USA Election

While it is not a hot-button issue like the war in Iraq or energy prices, John McCain and Barack Obama have clear differences on global trade that may transcend economics to reflect the candidates' attitudes about foreign relations more broadly, Wharton faculty say.

The candidates generally fall along predictable party lines when it comes to trade. Republican John McCain is a champion of free trade and would support additional multilateral trade pacts. Democrat Barack Obama is more cautious, urging a reexamination of trade agreements and their impact on the environment and U.S. workers.

According to Wharton legal studies professorPhilip Nichols, Obama's threats to withdraw from the North American Free Trade Agreement (NAFTA) with Mexico and Canada could pose serious problems for U.S. relations with its closest allies. McCain, on the other hand, is a vigorous supporter of free trade who has also argued that trade pacts with the Middle East would be a tool for lasting peace. "On the surface, it looks like McCain is the obvious pro-trade candidate and Obama is the obvious anti-globalization candidate," he says.

The presidential debate over free trade in the current global context is not that simple, he argues. Indeed, the world has entered a post Cold War era in which complex relations between large, new players -- such as the European Union, East Asia and emerging economies including Brazil, India and China -- are replacing alliances forged in the old world order that pit the U.S. and its supporters against the Soviet Union and its allies.

McCain and his advisors come from this Cold War way of thinking and might not be open to new global structures that would in any way diminish U.S. clout, Nichols suggests. "Obama and his advisors -- even though they're not really that smart on trade -- come from a new era and a new way of thinking. This is important because the U.S. is now possibly one of the least respected nations in the world. We've done our best to offend just about anybody who wants to be our friend and a lot of McCain's advisors were involved in that. There's no clear indication that McCain is interested in deviating from the policies of the last eight years."

Obama, he says, "for better or worse" is respected around the world and could build on that goodwill to create new economic and geopolitical alignments that suit the new world order and would result in sustainable economic and security gains. "He's an inspiring guy to people around the world and he could move us away from Cold War thinking. Obama might represent a way of getting us into new ways of thinking about trade."

Nonetheless, Nichols is critical of Obama's threats to reopen NAFTA, although he says the Illinois Senator may only have been "posturing" during the primary. "He's been fairly consistent even as a Senator in criticizing NAFTA in particular," Nichols says of Obama. "NAFTA is flawed. It should be an even broader agreement, but threatening to withdraw from NAFTA is nonsense. We've got to rebuild relations with our closest neighbors, not bludgeon them."

In his time in the Senate, McCain has consistently supported free trade agreements, including NAFTA, which was a centerpiece of Democrat Bill Clinton's presidency. Meanwhile, Obama voted against the Dominican Republic-Central American Free Trade Agreement, but did support a free trade agreement with Oman, and has voiced opposition to pending deals with Korea and Colombia. Both candidates have said they would overhaul U.S. job training and assistance to help workers who lose jobs due to foreign trade.

NAFTA and EU: Different Approaches

Wharton adjunct Gerald McDermott, who is a professor of international business at the University of South Carolina's Moore School of Business, also points to the broader impact of trade on international relations as a key factor in the debate. McDermott has conducted research on the development of political, economic and social institutions connected to NAFTA and to trade agreements required for countries to gain entrance to the European Union. His work shows that the European system has been more successful than NAFTA in using trade to foster stable, continued economic growth among member nations because it requires the development of new institutions that touch on 31 areas of policy -- including environmental protection, capital markets regulation and food safety.

"NAFTA is stagnating tremendously because there is no movement on institutional development as a whole and institutional integration of the countries involved," says McDermott. "That is a serious problem. The U.S. sees trade as separate from internal aspects of our political economy and trade as very separate from politics or geopolitics."

The European Union requires new member countries to start building the institutional foundations to sustain economic development before it allows them into its trading sphere. "The EU project is largely a political project and a benefit of that is economic expansion," notes McDermott. "When it comes to NAFTA, there is nothing about capacity building. There's very little about institutional integration or coordination."

McDermott says there is little evidence that McCain is thinking about trade in these broader terms, while the Obama campaign -- with its concerns about environmental and labor standards -- indicates an openness to connect political systems to trade. However, whether that is just to score political points in hard-hit manufacturing states or to legitimately support strong economic institutions in developing trade partners remains to be seen.

"There are signs from Obama's camp that they are definitely more aware of the geopolitical issues of trade, and there are some very serious people linked to the campaign thinking about becoming proactive and taking the initiative in Latin America and Southeast Asia," says McDermott. "There's no indication that the McCain camp sees it in an integrated way. They see a thing called 'trade' and they like it. Then there's another thing called 'security' and that's the priority."

According to McDermott, one reason worldwide markets are in decline is that for the past eight years, the United States has stepped back from taking a leadership role in global economic integration. As a result, multinationals, investment banks and financial traders have been plagued with uncertainty. "That creates a great deal of pessimism as well as volatility. The world isn't waiting for us to play the role of lender of last resort, but it expects the U.S. -- as the largest economy -- to take a leading role in the way markets are evolving. With NAFTA and at the World Trade Organization, there hasn't been any leadership because in this last administration international affairs were framed strictly in a military sense."

After decades of trade liberalization following the end of World War II, this year's presidential election comes at a time of uncertainly in global trade regimes due to the collapse in July of the Doha round of the World Trade Organization. Proposed U.S. agreements with Korea and Colombia have also faltered in Congress.

Wharton business and public policy professor Howard Pack suggests that the Doha round broke down over disagreements about agricultural trade, although deeper issues related to the desire of China, Brazil and India to assert their rising economic status also played a part.

The dispute centered on agricultural policy, which is a greater concern for Europe than the United States, according to Pack. The U.S. was not willing to turn its back on its staunch North American Treaty Organization (NATO) allies in Europe to force them to open up agricultural markets to the degree Brazil and its allies wanted.

Pack says any effort to link trade to environmental or labor conditions is a new form of protectionism that is supported by organized labor. "From the point of view of union members in the United States, they want [trading partners to have] the same labor and environmental standards as the U.S.  ... but that would preclude basic international trade."

A Focus on Lost U.S. Jobs

While candidates often focus on job losses in the debate over free trade, Pack says liberalization typically benefits consumers and the overall economy through lower prices on imported goods. But the people who lose their jobs due to new competition from abroad feel the impact directly and are likely to translate that to politics. People who benefit through new import-related jobs or expanded purchasing power are less likely to make global trade a top priority when they step into the voting booth. The best outcome would be a continuation of free trade and policies -- such as generous retraining and relocation grants -- to help those who are dislocated, says Pack. "My sense is, as the campaign develops, trade will be a very minor issue on the economic side compared to energy and questions about the financial meltdown."

McCain has the same free trade agenda as Clinton and President George W. Bush, according to Pack, who says that ultimately Obama is likely to take the same positions. "This is a campaign; what they do in office may be much different. But I'm not absolutely positive."

For the duration of the campaign, neither side is likely to articulate a fully detailed trade agenda because trade is consistently a dangerous political minefield, says Wharton management professor Heather Berry. The details of global trade regimes are arcane, complicated and easily misunderstood by even astute voters, she says. Most candidates tend to skirt the topic as much as possible to avoid offending voters on either side of the issue given that their positions are difficult to communicate through media sound-bites.

"Trade is an interesting issue because neither party is either completely for it or against it. It's not easy to use it to your benefit and it can easily get you in trouble because it is always a complex [subject]," says Berry. "In an election year, people tend not to offer more specifics after the primary." She notes that during Obama's primary campaign against Sen. Hillary Clinton, the two Democrats would shift their emphasis on the subject depending on whether they were in a state sensitive to job losses, such as Ohio. That pattern, Berry suggests, may resurface in the general election campaign.

Empowering Voters

Regardless of the level of detail candidates lay out, voters can develop a framework for evaluating trade-related issues by looking to objective studies about the impact of trade, Berry says. A clear understanding of the problem is crucial to evaluate whether the candidates' proposed solutions are likely to have any impact. "If job loss is the issue, is it a result of NAFTA or is it a result of technological advances or slower economic growth?" Berry says. "What is the issue? And if you can't attribute it to trade, then it is just more rhetoric."

Voters should rely on careful analyses of the impact of trade, Berry adds, pointing to two studies, one by the Carnegie Endowment for International Peace and another by the Congressional Research Service, that concluded NAFTA did not have that great an impact on U.S. manufacturing workers.

Berry also notes that the next U.S. president will have less say over trade policy than recent predecessors because the president's fast-track authority to negotiate sweeping trade agreements has expired. Under fast-track, which was in place between 1975 and 1994 and again from 2002 to 2007, the administration could negotiate a pact with a trading partner and Congress was allowed only to approve or reject the deal as a whole. Now, trade agreements move through the standard legislative process and have tended to become bogged down.

Finally, Berry says, voters should consider the potential fall-out from altering trade agreements. While one participant may want to reopen an agreement, once the pact is under negotiation again, it becomes a two-way street and partners may demand changes that will damage the originally disgruntled nation's position. "Once you renegotiate anything, trading partners are also likely to have problems," she warns. "Opening it up can put into danger some of the gains that have been made."

Nano Technology

he slogans on signs in Singur -- the West Bengal site where Tata Motors plans to manufacture the Nano, its $2,500 small car -- say it all. Most are in Bengali, but the few in English capture the overriding sentiment. "Nano No No," reads one. "Atta not Tata," says another. Atta, which is flour made from whole wheat, refers to the core question of the dispute: Should fertile farmland be requisitioned for industrial purposes? Does food get priority or factories?

According to faculty at Wharton and the Indian School of Business, the impasse over the plant in West Bengal threatens to increase the Nano's production costs and could delay its entry into the domestic market. Moreover, they say, it will likely impact investment in the region, as outside companies shy away from antiquated land laws and political disruption.

