Hungry bubbles

May 12, 2009 by  
Filed under Third Quarter

Dr Jem Bendell
Adjunct Associate Professor, Griffith Business School, Australia
Niaz Alam
Board Member, London Pensions Fund Authority/Senior Associate, Lifeworth
Barbara Wettstein
Research Officer, UNI Finance Global Union
Olivier de Schutter: speculation in commodity markets has contributed to hunger

Olivier de Schutter: speculation in commodity markets has contributed to hunger

Money, money, money. by mid-2008 money was certainly making the world go round, first in a spin, then a downward spiral. The financial system really unravelled in the third quarter of the year. Yet, before the credit crunch became a credit calamity, at the top of the world’s agenda was the huge inflation in the price of food, with some pointing an accusing finger at that soon-to-be-endangered species—the investment banker.

As the world saw a doubling in wheat prices and tripling in rice prices in a year, leading to food riots in over a dozen countries, Olivier De Schutter, the United Nations special rapporteur on the right to food, said that, although climate change played a part, ‘speculation in commodity markets, driven in part by investors seeking havens from slumping stocks has . . . contributed heavily to hunger by pushing food prices out of reach for tens of millions’.1 In the last few years, regulations and advice have been changed to enable large institutional investors to buy into commodities-tracking funds, thus allowing huge sums to pour into this sector and its derivatives, such as options and futures. ‘This has been a serious factor aggravating the crisis,’ Mr De Schutter said, with some retailers and global agribusiness firms benefiting disproportionately from the price hikes.

One implication of this situation for investor responsibility is that investors need to assess more carefully the societal and longer-term economic implications of any regulatory changes they seek. Investors have been incorporating the political affairs of the corporations they invest in as part of their environmental, social and governance (ESG) assessment, but what of the political involvement of the private financial institutions themselves? Might we expect their own political influence to be consistent with the longer-term interests of the people whose money they manage? It is an issue we return to below when considering the influence of financial institutions and their former staff on the regulators.

Although clearly a topic of increasing concern and research, the food crisis had not produced a concerted response by socially responsible investment (SRI) organisations. This disparity is reflected in the varied views collated in June 2008 in an Investment Week survey of UK ethical investment analysts by Sarah Griffiths.2 Gonzalo Baranda of JPMorgan Asset Management said the food crisis was in part driven by long-term trends of ‘an increasing world population and a change in consumption patterns in rapidly growing emerging markets with, for instance, an increase in the consumption of meat’, but that ‘growth in demand for heavily subsidised biofuels’ were an exacerbating factor.

Speaking to Jeffrey MacDonald of the Christian Science Monitor in August 2008,3 Lloyd Kurtz, principal at Nelson Capital Management, a private money-management firm in Palo Alto, California, said, ‘It’s hard to figure out who to blame for the food crisis. Social investment has been most influential when there was an actor that could be identified—e.g., the tobacco companies, the South African apartheid regime, etc. But the causes of the global food crisis are multifaceted . . . That’s probably why you haven’t seen a coherent response from the social-investment community.’

Joachim von Braun: capital for agricultural growth cannot come only from the public sector

Joachim von Braun: capital for agricultural growth cannot come only from the public sector

One response came in June 2008 when the Interfaith Center on Corporate Responsibility launched an initiative to tackle food-related issues and propose investing guidelines for its 275 institutional investor members with projects aiming to encourage sustainable agriculture worldwide. Joachim von Braun, director-general of the International Food Policy Research Institute, a food-security think-tank in Washington, DC, also looked at what investors might do to positively help the situation. He advised that ‘The mobilization of capital for agricultural growth, especially in the small-farm economy, definitely cannot come only from the public sector. So the private sector has a very important role to play in order to mitigate and overcome the current food crisis.’ He urged social investors to shun commodity futures trading and instead provide ‘what small-farm agriculture really needs, [which] is long-term investment’. Von Braun added that ‘Ethically motivated investors should stay away from grain and oilseed-based biofuels because these biofuels by now are the cause of about one-third of the overall increase in food prices.’ In select cases, he told the Christian Science Monitor, development of certain biofuels can be justified, but ‘the large-scale investment in Europe and North America has been extremely damaging to world food security’.

