Bretton Wood is not about Gold

 In the aftermath of devastation that took place due to the second world war (WWII), some key global institutions were created and multilateral agreements signed to (i) avert chances of another major war; (ii) enhance global cooperation for accelerated reconstruction work; and (iii) promotion of globalization of trade and commerce to ensure equitable growth and development. Bretton Wood agreement signed in 1944 was one of such efforts.

The Bretton Woods agreement established the U.S. dollar as the reserve currency for world. The idea was to prevent competitive devaluations of currencies, avert trade wars and promote international economic cooperation for growth & development. The Bretton Wood signatories agreed to maintain fixed exchange rates between their respective currencies and the US Dollar. The US dollar in turn was pegged to the price of the gold.

Until WWI, most countries followed the gold standard for their respective currencies; which essentially meant that they promised to exchange their currencies for gold of equivalent value as per the current international prices of gold. This significantly constricted the flexibility in their monetary policy, as only a few countries had enough gold reserves to back their monetary requirements for development efforts needed in post war period. Abandoning the gold standard, they printed massive amount of money leading to hyperinflation, which eventually led to great depression and another great war.

Post WWII, most countries considered reverting to gold standard. However, since at that time, US had held more than three fourth of global gold reserves at that time, it was felt that making the gold pegged USD the reserve currency, instead of gold, would provide the necessary flexibility in monetary policy (since unlike gold, the USD supply could be flexible) to support growth and development.

The energy price led stagflation in US eventually led to the demise of Bretton Wood agreement. To get the US economy out of stagflation (no growth and high inflation) President Nixon sharply devalued the USD. Thus sharp devaluation led to a run on the US gold reserves, forcing the US to unpeg USD from gold prices and thus violating the Bretton Wood Agreement. The gold peg ended in 1971 but USD continued to remain the reserve currency of the world in absence of a viable alternative.

Last week, Kristalina Georgieva, IMF Managing Director, in her speech called for a new Bretton Wood Moment for the world (see here). Comparing the damage to the global economy caused by Covid-19 pandemic, she emphasized on the greater need for global cooperation to put the global economy back on growth path. She said, “Today we face a new Bretton Woods “moment.” A pandemic that has already cost more than a million lives. An economic calamity that will make the world economy 4.4 % smaller this year and strip an estimated $11 trillion of output by next year. And untold human desperation in the face of huge disruption and rising poverty for the first time in decades. Once again, we face two massive tasks: to fight the crisis today — and build a better tomorrow.”

She further adeed, “We face what I have called a Long Ascent for the global economy: a climb that will be difficult, uneven, uncertain—and prone to setbacks.

But it is a climb up. And we will have a chance to address some persistent problems — low productivity, slow growth, high inequalities, a looming climate crisis. We can do better than build back the pre-pandemic world – we can build forward to a world that is more resilient, sustainable, and inclusive. We must seize this new Bretton Woods moment.”

She specifically called for “Prudent macroeconomic policies and strong institutions”, “people centric policies” and “climate change” as three imperatives for the new system.

Obviously, the emphasis is on greater global cooperation, sustainability and equality. Unfortunately, a number of analysts, traders and strategists have read her comment to mean return of gold standard.

Neils Christensen, quoted some of the popular comments in his blog post (see here) highlighting how the people are misreading her comments for a BULL call on gold—

“Gold is on its way back to monetary policy in a direct way. The IMF last week confirmed they WILL NOT sell gold reserves. Now they are calling for a new Bretton Woods arrangement. WELCOME TO THE ERA OF GOLD ? — Gold Telegraph

Imf calls for a new Bretton Woods. A new gold standard. Sit tight. Evidence is piling. — Gold Ventures

IT'S OFFICIAL IMF CALLS FOR 'A NEW BRETTON WOODS' 'A New Bretton Woods Moment'— Willem Middelkoop

A New Financial System Backed By Gold. It Will Never Happen You All Said Bretton Woods Was A Gold Backed Monetary System. The Best Is Yet To Come? Baba & Riddlers”

In my view, a new global order will definitely emerge out of this pandemic. The new order will address sustainability and equity issues. Gold will not be a key component of the new order. USD may retain its dominance but it shall face serious challenge from other currencies, including the digital currencies.

