"Chinese industry will continue to grow, it can't help but expand with all the reinvestment they pour into it," remarked an American engineer who has helped construct multi-million dollar projects in several parts of China. "But it will be slow, and uneven, and wasteful," the engineer added. ~Fox Butterfield, Alive in the Bitter Sea, 1982, p. 279
In the past year the role of government vis-à-vis the economy has changed profoundly. While the U.S. economy has never been entirely free, in modern times the prevailing view was that private business entities should be able to seek profit free of government oversight.
That idea has changed quite a bit amid corporate bailouts and stimulus spending meant to prop up an economy that certain economists believe has stopped growing. What some refer to as the "new norm" speaks to a new kind of thinking which suggests that businesses must look to the government not only for financial sustenance, but for direction in terms of how to operate.
The evidence that a new kind of industrial policy has been foisted on commerce is revealed to the newspaper-reading public on a daily basis. This new corporatism has the potential to turn the innovative companies in our midst into rent-seeking entities reliant on government approval and largesse.
Government decree trumps profits. Recently the Wall Street Journal reported that the "Obama administration is pressing mortgage-servicing companies to step up their efforts to modify troubled loans under its housing-rescue program." Treasury secretary Tim Geithner followed up with a letter to 25 mortgage firms in which he wrote, "We think there is a general need for servicers to devote substantially more resources to this program for it to fully succeed and achieve the objectives we all share."
The Journal's headline suggested that the Obama administration merely "prodded" the mortgage servicers to modify troubled loans. But the home lending industry is heavily subsidized by Washington thanks to mortgage-interest tax deductions, Fannie Mae and Freddie Mac, and preferential capital gains treatment on home sales. So it would be more realistic to say that the Administration's "suggestions" were in fact orders. Rather than modify risky mortgages in ways that might minimize their losses, mortgage servicers and their investors will likely be given a Washington-induced haircut due to the latter's substantial influence within the lending industry.
On the same day, Citigroup announced major changes in its executive suite. The headline in the Wall Street Journal told the tale, as in "Citigroup Shakes Up Leaders to Pacify U.S." The article went on to say that chief executive Vikram Pandit "made the changes under pressure from federal regulators and after discussions with Citigroup chairman Richard Parsons, who has been trying to defuse a standoff between the company and some top federal officials."
The very existence of the Federal Deposit Insurance Corporation has served as a major subsidy supporting banks for decades, not to mention the tendency of the F.D.I.C. and other bank regulatory bodies to limit new, competitive banking entrants. Still, Citi's bailout made government control inevitable, and as the federal government has committed billions to keeping it afloat, future lending and business decisions will henceforth be made with Washington's approval well in mind.
Furthermore, going back to the Troubled Asset Relief Program (TARP) imposition last year, the notion of banks operating purely for profit ended. As has been well documented, once federal dollars reached TARP recipients, regulators began to interfere with executive pay, dividends, mortgage rates, and the hiring of non-U.S. workers. It would be easy to argue that our gasping economy explains greatly devalued share prices in the banking sector, but the broader truth is that as government supplicants, many U.S. banks will no longer be able to pursue profits in ways that would please investors.
As part of its government-funded transformation, General Motors is presently drawing up plans to build a new compact car plant in the United States. About the new plant, the Wall Street Journal reported that GM "would push politics aside and use strictly commercial criteria" in choosing its locale.
Not so fast. As representatives in Tennessee soon found out, GM's first two criteria with regard to location included "‘community impact' and ‘carbon footprint'-or how the choice would affect unemployment rates and carbon-dioxide emissions." Ultimately the town of Orion in Michigan was the big winner. Michigan, of course, is a Democratic stronghold at a time when the Democrats hold sway in the Capitol. Clearly Orion offered the greatest business opportunity precisely because opening a plant there was the best political play.
More recently GM announced plans to close a factory in Massachusetts, but quickly reversed course once Rep. Barney Frank alerted the firm that a closure in his district would be a bad idea.
