GLOBAL ECONOMIC TURNAROUND

 

 

MACRO-ECONOMIC ASSESSMENT & STRATEGIES
(January 2012) 

 

JAMES F. REID B.A., M.B.A.
( jimreidcanada@gmail.com )

I. Macro-Economic Summary

II. Five Power Sectors

III. Avoiding the Bloodbath

IV. Conclusion

 

 

I. Macro-Economic Summary

Demand by 7 billion people for a middle class lifestyle will not change. Thus the global economic turnaround will depend upon the creation of a “New Economy” founded upon the restructuring of global financial funding systems and the adoption of new perspectives and values by five key sectors:

 

The financial needs of each sector used to be primarily dependent upon national economies, but this has now evolved into a global financial inter-dependency. International bi-lateral and multi-national treaties created a hodgepodge of jurisdictions where accountabilities became obscured. In many ways these five sectors actually became somewhat isolated from one another.

 This loosely controlled financial environment led to massive abuses, improvident risk taking and a transition from tangible assets to future earnings as the actual criteria for collateralizing a large portion of global debts. This meant that finances that drove economies, became based upon wishful expectations instead of tangible assets.

 The resultant leverage finally began to implode in 2007. As the true numbers began to flood in, it became obvious that the world could not accelerate monetary flows any faster, as substantial debts were locked into the short-term money markets. In fact, most countries were already bankrupt and their citizens lost sizeable portions of their property equity, especially in the USA.

Actual bankrupting of the existing global financial system is not an option. This would cause enormous social revolt around the world and be accompanied by government overthrows and millions of deaths.  However, this can be completely avoidable through a return to the responsible values and integrity that grew the global economy to its’ present size.

In fact, Central Banks have acquired control over private lenders since the financial disasters that plagued countries in the 1800’s and early 1900’s. Mechanisms are in place to meet the monetary demands of the present liquidity crisis.

Like most systems, the components of a global financial turnaround are not complicated. World trade will pick up once the USA, China and the EEC stabilize comparative values for their currencies. Central Banks need only provide sufficient liquidity to enable bad debts to be absorbed. Also, governments need to adjust their fiscal policies to eliminate deficits.

 However, the complicated issue will be to materially change human behaviours. New financial regulations and controls must be applied and enforced on trans-national government and private organizations. Nations need to balance the costs and revenues of their socialist and capitalist values and programmes. Innovative enterprises need to be encouraged to restore competitiveness in markets and industries. And finally, Banks and credit card companies must adopt prudent lending and credit guidelines aimed at consumers improving their family balance sheets.

The following document summarizes the macro-strategies needed within the five sectors to effect a global financial and economic turnaround.

Five Power Sectors

Our global financial and economic crises will not improve until the five major power groups modify their strategies for growth and thus begin to accommodate each other’s survival. Each group comprises vast networks of influential people with similar sets of values, agendas and priorities, but each group’s values, agendas and priorities are different.  Within each, there may also be a few small influential networks of narcissist players that don’t really care about the common interests of everyone else in their group.

 

At the top of the five groups is the “Funding Sector” comprised of the networks of major players in the financial markets: Hedge Funds, Sovereign Funds, Monoline Trusts, Investment Bankers, Rating Agencies, Stock Markets, Pension Funds, Banks, etc.  These are the ones who have inadequate capital left on which to rebuild the global economy.

They are doing their best to accumulate enough liquidity to be able to acquire discounted quality assets from other banks and governments. Unfortunately, their values and strategies appear to be solely focussed on their agenda of maximizing commissions and fees as hopefully the “others” book their losses. They are trying to gain strength by enabling others to take their losses.

It appears that most members of this sector have begun to introduce greater internal controls and better risk management policies and procedures. However, the nature of their revenue generation methods still rewards successful gamblers.

