Tuesday, May 31, 2016

Economic cohesion

How going back to basics can achieve it.

One of the things that still works quite well in South Africa is the pursuit of individual enterprise.

That should not be too surprising. It is a feature of the indomitable spirit of human beings in achieving independence and securing basic comforts, and above all, it offers an opportunity for creating meaning in our lives. That pursuit dates back thousands of years giving practical expression to the two most powerful and basic driving forces in humanity – meaning and means.

Those primary forces have found expression in the cell of all economic activity, first from pure subsistence in making things of value for personal use, and then creating them for others, which ultimately led to commerce and industry as we know it today. No matter how sophisticated or complicated the commercial process has become, those ancient principles still apply. In the end, all economic activity revolves around a very simple principle – that of a person, or group of people creating something of value for others. In short – people serving people.

It is this principle that has served humanity well for hundreds of years and underpins a system that has been described as the greatest in the history of social co-operation. It also has within it the most powerful force of forging, at least at an economic level, cohesion between people of all persuasions. So the lofty “indaba’s” that South Africa repeatedly has between government, business, and labour to address unemployment and low economic growth, should not be focussed on what they can do to encourage it, but rather to stop doing that which discourages it.

The bond that exists in the value-adding, or wealth creating cell, is as natural, as cohesive and as strong as the bond between molecules that make up substances.
We can superimpose that template on any business activity, large and small. A street vendor, for example, actively sells her wares, and in that action is an employee (labour). She would have used her own money to buy stock, and therefore is the sole shareholder (capital). And she would use state or community resources, such as streets, pavements and whatever level of education she may have received. Apart from the state, which for the most part should be an existential given, the bond between labour and capital in this case is absolute, and virtually indistinguishable.

One could also present those “molecules” of the value-adding cell as active contributors, or active stakeholders. Again, the state by and large is, or ideally should be, an active contributor, albeit more indirectly than the other two. It is only when the cell becomes bigger and the individual molecules multiply to become groupings of self-conscious and self-gain interests, that tensions start to manifest. In turn it loses sight of the bond that holds them together – creating something useful for others.

Still, despite all the tensions, disruptions, jockeying for self-gain, customer neglect and occasional complete collapses of those cells, for the most part by far, they are still held together by that simple principle of people serving people. That principle remains the core upon which the entire economic construct rests. Without it, that construct would simply disintegrate.

The real danger for its survival does not come from within itself, but the creation of institutional abstracts such as “labour”, “capital” and “state”, and placing them in formidable opposing formations, presumptuously representing the contributors within the cell. The tensions that may exist in the cell itself give succour and largesse to a number of power mongers and are multiplied hundredfold in grandstand posturing: in parliament, in government, in the Nedlac’s and particularly in organised labour both amongst each other and against others. The favourite fall-guy and common enemy is “capital” – because of its formidable centralised power, its often exploitive behaviour, and an assumption of its supremacy and majesty in the cell.

Armed with, or perhaps warped by their pet economic theories or ideologies gleaned from text books, classrooms, or even the streets, their views, dictates and regulations are then re-imposed on the cell, multiplying tensions there many-fold. What is forgotten is that the value-adding cell is an ancient concept, predating the written word, theories and ideologies. It has survived wars, oppression, suppression, restrictions, constraints and any form of government or economic system.

All democratic systems need checks and balances. So too does the cell need rules of the game to ensure fair play and prevent exploitation and dangerous dominance, either by one of the stakeholders over the other, or of the cell towards its market. But what it needs most of all is a nurturing of a healthy and appreciative relationship between those stakeholders and the promotion of a shared purpose and common fate. That has to largely come from within the cell itself. All it needs is to redefine some of the conventional assumptions about how best that cell should operate.

There are few things more powerful in breaking down barriers between people than trade and transaction. We can easily forge a far greater degree of economic cohesion by re-examining how to nurture the already strong and natural bond between parties in the economic cell we call companies, businesses or indeed any enterprise. That will take us a giant leap forward in our greatest challenge of all: establishing social cohesion.

