The SVB debacle has exposed the hypocrisy of Silicon Valley

US tech innovators have a culture of regarding government as an innovation-blocking nuisance. But when Silicon Valley Bank collapsed, investors screamed for state protection writes John Naughton in The Guardian 

So one day Silicon Valley Bank (SVB) was a bank, and then the next day it was a smoking hulk that looked as though it might bring down a whole segment of the US banking sector. The US government, which is widely regarded by the denizens of Silicon Valley as a lumbering, obsolescent colossus, then magically turned on a dime, ensuring that no depositors would lose even a cent. And over on this side of the pond, regulators arranged that HSBC, another lumbering colossus, would buy the UK subsidiary of SVB for the princely sum of £1.

Panic over, then? We’ll see. In the meantime it’s worth taking a more sardonic look at what went on.

The first thing to understand is that “Silicon Valley” is actually a reality-distortion field inhabited by people who inhale their own fumes and believe they’re living through Renaissance 2.0, with Palo Alto as the new Florence. The prevailing religion is founder worship, and its elders live on Sand Hill Road in San Francisco and are called venture capitalists. These elders decide who is to be elevated to the privileged caste of “founders”.

To achieve this status it is necessary to a) be male; b) have a Big Idea for disrupting something; and c) never have knowingly worn a suit and tie. Once admitted to the priesthood, the elders arrange for a large tipper-truck loaded with $100 bills to arrive at the new member’s door and cover his driveway with cash.

But this presents the new founder with a problem: where to store the loot while he is getting on with the business of disruption? Enter stage left one Gregory Becker, CEO of SVB and famous in the valley for being worshipful of founders and slavishly attentive to their needs. His company would keep their cash safe, help them manage their personal wealth, borrow against their private stock holdings and occasionally even give them mortgages for those $15m dream houses on which they had set what might loosely be called their hearts.
The most striking takeaway was the evidence produced by the crisis of the arrant stupidity of some of those involved

So SVB was awash with money. But, as programmers say, that was a bug not a feature. Traditionally, as Bloomberg’s Matt Levine points out, “the way a bank works is that it takes deposits from people who have money, and makes loans to people who need money”. SVB’s problem was that mostly its customers didn’t need loans. So the bank had all this customer cash and needed to do something with it. Its solution was not to give loans to risky corporate borrowers, but to buy long-dated, ostensibly safe securities like Treasury bonds. So 75% of SVB’s debt portfolio – nominally worth $95bn (£80bn) – was in those “held to maturity” assets. On average, other banks with at least $1bn in assets classified only 6% of their debt in this category at the end of 2022.

There was, however, one fly in this ointment. As every schoolboy (and girl) knows, when interest rates go up, the market value of long-term bonds goes down. And the US Federal Reserve had been raising interest rates to combat inflation. Suddenly, SVB’s long-term hedge started to look like a millstone. Moody’s, the rating agency, noticed and Mr Becker began frantically to search for a solution. Word got out – as word always does – and the elders on Sand Hill Road began to whisper to their esteemed founder proteges that they should pull their deposits out, and the next day they obediently withdrew $42bn. The rest, as they say, is recent history.

What can we infer about the culture of Silicon Valley from this shambles? Well, first up is its pervasive hypocrisy. Palo Alto is the centre of a microculture that regards the state as an innovation-blocking nuisance. But the minute the security of bank deposits greater than the $250,000 limit was in doubt, the screams for state protection were deafening. (In the end, the deposits were protected – by a state agency.) And when people started wondering why SVB wasn’t subjected to the “stress testing” imposed on big banks after the 2008 crash, we discovered that some of the most prominent lobbyists against such measures being applied to SVB-size institutions included that company’s own executives. What came to mind at that point was Samuel Johnson’s observation that “the loudest yelps for liberty” were invariably heard from the drivers of slaves.

But the most striking takeaway of all was the evidence produced by the crisis of the arrant stupidity of some of those involved. The venture capitalists whose whispered advice to their proteges triggered the fatal run must have known what the consequences would be. And how could a bank whose solvency hinged on assumptions about the value of long-term bonds be taken by surprise by the impact of interest-rate increases? All that was needed to model the risk was an intern with a spreadsheet. But apparently no such intern was available. Perhaps s/he was at Stanford doing a thesis on the Renaissance.

