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April 01, 2020

Credit Crisis to Escalate as ‘Covid-19 Effect’ Deepens

CRISIL assesses the impact of Covid-19 on the US and Europe, and identifies the most vulnerable financial and non-financial sectors.

Executive summary


The Covid-19 outbreak has wreaked havoc in the past few weeks, especially in Western Europe and the US; however, the situation in China seems to be improving recently. Globally, unprecedented restrictions on travel, community quarantines and disruptions in factory and business output are causing mayhem. Nearly 30% of world population is under a full or partial lockdown, and the affected countries contribute around 50% of global GDP. Already, demand and supply shocks have led to one of the worst sell-offs in equity and credit markets since the 2007-08 global financial crisis.


Amid clampdowns, major economies are likely to slip into recession during the first two quarters of 2020. Conservatively, 2Q20 GDP could contract by 10-15% each in the US and Europe – much worse than in 4Q08 – according to recent estimates of sell side analysts and research agencies. Overall, FY20 GDP is expected to contract in the US and Europe even if growth recovers sharply in 2H20. Emerging economies are also likely to face the spill over effects of a global slowdown. While the extent of a recession remains uncertain, we believe that coordinated monetary and fiscal stimulus could mitigate the likelihood of a prolonged, deep recession. Governments in affected countries have pledged packages of up to 10% of GDP toward transfers to households, loan guarantees, sector-specific bailouts and grants to small businesses.


To evaluate the crisis impact, the CRISIL GR&A’s SPARC team has assessed industry risks and conducted a stress analysis of about 2,800 non-financial companies (representing $11.1tn of gross debt) listed in the US and Europe. The analysis of these firms across 17 industries reveals significant downside risks. At an aggregate level, we estimate that the share of gross debt with high levels of riskiness (gross leverage and interest coverage levels equal to or worse than S&P’s BBB rating level) could rise from 53% to 74-77% and 52% to 78-81% across the US and Europe, respectively, driven by material earnings deterioration and widening credit spreads. We believe the default rates and the loss given default (LGD) could be higher than the 2008 crisis primarily due a risker composition of loans and a weaker collateral structure. The outlook for the financial sector is negative. While banks could face a surge in corporate defaults leading to a deterioration of asset quality and capital position, asset managers and insurance firms will be negatively affected a steep fall in the value of investment portfolio and rising counterparty risks.


This note throws light on how key sectors could fare during the crisis across the US and Europe.