Also, since a great deal of their enterprise involves trans-national transactions, governments are limited in their ability to regulate these organizations or to reduce excessive profiteering. Similarly, government funding to protect the largest organizations from collapse will lead to less competition and even greater global vulnerability. The bottom line is that a significant portion of this group is currently technically bankrupt, (see Bankruptcy Options below)

It will likely take restrictive multi-governmental regulations concerning reporting transparency, risk management and leverage to create a more stable environment in which the funding sector operates. In Europe and North America many new regulations have been put in place, but already key players are bypassing the intentions of the regulations. Many banks will not lend to each other and the funds they received to improve their liquidity are being withheld from the business sector. Without effective changes, this sector will continue to inflate risk and cause major financial collapses.

 

Facing off against the Funding Sector are the “Central Banks and Political Leaders” of the USA, Germany, Britain and China whose currencies establish the stakes in the global game.  The reason these two must be paired is because it’s the Politicians who control the charters of the Central Banks.

The central bankers bridge the financial players with the politicians who report back to their constituents, (the masses). In democracies the political leaders’ values must reflect the values of the masses if they are to survive. Unfortunately, the governments they supposedly manage have contracted debts so large that the best most can do is maintain interest payments. The politicians are encouraging the Central Banks to help increase the capitalization of their private and public banks via extremely low interest loans. In return, the banks are buying government bonds to finance deficit fiscal policies.

The American GAO, General Accounting Office, found that the USA Federal Reserve issued $16 Trillion, (see below), in low interest money during a recent 32 month period. These cheap funds enabled the six largest Banks to increase their assets by 39% during the last five years.

Note:
Central Banks are created as independent, standalone corporations by governments with the authority to create and manage a country’s currency. They buy Bank Bonds, which are a promise to pay a specific amount of a national currency plus interest within a specified number of days and the Central Bank pays for these by issuing Treasury Bills. Banks and other funding institutions buy these Treasury Bills at a discount to cover their fees. The Banks then sell these Treasury Bills, which are convertible into cash to governments or other banks who may issue their own Bonds at a higher interest rate to pay for these Treasury Bills.

Although Central Banks are mandated to function outside the political environment, the actions of one group are so closely tied to the actions of the other group that they must work together to stand against all the other groups. The Central Banks set interest rates and adjust the supply of currency. The financial policies of the politicians are reflected in the actions of the Central Banks.

Unfortunately, this monetary elite, (Funding Sector plus Central Banks and Politicians), are supposed to monetize the wealth produced by the other sectors. However, the greed and mismanagement of a few major players has resulted in monetizing funds beyond the capacity of the other two sectors to produce new wealth. Tragically, their policies have led to a substantial flow and concentration of wealth out of the middle classes and lower classes into a relatively small group of wealthy organizations and individuals.

Traditionally, the mostly private Funding Sector has been able to loan to governments and rollover these loans without significant fear of government defaults on interest payments. The size of these accumulated debts is now so large that many countries can’t afford to sustain these payments. In fact, if currency couldn’t be created on paper or in electrons, (ie. money had to be convertible into a precious metal), then almost every government would be technically financially bankrupt.

It is only through expanding the size of Central Bank balance sheets, are governments enabled to pay their interest payments at present, (2011).  Thus, it is crucial that the political sector recognize this truth and then begin to take the steps necessary to restructure their finances and their economies.

Unfortunately, so much positive financial spin and contradiction of the actual financial truth has led to widespread mistrust and lack of confidence in most political leadership. The public needs more truth before anyone will gain the widespread support leaders will need to enact progressive changes to their finances and economies.

The bottom line is that both the Funding Sector and the Central Banks and Political Sectors are technically bankrupted throughout most of the world.

 

The Public Sector includes all organizations on government payrolls.

Public Sector workers appear to have an ally in “Private Sector Unions” who used to set new highs for wages and benefits. But, due to so much rationalization in private sector industries, and off-shore sourcing options, these unions have greatly reduced memberships and influence. Together, they appear to still share the outdated value and opinion that unorganized private sector workers, the majority of citizens, can fend for themselves. If this were true there wouldn’t be the large wage and benefit disparity that presently exists in most countries.

In most countries the Central Banks and Political Leaders sector is hamstrung by unionized, patronized or otherwise protected “Public Sector” workers. Their agenda is to block public sector reductions, which unfortunately will be at the core of any national turn-around programme.

