The effect of economic growth on businesses

Economic growth refers to an increase in a country’s production and consumption of goods and services over time. It’s typically measured by Gross Domestic Product (GDP), which tracks the total value of goods and services produced within a country. GDP can be measured in three ways: by total value added, total income or total expenditure.

How businesses contribute to economic growth is a complex subject. In short, they create jobs, drive innovation and boost consumer spending. When businesses thrive, they invest in new products, services and employees, stimulating economic activity. 

In 2022-23, small businesses (those employing fewer than 20 people) added nearly $590 billion to Australia’s GDP.

Other factors contribute to economic growth in addition to business success. Private and government investment spurs economic development by funding infrastructure, technology and innovation. Technological advancements, such as artificial intelligence (AI), have already started increasing productivity in many sectors, and we can expect this trend to continue in Australia.

Jack Magann, portfolio manager at Oracle Investment Management, says, “The forecast of interest rates falling in Australia late this year or early next year could be conducive to increased investment, especially from the private sector, which has been restricted under the current higher rate level.”

A growing economy presents both opportunities and challenges for businesses. Let’s explore both.

• Increased demand for goods and services: As the economy grows, consumers have more disposable income, leading to higher demand for products and services. Businesses can capitalise on this by expanding operations and increasing sales.
• Better financing options: During periods of economic growth, investors and lenders are more likely to provide capital to businesses, offering them the opportunity to expand. With favourable lending environments, companies can secure financing at better rates and terms, which supports further investment in their operations.
• Innovation-driven demand: Economic growth often spurs businesses to innovate. As consumer expectations rise, there’s a growing demand for new and improved solutions. This creates an ideal environment for startups and tech businesses, allowing them to thrive by introducing fresh ideas and products. Established companies can also benefit by enhancing their offerings to stay competitive.

“A business can grow just through the tailwind of higher demand,” says Jack. “There is also the opportunity to increase sales through investment in the current operations or through expansion. When the economy is on the up, investors and lenders are more likely to provide capital to SMEs.”

• Rising wages and competition for talent: With more companies expanding, the demand for skilled workers rises, leading to higher wages and retention challenges. While wage increases can help attract the best employees, they also add to the business’s long-term costs.
• Inflation and cost management pressure: Inflation often accompanies economic growth, which means the cost of raw materials, services and wages increases. Businesses must manage these costs carefully to protect their profit margins. If inflation isn’t managed prudently, it can hurt businesses, particularly small ones.
• Impact of fluctuating interest rates and global markets: Even in a growing economy, rising interest rates can threaten businesses, especially those reliant on debt financing for expansion. Fluctuating interest rates can increase borrowing costs and create uncertainty in financial planning. 

Additionally, businesses are impacted by the global market, as international supply chain disruptions can affect local operations. For Australian SMEs, global events such as economic instability in key markets can lead to unexpected challenges in their growth trajectory.

While economic growth presents opportunities, businesses must remain prepared for changes in the economic environment. Cash flow management is critical to thriving in any economy. Here, we’ll explore strategies businesses can use to maintain stability and grow sustainably, no matter the state of the economy.

The economy moves in cycles, and it’s important to ensure your business is prepared to thrive in each stage. Staying on top of finances, managing costs and long-term planning are all essential. 

“Cost management should always be a priority, no matter the stage of the economic cycle,” Jack says. “Businesses must consider the long-term return on investments and whether these costs will continue to deliver value in the future.

“Management should be constantly thinking about how they deploy capital into their business and what type of returns this capital is expected to make.” 

Technology can be a powerful tool to help businesses thrive in both strong and weak economic conditions. 

“Investing in technology can increase efficiency while lowering costs,” Jack says. “Whether it’s streamlining operations or automating repetitive tasks, technology can lead to cost savings and efficiency across various areas of the business, from sales to marketing to administration.”

During periods of growth, businesses often need to invest more in inventory, staff and equipment. If not managed properly, these expansions can strain cash flow. Octet’s working capital solutions are designed to smooth out these fluctuations by optimising accounts payable and receivable cycles. This ensures businesses have enough liquidity to invest in growth while avoiding cash flow crunches.

“Cash is king,” Jack says. “Paying close attention to your cash flow and working capital is important in all types of economies, even in a growing one. Managing how you pay suppliers and negotiate receivables terms can significantly improve your cash flow, allowing your business to expand sustainably.”

Economic growth has a multifaceted effect on businesses, offering opportunities for expansion and challenges related to costs, competition and financing. By focusing on strategic cash flow management and smart working capital solutions, businesses can navigate various economic conditions and continue to thrive.

Explore how Octet’s suite of working capital finance – Debtor Finance (also known as Invoice Finance), Trade Finance and a Term Loan – can help your business navigate economic growth cycles by getting in touch today.