The Largest Customer Financing program in history?

Big technology companies in the US - such as Cisco, Dell, IBM are known for their huge customer financing programs. In fact during the last tech boom, some of these companies were alleged to prop up their revenues by financing "not so healthy" customers (call them the "subprime" customers - sorry couldn't avoid using subprime these days). As some of you might remember, the whole thing backfired during the subsequent recession as these customer defaulted resulting in big write-downs by these tech giants. History surely repeats itself especially if it is cleverly conceived financing trick that adds no value. Anyway getting back to the point that I am trying to make.

Do you know what is the largest customer financing program in place today? No points for guessing if you have been following the US-China trade imbalance issue. Yes, it is the China financing of the US. By investing its more than $1 trillion foreign exchange reserves in US Dollars China is effectively financing the US economy. The Chinese purchase of the US treasury bills is one of the reasons US is able to keep its interest rate so low and provide cheap credit to its population to continue to buy Chinese goods.

Now we all know how disastrously the last customer financing boom ended. Is something similar going to happen? If it does what will it mean - higher interest rates, higher inflation in the US, increasing foreign ownership of US assets etc or all of the above? In any case, doesn't look that rosy to me!!

Can India compete with China in manufacturing? What's next for India?

Talking about India and China is such a cliche these days that I am really dreading writing this post. But this is my attempt to dig a little deeper that the usual soundbites coming out of WSJ and NYT.

Lately I am hearing a lot of talk about how India with its cheap labor pool and upcoming labor reforms could attempt to successfully compete with China in manufacturing. China's dominance is surely awe-inspiring but can India compete effectively with China in manufacturing?

Note: In the following discussion when I use the word India or China - I usually mean that to refer to Indian and Chinese manufacturers or companies and not as much to the nation itself. It would be foolish of me to postulate on what such highly complex societies and nations should or would do in the future.

China dominance in manufacturing outsourcing:
In trying to understand this issue, let me first discuss where China comes from. So why does China dominate in manufacturing? Is it just because of low-cost labor and favorable govt. policies? But these two specific factors exist in quite a few countries including Thailand, Vietnam and increasingly India. The answer unsuspectingly lies a little deeper. China dominates not because it is cheap but because it is FAST (reference - a must read on this topic). Companies outsource to China not only because it is cost effective but also because Chinese manufacturers are known for fast turnaround on orders and to quickly adapt to design changes. This is an outsourcers dream! And over the years both the companies in the developed world and Chinese have developed tremendous expertise in working together - from understanding the intricacies of the relationship that exists in the ecosystem of small and nibble suppliers in places such as the Pearl River Delta to comprehending the true capabilities of its supplier base. As a result of this expertise, for some companies their Chinese supply chain is their IP. And no company wants to mess around with its IP. As a result, I believe it is almost impossible for someone else to unseat the Chinese dominance in manufacturing in the near future. There might be small victories in specific sub-sectors such as we have already seen in auto parts in India but a large scale unseating seems increasingly remote.

So what should India do?
To better answer this question, let's extrapolate where will China go from here? I believe that just like the Indian outsourcing companies are trying to move up the value chain, Chinese are doing the same in manufacturing. This implies participating in designing products to building brands to selling the product in retail stores. Does that mean we will see the likes of world-dominating Apple to P&G to Wal-mart coming out of China soon? We do see some signs of it through companies such as Lenavo, Haier etc but I believe that future is little further out. There will be an intermediate step - where I believe India can/should play a part.

How does India play a role in this?
For the reasons stated above, I believe, India or for that matter any other country would be ill-advised to focus its energies on unseating China dominance in manufacturing. Rather they should compete with China on its next big move up the value chain. As the China moves up the value chain to areas such as design, product development, branding etc, it will bring the same disruptive cost efficiencies and speed that it bought to manufacturing. In response to these threats, the companies in the developed world will increasingly look to compete effectively by outsourcing low-value added jobs of these functions. With a huge pool of talented, creative, English-speaking workforce India could work with its US counterparts in increasingly outsourcing these functions. Why can't China do the same - yes it would for sure but at least India and China are on the same ground while competing for this new piece of business. China lacks experience as much as India in this new areas. Some might argue that India with its free market economy tradition of competing on design/brand building and English Speaking workforce has an advantage. But that remains to be seen. But I will take this bet any day over the other.