The public sector would prefer economic growth to be achieved by the private sector. However, they don’t fully realize, or refuse to accept, that once the civil services’ share exceeds 30% of GNP, they impair the ability of capitalism to expand an economy. The self-interest values of most civil services are represented by their willingness to embark upon extreme social disruption to retain their privileged status. This immense power of civil servants has emerged during the capitalistic expansion of the past 50 years. (Many historians attribute the collapse of the Roman Empire to the expansion of their civil services to an unsustainable annual cost.)

In the developed economies and autocratic states, people who are paid from the multi-tiered government treasuries have used their collective social influence to garner many financial privileges denied to private sector workers. The overall result has been to create a large inflexible fiscal cost that many economies cannot sustain.

In fact, many governments do not even carry on their books the liabilities, (pensions, health care), that have been accruing by their workers. If these liabilities were funded, government debts would be substantially higher than those presently reported. These future cash flows lock-in the actual technical bankruptcy of many nations.

Due to the lower GNP productivity of government sector workers, it can be established that an economy begins to become internationally uncompetitive once the government workers produce more than 30% of GNP. Another basic structural defect occurs when private sector workers lose parity with the wages and benefits granted to the public sector workers doing jobs with similar skills, knowledge, expertise and education. This also impairs the economy’s competitiveness both internally and externally.

If both the government sector’s GNP contribution and the public vs. private sector compensation are imbalanced, then the economy will also be innovation impaired. This condition will significantly reduce the prospects for diversified economic development and contribute to increasing productivity pressures upon all workforce sectors. Such conditions exist in many G20 countries.

Due to their size and costs, it is clearly evident that the global Public Sector Group is significantly impairing global economic development. Of course, it is the politicians who have been given responsibility for managing the civil service sector. They have favoured it as a way to quickly reduce unemployment and effect some income redistribution. Politicians often believe that it is much easier and expeditious to increase the civil services than to stimulate private sector growth. In the near term this can be a valid assumption, but over the long term it is economically defective. Much like businesses, there must be a flexibility to adapt to market conditions. Few governments have learned how to do this, especially with unionized workers.

 The politicians have been less effective in finding ways to grow their private sectors, and have indeed contributed to the private sector’s growing divergence in income distribution. By maintaining somewhat low-income tax levels before imposing accelerating tax rates, and hiding substantial value-added taxes on goods and services, the politicians and their civil servant real masters, have greatly limited the ability of their middle and lower income families to accumulate net worth and investment capital.

Fiscal policies that encourage civil service sector growth result in shrinkages in the size of private sector middle income earners and contribute to higher incomes in the top income groups in society. Unfortunately, infrastructure programmes lose most of their stimulus productivity as these funds feed through various government levels before the roads and bridges are rebuilt. Public sector spending is rarely as efficient and productive as private sector spending.

Collecting funds from the private sector and then redistributing it through the public sector is an increasingly inefficient economy. If the culture is also prone to corruption, this is a recipe for stagnation.

A more effective model uses these funds to provide low cost capital for private sector economic development, (a la China?), but of course prudent uses must be prioritized. The time has arrived for private and public interests to combine their visions.

In many aspects, governments can’t afford their existing civil service costs. Thus the Public Sector is also on the verge of bankruptcy.

 

Another major player is the “Corporate Sector” of national, international and global corporate networks that are oligopolizing most industries in most countries. These corporate giants have amassed large capital pools and are recording earnings not seen in 50 years. They may be publically owned, privately owned or government owned.
 They can provide the jobs and major capital investments that help economies grow. Governments are bending over backwards for these giants with all sorts of financial incentives to bring stability and growth to their economies. It is their wealth, and potential for more wealth, that can suck up whatever liquidity remains in the Funding Sector. Although a few have nationalistic agendas, (Sovereign Corporations), the majority are focussed upon world dominance of supply and markets.

By negotiating deals with the politicians, who pave the way for civil service co-operation, the Corporate Sector gradually gains dominance over raw material supplies, manufacturing processes, distribution infrastructures and finally market servicing and pricing. Their growth provides internal capital investment growth, GNP growth and tax revenue growth. However, eventually they reduce competition and displace labour with mechanization and automation.

