Industries Threatened by US financial Woes
Another Cowboy Bites The Dust
AMERICA'S WORLD ROLE
Present at the creation
SURVEY: AMERICA'S WORLD ROLE 2
The acceptability of American power
The Value Of Trust
A Profession Under Fire
A Dollar Cliffhanger
|China : The Withering Away Of The Party
Currency Markets : Fasten Your Seatbelts
One Small Step For Free Trade
|America : Why No Longer So Alluring?
Argentina : Spoilt For Choice
Bush’s Russian Romance
Nasdaq And Its Rivals
Capitalism And Its Troubles
US Unemployment: Double-counting Chickens
The New Rome Meets the New Barbarians
Telecoms : Hanging on a Line
U.S. Undertaking Generational Weapons Shift
Getting To Know Hu
|Wall St. Still Sees Fed on Hold
When Nations Go Bankrupt
|Oil Embargo Threats Carry More
|Rivals More Than Ever : Hongkong and Shanghai
China's Suspended Politics
|Bush Signs Compromise Economic
Free trade : Tangled Up in Textiles
Ready to Party?
|The Non-performing Country
The Fed Holds Off
|Greenspan Reads the Runes
Financial Regulation in America
|State of the Union: What Bush
Did and Did Not Say About the Economy
Bush Takes on the Axis of Evil
|World Economy : Ready for take-off?
Argentina's Imploding Banks
|Stockmarkets : Too Optimistic?
Fed Enthusiasm for Stimulus May Be Waning
|Paper money : Crisp and Even|
|Argentina, IMF, US Share Blame
US Economy: That Sinking Feeling
Argentina : Staring Into The Abyss
The Fed Keeps Cutting
|IMF, U.S. Treasury No Comment on
Japan's Downward Drift
Crisis Response May Harm U.S. Economy
|Energy and Geopolitics
East Asia's Slump
OPEC v Russia
|A Puzzling War
Emerging From the Wreckage
Japan's banks : Out for the Count
|Seeing the World Anew
The Burden of Terrorism and War
|Gloom Across the Pacific
|A New Economic Order?
Japanese Economy in Terminal Decline
|Global Economic Gloom
Just a Glimmer
|Is Globalisation Doomed?|
|Defense Spending Potential
Rescue For Economy
The Money Trail
Explosions Cripple American Economy
|Bush Tries to Steady Economy
Jolted by Attack
Teetering on the Brink
|The Wages of War
The Economic Aftershock
|Driven to the Same Depths?
Koizumi Abandons Economic Reforms
Philippine Agri Modernization Taking Off
A Global Game Of Dominoes
|Trading As APerformance Sport
Stock Market Volatility - A Psychological Phenomenon?
20 Golden Rules for Traders
|Nationalism and Globalization
Subnmerging Markets Resurface
Waging World War III
Currency Crisis and the Rewriting of History
Myths About the Philippine Economy
Foreign Investments and Colonial Mentality
Industries Threatened by US financial Woes
AMERICA'S WORLD ROLE
Present at the creation
Jun 27th 2002
For the first time at least since 1989, but arguably since 1945, America has both the chance and the motivation to reshape the world, writes Bill Emmott, the editor of The Economist
WHEN Dean Acheson, Harry Truman's post-war secretary of state, wrote his autobiography, he chose a grandiloquent title to describe his dozen years in government. He had been “Present at the Creation”, he said, by which he meant the building by America of a new world, out of the wartime rubble of the old—or, at any rate, of half a new world, the free half, while an ally turned enemy, the Soviet Union, built the other half. He was in turn quoting a 13th-century Spanish king, Alfonso X, who apparently said with equal immodesty: “Had I been present at the creation, I would have given some useful hints for the better ordering of the universe.”
Today, two further lots of rubble are again inviting America to try to reshape the world: that left by the terrorist atrocities in New York, Washington and Pennsylvania on September 11th 2001, but also an older one not yet properly built upon, that left by the fall of the Berlin wall on November 9th 1989. Once more, we may be present at a time of creation, a time for useful hints, a time if not of order then of new responses to the world's habitual disorder.
That is, again, a rather grandiloquent way to describe things. This first decade of the 21st century is not the same as Acheson's period in the middle of the 20th, when Germany and Japan lay defeated and much of Europe and Asia devastated, and when the slate of international arrangements could readily be cleaned to make way for a new lot. America again leads the world in all dimensions of power—military, economic, cultural, scientific (see chart 1)—by a margin out of all proportion to its population. But the world's slate is neither clean nor readily wiped, the uses and users of power have become more complex and varied, and America is itself led by an inexperienced, sometimes jejune president, bent on a narrower (if still daunting) task than was the also-inexperienced President Truman, that of fighting a “war on terrorism”.
