Thursday, May 29, 2008

World Bank wisdom- or lack of it?- on growth

This is the hottest new thing on how to achieve growth and it has been driven by the World Bank, among others.

A high-powered 21- member Commission on Growth and Development headed by Nobel Laureate Michael Spence has published a report, “Growth Report: Strategies for Sustained Growth and Inclusive Development.” (India is represented by Montek Ahluwalia, Dy Chairman, Planning Commission).The Commission is an independent body supported by Australia, Sweden, the Netherlands, United Kingdom, William and Flora Hewlett Foundation and the World Bank Group.

I haven't had a chance to read the report but I did read the overview at the World Bank website. The report identifies 13 economies that sustained growth of ovr 7% for 25 years. It says they had the following in common. Each economy:
  • Fully exploited the world economy
  • Maintained macroeconomic stability
  • Mustered high rates of saving and investment
  • Let markets allocate resources
  • Had committed, credible and capable governments
Since China is among the economies mentioned, one has difficulty accepting all the five "common" elements. Nobody can seriously argue that China, which has undervalued its currency and has a state-dominated banking system that funnels resources to state enterprises lets "markets allocate resources".

The report will fuel much comment, not necessarily favourable. William Easterly, himself formerly of the World Bank, has a scathing piece in the FT- he calls the report a "debacle":

After two years of work by the commission of 21 world leaders and experts, an 11- member working group, 300 academic experts, 12 workshops, 13 consultations, and a budget of $4m, the experts’ answer to the question of how to attain high growth was roughly: we do not know, but trust experts to figure it out.

... Why should we care about the debacle of a World Bank report? Because this report represents the final collapse of the “development expert” paradigm that has governed the west’s approach to poor countries since the second world war. All this time, we have hoped a small group of elite thinkers can figure out how to raise the growth rate of a whole economy. If there was something for “development experts” to say about attaining high growth, this talented group would have said it.

What went wrong? Experts help as long as there are useful general principles, such as could be established by comparing low-growth and high-growth countries. The Growth Commission correctly pointed out that such an attempt to find secrets to growth has failed. The Growth Commission concluded that “answers” had to be country specific and even period specific. But if each moment in each country is unique, then experts cannot learn from any other experience – so on what basis do they become an “expert”?

Wednesday, May 28, 2008

China's turn to lecture the West !

A fallout of the sub-prime crisis is that financial regulation in the US and other industrial economies has been shown in poor light. In contrast, regulators in China and India are patting themselves on their backs for their measured approach to financial sector liberalisation, which, they say, has helped insulate their systems from the financial market crisis.

The acting of the China Banking Regulatory Commission did not mince words in an interview to FT:
“I feel the western consensus on the relation between the market and the government should be reviewed,” said Liao Min, director-general and acting head of the general office of the China Banking Regulatory Commission.

“In practice, they tend to overestimate the power of the market and overlook the regulatory role of the government and this warped conception is at the root of the subprime crisis.”

When asked what other countries could learn from China’s regulatory system, he pointed out that Chinese financial institutions needed CBRC approval to launch individual product types, making it nearly impossible for exotic financial instruments, such as the ones blamed for the subprime crisis, to exist in China.

The majority of China’s financial sector is still owned by the state, and the government retains tight control over many aspects of the industry, including senior personnel decisions at the country’s largest banks, insurers and brokerages.

Thanks to China’s lack of integration with global financial markets as well as the cautious regulatory approach of the CBRC, Chinese banks have emerged relatively unscathed from the global credit crisis, which so far has caused nearly $380bn of losses at western financial institutions.

Not everybody buys the argument that the diminished frequency of crises is an argument for hastening slowly with financial liberalisation. Alan Greenspan argued recently that occasional financial turmoil may be the price to be paid for rapid innovation and growth. The answer, Greenspan urges, is to ensure that banks have enough capital to withstand shocks:
“If we want rapid growth in productivity, innovation, standards of living, we may have to accept that there will be periods of turmoil,” the former chairman of the US Federal Reserve told the Financial Times.

Rather than try to suppress bubbles, he said, policymakers should ensure that financial institutions were well enough capitalised to withstand the hit from bursting bubbles as well as other shocks.

Mr Greenspan backed efforts to develop counter-cyclical capital rules that would force banks to hold more capital in good times than bad.

Such rules might make it less likely that asset price and credit booms would feed each other, as they did during the housing upturn.

