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Think Different; Be Different

September 12, 2012

Like many others around the world, the life of Apple CEO Steve Job’s fascinated me, and after his untimely death I found myself eagerly reading his biography. Much of his story was known to me, the early days in his father’s garage with Steve Wozniak, the intense pressures of managing Apple’s growing business, his wilderness years and the heroic return to Apple that led to the creation of earth shattering innovations like the iPod, the iPhone and beyond.

I was pleasantly surprised to learn that Steve was very much a product of his generation, and therefore had experiences similar to my own. It was when I read about his trips abroad that I began to see the foundations of his true genius. One passage in particular caught my eye; it was when Steve was tramping around India contemplating the world and all that was changing it. He thought to himself (and I paraphrase) that the intersection of Eastern and Western thought (and North and South for that matter) was going to break the existing paradigm and crate something new, a global culture that was entirely apart from the present. He saw, momentarily, a brand new world and set his mind (and eventually Apple as an organization) to occupy that space – to be a part of that world, to make the ‘new’ happen.

Little did he know how profound that insight was; for that is exactly what he did, he and Apple changed the world. What frustrated so many conventional business partners, financial analysts, and others were Steve’s unorthodox style and his intense determination. He knew that Apple’s business was not represented in the ‘numbers’ and, more importantly, incremental change was not going to create the new. For that he needed to take risks, make quantum leaps. Fueled by his vision he designed products that helped create that new and better future. The fact that Apple is now the world’s most successful company is testament to his vision and his will. In many ways he challenges the rest of us to follow his lead to think different, to be different. For certainly now is the critical moment of truth, we either act boldly now to bring the ‘new’ to life or retreat in panic and confusion.

Things to Think About

1. Your business is a network of human relationships not a set of numbers on your financial statements. Learn the ‘guts’ of your business and like Steve Jobs have the strength of character to think different.

2. Incremental change in a transitioning world buys you time but will not put you on top. RIM is a classic example of a successful company that had a technological lead and then became satisfied with minor improvements. It may have cost them their market share and business.

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A New Monetary Order?

June 28, 2012

A few short years ago it was sensible to assume that the global economy was stable and reliable; today we must adjust to a world of financial instability. Consider the following warning from Bill Gross, Managing Director of PIMCO in his June 2012 Letter to Investors:

“The global monetary system…(is) fatally flawed by increasing risky and unacceptable low yields, produced by the debt crisis and policy responses to it. “

The International Monetary Fund (IMF) has downgraded its forecast for world economic growth twice in the past few months, while leading economists debate whether 2012 marks a return to growth, or 1932 all over again.

Monetary Crisis

At the base of today’s debt problems lies a global monetary crisis that cannot simply be wished away. When sovereign debt approaches a critical threshold, generally 80% of GDP, red flags are raised, bond markets and rating agencies start to get nervous. Today, although Greece, Spain and Portugal gather all the headlines, the sovereign debt crisis extends far beyond these nations. Consider that ALL European nations including Germany exceed their own legally defined limits of sovereign debt.

The fatal reality is, levels of debt (sovereign, corporate and personal) through out the  global economy today are rapidly approaching the breaking point, due largely to an inbuilt paradox in the present monetary system.

The entire capitalist monetary system generates interest-bearing debt as a matter of course. Money creation in all its forms, whether vertical (central bank generated currency and related money) or horizontal (bank loans) triggers interest from its inception, and as a result, is subject to the iron laws of compound interest.

The monetary paradox is simple, but deadly. In straightforward terms, the productive capacity of the economy grows arithmetically (in the 2-4% range), debt, however, grows faster, obeying the abstract laws of exponential progression. Compounding interest rates on debt exceed economic growth rates even in good times, and are doing so today despite massive central bank intervention to keep rates at historic lows. Eventually, compounding debt must exceed the system’s ability to meet even the minimum requirements and the system collapses.