The price of many foodstuffs fell back somewhat in the third quarter, but the price inflation forewarned of likely future scenarios, as climate impacts increase, groundwater and soils are depleted, industrial agriculture becomes more expensive due to peaking oil production, and global finance herds from one asset class to another. Socially responsible investors need to consider these root causes. A key factor has been that investment seeks the greatest returns without pricing in externalities such as carbon, or the risk to future generations from a food supply dependent on oil. This gives rise to situations such as in the Philippines, which went from a net exporter to the largest importer of rice in a matter of decades, as investment poured into its business process outsourcing industry, and government and industry turned their backs on domestic agriculture. Supporting the resilience of communities and economies should be a key dimension to responsible investment, with encouragement given to the government facilitation of investment to build such resilience.

Another issue highlighted by food inflation is the bubbling nature of our financial system. Most countries use a debt-money system, where money is created by private banks in the form of loans. Consequently, as Chris Martenson explained on Corporate Watchdog Radio, there is not enough money in the world to pay back all the debt. It leads to a situation where the economy must continually grow at a continuing rate, because of compound interest. This, he argues, leads to inevitable economic bubbles.4 Any form of bubble can cause a problem for asset owners, who lose out far more when the bubble bursts, compared to the financial services professionals, who can make a personal fortune on commissions as the bubble inflates. A bubble affecting the price of goods that are needed by disadvantaged people (think rice rather than shares in ‘’) presents a double whammy, as many people are hurt as the bubble inflates. If a bubble becomes too large, due to an inability to create units of value out of thin air (think derivatives of mortgage-backed securities) bought by people with access to sufficient credit (think ‘sufficient’ to keep the process going until they get their bonus), then you have the mother of all bubbles, which leads to a financial crisis. As institutional investors such as pension funds invest in the whole economy, they are particularly vulnerable to boom-and-bust cycles, and yet we might expect them particularly able and willing to influence the economy, as part of their duty to their policy holders. Yet, as we will see, this has not happened, and people who have saved for their whole lives are as a consequence hurt by a lack of systemic fiduciary duty shown by those meant to safeguard their future.

» From bail-outs to better capitalism

(The references are available in the pdf download and hard copy versions of this annual review, available from Lifeworth’s bookstore.)

This section can be referenced as:

Bendell, J., and N. Alam, S. Lin, C. Ng, L. Rimando, C. Veuthey, B. Wettstein (2009) The Eastern Turn in Responsible Enterprise: A Yearly Review of Corporate Responsibility from Lifeworth, Lifeworth: Manila, Philippines. (Page numbers for this section are available in the pdf download and hardcopy.)

Foreign direct corruption

May 10, 2009 by  
Filed under First Quarter

As corruption at home is tackled, attention has turned to the role of Chinese businesses in corruption scandals around the world. In February 2008, the Philippines media and legislators were desperately trying to find one relatively unknown forestry official named Rodolfo Lozada. He was supposed to give a tell-all testimony in a senate investigation about a botched telecommunications deal between a Chinese supplier and the Philippines government, but evaded his summons by going abroad and was then whisked away by authorities when he returned. He appeared two days later, at 2:30 am, on live television, to recount who abducted him, how he was persuaded and bribed by government officials to keep silent about his involvement in the controversial deal, and how his conscience made him come clean.17

Certainly, Lozada could not claim to be an angel. During his senate testimonies, he admitted profiting from kickbacks on government deals through his friendship with the economic planning secretary who approved the telecommunications project. He said this project would have been pushed through with little or no attention if the kickback had been limited to the agreed $65 million. But various individuals—apparently emboldened by the alleged willingness of the Chinese suppliers to pay extra—wanted to bloat the project’s worth to $330 million so they could pocket up to $200 million. He said the economic planning secretary asked him to ‘moderate their greed’.18

