Market Advisory Features

Dollar's Drop May Spoil Street's Mood
World Economy: Co-operation or Confrontation?

Currency Fluctuations:
Bouncing around
Making Peace with the UN

Corporate Ethics
: Big Oil's Dirty Secrets

THE IT INDUSTRY: Paradise Lost
Bush Goes Global
Stocks are Still the Best Bet

: Cents and Sensibility

George Bush and the Social Conservatives

Terrorism Strikes Home

The Philippines
: No Peace, No Peace Talks
Iraq: Back to Work


Bush goes global

May 28th 2003
From The Economist Global Agenda

President George Bush is to chair a summit on the Middle East peace process next week, immediately after the Evian summit of the G8 countries. Does this mark a fundamental shift in American foreign policy?

IS THIS the man who was not interested in nation–building? The presidential candidate who had hardly travelled outside America? The president who alienated many governments by his decision to reject the Kyoto treaty on global warming, the International Criminal Court and one of the key arms-control treaties with Russia? President George Bush’s decision to chair a summit meeting between the Israeli and Palestinian prime ministers in Jordan next week marks another crucial shift in his approach to foreign policymaking. Mr Bush has long resisted the temptation to become directly involved in the Middle East peace process—he wanted to avoid getting bogged down in ultimately fruitless detailed negotiations, as some of his predecessors had. Events, though, have forced his hand. On May 28th, the White House announced that Mr Bush would tour the Middle East next week, with the Israeli-Palestinian summit as the centrepiece of his trip.

Most pundits point to the terrorist attacks of September 2001 as the turning point for Mr Bush. The war on terror, which his administration launched in response to the destruction of the World Trade Centre in New York, made greater international engagement inevitable. Overthrowing the Taliban regime in Afghanistan was the first move in this new war. The military action was belated recognition that one of the world’s poorest countries, once a strategic pawn in the cold war between America and the Soviet Union, had provided safe haven for the al-Qaeda terrorist network.

The swift success of the Afghan military campaign gave Mr Bush and his advisers new confidence. Soon, the president was talking about the “axis of evil”—countries that posed a threat to global security because of their possession of weapons of mass destruction and their support for terrorism. By the time Mr Bush first used this phrase, in his state of the union address in January 2002, it was clear that he had the Iraqi leader, Saddam Hussein, firmly in his sights. Critics have argued that America was determined to go after Saddam, whatever other countries might say, and whatever the merits of the case. The recent bombings in Saudi Arabia and Morocco have been cited as evidence that the war in Iraq distracted the Bush administration from the war on terror.

One of the administration’s aims in taking on Saddam was to send a message to other rogue states that America had the capacity to conduct operations in several parts of the world simultaneously. Fighting terrorism is a complicated business that relies heavily on good intelligence. It is much more difficult for states to prevent attacks than it is for terrorists to launch them, no matter how much effort is put into it—as Israel’s experience with suicide bombers illustrates.

Some critics have argued that invading Iraq while tackling the problem of North Korea through diplomatic means shows that America is more bothered about some rogue states than others. But there are some clear differences between the regimes of Saddam and Kim Jong-il: North Korea has admitted that it possesses nuclear weapons; and its geographic location, close to South Korea, China and Japan, would make a pre-emptive strike there far more difficult and dangerous.

Yet Mr Bush has, until recently, continued to resist the long-term engagement of American troops and manpower in reconstruction, or nation-building. This is proving difficult: Afghanistan remains unstable, especially outside the capital, Kabul. The problems in Iraq since the war ended show that much effort—and time—will be needed to provide what America promised: something resembling democratic government in a country ruled by a dictator for decades.

Above all, Mr Bush has tried hard to avoid playing a personal role in the Middle East peace process. He recognised that becoming too closely involved in fiddly negotiations can prove enormously time-consuming and, all too often, ultimately lead nowhere. He need look no further than the experience of his predecessor for confirmation of this—Bill Clinton could not, in the end, broker a deal between the then leaders of Israel and the Palestinians in 2000.

Mr Bush has realised, though, that peace between the Israelis and Palestinians could help underpin America’s attempts to bring greater stability to the region. America’s global power is such that it cannot easily avoid becoming engaged in such important geopolitical issues, however reluctant it might be.

Cynics might also note that the president faces re-election next year. He currently looks to be in a strong position, but mainly because there is, as yet, no clear contender for the Democratic nomination. Opinion polls suggest the president is doing less well on the domestic front, particularly in economic policy. America’s recovery continues to be fragile—and Mr Bush knows that he could be vulnerable on this, just as his father was in 1992. Unlike George Bush senior, the current president has gone on the offensive, pushing through two economic stimulus packages in the past 18 months. But he had a hard time getting even a watered-down version of his tax cut through Congress, in spite of the fact that both houses are controlled by his Republican party. If the economy continues to splutter into next year, Mr Bush could find himself with a tough re-election fight on his hands.

Exploiting his reputation as a tough war leader is therefore likely to remain attractive to Mr Bush and his campaign advisers. Even before the war in Iraq was over, the administration was warning Syria about its support for Saddam; this week, Donald Rumsfeld, the outspoken defence secretary, was openly critical of the regime in Iran.

When things are tough at home, political leaders often find reasons to become more engaged in foreign policy. Before the Middle East summit, Mr Bush will be in the French town of Evian for the G8 summit—likely to be a difficult occasion because of recent strains in the transatlantic alliance. At the meeting, he will be pushing America’s allies on trade and aid issues—both areas where Mr Bush has sometimes unexpectedly taken the initiative.

Yet for a president more keenly aware of America’s foreign policy interests than he appeared to be when taking office, there remains a gap in Mr Bush’s efforts. When he came to power, relations with Latin America were a priority—one of Mr Bush's few specific foreign policy aims was a Free Trade Agreement of the Americas. As so often in the past, the Middle East has come to seem more important.



Stocks are still the best bet

James Glassman
Monday May 26, 2003
The Guardian

After languishing for most of the preceding decade, the Dow Jones industrial average, the prime index of the US stock market, fell to 770 on August 9,

1982. Ten years later, it had risen to 3,200 and by 1996 to 6,400, prompting the Federal Reserve chairman, Alan Greenspan, to warn of "irrational exuberance." But stocks kept rising.

With my colleague, the economist Kevin Hassett, I spent much time trying to understand why. The initial result was an article in the Wall Street Journal, published on March 30 1998, when the Dow was at 8,796. It carried the headline, Are Stocks Overvalued? Not a Chance. And indeed, over the next 18 months, by the time we published a best-selling book on the subject, the Dow had risen another 2,000 points.

In the book Dow 36,000, we argued that booming stock prices were rational and that the index's full and fair value, as reflected in the title, would be reached in a reasonable time, after which prices would level off.

Today, as I am continually reminded, the Dow is no higher than it was five years ago. Did I make a terrible mistake? Not at all. The theory behind Dow 36,000 is still valid, and I am just as bullish. Stocks have been hurt by outside, one-off, non-structural, transitory factors. They will resume their climb; there is evidence they already have. Since mid-March, the Dow has risen 13%, and European markets - which, like it or not, are closely linked to US markets - rose more in April than in any month in 15 years.

The Dow 36,000 theory looked in to the detailed history of US stocks and bonds. History is the best tool we have to make predictions, and in this case, the evidence is powerful. Since 1802, stocks have returned an annual average of about 7% after inflation while US treasury bonds have returned about 3%. That would seem to make sense. A higher return rewards higher risk.

But research gathered by Jeremy Siegel of the University of Pennsylvania in 1995 found that while stocks are far more risky than bonds in the short term, they are less risky in the long term.