During the past 50 years, the growth and emergence of global corporate business entities has reached a point where simultaneous development is possible throughout the world. The massive capital pools and financial structures needed to arrive at this potential have now been created.

In many of the natural resource exploitation industries, global development is already a reality. In many other industries, oligopolies dominate major markets and they are quickly absorbing the emerging markets. The global concentration of corporate capital rivals the funding sector’s financial power and may even provide greater liquidity than the latter group.

As the corporate group acquires increasing chunks of a nation’s sovereignty, the most imposing issue facing the political group is their ability to sustain national autonomy and sovereignty. International treaties and contracts abound whereby governments and their citizens can be financially liable for corporate losses. In the final aftermath of the current global crisis, we may see many governments standing in the box of international courtrooms.

This friction point where foreign capital and expertise are needed to stimulate employment and development will grow white hot if the coalesced public opinion begins to perceive that they aren’t sharing fairly in the growth of their nation or environmental issues are being ignored.. The Corporate Sector must realize that the people must also support them. (Canada presently epitomizes this conflict in regards to two major oil pipelines she needs to build.)

Globally, the Banks are taking care of major corporate players but millions of smaller businesses are experiencing liquidity issues. As major economies slow down, these enterprises are most impacted on their balance sheets. The current financial crisis has already pushed many of these businesses into technical bankruptcy.

 

The fifth power sector is the “Middle and Lower Income Sector”. In most ways they actually have little financial power. Even in the major democracies, it is the political parties that ultimately hold power – not the voters. By their massive numbers, the middle and lower classes influence the other groups through three things: consumption, votes or revolution. Historically, to get this group to coalesce in any one of these areas has been almost impossible.

But, with the popularization of the cell phone since 1995, and the spontaneous exponential acceleration in social media, the Middle and Lower Income Sector are now armed to be able to coalesce in consumption, votes and revolution. The global revolutions that this will engender may be mixed from peaceful to violent, but they will certainly evoke attention and changes as they exert their rightful share in ownership of the world’s financial wealth.

Home ownership is supposed to create net worth and investment capital in the middle and lower income families. However, the recent financial debacle has engineered a disastrous shrinkage in home equity all over the world via sub-prime mortgages, other above prime mortgages and credit facilities and major portfolio losses for small investors.

The fact is that most people don’t resent the accumulation of significant wealth by deserving individuals or families. But sadly, the middle and lower income sectors, which make up the vast majority of humanity, have and will suffer the most severe financial losses.  The wealthy often have their significant base of untouched assets, plus cronies from which they can launch a recovery to their personal wealth.

With the almost total connectivity between the masses, it has become impossible to control and influence the maga-media to the degrees common in the past. This new transparency has led to a greater awareness of incompetence and mismanagement with the consequence of even more diminished confidence in politicians and political parties. Thus, few governments are given the majorities they need to effect anything more than highly compromised solutions to current issues and priorities.

Around the world, the middle and lower classes are heating up against the rich elites and the privileges of government bureaucrats and workers. Because their political parties have sided so often with their perceived opponents, they have been refusing to make political alliances and prefer mass protests with somewhat broad and vague issues, (Wall Street Protest).

 It will be this widespread social unrest that will either force the other groups to not just write-off their debts, but to forgive them completely. If the Banks and bondholders just discount and sell them to collection thugs, then the social unrest this creates will produce a backlash leading to spreading anarchy. This is the fear of all sane members of each group.

Many people already hear the roll of the tumbrels and thunk of the guillotine as the middle and lower classes send the financial elite to the same hell as their French Revolution ancestors.

 

III. Avoiding the Bloodbath

 

The global financial crisis has many similarities to business failures. Business insolvencies occur when revenues cannot cover debt payments. They are dealt with in two basic ways, either Bankruptcy or Turnaround.

Business Bankruptcies involve selling off the assets and enforcing personal guarantees. The commercial creditors usually recover about 20% of their losses and the primary bank lenders liquidate the owners so that they recover 40% or more of their losses. The purchased assets often end up in a new enterprise that sets up new terms with the commercial creditors. The Banks adjust a few account balances, reduce their taxes payable and set up a new line of credit for the new enterprise’s new owners. The old owners start up again somewhere else or get a wage job. If the company was foreign owned, the former employees likely never see their last few weeks pay checks and they scramble to not lose their home equity.

