A Critical Flaw in Theory

The FT ran an article this past week entitled "Welch condemns share price focus" decisively identifying a key component of capitalistic theory that underlies the core of the problems facing our financial system today.

We are coming to an end of an era when publicly listed companies and their corporate executives shift their attention from sustaining share prices to actually running a sound and solid business. The past few decades, especially, have proven that the Western approach to management has by and large been extensively focused on maintaining short term growth targeting share prices. Executives have had every incentive to base their business decisions directly on the day to day stock quotes. This has been proven to be a fallacy.

Jack Welch declared in an interview for the FT's series on the future of capitalism that "[the idea that shareholder value is a strategy] is a dumb idea." As the preeminent father-figure for the "shareholder value" movement, his words come as a telling sign of the end of an era fraught with mismanagement and corruption.

The purpose of operating a business in order to make profit depends upon focusing on long term, sustainable growth. Share prices are evaluative statistics used to measure success relative to competition and the rest of the market. Just like in any other performance-based activity, statistics are a distraction for the performers. The goal is continued, long-term success.

Things might be looking up for America after all.

Friedman and Bernanke?

A wise man once said:

"The economic miracle that has been the United States was not produced by socialized enterprises, by government-unon-industry cartels or by centralized economic planning. It was produced by private enterprises in a profit-and-loss system. And losses were at least as important in weeding out failures, as profits in fostering successes. Let government succor failures, and we shall be headed for stagnation and decline."

That man was Milton Friedman.

I sincerely doubt that he would be anything close to pleased at Mr. Ben Bernanke & Co.'s constant association between himself and their bailout policies. The media is equally to blame.

Capitalism's Curses

When the market is tested by scandals and crises, the clamorous voices of opposition and dissent are the loudest. People want a verdict - they want to be able to point their fingers at something and say, 'This is what is wrong, and this is what will be fixed.' They want a logical explanation that can be backed up by fact. Perhaps more acutely, they want to be able to speak to their peers about the subject with some degree of mutual understanding. Notice - some degree: there is no necessity for full understanding. Unfortunate that is, because the result has become a majority of the population in the United States that does not care for the intricacies of running a fully functioning political and financial system and are satisfied with plausible generalities.

To the main point: the flaws of capitalism. Perhaps more succinctly, the flaws of democratic capitalism. They are exacerbated now by the inherent greed of the powerholders. It is a known fact that those in power, want to stay in power. It is this exact trait of officeholding that democracy seeks to offset. If the same people stay in office for too long, they will inevitably tend to abuse that office. Loopholes will be found. Friendships will be upheld for favors. The balance of the system teeters.

Recently we are witnessing the balance teetering in the largest system on the planet. The voices of dissent are crying out for a reason. The powers-that-be have stepped in to level their scepters of conviction. The enemy has been named: capitalism.

... What?

Capitalism is what has given us this great system we tout as the accomplishment of our time. How is it the criminal? Why now do we have to shackle it? For what reason are we implementing regulation to contain its vitality?

For the wrong reasons, I tell you. Capitalism by its nature promotes the pursuit of individual wealth through hard work and dedication, through specialization and proficiency, and through soundly defeating the competition to emerge with the upper hand in a free market. However, the missing factor is not regulation. It is social awareness and social responsibility.

Lack of regulation does not cause companies to pollute in order to gain the upper hand. It does not cause individuals to undermine the positions of others to gain an advantage. It does not drive decision makers to sell products that are inherently flawed and poisonous to society as a whole.

What drives people to make these choices is a lack of understanding of the concept of "society". The corporate executives whose decision it is to allow a company to pursue an environmentally unfriendly strategy, or to destroy an ecosystem, or to sell dangerous products to customers knowing that the product is not as good as it's touted to be, he is acting without consideration for the good of society. The simple reason is that the world was too big for the effects of his products to affect him at all.

The world was too big.

As the pace of communication has quickened towards the instantaneous, and as the scope of international business has driven adverse effects to a global level, corporate decision makers are held more accountable for the effects of their products on society. When a corporation releases toxic waste into the ocean, that corporation now has to deal with the poor water quality that it ends up drinking. When a factory pumps CO2 into the air for years, that factory's owners and workers have to live with horrible air quality. In the past, the decision makers had the luxury of ignorance. Now that luxury is waxing.

