Following a slowdown in the reduction of business failures during 2005, the Global Failures Index (GFI) suggests an increase in casualties during 2006 in the main industrialized countries: Germany (+4%), the UK (+3%), the USA (+3%) and Japan (+2%) should thus see an increase in bankruptcy filings.

The trend reversal is linked in particular to the USA, where the destruction caused by hurricane Katrina and the slowdown in economic growth will probably cause a rise in business failures in 2006, for the first time since 2001.

After two years of stable or decreasing failure rates, the forecasts for business failures in Japan and Germany are not encouraging for the year ahead: casualties are likely to climb by 2% in Japan and by 4% in Germany. This deterioration is the direct consequence of the mediocre levels of growth achieved in these two countries (1.5% in Japan and 1.4% in Germany).

In Europe lack of sufficient growth has resulted in a steady failure rate for the past two years, maintaining the record level reached at the end of 2003.

Movements in the Business Failures Index

2004:  0%
2005:  0%
2006: +1%
Global Index:
2004: -5%
2005: -2%
2006:  +1%
United States:
2004: -2%
2005: -1%
2006: +3%

Source: Euler Hermes
* The Global Failures Index, developed by Euler Hermes, provides comparisons of business failures by country, independent of questions of national definitions but taking account of the economic weight of the countries concerned.

After a record 4% in 2004, world growth forecasts show a fall to 3.2% in 2005 and 2.8% in 2006. This erosion is chiefly explained by the slow-down in the US economy, which accounts for nearly a third of world GDP. After peaking at 4.2% in 2004, the USA lost 0.7 growth points in 2005 when it only reached 3.5%, and estimates for 2006 show a further decrease in growth of 0.8 points down to 2.7%.

Parallel to this drop, the euro zone should see a surge in activity, in spite of growth figures that are still too modest to reduce the number of business failures: growth is expected to climb from 1.4% in 2005 to 1.7% in 2006.

Thus, with a slowdown in the American economy and growth beginning again in the euro zone, we could see a convergence of the growth levels in the two blocks, especially if the anticipated fall of the euro against the dollar in 2006-2007 is confirmed.

United States: new and more severe laws and the impact of Katrina may encourage bankruptcy filings in 2006

The fall in American business failures that we have seen since 2001 continued during the first half of 2005. From 40,000 cases in 2001 the numbers dropped steadily to 32,400 at the end of the second quarter of 2005 in annual terms (-9% over the same period the previous year), which is the lowest level for 25 years. Nevertheless a number of events threaten to break this trend or at least upset the statistics.

For a start, the amendments to the bankruptcy law came into force on October 17, 2005, making Chapter 11 conditions weigh more heavily on debtors. For this reason some businesses (airlines, car equipment manufacturers), starting with the biggest, applied for Chapter 11 protection during the third quarter, just before the change came into force. Secondly, the impact of Katrina has without doubt accelerated the collapse of local businesses and will weaken the financial situation of numerous companies and small businesses.

After US Airways in 2004, among the biggest failures are Delta Airlines and Northwest, respectively no. 3 and no. 4 in US air transport, which both filed for bankruptcy in September. Difficulties are piling up in the American car industry, (an increasingly heavy bill for wages, pension funds and social security cover) as is shown by the failure in October of Delphi, the biggest parts manufacturer (28.6 billion dollars turnover). Echoing the slow-down in the economy and the repercussions of Katrina, failures will probably increase by 3% in 2006.

In Japan the 2005 failure rate continues to fall. A long-term trend?

In October 1,171 cases were recorded, bringing the number of failures to 12,908 for the past 12 months, a fall of 6.1% over the year. This consolidates the trend that appeared early in 2003 and offers the hope of less than 13,000 Japanese business failures for the whole year (-6% compared to 2004). Debts left by failed companies are also diminishing markedly. The total bill now comes to just over 7,000 billion yen (approximately 51 billion euros). Of the 9 biggest provinces, only 3 show an increase in business failures.

