How BNPL works and how it’s spreading after the pandemic crisi

Although Buy Now Pay Later (BNPL) emerged before the pandemic, the attractive e-commerce payment option is soaring on post-COVID adoption.

BNPL provides short-term financing to online shoppers, allowing them to split the cost of purchases into affordable installments. For most shoppers, BNPL is a comfortable payment alternative since it lets them enjoy goods instantly while experiencing the benefit of spread-out, potentially interest-free payments.

While the trend began with innovative Fintech companies, global payment processors and banks like MasterCard and Goldman Sachs have taken notice. Consequently, BNPL is on an explosive growth trajectory, and estimates are that spending using the service will reach nearly $700 billion by 2025.

But what is behind the BNPL rise and how does it work?

How BNPL works

As the name suggests, BNPL lets buyers purchase goods, typically online, and pay later either in a lump sum or installments. As I see it, the process involves three parties: the merchant, the customer, and the BNPL provider.

Between the customer and the BNPL provider, the agreement is that goods will be bought and paid for at a later date (a grace period of sorts), usually within a few weeks or months of the purchase. During this grace period, the buyer can pay installments or the full debt at no interest.

But if the buyer does not make payment within the agreed period, interest may begin to run. Likewise, if the buyer misses an installment, they may be liable to pay late fees in addition to the outstanding installment.

Between the merchant and the BNPL provider, the agreement is that goods bought will be paid for immediately by the BNPL provider. This way, the merchant need not wait potentially several months to receive full payment and can enjoy optimal liquidity. In exchange, the merchant agrees to pay the BNPL provider a percentage of the sale price (between 2-8%) for the service rendered.

Due to the fact that BNPL provides ease and convenience for both buyers and sellers, the payment trend has secured wide approval. Some of the major BNPL providers globally include firms like Affirm, Ant Financial, Afterpay, Klarna, Zilch, Flava, MasterCard, Visa, and PayPal.

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Rapid spread of BNPL

As described by e-commerce platform VTEX, BNPL is currently the “fastest growing way to pay in the developed world.” To underscore just how fast the payment trend has grown since COVID, one study reports that BNPL use quadrupled in 2020.

While the trend is highest amongst younger shoppers, the affordable payment option is popular amongst adults of all ages, according to the BBC. Compared to credit cards, users see BNPL as a simpler and more transparent alternative since it avoids the complex terminology and conditions associated with bank cards.

The top reason why people adopt the payment method is its ease and convenience. Because it is instantly available and potentially more forgiving than credit card loans, buyers feel more confident adopting this payment option.

Likewise, merchants possibly attract higher average order volumes because people tend to spend between 10-40% more with BPNL. They’re also more likely to overcome buyer hesitancy because BPNL encourages more convenient returns – it’s easier to test out a product when you don’t have to pay immediately. It also works wonders for cart abandonment. In fact, Afterpay reports that 69% of millennials and 42% of Gen Z shoppers are more likely to complete the buying journey when BNPL is offered.

However, despite its clear advantages to buyers and merchants, there are several unavoidable red flags with BPNL. In my opinion, unrestrained lending will only help perpetuate the ongoing global consumer credit debt crisis. Besides, consumers are naturally prone to underestimating risks and overestimating benefits, which might work to put many people in more debt than they expect.

While countries like the UK are already working on potential regulations for the sector, the question is: can they work fast enough to pass needed guidance before consumers get in way over their heads?

How could the FED implement Quantitative Tightening?

In the past two decades, national banks pumped trillions into their economies to grapple with recession and stimulate economic growth in a process called Quantitative Easing (QE).

However, with inflation at a 40-year high, the Federal Reserve, alongside other central banks, is backtracking from this policy in a bid to raise interest rates and disincentivize borrowing, according to Business Insider.

While QE may have defined the response to the 2008 global recession and COVID-19, Quantitative Tightening (QT) is “the new watchword”.

But with plans to shave roughly $2 trillion off the biggest central banks’ balance sheets, there are concerns over the potential impact of the policy. Just as QE was novel when adopted in 2009, QT has never been done on this scale. How could the Fed implement QT and what effects are likely to result? Here’s what I think.

What is Quantitative Tightening?