In their worst 20-year period ever, stocks gained a total of about 20% after inflation while treasury bonds in their worst 20 years lost 50%.

Treasury bonds, like British gilts, carry essentially no credit risk. But they are exposed to the ravages of inflation and rising interest rates. Buy a bond with a coupon of 4% in an era when inflation rises to 5% and rates on newly issued bonds increase to 7%, and you have a huge loss. Stocks respond more favorably to inflation since businesses can raise prices.

Yet stocks carried a high equity risk premium: investors demanded a higher return to compensate for the extra risk in stocks. But there really was no extra risk in the long term. Kevin and I wrote that over time the equity risk premium, which had been as high as seven percentage points, would go all the way to zero, or close to it. That is, stock prices would rise and their returns - in terms of earnings, cashflow and dividends - would fall. Equilibrium would be achieved and choosing between stocks and bonds - between owning and lending - would become much more difficult. At the moment, it isn't. Stocks, even though they fluctuate wildly in the short term, are cheap.

Starting in the early 1980s, investors began losing some of their risk aversion - partly because the world was becoming more stable as wealth spread and the cold war came to a close - but mostly because of the democratisation of finance and better education about stocks and bonds. For a small fee, mutual funds were offering widely diversified, professionally managed - or even better, indexed - portfolios to middle-income Americans, who won tax advantages.

Clearly, risk aversion has increased since September 11, 2001. And there were other factors, including something we warned about in the book: "A mere cyclical downturn in the economy, after nearly two decades in growth, could shock investors who have become used to good times. They could overreact to only slightly higher real risks by demanding much higher risk premiums - sending the prices of stocks down sharply."

That has happened. But it won't last. Our book was based on two assumptions - that the US economy would continue to grow at an average of 3% annually and that investors would stay in stocks. I think those two assumptions are modest, and that Dow 36,000 will become a reality. And this time, I'll give a date: May 25, 2013. Mark it down.

· James K Glassman is a columnist for the Washington Post and International Herald Tribune and a fellow at the American Enterprise Institute in Washington



Dollar's Drop May Spoil Street's Mood
Sunday May 25, 3:00 pm ET
By Pierre Belec


(Pierre Belec is a free-lance journalist. Any opinions expressed are those of Mr. Belec.)

NEW YORK (Reuters) - Just when you thought it was safe to get back into stocks, Washington finds a new weapon of mass destruction -- a bunker-busting policy change for the dollar.

Much of Wall Street's outlook hangs on the dollar's prospects. Proof: Stocks suffered their biggest loss in almost two months on Monday after Treasury Secretary John Snow suggested over the weekend the United States had abandoned its eight-year policy of using rhetoric to support the dollar.

Stakes are high. A free-falling dollar could trigger an exodus of foreigners from American markets. The Street may no longer be the investment "hot spot" if foreign money shifts to regions with stronger currencies and better returns.

At an economic meeting in France, Snow described the dollar's slump of nearly 20 percent against the euro since the year began as "fairly modest" and indicated the dollar had more room to fall. Washington no longer gauged the dollar's strength by its market value against other major currencies, he said, implying financial markets should set exchange rates.

This week, the dollar sank to a four-year low against the euro -- the 12-country currency. The euro, after collapsing to a record low of 82 cents in late 2000, now is above its January 1999 high of $1.18 when it was introduced.

The betting is the euro will rise to $1.20 or more because Snow has given a green light for the dollar to head south.

On Monday, the dollar hit 115.10 yen, a two-year low.

Behind the scenes, inflation lurks. For nearly a decade, the strong dollar has curbed the price of imported goods. Americans will now be importing inflation as prices rise for German cars and South Korean high-tech toys. As inflation rises, so will interest rates, now at 41-year lows.

"The immediate negative of a depreciating currency is it could come with higher interest rates and lower stock prices as foreign investors bail out on positions, while the longer- term concern is it will boost inflation," says Rick MacDonald, senior economist for MMS International.


The big question is: How much more of a drop would Snow tolerate? Just as troubling: How much more risk will foreign investors accept before dumping stocks they already own?

There's speculation of a repeat of the dollar's meltdown between 1985 and 1987, when it lost up to half its value against leading currencies.

By some estimates, offshore investors own 45 percent of U.S. government bonds, 35 percent of corporate bonds and 12 percent of stocks.

The Street, hoping for a stock market rebound, has another worry. The market will be unsettled by the possibility it may not have turned the corner because of an eroding dollar.

Foreigners have plenty to be skittish about the health of the world's biggest economy. Many are already parking their money in less risky places outside the United States.

Gold is among the few dollar-denominated assets still luring investors, a no confidence vote in the nation's future.

The loss of offshore money could slam the economy, which needs more than $2 billion a day in foreign funds to finance the nation's massive current account deficit of almost $600 billion. The United States has run up a huge current account deficit because it consumes more than it produces.


The risk is President Bush's cheap dollar policy could bite the $10 trillion U.S. economy.

"Bush wants to get re-elected so a lower dollar will help our exporters while the prices of imports will rise to Americans," says James Dines, editor of the Dines Letter. "Around one-quarter of U.S. companies' earnings come from foreign nations, so stimulating exports would presumably help President Bush get re-elected."

Worries about the dollar may become a way of life for investors. Some may not embrace Washington's newfound policy and its impact on the global economy.

The International Monetary Fund warned: If the dollar's drop was steep enough, foreign balance sheets could come under significant pressure, aggravating the threat of deflation in Europe. The fallout could rebound in the United States.

Sure, folks will take comfort in a weaker dollar's benefits for U.S. exporters, hurt by the currency's strength in the last two years. Over 2 million jobs have been lost since 2001.

But weakness of the world's most important currency will burden the rest of the globe. Worth asking: Can U.S. exporters find buyers overseas when job losses curb consumer spending?

As offshore companies' earnings get squeezed, they will cut spending on U.S. goods.

The eurozone's economy teetered on the brink of recession in the first quarter. Gross domestic product fell by 0.2 percent in Germany, 0.3 percent in the Netherlands and 0.1 percent in Italy. The fast-falling dollar dealt the coup de grace to Europe's hopes for a recovery any time soon.

Faced with the highest jobless rate in three years and weak exports, the European Union (News - Websites) cut its growth estimates to between zero and 0.4 percent in the next two quarters.

A stable dollar is crucial to global economic growth.

The shrinking dollar will make it harder for other countries to lick their growth problems.

Maybe the average investor should tape a greenback to his wall so he can remember what it looked like before it shrank.

For the week, the tech-laced Nasdaq composite lost 1.85 percent to end at 1,510.09, while the broad Standard & Poor's 500 fell 1.17 percent to finish at 933.22, based on the latest data. With those drops, the Nasdaq and the S&P 500 broke their five-week string of gains. The blue-chip Dow Jones industrial average closed Friday at 8,601.38, down 0.89 percent for the week. This snapped the Dow's three-week winning streak.

(Pierre Belec is a free-lance journalist. Any opinions expressed are those of Mr. Belec.)




Cents and sensibility

May 15th 2003
From The Economist print edition

Lessons for fund managers from “Pride and Prejudice”

IT IS a truth universally acknowledged that investors can no longer expect rapid capital accumulation from stocks. Since interest rates are low and likely to stay that way, the conundrum is how to ensure a steady income from investments. Mrs Bennet was well acquainted with the problem.

Mrs Bennet, for those unfamiliar with Jane Austen, is the irritating but canny matriarch in “Pride and Prejudice”, and has been used in a recent jolly paper* by Guy Monson, a fund manager at Sarasin, a fund-management group, to illustrate the similarities in the investment climate between the early 19th century and the beginning of the 21st. Mrs Bennet was in search of suitable husbands for her daughters. They had to have money as well as class. Interestingly, Mrs Bennet considered income more important than capital. “Mr Darcy soon drew attention of the room by his fine, tall person, handsome features, noble mien; and the report which was in circulation within five minutes of his entrance, of his having ten thousand a year.” Government-bond yields, it is worth noting, were about the same as they are now.

