Friday, February 29, 2008
There are a couple of issues I would like to flag. The Survey notes that we could achieve one of the FRBM targets by 2008-09, namely, the reduction in fiscal deficit to 3% of GDP. We are unlikely to meet the target of reducing revenue deficit to zero. I have a problem with the suggestion that we should consider even further reduction in the FRBM targets.
What's the rationale for a further reduction? The Survey argues that such a reduction would make monetary policy more effective- it would be easier to bring down interest rates. I do not find this line of argument persuasive.
We have had even higher levels of fiscal deficit in the post-reform years and yet interest rates declined. Why? Because in an open economy, interest rates are not determined only by domestic savings- we have access to savings from outside. Secondly, as the Survey itself notes, there has been a trend towards narrowing of the interest rate differential between India and the developed world in recent years.
The danger with pursuing the Survey's line of argument is that we lose out on a key item of expenditure, public investment. As I argued in my recent ET column, I actually favour a relaxation of the FRBM limit so as to permit larger public investment in infrastructure (and here I include investment in agriculture) which has been languishing in recent years.
This will upset fiscal purists. But the point is that we should not get carried away by slippages in respect of deficit targets at the center. The states have been doing better than expect and as a result the combined fiscal deficit of the centre and the states, which is what we should be focusing on, is likely to be within the 6% limit stimulated by the Eleventh Finance Commission by, say 2008-09- perhaps even if we include off-budget bonds and the Pay Commission impact !
All our deficit targets were set at a time when the optimistic expectation was of growth of 7-7.5%. Once you move into the 85.-9% range, you have that much more flexibility in respect the deficits you can run up. Timidity is likely to be our greatest enemy.
The other comment is about the laundry list of "reforms" that the Survey proposes. I notice that this is no longer the list we saw through the nineties and until a few years ago- cuts in subsidies, downsizing of government, labour market reforms, privatisation, all taken straight out of the infamous "Washington Consensus".
No, today's list includes a more liberal FDI regime for insurance, retail trade and banking, private sector entry into coal, deregulation of fertilisers, sugar and drugs, etc. Now, we can debate the merits of these proposals but how critical are these to growth? Are they saying that we can't get to 9% growth without these? If they are, then they are dead wrong.
None of the earlier "reforms" was seriously implemented and yet we move from 6.5% to 8.5%. I daresay that without the latest set of reforms we will get to 9%. Stay focused, I say, on creation of capacity in physical and social infrastructure and growth will take care of itself.
Wednesday, February 27, 2008
How far does this accord with reality? Well, apparently the film, There will be blood, for which actor Daniel-Day Lewis won the Oscar this year, has a different view. It shows an oil prospector who goes on to make fortune and destroys people along the way. The history of business enterprise is replete with such leaders, not the evolved souls portrayed in the business media. Luke Johnson, chairman of Channel 4, writes in FT:
As you claw your way to the top of the capitalist heap, the struggle can blunt your senses. All too often self-made men have come up the hard way and they see existence as survival of the fittest. Commercial success is about endless tough decisions – getting out of messy situations that haven’t worked, beating the competition, running a low-cost operation and so forth.
But sometimes the oxygen in the boardroom can get mighty thin and bosses lose perspective. Partners, family and friends can get sacrificed for another deal, another dollar. Occasionally paranoia sets in: it appears everyone is out to steal your money, seize your crown. Bright rising stars are seen as a threat, and are dispatched.
Loyal supporters are suddenly seen as spies. Too often, the super-rich end up surrounded by flunkeys and parasites, the most apocalyptic example being desperate old Howard Hughes with his Mormon handlers, going mad in a Las Vegas hotel.
Alas, there is great truth to all this. Those who have watched CEOs and business tycoons from close quarters are often struck by their utter lack of scruple and often at how emotionally unbalanced they are. That is because, in hacking their way to the top, many of these people manipulated, deceived, cheated and sucked up as required.
A certain lack of scruple- and particularly the ability not to strike a dissenting note- is virtually a requirement for making it to the top. Most people have no difficulty associating this trait with politicians. But there are politicians in every organisation- and they are no different from those who practise politics for a living.