“Even if we lived on an infinite planet, the interest rate on a debt-based monetary system could not exceed the growth rate of the economy (both measured in real terms) over the long term without inevitably causing a major default on debt.” (Minsky 1986).

Who knows what will happen ultimately, but what I can tell you for certain is a new monetary regime will emerge as the global economy reacts to these important developments.

While many authors and authorities are speculating on this subject, history demonstrates clearly that monetary regimes are not established from the top down, by rational discourse and planning. Rather they are established from the bottom up by new and better management of credit systems.

The historic Gold Standard was not designed, it simply became common practice as paper currencies came and went during periods of economic crisis and war in the past. As a universal currency, transferable across national boundaries, golds appeal was obvious. Yet, its monetary role evolved from the bottom up, rather than being designed for purpose.

Our present Central Bank managed monetary regime was born by accident in 1971, when U.S. President Richard Nixon took the United States and the Western world off the Gold Standard (implemented at Bretton Woods in 1944). The monetary vacuum created by the abandonment of Gold was filled by Central Banks, based on the (idealistic) theories of Monetarism and the science of economics.

The present monetary system is intellectually exhausted, presenting policy makers with a ‘Hobson’s choice’ of austerity or Keynesian monetary expansion; neither of which has proven capable of driving sustainable growth. A new monetary regime must solve this dilemma, directing society’s plentiful resources to the productive heart of the economy.

The principles that will govern this new monetary order will likely be the following:

1.  A new monetary system must break the cycle of systemic, interest-induced crises, evolving toward a sustainable regime based on value

2. The ultimate goal of monetary policy will settle on societal well-being, abandoning the present goal of economic equilibrium (base balancing of GDP growth and CPI-related inflation metrics).

3. There is no return to a Gold Standard, but money supply must be backed by the productive capacity of the nation. Asset-based money supply will emerge as the only viable alternative to the present Central Bank managed system.

4. The productive assets underpinning the money supply will expand with the introduction of new classes of assets. Total Assets, whether traditional or newer non-traditional assets, whether socially owned or privately owned, will be the bedrock value standard upon which money supply will be rooted.

5. Vertical money supply (currency and related derivatives) created by governments will be backed by the total stock of assets of the nation based on the five capitals, while horizontal money (bank deposits and related derivatives) will be backed by privately owned assets, defined much more broadly than today.

6. The new monetary regime will need to factor in a nations natural and human capital, moving beyond simple exchange value definitions to encompass a full appreciation of the utility value of all asset forms.

We’re in for a wild ride, with no shortage of pain in the short to medium term; however given the growth in new assets and the (presently invisible) undocumented asset potential in all economies, early movers could gain significant advantage on the rebound.

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Instability in the Global Financal System

May 8, 2012

Instability at the core of the modern financial system is a hot topic, particularly given the electoral shocks in France and Greece these days.  Whatever the color of the new Greek government, the people of Greece have spoken: the sovereign bond deal is dead as a doornail.

This will almost certainly lead to a more extensive default than the one negotiated in March, sending shockwaves through global markets.

But that’s not the only source of instability in the global financial system according to Andrew Haldane, executive director of stability at the Bank of England.

Andrew likened the present world of banking to the Arms Race between the US and Soviets. The desire to increase individual security created greater systemic insecurity. He goes on to give three similar ‘arms races’ in banking and financial markets.

Return Races

The race for returns was a key reason for the financial crisis. There were two aspects to the race on returns, one the return on equity for banks (ROE) and returns for bank CEO’s. Both of which were unprecedented in any historical context in the run up to the crisis.

Return on equity (in UK banks) was at historic highs in 2007, the only parallel is the 1920’s. The behaviors that drove that were similar to an arms race. It was not so much keeping up the Jones, but keeping up the Goldmans. If Goldman posted a ROE of 20%, all the rest had to meet or beat that figure.

The way this was achieved was taking on additional leverage; which pushed the banks and shadow banks into higher risk positions, creating a higher risk industry ‘equilibrium’ that destabilized the system.