Festivities missing from this festival season

 Last weekend I did my annual festival market check. This year, besides the main markets of Delhi, I visited some local markets in predominately lower middle class areas; and some markets in rural areas of North Delhi. I managed to speak with some very large importer and traders of consumer goods; auto dealers, farmers, real estate developers and owners of leased properties. Based on my observations, interactions and information, I would like to share the following feedback with readers:

·         The overall demand situation this festival season is materially worse than the last year. It is pertinent to note that the last year was also not good per se.

·         A large importer and trader dry fruits, mainly almonds and walnuts, indicated that global dry fruit prices are down over 25-30% as compared to last year. In India despite supply disruptions due to broken logistic chain, the prices are lower as compared to last year. The retail demand for almonds and walnuts has seen sharp rise as these are seen as immunity boosters. However wholesale demand from sweet and confectionary makers is very poor. Overall, he expects 30% lower volumes this festival season.

·         A large importer and trader of confectionary, mainly chocolate, lamented both supply and demand issues for poor business. As per him, import of confectionary was greatly restricted due to breakdown in global supply chain and slow clearance of consignments at Indian ports. He cited 3months delay in clearance in his inbound shipments. On demand side, the festival gifting demand is very slow, especially the corporate demand. Retail sale is gradually picking up but still materially lower than last year.

·         Two famous sweet shops in Delhi have witnessed gradual pickup in demand in past two weeks. The sales are about 50% lower as compared to last year. The delayed and curtailed marriage season and minimal corporate gift bookings are major sentiment dampeners. They see a definite trend in lower affordability.

·         Textile traders, both wholesale and retail, also cited very slow return to normalcy. None is expecting to reach the 2019 level of demand even in 2021. The demand from rural markets in neighboring states is very poor. Shorter marriage season, restrictions on number of guests, poor affordability, slow return of migrant laborers, and high inventory are bothering the textile traders. Most of them are staring at significant inventory write off.

·         It is well known that in many communities, the marriages are arranged with a pre-determined budget for the bride side. The people from these communities are indicating payment of more cash & jewelry, higher end automobile and communication devices to compensate for the lower spending on ceremonies.

·         Building material and furniture dealers appeared more sanguine about return to normalcy. They are seeing better than expected retail demand for home improvement and replacement. For the wholesale demand, inquiries are good. They hope for better start to 2021.

·         Auto demand has picked up well. Two wheelers strong due to non-availability of normal public transport and fear of using public transport. Cars at pre lockdown level which was not great per se. Tractors and SUVs continue to see strong demand, reflecting the faster recovery in rural demand.

·         Home decoration item importers and traders are staring at a washout. With little fresh arrival and low inventory, they expect festival sales to be 50-70% lower. Contrary to popular expectation, the demand for Chinese items remains strong.

Marigold flower prices at Rs70-75/kg, are one third of the last year. Even at these prices demand is poor.

·         The scene at local markets in lower middle class colonies and slums, is that of despondency. The need for clothing, utensils, and other household items is visible but the demand is lacking due to poor affordability. The markets are crowded as usual but the sale is much less. People are constantly looking for deals to suit their pockets.

·         The markets in rural areas are though much better off. The sale is brisk and people are not averse to up-trading.

·         The real estate developers and dealers highlighted that the number of inquiries has increased significantly in past one month. These inquiries are however not yet converting into deals. They feel it will pick up strongly once registration offices begin working normally.

·         Owners of leased real estate let out as PG accommodation, working women hostel, shops etc indicated significant vacancies. They do not expect normal tenancy at pre lockdown rental to be restored even in 2021.

·         Almost everyone complained of poor working capital financing. NBFCs and Private sector banks have materially curtailed working capital and small capex financing due to poor quality or illiquidity of the collateral and tighter credit norms.

·         Almost everyone is working with lesser number of workers compared to pre lockdown period. No one indicated returning to normal workforce level in 2021. Most traders are focusing on survival for 2021. Growth does not seem to be a priority for now at least.

·         Farmers in Delhi villages were surprisingly well aware of the implications of the latest legislative changes relating to agriculture sector in India. Most of them believed that these changes are structurally positive for the sector; regardless of the noise being made by the opposition parties and some NGOs. (Caveat: The infrastructure, resources and access available to these farmers is very different from an average farmer in the hinterland. Their opinion may therefore not be reflective of the mood in general.)