Bankruptcies are usually very nasty for only the workers and the owners. In fact, the losses by the Banks are fully tax deductible, so the public actually covers much of the banker’s losses.

Business Turnarounds involve restructuring the financials of a business by creating a new business plan acceptable to the creditors. The first phase is to create as much cash as possible by selling off unnecessary assets. Then a deal is made with the Banks and creditors to accept a one-time payment for their debts. (In most cases, the costs of bankruptcy- (mainly legal and accounting fees), are so expensive that very little is left for the various secondary creditors. In a turnaround scenario it is quite probable that the creditors will end up with 2/3 to 50% more than if they forced a bankruptcy.

The next turnaround step is to cut all ongoing expenses as much as possible. A basic staff is maintained to generate new orders and service the customers. Everything is renegotiated with employees and suppliers. It takes a $3 increase in sales revenue, to equal $1 in expense reductions. This is why the key to every financial turnaround is in reducing expenses before spending money to increase sales. The final process involves increasing productivity.

Of course, a turnaround is only viable if there is a market for the products or services. If people don’t want these things anymore, then bankruptcy is the route to go.

Bankruptcy for a family, a corporation or a government is quite similar in each case. Once the equity has been wiped out by debt/ Liabilities the organization is bankrupt.

In the private sector, the Banks are usually the main creditors who decide whether to bankrupt the organization or allow a turnaround process. (In Canada during the past 50 years, the Canadian Banks bankrupted about 500,000 businesses and close to 3 million people.)

In government bankruptcies, usually caused by a default in payment of interest on bonds they issued, actual bankruptcy proceedings are avoided for humanitarian reasons. Instead the International Monetary Fund usually invokes restrictions on the financial activities of the country whilst obtaining assurances of better fiscal policies. The IMF may purchase the bonds at a discount to reduce the losses of the creditors.

In countries, such as the USA, where they have their own Central Bank, (Federal Reserve), they perform a similar role to the IMF. But the advantage the USA has is that they can also use their Central Bank to create more money and thus pay down their debts.

One key to the present global crisis is to provide this kind of Central Bank capability to countries without one. In fact, in late 2011, several Central Banks joined forces to help protect the Euro from an imminent collapse.

 

Global Private Banks, Investment Brokers, Pension Funds, Monoline Trusts, Hedge Funds, Stock Markets, Rating Agencies and Insurers have failed to do adequate due diligence, nor exercised a self-disciplined approach to protecting their clients.

 During the past decade, in spite of numerous reports and warnings, this sector chose to recklessly ignore the inherent weaknesses in their investment vehicles until these instuments began to default on a massive scale. Everyone outside this sector is appalled at an industry that abused the rules of trust, honesty and integrity upon which all monetary systems are enabled to function. This widespread default in financial integrity was stimulated by behavioural moral and ethical degeneration by the players in these institutions around the world. They have proven themselves untrustworthy to be stewards of the global financial systems and markets.

Consequently, there is considerable opinion that these organizations deserve to be bankrupted and dissolved and new stringent regulations imposed upon all financial activities. Sadly, thousands of small players have been dissolved and many major players have been protected from collapse by public funds. The consequences to the public of major organization collapses could apparently produce widespread family losses and resultant social unrest. (Such outcomes might be avoided by government initiatives to streamline court processes and personal bankruptcy recovery steps.)

The issue of key concern is that there are so many interlinked debt instruments that defaults in a few would topple the whole pyramid, much like the World Trade Centre. Thus, a simple solution is not forthcoming. Most Central Banks  are orchestrating access to inexpensive funds for the largest institutions in the hope that they will use these to offset a gradual write-off of the worst debt instruments. Of course, as time passes, (most funds are on short-term cycles), many debts become more risky unless longer term funds are made available.

Such a process has been effective in Canada whereby Banks were able to offload the riskier investments at significant discounts. These losses were made up by borrowing cheap funds from the Central Bank and investing them in higher paying bonds from the government. The government incurred higher interest payments and thus increased their deficits. These deficits will be a taxpayer burden well into the future as will the growing overall debt burden. However, the Canadian Banks have improved their capitalisation to a point where they may be able to assume their more traditional lending roles in a few years.

