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(originally published by Booz & Company)


A Return, Not to Normal, but to Reality

If you saw that pattern early enough — and I saw it in 2007 — then watching the financial system was like being inside a warehouse where someone has poured gasoline all over the floor, and there’s a guy smoking at the far end. You know something’s going to happen. It’s just a matter of when. There were 50 different problems that could have triggered the crisis.

The key to the crisis wasn’t in the balance sheets, which were lies. Even today, bank balance sheets are lies. Nor was it the usual GDP numbers, which are made up. It was in the fund flows. The big lesson is that for the future, we’d all better start watching fund flows.

S+B: What are the fund flows telling us now?
I don’t know. The worst part of this story is that people don’t measure them. They’re very hard to track, and no one’s in charge of measuring them. The numbers I just cited for 2002 and 2007 came out a year after the collapse. Even in 2007, I didn’t have them. I saw symptoms of this money flow through the price rises in petroleum markets, and through the “carry trade,” where speculators borrow in one currency to invest in another. There were trillions of dollars of “hot money”: money seeking quick returns. Where would that get invested? In stocks, bonds, commodities? A lot of it went into real estate.

S+B: These billions in hot money were funding lots of efforts to provide quick returns…

S+B: …which were producing many goods and services that no one wanted or needed…
Or that were bogus.

S+B: And creating a kind of bubble of asset bubbles through the 2000s, in stocks, real estate, financial instruments…?
Absolutely. That’s right.

S+B: And did all of those bubbles fully burst, or is there more to come?
Oh, no. All those asset bubbles burst. Real estate, stock, different countries, different markets, they all burst.

But the hot money is still with us. Today, instead of only one country, Japan, providing the near-zero interest rates that enable a carry trade, we have almost every nation except Australia competing for the interest-rate bottom. This has produced huge flows of hot money into the global liquidity pool. Although I haven’t seen any figures published, the amount of available capital, despite a slower economy, is likely to be equivalent to the totals of 2007. When the damaged parts of split economies begin to come back, this liquidity will likely create a whiplash effect, throwing countries into hyperinflation before they can respond effectively.

That is the fear of every central banker in the world, and the threat is more than plausible; it seems inevitable.

Protecting Intellectual Property

S+B: What other important trends are shaping the economy right now?
The first is the conversion of the world’s abject poor to consumers, and that’s more important than the birthrate. Around the world, the next 1 billion consumers are coming online really fast — for the most part in India, China, and Southeast Asia, but also in South America. Even the poorest of these people will have cell phones and some access to technology. The “cloud” of cloud computing will be serving them, too.

Meanwhile, it’s becoming brutally clear that the economy is not going to be what it was. We’re going to return, not to normal, but to reality. There will be a war between two systems: that of the mercantilist countries, which seek to make money by obtaining foreign intellectual property (IP) and regulating trade for the sake of competitive advantage, and the free market, free trade countries: India; Australia; and those of North America, Europe, and most of South America. Most businesspeople in the West are not emotionally prepared for this war.

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