<https://www.theguardian.com/business/2019/nov/08/how-big-tech-is-dragging-us-towards-the-next-financial-crash>


‘In every major economic downturn in US history, the ‘villains’ have
been the ‘heroes’ during the preceding boom,” said the late, great
management guru Peter Drucker. I cannot help but wonder if that might be
the case over the next few years, as the United States (and possibly the
world) heads toward its next big slowdown. Downturns historically come
about once every decade, and it has been more than that since the 2008
financial crisis. Back then, banks were the “too-big-to-fail”
institutions responsible for our falling stock portfolios, home prices
and salaries. Technology companies, by contrast, have led the market
upswing over the past decade. But this time around, it is the big tech
firms that could play the spoiler role.

You wouldn’t think it could be so when you look at the biggest and
richest tech firms today. Take Apple. Warren Buffett says he wished he
owned even more Apple stock. (His Berkshire Hathaway has a 5% stake in
the company.) Goldman Sachs is launching a new credit card with the tech
titan, which became the world’s first $1tn market-cap company in 2018.
But hidden within these bullish headlines are a number of disturbing
economic trends, of which Apple is already an exemplar. Study this one
company and you begin to understand how big tech companies – the new
too-big-to-fail institutions – could indeed sow the seeds of the next
crisis.

No matter what the Silicon Valley giants might argue, ultimately, size
is a problem, just as it was for the banks. This is not because bigger
is inherently bad, but because the complexity of these organisations
makes them so difficult to police. Like the big banks, big tech uses its
lobbying muscle to try to avoid regulation. And like the banks, it tries
to sell us on the idea that it deserves to play by different rules.

Consider the financial engineering done by such firms. Like most of the
largest and most profitable multinational companies, Apple has loads of
cash – around $210bn at last count – as well as plenty of debt (close to
$110bn). That is because – like nearly every other large, rich company –
it has parked most of its spare cash in offshore bond portfolios over
the past 10 years. This is part of a Kafkaesque financial shell game
that has played out since the 2008 financial crisis. Back then, interest
rates were lowered and central bankers flooded the economy with easy
money to try to engineer a recovery. But the main beneficiaries were
large companies, which issued lots of cheap debt, and used it to buy
back their own shares and pay out dividends, which bolstered corporate
share prices and investors, but not the real economy. The Trump
corporate tax cuts added fuel to this fire. Apple, for example, was
responsible for about a quarter of the $407bn in buy-backs announced in
the six months or so after Trump’s tax law was passed in December 2017 –
the biggest corporate tax cut in US history.

Because of this, the wealth divide has been increased, which many
economists believe is not only the biggest factor in
slower-than-historic trend growth, but is also driving the political
populism that threatens the market system itself.

That phenomenon has been put on steroids by yet another trend epitomised
by Apple: the rise of intangibles such as intellectual property and
brands (both of which the company has in spades) relative to tangible
goods as a share of the global economy. As Jonathan Haskel and Stian
Westlake show in their book Capitalism Without Capital, this shift
became noticeable around 2000, but really took off after the
introduction of the iPhone in 2007. The digital economy has a tendency
to create superstars, since software and internet services are so
scalable and enjoy network effects (in essence, they allow a handful of
companies to grow quickly and eat everyone else’s lunch). But according
to Haskel and Westlake, it also seems to reduce investment across the
economy as a whole. This is not only because banks are reluctant to lend
to businesses whose intangible assets may simply disappear if they go
belly-up, but also because of the winner-takes-all effect that a handful
of companies, including Apple (and Amazon and Google), enjoy.
Apple CEO Tim Cook and President Donald Trump at the White House in
March 6, 2019
Apple CEO Tim Cook and President Donald Trump at the White House in
March. Photograph: UPI/Barcroft Images

This is likely a key reason for the dearth of startups, declining job
creation, falling demand and other disturbing trends in our bifurcated
economy. Concentration of power of the sort that Apple and Amazon enjoy
is a key reason for record levels of mergers and acquisitions. In
telecoms and media especially, many companies have taken on significant
amounts of debt in order to bulk up and compete in this new environment
of streaming video and digital media.

Some of that debt is now looking shaky, which underscores that the next
big crisis probably won’t emanate from banks, but from the corporate
sector. Rapid growth in debt levels is historically the best predictor
of a crisis. And for the past several years, the corporate bond market
has been on a tear, with companies in advanced economies issuing a
record amount of debt; the market grew 70% over the past decade, to
reach $10.17tn in 2018. Even mediocre companies have benefited from easy
money.