Speed Race

Trade execution times:

20 years ago (minutes), 10 years ago (seconds), 5 years ago (milliseconds), Today its microseconds (million’s of a second)

Tomorrow it will be nanoseconds (billion’s of a second); it could well be picoseconds (trillion’ of a second) in short order.

‘High Frequency Trading’ now dominates mainstream financial markets, accounting for somewhere between 50% and 75% of trades by volume today. The average share on the NYSE is held for 11 seconds.

One reason they dominate markets is that they submit HUGE volumes of quotes the vast majority of which are never exercised. The firms cancel the majority of them before their exercised. Today for every order exercised, 60 are cancelled.

What’s going ON here; fake liquidity. Although it looks like they’re lots of quotes in the market, lots of liquidity  – there is actually a mirage of liquidity. Quote ‘stuffing’ is a means of gaming the market. Why, because bandwidth is limited; quote stuffing loads the system slowing down everyone else. Slower traders simply can’t access the board.

Safety Race

The final race is the flip side of the first race; the race for risk aversion is particularly acute in that investors (in banks and other financial institutions) want the safety of collateral. In other words investors in banks are more unwilling to invest in banks on unsecured terms than in the past.

Everyone wants to be senior, everyone wants to be first in line – to have first claim on the assets of the bank. For instance the refinancing of Euro zone banks a few years ago was 60% unsecured, now the unsecured portion is less than 5%.

This race also comes with a price; it leads to bank balance sheets become more encumbered, banks assigning away their assets to investors which can not go on forever. The way it impacts the market is thus: ‘If I’m an unsecured creditor, why would I refinance, why should I let everyone else be ahead of me on the pecking order.

The result is a drying up of the pool of bank capital; a new higher risk equilibrium and destabilized system.

All these ‘races’ are populated with individually rational decisions, the outcome of which is systemically irrational and worse – creating the opposite – systemic instability.

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The Maiden Voyage of Financial Capitalism

April 2, 2012

“Disgruntled Goldman Sachs employee attacks the bank’s ‘toxic’ culture”

“Greek prime minister has warned lawmakers against undermining reforms agreed with the international lenders in an attempt to boost their popularity as the country heads for the polls in May.”

These recent headlines in the Financial Times expose the uncomfortable truth of our present financial reality. How bad is it? Think Titanic; the banking system essentially hit the iceberg at full speed in 2008. We’ve kept her afloat ever since with massive interventions of TARP funds, bank bailouts, zero interest rates and quantitative easing.  But a large gash has been opened in the ship of global Financial Capitalism and the water is rushing in.

I don’t know if you remember the details, but the original Titanic was kept afloat for some time after its tragic accident by the valiant efforts of its crew. In the James Cameron movie we witnessed the heavy bulkhead doors slamming down one after another in an attempt to contain the deadly influx of ocean waters. We have observed much the same in Greece, Ireland, Spain and Italy. The global financial powers have slammed the doors of austerity and debt restructuring on these flooding economies. Unfortunately like the Titanic these chambers are not totally isolatable. In the case of the ship, the water kept rising, eventually overspilling the flooded chambers, filling one after another until the Titanic sank to the bottom of the ocean.

What’s happening in Greece and other affected economies is the fiction of debt resolution. Despite a 100 billion euro default, debt restructuring and the massive support by the ECB the water continues to rise in Greece. The bond friendly resolution has been purchased with the liberty and future of the Greek people. Many young people, all the smart money and anyone else who can walk or run, are leaving Greece at speed while the economy labors under an increasing burden of debt and upwardly ratcheting interest rates. The elections in May are likely to be fought and won by forces deeply opposed to the Euro technocrats that run the government and the financial deal stuck last month. And the water continues to rise; its unstoppable.

In Titanic terms we’re still on the surface, the stars are shinning brightly and the band is playing. However all is not well below the surface; the economic engine room is flooded and water is rising fast on the lower decks. Today the financial press are playing the part of the heroic Titanic orchestra as the situation deteriorates to its dramatic close. It’s a mathematical certainty that the great ship will sink; it’s simply a matter of time. The only unanswered question is: who’ll be in the lifeboats?