As things stand today, work has been suspended at the Nano plant. Tata has closed shop because, as chairman Ratan Tata told journalists in Kolkata (formerly Calcutta): "I can't bring our managers and their families to West Bengal if they're going to be beaten, if there is going to be violence constantly, if their children are afraid to go to school."

Tata has faced trouble ever since it got the go-ahead for the plant on May 18, 2006. Just a week later, there were angry demonstrations by farmers objecting to the "forcible" acquisition of land for the project. The Trinamool Congress, a political party led by Mamata Banerjee, who has been spearheading the agitation against the Left-ruled West Bengal government and the plant, even staged a hunger strike.

Matters came to a head recently, with the Nano due to roll out in October this year. On August 24, the Trinamool Congress started an indefinite protest at the factory gates and stopped all access to vehicles. On September 3, Tata suspended work and said it was evaluating alternative sites outside West Bengal.

Since then, the Trinamool Congress has called off the protest on the basis of unspecified promises by the state government. Talks have been held between the two sides, though Tata Motors has been left out of the discussion. In a statement on September 8, the Tata Group said: "Tata Motors is distressed at the limited clarity on the outcome of the discussions between the West Bengal state government and the representatives of the agitators in Singur. In view of the same, Tata Motors is obliged to continue the suspension of construction and commissioning work at the Nano plant. We will review our stated position only if we are satisfied that the viability of the project is not being impinged, the integral nature of the mother plant and our ancillary units are being maintained, and all stakeholders are committed to develop a long-term congenial environment for smooth operations of the plant in Singur."

Jitendra Singh, a Wharton management professor who is currently dean of the Nanyang Business School in Singapore, characterizes the standoff in Singur as "essentially political blackmail." He says the issue is broader than how it will impact Tata's ability to deliver a $2,500 car. "While India has made a great deal of progress and the economy is doing well, the weak leg continues to be its political system," he says.

There may yet be a face-saving formula worked out and Tata could resume operations. But it is clear that trouble will strike again. The first Nano will roll out of some other existing Tata Motors location. The plant in Singur, even if it goes through, will play second fiddle.

Some are more optimistic. "I don't think that the Tatas will actually pull out unless the situation worsens a lot," says Rajesh Chakrabarti, assistant professor of finance, at the Hyderabad-based Indian School of Business (ISB). "I think they will find a solution."

Paying a Price

If Tata Motors does pull out of Singur, it could cause the project cost to increase and therefore impact the company's ability to produce a low-cost car. But other factors have also changed in the external environment, points outJohn Paul MacDuffie, Wharton management professor and co-director of its International Motor Vehicle Program. "A lot of things have happened to threaten the $2,500 price point," he says. "Commodity prices have been going through the roof, and there are other cost increases that are going to affect everybody. The real question is: What cost increases are idiosyncratic and distinctive only to Tata that might erode any kind of advantage they have?"

Singh agrees that the current crisis will eventually show up in the cost of the car. But he says he wouldn't be surprised if Tata pulls out. "Of course, it will cost them to do that, but better to do it now than to be open to blackmail in the future. There will be a one-time relocation cost, but I'm sure he will find another state willing to take the project."

MacDuffie believes the new costs brought on by the Singur standoff could compel Tata to take a second look at its competitive edge in the domestic Indian market. "There may be some Maruti products at the low end of the market that will continue to be very strong price competitors because they have such high volume and they have long-established facilities, which are probably all paid for in India," he says.

Maruti will be the one to contend with as Tata tries to rein in the Nano's costs. "Suzuki, Maruti's parent and the source of the design, is renowned in Japan for having extremely cheap designs and extremely cheap tooling, and they are very effective in running on the edge of what keeps things from breaking down in order to [have] a cost competitive position in the Japanese market," says MacDuffie. "That know-how will make Maruti a formidable competitor at the low end of the market."

MacDuffie suggests that Tata needs to focus on limiting the Singur damage to Nano's costs even as it fights competition on other fronts. "If they can keep these idiosyncratic cost increases from becoming too large and avoid too much delay, and also avoid too much publicity that tarnishes them in a reputational sense, they should be in a good position for the Nano to have a large impact first in India," he says.

Success in the domestic market is crucial to the Nano going global, says MacDuffie. "Being successful in other developing markets probably is dependent on a successful launch in India first for all sorts of reasons. [The Tatas] need the volume, they need the experience, they need the publicity of that success to come into other markets where they will face domestic champion competitors."

But the Singur problem seems to have no easy resolution. Tata has been given 997 acres of land, acquired by the state government under the Land Acquisition Act of 1894. (This was challenged, but the courts have ruled that the acquisition is legal.) Of this, some 645 acres is for the mother plant and another 290 for a vendor park which will host various ancillary units for the Nano. The remaining 60-odd acres are with some state government agencies.

The Trinamool Congress and its partners were, in the beginning, opposed to the entire acquisition. Today, it has no problems with the mother plant. But it wants the vendor park moved elsewhere and the land returned to the farmers. Tata, on the other hand, says that the economics of the project won't work if the ancillary units are moved out. The Rs. 100,000 Nano would end up with a heftier price tag.

"As part of the proposed integrated auto cluster in Singur, about 60 key auto ancillary suppliers to the Nano have taken possession of land in the integrated complex and have invested about $110 million towards construction of their plants and procurement of their equipment and machinery," says a Tata statement. "The project's auto ancillary partners, who had commenced work at their respective plants in Singur, were also constrained to suspend work in line with Tata Motors' decision."

Tata has also made significant investments. But Ratan Tata is prepared to write them off. "If anybody is under the impression that because we have made this large investment of about Rs. 15,000 million ($328 million), we will not move, then they are wrong," he told the Kolkata Press conference.

Political Baggage

Speaking to a Tata Group magazine last year, Ratan Tata elaborated on how the Singur problem evolved. "I think Singur has been an exceptionally unfortunate and unique situation," he said. "The problems there are mainly political -- between two political parties -- and we've been caught in the crossfire. The land acquisition was not our doing; the West Bengal government managed that. There was no problem when it was offered to us or when we accepted. Singur becoming an issue was an out-of-the-blue happening. The solution lies in sitting down with the state government and talking about compensation, retraining, reemployment and the rest, with Tata Motors being made a party to this activity. Instead, what we've got is a chorus of negatives, loose talk of returning the land, women and children blocking roads, and guns, bullets and firings."

The state government has offered to provide 400 fertile acres elsewhere in the state to the agitating farmers, but there are no takers. Banerjee, herself, believes she is on a winning horse politically and is not prepared to make any concessions. In 2007, she had witnessed the popular appeal of the land issue when trouble broke out over a proposal to set up a chemical hub over 14,000 acres in Nandigram, a rural area 70 km from state capital Kolkata. This was to be situated in a special economic zone (SEZ), a 50:50 joint venture between the state-owned West Bengal Industrial Development Corporation and the Salim Group of Indonesia.

It was once again Banerjee's Trinamool Congress that campaiged against land acquisition. The protesting villagers and farmers took over administration of the area, under the banner of the Bhumi Uchhed Pratirodh Committee (Committee against Land Evictions). On March 14, 2007, some 4,000 armed policemen were ordered to move in. At least 14 people died in clash. The site of the proposed chemical hub has since been moved from Nandigram. Meanwhile, in subsequent elections to the zilla parishad (a district-level governing body), the Left was badly beaten by the Trinamool -- the first time in 30-plus years that the Marxists have lost in the region.

"All players are trying to revise their understanding of the ground realities based on what they have witnessed in the past few weeks," says Chakrabarti of ISB. "It is a political-economy kind of problem." He adds, however, that part of it is also pure saber-rattling. "The companies are just taking a stance and putting pressure on the political players because they know that the politicians want their investments."

There have been no corporate casualties as yet, but there are some indicators of trouble. "We are yet to take any decision," says Infosys director of human resources T.V. Mohandas Pai. "We will have to relook and rethink because we are concerned about the safety of our employees." Infosys, the country's second-largest information technology company, has been planning to invest $110 million on a software development park near Kolkata. It has yet to receive the 80 acres promised by the state. The Times of India reports that another IT giant -- Satyam -- has decided to pull out of a special economic zone (SEZ) it was planning to set up in West Bengal.

"What impact this episode has on other corporate investments into West Bengal depends on what stage of finalization their plans are in. But it will certainly be a dampener on new players coming into the state, especially because the controversy has been [going on] for such a long time and has also gotten so much publicity," says Chakrabarti. "At the same time, one also needs to realize that not all investments require large amounts of land. Also, there are other players who have done their own land acquisition without getting the government involved. It is only when the industrial players try to cut a deal with the ruling government and the opposition manages to launch a strong enough protest that all hell breaks loose."

An Impact on Investments

India Inc. is worried about the impact on investment flows. According to a statement by Reliance Industries chairman Mukesh Ambani: "A fear... is being created to slow down certain projects of national importance. The Nano project is a unique and innovative initiative which will establish India's position as a small car hub. Indian Industry must be encouraged to make such large investments in order to build the country's competitiveness as well as support job creation."

"The Nano car is a statement of the coming of age of Indian manufacturing, and places India's innovation skills high up on the world map," says Jamshyd Godrej, chairman and managing director of Godrej & Boyce and past president of the Confederation of Indian Industry (CII). "It is, therefore, very unfortunate that the entire project is facing a political situation which it does not warrant." Nano's moving out would be a setback for not just West Bengal but also the entire country, says Godrej. Adds CII chief mentor Tarun Das: "The adverse impact is not restricted to Singur or West Bengal but will resonate in India's global image."

"Any delay will jeopardize the general investment climate in the country by undermining the confidence of foreign investors in the present difficult times, when a severe recession is threatening the global economy," says Indian Merchants Chamber president M.N. Chaini.

Even Union Commerce and Industry Minister Kamal Nath is concerned about the impact on investor confidence, particularly in West Bengal. "We have to attract investments," he says. "Incidents and such events obviously shake the confidence of the investor, especially in the particular state in which it is." India hopes to get $40 billion in foreign direct investment (FDI) this year; in the January-June period, the actual FDI inflow was $20 billion.