Deliveroo was the poster child for venture capitalism. It's not looking so good now

The food delivery company is a case study in the destructive nature of its own ‘disruptive’ business model writes James Ball in The Guardian

 

‘Earlier this week, Deliveroo was reported to be cutting 367 jobs (and furloughing 50 more) from its workforce of 2,500.’ Photograph: Alex Pantling/Getty Images


If any company can weather coronavirus well, it should be Deliveroo. The early days of lockdown saw demand surge for the service delivering food from restaurants and takeaways. The decision by several major restaurant and fast-food chains to shut for weeks during the early stages of lockdown might have dented demand, but as they begin to reopen for delivery – with most other activities still curtailed – prospects would seem bright for the tech company.

The reality looks quite different. Earlier this week, Deliveroo was reported to be cutting 367 jobs (and furloughing 50 more) from its workforce of 2,500. Others seem to be in similarly bleak positions – Uber is said to be discussing plans to let go around 20% of its workforce, some 5,400 roles. The broader UK start-up scene has asked for – and secured – government bailout funds.

Why Deliveroo is struggling during a crisis that should benefit its business model tells us about much more than just one start-up. The company’s nominal reasoning for needing cuts is that coronavirus will be followed by an economic downturn, which could hit orders. That’s plausible, but far from a given.

The financial crash of 2008 – which led to the most severe recession since the Great Depression – saw “cheap luxuries” perform quite well. People would swap a restaurant meal for, say, a £10 Marks & Spencer meal deal. Deliveroo is far cheaper than a restaurant meal for many people – there’s no need to pay for a childminder, or travel, and there’s no need to purchase alcohol at restaurant prices. Why would Deliveroo be so certain a downturn would be bad news?

The answer lies in the fact that Deliveroo’s real business model has almost nothing to do with making money from delivering food. Like pretty much every other start-up of its sort, once you take all of the costs into account, Deliveroo loses money on every single delivery it makes, even after taking a big cut from the restaurant and a delivery fee from the customer. Uber, now more than a decade old, still loses money for every ride its service offers and every meal its couriers deliver.

When every customer loses you money, it’s not good news for your business if customer numbers stay solid or even increase, unless there’s someone else who believes that’s a good thing. What these companies rely on is telling a story – largely to people who will invest in them. Their narrative is they’re “disrupting” existing industries, will build huge market share and customer bases, and thus can’t help but eventually become hugely profitable – just not yet.

This is the entire venture capital model – the financial model for Silicon Valley and the whole technology sector beyond it. Don’t worry about growing slowly and sustainably, don’t worry about profit, don’t worry about consequences. Just go flat out, hell for leather, and get as big as you can as fast as you can. It doesn’t matter than most companies will try and fail, provided a few succeed. Valuations will soar, the company will become publicly listed (a procedure known as an IPO) and then the company will either actually work out how to make profit – in which case, great – or by the time it’s clear it won’t, the venture capital funds have sold most of their stake at vast profits, and left regular investors holding the stock when the music stops.

This is a whole business model based on optimism. Without that optimism, and the accompanying free-flowing money to power through astronomical losses, the entire system breaks down. That’s the real struggle facing this type of company. It’s also why the very idea of bailing out this sector should be a joke: venture capital chases returns of at 10 times their investment, on the basis that it’s high risk and high reward. If we take out the element of “risk”, we’re basically just funnelling public money to make ultra-rich investors richer.

What pushes this beyond a tale that many of us might be happy to write down to karma, though, is the effects it has well beyond the rest of the world.

Tech giants move in on existing sectors that previously supported millions of jobs and helped people make their livelihoods – cabs and private hire, the restaurant business, to name just a few. They offer a new, subsidised alternative, that makes customers believe a service can be delivered much more cheaply, or that lets them cherry-pick from the restaurant experience – many restaurants relied on those alcohol sales with a meal to cover their margins, for example.

These start-ups come in to existing sectors essentially offering customers free money: £10 worth of stuff for a fiver. It turns out that’s easy to sell. But in the process, they rip the core out of existing businesses and reshape whole sectors of the economy in their image. And now, in the face of a pandemic, they are starting to struggle just like everyone else. It’s not hard to see how this sorry story ends. Having disrupted their industries to the point of leaving business after business on the verge of collapse, the start-ups could be tumbling down after them.

Government and Innovation - A much-maligned engine of innovation

Matin Wolf in FT 

Conventional economics offers abstract models; conventional wisdom insists the answer lies with private entrepreneurship. In this brilliant book, Mariana Mazzucato, a Sussex university professor of economics who specialises in science and technology, argues that the former is useless and the latter incomplete. Yes, innovation depends on bold entrepreneurship. But the entity that takes the boldest risks and achieves the biggest breakthroughs is not the private sector; it is the much-maligned state.