Quantitative Tightening is a monetary policy aimed at reducing the size of a central bank’s balance sheet – that is, its assets and liabilities. The policy, also called balance sheet normalization, is the exact opposite of Quantitative Easing. In QE, the central bank buys long-term government bonds in a process that actively increases the size of its balance sheet, thereby flooding the economy with needed liquidity that in turn pushes interest rates down.

As Bloomberg explains it, when a central bank implements QE, “it increases the supply of bank reserves in the financial system, and the hope is that lenders go on to pass that liquidity along as credit to companies and households, spurring growth.” The Fed implemented this policy during the 2008 financial meltdown, increasing its balance sheet from $1 trillion to $4.5 trillion by 2018, and again during COVID-19, leading to an all-time high balance of nearly $9 trillion.

In contrast, the central bank reverses its policy under QT, instead working to lighten its balance sheet and reduce the money supply in the economy. It does this by cutting down on reinvestment of proceeds from maturing government bonds and raising interest rates. The Fed has announced its intention to move forward with QT plans, and analysts quoted by Business Insider suggest that could be as early as summer this year.

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How could the Fed implement QT?

As I see it, the Fed could adopt the same approach it took previously when it briefly implemented QT between 2017 and 2019. The first stage involved a steady tapering of its monthly bond purchases, which were roughly $120 billion a month as of November 2021. Current indications are that the Fed plans to end purchases by mid-March 2022.

At the next stage the Fed maintained its balance sheet for a three-year period during which it focused on raising interest rates. It took the first step towards a rate hike in December 2015, says the Federal Reserve Bank of St. Louis, and completed an increase from 0% to 2.5% by 2018. The Fed could take the same approach this time, although at a much faster speed.

QT will likely start gradually and then build up as it proceeds. Last time, the Fed started shedding its bond holdings at $10 billion a month, which eventually increased to $50 billion monthly at its peak. Projections are that the coming QT will proceed at a much more aggressive pace, possibly at $100 billion per month according to JPMorgan Chase & Co.

The big question though is: what effects will QT likely have on the economy? In theory, if QE helped lower interest rates and increase liquidity, QT should do the opposite and help bring down inflation. But no one, not even the Fed itself, really knows.

The last time the Fed attempted QT, the results weren’t encouraging. While the process started smoothly, stocks fell within three months (the S&P 500 fell by more than 6%), and after ten months of roller-coaster stock prices the central bank eventually pulled the plug. Might the same effects result this time around? I believe only time will tell.

World Bank: growth down, towards a two-speed recovery

The World Bank has warned in a recent report that, due to headwinds such as inflation and vaccine inequality, the world faces a two-speed recovery that could damage prior strides in global economic development.

Although there’s likely to be a general slowdown after the strong rebound in 2021, the results and any eventual recovery that follows are liable to create unequal outcomes.

The developed world could pull away from emerging economies as the former experience a sharper post-pandemic rebound compared to a slower recovery for developing countries.

Despite the strong demand that drove record levels of global trade in 2021, international growth now looks to be set for a contraction. In its Global Economic Prospects Report, the World Bank states that world growth will slow from the 5.5% recorded in 2021 to 4.1% this year and 3.2% in 2023.

Myriad factors will spur this slowdown: the exhaustion of pent-up demand, acceleration of new COVID variants, upsurge in inflation, intractable supply chain disruptions, and more. As I see it, this was always going to be the case since the shockwaves caused by the pandemic continue to reverberate in various sectors worldwide.

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In the same vein, I believe the anticipated “hard landing” that will create a chasm between the growth rates of advanced and emerging economies was also predictable. International development institutions such as the World Bank, the African Development Bank, the International Monetary Fund (IMF), and the Organization for Economic Cooperation and Development have warned of this.

Speaking at the time on the 6% global growth projected in 2021, Kristalina Georgieva, IMF Managing Director, noted: “The composition of the 6% is changing, with advanced economies broadly accelerating growth, whereas most emerging markets and developing economies are falling further behind. This is a dangerous divergence.”

However, despite early warnings, the world looks to be on track for precisely this dangerous divergence. The World Bank said that, while advanced economies will likely see a growth decline from 5% in 2021 to 3.8% and 2.3% in 2022 and 2023, respectively, they will return to pre-pandemic levels by 2023. But growth declines elsewhere will be steeper.