Mrs Bennet, suggests Mr Monson, should have been a fund manager. Her focus on prospective son-in-laws' income anticipated the collapse in interest rates that continued for many years. They collapsed for a reason that looms once more: deflation. The price of bread in London in 1812 was 17 (old) pence per 4lb; by 1834 it was 8 pence. The price of coal delivered to Westminster School fell from 71 shillings per London chaldron (about 1.5 tonnes) in 1813, to 46 shillings in 1830.

Technological revolution and freer trade contributed to deflationary pressures then as now. Trade was growing rapidly at the time, as it had been in recent years. Technological change—inventions such as the Spinning Jenny increased productivity—and improved transportation—Britain's first railway, between Manchester and Liverpool, was opened in 1825—have modern parallels in the development of computer and internet technologies and the growth of air travel over the past ten years.

Thus, suggests Mr Monson, investors should concentrate on higher-yielding corporate bonds and equities with a high, progressive and reliable dividend policy. Mrs Bennet would no doubt have approved.



George Bush and the social conservatives

A troubled marriage
May 15th 2003 | WASHINGTON, DC
From The Economist print edition

A conservative president has more problems with one section of his party's right-wing than you might think

GEORGE BUSH's relationship with his business supporters could hardly be more straightforward. Business people give him huge piles of money. In return he cuts their taxes and shreds red tape. But there is nothing straightforward about his dealings with another big part of the Republican Party: its social conservatives.

Mr Bush's relationship with these voters is like a troubled marriage: tantrums and tearful apologies, long sulks and periodic fireworks, trial separations and loving affirmations that they can't live without each other. Think of Richard Burton's relationship with Elizabeth Taylor (without the jewellery) and you get the idea.

Social conservatives have two defining issues: “life” (which has to be protected from abortion) and “marriage” (from homosexuals). They are now terrified that the Republican establishment is preparing to sell them down the river on marriage, all because of Mr Bush's need to lure in moderate voters. Earlier this month, leading social conservatives met the party's chairman, Mark Racicot, to make their unhappiness clear. They extracted a promise from him to meet with a group of “reformed” ex-gays.

The current furore was provoked by Rick Santorum, the third-ranking Republican in the Senate. Last month he linked gay sex to bigamy, polygamy, incest and adultery, asserted that sodomy was “antithetical” to a healthy family and declared: “I have no problem with homosexuality. I have a problem with homosexual acts.”

Mr Santorum got a predictable roasting in what conservatives call the liberal media. In fact his remarks merely reflect Republican orthodoxy: the party platform, for example, goes out of its way to define marriage in a way that rules out gay unions. Yet Mr Bush's people hardly rushed to defend their senator. Phyllis Schlafly, who brought down the Equal Rights Amendment in the 1970s, describes the establishment's defence as “limp”. Paul Weyrich, head of the Free Congress Foundation, characterises it as “tepid”.

For social conservatives this is just the latest in a long series of attempts by Mr Bush's advisers to make his party more “gay-friendly”. At the 2000 convention there was a minor purge of anti-homosexual rhetoric; there will be another in 2004. Mr Bush has appointed several openly gay people to his administration, including an ambassador and two successive heads of the Office of National AIDS Policy. Social conservatives are particularly angry about a secret meeting in March between Mr Racicot and Human Rights Campaign, a gay lobbying group.

Gary Bauer, a one-time presidential candidate, thunders that the “grass-roots will not stand for continued ambivalence on these moral issues.” His successor as head of the Family Research Council, Kenneth Connor, says “a house divided against itself cannot stand.” The Rev Don Wildmon, who owns nearly 200 radio stations, declares that, if the Republicans continue to beam at gays, “we will walk”.

Gay marriage is not the only “betrayal”. Mr Bush has been far more willing to spend his political capital on tax cuts than on faith-based initiatives (which have been allowed to wither on the vine). Many fundamentalists dislike his insistence that Islam is a peaceful religion. Some are even angry that John Ashcroft, their main man in the cabinet, has taken such a draconian line on civil liberties: they worry that a future attorney-general may be able to spy on conservative religious organisations.

Does all this noise matter? Some of the smartest observers of the political scene doubt it. Norm Ornstein, of the American Enterprise Institute, calls it a “toothless bark”. Would social conservatives really be willing to hand the White House over to the pro-abortion, pro-gay Democrats?

Besides, most social conservatives still like Mr Bush. He enjoys approval ratings of more than 95% among Republicans; he also enjoys something that his father never had: trust. Mr Weyrich, the man who invented the “moral majority”, thinks that Mr Bush's record on social issues is even better than the sainted Ronald Reagan's. This trust is there largely because Mr Bush has fought harder on the other big social issue, abortion.

One of Mr Bush's first acts as president was to cut off money for organisations providing abortions overseas. He has supported several measures to restrict abortion rights, ban partial-birth abortion and define human fetuses as children (with attendant government-provided health benefits). He has imposed restrictions on stem-cell research and he used religious language in calling for a ban on cloning (“Life is a creation, not a commodity”). And he has bullied the Department of Health and Human Services into promoting sexual abstinence and marriage.

Mr Bush has done other righteous things. His judicial nominations have included several evangelical Christians, such as Charles Pickering and Claude Allen, a leading advocate of abstinence-education. He has done all he can to accommodate conservative worries about his $15 billion initiative to fight AIDS in the developing world. A third of the money will be spent on abstinence-education. Religious groups that participate in the scheme will not have to promote anything they see as morally objectionable.

The threat of staying at home

Yet there are still three good reasons to think that the barking from the right may not be entirely toothless. To begin with, social conservatives are not as pragmatic as the deal-doing business conservatives are. They are absolutists, who are willing to go to the stake for certain issues.

Second, social conservatives are now buried deeper inside the Republican establishment than ever before. In the 1990s conservative Christians tended to work through outside organisations such as the Christian Coalition. More recently they have worked from within, taking the battle to precinct meetings and the like. According to a study in Campaigns and Elections, a Washington magazine, Christian conservatives now exercise either “strong” or “moderate” influence in 44 Republican state committees, compared with 31 committees in 1994, the last time the survey was conducted. They are weak in only six states, all in the north-east. Ralph Reed, the Christian Coalition leader until 1997, now runs the Georgia Republican Party.

Anyone who doubts the clout of these Christian conservatives within the party should study the fate of last year's bankruptcy-reform legislation, which the business wing of the party wanted. Social conservatives destroyed the bill because it included a provision designed to crack down on anti-abortion protesters.

A third reason for Mr Bush to worry about social conservatives is that they do have an alternative to voting Republican: they can stay at home. Karl Rove points out that some 4m Christian conservatives who voted in 1994 failed to vote in 2000. The return of many of these voters to the fold in 2002 helped the Republicans pick up vital Senate seats in Georgia and Missouri. If they feel let down in 2004, it could hand a close election to the Democrats.

It will not get any easier. The White House's strategy for the next year is to focus on conservative causes that have overwhelming public support—such as opposition to cloning and late-term abortion. But it will also have to deal with several issues that could drive a wedge between conservative activists and swing voters.

The most important decision will involve the Supreme Court. At least one Supreme Court justice may retire in the next year or so. Conservatives see the selection of a new justice as an issue on which they are prepared to break with the president. “We will not put up with another [David] Souter,” says Ms Schlafly, referring to a judge appointed by George Bush senior who has since voted in a liberal manner. On the other hand, moderate suburban women would be horrified by the idea of another conservative in the court, particularly an anti-abortion one.

