Eliminating the trust deficit between government and industry and companies and investors cannot be selective
By Mohan Sule
While flagging off the Make-in-India curtain raiser, Prime Minister Narendra Modi rightly said there is a trust deficit in the country. For the common man, the government is a pervasive and obstructive force, with rules and regulations. For the government, there is a radical lurking round the corner, trying to circumvent authority. The various regulatory bodies empowered with oversight powers would become redundant if companies were to become transparent. Users would not face quality issues or deficient services. Consumers of injectibles and capsules would not be puzzled over the silence of the domestic watchdog even as some of our topnotch pharmaceutical companies are targeted by the US Food and Drug Administration. Investors would not become agitated over commodity producers diverting a hefty amount as royalty to the holding company or MNC associates to their parents irrespective of the bottom line and asset management companies charging a fixed fee without any link to performance. Indian shareholders would not view with scepticism PSU banks for whom social obligations override business sense, with loan writeoffs encompassing the small borrower to the mighty industrialist having the right connections. Imagine how easy life would be if everyone filed correct returns. An entire industry devoted to monitoring tax payers would be rendered jobless.
Modi needs to be credited for not singling out any section of the society for the state of affairs unlike the previous socialist regimes, which blamed the business community for profiteering and keeping the country in a perpetual state of poverty. Yet the remark threw up four ironies. The first was unsaid but understood. The prominent casualty of the lack of confidence between industry and government is manufacturing. The problem of joblessness cannot be solved by software companies alone. No wonder, the prime minister’s preferred composition of growth is equitable contribution of the three segments of the economy: agriculture, manufacturing and services. This is at odds with the traditional understanding that, as the country develops, the share of services overtakes farm and brick-and-mortar output. The second takeout is that investors have to be wooed with the attraction of quick clearance and stable taxation in spite of the advantages of democracy, demographic dividend and demand. Crony capitalism, unfortunately, has not only drained the country’s resources but also clogged the investment pipeline. The Supreme Court’s judgment cancelling all but four coal blocks allotted since 1993 is an opportunity to clear the cobwebs of entrenched interests. Clear-cut policies on awarding contracts, straightening of ambiguous tax laws that are open to interpretation, ensuring an import taxation structure that is fair to producers of raw materials, intermediates as well as end products, and eliminating the role of middlemen by switching over to e-commerce could perhaps encourage fair business practices.
The third contradiction became apparent during Modi’s US tour. Apart from the issue of liability of nuclear plants, the other thorny issue was protection of intellectual property rights. Besides the tech and entertainment industries, global drug producers face billions of dollars of lost revenue due to copy cats in India. The government’s crackdown on spurious products or even infringement of patents in the local market has been half-hearted so far due to the desire to keep medicine prices low. A sign of the changing times is the stripping of the National Pharmaceutical Pricing Authority from capping prices of non-essentials on the eve of the prime minister’s departure to the US. The fourth dissonance cropped up during Modi’s speech to the United Nations General Assembly, when he exhorted members not to distinguish between good and bad terrorism, not realizing that he had laid himself open to similar criticism by branding FDI in retail as inimical to the country’s mom-and-pop shops while welcoming it in Railways and defence. Protecting one segment of the business comes at the expense of another: farmers, who would get better pricing and a captive market. Better storage and distribution would contribute to lowering of food inflation. The consumer durables industry is an examples of Indian players being swamped by foreign competition yet receiving hardly any sympathy from the policy makers. If employment creation is the focus, it would be better achieved by large malls rather than family-run holes in the wall. Similarly, issuers are able to raise funds quickly by providing privileged access to institutional investors. However, by ignoring the small investors, these companies are blocking the exit routes of these big-ticket investors.
Monday, October 27, 2014
Wednesday, October 8, 2014
The chaos theory
The safe-haven status of the dollar and food inflation in India have disrupted linkages between stocks and currency
By Mohan Sule
Once upon a time not far ago, there was a perfect world. The prosperity at the beginning of this century did not come out of the blue but was the result of different stages of evolution. Opportunity for a better life mutated into greed and transcended into lust. A dot transformed into a decimal, bloating into a balloon. Eventually, there was a bust. It took a few years for rays of hope to pierce the gloom that enveloped the globe, which had become closely entwined. Parts of a machine were produced in different corners and assembled in another location and sold someplace else. There was no false sense of nationalism. Instead the race was to build on the core strengths of demography, technology and market. For instance, an exporter of back-office services could be a voracious consumer of fast foods and luxury labels. A nuts-and-bolts hub of the world could have insatiable appetite for commodities. Money was cheap and plenty and sloshed around wherever it was needed. It looked like good times were here forever. Alas, it was not to be. Once again, living beyond means got the better of a prudent lifestyle. Money ran out even as debt piled up. The monetary earthquake shook the foundations of blue-chipped institutions. Some crumbled into dust. September 2008 was the turning point for the financial history of the world just as BC and AD are pegs to chart the age of the globe. A pre-Lehman Brothers has become a lexicon to conjure images of debauchery. It has become a marker for future generations to know that the world would never be the same again.