Comparably, 2023 will see emerging and developing economies still 4% below pre-pandemic levels. Worse, fragile and conflict-affected economies will fall 7.5% below their pre-pandemic path by that time, and small island states will likely be even lower, at 8.5%.

The rich forge ahead, as the rest fall behind

The causes of this anticipated two-track recovery are obvious and have been here for a long time. Massive debt levels, income inequality, infrastructure deficits, and reliance on commodity exports (subject to notorious boom-bust cycles) already put developing and fragile economies on a path that would see them unable to respond robustly to the pandemic.

As a case in point, while advanced economies could push massive spending budgets to aid their economies and provide stimulus, emerging and vulnerable economies either could not afford a stimulus or had to withdraw them before recovery in response to inflationary pressures. Unsurprisingly, Financial Times, quoting the World Bank, noted a 5% rise in per capita income within advanced economies in 2021, compared to a 0.5% increase in low-income countries.

Likewise, vaccine inequality, exemplified by the developed world purchasing five billion more doses than it needs for its citizens (enough to vaccinate Africa twice), and the stuttering rate of global vaccination showcases the difference in outcomes.

In the aftermath of the pandemic, these emerging and vulnerable economies are now faced with the bill of nearly a year of lockdowns and painful health-motivated restrictions. They are in deeper debt (global debt is at its highest levels in 50 years), inflationary trends are contracting savings and investments, and they now have less money to fund capital projects and economic initiatives.

As a result, we’re now going into a critical period for world peace and stability. Prosperity increases stability and vice versa. With the harsh incoming times for the developing world, we could see the hard-fought gains in global development over several years wiped away in just a few, making political and economic instability more likely.

I think the lesson here is that global peace and prosperity are a collective effort. The world now has a difficult task to manage the incoming challenge to foster and preserve a collective global charge in the right direction post-COVID.

Rising energy costs worldwide: reasons and what to expect

I have closely followed the recent upsurge in energy costs that characterized the end of 2021. According to global reports, coal, gas, and electricity prices rose to decade-high levels in the final months of the year, and projections were that the energy shortfall would continue well into 2022.

The International Energy Association reports that gas prices are at a record, with costs as of 3rd quarter 2021 at ten times the price a year ago.

In addition, coal prices increased 5x compared to 2020 prices, and natural gas prices tripled in October 2021 to their highest levels since 2008.

Many factors have been fingered as culprits for the energy squeeze, but one that seems to be thrown in now and then is the effect of reduced investment in fossil fuels and capital transfer to fledgling green energy projects.

Right off the bat, I would like to emphasize that investment in green energy is not the cause of the energy crisis. Moreover, as both the International Monetary Fund and the IEA clarify, blaming the clean energy transition for the situation is “inaccurate and misleading.”

Instead, there are various factors involved, not least of which are the 2014 and 2020 commodity price collapses and the resurgence of energy demand after a COVID-induced hiatus. I will briefly outline some of these causes and how we can expect things to evolve.

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Why are energy prices so high?

While it seems like the energy crisis hit out of nowhere, there are longstanding reasons for the situation, and they mainly stem from the collapse of oil prices in 2014.

At the start of the 2010s, strong growth in the price of commodities created an oil industry boom, with prices sitting around $100 per barrel. The boom encouraged greater investment in the sector, significantly increasing supply. Similarly, developments in energy efficiency reduced worldwide demand, thereby creating an oil glut. However, major oil-selling countries failed to respond by lowering supply, and as a result, oil prices fell by 70% from 2014 to 2016.

One implication of this collapse was that investors lost appetite for new fossil fuel investment. Second, abundant oil also created a natural gas glut, making gas cheaper and a viable alternative for coal. Due to this, gas-fired plants gained ground, and the electricity systems worldwide began to rely more on gas instead of coal.

By the time COVID came around, the pause in fossil fuel investments was already several years old, and as Bloomberg reports, supply was already falling behind demand. COVID-19 tanked energy production globally due to lockdowns, the rampaging pandemic, and health regulations. While demand rebounded faster and stronger than expected, supply quickly fell further behind due to unexpected outages, a sizable maintenance backlog, and supply chain inefficiencies. Households and power plants began to compete for limited gas supply, which helped increase prices even more.

