Business in a Hostile Environment: Confronting Global Volatility

Claude Smadja
Smadja & Associates Strategic Advisory

Hong Kong, July 25, 2003

We have entered an era of structural volatility:

• Convergence between tremendous instability factors in the geopolitical domain and unprecedented uncertainties and vulnerabilities in the macroeconomic domain.
• The corporate scandals in the US as well as Europe, the enduring controversy over executives’ pay, corporate governance practices, have created a crisis of confidence in business – and within the business community - affecting the very legitimacy of the system of global financial capitalism.
• The backlash against globalization is proving to be an enduring phenomenon, forcing corporations to revisit the ways they operate at a global level and they position themselves in a context of ever increasing public scrutiny and demands from the public.
• As much as the 90’s were a decade propitious to business, business has today to operate in a difficult – if not hostile – environment.

The Economic Outlook

The main element is the marked deterioration of the global economic outlook. What started in March 2000 in the US as – supposedly – one of the mildest and shortest recession in modern economic history has been accentuated and aggravated by the crisis of confidence in the business community, the geopolitical uncertainty with respect to Iraq. It spread to Europe, hitting it even harder than the US, highlighting structural fiscal imbalances in the US and the deficiencies in the euro-zone economic, social structures. The euro zone that, last November, was forecast to grow by 1.6% in 2003 will be very lucky if it achieves the 0.8 growth that is now forecast.

All the forecasts for 2004 have been revised downward. Japan, struggling with deflation is expected to grow by 0.5% at best. For the first time since 1930, there are talks of a potential danger global deflation. Although this is a little bit exaggerated, deflecting such potential threat will be the key priority for the months to come. But never before the prospects for global economic policy coordination have been so grim, in a context of geopolitical tensions and conflicting national interests.

The US

Once again, if one wants to hope for any potential for improvement, one has to look in the direction of the US, which is expected to grow by about 2.5% this year. Some economists now even expect that the US should be able to achieve its growth trend rate of 3.5% in 2004. A number of elements point at a strengthening of economic activity in the second part of 2003:

• Sustained by incredibly low rates, the housing market remains quite dynamic
• Oil prices are coming down significantly, contributing to reduced costs
• The process of reduction of excess production capacity keeps moving ahead, restoring balance in the economy
• The first indications of a timid revival in corporate investment are beginning to happen. Investment in IT equipment, for instance increased by 10.8% at an annual rate in the first quarter of 2003 compared to 3.2% a year ago.
• The gains in stock markets over the last six weeks are helping to restore a minimal level of confidence
• The US 350 billion tax cut program enacted by Congress should act as an additional boost to investment, consumption and economic activity
• Last but not least, the declining US dollar is significantly improving the competitiveness of US corporations in the US domestic market as well as in export markets..

But the picture in the US remains vulnerable.

• The Fed is definitely showing an awareness of the risk of deflation taking hold of the US economy. But this risk remains quite manageable and limited for the moment as the Fed has lowered again interest rates and is ready to use non-classical measures at the first sign of aggravation.
• In addition, the weak dollar policy is also a very significant firewall against this danger – as long as the slide in the value of the greenback against the euro, and to a much lesser extent the yen, does not become an uncontrollable rout.

The sea change that we are witnessing today and which is radically altering the global economic landscape is the fact that by its decision to let the dollar weaken (and even accentuate the trend by timely official pronouncements) the US has for all practical purposes decided to stop being the market of last resort for the rest of the world.

In previous circumstances, it was the US economy which, humming and running, was the engine that pulled the rest of the world along towards global growth. The productivity gains which were engineered in the US raised the trend growth rate from the level it was between, 1975 and the beginning of the 90s, at 2.5% per year, to 3.5% per year the mid-90s, providing a tremendous opportunity for the rest of the world to use US economic vitality as an additional and sometimes crucial sustaining element for their own growth. This is what widened the US trade deficit and led to a US current account deficit now at 5% of GDP, which is considered unsustainable.

The change of the dollar policy means in fact that we have entered a period that might be called “low intensity economic and trade warfare” with Europe and, to a lesser extent, with Asia, especially with China..

