Could intangibles help avert the next financial crisis?
Yes. And they’d better, because the train of global prosperity is about to jump the track and intangible assets are the only possible salvation.
Today’s headlines are depressing. There’s a constant stream of negativity led by U.S. President Donald Trump’s assault on the North American Free Trade Agreement (NAFTA) and the global trading system, the self-inflicted wounds of Brexit in the United Kingdom, and the growing anger over the Brett Kavanaugh U.S. Supreme Court confirmation hearings.
Unfortunately, it’s even worse if you look behind the headlines.
Claudio Borio, chief economist for the Bank for International Settlements (BIS), the central bankers’ central bank, believes we’re heading for another global financial meltdown, similar in nature (but on a much larger scale) to the 2008 crisis.
Borio believes we’ve never really dealt with the underlying causes of the 2008 crisis. Indeed, the radioactive financial instruments that caused the meltdown in the first place, collateralized debt obligations (CDOs) and credit default swaps (CDSs) once again threaten the system. Economic stagnation, rapid wealth concentration and exploding levels of debt are leading us toward another crisis.
The systemic problems that plague capitalism today are a result of not dealing with an underlying disease that has infected our economy.
According to the World Bank and the Organization for Economic Co-operation and Development (OECD), the intangible revolution is almost complete. Today in western and other developed economies, intangibles are responsible for 80 per cent of value creation in our economy, while only 20 per cent is derived from industrial-class tangible assets. A few short decades ago, these numbers were reversed.
Ironically, this so-called problem is best described as an unrealized opportunity.
The opportunity lies in accepting that the engine of growth in capitalism has changed. It’s evolved from a predictable factory-based industrial model to an unpredictable digital economy underpinned by intangible assets like artificial intelligence algorithms, software, digital apps and networks of value like Facebook.
As a civilization, we haven’t experienced changes on this scale for many centuries. The real source of our crisis is inactivity or, more accurately, fear of the unknown.
We need to change. Intangibles need to be formally recognized at the corporate level and fully incorporated into accounting standards, financial reporting and banking protocols. Regrettably, our established financial institutions are fearful of the new order, rejecting any solutions that involve substantive change.
As a result of this failure, we’re not managing the economy properly. Economists don’t adequately measure intangible investment, undermining gross domestic product and productivity statistics. Banks have become service organizations rather than lending institutions. Accountants and senior business leaders are driving blind, completely in the dark about the real value drivers in their businesses.
This kind of denial and dithering is a recipe for collapse.
According to market analyst Marshall Auerback, it’s already happening: “Borio implies that the monetary and fiscal authorities expended excessive efforts toward restoring the status quo ante, instead of directing policy toward broader job creation and income generation. …”
Economies grow from the ground up. Unfortunately, authorities chose to bail out the banks rather than make structural changes that would have funneled resources to the real economy, driving growth in value creation.
As a result the real economy is suffering from unprecedented lack of investment. Modern businesses that are generating intangible assets but lack formal collateral are, systematically, oxygen deprived.
So it’s not an accident that western economies are stagnating – it’s structural.
Banks find it impossible to provide loans to most small to medium enterprises for the simple reason they can’t (or won’t) recognize the intangible assets that underpin these businesses. Lacking appropriate intangible asset expertise, internal systems and protocols, banks have essentially abandoned corporate lending.
And equity markets don’t and never have invested directly in companies. Mutual funds, pension funds or wealth managers hold the vast majority of our national savings. These institutions place money in the stock market, which is essentially a side bet on the economy.
As a result, almost $65 trillion of savings is unavailable for investment to build new products and services, hire new staff or otherwise provide the job creation and income generation that could lift us out of our gloom.
Fortunately, this is fixable, but only if we adapt our economic institutions and capital markets to fully accommodate intangible assets. The good news is that doing so could drive new growth, save us from financial ruin and launch the next great wave of prosperity.
Robert McGarvey is an economic historian and former managing director of Merlin Consulting, a London, U.K.-based consulting firm. Robert’s most recent book is Futuromics: A Guide to Thriving in Capitalism’s Third Wave.