Natural disasters such as earthquakes, floods, typhoons, and hurricanes inflict serious damage and so seem to be bad for the economy. For firms, natural disasters destroy tangible assets such as buildings and equipment – as well as human capital – and thereby deteriorate their production capacity. These adverse impacts may sometimes be fatal to the firms and result in them being forced to close down.
But the academic evidence on the economic impact of natural disasters is mixed. As reviewed in surveys such as Noy and Vu (2010) and Loayza et al. (2012), the existing studies report that natural disasters may even promote growth. One possible mechanism behind this positive impact is the enhancement of the productivity of the economy’s corporate sector – as reported in Skidmore and Toya (2002) and Crespo-Cuaresma et al (2008).
But because these studies use aggregate data, they cannot answer why and how corporate productivity improves due to natural disasters. We thus need analyses that use micro-data to clarify the mechanisms through which natural disasters affect the productivity of an economy’s corporate sector.
Explanation: A channel through which natural disasters may enhance corporate productivity is the improvement in the productivity of firms that survive the disasters, which is due to the update of their capital stock and the adoption of new technologies. This mechanism is often called creative destruction. There is some evidence for this hypothesis, although mixed. De Mel et al (2011) find that the firms that suffered more damage to their assets because of the devastating tsunami in Sri Lanka in 2004 exhibited smaller profits, sales, and capital stock.
Cole et al. (2013) and Tanaka (2015) find that the plants located in the most devastated districts during the 1995 Kobe Earthquake exhibited smaller employment and value-added growth. These findings are inconsistent with creative destruction. On the other hand, Hosono et al. (2012) – who also focus on the Kobe Earthquake – find more investment by the firms located inside the affected area than those located outside, supporting the creative destruction hypothesis.
Also consistent with this hypothesis, Leiter et al (2009) find that European firms located in regions affected by a major flood in 2000 had higher asset and employment growth as compared with non-affected firms, although they also find that the firms in the affected regions exhibited smaller value-added. Finally, Cole et al (2013) find some evidence for a short-run increase in the productivity of damaged plants after the Kobe Earthquake, although they also report that this effect disappeared over time.
Aside from the channel through survived firms, there is another potentially important channel through which natural disasters may affect the corporate sector: the selection, or exit, of firms due to the disasters. If natural disasters expel inefficient firms, or if natural selection is at work, then the average corporate productivity will increase. However, to the extent that efficient firms are also forced to exit, or an unnatural selection is at work, then the overall impact is unclear.
Compared to the effect of natural disasters on surviving firms, the empirical evidence on the firms’ post-disaster exits is scant. To fill this gap, a team of researchers including these authors examined the selection of firms in the form of bankruptcy after the Tohoku Earthquake in Japan that occurred on March 11, 2011 (Uchida et al 2014a). In the subsequent sections, we report our findings from this study.
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