·         Most people I interacted with and observed seem to have accepted Covid-19 as an uninvited guest in their house which cannot be wished away. They have learned to live with it and are willing to suffer some losses (monetary and human life) for their freedom to work and move around. The public campaign for safety against corona is totally ineffective in most cases and counterproductive in many cases. For example to avoid listening to Corona caution played before each phone call, most of the people prefer to use Whatsapp call now. Inappropriate, dirty and unhygienic face masks are hanged around chin to avoid monetary fines and harassment by authorities. Hand sanitizers have vanished from most public offices. No water is available in the tanks placed in public places for hand washing. No one could care less to discuss whether the government handled the pandemic efficiently. They just want to move on to lead their normal life.

 

This winter may be longer than usual

 With each passing day, the realization is growing that it will “years” not months or quarters before the normalcy returns to the global economy. Regardless of the statistics on global trade, national income and corporate earnings, the impact of pandemic on humanity, especially poverty, inequality, and suppression is overwhelmingly devastating. The pandemic has indubitably undone the decades of efforts in poverty alleviation and public health in numerous developing and underdeveloped countries.

As per a recent Bloomberg report based on a study conducted by the World Bank and Philippine’s local agencies, “almost half of shuttered businesses were unsure when they could reopen”. As per the report, “in emerging parts of Southeast Asia, where a wave of job losses and weak social safety nets mean millions are at risk of losing their rung on the social mobility ladder. The region is likely to come in second behind the Indian subcontinent in charting the number of new poor in Asia this year.” This points to a long, drawn-out recovery. Southeast Asia’s GDP is estimated to be to be 2% below the pre-Covid baseline even in 2022.

As per last year’s projections, South Asia was expected to add more than 50million people with $300bn in disposable income to middle class strata. This attracted many global corporations to invest huge amounts in building capacities in this region. With the poverty levels rising and prospects of growth acceleration fading, the viability of these capacities is now questionable.

As per the Bloomberg report, “As many as 347.4 million people in Asia-Pacific could fall below the $5.5 a day poverty line because of the pandemic, according to the United Nations University World Institute for Development Economics Research.  That’s about two-thirds of its worst-case global estimate, and underscores the World Bank’s forecast of the first net increase in worldwide poverty in more than two decades.”

As per HSBC research, The magnitude of the economic free fall in Southeast Asia’s five biggest economies was severe in the second quarter. Indonesia shrank 5.3% year-on-year, Malaysia 17.1%, Philippines 16.5%, Singapore 13.3% and Thailand 12.2%, data compiled by Bloomberg show. Vietnam, which was among the few trade-war winners, will see its three-decade economic ascent grind to a near halt this year. Contractions could persist through early next year.” That’s signalling a prolonged financial squeeze for Southeast Asians.

India unfortunately is not better off than her South Asian peers. Investors need to remember this. When I say investors, I include the people investing in real assets, not just financial assets

How Indians waste their time

National Sample Survey Organization (NSSO) recently published a very interesting report. The report highlights how an average Indian uses his time. Based on a survey conducted between January and December 2019, the report describes how Indian household uses their time especially on unpaid caregiving activities, volunteer work, unpaid domestic service producing activities of the household members, learning, socializing, leisure activities, self-care activities, etc.

The key finding of the survey (conducted for persons aged 6yrs and above) could be listed as follows:

Engagement of people in various activities

·         The percentage of women engaged in employment and related activities is very low (18.4%) as compared to male (57.3%). The percentage of rural women in employment is higher (19.2%) than the urban women (16.7%).

·         More rural women (25%) produce goods for own use than the urban women (8.3%).

·         About 81% women provide unpaid domestic services for household members. This ratio is almost similar for rural (82.1%) and urban (79.2%) women.

·         The culture of volunteering for social work is very poor in the country. Only 2.4% people were found to be engaged in unpaid volunteer, trainee and other unpaid work. The rtio is very similar for rural and urban population; and also for male and female members.

·         Only 21.9% of people are found to be engaged in any learning activity. This is worrisome for a young country who aspires to be technology leader of the world.

·         Over 91% people engage in socializing, community participation and religious practices. About 87% people engage in cultural activities, leisure, mass media and sports activities. The proportion of people engaged in these activities is similar in rural and urban areas; and also for male and female members. This explains the poor productivity, massive disguised unemployment & underemployment. It must be a cause of worry for the policy makers; but a strong indications for the corporate planner trying to sell goods and services to these people.

Time spent on various activities

·         On average Indian household spend 11.4% of their time on employment and related activities. For male this ratio is 18.3% while for female it is just 4.2%.

