The deadly impact of financialisation and foreign-isation on domestic manufacturing

Prof. Deepak Lal had a good piece in ‘Business Standard’ on how Finance has to be tamed to tame China. It echoes what I had written in Mint a while ago, in April 2018. [Unfortunately, neither the Federal Reserve Chairperson nor the American President have behaved according to the script I had mentioned in that piece. Oh, well]

The model was provided by the creation of China Mobile in 1997 by Goldman Sachs out of a poorly managed assortment of provincial post and telecom entities. Its initial public offering (IPO) raised $4.2 billion. There was no looking back. China’s oil companies, and insurance companies sold billions of dollars in shares in IPOs. “All of these companies were imagined up, created, and listed by American investment bankers”. By 2009, 44 of the firms in China’s National Team were on the Fortune Global 500 list. [Link]

The brief article that Deepak Lal mentions, written by Janos Kornai, is to be found here. It is an important read.

In the context of Professor Deepak Lal’s article, check out what John Dizard wrote in FT recently:

The real opposition to the financial war hawks comes not from Chinese officials but from corporate America and Wall Street. At any time there may be tens of millions of dollars that can be committed by a handful of US China short sellers, but JPMorgan, BlackRock, Goldman Sachs and their peers are on the long side. They are joined by Boeing, General Motors, semiconductor manufacturers and farm groups in lobbying to loosen or avoid official restrictions on Chinese companies’ access to US capital markets. [Link]

Wall Street’s yeoman contribution to a better world has not stopped with China. Private Equity has hollowed out American manufacturing and American corporations with ultimate consequences for workers, for creditors but not for the financiers. A well-written piece, brought to my attention by my co-author and good friend Gulzar Natarajan. The title makes no effort to hide the author’s inclination (‘Why private equity should not exist’).

One paragraph, in particular, caught my attention:

More fundamentally, private equity was about getting rid of the slack that American managers had to look out for the long-term, slack that allowed them to fund research and experiment with productive techniques. PE replaced slack with brutal debt schedules and massive upside for higher stock prices, and no downside for the owner-financiers should the company fail. The goal is to eliminate production in favor of scalable profitable things like brands, patents, and tax loopholes, because producers – engineers, artists, workers – are cost centers.

Production can also be eliminated by fissuring the workplace, such as the mass move to offshore production to lower cost countries in the 1980s onward. When I reported on the problem of financialization destroying our national security capacity, one of the manufacturers I talked to told me about how the “LBO boys” – or Leveraged Buy Out Boys – took apart factories in the midwest and shipped them to China. [Link]

The author of this piece, Matt Stoller, had linked to another article that he had written in June 2019 for ‘The American Conservative’. It is a co-authored piece and it is a long piece. But, even at the cost of brevity, this bears repetition: the long-arm of finance and foreign influence:

When Wall Street targeted the commercial industrial base in the 1990s, the same financial trends shifted the defense industry. Well before any of the more recent conflicts, financial pressure led to a change in focus for many in the defense industry—from technological engineering to balance sheet engineering. The result is that some of the biggest names in the industry have never created any defense product. Instead of innovating new technology to support our national security, they innovate new ways of creating monopolies to take advantage of it.

A good example is a company called TransDigm. While TransDigm presents itself as a designer and producer of aerospace products, it can more accurately be described as a designer of monopolies. TransDigm began as a private equity firm, a type of investment business, in 1993. Its mission, per its earnings call, is to give “private equity-like returns” to shareholders, returns that are much higher than the stock market or other standard investment vehicles.

It achieves these returns for its shareholders by buying up companies that are sole or single-source suppliers of obscure airplane parts that the government needs, and then increasing prices by as much as eight times the original amount. If the government balks at paying, TransDigm has no qualms daring the military to risk its mission and its crew by not buying the parts. The military, held hostage, often pays the ransom. TransDigm’s gross profit margins using this model to gouge the U.S. government are a robust 54.5 percent. To put that into perspective, Boeing and Lockheed’s profit margins are listed at 13.6 percent and 10.91 percent. In many ways, TransDigm is like the pharmaceutical company run by Martin Shkreli, which bought rare treatments and then price gouged those who could not do without the product. Earlier this year, TransDigm recently bought the remaining supplier of chaff and one of two suppliers of flares, products identified in the Defense Department’s supply chain fragility report.

TransDigm was caught manipulating the parts market by the Department of Defense Inspector General in 2006, again in 2008, and finally again this year. It is currently facing yet another investigation by the Government Accountability Office. 