But he said this would be difficult to implement in practice because “we are never certain where we are in the cycle”.

Tuesday, May 27, 2008

New spin to dynastic politics

PA Sangma was among those who walked out of the Congress along with Sharad Pawar to form the Nationalist Congress Party. At the time, they said they could not stomach the Congress' brand of dynastic politics any more.

Now, Pawar has now qualms about being part of a Congress-led coalition. As for Sangma, he is busy inducting his kids into politics, whether at the state or national level. His justification: he is not grooming any kid in particular, there will be equal opportunities for all, so he can't be said to be guilty of practising dynastic politics.

Sangma even distinguishes his brand of dynastic politics from Sonia's: Sonia has clearly identified one successor, Rahul! Even by the standards of Indian politics, this qualifies as a new low.

ET has some acerbic comments:

His (Sangma's) daughter Agatha has just been elected India’s youngest MP. His elder son Conrad is Meghalaya’s Cabinet minister for finance and power.

His younger son James is the parliamentary secretary for home. The position of Meghalaya Planning Board chairman is itself defined as equivalent to that of the CM who is expected to step down after two-and-a-half years so that Sangma can take over for the next 30 months.

And yet Sangma maintains he is not trying to encourage any dynasty. His children, he says, are foreign-educated and it is their duty to pay the state back. Earlier this year, when he resigned as MP from Tura to contest the assembly elections and his daughter was chosen as the NCP candidate for the Lok Sabha by-election, he was quoted as saying that the “people of Garo Hills did not have any other choice as Agatha K Sangma is the only available right choice”.

....Maybe it is just as well Sangma left the Congress exactly nine years ago. In the latest Karnataka polls, the Congress insisted that the kith and kin of party office-bearers should not be allowed to contest. All of which upset some senior leaders who wondered why the same principle did not apply to the Nehru-Gandhi family


UBS has had the second biggest write-downs in the sub-prime crisis after Citigroup. This once highly regarded bank is now the butt of jokes. The Economist has a crack in its recent survey of international banking about what the acronom stands: Used to be Smart.

Thursday, May 22, 2008

Soaring oil prices- are analysts to blame?

Are high-profile analysts responsible for oil price soaring past $130? One analyst who's frequently mentioned is an Indian, Arjun Murti, who works for Goldman Sachs. Murti is credited with having forecast the rise past $100 long back- now he's looking at $200 in the near future. FT has a report on this:

Ali Naimi has been the most powerful man in the oil market since he was named Saudi Arabia’s oil minister in 1995. Even the smallest hint from him about future supplies or prices could send energy prices spiralling up or down.

But Mr Naimi’s influence is today being threatened by a gang of Wall Street and the City of London analysts whose price forecasts and trade recommendations are not only moving spot prices but also shaping long-term trends.

Three weeks ago, Mr Murti suggested that crude oil prices could hit $200 in the next two years.

“The current energy crisis may be coming to a head,” he said on May 5. This immediately sent spot prices to a new record, but also triggered an unprecedented rally in long-term prices such as contracts for delivery in 2016. The bullish trend was reinforced last Friday when Mr Currie told investors to buy long-term crude oil futures, warning that “long-term oil prices will need to continue to rise to bring trend oil demand growth in line with trend supply growth”.

I have said before: speculation is an element in the rise in oil prices but the root cause is a imbalance in supply and demand. The imbalance is small but in commodities small imbalances suffice to create huge swings in prices. I would also mention geopolitical factors: nervousness over the Middle East and especially Iran.

How high will oil prices go? As far as the US can stomach, to put it bluntly. George Bush's visit to Saudi Arabia elicited a commitment from the Saudis to step up output. That and weakening demand from China in the coming months should rectify the supply-demand gap in the near future. The medium-term outlook is hard to call.

Wednesday, May 21, 2008

Techies didn't vote in Bangalore

Bangalore's techies were vocal on TV during the Karnataka elections. The Congress directed much of its campaign towards them. But they couldn't be troubled to go to the voting booth, it appears.

Swapan Dasgupta had some scathing comments in Sunday's TOI:

In London, the voter turnout on May 1 was 45% — very high by the standards of British local elections; it was 44% or so in Bangalore — pathetic by Indian standards. The turnout of registered IT professionals was estimated at just 20% — a far cry from the 78% turnout in Bangalore Rural.

