China’s Next Crisis Lurks in Shadow Banking

As with most of the world economies, China is dealing with a growing debt problem, but the continuing use of shadow banking is causing more harm than good. Over the past few years the number of unregulated loans, investments, and financial products, has doubled. The value of this so called shadow banking industry is expanding and currently sits around 70 percent of China’s total GDP; upwards of 35 trillion yuan. There are several risks that this form of banking carries and the question that most economists and analysts are wonder is, how much of this capital must be covered by the national government. As the economy slows and businesses and local governments still have debt obligations many of them turn to shadow banking, with sometime exorbitant interest rates, to service their prior debt payments.

The official debt numbers of the various government departments sits around 30 percent of total GDP, but many analysts estimate that the true debt rate of governments, consumer, and corporations exceeds 200 percent of GDP. With no plan of action to remedy this problem, it is likely to get worse before it gets any better.

The shadow banking industry is involved in all aspects of corporate, consumer, and government, from prestigious securities firms to individuals at pawn shops. The shadow banking establishments are designed to offer borrowing and investment funds to people or organizations that want to circumvent the debt quotas or interest rate caps, because they are in dire need for the funds. The development and reliance on trusts has created organizations that are able to lend money out at rates of interest that exceed reasonable and official rates so that corporations can survive a little while longer. While the trusts usually make great returns for their investors, this profiteering is leading to a destabilization of the local economies.

Local governments and corporations that need to get things done without all of the red tape that is associated with obtaining bank funds. While this is great for speed of business, the due diligence required to ensure that the organizations have the capacity to repay the loan is often overlooked, which can lead to investments by the shadow financing organizations that aren’t able to be repaid. The Chinese government is aware that this is occurring and although they do want to get it more under control they understand it’s importance for various businesses and the support of local governments.

It will take major policy reform and enforcement to reverse this trend, and it doesn’t look like China is taking the necessary action steps to remedy this problem any time soon. While the official debt numbers sit around 30 percent of GDP, the overall debt from the shadow banking is more likely around 200 percent of GDP and growing, which mean that crisis is just around the corner.

Looking for Business in All the Wrong Places

Jerry’s web marketing business swung between super for two or three weeks to strangely quiet with new business the next month… or longer. Because the clients signed on for six-to-twelve month contracts, there was work to do with optimizing site structures, competitive research, building and configuring special search engine-friendly site maps, and all the rest. However, the growth of the business was a serious concern for Jerry and his loyal project managers, as well as cash flow, as new clients brought in the most new revenue.

When I sat down to talk with Jerry about his growth plan, he started to tell me how with only a few hundred thousand dollars, he could open additional sales offices in the suburbs of major cities, where many white collar businesses operate. “Great,” I said after he had gone into more details and further away from his day to day concerns. “Just tell me what you would train your sales force to say and who you would have them say it to as a first step in building your sales pipeline.”

Jerry looked at me with a flash of sternness in his eyes. That was enough to let me know the four word challenge would be coming up soon enough. Then he launched into what I call the “inevitability sales pitch.”

“Well, it used to be that a business would buy a phone book ad or a newspaper ad and customers would find them by flipped through the pages. But now, things are different. People are online and businesses need to get their web sites found. Buyers are surfing the web these days. Too many businesses have web sites that are outdated, hard to find, and poorly designed. They’ve got to get out of the shadows and be found in Google and Yahoo and Bing. We have special ways of getting our client web sites found by people looking for local businesses to do business with.”

“All true,” I stipulated. “Now tell me, how are you finding prospects and once you do, what do you do to win them over to becoming a client? Tell me about the last few clients you signed on.”

Jerry began to explain that his cousin, who ran a hair salon, had sent him a few prospects. After all, she was a satisfied customer. With Jerry’s techs running the hair salon web site, his cousin had gotten more calls, more appointments, and more customers than she had in the last two years combined. She was thrilled with her decision to work with Jerry and his team and she enthusiastically told customers, whenever the subject came up. She was a perfect success story.

The Economic Clock Has Malfunctioned

Clocks are suppose to enable us to tell the time. Before the clock a sundial was used. The sundial had one problem in that when the day was cloudy, it was hard to tell the time. The sundial basically relied upon casting a shadow across a circle that had markings which designate the time of the day.

The economic clock is supposed to be a reliable means of telling what investment is the best investment to be in at the current time in the economic cycle. However, what might have seemed to be a reliable means of telling the what the market was doing for the last 200yrs appears to have come unstuck. This is because the clocks predictions were based on a model that virtually only included Europe and and North America, with the additions of Japan, Taiwan, South Africa and Australasia.

