Mirror, mirror, on the wall--who's the fairest of them all? That's today's big question: when, where, and to whom should capital flow? It's deceptively tough to answer: because the great crisis of 2008 seems to roll on, and on, and on--and the plethora of our best analytical tools simply don't seem to fit 21st century economics.
Here's a thought. Discovering where tomorrow's most explosive opportunities and returns lie might just require thinking bigger, more deeply--and more sharply--about the nature of crisis.
So consider a mini typology of crisis. Very broadly, there are three levels of crises, in increasing order of severity. Liquidity crises, where near-term funding or cash-in-hand erodes--think, literally, a run on a bank). Solvency crises are more problematic--because assets you hold for at least the medium term are revealed to be, at least, in part, liabilities: writedowns, haircuts, and other kinds of discontinuous, often dramatic devaluations occur.
But more jaggedly dangerous still are institutional crises. In one, it's not just my assets that are revealed to be liabilities--all of ours are, because what's really gone rotten is incentives and information, roles and policies, and organization and governance. In other words, the institutionalized structure of costs and benefits has gone haywire--and what should a cost has been marked as a benefit, and vice versa.
Here, then, is the problem. The G20 still demonstrably feel they have a global liquidity crisis on their hands. Their treatment consists of pumping liquidity into a global zombieconomy. But liquidity's already soaked into the system: the trillion plus dollars of corporate profits boardrooms are sitting on, the trillion plus of reserves banks, China, and Germany are sitting on. In fact, not even the jump to seeing--and then treating--a solvency crisis has been made (via, for example the well-worn toolkit of splitting, hacking or otherwise remixing banks, toxic asset price discovery, management reshuffling, etc). Conclusion? We've got a Level III Crisis. But we're still treating a Level I Crisis.
Think about it this way. The much maligned QE2 is to economies what Jiffy Lube is to cars: an injection of liquid stuff to grease the wheels. But what if the problem's the engine? Worse, what if the problem's the road?
That's the state the global economy's in. This is an institutional crisis. It's a crisis of broken financial, economic, and organizational institutions--like opacity, bonuses, monopoly power, currencies, the balance of payments, "credit ratings", "profit", and even "GDP" itself. It's the road that's the problem--not the grease in the wheels.
We're on a road to nowhere. All the broken institutions above hardwire severe structural incentives for capital misallocation into the fabric of the economy. All are why banks overinvested in low-productivity housing--instead of cleantech, nanotech, or just plain anytech. All are why corporations sit nervously on massive hoards of liquidity, instead of investing it in disruptive new strategies. And, of course, all are why the average household's earning power, net wealth, and risk absorption capacity have been totalled.
We're treating the symptom, not the syndrome. Until we start treating this as a global institutional crisis--and reinventing each and every one of the institutions above, and more; until economies get serious about the art of institutional innovation--there's little hope for a meaningful, sustainable recovery. Hence, until we radically upgrade our understanding of what this crisis is--the best to hope for is stagnation.
Bleak? Not a bit. It's not just countries who can be institutional innovators. Companies can, too. Hence--discover an institutional innovator, and you'll likely discover an outperformer. I'm bearish on the global economy--but there's nothing more disruptively valuable than a boardroom who's learned how to create 21st century advantage through the power of higher-order innovation. From crisis, opportunity--if you can discern the shape of the real crisis.