But as the interest rate environment changes, perhaps more quickly than
was anticipated, many could be vulnerable. The Bank for International
Settlements – the international body that monitors the global financial
system – has warned that the long period of low rates has cooked up a
larger than usual number of “zombie” companies, which will not have
enough profits to make their debt payments if interest rates rise. When
rates eventually do rise, warns the BIS, losses and ripple effects may
be more severe than usual.

Of course, if and when the next crisis is upon us, the deflationary
power of technology (meaning the way in which it drives down prices),
exemplified by companies like Apple, could make it more difficult to
manage. That is the final trend worth considering. Technology firms
drive down the prices of lots of things, and tech-related deflation is a
big part of what has kept interest rates so low for so long; it has not
only constrained prices, but wages, too. The fact that interest rates
are so low, in part thanks to that tech-driven deflation, means that
central bankers will have much less room to navigate through any
upcoming crisis. Apple and the other purveyors of intangibles have
benefited more than other companies from this environment of low rates,
cheap debt, and high stock prices over the past 10 years. But their
power has also sowed the seeds of what could be the next big swing in
the markets.

A few years ago, I had a fascinating conversation with an economist at
the US Treasury’s Office of Financial Research, a small but important
body that was created following the 2008 financial crisis to study
market trouble, and which has since seen its funding slashed by Trump. I
was trawling for information about financial risk and where it might be
held, and the economist told me to look at the debt offerings and
corporate bond purchases being made by the largest, richest corporations
in the world, such as Apple or Google, whose market value now dwarfed
that of the biggest banks and investment firms.

In a low interest rate environment, with billions of dollars in yearly
earnings, these high-grade firms were issuing their own cheap debt and
using it to buy up the higher-yielding corporate debt of other firms. In
the search for both higher returns and for something to do with all
their money, they were, in a way, acting like banks, taking large anchor
positions in new corporate debt offerings and essentially underwriting
them the way that JP Morgan or Goldman Sachs might. But, it is worth
noting, since such companies are not regulated like banks, it is
difficult to track exactly what they are buying, how much they are
buying and what the market implications might be. There simply is not a
paper trail the way there is in finance. Still, the idea that cash-rich
tech companies might be the new systemically important institutions was
compelling.

I began digging for more on the topic, and about two years later, in
2018, I came across a stunning Credit Suisse report that both confirmed
and quantified the idea. The economist who wrote it, Zoltan Pozsar,
forensically analysed the $1tn in corporate savings parked in offshore
accounts, mostly by big tech firms. The largest and most
intellectual-property-rich 10% of companies – Apple, Microsoft, Cisco,
Oracle and Alphabet (Google’s parent company) among them – controlled
80% of this hoard.

According to Pozsar’s calculations, most of that money was held not in
cash but in bonds – half of it in corporate bonds. The much-lauded
overseas “cash” pile held by the richest American companies, a treasure
that Republicans under Trump had cited as the key reason they passed
their ill-advised tax “reform” plan, was actually a giant bond
portfolio. And it was owned not by banks or mutual funds, which
typically have such large financial holdings, but by the world’s biggest
technology firms. In addition to being the most profitable and least
regulated industry on the planet, the Silicon Valley giants had also
become systemically crucial within the marketplace, holding assets that
– if sold or downgraded – could topple the markets themselves. Hiding in
plain sight was an amazing new discovery: big tech, not big banks, was
the new too-big-to-fail industry.

As I began to think about the comparison, I found more and more
parallels. Some of them were attitudinal. It was fascinating, for
example, to see how much the technology industry’s response to the 2016
election crisis mirrored the banking industry’s behaviour in the wake of
the financial crisis of 2008. Just as Wall Street had obfuscated as much
as possible about what it was doing before and after the crisis, every
bit of useful information about election meddling had to be clawed away
from the titans of big tech.

First, they insisted that they had done nothing wrong, and that anyone
who thought they had simply did not understand the technology industry.
It was under extreme pressure from both press and regulators that
Facebook’s Mark Zuckerberg finally turned over 3,000 Russia-linked
adverts to Congress. Google and others were only marginally less
evasive. Similar to Wall Street financiers at the time of the US
sub-prime crisis, the tech titans have remained, years after the 2016
election, in a largely reactive posture, parting with as few details as
possible, attempting to keep the asymmetric information advantages of
their business model that, as in the banking industry, help generate
outsized profit margins. It is a “deny and deflect” attitude similar to
what we saw from financiers in 2008, and has resulted in deservedly
terrible PR.