Sexual politics will also crop up in two other decisions. The Massachusetts Supreme Court will decide (in the Goodridge case) whether to legalise same-sex marriage. The federal Supreme Court will decide (in the Lawrence case) whether to overturn a Texas law that criminalises sodomy between same-sex couples. Social conservatives and moderates will want to know Mr Bush's opinion.

Mr Bush is better placed than anybody else in his party to manage the religious right. But some spouses are not amenable to even the most enlightened management. The Republican Party currently looks like an extraordinary electoral machine. But it would be foolish to forget that the party is an amalgam of lots of different groups—and that one of the most important of these groups, the social conservatives, has a mind and a will of its own.



Making peace with the UN
May 21st 2003
From The Economist Global Agenda

The United Nations’ Security Council appears set to approve an American resolution lifting sanctions against Iraq. But the squabbles are far from over

IT WILL be an uneasy relationship, but the United Nations’ Security Council finally appears set to agree on a new resolution that would end sanctions against Iraq and allow the UN to participate in rebuilding the country. After several rewrites, the American-sponsored draft could be put to a vote by the 15-member council on Thursday May 22nd. While many diplomats hope this could be the start of a healing process among nations that were bitterly divided over the war, plenty of thorny issues remain.

The new resolution would bring an end to sanctions imposed on Iraq after it invaded Kuwait in 1990. These were later amended into an oil-for-food programme monitored by the UN. America now intends to use Iraq’s oil revenues to put the country back on its feet before handing power over to an elected government that would be representative of all the Iraqi people. Yet the plan faces numerous obstacles, not only from opposing factions within Iraq but also from those countries that remain concerned about America’s removal of Saddam Hussein’s regime by force.

France and Russia, the two leading anti-war countries, have raised a number of questions during the drafting of the resolution. France has been unhappy at the lack of any deadline from America for installing a new Iraqi government. Paul Bremer, the civilian administrator sent by America to run Iraq, said on Wednesday that a national conference of prominent Iraqis to elect an interim administration might not take place until mid-July.

Russia has wanted a greater role for the UN in the post-war administration of the country and for the UN’s weapons inspectors to return in order to certify that Iraq has no weapons of mass destruction. Russian officials are also concerned about the fate of some large oil contracts that were secured under the existing oil-for-food programme.

Various compromises are likely. Donald Rumsfeld, America’s defence secretary, has even suggested it might be a good idea for the weapons inspectors to return to Baghdad, if only to help the coalition forces secure Iraq’s nuclear facilities. Looting has raised concern that nuclear material could end up in the hands of terrorists. At the Tuwaitha nuclear complex, Iraq’s largest, the contents of some barrels of radioactive material are unaccounted for.

Mohamed ElBaradei, the chief UN nuclear inspector, has issued a renewed plea for his teams to be allowed to return and assess the situation. “We have a moral responsibility to establish the facts without delay and take urgent remedial action,” he said. The inspectors might also help in the (so far) largely unsuccessful hunt for evidence of Saddam’s illegal weapons programmes. American officials now believe that two trailers found in Iraq were mobile facilities for the production of germs for biological weapons. But no evidence has been found they were actually put to use.

Britain’s ambassador to the UN, Sir Jeremy Greenstock, has said he is hopeful that the new resolution will be well supported on the Security Council. While none of the five permanent members (America, Britain, China, France and Russia) is expected to wield its veto, many diplomats wonder if France will abstain. Munir Akram, Pakistan’s UN ambassador and the current president of the council, believes that the resolution will, in the end, be passed.

America has indicated that it would be prepared to allow the council to review implementation of the resolution after one year. The latest draft also concedes greater powers to a UN envoy to Iraq, rather than the merely advisory role that America initially proposed. But whatever the final resolution says, America and Britain intend to remain firmly in control of the country, and its vast reserves of oil.



World Economy

Co-operation or confrontation?

May 20th 2003
From The Economist Global Agenda

Finance ministers from the world’s biggest economies have promised to co-operate and help contribute to global growth. Fine words—but is it empty rhetoric?

FOREIGN-EXCHANGE dealers could hardly contain themselves. As soon as trading began on May 19th, they started offloading dollars, pushing the American currency down fast. As the rush eased, the dollar had steadied a little by May 20th. But the greenback has lost over 4% of its value against the euro this month, and something like 20% in the past year. The latest selling followed remarks by America’s treasury secretary, John Snow, after the weekend meeting of finance ministers from the big industrial economies. Mr Snow described the dollar’s recent movements as a “modest realignment”, and in spite of the insistence of his officials that there is no change in America’s strong-dollar policy, few observers now believe that. The common perception is that the Bush administration would now be content to see the dollar weaken.

For those who have long predicted the dollar’s collapse, the recent currency-market volatility must seem like vindication. America’s current-account deficit is now more than 5% of GDP, and few economists believe that the capital inflows needed to finance such a large deficit are sustainable. A weaker dollar is a key element in the adjustment needed to bring that deficit down.

But if Mr Snow and his colleagues are relaxed about the dollar’s drop—even if they claim not to be trying to engineer it deliberately—the consequences elsewhere in the world are potentially painful. European politicians were upset when the fledgling euro sank after its launch in 1999, and many of them have been embarrassed by its persistent weakness. National pride in a strong currency is not necessarily rational, however, and the surge in the euro’s value this year has come at a difficult time for economies in the euro area.

Germany, the euro area’s dominant member, is now technically in recession. Official figures published last week show that the German economy contracted in the first three months of the year, the second consecutive quarterly fall. The impact of weak domestic demand has been reinforced by a decline in exports: the strong euro makes German products less competitive on world markets. With the European Central Bank (ECB) reluctant to cut interest rates, Germany’s difficulties are made worse by tight monetary policy—and by a fiscal framework which, thanks to euro-area rules, is failing to respond to the economy’s short-term needs.

So acute have Germany’s problems become that the International Monetary Fund (IMF) has warned, in a report published on May 18th, that the economy is now at a high risk of deflation. The IMF has sorted the world’s biggest economies into four categories: Germany shares the high-risk slot with Japan and Hong Kong—both of which are already experiencing deflation—and Taiwan.

Concern about deflation is not new, nor is it confined to those four countries the IMF identifies as high-risk. Economists have been fretting about it for months, and the Federal Reserve, America’s central bank, has lately become more open about its own concerns. The authorities in America and Britain—both in the IMF’s low-risk category—have demonstrated their readiness to respond quickly to changes in the short-term outlook. The ECB, by contrast, stubbornly resists what it seems to regard as short-term tinkering with monetary policy. It has announced a modest shift in its definition of price stability, interpreted by some as a sign of concern about deflation because it appears to place less emphasis on pushing inflation towards zero. But recent remarks by the ECB president, Wim Duisenberg, suggest that some at least in the bank are attracted by inflation very close to zero.

Perhaps surprisingly, the ECB does not appear to be alarmed by the experience in Japan, where the authorities have failed to make any headway in curbing deflation. Prices in Japan have been falling for more than three years now, and the IMF is worried that the problem could get worse. As its report points out, deflation is hardly ever benign, and the Japanese experience bears this out: the economy is shrinking once again. Tokyo’s failure to grapple with long-term structural problems has led to a succession of crises in the banking sector. While the G7 finance ministers were meeting at the weekend, a giant rescue of Japan’s fifth-largest bank, Resona, was under way. The bank failed to meet new, tougher capital requirements—so it has been saved by an injection of taxpayers’ money, possibly more than $17 billion. It is still unclear whether the rescue signals more of the same old patching up or a new, more radical approach to clearing up the banking sector’s mess. The Bank of Japan's decision, on May 20th, to ease monetary policy slightly is, similarly, not conclusive evidence of a commitment to eradicate deflation.