Moreover, the officials led by George Bush, seasoned though many of the senior ones are, have not yet inspired confidence that they know what broader set of policies they wish to follow, let alone how they might seek to reshape the world. They have defined their war as one of good against evil, of civilisation against terror, but have then butted their heads against the blood-stained brick wall that is the Israeli-Palestinian conflict. They have spoken about a “regime change” in Iraq, but have done little about it. They have said they favour democracy, but then hesitated to condemn an attempted coup in April against Venezuela's President Hugo Chavez. They have said they favour free trade, but then slapped tariffs on steel imports and subsidies on farming. They have rubbished foreign aid, then embraced it; supported a bankruptcy procedure for countries in financial crisis, then opposed it.
Such behaviour may in time come to show that this administration is inept; or, just as likely, it may come to be irrelevant, for all administrations zig, zag and stumble from time to time. There is, to be sure, no blueprint currently on White House desks for changing the world. But it ought not to be forgotten that even before the terrorist attacks, President Bush had set in train a project—the development of a national missile-defence system—that promises over the next decade or more entirely to alter the way in which the world handles its nuclear arsenals and deters their use. It is possible to argue—and plenty do—over whether this system will ever work. But given America's money and technological record, it would be unwise to bet heavily against it. And on the way to making it work, the effort is likely to change relations between America and the other big nuclear powers, among many others.
Furthermore, two immediate things make change a likelier outcome than stasis. One is that the attacks on September 11th, and the fear of more in future on an even more devastating scale, have given the United States a powerful new motive for global activism, while persuading most other countries, whatever their snarls of criticism or resentment, not to stand in its way—at least for the time being. The second is that the actions implied by that motive are likely then to draw America into new acts and new types of engagement, whether it likes it or not. Even if a blueprint were to exist, it would soon be obselete.
With hindsight, both the tasks and the opportunities that lay before Presidents Roosevelt, Truman and Eisenhower in 1945-55 look fairly clear. But they didn't at the time. Acheson wrote that “only slowly did it dawn upon us” that the 19th-century world structure had gone, and that the struggle to replace it would henceforth be directed from Washington and Moscow. At first, even the need for post-war relief and rehabilitation was under-rated, having been seen “almost as capable of being met by semi-private charity”. It took three years before America developed the Marshall plan to help revive Western Europe's economy, along with other efforts at overseas aid.
In today's very different context, a similar evolution is likely to take place. The challenge, as it was defined in the days and weeks following September 11th, is bound to change but also probably to grow. What began as a fight against the perpetrators of those attacks, a task that already looked large given their wide dispersal and insidious nature, has rightly been broadened further to include rogue states developing weapons of mass destruction. Thanks to happy victories in Afghanistan, it has come to take in the stabilising of that unhappy country to ensure it does not again play host to terrorists and—even more important—that it does not destabilise its nuclear-armed neighbour, Pakistan, itself repeatedly on the brink of war with India. And there is the associated task of discouraging violent militancy in other countries in Central Asia.
All that is before even mentioning the Arab world, the terrorists' main origin, in which Israel and Palestine provide their bloody complication, and in which the desired “regime change” in Iraq will require America to set to work on helping a new regime to emerge, an effort that may then put pressure on other Arab countries to alter their ways, too. An old taboo, on “nation-building” abroad, will have to be put aside. Then there is the decidedly unsmall business of handling the often prickly relationships with bigger powers such as Russia, China, India, Japan and the European allies, whose interests will be affected, for better and worse, by all this activism. As these tasks lead to others, and as unforeseen consequences occur, the magnitude of what is being attempted is likely slowly to dawn upon Acheson's successors.
Will they succeed? Just as after 1945, the honest answer is: only partially. But there are good grounds for optimism, founded in the nature and origins of the change that is occurring.
For the world did not change all at once on September 11th last year. Rather, the world had gradually been changing since at least 1989 thanks to the demise of communism. Mainly, the changes were for the better: the end to ideological superpower conflict; a vastly increased number of countries wishing to adopt liberal trading rules to join the market economy, and thus aligning their interests mainly with those of the West; technological innovation that made it easier for ideas to flow across borders; a big rise in the number of countries choosing and regulating their governments by means of democracy.
But, in three respects, it had also been changing for the worse: a number of deadbeat countries were falling into war and civil strife when cold-war restraints and props had been removed; technological change was threatening to put new destructive and organisational power in the hands of trouble-makers; and a new sort of trouble-maker—the messianic terrorist—was gathering recruits and strength. The dramatic manifestation of such terrorism on September 11th then brought about a sudden change in America itself. A sudden change in America means a sudden change in the world. A country that had gradually become loth to get involved in foreign entanglements, in the famous terms of George Washington's farewell address, gained a new determination and sense of purpose.
