An Untamed Beast :: The Global Conglomerate

The HBO featurette, “Too Big To Fail” traces the path taken by the high and mighty of Wall Street and the US Financial system in the aftermath of Lehman’s collapse and the subsequent ‘nationalisation’ of mortgage lenders Fannie Mae and Freddie Mac. In its opening credits a clip of former US Federal Reserve Chairman Alan Greenspan saying that regulation for regulations’ sake would destroy the financial markets sets the tone for somber viewing.

Greenspan, along with US Treasury Secretary Lawrence Summers and SEC Chairman Arthur Levitt saw to it that risky financial derivative products and swaps were de-regulated and – according to some – laid the foundations for what was to be the great financial crisis of 2008.

While he may have had his critics; that the dismantling of the regulatory structures that Reagan started has resulted in some startling instances of corporate malfeasance and fraud is undeniable. From WorldCom & Enron and recently to Goldman Sachs and the AIG bailout point to a startling trend in High Street bailing out Wall Street. It is against this backdrop that the articles make for such interesting reading.

The Economist article “The Company that ruled the waves” is an interesting read because it talks about what will happen in the future; by analyzing what has happened in the past. The monolithic East India Company was the first truly global multinational organisation. It paved the way – in its own way – for much of what we take for granted in management practice.

Promotion on the basis of merit, frugality, and a dedicated management cadre – trained specifically for their jobs – are ideas that the conglomerates of today have just started to wake up to 150 years after they were espoused by the Company.

Offshoring – cotton grown in India and spun in Lancashire; a grouse of the early Swarajists – was a company innovation. As was its system of building ports and warehouses to conduct businesses where it went – a precursor to FDI today. Even in India, much of its profits were channeled into infrastructure that, although built for the British, nonetheless did aid in the integration of India in to a single country much later on.

It also was a trading organisation that created markets for tea, silk, spices and aided in a balance of payments surplus for Britain. It influenced policy decisions and lobbied. Its ability to work around troublesome rulers in India and bribe or lobby its way out of regulation in England, is perhaps the foremost proponents of the school of thought currently practiced by the likes of Nira Radia today.

The article is perhaps a bit gushing in its praise for an organisation that according to the British themselves was “bloodthirsty and inhumane”. However, to the authors credit he does succinctly put across the point that the reason for its success was its dual nature – merchants ran the show and the government backed it up. It correctly sums up many salient pros and cons of such an organisation – and more importantly the ploys used by it and its detractors to ultimately put it to rest. It paints a deft picture of a much maligned organisation – and tries to ask questions about why such organisations are coming back in fashion today. It is thought provoking and engenders some debate as to the future and viability of large public limited corporations.

This is also a theme mirrored in the another Economist article “The Endangered Public Company”. It talks about how listed public organisations – the greatest inventions of the 20th Century – no longer are thought of as the great money-making machines that they once were. The article lists the three main reasons for this; over-regulation, the demand for super-transparency and most importantly the rise in alternative ways of financing and organisational structuring.

While the article does tend to over simplify a hugely complicated issue, it does get its main premise right. The public limited corporation is gone. In its place private equity-led and sometimes government backed megaliths now bestride the earth like colossi.

The fault lies, not with our stars, but with ourselves”.

Over the last decade as globalization and privatisation have become catch-phrases to do business by, the world seems to have moved away from selling and on to profiteering. The article points out that owners and managers seldom have goals that are aligned. A far worse situation is that policy-makers and managers agree even less. Soaring corporate profits are a sure indication that there is a lack of competition in the industry. Competition leads to lean organisations and slimmer profits. While politicians want competition – which is good for the people and gets them the votes; managers root for monopolies and look for ways to get them past legislation. A knee-jerk reaction to this sneakiness usually is the sort of over-burdensome legislation that Greenspan was talking about.  To get around that legislation – which sometimes work against the company – the great public limited company is now threatened.

Another aspect of this standoff is the widening right between the rich and poor. Since the 1980s the tax rate for the richest Americans has reduced by 60%, while the cost of living has gone up. Unrestricted speculation and risky investments only make a bad situation worse.

A leaked CitiGroup memo [shown in the Michael Moore documentary “Capitalism: A love story”] warns that despite the US being a plutocracy – the “other 99%” still have one vote each. Each passing day brings uncertainty. Since all major investments are near-permanent; with rising uncertainty – the value of waiting for more information increases; and thus stops investments and growth. Hence the great IPOs of the past will probably not see an equal in future. Even Facebook wasn’t good enough.

The hard but sure way to get out of this mess would be fiscal reform and a monetary union. But the EU – which has tried it already – is an example of how a good thing may be spoilt. A monetary union without fiscal policy uniformity – if not hegemony – is useless. Globalisation too has not borne the fruit promised. It certainly did not make equitable wealth distribution a reality.