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Backing off the Resource Boom

March 13, 2012

There are some troubling indicators on the resource front that could dramatically impact the plans of Western Canadian businesses. Let’s face it the Western resource economy is one of the ‘feel good’ stories in the Canadian economy, so a decline in its growth potential would not be welcome.

Recently, of course, the news has been fairly positive. Apart from declining contract prices for hard coking coal, metal (in particular) and oil prices have been buoyed by massive swings in the indexed commodity funds which have recently shifted back into long positions, based on improving jobs numbers in the U.S., rebounding auto sales and other ‘positive’ news like the Iranian situation (which may result in the closing of the Straits of Hormuz) which could dramatically hike oil prices.

Realistically though, these indicators are not the most significant indicator; that distinction still belongs to China and its continued growth potential.

The Chinese government recently cut growth forecasts to 7.5%, on worries over its over-built property and export manufacturing sectors.  These two sectors are highly leveraged but receive the bulk of foreign direct investment in China. The rest of the economy is bank financed and struggling. This is where the problems in China are really starting to get ugly.

China’s growth strategy has always been heavily debt focused. In the early days of the China miracle, the immaturity of its capital markets left China with few financing options. The model that emerged was unconventional, but very effective. Government controlled banks would lend to businesses up and down the economy; they did so without conventional restraints and with few hard-nosed business metrics. As a result many of these loans ended up under-performing or non-performing (NPL’s). Once a decade or so, the Chinese government would acknowledge the problem and clean these NPLs off the bank balance sheets,  often writing them off. This process essentially reset the Chinese banking clock once a decade.

According to Michel Pettis the debt problems are emerging once again, only this time the scale of the problem is much greater than in the past:  “China has instructed its banks to embark on a mammoth roll-over of loans to local governments. Unfortunately, to date these local government have already accumulated over Rmb10.7tn ($1.7tn) in debts – about a quarter of the country’s output – and more than half those loans are scheduled to come due over the next three years.”

This largely hidden ‘China Problem’ is a function of the rapid growth of un-repayable debts. The Chinese government, for a variety of political reasons, is not inclined to force asset sales. So, although there are no principal payments on these loans, the carrying costs alone will impact China’s growth model, which will clearly be handicapped. Michel Pettis sees debt burdened China growth slowing towards 5-6% annual growth over the next year or so, and longer term settling into the 3% region there after. Not bad, but not sufficient to drive marginal demand for commodities as it has in the past.

The impact on oil and other commodity prices will likely be dramatic, metal prices could fall sharply. None of this is going to happen over night, but over the next few years the sovereign debt crisis could cripple western economies. Optimists who expect China growth to offset this declining demand could be in for a surprise.

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Big Data is Watching You!

March 7, 2012

I could feel the frustration in my friend’s voice; “Google is reading my email; they recently targeted me with ads that could only have come from analysis of specific words in my private email.” My friend, Mark, is an experienced entrepreneur and no stranger to the ways of business. He went on; “I know Google analyzes my online searches and shopping behavior to send me targeted ads. What I didn’t know is that Google captures and analyzes the content of private emails and uses that data, too.”

Mark’s anxiety is justified; the ads he received were based on data collected from an email to his lawyer about a legal matter; it scared them both. Mark called me because I’ve been investigating capitalism, economics, and the phenomena of Big Data for some time now.

Mark’s concern is not just about corporations accessing and profiting from his personal data; it is much bigger. When a private company can capture correspondence between a citizen and his lawyer, or between a citizen and anyone, it poses a direct threat to democracy because it undermines the principle of individual autonomy.

I said, “Mark, in future the biggest challenge we’ll have to face in saving capitalism is reversing the extraordinary privileges of corporate sovereignty. Think about a world where the citizen, not the corporation, is sovereign. In that world the technical ability to gather personal data from email, Facebook or Google will not determine ownership of that data.