·         About 9% of time is spent on unpaid domestic services. Male members spend just 1.7% of their time on unpaid domestic services, while for women this ratio is 16.9%.

·         A miniscule 0.1% of time is spent on volunteer work.

·         Indian household in rural and urban areas spend less than 7% of their time on learning; while almost 19% time is spent on socializing, leisure, mass media and religious practices etc.

·         Over 50% time is spent on “self-care and maintenance” activities. For a lower income country like India this sounds rather ostentatious.

 

Stagflation dents consumer confidence to lowest ever

 As per the latest survey conducted by RBI, the Consumer Confidence in India remained at an all-time low level in September with the general economic situation worsening during the month. This data read with the dismal IIP growth (-8%) and elevated consumer inflation (7.34% highest since January 2020) indicates that (i) the recovery from lockdown is slower and belies the enthusiasm shown by some of the analysts and economists; and (ii) we shall struggle to reach the pre lockdown level of economic activity for at least 2 more quarters and any improvement in the growth trajectory normalized for lockdown impact may still be far away. Remember, the economic growth in India was declining much before the pandemic forced a complete lockdown in March 2020.

The key highlights of the Consumer Confidence Survey (September 2020) are as follows:

·         As per the survey, the consumer confidence (current situation) continued to slip for third successive month and is presently at all time low. Presently, the respondents perceive further worsening in general economic situation and employment scenario during the last one year. Though some improvement is expected a year later.

·         21% respondents reported curtailment in overall spending during the past one year, when compared with the last survey round. While 59.8% reported cut in non-essential spending.

·         Even though consumers expect improvements in general economic situation, employment conditions and income scenario during the coming year; the discretionary spending is however expected to remain low in the near future.

·         Households’ median inflation expectations remained elevated for both three months and one year ahead periods.

83% households reported rise in cost of living. 75.9% expect cost of living to rise further in next 12 months.

An astounding 81.7% household reported worsening of employment expectations in past one year. Though, 54.1% respondents hope that the employment conditions will improve in next one year. A significant 36.1% of respondents believe the employment conditions will worsen in next 12 months.

·         62.7% household indicated lower income in past one year; while only 8.9% reported higher income. 53.2% household expect income to rise in next one year, while 10% expect it to decrease further. Overall, 79.6% respondents felt that general economic conditions have worsened in past one year; while 34.8% respondents continue to believe that the conditions will worsen further in next 12 months. Only about 50% respondents believe the conditions to improve in next 12 months

Assume Act of God is a White Swan

 

A web series on the infamous Harshad Mehta scam of early 1990s seems to have triggered a debate on the present state of the financial regulation and risk management practices in India. The key point of interest is whether a scam similar to Harshad Mehta scam could recur!

During late 1989-1992, a Mumbai (then Bombay) based stock broker Harshad Mehta used the inefficiency and lacunae in the banking and stock market systems to create massive pseudo credit. The credit so created was used to manipulate stocks prices, causing the first major bubble in Indian stock markets. This was the time when Indian economy was struggling with unprecedented balance of payment crisis, political uncertainty and higher energy prices due to war between Iraq and US (an ally of Kuwait) in the Persian gulf. Given the despondent economic situation huge short positions were built by traders in Indian equities. In the summer of 1991 the Congress government led by P. V. Narsimha Rao assumed office and unleashed a slew of radical reforms. Using this pretext, Harshad Mehta squeezed the short sellers by using the pseudo credit he could manage by defrauding the nationalized banks. The bubble finally burst in April 1992 when the modus operandi of Harshad Mehta was exposed.

The immediate fall out the bubble burst were (i) promulgation of the Securities and Exchange Board of India (SEBI) Ordinance 1992 to establish an autonomous regulator for regulation of securities market in India; and (ii) up-gradation and modernization of interbank settlement system of government securities. SEBI immediately issued a slew of rules and regulation to regulate the operations of stocks exchanges and market intermediaries. The first fully electronic stock exchange (OTC Exchange of India) modelled on NASDAQ of US was established in 1992. A National Stock Exchange (NSE) was established in 1994, as a nationwide fully electronic trading platform. Establishment of NSE eventually led to elimination of floor based trading and closure of 27 of the 28 regional stocks exchanges. India thus became the first country in the world to have 100% electronic trading in equities. Later Depositories Act was passed to enable establishment of depositories, dematerialization of securities and settlement of trades in electronic form.