Will the Nano effect impact this? "While the Singur issue has made headlines the world over, I don't think this will be a very major issue at an international level," says Chakrabarti. "Many other states have invited the Tatas to set up the Nano plant."

Multiplier Effect

Will the Nano's problems hurt the Indian automobile industry and its ability to fuel economic growth elsewhere as in the U.S. or other developed economies? MacDuffie feels that while the two situations are not strictly comparable, there could be lessons for India in the area of infrastructure investments. "A lot of what made that multiplier effect possible in the U.S. post-war economy was the decision by the federal government and the willingness to use some of the riches of those post-war years to invest very heavily in infrastructure. That allowed the car to have a transformative impact on a lot of the economy, on where people lived and on how they spent their leisure time and the like," he says.

MacDuffie points to the construction of the U.S. interstate highway system as one of the most visible manifestations, adding that many other public investments increased the economic feasibility of dispersed growth into the suburbs possible. "There were deliberate choices to invest in infrastructure for the automobile rather than for mass transit and railroads and such -- of course with the auto companies trying to influence that. If the government of India really wanted to gain that kind of multiplier effect they would need to be willing to make similar investments in infrastructure."

Even as the controversy was at its height, non-resident Indian (NRI) and steel baron L.N. Mittal was holding a meeting of the company's top managers in Delhi. "One can face this kind of problem in any other country," said Mittal of Singur. "But the country as a whole is interested in growing. [Singur] does not give us nightmares. And we will not revisit our plan in India because of the Singur episode."

Mittal admitted, however, that his projects were facing some roadblocks. He plans to set up two integrated steels plants in the states of Orissa and Jharkhand. But land acquisition, mining permissions and other approvals have kept the projects on the drawing board. The cost of the plants, announced in 2005 and 2006, has ballooned from $20 billion to $30 billion. "The more the delays, the more the cost overruns," says Mittal.

Another NRI, Vedanta Resources chief Anil Agarwal, has also expressed his confidence in India. He has just announced a $9.8 billion global investment plan; of this, $7.6 billion is earmarked for India.

Antiquated Land Laws

But even as the world keeps knocking at India's doors unfazed by Singur, there is a larger question that the controversy has given rise to: the whole issue of land acquisition. "We certainly need to revisit the land acquisition law," says Chakrabarti. "It is very antiquated particularly because it does not take into account major projects that change the value of land dramatically. The current law still works fine if one wants to build a road or railway that needs just a small stretch of land, but it does not fit the current situation of acquiring land for industrial purposes."

The law dates back to 1894; although there have been amendments, they have clearly been inadequate. Companies and governments have taken their own route, depending on circumstances.

The Jindal Group, for instance, is setting up a steel plant in Salboni in West Bengal. It has paid compensation up front. It has also offered free shares in the new company to all the people dispossessed of their land. Sajjan Jindal, vice-chairman and managing director of JSW Steel, says that had he been in Ratan Tata's shoes, he would have offered the recalcitrant farmers double their holdings nearby. But Jindal had it relatively easy. At Salboni, some 90% of the 4,800 acres required was already with the state government. It was possible to be more than generous with the other owners.

Yet, despite their very high standards and ethics, the Tatas seem to have been embroiled in more than their fair share of land acquisition rows. Among projects in suspended animation or abandoned are a $550 million titanium project in Tuticorin in Tamil Nadu, several projects in Orissa steered by Tata Steel, and a port in the same state in partnership with engineering giant Larsen & Toubro. At Kalina Nagar in Orissa, where a $3.4 billion steel plant has been planned, there were violent clashes between the police and tribals. Some 14 tribals were killed in police firing in January 2006. (Incidentally, in July of this year, the Tatas also pulled out of four major projects in Bangladesh, which borders West Bengal. The $4 billion plan had made no progress since proposed in 2004.) For the Tata Group, the sun is setting in the east.

MacDuffie recalls another such crisis in Brazil in the mid-1990s, when the rules of the game suddenly changed for the automobile industry. Encouraged by strong economic growth at the time, the Brazilian government offered favorable tax treatment to small cars with engines below a certain size. "Suddenly, that part of the market just took off," he says. "All of these multinational companies came flooding in to build capacity in Brazil."

According to MacDuffie, a wave of optimism ran across the global automobile industry that Brazil would go on to offer generous government subsidies to open new plants. The unions too were willing to be "somewhat flexible in allowing innovative work arrangements," he recalls. "Suddenly there were multinationals that were trying out innovative production concepts in Brazil that they hadn't ever tried in their home countries. Volkswagen opened what they called a modular factory and General Motors followed suit with something similar."

All that enthusiasm was short-lived, and the Brazilian government withdrew those incentives. Havoc followed. "In a very short period of time, lots of companies had all these unused capacities," says MacDuffie, adding that the momentum was such that the investments kept pouring in even after the favorable market conditions shifted. "They just couldn't shift gears quickly enough to withdraw and the consequences were paid later."

Among the casualties in Brazil was a joint venture Chrysler and BMW had formed to build an engine plant, MacDuffie notes. "That got started late, and it just absolutely never got off the ground and eventually it was closed and all the equipment was sold to a Chinese firm."

In India, other business houses are also facing unexpected changes in the playing field after making initial investments in projects. South Korean Pohang Steel's $10 billion steel plant at Jagatsinghpur has run aground over acquisition of forestland. Goa has scrapped all the SEZs -- 15 had been planned -- after agitators against the takeover of farm and forest land threatened to target tourists, the lifeblood of the state. The same scene is being played out in many parts of the country. In early September, villagers in Potka (Jharkhand) humiliated and publicly paraded surveyors of Bhushan Steel & Power. The company wants 3,400 acres for a proposed steel and thermal power project.

"The crisis faced by the Nano project will certainly lead to major problems with other mega projects, like the $2.7 billion Nandagudi SEZ in Karnataka, the $6.6 billion Raigad SEZ in Maharashtra, the $2.6 billion Dadri (power project being implemented by Anil Ambani's Reliance Energy) in Uttar Pradesh, the $8.7 billion Gurgaon-Jhajjar (gas pipeline project) in Haryana, and the $8.8 billion (Arcelor-Mittal) Keonjhar project in Orissa. India at this stage can ill-afford such a loss," says Chaini of IMC.

There are no easy answers. In Maharashtra, at the Reliance SEZ project in Raigad district, a referendum is being conducted in 22 villages. Farmers will be voting on whether to give up their land. Reliance wants 25,000 acres for this mammoth project. The polling is a state government initiative; as with the Tatas at Singur, Reliance has been kept out of the loop.

Reliance has been negotiating with the farmers on its own, unlike at Singur where the state government is doing the job. As with Singur, one of the issues is compensation. Reliance is offering Rs. 1 million ($21,900) per acre; the farmers say the land is worth four times as much.

In Singur, farmers were paid $18,600 per acre of single-crop land and $26,250 for double-crop land. That was a premium, to-the-market rate. But, with the Nano plant making progress, the rate shot up to $87,500 per acre. The farmers feel they have been taken for a ride. Every project that involves land acquisition will, going forward, most likely face resistance; farmers will hold out for a better deal. In Singur, only 1,200 farmers out of 12,500 with less than 300 acres have not accepted the compensation.

According to Jindal of JSW, this is the reason dispossessed farmers should be made shareholders in the project. Tata has offered jobs and training, but that is clearly not enough. The Singur controversy continues, and agitation is likely to resume.

The Economic Times, meanwhile, contends that even the Leftists now feel that they are better off without the Nano. If they give in to Banerjee's demands, they will -- as in Nandigram -- lose seats to the Trinamool Congress in the coming general elections. On the other hand, if they sacrifice the Nano, they can blame the party for any setback to the state's industrialization efforts. Whatever the rhetoric might be, new jobs will only come from factories, not farms.

"Whether Tata stays or goes, both will be favorable for us politically," says West Bengal transportation minister Subhas Chakraborty. "If Tata stays, we take the credit and if they pull out, we will blame the Trinamool."

Whether You Agree with Globality or Disagree, Don't Ignore It

f business is supposed to slacken during the sweltering days of August, that message has failed to reach Embraer, the aircraft maker based in Sao Jose dos Campos, Brazil. Earlier this month the company -- it is the world's fourth largest plane manufacturer -- said it had doubled its net income in the second quarter to $134 million and delivered 52 aircraft, compared with 36 during the same period last year. At a time when airlines all over the world are reeling from the double whammy of high oil prices and a faltering economy, Embraer expects to deliver an impressive 200 aircraft. Its backlog of orders stands at a robust $20.7 billion.

Embraer's growth during difficult economic times offers an example of the way that companies from emerging markets are reshaping global business, argue Harold L. Sirkin, James W. Hemerling and Arindam K. Bhattacharya in their new book, Globality: Competing With Everyone From Everywhere for Everything. The authors, who are consultants with the Boston Consulting Group, say that globalization has entered a new phase. The old model of globalization was about multinationals from Europe, the U.S. and Japan expanding into the developing countries, attracted primarily by low raw material and labor costs. In the new phase -- which the authors term "globality" -- firms from rapidly developing economies such as Brazil, India, China, and Russia are stepping out to challenge the incumbent multinational giants, often on their own turf. It is "a different kind of environment, in which business flows in every direction. Companies have no centers. The idea of foreignness is foreign," the authors write.

