Vijay Kumar Gaba

Thursday, November 14, 2019

Two short stories

"Invest in India" - Caveat de Emptor

Nick Read, the chief executive officer of Vodafone Plc, sounded the alarm bell on the future of the beleaguered Indian JV of the company with AV Birla group. In an interaction with the press in London, Mr. Read said, "the company's future in India could be in doubt unless the government stopped hitting operators with higher taxes and charges." He warned, ”If you’re not a going concern, you’re moving into a liquidation scenario -- can’t get any clearer than that.”

It is pertinent to note in this context that Vodafone, which owns 45% of Vodafone Idea having a 30% share in India telecom market, wants a two-year delay on spectrum payments and lower license fees and taxes. It’s also calling for the spectrum payments demanded by the court to be spread over 10 years and is asking for a waiver on interest and penalties.

In my view it is a case of business decision gone wrong due to competitive intensity and policy adhocism. Here the all the 3 dominant market players, the policy makers and the regulators might have some part of the blame to share.

At the stake are - (i) capital of investors and lenders; (ii) credibility of the government which has been aggressively marketing India as an attractive investment destination; (iii) fiscal balance of the country as it may impact the future spectrum auctions, a key component of non tax revenue; (iv) the success of ambitious digital India plan as it may discourage further investment in the sector; and last but not the least (v) other entities of Av Birla group that might suffer serious collateral damage if Idea Vodafone goes into liquidation.

After fiascos in POSCO (land acquisition), Cairn Energy (retroactive tax claim), Daiichi (fraud), Vodafone (retroactive tax claim) etc., this will become another serious precedence for foreign investors and businesses considering investment in India. It is important to note that many foreign investors are already facing material losses from their investments in troubled entities like IL&FS, DHFL, Yes Bank, RBL, Zee, Suzlon, ADAG group entities, and a number of ecommerce ventures etc.

Trapped in means goal

I would like to revisit the the following blog post of Fayaz Shah, that I had quoted also.

"Many people confuse end goals with means goals. End goals define outcomes where you’re unwilling to compromise — they describe exactly what you want. Means goals, on the other hand, define one of many paths to reach your end goals.

Here’s a simple example:

Let’s say you want to see your favorite music group perform live in concert. That’s an end goal — it defines your outcome. You want to be there in person and enjoy that particular experience. It’s not a stepping stone to anything greater, and no substitute experience would produce the same result.

Now suppose a radio station is having a contest where the prize is two tickets to that concert, and you decide you want to win that contest. That’s a means goal. Winning the contest is not the final outcome you’re after. It’s only one of many ways that could lead to you sitting at that concert.

But if you don’t win those tickets and fail at your means goal, you may still be able to achieve your end goal. You just need to find another way to get to that concert.

Sometimes we get blocked on the path to our goals. But many times it’s just the means goals that trap us, and if we stay flexible, we can plot an alternative route to the same ends."

The fiscal policy and practices of the government appear trapped in the means goal.

Ideally the primary objective of a democratically elected government is to govern in a manner that ensures safety & security (financial, physical, social) of the citizen and provide an environment that is conducive for their overall growth and enrichment.

The policies like fiscal, monetary, human resource development, environment, resource management (energy, water, land, minerals etc) are all means to achieve the primary goals. No means shall become an obstruction in the achievement of the primary objectives.

For example, if the fiscal policy of the government becomes a hindrance in achieving the primary goal, the government must consider alternatives rather than staying trapped in this means goal to the detriment of the primary goal.

Wednesday, November 13, 2019

Slowdown deepening and widening

In the month of September, India’s industrial output contracted the most in nearly eight years with weakness seen across most key segments. Of the 23 sub-sectors within manufacturing, 17 recorded year-on-year contractions.

The Index of Industrial Production contracted by 4.3% in September 2019 over last year compared to a contraction of 1.1% in August. The contraction is much higher than the generally expected number of 2 to 3% contraction. For records, this fall in industrial output is the deepest since October 2011. As of now, the first half of the current fiscal has recorded an average growth of 1.3% in the industrial production.

The capital goods segment, that reflects the growth in investment activity, contracted 20% in September after a 21% fall in August.

The consumer durable production contracted for the fourth straight month in September. The worst, consumer non-durable category also recorded its first contraction in FY20 during the month of September.

The data has led to a spate of estimate downgrades of GDP growth estimates. The consensus now appears veering towards 5% GDP growth in FY20 vs previously estimated 6.5%. The lead indicators are pointing that despite festival season, the growth in the month of October has also remained poor. The consensus for FY21 GDP growth now appears close to 6%.