The improvement in trading and settlement systems; tightening of margining norms; tightening of compliance procedures to protect the interests of investors etc. have been a continuous process since then. Each instance of fraud & manipulation, accident, unethical behavior has resulted in some improvement in the regulatory process in past 28 years.

However, the continuous strengthening and tightening of regulatory has not deterred the manipulators, fraudsters, and unethical promoters & intermediaries from indulging in fraud and malpractices. The IPO and plantation companies frauds of 1994-1996, dotcom fraud (Ketan Parekh) of 1999-2001, Sahara public Deposit scam, PACL Chit Fund Scam, LTCG Scam, numerous cases of insider trading and front running by mutual funds and corporate officials, act of impropriety by mutual funds (e.g., Franklin Templeton, Kotak MF, Birla MF) etc kept rocking the market intermittently. In fact it has been a 28yrs long episode of Tom (SEBI) and Jerry (Manipulators) where both are consistently trying to dodge each other. Hence, there is no assurance that a Harshad Mehta like scam will not recur in Indian markets.

The best thing however is that Indian markets have remained amongst the safest in world in past two decades. We were perhaps the only market in India that did not impose any trading restrictions during global financial crisis.

The recent measures taken by SEBI and Stock Exchanges to tighten the margining norms to dissuade excessive speculation have been severely criticized by market participants. However, in my view, COVID-19 has warranted SEBI to consider Negative Commodity price and Act of Gods as White Swans for risk management system for securities market. I therefore expect even further tightening of margining and compliance norms.

 

After showing some reluctance in the month of September, Nifty has resumed its uptrend and is sprinting rather quickly to regain the Mount 12K. Many global markets are also within reach of their highest levels in the year 2020. There have been numerous factors that have supported the benchmark indices to reclaim most of the ground lost in February –March earlier this year, but in my view, the following five events are particularly noteworthy in Indian context:

1.    The relentless fund raising by the Oil to Consumer behemoth Reliance Industries.

2.    Dramatic changes in the fortunes of healthcare businesses in the wake of the outbreak of COVID-19 pandemic.

3.    Revival in demand for IT services, especially due to dramatic changes in the work and travel practices, M&A deals and global realignment of businesses, markets and states.

4.    Strong liquidity in equity market, as many businessmen and professionals have joined the markets as regular trader due to full or partial lockdown in their respective regular businesses. The spare working capital of many businesses may have found its way in the stock trading.

5.    Poor debt returns, lower interest rates on deposits & small savings, and a number of defaults since IL&FS fiasco in 2018 appears to have motivated many investors to change their asset allocation in favor of equities.

I think to forecast the future direction of the market and assess the sustainability of the up move from lows of March. It would be worthwhile to evaluate how long these factors could continue support the markets.

For the argument that economic recovery and corporate earnings will support the markets from here on, I would like to mention just one example.

The stock price of PVR Limited was Rs1178 at the end of September 2019. In the past twelve months, the company has witnessed total shut down of business for 6 months. For next six months it may not witness more than 50% occupancy and much lesser F&B sales revenue. The company continue to incur one third of its regular operating expenses; the interest expense was little higher than usual. Obviously, the balance sheet position of the company has weakened and may continue to weaken for another year at least. The market celebrated the announcement of opening of cinema halls with stock price rising 15% in two days. The current price is 7% higher than what it was in September 2019, with much weaker fundamentals and strong growth uncertainties.

Credit Growth trends - Some Interesting Some Worrisome

 

The recent data on sectoral credit distribution and growth released by RBI discloses some noteworthy trends. These trends are interesting and worrisome at the same time. In particular, the investors may take cognizance of the following trends.

1.    Overall bank credit growth for the month of August 2020 was 6% (yoy). This is the slowest growth in bank credit recorded since October 2017. It is pertinent to note because this slowest rate of growth has happened despite a slew of special credit schemes, lending concessions, and rate cuts announced by the government and RBI since May 2020.

2.    In past 10 years, the services sector has been the top performer for the Indian economy. The share of service sector in GDP is over 55%. Unfortunately, this sector has been hit the hardest by the COVID-19 induced lockdown. The credit growth to this sector has seen the sharpest drop in August. The credit growth to the sector slowed to 8.6% (yoy). NBFCs and commercial Real Estate segments witnessed sharp fall, while the trade credit accelerated by 12.5%, the highest pace since March 2019. This trend shall reflect in the GDP growth for 2QFY21 as well.