The fiscal, trade and current account deficits would anyway normally lead to a weaker dollar. But the US administration has obviously decided that what was a necessary monetary adjustment will be accentuated for political reasons. It needs to accelerate economic activity in order to start the presidential race in a strong position. The weak dollar will obviously not only help US exports but also improve the balance sheets of US global corporations as their European earnings will be valued more in US dollars; Washington needs also to ensure that the pains of reducing the fiscal imbalances be reduced by exporting part of the burden to the other economies.

Europe

Europe is at the present moment an unmitigated disaster area. All the growth forecasts for 2003 and 2004 have regularly been revised downwards. One has only to look at the growth forecasts for Europe made as recently as in the first quarter of 2003, to realize that official institutions in Europe - governments, the Commission, and the ECB - have all been living in an Alice in Wonderland world. Germany, the Netherlands, and Italy have been in negative growth for the first quarter of 2003, and technically speaking Germany is in a recession. If France is not technically in recession with 0.2% growth in the first quarter of 2003, such technical nuance goes unnoticed by the man in the street or by the business community. All in all, it will be something close to a miracle if the Euro Zone manages to achieve the 0.8%, which is the latest forecast for 2003. The prospects for 2004 are no better than 1.5%, a far cry from the 2.5% which was forecasted just a few months ago – and this providing that Germany does not fully sink into deflation.

There is in fact no surprise in all of this. Three basic issues are today condemning Europe to be a slow growth, high unemployment area for the period to come.

– It has now become common to stress Europe’s inability – at least with respect to key countries in the Continent – to adjust the European social model to the requirements of globalization and global financial capitalism. The culture of entitlement in Europe makes it a Herculean task to get the public to admit that the rigidities of the labour market, the structure and philosophy of present retirement systems, the perception of the role of the state in the economy and as a provider of welfare services, should be changed. Yet these have become almost insurmountable obstacles to sustained growth.

Chancellor Schroeder and President Chirac know that there has to be some radical change and they are more ready to take the bull by the horns and, at long last, start addressing some basic, although very sensitive, reforms in retirement systems and in labour market policies. The fact is that Europe has not been able to muster or to engineer the productivity gains that the US has achieved over the last ten years. At the height of economic growth at the end of the 90s, structural unemployment in Germany and France stood at around 8% when it was only 4% in the United States.

– There is today a total disfunctionality with respect to the tools of monetary and fiscal policy normally at the disposal of governments to steer economic policy. The Maastricht Agreement and the Growth and Stability Pact have set criteria and a mandate for the ECB which are not only a reflection of a past economic era that is today obsolete; they were only ever valid only in fair weather conditions. The requirement for the ECB to take as the only criterion for its action a ceiling of 2% inflation in the Euro zone, and the requirements for member governments to hold budget deficits at a maximum of 3% of GDP, do not correspond to any proven economic rationale. They were just a kind of psychological and political sop to get the Germans to agree to relinquish the Deutschmark for the Euro. What made the Euro politically feasible is precisely what makes monetary policy unmanageable in times of crisis or slowdown. Although a number of European leaders fully admit this reality, nobody is ready to draw the appropriate conclusions from this. The ECB is adamantly opposed to touching the Maastricht rules, and in fact one has to admit that doing that would open an enormous can of worms. But very soon, the only alternative to doing that will be fiscal and monetary chaos.

Germany, which accounts for one third of the euro-zone GDP, is the very sick man of Europe. Whereas in France there is still some life left in domestic consumption, in the case of Germany the picture is flat for domestic consumption as well as for exports. The 22% increase of the Euro over the dollar over the last year has all but eliminated the competitiveness of Germany – and European – products and services in the world market. With one hand tied behind their back because of the rigid monetary context, German (and European) corporations have no other alternative for staying alive than to continue to slash costs, adding to unemployment pressures, and to continue to delocalize. This reinforces economic anaemia. It has already been four years in a row that outflows of capital from Germany have exceeded inflows. Whatever the resurgence of efforts by Chancellor Schroeder to re-launch structural reforms, the hardliner opposition inside his own party makes it predictable that reforms will not go as far and as fast as they should. The business community is aware of that.