In an equitably capitalist society the citizen owns their own life and all data about his or her private life. Today, companies like Google gather data – for free – from and about us. They just assume they own that data, and earn hundreds of billions of dollars each year. When the citizen controls access to their private data, companies that choose to use it have to rent or buy it.

Here’s my way out of the Big Data dilemma. We would have to begin treating Big Data as an asset, owned by the individual, but aggregated as a social asset leveraged for the benefit of society at large. The idea of leveraging social assets is not new; many resource rich states raise significant public revenues by leveraging the public asset in their oil, gas, mineral, timber, and other natural resources. These non-tax revenue sources fund education, build highways, research and development. In some places royalties on natural resources provide up to 50% of government funds. Alaska, I believe, is even more.

Why not treat personal data as real estate and allow individuals or their local and state governments to charge a royalty for its use? In the case of Big Data the deal for citizens is relatively straightforward. We as sovereign citizens take ownership of our data and choose to create a social asset from that valuable data. Local governments would incentivize citizen participation in creating this asset by providing tax breaks or coupons for services such as medical care.

The idea of business paying a royalty for data is no pipe dream; why shouldn’t Mark’s personal data benefit Mark, his family, and his community? Royalties from Big Data could help rebuild the roads, bridges, and schools in Mark’s neighborhood, in every neighborhood.

And Big Data is only the tip of the iceberg; in an asset revolution like we’re experiencing today, there are a host of new asset classes for individuals and governments to leverage.

For instance, consider the potential value to the taxpayer for underwriting the banking system, with its implicit guarantee? Why should we as citizens provide security to a bank or its shareholders for free? What if they paid (commercial rates) for the public guarantee that allows them to prosper?

The economy is changing radically and although many dangerous trends are obvious there is a world of unrecognized opportunity. Consider that there are over $3 trillion of invisible intangible assets in the US economy alone, and many potential new sources of public revenue as yet unused.

We need to remember the old adage: ‘money doesn’t manage itself’ and recognize that social assets don’t manage themselves either. A determined body of free and sovereign citizens must identify and manage social assets. It is their right and duty to do so.

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A Marshall Plan for Greece?

February 23, 2012

According to London’s Financial Times leading industrialists in Germany have recommended a new Marshall Plan for Greece, involving both private and public investment.

This is the best (and maybe the only) good news to come out of Europe for many a month. The Marshall Plan, for those too young to remember, was one of the most remarkable initiatives of the Post War era, unprecedented in modern times.

Under the Marshall Plan (named for the Secretary of State George Marshall) the United States committed substantial funds to the reconstruction of war torn Europe. Total investment by the US in the immediate post war period, including the Marshall funds, totaled $25 billion almost 10% of the US GDP. The funds were used to rebuild civil and industrial infrastructure in a devastated Europe.

The Marshall Plan, which was in operation from 1947 to 1951, was surprising in its generosity; victors in war are not noted for their willingness to invest in the vanquished. More importantly the Marshall Plan presented a vast contrast to the hard-nosed tactics employed on Germany and its allies by the Great Powers after World War I.

The success of the Plan contributed materially to the recovery of Europe, which led to the creation of the NATO alliance and (later) the European Union. More importantly it helped heal Europe and put bread on the tables of millions and millions of people. No small accomplishment.

If (and it’s a big IF) the present debt crisis in Greece is going to stabilize somewhere short of default, it must have an upside. Lenders are imposing severe restrictions; Greece is expected to endure crippling austerity, falling lifestyles and real restrictions on its democratic systems and sense of self-determination.

Greece needs a positive future; more than being a wiping boy for global bond markets. The fact that this initiative is emanating from Germany is terribly important, for it is the Germans that are taking the hardest line in this matter. An act of generosity on the scale of the Marshall Plan could not only help the Greek economy, but also heal the wounds that have been inflicted upon the tender sensibilities of modern Europeans. They are badly in need of repair.

Let us hope that this suggestion is acted upon enthusiastically and delivered in the same spirit as the original.