It was not that it had been idle during the 1990s, nor isolationist. It mobilised 500,000 troops for the Gulf war in 1991. At the end of the decade, it led—in effect, conducted—NATO's war with Serbia over Kosovo. During those ten years, American military interventions overseas were more numerous, if on a smaller scale, than during the whole four decades of the cold war. Its gung-ho economy, which reversed two decades of anguish and under-performance, boosted American self-confidence. In other areas too—trade rules, financial crises, human rights, war crimes, mediation—America played an active international role. But it did so hesitantly, against a backdrop of declining domestic interest in foreign affairs (a decline shared in Europe). It acted by improvisation, with no clear sense of purpose or coherent strategy, and a rather short attention span.
That is what has now changed. There may not yet be a coherent strategy, but there is certainly a clear sense of purpose. There is bipartisan unity on the main elements of foreign policy, which was absent even for the Gulf war. Opinion polls reveal considerable public backing for activism abroad. Few voices can be heard calling for America to withdraw or do less. As long as the sense of threat endures, attention is unlikely to wander. In 1997 Richard Haass, then a think-tanker at the Brookings Institution, wrote a book that called America “The Reluctant Sheriff”. Now the director of policy planning at the State Department and considered moderate by the standards of the Bush administration, Mr Haass says that if he were writing the book now he would delete the word “reluctant”.
Another word, once considered rather daring, is becoming commonplace in policy seminars and on talk-shows: empire. By last September Andrew Bacevich, a military man turned professor of international relations at Boston University, had completed the first draft of a book on America's world role, with a provisional title of “Indispensable Nation”. Now it is to be called “American Empire” (and will be published this autumn by Harvard University Press). Though Mr Bacevich and others talk of American military commanders as “pro-consuls”, no one has in mind colonies or an emperor. But there is a strong, sometimes hubristic, sense that America has the opportunities, obligations and threats associated in the past with empires: that it can set the rules that govern international relations, while at times operating outside them itself; but also that ultimately it alone can enforce those rules, a role which makes it the prime target of anyone who dislikes them.
After a decade of urging America to do more abroad, plenty of outsiders now worry that this sole superpower may soon do too much. During the 1990s there was much enthusiasm for the idea that, contrary to the United Nations Charter of 1945, countries should intervene in others' affairs, preferably collectively through the UN, when they thought that some other country was doing terrible things to its people. Such beastly behaviour would mean, said solemn international commissions, that the normal rights of sovereignty could be waived. Now America is developing a similar argument for its own pre-emptive intervention in cases such as Iraq, where it suspects a dictator of planning to develop weapons of mass destruction. “Foul!”, “Arrogant!”, “Illegal!”, comes back the international cry.
As well as seeking new rights, though, America is also refreshing some of its sense of obligation. The best example is the changing of mind on a topic once taken to epitomise foreign-policy fecklessness: development aid. In March at a United Nations summit in Monterrey, Mexico, President Bush startled delegates by announcing a 50% increase in America's $10 billion annual aid budget by 2006.
That is a big rise from a small base (it is less than half the European Union's combined aid budget, which at almost 0.4% of GDP by 2006 will remain proportionately three times more generous), but it came with other symbolism that made it feel more like a new beginning than a gesture: a rock star turned aid lobbyist, Bono, was by Mr Bush's side and also persuaded one of the hardest men of the right, Senator Jesse Helms, to back a special fund to help ease HIV/AIDS in Africa; and the general aid will be tied to conditions requiring good governmental behaviour in the recipient countries. If properly implemented, those conditions will represent a fresh form of interference in other people's business, but could also give development aid a new credibility.
Mr Bush does not believe that aid is needed because poverty causes terrorism. The September 11th terrorists were not poor, and most did not even come from poor countries. What the change of mind on aid implies, though, if it is indeed more than just window-dressing, is a strengthened belief that it is in America's long-term national interest to help more countries to take part in the process of international trade, investment and technology transfer that is popularly known as globalisation, and that to do so they need accountable, stable and legitimate governments. Mr Haass, in a speech to the Foreign Policy Association in New York in April, described this as an emerging doctrine of “integration”.
That process, and all the social and economic changes it brings, may actually be part of what the terrorists were enraged by, so reinforcing it would be more a gesture of defiance than of accommodation. In the shorter term, the same instinct has led President Bush to call for “a new Marshall plan” for the reconstruction of Afghanistan, though he has so far been short on specifics about what should be done and who should pay. He has also, however, recently been decidedly anti-integrationist in his trade policies, applying those steel tariffs and signing into law a lavish new farm-subsidy bill. Openness on trade, which includes the leadership of the new worldwide round of liberalisation that was promised in Doha last November, is costlier for domestic lobbies than is aid. Those measures were lamentable, but not irreversible. Leadership on trade is still to be hoped for, and pressed for.