The poor turnout of those who see themselves as the face of a new India is intriguing. First, the English media gave disproportionate coverage to the views of the IT sector during the campaign. To a non-Bangalorean it appeared that there is nothing apart from IT in the city. The Congress Party's advertisement campaign seems to have been directed totally at this special interest group.

Secondly, the ambassadors of the Brave New World were vocal in articulating their dissatisfaction with the state of Bangalore. They gave umpteen sound-bites sneering at politicians, almost implying that it would have been better if politics was run by corporates. Finally, while "old industry" engaged with politicians to promote and safeguard their own interests, the IT sector spurned them — that is, all except S M Krishna with whom it has a very special relationship. The techie honchos conveyed the impression that they were in Karnataka on sufferance; they could just as well have been in Shanghai.

Sunday, May 18, 2008

Will oil prices derail the Indian economy?

Could soaring oil prices wreck short-term growth prospects? The pessimistic view is that it can - especially because it comes on top of troubled conditions in international financial markets.

Not so, methinks- and I said as much in my ET column, Please, this is not the 90s economy.
  • First, I don't buy the proposition that prices above $125 are here to stay. The imbalances in oil supply and demand are very small - and feverish speculation is at the root of the present spike. Saudi Arabia's decision to step up oil output in response to President Bush's plea will have the necessary softening effect.
  • Oil prices of around $100 are not a big deal for the world economy- in real terms, these would be close the peak of the seventies. But the developed world is far more energy efficient today than i the seventies.
  • A high inflation- high interest rate cycle putting the brakes on India's economic growth is unlikely. Inflation will moderate in the months to come. Interest rates have risen but, in real terms, are way below those in the nineties.
  • The structural characteristics of the Indian economy are far superior to those of the nineties, so the chances of a lapse into a 6-7% growth band are negligible.
  • The prospects of the international financial market crisis receding are brightening by the day- the latest addition to the ranks of the optimists is Fitch, the credit rating agency. Ftich estimates total losses on account of the crisis at $400 bn, with banks accounting for half of this. Of the total $200 bn in estimated losses, banks have already provided for $160 bn.

RIchard Nixon the wierdo

Much has been written about Nixon's mental make-up and temperament. His bizarre behaviour when he was under pressure over Watergate has been particularly well documented- one story is about how a wild-eyed Nixon would go racing down the stairs with Secret Service personnel in hot pursuit.

A recent biography, reviewed in the Economist, adds to the repertoire of stories of Nixon's weird behaviour:
Nixon hardly has a reputation as Mr Normal. But it is still astonishing to be reminded of quite how odd Nixon and his circle were. He wore a necktie when he was in his dressing gown. He once visited his mother, camera crew in tow, to wish her a happy birthday—and shook her by the hand. He sent memos to his wife, Pat, about how “RN” would like his furniture arranged. Nixon matter-of-factly ordered H.R. Haldeman to draw up a list of the “big Jewish” contributors to the Democratic Party. “Could we please investigate some of the cocksuckers?” Chuck Colson, Nixon's general counsel who famously said that he would run over his grandmother for his boss, once contemplated firebombing the Brookings Institution, a stately think-tank, and then sending in FBI officers dressed as firemen to steal a document that Nixon wanted.
To think that such a man was in charge of America's nuclear button!

OBC quotas-uncertainty continues

I was away over the past week. I found I couldn't escape the OBC quota row even while away from the campus.

The SC has stayed the Calcutta High Court's own stay on the operation of OBC quotas in IIM- Calcutta. The Hindu's report provided more detail than most others:

the Chief Justice said: “It is strange that such an order has been passed by the Calcutta High Court. Once the Act has been upheld by us where is the question of stay? We don’t think the [Calcutta] High Court can sit over the judgment of this court.”

When counsel for respondents — K.K. Venugopal, Harish Salve, P.P. Rao and Rajeev Dhavan — opposed the stay on the Calcutta High Court order, the Chief Justice said: “Your argument is very strange. If you feel our judgment is being violated, you file a contempt [against the Centre]. We can’t allow the stay order to operate.”

The way I understood the various petitions filed in the High Courts, the principle of OBC quotas in central educational institutions is not being questioned. The issue now is whether the HRD ministry's directive on this subject is in conformity with the letter and spirit of the SC judgement in the case.

The CJ's remarks suggest that the remedy, in the event that the HRD ministry directive is in any way violative of the judgement, is to file a contempt petition against the government, not to seek a stay of OBC quotas in IIMs and elsewhere.