What's driving World's food price increase?

Here is a good report on this issue, published by two Purdue University Economists. The report identifies three key reasons:
- Changes in the production and supply of key commodities
- Depreciating Dollar
- Growth in the production of biofuels

Interestingly, the report does not put direct blame on the rising demand from India and China for the increase in price of food grains. However, the report says that China's demand for oil is driving prices in oil and that indirectly drives prices of other commodities and food grains.

Both India and China are pretty self-sufficient in the production of most food grains. If you are interested in better understanding of this issue, please check out Ajay Shah's blog post. I do not agree with him on all the points but he has some good analysis. The main issue I have with his analysis is that it rests on the price signaling mechanism for balancing supply and demand in the market. However, such price signaling mechanism does not really work in Indian and Chinese context because the govt. controls the price for food grains. And this is what the above reports also implies.

What will the world be like in 2500 AD?

With oil prices hovering above $60 a barrel for more than a year, the question of an impending energy crisis looms large. However, I am not the one who believes in the doomsday scenario that some energy pundits are predicting. For somebody who worked in the oil industry back in late 90s when oil industry was in the midst of a recession with oil at $12/barrel, I believe that the current price of oil is more a reflection of short-term supply-demand distortion than anything else. But this crisis raises an important question: What happens when the world runs out of the non-renewal energy resources such as oil and gas? Will the global economy collapse due to unsustainable energy prices leading to widespread social-geo political conflicts? Will science/technology come to our rescue? As we look into the future, the world would have either successfully resolved the energy/resource issue or not. So what will be the world like in 2500 AD?

One scenario is that the world is unable to successfully resolve this energy/resource problem. In such a grim case, the future could play out as described in Jared Diamond's intriguing book - "Collapse". Under this scenario, the world would have consumed all the earth's resources in few centuries. With no other place to go, the humans get involved in a widespread conflict to gain access over available resources. This scenario supposes that in the future space travel does not lead to discovery of another habitable planet or even if it does the cost to transport humans is prohibitive. With everyone looking out for themselves the world as we know it descends into survival of the fittest few and even cannibalism. In this scenario the world in 2500 AD is a deserted place with few surviving humans, if any, scrapping their life together from the remaining depleted resources.

The other scenario is that of history repeating itself. History is replete with examples of the rise and fall of civilization - such as the Harappan in Indian subcontinent, Incas in Peru, Mayan in North America, Shang dynasty in China, Egyptian civilization and more recent Roman civilization. Each of these civilizations lasted few centuries and led to a better standard of living for its citizens than ever before. However, each of these civilizations degenerated over time. We are fortunate to be born in yet another great civilization - call it whatever - the science civilization/western civilization - only posterity will name it. Under this scenario, the rise of this modern civilization that started in 1600s will peak in few centuries just like others. Nobody knows when this will happen and what will lead to its fall - an impending energy/resource crisis is a possible explanation. As the world uses up its scare energy/resource, the cost of such resources skyrocket leading to perennial economic depression/recession. Under such a scenario, the world in 2500 AD would look more like a third world country today.


The third scenario is more optimistic. In this scenario, the world is able successfully resolve the energy/resource crisis with the help of science and technology. The world gets smart in how it uses its resources. This leads to an even better standard of living for all its citizens in coming years and not just in few developed countries as is today. I hope that this is the scenario that plays out.

On separate note: Recently read a good article on Indian express from India's ex-oil minister Mani Sankar Aiyar. http://www.indianexpress.com/full_story.php?content_id=88522. He describes steps India is taking/needs to take to secure its energy future.

A great economist speaks out on global imbalances!

Great read- Few must read articles on Raghuram Rajan - an economist I really admire

http://secondat.blogspot.com/2006/01/rajan-on-resolving-global-imbalances.html

Indian express also ran his interview recently
http://www.indianexpress.com/full_story.php?content_id=88291&pn=1