Can India grow faster? The Economist's perspective

The Economist had a special report on the Indian economy recently. It has all sorts of interesting facts and it's written in the easy, readable style one associates with the Economist. At the end of the day, there are only a couple of things one wants to know. What rate of growth can one expect of the Indian economyin the years ahead? What do we do to sustain growth at a brisk pace?

The Economist notes that growth in the decade of NDA rule has been 5.6 per cent, below the overall rate of 6 per cent during the three decades of reforms. It is, of course, true that the slowing down of the Indian economy had to do with the overall slowing down of the global economy during this period, notably during the pandemic. The journal doesn't give a precise projection but it seems to think that sustained growth of 6 per cent should be okay- and even that could prove a challenge. We in India now hope for something closer to 7 per cent.

As to what is to be done to sustain a growth rate of 6 per cent or so, I picked up the following, none of which is novel. I give my comments alongside the idea:

• Boost tax to gdp ratio.: How do we do this when we have been narrowing, instead of broadening the tax base, by raising the threshold for income tax and cutting corporate tax steeply?
• More divestment: Rarely in the past several decades has the divestment target been met. The present government had a huge parliamentary majority, yet found it difficult to accelerate divestment. That is the political reality which cannot be changed easily.
• Cut agricultural subsidies: The Economist grants this is a political minefield. So it is. Even keeping subsidies from growing from the present level would be an achievement
• Better centre-state relations to push through reforms in education, labour, etc. Perhaps, the only answer is to have the same government at the centre and the states. That is, perhaps, part of the motivation for the one nation-one election idea but this is not going to happen quickly. 
• Devolve more powers to the local administration: Political decentralisation, brought about by the forces of democracy, is sought to be countered by growing economic centralisation. Ceding more powers to the local level or to the states is at odds with the perceived need for a strong centre to hold the country together. India, unlike the US, is not a union of states with the states relinquishing powers in favour of the centre. It is a union that has allowed powers to flow to the states but with a distinct tilt in favour of the centre.

That's about it- and there's nothing in the list that lends itself to ready accomplishment. The only possible inference is that we should be happy to grow at 6-7 per cent instead of seeking hard to accelerate it to 8 per cent or more. There is, perhaps, a greater need now to address the question of equity or growing inequalities within the country and to focus more on human development indicators such as life expectancy, infant mortality, literacy rates, etc. 

Rising inequality is not just an ethical issue or an issue of containing tensions within our society, it is also about recognising that inquality is limiting the possibilities for consumption growth and hence the overall growth rate. As for human development indicators, we need to worry that our indicators are worse than those of many in South Asia including Bangladesh, Sri Lanka and Nepal.

Let the overall growth rate be. It's time to focus on the quality of life of Aam Aadmi.

 

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Gaza conflict: where do we stand now?

Israel has announced that it is pulling out its troops from Khan Younis, the scene of bitter battles between the IDF and Hamas for several weeks. Some reports suggest that Israel has withdrawn all but one of its brigades from Gaza. Israel claims its job is substantially done. The claim has little credibility. Hamas is still standing and the remaining hostages are yet to be returned. So neither of the two objectives of the war set by the government of PM Netanyahu have been met. 

Two well-known blogs, A Son of the American Revolution, and Moon of Alabama, both known for their incisive military analysis, present interesting views here and here. .

Here is Larry Johnson of the first blog:

Israel is losing because it has failed, after six months of lopsided combat, to defeat Hamas and free the hostages. Israel has proved itself to be quite skilled in killing unarmed women, children and elderly. The Izzies sure know how to bomb hospitals, medical clinics, schools, churches, mosques, universities and UN refugee centers. Instead of fortifying the myth of Israel as David fighting the colossus Muslim Goliath, Israel’s military campaign has been an unmitigated public relations disaster. Early claims of beheaded children and mass rapes turned out to be fabrications by a determined Israeli psyops campaign. Public opinion around the world views Israel as a murderous thug. There was a time that Israel could count on having a majority of Western nations in its corner. That time is over.

And here goes Moon of Alabama:

International criticism of Israel has risen to unprecedented levels. Several UN resolutions have condemned it for its war crimes in Gaza. The International Court of Justice has ruled against it.

Only the support from the United States had allowed Israel to continue. But two recent incidents have jeopardized it.

The first was Israel's assassination of seven people who had been working for World Central Kitchen, a U.S. based charity with good connections to Congress. Forty members of Congress, including Nancy Pelosi, have since spoken out against further unconditional support for Israel. The U.S. government under Joe Biden had to acknowledge that. It finally threatened to end its support for the Israeli government.

Following U.S. threats Israel immediately increased the provision of food to the starving population in Gaza:

The Defense Ministry body that coordinates Israeli activity in Palestinian territories said that 322 aid trucks entered the Gaza Strip on Sunday, the highest one-day total since the beginning of the war.

The second game changing incident was the Israeli attack on an Iranian embassy building in Damascus. A hit on any embassy is a serious crime that concerns all governments in this world. Iran would be fully within its rights to retaliated for such a strike.

The U.S. was extremely concerned over this as any Iranian response might well hit the many U.S. installation in the Middle East and could escalate into a wider war with severe consequences for all sides.

This had to be averted. Iranian media report now that a deal has been made in negotiations between Iran and the U.S. Iran will refrain from a direct attack on Israel if the U.S. guarantees a ceasefire in Gaza.

But does Israel being on the defensive mean that peace will return to Gaza? It still seems unlikely. PM Netanyahu has every interest in continuing the war- the moment the war ends, his government will fall and he will have to face long-standing corruption charges. Hamas' chief in Gaza, Yahya Sinwar, will feel less of a compulsion to pursue peace talks now that Israeli military presence is considerably reduced. He has every incentive to play for higher stakes: the end of Israeli occupation of Gaza and the hand over of the strip back to Hamas.

The big imponderable is the Iranian response to the assassination of one of its generals in Syria, widely ascribed to Israel. Will a response provide the pretext for Israel to launch an assault on Hezbollah in Lebanon? 

 

McKinsey could use some advice- on strategy

 McKinsey has, for some years now, often been making news for quite the wrong reasons. It was in the news when its former partner, Rajat Gupta, went to jail on insider trading charges. It got mixed up with the wrong people in its business in South Africa. It was embroiled in the opiods scandal in the US. There are a few more items on the list.