Currently, OPEC and Russia seem unwilling to intervene and help stabilize prices with increased supply. At the same time, the EU and other countries in the Northern Hemisphere have all but depleted their reserves in response to unseasonal weather, thereby leaving them unable to ease the supply hardships within their territories.

That said, I should note that climate policy is not exactly blameless in the overall operation of forces leading to this crisis. For example, increasingly stringent emissions targets in Europe, North America, and China have contributed to policies favoring gas (which is cleaner) over coal. But in the general scheme of things, climate policy has had a negligible effect on the crisis.

What will the new year bring?

The causes behind the current energy crisis are myriad, so it’s uncertain how things will develop within 2022. While major oil producers will likely open up their stores and help provide stability at some point during the year, other factors such as maintenance difficulties and destructive weather events are less certain.

I believe one potential solution could be to increase investment in renewable energy sources to help make the global system less vulnerable to wild swings in commodity prices. With decentralized energy production and renewable sources enjoying more production capacity, the world can recover from these commodity cycles quicker and suffer less damage as a result.

Inflation hits middle-class consumption and remains an uncertainty for the economy

As the world looks to bounce back from the 2020 COVID-induced slump, inflation is playing a larger role than anticipated in global economies. A slower than expected economic recovery, a flagging labor market, and supply chain disruptions have created concerning inflationary conditions, affecting middle-class families globally.

For instance, the UN Food and Agriculture Organization reports that food prices rose for the third straight month in October 2021, climbing to their highest levels since 2011.

Likewise, in Europe, annual inflation was reported at 5% in December 2021, with energy costs driving higher figures at a rate of 26.5%. The higher cost of energy is in turn pushing up the prices of necessaries, from heating to transportation, food, and gas.

While inflation is a global concern, data shows that middle-class families are feeling the pinch of rising prices more. Here’s why I think that might also be bad for the global economy.

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Inflation has hit the middle class hard

As a general rule, inflation impacts individuals and families by reducing their spending power. However, the trend is usually tougher on lower-income families because they have less money to spend than the upper-middle class and the rich. For instance, the IMF found that people who identify themselves as poor are 10.5% more likely to name inflation as a major concern than those who identify as rich.

According to the Penn Wharton Budget Model, low and middle-income families spent 7% more in 2021 on the same products they purchased in 2020 and 2019. On average, they spent $3,500 more on the same products as they did two years earlier.

Similarly, the World Economic Forum states that one survey of 20,000 respondents from 30 countries found that at least half reported higher healthcare, clothing, housing, and entertainment costs. Seven out of ten people said that they expected the price of food, gas, public transport, and groceries to increase even further.

According to Reuters, Argentina reported the highest inflation rates, with prices rising to 54% as of October 2021. While countries such as China and Japan have reported the least inflation figures (at 1.5% and 0.1%, respectively), the general trend paints a troubling picture overall.

Food prices are more than 6% higher than in 2020, and gas prices jumped to 58% at the end of 2021, forcing these families to devote more of their budget to necessaries. In many cases, the inflationary trend is forcing middle-class families to explore cheaper alternatives to everyday staples, according to NBC. More people with incomes ranging between $50,000 to $100,000 are looking for deals in stores that traditionally serve rural and low-income shoppers.

Why this is bad for the economy

The middle class is a vital driver of business within the global economy – they sit at both ends of the table as business and consumer.

I see one reason for this as their overwhelming representation in the ownership of SMEs, which constitute the vast majority of businesses worldwide. Without a strong and financially stable middle class, more businesses will likely suffer cash flow issues and struggle to keep shelves stocked or services going.

As consumers, inflation takes more money from middle-class households in return for fewer goods. Therefore, they suffer reduced purchasing capacity and are ill-equipped to provide the demand that helps businesses arrest cash flow concerns. In effect, each phenomenon reinforces the other and produces a risk that all players will be caught in a vicious cycle.

Eventually, the economy bears the brunt of middle-class woes. Research shows that higher middle-class incomes presage better economic growth overall. Likewise, an ailing middle class is bad news for the economy, as high inflation levels leave them with less money to save, invest, or spend.