Thursday, February 21, 2008
How come medical and law school academics' papers are read? How come those schools influence practice more? Michale Skapinker has an explanation in FT:
Law, medical and engineering schools are subject to the same academic pressures as business schools - to publish in prestigious peer-reviewed journals and to buttress their work with the expected academic vocabulary.
The reason that real-life lawyers, doctors and engineers have no problem with their research is not because they are smarter than business people, but because the research assists them in what they do.
Lawyers and doctors proceed from a corpus of knowledge and build on it. They look at what their colleagues do and try to do it better.
They are also dealing with more predictable material. People's hearts, lungs or nervous systems behave in similar ways. The way people behave in the office is far more mysterious. What works in one company may not work in another.
Managers tend to be practical rather than theoretical, proceeding by trial and error: this works, that doesn't. Rather than building on competitors' achievements, the best often seek to do something different.
Business schools can describe what innovative companies have done: Harvard's case study method does just that. But this is, by definition, backward-looking. Business school professors will struggle to tell us what innovators will do next. If they knew, they would surely do it themselves.
Wednesday, February 20, 2008
It is one of those situations when the government is compelled to step in. Will Hutton points out in the FT that this compulsion has manifested itself before. Governments took over major private enterprises in the UK and re-privatised them when their fortunes improved. Further, private enteprises do benefit from a variety of government actions that fall short of nationalisation:
As the postwar period wore on, nationalisation became more obviously justified only by pragmatism, whatever the rhetoric. The government of Edward Heath did not nationalise Rolls-Royce for any reason of socialism; it took it into temporary public stewardship because its technology was deemed too important to allow it to slide into bankruptcy – a decision amply justified by events. The government of Harold Wilson could justify the nationalisation of the bankrupt shipbuilding industry and British Leyland only because it was the last hope of saving them and, as it transpired, organising their orderly dispatch. The Bank of England did not “nationalise” the secondary banks in 1974; it operated a financial lifeboat for the same pragmatic reason that today’s government has ended up owning Northern Rock. It was likewise for this reason that the US government came to own Continental Illinois in the 1980s.In other words, it is not always public versus private ownership. There is a continuum in ownership with nationalisation at one end and zero government support at the other. Most enterprises come in between. At which point in the continuum particular businesses should be located is a determination one makes on pragmatic, not ideological grounds. But die-hard advocates of the market just can't see that.
......There are few companies in the FTSE 100 that have not in some way had their franchise today shaped, supported and helped by government action. One obvious example is BP, which was nationalised by Winston Churchill in 1913 in part for the pragmatic rationale of securing oil supplies. But Vodafone, which was given the 900 MHz spectrum on which to launch mobile phone services by Margaret Thatcher, and GlaxoSmithKline, which was until recently accorded generous margins by National Health Service procurers to support pharmaceutical research, are other examples. Whether it is ITV, BAE Systems, Tesco, HSBC, Johnson Matthey or Standard Chartered Bank, every corporate history is intertwined with the state.
What about the return on equity of the firms themselves? Investment banks have enjoyed a return on equity that is the envy of their peers in other businesses. Long term on equity for the top investment banks has been 16%- there have been periods when RoE has been as high as 48%. It would be interesting to see what the returns look like over a typical business cycle- say, after taking into account RoE in 2007 and 2008. The RoE would fall quite a bit.
This suggests that RoE figures for investment banks at any given point in time are deceptive because they don't quite factor in risk. We need really to measure risk-adjusted return on equity for investment banks. Or return on risk adjusted capital. Investment banks must put out these numbers so that market valuations can be based on these.
True, investment banks and banks are perceived to be riskier than the broader market which is why they trade at a discount to the market multiple. But these discounts may not be taking into account risks at a given point in time. More importantly, these discounts may not be taking into account institution-specific risk. The only this can happen is if these institutions are valued and compared on the basis of returns to risk adjusted capital.