Mazzucato notes that “75 per cent of the new molecular entities [approved by the Food and Drug Administration between 1993 and 2004] trace their research ... to publicly funded National Institutes of Health (NIH) labs in the US”. The UK’s Medical Research Council discovered monoclonal antibodies, which are the foundation of biotechnology. Such discoveries are then handed cheaply to private companies that reap huge profits.

A perhaps even more potent example is the information and communications revolution. The US National Science Foundation funded the algorithm that drove Google’s search engine. Early funding for Apple came from the US government’s Small Business Investment Company. Moreover, “All the technologies which make the iPhone ‘smart’ are also state-funded ... the internet, wireless networks, the global positioning system, microelectronics, touchscreen displays and the latest voice-activated SIRI personal assistant.” Apple put this together, brilliantly. But it was gathering the fruit of seven decades of state-supported innovation.

Why is the state’s role so important? The answer lies in the huge uncertainties, time spans and costs associated with fundamental, science-based innovation. Private companies cannot and will not bear these costs, partly because they cannot be sure to reap the fruits and partly because these fruits lie so far in the future.

Indeed, the more competitive and finance-driven the economy, the less the private sector will be willing to bear such risks. Buying back shares is apparently a far more attractive way of using surplus cash than spending on fundamental innovation. The days of AT&T’s path-breaking Bell Labs are long gone. In any case, the private sector could not have created the internet or GPS. Only the US military had the resources to do so.

Arguably, the most important engines of innovation in the past five decades have been the US Defense Advanced Research Projects Agency and the NIH. Today, if the world is to make fundamental breakthroughs in energy technologies, states will play a big role. Indeed, the US government even helped drive the development of the hydraulic fracturing of shale rock.

Mazzucato insists this involves more than state support of research and development, vital though that is (in the US, the government funds a quarter of R&D and nearly 60 per cent of basic research). But the state is also an active entrepreneur, taking risks and, of course, accepting the inevitable failures. America has been a developmental state since the days of Alexander Hamilton. Indeed, the nation’s recent role as the premier promoter of fundamental innovations owes as much to its state as to the get-up-and-go of its entrepreneurs. 

Germany’s failure to remain at the forefront of today’s new technologies, in contrast to before the second world war, may be down to the limited role now accorded its state.

Mazzucato loves puncturing myths about risk-loving venture capital and risk-avoiding bureaucrats. Does it matter that the role of the state has been written out of the story? She argues that it does.

First, policy makers increasingly believe the myth that the state is only an obstacle, thereby depriving innovation of support and humanity of its best prospects for prosperity. Indeed, the scorn heaped on government also deprives it of the will and capacity to take entrepreneurial risks.

Second, government has also increasingly accepted that it funds the risks, while the private sector reaps the rewards. What is emerging, then, is not a truly symbiotic ecosystem of innovation, but a parasitic one, in which the most lossmaking elements are socialised, while the profitmaking ones are largely privatised. Do ordinary taxpayers understand that their taxes fund the fundamental innovations that drive their economy?

This book has a controversial thesis. But it is basically right. The failure to recognise the role of the government in driving innovation may well be the greatest threat to rising prosperity.

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It’s a Myth That Entrepreneurs Drive New Technology

For real innovation, thank the state.

By Mariana Mazzucato|Posted Sunday, Sept. 1, 2013, at 5:00 AM

Some of our hero worship of tech entrepreneurs like Facebook CEO Mark Zuckerberg would be better directed at the government.

Photo by Justin Sullivan/Getty Images

Images of tech entrepreneurs such as Mark Zuckerberg and Steve Jobs are continually thrown at us by politicians, economists, and the media. The message is that innovation is best left in the hands of these individuals and the wider private sector, and that the state—bureaucratic and sluggish—should keep out. A telling 2012 article in the Economistclaimed that, to be innovative, governments must "stick to the basics" such as spending on infrastructure, education, and skills, leaving the rest to the revolutionary garage tinkerers.

Yet it is ideology, not evidence, that fuels this image. A quick look at the pioneering technologies of the past century points to the state, not the private sector, as the most decisive player in the game.

Whether an innovation will be a success is uncertain, and it can take longer than traditional banks or venture capitalists are willing to wait. In countries such as the United States, China, Singapore, and Denmark, the state has provided the kind of patient and long-term finance new technologies need to get off the ground. Investments of this kind have often been driven by big missions, from putting a human on the moon to solving climate change. This has required not only funding basic research—the typical "public good" that most economists admit needs state help—but applied research and seed funding too.