The Japanese government is clear that a weaker dollar spells trouble for hopes of an economic revival, and has reportedly been trying to halt the appreciation of the yen. Such efforts, against a background of what used to be called “benign neglect” in Washington, are unlikely to have much impact in the currency markets. If traders think the American government wants to see a cheaper dollar, they are likely to go on selling.

For those who hanker after the old days of greater global co-operation, such policy confusion is depressing to watch. What’s happened, they ask, to the idea that countries would agree to monitor currency movements and co-ordinate intervention to prevent misalignments? They forget the world has changed. Greater capital mobility makes it much more difficult—though admittedly not impossible, as recent research has shown—for the authorities to influence currency fluctuations.

Economic and political circumstances have changed too. The latest communiqué of the G7 finance ministers talked of the need to co-operate in trying to generate economic growth. But the path to achieving that is very different in the three main economic regions—North America, Europe and Japan—because their starting points are so very different. The typically bland communiqué glossed over fundamental differences over what needs to be done to give the world economy a boost.

In an interview earlier this month, Anne Krueger, the deputy head of the IMF, spelled out how difficult co-ordination would be at the moment. But she did point to one area where collaboration could make a big difference—on trade. Pushing ahead with the industrial world’s commitments made to the Doha round of world trade talks is something the G7 ministers again pledged themselves to. But on this, as with so many areas of economic policy, there is still a big gap between what the politicians say and what they do.



Bouncing around
May 12th 2003
From The Economist Global Agenda

The world’s currency markets are unusually volatile, reflecting the contrasting economic circumstances of the big industrial countries and concern about the global outlook. Gyrating currencies make economic policymaking even more difficult than usual

IT IS enough to make the old-timers nostalgic. The sharp upheavals in the foreign-exchange markets in recent months have brought back memories of the days—not all that long ago—when exchange rates were one of the main preoccupations of those managing the world’s big economies. The deregulation of international capital markets meant that, on the whole, only emerging-market economies have had to worry much about what foreign-exchange dealers were up to. But the very large swings in the value of the main reserve currencies are having a big impact on economic policymaking in the world’s biggest economies.

The figures speak for themselves. The euro has risen by about 25% against the dollar in the past year. The dollar has lost more than 15% of its value in trade-weighted terms—that is, against a broader range of currencies; on May 12th, the greenback slid again following comments by John Snow, America's treasury secretary, which suggested that the Bush administration is happy with a weaker dollar. The appreciation of the yen, meanwhile, is causing consternation in the Japanese government. And in Britain, the pound has slumped to its lowest level for six years against the euro. This has lowered one of the biggest barriers to euro entry for the British: sterling’s overvalued exchange rate. This week, pro-euro ministers broke ranks to criticise the desire of Gordon Brown, Britain’s chancellor (finance minister), to rule out a referendum on the issue before the next election, which is due by 2006.

For those who make the wrong call on which way a currency will move, the experience can be extremely costly. Businesses that need to swap currencies to pay for imported goods, or because they have received foreign currency for products they have exported, can find themselves squeezed to the point where they watch their profits disappear. Hedging—insuring against currency risk—is expensive, especially for small businesses. Bad currency bets can prove painful for financial institutions too: just look at the experience of hedge funds like Long-Term Capital Management (LTCM), which had to be rescued in 1998 when it got its currency forecasts wrong. LTCM was bailed out by a consortium of banks only because of fears that its collapse would spark financial panic, because so much money was at stake.

But the complications for individual and commercial investors are as nothing compared to the difficulties which large and sudden changes in currency values create for economic policymakers. Framing macroeconomic policy so as to keep inflation at bay and support sustainable economic growth is hard enough at the best of times. But the exchange rate has a big influence on economic performance—and thus on policy.

Big as it undoubtedly is, that influence is unpredictable and difficult to measure. Take the impact on inflation. Conventional wisdom suggests that a large devaluation which is not subsequently reversed puts upward pressure on inflation. Exports become much cheaper and more competitive, but imports are correspondingly more expensive. So if policymakers are concerned about inflationary pressure, they might take action to avert that. Higher interest rates are one option. Yet in 1992, when the British government took the pound out of Europe’s exchange-rate mechanism (ERM) following unprecedented pressure in foreign-exchange markets, the consequences for the British economy were the opposite of what most economists had predicted. Inflation carried on falling, even though interest rates were cut sharply in the months that followed. It never resurfaced as a major problem, and Britain’s inflation record in recent years is one of the best in the industrial world.

So far, there is little sign of any inflationary surge following the depreciation of the dollar over the past year or more. Indeed, recent statements from the Federal Reserve have hinted that the policymakers in Washington are currently more concerned about the risk of deflation. Interest rates are at their lowest level for more than 40 years, but the Fed made it clear last week that it stood ready to trim them further if circumstances warranted it—and that seems to include further disinflation.

For the Japanese government, the opportunity to prevent deflation has long gone—prices have been falling in Japan for three consecutive years—and the reforms needed to jumpstart the economy seem clear to all except those in government in Tokyo. But Japan’s policymakers are clear about one thing: a rising yen can only make things worse for them. It will choke off exports, on which the economy continues to depend heavily. With interest rates at zero, it is hard to see what more the government could do to discourage investors from selling dollars and buying yen. It keeps dropping heavy hints about intervening in the markets to push down the yen.

Such intervention, once commonplace, tends now to be frowned on in policy circles, either because it does not work, or because it is seen as interfering with the market, or because it is an excuse to put off the sort of fundamental reforms which might have a longer-lasting impact on currency valuations. There is certainly little talk in Europe of sustained intervention to halt the euro’s spectacular rise in recent months.

It strikes some as surprising that the European Central Bank (ECB) shows little sign of wanting to respond to the euro’s appreciation, which represents a considerable tightening of monetary policy—one rule of thumb suggests a 2% rise in a currency is roughly equivalent to a quarter-point rise in interest rates. Few economists believe that the euro-area economy as a whole needs tighter policy; and almost everyone agrees that Germany is in urgent need of looser policy. Yet the ECB remains reluctant to cut interest rates, and defied international pressure again when its governing council met last week.

For the first years of its life, the euro seemed capable of moving in only one direction—downwards. At its low point, it had lost more than a fifth of its value against the dollar at its launch in January 1999. For Germans in particular (and German policymakers), such currency weakness was embarrassing. They were used to a strong mark, long seen as a bulwark against inflation. But the euro’s fortunes have been reversed in such a dramatic fashion just when Europe least needs a strong currency. Germany’s export industries are already suffering. By historical standards, European interest rates are low. But most economists think they are too high for Europe’s needs—and the appreciating euro is making the situation worse. Having a strong reserve currency can be a burden as well as a source of pride.

Terrorism strikes home

May 13th 2003
From The Economist Global Agenda

A series of suicide attacks in Saudi Arabia has turned the war on terrorism into an issue that could unseat the oil-rich kingdom’s ruling dynasty

JUST before America’s secretary of state, Colin Powell, arrived in Saudi Arabia on Tuesday May 13th to promote a new Middle East peace plan, terrorists carried out a series of orchestrated attacks against foreign targets in the capital, Riyadh. According to reports, at least 29 people were killed and 200 injured as gunmen shot their way into gated compounds housing westerners and then set off a number of car bombs. A bomb also exploded outside the offices of an American-Saudi company. With the finger of blame being pointed at Osama bin Laden’s al-Qaeda terrorist network, the carnage in the oil-rich kingdom underlines the fact that the war on terrorism is far from won.