Consider Embraer as a case in point. During the late 1980s, the company, which the Brazilian government launched in 1969, nearly went bankrupt. It faced intense competition, and demand for its aircraft was low. Though the government pumped in cash, Brazil itself was in poor economic shape -- which meant future bailouts were unlikely. In 1994, Embraer was privatized, with investors putting in $161 million. A year later, Mauricio Botelho took over as the CEO. He focused Embraer on making small jets -- planes with less than 120 seats -- used primarily for regional flights. In this segment, demand was much higher than supply, and Embraer took off. The company then introduced a new design -- called the "double bubble" -- which gave the passengers more room without sacrificing fuel efficiency. Embraer also converted larger regional jets into upscale executive models -- named Phenom and Lineage -- whose sales were less vulnerable to swings in fuel prices. Following this strategy allowed Embraer to soar past its rivals. Today it is a giant with $4 billion in annual revenues and 24,000 employees, a serious rival to firms such as Canada's Bombardier.

Challenger 100

Sirkin and his co-authors call companies like Embraer "challengers," and they identify 100 of them. Among them are 66 based in Asia -- 41 in China, 20 in India -- 13 in Brazil, seven in Mexico and six in Russia. Total revenues for the 100 challenger companies were $1.2 trillion in 2006. This might seem to be a relatively small sum -- after all, the combined revenues of Wal-Mart, Exxon Mobil and General Motors were $900 billion in 2006 -- but it is rapidly becoming larger, year after year. The challengers' revenues grew at 30% a year between 2004 and 2006, or at three times the pace of companies in the S&P 500 and Fortune 500.

The challenger companies are also highly profitable: Their operating profits were 17% in 2006, compared with 14% for the S&P 500 companies. "They're fast growing, hungry, and have access to all the world's markets and resources," the authors write. "They're showing up everywhere -- in each other's markets throughout the world, in markets that are less developed than their own and, increasingly, in the developed markets of Japan, western Europe and the United States."

The book's central thesis is that in the age of globality, these challengers will compete with every other company for everything. "And by everything, we mean just that -- all the world's resources. Everybody will be trying to grab the same things that everybody else wants, especially the most precious and limited ones: raw materials, capital, knowledge, capabilities, and most important, people: leaders, managers, workers, partners, collaborators, suppliers. And, of course, customers."

Without a doubt, the most fascinating parts of this book consist of the stories the authors have collected about these scrappy, hungry firms -- many based on conversations with their founders. For example, the authors write about the Tata Group of India, which was historically well known within the country but little known to outsiders. It burst upon the global scene when its steel subsidiary, Tata Steel, acquired the Anglo-Dutch Corus Steel for $13.1 billion in 2007. It was the largest international acquisition by an Indian company at that time.

Since then, Ratan Tata, the conglomerate's Cornell-educated chairman, has led the Tata Group to launch the Nano -- a car that costs $2,500 -- and also to acquire the Jaguar and Land Rover brands from a beleaguered Ford Motor Company. "Today, Tata Group has market capitalization in excess of $50 billion, and more than 50% of its $50 billion in annual sales comes from outside India."

Another example from India is that of Aravind Eye Care, the world's largest provider of cataract surgery. Founded in 1976 by Dr. Venkataswamy -- popularly known as Dr. V. -- the company performs 250,000 surgeries and treats 1.5 million outpatients a year. According to the authors, Aravind Eye Care treats 60% of its patients for free and still makes a profit. The reason it can do this is that Dr. V. has "transformed the cataract-surgery model to suit market conditions in the rapidly developing economies," the authors say. "Expensive medical equipment is scheduled for around-the-clock use to drive down the cost per surgical procedure. Doctors and staff are extraordinarily efficient and productive, carrying out more than 4,000 cataract surgeries a year, in comparison to an average of 400 performed by other surgeons in India." Sirkin and his co-authors point out that "altogether, Dr. V's ingenious adaptations of business processes and his reverse engineering of materials have positioned his company to provide cataract surgery operations at one-fifth of what patients typically pay in the U.S."

Yet another fascinating challenger is Goodbaby, which has become the biggest maker and seller of baby strollers in China. Founded by Song Zhenghuan, a former schoolteacher, the company makes some 700 innovative products each year -- or one every 12 hours. The company has been awarded more than 2,300 patents since 1990. The company's innovations include strollers that can be converted into car seats. "The group held an 80% share of the Chinese market from 1996 to 2006, and has had the top spot in the U.S. for five years running -- 2001 through 2006."

Ties that Bind

What binds together companies like Embraer, Aravind Eye Care and Goodbaby? According to Sirkin and his co-authors, it is a strand with three threads. The first is their country origins. Brazil, China and India historically have not been -- and are still not -- easy places to do business. A company that wants to survive, much less thrive, in those markets must overcome a constant series of obstacles. One of the biggest is having to deal with millions of demanding customers, most of whom don't have much money. Having come from such a business climate leads these companies to develop a kind of hardiness. It makes doing business relatively easy when they enter more business friendly and well developed markets.

The second factor driving the challengers' growth is global access. "Unlike challengers of previous waves, the companies of the rapidly developing economies had amazing access to the wealth of resources the world had to offer -- knowledge, intellectual property, services, talent, capital and so much more -- as well as to the markets from which they could buy and into which they could sell." The most critical resource, according to the authors, is knowledge. The founders and senior managers of several of these companies were educated in the U.S. In addition to formal education, the challengers have been able to tap into other sources of intellectual capital by working directly with for-profit and not-for-profit research labs, scientists and patent bodies, the authors write. "They have been able to contract with suppliers possessing specialist knowledge, license it from various types of owners or acquire companies with important intellectual assets."

The third factor that drives the challengers is "insatiable hunger" for "achievement, success, and world-wide recognition," according to Sirkin and his colleagues. "This hunger infused the culture, and people in the rapidly developing economies developed a remarkable business-mindedness -- an intense entrepreneurial spirit and a near obsession with work and commercial affairs -- that seems even more intense than that of the most business-minded of developed countries, the United States." The authors describe office workers in Shanghai who are so driven by the desire to increase their incomes that they work after hours as street vendors. "One woman, a clerk at a travel agency, sells lollipops in the evenings after dinner and makes an average of 500 yuan (about $65) a week." While the authors cite an example from China, this mindset will be instantly recognizable to anyone who has encountered it in any of the emerging economies.

If all this is true, what are the implications of "globality" for companies around the world, especially the incumbent giants in western Europe, Japan and the U.S.? Should they simply wait around until the challengers arrive to eat their lunch? Not at all, say Sirkin and his colleagues, who note that globality is both an opportunity and a threat. For those who deny the existence of the phenomenon -- despite daily headlines to the contrary -- it could well be the latter. For others, however, it represents a chance to bring about global transformation. The authors recommend several actions for companies that want to transform themselves to compete in the present environment: Evaluate your competitive position; shift your mind set; assess and align your people; recognize your full set of opportunities; define your future global shape; encourage ingenuity; and lead your transformation from the front.

If there is one seminal piece of advice the authors offer, it is to recognize and respond to the onward march of global challengers and not to ignore it. "Globality will affect everyone, everywhere, everything," they say. "And that means you. One day it may be your company that Tata Group wants to acquire, your child calling home from Shanghai, your job moving to Mexico City, and your brand new Changfeng [a Chinese car] gleaming in the driveway. It's just a matter of time."

The Power of Momentum: Companies That Build Their Wave and Ride It

How can a company deliver continuous, exceptional growth, year after year? J. C. Larreche, a professor of marketing at INSEAD, answers that question in his book, The Momentum Effect: How to Ignite Exceptional Growth. According to the author's research, momentum-powered firms delivered 80% more shareholder value than their slower rivals. "Momentum leaders are not lucky -- they are smart," he writes in the following excerpt. "They have discovered the source of momentum and, with it, the beginnings of a smarter way to exceptional growth. Managers often talk about 'riding the wave.' Momentum leaders aren't that passive. They live by this motto: First build your wave, then ride it."

Momentum. Most businesses get it at some point -- the impres­sion that everything they undertake succeeds effortlessly, as if they're being carried along by a tailwind that increases their efficiency and propels them on to exceptional growth.

Some hold on to it. Most don't. Slowly, imperceptibly, the tailwind turns around and the momentum disappears, without anyone quite realizing what has happened. The company is still growing, but not as strongly as before, not as efficiently. Everyone's maxing out, but it seems like there's molasses in the works. Sound familiar?

Sooner or later, it hits you in the face. Imagine you are meeting up with a senior analyst whose opinion counts with some of your company's biggest investors. You think you're on safe ground -- after all, your company is doing better than the competition. But the analyst is in full gimlet-eyed, illusion-killing mode. "That's nothing to crow about," she says. "Yeah, you've got reasonable growth, but it's nothing exceptional. You're a safe bet, nothing more. Okay, I might tell my mom to buy, but then she's happy with inflation plus one. The way we see it, you're really grinding it out. We reckon the strain's getting harder, too. There's no impetus -- no momentum."

Words like that can really take the gloss off a day. The next time you gather your team, you don't congratulate them on beating their targets -- you want more. Sure, our results are up, you say, but that's not enough -- where's the impetus? When are we going to do something exceptional? With all the resources at your disposal, when are you going to start building some momentum? The team members look at their papers. Then Paul, an anxious member of your team, looks up and says: "Okay. Got any ideas about how?" What are you going to say?

What's Holding Us Back?

This book sets out to answer one question: How can I find a way to deliver continuous, exceptional growth, year after year? By exceptional, we mean exceptional relative to expectations: growth that sets you apart. In some high-technology markets, this might mean 60%. In others, 6% might really stand out from the crowd if the market average is just 3 or 4. What we are talking about is growth that puts serious distance between you and your competitors. [We want to] show you how to get the traction you need to make sure that none of your effort is being wasted -- to make sure that it all goes toward delivering tangible results. It will help you break free from the grind.

After all, grind is what most businesses endure. Most firms that manage to deliver growth do it the hard way. Measures that improve profitability often hold back top-line growth, while measures that drive revenue growth require investments that can drag down profitability. As one foot starts to run, the other starts sinking in the mire. It's devilishly hard to get the balance right and break free: It seems that all you can do is keep pushing. Companies have to push sales forward with big marketing investments while at the same time harrying their employees to become more productive and nagging their suppliers and partners for better deals. Pushing is hard work -- it's exhausting and it churns through resources.