Currently, it is in the news because it has offered paid leave of several months to those who would like to look for jobs outside the firm. Quite plainly, it wants to shrink. Nothing wrong with that, you would say, except that people expect experts in strategy to plan their growth to avoid hiccups such as largish layoffs. McKinsey's problems, columnist Schumpeter argued in the Economist, arise from having grown far too big to be manageable. It needs to shrink. 

There are other problems, some of which are spelt out in another article.  Strategy, which was the main business for McKinsey, accounts for 10 per cent of its business now. Other businesses, such as digitisation of businesses and ESG, are prone to ups and downs and this renders consultants' businesses cyclical. That means there will be both hiring and firing as in investment banks. A third problem is that, with globalisation in reverse gear, overseas businesses, notably the one in China, may come under stress. Finally, businesses have their own large complements of MBAs now and may not be so much in need of strategy. What they want is people who will implement strategy, produce improvements in operations and profits and help them stay one jump ahead of competition in technology.

McKinsey will have to manage growth hereafter at a pace that helps it preserve its culture and identity. It will have to reinvent itself in ways that help it to remain relevant. In short, it needs to think through its own strategy. 

Why is Mr Modi so popular with the electorate?

Prime Minister Narendra Modi took his party to a huge win in 2014 and repeated it in 2019. Going by most forecasts, he is set for a third consecutive win. Many have been puzzling over the amazing electoral success Mr Modi has had. Fund manager Ruchir Sharma provides his own explanation. He says Mr Modi has provided growth with relatively low inflation. For that reason, the electorate is willing to overlook things such as his alleged going after opposition parties on charges of corruption or the supposed curbing of civil liberties. The electorate has done a deal of the sort East Asian economies had done with their rulers earlier:

I think what we are seeing is a kind of tacit deal, in which swing voters accept a democratic recession under Modi, so long as he delivers economic progress. While the hardcore supporters of his Bharatiya Janata party were always going to stand by their leader and the party’s Hindutva ideology, Modi has significantly expanded its traditional base by offering a deal that appeals to an increasing number of young and new voters. This is reminiscent of east Asia after the second world war, when countries such as South Korea and Taiwan put together long runs of rapid growth with low inflation under autocratic leaders, who gave way to genuinely free elections only after their nations reached a middle-income level. Under Modi, India has witnessed relatively robust economic growth, with low and stable inflation — much like the early east Asian model. It also has enjoyed a booming stock market, the rollout of gleaming infrastructure projects and new digital platforms that facilitate the delivery of welfare benefits.

This sound more than a little glib. The UPA government produced simple average growth of 6.6 per cent in its second term on top of 7 per cent growth in its first term. These are both very healthy numbers, yet that could not save the government from defeat in 2014. The NDA government produced growth of 7.38 per cent in its first term, not vastly superior to what the UPA government produced in its second term. In its second term, however, it has produced growth of  4.5 per cent; evidently, that will suffice to get it elected.

It's not at all clear that the Modi government has won on the strength of economic growth alone. There are several other elements that must be factored in. The government has sought to redefine nationalism in very different terms through its projection of Hindutva; that appears to have resonated with large numbers of people, including young voters. It has been successful in reaching welfare benefits- food, cooking gas, health insurance etc- to large numbers of people. There is Mr Modi's personal charisma- he comes across as somebody who's incredibly hard-working and committed to the objective of making India a developed country by 2047.

Lastly, the electorate probably does not see the opposition as shining angels of the protection of civil liberties or tolerance of the opposition. The Indian state has never quite got out of the framework created by the British Raj to perpetuate its rule. No political party can really claim moral superiority on how the state treats its citizens. It is an important area crying out for future reform.

Dealing with inequality: are wealth and income caps the answer?

Inequality today, perhaps, draws more comment than poverty if only because extreme poverty has been successfully tackled in most parts of the world. There are many studies that document increases in inequality (notably the book by Thomas Picketty). Many of these findings are contested- some dispute the contention that inequality is rising. But the fact that there is substantial inequality is not disputed.

Now, we have two books that propose radical solutions. One wants a cap on wealth or savings of $ 10 million. Another argues that nobody should earn more than the current threshold for entering the top 1% of taxpayers ($330,000 in the US). The Economist argues that, whatever the theoretical arguments for limiting inequality, we do not have effective ways to place limits on income or wealth.

First, if we want to cap wealth  or income, it implies a 100% marginal income tax rate above a certain income. That is very difficult to enforce: there would be massive evasion or people would flee to friendlier tax regimes. And if all nations enforced such a marginal tax rate?  The effect on incentives would be devastating:

Imagine a world where any gain above £180,000 a year, or $10m over a lifetime, was forfeit. Highly productive people—such as surgeons and engineers, never mind word wizards like J.K. Rowling—would have no financial incentive to keep working after that point was passed. Perhaps some would carry on toiling out of altruism or for the love of the job. But many would be tempted to kick back, relax and deprive the world of their exceptional skills, drive and imagination.

Consider, too, the incentives such a system would create for entrepreneurs. You have an idea for a better mousetrap. Under the old system, you might mortgage your house to raise cash to build a mousetrap factory, in the hope of making a fortune. Under the new system, you must shoulder the same risks (such as losing your home), for a small fraction of the rewards.

Potentially big ideas would stay small. Even if your mousetrap is so good that the world might reasonably be expected to beat a path to your door, it would be irrational to borrow money to expand production. The financial risks of trying to build a global business fall on you. The rewards go to someone else. Only a mug would take such a bet.

Well, it's important that we steer clear of extreme solutions to inequality. Wherever inequality is rising, we need to fix a few things that Joseph Stiglitz has emphasised several times: the bargaining power of workers, the power of corporations and the way the elite frames rules to suit itself. People will accept even a high level of inequality in society provided they see a certain fairness to it. At the moment, it all seems like a game that is rigged by the rich and the powerful. 

Nuclear war: a close look at its horrors

All of understand that a nuclear war will wipe out much of the planet, that there are enough nuclear weapons with the US and Russia to kill the world's population several times over. But how exactly would a nuclear war unfold? 

The Economist reviews a couple of books that sketch out the nightmare. Let us say North Korea launches a nuclear attack on the USor a Russian submarine fires nuclear missiles off the West Coast of the US.Then, here is a possible sequence:

The American satellites which pick up the North Korean launch have sensors “so powerful they can see a single lighted match from 200 miles away”, she writes. Within 15 seconds radars can work out that the missile is headed for America. It will take just over half an hour to arrive. Once the president has been briefed he has six minutes to make a choice.

