Friday, February 24, 2012

Why a local manufacturing base is important

This post builds from a comment I made here.  It's a reaction against the point that it's okay for a country to lose manufacturing if you have a thriving services economy.

Unless people can live on consuming services alone, buying/importing all hard goods from outside is a form of slow suicide. Imagine you, me and Mike are all the inhabitants of Consumer Republic. You cut my and Mike’s hair, I cook for you and him, he entertains the two of us. Yes, we all have a means to earn a living, and money circulates our economy. But when it comes time to buy our car, our furniture, our basic hard item necessities, we have to buy it outside, from Producer Republic.

Now imagine that Producer Republic doesn’t need to buy anything from us, they have their own domestic service providers, and they’re pretty self-sufficient when it comes to producing all their hard goods basic necessities. Meanwhile, all they get from us in return for their goods are tokens (fiat currency) that enable them to buy our services - all of which, however, they can provide themselves. What happens if they start hoarding their hard goods and stop accepting our tokens? Where and how do we get our hard goods?

This is even more worrisome if Producer Republic prefers to accept someone else’s tokens (fiat), not our own. How do we get those tokens unless we sell something besides domestic services? (And yes, markets for most services have a tendency to be domestic-focused, and hence, most countries will prefer to get their services from locals.) 

For example, if Producer Republic prefers Privilege Republic's tokens, Consumer Republic will need to sell its services to Privilege at whatever price Privilege is willing to pay for. Consumer Republic is therefore fucked, and this results in a status quo lower over-all price level of services in its country. Its inhabitants will therefore be able to buy even less hard goods imported from outside. And every time it does buy from outside, it results in an outflow of money from the economy, an outflow that, if its government compensates for by printing more money, only results in an even lower real price level. This vicious spiral will slowly eat away the economy. The only other solution would probably be to sell its patrimony to outsiders, in return for the needed token. (Just ask Greece how this feels like, since it's in the same situation of having to sell its soul to get enough of the "outside" currency, the Euro.)

This constant need to scramble for the token accepted by hard goods producing countries is probably lost on much of the population of the country that that has the "exorbitant privilege" of having the reserve currency, the unit that everyone accepts payment in. However, if this country of privilege chooses to lose all its hard goods producing capacity, because of the confidence that it can always print whatever it needs to fund all its consumption, whether of goods and services sourced from within or outside its economy, what's to prevent producer countries from eventually deciding to start hoarding their hard goods and stop accepting its tokens? Where and how will it get its hard goods, unless it starts making them itself again?

Four years ago, I advocated/predicted that both the developed and developing worlds will probably each have to become more equally divided into being both consumer and producer economies. This seems now to be actually happening. Everyone needs to have a producer economy. You can't live on consuming services alone, while buying/importing all hard goods from outside. It's a form of slow suicide. Ditto for  agriculture sector.

more in comments

Friday, February 10, 2012

Prospects for retail deposits

We're now on year 4 of ZIRP, and it looks like things are going to be like this for awhile to come.  I'm not on the funding desk of a bank, I'm just wondering out loud.  But how could this environment be affecting the medium and long-term plans of commercial banks with regards their deposit base?

This is an environment engineered by the Fed to discourage saving and to encourage borrowing/lending. But the people's persistence to save and delever continues unabated. So banks have been ending up with a lot of deposits, which  are a cost base for them (both in terms of service and in interest) while good lending opportunities continue to be outnumbered by the amount of funds available to them.  Ordinary savers continue to leave their savings in cash deposits rather than invest them in businesses or other productive endeavours (Many are still afraid of lagging demand). Meanwhile, the Fed further exacerbates the situation by swapping their treasury holdings into even more idle cash.

The yield curve has been flattening over a longer maturity period, and hence, banks have no problem securing funds whenever they need them for loan settlements.  And for shorter periods, they could borrow them for zero or close to zero cost. So what the hell do they still need retail depositors for?

Retail depositors are costly to maintain. You need to have branches, costing money to rent and maintain. You need to have staff ready to serve their needs,  and many of these depositors could be very needy.   Rising deposits cost more to insure with the FDIC.  To the extent deposits are made in physical currency, there are further costs to safeguard, keep, and transport this deposit base. 