But there are more substantive similarities as well. At a meta level, I
see four major likenesses in big finance and big tech: corporate
mythology, opacity, complexity and size. In terms of mythology, Wall
Street before 2008 sold the idea that what was good for the financial
sector was good for the economy. Until quite recently, big tech tried to
convince us of the same. But there are two sides to the story, and
neither industry is quick to acknowledge or take responsibility for the
downsides of “innovation”.

A raft of research shows us that trust in liberal democracy, government,
media and nongovernmental organisations declines as social media usage
rises. In Myanmar, Facebook has been leveraged to support genocide. In
China, Apple and Google have bowed to government demands for censorship.
In the US, of course, personal data is being collected, monetised and
weaponised in ways that we are only just beginning to understand, and
monopolies are squashing job creation and innovation. At this point, it
is harder and harder to argue that the benefits of platform technology
vastly outweigh the costs.

Big tech and big banks are also similar in the opacity and complexity of
their operations. The algorithmic use of data is like the complex
securitisation done by the world’s too-big-to-fail banks in the
sub-prime era. Both are understood largely by industry experts who can
use information asymmetry to hide risks and the nefarious things that
companies profit from, such as dubious political ads.

Yet that complexity can backfire. Just as many big-bank risk managers
had no idea what was going in to and coming out of the black box before
2008, big tech executives themselves can be thrown off balance by the
ways in which their technology can be misused. Consider, for example,
the New York Times investigation in 2018 that revealed that Facebook had
allowed a number of other big tech companies, including Apple, Amazon
and Microsoft, to tap sensitive user data even as it was promising to
protect privacy.
Facebook’s Mark Zuckerberg at a US House Financial Services Committee
hearing in Washington DC last month.
Facebook’s Mark Zuckerberg at a US House Financial Services Committee
hearing in Washington DC last month. Photograph: Michael Reynolds/EPA

Facebook entered into the data-sharing deals – which are a win-win for
the big tech firms in general, to the extent that they increase traffic
between the various platforms and bring more and more users to them –
between 2010 and 2017 to grow its social network as fast as possible.
But neither Facebook nor the other companies involved could keep track
of all the implications of the arrangements for user privacy. Apple
claimed to not even know it was in such a deal with Facebook, a rather
stunning admission given the way in which Apple has marketed itself as a
protector of user privacy. At Facebook, “some engineers and executives …
considered the privacy reviews an impediment to quick innovation and
growth”, read a telling line in the Times piece. And grow it has:
Facebook took in more than $40bn in revenue in 2017, more than double
the $17.9bn it reported for 2015.

Facebook’s prioritisation of growth over governance is egregious but not
unique. The tendency to look myopically at share price as the one and
only indicator of value is something fostered by Wall Street, but by no
means limited to it. The obliviousness of the tech executives who cut
these deals reminds me of bank executives who had no understanding of
the risks built into their balance sheets until markets started to blow
up during the 2008 financial crisis.

Companies tend to prioritise what can be quantified, such as earnings
per share and the ratio of the stock price to earnings, and ignore
(until it is too late) the harder-to-measure business risks.

It is no accident that most of the wealth in our world is being held by
a smaller and smaller number of rich individuals and corporations who
use financial wizardry such as tax offshoring and buy-backs to ensure
that they keep it out of the hands of national governments. It is what
we have been taught to think of as normal, thanks to the ideological
triumph of the Chicago School of economic thought, which has, for the
past five decades or so, preached, among other things, that the only
purpose of corporations should be to maximise profits.

The notion of “shareholder value” is shorthand for this idea. The
maximisation of shareholder value is part of the larger process of
“financialisation”. It is a process that has risen, in tandem with the
Chicago School of thinking, since the 1980s, and has created a situation
in which markets have become not a conduit for supporting the real
economy, as Adam Smith would have said they should be, but rather, the
tail that wags the dog.