Then there is the overall economic environment that has caused a fraying of those bonds. They include the burgeoning of parasitic entities such as financial and speculative markets, the incursion by governments into private initiative, concentration of corporate capital, a contaminated exchange system and a warping of price discovery. In nearly every respect, the ideal of commercial democracy has been invaded. Economic democracy should not be confused with the populist concept of “economic freedom” which focuses on possession of wealth and assets. The former is about freedom of choice and access to opportunities for self-help and development.

But still, our magnificent cell will survive. Increasingly and ironically, this ancient expression of wealth creation is finding an unlikely friend in modern technology. The changing building blocks of the modern company, reflected in so-called “disruptors”, and “insurgents” are far closer to the pure and ancient value-adding model. The role of often largely parasitic intermediaries, including banking, is being challenged. Block chain technology is gaining trust and confidence, and crowd funding is chipping away at the very vestige of capital formation, stock exchanges and bond markets. Peer-to-peer transactions are ensuring greater purity in price discovery.

Put together, technology’s greatest achievement may yet be to restore economic democracy and with it a completely fresh, yet ancient understanding of the true dynamic of wealth creation. 

Friday, May 20, 2016

The metric malaise deepens.

What happens when increasingly, not all that counts is being counted.

The desire to measure all things is deeply ingrained in human beings. It is an essential mechanism for comparison, which supports our earliest cognitive development. In time, we learn to put specific yardsticks to these such as rulers, scales and thermometers.

The most important measurement of all, and one which drives most of us and completely dominates our lives is that which defines value. It is that measure that is vital to all of transaction, in turn supporting the social construct we call economics. Yet, for all of its paramount importance, it is the one measure that is severely flawed.

The first flaw lies in the dual nature of value. It has both an objective and subjective nature; a tangible and intangible; a quantitative and qualitative. And while we rely on the quantitative to guide and shape economic forces, policies, supply, demand, trade, measures and regulations; it is the qualitative, the immeasurable, that in the end trumps the measureable and is far more important to individual experiences. The quantitative measurement we call price, is merely a reflection of a transactional moment. The way that object or service behaves, is the ultimate determinant of value.

The second major flaw is in the quantitative measure of value itself – the price. Text book economists may argue that price is the balancing fulcrum between supply and demand, and therefore represents true value. But there is no market that is truly free or pure. The only virtue in the price argument is that for all of their flaws, market informed prices are still far better than regulated or fixed prices. That argument becomes increasingly difficult to defend when markets are contaminated by inappropriate behaviour and when speculative derivatives distort prices. Unrestricted markets certainly cannot claim to reflect true value accurately.

In addition, the unit of measure, money, or specifically the currency, is flawed. For one thing inflation ensures that measured values can change irrespective of supply and demand. Effectively it means that unlike a meter which is a unit of length of absolute constant accuracy, the unit in which we measure value is not constant. In addition, the relative value of one currency to another is even more volatile and can change dramatically on all kinds of whims, as we in South Africa well know. On top of that globally we have delinked money from intrinsic value such as gold or to tangible value in the production of goods and services. Money is now linked to debt creation, which has expanded unprecedentedly and threatens money’s future as a means of exchange and unit of measure.

We have nonchalantly learned to live with these shortcomings in our daily lives, routinely adjusting to these forces and mostly oblivious to the cracks they may be creating in our economic environment.  That may be well and good, but when these contaminants filter through and form the base of macro-measurements that have a profound influence and give direction to far reaching policies and decision making, then they surely must create a vicious circle that entrench and widen those cracks. We tolerate these things simply because we know nothing else, and despite all the advances in information gathering and processing, there is no serious move towards doing things differently.

The most important of the macro metrics are GDP and inflation. The first measures the value of goods and services produced in a country in a given year, and the second the movement of consumer prices. Apart from resting on the above flawed measure of value, they suffer from severe defects in the way they are compiled and often interpreted. That’s when the quantitative can also distort the qualitative, changing daily routines and important features of social life.