But the new, clear and present, danger is that with the very rigid ECB policy, and the fact the Bank is always one rate cut behind, we won’t have only recession in Europe, we have now deflation looming increasingly over the third largest economy in the world. With interest rates in the US at 1%, when they are still at 2% in Europe, the implication is that, through the weak dollar policy, the US is unloading the danger of deflation onto its partners. Germany’s inflation is already at just below 1%, whereas the Euro Zone average is today around 1.8%. For an economy the size of Germany’s, being just below 1% inflation means in fact being one step into deflation.

What makes the ECB’s obsession with inflation completely misplaced if not obsolete is that the risk of deflation is not only linked to passing economic circumstances: The new global economy has a built-in structural bias towards deflation: On the one hand, the growing integration of IT and telecom in every single aspect, level and stage of economic activity is generating productivity gains, which tend to reduce costs. On the other hand, by eliminating time and distance with respect to access to markets for customers by improving the conditions for customers to make comparisons on price and quality, the new global economy is structurally creating a buyer’s rather than a seller’s market.

The third factor is that despite all the rhetoric about building Europe’s institutions and reducing its democratic deficit, and all the sound and fury about the Constitutional Convention, nothing is yet truly settled with respect to where the power will lie and how decisions on important issues will be made in an EU soon to go from 15 to 25 members. The two intractable issues are:

• 1) What is the power and influence that the big members, Germany, France, the UK, and Italy, expect to have in shaping the future of the Union vis à vis the smaller countries. This is what is truly at stake with respect to creating the job of a President of the EU with a two and a half year term
• 2) In what areas should the power of the Union prevail, and what are the areas that member countries – and especially the big members – want to keep off limits as an element of their sovereignty that they are not ready to relinquish to anybody? In this regard, for all of the talk of creating a foreign minister for the EU, the hard fact is that even if such a minister had existed at the time of the Iraq War, Mr. Chirac or Mr. Schroeder or Mr. Blair would not have acted any bit differently.
  

Asia

The picture with regard to Asia is quite different. Of course, the SARS syndrome has taken a heavy toll on what still remains the most dynamic economy in the world: China, and on the other economies in the region. The first quarter of 2003 brought an 8.5% GDP growth in China, and confirmed what was already seen in the course of 2002, i.e., that China was increasingly becoming an engine of growth and economic dynamism for the whole of East Asia despite the tremendous competitive pressures that China’s admission into the WTO are creating for these countries. But the SARS outbreak, which might take away up to 1.5 to 2 GDP growth points from China (and from Hong Kong and Taiwan), and the new conditions created by the weak dollar, are generating extremely strong adjustment pressures in terms of monetary and fiscal policies.

Contrary to Europe, Asian countries – starting with China – are in a much better situation to react to a weak dollar policy. China and Hong Kong have their currency de facto pegged to the dollar. So does the Malaysian economy. This means that the competitiveness of these economies would not much suffer in the US markets, and would in fact increase in Europe, given the rigidity of Europe’s monetary policy. For the other countries in Asia that have a flexible exchange rate policy, they are free of the constraints that exist in Europe with the ECB. Japan has been able to limit the appreciation of the yen vis-à-vis the dollar to about only 8%, and the Japanese Central Bank has huge reserves to continue to buy dollars to limit the appreciation of the yen. The Koreans will do the same. Countries such as Thailand and Singapore will use guided depreciation policies to maintain their competitiveness.

As the SARS outbreak appears now contained the growth perspective in Asia should improve in the second part of the year. China could even still achieve the 7.5% growth that was set as a target last March by Wen JiaBao, the new Premier, and a 4% to 5% growth in Korea, Taiwan, and even Malaysia seems achievable.

