Business Beyond the Reef

I don’t often think about Georgia.  The country, not the home of the Atlanta Falcons.  But an article in Asia Times last week caught my imagination as a good example of unintended consequences in trade.

Georgia: Land of Sweet Mountain Water

The story begins in 2006 when Russia, in a political fit, closed its borders to goods coming in from Georgia, mostly wine and bottled water.  It was a vain attempt at coercion by Moscow that, ironically, may be strengthening Georgia’s economy and has certainly diversified Georgia’s customer base.  Not that Georgian companies weren’t hurt by the Russian embargo, but most of that hurt was swamped by the damage caused by the 2008 war between the two neighbors.  Neighborhood spats are never good.

Moscow has finally seen its error and has said it will reopen the border later this month.  Georgia’s exporters are greeting this with glee, but – now that Russia has proven itself an unreliable market – the Georgian companies are not slowing their push to develop other markets.

Georgian wine enjoyed a great market in Russia before the embargo, which almost wiped out several producers.  Georgia’s wine exports dropped from 10.6 million liters in the second quarter of 2005 to less than 2 million in the same months of 2009.  Their wines are little known in the West, but Georgia is developing new customers in central Asia, China and recently appeared in Singapore.

Georgia’s top bottled water producer, Borjomi, saw its sales drop 43%.  The company is bouncing back with its bottles now sold in thirty different countries, even entering the China market in 2008.

Just goes to show that embargoes almost never work the way you think they might.

Amazing what's under there

Can you have too much of a good thing?  Mae West said no, but Mongolia’s leaders aren’t sure about that.  A friend in Ulan Bator sent me a link to a Bloomberg article about Mongolia’s riches and the dangers of “Dutch Disease“, the idea that a sudden surge of wealth can make future growth more difficult.

Dutch disease is an old concept in economics, though it acquired the current name only in the 1960s.  The thought is that a sudden influx of wealth, whether to an economy or to an individual, can lead to bad decisions as to how to use it properly.  It’s like blowing your new earnings as a pro football player and having nothing left when a knee injury kills your job.  The name came from the impact of enormous quantities of North Sea natural gas raising the value of the Dutch guilder, which then killed Dutch exports, crippling the economy of the Netherlands.  Similar things happened in Spain with the influx of New World gold and silver, and the discovery of gold in Australia in the mid-19th century.  And Nigeria has done an abysmal job of harnessing revenues from its immense oil and gas industries.

Mongolia is seeing a rush for significant resources of gold, uranium, coal and copper.  In fact, Mongolian leaders compare it to the influx of riches during the great Mongolian conquests of Central Asia, China and beyond.  Canada’s Ivanhoe Mines and Rio Tinto of the United Kingdom invested in a joint venture last year with the Mongolian government to develop copper and gold deposits worth perhaps $30 billion.    Peabody Energy of the United States is among potential partners for a $2 billion coal deposit.  Ivanhoe is in another big coal mine.  Considering that Mongolia’s GDP is a little over $5 billion, you can see the potential impact just these projects can have.  And there are more to be developed.

The problem is Mongolia’s lopsided distribution of income.  Like many developing countries, there is an elite that reaps most of the benefits – and a large underclass that does not.  Mongolia’s leaders, many of them Harvard educated (the point of the Bloomberg article) appear to see the issue, but it remains to be seen what they will do about it.  It is encouraging that they are at least talking to experts from Chile and elsewhere, whose countries have managed to avoid an infestation of Dutch Disease.

A mine is a terrible thing to waste.

Phoenix Talons

We have another chicken war!  The original “Chicken War” was a trade dispute between the United States and the European Union many years ago, and there have been several such trade spats since.  The latest chicken war is between the United States and China, and it concerns the price of chicken feet and wings.