A Russian submarine off America’s west coast could launch its full complement of missiles at all 50 states at once in 80 seconds. Even if an American submarine was close behind it could not fire a torpedo in that time, notes one expert. That fact is said to have shocked America’s navy chief when it was revealed to him in 1981. Missiles launched from close to the American coastline would take little over seven minutes to hit their target.

American missiles bound for North Korea must overfly Russia by dint of geography. American leaders cannot get Russia’s president on the phone. Russia’s sub-par early-warning satellites, which have indeed been known to confuse clouds for plumes, mistakenly see hundreds of missiles incoming. The Kremlin attacks America. America responds. There are 100 “aimpoints”—jargon for targets—in the greater Moscow area alone.

Another book shows how deeply the scientific community is divided over the issue:

Some are gung-ho about the importance of nuclear deterrence, brandishing charts which show how deaths from major wars plummeted after the invention of the bomb. Others are equivocal, expressing opposition to nuclear weapons while insisting that someone has to ensure that the ones which exist remain safe and reliable. Still others seem deeply conflicted, preferring to emphasise the civilian applications of their research. “I wonder if the activists on the outside understand that there are those of us on the inside that share many of their goals,” says one scientist at Los Alamos, professing support for (eventual) disarmament. “That’s not an extreme position here at all.”

You could say mankind has carried on like this for over six decades and that deterrrence has worked. But the men who manage nuclear arsenals, it appears, continue to have sleepless nights. 

Conflict in Gaza: what does Israel want now?

It is three months now since the Gaza conflict erupted. The slaughter continues. We have had several developments over the past few days. One, the Israel Defence Forces (IDF) has announced a withdrawal of some of its forces stationed in Gaza. Two, the number two person in the Hamas leadership was assasinated in Beirut- nobody doubts that is the work of Israel. Three, an Israeli strike killed a senior Iranian commander in Syria. Four, the US has announced the withdrawal of its aircraft carrier, USS Gerald Ford, from the Mediterranean.

What do we make of all this? Well, the Israelis clearly want to scale down their operations in Gaza. They recognise that the complete elimination of Hamas, their stated goal, cannot be realised in quick time. They wish to move on to more focused operations that target the Hamas leadership instead of the all-out war we have seen thus far.

That much is clear enough. The two assasinations are a provocation. The killing of a Hamas leader in Beirut flouts the warning of Hezbollah chief Nasrallah that assasinations by Israel on Lebanese soil are a red line Israel should not cross. The assasination in Syria shows the red rag to the Iranian bull, the principal backer of Hezbollah. Israel knows it must expect a strong reaction and yet goes ahead- clearly, a strong reaction is what it wants. A strong reaction would mean that the managed conflict between Israel and Hezbollah would move to a higher level and draw in Iran, inevitably drawing in the US as well.

There are both strategic and political calculations involved in moving towards such a confronation. Israel views Hezbollah as a far bigger threat than Hamas and Iran an even bigger threat. An estimated 75,000 Israelis have been moved out of the border with Lebanon and relocated elsewhere. They refuse to go back until the Hezbollah threat on the border is removed. At the very least, Israel would like Hezbollah to move to the north of the Litani river with a buffer zone that is protected by, say an UN force. Israel cites an old UN resolution in support of that demand.

Hezbollah has never accepted that interpretation of the UN resolution and it is no mood to oblige. The Americans are using diplomatic channels to pressure Lebanon and Hezbollah into accepting Israel's demand. Israel has said that if diplomacy fails, it will have to do the job of evicting Hezbollah itself.

That would mean a serious escalation of the conflict in Gaza. But that is precisely what the present leadership in Israel seems to want- a confrontation with Iran that addresses this threat once and for all,of course, with the help of the US. 

There is a cold political calculation underlying all this. Israel's PM Benajmin Netanyahu knows that any end to the war will mean an enquiry into the lapses that resulted in the October 7 attack by Hamas and a demand for his ousted. Once ousted, he faces corruption charges and the prospect of jail. A prolongation of the war helps the PM avoid that unpleasantness. 

Alastair Crooke,  a former British diplomat with vast experience in the region, has been making some of these points for quite some time now. He argues that the Gaza quagmire for Israel is not what its leadership had expected- they had thought the mighty IDF would vanquish Hamas in next to no time. Crooke writes, "One man -- a retired Maj. General Brik, a highly respected military officer -- warned PM Netanyahu personally that a quagmire trap in Gaza was a true risk. The military establishment did not like hearing his warning.  Now it is clear; Major General Brik was right. He said a few days ago that ‘the number of Hamas casualties on the ground is much lower than what the IDF reports.’ 

Crooke quotes another retired general as saying 'I cannot see any signs of collapse of the military abilities of Hamas – nor in their political strength with in Gaza'." He goes on to suggest that Israel's getting involved in a prolonged war may have to do something beyond the Iran threat and PM Netanyahu's calculations. 

What has happened in Israel over the years is a pronounced shift towards the right and a progessive embrace of the idea of a Greater Israel. Crooke quotes an Israeli historian, Martin Zimmerman, on what has resulted from that idea:

"Jewish nationhood in the Land of Israel went through a process of nationalism, racialism and ethnocentrism. It created a situation of being unable to reach a modus vivendi with the neighbouring world.......And that is the problem: Once you have embarked on the path, it's difficult to leave it without undergoing another catastrophe."

What is unfolding in the Middle East now thus has the makings of a Greek tragedy, one that could plunge the world into turmoil through this year. Only one power on earth can prevent it from happening, the US. That helps us to connect the fourth dot mentioned at the outset, the departure of the US strike carrier group from the Mediterranean. The carrier group was sent in to reassure Israel after the Hamas attack of October 7. Can we hope that the removal of the carrier group is meant to convey to Israel: we are with you but don't push us too far? 

My views on the outlook for the Indian economy

 Financial Express carried an interview with me earlier in the week.

Gaza's plight: is there hope at all?

How will Israel's assault on Gaza pan out? Will it lead to the ethnic cleansing of vast portions of Gaza, a repetition of what happened when Israel came to be founded? Or will the world rouse itself to put an end to the suffering of a helpless people?

