You may think of goodwill in business as an optical illusion that nevertheless is supposed to reflect the worth of an enterprise. This value may not be apparent to the naked eye, but would be to those who dig deep into the transactions of the enterprise.
This is why an enterprise that
might not have much in terms of equipment or patents or workforce, would be
bought by investors or another business at a higher price than meets the eye.
The difference between the assessed value and the purchase price would be the
goodwill that the buyers have attributed to the business. This could be the
good management of the enterprise or the fact that it is making and selling
products that will soon be in high demand or some other factor.
But goodwill can also play a
trick on investors, and that's when it would be nothing more than an optical
illusion, and a destructive one at that. It happens especially to those who
trade on the stock exchange without doing enough due diligence on the stocks
they buy. They might pay a price that reflects a high goodwill value such as
the stock used to have, but things have changed, and the reversal is not
apparent to the naked eye. Eventually someone discovers that the stock is trading
in a bubble of goodwill that's no longer there, yet persists as an optical
illusion. He pricks the bubble, and the stock comes down to its true worth.
You'll find that the factors
at play in that sort of scenario also exist when it comes to assessing the
value of a currency. An important factor in this case would be the goodwill
that investors feel for the issuer of the currency. This would be the country
that owns the currency. Aside from the politics that can play a role in
determining how investors view the country itself, another factor affecting the
investors' determination is the demand-supply equation for the currency; a
factor that can be influenced by the country’s central bank.
In fact, the balance of
payment (which is defined by how much a country buys from the rest of the
world, and how much it sells to it, and by the level of other foreign inflows
and outflows) plays a role in determining what investors will think of a
country. In addition, there are “virtual” factors such as the assessment of the
rating agencies, the relationship that the country has with the international
institutions such as the IMF, the World Bank and the big investment houses ––
which are taken into consideration when setting the value of a currency. You
can already see that this method allows for goodwill to play a big role in
determining the value of a currency.
And there is yet another
factor that remains totally unseen but exerts some influence. That is, in the
same way that the growth of an economy depends not only on the money supply but
also the velocity of the money, the external trading activity of a nation helps
to give the impression that the country is doing well even if it consistently
runs a deficit.
But what does all that mean at
the end of the day? It means that to determine the size of a country's wealth
as well as its economic performance, based on the exchange rate that exists
between its currency and the reserve currency, which is the American dollar ––
is to commit a big mistake. It's because this method depends a great deal on a
goodwill that may be real, but can also be an optical illusion.
Why is this important for us
to know? It is important because there is an ongoing debate concerning
something called “convergence,” as can be seen in the article that came under
the title: “Are Intellectuals Killing Convergence?” It was written by Arvind
Subramanian and Josh Felman, and was published on September 23, 2020 in Project
Syndicate.
The point that Subramanian and
Felman are making is that the higher the rate of globalization, the greater the
chances given to the emerging economies to increase their import and export
activities. This allows their economies to grow faster and catch up (converge)
with the advanced economies. Well, I respectfully beg to differ, and say that
what has been so described is an optical illusion.
My view is that the emerging
economies need to trade with the advanced economies at a pace that allows them
to buy and pay for the production machines and the knowledge they need to
advance at the rate that is convenient for each of them. Going faster than that
will trigger the law of diminishing return. This is when the wealthy in both
the developing and developed countries get wealthier while the rest of the
populations remain stagnant or get poorer. On paper, it looks like the
countries are getting wealthier but in reality, what's on paper is an optical
illusion that makes the bubble look like the real thing.
I lived in Egypt during the
late 1950s and early 1960s when the colonial powers had instituted a system of
sanctions on the country, and external trade came to a virtual halt. That's
when I saw firsthand the validity of the saying: Necessity is the mother of
invention. It is that people I knew well, who would never have started a
business, did so because the opportunity was there and the country needed the
parts that could no longer be imported.
My father partnered with a
friend, and they started making parts for farm machinery and implements. One of
my uncles started making spark plugs for cars. Another uncle started making the
drums on which mount the wheels of cars and trucks. And a friend of the family
started making parts for optical equipment. This kind of spirit was triggered
throughout the country, and has left a legacy that is having a positive
influence on the country’s economy today.
It is why I remained
optimistic that Egypt will pull through when things apparently went bad after
the two revolutions that made the haters in Washington celebrate, and those in
New York dance in the street.
And this is why I pity the ignorant dudes who believe they are causing Iran and North Korea permanent damage by imposing murderous sanctions on them. These people have no idea how much they are motivating the patriots in those countries to become “the shining city upon a hill” that America dreamed of becoming but never achieved it. Ronald Reagan must be spinning in his grave.