China slapped antidumping duties on U.S.-origin chicken parts last Friday, saying that American poultry producers are selling feet and wings in China at grossly reduced prices, far below actual costs.  Computing a margin of dumping is an arcane and difficult business, but the dumping margins the Chinese say they found are astronomical.  Dumping margins vary by company and depend on the information they supply during the dumping investigation.  So, here’s the verdict from Beijing: out of 35 companies named in the dumping finding, Tyson Foods came off the best, assessed 43.1%.  Most of the other U.S. suppliers will pay 64.5%, though Pilgrim’s Pride got tagged for 80.5%.  Any unnamed U.S. chicken suppliers can get dinged by 105.4%.  That should play havoc with profit margins.  There is speculation that Tyson came off “lightly” (there is nothing light about a 43.1% duty) because the company has invested in China and has an active lobbying corps in Beijing.  These antidumping duties have not been finalized, so payments will essentially go into an escrow account in China while the companies have twenty days in which to appeal.  I wish them luck.

As trade disputes go, this is a small one – and nothing to match the original chicken war.  Out of $77 billion in Chinese imports from the United States, we are talking less than $800 million here.   Probably considerably less, because the $800 million is total sales of U.S. chicken products in China, and the case only addresses feet and wings.  Still, this has all the hallmarks of a case that Washington will want to take to the WTO.  The size of the dumping margins virtually guarantees that.  Of course, the U.S. companies may really have dumped feet and wings at those levels.  The U.S. market for chicken feet is nil and how many buffalo wings can you eat (now that the Super Bowl is over)?

That raises a curious issue, though.  If the chicken parts in question have only a negligible value in the United States, how can selling them at a presumably higher price in China be considered dumping?  There appears to be some curious accounting going on.

The amount of chicken parts involved is not significant for China’s internal market, which makes it doubly amusing that imposition of the duties was delayed until February 13, too late to impact prices for Chinese New Year.

[After drafting this, I saw a spot-on opinion piece in the Wall Street Journal about chicken feet and the unintended consequences of aggressive trade policies.]

Do you really know where the things you buy are made?  Sure, you can look at most labels and find a country of origin.  That tells you where it was finally assembled or packaged, but it doesn’t always tell you where it was really made.  For that, you need to follow the supply chain back to the beginning.  Where did all the parts and inputs come from?

Where's It From? (Photo by Lubyanka)

Take a look at your iPod.  Find the fine print on the back at the bottom: “Designed by Apple in California; Assembled in China”.  And that doesn’t begin to tell the story.  Back in 2007, a team at the University of California-Irvine deconstructed an iPod to discover where all the parts were made: Japan, Singapore, Taiwan, China, Korea and, oh yes, the United States.  And then you have to consider the design work, the marketing, and all the rest of Apple’s overhead.  So, whose product is it?  I dunno – and neither do trade policy makers.

That’s the point of Daniel Ikenson’s monograph for the Cato Institute, “Made on Earth: How Global Economic Integration Renders Trade Policy Obsolete“, published in December 2009.  If political troglodytes decide to enact trade barriers against, say, China (not too farfetched) and those Chinese-assembled iPods get caught in the net, who gets hurt?  All those clever people who design for Apple in California, firms and factory workers in Japan, Singapore, Taiwan, Korea and the United States, American importers and retailers, any music firm that sells on-line, and – lest we forget – the U.S. consumer.

Some of you might think the iPod is a trivial case, but look deeply at almost any product.  The United States applied antidumping duties to Chinese hot-rolled steel a while back, punishing those nefarious Asians for selling at unfairly low prices.  So what actually happened?  U.S. prices for hot-rolled steel naturally rose, increasing costs for any industry that uses it.  That raised costs for makers of structural pipe, pricing U.S. exporters out of international markets.  And, by raising the price of the Chinese steel in the United States, it caused a glut on the world market for hot-rolled steel, which lowered costs for foreign competitors for our structural pipe – a double whammy.  So, when policy makers started out, did they intend to kill American exports?  Probably not.  It’s just that traditional trade policy leads to such results in a world as interdependent as what we have today.

I started out in trade policy at a time when policymakers could be somewhat mercantilistic.  Trade negotiators, quite naturally, think in terms of having to get something for everything they give up.  But increasing interdependence creates a new mindset, Ikenson points out.  Old policy rules and methods have become obsolete, and one result is that the world has seen more unilateral liberalization of trade restrictions in the past decade or so than ever before in history.  Tariff levels have tumbled; Ikenson says that, from 1983 to 2003, duties in developing countries plunged from an average of 29.9% to 9.3%.  They are still dropping.  Mexico launched a reduction last year to bring down customs duties on half of the country’s imports, expecting to achieve an average tariff of 4.3% by 2013.  Tariffs are approaching trivial levels, but nontariff measures need more work.

