| Jon Ralls is a freelance economist and journalist. He studied
Economics at Cambridge University and Information Science at City University,
London. His experience includes several years as a research consultant in
international investment management with InterSec Research Corp. Here he
challenges mainstream assumptions on globalisation, and talks to three key
figures within the global fund management industry to glimpse attitudes and
strategies for growth and survival.
(INTERNATIONAL FUND STRATEGIES, June
Professor Paul Kennedy of Yale University believes that "humankind prospers from the creation of a level global economic playing field, and many societies also prosper, but there is a downside ... that individuals, companies and other societies do not ... If the pace of change and intensity of the challenge is too severe, the number of those unable to compete might, in certain parts of the world, be dangerously large and lead to a political and ideological backlash." (2)
There can be no doubt that globalisation and free trade have become more than an observed trend. In the financial sector, by its nature more susceptible than most to fads and fashions, they have become part of a creed - both cause and effect of many of the most dramatic changes we have ever seen in shape of the world economy. The transition may be painful, so the argument goes but, in the long run, it is freedom of competition that will stimulate economic activity, increase wealth and thereby make us all better off.
The financial sector, and the investment management industry as owners, or at least trustees of much of the world's productive capital, play a pivotal role in striving for this Utopia. But what is happening in the fund management industry? What are the causes and effects of its globalisation and is it desirable or, indeed, inevitable? Could it be that the pain of transition might far outweigh the theoretical benefits? As economist John Maynard Keynes famously said: "In the long run we are all dead." Could the theory itself be flawed? An increasing number of economists, politicians and industry figures are beginning to voice reservations.
First it is helpful to look briefly at the theoretical basis of free trade and the philosophy of "corporate libertarianism" that underlies mainstream political and economic thinking. A great many economists believe that the root of free trade theory is David Ricardo's 'Theory of Comparative Advantage'. Formulated in the early nineteenth century, the 'problem' at the time was 'management' of real trade in goods and commodities in such a way as to protect domestic industry from the comparative advantage enjoyed by low-wage countries.
In Ricardo's model, two key money variables could help to bring about a price equilibrium - wage levels and exchange rates. Provided real trade far exceeds the movement of money as a commodity, a country with higher wages running a trade deficit would simply see its currency devalued until a trade balance was restored. The result: short term inflation but medium-term equilibrium. The beneficial effects of real trade can still be enjoyed, but exchange rates ensure that a difference in wage levels between countries determines what they can afford to buy from abroad, not whether they can afford to consume anything at all!
Ricardo fundamentally assumed capital mobility within not between countries and therefore, by implication, that labour will be employed within the country in which the capital is generated and domiciled. Introduce cross-border movement of capital, and the mutual benefits of trade are lost; once international capital flows dwarf real trade in goods and services, exchange rates no longer adjust for wage differentials. To the choice between producing at home or importing from a foreign country, a third option is added - to produce overseas for the home market.
- David Korten
This is clearly enormously beneficial to a corporation's bottom line - it can locate wherever their costs are lowest, no matter where the final market. But if companies can move facilities around the world to places where their costs are lowest, the theory of comparative advantage is replaced by that of downward levelling - what U.S. economist David Korten (3) calls a 'race to the bottom'. Countries and regions are forced to compete by shouldering the infrastructural, social and environmental costs in order to attract foreign investment, by allowing companies to 'externalise' these costs. Since the pricing mechanism, on which efficient markets depend, is skewed by excluding an ever-increasing proportion of the true cost of production, the globalisation is priming a social, demographic and ecological time-bomb.
Korten rejects the idea of "trickle-down" which implies that the benefits will ultimately be enjoyed by all. The past few years have seen a steady increase in concentration of corporate control, income and wealth world-wide. While some get better off, a great many are very much worse off, not only in terms of money income, but also in terms of loss of self-sufficiency and social wage.