Philippines President Gloria Arroyo: tainted by ZTE scandal

Philippines President Gloria Arroyo: tainted by ZTE scandal

The project involved a nationwide broadband network that would link government offices and allow the education ministry to beam instructional materials to far-flung public schools isolated by mountain ranges or located in islands. Whistleblowers, including Lozada, named an election official and the husband of Philippines president Gloria Arroyo as project ‘facilitators’ (political backers). President Arroyo signed it days before the May 2007 national election when her allies, who would ensure she would not be impeached, won majority seats in congress.

The failed project’s main beneficiary would have been Zhong Xing Telecommunication Equipment Company Limited (ZTE), one of China’s biggest telecommunication makers. ZTE, a partly state-owned company, is growing its emerging-markets portfolio and the supply contract with the Philippines government would have been a coup. But vocal Filipino critics from civil society, academia and the media have criticised the ZTE contract with their government, arguing that it violates several Philippines laws, including rules that call for competitive bidding for government procurement contracts. Whistleblowers recounted during the senate investigations how the ZTE officials wined, dined, provided women entertainers to, gave free trips to, and paid an advanced ‘facilitation’ payment of about $41 million to their Filipino political backers who helped them clinch the deal. Eventually, President Arroyo not only nullified the deal but also suspended other Chinese-funded projects in the country worth some $2 billion.

Had the Philippines’ active and free press and dynamic civil society not exposed ZTE officials’ actions to clinch the broadband project, bribery and corruption may just have been hidden away as a business-as-usual inevitability. So, is this an indication of how Chinese state-owned companies are bringing their economic ambitions to the developing world?

It is not often that cheap, long-term loans from China encounter public wariness in a beneficiary country. China has also been generous in dispensing loans, some interest-free or as outright grants, to poor debtor African states that embraced no-strings-attached financing for electrification, highways, railways, hospitals and schools. Such financing is in stark contrast to the austerity demands and long list of social, environmental, human rights, fiscal policy, publicly declared political affiliation, and ethical requirements of multilateral agencies, such as IMF and the World Bank. China announced that, through its Export and Import Bank, it will ramp up infrastructure and trade financing to Africa to $20 billion over the next three years and that it would also write off unpaid debts. In return, not only did China outflank the United States, Japan and the European countries in clinching supply deals on oil and other minerals from these natural-resource-rich but development-poor nations, it also means serious business for some 800 Chinese state-owned enterprises (SOEs) now active in the continent.19

ZTE is considered as one of China’s ‘National Champions’, backed by China’s fat foreign exchange reserves that are funnelled through state-owned lending channels, which then lend de facto subsidised, low-cost funds to ZTE’s customers.20

In China’s telecommunications industry, two giant equipment companies have emerged: Huawei and ZTE. They seem to be a study in contrast on Chinese companies’ outbound investments.

Both have been feverishly expanding overseas and edging out their Western counterparts not only by being price cutters but because they understand that some developing markets have a ‘just give me the phone’ attitude, a far cry from, say, Nokia, whose customers are locked into the Finnish company’s standardised products and systems. But as CFO Asia described, there are key differences between the two. For example, Huawei is privately owned, while ZTE has a share structure that is an amalgam of public and state ownership (about half of the shares belong to state-owned agencies and senior management; the balance are listed in Shanghai and Hong Kong bourses). They also differ in style, and perhaps even in general approach. While both are headquartered in Shenzhen, CFO Asia described Huawei’s as a palatial Silicon Valley-like campus, while ZTE’s has the official feel of a government office. ZTE’s showcase lobby reportedly has LCD screens flashing pictures of government ministers and political leaders from Sudan, Eritrea, Niger, Algeria, Libya and Zambia where ZTE has already clinched equipment deals.