As business continues to globalize the concept of "corporate responsibility", meaning responsibility of the corporation to create the most wealth for its shareholders, is becoming "corporate social responsibility". As this realization slowly dawns on the powers-that-be, capitalism will naturally adapt, not to a completely socialistic communistic system, but to cater to the good of society as a whole, and not only to the economic benefit of the shareholders.

Let's Talk about Big Government...

There has been a lot of yapping recently about the advent of "big government" in the United States as the Fed and Treasury wade into the financial system to try to sort out the mess that the greed of Wall Street has caused.

I've got news for you all: big government has been here for years. What we are seeing is not a beginning to an era of big government, but a ramping up to huge government. I'm referring to a trend that pundits across the world attempt to create debate over, but in reality is a very long term occurrence. When the term 'era' is used to define a trend, then what few people fail to realize is that 'era' encompasses a lengthy period of time - often longer than a single human lifetime. In our hyper-materialistic, hyper-present culture that has increasingly permeated Westernized society, people fail to realize the historical implications of big and small government.

Not since the British East India Company enjoyed domination over the entire Indian sub-continent were governments in such danger of become so completely marginalized. In the years following, as the Great Powers coalesced in Europe - England, France, Austria, Prussia and Russia - government began to wrest power back from the private sector. Prior to that, the driving force for international economic development was by far the corporation.

Today we find a similar trend emerging. Massive corporations are become ever more dominant over entire sectors of economies. Google, Microsoft, McDonalds, Nike - these are Western names that we all are familiar with and who have gigantic influence in politics and culture. In Asian economies, notably India and Japan, business culture fosters the development of corporate conglomerates; giant groups, often family controlled, owning an array of companies across sectors resulting in combined dominant market shares.

Since World War II, especially, government has been highly influential in international markets and economies. Where traditionally the idea of democratic government was a social structure providing the protection of man's basic rights, and little else, in the second half of the 20th century and early 21st century, governments have routinely flexed military muscle, tampered with economic markets and controlled financial flows around the world. By the factors of culture, geographical situation and a knack for politics the United States has emerged the victor of this clash, but not without its own share of blood on its hands.

Today, we might be seeing the last gasp in an era of big government.

Where World War II was undoubtedly the largest conflict of 'big government' in recorded history, the Cold War took the concept to the next level. From 1945 through 1991, world policy was set in Washington and Moscow. There was little accomplished without the consent of the leaders of the United States and NATO or the Soviet Union. Bush Sr.'s presidency was marked by conflict in the Middle East and increasing American dominance in the Middle East. The mid-90s and the Clinton presidency saw a small hint of the possibility of a decline in the strength of the American empire as the European Union accelerated its creation of a single market and single currency, and a notable effort led by the Americans was made to increase the role of the IMF, World Bank and UN, among other international institutions, in global politics.

This trend was violently reversed following the events of September 11th, decisively shifting power back into the hands of the Bush administration and opening a period of gigantic government. The United States pursued increasingly independent policies that erased all progress towards a united international community made in the '90s and served to sustain American sovereignty as a single world superpower. Although the Obama administration has ridden to power on a wave of rhetoric declaring a more passive international role, it continues to support 'big government' policy by maintaining the American military presence in Iraq and Afghanistan and insisting that Washington play a major role in restructuring the global financial system.

The continuation of big government rests on the success of Washington's attempts to fix the American financial system. With success, there will surely be popular approval of the government and a continuation of its dominance. With failure, there will be uncertainty and a powerful voice from the public denouncing government action and forcing a new debate about how best to regulate financial markets. Perhaps more frightening will be the government's reaction to this, particularly considering the growing buildup of military power across the globe. Will the republic utilize the military to quell revolt? How far will it impede the rights of man that this nation's Constitution laid out so clearly 300 years ago. How it plays out will be infinitely interesting. I wait with baited breath.

Why the U.S. Bailouts Won't Work...

... Yes, sorry, but the U.S. government bailouts are only serving to make the problem worse.