Going by textbooks, low interest rates encourage risk-taking. The US stock market is hitting record highs on near-bottom interest rates. But instead of plummeting because the US Federal Reserve still doubts the strength of the economic recovery and refuses to raise interest rates, the Dow Jones continues to surge. The picture in India is the reverse. Stocks are sprinting despite high cost of money. Reserve Bank of India Governor Raghuram Rajan has warned of outflow from India on a US bounce-back. The question that will arise on this possibility is: will the S&P 500 benchmark retreat because of competition from debt? And, in such a situation, will the RBI remain on course of lowering interest rates once food inflation falls? The interesting takeout is that India’s central bank will have to second-guess the Fed rather than follow a course dictated by India’s economic indicators. So there could be a strange paradox of the US playing by the rule book of keeping interest rates down to trigger growth and India’s central bank refraining from lowering interest rates on fear of exit of foreign money. The burden of preventing a major disruption in the market will be on the Indian government by ensuring that foreign investors earn return in excess of that back home. Take the comeback of bank stocks despite high non-performing loans. The market is re-rating them in the belief credit offtake will increase as thrust sectors such as infrastructure will have to rely on debt to fund capital expenditure. On the other side, a bubbly stock market is enabling highly-leveraged companies to become light by raising equity to retire debt.
Another lesson that has turned topsy-turvy is that the strength of the currency reflects the economy. Despite near-recessionary condition, the US dollar continues to rule. The acquisition of a safe-haven status means a bear attack drives investors to hoard the greenback and so also a bull-run. The Indian currency, confirming to textbook behavior, turned weak during the slump. Yet it also exhibits a contrary trend. High interest rates should bolster the rupee. Instead, a strong dollar is keeping it suppressed as also RBI’s mop-up from the market to fend of repercussions of any stampede. Now the question is will the rupee depreciate further if interest rates are pared? The Indian currency should gain due to the resultant acceleration in foreign investment on growth prospects getting a boost. If this does not fox traditionalists, then the recent phenomenon of narrowing trade deficit should. Growing imports signal industrial acitivity. A soft rupee, therefore, should widen the gap as India’s imports, particularly those of energy (US$ 450 million in FY 2014), exceed exports (US$ 312 million). Ironically, the chasm is shrinking because of squeeze in gold imports and cooling of oil prices despite tensions in the Middle East. The cause is the slowdown in China, whose FDI hit a four-year low in August. In fact, China, a major exporter of cheap goods, should be cranking up its wheels with consumption in the US poised to look up. Meanwhile, rising food intake, rather than the growing hunger for oil, on the back of economic expansion is keeping consumer inflation afloat in India. Indeed these crosscurrents are the new challenges for central banks and governments as age-old equations are giving way to a new chaotic order.
By Mohan Sule
Once upon a time not far ago, there was a perfect world. The prosperity at the beginning of this century did not come out of the blue but was the result of different stages of evolution. Opportunity for a better life mutated into greed and transcended into lust. A dot transformed into a decimal, bloating into a balloon. Eventually, there was a bust. It took a few years for rays of hope to pierce the gloom that enveloped the globe, which had become closely entwined. Parts of a machine were produced in different corners and assembled in another location and sold someplace else. There was no false sense of nationalism. Instead the race was to build on the core strengths of demography, technology and market. For instance, an exporter of back-office services could be a voracious consumer of fast foods and luxury labels. A nuts-and-bolts hub of the world could have insatiable appetite for commodities. Money was cheap and plenty and sloshed around wherever it was needed. It looked like good times were here forever. Alas, it was not to be. Once again, living beyond means got the better of a prudent lifestyle. Money ran out even as debt piled up. The monetary earthquake shook the foundations of blue-chipped institutions. Some crumbled into dust. September 2008 was the turning point for the financial history of the world just as BC and AD are pegs to chart the age of the globe. A pre-Lehman Brothers has become a lexicon to conjure images of debauchery. It has become a marker for future generations to know that the world would never be the same again.