Yet, Trandigm’s stock price thrives because Wall Street loves monopolies, regardless of who they are taking advantage of. Take this analysis from TheStreet from March 2019, published after the latest Inspector General report and directly citing many of the concerning facts from the report as pure positives for the investor:

The company is now the sole supplier for 80% of the end markets it serves. And 90% of the items in the supply chain are proprietary to TransDigm. In other words, the company is operating a monopoly for parts needed to operate aircraft that will typically be in service for 30 years…. Managers are uniquely motivated to increase shareholder value and they have an enviable record, with shares up 2,503% since 2009. 

Fleecing the Defense Department is big business. Its executive chairman W. Nicholas Howley, skewered by Democrats and Republicans alike in a May 2019 House Oversight hearing for making up to 4,000 percent excess profit on some parts and stealing from the American taxpayer, received total compensation of over $64 million in 2013, the fifth most among all CEOs, and over $13 million in 2018, making him one of the most highly compensated CEOs no one has ever heard of. Shortly after May’s hearing, the company agreed to voluntarily return $16 million in overcharges to the Pentagon, but the share price is at near record highs. [Link]

The authors issue warnings that should resonate with many concerned citizens in developing countries too:

Wall Street’s outsized control over defense contracting and industry means that every place a foreign adversary can insert itself into American financial institutions, it can insert itself into our defense industry.

In short, the financial industry, with its emphasis on short-term profit and monopoly, and its willingness to ignore national security for profit, has warped our very ability to defend ourselves.

Finally, let me close this blog post with a gadfly column from Bloomberg on easy money flowing into startups. I liked the title of the article. It says it all.

Now, if one were to trace the roots of this easy money flowing into startups, it has to be traced to the persistence of easy money policy which has now become quasi-permanent.

If easy money, super-normal profit growth, subdued wage growth, layoffs, exaggerated executive compensation and hollowed out production including in national security areas can be a feature of American economy and society, citizens of developing countries have a lot to worry about.

Status update on UDAY

Our estimates reveal that the financial and operational efficiency parameters envisaged in UDAY tripartite MoUs – between DISCOMs, the State Governments and the Ministry of Power, Government of India have not been met by many States. Using UDAY portal data, we find that the average AT&C (Aggre-gate Technical and Commercial) losses that should have been 15% for all the partic-ipating states by 2018-19, presently, on average, stand at 25.41%. Yet another financial indicator, ACS-ARR gap (the gap between Average Cost and Average Revenue) has also widened for many UDAY participating states. The power tariff revisions have also not been implemented in the States – due to political economy reasons – and the operational parameters in our analysis indicate widening inefficiencies across States in power infrastructure.

Source: UDAY Power Debt in Retrospect and Prospects: Analyzing the Efficiency Parameters by Amandeep Kauri & Lekha Chakraborty, WP No. 244, 22nd November 2018. [Link]

There should be a meeting of State CMs to discuss several issues that fall in their domain. This is clearly one of them.  AT&C losses and the gap betwen ACS and ARR are quite high for Punjab and Haryana. They deplete the weater table through cheap power, cultivate paddy and wheat and the stubble burning that follows leads to Delhi-ites gasping for breath and much worse stuff.

Looks like an all-party consensus in just these two States could do wonders for India’s agriculture sector, power and water problems and external image as well.

Silicon Sultans

In the last month or so, I had read these two pieces with great concern. One appeared in Bloomberg. That article dealt with the features like Siri that comes loaded with Apple phones and about Alexa that is a device that Amazon sells. The article detailed how both of them listen to conversations that no couple or parent or children would want outsiders to know about or sneak in on.

Then, the New York Times had a brilliant long article with great videos and graphics on how location services in phones and the apps. that they carry track us down everywhere. They are meant to help us find stuff or places we look for, near where we are. But, they do much more than that.

I had written about both of these in my blog post titled ‘Snoop to conquer’. Then came another article in Wall Street Journal on how one could easily list stuff picked up from the dumpsters and put them on the Amazon platform. They are allowed to be listed and sold. Good journalism.

Then, I read an article that appeared originally in January 2015 in ‘The Economist’ on the ‘Silicon sultans’ that inspired the title of this post. In that ‘The Economist’ briefing, this quote attributed to Eric Schimdt (co-founder of Google) shows that five years later, things have gotten worse and not better on the privacy front:

“We know where you are,” says Mr Schmidt. “We know where you’ve been. We can more or less know what you’re thinking about.” The EU is drafting a privacy directive, to come into effect in 2016, which could introduce strict rules about data collection. [Link]

Market concentration is becoming a social menace again. I doubt if there is any answer – no matter how imperfect it is – other than to break these monopolies up.

Independent Directors

More than six months ago, I wrote in my regular weekly column in Mint that independent directors were an endangered species. Looks like it was not an overstatement.

On Dec. 25, the ‘Business Standard’ carried a story on independent directors leaving in droves this year. Net of appointments, the exit was high at 282 in 2019. The article provides data for the last seven years including in 2019. This is the highest net exit rate for independent directors. In fact, in many years, it is the net entry rate that is positive.

