Economic Damnation 01: Fiscal Crisis

Bank Failure, which can be a result of fiscal crisis, is pretty bad, but the fiscal crisis that precedes it is often much worse. This is due to the fact that while a bank failure only affects the handful of companies that are using, and relying, on the bank, the fiscal crisis affects every company equally. No company is safe from a fiscal crisis — every company that does business in a country affected by the crisis is a company that is going to experience considerable supply chain impacts. Why?

Letters of credit become worthless

A letter of credit, which is a document from a bank guaranteeing that a seller will receive payment in full as long as certain delivery conditions have been met, is worthless in a fiscal crisis as sellers understand that the guarantee is only good as long as the bank is stable. But in a fiscal crisis, even apparently stable banks can become unstable so quick that a guarantee today might be worthless in a week when the bank, that over-insured buyers who are in danger of bankruptcy and in financial default, becomes unable to honour the letters of credit. As a result, no seller will be willing to take on additional letters.

Lending halts

As more and more companies begin to experience financial duress and become late, or default, on payments, banks will become very reluctant to lend additional funds as they will be short on cash and fearful of additional loss. As a result, companies that depend on that cash for payroll and day to day operations as they wait for customer payments will enter severe financial hardship, and their situation will worsen. These companies will then be unable to support their suppliers who will then be unable to deliver the products on time that the customers require before payment can be made, creating financial turmoil up and down the supply chain.

Corporations go into cash hoarding mode

As a result of the financial crisis that will result from the lending halts and the bank’s unwillingness to issue letters of credit, those corporations with cash will go into hoarding mode. Supplier payment cycles will be extended to 90, 120, and even 180 days and those companies that rely on the cash to survive, especially with few options, will be under even more undue hardship. So even if your company is okay, and doesn’t hoard cash and pays its suppliers on time, your suppliers could still be suffering as a result of most of their payments being delayed, and the actions of others puts your supply chain in jeopardy.

Consumers panic and stop spending

Eventually, when the fiscal crisis starts to enter panic mode, a large number of consumers, fearful for their jobs (as fiscal crisis almost always result in layoffs from cash-strapped or cash-hoarding corporations, take your pick), stop all unnecessary spending. As a result, any product line that your corporation makes that is considered unnecessary by a segment of consumers sees a drop in sales and all those nice rebates and discounts you negotiated based upon an expected volume commitment go out the window.

And since fiscal crises cannot be predicted, it’s another damnation that will drive you mad.