In the East Asian landscape, Japan of course remains the odd man out, stuck in structural anaemia and mired in deflation. The episode of the bail out of Resona Bank, the fifth largest bank in the country, illustrates the extremely tight margin of manoeuvre of the government, despite all its reformist rhetoric. Classic economics and free market orthodoxy would have it that Resona should have been allowed to go down the drain. But the government knew that following that course would have put in additional difficulties a number of insurance companies that are big shareholders of the Bank, and could have triggered panic among the depositors. Once this kind of chain reaction is set into motion, nobody knows if it can be kept under control. It could have triggered, through a domino effect, the financial meltdown that everybody has been so afraid to see happen in Japan since quite a few years.

This illustrates the quandary in which Japan finds itself, and in which a country like Germany might also find itself in the coming period: as the deterioration of the economic situation is made more or less bearable for the largest segment of the population through a number of institutional safety nets, the appetite for structural reform and the will to accept the pain that comes with reforms, remain very weak. And so the economy keeps running below potential, deflation sets in, and (as we have now learned) it is much more difficult to come out from deflation than to come out from inflation.

One positive element with respect to the present situation in Japan is that the new leadership at the Bank of Japan (the central bank) seems intent to have a much more cooperative attitude towards the ministry of finance. There is a new will to use much more non classic tools for market intervention purchasing foreign currency debt, in order to ease more monetary policy despite the fact that interest rates are at a bottom level.

Two other interesting elements regarding Japan are that, first, the big corporations in Japan have already drawn their conclusions about this situation and have already made all the necessary moves to relocate their activities – even, as in the case of Toshiba, moving a significant part of their R&D activity to China. So the revamping of Japan’s big business is already well underway. Second, Japan’s problems are not any more a significant obstacle for East Asia's growth, since Japanese relocation has been to many countries in the region, and since China is more and more taking the relay as an engine of growth.

So it is Europe that most likely will bear the brunt of the weakening of the dollar. The structural rigidity of monetary policy-making at the ECB and the growing dysfunction between fiscal and monetary policy in Europe mean that the Euro Zone has almost no efficient tool of economic and monetary policy at its disposal, except if Europe were to admit publicly that the Growth and Stability Pact is officially dead and draw the necessary conclusions for that. But, in the present context where every country is fighting to stop the decline of its economy, and with real unemployment levels getting to a near record high in Germany and France, this would open a Pandora box since there does not seem to be any agreement at hands on how new rules for operations at the ECB and new criteria fore monetary policy making should be set or what they should be.

The Impact of Geopolitics

This context of macroeconomic volatility and uncertainty is aggravated by the fact that, contrary to what we had seen in the 90s, geopolitics is now looming large on macroeconomics management. Geopolitical considerations and constraints bear heavily – and will continue to do so in the foreseeable future – on business and economic decisions. Of course, the first element that comes to mind in this regard is the priority preoccupation with the security and terrorist risks. These are becoming a key factor weighting on every single investment decision, on the elaboration of corporate regional strategies, and on the ability of multinationals to operate on a global scale without much hindrance, as they became accustomed to in the 90s.

The key issue of the ability to sustain business activities in the face of possible disruptions of various natures - whether terrorist threats, anti-American activities – peaceful or not - anywhere, or SARS-like episodes - is confronting corporations today with the challenge of devising modus operandi and organization structures that would allow them to mitigate the disruptive impact of real or possible threats that they are just beginning to be aware of.

The successful completion of the war in Iraq has not eliminated geopolitical uncertainty and volatility. The US has obviously quite underestimated the difficulties it would be facing in Iraq in the post war period.

Although any comparison with Vietnam would be quite far fetched, it is now obvious that the Bush administration is confronting a dilemma of major magnitude: Either stay in Iraq in the present configuration of a limited coalition and then continue to bear the brunt of military casualties which are making the US public increasingly worried and assume costs which are weighting heavily on the budget deficit; or make a dramatic reversal of policy in engineering a UN resolution which would provide the cover for other countries to join US efforts in Iraq and then share the risks and costs. But this would seen as a public recognition that the strategy of ignoring the UN in going to war led to a deadlock in the post war period.