But perhaps the most telling difference is the overseas markets they have secured. Huawei has made inroads in the more lucrative developed markets of North America and Europe. It has won contracts with operators in France, Germany, Spain, the UK and Australia.21 On the other hand, ZTE’s sales executives have become wizards at selling products in the developing markets of Africa, Latin America and Asia.22

No wonder, then, that Huawei seems more attuned to the global standards of sustainability. In 2004, Huawei joined the UN Global Compact.23 On the other hand, ZTE reported on its website limited corporate social responsibility (CSR) goals, which focused more on product, supplier and philanthropic concerns.24 There was no mention of any ethical or legal standards that it vowed to uphold in its overseas transactions. In fact, consultancy firm CSR-Asia censured ZTE for vying to invest in a proposed cyber-city in Burma, which has a notorious human rights record.25

However, the mere fact that ZTE has begun to document its CSR goals is a step in the right direction. This could have been a response either to its need to project a caring image to outsiders, or conformity to government-led initiatives, such as those from the State Council’s State-owned Assets Supervision and Administration Commission (SASAC), which oversees and regulates SOEs, such as ZTE. In January 2008, SASAC issued an instructing document that aims to guide SOEs in fulfilling and reporting about their social responsibilities, and in turn improving their competitiveness and sustainability. This guideline was based on CSR issues revealed from SASAC’s in-depth study, which was initiated as a result of the ongoing and increasing debate on CSR in both the international and national arenas. It listed eight major CSR content points that SOEs should follow. While labour issues, product safety and environmental concerns are prominent in the document, at the top of the list is this: ‘Comply with laws and regulations, moral standards, business ethics, and industrial regulations and conduct their business honestly. They should . . . eliminate corrupted behaviours in all business activities’ [our italics].26

The failed ZTE contract in the Philippines, however, is a glaring contradiction between what is preached and what is happening in practice. How these CSR reports will contrast with actual progress and achievements on CSR issues such as corruption remains to be seen.

If corruption in China is exported elsewhere through loans and contract agreements, a twin threat occurs. If the return from a project is insufficient to pay off the loans, this could lead to bad debt, which in time might create a new debt crisis in emerging nations, with similar negative developmental impacts to the previous debt crisis fuelled by Western lenders. The costs of such a situation would also mount for China. It is in China’s best interest, therefore, that it safeguards the long-term viability of its overseas investments’ beneficiaries and promotes enlightened self-interest among the outbound Chinese investors. If it does not, then there are also risks to be faced, as future governments in foreign countries seek to penalise companies that bribed previous administrations.

Back in China, the head of the CCDI, He Guoqiang, said in January 2008 that ‘the key to winning our war against official corruption is to put punishment and prevention on equal footing’. He said, ‘We will place equal efforts in punishing crooked officials for their misconduct, as well as in establishing an anti-corruption system to get rid of corruption at its root.’27 Some consider one of those roots to be the shifting cultural norms in China, as Maoist Communism has been fundamentally transformed. Consequently, more Chinese leaders are speaking either overtly or implicitly about traditional Confucian and Taoist values. Some socially responsible entrepreneurs are even described as Confucian entrepreneurs.28 Confucianism, like all spiritual and religious traditions, has a mixed history in how it shaped, or was used to justify, forms of governance and trade. Its role in the future of China is unclear, and even more unclear is whether it will influence the way China does business with the rest of the world. The concept of Ren in Confucianism emphasises interconnectedness. A more conscious approach to the broader relations it has with all the peoples of the nations it is investing in may prove a wiser approach, in the long term.

» Targetting change

(The references are available in the pdf download and hard copy versions of this annual review, available from Lifeworth’s bookstore.)

This section can be referenced as:

Bendell, J., and N. Alam, S. Lin, C. Ng, L. Rimando, C. Veuthey, B. Wettstein (2009) The Eastern Turn in Responsible Enterprise: A Yearly Review of Corporate Responsibility from Lifeworth, Lifeworth: Manila, Philippines.
(Page numbers for this section are available in the pdf download and hardcopy.)