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Euro Debt Crisis: No Strategy for Growth

January 13, 2012

Angela Merkel emerged from the European Summit last month with lofty visions, speaking to reporters in flowery terms like ‘European family’, ‘running a marathon’ and preparing Europe for… who knows what? A Prussian dominated European Federal State perhaps?

Missing was a coherent plan to reduce the levels of sovereign debt and, more importantly, a strategy to restore growth to European economies.

Fiscal Policy Integration

Yes there was the “fiscal compact”; a Plan for centrally ‘approved’ national budgets and greater fiscal discipline; all good news to Euro federalists. Meanwhile budget deficits continue to exceed revenues in all European countries.

The Plan, if actually implemented, would place Europe in a death spiral of ever-greater austerity, slowing economic growth and rising debt servicing costs. Europe will simply die on the Bond Market rack.

Addicted to Debt

Meanwhile the debt burden rolls on, and the Euro-Zone nations, like alcoholics on a binge, have, with this Plan, simply stepped to the bar and ordered a couple of cool ones in the morning: ‘hair of the dog’ so to speak.

True to form the IMF seems more than willing to play the role of bootlegger.  There are plans for the International Monetary Fund (“IMF”), to essentially recycle boomerang loans; i.e. IMF is to borrow money from member states and lent it back to Greece, Ireland and other troubled economies. The IMF involvement it seems is necessary for Treaty reasons, but also to lend an air of legitimacy to the process.

The Brits refused to contribute to the Plan and many other member states are hedging their bets. Germany, for instance, has placed its commitment on hold awaiting the formal commitment of others; who indeed are waiting for Germany to commit. The international community (read USA) is also hedging its bets and if they don’t fulfill their commitments soon the Plan could unravel quickly.

Priorities are Twisted

Europe (like the US) is living in a Bond Market induced coma; just more evidence that the ‘financial sector’ has hoodwinked the politicians into believing they’re the center of the economic universe.

According to the ‘gods of finance’, recovery is assured. We need only rescue the banks and embrace the Miracle of Austerity: the wacky idea that you can CUT your way to recovery.

Unfortunately this thinking is dangerous, delusional. This crisis will not be solved by austarity. The cold reality is this: post-industrial economies, including the US, UK and Europe, have changed their ‘engines of growth’. Recovery in the 21st century requires deliberate, informed capital direction, which is not happening.

Direct Capital (immediately) to the Productive Heart of European Economies

According the Organisation for Economic Co-operation and Development (OECD), postindustrial economies (i.e. Western developed economies) are now solidly ‘service’ oriented. The proportion of traditional (i.e. bankable) assets presently being generated in European economies is somewhere in the region of 20% of GDP. In industrializing China the proportion of hard, tangible assets runs about 80% of GDP; similar numbers to J.P. Morgan’s industrializing America a century ago.

According to studies, intangible (asset) investment by U.S. businesses has now risen to $3 trillion per year (2010) dwarfing investment in capital assets.  The new ‘intangible’ economy dominates but is concentrated in small to medium sized businesses that are massively undercapitalized.

Unfortunately, this sector alone is capable of driving growth and employment in the West.

IMF boomerang loans will buy time, but not solve the underlying problem. Hang on to your hats, 2012 could be rough ride.

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A New Golden Age of Growth

December 20, 2011

As the calendar closes on 2011 panic is spreading through the establishment.  2012 will be a make or break year and a lot of people are very nervous. Personally I believe we’re heading for trouble, probably a bond market crisis. More importantly 2012 will likely be the year that we finally abandon our faith-like allegiance to The Market. Economic stability and growth will not return until we realize that it is not markets that matter but assets, and, considering we’re in the white heat of an asset revolution we’ve all got some work to do. Fortunately it’s all been done before, at the industrial ‘asset’ revolution a little over a century ago. Here’s the story.