“Consumer welfare,” rather than citizen welfare, is our primary concern.
We assume that rising share prices signify something good for the
economy as a whole, as opposed to merely increasing wealth for those who
own them. In this process, we have moved from being a market economy to
being what Harvard law professor Michael Sandel would call a “market
society”, obsessed with profit maximisation in every aspect of our
lives. Our access to the basics – healthcare, education, justice – is
determined by wealth. Our experiences of ourselves and those around us
are thought of in transactional terms, something that is reflected in
the language of the day (we “maximise” time and “monetise” relationships).

Now, with the rise of the surveillance capitalism practised by big tech,
we ourselves are maximised for profit. Remember that our personal data
is, for these companies and the others that harvest it, the main
business input. As Larry Page himself once said when asked “What is
Google?”: “If we did have a category, it would be personal information …
the places you’ve seen. Communications … Sensors are really cheap …
Storage is cheap. Cameras are cheap. People will generate enormous
amounts of data … Everything you’ve ever heard or seen or experienced
will become searchable. Your whole life will be searchable.”

Think about that. You are the raw material used to make the product that
sells you to advertisers.

Financial markets have facilitated the shift toward this invasive,
short-term, selfish capitalism, which has run in tandem with both
globalisation and technological advancement, creating a loop in which we
are constantly competing with greater numbers of people, in shorter
amounts of time, for more and more consumer goods that may be cheaper
thanks in part to the deflationary effects of both outsourcing and
tech-based disruption, but that cannot compensate for our stagnant
incomes and stressed-out lives.

But you could argue that, in a deeper way, Silicon Valley – not the old
Valley that was full of garage startups and true innovators, but the
financially driven Silicon Valley of today – represents the apex of the
shift toward financialisation. Today the large tech companies are run by
a generation of business leaders who came of age and started their firms
at a time when government was viewed as the enemy, and profit
maximisation was universally seen as the best way to advance the
economy, and indeed society. Regulation or limits on corporate behaviour
have been viewed as tyrannical or even authoritarian. “Self-regulation”
has become the norm. “Consumers” have replaced citizens. All of it is
reflected in the Valley’s “move fast and break things” mentality, which
the tech titans view as a fait accompli. As Eric Schmidt and Jared Cohen
wrote in an afterword to the paperback edition of their book: “Bemoaning
the inevitable increase in the size and reach of the technology sector
distracts us from the real question … Many of the changes that we
discuss are inevitable. They’re coming.”

Perhaps. But the idea that this should preclude any discussion of the
effects of the technology sector on the public at large is simply
arrogant. There is a huge cost to this line of thinking. Consider the
$1tn in wealth that has been parked offshore by the US’s largest, most
IP-rich firms. A trillion is no small sum: that is an 18th of the US’s
annual GDP, much of which was garnered from products and services made
possible by core government-funded research and innovators. Yet US
citizens have not got their fair share of that investment because of tax
offshoring. It is worth noting that while the US corporate tax rate was
recently lowered from 35% to 21%, most big companies have for years paid
only about 20% of their income, thanks to various loopholes. The tech
industry pays even less – roughly 11-15% – for this same reason: data
and IP can be offshored while a factory or grocery store cannot. This
points to yet another neoliberal myth – the idea that if we simply cut
US tax rates, then these “American” companies will bring all their money
home and invest it in job-creating goods and services in the US. But the
nation’s biggest and richest companies have been at the forefront of
globalisation since the 1980s. Despite small decreases in overseas
revenues for the past couple of years, nearly half of all sales from S&P
500 companies come from abroad.

How, then, can such companies be perceived as being “totally committed”
to the US, or, indeed, to any particular country? Their commitment, at
least the way American capitalism is practised today, is to customers
and investors, and when both of them are increasingly global, then it is
hard to argue for any sort of special consideration for American workers
or communities in the boardroom.

Tech firms are more able than any other type of company to move business
abroad, because most of their wealth is not in “fixed assets” but in
data, human capital, patents and software, which are not tied to
physical locations (such as factories or retail stores) but can move
anywhere. And as we have already learned, while those things do
represent wealth, they do not create broad-based demand growth in the
economy like the investments of a previous era.

“If Apple acquires a licence to a technology for a phone it manufactures
in China, it does not create employment in the US, beyond the creator of
the licensed technology if they are in the US,” says Daniel Alpert, a
financier and a professor at Cornell University studying the effects of
this shift in investment. “Apps, Netflix and Amazon movies don’t create
jobs the way a new plant would.” Or, as my Financial Times colleague
Martin Wolf has put it, “[Apple] is now an investment fund attached to
an innovation machine and so a black hole for aggregate demand. The idea
that a lower corporate tax rate would raise investment in such
businesses is ludicrous.” In short, cash-rich corporations – especially
tech firms – have become the financial engineers of our day.

