The root cause of all global crises - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

The root cause of all global crises 

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In this issue:
» Who are among the worst hit by the falling rupee?
» Succession planning is a big challenge in India
» Complacency is a big risk for the US
» Is this good news for the power sector?
» ...and more!

The world economy is in crisis. There is no doubt about it. The recent turmoil in the global financial markets just underscores the dangerous path that we are treading.

What has really gone wrong? One can understand that ups and downs are part and parcel of all aspects of life, including business and economics. But can the ongoing crisis be labelled as just a temporary down phase? Was the crisis avoidable? What lies at the root of all the global crises?

We recently came across a very intriguing book that provided a groundbreaking perspective about what's really wrong in the world today. The book is called The Bed of Procrustes, authored by renowned Lebanese American essayist and scholar Nassim Nicholas Taleb. In this book, Taleb uses the analogy of Procrustes, a mythical Greek character, to explain the inherent flaws in the way the world is being run.

The story goes thus... Procrustes was the cruel owner of a small estate in Attica. He had this perverse habit of abducting travellers, offering them a generous dinner and then inviting them to spend the night on a somewhat special bed. He wanted to ensure that the bed fit the traveller perfectly. But the means he employed to achieve that were horrifying. Instead of providing a bed that would fit the traveller, he would alter the traveller's body to fit the bed. If the traveller was taller than the bed, his limbs would be chopped off. And if he was shorter, he would be stretched to fit the bed. Though Procrustes would achieve his goal of creating a perfectly fitting bed, the traveller would be dead in the process.

What does this story imply? Taleb perfectly summarise his point of view in the following sentence, "We humans, facing limits of knowledge, and things we do not observe, the unseen and the unknown, resolve the tension by squeezing life and the world into crisp commoditized ideas, reductive categories, specific vocabularies, and prepackaged narratives, which, on the occasion, has explosive consequences."

Let us simplify the meaning for you. The world is a very intricate and complex place. Despite of all progress in science and technology, our understanding of things is still very incomplete. And the going gets even tougher when it comes to comprehending complex human systems such as finance and economics. But the thinking human mind has a big problem. It tries very hard to condense the world around into easy-to-fit, simplistic ideas. And so is the case with economics. With so many variables and unknowns, the people attempt to break down all the complexity into simplistic theories and models.

The real big problem starts when economists and financial experts become the proverbial Procrustes. Instead of trying to adapt their economic models to reality, they try to impose and correct reality by imposing their theories on it. If you apply this explanation to how economists and policymakers have responded to the several ongoing crises, you will begin to see what's really wrong.

What, according to you, is the root cause of all global crises? Please share your comments or post them on our Facebook page / Google+ page

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01:30  Chart of the day
The Indian rupee has been spiralling downwards and hitting new lows in recent times. The depreciating rupee has a significant negative impact on the Indian economy. It adds to our current account deficit and raises the costs of all imported items, crude oil being a major component. And this in turn tends to fuel inflation in the economy.

For corporates, the impact tends to be mixed. Companies that have dollar receivables tend to benefit from the rupee fall. On the other hand, companies that have payables in dollars are adversely impacted. Companies that bear a significant exposure to forex debt tend to be severely impacted. A declining rupee tends to increase their debt and interest burden. The chart of the day shows companies with the highest exposure to forex debt.

Data source: Business Standard
*As of March 2013

A good way to retain your job is to make yourself indispensable to the company. But is that the best thing from the company's perspective? Not really. Particularly if the employee in question is a part of the core senior management. The risks are just too high then. For if the person leaves, then the company is in trouble. Unfortunately this seems to be the case for most of the senior personnel in the corporate world.

Take the case of Infosys. The company seems to be of the firm belief that to get back to its old glory, it needs its older employees. This is why it decided to recall Mr Narayana Murthy from his retirement. Interestingly, India is not the only country where succession planning is a problem. There are numerous examples worldwide of companies recalling their old bosses to help them out when things took a turn for the bad. The list includes some big names like Yahoo, Dell and Xerox. Unfortunately for these companies the second stint of the old boss did not really work to their favour.

Whether Infosys benefits from the return of Mr Murthy or not is something that remains to be seen. Nevertheless maybe in his second stint with the company he would concentrate more on who will be the next leader for the company. Succession planning is the key to running a successful business in the long term. Hopefully the example of Infosys and such others serves as a lesson for other corporate leaders that they need to have a clear cut succession plan. Being a one man army can be detrimental to the company in the long term.

There are those who believe that the US economic recovery is a total sham. And then there are those who argue that slow but steady recovery is indeed taking place. If one is a Government insider, it's certainly not hard to know which side he would lean. Steven Rattner, who led the restructuring of the US auto industry in 2009 is one such gentleman we believe. In an article in NY Times, Rattner argues that employment growth that's been happening in the US of late is indeed good news.

However, the US policymakers get complacent at their own peril. Because even if one considers the current trajectory of employment growth, it would take till the year 2022 for unemployment rate to come down to 2007 levels of 5%. What more, even the wages don't seem to be going anywhere. He has thus requested the US congress to wake up from its slumber and do something to spur job growth. And we thought it is only the Indian Government who's painfully slow in implementing crucial reforms. Looks like the US congress too suffers from the same malaise.

