The “Next Big Thing” for Global Business

Thursday, December 7, 2006

Businesses are not philanthropies. So doing business at the so-called “bottom of the pyramid” (BOP) requires new strategies and tactics that are generally not familiar to traditional businessmen. There is a real market at the BOP, and that market could evolve more quickly with the help of the business community. But to capture the interest of multinational corporations, they must see clearly how they can profit from this opportunity.

The first step is being convinced that the market is real, since this capital is essentially invisible. It is the cold, dark matter of global finance. But the informal economies of many countries have been mapped by a number of researchers, and the pattern is consistent throughout all poor countries in every part of the Third World. The force driving the social and economic transformation of these countries in the second half of the 20th Century was urbanization, just as it was in 19th Century in North Atlantic countries. And this trend will continue, even accelerate, for the foreseeable future.

The process is familiar; the rural poor – mainly subsistence farmers or their children – migrate to cities in search of work. But the focus on jobs and employment is misleading. Unlike Mexicans migrating North for jobs, these people, mainly, become entrepreneurs not employees. Some fellow on the sidewalk with his blanket spread out and covered with pieces of fruit is an entrepreneur, not an employee. Even nominal “employees” in informal businesses put their time at risk because they are paid from profits and so are more like partners than employees.

And the system works. There are four to five billion poor, and growing. Look closely. That fruit seller is a successful entrepreneur. He was there yesterday and will be there tomorrow and almost certainly has a house and family.

Another surprise is that these poor entrepreneurs save, although their savings are relatively small and, once made, they become all but illiquid. Moreover, without viable alternatives to savings, this pool of frozen savings is constantly growing, which fuels a process that continuously moves their capital from live to dead, or liquid to illiquid. In so doing it also freezes a large part of national savings.

The economic problem is that frozen savings can’t be leveraged or spent without great difficulty and, thus, prohibitive cost. Since any excess earnings must nearly always be invested in shelter, urbanization ends up being a form of forced savings; it’s a process of freezing, not a freeing the wealth of the nation. Individually, the size of these invested savings is small, but in aggregate it is huge, correlating with the growth of enormous, third world mega-cities.

The process is almost the same everywhere. It begins when a squatter takes land and starts making a shelter. Any money spent on creating shelter or starting a business becomes frozen in the structure since it is invisible to the law. Every time the squatter expands or improves his home, or invests in his business these illiquid savings continue to grow.

A billion or so poor families and hundreds of millions of informal businesses yield trillions in this “dead capital” (Adam Smith’s term). Six years ago, one well-respected researcher published an estimate that this dead capital was worth nearly ten trillion dollars globally. By comparison, the total loss of market capitalization in the 2001 “tech bubble” crash was just over four trillion dollars.

Viable markets in poor countries would provide continuous opportunities for growth and commerce that were not based on speculation but on making and selling real things to buyers with cash. But the cash of these buyers at the BOP is frozen solid so entering this new market is not simply a matter of waiting for the aid agencies to help countries formalize their markets, and then opening up your widget store in the capital city.

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Source: TCS Daily (link opens in a new window)