A giant ‘bank for banks’ says low interest rates are creating ‘zombie firms’.

The Bank for International Settlements (BIS) – a firm owned by 60-member central banks that facilitates transactions between them – has released research looking at why advanced and developing economies have been plagued with historically low productivity growth in recent years.

The bank suggests that this may have been because of low interest rates since the global financial crisis, which were designed to halt economic declines and restart growth.

Claudio Borio from BIS says low interest rates could be hurting productivity in two key ways.

“Credit booms tend to undermine productivity growth as they occur,” he said in a speech to a recent productivity conference jointly hosted by the BIS, International Monetary Fund (IMF) and Organisation for Economic Cooperation and Development (OECD).

“The key mechanism is the credit boom's impact on labour shifts towards lower productivity growth sectors, notably a temporarily bloated construction sector.”

The productivity damage is amplified if that credit boom turns into a bust, he said.

“The overall effects can be sizeable. Taking, say, a (synthetic) five-year credit boom and five post-crisis years together, the cumulative shortfall in productivity growth would amount to some 6 percentage points,” Mr Borio said.

“A reasonable conjecture is that sectors that have expanded too much during the boom have to contract at some later stage — this is what allows us to talk about 'misallocations' in the first place as opposed to mere reallocations.”

A second mechanism by which very low interest rates could hurt productivity is by creating so-called ‘zombie firms’.

These are firms that are essentially kept afloat by banks extending credit to them.

BIS says it research shows a correlation between low rates and zombie companies.

“The first point to note is that zombies have been on the rise and survive — if I can use that term — for longer,” Mr Borio said.

“Furthermore, zombies remain in that state for longer. For instance, based on the narrower definition, in 1987 the probability of a zombie firm remaining a zombie in the following year was approximately 40 per cent; by 2016 it had risen to 65 per cent.”

BIS says low rates allow many companies to survive heavy debt burdens for longer while reducing the incentive for banks to pull the plug and call in their loans.

In turn, this means that many more profitable and efficient companies miss out on getting loans.

“The counterpart to this ability to avoid reducing debt, is that zombie firms have been locking in more resources, hindering the reallocation process,” Mr Borio explained.

“Relative to their more profitable peers, they have slowed down asset disposals and refrained from cutting capital expenditure.”