The recession saw irresistible political pressure to build up government procurement preferences.  The mercantilist assumption is that, if we are going to have a stimulus package, we must ensure that all the benefits go to workers in our country.  The real-world impact of “buy national” policies may have quite a different result, depending on the foreign content of the products.  Ikenson gives the example of Duferco Farrell, a producer of hot-rolled steel coils that are made from steel slabs the company imports for processing in Pennsylvania.  As a result of stricter Buy America rules, Wheatland Tube, a steel pipe and tube manufacturer literally next door to Duferco, stopped buying Duferco’s product because it was competing to supply U.S. Government-financed projects.  Duferco lost its best customer, a business relationship was destroyed, and American jobs endangered.

Give Ikenson’s piece a read.  Thought-provoking.

Better see it on the first visit

It’s refreshing to find a country with a visa policy as imbecilic as my own.  India may actually have topped the United States for stupidity.  In the guise of preventing repeat visits to find targets for terrorists (as was apparently done by American David Headley prior to the Mumbai attacks in 2008), India decided December 24 that no one with a tourist visa may re-enter India within two months of their departure – even if they hold multiple entry visas.  Another example of travelers being considered guilty until proven innocent, something that should be anathema but is followed by security and transportation officials everywhere.

The obvious impact is on tourism, since the ban officially applies only to tourist visas (there have been reports of denied entry with business visas).  India has slightly loosened the ban for travelers going trekking in Nepal, but the measure will surely kill otherwise innocent transit traffic by preventing travelers from stopping to see the Taj on a return leg.  Such travelers would have to file a detailed itinerary (and show their return tickets) with Indian officialdom the first time they leave India.  I am sure that Indian bureaucrats are the most efficient in the world, but what happens if the little piece of paper with your itinerary is misplaced or if you are forced to change plans?  India stands to lose millions in tourism revenue and millions more in a depreciated image.

I know you will be shocked, but much business travel is done under “tourist” visas – business visas generally being more cumbersome to obtain.  And it is not unknown for business travelers to have to return for negotiations in less than two months.  It is unguessable how much business, other than tourism, that India will lose as a result of this misguided policy.  It would appear that Indian security officials are accomplishing the aims of the terrorists in terms of damage to the Indian economy.  Dumb.

China has been fiddling with its customs duties this week.  Nothing unusual, but one item caught my eye.  On Wednesday, Beijing announced that it will cut duties on natural rubber and rubber smoked sheet.  I’m not sure exactly what rubber smoked sheet is, but apparently you can make tires with it.  Beijing is bringing the duties down to help Chinese tire makers who face the Obama Administration’s safeguard duties against tires from China that were announced back in September.

Soon to be a tire

Now, let’s see how this works.  The Obama Administration raises tariffs on Chinese tires in order to help American tire manufacturers and their loyal (to the Democratic Party) workers.  This has the politically brilliant and apparently unforeseen effect of increasing prices for American tire consumers during a recession.  The safeguard duties, of course, also create problems for the Chinese manufacturers, who find it more difficult to sell tires to the American tire companies who use them to supplement their product lines.  Nor does this do anything positive for U.S. importers (or their workers) who supply tires to the American consumer.  Think your local Goodyear store or Costco.  So, the original U.S. action likely has little net benefit for U.S. workers, and hurts U.S. consumers and Chinese manufacturers.

In response, other than their amusing rhetoric about unfair trade, China sensibly reduces its customs duties on inputs for their tire industry.  This, in turn, increases demand for natural rubber and rubber inputs from countries like Thailand, the Philippines and Malaysia, benefiting their rubber producers and workers.  Indeed, prices for natural rubber and the shares of the companies that make it have been going up since the Chinese announcement.

So, now the real winners from the Obama Administration tire safeguards are revealed.  Not the U.S. tire companies.  Not the U.S. tire worker and their unions.  No, it’s the rubber producers of Southeast Asia!  Maybe the Obama Administration does have an international aid policy.  Who knew?