Put like that, it sounds obvious. By promoting integration and acting as sheriff, the United States of America could do a lot of good in the world in the next few years. But since it would be doing so not just by handing out bags of money but by exerting and even extending its power, pressing or forcing people to change their ways, the very idea makes a lot of people uncomfortable. Might there be a backlash against a bossy, unilateralist America?
It is a truism, of course, that if America does bad things or makes bad mistakes, others will criticise it, shun it or even oppose it. It is best, however, to think about this emerging issue of American power and leadership in three ways:
• America's power relative to its rivals' and to other alternatives, including its allies.
• America's power relative to the challenges it faces around the world, and what it might achieve by using it.
• America's power relative to its own willingness to use it, or to keep bearing the costs of maintaining and using it.
This survey will explore those topics, and the questions they raise. Its answers—be warned—will be optimistic, and will generally be favourable to the United States. Certainly, American leadership will produce mistakes. But without American leadership, worse things would happen. And if any other country were in the lead, there would be much greater cause for worry.
AMERICA'S WORLD ROLE 2
The acceptability of American power
Jun 27th 2002
From The Economist print edition
American primacy will continue to be welcomed by many, and tolerated by others, even if through gritted teeth
“YOU can always rely on America to do the right thing,” quipped Winston Churchill, one of America's greatest 20th-century fans. “Once it has exhausted the alternatives.” That quotation contains both the main components of what remains a typical European view of American foreign policy.
It contains admiration, founded on the experience that when America intervened in Europe's two great wars of the 20th century it did so on the right side, with the right values and with ultimate success. But it also contains a superiority complex, a view of Americans as bumblers or global ignoramuses. Given that Churchill presided over the handing to America in 1941-45 of what little world leadership Britain then retained, he could be forgiven for posing as teacher to America's pupil. Yet the syndrome has endured and even widened, half a century later.
Today's critics, and they are numerous even among its allies, tend to sneer that American activism is reviving only because the United States now itself feels under threat. It is, they say, a selfish, or at least self-centred, reaction to injury rather than a new internationalism; it is being led by an administration that rejoices in rejecting or abrogating international treaties, acting unilaterally rather than in multilateral concert with others; and they say that helpful activism will soon descend into adventurism. Moreover, in its use of military power, America seeks to make others—even its allies—take casualties rather than lose its own troops; and America's leaders are “simplistic” and “absolutist”.
These criticisms are three-quarters true, but they are far from devastating. Indeed, they may even be taken as compliments. In a democracy as open and cacophonous as America's, and with a constitution expressly designed to thwart decisive action by any single branch of government, it is hard to persuade a majority to support costly and risky international activism. Self-centredness is not only natural but legally required. There has, admittedly, long been a deep seam of morality running through American policy, epitomised by Woodrow Wilson's “Fourteen Points” in 1918 and repeated in President Bush's “non-negotiable demands” on other nations in his state-of-the-union address in January this year. But idealism has rarely been enough to bring about timely or sustained action overseas; even Hitler's fascism required Pearl Harbour before Franklin Roosevelt dared enter the second world war overtly.
More will be said in a later section about treaties and their abrogation; there is right on both sides in different cases, and America's constitution queers the pitch by placing domestic law and Congress above all such international obligations. But on the Bush administration's side is the pragmatic argument that treaties are an inter-governmental means to an end, not an end in themselves; if, as with deals intended to counter the spread of nuclear, chemical and biological weapons, the treaties are being flouted (eg, by Iraq), someone has to provide the leadership to ensure that crucial treaties such as these are enforced.
The reluctance to take casualties reflects two things, one good, the other less so. The good cause is democracy itself, which in America makes politicians keen to preserve their citizens' lives and in Europe makes them want to spend as little as possible on defence. Even during the second world war, when nearly 300,000 American lives were lost, it can be argued that America won by using millions of Russian soldiers as its proxies against Hitler, rather as it recently used the Northern Alliance in Afghanistan. Still, given that America has 725 military installations outside its own territory, of which 17 are fully fledged bases, and that of its 1.4m active servicemen 250,000 are deployed overseas, it cannot really be accused of hiding in a continental shell.
The less good cause is the fear of failure that has, since Vietnam, led American generals and politicians to withdraw quickly from military trouble overseas, even when (as in Somalia in 1993) opinion polls support continued engagement. In the 1990s that tendency made the United States look weak and malleable despite its military prowess, and may well have encouraged Osama bin Laden in his attacks.