Most of the world’s population was largely excluded from wealth and economic growth that affected these first wold economies. The second world economies included the Russian Communist Countries, China and India and Arab countries. The third world was seen as Central and South America, Africa and parts of South Asia.

What the economic clock advocates have failed to take into account is that the second world countries have come on board the global economy and are fast becoming first world countries. What this means is there are 2.5 billion people in India and China who are beginning to participate in the global economy that previously were excluded and also another 1 billion from the Arab and previous European and Russian communist countries.

The Immigrant Experience: Economic Issues Affecting Migrants

Several days ago, the Commerce Department reported that May’s factory orders had increased by a 2.9 percent. This was well covered by ‘the press’, as it was to be a positive influence on ‘the market’ (yes, the quotes are intentional…’ll see why). The enthusiasm was understandable – the $394 billion in orders of manufactured goods is the highest level seen since the current calculation method was adopted. Although being skeptical can be wise, the figure was (and is) a clue that the economy is on a solid footing. However, too many times there’s a disconnect between what ‘should’ be the result of a piece of economic data, and what actually occurs. The economy isn’t the market. Investors can’t buy shares in factory orders……they can only buy (or sell) stocks. Regardless of how strong or weak the economy is, one only makes money by buying low and selling high. So with that, we put together a study of some of the economic indicators that are treated as if they affect stocks, but really may not.

Gross Domestic Product

The chart below plots a monthly S&P 500 against a quarterly Gross Domestic Product growth figure. Keep in mind that we’re comparing apples to oranges, at least to a small degree. The S&P index should generally go higher, while the GDP percentage growth rate should stay somewhere in between 0 and 5 percent. In other words, the two won’t move in tandem. What we’re trying to illustrate is the connection between good and bad economic data, and the stock market.

Take a look at the chart first, then read our thoughts immediately below that. By the way, the raw GDP figures are represented by the thin blue line. It’s a little erratic, so to smooth it out, we’ve applied a 4 period (one year) moving average of the quarterly GDP figure – that’s the red line.

Generally speaking, the GDP figure was a pretty lousy tool, if you were using it to forecast stock market growth. In area 1, we see a major economic contraction in the early 90’s. We saw the S&P 500 pull back by about 50 points during that period, although the dip actually occurred before the GDP news was released. Interestingly, that ‘horrible’ GDP figure led to a full market recovery, and then another 50 point rally before the uptrend was even tested. In area 2, a GDP that topped 6 percent in late 1999/early 2000 was going to usher in the new era of stock gains, right? Wrong! Stocks got crushed a few days later….and kept getting crushed for more than a year. In area 3, the fallout from the bear market meant a negative growth rate by the end of 2001. That could persist for years, right? Wrong again. The market hit a bottom just after that, and we’re well off the lows that occurred in the shadow of that economic contraction.

The point is, just because the media says something doesn’t make it true. It might matter for a few minutes, which is great for short-term trades. But it would be inaccurate to say that it even matters in terms of days, and it certainly can’t matter for long-term charts. If anything, the GDP figure could be used as a contrarian indicator… least when it hits its extremes. This is why more and more folks are abandoning traditional logic when it comes to their portfolios. Paying attention solely to charts is not without its flaws, but technical analysis would have gotten you out of the market in early 2000, and back into the market in 2003. The ultimate economic indicator (GDP) would have been well behind the market trend in most cases.


Let’s look at another well covered economic indicator……unemployment. This data is released monthly, instead of quarterly. But like the GDP data, it’s a percentage that will fluctuate (between 3 and 8). Again, we’re not going to look for the market to mirror the unemployment figure. We just want to see if there’s a correlation between employment and the stock market. Like above, the S&P 500 appears above, while the unemployment rate is in blue. Take a look, then read below for our thoughts here.

See anything familiar? Employment was at it strongest in area 2, right before stocks nose-dived. Employment was at its recent worst in area 3, right as the market ended the bear market. I highlighted a high and low unemployment range in area 1, only because neither seemed to affect the market during that period. Like the GDP figure, unemployment data is almost better suited to be a contrarian indicator. There is one thing worth mentioning, though, that is evident with this chart. While the unemployment rates at the ‘extreme’ ends of spectrum was often a sign of a reversals, there is a nice correlation between the direction of the unemployment line and the direction of the market. The two typically move in opposite directions, regardless of what the current unemployment level is. In that sense, logic has at least a small role.

