Uncertainty shocks, firms’ actions

Given the current state of geopolitical disruptions, trade and investment uncertainty, and global chaos, the Economic Survey (2025-26) concludes that the impact may vary “significantly across firms,” based on their traits and businesses. When it comes to size, the mid-sized firms suffer the most and, surprisingly, small firms tend to somehow find the expertise, resources, and discipline to handle the crises better. Similarly, manufacturing fares worse than services, where the impact may be positive. Since, most disruptions, whether geopolitical, tech-led, or policy-driven affect the exporters, and export-oriented firms more than those that rely on local markets.

“Uncertainty shocks,” states the Survey, “have become a defining feature of the present era.” Various studies establish the intuitive feelings that businesses “delay investment in the presence of uncertainty due to factors such as increased cost of financing, and a rise in the ‘option value’ of delaying investment. But the results are also counterintuitive in some ways. For example, in some cases like strategic areas, firms may invest more in R&D and innovation in the hope that there will be huge “future payoffs.” Similarly, as the Survey states, “factors such as asset size, market power, market concentration, and growth opportunities impact a firm’s choice to invest irrespective of uncertainty.” Hence, it feels that there is a need for a detailed study in the Indian context.

As a part of an internal exercise, the Survey chose to survey more than 800 Indian listed firms, and study the effects on them between 2010 and 2024. The sample size is crucial, as it includes a “heterogenous mix” of large firms (63 per cent), mid-size ones (28.7 per cent), and small ones (8.3 per cent). The market focus is inherent, as a quarter of the firms “exhibit a strong export orientation.” The period is vast and all-encompassing, as it includes several shocks that rocked the Indian economy. These include the “taper tantrum (2013), the twin balance sheet crisis (2016-18), the Covid-19 pandemic (2020-21), and heightened geopolitical tensions (2022-23).”

According to the Survey, this internal study reveals that on average, shocks and uncertainty induced firms to opt for “negative capital formation (considered as a share of a firm’s total net fixed assets).” Over a period of five years during and after a specific shock, the surveyed firms reduced 0.51 per cent of their net fixed assets. However, as mentioned earlier, the impact is not the same across the firms, and depends on various characteristics. This implies that the standard reaction of the policy-makers to use the ‘one-size-fits-all’ kind of policies may favour some, and hurt the others more.

For example, in the study, the larger firms reduced their net fixed assets by 0.5 per cent, or slightly less than the average. The mid-sized ones showed the steepest decline of 4.7 per cent. The smaller ones, interestingly, prove to be “more resilient” than expected. Although the effect on them, one per cent, was twice that on the larger counterparts, it was almost a fifth of the mid-sized firms. This wide variation, explains the Survey, may be because of the inherent nature of the firms, which decides their ability and beliefs. Large is too big to fail, and small can be the most beautiful.

In other words, “large firms can absorb shocks using internal resources, while small firms can leverage their agility to continue investing despite uncertainty.” In addition, what the Survey did not mention, is that in most cases, the official financial benefits and incentives during a crisis may be skewed towards the larger firms, which can, for instance, gobble a higher share of low-interest bank loans. Small firms, in contrast, which need little capital, have a larger pool to rely on for financial needs such as friends, relatives, social networks, and relationships with local bankers.

Mid-sized firms are caught in the middle, and find themselves in a bind. They do lack “both the flexibility of small firms, and the resource buffer of large ones.” In addition, the policy-makers, despite the noises they make about SMEs, tend to ignore the mid-sized firms, which are not the focus of large lenders in any case. Larger firms enjoy too much visibility, and do not wish to fail. Small ones are generally owned by passionate entrepreneurs, who desperately wish to succeed. The mid-sized ones are the ones likely to give up.

Export-intensive firms reduced a per cent of their net fixed assets, while “non-exporters largely halted capital expenditure.” Yet again, this variation between outward-seeking, and inward-looking firms may seem obvious and intuitive. Most disruptions have a global impact. Even if the uncertainty shocks are induced by national policies, their ramifications are wider. For example, among the crises in the study, the pandemic and geopolitical tensions are international in nature. The taper tantrum, and twin balance sheet, have financial consequences that somehow give a bigger jolt to the sensitive exporters, who are more bothered by interest rates, and credit.

Let us look at the sector-wise effect. According to the Survey, transport equipment shows “robust capex relative to their net fixed assets.” Light-tech products such as leather, beverages, wood products, and rubber and plastics register “moderate capital expenditure improvements” of between 0.4 per cent and 0.8 per cent. Some tech-intensive firms like machinery, and electrical equipment show a “moderate decline” of around minus 0.5 per cent.  Other tech-intensive ones, chemicals and pharma, show “consistent investment,” albeit small changes of 0.06 per cent and 0.21 per cent, respectively.

What is shocking is that the services sector, or at least some segments display “healthy capital expenditure.” These range from 0.26 per cent for retail trade, and 0.33 per cent for consultancy to an amazingly-high 8.51 per cent in the case of civil engineering. It is easier to understand what happens in retail trade and consultancy. With disruptions in logistics, the profit margins for retail go up dramatically, and enthuse them. Consultants are in demand as most firms run around like headless chickens trying to combat the crises. One is not so sure why advertising shows positive signs.

The Survey tries to explain the differences between manufacturing and services. Past studies show that “manufacturing firms tend to experience intense uncertainty due to factors such as long gestation periods, higher irreversibility, and input supply disruptions.” The services sector “broadly holds up” because the capital needs are lower, and it depends on human resources, which is more likely to be in surplus, and eager to work at any price during crises. As mentioned earlier, while the consumers may reduce the demand for manufacturing goods, the businesses need specific services.