Unfortunately, it’s not certain how long this inflationary trend will continue or what might be done to arrest the trend. Seeing as the root causes are numerous, it is more likely that countries will provide whatever support they can through subsidies and stimulus payments while looking to the market to correct itself in due course.

The electric revolution in the sky

The electric revolution in European skies could take just a few years. Judging by the speed at which things are moving, particularly in Scandinavia, the first to see the dawn of zero-emission aircraft will be passengers in the far north, where a number of experimental initiatives are taking shape to get small battery-powered aircraft into the air: models that have already attracted the interest of regional carriers.

Some have announced their intention to buy the small, 9- to 19-seat prototype electric aircraft, which are essential for extensive routes in the vast northern region. The new battery-powered fleets would be available from 2026.

The type of demand for air transport is specific to northern Europe, with almost half of the operators covering a distance of less than 200 kilometres and often carrying fewer than 10 passengers.

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Short-haul routes are not economically viable for carriers, except when they are generously subsidised by the state to provide a public service to the community; the advent of electric aviation would open new frontiers to and from provincial airports. But not only that. Although it too is beginning with trials of small aircraft, the aim of the partnership between Wright Electric and the British low-cost carrier EasyJet is to produce 186-seat electric aircraft by the end of the decade. Interest in battery-powered aviation is also growing in southern Europe: in Spain, Volotea and Air Nostrum are partners in a project to convert turboprop Cessna Caravans into electric-powered aircraft, an operation they hope will be co-financed by the Madrid government, as well as the EU Next Generation funds. It’s not just about developing the aircraft of tomorrow. The advent of electric aviation in the next five years will also require strong ground support and the creation of the necessary infrastructure to recharge the batteries after landing.

Northern Europe could therefore be an excellent laboratory for the future of electric aviation, as it is obvious that the needs are very different. From small local flights to transcontinental ones, the solutions will have to be different and will surely involve technologies that are, for the moment, only at an embryonic stage. Europe with seven of its members, has set up a project that some compare to the Airbus project (EBA). It involves all the requisite levels, from basic research to practical application. The first results are expected soon, because in this field as in others, competition is fierce. Japan is a few steps ahead (22% of world production is by Panasonic) and this is due to the fact that historically Asian countries are strongly linked to this sector (China, South Korea).

The conclusion I can draw from this brief prospective view of aeronautics is that in this field too things are clear; there will be no turning back. Fossil fuels will soon be behind us, even in the sectors where this was least obvious to us.

No one is safe until we are all safe

US Trade Representative Katherine Tai announced that “these extraordinary times and circumstances call for extraordinary measures.

The US supports the waiver of IP (intellectual property) protections on COVID-19 vaccines to help end the pandemic and we will actively participate in WTO (World Trade Organisation) negotiations to make that happen”.

It is reported that 10-15 billion vaccine doses are needed to stop the spread of the virus; by April 2021, there had only been 1.2 billion doses produced worldwide.

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The way I see it, US’s stance is circumstantial and in a way symbolic; the WTO negotiations could last for months curtailing to have an immediate impact in ending this present health crisis. Nevertheless, I believe this is very big news.

With this declaration US administration is following India and South Africa, which in early October 2020 issued a proposal for temporary suspension of IP rules in the context of Covid-19. In this regard, EU Commission President Ursula von der Leyen also said she was “ready to discuss any proposal that would tackle the crisis in an effective and pragmatic way.”  WHO Director-General Tedros Adhanom Ghebreyesus and UN Secretary-General Antonio Guterres were overjoyed with the news and congratulated the US on this historic decision.

Not surprisingly, the pharmaceutical industry took the White House’s decision very badly. They argue that developing countries lack the skills and resources to manufacture COVID vaccines based on new technologies. They also say that it will undermine the pandemic response, risk-taking and innovation in vaccine research. In my view, one thing is clear; this waiver, if can be applied timely on WHO scale, will deprive the big pharma of monopoly profits during this pandemic.