The inflation measure is always a bone of contention. (See previous article here.) As an extrapolation to an average, it has as much chance of fitting the price experience of the “average” person as winning the lotto. Yet it is routinely used to determine important decisions such as wages and interest rates. One aspect that is often missed is that it excludes important household costs such as income tax, which have a profound impact on the middle and upper income classes. Other taxes, such as VAT, customs duties and the fuel levy push up inflation but have nothing to do with supply and demand. Increasingly too, the practice of shrinkflation is distorting the picture.

GDP (yes, here we go again!) creates an even deeper anomaly. It has a bigger influence in determining decisions that affect our daily lives than any other macro measurement. Interpretations of underlying forces can differ widely with forecasts of economic growth this year varying from +1.2% to -0.9%. The GDP measurement stands on three very wobbly legs: the impurity of the unit of measure outlined earlier; the potential for various interpretations; and the third, probably the most important -- its constituents: what does it count and what does it leave out.

The omission of qualitative values was lamented decades ago by American Senator Bobby Kennedy in his famous conclusion that it “measures everything, except that which is worthwhile.” It’s a lament that has been carried forward for decades, the latest from Nobel Laureate, Michael Spence.  But even selection of the tangible, or measurable, is sometimes arbitrary to say the least: like Nigeria’s huge leap in GDP after a reshuffling of the GDP constituents and Egypt overtaking South Africa in size based on an exchange rate. Or the U.K.’s including proceeds from sex and drugs to boost its GDP and overtake France in economic size.

And now a new dimension has been added to the debate. What happens when something of value keeps that value but loses its price? In effect, it moves from the quantitative to the qualitative. When something does not have a price, it can no longer be measured. And if it was included in the metrics before, it simply falls away, losing its impact on both GDP and CPI, amongst others. One could argue that it partly moves from product to advertising and is simply recovered differently. But will it have the same impact?

It is an intriguing question raised by independent economist, Cees Bruggemans, in a recent edition of Economic Insights.   Sir Charles Bean, Professor at the London School of Economics, went further in a recent WEF publication to suggest a rethink of how we measure economic activity. Bean points out that in a number of areas, technology has disrupted pricing, processes, and even the way companies operate. These include music, entertainment, communication, internet services, information gathering, banking, travel agents and insurance agents.

The relevance and reliability of some of our key measurements is increasingly becoming a more critical issue. I’m waiting for the day when Pravin Gordhan has one of his media briefings and emphasises the importance of increasing GDP, and when some junior maverick reporter questions the relevance and reliability of the measurement itself. His answer is predictable: “What else is there?”

That, indeed is the challenge. 

Thursday, May 5, 2016

Perspectives on the Panama papers

Reflecting poorly on prescriptions for governance and transparency.

So another clump of mud has been flung at the reputation of free enterprise. This time in the form of tax dodging as revealed in the Panama Papers, reflecting only a small part of a problem that globally could be costing governments more than $3 trillion – a nearly impossible figure to confirm because of the nature of the beast.

It comes at a time when business is being blamed for many global ills, including stark wealth inequalities. This may not be surprising as one of capitalism’s tenets is that private initiative is much more productive than government, encouraging tax dodging as something of a billionaire and corporate sport. The fall out of this event will no doubt continue for months, if not years, to come. Not the least of which will be a further tightening and expansion of prescriptions around governance and transparency. South Africa’s King Reports on corporate governance are among them.

There is something in all these reports that is a reminder of the tale of the King’s new clothes. It is more than a play on the name. The revelation by an innocent question from a child that the King or emperor was naked, reminds one of the question an inexperienced reporter put to another king of sorts: Jeff Skilling, former CEO of the notorious Enron energy trading firm.

His defensive response to the question where Enron’s income was coming from, that he was not an accountant and could not know all about the company, triggered one the biggest collapses of a financial bubble the world had ever seen. In turn there was a feverish rush to enforce all kinds of prescriptions and regulations and a rekindling of animated debate around corporate ethics and social conscience. Mervyn King’s efforts in producing such prescriptions were globally leading edge in this regard. 

