Small firms and the COVID-19 insolvency gap

Abstract COVID-19 placed a special role on fiscal policy in rescuing companies short of liquidity from insolvency. In the first months crisis, SMEs as backbone Germany’s economy benefited large and mainly indiscriminate aid measures. Avoiding business failures whatever-it-takes fashion contrasts, however, with cleansing mechanism economic crises: which forces unviable firms out market, thereby reallocating resources efficiently. By focusing firms’ pre-crisis financial standing, we estimate extent to response induced an insolvency gap analyze whether is characterized by were already struggling before pandemic. With measures being focused smaller firms, also examine this differs respect firm size. Our results show that Germany has triggered backlog insolvencies particularly pronounced among financially weak, small having potential long-term implications entrepreneurship recovery. Plain English Summary This study analyzes strong support early phase crisis prevented wave corporate insolvencies. Using data about 1.5 million German companies, it shown was experienced distress would have gone bankrupt without assistance. times crises, usually allow for reallocation employees capital more efficient firms. However, analysis reveals ‘cleansing effect’ hampered current largely granting subsidies temporary suspension duty file caused driven weak position crisis. Overall, estimated affect around 25,000 substantial number compared 16,300 actual 2020. ongoing makers should prefer instruments favoring entrepreneurs who respond innovatively pandemic instead prolonging survival near-insolvent