Here's  a somewhat bleak view penned by a former UN official:

To date, only Bolivia has severed diplomatic relations with Israel to protest against the ongoing war crimes perpetrated against the Palestinians. Unless Egypt, Jordan, UAE and Morocco sever their diplomatic relations with Tel Aviv as their people demand; unless countries such as Turkey, South Africa and Brazil, which have denounced Israel’s war crimes, align their diplomacy with their own pronouncements; unless these countries emulate Bolivia’s principled diplomatic move and put pressure on their Western partners; unless Saudi Arabia, UAE, Iran, Qatar, Azerbaijan and other large exporters of oil and natural gas use their economic leverage on Israel’s blinded backers, Gaza and its population will be destroyed, inch by inch, soul by soul. And no one would be able to say: “We didn’t know.”

The view from a South African who was witness to the end of the apartheid is more hopeful:

They will do well to learn from white South Africans who, after 300 years of minority rule, realised it was an impossible political project to continue to defend so violently, and still maintain any semblance of a moral high ground.There is a tipping point when even for the defenders of such a project, the faint question rings louder and louder in the collective conscience: how far is too far? There can be no going back to the promises of security based on what was before. There can be no going forward in peace if it means more and more blood of children and civilians haunting successive generations who will have to take responsibility for the actions unfolding before our eyes today.

The most astonishing thing about the ongong carnage is much of Western Europe (UK, France, Germany) is firmly with Israel with dissenting voices being heard from the smaller countries such as Belgium and Spain. 

Gaza conflict unlikely to derail world economy

 

When the Ukraine conflict erupted in February 2022, there were all sorts of apocalyptic forecasts. The war would escalate in terrible ways, the pundits said. NATO would increase its involvement until Russia felt obliged to retaliate with strikes against NATO countries. Russia and US would confront each other directly. World War III loomed. The world economy, already reeling under massive interest rate increases effected by central banks, would go into a tailspin.

Nothing of the sort happened. The world has not ended- yet. The world economy slowed down in 2022 but it did not collapse- the threatened recession in the US did not materialise. The reason: NATO and Russia both made sure the conflict did not escalate beyond a point. The conflict remained largely localised around the borders of Russia and Ukraine.

Today, the Ukraine conflict hardly figures in the news. We hear the same apocalyptic forecasts about the Israeli assault on Gaza. The Arab world, angered by the suffering inflicted on the people of Gaza, would band together in confronting Israel- and soon the US and Russia would be drawn into the rival sides.

The 50 nation summit hosted by Saudi Arabia recently should serve to quell any such misgivings. The Arab- Muslim world is willing to bark but afraid to bite. The summit steered clear of measures such as an oil embargo against Israel and the West and cutting off of diplomatic relations. Instead, we heard words of condemnation and pious platitudes. Nobody wants a full-blown conflagration. The World Bank’s Commodities Markets Outlook sees crude oil prices at $84 per barrel, 16 per cent below the $100 per barrel average of 2022. The world economy is unlikely to be derailed by the conflict in Gaza.

I explore these themes at greater length in my recent article below.

Geopolitical risk: After Ukraine, it's Gaza

“Geopolitical risk” has been a huge buzzword since the eruption of the Ukraine conflict in February 2022. It connotes  the potential for disruption to the world economy arising from armed conflict.    “Geopolitical risk” sounds more technical and impressive than “war”.  People use it for the same reason they prefer “mindset” to “attitude”. 

In 2022, the significant geopolitical risk was an escalation in the Ukraine conflict that would derail the world economy by causing crude oil prices to spiral well above $100 per barrel. That did not happen. Will it happen now with the conflict in Gaza? 

Let us first examine how oil prices came to be contained post-Ukraine.  Oil prices touched a peak of $140 per barrel in March 2022, a month after the conflict erupted. It is not as if the supply of oil was disrupted. The markets were merely reacting to the prospect of a major disruption. They feared that $140 was the price oil would touch if there was an escalation in the conflict.  

The conflict did escalate. Nato progressively chose to supply tanks, longer-range missiles and fighter aircraft to Ukraine after initially ruling out these items.   But the significant escalation, one that would draw Nato into direct confrontation with Russia, did not happen. Oil prices fell from the peak of March 2022 and averaged $100 per barrel in 2022. In 2023, oil prices declined further to a low of $72 per barrel. 

One factor has turned out to be crucial in putting a lid on oil prices: The imposition of a crude oil price cap by the G7 and the European Union (EU), referred to as the Coalition. The Coalition was keen to curtail the flow of oil revenues to Russia so that it lacked funds for its operations in Ukraine. 

The G7 countries decided to phase out and altogether ban oil imports for themselves. They then thought of prohibiting other economies from buying Russian oil through the threat of sanctions. However, they realised that if Russian oil supplies were removed from the oil market, the price of oil could shoot up to as high as $150 per barrel. That would have crippled several economies (including India) and dragged down the world economy.  How was the G-7 to keep Russian oil flowing into the world market while hurting Russian revenues? 

The answer was the oil price cap. The G7 insisted that nobody should purchase crude oil from Russia at above $60 per barrel. They hit upon a mechanism for ensuring this outcome. All companies in the Coalition that provided shipping, insurance or finance related to oil would have to observe the cap or face punitive action. 

Since the countries within the coalition provided 90 per cent of all maritime services related to oil, the price cap turned out to be largely effective. Russia continued to export oil to countries outside the Coalition. China and India increased their imports of oil from Russia. However, the use of Western maritime services meant that Russia had to sell oil at close to $60 per barrel. The OECD economies had been procuring roughly a third of their oil imports. They were able to shift to other sources of oil. The geopolitical risk from Ukraine did not materialise.  

What does Gaza now bode for the world economy? The first thing to note is that Opec and other oil producers announced cuts in production in October 2022. This was followed by further cuts in production through 2023. Oil prices have risen as a result.

Secondly, Russia has found ways to circumvent the oil price cap. It has developed its own “dark fleet” of oil tankers that can operate without Western maritime services such as insurance. The Financial Times (September 25, 2023) estimates that as much as three-quarters of Russian oil travelled without Western insurance last August. As a result of these two developments, oil prices currently hover around $80 per barrel. FT reports that virtually no Russian crude was sold at below $60 per barrel last October.

Will the conflict in Gaza make things worse? The World Bank is surprisingly sanguine about the prospects. After factoring in the Gaza conflict, the Bank’s Commodities Market Outlook (October 2023) sees oil prices at $84 per barrel in 2023 – or 16 per cent below the level in 2022- in its baseline scenario. It sees the commodities index as a whole at 24 per cent below the level in 2022. Oil at $84 per barrel will hurt the world economy, but it is not be  crippling.

