There’s little doubt that the Depression we’re in is testing the global economy. What may be less obvious is that the very nature of our global system might be increasing volatility, making downturns more likely in the future. Preventing this will test the ability of this entire planet to act in ways that further both our own long-term interests and the interests we share together.
In short, it’s been a helluva ride, sure, but the scary part may be yet to come.
The political strain of this Managed Depression is pretty obvious, and I’ve written about it many times before. A full-out currency war has yet to break out, with each nation rushing to make their own paper worth less than their neighbor, but coordinated efforts to ease credit have not worked well. From a Central Banker’s viewpoint, the last few years have tested just about everything.
What’s less obvious is how the global market looks to companies. If you are a US company and sell €100M worth of product in Europe that gets booked at the nominal exchange rate as US Dollars – if you sell exactly the same amount the next quarter and the Euro has increased by 5%, when you translate that it appears that you sold 5% more. Many US companies have seen their profits change from one quarter to the next solely because of currency translation. It can cause whiplash on a stock for almost no good reason.
But there’s far more to it than currency translation and foreign exchange. One of the rarely exalted benefits of improved information technology (internet) is that production, inventory, and delivery can be managed from tremendous distance. It’s called “Supply Chain Management”, and it’s a field that produces a lot of gobbledy-gook. The bottom line is that leaner manufacturing has reduced the amount of working capital required to keep an operation humming along and producing higher quality products that meet better defined customer needs.
How could that be a bad thing? In the last 20 years, net exports out of Asia have generally doubled and have increased here in the US by about 50%. The world is closely interconnected through a very long supply chain, and a longer supply chain means that small changes can be amplified through the global economy quickly. There is a net whiplash effect that causes manufacturers all along the chain to throttle up and down in response to distant causes very rapidly – increasing volatility across the planet, not decreasing it. That means that downturns are more likely, not less.
Yet that isn’t the only problem we naturally encounter in a truly global economy. Egypt is a nation that is going through a process that will certain mean years of instability as they work to find their way to whatever comes after the firm hand of Mubarak. This is a nation that built the Aswan Dam and cultivated vast new areas of the desert some 40 years ago. They funded the project internationally and paid back the cost by using most of this new land to grow cotton which is sold to the world market for cash. The net result is that Egypt, once the breadbasket of the Roman Empire, is now the world’s largest importer of wheat. If political instability lowers the value of their currency, as it almost certainly will, the price and availability of bread and other food staples will go up. What new unrest will that bring? How might it test a young democracy that is struggling to establish itself?
There is a lot more at work here than simply the Depression that has tested the mettle of central bankers and politicians, although they are bearing the brunt of it. It is quite likely that the Depression itself is merely a symptom of a deeper problem caused by the tremendous global changes that appeared to be nothing but a good thing just 20 years ago. We can look for much more of this in the future as nearly everything has to be sorted out, starting from where we shop and what we can buy and moving across the supply chain with currency translation into the stability of political systems in nations most people are utterly unfamiliar with.
What’s the solution? A century ago farmers took action against the markets that dictated prices and therefore family livelihood by forming co-ops and building their own elevators to store grain until the market conditions suited them. The market theoretically lost some efficiency in this process, but it gained stability – and the producers got control over the process.
As appealing as global markets are for the shiny new things they produce at low cost, they have serious drawbacks. Perhaps one day some of the risk and threats they pose will be worked out and we’ll be able to enjoy globalism fully. For now, it should be obvious that caution is advised, both on a small and large scale, for all of us to have control over our own long-term interests.
I can see you’ve been thinking about this a lot and that you’re as scared as I am. It’s a big subject and no one ever tries to tie all this together.
But what I think you’re really saying is that our standard of living pretty much has to drop. I think I agree with that, but if you think people are mad now just wait until that happens.
Also, isn’t protectionism listed as one of the things that made the great depression worse than it could have been? You may want to think that through, too.
I agree that this is all really scary. Maybe we don’t have to have total control over everything but I get the feeling that we don’t have control over anything anymore. You often talk about things being too big to control or understand but even small things seem to be difficult anymore. I really worry about small businesses for example. How can they compete?
I like how you talked about co-ops as a solution. Maybe some more on that as a way to band together would be good. I always wondered just what the difference was between them and other small businesses.
Jim – Our standard of living will drop if we give up the strong dollar – and that pretty much has to happen. So yes, there will be a problem. However, I think we can easily tighten our belts and make do with a lot less junk without really noticing a decline in the parts of our standard of living that matter most. There will probably be some whining, yes, but it may not be a huge problem. We’ll see, I’m sure.
Anna – I think I will look into co-ops more. The changes that are sweeping over everyone do seem to demand a lot more control at all levels, and that’s one way people can band together outside of government / corporations and other big institutions that have their own agendas.
This is a good example of ‘too big to understand’ if you ask me. I don’t think anyone will ever get all this together and I agree completely that we shouldn’t even be trying. Much better to have a little reserve for hard times.
OK Erik as you know the Ford plant will be closing because we are too far from the supply chain. Please elaborate (tires etc. etc.) I did read an article in the local papers that they could easily make metal hoods for the trucks here with a little initiative. But the new ranger or whatever may be made in Austrailia (sp?) because it is closer to the natural market.
Also read an article lately where some small farmers in India or someplace are hoarding cotton as they wait for a better price.
Yes, Dan, many companies are trying to shorten the supply chains for the reasons I stated. That’s part of what I think will continue to happen in Brasil – where they make a LOT of aluminum thanks to their development of electricity.
You see where I’m going with this? This is what Pres. Obama means when he talks about developing basic energy industries and so on. There is a point where national policy makes a difference – and that’s a lot of what Pres. Lula of Brasil. Part of what inspired this post was his statement in Senegal that “Capitalism is dead”, BTW.
There’s a circle here. 🙂
The ultimate in the shortening of supply chains is vertical integration. On the other hand the capital needed to do such is often pretty intense… Obviously there is some balance point.
Secondly, if the supply chain is shortened, doesn’t it also mean the chain of overhead might best be shortened too? Currently overhead is typically where capital is… but as the need for capital becomes less of an issue that that of resources ala supply chain, perhaps said overhead should be outsourced as well?
Ron, I think you hit the nail on the head as to where the real reform has to come. I’m going to think about this some more. There has been a lot of work in shortening supply chains for obvious reasons, and that does look like a pullback from globalism – but it’s part of finding a balance.
I’ve talked a lot about overhead per employee, focusing on things we can quantify like bennies, taxes, etc. But every HR department is part of that overhead – and, really, so is every supervisor and manager. Direct Labor can only be cut so far before you affect quality – but what can be done about Indirect Labor?
It has to be the next focus, I agree. Excellent point.
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