For years, economists and politicians have waxed eloquent about the wondrous benefits of globalization. Countries like India, that had erected protective trade barriers for the first 50 years after independence, started a regime of dismantling such barriers and “integrating with the global economy”.
Western corporations had (finally) got access to emerging markets and CEOs were salivating at the prospect of selling a range of goods and services to a rapidly growing middle class in Brazil, Russia, India, China and elsewhere. All was hunky dory as long as the going was good. But now, the world is faced with a disquieting reality: when things go sour, the very economic inter-connectedness that votaries of globalization were rooting for, causes pain. And apparently, lots of it!
In the last decade, the world economy has seen the Asian melt-down of 1997-98, the dotcom bust, the US recession/slowdown of 2001 and most recently, the sub-prime crisis. In the 20+ year old film “Wall Street”, Michael Douglas epitomized the typical investment banker in his famous line “Greed is good”. And it is exactly this greed that has amplified the current global economic crisis.
In their quest to deliver “superior returns”, managers of hedge/mutual funds have created “structured products” that tend to obfuscate investors’ (and possibly the managers’ own) understanding of risk. But it is axiomatic that higher returns go hand in hand with higher risk. In their greed for higher returns, people (investors and fund managers) lost sight of the difference between “alpha risk” and “beta risk” and when the sub-prime loans started unravelling, so too did a plethora of other asset classes. In many instances, there is poor understanding of the underlying risks. Compounding the situation further is the fact that because of globalization (which facilitated cross-border investment flows), investors in country X are being exposed to risks associated with economy Y. Ergo, the global economy has begun to feel the pain.
This pain is also being felt in other quarters. The largest Wall Street financial supermarkets- the Citigroups, Merrill Lynches, Morgan Stanleys and their European peers/competitors- the UBSs and Societe Generales- are taking substantial P&L hits. To at least part-offset these losses, some are considering a trade sale of assets like their captive back-office operations in locations like India- which represent a source of competitive advantage to these companies. Such sales, if effected, will affect the equilibrium of both the outsourcing industry (which may acquire such assets) and the domestic talent market- after all, captive BPOs do employ 50K+ skilled employees in India alone.
How all this will finally play out is a trillion dollar question. But for everyone involved- and that includes average investors like you and I- the next 12 months or so will be crucial.