It is noteworthy that no steps have been taken to fully isolate the Banking functions from the riskier investment banking, stock brokerage, hedge fund, insurance, etc. divisions of these large funding institutions. Thus, ultimately the public is still at risk for any mismanagement or excessive risk taking. Furthermore, unless the government’s growing costs of saving these financial institutions is transferred to the Central Bank’s balance sheet, the taxpayers will end up having these costs deducted from their incomes.

It appears that a large portion of the funding sector can be sustained through this form of government intervention. However, it is also important that the costs of this restructuring do not become profits for those individuals who benefited from past abuses. The Wall Street Protests clearly showed that the public will not tolerate further abuse of a poorly controlled financial system.

The laisser-faire capitalism, introduced in 1970 by Richard Nixon’s abandonment of the gold standard, ran its course until it blew its’ top in 2007. Now we need constraints and restraints to keep human financial behaviour under control. Gone are the days when the public could trust in the integrity of the financial sector.

By late 2011, several non-euro major Central Banks collectively stepped in to ensure that bond markets maintain adequate liquidity to finance the needs of over-stressed economies. This commitment will likely provide adequate low cost funds to help governments refinance their capital needs at affordable interest rates. However, it will be government fiscal strategies that will determine whether or not their economies will be able to realize stability and future growth.

 

Previously we referred to the monetary policies that will help bring the Funding Sector back on its feet. But monetary policies to help reduce government debts are a completely different agenda.

Economists are fairly consistent in defining quantitative easing as Central Bank asset purchases designed to stimulate the economy. Basically, this activity involves transferring ownership of uncollectible debts from the private sector to the Central Bank at discounts the private sector can absorb. It strengthens the private sector balance sheets.

 Credit easing is defined as Central Bank asset purchases designed to directly impact the general public sector’s debts. It involves buying government debt obligations at the lowest possible interest rates. This enables governments to reduce tax increases and benchmarks lower interest rates for mortgages and business loans.

 Monetization is defined as Central Bank purchases of government debt, usually through an intermediary funding institution. This last term is the closest one might consider as printing money, although all three increase the money supply in an economy. Monetization is commonly facilitated through the Central Bank’s issuance of Treasury Bills in exchange for government bonds. These can then be deposited in private banks who then use them to buy cash from the Central Bank. This increases the money supply directly and it also reduces the debts carried by the government.

Monetization is the recovery phase causing the most concern to Political Leaders and Central Bankers for two reasons.  If the money supply increases too rapidly then price inflation can occur. Secondly, foreigners may interpret the extra liquidity as a reduced value for the currency and thus drive down the exchange rate. Imports will become more costly.

Historically, many governments have monetized their way out of foreign debts. These countries then experienced inexorable inflation rates. Trade goods became very cheap and foreign currency reserves became expensive to accumulate. The IMF ended up buying a great deal of their debts in $USA currency. (Following WW II, the currency of a very small number of countries became acceptable tender for international debt payments.)

The crux of the matter nowadays, is that the countries backing these reserve currencies themselves are technically insolvent. They are unable to pay off their current debts in 100 years! They are barely able to bail out their own funding sectors, never mind their governments.

At this point it is important to slightly digress back to where we have come from. We have passed through an era since WW II of global economic development exceeding any previous period in history. A great many decisions were made without a full understanding of neither where this growth was leading nor how it should be managed.  Economic and investment computer models were designed around mathematical formulae that couldn’t take into account the debasement in integrity of the financial players and the weak international political leadership of the past decade.

It became apparent by the 1970’s that capital was scarce compared to the demand for it. There just wasn’t enough gold to finance the world’s growth potential. So instead of creating more money, the world opted for more debt. Ingenious new financial instruments were created to provide for this increasing debt. Unfortunately, the amount and quality of debt accelerated beyond sustainability.