Only if the conflict in Gaza morphs into a regional conflict does the World Bank see oil prices shooting up to $150 per barrel. Military analysts say that would be a conflict that draws in the Hezbollah group in Lebanon along with its backer Iran (and possibly Syria and Turkey). In that event, the US will weigh in on the side of Israel.  Such a prospect looks unlikely at the moment. 

As more than one commentator has pointed out, Israel’s responses to provocations in the neighbourhood typically involve a race between the clock and the casualties it can impose. The US will back Israel to the hilt for a certain length of time. Then the clock stops. Once it has exacted a certain price, Israel will be told to call off its offensive. Both sides will claim victory. 

There is every indication that the same script is being played out this time. The most recent utterances from the White House and the US Secretary of State suggest that time is running out for Israel. Other players are also adhering to this script. For all its belligerent noises, Iran is holding its proxy, the Hezbollah militia in Lebanon, on a tight leash. Prominent Muslim nations such as Egypt, Jordan, Turkey, and Saudi Arabia will not go beyond condemnation. Nobody wants a full-blown conflagration. 

That is what we have seen happen in the Ukraine conflict.  It is also what happened through much of the Cold War years that followed World War II. The great achievement of nuclear deterrence was that the world’s two leading military powers, the US and Russia, learnt to keep conflicts strictly local. They never got into a direct shoot-out. World War III was often predicted but it never happened. The world, it seems, has learnt to live with geopolitical risk. Financial crises and pandemics pose greater threats to the world economy than geopolitical risk.  

IIM Bill 2023- new rules notified

The government has notified new rules for the IIMs consequent to the IIM Bill 2023 being passed in Parliament last July, that is, within four months of the Bill having been passed.

That is quite striking. It is not common for bills to be passed or notified so quickly. In the case of IIMs, any changes to rules would take a fairly long time to happen. First, there would be consultations with the directors of the leading IIMs, if not all IIMs. Then a discussion paper would follow with the public invited to respond. After that changes would be negotiated with the IIMs.

Not so with the IIM Bill 2023. It was introduced in Parliament in July 2023. The next week, the Lok Sabha passed it. The following week the Rajya Sabha passed it. The changes were duly notified in the government gazette mid- August. No discussion, no negotiation, no waffling.

This is decisiveness of an order not seen in government. What could be the explanation? I believe the government sensed that a governance emergency had arisen in the IIM system, one that required a swift response if the IIM brand was not to suffer lasting damage.

Ever since the IIM Act came into force in January 2018, accountability in the IIM system had flown out of the window. Directors and boards at various places behaved as though they were accountable to none. At least two leading IIMs, IIMA and IIMC, witnessed turmoil of a sort not seen during the long years when government had better control over the IIMs.

In the new scheme of things, the government, through the Visitor (the President of India), can dissolve an IIM board on three grounds- if it was satisfied the board was not performing its duties, failed to carry out directions given by the Visitor or in the public interest. It can also remove any director without reference to the board. It will have the final say in the appointment of Chairmen and directors of IIMs.

I believe the government has grounds to proceed against several of the IIM boards under the powers it has assumed. The overwhelming majority of the IIM boards have failed to comply with the requirement under the IIM Act of having an independent review done within three years of the passing of the IIM Act. The couple of review reports I have seen are pathetic documents- they sound more like official brochures than an independent management audit. Many IIMs have been non-compliant with the Constitutional requirement of reservations for designated categories in faculty recruitment.

We have to wait and see. In the meantime, the ushering in of a modicum of accountability into the IIM system deserves three cheers.

 

 

Israel's war on Gaza: assorted links

 An article in Aljazeera has an interesting take on some of the top people in Israel's government starting with PM Benjamin Netanyahu:

Kimhi, who teaches at Tel Aviv University, has studied Netanyahu’s mind for almost a quarter of a century. In 1999, the same year that Netanyahu’s first term as premier would end, Kimhi’s behavioural analysis of the leader found a concerning pattern of behaviour. Some of his conclusions: Netanyahu was narcissistic, entitled and paranoid, and he reacted poorly under stress.

Kimhi revisited Netanyahu as a subject in 2017 but found not much had changed. As people age, Kimhi said, their behaviours tend to become more extreme. For Netanyahu, his paranoia and narcissism have grown. He trusts no one, except maybe his immediate family, and prioritises his “personal future” over all else, Kimhi’s research found.

         ....National Security Minister Itamar Ben-Gvir has been convicted of incitement to racism, destroying property, and joining a “terror” organisation when he was 16 years old. Finance Minister Bezalel Smotrich leads the hardline Religious Zionist Party that not only rejects Palestinian statehood but denies the existence of the Palestinian people and has condemned LGBTQ activists. Interior and Health Minister Aryeh Deri is an ultraorthodox rabbi who was sentenced to three years in jail for taking bribes.

 A senior official at the UN has resigned his post in protest against what he calls Israel's 'genocide' in Gaza:

The director of the New York office of the UN high commissioner for human rights has left his post, protesting that the UN is “failing” in its duty to prevent what he categorizes as genocide of Palestinian civilians in Gaza under Israeli bombardment and citing the US, UK and much of Europe as “wholly complicit in the horrific assault”.

Craig Mokhiber wrote on 28 October to the UN high commissioner in Geneva, Volker Turk, saying: “This will be my last communication to you” in his role in New York.

Mokhiber, who was stepping down having reached retirement age, wrote: “Once again we are seeing a genocide unfolding before our eyes and the organization we serve appears powerless to stop it.”

 Heartening to see there are still a few people in high positions with conscience left in them.

And finally, South American countries have chosen to express their outrage over what is going in in various ways. Bolivia has cut off diplomatic relations, others have recalled their envoys. In the Arab world, only Jordan has reacted in such a fashion, choosing to recall its envoy:

Bolivia said on Tuesday it had broken diplomatic ties with Israel because of its attacks on the Gaza Strip, while neighbors Colombia and Chile recalled their ambassadors to the Middle Eastern country for consultations.

The three South American nations lambasted Israel's attacks on Gaza and condemned the deaths of Palestinian citizens.