Going by textbooks, low interest rates encourage risk-taking. The US stock market is hitting record highs on near-bottom interest rates. But instead of plummeting because the US Federal Reserve still doubts the strength of the economic recovery and refuses to raise interest rates, the Dow Jones continues to surge. The picture in India is the reverse. Stocks are sprinting despite high cost of money. Reserve Bank of India Governor Raghuram Rajan has warned of outflow from India on a US bounce-back. The question that will arise on this possibility is: will the S&P 500 benchmark retreat because of competition from debt? And, in such a situation, will the RBI remain on course of lowering interest rates once food inflation falls? The interesting takeout is that India’s central bank will have to second-guess the Fed rather than follow a course dictated by India’s economic indicators. So there could be a strange paradox of the US playing by the rule book of keeping interest rates down to trigger growth and India’s central bank refraining from lowering interest rates on fear of exit of foreign money. The burden of preventing a major disruption in the market will be on the Indian government by ensuring that foreign investors earn return in excess of that back home. Take the comeback of bank stocks despite high non-performing loans. The market is re-rating them in the belief credit offtake will increase as thrust sectors such as infrastructure will have to rely on debt to fund capital expenditure. On the other side, a bubbly stock market is enabling highly-leveraged companies to become light by raising equity to retire debt.
Another lesson that has turned topsy-turvy is that the strength of the currency reflects the economy. Despite near-recessionary condition, the US dollar continues to rule. The acquisition of a safe-haven status means a bear attack drives investors to hoard the greenback and so also a bull-run. The Indian currency, confirming to textbook behavior, turned weak during the slump. Yet it also exhibits a contrary trend. High interest rates should bolster the rupee. Instead, a strong dollar is keeping it suppressed as also RBI’s mop-up from the market to fend of repercussions of any stampede. Now the question is will the rupee depreciate further if interest rates are pared? The Indian currency should gain due to the resultant acceleration in foreign investment on growth prospects getting a boost. If this does not fox traditionalists, then the recent phenomenon of narrowing trade deficit should. Growing imports signal industrial acitivity. A soft rupee, therefore, should widen the gap as India’s imports, particularly those of energy (US$ 450 million in FY 2014), exceed exports (US$ 312 million). Ironically, the chasm is shrinking because of squeeze in gold imports and cooling of oil prices despite tensions in the Middle East. The cause is the slowdown in China, whose FDI hit a four-year low in August. In fact, China, a major exporter of cheap goods, should be cranking up its wheels with consumption in the US poised to look up. Meanwhile, rising food intake, rather than the growing hunger for oil, on the back of economic expansion is keeping consumer inflation afloat in India. Indeed these crosscurrents are the new challenges for central banks and governments as age-old equations are giving way to a new chaotic order.
Conflict of interest
Government as a regulator, producer and user benefits neither the shareholders of the seller nor those of the consumer
By Mohan Sule
The countdown has begun for a decision on pricing of natural gas. The UPA II government had almost doubled the price to US$ 8 per million British thermal unit effective April. The Lok Sabha election in May delayed the implementation. The NDA government end June decided to put off the matter by three months. The outcome will affect the shareholders of Reliance Industries, ONGC and Cairn India as well as those of user industries including power generators, fertilizer producers and refiners making cooking gas. An upward revision could fuel a rally in RIL and, effectively, light up the equity market as the heavyweight has been a laggard compared with other constituents of the benchmark. In the three months to 5 September 2014, the broad market gained nearly 8% compared with RIL’s loss of more than 5%. Importantly, the government is readying to issue shares of ONGC. A favourable verdict can fetch attractive valuation for the PSU. The picture will be opposite for end users. Increase in prices will drive up costs. Inflation is an overriding theme for the electorate, which has generally been satisfied with the performance of the Narendra Modi government after 100 days in office. Yet any reluctance to bump up prices could restrict supplies and slow down GDP growth. No wonder there is anxiety on how the drama unfolds in the next few days. There is certainty that prices will be hiked. The question is by how much and what will be the formula for future.
Pricing of natural gas is one of the many instances that have brought to the fore the divergence of interest of the sellers and the buyers. The coal-scam drama, which refuses to fade out, is a prominent case of cross-connection. The government is the largest producer (Coal India) and also a major consumer (NTPC and Sail, for instance) of coal. It could afford to keep prices low as long as CIL was not listed. The largest foreign portfolio investor resorted to legal action against the government for not allowing prices to reflect demand. Revision in power tariff due to increase in prices of coal is resisted by bankrupt state-owned discoms. The entry of private sector to boost supply has created more problems than being a solution due to the arbitrary allocation of coal blocks. The ensuing fallout was policy paralysis, affecting the producers as well as the users. The result is that neither CIL nor power generators are getting the discounting that companies in an industry with vast untapped potential should be attracting. Sugar is another example. The minimum support prices to sugarcane farmers, a crucial segment of the electorate, is relentlessly increased despite protests from sugar producers, who have to sell a portion of the output at controlled prices. Moreover, exports are controlled. On the other side, government-owned banks routinely complain about piling debts of sugar mills. As a via media, mixing of ethanol, a byproduct of sugar, in petrol has been encouraged to ease the cash-flow problem of sugar producers and reduce the influence of crude oil on fuel prices. This arrangement will ease some of the pain of sugar manufacturers but is not a substitute for withdrawal of government presence from the sector. As such, sugar stocks languish on the trading floor despite India being one of the largest consumers.