This is not a detraction from the value of these efforts, the latest of which is King IV now in the making and due for release in November. Transparency and accountability are fundamental pillars of social order, and no less so when it comes to business which affects all of our lives. Protocols that guide those in authority on ways of achieving them are of indispensable value.

When it comes to prescriptions, regulations and indeed trying to force enterprise to adopt business strategies that focus heavily on them, one could argue that they become highly counter-productive. It is this assumption that justifiably sparks the kind of response one saw to this Moneyweb article on King IV: “just another concrete block shackled to business to hinder it to go forward and do what it is best at viz. business.” 

The simple truth is that there is little, if any evidence that all of these efforts have resulted in a significant reduction in business malpractices. Indeed, in just one – that of executive pay – there is an argument that not only has disclosure not tempered executive remuneration, but has exacerbated it by creating envy among the more modestly paid executives as well as pressure for rank and file wage increases.

An article published by the WEF cites recent scandals just in the last year – Volkswagen, Toshiba, Valeant, Mitsubishi and FIFA – as evidence that corporate governance globally is still simply not taken seriously enough. South Africa has had its fair share of these since all of the hype began decades ago, and now we have the tax evasion scandals revealed in the Panama papers. The real fall-out of these papers for South Africa is yet to come and will seriously challenge the selective and unilateral enforcement of reputational risk.

When one thinks of all of the time, effort and costs spent on ensuring ethical standards, sustainability, accountability and governance, one simply has to question their efficacy. These go much further than the King reports and include sustainability reporting, the high cost consultant driven placebo efforts at establishing Triple Bottom Lines and Balanced scorecards, and interventions on constructing organisational ethical standards and remits. For the most part by far, these efforts are mostly adopted very reluctantly as “have-to-haves” rather than “want-to-haves”.

The gathering of as much information as possible about all aspects of a big organisation is always useful. But compliance with prescriptions or some organisational intervention flavor of the month often leads to information overload. Teams of managers can spend hours filling in forms or data processing for “dashboards”. I have seen meeting room walls “brown-papered” from ceiling to floor until one senior executive wailed: “For heaven’s sake, we are not trying to invade Spain!” Much of this information perishes on its way to the board, where it seldom, if ever, informs company strategy.

In my decades of exposure to business and organisational theory, I cannot recall any case where these efforts have tangibly or even directly contributed to company growth or better overall performance. If there are such cases, they certainly have not made enough impact to encourage their adoption as a sound strategic framework for any business model.  The reasons are simple and two-fold. They do not reflect the real driving force of the business – maximum returns in the shortest time; and for the greatest part, they try to marry quantitative with qualitative metrics in a world dominated by measureable financial outcomes. They then create intolerable contradictions.

Which brings attention back to Skilling’s response, or lack thereof, to a question about Enron’s source of income. If a company or its CEO cannot passionately and clearly demonstrate the tangible value the enterprise adds to people’s lives, its right to exist is highly questionable. When an enterprise sees contribution as its sole purpose, and does it in such a way that reward expectations are met and further contribution encouraged, then it certainly will not need a plethora of prescriptions, rules, and interventions to entrench that behaviour. I have repeatedly argued that value-added, or wealth creation, scientifically reflects that. It is the only accounting measurement to do so. It is doubtful whether a company that is dedicated to adding value to people’s lives and demonstrates that in its behaviour in the market place, will also not reflect that spirit in its relationship with all other interests, including the community at large.

Good companies say they have a contributory purpose; better companies live by and demonstrate it. The best companies coherently measure it. In the main, those that don’t, will be caught out by customers, competition and normal laws. Most enterprises are indeed driven by these forces. It just becomes difficult to see when they constantly have to defend a self-gain money focused ideology.

A passion to make a difference in one’s market unleashes true willingness, without which no amount of prescriptions can prevent bad behaviour. That is particularly so when it is shared by all involved as a common vision.