It is worth recognizing how prices for family essentials barely rose during the two hundred years of the 1600’s and 1700’s, but from 1960 to 2010 the costs of essentials rose over 10 times. With “tight money” being the mantra throughout these years, the rise in prices had no choice but to be funded by increasing debts. Presently, with 7 billion people seeking better lifestyles, the world will need a lot more money in circulation.

(During the 1970’s, the author recognized serious defects in the financial system when he was involved with several business bankruptcies and turnarounds and saw mergers and acquisitions oligopolizing one industry after another in the pursuit of globalized enterprises. The quantitative easing that took place was not being balanced by monetization as the amount of assets increased in each nation. A lack of understanding of these processes led to catastrophic inflation and interest rate increases in the late 1970’s and early 1980’s. Fear of inflation led central planners to rely upon debt growth for the next thirty years.)

Due to poorly balanced fiscal policies the growth rate of most economies is inadequate for making a significant impact on paying down government debt burdens. Thus monetization is the only way for governments to be able to reduce their debts, (ie. pay off the principals). Of course, this will increase the value of the Central Bank balance sheets for these countries. But this may not be as serious as it may sound, because many countries are finding new resources, upgrading their workforce values and improving their infrastructures, etc. The markets have more likely than not undervalued their true worth anyway. (Canada’s current balance sheet reports assets of roughly $18 Trillion, but we all know that we have more than twice that in undeveloped reserves of natural resources.)

However, before monetization can be rolled out around the world, governments need to begin designing some parameters and benchmarks in regards to debt loads and comparative currency valuation criteria. No doubt, some countries may choose to “go-it-alone” because of the recent turbulence in the Euro zone. But the strength of the Euro zone is that they can give each other a fresh start with new guidelines, rather than forcing a people into isolation and destitution. There will also be opportunities for countries to consolidate their currencies with their own Central Bank as the Caribbean has been trying to do for decades.

With newly developed clear national financial guidelines and parameters, there will emerge the practical possibility of a Central Bank for all Central Banks. But this doesn’t solve the issue of poor fiscal policies.

 

An effective mix of fiscal policies is troublesome for every country and their politicians. What the public may want must always be seconded to the demands upon the politicians by their parties and their constituents. Regardless of the form of government, the civil servants represent a disproportionate share of their politician’s constituency as in most instances the voting power of the civil servants determines who gets elected, especially in the middle and smaller jurisdictions.

This has continuously created financial problems because the civil service departments produce the strategies, programmes and budgets that comprise the bulk of expenditures for any government led economic recovery/turnaround. Rather than cutting costs as phase 2 in business turnarounds require, they want to increase taxes, which as we have seen, require $3 for every $1 in cost reductions. Moreover, only a small percentage of these expenditures actually end up in the hands of the private sector. Thus, the burden of every recovery is shoved onto the residual incomes of the middle and lower income classes and the financial elite and corporate players.

The benefit of good fiscal policies includes a strong growth in gross domestic product, GDP, or in effect, a larger national balance sheet. GDP is increased by the creation of more and larger family incomes. Policies that increase the number of people working and their improved productivity increase GDP.

In addition, gross national product, GNP, should reflect the effectiveness of foreign trade with other nations. Canada, being a resource supplier to the world, has neglected its GDP strategies in favour of GNP strategies. Now that the world is all trying to expand rapidly, Canada clearly needs to beef up its GDP strategies and adopt much longer perspectives for its GNP strategies.

Since most taxes flow back into the economy, they don’t directly reduce GDP. But, these funds are removed from the family incomes that are needed to fund the small business start-ups that produce 70% of employment in most economies. Also, tax revenues allocated to the civil services consistently produce 20% less GDP per $1 than private sector earnings. Consequently, increasing family income taxes will slow economic growth rates.

As governments demonstrate sound fiscal policies, their GDP growth will create an opportunity to obtain low cost long-term funding for their large debt burdens. Once this critical confidence indicator is achieved, then they will be able to grow their economies internally and externally more rapidly. (One can see that the under-developed countries have very likely focussed upon GNP strategies rather than GDP strategies in the past.)

 

In Canada, the government recently reduced corporate taxes to their lowest level in decades. Their intention is to attract foreign companies. This is primarily a GNP strategy because foreigners will benefit from these investments as they tend to price their exports low to export their profits.