A friend related to me a brief analogy. It's summer and it's hot inside your house. Your air conditioning is broken so your next best alternative is to open the windows, but your windows in one room are stuck shut. The government proposes a solution to the problem: let's pay somebody to come and fix the problem, it will create jobs and stimulate the economy. The person comes and breaks your stuck windows, problem solved. Additionally, there are now jobs created for the window makers, who will make you new windows; the glassmakers, who will make new glass for the windows; the toolmakers, who make new tools for the glassmakers; and so on down the line.

BUT, what if you had hired a repairman yourself, who could have fixed your broken window without having to pay for the extraneous costs of cleaning up broken glass, disposing of glass, and then making a whole new additional window. This would still stimulate the economy, since the repairman gets paid the same amount you would pay the government's repairman, and that money in turn goes on to be reinvested on whatever the window repairman needs to live, etc.

Essentially the government is using taxpayer money to fund these bailouts. Money that we give to the federal governments is going into the pockets of people who the government deems competent enough to create necessary new jobs and stimulate the economy. However, this is a fallacy and directly contradicts free market ideology. Washingon has no special advantage when it comes to knowing how to allocate resources efficiently, and it doesn't. When it goes to create these new jobs and spread the bailout money across the economy, the rules being followed are not the rules of an efficient market, but those of the interest and opinions of politicians. Additionally, the taxpayer money that the government is doling out is going to the very people who created the problem in the first place. There is no recycling of human capital to motivate fresh talent with fresh ideas to take leadership responsibility.

History supports this argument. Japan recapitalized its banks in the early '90s and suffered a decade of stagnation and depression / recession (whatever you want to call it) that still plagues its economy today.

Media pundits continually claim that the Federal Reserve is following the prescription that has worked before during the Great Depression, but they fail to realize the fundamental difference between the current crisis we face and that of our ancestors. Then, the U.S. had a current account surplus - it was a net exporter. The economy was not based on debt or credit. Now, we are billions of dollars in debt with an immense current account deficit. This critical point is profound in its affect on the diagnosis and the prescribed antidote.

Please don't take this to be anti-patriotic or in scathing criticism. I am not by any means making claims to the incompetence of the American government in its inability to efficiently allocate capital. This is a fundamental aspect of free markets, though, that we are tampering with by attempting to force a return to confident spending. People may start spending again, but it will never be as efficient or effective in the long-term, and inevitably the market will correct to account for the inefficiencies that are created.

A Bit on Inflation

This article is about inflation. Yes, it's a dull economic concept, but it's critically important that you understand its significance in relation to the health of an economy. We know that if inflation is high, it is bad. If inflation is low, everything's OK. If inflation is negative, it's called deflation, which also seems to be bad. So it's good when price levels rise at a low rate. Right? Maybe.

Inflation is a flighty concept these days, and it's thrown around in the news media and general public as a number of decisive importance. In contemporary Keynesian economics textbooks, it's described as the process by which price levels increase. Technically, this is price inflation. In the United States, the main indicator of price levels is the Consumer Price Index. This was put together by the US Bureau of Labor Statistics in 1913, and has been released on a regular basis since. Naturally, for economists, such an index is a wonderful tool for measuring prices across a large economy.

However, inflation didn't always address a change in price levels. Many economists, particularly libertarians, define inflation as the change in the supply of money - that is, a change in the amount of money circulating in a system. This is a stable and controllable variable. It depends on the system of banking in practice at any given time, but in the case of our current fractional reserve banking system, the required reserves to capital ratio banks are mandated by law to hold in their vaults, the amount of money in the system is fully controllable and measurable. This is monetary inflation.

This definition is a far more useful indicator of both price levels and the strength of a currency. If the amount of money in an economy increases, then the rise of price levels is a direct effect. This correlation is based on the laws of supply and demand: when the supply of something increases, then its price or value decreases.

To draw a simple example: You are stranded on a desert island with ten other people. One person finds a pineapple tree, and he brings a pineapple back to the group, offering it to the highest bidder. In essence, he's constructed a basic market where there is a supply of one pineapple. One person in the group found two sand dollars, which he offers in exchange. The monetary supply consists of two sand dollars, and the price of the pineapple is two sand dollars. You come back with ten sand dollars, which you found in your wanderings, just as this transaction is closing. You offer four sand dollars. The money supply has increased to twelve units, while the price of pineapples has increased by two units to four sand dollars per unit. You just witnessed basic inflation.