Many of the casualties in Riyadh were reported to be Americans and other foreign nationals. Attacks against westerners have been increasing in Saudi Arabia, the birthplace of Islam—and that of Mr bin Laden and 15 of the 19 hijackers involved in the September 11th attacks on America. At first, some Saudi officials tried to ignore or dismiss attacks as the work of petty criminal gangs or the result of feuds among foreigners. But as incidents have grown in intensity, it has become increasingly obvious that Saudi rulers are facing their own war on terrorism. Immediately after the explosions in Riyadh, the price of oil futures rose, reflecting traders' concern that an escalation of terrorist violence in the region could disrupt supplies.

Mr Powell was in no doubt that the bombings bore all the hallmarks of al-Qaeda. “Once again it reminds us that terrorism is a global phenomenon…the United States will not be deterred from pursuing the interests of peace around the world,” he said. If the attacks were not the work of al-Qaeda, then they were probably carried out by groups linked to or sympathetic with Mr bin Laden’s organisation.

American officials had given warning that a terrorist strike was being planning in Saudi Arabia. On May 1st, the American state department warned its citizens against non-essential travel to Saudi Arabia, citing intelligence that terrorist groups were in the “final phases” of planning attacks against the American community there. The car bombings in the luxury communities, where many foreign executives live, were clearly timed to coincide with Mr Powell’s arrival. The official purpose of his visit was to discuss the Israeli-Palestinian “road map” for peace with Saudi Arabia’s de facto leader, Crown Prince Abdullah bin Abdul-Aziz. The plight of the Palestinians has been the touchstone for Arab support of militant groups. But there were plenty of other things to talk about.

The militants in Saudi Arabia accuse the country’s leadership of being lackeys to American interests, in particular because they have allowed American troops to be stationed on Saudi soil. Since the invasion of Iraq, however, America has reviewed its military presence in the region and recently announced that it would withdraw almost all its forces from the kingdom. After the first Gulf war, around 5,000 American troops had remained in Saudi Arabia to enforce a “no-fly” zone over Iraq, but now that Saddam Hussein has been removed from power that is no longer necessary. America has already moved its regional air headquarters from Saudi Arabia to Qatar.

Because of widespread anger at home against the American-led war in Iraq, Saudi Arabia’s leaders provided the coalition forces with less help than they would have liked. Some analysts have interpreted the American troop pull-out as an attempt to take pressure off Saudi Arabia’s ruling family, allowing the rulers to instigate political reforms without appearing to do so under pressure from Washington. But America would not want political change in Saudi Arabia to become so tumultuous, especially under the threat of terrorism, that it disrupts oil supplies to the West. Iraq may once again become a major producer, and a compliant one under an American-influenced interim leadership, but it could never be a substitute for Saudi Arabia’s vast oil output.

Mr bin Laden and his followers have long accused America of plundering the region's oil riches. But it is unclear just how much of al-Qaeda’s structure remains after the invasion of Afghanistan, or if it was always a loose alignment of militant groups in different countries. A previously unknown Saudi group, the Mujahideen in the Arabian Peninsula, recently vowed to attack American targets worldwide. A senior Saudi official said this month that suspected terrorists were receiving orders directly from Mr bin Laden and that they had been planning attacks against various targets in Saudi Arabia, including the royal family.

Saudi Arabia is an absolute monarchy in which political parties are banned. King Fahd bin Abdel-Aziz al-Saud, who acceded to the throne in 1982, heads a council of ministers, but after apparently suffering a stroke in 1995, he granted more responsibility to Crown Prince Abdullah. The ruling family tries to govern by consensus, but it has thousands of members, all with their own opinions. At moments of crisis, they have united to safeguard the family’s rule, but rivalries have festered among the princes—especially over succession.

On May 6th, Saudi Arabia’s security forces seized a big cache of weapons and explosives in Riyadh, but 19 of the suspects, thought to be al-Qaeda sympathisers, managed to escape; the Saudi ambassador in London, Turki al-Faisal, said some of them were involved in this week's attacks. Until now, the big terrorist outrages in Saudi Arabia have mostly been against military targets or defence contractors. In 1996, for instance, a truck bomber killed 19 Americans at a barracks in Dhahran. And in 1995, a car bomb exploded at an American-run military training facility in Riyadh; seven people died, including five American advisers to the Saudi National Guard. The response to the latest attack in Riyadh will be a tough test of Saudi Arabia’s royals, and one that could determine their own survival as leaders.




Paradise lost

May 8th 2003
From The Economist print edition

So far, information technology has thrived on exponentials. Now it has to get back to earth, says Ludwig Siegele

CLOSE your eyes and think of information technology. You might picture your PC crashing yet again, and recall that your teenager was supposed to fix it. That leads you to the 12-year-old hacker who broke into a bank's computer system the other day, which brings to mind the whizz-kids in a garage inventing the next big thing that will turn them into the youngest billionaires ever.

In IT, youth seems to spring eternal. But think again: the real star of the high-tech industry is in fact a grey-haired septuagenarian. Back in 1965, Gordon Moore, co-founder of Intel, the world's biggest chipmaker, came up with probably the most famous prediction in IT: that the number of transistors which could be put on a single computer chip would double every 18 months. (What Mr Moore actually predicted was that the figure would double every year, later correcting his forecast to every two years, the average of which has come to be stated as his “law”.)

This forecast, which implies a similar increase in processing power and reduction in price, has proved broadly accurate: between 1971 and 2001, transistor density has doubled every 1.96 years (see chart 1). Yet this pace of development is not dictated by any law of physics. Instead, it has turned out to be the industry's natural rhythm, and has become a self-fulfilling prophecy of sorts. IT firms and their customers wanted the prediction to come true and were willing to put up the money to make it happen.

Even more importantly, Moore's law provided the IT industry with a solid foundation for its optimism. In high-tech, the mantra goes, everything grows exponentially. This sort of thinking reached its peak during the internet boom of the late 1990s. Suddenly, everything seemed to be doubling in ever-shorter time periods: eyeballs, share prices, venture capital, bandwidth, network connections. The internet mania began to look like a global religious movement. Ubiquitous cyber-gurus, framed by colourful PowerPoint presentations reminiscent of stained glass, prophesied a digital land in which growth would be limitless, commerce frictionless and democracy direct. Sceptics were derided as bozos “who just don't get it”.

Today, everybody is older and wiser. Given the current recession in IT, the idea of a parallel digital universe where the laws of economic gravity do not apply has been quietly abandoned. What has yet to sink in is that the current downturn is something more than the bottom of another cycle in the technology industry. Rather, as this survey will argue, the sector is going through deep structural changes which suggest that it is growing up or even, horrors, maturing. Silicon Valley, in particular, has not yet come to grips with the realities, argues Larry Ellison, the chief executive of Oracle, a database giant (who at 58 still sports a youthful hairdo). “There's a bizarre belief that we'll be young forever,” he says.

It is not that Moore's law has suddenly ceased to apply. In fact, Mr Moore makes a good case that Intel can continue to double transistor density every 18 months for another decade. The real issue is whether this still matters. “The industry has entered its post-technological period, in which it is no longer technology itself that is central, but the value it provides to business and consumers,” says Irving Wladawsky-Berger, a senior manager at IBM and another grey-haired industry elder.

Scholars of economic history are not surprised. Whether steam or railways, electricity or steel, mass production or cars—all technological revolutions have gone through similar long-term cycles and have eventually come of age, argues Carlota Perez, a researcher at Britain's University of Sussex, in her book “Technological Revolutions and Financial Capital: The Dynamics of Bubbles and Golden Ages” (Edward Elgar, 2002).