We thought: "There just has to be a better way than this." Some of our earlier work showed that firms with certain shared characteristics were delivering substantially better results than others. The performance of these firms suggested that, under certain conditions, there existed a phenomenon whereby growth could be achieved more efficiently. The disproportionately higher growth these firms delivered hinted at some hidden energy driving their growth -- an energy that seemed to feed on itself without the need for excessive resources. Their progress has been natural, highly efficient, and realized with almost frictionless ease. Because they were not held back by the sheer weight of resources others were employing, they were able to get some speed up. They had momen­tum. We went looking to find out exactly what this momentum was and how these momentum-powered firms acquired it.

The insight came when we realized that if momentum was powering a firm's success, then its relative marketing spend should be decreasing. Contrary to conventional "spend money to make money" wisdom, our hunch was that firms with momentum achieved superior growth while spending a relatively smaller percentage of their revenue on marketing than those pursuing the traditional "push hard" methods.

To test our hypothesis, we investigated the effect of marketing investments on the long-term growth of large, established firms. We looked at the conduct and performance of well-known corporations among the world's 1,000 largest, covering a 20-year period from 1985 to 2004. We looked at these firms' marketing behavior and tracked the effect that changes in this behavior had on sales revenue, net earnings, and stock price. The results were astounding.

Pushers, Plodders, and Pioneers

We divided the firms into three groups according to how their marketing behavior could be described: Pushers, Plodders, and Pioneers. Because we were interested in the effect of extremes in marketing behavior, our three groups were divided in a 25:50:25 split. For sim­plicity, let us illustrate the results of our research with an example from one sector, the largest: consumer goods and services.

The Pushers were those companies that pushed their businesses hard in the traditional way, seeking to drive sales through aggressive increases in relative marketing spend. In our rankings, these were the firms in the quartile showing the highest increases in their marketing-to-sales ratio over the 20-year period. This group, on average, increased its marketing-to-sales ratio by 3 percent over this time.

Then there were the Plodders. These were the firms grouped around the middle of our sample -- fully half of those in the study. Their marketing-to-sales ratio remained more or less constant for 20 years. These middling firms stayed in the safety zone of past behavior and took no drastic action one way or the other.

Finally, there was the remaining quarter -- those firms that were, either boldly or foolhardily, heading in the opposite direction from the Pushers, and decreasing their relative marketing spend. Taking these firms' average marketing-to-sales ratio, we see a 4% drop over the timeframe. This cut was made while competing against the Pushers who were plowing in a 3% rise. In other words, the Pioneers cut their relative marketing spend by seven points when compared to the competition.

Given the preeminence that marketing spend has among the tools most firms use to drive growth, this is a big, big call. Would these unconventional firms, which we dubbed the Pioneers, discover other avenues to growth, or fall behind as a result of their foolhardiness?

We expected these three strategic behaviors to have an impact on the firms' performance in creating shareholder value. What was not expected was the size of that impact.

When looking at the percentage change in shareholder value over the 20-year period of our three groups, as compared to the change in the Dow Jones Index, we immediately see that remaining in the safety zone of stable marketing spend is not a viable option: The Plodders underperformed the stock market by 28 percent, achieving only 72% of the Dow Jones Index average growth.

As most analysts would have predicted, the highest increases in advertising ratio did produce significantly more shareholder value than did the Plodders' relatively stable marketing spend. Pushers managed, on average, to create shareholder value exactly in line with the evolution of the Dow Jones Index, thus demonstrating the soundness of the conventional faith in the power of active marketing spend to contribute to increasing shareholder value.

What conventional analysis probably would not have predicted was the performance of the Pioneers. Despite having decreased their advertising-to-sales ratio, these momentum-powered companies created shareholder value 80% above the Dow Jones Index over the 20-year period. Eighty percent!

As the limitations of the Plodders' inertia are obvious, let's leave them aside. Understanding the difference between the Pushers and the Pioneers -- the "good" and the "great" in terms of growth in shareholder value -- was both more challenging and more rewarding.

The first clue to the difference in the strategic behavior of these two groups appears in the top-line growth of the Pioneers. Over the 20-year period, using the Pushers' performance as a reference, the Pioneers' revenue growth was 93% better -- almost twice as high. They achieved this massive revenue growth despite decreasing their advertising ratio. And remember: This is in comparison not to underperforming firms but to firms that actually matched the Dow Jones Index.

If we compare the profitability growth of these two groups, we can see that the Pioneers also did much better, with average earnings growth 58% superior to that of the Pushers. A 58% advantage in earnings growth is very impressive, but it is noticeably smaller than the difference in revenue growth. Despite the Pushers' much poorer performance on revenue growth, and the fact that they were increasing their spending on marketing, they managed to claw back some lost ground: Their relative gap on earnings growth is less severe than one would expect. How did they manage that?

They cut down on other costs, especially in manufacturing and R&D. These combined cuts and efficiency economies more than compensated for the increase in advertising-to-sales ratio, and enabled the Pushers to peg back some of the Pioneers' huge top-line advantage when it came to earnings growth. Despite this partial catch-up, there is little doubt about where one would like to invest or work when one compares these two types of companies. The stock market recognizes this: The share-price premium of Pioneers over Pushers -- 80% -- is significantly higher than the differential in their earnings growth.

The bottom line: Although the combination of pushing hard with marketing investments and slashing other costs can deliver growth, the Pioneers' achievements demonstrates that there is a more creative, exciting, and smarter alternative that delivers even better results.

Obviously, it is not as simple as cutting the advertising-to-sales ratio. A straight cut in advertising would almost certainly result in a drop in growth. In fact, our study shows that the momentum-powered Pioneers actually increased their total marketing expenditures in real terms. But while their marketing budgets were increasing, the proportion of their revenue that this expenditure represented was decreasing. In other words, because of the Pioneers' superior revenue growth, their advertising-to-sales ratio was coming down despite the fact that they were spending more.

In a world of increasing competition, marketing resources must also, inexorably, rise. But if they are to create sustainable, profitable growth, these expenditures must be invested in an effective manner. Compared to the Pushers, the Pioneers' increases in marketing investments were more effective: They got superior growth while reducing their marketing-to-sales ratio, thus improving profitability.

The question is: What was improving the efficiency of their marketing investments? This is not simply a case of great marketing, although marketing excellence is a key part of the mix. These firms achieved greater efficiency with their marketing because they found a different path to growth: They exploited the momentum effect. They created specific conditions that ignited an exceptional organic growth that feeds on itself: momentum growth.

We meet several firms that have managed to do this. They come from domains as disparate as banking and ball bearings, but the central fact that unites them is this: It is their brains, not their muscle or money, that create the force to power them from success to success. They are momentum-powered firms.

Momentum-Powered Firms

The results of this research might seem counterintuitive at first sight, but they are perfectly logical. Too often, companies invest more in marketing to compensate for something: an inferior product, a poor pipeline of new products, deterioration of growth prospects, or a general lack of creativity.

Firms with such a limited vision compensate for their less-than-spectacular offers by pushing them on an unconvinced market using heavy-handed marketing resources. Even more compensation is required when, to fund this expensive marketing, they are forced to cut costs on the very activities that could improve the attractiveness of their offer: operations and R&D. This kind of behavior eats up resources and destroys firms from the inside out. These businesses will never build momentum. They are momentum-deficient firms.

The Pioneers show there is an alternative. These momentum-powered firms don't have to push so hard because they have built up a momentum that improves their efficiency. Rather than just better-than-average growth, they deliver exceptional growth. Their growth is exceptional on two counts: It is both higher and more efficient.

The Power of Momentum in Action

Wal-Mart and Toyota are two apparently dissimilar firms. They operate in two different industries and come from different countries and cultures. But they are two of the world's 15 richest companies, and each is number one in its own industry. More importantly, both got there by creating the conditions needed for the momentum effect to emerge. Although one has lost its momentum, the other is still in full swing.

Wal-Mart:

Sam Walton launched his company with a focus on customers. What is remarkable is the way that this customer focus created exceptional growth and continued to power Wal-Mart for many years after it had become a major industry force. Whatever its current challenges -- and there are many -- for the better part of a generation Wal-Mart was a momentum-powered firm.

Sam Walton knew about retail, but his main asset was the fact that he knew about customers. His strength was this: He liked to listen to them and observe them, and he understood their needs. When he started out, he related deeply to a very specific kind of customer -- people like him, people from the United States' rural South.

Walton's customer orientation made him aware of the potential of this region's smaller towns. In 1962, when Wal-Mart was launched, the standard wisdom held that large retail operations could not survive in towns with fewer than 100,000 residents. But Walton decided that this was where opportunity lay, and he deliberately opened stores only in small towns where there was no large-scale competition.

Walton understood that these customers would value his offering, that they would appreciate being able to shop locally, rather than making long journeys to larger towns. He also realized that these shoppers were worth more than they seemed. Although their wallets weren't as full as those of people in large cities, Wal-Mart was able to command a higher share of their spending because there was no competition. The combination of cheaper premises, lower labor costs [and] no competition ... meant that Walton's customers were extremely profitable to service.

This winning combination gave Wal-Mart the traction it needed to start building momentum. As the firm mushroomed, it continued to improve all aspects of its operation, from customer service to supply chain and supplier relationships. Eventually, Wal-Mart was able to glean economies of scale in purchasing to achieve its mantra of "Every Day Low Price" (EDLP) and gain further momentum.

EDLP runs counter to traditional retail promotions that lure customers into stores, hoping that they'll also end up buying more expensive products. The famous expression to describe retail strategy in the days before Wal-Mart was "an island of losses in an ocean of profits." It was really an island of bait in an ocean of arrogance and customer abuse. It was akin to duck hunting -- attracting customers the same way hunters attracted wild ducks with decoys.