3.    In past 3 years, personal loan segment has been one of the key drivers of overall bank credit growth. In post lockdown period this segment has seen consistent decline in credit growth. In August 2020, the growth in this segment declined to 10.6% yoy. The credit card segment has seen the sharpest slowdown in growth during lock down. Whereas the vehicle loan segment saw some acceleration in August 2020 as compared to July 2020.

This trend prima facie sounds counterintuitive. In the period of lockdown and work from home, the use of credit card should have been higher. The record level of online shopping transactions reported by various ecommerce players also does not agree with this trend. The sharp slowdown in this segment could be indicative of (i) banks reducing limits of credit card users as the employment conditions worsened and household stress increased; or (ii) households sharply curtailing their discretionary spending.

The rise in vehicle loan in August with unlock gathering pace, may be indicative of rising preference for personal vehicles over public transport due to COVID-19 infection fears. Unavailability of public transport could also be a key factor. This trend would need to be watched carefully till the public transport become fully operational.

4.    As per HDFC Securities, “Industrial credit growth slowed to 0.5% YoY, from 0.8% YoY in July, led by a reduction in large industrial credit growth. Large industrial credit grew 0.6% YoY, vs. 1.4% in July, but de-grew sharply on a MoM basis (-2% in August, and -2.6% in July). After persistent de-growth, credit for medium industries grew 2.8% YoY. This segment saw strong MoM growth in July and August at 6.6% and 5.3% respectively- indicative of disbursals under the MSME credit guarantee scheme. Within industrial credit, sectors such as textiles, gems and jewellery, glass and glassware and all engineering including electronics saw persistent YoY de-growth. Credit for vehicle, vehicle parts and transport equipment and construction saw accelerating growth. Infra credit growth was flattish, with slowing trends in telecom credit growth.

On a MoM basis, industrial credit de-grew 1.5%, after de-growing 1.9% in July. Naturally, this was led by trends in large industrial credit, which constitutes 83.4% of total industrial credit. Credit to micro and small industries witnessed persistent de-growth at 1.2% YoY. Interestingly, credit to medium industries grew 2.8% YoY, after dipping 3.1% YoY in July. Further, on a MoM basis, credit to medium industries grew 5.3% MoM after growing 6.6% MoM in July. This appears to reflect disbursals under the MSME credit guarantee scheme.”

This trends may belie any claim of broader growth revival in near term.

Good luck to you, If you could seen green pastures

 

Some of the readers have found my yesterday’s post (The best place to watch this Opera), unnecessarily alarming and extremely hypothetical. I respect their opinion, though I may not necessarily agree with their comments.

I had faced similar kind of criticism, when I found that a symmetrical fall in the market due to outbreak of pandemic may be unwarranted. I expected that the impact of COVID-19 lockdown over various sectors and businesses may be asymmetric and therefore the precipitous fall in the entire market is a big opportunity to buy the businesses that are likely to be less affected or positively impacted. (Time to Take Big Call) My decision to go tactically overweight on equity did not go well with many readers at that time; though I have no regrets. Moreover, I corrected my tactical equity overweight stance in late August (Preparing for chaos – 4). Presently, I am maintaining my standard asset allocation of 60% Equity; 30% Debt and 10% Cash; and as stated in yesterday’s post I intend to go tactically underweight on my equity allocation and increase cash in the coming months so that I could watch the situation unfold without any lines of worries on forehead and adequate dry powder in my pocket.

Now, coming back to the criticism of me being unnecessarily alarming and extremely hypothetical; I would admit that there may be some points of view from where I may look alarmist or hypothetical. But at the same time there are many other points of view that may show different aspects.

To give an analogy, I see the present situation as one with the battle with a strong enemy. While the battle is continuing and armies from both the sides are deeply engaged; it is essential that pain, wounds, blood, destruction and death are completely overlooked. Bothering about these things may make the soldiers emotionally challenged and weaken their will to fight the enemy.

However, when the battle ends, regardless of the victory or defeat, both the sides will have to face the consequences. The wounds would take time to heal. The soldiers will have to adjust themselves to work without the organs that got amputated. The assets that got destroyed in shelling will have to be reconstructed. Each coffin returning from the battlefield will have to be accounted for and dead would need to be buried. This process is usually excruciatingly painful, prolonged and emotionally devastating.