Bottom Line

Maybe you’re wondering why all the chatter about economic data in the first place. The answer is, simply to highlight the reality that the economy isn’t the market. Too many investors assume there’s a certain cause-and-effect relationship between one and the other. There’s a relationship, but it’s usually not the one that seems most reasonable. Hopefully the graphs above have helped make that point. That’s why we focus so much on charts, and are increasingly hesitant to incorporate economic data in the traditional way. Just something to think about the next time you’re tempted to respond to economic news.

Staffing For The New Economy

Staffing your office in this new economy has never been more challenging. Posting on job boards will get you hundreds of non qualified candidates that will waste valuable time for your already limited office staff. You may have already faced some of the challenges listed below.

Do you have current employees that you should replace but do not have the time and/or ability to do it in secrecy?
Are you wasting time talking to applicants who can’t follow directions, show up dressed inappropriately, or just don’t qualify?
Do you have a current database filled with 14,000 candidates that were previously interviewed to assist your screening process?
Are new employees drug screened, background checked, and is past employment being verified?
Do you have a plan for the H1N1 (swine flu) outbreak when it attacks your office?
Are immigration laws being followed so Sheriff Joe does not pay a visit to your facility?

Many staffing companies claim that they perform duties you take for granted. What would you do if you had a legal issue and your staffing company was not doing the proper due diligence? Most companies believe in error, that this will be a problem for the staffing vendor. THAT IS INCORRECT. The company will be the ultimate backstop for any litigation. Deeper pockets (your company?) require protection from the staffing company doing the job you pay them to do. Please make sure you ask your staffing vendor for a ‘shadow file’. This is file that shows you the completed work on the candidate, including pre-employment drug screen. This way you will be sure your investment is being put to good use.

Units of Capitalism at the Dawn of Globalization

In 1954 America, the average middle class family had one black, metal telephone wired to a wall near the kitchen, one car with no seatbelts or GPS system, and one television receiving a handful of free, snowy channels from an antenna on the roof. By most measures, fifty years is not a long time, but in America, fifty years can be precisely measured in price tags, pie charts, top-ten hits, hairstyles, hemlines, movies, TV commercials, and a decade-by-decade calendar of trends and products we created, manufactured and sold to each other. In the developed world, America represents the best working model of capitalism and free enterprise. Muddled by our democratic process, and flawed by its inherent inequalities, our interpretation of capitalism is the most influential economic force in the global community.

Fifty years has so many markers in our country because in our economy change must rule the day. Change means new ideas, new products, new jobs, and new money to fuel new ideas. One of the downsides of the system, however, is that people become so consumed by the process of managing their own complex lives, that they lose perspective of their true context as elements of the economy, and by extension, as a nation in the global community.

In America, the emphasis on today is trend economics by design, but it is important to step back and include the valuable lessons of history in today’s thinking. This is a nation built on the pursuit of ideals, and strengthened by the ingenuity and diverse fabric of its society. A nation of immigrants that became a nation of Americans with many faces, in a world of nations that became a global community. The realities that flow from these truths are the foundation of the future for an America that is no less capable, but as a society, perhaps less able to see the bigger picture, and less willing to evolve. This is no more evident than in the debate over who gets the jobs of American companies. It is less a question of entitlement than a matter of understanding history and of how our economy works. A system that demands more of everything to survive cultivates a society of individuals that functions on the same premise. The very nature of capitalism imposes powerful influences and pressures on society to achieve and consume, but in that process the broader context of issues is over-shadowed by an ever-narrowing focus on achieving personal goals. Objectives become expectations; opportunities become entitlements.

Our economic and labor history is one of creating change and then adapting to it. The transitions were never smooth, but the process is inevitable unless our workforce is prepared for change. The independence and resourcefulness of individuals is historically what defined the character of our collective workforce. Today, more than ever, we are units of capitalism and our lives are microcosms of the entities we create.

There is a lesson here for the developing world and the global community, and that is to recognize the gaps that democracy and capitalism create. The system has flaws that break down from the inside, at the individual level. Governments need to invest in education so that the workers of today have the chance to adapt to the real world economy, and workers of tomorrow are prepared to. It is not just a matter of teaching specific skills, but also the concept of adaptability; of learning the broader skills of learning, and understanding the effects of the global economy on individual lives. The empowerment of people to create their own opportunities is key to the long-term success of capitalism. Governments have the responsibility to build a foundation on which businesses can create opportunities, and to provide its citizens with the structure and knowledge to pursue them.