With EDLP, Wal-Mart turned the relationship with customers upside down. It moved from duck hunting to a vibrant partnership. Wal-Mart's competitors, to their discomfort, failed to understand that, although EDLP was jargon on the surface, it expressed a strong, hidden emotional value deeply appreciated by customers: trust. This customer trust powered the company's growth for decades.

Unfortunately, momentum doesn't look after itself. There is a perception that Wal-Mart slowly began to pay less attention to many of the key drivers of its success -- respect for employees, local communities, and suppliers -- and began to lose its momentum as a result. Momentum is dynamic: Unless it is constantly nurtured, it will ebb away. However, the reward for that unstinting attention can be immense -- it can make you number one in the world.

Toyota:

When asked in May 2007 about the prospect of Toyota becoming the world's number-one car manufacturer, company president Katsuaki Watanabe refused to take even a minute to gloat about beating his competitors. "Rather than think about other companies," he said, "I feel that we must do our utmost to satisfy customers around the world. There is plenty left for us to do." This simple statement, reflecting an unswerving customer focus, demonstrates why companies like Toyota are able to develop a detailed and subtly nuanced understanding of customers -- and why they are able to deliver better results.

It also shows that there is much more to Toyota's success than Kaizen and lean production. That is just the base: its excellence and efficiency at extracting value from its business. It is Toyota's ability to create new, original, and compelling value in the first place that drives its growth. Its secret is its ability to connect totally with customers' sense of self, to create products that are more than mere goods but complete, perfect, and compelling presentations of value. The Prius, for example, offers a package of utterly compelling value to environmentally aware city-dwellers: With its low carbon footprint, practicality for city driving, and celebrity association, it is more than just a car -- it is a statement. The Lexus offers a totally different package of value to a totally different market, but the package is just as compelling, if you are part of its target market.

Consider the contrasting histories of the U.S. auto industry and Toyota. American car manufacturers are among the best illustrations of the limitations of the Pusher's strategy. They have given everything a try in terms of efficiency drives, but although they are now leaner, they are no fitter. They sought to drive top-line growth through expensive advertising as well as sales promotions to generate volume, along with deep discounts to move inventories of finished goods. These expensive tactics were needed to compensate for the failure of their products to really connect with customers.

Toyota, on the other hand, has become the world's largest and most profitable car manufacturer, riding a fantastic wave of momentum. Its success is based on a number of factors, but underlying its achievement is a deep understanding of its customers. First, Toyota proved that it could consistently deliver reliable, impeccably engineered automobiles. Once this crucial plateau had been achieved, it went on to innovate its range with cars that were somehow more than mere vehicles. Models like the Prius and the Lexus range appeared in their showrooms. Both of these cars connect on an emotional level with their drivers' self-image and aspirations -- green and clean for the one, luxurious and status based for the other. This level of customer engagement did not happen by chance -- it was the result of a focused, iterative process that created the conditions under which the momentum effect, and the efficient momentum growth it delivers, could flourish.

Join the Momentum League

We have spent many years focusing on the difference between the majority of ordinary firms and those few that deliver truly exceptional results. Our research has shown that increases in marketing pressure can lead to significant profitable growth. The Pushers delivered good performance and matched the Dow Jones average over a 20-year period. But who wants average growth when there is a much better option? The Pioneers achieved revenue growth 93% greater than the Pushers. That is the sort of growth that gets companies noticed, that drives exceptional increases in value for all stakeholders.

How did they do it? By creating the conditions that are needed for the momentum effect to take place. Ask yourself the question prompted by that meeting with a financial analyst at the beginning: When are we going to start building some momentum? Momentum offers an easier, more efficient, and exceptional form of growth. But it requires the ambition to break free from the traditional reflex of using more resources to fuel it. The very things that seem to push you forward are holding you back. Momentum does not happen by chance. Nor can it simply be willed into existence. Achieving momentum requires an understanding of its source, and then the relentless application of a systematic process. It requires a momentum strategy.

Momentum leaders are not lucky -- they are smart. They have discovered the source of momentum and, with it, the beginnings of a smarter way to exceptional growth. Managers often talk about "riding the wave." Momentum leaders aren't that passive. They live by this motto: First build your wave, then ride it.

leadership:potential

Knowledge@Wharton: You started in business in 1976 at age 18, with $1,500 that you borrowed from your father. I believe your first business was making bicycle crankshafts. Could you tell us about your earliest entrepreneurial experiences and what you learned from them?

Mittal: I was raised in Ludhiana, a very industrious town, where almost everybody is an entrepreneur of some kind. It is the bedrock of small-scale industry, the principal industries being cycles or cycle parts, hosiery, or yarn to make knitwear, and light engineering items. Coming out of college with a small amount of capital, one could only do what was allowed in the ecosystem there. I decided to manufacture bicycle parts, in particular crankshafts. It was a hot forging unit that I put up, and that's where I cut my teeth on business.

Knowledge@Wharton: You moved to Bombay in 1980. At that time, your business plans were a little more ambitious. Could you tell us a little bit more about your business ventures at that time?

Mittal: I realized that one could probably make some modest success out of what I started to do in bicycle parts, but there was a limitation. At the end of the day, the manufacturers of bicycles decided how much -- at what price you could supply to them. And just making shafts wouldn't have made you a player of any size or scale.

So, it was very clear that I had to get out of Ludhiana into a much bigger place, Delhi or Mumbai -- Bombay at that time. And I spent about two, three years in Bombay importing a variety of products -- steel, brass, zinc, zip fasteners, plastics -- and eventually bought India's first portable generator. And that was the first turning point in my career.

Knowledge@Wharton: Was that the venture with Suzuki?

Mittal: Yes, that venture was with Suzuki. That's how I got in touch with the Japanese, spent two to three years with them, learning their techniques and practices. I internationalized my concepts, learned the art of diplomacy in international trade. I would say that was the period which gave me opportunities, on the one hand, to make some significantly higher amounts of money than I could have done in cycle trade. More importantly, it gave me independence and experience in marketing, brands, international trade. That held me in good stead later on.

Knowledge@Wharton: What were the main lessons you learned at that point in your career?

Mittal: I think, two or three things. I realized very early on that you need to tie up with some large entities -- much, much larger than yourself. From there on, we set up a string of partnerships, and they were all with very large companies, multi-billion dollar corporations: Suzuki, AT&T, Siemens, Lucky Gold Star (now LG). Suzuki Motor Company was there, of course. We also partnered with British Telecom and Telecom Italia.

So, that is the course I followed: Tie up with large companies. It's easy to say, but large companies intuitively don't ally with small companies or entrepreneurs. So, one had to persuade these large companies, assure them that they needed to be in the Indian market. We also had to convince them that we had a high governance structure despite being a small company, and give them the comfort to join hands with us to exploit and come into the Indian market together.

Knowledge@Wharton: How did you enter the phone business?

Mittal: That, I would say, was happenstance. In fact, you could call it an accident, because the government banned the import of generators. One fine day, there was no business. All the business that I had developed was gone. My beat was Japan, Korea, Taiwan. I went back into those areas looking for a new product. And one of the theories that I'd built around my entrepreneurship was to do things that have not been done before. Because if you are competing with the big boys in areas where they are strong, there's no chance for you to succeed. My quest to look for the next big breakthrough product -- which also didn't need too much capital -- was met in Taiwan at a trade fair when I saw push-button telephones. I brought India's first telephone set replacing the rotary phone.

That became a huge success, and my romance with telecom started thereafter. So, it went onto cordless phones, answering machines, fax machines, and then India's first mobile phone.

Knowledge@Wharton: India in those days was such a highly regulated market, and an especially challenging environment for somebody who wanted to be innovative. How did you navigate your way around those currents?

Mittal: Tough, but as an entrepreneur you get trained on everything. You understand import policy, you know how customs work, you know excise laws. You practically learn to do everything yourself. You hit roadblocks, you have difficulties. I had to open my own LLC, take my own consignment, taking the material on trucks myself to the market.

An entrepreneur gets a huge amount of experience. Then, you also know how to deal and move into the system. And the good news is that my excellence in the entrepreneurial area truly started happening alongside the breaking down of these barriers. The more the barriers dropped, the more we surged. So, 1992, in that sense, was the turning point, when the Narasimha Rao government along with now Prime Minister Manmohan Singh -- then finance minister -- decided to open up, [and] about 10 to 20 of us young entrepreneurs really moved in. Each one of us has created a fantastic business out of that.

Knowledge@Wharton: In concrete terms, how did the business environment change so that it allowed this entrepreneurial surge to happen?

Mittal: Take the case of telephone manufacturing. The government completely regulated what you could import, what you could not import, how much you could manufacture. I got my first industry license to make cordless telephones; it had a limit of Rs. 2 crores of sales. I mean, it's ridiculous when you go back -- half a million dollars today. You could not manufacture more than two crores of sales. Now, if you see that number, what does it mean? Sub-scale operations, [a] small, tiny factory, and you don't manufacture telecom products like that. It's not a small-scale factory that you can put up. Suddenly, one day, the government said, "No licenses required." From controlling what you could do [snaps fingers] it was gone in one day. That, to my mind, was the first time the entrepreneurial energies were released into a more constructive arena of marketing, branding, doing the right things.

Knowledge@Wharton: In just about 10 years, you have built Bharti into India's largest mobile phone operator. How did that come about? What are some of the main lessons you learned from your experience that could be helpful to other entrepreneurs?

Mittal: I think, very clearly, we could have never claimed that we had more capital or better technologies, because everybody was buying the same technologies; GSM is a set standard. We couldn't claim that we had massive brand or distinguishing strength in the market. The only thing that we needed on our side was speed, and we used that to great effect.

We were in the market ahead of competition. We brought new products on the market ahead of competition. We rolled out our networks. We begged, borrowed, stole, put things out. And while they were never near perfect, they were first. And that gave us, to my mind, a lot of advantage.

