EU- US Trade deal: Unconditional surrender

"Trump ate von der Leyen for breakfast", an irate Hungarian PM Viktor Orban commented after the EU-US trade deal was announced.

It wasn't just the terms of the deal, it was the optics that led up to it. EU chief  Ursula von der Leyen had fly to Trump's golf course in Scotland. She was made to wait until Trump and his son had finished their second round of gold. Then came the "talks" and the announcement.

Under the deal, most EU exports to the US would be subject to a15 per cent tariff. There is a small list of exempted items. The EU, in addition, commits to buying $250 bn worth of American oil and gas over the next three years and will also invest ove $600 bn in the US (the time period for which is not specified). EU car exports will face a lower tariff of 15 per cent compared to the 25 per cent they now face. However, steel and aluminium exports will continue to face a tariff of 50 per cent. Trump has also indicated repeatedly that punitive tariffs on pharmaceutical imports into the US are in the offing. 

What does the EU get in return? Well, it doesn't have to face the 30 per cent tariff that its exports would otherwise have faced. EU exports and growth will be adversely impacted but less so than if Trump had hit EU with the 30 per cent tariff he had threatened in the absence of a deal.

It's hard to think of a more humiliating moment for Europe. The EU's commitment to raise defence spending to 5 per cent of GDP under pressure from Trump was humiliating but at least that could be defended as self-interest. It was meant to protect Europe from the alleged Russian threat. 

The Europeans fear not just for their economy in the face of Trump's determination to effect tariff walls but about the US exiting NATO if they rub Trump the wrong way. It's hard to tell what Trump would do if annoyed. But the Europeans know that he can seriously hurt them.

As WW2 headed towards a finish, the Allies (Europe, the US and the then Soviet Union) framed an objective with respect to Germany: Unconditional Surrender. 

That would be an apt characterisation for the EU- Trump deal

Chandrababu Naidu's ambition for Andhra Pradesh: a "Quantum Valley"

I often wonder how some of the most striking news about India appears in the foreign press. An example is the report in the FT about AP CM Chandrababu Naidu's attempt to create a 'Quantum Valley' in his state: 

Naidu is seeking to build a tech park where developers and scientists can harness the nascent power of quantum computing for applications ranging from research to energy optimisation and manufacturing. 

“Indians are very strong in mathematics and very strong in English,” he said. “These two are a deadly combination for information technology.”

IBM, India’s Tata Consultancy Services and Larsen & Toubro are anchor investors for the Quantum Valley, where the US tech group is in discussions to build what it hopes would be India’s most powerful quantum computer.

The companies have not said how much they will invest in the project. But Scott Crowder, IBM’s vice-president for quantum adoption, described it as “pretty solid”, adding that the US company planned to provide computing power while L&T would build the infrastructure and TCS would find users.

The government of Andhra Pradesh in December also signed a memorandum of understanding with Google to set up an artificial intelligence data centre in Visakhapatnam, known as Vizag. Google says the project is in its early stages.

Naidu is seeking to replicate what he achieved in Hyderabad which he succeeded in turning into an IT hub. The electoral impact, though, was not entirely favourable. Many saw it as favouring the educated elite at the expense of large numbers of relatively uneducated people. Naidu's party was ousted from power in the undivided state. Naidu, one hopes, has learnt his lessons  and will steer Quantum Valley accordingly.

Libor-rigging: acquittal of two bankers

Post the Global Financial Crisis (GFC), the banking sector- and bankers- came under the scanner. The public was outraged that these men and women had laid low the entire global economy. (Never mind that the US Federal Reserve had contributed with its decision to let Lehmann Brothers fail).

The public demanded accountability. "Why are bankers not getting jailed?" was the general clamour.

In the numerous investigations that followed, the authorities discovered that the Libor rate, which was the reference rate for interest rates on various products, was being manipulated. This is how it happened.