In her model (see chart 2), technological revolutions have two consecutive lives. The first, which she calls the “installation period”, is one of exploration and exuberance. Engineers, entrepreneurs and investors all try to find the best opportunities created by a technological big bang, such as Ford's Model T in 1908 and Intel's first microprocessor in 1971. Spectacular financial successes attract more and more capital, which leads to a bubble. This is the “gilded age” of any given technology, “a great surge of development”, as Ms Perez calls technological revolutions.

The second, or “deployment”, period is a much more boring affair. All the quick bucks have been made, so investors prefer to put their money into the real economy. The leading firms of the new economy become bigger and slower. The emphasis is no longer on raw technology, but on how to make it easy to use, reliable and secure. Yet this period is also the “golden age” of a technology, which now penetrates all parts of society.

These two periods of a technological revolution are separated by what Ms Perez calls a “turning point”—a crucial time for making the choices that determine whether a technological revolution will deliver on its promises. In her book, she concentrates mainly on the social and regulatory decisions needed to allow widespread deployment of new technology. But the same argument applies to technology vendors and customers. To enter their “golden age”, they have to leave their youthful excesses behind and grow up.

A duller shade of gold

This survey will examine how much grey the IT industry (and their leaders' hair) has already acquired. The first three chapters are about technological shifts, and how value is moving from the technology itself to how it is applied. Many of the wares that made the IT industry's fortunes in the installation period are becoming a commodity. To overcome this problem, hardware vendors are developing new software that allows networks of machines to act as one, in effect turning computing into a utility. But the IT industry's most profitable layer will be services of all kinds, such as software delivered as an online service, or even business consulting.

The second half of this survey looks at institutional learning, which has caused the value created by the IT industry to be increasingly captured by its customers. For the first time in its history, the IT industry is widely adopting open standards. Equally important, buyers are starting to spend their IT budgets more wisely. Meanwhile, the industry's relationship with government is becoming closer.

All this suggests that the technology industry has already gone greyish at the temples since the bubble popped, and is likely to turn greyer still. Sooner or later the sector will enter its “golden age”, just as the railways did. When Britain's railway mania collapsed in 1847, railroad shares plunged by 85%, and hundreds of businesses went belly-up. But train traffic in Britain levelled off only briefly, and in the following two decades grew by 400%.

So are the IT industry's best days yet to come? There are still plenty of opportunities, but if the example of the railways is anything to go by, most IT firms will have to make do with a smaller piece of the pie. As this newspaper (then called The Economist, Weekly Commercial Times, Bankers' Gazette, and Railway Monitor) observed in 1857: “It is a very sad thing unquestionably that railways, which mechanically have succeeded beyond anticipation and are quite wonderful for their general utility and convenience, should have failed commercially.”

Brad DeLong, an economics professor at the University of California at Berkeley, puts it somewhat more succinctly: “I am optimistic about technology, but not about profits.”


Back to work
May 9th 2003
From The Economist Global Agenda

As life starts to return to normal in Iraq, with schools reopening and wages once again being paid, America asks the United Nations to lift sanctions, but relegates it to an advisory role

ONCE again, the United Nations faces a fractious time over Iraq. On Friday May 9th, America introduced a new resolution, calling on the Security Council to scrap sanctions and allow Iraqi oil exports to be used to help pay for the reconstruction of the country. But the UN will be offered only a limited role in the running of post-war Iraq. This is unlikely to heal the rifts that opened up when America invaded without winning the backing of the council, resulting in the two leading anti-war countries, France and Russia, trying to change or block America’s move.

The new resolution effectively relegates the UN and other international bodies, such as the World Bank and the International Monetary Fund, to advising a new “Iraqi authority”, which will be run by America and Britain, although other countries may later be invited to join in. Revenue from oil and gas exports would be paid into an “Iraqi assistance fund” which, under the direction of the Iraqi authority, would pay for the reconstruction of the country. The coalition-run authority would operate in consultation with an interim authority that Iraqi political leaders are about to set up. The assistance fund would have an international advisory board, staffed with officials from the UN and other organisations. Kofi Annan, the UN’s secretary-general, would be allowed to appoint a special representative to work alongside the coalition forces in Iraq.

On May 7th, America suspended its own embargoes on Iraq, which were introduced in 1991 after the last Gulf war. The UN modified its restrictions against Iraq into an “oil-for-food” programme seven years ago, to ease the impact of international sanctions on ordinary Iraqis. The new American resolution, which is supported by Britain and Spain, would phase out this programme but still allow the payment of some $10 billion in contracts for food, medicine and other goods that had already been approved by the UN before the ousting of Saddam Hussein. Russian companies hold a large number of those contracts, perhaps worth as much as $1.5 billion. France also has a big share.

Control of Iraq’s oil money is likely to be the most contentious issue during negotiations over the final draft of the resolution. America is hoping for a decision by June 3rd, when the present oil-for-food programme has to be renewed. To be adopted, the resolution has to be supported by nine of the 15 members of the Security Council, but it must not be vetoed by any of the five permanent members. Russia and France have veto-wielding seats on the council, along with America, Britain and China.

Apart from the financial issues, some members of the Security Council have argued that, under the terms of existing resolutions, sanctions should not be lifted until UN weapons inspectors return to Iraq and certify that the country is free of weapons of mass destruction. But coalition forces are still searching for evidence of Saddam’s chemical, biological and nuclear programmes, and America remains distrustful of the UN’s chief weapons inspector, Hans Blix. The sanctions were imposed to contain Saddam’s regime, American officials argue, and now that he has gone they are no longer needed.

The lifting of America’s own embargoes will allow more humanitarian supplies to be sent to Iraq and for Iraqis living in the United States to start sending money to their relatives and friends in the country. But without a formal resolution from the UN ending international sanctions, other forms of trade will prove difficult or impossible. Most companies would refuse to sign new contracts to buy or sell Iraqi oil without a clear resolution of the issue by the UN.

Money and investment are urgently needed in Iraq, where despite continuing security concerns, daily life is starting to return to some form of normality. Courts have begun functioning again, some schools have reopened and universities may restart in about a week. Enough money has been found in state coffers to start to pay wages again and to keep the currency afloat. But the economy has yet to get moving. Basic institutions also need to start working quickly, but for that to happen the coalition forces are having to rely on former Baath party loyalists. As joining Saddam’s party was the only way to gain promotion, most senior officials and technocrats were members. Their services are badly needed, but many Iraqis are hostile to their old bosses.

President George Bush has now appointed a civilian to oversee the rehabilitation of Iraq. Paul Bremer, a former head of counter-terrorism at the State Department, will be senior to Jay Garner, the retired American general who was hitherto America’s top man in the country. The move is being seen as a deliberate attempt to start to distance the military from running Iraq.

Before that happens in earnest, a new Iraqi leadership has to be formed. Mr Garner hopes to have a broadly based interim ruling council in place within the next few weeks. Various Iraqi political and religious groups have been meeting to discuss the next step. This could be the creation of a 300-member National Assembly, which would be empowered to draft a constitution, create a new judiciary and confirm a cabinet that would be sponsored and advised by the Americans until full power can be handed over to a democratically elected Iraqi government. There will be plenty of squabbles along the way, just as there will be in the UN before Iraq can start to claim its oil revenues.


The Philippines

No peace, no peace talks

May 8th 2003 | MANILA
From The Economist print edition

After the latest outrage, Mrs Arroyo gets tough

WHEN guerrillas of the Philippines' biggest Muslim rebel group, the Moro Islamic Liberation Front (MILF), raided the southern town of Siocon on May 4th, President Gloria Arroyo called it terrorism. The army said that about 70 guerrillas had attacked public buildings and used civilians as human shields as they withdrew. At least 34 people, many of them civilians, were killed. The MILF said the guerrillas' target was a military headquarters, and that they did not intend to harm civilians.