J. P. Morgan’s Industrial Asset Revolution

Every schoolboy and girl knows about the Industrial Revolution. It started in in the 19th century and was characterized by some extraordinary innovation: new technologies, mechanized factories, masses of urbanized workers and a new class of wealthy ‘industrialists’. Less well known is the Industrial ‘asset’ Revolution, which post-dated the original technological revolution by several decades. This revolution also involved considerable ‘innovation’, but this time it was not new widgets, but dull, banking, accounting and financial innovations. Although it has gone almost unnoticed by the general public, this revolution was far more important to our general prosperity.

John Pierpont Morgan was king of the industrial bankers. In his day the world literally came to his feet. He was an iconoclastic Victorian giant, complete with top hat, spats, silver tipped cane and giant cigar.  It is a surprise to many to learn that Morgan the banker was also an industry insider, controlling (or owning outright) dozens of 19th century American railroads. Eventually Morgan expanded his banking network beyond railroads and either founded or merged the industrial giants of the 20th Century, participating in such famous businesses as US Steel, International Harvester, General Motors, and AT&T.

Morgan used his insider’s knowledge to build sustainable earnings in railroads and – indirectly – their industrial class assets; newer kinds of assets that the established banks found foreign and offensive. As hard as it is to imagine the great financial houses of the day, merchant bankers all, quietly ran for cover as the industrial era began. For merchant bankers like Barings and Rothschilds, industrial activity was strange and dangerous; railroads in particular were overloaded with fast talking (American) promoters, vicious competition and businesses that had a disturbing tendency to default on bonds and loans.

Morgan saw opportunity where the merchant banks didn’t, and grabbed it solidly.  Morgan realized quickly that leaving the Railroad business to The Market was not a solution. Railroad entrepreneurs were dream merchants; not only were they out of control (irrational, hyper competitive) but they lacked business and financial disciplines which meant they were chronically under-performing as a group. The Wild West free market approach to Railroads led to misdirection of capital and waste, undermining profitability. This was the situation Morgan set out to repair, and repair it he did.

Morgan was one of the first to realize the importance of railroads. He saw that the many factories being built throughout the country needed railroads to get their goods to market. Railroads were the ‘de facto’ national distribution systems for industrially produced goods; so successful railroads were not only valuable in their own right, but the key to profitability of the entire industrial economy.

With the considerable resources of the London bond markets behind him Morgan acquired and merged railroads across the continent. He bullied everyone, including railroad owners until he finally consolidated the industry to the point where it was controlled, quasi-monopolistic and profitable. In doing so Morgan, almost single handedly, established sustainability in the railroads’ assets and, incidentally, in the ‘capital’ assets of a host of associated industries.

He was so successful that the United States government soon intervened with anti-trust legislation to break up the Morgan trusts. However they did so after the pattern had been set, and the asset model solidified so clearly that industry in the 20th century literally exploded on the back of new-fangled (capital) assets that today we take for granted: plant, industrial machinery and inventory.

The industrial ‘asset’ revolution that J. P. Morgan launched in the 19th century, and the new banking model it shaped, accelerated after his death in 1913, driven strongly by a new generation of commercial bankers.

Today the old industrial economy is expiring in the West. The so-called ‘developed’ economies are desperately hanging on to diminishing returns, hoping (praying) that the economy will return to business as usual. It won’t.  According to a recent University of Maryland study intangible (asset) investment by U.S. businesses has now risen to $3 trillion per year (2010) dwarfing investment in capital assets.  Meanwhile J.P. Morgan’s banking business model, based on collateralizing capital assets, is unraveled rapidly.  How have commercial banks responded to these deep-seated changes in the economy? As the proportion of capital assets in the economy diminishes they’ve changed their businesses, abandoned corporate lending (to the commercial paper markets) and become essentially fee generating service organizations. The net effect of these changes in Western banking has been to direct corporate finance to away from ‘asset’ based commercial & industrial banking to a far risker Wall Street investment banking model.