Rubbah Slippahs

You know them as flip-flops.  We call them slippers (pronounced sli-PAHs) in Hawaii.  Sometimes rubbah slippahs.  I love ‘em and wear them all the time.  But it turns out that the slippah trade is not really good for the world.  They can be made anywhere, but the largest producers of flip-flops are China and Hong Kong, followed by Vietnam and Malaysia. Trade statistics are hard to come by, but plastic footwear is clearly being sold around the world in huge volumes.

The Swedish Society for Nature Conservation did a study that analyzed the plastics and other chemicals found in the average humble flip-flop.  They only analyzed 27 slippahs, but found that 17 were made from polyvinyl chloride (PVC), the toughest, least recyclable plastic.  Many also contained heavy metals, added to harden and prolong the life of the plastic – not what you want in the ocean.  The worst one they found was made in South Africa, but the sample was small, so that may not mean much.

The New York Times ran an article about vast tons of flip-flops washing up along east African shorelines, finding discarded or lost shoes there from as far away as Indonesia.  Friends who work in marine research in Hawaii tell me that thousands of slippahs find their way into the North Pacific Gyre, a mid-ocean garbage patch that collects over a huge area north of Hawaii.  I don’t think anybody has analyzed where they come from, but the Gyre collects trash from all around the Pacific.

The plastic shoes tested by the Swedes were manufactured in the Philippines, China, South Africa, Lesotho, Brazil, Taiwan and Uganda, and included global brands such as Crocs, Bata, Björn Borg and Reebok, among others.  The Swedes recommended tougher legislation on chemical content, environmental labeling for plastic shoes, and that consumers demand PVC-free footwear.  The last may be the most effective.  Legislation and labeling don’t matter once the slippahs enter the oceans.

I used to have slippahs just like the ones in the picture.  If paddling practice went late, I could find ‘em in the dark.

A Member of Congress once told me that there are three types of people in the U.S. Congress.  He said that about a third of the Congress is made up of true statesmen who have the national interest at heart.  Another third are absolute and total crooks.  And the last third are complete Bozos who don’t know what is going on.  He said he would far rather work with the first two because there is at least some intelligent conversation.  I suspect the Bozo ratio is similar with parliaments and other legislative bodies across the globe.

Is He Your Congressman?

Now we have a chance to identify the Bozos in the U.S. Congress.  Just take a look at the co-sponsors of the 2009 Trade Reform, Accountability, Development & Employment Act.  TRADE Act.  Cute!  I have skimmed through the House version of the Act (H.R. 3012) and have difficulty finding a passage that is not total nonsense.  In summary, the Act would require studies of virtually all of America’s past trade agreements with a view to re-opening each of those agreements to insert stiff requirements for labor protection, environmental protection, human rights protection (in fact, the entire “fair” trade agenda).  I do not condone the practices of every country with whom the United States has a trade agreement, but I also reject the premise of this bill that the U.S. Congress has the extraterritorial right to legislate morality throughout the world, something that is totally beyond its power.  The co-sponsors, however, seem to feel that they can force others to kowtow to their wishes by threatening to withhold the privilege of trading with the United States.  I say “seem to feel” because I believe that the true aim of the bill is to protect the interests of American labor unions, regardless of the atrocious impact this bill would have on the U.S. economy.  But read it for yourself.  And also take a look at “fair” trade sites such as Citizens Trade Campaign to see how warped the trade debate has become in Washington.

One premise of the TRADE Act bill is especially laughable.  It ignores the fact that the partners to our trade agreements must be willing to renegotiate them.  Last I checked, negotiation requires at least two parties willing to talk and it’s not really a negotiation if you force them to the table.  More like imperialism.  Also, these are agreements that were negotiated in good faith and were, for the most part, ratified by past U.S. Congresses.  But now we have Members of Congress and U.S. Senators who wish to tell the world that decisions by Congress cannot be trusted.  Why would anyone wish to negotiate with the United States when they have every reason to assume that a future Congress will turn around whatever agreement is reached?  They won’t, and the rest of the world will move on, merrily negotiating market-opening agreements that won’t apply to the United States.

When I lived in Germany in the early 90s, the European consumer rightly felt besieged by Mad Cow Disease (bovine encephalitis – BSE).   And it was impossible to sell U.S. beef in Europe because of the lingering controversy about farmers adding hormones to beef cattle.  I  always suspected that hormones and BSE somehow became connected in the mind of the European consumer.