The government has to be aware of this. Well-meaning rules and regulations requiring independent directors to exercise due diligence on the companies in whose Boards they are appointed might end up driving sincere independent directors out of Boards. Corporate governance will be the poorer for it.

That is why what R. Gopalakrishnan wants – good people on the Board – may become more difficult:

Real (You) + managerial experience + active listening + welcoming diverse viewpoints, and you get the job description for a wise director. It is demanding, but worthy as an aspiration.

Once again, a lesson in the law of unintended consequences for policymakers.

An inspiration to begin the new decade

MSS_Manohar

Plagued by arthritic pain and diabetic complications, MS would often complain bitterly to Sadasivam about her cruel fate. Sadasivam would then quietly tell her to think about Mahema and Manohar—and MS would quickly fall silent, and prayerful.

That was in recollection of a 1972 lorry-car collision that left Mahema, at thirty-three, paralyzed below the neck. In the hospital, as Manohar wrote in a book on their love affair, ‘her head was shaven, her scalp slit at two places above her ear lobes, and two holes drilled in her skull to suspend a traction weight’. She lost control over all bodily functions, faced the constant threat of infection and spasms, needed twenty-four-hour attention: somebody had to hold the glass to her lips when she wanted a drink of water.

Progressively, Manohar’s ability to help disappeared as he fought a prolonged battle of his own against retinitis pigmentosa, a degenerative condition that leads eventually to total blindness. When I met him in early 2002, he could not see me. He could not make out the front and back of a book, so he inscribed his book to me on the back flyleaf upside down. In the midst of such appalling tragedy, this couple sustained a cheerfulness and optimism and zest for life that astonished those who met them.

Dr S. S. Badrinath of Shankara Netralaya, Madras, gave Manohar a pair of specially made Australian glasses. They allowed him a narrow, if rather dim, beam of sight over a tiny dot of space if the paper was held close to his eyes. But he had to remove the glasses every other minute to let the moisture from the eyes evaporate. Putting on and taking off the glasses hundreds of times, taking the paper right up to his eyes for every stroke of the pen, seeing only three or four square millimetres at a time, he accomplished this portrait of his ‘MS Amma’ (see above). The labour of love was one more reason to be joyful about life. This man and his wife deserve every award there is for grit and courage.

Source: George, T. J. S.. M. S. Subbulakshmi: The Definitive Biography. Aleph Book Company. Kindle Edition.

Snoop to conquer

The following two articles should scare anyone using smart phones and want to stick to land lines.

One is about the Alexa and other smart devices that respond to voice commands by listening. Yes, they listen to stuff you don’t want them to listen to.

The other article is about location services that supposedly are the ones that make the apps and the phone smarter in ‘helping’ us find what we want, based on where we are. Well, the smarter ones are not the ones who hold the phone but who sell the services/devices to us. Check out this New York Times article.

Rana Foroohar offers the answer:

Only prohibiting the tracking and microtargeting of individuals will do that. I used to think such a prohibition was extreme. It may, at this stage, be impossible. But I’m also beginning to wonder whether it might be crucial, not only to restoring competition in the US, but to saving trust in liberal democracy throughout the world. [Link]

All this is leading to nice income and stock grants for employees of technology companies whose source of profits, income and wealth is our stupidity in relying far too much on smart phones and becoming addicted to it.

As if this was not enough, look at how Wall Street veterans looked the other way and showered Wework’s Adam Neumann with money.

It is just that we are the losers in the incestous game that the East and the West Coast cities of America play together and against us. The outcome is decided well in advance.

Pillars of financialisation

In my column for Mint on Tuesday (my last column for the year), I wrote that two important and promising developments – although small – have happened recently. One is that the International Monetary Fund has a serious rethink on capital controls and its usefulness. It used to look down upon capital controls. No longer, it seems. See here.

Then, there was the OECD draft proposal on taxation of international companies. One hopes that the developed world would adopt it. It would vastly discourage companies from doing ‘taxation shopping’. I had written on it in a column for Mint.

The pillar that is still holding up financialisation (asset bubbles, executive compensation, stock buybacks, etc.) is central bank policy. The recourse to Quantitative Easing and Negative interest rates without any shred of evidence that it has been beneficial, on balance, is what continues to fan social, political and economic imbalances. The major central banks continue to embrace QE/Negative interest rates without any audit or honest appraisal of the costs and benefits. See this article and the second chart embedded.

In that sense, it is good that Swedish Riksbank, thanks to public pressure is turning its back on negative interest rates.

If 2020 sees a rethink on the part of major central banks, if they return to normalcy, the world can avert a bigger replay of 2008. Or, is it already too late?