Valuing investment banks on the basis of RoE can lead to huge distortions and inflated values at any given point because the underlying risks are not quite taken into account
Friday, February 15, 2008
Khurana notes that somewhere along the line b-schools changed their objective from producing managers to producing leaders. He thinks the latter is a spurious or delusory objective because the entire literature on leadership fails to shed light on what precisely are the ingredients of leadership or how these can be acquired:
Despite tens of thousands of studies and writings on leadership since the days of the Ohio State Leadership Studies, several scholarly reviews of the literature on leadership have found little progress in the field since Chester Barnard observed in the 1930s that leadership in general, and particularly the "Great Man" view of the topic popular in his day, was "the subject of an extraordinary amount of dogmatically stated nonsense".
For example, Ralph Stodgill in 1974 and Bernard Bass in an independent study conducated in 1981, exained more than 4,700 separate studies of leadership and found little ni the way of a conceptual framework or frameworks in this field. Stodgill stated that an "endless accumulation of empirical data has not produced an integrated understanding of leadership" Bernard Bass found a surprising lack of clarity for a subject that was supposedly being examined in a scholarly manner, noting that most studies failed to even define the terms leader and leadership.
The composition of the search committee is interesting. Neither the director nor the chairman of the board heads the committee- the chairman is M G Bhide, formerly of Bank of India and National Institute of Bank Management. The sole representative of the Institute on the search committee is director G Sethu. All the others are eminent professionals from outside. In governance terms, NISM certainly has made a very good start.
Wednesday, February 13, 2008
But that does not deter management professors and trainers from drawing 'lessons' in leadership all the time. There are lessons from literature, from movies, from the Bhagvad Gita, from war. The implication is that it is possible to distil from various experiences a set of ideas as to what leadership is all about, ideas that any manager can then practise. I recall the Indian cricket team being put through a commando training module. There are leadership programs where you climb mountains, trek across the countryside, spend time in camps and so on.
How refreshing, then, to come across a piece in FT that debunks this whole idea. Stefan Stern ran into a survivor from a plane crash in the Andes mountains. Pedro Algorta was one of 16 (out of 45 people on board) who survived 72 days in the worst possible conditions- -30 C temperatures, avalanches, having to eat the flesh of dead passengers.
He then did his MBA at Stanford and went on to become a successful CEO. You might think the ordeal he went through and the heroism he had displayed earlier contributed. Not at all! Algorta attached very little importance to his experiences and never even talked about these to anybody.
If there were no great 'lessons' from Algorta's ordeal- at any rate, lessons that contributed to his business success- surely a three day mountain climb or cross-country trek is not going to produce the next Jack Welch.
So why the silence until now? “I was busy being a chief executive,” Mr Algorta told me. Did you ever speak to colleagues about your experiences? No, he said. Did you draw on them consciously? I never thought about it, Mr Algorta maintained.
Which leaves me struggling with a paradox. Of course, those events of October to December 1972 were extraordinary. It must have been a terrifying, shattering experience. It was a privilege to hear about it at first hand.
But even Mr Algorta suggests that, for him personally, these events had no specific impact on his business career. (You may or may not believe this. But it is what he says.) He got on with the life he had been planning to lead before the crash happened. And, while many people around the world will queue up to hear his story, Mr Algorta himself remains disarmingly modest. “I’m not a guru, I’m not a prophet,” he told me.
Monday, February 11, 2008
I am gratified, therefore, by the comments of a manufacturing head in Europe. BASF CEO Jürgen Hambrecht is quoted in the FT as saying:
“I am glad to say that business in general does not show the panicking approach of the financial industry. The reality is better than the words [written about the scale of problems] and I am sleeping well at night. ...In the real economy – in much of manufacturing – many companies have a big order backlog and are extremely busy with meeting demand. In this context, why should there be a big, big crisis? I can’t see this happening."The FT report adds:
European manufacturers remain optimistic that sales will increase in 2008 and their businesses will remain immune from deepening gloom over the US’s economy and in its companies.<>In a pan-European survey of expectations by the NTC Economics consultancy, 56 per cent of European manufacturers expected sales volumes to rise in the coming year compared with 12 per cent forecasting a declineIt makes me wonder.... How much of the panic in the financial markets is intended to be self-serving? You create a big hullabaloo so that the Fed keeps cutting rates and this helps shore up asset prices. Good for bankers and their bonuses but does the world economy need all this pessimism and the Fed response to it?