More notably, in some quarters the slowdown is being acknowledged as "structural" and no longer "cyclical". As per Devendra Kumar Pant, chief economist at India Ratings & Research "The economy is presently facing a structural growth slowdown originating from declining household savings rate, and low agricultural growth. Low agricultural growth is feeding into low agricultural and non-agricultural wage growth in rural areas, which is impacting rural demand adversely."

In the meantime two events worth taking a note have taken place:

Dr Manmohan Singh, former PM has been again appointed as member of the Parliamentary standing committee on finance. He replaces the Congress party representative Digvijay Singh.

As per media reports, the Chief Statistician of India Pravin Srivastava has hinted that a decision to bring the base year for calculation of real GDP growth forward to 2017-18 from the present 2011-12 may be taken soon. This change in base may bring the real FY19 GDP growth number closer to 8% against the present 5%.

Friday, November 8, 2019

Bumps ahead, remain cautious

The autumn festival season in India shall end with Kartik Purnima and Guru Nanak Dev's birthday celebrations next Tuesday. From the following Monday (18th November), a four week winter session of the Parliament will start. Given that the festival season has failed to bring the much awaited cheers to the economy, and the distress of common man appears to be deepening further with each passing month, the government will have lot of explaining to do. Besides, the Supreme Court verdict on the Ayodhya dispute (expected next week), may also cast a shadow on the parliamentary proceedings. Going by the past trends, the treasury side would be happy if the opposition disrupts the parliament proceedings on non economic issues like Curfew in J&K, phone tapping by Israeli firm, NRC, pollution, onion prices etc.

As per a recent survey report by Bank of America - Merrill Lynch (BAML), more than 90% of storekeepers in Mumbai indicated footfalls were lower than the last year’s festival period.

Notwithstanding the all time high levels on benchmark stock indices, it is almost a consensus view that "India is witnessing a sharp slowdown due to waning consumption and businesses had pinned their hopes on Diwali for a revival in sales. Purchasing managers surveys on manufacturing and services activity for October indicate that demand in the economy is still pretty weak."

The economists have drastically scaled down their estimates for the GDP growth in 2QFY20 from upwards of 6.2% to the range of 4.5 to 5.5%. If we consider the below par Diwali sales, the corporate commentary and the erratic weather pattern which has disrupted both the agriculture and construction activities, the forecasts for 3QFY20 may also require a great deal of moderation. The growth for full year FY2020 is therefore more likely to be closer to 5.5% rather than 6.5% as previously estimated. This will reflect certainly reflect on the revenue collection as well, requiring moderation in the fiscal balance.

The global scene also does not look very promising either. As per the CITI Bank Global Research, in the current year (2019), the overall world GDP is likely to grow at 2.7% (vs 3.2% in 2018). The growth rate for 2020 and 2021 is also expected to remain almost the same as 2019. The developed industrial economies are expected to grow @1.7% in 2019 (vs 2.2% in 2018) and slow further to 1.5% in 2020. The emerging economies may likely grow @4% in 2019 (vs 4.5% in 2018).

The global volatility and uncertainty may see sharp acceleration in 2020 due to Brexit, US Election, Sino-US trade logjam and tense geopolitical environment. The risks to the estimates therefore could be more on the downside rather than the upside.

Considering this the Outlook for FY21 also does not look much brighter at this point in time at least, notwithstanding the weekly dose of stimulants being administered by the finance minister.

In my view:

(a) The earnings recession that started from FY12 may continue through FY21.

(b) The fiscal constraints may force government to increase net effective taxation; though the incidence of tax may shift towards the wealthy from the middle classes. Expecting any major tax relief from stock market perspective from Budget for FY21 may be little unreasonable.

(c) The smaller doses of stimulants being administered by the government and RBI at periodic intervals may eventually prove to be counterproductive as with each such dose the ability of the government and RBI to provide further stimulus is diminishing.

Thursday, November 7, 2019

Trade can make everyone better off

One of the key principles of economics which underpins the very concept of globalization is that "trade can make everyone better off".

As per the famous economist Gregory Mankiw, "Trade allows each person to specialize at what he or she does best, whether it’s farming, sewing, or home building. In the same way, nations can specialize in what they do best. In both cases, people get a wider range of choices at lower prices."

Conceptually therefore no one should have a problem as such with trans border trade, so long it benefits the people at large in both the producer and consumer jurisdictions.

If we want to understand it in the context of India's decision to withdraw from the RCEP agreement (see here) consider this. One of the examples cited for this decision was the threat of New Zealand dairy product flooding Indian markets and harming poor Indian milk producers.