Our theory was: If you're caught between speed and perfection, always choose speed, and perfection will follow. You never wait for perfect positioning, because in business you don't have the time; especially if you're small, you can't do it.

And the large companies took their own time. They were months behind us, and that made us pick up a market niche for ourselves, which in turn made us big.

Knowledge@Wharton: How did you position yourself against your competitors? Was your strategy based entirely on speed, or did you also have other tactics?

Mittal: No. I think one thing was that we were very, very passionate about our business. This was the only business we were doing. Other competitors had other businesses and this was one of the new businesses they were starting. Speed, new products into the market, close to the customer, knowing what the customer wants -- I think we lived that whole space ourselves, day in and day out. And that made all the difference.

Knowledge@Wharton: How do you see Bharti's future in the mobile industry? I know you tried recently to merge with MTN in South Africa, but that merger didn't work out. What were your strategic goals for that merger, and what else might you be considering for the future?

Mittal: We believe that while India is not done in so far as rolling out networks, the process is done. We'll keep on adding two and half or three million customers a month until we get to a point where India has seven or eight million customers, management teams are in place, brand is very strong, distribution is in place, the company has no debt.

So, India is done. Now, what does the senior management team do? You have to create new opportunities of growth. And they lie in other emerging markets -- therefore Africa, the Middle East. And we have today a business model which is the best business model in the world -- the lowest costs with the highest quality.

And I think that model is ready to go out. So, we would like -- whenever we get an opportunity like MTN -- to seriously attempt to put some assets together.

Knowledge@Wharton: Would you look for partners in other parts of the world?

Mittal: Well, we keep on getting shown opportunities around the globe, and we remain open.

Knowledge@Wharton: Let's turn now to the retail industry, where you have a partnership with Wal-Mart. Help me understand how you evaluated the retail opportunity and what your thought process was in making the decisions you did.

Mittal: We wanted to do something more in India. As we grow telecom outside of India, I think there are opportunities in India. And one of them, we felt, was in the area of retail. India's retail needs to get organized, and it will one day. It may take its own time, and everything in India does take time, but we will organize the retail to a point where $400 billion will come through organized retail stores.

We had opportunities to tie up with Carrefour, Tesco and Wal-Mart. And in fact, we were almost in the signing stages with Tesco when the Wal-Mart meetings started to happen and we liked the store model, we liked the same low-cost delivery mechanism, the values of Sam Walton. So, I would say that we are very, very pleased to venture into this area.

It has its own issues. Like telecom, this has resistances built in. There are barriers, there are issues. And we enjoy properly dealing with these issues.

Knowledge@Wharton: Speed was the hallmark of you experience in the mobile industry, but of course the retail market is very, very different. How do you deal with those challenges?

Mittal: It's frustrating. I must confess that it's going much slower than what we originally thought. Speed is still what we like, but this is now a large company. We have a tie up with a large company. They believe that you need to tie up a lot of loose ends before you launch yourself.

The first three stores that have opened up with the assistance of Wal-Mart demonstrate that planning does make a difference. So, we are spending a lot of time planning; it's not wasted time. The supply chain is being built. The first distribution center has come up. The three stores are having in-fill rates of 95%. And they're having sales per square foot of 30% to 40% higher than the other top two or three operators in the country.

So, the start is good. It is surely slow. But, I think you'll start seeing some action fairly soon.

Knowledge@Wharton: Are any political changes needed to make that happen?

Mittal: FDI must be allowed. We would rather have Wal-Mart right in there with equity rather than providing franchise support from the outside. So, we would like FDI to open up.

Knowledge@Wharton: You have been quoted as saying that India needs a "football revolution." How exactly would that come about?

Mittal: It's a shame, and it in some sense saddens my heart that a country like India does not have any representation in world soccer. It's a sport which is watched by the largest amount of people in the world -- we're talking about hundreds of millions of people, topping over a billion people who watch soccer.

Knowledge@Wharton: Did you play soccer growing up?

Mittal: No, we played everything else that kids in middle-class families do. I won't say football was my main sport, but it is for one of my sons. Both my sons play. My nephews play. And my son plays fairly competitive football. I enjoy watching it with them.

It's also, to my mind, a sport which can create a revolution of sorts in a country like India, very soon. One ball, one open field, a few kids, and it starts off. There are no expensive kits or equipment required to support this game.

And I also believe that India had a football base earlier on. In 1950, they were in the World Cup. They could not play because they didn't have shoes. They refused to wear shoes and they couldn't play. That was the last time India reached that point.

I see no harm in giving it one serious shot -- of carrying an Indian team into a 20-year team. I personally believe we can do it. Ten years is good time for us to plan.

Knowledge@Wharton: Cricket has received quite a shot in the arm with the formation of the Indian Professional League. Is that in the cards for football?

Mittal: Yes, India is a cricketing nation. It's a cricket-mad nation. I think we need an alternative sport. We need something else to offset cricket. Will football have its own premier league? It will, certainly. In fact, the IPL (Indian Premier League) is a copy of the English Premier League. And that's the fundamental basis of football.

And yes, we will see something along those lines. It'll take a long time for people to switch from cricket to football, but younger people are watching a lot of international soccer. There is going to be the European Cup in Austria a few days from now. And you can see already some fever building up in India. The timing is right.

Knowledge@Wharton: In all the years that you have been an entrepreneur, what is the single biggest leadership challenge that you have faced? How did you deal with it and what did you learn from it?

Mittal: It's hard to put down, in a single event, what would be the hardest decision. But, I would say bidding for a mobile license -- against all odds -- in 1992, when I was a rank outsider. I think the total sales were about $5 million in all, and going and bidding for a mobile license was tough.

But, we persevered, we went into it against the might of the biggest of the biggest in the country and in the world. And we ended up getting a license. More importantly, not only a license -- we rolled out India's first network and have now become India's largest.

So, that starting point of having, in a sense, defied the logic of, "This is only for the big boys. You need deep pockets. Don't even look at this." That defiance of the conventional wisdom, to my mind, was very important -- and being determined to challenge that thought that you can't do it as a young entrepreneur.

Subprime terms

Subprime Glossary

Key terminology related to the credit crisis.

Adjustable-rate Mortgage

A mortgage carrying an interest rate that is reset at regular intervals, typically every 12 months, after the initial low "teaser" rate expires. Resets are calculated by adding a fixed number of percentage points, or "margin," to an index that moves up and down as market conditions change. Typical indexes are the interest rate paid by U.S. Treasury bonds with one year to maturity. Margins on traditional "prime" ARMs are usually around 2.75%age points. Subprime loans often carry margins of more than 5 percentage points.

Appraiser

Real estate appraisers inspect homes prior to sale to determine their value, typically by comparing them to nearby properties that have recently been sold. Mortgage lenders require appraisals to assure the property is valuable enough to serve as collateral for the loan. Many critics believe that sloppy or dishonest appraisals contributed to the recent home-price bubble, setting the market up for the fall that followed. Critics point to several conflicts of interest: appraisers are paid by home buyers but frequently are recommended by real estate agents working for sellers. The agents make money only when a sale goes through and have no financial interest in the homeowner's ability to continue making mortgage payments or to sell the property for enough to pay off the loan. Critics also note that lenders ignored inflated home appraisals because lenders also can disregard borrowers' ability to make future payments. Lenders collect upfront fees and typically sell the mortgages they initiate to investors.

Auction-rate Security

A type of debt security, such as a corporate or municipal bond, that carries a floating interest rate that is frequently reset through an auction process. Rates may be reset as often as daily, but rarely at intervals longer than 35 days. These securities have generally been promoted as safe, liquid investments offering higher yields than other "cash" equivalents, such as money market funds. But the credit crunch that grew out of the subprime crisis caused this market to dry up, making it difficult or impossible for investors to sell these holdings even though few, if any, of the securities' issuers had actually defaulted. Problems in the auction-rate securities market are thus seen as a measure of the fear sweeping the credit markets.

Automated Underwriting

Using a computer program to assess whether a borrower is likely to repay a loan. Systems developed in the 1980s and 1990s looked at factors such as the applicant's credit history and information on the property and the loan, as well as and the data on how similar applicants in similar circumstances had performed in the past. The system speeds the loan-review process and removes human bias, but there was too little data on subprime loans and other new types of mortgages to accurately predict loan performance as interest rates rose and home prices fell.

Collateralized Debt Obligation

A security backed by a pool of loans, bonds or other debt. Typically, CDOs come in slices, or tranches, with riskier ones paying higher yields.

Commercial Bank

Although distinctions are blurring, commercial banks' primary business is taking deposits and making loans. This contrasts with investment banks, which are involved in underwriting new issues of stocks and bonds, as well as other activities in the securities markets. Repeal of the Glass-Steagall Act, a Depression-era law that barred commercial banks from engaging in investment-bank activities, and vice versa, made the blurring of those lines possible.

Credit Crunch

A situation in which banks and other financial institutions cut back on lending, or raise interest rates so high that individuals, businesses and institutions reduce their borrowing. In the subprime crisis, the credit crunch arose from widespread fear that borrowers would default. This began with uncertainty about the financial health of market participants which held large numbers of mortgage-backed securities whose values were unknown.

Discount Rate and Discount Window

The discount window is a mechanism used by the Federal Reserve to make short term loans to qualifying banks which need cash to maintain liquidity. The discount rate is the interest rate charged on these loans. Historically, the discount window was limited to overnight loans to help with temporary emergencies. When the credit crunch arising from the subprime crisis made it difficult for banks to borrow, the Fed moved to open the window wider. In September 2007, it changed the terms so banks could borrow for as long as 30 days, and it cut the discount rate to 5.25% from 5.75%. Further cuts reduced the rate to 2.25% on April 30, 2008. On March 16, 2008, the discount-loan term was extended to as long as 90 days.