Bankers today do not realize how rapidly intrinsic value is migrating and how dangerous this is to their profitability. In addition they have become complacent, over-focused on earnings (effects) while ignoring causes (solid, well managed assets). They cannot, or will not, do the hard work necessary to learn the intricacies of the new knowledge-based intangible assets. Like the merchant banks of old they will lose ground steadily as the revolution proceeds; before it’s all over many established banks will collapse in spectacular fashion.

The unpleasant reality is this: the western ‘industrial’ economy is sinking, while the assets of our lifeboat, our new ‘creative’ economy, are still too immature, too small to carry the societal load. The secret to making a successful transition, however, will be found in a formula that J. P. Morgan would recognize instantly.

Like the Morgan of old, successful commercial bankers in future will need to become pro-active. Modern banking needs innovators, specialists in the creative world of intellectual property and technology commercialization. The new banking order will be initiated by hard working insiders who having learnt the secrets of the new economy and who are prepared to work with businesses to bring order and sustainability to this new class of assets. It will be new, but once again rooted in assets, not simply (derivative) earnings. Success will breed success and a new much more productive economy will emerge that will lead to another Golden Age of Growth.

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Winds of Change are Blowing, Beware

November 12, 2011

WASHINGTON — The Obama administration, under sharp pressure from officials in Nebraska and restive environmental activists, announced Thursday that it would… delay any decision about the Keystone XL pipeline until after the 2012 election.

An election year politician doesn’t really need any more incentive to delay an unpopular decision than thousands of protesters parked in his front garden.  That’s a political no brainer.

But, realistically, if a few thousand activists were the extent of it, precedent suggests that a politician is home-and-dry supporting ‘Job Creation’ activities, particularly in tough times.

Unfortunately for TransCanada Pipeline (and by extension, Oil Sands developers in Alberta) there is a large and growing backlash against ‘Big Business’ in the United States that’s altering the strategic landscape profoundly.

“The public outcry has just continued to get louder and louder, stronger and stronger,” said Annette Dubas, a Nebraska state senator. The issue for Nebraskans is complex.  Although they are a ‘red’ state, supporting business and right-of-center causes consistently, they is growing concern that the XL pipeline will contaminate the Ogallala Aquifer, a crucial source of water in the Midwest.

For TransCanada, pipeline sponsor, this is an unexpected surprise. The company has been developing this project for years and has sailed through its governmental reviews and environmental impact studies with flying colors. Their astonishment at recent developments was made perfectly clear by spokesman Shawn Howard, “A lot of people would stand back and say, ‘If this was such a concern, where were you three or four or five years ago?’ ”

Shawn’s surprise is typical. But how do you know you’re in the middle of a revolution? Answer: you don’t. Not until it’s too late.

Our societal tectonic plates are shifting. The “Occupy Wallstreet” movement marks a turning point. It is the radicalized thin-edge of a giant wedge of public resentment that has been building for many decades. The establishment is unaware that a volano of middle class anger is about to erupt Vesuvius-like over the business landscape. The speed and violence of this explosion will simply overwhelm the established way of doing things. What does a business leader do in such situations: act now to strengthen the company’s most valuable asset, the ‘Social License to Operate’.

Most hard-nosed business people pay lip service to the idea of social responsibility, and, in this, they have lots of institutional support. No less an authority than economist Milton Freedman laid down the law: “…there is one and only one social responsibility of business – to use its resources and engage in activities designed to increase its profits….”.  Making profits and (secondarily) providing jobs IS the social responsibility of business; it’s no wonder that many businesses take their Social License for granted.

However the winds of change are blowing. American banks, authors of the ‘sub-prime’ mortgage disaster, illegal foreclosure practices, and serial incompetence are leading the way, The oil industry, although not free of embarrassing public gaffes, is still reeling from the Gulf of Mexico fiasco and a host of pipeline problems.

What should be clear from recent events is that the status quo is dangerous. Much more will need to be done to win back public trust and confidence. A good start would be a sober analysis of the situation, and a willingness to understand businesses’ ‘relationship with the public’ is damaged and needs repairing – fast.