Globalization is less of a concept or economic policy than it is a collective realization of an inevitability. Like modernization, the word globalization can be defined as an adjustment after-the-fact. Our world is coming into focus as its population grows, as technology networks us together, and ultimately, as our demands on each other and the resources of our world force us to come up with a plan. This is a global realization – a wake-up call to the obvious state of the new global economy, and how it effects our lives.

In New Dehli, India, beyond the chaotic street life that defines the county’s social and economic turmoil, are islands of order – new businesses with cutting-edge technology run by young entrepreneurs. They serve U.S. companies as customer service and technical support for American products and services. Using their own satellite telephone equipment, because India’s public telephone service is too unreliable, employees learn to speak colloquial English to Americans who believe they may be chatting with someone from Columbus, Ohio or Brooklyn, New York. Only five percent of those who apply are offered these prime jobs that pay only $5000US per year – a bargain for U.S. companies. So important are these jobs to India, though, that many members of the Indian government believe they represent a cornerstone to the rebuilding of the economy, and the pride of their nation.

In the U.S., the debate over the outsourcing of jobs to other countries is a debate over the present toward the future, that often overlooks the past. Much of our history has been shaped by the process of free enterprise. At the end of the 19th Century, during America’s Industrial Revolution, emerging industries and new inventions displaced workers and forced entire generations of craftsmen to retrain – to apply their experience and retool their skills in order to adapt to the changing world. Employers moved to build factories closer to resources to expand and increase profits. America was reinventing itself from an agricultural to an industrial economy.

The industrialization of America undermined the status of skilled workers. Increased mechanization meant that owners had less and less need for highly trained artisans and craftspeople. As a result, beginning in the 1870s, skilled workers became an ever smaller part of the overall labor force. Companies hired unskilled laborers who performed simple tasks and worked for lower wages. The result was that American factory work became “deskilled”. More and more rural Americans migrated from farms to urban factories, while women and children became an ever more significant part of the industrial workforce. Most women who worked in factories were between the ages 18 and 24, and children as young as five became increasingly important cogs in the industrial wheel. By 1890, the bulk of the urban American population was living below the poverty level of $530 per year. By 1910, 25 percent of all American children were employed full-time in the nation’s factories. Americans were taking American jobs, and industries were moving over state lines. The realization then was nationalization. Just as today, the American worker was caught in a gap between expendable skills and expanding progress.

During the 1830s and the 1840s, the average workday at American textile mills was 16 to 18 hours. By 1865, that dropped to between 11 and 12 hours, and by the early 1880s, employees demanded that they work only 10 hours a day. In a few cities, lead by Chicago, organized labor emerged and fought for the now-standard 8-hour workday. Some factory owners agreed with the reforms, but most still believed that workers benefited morally from working longer hours. The balance had shifted from a skilled workforce to a captured unskilled pool of interchangeable parts. In a long and bitter struggle, organized labor fought to right the scale.

Unions championed the rights of American workers to secure jobs that pay fair wages in safe environments, and their role has been a vital weight toward achieving a balance between corporate profits and fair labor standards. But unions have also over-protected jobs at the expense of the progress that created them – holding back technological advances, and seeking high wages for dull-edge – obsolescent or less-skilled jobs. This helped drive up the cost of American goods and services, which in turn helped inflate the cost of living, which was then used as a justification to demand higher wages, while competition from foreign imports riddled American industries.

The end-result to the American consumer was a greater choice of products and lower prices based on free-market competition with foreign companies. The end result to the American worker was short-term gains that lead to long-term unemployment for many, when companies that could not compete became industries that could not compete. American workers became consumers who had raised their standard of living on higher wages, and raised the price of the American goods and services in the process. Faced with that reality, they found themselves buying foreign-made goods to maintain their American standard of living.

The Technological Revolution of today thrives in a global community instead of national one. Just as over a hundred years ago, businesses are moving toward cheaper labor to increase profits. A successful business is an organism designed to compete. Social considerations aside, a company seeking greater profits overseas is no different than an employee seeking a higher salary across the street. Outsourcing is not “anti-American” as many in the workforce are suggesting – it is very American, and a positive step toward the development of a healthy global economy. In the building of our country, fairness has never been a cornerstone of progress – it’s almost always been a lengthy retrofit, but it doesn’t always have to be that way, and the model we create can provide more balance to the process of progress.