Banks were required to submit their borrowing rates in the inter-bank market. The top 25% and the bottom 25% of the submissions would be left out and the rest would be averaged out to get the Libor rate. It turns out that bankers made incorrect submissions in order to benefit their trading positions. This was called the 'Libor-rigging' scandal. Harsh sentences were handed down on several bankers, quite low in the hierarchy but extremely well paid. The Libor rigging had little to do with the GFC but then this was all about throwing a few bankers to the wolves.

Two of the bankers convicted were Tom Hayes and Carlos Palombo. Hayes got a 14-year sentence, which was reduced to 11 years. Inmates his at his jail assumed he was a child sex offender given the severity of his sentence. Five and a half years later, Hayes has been acquitted. So has Palombo.

The Supreme Court of UK overturned their sentences recently on a technicality. The lower court judge, while giving directions to the jury, had said that taking commercial considerations into account while submitting Libor rates was a dishonest thing to do. The Supreme Court ruled that that was a matter for the jury to decide. For the jury to have taken that as a given meant that Hayes had faced an unfair trial.

Mind you, the Supreme Court did not exonerate Hayes of the charges. On the contrary, it said there was "ample evidence" to secure a conviction. However, since the process was flawed, he had to be acquitted. The Serious Fraud Office has said it will not appeal against the judgement. Hayes is now a free man. Other bankers similarly convicted are now planning to appeal.

The case is not about particular individuals. It is the banking sector that was on trial. The manipulation of submissions was widespread in the banking sector. Top management knew about it as did the regulators. It was what is called 'industry practice'. Nobody batted an eyelid when bankers manipulated the rates to suit their trading positions to benefit themselves and their banks. In proceeding after a few bankers, the Serious Fraud Office was seeking to satisfy the public's cry for blood consequent to the GFC. It has now covered itself with mud.

Dodgy practices continue to abound in the banking sector. There is a push once again for 'light touch' regulation instead of the stringent regulations that came about after the GFC. Will bankers, regulators and politicians ever learn? Perhaps not. The power of vested interest triumphs.

Question mark again over Fed chief's continuance

"Numbskull", "fool", "moron", "stupid".... one has lost track of the expletives Trump has used to characterise US Fed chief Jerome Powell. Can you imagine anybody such things about the RBI Governor here? There would be a pretty strong reaction. Partly, I guess Trump's outbursts have to do with the incredible powers vested in the office of President of the United States.

Trump was inclined earlier to send Powell packing for not lowering interest rates. Media reports then said that Scott Bessent, his Treasury Secretary, had stayed his hand, pointing to the possible adverse reaction of the markets. The argument was that it's not done to remove a Fed chief who displays independence.

Trump is now hinting again at the possible removal of Powell. And he seems to be on more solid ground. The issue is the $2.5 billion the Fed has spent on renovation, including a cost overrun of $700 million. Various reports have highlighted details of the extravagance, including private lifts, dining areas, marble finishes etc. What is worse, Powell is said to have misled Congress on the issue by denying features in the renovation that, it turned out, were very much there.

Frankly, Trump is on strong ground this time around. It is wrong for a Fed chief to indulge in extravagance because the Fed is in many ways the custodian of the interests of ordinary people. And going on a spending binge on renovation sends out quite the wrong signals about where the Fed stands in relation ordinary people face. Especially when the Fed is at odds with the administration, it would be appropriate for a Fed chief to be watch his steps very carefully. Powell, it appears, has tripped up. Many will see his conduct as proof of the culture of impunity that pervades the higher echelons of power. 

Trump would, no doubt, be using the renovation issue as a pretext to replace Powell with somebody he finds more pliable and in line with his thinking. What does that say about central bank independence? 

That, I am afraid, is an over-rated idea. Heads of central banks are unelected officials. They cannot afford to be entirely out of line with the preferences of the democratically elected authority. Where the central bank chief does not see eye to eye with the political authority on a range of important matters, either he should step down or the government should have the right to remove him. 

In India, the RBI Governor serves as the pleasure of the government. More than one governor has stepped down after getting suitable signals from the government. The protection given to the Fed chief is misplaced. And ultimately it cannot help. If the President wants to go after a Fed chief, he can always find ways to do so- as the rumpus  over the issue of extravagance at the Fed clearly shows.