Two surprising establishment figures are on record advocating a radical shift in trade policy. John Gray, former Thatcherite economic guru, has come out in favour of regional trading blocks instead of global free trade. Sir James Goldsmith is most visible in the UK for his 'Referendum Party', a political party devoted to forcing a referendum on European integration, and in France for his party 'L'Autre Europe'. His views on trade, dismissed by politicians and business peers alike as 'maverick' and 'dangerous', are deep-rooted and carefully thought out - whatever your opinion of his political ambitions, Goldsmith is no fool and has no cause to make enemies to no purpose.
In 1995 he argued that "GATT ... and the theories on which it is based, is flawed. If it is implemented, it will impoverish and destabilise the industrialised world while at the same time cruelly ravaging the Third World." He believes that "Regions should not simply open their markets to any and every product regardless of whether it benefits their economies, destroys their employment or destabilises their societies."(1)
- Sir James Goldsmith
His prescription is free trade within regions, supplemented by bilateral agreements between them, while preserving free movement of capital. However radical such a view may sound, it still does not address the fundamental theoretical problem. As long as ideas are traded and backed up by a huge imbalance of freely mobile wealth between regions, the processes rather emotively referred to as "economic, cultural and ecological imperialism" will continue - the very processes driving the social and political backlash against globalisation.
Without global free trade, even the transfer of "best practice", trumpeted by leading management consultants, loses its shine - acceptance of diversity of regional or national economies implies that what may be best practice in one system may be totally inappropriate in another. The social and political imperative to deal with the enormous costs of global free trade will hit capital movements as perceptions change about the true benefit of foreign investment.
Furthermore, without free trade, the supposed justification for free movement of capital is kicked from under the market - the bulk of international capital flows is already speculative, and (as explained above) destabilises mutually beneficial trade by preventing exchange rates from reflecting processes in the real economy. A system of regional trading blocs simply could not function in this environment. Add to this the negative effects on income distribution and extractive effects of profit repatriation on local growth multipliers and free capital movement would negate the benefits of the removal of free trade.
Neville Bowen at Citibank (see interview following) makes one point abundantly clear when he says "We have one fiduciary responsibility and that is to our clients." The present structure of global markets forces managers to take this view and to pursue it as a short term goal. An investment management company which takes account of, for example, longer term social issues in emerging markets to the detriment of short term performance is likely to find itself with no clients after a couple of quarters.
The global movement of capital under the banner of diversification is also self-sustaining. Risks become international as companies do - hence need to spread risk by global investment. As economies cease to be broadly self-sufficient units trading on mutually beneficial terms, sovereign and currency risk become as significant as stock risk and international investment is unavoidable in the global search for added value. Calls for better regulation of international capital markets are almost exclusively aimed at facilitating this process, whether by simplifying the rules in mature markets or by improving confidence and liquidity in emerging markets.
The inevitable result is that only those companies with global reach can survive. The only way to take advantage of incremental value-added before somebody else does is to operate a massive global intelligence operation, both via telecommunications and presence on the ground. This is as true on a day-to-day and month-to-month level in investment management as it is minute-by-minute in currency trading. Hence the increasing concentration in the industry as only those large enough to maintain such networks can compete.
Other key trends in the industry can be traced directly to this race for size and market share. The sheer scale of operations of the large investment houses reinforces the growing importance of distribution, brand strength and moves towards direct marketing. With mergers come 'synergies' and 'economies of scale' and the financial services industry is not immune to the competitive cost-cutting discussed earlier. However, Stephen Roach, J P Morgan's guru of 'downsizing' has recently recanted, admitting that "maybe I went too far" and realising that companies suffer if they create a climate of fear and insecurity. Given that investment management relies so heavily on the calibre of staff, the exodus caused by some post-merger 'rationalisations' have illustrated this graphically.
Senior figures in three globalising investment houses have given International Fund Strategies their views on globalisation and how their companies are addressing the issues. We also discussed some of the more provocative suggestions in this analysis:
The Interviews: print copy includes interviews with:
In the programme of work on 'sustainable development' internationally, industrialists are on the inside and it is the financiers that are hovering. Only when they come in can the process really start
- Ed Mayo
Our senior industry figures have given very clear and interesting pictures of how to handle the survival imperative imposed by globalisation. They are very much aware of the local dimension, but the local dimension for the successful -these are the investors and investees of the business. Those participating in the globalising economy, be they corporations, entrepreneurs or governments, seem to be increasingly out of touch with the mood of wider populations and the consequences visited upon them - ex-President Marcos will testify to the dangers of that!