Bolivia "decided to break diplomatic relations with the Israeli state in repudiation and condemnation of the aggressive and disproportionate Israeli military offensive taking place in the Gaza Strip," Deputy Foreign Minister Freddy Mamani said at a press conference.

....."What we have now is the insanity of Israel's prime minister, who wants to wipe out the Gaza Strip," said Brazilian President Luiz Inacio Lula da Silva on Friday.

 

Storm over historian article on Israel 's war against Hamas

 An Israeli professor who resides in the US has kicked off a storm by writing an article that asks Israel to stop 'weaponising the holocaust' in its conflict with Palestinians. Segal argued, as many including the UN Secretary General have, that we should not be mindful of the background to the Hamas attack on Israel, which is no way to overlook the atrocities that happened. Simply to portray Palestinians or Hamas as barbaric or as animals is not helpful:

The context of the Hamas attack on Israelis, however, is completely different from the context of the attack on Jews during the Holocaust. And without the historical context of Israeli settler colonialism since the 1948 Nakba, we cannot explain how we got here, nor imagine different futures; Biden offered us, instead, the decontextualized image of “pure, unadulterated evil.”

Segal also underlined the issue of accountability in such cases:

The history of the Holocaust also points to the importance of accountability, even as post-Holocaust accountability remained limited. In the case of Israel’s assault on Gaza, accountability needs to begin from what is very clear: incitement to genocide, which is punishable under article 3 of the UN genocide convention, even when genocide does not follow. While the debate about genocide in Israel’s current assault on Gaza will undoubtedly continue for years, perhaps also in international courts, Israeli war crimes and violations of international humanitarian law are beyond dispute.

Understandably, Israeli officials and several Jewish groups have reacted fiercely to Segal's comments.  

The important thing to note, however, is that Segal is an Israeli. There are many voices like him in Israel itself, people who do not hesitate to criticise the policies of the present government. One of the magnificent forums for the expression of dissent is the newspaper, Haaretz, that hosts the famous dissenter, Gideon Levy. It is fair to say that dissent and the tolerance of dissent in Israel is greater than in most other countries and that is an aspect of Israel that is worthy of admiration. As long as such dissent thrives, there is reason for hope. 

RBI directive to private banks on wholetime directors

The RBI has directed private banks to have at least two whole-time directors on the  board within four months. 

Establishment of such a team may also facilitate succession planning, especially in the background of the regulatory stipulations in respect of tenure and upper age limit for MD & CEO positions,” the RBI said in its notification

Of course. But we need to ask: why is it necessary for the regulator to issue such a direction in the first place? Is it not the job of banks boards to have ensure succession planning by having a couple of whole-time directors? The RBI has been nudging private banks to do so. Its directive probably reflects the failure of banks to respond suitably. It is noteworthy that public sector banks do not suffer from the malaise of having none other than the CEO on the board.

The RBI directive tells us how poor succession planning is in banks. Indeed, succession planning is poor almost anywhere in so-called professionally managed companies. No CEO wants a couple of alternatives to himself or herself around. Most succession planning is about ensuring that no successor emerges. A paper once compared the photograph of the CEO surrounded his top management team with a photo of about ten years earlier. The only constant in the two photos was the CEO! He had ensured that all others in the team had departed.

That is not unusual. Only when the CEO is about to leave or has left do boards scramble to find a successor. How pathetic!  

US regulators push for higher bank capital

 

The regulatory direction for banks is clear enough: more capital rather than less. Bankers have been pushing back for reasons that, to me at least, defy comprehension.

Bankers say higher capital will mean higher borrowing rates, lower credit growth and diminished investor interest. They are wrong. We need banks to be better capitalised in order to protect ourselves against bank failures, banking crises- loss of economic output that stretches out for several years.

It’s heartening to see that American regulators have seen the light and are pushing for higher capital norms for banks under Basel 3 regulations. 

My article in BS, Will bankers ever learn?

Will bankers ever learn?

T T Ram Mohan

Jamie Dimon, the chief executive officer of J P Morgan Chase, is that rare banker who doesn’t hesitate to take on regulators and lawmakers. He was severe in his criticism of the Dodd-Frank Act that led to stricter regulation of banks in the US after the global financial crisis (GFC).

Now, Mr Dimon has trained his guns on the Basel III “end game” rules for banks planned by American regulators. These are the final rules related to the implementation of the norms widely agreed upon after the GFC. The new rules will mean higher capital requirements for banks. While Mr Dimon may be gutsy in taking on regulators, it doesn’t   mean he’s right.

US regulators are proposing several changes in the way capital requirements are determined under Basel III. They want all banks with assets exceeding $100 billion to use standardised models, instead of internal models, for providing capital for credit risk and operational risk. For market risk, these banks will have to calculate risk-weighted assets using both standardised approach and model-based approaches and use the higher of the two. In addition, banks will have to reflect unrealised losses or gains on available-for-sale securities. These and other proposals will cause bank capital to increase, and that’s what we need.

Requiring the use of standardised models for risk assessment is a huge shift. In standardised models, risk is assessed based on the average risk experience. Under Basel II rules, which were in place until Basel III came into force, the focus was on capturing risks specific to a bank using Internal Risk-Based (IRB) models. Banks that effectively managed risk would end up having a capital requirement lower than that required under standardised models, resulting in a higher return on equity.

Only banks that could demonstrate the robustness of their risk models would qualify for use of the IRB approach. The very fact that a bank had been approved for the use of the IRB approach signalled to the markets its superior prowess in managing risk.

Regulators are now having second thoughts on the use of IRB models. During GFC, it turned out that many of the banks that used IRB models just did not have the necessary capital to cope with losses. In drawing up the Basel III norms, regulators judged that placing too much reliance on IRB models was unwise. They decided to supplement the earlier capital requirements with a simple leverage ratio, defined as Tier I capital to total assets, of 3 per cent. This translates into a debt-to-equity ratio of 33:1. If this seems an absurdly high level of leverage, remember that banks were even more leveraged earlier.

With the latest Basel III proposals, American regulators are changing tack. They would rather not rely on banks’ internal models at all. They aim to do away with internal models for credit risk and operational risk and play safe with models for market risk. The Reserve Bank of India (RBI) has been moving towards estimating credit loss based on IRB models. It may now want to revisit the proposition. 

The underlying principle driving the new US proposals is simple enough: For banks, more equity capital is better than less. Mr Dimon opposes the move based on arguments we have been hearing from bankers for years now. Two American academics, Anat Admati and Martin Hellwig, have devoted a whole book to showing up the fallacies in these arguments (TheBankers’ New Clothes).

Mr Dimon says more equity capital will translate into higher lending rates for borrowers. This is based on the premise that equity is costlier than debt, especially when we take the tax shield   for debt into account. In banking, that is true only because bank debt is hugely under-priced.

Lenders to banks know that a large bank will not be allowed to fail (“too big to fail”) and are willing to lend at a lower rate than would be dictated by the level of debt. There is thus an implicit subsidy received by banks considered “too big to fail”.  This is a cost that is borne by the taxpayer. It is only when we ignore this implicit subsidy in bank debt that it appears as cheap as it does today. To ignore this is to pave the way for more bank failures and bailouts by taxpayers.

Mr Dimon also contends that investors find bank stocks unappetising if capital requirements go up and return on equity falls. That is not true either. The share price of a bank is a multiple of the price/earnings ratio (P/E) and earnings per share (EPS). Higher equity requirements tend to cause the EPS to fall but they result in a higher (P/E) ratio as investors perceive banks with higher equity as safer and re-rate bank stocks with higher equity capital.

Which of the two effects above will dominate? Bankers seem to think it is the (P/E) effect that will dominate and result in higher valuations. What else can explain the fact that the capital adequacy ratios at the best-performing banks have raced far ahead of the regulatory minimum?

In the US, capital adequacy at an International Monetary Fund (IMF) sample of banks averages over 16 percent, while the requirement stands at around 11 per cent for most banks and slightly higher at 16-17 per cent for very few large banks. The averages in the UK, Switzerland and Sweden are 22, 20, and 23 per cent, respectively. In India, private banks operate at a capital adequacy of 19 per cent, even though the regulatory requirement is just 12 per cent. If higher capital is going to cheese off investors, how do we explain the fact that banks with higher capital than average also command the highest valuations?

Bankers must be aware of this, so why do they set up a howl every time the regulatory requirement goes up? One explanation put forward is that bankers are paid bonuses based on return on equity. The solution, then, is for boards to change the metric for performance awards from return on equity to return on risk-adjusted capital.  Allowing a high level of debt so as to show higher return on equity is certainly not the solution

The regulatory trend is in the direction of increasing capital requirements for banks. That is good for both banks and the economy. The question is: Will bankers ever gracefully accept this reality?

Central bank autonomy

This is now an old debate. But it's worth getting the perspective of Y V Reddy on the subject in India Forum. 

Reddy begins by noting that the RBI is a full service bank. It appears that bank regulation was added to RBI's mandate down the road along with various functions:

The important functions of the RBI include issue of currency, monetary management, banker to banks and the government, management of public debt, and management of foreign exchange reserves. Over a period, it has subsumed and assumed powers to regulate money, securities and foreign exchange markets, regulation of banks and non-banks and payment and settlement systems. In serving the public good, the RBI has traversed a long distance and faced many challenges. In the process, it has evolved into a full-service institution encompassing regulatory and developmental roles in the financial system, besides partnering with union and state Governments as their fiscal advisor in domestic and external sector policies.

Reddy gives the arguments for and against central bank autonomy. For autonomy:

The first is what is called time inconsistency. Essentially, it means that the time horizon of democratically elected government is short-term and hence they may favour growth over price stability. However, on matters relating to money, actions have to be taken keeping a long-term view. The central bank is expected to take a longer-term view......There is a second reason: that there are political cycles and there are business cycles, which do not coincide. For instance, elections will encourage politicians to have expansionary policies at that time... The third reason is that governments have a tendency to spend more money than appropriate and some limits have to be put on the spending. These can be put in the Constitution. This can also be enforced by independent central banks.

Against autonomy:

There is no democratic legitimacy for a technocratic body to decide on the important matter of money...Second, the independence of central bank may result in friction between fiscal and monetary authorities. Third, a central bank may 'impose' its outlook and preferences on the people, contrary to democratic preferences.

The tricky question is how to enforce accountability. Reddy gives some suggestions:

They should provide regular reports on their policy decisions and the economic outlook and be subject to external audits. Transparency helps build credibility and public trust in the central bank's actions. 

I have advocated external audits for all autonomous government institutions, including RBI. But hardly any of it happening.  It happens rarely and when it does happen, it is perfunctory.

Moreover, central bank autonomy can be largely in respect of the conduct of monetary policy. On various other matters that the RBI handles, such as bank regulation, foreign exchange and management of public debt, there has to be close consultation with the government. Autonomy cannot be sought across the entire range of a full-scope central bank's activities because ultimately the government is accountable for outcomes in a way in which the central bank is not.

  

NATO will give Ukraine arms but no membership

The NATO meeting at Vilnius in Lithuania failed to produce the outcome that Ukrainian President Zelensky was looking for. Zelensky is desperate for NATO membership because that would automatically confer on Ukraine the defence cover that NATO nations are entitled to.

The US and others are in no mood to oblige. They refused also to commit to a time-frame for Ukraine to get NATO membership. There was only a vague promise to consider NATO membership once Ukraine had met “conditions” that were left delightfully unspecified. What NATO Secretary General Jens Stoltenberg spelt out would be of no comfort to Ukraine:

We will provide support to Ukraine for as long as it takes. Because unless Ukraine wins this war, there's no membership issue to be discussed at all.

NATO clearly does not want to be drawn into a direct conflict with Russia because it knows very well that that could lead on to a nuclear exchange. What NATO is happy to do is to continue to arm Ukraine as much as it can. Ukrainians will perish in large numbers in a war that Ukraine cannot win. But Ukrainian lives will help bleed Russia militarily and economically. There is a fond hope in Western capitals that a prolonged war may create enough discontent in Russia to dislodge President Putin. That hope has been belied in the past eighteen months.

It looks as though the stalemate in the conflict will continue. The Ukrainian forces will hurl themselves at Russia in a counter-offensive that produced little thus far. The Ukrainian army has not been able to cross the buffer zone and reach the Russian defense lines. Fresh supplies of arms are unlikely to materially change the situation. More Ukrainian and Russian lives will be lost while NATO cheers from the sidelines.

The problem is that matters may not end there. There is always the risk of a serious provocation from the Ukrainian side. That will draw a severe response from Russia. We cannot be sure that the escalation will not then draw NATO into direct conflict with Russia – with perilous consequences for the world at large.  

C Rangarajan and India's economic reforms

 C Rangarajan was one of the principal figures in the making of India’s economic policies from the 1980s onwards. His memoir, Forks in the Road, should be compulsory reading for those who want a deeper understanding of the reform process.

It will interest IIMA students and alumni to know that Dr Rangarajan was a professor at the Institute for more than a decade and a half. He was at New York University School of Business (now Stern School) when Ravi Matthai, the then director, offered him a job at IIMA.

Dr Rangarajan’s course in Macroeconomics was hugely popular with students. He was entrusted with the task of launching IIMA’s doctoral program. In 1981, he was appointed Deputy Governor of RBI. Thereafter, there was no looking back.

Dr Rangarajan went on to don several hats: Member, Planning Commission; RBI Governor; Chairman, 12^th Finance Commission; Chairman, PM’s Economic Advisory Council. He was also Governor of two states and member, Rajya Sabha. A life of rich accomplishment!

My review article on the book in BS today.

It's behind a pay well, so here is the full text:

FINGER ON THE PULSE

 The ideas of economists

 Former RBI governor C Rangarajan’s memoir is a testament to the crucial role economists can play in shaping policies and people’s lives

T T Ram Mohan

Do economists matter? Can they make a big difference to public policy? Economists will find answers that are gratifying in Forks in the Road, the memoir of C Rangarajan ( ‘Ranga’ to old-timers at IIM Ahmedabad, with which he had a long association in its formative years). Yes, they do. And, yes, they can make a big difference to public policy, provided they can get political masters to align with their thinking. 

Dr Rangarajan’s memoir is about the economic events and decisions in which he was an active participant for nearly three decades, starting in the early 1980s. He wore several hats: Deputy governor and governor of the Reserve Bank of India (RBI); member of the Planning Commission; chairman of the Twelfth Finance Commission; and chairman of the Prime Minister’s Economic Advisory Council (with Cabinet rank). Somewhere in between were stints as governor of two states and member of the Rajya Sabha.

Unlike most memoirs, Dr Rangarajan’s is less about himself and more about issues. It is replete with tables and statistics. But it doesn’t just tell us what transpired. It examines the alternatives that were open to policymakers and explains why a particular course was chosen and what outcomes followed. The result is a fascinating piece of economic history. 

Dr Rangarajan joined the RBI in 1981. As deputy governor and governor (with a break in between), he dealt with two of India’s biggest balance of payments (BoP) crises,  the overhaul of monetary policy and banking reform. 

The first BoP crisis, in 1981, was handled largely within the then economic paradigm. Yet, operating  within the paradigm, Dr Rangarajan and his colleagues at the RBI managed a steady depreciation of the rupee in both nominal and real terms. They were very clear that it would be difficult to manage the current account deficit without boosting exports and curtailing imports.  The economists at RBI seem to have had a free hand in managing the exchange rate even before the reforms of 1991. 

Another significant reform in the 1980s arose from the Sukhamoy Chakravarty report of 1985. Following the report, monetary targeting or setting a money supply target consistent with output growth and prices came into vogue. This was the first attempt to tackle “fiscal dominance” over monetary policy. Here again, the political authority went along with the recommendations of the economists. 

The BoP crisis of 1991 required far more drastic measures. An immediate step was the raising of a foreign currency loan by pledging some of our gold reserves. The Chandra Shekhar government gave the go-ahead, and the Narasimha government that followed raised no objection. Again, a steep depreciation in the exchange rate of the rupee was required. This was done in two stages with the approval of the government. Yet another win for economists.

The achievement of the time, as is well known, was the radical break with the past that finance minister Manmohan Singh pushed through. Dr Rangarajan highlights the three significant breaks that are now part of economic lore: The dismantling of licenses, the reduction in public ownership of business enterprises, and the move away from the inward-looking trade policy of the past. All of this was possible only because of the backing of the political authority. Dr Rangarajan notes wryly that Narasimha Rao was able to rally his party behind him by talking of “continuation” in economic policy when there was really a break. At the time, Dr Rangarajan was at the Planning Commission.

Returning to the RBI in the early 1990s, Dr Rangarajan set in motion reforms in monetary policy and banking at a breath-taking pace. The phasing out of ad hoc Treasury bills; market-determined rates for government borrowing; the dismantling of the administered structure of interest rates in banking; the reduction in  the Statutory liquidity ratio and cash reserve ratio; licensing of new private banks; and a great deal more was done. The chapter is titled “The beginnings of autonomy” but  but the freedom given to the professional economists at RBI was not inconsiderable.

In the management of the external sector, the RBI worked closely with the finance ministry. Far-reaching reforms happened: Foreign institutional investors were allowed into the Indian stock market; foreign direct investment (FDI) norms were liberalised; and the exchange rate became largely market-determined. The framework for management of external capital flows was put in place. There was clarity that long-term equity flows should be preferred to short-term debt flows. These and other measures taken at the time have since become pillars of Indian economic policy. 

On all these, the political authority had no difficulty in heeding solid professional advice. There must have been occasions when the economists couldn’t quite have their way. Perhaps those occasions were not so consequential. At any rate, there is little indication in the memoir of any serious confrontation between economists and the government. On the major issues of policy, once the politicians had decided on a fundamental change of course, they didn’t interfere with the work of economists. On lesser, more technical matters, they always left it to the professionals to do what was required.

The big area of failure for economists has been the fiscal deficit or the savings-investment balance. Dr Rangarajan highlights the point in his concluding chapter, “Ruminations”, where he ponders the long-term outlook for the economy. Over the past three decades, it is an issue that has not proved amenable to the persuasions of economists, no matter what the complexion of government. We have since arrived at times when the global consensus on keeping public debt relatively low has been undermined. Economists themselves seem resigned to greater levels of public debt than they have been comfortable with in the past.

Not pushing through “big-bang” reforms— such as aggressive privatisation, including bank privatisation, land acquisition, and the freedom to hire and fire labour — is seen as a big political failure. Dr Rangarajan doesn’t seem to think so.  He makes little mention of these. “The reform regime,” he writes, “will be incremental in character. It has to be”. That is also the political consensus on reforms.  

Working quietly within the system, Dr Rangarajan was able to make a difference. His place as one of the principal architects of economic policy from the 1980s onwards is secure. For his compelling chronicle of the economic history of the period as much for his many contributions, he deserves a bouquet of the choicest roses.