In the end Adam Smith’s invisible hand has failed. Collectivism would see us back to the days to Big Tobacco and Big Pharma. That too didn’t work. The state-owned organisations where government funds become productive in private hands and private equity is more responsibly used under state supervision seem to be the way out. But that will start a troublesome debate on what the modern world has come to.


Pax Americana : Who inherited the American Dream?

Written in July 2014, just before the US presidential polls. Romney(R) vs Obama(D)

Alexis de Toocquevile wrote, in “Democracy in America” that the country’s

“…greatness lies, not in being more enlightened than any other nation, but rather in her ability to repair her faults”.

While that may have been true for the decades gone by; those looking to the current US Presidential race for signs of leadership and redressal, would be sorely disappointed.

In an article A Big Beast to Tackle (The Economist, Jul 28th 2012), the correspondent bemoans this very fact; that the US elections of late have usually boiled down to a single issue. While the issue, no doubt, is complicated and cumbersome – to say the least – that an entire Presidential election should revolve around it alone is, in the opinion of this writer, perhaps a case of over simplification.

Given that most US election campaign are a continuous feedback loop of kneejerk reactions to other kneejerk reactions, the correspondent does a good job of linearising the chain of events and presenting entire economic beliefs of the opposing camps in succinct, sentence-length quotes. However the data at the centre of this issue belies an uncomfortable truth. Government spending in recent years has been due to the foreign wars the US is fighting and the social welfare support that it has had to shell out – both due to the retiring babyboomers and the Hank Paulson lead nationalisation of mortgage lenders. Private investment spending too is lagging behind the 1980s standards. The newly-elevated Paul Ryan – the Tea Party candidate for Vice President-ship – advocates for a leaner government; but as a conservative will not cut military and security spending. That means welfare, regulatory and development expenditures will face a cap. That is perhaps not something the population at large may want to countenance.

On the other side of the political spectrum, Barack Obama will find it harder and harder to pursue an expansionary monetary policy with the “looming fiscal cliff”. The increasing in regulatory oversight – needed, the Democrats assure us, because de-regulation is seen as the primary cause of the 2009 financial crisis – is also seen as a growing burden for America’s now disappearing middle-income families.

The article is well-researched and even better presented; with each opposing view point getting an even-handed chance to be heard. While the matter certainly is debated to the fullest length possible, there doesn’t seem to be a viable endgame in sight; or better yet, a workable solution. If the US economy has to recover, the correspondent argues, somewhere a balance will have to be made. The Republicans will have to live with a marginally higher tax-rate while the Democrats will have to swallow a cut in welfare expenditure. This then, may yet help the economy; but as the correspondent writing No Miracle Cure (The Economist, Aug 11th 2012) argues, that may be too little too late.

While annualised growth in the quarter, did see a slight jump in numbers; and more people did get hired, the fact still is that this recession and recovery is vexing economists. By all accounts comparisons, the economy grew much after previous downturns. As with all matters political – Ronald Regan is being made the benchmark. While a hesitant Obama argues that whatever little has been achieved, is due to his policies; Romney claims the administration’s short-sightedness is hampering a full boom. As always, studies and reports are being pulled out of hats to show any number of factors and causes – that both parties may claim to be in support of their claim.

But forgotten amidst the din of name-calling is the fact that the 1980s saw both a slew of big name bankruptcies and a deluge of government spending; game changers in economic policy. While Regan outspent Gorbachev in military hardware, the Volker-led Fed slashed interest rates to provide cheap capital and kick-start a recovery. Neither of these two options seem viable now – not the least because the Fed’s rates are near zero already. While the article does make a cogent point about why this recession has not seen a postrecession boom, it fails to drive it point home; replying more on on-the-surface data than an in-depth qualitative analysis. It also fails to show a policy-led solution. Both these articles then, are well-meaning but, fall short of providing meat.

While this may be because both are political pieces and use the election as a backdrop – they nonetheless do not propose anything; shopping just at collating the issues at hand.

“Gentlemen, we have run out of money, it’s time to start thinking” – Sir Ernest Rutherford

Since the 1980s – heydays of Reganomics – much of US economic policy has favoured short-term profits over long term investment. That has generally led to dismantling of the regulatory frameworks and the explosion of the financial services industry – the sole job of which is to aid and abet the speculation in complex financial products.

As if that were not enough; the top tax rate for all Americans was cut to about 23%. This exempted people from paying tax on capital gains, interest and dividend. Everywhere you looked people were diverting money from the safety of bank checking accounts to the financial markets. Financial intermediaries, eager to cash in, lent a helping hand; and very soon tens, even hundreds of millions of hard-earned savings were being channelled into speculative ventures – that had little or no interface with the real economy – the one with goods, services, assets and liabilities. Large corporations, which had analysts’ expectations to beat and ever increasing profits to post, soon realised that the cost of capital was increasing – as money was being sent to the financial markets – and that availability was falling as people used savings to buy derivates rather that dinnerware.