The big pharma prefers the donation of vaccines to patent infringement. There, however, promises have not been kept so far. The COVAX Facility, the global pooled procurement mechanism formulated by WHO for COVID-19 vaccines, was supposed to distribute two billion doses by the end of 2021 to the poorest countries, has not received enough deliveries, being able to provide only 53 million doses so far. Despite this largest vaccination campaign in history, one in four people in developed countries have been vaccinated to date, while in low-income countries it is one in 500. Can we give a better example of inequality?

On the flipside of the coin, there are also geopolitical concerns. Thus far, China and Russia exported their vaccines in quantity and have engaged in significant technology and knowledge transfer, forging partnerships around the world, and helping to speed up the global vaccination effort. This has been clearly an act of benevolent power to the world. The US and the EU are surely taking this perspective into account as well.

In today’s world, I think it is nearly impossible to think outside of the box of Big Data. Generous and benevolent they all seem, these programs will help to gather huge amounts of valuable medical information and records in less developed countries, where privacy and data protection regulations are much more lax compared to developed countries.

Have we learned from history – Current crisis vs. 2008

By far not all the lessons of the 2008 financial crisis have been learned. And those that have been learned have not necessarily been applied. Nevertheless, one of them – drawn and applied – will certainly have been of great help in the current crisis.

At least it has helped to limit the economic catastrophe: the need for well-capitalized banks. This is what can be drawn from Bank for International Settlements (BIS) December 2020 report.

BIS, aka central bank of central banks, says that the banks have served as a “reliable first line of defense” and that “backed by swift action by the authorities, banks helped to limit economic stress at the beginning of the pandemic”.

I must stress the fact that the starting point of 2008 crisis is very different than the actual one. Back then, the crisis came from a freewheeling financial sector, overwhelmed by bets on sub-prime mortgages, which have proved to be much more dangerous than expected. Poorly capitalised, many banks that had considered risk management as a trivial activity found themselves on the brink of collapse, with some having to seek state support. In the actual case, the crisis did not initiate from the financial sector and it affects entire global economy.

I would like to provide some numbers from the report at this point: International bank lending to financial and non-financial borrowers fell by 5.2% in 2008. Conversely, these same loans increased by 4.8% in the first half of 2020. This, “even though economic activity has contracted more than during the great financial crisis of 2007-2009”, the authors of the study point out. The decline in global growth was 0.2% in 2008, compared with -9.1% in the first half of this year.
The authors of the study add that “foreign lending to the non-financial private sector – a measure of credit to the ‘real economy’ – has also remained robust”. In the first six months of the year, they fell by only 0.5%, compared to a drop of 11.8% in 2008. Similarly, local loans in local currency also grew at the historically high level of 8.6%.
I believe one must admit that the vast measures and assistance of governments, such as state guarantees for loans, have also helped. Central banks ensuring the supply of liquidity prevented the health crisis from turning into a financial crisis.

FINMA 2020 Risk Monitor

FINMA independent supervisor of the Swiss financial market, has published its annual Risk Monitor. This report specifies the most important risks that supervised institutions are currently encountering and portrays the focus of FINMA’s supervisory activity.

After having reviewed the report, I can easily say that the omnipresent word is undoubtedly COVID. The pandemic has triggered a whole series of pressures on financial institutions, like everywhere else in the world. According to FINMA, the main pressure stems from the risk of losses on loans to foreign companies.

In mid-2020, Swiss banks held claims on foreign companies totalling USD 78.1 billion (CHF 72 billion), according to figures from the Bank for International Settlements.

According to Swiss National Bank statistics 75% of these loans are held by two biggest banks, Credit Suisse and UBS. Coupled with bankruptcies and international fraud in the first half of the year that Swiss banks faced in commodity trade finance segment, I believe it is safe to say that FINMA will be monitoring the activities of the banks ever more closely.

As for the other main topics or the report, I think the most important ones are the critical exposure of insurance companies to pandemic-hit bond markets as well as a probable bursting of a real estate bubble. Low and/or negative interest rates are further complicating this story in my view.
On the other hand, FINMA considers the risk of domestic credit losses to be lower in Switzerland. Although, the recession was less severe in comparison with other countries and the economy was supported by public measures, I believe as we enter a long and bleak winter with degrees of confinement all over the country, a series of bankruptcies especially in hotels, restaurants and transport as well as jobs cuts across sectors is inevitable.