Mrs Arroyo reacted by postponing indefinitely peace talks that had been due to begin on May 9th. The government offered a reward of 50m pesos ($956,000) for the capture of the leaders of the MILF, and said punitive action would be taken against the guerrillas who mounted the raid. Mrs Arroyo said peace negotiations could resume when the atmosphere was more conducive. But her more aggressive attitude to the MILF reflects a shift in the balance of influences in her administration.

Some members of Mrs Arroyo's government wish America to classify the MILF as terrorists. America is already giving generous military aid and training to help the Philippines eradicate a much smaller group of armed Filipino Muslims, Abu Sayyaf, whom it already regards as terrorists. Adding the MILF to the list would keep the Philippines in the front line of the war on terrorism. The hawks in Mrs Arroyo's administration think that extra American help would enable the armed forces to finish off the Muslim rebellion.

So far, Mrs Arroyo has tried to dissuade America from labelling the MILF as terrorists. But the Siocon raid has weakened the influence of those members of her government who argue that negotiations are the only way to make peace. For more than three decades, guerrillas have been fighting to gain independence for the Muslim minority in the south of this mainly Christian country, and all attempts to end the rebellion by force have failed. The doves say that economic progress will in time remove the inequities at the root of the rebellion.

In spite of the postponement of peace talks, the MILF said it was still willing to negotiate. For the time being, the government is gambling that increased military pressure on the guerrillas will make them return to the negotiating table suitably chastened, and ready to talk peace more earnestly.


Corporate ethics

Big oil's dirty secrets
May 8th 2003 | NEW YORK
From The Economist print edition

The ethics of the oil industry are coming under unprecedented scrutiny

EVEN as it celebrates soaring profits—thanks to higher prices during the war—and soaring share prices, now war is over, the oil industry faces a new danger largely of its own creation. It will surprise nobody to learn that oil and ethics mix about as well as oil and water. But, just as the tobacco industry and Wall Street gained a false sense of security because for years they got away with well-known practices of an ethically shady nature, only to pay a hefty price later, so too oil's hour of reckoning may be approaching. There are several reasons, including a high-profile bribery scandal; the growing political sensitivity of the oil industry; changing attitudes to corporate governance; and some potentially explosive lawsuits.

The bribery scandal, which seems certain to grow larger as more details emerge, concerns the battle to win oil contracts in Kazakhstan. During the 1990s, several big oil firms fought for the right to exploit the oil riches of the region, including Chevron Texaco, on whose board Condoleezza Rice served prior to joining the Bush administration. And, if prosecutors are to be believed, executives at some firms behaved over-zealously as this battle raged.

This week, Swiss investigators were reported to have added a bribery and money-laundering probe involving, among others, Crédit Agricole, a French bank, to continuing American investigations into alleged Caspian corruption. Last month, a grand jury in New York issued indictments against two Americans—James Giffen, an independent banker with close ties to the Kazakh president, Nursultan Nazarbayev, and Bryan Williams, a former executive of Mobil. Both deny wrongdoing. America's Justice Department is also looking into whether Mobil, now merged with Exxon, took part in a plan to pay $78m from American and European oil firms into Swiss bank accounts belonging to Mr Nazarbayev, among others. Exxon Mobil, the world's biggest oil firm, says it knows of no wrongdoing.

Oiling the wheels

This is already the largest investigation by American authorities into alleged bribery abroad. As it unfolds, it seems certain to provide plenty of colourful stories that will keep it in the spotlight. It involves well-known Russian businessmen and politicians, payments for speed boats and fur coats, and—if only because they too were involved in bidding for Kazakh contracts—other big oil firms besides Mobil, including firms with connections to senior Bush administration officials other than Miss Rice.

It may also provide the sternest test yet of America's Foreign Corrupt Practices Act (FCPA), which outlaws bribery. When the act was introduced in 1977, many American oil firms groused that the law handicapped them against foreign competitors when dealing in the undemocratic and unscrupulous parts of the world where oil is often found. That fear was not entirely groundless, as is clear from the current trial of former officials of France's Elf Aquitaine (now part of Total), where bribery seems to have been a core competency.

Some American oil-industry executives privately grouse that, if anybody is found guilty, it will be due to carelessness. The FCPA, they admit, can be skirted by careful use of “signature bonus” payments to middlemen brokering contracts and via “arm's-length” transactions involving law firms based, more often than not, in London. On the other hand, argues Scott Horton of Patterson Belknap, a New York law firm, the FCPA has prompted American oil firms, though generally opposed to transnational laws on corporate behaviour, to support efforts led by the OECD to impose an international ban on bribery.

The current scandal in the Caspian can only bolster such efforts to bring some transparency to this mucky business. But will it also lead to a greater questioning of some of the techniques used to get around the FCPA? Amy Jaffe, of Texas's Rice University, insists that the current investigation “is going to force every legal department at every major oil firm to ensure they have a clear picture of what their agents, advisers and everyone else in foreign countries are doing. The Giffen case will define what you can and can't do.”

Big oil is also facing legal troubles over its famed love of nature. This week, lawyers for aggrieved indigenous folk filed suit against Chevron Texaco in Ecuador. For a decade, legal activists have been trying to sue Texaco for dumping contaminated water in open ponds in that country's rain forest that, they claim, harmed both health and the environment. The firm denies wrongdoing, noting that there were no specific laws in Ecuador when it operated there that forbade its practices.

At first, the litigants pursued their claim in American courts, but a judge finally bounced the case back to Ecuador as the proper jurisdiction for the matter. That appeared to be a victory for the oil firm, but in order to have the trial moved south, Chevron Texaco had to agree to respect the ruling of the Ecuadorian court. If it does not, the American judge has retained the right to step into the matter once again. Joseph Kohn, a lawyer for the villagers, is already talking of $1 billion as his team's estimate for cleaning up the damage allegedly done by the firm—even before any compensation for suffering and so on.

But legal attacks on alleged human rights abuses committed overseas may prove to be the most nettlesome of all for the oil industry. Consider the sort of public denial prompted by a lawsuit filed last month against an American oil firm: “Occidental has not and does not provide lethal aid to Colombia's armed forces.” Even if the firm does indeed prove not to have provided “lethal aid,” it faces a high-profile trial exposing its relationship with a regime with an, ahem, uneven record on human rights. Similarly, Exxon is being accused of complicity in abuses committed by the Indonesian military in Aceh, and Unocal stands accused of benefiting from forced labour deployed by the military government in Myanmar. Both firms have consistently denied any wrongdoing.

These cases are tests of America's Alien Tort Claims Act (ATCA). As the law dates back to 1789, its critics note that it does not deal with the precise circumstances of today's cases: it was probably intended to give foreigners a legal forum when in America, rather than offer a domestic remedy for American misdeeds abroad. Oil industry lobbyists have been pushing Congress to repeal the ATCA. Last year, the Bush administration took the unusual step of intervening in a lawsuit brought by the International Labour Rights Fund (ILRF) against Exxon, arguing that applying the ATCA in this case might hinder America's efforts to fight terrorism.

Even so, points out the ILRF's Terry Collingsworth, starting in 1980, this statute has indeed been applied in human-rights cases where foreign states or victims have been involved. Now, particularly with two separate cases related to Myanmar in American courts, it may end up applying to corporations that are judged to be “knowingly complicit” in abuses.

Could this be enough to transform an industry that is famously shameless, not least in America? Maybe. A few big legal losses, lots of bad headlines, and an impending Presidential election with an oil man on the ballot might work wonders.