But I am at a loss to understand what would happen if the government were to be found guilty of contempt- say, because some of the admissions made were not in strict confirmity with the SC's observations and guidelines on the 'creamy layer'. The present SC order says that admissions made wil be 'provisional' subject to final disposal of the present bunch of petitions filed in various High Courts ( a point missed in the Hindu story).

What happens if some of the admissions made in accordance with Ministry's directive are seen to be violative of the SC judgement in the OBC quota case? Will the concerned students have to withdraw? Suppose this happens several months after they have joined one of the central educational institutions?

There are more fundamental issues that have been raised. One is whether the proportion of 27% would be valid if the OBC population after excluding the creamy layer turned out to be lower than this. The appropriateness of the figure of 27% was one of the issues raised when the SC heard the petitions against the central educational institutions' Act. The SC then took the view that since Parliament had accepted this figure, there must be some basis for it.

Sunday, May 11, 2008

C K Prahalad on corruption

Management guru inveighed against corruption at the CII:

On the civic side, he said the prerequisites for growth were an emphasis on individual rights as against group rights and the urgent need to treat corruption as treason. "A nation becomes less corrupt before it gets rich."
Rousing stuff - and no doubt the money-bags at CII cheered lustily- but not something that withstands critical scrutiny. If Prahalad's statement is correct, China should have become poorer by now, not richer. When you look at the rankings of, say, Transparency International, you find that there is no precise correlation between these rankings and growth performance. Some corrupt economies flounder- as in Africa. Others prosper.

As a nation gets richer, petty corruption diminishes- the traffic constable is not going to wave you on if you pay him Rs 25 because this is small change in relation to his salary. But big ticket corruption is not eradicated as easily- and is indeed embedded in the very fabric of most economies, modern or antiquated.

More broadly, the evidence on the relationship between institutions and growth is suspect. Historian Gregory Clark points out in his monumental work, Farewell to Alms, that the quality of institutions in pre-industrial England was as good as it is in modern societies today. Yet, the existence of sound institutions did not cause growth to accelerate. America's own rapid growth at the turn of the last century happened against a background of some pretty weak institutions- banking and capital market scandals were rife at the time.

It may be well that a society that is not corrupt, that sets store by all sorts of norms, is a nicer place to live in. But it is not necessarily more prosperous.

Monday, May 05, 2008

Credit crisis receding?

Warren Buffett has sounded bearish earlier- he was among those quoted as saying the crisis was the worst since the Great Depression. But he's among those who think the crisis is showing signs of receding at least for Wall Street.

The worst of the crisis in Wall Street is over,'' Buffett said on Sunday. ‘‘In terms of people with individual mortgages, there's a lot of pain left to come.''

A number of Wall Street CEOs have said much the same thing (although some still sound grim). The Bank of England has weighed in on the side of optimists. The Bank echoed what I had said several times in my posts: the credit markets are overstating the losses because of inaccurate mark-to-market accounting practices.

The Bank joins issue with the IMF, which swung from an extreme of optimism last year to an extreme of pessimism in its most recent update. The IMF estimated financial sector losses at $945 bn. This, as the Bank points out, confuses "true credit losses and losses implied by market prices". If the marked-to-market losses are taken at face value, that would imply that 76% of prime loans would default with a recovery of less than 50% !- something that not even the gloomiest types subscribe to.

I stick to my forecast made at the beginning of the year: the market crisis and its real economy effects should start receding from the second half. This may well go down as the crash that never was.

Educational loan subsidy

Business Standard today has a news story on a concessional education loan scheme being crafted by the ministry of HRD. The essence of the scheme appears to be waiver of interest on educational loans.

"At present, students who take loans from banks get a moratorium period in the sense that they don't have to pay interest till they complete their studies. But with the launch of this scheme, the entire interest amount would be subsidised (waived)," an official told Business Standard.

The loan amount taken by the student should be commensurate with the course fee he/she is paying the institute, according to the contours of the scheme. Loans taken from any bank under the Indian Banks' Association will be eligible.

...The scheme assumes significance in the wake of premier educational institutes like Indian Institutions of Management (IIMs) announcing a sharp hike in fees.
Growth in education in management, medicine and engineering is being driven by private institutions. So, having a concessional education scheme is a good idea. However, the availability of concessional education loans does not mean that there is a case for steep fee hikes in public institutions.