The downward trend is across the board. In fact, only the financial sector shows an increase in its casualty rate, up 4.5% for the first 9 months of the year. This exception has little impact on the overall result because it affects only a limited number of cases (fewer than 1% of total failures). The fall in casualty figures is most marked in manufacturing industry (-12.5%), wholesaling (-12.4%) and construction (-9.5%).

During the third quarter of 2005 the GDP achieved its fourth consecutive quarterly increase (+0.4%). Together with exports, consumption and investment were the principal drivers of activity, even if the rise in oil prices is liable to restrain household expenditure in the coming months. This favourable environment will find expression in the continued drop in failures at end 2005 and early 2006. Farther ahead, the forecast slow-down in activity taken with the relatively low level of business failures is likely to lead to a rise in the casualty average over the year of around 2%.

Germany: a temporary fine spell on the casualty front
After a strong export-led recovery during the first quarter of 2005, the German economy clearly ran out of steam over the rest of the year. In spite of this overall drop in speed, the business failure trend has improved since the beginning of 2005. After a decrease of 0.3% (down to 39,213 cases in 2004), business casualties continued to decrease over the first seven months of 2005, dropping 4.6% over the same period in 2004, a sliding yearly variation of -2.5%. However, this overall improvement should not be allowed to hide the fact that an increasing number of failures in Germany concern small and medium-sized businesses, where figures show an uninterrupted increase in failures of 4.3% between January and July, representing 45% of the total.

The table of failures over the first seven months of the year shows the reduction in business casualties is spread across most sectors. In the manufacturing sector, which has benefited from heavy external demand, failures fell by 11.6%. Astonishingly, the construction industry showed a decrease in business failures of 6.5% in spite of the permanent crisis in this sector. Even hotels and restaurants and general public services showed decreases of 9% and 2% respectively, in spite of mediocre consumer demand. However, business failures showed an increase in the transport and storage sectors (+3.8%), and in financial intermediation activities (+6.6%).

This downward trend should continue until the end of the year, but in a less pronounced manner. Globally, business failures should fall by 1.6% to around 38,600 cases in 2005. Next year, these good results may be expected to give way to a new increase in business failures. Euler Hermes forecasts a record number of business failures of around 40,000 cases in 2006, an increase of 3.6%. The principal cause of this gloomy situation remains the German economy's chronically weak growth.

The increased failure rate confirmed in the UK
The evident slow-down in the British economy, which dropped from a growth rate of 3% in 2004 to less than 2% in 2005, brought to an end the drop in business casualties observed in 2003 and 2004. All told, more than 17,000 business failures were recorded over the first nine months of the year in England and Wales, against fewer than 16,500 for the same period in 2004. This change in the trend is mainly due to the 1% increase in company bankruptcies after two consecutive years of falls of over 10%. During the same period, failures of self-employed business activities continued the upward trend that began in 2003, with a 12-month total increasing by around 6% to end September; self-employed failures account for nearly 45% of bankruptcy petitions.

With the exception of agriculture, company and self-employed failures showed the same sectorial developments during the first half of 2005. Only two important sectors escaped from this increase in failures: manufacturing industry, which accounts for less than 8% of total businesses, and wholesaling. The increase in business failures remained limited in the services sector, the main component of the economy in which are found one-third of all company failures. The increase was more evident in transport and communication, a sector already penalised in 2004 (+2%), and in the construction industry, which accounted for 16% of failures and represents more than 20% of the total number of businesses. But the crown of thorns falls to retail trade, directly up against the fall in household demand during the first half.

Given a scenario for GDP growth well below the figure of 2.5% per annum, which is generally the level at which business failures stabilise in the UK, the increase in activity expected at the end of 2005 and throughout 2006 would be too modest to reverse the trend in failures. After reaching their lowest level since 1990 in 2004, failures will probably increase by 3% in both 2005 and 2006, climbing to over 23,000 bankruptcy petitions per year.