It is pertinent to note that India is the largest producer of milk in the world. However, the largest amount of production is not large enough to provide affordable milk to a large section of the population. The average rate for a liter of milk in India ranges between Rs40-55. At constant prices, the consumption of milk and milk products has grown at a meager 1.6% CAGR between FY12 and FY18, while at current prices it has recorded a growth rate of ~9% over the same period. The inflation rate of daily products is thus quite high for a country that has a vast population of malnutritioned and undernutritioned, especially children and women.

Now, if a trade agreement allows import of milk at much lower rate, i.e., Rs15-20, why should it be a matter of concern?

A balanced approach, in my view, would include - (a) All the state governments should be allowed to import cheaper milk to be provided to the children in schools, the pregnant and lactating mother registered with government health centers, registered MNREGA workers and BPL card holders; (b) Intensive programs may be run for local dairy farmers to increase the productivity of their livestock through breed improvement; (c) Fully integrated dairy farms may be established in each block of the country to maximize the productivity through modernized production & processing of milk, production of bio gas and organic fertilizers from the dung.

But this is the ideal situation, which rarely exists. In the modern day complex world, the economic considerations are heavily influenced by geo-political, domestic political and "other" considerations.

To understand the full context of RCEP in relation to India, it may be pertinent to note the following:

The current economic model being pursued since economic liberalization started in 1991 is largely a distortion of the classical Keynesian model that advocates a larger role for the private enterprise with active state intervention during extremities of business cycle and argues against higher savings in both private and public sector. The Keynesian model has its genesis in the great depression and mostly found useful during larger economic crisis.

As Chief Minister of Gujarat, the incumbent prime minister appeared an advocate of laissez-faire or free market which entails minimal state intervention even during crisis. He had implemented the model in Gujarat albeit with limited success.

However, as he must have realized by now, considering the present state of socio-economic development of various parts of the country, it is perhaps 10-15years too early to test the laissez-faire model at the pan-India level.

The major challenge before the government therefore is to find a balance between the desirable laissez-faire model and the current variant of Nehruvian socialism model.

From whatever I have deciphered from the incumbent government's policy, it is planning to achieve the balance through (a) reforming institutional framework to promote ease of doing business; (b) materially enhancing physical infrastructure through public investment to improve logistic support for the businesses; and (c) encouraging entrepreneurs to invest in business ventures that will create productive jobs for the burgeoning Indian workforce and improve trade balance of India through export promotion and import substitution.

For executing the plan it has proposed to (a) rationalize social sector spending to save public resources for investment; and (b) liberalize capital controls (FDI rules) to encourage foreign investors to invest in manufacturing facilities and services like insurance, banking, retailing etc.

This strategy has faced opposition from both political class and civil society. Moreover, the government has thus far not been able to make a convincing case about its strategy. It is creating doubts in minds of investors and entrepreneurs with regard to the capabilities of the government in successfully achieving the desired balance.

The withdrawal from RCEP, in my view, is also part of this balancing exercise.

Insofar as geopolitical angle in this step is concerned, I find the following article of Sanjay Baru (media advisor to the former PM Dr. Manmohan Singh) interesting.

Modi govt should use the RCEP pause to take tough decisions

The suggestions of Karan Bhasin in the following article are also worth taking a note:

Never Mind The RCEP: Why India Must Get Down To Sealing Critical Trade Agreements With EU, US And Post-Brexit UK

Wednesday, November 6, 2019

RCEP - politics, geo politics and trade

India has reportedly decided not to join the Regional Comprehensive Economic Partnership (RCEP). The decision, as per the External affairs ministry’s secretary (East), Vijay Singh Thakur, reflects both the government’s assessment of current global situation and of the fairness and balance of the agreement.

The Regional Comprehensive Economic Partnership (RCEP) is a proposed free trade agreement (FTA) between the ten member states of the Association of Southeast Asian Nations (ASEAN) (Brunei, Cambodia, Indonesia, Laos, Malaysia, Myanmar, the Philippines, Singapore, Thailand, Vietnam) and its FTA partners (China, Japan, South Korea, Australia and New Zealand).

The process of forming RCEP was initiated in the August 2011 ASEAN meeting. The formal negotiations were launched in 44th ASEAN summit in August 2012. Since then 27 rounds of negotiations between officials and three summits of the leaders of the proposed participants have taken place. In December 2014 on the sidelines of the 6th round of negotiations held in New Delhi, the Government of India had held an outreach event with their business community to educate them on the goals of RCEP, showing keenness to join the partnership.

Had India joined RCEP, it would have been the largest trade agreement in the global economy, involving over one third of world's GDP and more than half the world's population.