Sunday, February 10, 2008
The details are yet to be worked out but it seems three models are being considered:
- Fully-managed private schools.
- A joint venture where the state invests in infrastructure and frames the syllabus. The industry takes care of providing tuition to students and managing the welfare of teachers.
- Limited role for the industry under which it will provide and maintain school infrastructure.
Why private sector?: Government lacks resources to set up schools with adequate facilities. Government cannot run these schools well- witness, the high rates of teacher absenteeism and dropouts amongst students and also the low level of skills that many students display. The private sector can do a better job of running such schools.
There is a certain smugness about such arguments as though the problem and the solutions are self-evident. Public sector is bad, so let in the private sector. It is possible to disagree.
First, there could be other answers to teacher absenteeism, such as empowering parents or the local community. Secondly, high student dropout rates may have to do with socio-economic compulsions which won't go away even if the private sector steps in. (How many successful private schools exist in the remote rural areas, I would like to know).
Thirdly, the problem could the insistence of state governments on providing education in the local tongue when the clamour all round is for education in English. Parents and students don't see value in local language education provided by state schools. The preference for private schools in metros amongst the lower strata of scoeity could be just a preference for English education.
What value would the private sector add?: Krishna Kumar of NCERT has a critique of the PPP model in education in EPW (January 19-25, 2008). He says that if funding or facilities are the problem, the private sector could step in with financial support. Why can't telecom companies provide rural schools with free telephone facilities, for instance? The private sector could help not just with physical infrastructure but with 'software' such as teacher training on a big scale, given that there is hug gap in this area today.
But, no, these are not things that interest the private sector. Krishna Kumar also makes the point that PPP is something of a misnomer for what its advocates have in mind. They are not thinking of collaboration with government as the word 'partnership' suggests- meaning, the government provides the infrastructure and the private sector manages the school, so that government schools become more efficient.
What is meant by PPP more often than not is simply allowing the private sector into schools in a bigger way with generous government support. If this is intended, why make a big deal about it? We have had government-aided schools for decades now, so the idea itself is not novel. Calling it PPP is simply a way to give it greater acceptability.
The key issue in PPP is whether the private sector is willing to go with the second model mentioned above- the government provides the infrastructure and the private sector runs the school well. Also key is whether the private sector is willing to run it without wanting to make profit. Several snall-scale NGOs may be willing to do so but not necessarily corporate NGOs.
Arguments about private sector 'quality' can be easily overdone- as I keep asking all the time, how come, despite all the opportunities given to them, the private sector has not been able to produce quality in higher education comparable to what the IITs and IIMs have done? I would like to hear from readers about a quality schools run by the private sector in remote rural areas and that also offers education in the regional language.
State's role in education: Krishna Kumar points out that nowhere in the world has the state abdicated its responsibility for primary education. It should not happen that PPP here just becomes a euphemism for the state not living up to its duty to provide basic education to all. If there is any conclusion to be drawn from the proliferation of private institutions in higher education, it is that the profit orientation in the private sector tends to lead to escalating fees and under-hand payments that, in turn, lead to the exclusion of the economically disadvantaged.
We have a huge youth population that needs education. Any model of education that is non-inclusive can result in a social explosion.
Thursday, February 07, 2008
- Liquidity risk needs more attention than hitherto
- Rating of securitisation tranches needs to be put under the scanner
- How much of securitisation is permissible- and how much of the loans should remain with the originator- may need thinking through
- We need better pricing of risk although where the models have gone wrong is not clear
- Greater transparency is required in respect of derviatives exposures- in credit default swaps, for instance, the total volume of contracts written on an underlying credit must be known
But this is not enough. We need a more direct attack on incentives- and this may require regulatory action because I doubt that the banking industry will want to do anything about it once the crisis blows over. I have written about this in earlier posts but, very briefly, three steps are in order:
- the magnitude of bonuses needs to be contained
- bonuses at the top must be in the form of stock options that vest over a period of at least five years
- bonuses must not be paid out in full for a given year of performance; a big percentage must be held over for, say, five years and it must be used for adjustment against any losses that a manager inflicts on the bank.