Equity

The difference between the value of a home and the debt remaining on the mortgage. In the years after a mortgage is taken out, a homeowner's monthly payments gradually reduce the remaining principal, or debt. During most periods, home values gradually increase. These two factors cause the equity to grow, assuring the homeowner that the property can be sold for enough to pay off the loan. However, in the past year or two, home prices have fallen by an average of about 13% nationwide, and by much more in some markets that had experienced very large price gains early in the decade. Since borrowers who took out loans only recently have not yet made enough payments to significantly reduce their debt, they are now "underwater" - their homes are not worth as much as they owe.

Fed Funds Rate

An interest rate set by the Federal Reserve's Open Market Committee that banks with deposits at the Fed charge one another for short-term loans. The Fed raises the rate to discourage borrowing, causing the economy to slow down and reducing the threat of inflation. Cutting the rate encourages borrowing, making money available to stimulate the economy.

Foreclosure

The process of a lender taking ownership of a property after the borrower has defaulted, or stopped making monthly payments. The home is used for collateral to minimize the lender's losses. This is why mortgages charge lower interest rates than credit cards, which have no collateral. Typically, lenders resorting to foreclosure recover only about half of what they are owed, because of legal fees, the missed payments for the many months the process takes and the difficulty in selling a poorly maintained property.

Glass-Steagall Act

Wharton Professor Marshall Blume

Passed in 1933 in response to the stock-market crash of 1929, the federal law barred commercial banks from engaging in investment-bank activities, and vice versa. The act was repealed in 1999 to encourage innovation, allowing commercial and investment banks to move into one another's lines of business. Many experts say repeal left gaps in regulatory oversight.

Investment Bank

A financial institution primarily engaged in underwriting new issues of stocks, bonds and other securities, advising companies on mergers and acquisitions and other lines of business related to the financial markets. Until the repeal of the Glass-Steagall act in 1999, investment banks were barred from commercial bank activities such as taking deposits and making loans. The distinctions between the two types of banks have blurred in recent years.

Liquidity

Describes the ease with which things of value can be bought and sold. A liquid investment, such as a stock in a well-known company, can be bought or sold on short notice, while an illiquid investment cannot. Homes are generally seen as illiquid investments, since they often take months to sell. Liquid investments can become illiquid ones when conditions deteriorate. A corporate bond, for example, may become less liquid if the company that issued it runs into financial trouble, making investors worry that the company may not make the principal and interest payments promised.

Loan-to-Value Ratio

Wharton Professor Todd Sinai

Refers to the size of the mortgage relative to the value of the property. In the 1980s, lenders typically required down payments of 10% to 20% of the property's purchase price, writing mortgages to cover 80% to 90% of the cost. In the 1990s and 2000s, lenders took to writing mortgages for 95 to 100% of the purchase price, and sometimes even more, with the extra used by the homeowner to pay closing costs or make home improvements. Homeowners who have not made significant down payments do not have their own wealth at risk, and are more likely to stop making mortgage payments when they have financial problems.

Monoline Insurance

An insurance policy that guarantees that the issuer of a bond or other type of debt will make the interest and principal payments promised. By obtaining this insurance, the issuer can increase the debt security's rating, reducing the interest rate that must be paid to attract investors. Monoline insurance was originally used for municipal bonds. The insurers gradually expanded the types of debt they would cover, and many suffered deep losses when they were forced to pay claims when issuers of subprime mortgage debt defaulted.

Moral Hazard

Wharton Professor Franklin Allen

Originally an insurance industry term, this refers to situations where providing a safety net encourages risky behavior. Some argue that measures to help homeowners and lenders who have lost money in the subprime crisis will lead to more high-risk lending, while leaving them to suffer the full brunt of their losses will discourage it.

Mortgage-backed Security

A form of security, similar to a bond that is backed up, or collateralized, by thousands of home loan bundled together by a securities firm such as an investment bank. Investors who purchase mortgaged-backed securities receive regular payments representing their share of the interest and principal payments made by homeowners. Often, a pool of mortgages is divided into slices, or tranches, each offering differing risks and rewards from the others. Owners of the safest tranches receive the lowest interest rates but have first rights to homeowners' payments, while owners of the riskiest tranches receive high interest payments but are the first to lose money if any homeowners fail to make their monthly payments.

Off-Balance-Sheet Entities

A type of subsidiary set up by a parent corporation to finance or engage in a specific line of business. Because the subsidiary is a separate legal entity, its assets and liabilities do not appear on the parent's balance sheet, or accounting reports. While they have legitimate uses, off-balance-sheet entities have been used to conceal liabilities from the parent's shareholders. In the subprime crisis, financial firms used these entities for high-risk lines of business such as selling mortgage-backed securities backed by subprime loans. While the parent firms were not legally required to help when entities suffered losses, some felt compelled to in order to preserve relationships with customers who were losing money through the entities. As a result, the parent firms suffered losses their own shareholders did not expect.

Prepayment Penalty

Many subprime mortgages contained provisions for an extra charge to homeowners who paid their loans off within the first few years. This created an additional obstacle to borrowers who wanted to take out new loans under better terms to pay off subprime loans that were requiring higher monthly payments as interest rates rose.

Rating Agencies

Wharton Professor Marshall Blume

Credit-rating agencies give scores, or ratings, to securities such as corporate bonds. Their chief job is to assess risks that could determine whether the bond issuer makes the principal and interest payments promised to investors. Factors include the issuer's financial health, general conditions in the financial markets, even the health of other companies with which the issuer does business. A bond or other security with a top-quality rating, such as AAA, generally pays less interest than a riskier, lower-quality bond. Therefore, issuers save money when their securities receive high ratings. In the subprime crisis, many mortgage-backed securities turned out to be far riskier than their ratings indicated, leading to much criticism of ratings agencies. Some experts say ratings agencies did their best to assess new types of securities that had little track record. Critics point to the fact that ratings agencies have a financial incentive to satisfy the issuers who pay for ratings, and that ratings agencies often have other lucrative business ties to those firms.

Reset

The process of changing the interest rate charged for an adjustable-rate mortgage, or ARM. Most ARMs start with a low "teaser" rate that stays the same for one to three years. After that, the rate typically changes every 12 months as prevailing rates rise or fall.

Risk Premium

Refers to the higher return investors demand to offset greater risks. "Junk" bonds issued by corporations with shaky finances typically pay higher interest than ultra-safe U.S. Treasury bonds, since investors worry the corporations will not make the payments promised.

Securitization

Wharton Professor Richard Herring

Streams of income, such as homeowners' monthly mortgage payments, can be bundled together into a form of bond that is sold to investors. Securitization allows the original lender to exchange a holding with a long-term value, such as the payments it is to receive on 30-year mortgages, into an immediate payment, providing cash for making additional loans. Securitization thus makes more mortgage money available, and it allows the risk of mortgage lending to be dispersed among investors around the world. Investors' appetite for high-yield investments may have encouraged mortgage lenders to offer more subprime loans than was wise, contributing to the subprime crisis.

Structured Investment Vehicle

A fund that makes money by selling short-term securities on which it pays low interest rates and buying long-term securities paying high interest rates. Many SIVs ran into trouble in 2007 as short-term rates rose and mortgage-backed securities became harder to trade. Although financial firms that set up SIVs generally were not legally obligated to back up these independent entities, many felt they had to in order to preserve relationships with investors.

Subprime Mortgage

Wharton Professor Todd Sinai

Generally understood to be a mortgage offered to borrowers with low credit ratings or some other characteristic that increases the risk they will default, or fail to make their monthly loan payments. To offset this risk, subprime loans charge higher interest rates than ordinary "prime" loans. Most subprime loans start with a low "teaser" rate charged for the first one to three years. After than, the rate is reset by adding a set number of percentage points to a base rate, such as market driven rates on certain bonds. Starting in 2005, resets caused monthly payments for many subprime borrowers to increase by 50% or more, leading to a rising rate of delinquent payments and home foreclosures.

Systemic Risk

Wharton Professor Franklin Allen

Refers to risk to the financial system as a whole, like a contagion or domino effect. For example, the bankruptcy of one institution can harm other institutions with claims on its assets. The harm to those institutions can harm others in the same manner, creating a domino effect. The fear of systemic risk led the Federal Reserve to take steps to prevent the collapse of Bear Stearns.

Term Auction Facility

Set up by the Federal Reserve in December 2007 to improve liquidity in the financial markets. The TAF provides loans to banks for up to 28 days. The Fed has gradually increased the amount of funding available through the TAF to $150 billion.

Term Securities Lending Facility

Set up by the Federal Reserve in March 2008 to make 28-day loans to primary dealers - the major banks and investment banks. Loans can total up to $200 billion. Instead of cash, the TSLF lends U.S. Treasury securities, taking riskier securities as collateral. Those include mortgage-back securities and securities backed by student loans, credit card debt, home equity loans and automobile loans.

Tranche

A slice of something bigger. Mortgages are bundled together and converted to a kind of bond sold to investors. Although the pool as a whole may be too risky to earn an AAA investment rating, the securities can be offered in a series of tranches with varying risks. A high-risk tranche would be the first to suffer losses if homeowners stop making their monthly payments, but this tranche would pay the highest yield. Other tranches would have first rights to borrowers' monthly payments, making them safer, but their yields would be lower. By concentrating risks in low-rated tranches, investment banks can create AAA-rated securities out of a mortgage pool that as a whole could not qualify for such a high rating.

Transparency

Wharton Professor Franklin Allen

Refers to how easily outsiders can see what is going on. The U.S. stock market is said to be transparent because financial reporting requirements provide detailed information on profits, losses, assets, liabilities, executive pay, lawsuits and other factors that can affect stock prices. A lack of transparency, or opaqueness, contributed to the subprime crisis because it was difficult for investors, regulators and the public to see the factors that governed the values of securities based on subprime loans. As the crisis unfolded, investors worried there were more risks in the system than they could see.