the horizon, a collapse of the Left may spell undesirable consequences for the long-term prospects of the Union.

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