BCG in the eye of a storm

This news is a little old but I thought I would flag it because it hasn't received much coverage in India. BCG, the consulting firm, is facing flak for its involvement with the Gaza Humanitarian Foundation, a dubious outfit involved ostensibly in distributing humanitarian aid in Gaza. GFH is an Israel-US initiative that seeks to bypass UN agencies doing good work.

BCG, FT reports, contracted some $4 million of work that includied modelling the costs of relocating an estimated 500,000 people from Gaza. BCG says the work was done by two partners inspite of disapproval from a higher level, the firm never took any payment finally and it also fired the two partners. BCG has now hired an external firm to help it address what it calls "process failures". FT has done a fantastic piece of investigative reporting.

BCG has recognised the reputational damage and done its bit to distance itself from the project. However, many will wonder how a consuting project could go on without the knowledge of top management and after top management had withheld permission for the same. Was any billing done? And, if so, would the accounts department not check what the project was? What does it say about internal controls if a project could go on in secret for months together? 

The BCG controversy follows controversies at other firms, notably McKinsey and PwC. McKinsey, in particular, has taken a terrific beating. The question that arises is: what is the value of advice dished out by top consultants who cannot set their own house in order? For the consulting fraternity, the message is clear enough: Physician, heal thyself.

Indian banking outlook: how real is the improvement in asset quality

 The big surprise in the latest Financial Stability Report of RBI is not the overall improvement in asset quality or the decline in gross NPAs/total loans to 2.3 per cent. It is that the decline is driven by a remarkable improvement in MSME asset quality. Gross NPAs in MSMEs is a 3.6 per cent, astonishing for a segment that was accustomed to seeing NPAs close to double digits. 

One is left wondering what has brought down gross NPAs in SMEs down from 6.8 per cent to 3.6 per cent in the past two years. Better information from MSMEs? A dramatic improvement in underwriting skills at banks? Large write-offs? The report gives no explanation, which is disappointing.

Could it be just the sharp rise in MSMEs loan growth in the past few years or the denominator effect? If so, the improvement in asset quality could be deceptive. We have to wait and see.

More in my latest article in BS, MSME lending a new driver of loan growth?

MSME lending a new driver of credit growth?

 T T Ram  Mohan

India’s banking sector is in rude health. By a variety of measures — capital adequacy, provision coverage ratio, liquidity coverage ratio, return on assets, and gross non-performing assets (GNPAs) as a proportion of loans — the sector demonstrates strengths that would have been unthinkable five years ago.

Capital adequacy in the system as a whole is 17.3 per cent, with public sector banks’ (PSBs’) capital adequacy at 16.2 per cent. Being over five percentage points above the regulatory minimum of  capital is prudent and a source of stability. Return on assets (RoA) for all banks is 1.4 per cent. PSBs have an RoA of 1.1 per cent, which is above the benchmark of 1 per cent in banking. 

When a bank produces an RoA of 1 per cent or more, it can be reasonably sure of access to capital from the market. In other words, PSBs do not have to turn to the government for capital support.  The question is often asked: How do PSBs compete with private banks that produce higher returns? The answer is that they can compete on their own terms as long as they can raise capital from the market. 

The banking sector will walk on two legs. We will have private banks that are focused on maximising returns by catering to the mass affluent. And PSBs that will marry larger social objectives with profitability while catering to the wider market. The model as a whole remains viable as long as the benchmark of profitability is met. 

So far, so reassuring. Banking is safe and sound. That apart, a few points emerge clearly from the latest edition of the Reserve Bank of India’s Financial Stability Report (June 2025). 

Firstly, credit growth slowed noticeably to 11 per cent in 2024-25 from 16 per cent in 2023-24 and 15.4 per cent in 2022-23. In 2024-25, PSBs have shown higher credit growth than private banks, which means their market share has risen after years of decline. 

