With Today's Rapidly Changing Cultural and Financial Landscape How Do Capital Markets React

Management Strategies for a Global Society Fall 2002

With today's rapidly changing cultural and financial landscape, how do capital markets react within the complicated framework of national laws, international agreements and conventions, guided by the ever-present hand of regulation by central banks, non- governmental organizations and national governments. To fully appreciate the complicated interaction and subtle pressures in today's "globalized" market, one must consider both the positive characteristics and weaknesses that may present themselves in a globalized world. The recent corporate scandals making headlines and the associated market and economic slowdown highlight how investors, empowered by the

Internet, and the current openness regarding the transfer of capital across borders, can have a real impact on the financial landscape.

Author Thomas Friedman does a great job at providing an in-depth analysis of how the world's political landscape has forced a change in economies since the fall of the Berlin wall in his book The Lexus and the Olive Tree, with particularly detailed explanations of how the old crumbling cold war stalemate has largely bankrupted all economic models except free market capitalism. On page 9, Friedman details this change in models.

"The driving idea behind globalization is free-market capitalism--the more you let market forces rule and the more you open your economy to free trade and competition, the more efficient and flourishing your economy will be. Globalization means the spread of free-market capitalism to virtually every country in the world."

While the free market has raised the standards of living almost uniformly across the board in countries that have changed from centrally planned command economies, we should be aware that the free market system does not address the protection of

Jacob Stewart – Friedman Essay Page 1 Management Strategies for a Global Society Fall 2002 investors from corruption, greed and what Friedman refers to as a system of

"Kleptocracy". Friedman defines this term on page 146:

"Kleptocracy goes beyond the normal run-of-the-mill bribery and corruption that one can always find in developing countries, and to a lesser degree in developed ones as well. Kleptocracy is when many or all the key functions of the state system--from tax collection to customs to privatization to regulation--have become so infected by corruption that legal transactions become the exception rather than the norm. The norm, which becomes both tolerated and expected, is that officials at every level will use their powers to extort whatever money they can from citizens, investors or the state itself, . . "

Washington, D.C. pundits have suggested that we have been moving toward an

“American Kleptocracy”. The current crop of corporate scandals, which evolved in what could be argued as the best-performing, longest-lasting free market in the world; the

United States, show that our country needs effective rules and regulations, vigorously enforced to protect investors from the greed and excesses of corporate executives.

The huge rising disparity in salaries between line workers and top executives, even in tough financial times is one example of why proper controls and investor protections must accompany free market activity, or risk Kleptocratic abuses. The Enron and

WorldCom scandals, where huge amounts of investor equity were lost through a combination of poor corporate governance, poor accounting oversight, and lax financial reporting regulations are both glaring examples of how free market capitalism alone, without proper national and international controls, can completely fail to protect investors, instead enriching a corrupt gang of highly-placed insiders.

Jacob Stewart – Friedman Essay Page 2 Management Strategies for a Global Society Fall 2002

In both of these scandals, the course and primary mission of each firm was hijacked by greedy executives, engaging in questionable, unethical, and often illegal practices to create short term stock gains in order to pocket large profits for themselves, rather than being true to their fiduciary duty and primary responsibility of keeping the company viable and creating wealth for all shareholders. In Enron's case, flat-out fraudulent financial dealings enriched a few beyond reason, including those who's job was to protect and guide the company and provide ethical leadership. They failed.

Friedman terms today's investors the "Electronic Herd" due to their recently accepted empowering information and communication resource, the Internet. Friedman describes the influence of the Internet and the "herd" on global financial markets on

"...the Internet has brought the stock market into the home, where it has thrived...... amateur speculators who operate mostly from their homes, using their computers to access the cheap share-dealing services provided by on-line brokerages."

When investors, traditional institutional bankers and newly empowered Internet day traders alike learned of these scandals and started to understand the magnitude of the frauds that had been perpetrated, many withdrew their capital from the market, causing a slowdown and loss of paper valuation unseen in recent history. Due to what Friedman calls "Net Speed" (page 218), the traditional business cycle of expand (bubble market) and collapse is greatly accelerated due to the speed of communication and available of relevant information. This hyper-informational environment can be summed up with the philosophic tidbit "There are no more secrets, only information you haven't got yet."

Friedman explains many similar market downturns (most in developing countries) and how the investing "herd" trample in and out of markets as the conditions change, or when the economic climate becomes more transparent revealing problems within the market. Investor confidence often rides way ahead of their common sense, especially in times of market expansion, and I feel this knee-jerk reaction creates "push-pull" cycles of investment/disinvestment that leave many smaller emerging markets reeling, leaving the people in these markets feeling disillusioned and betrayed.

Providing part of the inspiration for the title of the book, Friedman asserts that

"... olive trees are essential to our very being, an attachment to one's olive trees, when

taken to excess, can lead us into forging indentities, bond and communities based on the

exclusion of others." (Page 32)

A recent news article by Ben Lynfield, Hit by a terrorist, kibbutz still shares a well with

Arabs that appeared in "The Christian Science Monitor" (page 7, November 13th, 2002) reminds us that although globalization is built on the crumbling and disintegration of walls between peoples, cultures and markets, both real and metaphorical, olive trees still matter. In speaking of a recent terrorist shooting in the liberal-leaning Jewish Kibbutz

(collective settlement) Mezer, which lies in the northern part of the occupied Palestinian

"West Bank" territory, Lynfield writes;

"[kibbutz] leaders ... wanted something (other than reprisal) ... a commitment that a new security fence - stretching some 66 miles through the West Bank to block terrorist infiltrations - will not be build on land taken from their Palestinian neighbors in Kafin village, just across the old border in the West Bank.

"'As it stands, a grave injustice is being done to our neighbors," said Doron Lieber, the economic coordinator of the kibbutz, the only Israeli community to argue for rerouting the fence. According to current plans, Kafin would lose two square miles - 60 percent of its farmland. Mr. Lieber says this will not only be bad for the Palestinians, but bad for the kibbutz, fueling enormous resentment throughout the area.

"'The moment those beautiful trees are cruelly uprooted, our island of tranquility is turned into any other place in Israel."

The recent loss of trust in corporate America, and the market downturns associated with them, do support Friedman's thesis about globalization, but they also emphasize some of the shortcomings of global capitalism.

It is clear to me that globalization is inevitable and desirable, as long as global institutions are strengthened and a multi-lateral approach to policy making is followed.

Openness and trust, formerly lacking in the cold war world, along with some healthy skepticism, is needed, both in global financial markets as well as in the surrounding local community, for us to succeed in today's globalized World.

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