There are the ways in which big tech is driving the mega-trends in
global markets, as we have just explored. Then, there are the ways tech
companies are playing in those markets that grant them an unfair
advantage over consumers. For example, Google, Facebook and,
increasingly, Amazon now own the digital advertising market, and can set
whatever terms they like for customers. The opacity of their algorithms
coupled with their dominance of their respective markets makes it
impossible for customers to have an even playing field. This can lead to
exploitative pricing and/or behaviours that put our privacy at risk.
Consider also the way Uber uses “surge pricing” to set rates based on
customers’ willingness to pay. Or the “shadow profiles” that Facebook
compiles on users. Or the way in which Google and Mastercard teamed up
to track whether online ads led to physical store sales, without letting
Mastercard holders know they were being tracked.
An Amazon warehouse in Illinois.
An Amazon warehouse in Illinois. Photograph: Tannen Maury/EPA

Or the way Amazon secured an unusual procurement deal with local
governments in the US. It was, as of 2018, allowed to purchase all the
office and classroom supplies for 1,500 public agencies, including local
governments and schools, around the country, without guaranteeing them
fixed prices for the goods. The purchasing would be done through
“dynamic pricing” – essentially another form of surge pricing, whereby
the prices reflect whatever the market will withstand – with the final
charges depending on bids put forward by suppliers on Amazon’s platform.
It was a stunning corporate jiu-jitsu, given that the whole point of a
bulk-purchasing contract is to guarantee the public sector competitive
prices by bundling together demand. For all the hype about Amazon’s
discounts, a study conducted by the nonprofit Institute for Local
Self-Reliance concluded that one California school district would have
paid 10-12% more if it had bought from Amazon. And cities that wanted to
keep on using existing suppliers that did not do business on the retail
giant’s platform would be forced to move that business (and those
suppliers) to Amazon because of the way that deal was structured.

It is hard to ignore the parallels in Amazon’s behaviour to the lending
practices of some financial groups before the 2008 crash. They, too,
used dynamic pricing, in the form of variable rate sub-prime mortgage
loans, and they, too, exploited huge information asymmetries in their
sale of mortgage-backed securities and complex debt deals to unwary
investors, not only to individuals, but also to cities such as Detroit.
Amazon, for its part, has vastly more market data than the suppliers and
public sector purchasers it plans to link.

As in any transaction, the party that knows the most can make the
smartest deal. The bottom line is that both big-platform tech players
and large financial institutions sit in the centre of an hourglass of
information and commerce, taking a cut of whatever passes through. They
are the house, and the house always wins.

As with the banks, systemic regulation may well be the only way to
prevent big tech companies from unfairly capitalising on those advantages.

There are questions of whether Amazon or Facebook could leverage their
existing positions in e-commerce or social media to unfair advantage in
finance, using what they already know about our shopping and buying
patterns to push us into buying the products they want us to in ways
that are either a) anticompetitive, or b) predatory. There are also
questions about whether they might cut and run at the first sign of
market trouble, destabilising the credit markets in the process.

“Big-tech lending does not involve human intervention of a long-term
relationship with the client,” said Agustín Carstens, the general
manager of the Bank for International Settlements. “These loans are
strictly transactional, typically short-term credit lines that can be
automatically cut if a firm’s condition deteriorates. This means that,
in a downturn, there could be a large drop in credit to [small and
middle-sized companies] and large social costs.” If you think that
sounds a lot like the situation that we were in back in 2008, you would
be right.
Why Silicon Valley can’t fix itself
Read more

Treating the industry like any other would undoubtedly require a
significant shift in the big-tech business model, one with potential
profit and share price implications. The extraordinary valuations of the
big tech firms are due in part to the market’s expectations that they
will remain lightly regulated, lightly taxed monopoly powers. But that
is not guaranteed to be the case in the future. Antitrust and monopoly
issues are fast gaining attention in Washington, where the titans of big
tech may soon have a reckoning.
_______________________________________________
nexa mailing list
nexa@server-nexa.polito.it
https://server-nexa.polito.it/cgi-bin/mailman/listinfo/nexa