Apple is a perfect example. In its early stages, the company received government cash support via a $500,000 small-business investment company grant. And every technology that makes the iPhone a smartphone owes its vision and funding to the state: the Internet, GPS, touch-screen displays, and even the voice-activated smartphone assistant Siri all received state cash. The U.S. Defense Advanced Research Projects Agencybankrolled the Internet, and the CIA and the military funded GPS. So, although the United States is sold to us as the model example of progress through private enterprise, innovation there has benefited from a very interventionist state.

The examples don't just come from the military arena, either. The U.S. National Institutes of Health spends about $30 billion every year on pharmaceutical and biotechnology research and is responsible for 75 percent of the most innovative new drugs annually. Even the algorithm behind Google benefited from U.S. National Science Foundationfunding.

Across the world we see state investment banks financing innovation. Green energy is a great example. From Germany's KfW state bank to the Chinese and Brazilian development banks, state-run finance is playing an increasing role in the development of the next big thing: green tech.

In this era of obsession with reducing public debt—and the size of the state more generally—it is vital to dispel the myth that the public sector will be less innovative than the private sector. Otherwise, the state's ability to continue to play its enterprising role will be weakened. Stories about how progress is led by entrepreneurs and venture capitalists have aided lobbyists for the U.S. venture capital industry in negotiating lower capital gains and corporate income taxes—hurting the ability of the state to refill its innovation fund.

The fact that companies like Apple and Google pay hardly any tax—relative to their massive profits—is all the more problematic, given the significant contributions they have had from the government. Thus, the "real" economy (made up of goods and services) has experienced a shift similar to that of the "financial" economy: The risk has been increasingly moved to the public sector while the private sector keeps the rewards. Indeed, one of the most perverse trends in recent years is that while the state has increased its funding of R&D and innovation, the private sector is apparently de-committing itself. In the name of "open innovation," big pharma is closing down its R&D labs, relying more on small biotech companies and public funds to do the hard stuff. Is this a symbiotic public-private partnership or a parasitic one?

It is time for the state to get something back for its investments. How? First, this requires an admission that the state does more than just fix market failures—the usual way economists justify state spending. The state has shaped and created markets and, in doing so, taken on great risks. Second, we must ask where the reward is for such risk-taking and admit that it is no longer coming from the tax systems. Third, we must think creatively about how that reward can come back.

There are many ways for this to happen. The repayment of some loans for students depends on income, so why not do this for companies? When Google's future owners received a grant from the NSF, the contract should have said: If and when the beneficiaries of the grant make $X billion, a contribution will be made back to the NSF.

Other ways include giving the state bank or agency that invested a stake in the company. A good example is Finland, where the government-backed innovation fund SITRA retained equity when it invested in Nokia. There is also the possibility of keeping a share of the intellectual property rights, which are almost totally given away in the current system.

Recognizing the state as a lead risk-taker, and enabling it to reap a reward, will not only make the innovation system stronger, it will also spread the profits of growth more fairly. This will ensure that education, health, and transportation can benefit from state investments in innovation, instead of just the small number of people who see themselves as wealth creators, while relying increasingly on the courageous, entrepreneurial state.

The chimera of Dalit capitalism

NISSIM MANNATHUKKAREN

The HinduVENTURING OUT: It is shocking that Dalit liberation seeks to join hands with capitalism at a juncture when it is at its carnivorous worst. The picture is of Milind Kamble, chairman, DICCI (centre) and others at an entrepreneurship meet in Hyderabad.

The recent launch of the first Dalit venture fund occasions an examination of the moral and ethical emptiness of capitalism

History shows that where ethics and economics come in conflict, victory is always with economics

                                                                                                                                                 B.R. Ambedkar

If only Milind Kamble, founder of the Dalit Indian Chamber of Commerce and Industry (DICCI) and Chandra Bhan Prasad, Dalit thinker, columnist and DICCI mentor, had imbibed the wisdom of Manning Marable’s How Capitalism Underdeveloped Black America, a classic work in African-American studies, they would not have been such virtuoso performers of the ballad of Dalit capitalism (which claims Black capitalism among its inspirations). And this ballad is increasingly getting mainstream attention as evidenced by the interview of the duo in a famous talk show after the recent launch of the first Dalit venture capital fund.

The fundamental argument made by them is that it is time for Dalits to change their image of being perpetual victims (always in need of state support through reservations and doles) to that of being in charge of their own destiny — to put it pithily, “Dalits are not only takers, they are givers.” And what better way to achieve this than Dalits becoming capitalists themselves, and welcoming with open arms, economic reforms and globalisation: “we see that there is an economic process, that capitalism is changing caste much faster than any human being. Therefore, in capitalism versus caste, there is a battle going on and Dalits should look at capitalism as a crusader against caste.”