Individual initiative supported by government and industry prioritizing education and training will help streamline the growth of business and industry, while empowering individuals to become part of an economy designed for revolutionary change. Other counties are living a part of America’s past, dealing with issues of child labor, poor working conditions and unfair wages. In some ways, we are doing business with 19th Century Americas. The similarities, however, can be limited to an immediate set of circumstances. The broader context in Mexico, for example, is quite different from anything in American history.

The Mexican economy is struggling under the weight of forty million people living below the poverty line – by Mexican standards. And American manufacturing jobs have moved there because the labor is cheap, and Mexican products have flowed into the U.S. marketplace because they are less expensive. This is how the global economy will grow. The problem with Mexico is the great disparity in the cost of labor and the standard of living. The border has become a waterfall from a high level of unemployment and poverty to a pool of opportunities and free handouts. Illegal immigrants are an unplanned-for flow in the globalization process, but they are also people trying to survive it. Clearly, illegal immigrants are not entitled to American jobs, but more importantly to American workers, they are not entitled to the opportunity. This is demoralizing because their opportunity was earned – through history, hard work, and citizenship. In a capitalist democracy, opportunity is a cornerstone, and opportunities can be lost because progress can be unfair, but not because illegal immigrants are handed American jobs. This is unjust on its face, and further compounded by the use of taxpayer funds to provide welfare, health care, and education benefits that some American citizens cannot obtain.

The key to dealing successfully with America’s latest revolution, is to see the global community for what it is – a powerful group of developed countries with resources and money, and a much larger number of struggling countries trying to use the system to compete and survive. It sounds simple enough, but America, as the world leader, must not just set the pace, it must set an example. An established set of checks and balances should allow a controlled flow of legal immigrants into the country, provide for massive education of its own workers, and allow the natural process of economic progress to flow. Creating a model that other economies can emulate and follow is more economically sound than allowing workers to lose their competitiveness, illegal immigrants to flow into the workforce, and other countries to define the shape of our economy. Clear policies and proactive planning will define the shape of America’s future in the center of the global community, and allow other counties to share the opportunities we provide, and exploit the opportunities they create.

Reinventing Business For the New Economy

Many commentators are saying that the recent economic downturn is not just another recession but a “resetting” (or “rebooting”) of the economy. There are a number of different reasons for such statements, and they tend to vary according to any commentator’s personal interests or field of expertise. This in no way invalidates them, but you do need to be careful how you interpret them.

You see, any recession is, virtually by definition, a resetting of the economy. Furthermore resetting an appliance or rebooting a computer implies that the device will effectively sort itself out and restart quite normally. There is no clear expectation of change from this analogy. Thus there is a danger in glibly accepting it, for without any shadow of doubt, this economic crisis presages change. We simply cannot afford to continue the way we were going.

In previous recessions the remedy has been to spend our way out of trouble. This has been facilitated by stimulating borrowing. Cheap credit has encouraged optimism and fueled growth. In this instance, however, excessive lending caused the recession and makes that a more risky strategy. You can argue that excessive borrowing is the cause of all recessions, but this one is different because the amounts borrowed to rescue the failed banking system have created unprecedented levels of debt. This limits the potential for future borrowing. Consequently, there is no longer the same scope to grow through additional borrowing. You could say that there will be a new normal for the amount of trade that will be possible and it is likely to be considerably lower than the pre-recession trade levels.

As a result “business as usual” is no longer an option. There is a new normal and the businesses that survive and thrive will be those that adapt to this more readily. Businesses are going to have to be more efficient and productive than ever before. This requires you to rethink the way you operate your business.

The area that offers you the most potential for this is the way you manage people. Efficiency can be created through new systems and processes but productivity is first and foremost a people issue. In order to optimize the new systems and processes you have to have people who:

  • Understand the systems processes and the thinking that underpins them; and
  • Are engaged and committed and looking out for the organization’s best interests.

In short this means that you need people who work smarter and who learn more quickly and are more responsive and adaptable. This makes people management your most pressing priority.

There is, however, another even more important reason for this. You can no longer afford the waste associated with the traditional management approach of “hiring people in good times and laying them off in bad times.” In a more constrained marketplace you cannot afford the cost of non-productive severance packages. You have to recognize that people are an investment and thus:

  • If you invest wisely they are the resource that can do most to pull you through tough times;
  • Every time you retrench people or make them redundant, you are actually writing off past investment. This is something that has long been under-recognized and not properly accounted for.

The information age may not be over, but people power is definitely making a comeback. If you want to ensure your business remains competitive in the new economy you are going to have to manage your people differently.