In his speech at the 3rd RCEP Summit, PM Modi said “The present form of the RCEP Agreement does not fully reflect the basic spirit and the agreed guiding principles of RCEP”, adding that "India’s farmers, traders, professionals and industries have stakes in such decisions." Citing the economic principles of Gandhi Ji, the PM said, "When I measure the RCEP Agreement with respect to the interests of all Indians, I do not get a positive answer. Therefore, neither the Talisman of Gandhiji nor my own conscience permits me to join RCEP."

The present format of RCEP agreement, required India to abolish tariffs on 74% of goods from China, Australia and New Zealand, and 90% goods from Japan, South Korea and ASEAN.

Apparently, the decision to withdraw has been taken in the interest of India's poor, farmers and to give an advantage to India’s service sector, as the Indian negotiators felt that India may become a dumping ground for cheap Chinese goods, devastating millions of small and medium Indian enterprises, especially in the manufacturing sector.

As the things stand today, the RCEP agreement is likely to be finalized and signed in 2020. Chinese officials have been quoted as saying that India is welcome to join the RCEP later.

The right wing ideologues of the ruling BJP, like Swadeshi Jagran Manch, RSS etc have welcomed the decision. The principal opposition party the Indian national Congress (INC) has also welcomed the decision (though they claim that the government was forced by them to withdraw from RCEP). The reactions of the economists, business analysts and political observers have been rather ambivalent.

In my view the decision has to be viewed from the domestic politics, geo-political and economic angles.

The domestic political establishment was vertically divided on the issue of joining WTO in 1995. There were widespread farmers' protests and even violent demonstrations. Regardless, the minority government led by PVN Rao took the decision to become full member of WTO. There is little evidence to indicate that Indian agriculture, manufacturing and trade would have performed better had India not joined WTO in 1995 full member.

Geo politically, the decision to withdraw from RCEP might be viewed as India siding with the USA in Sino-US trade conflict.

Tuesday, November 5, 2019

Keep the wheels of economy in motion

In one of his recent interview, Brian Coulton, the Chief Economist at Fitch Ratings, emphasized that the persisting credit squeeze in the Indian economy may hurt the economic growth much more than the present estimates. Brian cautioned that the GDP growth in FY20 could slip to 5.5%, much below the current RBI and government estimates of 6%+ growth.

For records, the Indian economy grew at the rate of 5% in the first quarter (April to June 2019) of the current fiscal year, the slowest in more than 6 years. The slowdown was visible in all sectors of the economy including agriculture, manufacturing and services. Within services, the growth in finance, insurance and real estate sectors was cited as particularly worrisome, as it highlighted poor credit conditions.

Besides, the credit availability, the high cost of credit is cited as one of the constricted factors. Despite 135bps cut in policy rates in the year 2019, the real rates are found to be still elevated, constraining the growth.

The GST collections for the month of September have reported at Rs 95,380cr a year-on-year decline of 5 percent and 3 percent lower than the monthly average of Rs 98,114 crore for FY19. The GST collections in FY20 have been consistently below the budget estimates. Juxtaposed to the shortfall in income tax collection, it does not augur well for the fiscal balance. The scope for the fiscal stimulus as widely anticipated by the market participants appears very limited. In fact, the government may actually be forced to increase the effective taxation for the affluent section of the society in the forthcoming budget.

Reportedly, housing sales declined 9.5 percent during July-September period across nine major cities to 52,855 units on low demand as economic slowdown and liquidity crisis weighed on buyer sentiment. As per the PropEquity data quoted by Bloomberg, Chennai saw the maximum fall of 25 percent in housing sales at 3,060 units during July-September 2019 as against 4,080 units in the year-ago period. Housing sales dropped 22 per cent in Mumbai to 5,063 units from 6,491 units, followed by Hyderabad that saw 16 per cent decline to 4,257 units from 5,067 units.

Notwithstanding some encouraging sound bites from the corporate leaders this Diwali, the recently released data on core sector growth belies the optimism. The growth in India’s core sector output contracted 5.2% in September 2019, its worst performance since 2005. All sectors in the core index, with the exception of fertilisers, posted a contraction. The data indicates the economy may have slipped further in the 2QFY20, confirming the fear of rating agencies and economists. As per some estimates the GDP growth rate for 2QFY20 could be closer to 4% rather than 6% as widely anticipated.

Two short points I would like to make here are as follows:

The growth slowdown is real, persistent and widespread. A part of this is certainly cyclical, but treating the entire thing as such may be misleading. The structural part of the downward shift in growth curve needs to be acknowledged, identified and treated separately.
The adhoc stimulus must be directed at boosting both consumption as well as investment demand. The measures like corporate tax rate restructuring, and ease of doing business shall have impact only in due course; and for these measure to have any impact the wheels of the economy must be kept in motion.