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IN THE U.S.

It is, of course, understandable that an oppressed people would look to any and every avenue that would help overthrow the shackles of oppression. In that sense, the limited use of the market in dissolving some of the millennia-old feudal and caste hierarchies has to be acknowledged. But to move from that to romanticising the relationship between capitalism and caste is completely different, especially when it is done in an anodyne and vacuous manner as Prasad does: “along with globalisation came Adam Smith to challenge Manu. So that’s why for the first time, money has become bigger than caste... bigger than Marx, bigger than everybody because in this marketplace, only your ability is respected.” And “Montek [Singh Ahluwalia] is a friend of Adam Smith and Adam Smith is an enemy of Manu, so therefore, Montek is our friend.

If indeed the market is a level playing field, one wonders why is it that after centuries of glorious capitalist growth and decades of Black capitalism in the headquarters of world capitalism, African-Americans languish at the bottom of socio-economic indicators. In 2011, the poverty rate among blacks was 28.1 per cent, almost three times the rate for non-Hispanic whites. In the prison capital of the world, African-Americans are incarcerated at almost six times the rate of non-Hispanic whites, thus constituting almost a million out of a total prison population of 2.3 million! So much for a market place that respects one’s ability. If capitalism is so democratic and benign, why is it that its biggest crisis since the Great Depression — the financial crisis in 2008 — had a particularly devastating effect on the African-American population?

The Pew Research Center analysis shows that the median wealth of white households was a staggering 20 times that of black households in 2009. This was the largest gap in 25 years and almost twice the ratio before the crisis.

Despite the optimism that people like Prasad and Kamble exude about Dalits becoming equal participants in a democratic capitalism, there are other Dalit and non-Dalit scholars who have demonstrated the immense barriers for Dalit entrepreneurs within the so-called capitalist market, and the ugly casteism that marks corporate India.

But my concern is not about the inability of Dalits to become capitalists within a structure marked by gargantuan economic and social inequalities, but about the moral and ethical emptiness of capitalism as a liberatory mechanism for an oppressed people. When Chandra Bhan Prasad speaks in glowing terms about the four Mercedes Benz cars that Rajesh Saraiya, the richest Dalit businessman, worth about $400 million and based in Ukraine, owns, he does not ponder about the gross inequalities that characterise the global capitalist system which bestows such bounties on a minuscule number at the expense of the vast majority who inevitably pay the price.

THE FLAW

The fundamental flaw in the argument for Dalit capitalism is that it merely seeks to find an equal space for Dalits within what is inherently an exploitative system: thus the hitherto exploited sections of the people will now play the role of exploiters. In sum, Dalit capitalism, while it seeks to dismantle age-old hierarchies and discriminations, is hardly bothered about the new oppressions perpetrated by capitalism.

What is particularly shocking is that Dalit liberation seeks to join hands with capitalism at a juncture when it is at its carnivorous worst. The Golden Age of capitalism and industrialisation has given way to “casino capitalism,” driven by financial speculation and what Marx calls as “fictitious capital.” The greatest example of this is the crisis of 2008. In a desperate bid to sustain its profit margins, capitalism resorts to, in the words of distinguished professor of anthropology and geography David Harvey’s words, “accumulation by dispossession” — privatisation of public property, forcible expulsion of peasant and indigenous populations from their lands, unbridled exploitation of natural resources and so on.

Rather than grapple with the question of a comprehensive transformation of political, economic and cultural relations towards equality in society, Dalit capitalism ingratiates itself with the present exploitative order. There are no radical questions asked, like that of reparations for slavery in America (theHarper’s Magazine estimated the value of reparations to be over $100 trillion for forced labour from 1619 to 1865). Instead, Dalit capitalism becomes the new darling of mainstream media simply because it refuses to question the commonsense of market as the saviour. As a prominent columnist gushed about the Dalit venture capital fund: “This is a vision of shared equality among castes, not of trickle down. It is a vision of Dalit entrepreneurs taking their place at the top of the pyramid and offering to share their profits with investors from all castes that historically dominated them.”

Ultimately, what is most disturbing is that Dalit capitalism is mainly inspired by the “economic thought of Dr. Babasaheb Ambedkar”! The great man would definitely turn in his grave when he sees his followers seeking the liberation of his people through capitalism when global multinational capital is pillaging the Aymara people of Latin America for oil and minerals, and the Ethiopian peasants for land. In an interlinked world, the former’s destiny is irrevocably tied to the latter.