Later on, when we were living in Vienna, a similar thing happened when agribusiness companies (notably Monsanto) developed Genetically Modified Organisms to “improve” their products (usually corn).  Many GMOs did improve things by reducing the quantity of insecticide needed for crops.  But again, in Europe more than elsewhere, these benefits were lost sight of in the consumer rush to avoid “Frankenfoods”.  Curiously, GMO crops that were used to produce new pharmaceuticals in pill form did not meet such opposition.  I used to quip to my Austrian friends that this meant it was OK to put GMO products in your mouth, you just had to swallow them without chewing.

Untreated Apple Scab

Now comes a study of the semantics of food labeling done by a team at the University of Illinois, Urbana-Champaign that has appeared in the Journal of Food Distribution Research.  Don’t be impressed; I read about in the Green, Inc. blog of the New York Times.  The study used two groups of 200 people each.  The groups were told that locally-produced apples in Illinois are subject to apple scab disease (they are) and that farmers are responding by growing apples with an added gene that stops apple scab from taking hold.  This added gene, they were told, reduces the need for anti-fungal sprays in local fields, and increases the availability of local apples for the consumer.  The groups were then offered tastes of a dozen different apples, variously labeled.  Among the labels faced by the first group was one apple clearly marked as a GMO apple; this being the United States, where we are used to GMO foods, this had little impact on which apples the group thought tasted best.  The second group got the same apple, but labeled as “Reduced Environmental Impact” apples.  This group overwhelmingly preferred the new REI (former GMO) apples, reflecting today’s environmental sensitivities.  What a difference semantics makes in marketing!

Hawaiian Papayas

Another example crops up in Hawaii.  Hawaii farmers grow magnificent papayas, but must meet the phytosanitary requirements of their major markets: Japan and California.  Papayas have their pests and the conventional ways to treat them are to spray noxious chemicals on the fruit or to wash them in hot water.  Consumers don’t like the first, and the hot water hastens ripening and makes your papaya go all mushy.  The really neat cure for this is to “irradiate” the papayas.  Radioactive particles dash through the papaya, killing the critters we don’t want, and dash out again – leaving no residual radiation.  What it does leave is an impossible marketing problem.  No matter how often you tell the consumer that there is no radiation in the treated papayas, visions of nuclear weapons and Chernobyl come to mind – and the papayas are unsaleable – even if the irradiated papayas are a better, safer product.  I wonder if “Reduced Environmental Impact” will resurrect this once thriving industry.  Or if the heads of state at the Copenhagen Summit will eat REI apples.

PricewaterhouseCoopers has published its 2009 Global Economic Crime Survey, based on reports from more than 3,000 corporate executives in 54 countries.  The Survey is being widely reported, and considerable detail, including country-by-country reports, is available on the PWC website.  My objective is to highlight which countries have the most, and least, business fraud – from the perspective of each country’s own executives.  This gives you an idea of how, say, Russian or Singaporean executives view fraud in their own countries – based on their own reporting to PricewaterhouseCoopers.

2009 Global Economic Crime Survey

Let’s begin with the bad news.  Russia is the worst, with 71% of Russian respondents reporting economic crimes.  They are followed by South Africa (62% reporting fraud), Kenya (57%), Canada (56%!), Mexico (51%), Ukraine (45%), United Kingdom (43%), New Zealand (42%) and Australia (40%).  Some surprising numbers, especially for Canada.  Do executives in these countries share the same definition of fraud?  I suspect that Canadian executives are using a higher standard than might be prevalent in the Ukraine.  And one wonders at the absence of the obvious suspects, such as Nigeria, Indonesia, Pakistan and China.  Did PWC simply not receive sufficient responses from these countries?

On the plus side, Japanese respondents see themselves as the least subject to corporate fraud (10%).  Next best are Hong Kong (13%), Turkey and the Netherlands (tied at 15%), Romania (16%), Finland and Switzerland (even at 17%), Indonesia (ah, here they are: only 18%), India and Singapore (also 18%), Sweden and Italy (19%).  Again, I think we are dealing with different subjective standards of what constitutes fraud and economic crime.  Is there really less fraud in Romania than in Singapore?  Lee Kuan Yew will not be pleased!