Despite the successes achieved in dismantling elements of the Al Qaeda international network, the organization has proved its ability to inflict very damaging blows by going after “soft” targets in Arab countries allied to the US. The fight against Al Qaeda will definitely be raging for quite some time to come and the unpredictability of terrorist actions will continue to maintain a climate of uncertainty and anxiety worldwide. Especially, as we approach the second anniversary of 9/11 the question looming large on many policy makers mind is whether or not Al Qaeda will be able to mark this date but another significant blow against the US. Absent such a blow, one could possibly conclude that the operational capabilities of Al Qaeda have now been significantly affected and that the war on terrorism is truly making significant inroads.

In a different area, the nuclear potential achieved by North Korea has accentuated the element of volatility in North East Asia; it appears increasingly clear that the US does not have a military option in that case – given the regional context. But the diplomatic solution to reduce tensions and “contain” the bluster and nuclear blackmail of the faltering regime Pyongyang is proving very difficult to achieve.

We are now beginning to realize that the post, post cold war era marked by the US monopoly on super-power status is in fact an era of quasi built-in volatility. The cold war years were a period where, because of the threat of mutually assured destruction, the USSR and the US would challenge each other only at the periphery an not on their respective central positions or interests. Then, in the post cold war period of the 90s, the US as the sole super power could enjoy dominant position on the cheap. No power seemed able to or intent of challenging its position.

One of the major change brought by 9/11 ids that it has marked the end of the period of absolute prominence on the cheap for the US. The Americans are waking up to the fact that their position of sole super power, with all the benefits it brings to them will have a serious cost to be paid. It is not sure that they would accept to assume such a cost in a long-term perspective. In that respect the sustainability of US position in Iraq is a crucial test of US credibility and staying power.

9/11 has highlighted the fact that in the post post cold war challenges and threats ared assuming new forms: They do not come from any specific country, and so the lines of conflict are not any more easily identifiable. They come today from the likes of Al Qaeda and its nebulous web of followers and imitators around the Islamic worldwide community. If and when Al Qaeda is obliterated, these challenges and threats will tomorrow take a new form unknown to us at the present moment.

The geopolitical context is dominated by one key factor of tremendous implications: Never before in history has a country achieved the kind of dominant position in every domain that the US enjoys today. But, at the same time, never before in its history has the US felt so vulnerable to threats that it is not always able to spot and to neutralize. Never before have US citizens and corporations around the world felt like being like potential targets of unknown enemies. The combination of unprecedented power and unprecedented vulnerability creates a very volatile mix where reactions to threats – real or potential – can be very extreme, and where the security imperative becomes the dominant factor conditioning perceptions and actions vis à vis allies as well as adversaries.

The fact of the matter is that while all of us were celebrating the end of the cold war, and some of us were already seeing “the End of History”, we have underestimated the implications and consequences of the US becoming the sole superpower or hyper-power in existence, the intensity of the resentment and frustrations that this situation will focus on it. This is bound to be a permanent feature of the coming period – feeding, as a consequence, an enduring and structural anti-Americanism trend not only in the Arab world but also in Europe and in many parts of Asia. This pervasive anti-Americanism is not linked anymore – as was the case in the past – to what America do or does not do but what it is and what it has come to symbolize.

This has of course tremendous impact and implications for business, whether you are or not a US corporation operating on a global scale; whether you are or not seen as being associated with the US; whether your services or products are seen as emblematic of US lifestyle and values.

Beyond that, a new area where geopolitics are likely to impact more than ever on macroeconomic and business realities is the deterioration of the transatlantic relationship. Of course, the bitter divisions about Iraq have been illustrating this deterioration. But the causes for this situation go much deeper than the divergences between Europe and the Bush administration on how to deal with Saddam Hussein.

There are, in fact, basic fundamental philosophical and political differences between continental Europeans and Americans on the five key issues shaping the geopolitical environment:

• How to solve, at long last, the Arab-Israeli conflict so that this issue stop being a permanent factor of geopolitical risk and destabilization?
• How to deal with an Arab world which – as things stand now - has no place in the global world of the 21st century, is extremely young, tremendously frustrated…and which will grow from about 280 million people now to 400 million by 2020. More generally, how to deal with the Islamic world with its 1.3 billion people – the fastest growing segment of population on earth – in a way that will avoid being definitely trapped in a clash of civilizations, as we are very close to be at the present moment?
• How to fully integrate China in the global systems and deal with a country becoming the world’s manufacturing base and which, in many ways, represent another kind of superpower in the making over the next 20 years?
• To what extent will Europe ever be capable of translating its economic and trade weight into geopolitical clout? And for what purpose?
• How will the US use its unprecedented power and dominant position in the world?