When people have more money to spend, they can demand higher prices and so they will. When there is more money in the system, the goods in demand will experience an increase in price. Of course, in a fully functional national economy, there are far more factors than sand dollars and pineapples. An economist needs to take into account supplies, demands and factors of land, labor and resources. This creates a far more complex scenario, but the fundamentals remain the same.

To tie this into real life: today's United States government plans to inject about $11 trillion into the national economy in the space of less than two years. Many of this is unaccounted for at the corporate level and is distributed far from evenly. Regardless, when it trickles down through spending, consumption, investment and reinvestment, it eventually will be factored in by the various indices that the U.S. government and other organizations use to measure money supply, inflation and similar statistics. Nevertheless, the fundamental change in the amount of money in the system is the same. There is more money, so prices are higher. The result: inflation.

Unfortunately, the US government is looking the wrong direction. Accepted economic theory posits that when prices increase, inflation occurs, so they are looking at prices, perhaps not entirely aware of the fact that when the Fed and Treasury release hundreds of billions of dollars into the system, there will be a negative effect on inflation. To make matters worse, the way the CPI currently works, it does not account for food and energy - two of the most liquid and measurable indicators of inflation. Essentially, the CPI is used to measure inflation, but it doesn't actually incorporate two of the most prominent inflation indicators.

This approach is horribly flawed. It's resulting in a misdiagnosis of the problem, and a potentially disastrous prescription of a viable antidote.

The Solution to Terror

In seeking to prevent the continued spread of instability that breeds terrorism, the United States has, in the past three decades, promoted a strategy of military occupation and forceful alteration of markets and governments towards democratic capitalism. This kind of mentality is the crux of the problem. When the approach to finding a solution is: attack and change the perpetrator of discord, we will inevitably continue to find failure. As the saying goes "you cannot fight fire with fire". Technically, you can - see the US government in Iraq and Afghanistan. But it will never find lasting success. The heat of conflict will forever fuel dens of angry discontent to breed new conflict.

Islamic fundamentalist terrorism exists because a significant portion of the population of our planet strongly resents the status quo, led by the Americans, to the point where the logical solution for them becomes violent protest. In a civilization such as ours it is impractical and outrageous to believe that a group of people could act on the basis of irrationality. There must be a realization in Washington that terrorists act with logic. It is cold logic, bred from the frustrations of helplessness, and the anger of neglect. It is a brutal logic, tempered by a belief that violence is the only cry for help and the only means for a voice to be heard.

As long as there is subjugation of other cultures and disrespect promoting unfair play, as long as Western corporations exercise a power advantage by leveraging the Western judicial system and their financial and economic strength to muscle competition, there will be fear, hatred and, at times, violent protest. It is an unavoidable affect of the frustration built by broken promises and unaided poverty. It is a direct result of a careless and wanton approach to American foreign policy that features intense favoritism and domination of resources, often leaving large swathes of people completely unaccounted.

I have written before that an ideology is a hydra, you cannot kill an it by cutting off its heads. The ideology of anti-Americanism cannot be cured by further promotion of American imperialism by defending it using military force. In order to end terrorism we must address the ideology of the terrorists. This is not giving in! This is not giving them what they want. This is finding a cure to their hatred, frustration and anger to prevent further violence. This is addressing their needs to relieve helplessness and neglect.

What is needed is to bring countries harboring terrorists out of poverty and provide them with aide and assistance to foster strong markets and sound governments. This will remove the core reason for their cause, effectively end cash flows to terrorism from sympathetic donors and undermine the very reason that terrorists exist: as an outlet for oppression.

Until this new approach is practiced, there will forever be neglected peoples harboring hives of anger. And while this reality is allowed to persist there will continue to be instability on this planet.

The Roots of Crisis: Examining Financial Catastrophe

The financial crisis! It's all the news right now. You can hardly pick up a single newspaper or magazine, let alone turn on the TV, without mention of some form of fallout and the economic woes of the global economy. It is important to make the distinction however, between the poor financial footing on which many banks and governments find themselves and the economic woes that currently inflict states around the globe.

