System must be strengthened to ensure timely exit of zombie firms

An aerial view of the Yeosu National Industrial Complex. This image is not directly related to the article. [Provided by Korea Industrial Complex Corp.]
An aerial view of the Yeosu National Industrial Complex. This image is not directly related to the article. [Provided by Korea Industrial Complex Corp.]

By Kim Byeo-ri, The Herald Business

A 1-percentage-point increase in the share of zombie firms in an industry reduces investment and employment growth at healthy firms by up to 0.18 percentage points, a new analysis has found. Simulations also suggest that forcing 25 percent of zombie firms out of the market would improve total factor productivity across the economy by 0.2 percent and value-added output by 0.35 percent.

Bank of Korea Deputy Director Lee Gyeong-tae released the findings Monday in a report titled "Congestion Effects of Large Zombie Firms on Small Victim Firms: An Analysis Using Administrative Census Data," examining how both externally audited and non-audited firms become zombie firms. The report said its inclusion of small, non-audited firms sets it apart from previous research.

A zombie firm is defined as one whose interest coverage ratio has remained below 1 for three or more consecutive years — in other words, a company that has been unable to cover its loan interest payments with operating profit for more than three years.

The analysis found that the higher the share of zombie firms in a given industry, the more investment, employment, productivity and profitability at healthy firms — those that are not zombie firms — deteriorate, a phenomenon the report calls the "congestion effect."

Specifically, a 1-percentage-point rise in the zombie firm share within an industry lowers investment and employment growth at healthy firms in the same sector by roughly 0.14 to 0.18 percentage points, with the effect persisting for two to three years.

Smaller non-audited firms bore a disproportionately larger share of these negative effects, the report found.

Simulation results also showed that removing zombie firms from the market would raise total factor productivity and value-added output across the economy. Total factor productivity measures production efficiency by capturing how much output intangible factors — such as technological development — generate beyond visible inputs like labor.

According to the report, forcing 25 percent of zombie firms to exit would increase total factor productivity by 0.20 percent and value-added output by 0.35 percent.

However, the process could also cause roughly 0.3 percent of healthy firms to become distressed through contagion via business relationships.

"We need to strengthen the institutional framework so that zombie firms that cannot be normalized through restructuring are exited in a timely manner," Lee said. "Complementary policies to minimize the negative impact on healthy firms should be put in place in advance."


kimstar@heraldcorp.com