Wednesday, February 06, 2008
First, bonus schemes need to be more long-term oriented. Instead of being primarily based on last year’s performance, the bonus should take the performance of several years into account. One way is to pay out only part of the bonus in profitable years. The non-distributed part would be set aside as “reserves” that could be used to cover any losses in the future.
.....Second, the level of the average bonus in investment banking should be reduced in order to take into account that potential losses are not borne by the employee. One way is to limit the maximum bonus in a bank to the bonus of the chief executive. The fact that in the past some rewards exceeded that of the chief executive illustrates that schemes were not designed in an economically efficient way. In a profit-maximising, privately owned company the chief executive is supposed to be the employee with the most skills, who adds the most value.
Third, guaranteed bonuses should be abolished. They are a contradiction in terms, since a bonus is by definition the variable component of the compensation. Guaranteeing bonuses releases the employee from the requirement to make at least a small contribution to cover the losses he may generate.
Tuesday, February 05, 2008
The IMF sees US growth at only 0.8% in the fourth quarter of 2008, which implies a slow recovery from the present problems. I am rather more optimistic on this count, so global growth might end up a little higher than the IMF's revised forecast.
The IMF sees China's growth decelerating moderately from 11.4% to 10% but the World Bank sees a steeper decline- to 9.4%. Decelerating exports will contribute to this, according to the Bank. My reckoning is that the severe snowstorms in recent days will be an equally big factor.
On balance, I think the US will do better than the IMF thinks and China a little worse, so I see global growth in the region of 4-4.4% for this year.
There is a clamour all the time to reduce subsidies in higher education. Higher fees are perfectly okay as long as loan finance is available- this is the new mantra of those sold on market economics. The IIMs have been raising fees over the past several years and the coming year will see a big jump in fees in some of the IIMs, including IIMA.
When former HRD minister MM Joshi sought to peg fees at Rs 30,000 there was a huge uproar. What was overlooked subsequently was that the IIMs quitely accepted under Arjun Singh the principle of a big subsidy in fees for those coming from families with income upto Rs 200,000.
Those who advocate the proposition that fees should be market-related or that fees must recover costs of education overlook one crucial fact: nowhere in the world, certainly not in quality institutions, is this proposition rigidly adhered to. On the contrary, as a story in the Economist points out, top universities in the
Formidable financial-assistance policies have eliminated fees or slashed them deeply for needy students. And last month Harvard announced a new plan designed to relieve the sticker-shock for undergraduates from middle and even upper-income families too.Why would Harvard and Yale want to provide subsidies to "middle and even upper income families"? After all, anybody who studies at these places should be able to earn to repay student loans?- the point that is made ad nauseam with respect to IIMs. I can think of several reasons.
Since then, other rich American universities have unveiled similar initiatives. Yale, Harvard's bitterest rival, revealed its plans on January 14th. Students whose families make less than $60,000 a year will pay nothing at all. Families earning up to $200,000 a year will have to pay an average of 10% of their incomes. The university will expand its financial-assistance budget by 43%, to over $80 mn.
Harvard will have a similar arrangement for families making up to $180,000. That makes the price of going to Harvard or Yale comparable to attending a state-run university for middle- and upper-income students. The universities will also not require any student to take out loans to pay for their tuition, a policy introduced by Princeton in 2001 and by the
just after Harvard's announcement. Universityof Pennsylvania
One, to attract the broadest possible range of talent. High fees, it is implicitly conceded, constitute an entry barrier for some talented students at least. Two, even in the
Three, quality institutions do not operate on the principle that they must recover costs (plus profit) through student fees. Just as newspapers recover costs through ads, not the sticker price, so also educational institutions get their funding from other sources- either government (as in much of Europe) or through endowments (as in much of the US). The idea of a subsidy is thus built into higher education, the only issue is the source of subsidy. It follows that if the leading IIMs are loath to accept government assitstance, they must find ways to generate endowments. Higher fee is not the answer.