Presently, we all are fighting a battle with SARS-CoV-2, popularly known as COVID-19 or Corona Virus. In past seven and a half month, the economy has suffered a lot. Remember, Indian economy went into the battle with SARS-CoV-2 with a weaker immune system.

The sub-par growth for past many years had already weakened the economy. The government and RBI had already used a lot of ammunition to fight the economic slowdown. The financial system was struggling with the highly debilitating NPA disease. Numerous small and midsized businesses were already on the verge of collapsing. The corporate earnings growth had been anemic for past one decade. The external trade was not growing due to (i) poor global demand and (ii) intensifying competition from small countries like Bangladesh, Vietnam etc. The employment generation was materially inadequate, when seen in comparison to the accelerated addition to the workforce every year.

The pandemic has materially increased the distress at household as well as business level. The resources of the government are also severely constrained. There is some monetary ammunition left with RBI, but it is not certain whether RBI will be able to save it till the end of the battle with the enemy. Once the battle nears end (vaccine is developed and it begins to reach people), the States may begin to withdraw the relaxations. The coffins will begin to reach home by next summer and will have to be accounted by the financial investors only, as is the case always. I see this scenario from where I am standing. If someone is standing at a different vista point and able to see greener pastures, I envy them and sincerely wish good luck.

The best place to watch this Opera

 

As per media reports, the finance ministry officials shall start exercise for preparation of Union Budget for FY22 from 16 October 2020. The exercise usually starts with the finance ministry official and the finance minister meeting with various stakeholders, especially the business representatives; representatives of professional bodies like ICAI; officials from other administrative ministries; officials from state finance ministries; and policy making and statistical bodies etc. The suggestions made in these meetings are then considered in the preparation of final draft the budget documents.

Budget making is normally a very complex exercise that requires special skills to strike an optimum balance between the expectations of various stakeholders. These expectations are invariable at odds with each other. Therefore pleasing most of the stakeholders is almost an impossible task. In past many finance ministers have used some Big Bang announcement to overwhelm the stakeholders so that they are motivated to ignore their parochial interests for a promising bigger picture. The instant reaction of financial markets to all such big bang announcements is usually “ebullient celebration”. The euphoria however subsides in few weeks and markets usually return to their normal trajectory.

The budget making exercise for FY21 would be particularly complex for a myriad of reasons.

Firstly, the government has already announced multiple fiscal and monetary packages during the course of FY2 in the wake of the socio-economic lockdown announced as preventive measure for COVID-19 pandemic. There may not be much scope for giving any further relaxations in the budget; even though the stress in most sectors of the economy is still elevated and almost everyone is looking for a further, stronger dose of stimulus.

Secondly, the shortfall in revenue collection during FY21 is unlikely to be completely made up in FY22. The fiscal balance of the government thus remains precarious. The 2HFY21 borrowing schedule announced by the government is a clear indication that the government (i) does not want any significant deterioration in the head line fiscal deficit number; (ii) may encourage PSUs, Railway and States to raise resources on their own account; (iii) may accelerate the effort to disinvest its stake in PSUs like LIC, BPCL, etc.

This essentially means that both debt and equity markets will remain adequately supplied for most of next 12-15 months. The profile of the sovereign and quasi sovereign debt available in the market will deteriorate significantly with PSU corporate debt and state debt dominating the fresh supply. There could be a paradoxical situation where the benchmark yields are sustained at lower level by the maneuvering by RBI, while the spreads of center-state debt and 10yr-PSU bonds spread rise materially. The situation may worsen further if the business activity picks up sharply, leading to compression of credit-deposit gap, thus leaving banks with lesser resources to absorb the excess supply of sovereign and quasi sovereign paper.

Failure to implement agenda for disinvestment of strategic assets like BPCL, Air India etc, may force the government to dilute holdings in profitable PSUs like Coal India, NTPC, BEL and LIC. This will keep the equity markets well supplied throughout the year, capping any material upside due to liquidity.

Thirdly, the government would be constrained to raise fresh revenue through taxes and additional cess; especially when the dividend from PSUs is likely to dwindle further and elections to key states of UP and West Bengal would require continuous additional social sector spending. This will be the trickiest situation. Obviously, rich would be burdened with additional taxes and stocks markets usually do not like the rich people to be bothered much; and the government would like stock markets to be happy so that it can sell whatever it wants to. It would be interesting to watch how the finance minister manages to get out of this loop. The best place to watch this opera would be from the top gallery which is farthest from the arena.