Even if we reject any notion of wider corporate responsibility per se, there are still compelling reasons for global corporations to question the direction in which current trends are taking us. Strategic decision-makers are charged with ensuring the longer-term profitability, indeed, continued existence of the company. If the pursuit of short term profit for shareholders results in irreversible ecological damage and catastrophic social and political upheaval, this is no more in the interests of the corporations themselves than it is in the interests of the peoples concerned.
Many people genuinely believe that globalisation is helping to make everyone better off , but the figures do not bear this out (see chart) - the trend towards a widening of the gap between rich and poor, combined with population growth, means an ever larger number of people living in absolute poverty. Even the economic growth we strive for is one-sided, and largely a function of our unit of measurement. Who is really better off, a subsistence farmer making a tolerable living outside the cash economy, or an urban slum-dweller earning a few rupees from the odd day of hard-won and dangerous casual labour?
The example of the "Tiger" economies falls on numerous counts. Besides the political repression, appalling environmental cost and ruthless market-rigging, an extrapolation of their experience is ludicrous. Purely in terms of resources and the environmental sink capacity for pollution, the idea that China and India could follow suit is patently absurd and, in any case, the employment effects on industrialised nations of such an acceleration in the "race to the bottom" do not bear thinking about. And where are the prosperous markets in which to repeat the Tigers' export-led boom on an unimaginably greater scale?
Countries and people are exhorted to become more flexible (read: less secure) and more competitive (read: reduce wages and social expenditure). Meanwhile, corporations are subsidised, either directly or in terms of infrastructure and tax breaks, a growing distortion of the pricing mechanism which cannot lead to efficient resource allocation. Whether these changes are a long term trend or a painful transition on the road to Utopia, are they a price we want to pay for growth in the nominal size of the money economy?
These are issues for the financial sector and for our industry in particular, which is so powerful in global resource allocation. We may see a growing industry in terms of funds under management, but it is growing smaller in terms of numbers of companies and people, and can only serve those moving up the income scale.
We may therefore see a growing internationalisation of client base and investment strategies, but if we are replacing divisions between countries with divisions within them, where is the long-term stability on which not only investment returns but the current world order depends. The resurgence of support for the Communists in Russia, "Buchananism" in the U.S., Jean-Marie Le Pen in France, anti-GATT riots in India - these are not isolated national problems but part of a growing dissatisfaction with a global system that is failing to deliver. Failing to take account of this will ultimately kill the goose that lays the golden eggs.
Long term strategies must include more than the global search for added value at finer margins on shorter time-scales. Broader issues cannot be boxed up as "ethical" or "social" investment funds and then ignored by the rest of the industry. As with globalisation, the surviving companies will not be those who command the tide to retreat as it washes around their feet - they will be those companies and individuals who recognise the benefits and opportunities created by a whole new way of doing business and enthusiastically participate.
Professor Kennedy is right that the pain is here and now and dangerous. He is wrong when he bemoans the lack of any framework for solutions. There is a huge body of "new economics" and the NGO's are increasingly setting the agenda at relevant international summits. Ed Mayo, Director of the London-based New Economics Foundation, has watched the change in attitudes over the last 25 years and the message is clear:
"At the first U.N. summit on the environment in 1972, the international institutions NGOs were working inside the rooms and the politicians were hovering in the corridors. At the Earth Summit, 20 yrs on, the politicians were inside and the industrialists were hovering. Now, in the follow-up programme of work on sustainable development internationally, industrialists are on the inside and it is the financiers that are hovering. Only when they come in can the process really start."
Jon Ralls, May 1996
(c) 1996, Centaur Communications Ltd
Jon Ralls and "International Fund Strategies" are grateful to the three individuals who kindly agreed to be interviewed for this feature, and to the many others who contributed ideas and contacts. There is not space to list all research sources, but those quoted from are listed above. Comments or requests for further information are welcome by email.
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