The norm is for interested parties to recuse from situations involving conflict of interest. For example, the Telecom Regulatory Authority of India, an autonomous body, oversees the industry, despite having two PSU operators, with the entry of private services providers. Similarly, the Central Electricity Regulatory Commission regulates power tariff. However, going by the valuation of BSNL and MTNL, loosening of control by the government does not necessarily benefit the shareholders of PSUs that had been monopolies when they were listed. Smaller private banks by assets enjoy better discounting than some of the biggest PSU banks due to more flexibility. In that sense, the government failed to mention reforms as a risk factor. Perhaps the belief was that the private sector would remain fringe players in view of the depth of coverage of the government-owned entities. Later events have shown that the margin counts more than volumes. The need for a third-party arbitrator, therefore, is to ensure the economy grows not due to higher pricing but because of consumption, which calls for cost-effective operations, thereby, benefiting the shareholders of both the producer and the users. Institutional investors have to become active to nudge the government to stop disturbing the pricing equilibrium. Otherwise, there will be only IPOs and FPOs from e-malls, food chains, theme parks and multiplexes.
By Mohan Sule
The countdown has begun for a decision on pricing of natural gas. The UPA II government had almost doubled the price to US$ 8 per million British thermal unit effective April. The Lok Sabha election in May delayed the implementation. The NDA government end June decided to put off the matter by three months. The outcome will affect the shareholders of Reliance Industries, ONGC and Cairn India as well as those of user industries including power generators, fertilizer producers and refiners making cooking gas. An upward revision could fuel a rally in RIL and, effectively, light up the equity market as the heavyweight has been a laggard compared with other constituents of the benchmark. In the three months to 5 September 2014, the broad market gained nearly 8% compared with RIL’s loss of more than 5%. Importantly, the government is readying to issue shares of ONGC. A favourable verdict can fetch attractive valuation for the PSU. The picture will be opposite for end users. Increase in prices will drive up costs. Inflation is an overriding theme for the electorate, which has generally been satisfied with the performance of the Narendra Modi government after 100 days in office. Yet any reluctance to bump up prices could restrict supplies and slow down GDP growth. No wonder there is anxiety on how the drama unfolds in the next few days. There is certainty that prices will be hiked. The question is by how much and what will be the formula for future.
Pricing of natural gas is one of the many instances that have brought to the fore the divergence of interest of the sellers and the buyers. The coal-scam drama, which refuses to fade out, is a prominent case of cross-connection. The government is the largest producer (Coal India) and also a major consumer (NTPC and Sail, for instance) of coal. It could afford to keep prices low as long as CIL was not listed. The largest foreign portfolio investor resorted to legal action against the government for not allowing prices to reflect demand. Revision in power tariff due to increase in prices of coal is resisted by bankrupt state-owned discoms. The entry of private sector to boost supply has created more problems than being a solution due to the arbitrary allocation of coal blocks. The ensuing fallout was policy paralysis, affecting the producers as well as the users. The result is that neither CIL nor power generators are getting the discounting that companies in an industry with vast untapped potential should be attracting. Sugar is another example. The minimum support prices to sugarcane farmers, a crucial segment of the electorate, is relentlessly increased despite protests from sugar producers, who have to sell a portion of the output at controlled prices. Moreover, exports are controlled. On the other side, government-owned banks routinely complain about piling debts of sugar mills. As a via media, mixing of ethanol, a byproduct of sugar, in petrol has been encouraged to ease the cash-flow problem of sugar producers and reduce the influence of crude oil on fuel prices. This arrangement will ease some of the pain of sugar manufacturers but is not a substitute for withdrawal of government presence from the sector. As such, sugar stocks languish on the trading floor despite India being one of the largest consumers.
The norm is for interested parties to recuse from situations involving conflict of interest. For example, the Telecom Regulatory Authority of India, an autonomous body, oversees the industry, despite having two PSU operators, with the entry of private services providers. Similarly, the Central Electricity Regulatory Commission regulates power tariff. However, going by the valuation of BSNL and MTNL, loosening of control by the government does not necessarily benefit the shareholders of PSUs that had been monopolies when they were listed. