Thursday, January 21, 2010

Indira Gandhi as architect of reforms

This post may seem outrageously titled. Indira Gandhi as reformer? People will be shocked at the suggestion, they may even fall off their chairs. That is because in the era of liberalisation, we have been brought up on a fairy-tale story of Indian economic policy.

In brief, the tale runs as follows. There are two phases. The first, evil phase, inaugurated by Nehru and accentuated by Indira Gandhi, ran from independence up to 1991. The economy was ruined by ogres who believed in socialistic policies. Then, in 1991, under Narasimha Rao and Manmohan Singh, the nation woke up. We had reforms. As a result, we are on to a wave of prosperity. We shall live happily ever after.

Now, this sort of thing may be popular in the media but it is not something that is borne out by academic research. Academics locate the breakthrough in economic growth in the mid-eighties and even the mid-seventies.

That is a long story. But one thing can be said with confidence. Indira Gandhi's bold move to nationalise 14 banks in 1969 helped push up the savings and investment rates and caused economic growth to accelerate from the Hindu rate of 3.5% to 5.5-6% in the eighties. This was no mean achievement considering the enormous literature on stagnation in growth in the seventies.

So, the idea that Indira Gandhi, in her own way, was an architect of reforms is not as outrageous as it sounds. I elaborate on this in my ET column, Indira Gandhi the reformer.

Wednesday, January 20, 2010

Obama's banking levy

President Obama has proposed a levy on large banks in order to recoup costs incurred by tax payers in the financial crisis. There are two separate questions. One, is the levy merited or is it just? Two, will it serve the larger purpose of ensuring financial stability?

To answer the first, here is the levy in brief: 15 bp on covered liabilities; insured deposits are subtracted because banks are already charged by the Federal Deposit Insurance Corporation. It will yield about $90 bn over ten years. US banks- the top 50 or so to whom it will apply- can bear it, all right, since it is estimated to amount to 2-7% of pre-provision profit of US banks.

According to one estimate, American tax payers have lost $47 bn on the capital they had infused into banks, so the levy is fair. I don't know what the basis for this estimate is. Capital infused into banks has been mostly returned.Are we talking of interest on this amount? Besides, the government can hope to make a profit on bad assets hived off and sold in future. I am not sure that the levy can be justified as recovery of loss.

It makes more sense to justify it on other grounds:
  • penalty on windfall profit- similar to the one-time windfall tax imposed in the UK.
  • Intended to penalise large banks
  • Intended to penalise dependence on wholesale funds as deposit liabilities are not covered by the levy
  • Help bridge huge fiscal costs incurrred in crisis
  • Assuage popular anger against bankers
As for the second question, two academics argue in FT that we cannot hope to abolish or diminish banking crises with levies of this kind:
First, we must sharply raise capital requirements at leveraged institutions, so shareholders rather than regulators play the leading role in making sure their money is used sensibly. This means tripling capital requirements so banks hold at least 20-25 per cent of assets in core capital.

Second, we need to end the political need to bail out every institution that fails. This can be helped by putting strict limits on the size of institutions, and forcing our largest banks, including the likes of Goldman Sachs and Barclays, to become much smaller.

As readers of this blog would know, I agree with the above. The nature of banks and banking needs fundamental change. But the present crisis does not seem to have done enough damage to focus minds in the political class or fend off all-powerful banking lobbies. Alas, we need a bigger disaster, it seems, before this happens.

Thursday, January 14, 2010

Wall Street remains untamed

Wall Street's top banks are bracing for the backlash that will follow the announcement of last year's bonuses. They will make some cosmetic reductions.They will sound suitably apologetic. But they will make sure that no meangingful attempt to reform them succeeds.

Robert Reich, former US labour secretary, writes in FT:
Bankers are still making wild bets, still devising new derivatives, still piling on debt. The big banks have access to money almost as cheaply as in 2007, courtesy of the Fed, so bank profits are up and bonuses as generous as at the height of the boom.

The only difference is that now the Street’s biggest banks know they are “too big to fail” and will be bailed out by taxpayers if they get into trouble – which means they have every incentive to make even riskier bets. And, of course, American taxpayers are out some $120bn, while millions have lost their homes, jobs and savings.

....The bill that has already emerged from the House is hardly encouraging. Dubbed the “Wall Street Reform and Consumer Protection Act”, it effectively guarantees future Wall Street bail-outs. The bill authorises Fed banks to provide up to $4,000bn in emergency funding the next time the Street crashes. That is more than twice what the Fed pumped into financial markets last year. The bill also enables the government, in a banking crisis, to back financial firms’ debts – a wonderful insurance policy if you are a bondholder. To be sure, the bill authorises the Fed and Treasury to spend these funds only when “there is at least a 99 per cent likelihood that all funds and interest will be paid back,” but predictions about pending economic disasters can be conveniently flexible, especially when it comes to bailing out the Street.

No prizes for guessing why there is so much pussy-footing on bank reform:

A larger explanation, I am afraid, is the grip Wall Street has over the American political process. The Street is where the money is and money buys campaign commercials on television. Wall Street firms and executives have been uniquely generous to both parties, emerging as one of the largest benefactors of the Democrats. Between November 2008 and November 2009, Wall Street doled out $42m to lawmakers, mostly to members of the House and Senate banking committees and House and Senate leaders. In the first three quarters of 2009, the industry spent $344m on lobbying – making the Street one of the major powerhouses in the nation’s capital.

Money is powerful. Talk is cheap.

Friday, January 08, 2010

Crisis fails to dent Indian banks' financials

Many experts have talked about stability in Indian banking in the recent crisis. Several factors have been cited as underpinning stability: caution on capital account convertibility, public sector dominance, Indian banks' low exposure to international assets, strong regulation including counter-cyclical capital requirements imposed by RBI.

There is something else to Indian banks' performance in the crisis: they have done as well on efficiency indicators as in the boom period. There has been a slowdown in economic growth and in credit growth, so one would expect to see some impact on banks coming through interest income and provisions. This hasn't happened. The end result? Indian banks have posted a return of 1% on assets in the midst of the worst financial crisis of the last century! You have to pinch yourself in disbelief. Now, somebody tell me why we should be making any material change in Indian banking.

I explore this topic in my ET column, A crisis-proof banking sector.

Sunday, January 03, 2010

Fall-out of failed plane bombing

The Nigerian who attempted to blow up a plane over Detroit recently by carrying chemicals in his underwear was successfully foiled ( thanks to heroism shown by some of the passengers who fought and overpowered him after seeing him emit smoke). Al Jazeera carries an article by Mark LeVine, Visting Professor at Lund University, Sweden, on what the security fall-out is going to cost- the author estimates it would be billions in tighter security.

The author also has a telling point to make about the immediate impact. Because the Nigerian managed to sneak in inflammable materials using a specially tailored underwear, the frisking at US airports has become too intrusive for comfort:

As I stood in the security line at JFK airport waiting to be frisked before boarding a New Year's day flight home, another goal, or at least consequence, of the most recent attack became apparent, one deeply tied to the obsession with physical and sexual honour in radical Islamist ideology: With this one failed action, the movement will succeed in routinising the systematic physical violation of airline travellers by our own security personnel as a part of the price of air travel.

Invasive frisking of the most intimate areas of the human body and revealing full body scans represent from a hardcore Salafi perspective an almost unbearable indignity -one they will surely relish seeing millions of the enemy routinely suffer, especially when such violations mirror the daily indignities and sexual humiliation infamously suffered by inmates in Guantanamo and other US-run prisons.

Call it a politics or strategy of shame - another weapon in the al-Qaeda arsenal that the West will have a hard time finding an answer for and which will erode support for the 'war on terror' from within even as Western governments strengthen their ties to oppressive front line states.

Osama bin Laden could not have planned it better if he tried.

3 idiots controversy

I am rather well placed to comment on the 3 idiots controversy. I have seen the movie and read the book (and I read it after it came out, not after the recent controversy). But, first, let us get the factual position sorted out. The only clear statement of the factual position I have seen appeared in TOI today. I am unable to access the soft version of this story, so here is the gist.

Going by the TOI report, Vidhu Vinod Chopra bought the film rights to the book. This gave him the freedom to adapt the book as he liked and it was also agreed that Bhagat would be mentioned in the credits towards the end. Chopra says Bhagat has been paid the bonus promised. Chopra took the book as a starting point and got his people to produce something that would be film material.

So, it's not clear what Bhagat is upset about. There is a legal contract between him and Chopra and if there is a breach of contract, Bhagat has recourse. An excellent analysis of the legal issues and also the similarities between the movie and the book may be found here.

Now, for my two cents on this controversy. I was reluctant to watch the movie after having read the book because I didn't think the book had material for a lively movie. My wife persuaded me to watch the movie saying that it had only used the book as a starting point.

While watching the movie, I got the feeling this was indeed true. The basic idea may have come from the book but Bollywood has adapted it as only Bollywood can and added it to the masala that makes for a successful movie. One telling example is that the professor in the book is turned into the college's director and the character in the movie looms much larger than in the book. It's a huge difference. Again, the hero in the movie (Aamir Khan) is a far more interesting character than the hero of the book.

One final point: I found the movie absorbing but I can't say that of the book.

Saturday, January 02, 2010

Attack on CIA post in Afghanistan

Do we have any answer to the phenomenon of the suicide bomber? It would appear not, judging by the deadly attack on a CIA outpost on the Afghan-Pak border, which claimed the lives of seven CIA agents, including the lady head of the base.

The Taliban has claimed that the attacker was a sympathiser on the Afghan army. He had been brought into the CIA outpost for the purpose of 'debriefing'. Whatever his identity, the attack demonstrates the Taliban's capacity to hit back in the face of mounting US pressure. Obama is hoping that the troop surge of 30,000 he announced recently will help pacify Afghanistan. But Russian military experts don't give the Americans much of a chance. The Russians should know: they tried the same thing in Afghanistan and failed.

The insurgents' strategy is simple: melt away in the face of a military onslaught, regroup and return when the foreign army withdraws- as it has to some day. Obama will have to pull out troops ahead of the next Presidential election as nothing is more fatal to an incumbent that the spectacle of US soliders bogged down in far away lands in an unwinnable war.

To return to my question, the Israelis have had some success in countering suicide attacks. But that is when the terrorists try to attack inside Israel. The Israelis have managed to fend off such attacks by building a wall alongside their borders, tight monitoring of all entry and exit points in Gaza and the West Bank and savage reprisals for attacks on Israel. These tactics are not replicable everywhere, least of all when you are battling insurgents on their home ground.

Friday, January 01, 2010

A Lebanese perspective on terrorism

Asia Times carried an interesting interview with a Lebanese ideologue, Yousuf Baadarani, on what terrorism is all about today.

Baadarani repudiates the idea of Islamic terrorism:
Under Islamic law, warfare may be waged between states, or a state may use violence to suppress a rebellion, or defend against an invading army. Islam stipulates that all acts of punishment of civilians are strictly a judicial duty and responsibility.

According to Islamic tenets, no incompetent person or group of people are allowed to take the implementation of these tenets into their own hands. Such an undertaking is considered illegitimate in Islamic sharia unless in certain cases where the individual needs to protect his life.
Baadarani believes that terrorism is not entirely spontaneous but is the result of conflict among the world's major powers: militant group can be formed without being noticed and monitored by the intelligence service of one or all of these countries. It is widely suspected that these countries use terrorist groups for their own purposes.

The greatest source of terrorism in the world is the behind-the-scene political conflict between the major powers to dominate the world. When the political means of one major power faces a deadlock, it resorts to local groups, which it supplies with material resources to terrorize the people in its drive to destabilize a local regime. There is no independent source of terrorism as there is no independent group of terrorists.