The problems that the power sector in India faces highlight the apathy of the government in resolving these in time. Indeed, power producers since a long time had been hankering the government to allow them to pass on the rise in coal prices to consumers. The government chose to turn a blind eye to these demands. The power purchase agreement did not have such a provision, especially in the case of ultra mega power projects. And the government did not do much in terms of speeding up reforms in this regard.

Now as per an article in Business Standard, the government seems to have reluctantly allowed coal price rises to be passed on. But the question is who will buy this higher priced power? The industrial sector is facing a slowdown and competition has increased keeping margins under pressure. State electricity boards are already in a sorry state. They could not afford power even from producers who were using subsidized coal from Coal India. If there are no takers, power producers will be left with no choice but to absorb this cost. And thereby bear the burden of lower profitability.

All the major global stock markets ended the week in the red with Brazil (down 4.4%) and Hong Kong (down 2.8%) leading the pack of losers. The US stock market registered losses (down 1.2%) over the week, after the US Federal Reserve Chairman Ben Bernanke hinted at a likely pull back of QE program. This means if the US Fed perceives recovery in the economy and unemployment levels, it would gradually reduce the monetary stimulus. This was one of the primary reasons for the weakness in the global stock markets during the week gone by.

The European stock markets too witnessed a sharp fall. The stock markets in Germany, France and UK were down by 4.2%, 3.9% and 3% respectively over the week. Concerns regarding the QE program being tapered off hit these markets as well. The weakness was further fueled by political instability in Greece. Majority of the European stocks hit year's low during the week on back of the US Fed and Greece woes.

The major Asian stock markets also mirrored the trends in the US as well as the European markets. However, Japan notched gains of 4.3% on back of a weakened Yen. Worries about China's slowing economic growth further impacted the markets. The stock market in China was down by 4.1%. The fall was further fueled by fears related to decline in manufacturing data.

The Indian equity markets also closed the week in the red with the shares in the realty and banking space leading the downfall. The BSE-Sensex was down by 2.1%. The Indian markets too reacted negatively to the Fed's announcement. News regarding a likely pullback of QE program also impacted the rupee. Rupee witnessed a sharp fall against the US dollar and hit a low of Rs 59.94.

Source: Cnnfn, Yahoo finance, Equitymaster

04:53  Weekend investing mantra
"Never count on making a good sale. Have the purchase price be so attractive that even a mediocre sale gives good results." - Warren Buffett

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    8 Responses to "The root cause of all global crises"


    Jun 23, 2013

    We live beyond our means. Many social benefits governments offer like Pension,free health care , creation of unproductive assets like defence equipments to prove supremacy , extravagant spending by govt are the reasons for this fiscal mess.
    Create infrastructure,but have a plan to monitize it.There is no free food..
    How running Government is different from running one's own family.Apply the same principles, world will be a better place ..


    Rajesh Bapaye

    Jun 23, 2013

    The root cause is the economic model, which is based on 'energy consumption'. It urges/wishes/instigates/inspires all to use more energy in very short time frame to fuel economy. Add to this the greed of people. Should there be growth always? Can't we live on plateau till things get sorted out naturally. There is shift of the focus from 'living' to 'growing'.
    Also, majority of the policy makers have not lived through great depression (of respective country, hence are not old enough to have acquired wisdom from that.


    A. Pereira

    Jun 23, 2013

    Wonderful analogy by Taleb. Quite relevant now and forever. It applies to our governance systems in the world and the people follow the same. We force to change the nature. And then suffer the nature's wrath. We read history, but dont change ourselves despite such lessons learnt from it. Only our Amazing Greed and society-destructing self interests remain constant.

    Like (1)

    asit ganguly

    Jun 22, 2013

    Root cause lies inherent in human nature of greed, which is manifested in failing capitalism. Unfortunately, there is no visible strong alternate model after failed socialist model. Inherent greed does not allow individuals and nations to remain contended within their means. Shamelessly, all the entities look for ever increasing bottom line month after month, quarter after quarter and year after year and that is simply not possible. To overcome that, all means today across the globe are considered justified. This is creating huge gaps between haves and havenots. So we are now in flux of self destructive tornado

    Like (1)

    Abhay Dixit

    Jun 22, 2013

    I do not think SEboards/distribution companies will find it difficult to sell the power. Many industries use DG sets which are much more costlier- inconvenient. even then the right thing to do is may be to average out and increase the base price itself. Like diesel price increase, people will accept it. The issue is really inefficiencies and losses/thefts in transmission.

    Like (1)


    Jun 22, 2013

    the root causes of the global crisis are;
    1. fluctuating financial currencies and financial markets
    2. fluctuating gold prices
    3. fluctuating oil production and prices

    4. terrorism in various places

    Like (1)

    Ramesh Jaradhara

    Jun 22, 2013

    Yes, Mr Taleb is correct. Instead of realizing the value of 'reality' we thrust upon our own 'theories' into everything. Natural Laws still hold its splendor.

    Like (1)


    Jun 22, 2013

    this is finest class of your's article I ever read and accepting your views about current crisis I wish to call all of your attention for a simple solution of all this complex problem to accept Shrmad Bhagwat Gita in complete sense which strike on all Arjun reside in us that apply your effort for the finest fruit but that fruit is to be surrendered to the Lord Krshna means that is not ours so no grievances if we could not achieve that just keep on trying for betterment that is what in our hand and when we achieve that renounce it taking it is property of Lord and we are just the servant of that loving master.
    For more answers read Bhagwat Gita AS IT IS the manual of life.

    Like (1)
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