And to show how very much GM is a creature of the state, when it emerged from a government-led bankruptcy, the Wall Street Journal observed that the "quicker-than-expected reorganization could represent a major accomplishment for the Obama administration." GM shareholders or creditors weren't mentioned because as a company fully in thrall to the federal government, it's fair to say that they no longer matter.
Waiting for government stimulus. With economic activity down over the past year, retailers have suffered a decline in customer receipts. But as it turns out, government food stamps have cushioned the blow somewhat for grocery stores.
According to the Wall Street Journal, for "grocery stores and farmers markets, the added food-stamp revenue has helped offset slower sales to other customers." Ken Smith, chief executive of Family Dollar Stores told the Journal that "When we look at the acceptance of food stamps, it becomes part of larger and longer strategy to us."
When we consider future growth in the U.S. economy, reliance of food retailers on government-driven demand is only the tip of the iceberg. It seems many companies in a variety of sectors are waiting on government funds as a way to keep afloat or grow. With aluminum producer Alcoa's sales down 41 percent, firm President Klaus Kleinfeld told the Wall Street Journal that the federal government's "current stimulus programs that target infrastructure and energy efficiency will create a demand" for aluminum. If companies can't find private customers, it seems they can now go to government to make up for any shortfall.
Siemens is a German industrial conglomerate, and with governments around the world increasing spending in a quixotic quest for growth, it expects to attract $21 billion in government funds for various projects, including $8 billion from the United States. Silicon Valley giant Oracle has put on events for its clients to advise them on how best to attract federal stimulus money.
Moving to the venture capital firms that have backed the Oracles of the world, the Wall Street Journal has reported that "venture-capital investors see Washington's economic stimulus program as a potential financial boost for hard-hit technology firms and other start-ups they own." In particular, VC partnerships are eyeing $60 billion earmarked for "environmentally clean technology, rural Internet broadband, cyber security and healthcare information technology."
The most Faustian of bargains. The problems that come with government funding are many. To begin with, as we've seen so clearly with TARP funds that were initially said to come free of governmental obligation, federal funds never come without strings attached. Once banks accepted federal aid, they were expected to do things that had nothing to do with profit.
Second, the problem with plentiful government funding is that companies necessarily become flabby for not having to measure up to private investors who expect them to seek efficiency and profit. Uncertainty over whether investors will continue to supply capital is a brilliant discipline, and one that rewards company and consumer alike.
Most important is the basic truth that governments only have money to dole out insofar as private entities are generating taxable profits in the commercial economy. What private companies must understand is that today's generous government will be tomorrow's greedy open hand. Whether or not all this federal spending will serve as a wealth multiplier (logic says it won't), it can be assured that soon enough taxes will be introduced to claw back the funds initially handed out.
And when the federal government seeks taxes to retrieve the monies spent, certain sectors of corporate America will be shells of their former selves. Having forgotten how to thrive absent federal largesse, many firms will likely have to experience painful reinventions as they re-learn how to prosper in a business environment that rewards profits over Washington connections.
Conclusion. As Peking bureau chief for the New York Times in the early 1980s, Fox Butterfield attempted to explain to the lay reader what a China just emerging from a brutal dictatorship was all about. Not only were the Chinese personally unfree, but their economy was still buckling under the weight of heavy government oversight.
While there's never any perfect correlation between two periods, China's economy of nearly thirty years ago offers up important lessons for us today. Back then, to the extent that there was a commercial sector in China, its firms were reliant on government funds invested in them to create jobs and output. In simple GDP terms China was growing, but with its government in the role of chief investor, return on investment and profits were never considered. Waste, both human and financial, was the result.
Growing reliance on government promises a level of commercial paralysis that can only end in tears. Hard as it is right now for corporations to prosper in a down economy, today's economic pain will in hindsight seem glorious if our business class gives in to the false God that is government aid.
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