In the new geopolitical context where the threat does not come anymore from one antagonist block, the transatlantic relationship has lost its centrality, from a strategic and diplomatic perspective, for Washington.This a the result of trends which were already at work before the Bush administration came to power and which have been highlighted and accentuated by its style and rhetoric. Iraq provided a catalyst for the divergences to come fully in the open, adding an element of bitterness on both sides, which will leave long-lasting scares, especially with respect to the US-French and US-German relationship.

This is already having an impact on the way macroeconomic, business and trade issues are addressed. The geopolitical climate is making a compromise between US and European positions difficult to reach with respect to the next WTO ministerial meeting in Cancun which is a crucial milestone if the Doha round of trade liberalization is to stand any chance to meet the deadline of December 2005 for its completion. Some observers are already forecasting that in the present circumstances, the best than can be expected is a kind of very general agreement in Cancun to try to keep the ball rolling and avert the disastrous impact of an open failure. It remains to be seen if Congress will be willing and able to change by the Fall the law on tax exemptions for exports that the WTO has labelled as a hidden subsidy. In the absence of such change, the EU will be entitled to issue additional duties on up to US$ 4 billion of US exports, pricing many of these exports out of the European markets.

Washington seems already preparing alternative strategies in case the multilateral trading system comes to a standstill with a deadlock in Doha Round by engaging in a number of bilateral free trade agreements with countries as diverse as Chile, Singapore, Australia, South Africa or Morocco.

There is no underestimating how much the geopolitical disputes are creating an atmosphere where trade and business disputes are now assuming a new intensity and bitterness. One can expect that many US corporations operating in Europe and many European corporations operating in the US will be facing additional obstacles in areas where business decisions are under the control or at least the influence of government authorities. In the coming period, political considerations are definitely going to interfere with business decisions in a much more pronounced way than was the case in the nineties .

Similarly, the decision in Washington to let the dollar go down will not be mitigated by any concern about the additional difficulties this is increasingly creating for the already depressed euro zone economies. “Why should we do any favour to the Europeans?” would be the kind of response that the mention of this element would elicit in Washington. Some circles would even question, in view of the trends reshaping the transatlantic relationship – whether the 50 years old US policy of supporting European integration still remains valid today.

Of course, at the same time that the transatlantic relationship is losing its centrality from a strategic and political perspective, one can see the growing convergence and interdependence that is occurring in the business domain. This factor should theoretically help keep the spill over of geopolitical tensions from going beyond a certain point. A number of business leaders on both sides of the Atlantic have expressed their concerns on the dangers and economic cost of letting the present disputes get out of control. The question is to what extent each party will head their repeated warnings in a context of growing mutual recriminations and suspicion of hidden motives.

.The third factor where geopolitics is definitely impacting negatively on the global economy is the backlash against globalization – or the new obstacles to this process - that we have been witnessing over the last few years. Contrary to some euphoric assumptions in the 90s, where the sweeping wave of liberalization created a very propitious global environment for business, the anti-globalization phenomenon has proved to be an enduring factor. It is in fact increasingly institutionalizing itself.

One can see now two trends shaping up. There is a hard core that is still purely anti-globalization. For this hard core, the fight against globalization is becoming a new version of the Left vs. Right confrontation. This group will not recoil against violent means to make its points and it has proved quite apt at using modern technologies to create global mobilization. They will not disappear anytime soon. But there is a larger and growing segment of the original anti-globalization movement that has realized that there was no point fighting against globalization per se, as it is an irreversible process, and which is now increasingly trying to propose an alternative version of globalization.

