The Creation of Value Creation
by Bundeep Singh Rangar
The trepidation in the U.S. economy has only grown since the terrorist attacks in September evident by the biggest contraction in the world's largest economy since the last recession in 1991.
The U.S. Department of Commerce reported that gross domestic product declined at an annual rate of 0.4 percent in the quarter ending September 30 as the effects of last month's terrorism attacks weighed on an already troubled economy.
Not surprisingly, the U.S. federal government is fighting back with its choice weapon of financial policy: interest rate cuts. The Federal Reserves Open Committee is likely to cut interest rates further when it meets meets on November 6th to add to the nine times it has done so far this year. Interest rates have fallen from 6 percent in January to 2.5 percent at its October meeting on October 2.
|
"...declining incomes cause companies to cut spending, increase savings and pare down debt rather than borrow cheap money..." |
| |
The danger, of course, is that the U.S. economy, and indeed, other western economies fall into the same trap as the Japanese economy. The Bank of Japan has cuts its key overnight call rate -- that banks charge each other to borrow money overnight -- to 0.001 percent in an effort to fight its recession.
The failure of interest rate cuts to rally the Japanese economy has been attributed to a "liquidity trap" first postulated by economist John Milton Keynes during the global recession of the 1930s. The trap emerges when demand for credit remains weak no matter how low interest rates go. Put simply, people would rather hold cash than borrow money.
The effect is a downward spiral whereby declining incomes cause companies to cut spending, increase savings and pare down debt rather than borrow cheap money for capital investment.
With little return on capital, investors shy away not only from making interest-free loans but also investment capital that might otherwise provide manifold gains over time. Witness the nearly 80 percent drop in venture capital investments in the U.S. to $18.6 billion in the first half of 2001 compared to the same period in 2000 (though it's still more than the $ 17.5 billion invested in the first half of 1999).
The question, of course, is why some companies prefer to be trapped in this fashion rather than take advantage of historically low interest rates and build out their business.
Or more importantly, which companies will be smart and able enough to do the latter in a bear environment and build valuable businesses.
While value creation is a great virtue in itself, the 'creation of value creation' is the more fundamental consideration for those seeking to avoid the Japanese liquidity trap.
|
"...more importantly, which companies will be smart and able enough to do the latter in a bear environment and build valuable businesses." |
|
|
For policy makers to stimulate growth and reverse the economic shrinkage, they must seek out those 'agents' of value creation - namely, the entrepreneurs of our times who take it upon themselves to build great businesses in times of pessimism and lack of quarterly visibility. Such entrepreneurs are far more prevalent in western economies than the Japanese economy and it is they who hold out the hope that we do not go down the liquidity trap that has beset Japan.
Speaking at the European Technology Roundtable Exhibition in Rome last month, one such entrepreneur, Michael Dell, spoke of the opportunities he was capitalizing on in a market downturn. While others reined in spending and shrunk product offerings, Dell continued to diversify organically, maintaining research and development expenditure, cutting down computer assembly and delivery times and increasing customer retention. It was on track to grow its market share to 40 percent from 13 percent today. As other manufacturers had moved into the handheld computer market and driven it to a commodity business with no margins, Dell was moving into more profitable areas of computer services and data storage. There wasn't a better time for his company to try and create new value, he said.
Worldwide recession? Ask his competitors, he said, who were consolidating on the mistaken belief that a merger would make them less vulnerable.
Bill Gates, beamed in via satellite from Seattle spoke in the same tone. In tough times, he said companies got disproportionately affected: the strong got stronger, the weak got weaker.
While many companies have cut back spending and product lines, Microsoft is going counter-market and releasing new products - Windows XP software, a slew of Web services and for the first time, a hardware product in the form of the X-Box video games console.
|
"The best entrepreneurs are those who build market share when the market is looking elsewhere. And the best investors are those who back them through that phase." |
|
|
The list of such companies goes on – from the public markets where Stelios’s Easyjet is eating away at British Airways, to the private markets where entrepreneur-backed companies like InterProvider, New.net, Asita, Solitar, Norwood and Wippit quietly plot their next moves.
The best entrepreneurs are those who build market share when the market is looking elsewhere. And the best investors are those who back them through that phase. For when today's pessimistic entrepreneurs and investors come back looking for attractive deals - those laughing their way to the bank will be those that have already started today, avoided the liquidity trap, and gone about their everyday business of creating new businesses and value.
It's those agents who create much-needed value creation that need to be targeted by the monetary policy makers for it is those entrepreneurs who will best deploy the capital that is being made available for cheap.
Some recent contributions:
Micorosft BCentral :Article Contribution
|