First, the principal amount still has to be repaid. Second, if the state is provide some subsidy in public institutions, it might as well do so directly through lower fee. Why go through the cumbersome route of raising the fee and then subsidising the loan that would be required?

It could be argued that when fees are pegged a low level in public institutions, that is not good for their finances. Not true. The government can compensate for lower fee through direct grants. As I said, no need to involve banks.

Two other points are worth making. One, fees in state-run universities in the US are lower than those in private universities even though the US has an excellent student loan scheme. Two, even with a concessional loan scheme being available, private universities have a subsidy element built into the fee- this subsidy comes from private endowment.

In other words, it would be incorrect to say that once a concessional educational loan becomes available in the country, that is a signal for institutions, private or public, to charge what the "market can bear". There are huge externalities to higher education- public benefit exceeds private benefit. So, there is always a case for not recovering the cost of education in full.

Thursday, May 01, 2008

Why MNCs have taken a beating

HBR (March 2008) has an article, "How local companies keep mulitnationals at bay", which explains why MNCs have taken a beating in several emerging markets, including India. I wrote a critique of this paper in my ET column, Keeping MNCs at bay on home turf.

The authors mention six strategies that homegrown companies have used in fending off the MNC challenge:
  • Create customised products or services
  • Develop business models to overcome obstacles (eg. products that are impossible to pirate in a market such as China's where privacy is common)
  • Use the latest technologies: Amul has state of the art technology that enables it to collect 6.5 million litres of milk each day andyet weigh the milk, measure the fat content and pay the farmer in all of five minutes
  • Invest in inhouse training: this happens not just in software companies but also others such as Apollo Hospitals
  • Scale up quickly
  • Invest in talent: local companies have shown impressive managerial and entreprenuerial abilities
I would have liked to know whether the successes are confined to private sector firms or whether state-run companies have also taken on MNCs successfully. China has a car manufacturer, Chery Automobile, that is a leading exporter- it is state-owned. In India, LIC has shown an amazing ability to match international firms in customer service and has clawed back some of the market share it lost initially.

Why RBI governor is bullish on Indian growth

I noted earlier RBI's bullish tone in its latest monetary policy. Yesterday, I watched a fascinating interview with RBI Governor Y V Reddy on CNBC yesterday in which the Governor explained why growth in the present period is different from growth in the early nineties. He was seeking to rebut the view that we could witness the sort of deceleration the Indian economy went through in the late nineties:

  • In the nineties, the investment boom was on account of anticipated demand, now it is in response to pent-up demand. (There's a world of difference between the two; the first will peter out if anticipated demand materialises; the uncertainty in respect of the second is smaller)
  • Savings and investment rates are a good 10 percentage points higher today and can sustain a higher growth rate
  • Manufacturing was in the doldrums in the nineties, it has since reinvented itself and has turned competitive.
For these reasons, Reddy can't see Indian GDP growth slipping below 8%.

Reddy also explained why the idea of allowing the rupee to appreciate in order to combat inflation was misplaced.

The question of using an exchange rate for fighting inflation will be an interesting intellectual proposition. If you say that the exchange rate should essentially be determined by the market forces, where is the question of using an exchange rate?

Secondly, you have to have some policy on exchange rate, that has to be consistent with macroeconomic balance. You cannot keep changing the exchange rate at will because it is not like an interest rate that you can change. But exchange rate is determined as much by what others do and what you do. So, therefore the degrees of freedom that you have to handle as an instrument are to be considered.

Thirdly, if you just take empirical evidence and take ECB for instance, it is appreciating like never before, but has the highest inflation for decades. So, that type of correlation is misleading. So, the whole concept that exchange rate can be used as an instrument to fight inflation on a one-to-one basis is a proposition to which I won’t agree to.

Finally, Reddy had a pretty good explanation for why the RBI had raised the CRR and left interest rates untouched:

There is maximum flexibility for CRR and there is certainty of considerable overhang of liquidity. So, there is certainty of a problem and flexibility of an instrument, which is mostly related to identifiable problem. With regard to repo rate, it is a policy rate and in some senses it is reflective of fundamental view.

Domestically there are underlying demand pressures but there is also been a supply shock in the last one-quarter. Globally, what will happen after 4-5 months is that people are uncertain about the type of impact on the economy. So, when there are too many uncertainties, you don’t get locked in an instrument.