And simplistic, absolutist? That is how Chris Patten, the European Union's commissioner for external relations, described President Bush's “axis of evil” speech, just as legions of European critics lambasted Ronald Reagan's description of the Soviet Union as “an evil empire” in the early 1980s. It is the reverse of the criticism that America acts in its well-calculated self-interest, for both these presidents were using moral language to rally support and clarify their intentions, to foes as well as friends. Such clarity always comes at the price of simplicity, but the real question is whether it is backed by credibility. Before September 11th, it would not have been. The trouble with European sophistication is that it has been backed by virtually nothing, either before or since that date.
President Bush's moral tone has strength because it is now backed by popular democratic support in the face of fear, and by the credible threat of military force. It is not quite clear that Americans will “bear any burden, pay any price” for liberty and security, as President Kennedy urged in 1961, but it is clear that neither politicians nor generals will now withdraw at the first whiff of failure. If anything, the danger is the opposite: that, as in Vietnam, the need to succeed abroad could in some cases blind them to an emerging reality in which success is unattainable.
The gripes are global. Japanese and Chinese have queued up to buy books that advocate “saying no” to the bossy Americans. Russians have talked approvingly of partnerships with China, India or others to balance the sole superpower. Europeans—and not just the French—have said they must be united in order to provide a counterweight to the United States. Appalling numbers of European pundits, including British ones, alas, argued that although September 11th was dreadful, it was the inevitable result of American policies. And of course there is Iran, to which the United States is always the Great Satan.
The question, though, is what weight to give to such sniping. If you were to take it literally, you might worry, along with quite a few international-relations theorists, that today's American dominance will lead inexorably to global or local alliances against it. American power is not a solution, but a problem in itself. The world, on this view, demands some sort of balance and so, in time, one will form as others gang up against the arrogant hegemon. Or you might worry that a resented America will increasingly have to act alone, as it did in Vietnam, and that it will again be weakened or disheartened when it fails. And then the world will become more dangerous.
Of these, the second is much the bigger risk. To see why, look first at what other countries do rather than what their people say. There is no doubt that America's military lead is huge, and that its economic and technological lead is also large. Table 2, updated from a 1999 article in International Security by William Wohlforth of Georgetown University, shows how America's lead over others on pure economic and military measures is far larger than that held by Britain in 1870, and the lead on military measures is larger than America itself held in 1950.
The military gap, in particular, has been getting larger since 1989, and continues to do so. As chart 3 shows, until recently America was cutting its defence spending in real terms. Others, though, were also cutting theirs rapidly. Even China has hardly been narrowing the gap. And, in terms of effectiveness, the gaps are wider still thanks to America's technological lead and professional armed forces. America's European and Japanese allies have not been trying to narrow it; both have sought at times to retain some independence, by developing their own hardware or satellite systems, but not actually to compete with the superpower.
This is not what you would expect if the ganging-up theory held true. America's power should lead others to spend more, not less. Some countries are, indeed, spending more, but for fear of each other, not of America: India and Pakistan have raced each other on arms, and many countries in East Asia have been bolstering their defences. Most, though, have been—and still are—responding to America's military lead by shrugging their shoulders and cutting or freezing their budgets. To Europeans, and still more to Russians, it is all a trifle embarrassing; hence the European talk about a unified defence force alongside NATO, but not, so far, any extra money. Tant pis, they seem to say: America is not a threat, so why bother to counter it?
It is rather better, in fact, to be on America's side. And that is where, for all the gripes, more and more countries are finding themselves. Even the balance-of-power theorists recognise this tendency of “bandwagoning”. In regions where there is a prospect that one country might come to dominate, the incentive to ally with America is even stronger: hence the enthusiasm in East Asia for American participation, rather than have China or Japan take the lead. When America was ignoring Afghanistan, Pakistan took the Taliban's side; as soon as America returned, Pakistan jumped into its camp. Despite concern over a future attack on Iraq, criticism of America still centres more often on its failures to act or participate than on the threat it, or its adventures, pose to others.
Ganging up is likelier, as well as already more common, in economic matters. America has the world's biggest economy and is the biggest trader, but it is matched by the similarly sized European Union, which speaks with one voice on trade policy, and by the second-biggest national economy, Japan. It cannot automatically get its way in the running of the World Bank and the International Monetary Fund, despite being their biggest shareholder; it has voluntarily (if grudgingly) pooled its sovereignty in the World Trade Organisation; and other countries have happily ignored its objections to international environmental deals or judicial arrangements and gone ahead to set them up themselves (even if the United States then remains outside them).