Perhaps most importantly, the culprits must be recognized.

First, Wall Street's culture of self-interest, greed and deceit must be recognized. Since the beginning of the latest boom, which included the technology, real estate and credit bubbles, the culture of the American financial sector has encouraged debt spending, overleveraging, negligence, greed, and excess. There is a vast conceptual and ideological differnece between greed and profit-making. Most pointedly, one caters to the extreme short term. There has been little attempt made in the firms that have become the biggest culprits for the failures of this generation to invest into sustainable business models for the long term. Instead, cases continue to arise where individuals in decision-making positions made poor short-term oriented decisions that inevitably led to disaster.

Second, a lack of regulation on the part of the SEC, the CFTC, and the United States government as a whole allowed Wall Street free rein of the financial markets, with little punishment for gross negligence and a legal system that was applied almost arbitrarily, depending often on personal connection and government preference. For instance Lehmen Brothers and Bear Sterns were allowed to fail, while Bank of America was allowed to buy Merrill Lynch, and Morgan Stanley and Goldman Sachs were permitted to become bank holding companies. But what does that mean? Certainly it does not mean that the investment banking business is dead, nor does it mean that these companies will in some way be hamstrung in their business models going forward. Sadly, the mass public fails to understand the implications of the health of the financial system on the rest of the economy as a whole.

Third, gross negligence by both the people of the United States of America and investors in failing to demand proper accountability by their elected representatives, by their elected corporate officials in the case of publically held companies, and by the very information they were depending on in order to determine the credibility of investments. Without the proper experience, information and knowledge, public investors were left at the mercy of information that was opinionated, misleading and often twisted by greed and ignorance.

Finally, I must mention the inherent nature of fractional-reserve banking coupled with a central banking system that relies upon active monetary policy to ensure economic stability. This is not a flaw so much as it is a function of an ideological choice accepted by this generation of economists and lawmakers. Markets operating under these institutions are prone to bubbles, booms and busts, and encourage contagion and stampeding in the markets. Coupled with a culture of increasing greed, negligence and self-interest, the recipe for a corruption of the roots of the financial system becomes complete. This debate alone is lengthly and complex, and will be examined in a later piece.

There is nothing wrong with free markets. A vast amount of empirical analysis conducted over the past half century, as markets have opened following World War II, shows that scaling back regulatory systems directly results in an increase in trade, investment and growth. However, what is missing in these analyses is the implementation of Westernized regulatory systems and the inherent nature of a Western market system. Although its democratic-capitalistic model involves lower amounts of regulation relative to the ex-Soviet states, it also requires a key aspect that an unregulated market lacks: the rule of law. This must be present in order to ensures a system of incentives and punishments, which in turn assure that market participants play fairly and by the rules, even if the rules are not actually enacted by exacting legislation.

A misdiagnosis must be avoided in order for this crisis to be put firmly behind us. This is not a case of a failure of globalization or a product of markets that are too free. The "credit crisis" of 2008 is the epitome of a culture of a greed and excess, poor regulation and accountability, informational opacity, and an overall lack of willingness to act responsibly and honorably. To assume or operate otherwise would be to cripple the very markets which have provided the vast majority of the world's population to enjoy a standard of living that is unheralded in history.

Compassion: A Solution to the Hydras of Ideology

In Gaza we see the epitome of the faults in this era of global conflict. The solution heralded by the world’s leading state, the United States of America, and thus emulated by governments around the planet, is one of brute force and military superiority. Kill those who make the decisions and the ideologies they support will flounder and fail.

This reasoning could not be farther from the truth. Time and time again we have seen this logic utterly fail. In Somalia, a campaign was waged in the mid-90s in the capital, Mogadishu, to oust a Warlord in an attempt to democratize the country. The country is in worse condition today. In Afghanistan, we search ceaselessly for Osama bin Laden in an attempt to cut off the head of the serpent of al-Qaida and extremist Islam groups. Hamas and Hezbollah come to power in Palestine and Lebanon. In Iraq, the U.S. produces the head of Hussein to bring peace to a potentially nuclear state. The country becomes mired in civil war, a victim of widespread sectarian violence.