Of course, every market is unique, but the Canadian markets are relatively mature with oligopolies controlling prices and distribution in most fields. Government corporate policies have been ineffective in protecting consumers from being exploited as evidenced by record profitability being reported across the country. (Some of this profitability has likely been buried until these tax breaks were announced.)

Strategically, countries tend to do well by importing corporations and their technologies. For a time, these projects create significant employment but often the growth factors , such as research and development, remain abroad.  Also, the earnings of these organizations contribute less to GDP than domestic businesses.

Ultimately, governments need to create an environment that stimulates new businesses that create the skills and innovations that produce a comparative advantage for various commercial sectors. During an era when banks are relatively weak, it is crucial that the government steps in with assistance and incentives for domestic business creations.

Interestingly, large business failures rarely set back the careers of senior and middle managers. However, family business failures can burden these entrepreneurs for many years. The current infrastructure of business start-ups wipes out close to 80% of our risk takers. Personal bank guarantees are dysfunctional in establishing a healthy entrepreneurial culture in Canada.

In the present commercial environment, where competitors are quickly absorbed by larger entities, it is crucial to stimulate and protect the downsides of new enterprises. If market after market is allowed to fall under the control of a few major players, then innovation and creativity will be stifled. This will lead to foreign domination of markets and a lost economic sovereignty.

Countries must exploit the global communications revolution and knowledge explosion by stimulating the emergence of new enterprises at the fastest possible rate. Otherwise, the large global entities will absorb our economic sovereignty which will quickly be followed by our legal and political sovereignty.

 

As we know, a country with strong GDP growth will improve the lifestyles of its citizens. In Canada, research has revealed that Canadians have actually experienced a decline in living standards for many years. This is very likely due to weak GDP policies.

In fact, the global communications revolution has finally opened the door to a great surge in human knowledge sharing. The second phase of this will be an unprecedented escalation in research and development that will create new products and industries throughout this century. The potential growth this offers the 21st century will make the 17th and 18th century growth rates pale in comparison.

Some of the research and development of the past age was under the auspices of wealthy sponsors, but much was achieved by creative thinkers from the masses. In this century, the masses are more highly educated and motivated to achieve greatness. Only poor government fiscal strategies will slow them down.

It is essential that the government enable its middle and lower income sector to accumulate wealth as quickly as possible. Their consumption is the fuel of the economic engine and their investments are the fuel for new enterprise.

No doubt, education and research will be the key to GDP growth rates during the next twenty years. Countries that fall behind will be the under-developed nations during the second half of this century.

 

IV. Conclusion

Out of the financial chaos of the early 21st century will emerge a fairly flat playing field for the competition for future economic growth and social prosperity. The most progressive countries will develop the infrastructure to generate the massive potential synergy from all five sectors working in harmony and symmetry.

By 2012, the balance of wealth has been over-turned, and it will be the balance of debt that drives global politics and economics. This is a new challenge for mankind that will require new institutions and new financial infrastructures. It will take men and women of principle, wisdom, insight and patience to design and implement the “New Economy” for this century. Unfortunately, they will be outnumbered by unprincipled, foolish, blind and impatient adversaries.

Forty years ago, I would joke that if I owed a million dollars I was still a “millionaire”. To-day, we have “billionaires” and “trillionaires”. Humpty Dumpty had a great fall.... but just maybe, this time we’ll be able to put him back together again.

 

Jim Reid B.A., M.B.A.
jimreidcanada@gmail.com

Jim Reid graduated with Honours and Master’s degrees in Marketing and Economics in the late 1960’s. His forty year business career includes: strategic planning and business turnaround consulting experience in over 20 industries, senior corporate marketing positions, College and University instructor in business and finance courses plus residential and commercial real estate brokerage. Mr. Reid pioneered mass merchandising processes and designed many computerized information systems as well as served as the resident economist for his employers. He has written articles for trade magazines and recently published STOP Thinking Stupid – a guide to our mental strategic thinking processes. He has always remained a student of business and history and in 2010 created a centrist virtual political party: CFP- Canadian Federalist Party