Such issues are instructive, however. Although ganging up on America is in principle likelier in trade and finance, and does occasionally happen, the prospects for it are limited by one big thing: that if you favour freer trade, or readier access to finance, America is generally the main proponent of both. And many more countries have, in the past dozen years, opted to join the American-led system of liberal trade and capital flows. Where America favours selfish protectionism, notably for agriculture, steel and textiles, the Europeans have favoured it too. A lack of American leadership on trade liberalisation might set back that cause considerably, but it would not bring about anti-American alliances.
For sure, the United States is, by its very nature, a selfish superpower. Its sheer power allows it to override objections from others and sometimes to be careless, since it knows—or thinks—it will be able to sort messes out later. Its immigrants went there to better themselves, to escape worse conditions elsewhere, to leave the world rather than lead it. Its constitution is designed to prevent not only strong government but also any interference from outside. When morality and idealism do start to take over the language of foreign policy, they are generally balanced by a more pragmatic search for the national interest, thanks to the discipline of democracy. Wilsonian morality has long tussled with the realpolitik of Theodore Roosevelt and Henry Kissinger, and does so even in the words and deeds of George Bush.
Yet America's national interest is special, and not only to starry American eyes. It offers the closest match there is to a world interest. The desire for unimpeded trade, the rule of law, safety and security, the protection of property and the free movement of people and capital match world needs, not just American ones. Only when captured by the sectional interests of particular business, ethnic or religious groups do those American interests conflict with wider ones, as was recently shown by the steel tariffs, and has also been the case with some environmental laws, including the Kyoto deal. But as long as most American selfishness remains of the benign sort, it is unlikely to be opposed on a large scale, by coalitions of countries.
This does not, and never will, eliminate the niggles and the sniping from within America's growing band of allies, for pride is concerned as well as commercial interests, and the general match between American interests and the world's does conceal many specific frictions. But it limits the sniping's importance.
Even if they do not confront it, however, disgruntled allies can react to American actions in two other unhelpful ways. They can sit on their hands and leave America to get on with things, knowing that in a turbulent world there are limits to what even a superpower can achieve on its own. Alternatively, they can make life even harder for America by accepting its leadership but also surreptitiously selling trouble-makers the wherewithal to cause more trouble, such as missile technology or nuclear materials, or merely doing investment deals with the pariahs. That is what France, China and Russia have been doing, to different degrees, in recent years, in particular in Iraq. Yet America now has the chance to turn at least one of those countries into a far more co-operative ally and perhaps—just perhaps—to open a new chapter in worldwide efforts to contain the spread of weapons of mass destruction.
Jun 28th 2002
From The Economist Global Agenda
Better-than-expected consumer-confidence data from America helped stockmarkets take news of yet another accounting problem at a big American corporation, this time at Xerox, in their stride. But the world's financial markets remain in jumpy mood, with the dollar close to parity with the euro. Might policymakers now find themselves struggling to keep the economic recovery on track?
THE American economy never ceases to surprise. Consumer-confidence figures released on June 28th showed better-than-expected revisions. The University of Michigan's consumer survey still showed a drop in June, but a less sharp fall than the preliminary estimate released in the middle of the month. This good news (sort of) followed a spectacular upwards revision to the figures for economic growth in the first quarter of 2002. When the final figures were published on June 27th, they showed a completely unexpected jump. Instead of earlier estimates of growth at an annual rate of, first 5.8%, then 5.6%, the government's statisticians now say the economy grew at a rate of 6.1%.
Besides coming as a surprise, that is also an impressive achievement for an economy just emerging from recession. The economic numbers have helped steady the nerves of traders and investors after the bombshell dropped by WorldCom, a telecoms giant, on June 25th, when it admitted that an accounting fiddle had overstated its reported profits by close to $4 billion over the past five quarterly accounting periods. This spells disaster for WorldCom, which could now be forced to declare bankruptcy. It has also started people worrying about what other revelations might follow: such concerns were strengthened by news on June 28th that Xerox would have to restate $6.4 billion-worth of sales, twice as much as had been expected. The restatement, however, will lead to a smaller net reduction in revenues, of $1.9 billion—still a large number but not one that caught investors unawares.
The Federal Reserve, America's central bank, also played its part in bringing some calm to stockmarkets. At the end of its regular meeting on June 26th, the Fed's main policymaking body announced it was leaving interest rates unchanged. Currency markets, though, remain even more volatile, with the dollar under strong pressure against both the euro and the yen. More than once the greenback has approached parity with the euro and most economists think it will fall further. Some predict a depreciation of around 20% or more, on top of the 10% or so seen since the beginning of the year.
It is easy, but mistaken, to rush to judgments on the back of a few days of unusual turbulence. Shares and currencies can often bounce back in the most unexpected way, and as the experience of recent years has shown, for the most insubstantial reasons.