Every retail client is valuable to a bank to the extent that he churns his deposits in various transactions, where the bank earns its fees.  Savers who simply leave money with the bank unused and unturned are a cost to the bank. Some banks have actually started charging fees to large deposits last year, both in an effort to make back what it costs them to take the deposits, and get this….to drive away the depositors!  As some bankers in the article have said, this has never happened before. 

Now as I said, retail branches can be profit centres, to the extent that they churn depositors' money, by encouraging more fee-based transactions, or encouraging savers to put them in bank-sponsored asset management vehicles. Branches that are able to do this in economical numbers can continue to justify their existence. What about those that simply have more deposits than they have transactions, and are unable to change the course of things? Many of them will probably close, pretty soon or in the coming months, if either: rates continue at ZIRP, or bank lending doesn't pick up to pay for the cost of the deposits.

If neither of those happen soon enough, is your neighbourhood bank branch at risk of closure?

Friday, February 3, 2012

Welcome back home, 'stateless' corporation

Three years ago, I wrote, tongue-in-cheek,  that we may be seeing the beginning of the end of the nation-state.  Because of four decades of relentless globalization, capital was now free to go anywhere in the world, anytime it wanted, instantaneously. One day capital could be rushing towards Brazil, while the next, it's rushing out to speed on to India.  The next obvious goal for the world 'surely' was the global mobility of labour, which would be the final step in dismantling all national borders, and the entire concept of the nation-state.

I wrote: Everything else in the world is mobile – capital, technology, products, entire businesses. But one crucial aspect of enterprise isn’t, and that’s people. This has resulted in a severely lopsided globalization process….people cannot mitigate the effects of a relatively-more benign policy in one region by migrating to it, or mute the harsh consequences of a neighbour country’s (competing or trading partner) actions, by piling on to that country.  Countries currently compete to attract capital and technology, but not a lot also compete to attract labour.

But of course, the world is not yet ready for this step, and all its ramifications. So, the next most logical cure for the large imbalances caused by globalization is its retreat.  We should see a gradual acceptance once again of capital controls and trade controls - capital controls to both keep existing capital in, and to keep new capital out. Too much fleeing capital could collapse a currency, too much flowing in could make it too expensive.   

Obama's most recent state of the union speech is an indication that protectionism and trade restrictions will become more prevalent in the coming years. He's already given the first warning signs to those who continue to choose to outsource American jobs abroad. In a world where the conspicuous consumer has retreated, where everybody is trying to save, or pay down debts, and where jobs are disappearing as a result, barricading jobs  and keeping them from being off-shored has become priority one.  

So what do we expect of this going forward? We'll probably see much of the "stateless" corporations to become once again home-focused businesses. We'll see them retreating from countries where they have no significant consumer toehold, and bring their processes back to where their end consumers live.

We'll see globalization stop dead on its tracks, and both private and public sectors start focusing on their own domestic economies.  Which is probably just as well. With less global linkages, all economies will start decoupling from each other.  Everyone will start focusing their economic development efforts on their own domestic economies, and on where they're supposed to have from day one: not merely on creating jobs, regardless of where its place in the value chain was, but on building prosperous domestic business clusters of their own, ready to hire locals as much as to sell to them.

Added in comments: On a generalized view, I think companies that find they have a stronger demand for their goods and services abroad than locally will start transferring head offices abroad. Those with equally strong local and foreign demand for their offerings will probably have a local presence everywhere. Even if their operations costs will cost more in the US, if the new offshoring tax equalizes overall cost, penalizes not having local presence, they would probably choose to move back a lot of their jobs. Those that only serve locals will probably move everything back.

For example, if Apple, Dell, or JP Morgan find that their main growth would be in Asia, they'll probably move head offices there, and export to the US, or serve the US market from there. They won't be affected by the tax if they are no longer US companies. If they feel that their offerings will be equally as strong both in the US and abroad, they'll probably have local manufacturing/operations both in Asia, and in the US (to avoid any offshoring penalty and taxes). But if they only serve the US public, like your local telecom or cable company, they'll probably begin to rethink having their customer service operations abroad, and bring them all back.