This second trend is not only gaining ground but it is also achieving quite a significant legitimacy. It does not have only popular appeal with respect to all the segments of the public waiting in vain from governments that they provide credible answers to the anguish and pains created by the negative side-effects of globalization and the social destabilization its creates. It has also been endorsed by a number of legitimate NGOs and respectable public personalities.

This trend for an alternative version of globalization is now representing – and will more and more represent – a source of challenge and of debate that business and government will be very much at pains to ignore or dismiss as just a bunch of hardheaded ideologues.

But the slowdown in the globalization process is also characterized by the fact that there does not seem today any more appetite for structural reforms. The entrenched resistance in countries such as Germany or France for urgently needed reforms of the pension system, of the labour market of the social system is not an isolated phenomenon. Everywhere in the world governments have become much more reluctant and cautious in their approach to reforms, whether it is in Brazil or in Korea and Japan or even in China where the latest directives from the new leadership tend to indicate that the wave of lay-offs in the State Owned Enterprises will be significantly slowed or even stopped for the time being.

And then, of course, we have to deal today with the new and unforeseen obstacles to globalization that the volatile geopolitical and security environment is generating. Globalization means openness, it implies the free flow of goods and people. Security concerns are unavoidably today restricting that trend.

It would be an exaggeration to say that the wave of liberalization is being reversed, but it is definitely not evolving at the same pace and in the same way than in the previous decade. As a background to that element, the generally more sceptical perception of globalization creates a much more reluctant environment which is definitely not favourable to the activities of global corporations.

In a way, each economic system needs to establish its legitimacy. Industrial capitalism had to that – especially after the crisis of the 30s – by creating a number of rules and safeguards that were designed to show that the system was operating within specific rules and boundaries and that the benefits of economic activity could be and would be spread beyond a minority. This is now happening with the passage, in the 90s, from industrial to global financial capitalism. Business - which had been used in the 90s to a much more receptive environment as global financial capitalism emerged - has now to prove that it is in favor of the appropriate rules and safeguards that will make the system work in a manageable way and with a broad social consensus.

This is why the corporate scandals of the last two years cannot be taken as just a passing aberration but as a clear indication that a new system needed some key corrections in its modus operandi and philosophy – such as taking into consideration other elements and criteria than the exclusive obsession with share price value. This is also why the enforcement of strict corporate governance rules, the trend towards a greater observance of good corporate citizenship (or corporate social responsibility) behaviour are more than passing fads or PR tricks. In the same way, the burning issue of executives pay and the revolt of shareholders on that issue is another illustration of the urgency to establish the rules and practices which will reinforce the social legitimacy of the global financial capitalism system in which we operate.

There is no underestimating the extent to which the coming period will be a testing and demanding one. The first priority is to make sure that the global economy avoids the deflation trap and in that respect Germany is the key concern. It is only if and when the US succeeds its recovery – and the test period will be the end of this year/ first quarter of 04 – that then Europe may expect to see the first signs of a rebound, if the political leadership in Germany and France can hold on to a minimum set of social and labour market reforms.

In this very volatile and uncertain environment, corporations in each sector and each area are of course confronted to their own specific challenges and there is no magic formula. Of course, for instance, the unrelenting search for greater cost efficiency and higher productivity is part of each corporation’s objectives. But there are definitely three requirements or qualities which are much needed:

Corporations have today to add to their usual risk assessment process the ability to measure the new dimensions of risks. They have to create advance-warning systems where the non-business factors now loom as large as the business or financial ones. They have to develop the ability to respond fast to rapidly evolving situations and to develop their capacity to sustain global operation with a minimum of disruptions in a context where these disruptions will come from much unexpected causes.

Corporations need to develop sensitivity for the local context, to different cultures and mentalities, in order to protect themselves against the more and more diverse manifestations of the “globalization malaise”. Never before the concept of “thinking globally, acting locally” would assume such a crucial importance.

Corporations need to assign a new meaning and give a new emphasis to the notion of trust. This notion is taking a multifaceted dimension as it entails not only the restoration of trust between the corporation and its shareholders, but also with the public at large, the trust between employees and management, the trust in the ability of the system to function in a fair way taking into account the diversity of interests and sensitivities.