But there are good reasons to doubt the likelihood of a big early recovery in either share prices or the dollar. Nobody expects the buoyant numbers for American economic performance in the first quarter to be matched in the rest of the year, and the data about the economy's performance continue to be mixed. Many economists have argued that a stockmarket correction was long overdue. The ratio of share prices to earnings, traditionally a measure of whether shares are overvalued, is, for many companies, still at historically high levels. WorldCom's fraud, and reports about the scale of Xerox's problems, have fuelled fears that other unpleasant corporate revelations may be yet to come. Investors are wary.
Even if such corrections are inevitable, there are dangers when adjustments take place in an atmosphere resembling market panic. Investors and traders have a tendency to over-react—shares get dumped indiscriminately, for instance, without investors making judgments about the relative worth of individual shares.
A strong dollar has made life difficult for American exporters and has helped fuel protectionist pressure in America—pressure to which, in the eyes of America’s trading partners, President George Bush has shown himself uncomfortably willing to respond. And America’s soaring current-account deficit has looked increasingly unsustainable without a sizeable downward adjustment in the dollar’s value.
A cheaper dollar could therefore bring benefits if it boosts American exports. Higher demand from abroad for American goods would help compensate for any loss of consumer confidence. But currency markets also notoriously overshoot at times of market turbulence. Once market sentiment starts to push a currency down (or up) it can become relentless.
Too sharp a drop in the dollar could unleash inflationary pressures in America as the cost of imports rises. Most economists at present expect the Federal Reserve—America’s central bank—to contemplate raising interest rates at some point this year. Borrowing costs in America are currently at a 40-year low, and their rapid reduction last year is given much of the credit for the mildness and brevity of America’s recession. But the fall-out from a prolonged weakness in stockmarkets, corporate profits and investment could pose a serious dilemma for the Fed: it will not want to raise rates too soon and risk choking off the recovery, but nor will it want willingly to take too many risks with inflation.
The Fed has decided that the risks remain equally weighted for now: hence its decision to leave interest rates unchanged, without even hinting that an upward move is imminent. The American central bank is not alone in facing difficult policy choices. The counterpart to a weakening dollar is an appreciation in the world’s other most important currencies, the euro and the yen. For those Europeans for whom the weakness of the fledgling single currency has been a source of embarrassment, its current resurgence has been gratifying. But many European economies remain sluggish at best—no sign yet of the European growth locomotive—and an appreciating euro means European exports become less competitive in the rest of the world.
It is possible that a prolonged strengthening of the euro could give the European Central Bank (ECB) more scope to cut rates. More likely, given the ECB’s persistent difficulty in meeting its own inflation target, the bank might see a stronger euro as an aid to meeting that target without raising interest rates as soon as it might otherwise have done. That won’t be much comfort in those parts of the euro area which are struggling to achieve above-zero growth.
At least the ECB has some flexibility to respond to rapid shifts in currency values. The poor old Bank of Japan is in a much tighter bind. Interest rates in Japan are already virtually zero. The Japanese economy has just begun to emerge from its third recession in a decade, and the only bright spot recently has been a rise in Japanese exports. Japan has intervened several times lately to try to halt the rise in its currency, which the government fears could stifle recovery almost at birth.
Of course, Japan’s economic problems are far more deep-seated than an attack of the jitters on world markets. But market volatility can, at best, make life more difficult for policymakers trying to juggle sometimes conflicting objectives. At worst, they could make managing that balance impossible.
Cowboy Bites The Dust
Jun 28th 2002
The Economist Global Agenda
WorldCom, one of the brightest stars of the technology boom, is accused of committing a book-keeping fraud on a massive scale, casting more doubt on the integrity of big corporations and the professionalism of accounting firms. Despite the shenanigans, America’s telecoms industry could soon be on the mend
FINANCIAL fraud is supposed to be a sophisticated business. That is why boards of directors, regulators and auditors find it so hard to stop. But the $3.8 billion accounting fiddle that WorldCom, a once-high-flying telecoms firm, has owned up to lacks any of the impenetrable dealings that masked the worsening finances at Enron. WorldCom, it turns out, did not bother with the likes of off-balance-sheet partnerships to hide its problems. It simply made the numbers up.
The rumours had been growing. But nobody had any inkling of the mess that John Sidgmore, WorldCom’s new boss, revealed on June 25th. Following the departure in April of Bernie Ebbers, WorldCom’s founder, an internal audit discovered an “irregularity” in the way the company had been booking capital expenses. A subsequent investigation found that $3.8 billion-worth of costs had been wrongly classified as capital expenses over a five-quarter period from the start of 2001. KPMG, which replaced the firm’s long-standing externalauditors, Andersen (yes, them), in May, is investigating further. Unlike costs, capital expenses are written off against profits over time, so the error boosted reported cashflow and profits. WorldCom reported a profit of $1.4 billion last year, and $130m for the first quarter of 2002. These numbers were, in fact, fictitious.