The answer is not war. An infinite amount of death and destruction will never kill an idea. Like a hydra regrowing its heads, other men can rise to fill an ideological power vacuum, spouting the same rhetoric. Most likely they will be even more incensed towards violence and willing to take further extremist measures to find justice for their followers, their predecessors and their ideas.

The answer is acceptance and respect.

One may not jump to this conclusion when faced with a terrorist with a bomb strapped to his chest. Should we respect this man? Let him into our house and home, give him bread and water? Maybe not. But the terrorist is a product of continued neglect and abuse of any ideology or people.

Al-Qaida would never have risen to power if several prerequisites had never been fulfilled. First, if Afghanistan had not been neglected by the West following its heroic stand against Soviet invasion late in the Cold War, it would not have emerged scarred and feeling utterly used as a tool for the supremacy of Westernized democratic capitalism over Soviet communism. Second, if Iran and Iraq had been given anywhere near the sort of financial assistance shown to Israel through the closing decades of the twenty-first century, the Islam world would not have felt the squeeze of poverty and neglect that turned it towards Islamic fundamentalism. Finally, if the United States had not incessantly favoured Israel on an agenda that directly so clearly screamed of preferential imperialism, it would not have been the beacon of hatred for the frustration of the impoverished Islamic community.

This all could have been solved by an equal distribution of well-intentioned aid, of respect and acceptance. In an increasingly crowded world, acceptance and compassion is becoming a crucial ingredient for global stability and, perhaps more importantly, humanity’s survival. A third global conflict could realistically set our civilization back millennia. If we can avoid that with simple compassion, it would be a shame if the ignorant and selfish agenda perpetuated by this generation of American leaders continued.

Gaza: A Lack of Willpower

Sickening.


The first word that comes to mind when I continue to hear news concerning the debacle unfolding in the Gaza Strip. The seeds of a global war are being sown in the Levant in the opening days of this New Year. By and large the public is powerless to stop it. Across the world calls have been made by protestors, media, public figures, and governments, but the parties responsible for what many consider to be crimes against humanity refuse to cease fire. The powers that be refuse to stand up to them.


The United Nations is crippled by the American veto. The United States Congress is hypnotized by the rhetoric and reasons of the Israeli lobby. Nobody else dares to step into the vacuum and bear the burden of geopolitical responsibility. Meanwhile, the weeds of hatred grow and strangle the voices of judgment and justice across the world. If this conflict is allowed to continue to play out in the status quo, if Israel is allowed to continue to irresponsibly undermine world peace, outrageously abandon human rights, and egregiously abuse its military superiority in the region, then extremists will once again take matters into their own hands and terror will reign.


Israel has taken advantage of the plight of the Jews and the sympathy of the West for far too long. The world’s patience is growing thin, and the game of finger pointing wherein any accuser of Israeli belligerence is immediately labeled an anti-Semite and marginalized will end abruptly in a shower of blood and fire. Even Israeli domestic media is crying for an end to the conflict. The internet, perhaps the only means for an increasingly marginalized global population to express itself, is ablaze with content. Videos of Israeli news anchors receiving telephone calls from friends in Gaza under fire, slideshows drawing frighteningly vivid parallels between the occupation of Gaza and Nazi Germany, photo albums of UN missions in ruins, slain children, and their distraught mothers screaming in emotional agony.


The world knows, but there is no action.


This is indeed a summary of the disease of this generation of political leaders: a lack of willpower to do what is necessary.


The Israeli war machine must be leashed.


If the United Nations, led by the United States, does not fill the void, there is no doubt that some other less responsible, less moral, more careless actor will step forward. The Middle East is awash with Islamic fundamentalists, religious extremists who are not afraid to do what is necessary and will go so far as to sacrifice their lives.


The all-too-recent memory of September 11th is evidence enough to this. Decades of American meddling in the Middle East culminated in a single act of frustration and anger. Unfortunately, America’s ruling elite seem not to have received the correct message. Unfortunately, the world’s sheriff, tattered and smeared after eight years of costly mistakes, seems content to stand aside and let this rancorous beast of inhumanity run free in Gaza.