The slowing down of credit growth was deliberate and engineered by the regulator. The RBI had two concerns. One, credit growth was outstripping deposit growth and that meant it was being financed by high-cost and volatile funds. Two, growth in segments such as personal loans and non-banking financial companies (NBFCs) was too high for comfort. Between April 2022 and March 2024, bank lending to the retail sector grew at 25.2 per cent, and lending to services, which includes bank lending to NBFCs, grew at 22.4 per cent, far exceeding the overall credit growth of 16.4 per cent. The RBI increased risk weights on these two segments. Credit growth in these segments slowed down as a result. 

 

Secondly, the slowdown in credit has not adversely impacted growth in profit or profitability. Profitability of all banks has gone down marginally, but that of PSBs has increased from 0.9 to 1.1 per cent. Profit after tax of all banks rose by 17 per cent with that of PSBs rising by 32 per cent, mainly on account of other operating income. 

Thirdly, in 2024-25, growth in credit to micro, small and medium enterprises (MSMEs) has outpaced growth to all other sectors. Credit to MSMEs grew by 14.1 per cent, compared to growth of 11.2 per cent in services (ex-MSME) credit and 11.7 per cent in retail credit. The share of MSMEs in retail credit has risen from 17 per cent in March 2024 to 17.7 per cent in March 2025.

Fourthly- and this is, perhaps, the most striking feature of the latest FSR- gross NPAs in the system have touched a new low of 2.3 per cent of loans, with a sharp drop in NPAs in MSMEs. Gross NPAs in MSMEs declined from 6.8 per cent in 2022-23 to 4.5 per cent in 2023-24 and further to 3.6 per cent in 2024-25. 

NPAs in the MSME sector have historically been of the order of 9 per cent or more. Until a couple of years ago, senior public sector bankers wondered how on earth they were to crack the MSME lending issue. In 2024-25, PSB credit growth to SMEs has been greater than that of private banks, reversing the earlier trend. Has something changed fundamentally in lending to MSMEs? What has brought about a dramatic decline in NPAs to this segment?

The RBI might have shed light on the issue instead of merely putting out the numbers. True, bankers have found innovative ways, such as the Trade Receivables Discounting System (TReDS), to finance MSMEs. TReDs is an online platform for facilitating financing of trade receivables of MSMEs from corporations, public sector companies and government departments. These exposures are considered low-risk.  

The TReDS book was about ~2.7 trillion, or 10 per cent of the MSME book, in 2023-24. It cannot explain the current NPA level of 3.6 per cent on the entire MSME exposure. The NPA level in the Emergency Credit Line Guarantee Scheme (ECLGS) is 5.6 per cent. Recall that the ECLGS was introduced during the pandemic in May 2020 in order to facilitate additional lending to MSMEs and prevent a secular collapse in the sector on account of a crisis of liquidity. The eligibility conditions were pretty stringent. Only MSMEs that were solvent prior to the onset of pandemic were meant to qualify.  

The loans granted under ECLGS in the period 2021-23 amounted to ~3.68 lakh crore or 12 per cent of loans outstanding to MSMEs in 2024-25. If gross NPAs on the ECLGS loans were 5.6 per cent and NPAs on total MSME loans are 3.6 per cent, that makes the performance on the remaining 88 per cent of MSME loans truly impressive. It certainly needs explaining. Is it explained merely by the spurt in the denominator, namely, the MSME loans in the past few years? If that is so, we should see a rise in NPAs in the years ahead. The RBI’s stress test projections for NPAs may then turn out to be optimistic.

Banks have tended to pursue a risk-averse approach to lending. Loan growth has been driven by working capital loans to industry, retails loans and loans to the services sector, including NBFCs. The year 2024-25 has seen a shift of gears with loans to MSMEs growing faster than loans to other segments. We will need to wait for a year or two to see what the shift implies for asset quality in the system. 

The real test will, however, come when banks step up growth of term loans and project finance whenever private investment picks up. Celebration over the steep fall in NPAs must be low key until banks begin to take greater risk than they have in recent years.