Companies have been misclassifying costs for years. In 1971 in Britain, Rolls-Royce went under after fooling itself that costs related to the development of a new jet engine were, in reality, capital expenditure. But the problems at Rolls-Royce looked like old-fashioned British incompetence. The motives at WorldCom seem altogether more modern.
So far, everybody is blaming Scott Sullivan, WorldCom’s chief financial officer until he was sacked on June 25th. “Our senior management team is shocked by these discoveries,” said Mr Sidgmore. Nevertheless, on June 26th the Securities and Exchange Commission (SEC), which had been investigating the company’s accounting, charged WorldCom with fraud. President George Bush has said he is worried about the economic fallout from recent financial scandals.
A congressional committee has subpoenaed a number of the firm's executives to appear at a hearing on July 8th, and a panel which has been investigating the Enron collapse has demanded that WorldCom supply it with corporate records. The House Financial Services Committee especially wants to hear from Mr Ebbers, who was often to be seen in his cowboy boots and stetson hat. He was under pressure to raise WorldCom’s sagging share price. Mr Ebbers owes WorldCom over $400m, which he borrowed to bet on WorldCom shares. These loans are secured on Mr Ebbers’s personal assets, including a yacht-sales company, a soyabean farm, and nearly 27m WorldCom shares.
The entire board had a strong motive to keep up the share price. Between them, the 12 directors and executives named in the company’s latest proxy statement, filed in April, own nearly 50m WorldCom shares. Even the outside directors are big owners: Max Bobbitt, a telecoms consultant who chairs WorldCom’s audit committee, has nearly half a million shares.
Mr Sidgmore will now have to rethink his tactics. The company had been hoping to negotiate a $5 billion bank loan, in part to refinance a $2.65 billion loan on which it is now in default (because its accounts no longer comply with GAAP standards). These negotiations now look doomed. That leaves liquidation or restructuring as the main options. Nancy Kaplan of Adventis, a telecoms consultancy, thinks that any attempt to restructure WorldCom will fail. The company is good at selling data and other telecoms services to its corporate customers. This is a business with real margins and growth prospects. But it has lots of weak businesses as well, including its declining consumer long-distance unit and its failed mobile-telecoms arm. This makes it harder to shrink.
The more likely outcome, says Ms Kaplan, is that WorldCom’s competitors will pick off its assets at bargain prices. These include thousands of miles of “backbone” fibre-optic cable, which runs between cities, together with WorldCom’s efforts to upgrade the “last mile” underneath cities so that businesses can connect to this broadband network. Both have problems. The capacity glut in backbone fibre persists. And the patchwork of networks that run beneath the world’s big cities lacks scale and is plagued with technical problems. Top of the list of buyers ought to be AT&T, WorldCom’s only serious competitor in the business-services market. In the present environment, however, it is hard to see how AT&T is going to raise the money to buy anything.
It is these sorts of “doom loops”, says Bill Bane of Mercer, a consultancy, that prevent investors from seeing the bottom for the telecoms industry. Shareholders greeted this week’s news by dumping telecoms shares more enthusiastically than ever. Two things could change that. One, says Mr Bane, is if the fibre-optic capacity glut turns into a supply shortage. Although Enron made markets in it, fibre-optic backbone is not really a fungible commodity. Customers who want to send data from New York to London cannot use the pipe that goes to Washington, DC. That leaves any pair of destinations vulnerable to a capacity shortage.
Also forgotten in the current industry rout, says Mr Bane, is that demand for fibre-optic cable is growing by 75-150% every year. Mr Bane foresees a scenario in the not-too-distant future in which big companies find that their delicate, just-in-time, global electronic supply chains seize up. That will cost them huge sums of money, prompting them to buy or lease their own private, global fibre-optic networks from the telecoms companies. This, of course, would tighten the supply squeeze. Prices would soar. If it were still around, WorldCom might then once again be worth hundreds of billions of dollars.
The other possible outcome is that WorldCom, AT&T and other telecoms companies that serve business customers are absorbed into the Baby Bells, the local telephone operators that the regulators hived off from AT&T in 1984. These bureaucratic, sleepy near-monopolies have found favour with investors recently. America’s regulators and antitrust officials have, until now, viewed their expansion into other markets with caution. After its turbulent experiments with deregulation, however, America craves stability from its all-too-excitable telecoms companies. The Baby Bells could certainly supply that.