While much of this shift from real to financial economy was engineered – and to great perfection – another, perhaps intended, consequence was that all this speculation has made the domestic US economy heavily dependent on the Forex markets. This was done in two ways. Firstly, as domestic consumer spending came down, corporations made less profits and employed less people. To maintain profitability, they moved much of their operations abroad, to less expensive – read emerging – economies. This meant that all capital moving across borders would have to go through the foreign exchange market.

Also as more and more speculation was allowed, international denomination of derivatives and other products became the norm. Here too the foreign exchange market played its part – channelling the excess money to places it deemed worthy, by tweaking the demand and supply of particular currencies. Another consequence, though perhaps not as immediately apparent, was the indebtedness of the US government. As tax cuts pushed down the administration’s revenue collections, heavy wars and a somewhat unnecessary war footing (first the cold war and now the war on terror) and the welfare payments meant that outflows increased. This gap was financed using bonds – also denominated in US Dollars, but sold in all bourses worldwide.

Here too was the invisible hand of the forex markets. Emerging economies – where high quality goods and services may be procured for a fraction of the cost of developed nations – are equally under the same strain. Corporations looking to outsource manufacturing and development come with the condition that de-regulation and a freely denominated currency is a must for investment. The hapless and often poor and populous countries can do little but comply. Here, it may be interesting to note that all of the nations today deemed as “emerging” were not so long ago colonies of the very same nations called “developed”.

Many have posited that political independence was given on paper only while turning the “captive markets” (apologies for the unintended language) into shared markets. The USA, by the looks of things should be sitting pretty, but that is not true either. The rise of the financial sector has led to the rise of service jobs. Corporations, looking to squeeze another drop of bottom-line figures have sent all the jobs to low cost countries.

All this has led to a drop in the number of manufacturing jobs in the USA. Most middle income households over the last 30 years drew the salaries from manufacturing. The loss of that competitive advantage has left people with reduced salaries and the economy with fewer jobs. This is a double whammy. Not only does this leave the consumers with less spending power; but more crucially essential linkages in the business-to-business chain – the backbone of any strong economy – get broken.

Technological advances and innovation, both of which lead to higher capital expenditure, have been lost from the American lexicon. Without constant capital expenditure, no society maintains the conspicuous consumerism that had come to define the “American Dream” in the decades after 1980s. As, the gap between government revenue and expenditure widens, in the same way the gap between the rich and the poor continues to widen, leaving the “squeezed middle” to bear the brunt of taxation. Unfortunately, this means that a great deal of policy debate has to do with who should pay how much tax and if taxation should be progressive – that is based on the person’s ability to pay them.

While that is a good way to bring about social equality (and raise revenue) it nonetheless has taken the debate off base. Tax policy debate should be more about how to raise tax revenue effectively and cheaply. Then only should the debate go on to who pays how much. Conservatives (in the US at least) are so called because they want to conserve the Constitution. In speeches and across campaigns they have often mentioned the founding fathers of the nation – though never which exact founding father. If it was Alexander Hamilton – the first US Secretary of the Treasury – then he would probably be horrified at the situation. Hamilton was a proponent of what can only be described as a “national industrial policy”. That means higher taxes of industry and tighter controls. The Republican Party’s idea of low taxes, no regulation and small welfare spending would be anathema to Hamilton. The Democratic Party too has its problems. It wants to raise taxes, increase welfare spending, but corporate lobbyists dog it’s every move. And while the Walter Mittys derive solace from the EU’s troubles, the fact is that populist, not common sense rules the roost.

In the final analysis, the USA is still the dream of every graduate of every business school in the emerging world. It is still the destination of every person fleeing persecution or poverty from every corner of the globe.

Robert Kennedy once said,

“There is discrimination in this world and slavery and slaughter and starvation. Governments repress their people; millions are trapped in poverty while the nation grows rich and wealth is lavished on armaments everywhere. These are differing evils, but they are the common works of man. They reflect the imperfection of human justice, the inadequacy of human compassion, our lack of sensibility towards the suffering of our fellows. But we can perhaps remember — even if only for a time — that those who live with us are our brothers; that they share with us the same short moment of life; that they seek — as we do — nothing but the chance to live out their lives in purpose and happiness, winning what satisfaction and fulfillment they can”

No words before or since have captured the idea of America – The Free World better. However, much of that is being washed away by nit-picking on welfare. Mark Twain once said that an ounce of History is worth a pound of logic. It is a pity then that economists don’t study history and historians don’t study economists (and politicians study nothing but ballot papers and gallup polls).