Four, when we talk of a subsidy, we should know exactly what the costs are. To simply say that costs are rising and therefore fees need to rise is not enough- the costing of a particular programme must be done rigorously with proper allocations of overheads and this must be certfied by an appropriate authority.
One final thought. I recall my days at IIT Bombay at a time when the fees were laughably low. The one thing that astonished me was the number of people who had come from small towns- these constituted the raw, intellectual firepower of the school and many went on to make waves in the US. They came in because the fee was eminently affordable (student loans were hard to come by at the time). I have little doubt that high fees would have acted as a deterrent to many of these families even if loan finance had been available.
That experience gives me the utter conviction that escalating fees in higher education are the route to exclusion and elitism and the snuffing out of great talent.
Friday, February 01, 2008
I tend to put a safe distance between Godmen and myself but, then, the Dalai Lama's attraction is that the does not pose as a Godman at all- he's quick to repudiate the familiar description of him as the 'living incarnation of the Buddha'.
No, the Dalai Lama commands respect more on account of his moral stature- as the leader of an oppressed people and as the propagator of a secular version of ethical living. As he said at IIMA, ethics can be founded on theistic religion, on non-theistic religion and on a wholly secular basis. As far as he was concerned, any version was fine. The Dalai Lama is refereshingly from dogmatism.
The Dalai Lama gives the impression of being completely down to earth- his laughter is infectious- but his whole persona suggests that the appearance is deceptive. He is relaxed, energetic and exudes a certain serenity- for all his attempts to downplay his holiness, he comes across as an evolved soul.
The Dalai Lama did mention Tibet and his hopes for it during his interaction at IIMA. As China grows in strength, the aspirations of Tibetans or at least the Dalai Lama's flock appear to wane. Politics in recent decades has been full of surprises- the break up of the Soviet union, the return of East Europe to democracy and capitalism, the crumbling of apartheid were all sudden and dramatic events. Likewise, a sudden twist in Tibet's fortunes cannot be ruled out. But it's hard to visualise one in the near future.
I have more impressions on the Dalai Lama in my ET column.
I return to highlight the growth peak of 9.6% the Indian economy touched n 2006-07- this is said to be the highest growth rate in 18 years.
My immediate responses:
- The achievement is all the more remarkable because it comes on top of three years of high growth prior to 2007-08.
- For four years now, the actual growth rate has exceeded most forecasts. For 2007-08, the forecast was in the range of 8.5-9% and the earlier estimate 9.2%. For 2007-08, the RBI forecasts 8.5% and the Economic Advisory Council 9%. These two forecasts rested on the previous estimate for 2006-07. Now that we have a higher base for 2006-07, will the forecast growth for 2007-08 materialise? Going by recent experience, yes it will!
- More interesting is the outlook for 2008-09. The EAC, the RBI, the Deputy Chairman of the Planning Commission and the Finance minister are all sanguine about growth prospects despite the enveloping gloom arising from financial market turbulence. In government, it is fair to say, the consensus forecast remains close to 8.5% for 2008-09. More than the growth rates of the earlier years, it is an 8.5% growth rate in 2008-09- if it materialises, as I think likely- that will define in emphatic terms the turnaround in the Indian economy. The high growth rates upto now have been ascribed to the global bloom. To grow at the same rate in the midst of global turbulence will be some achievement.
- Higher than expected growth in 2006-07 changes one key fiscal number- the fiscal deficit as a proportion of GDP. It means that the fiscal deficit so defined was lower than shown earlier in 2006-07 and the forecast for 2007-08 will be surpassed. My guess is that despite the impact of the Sixth Pay Commission, the fiscal deficit target of 3% of GDP by 2008-09 will be achieved, although the off-budget subsidies on food, oil and fertilisers do understate the fiscal deficit.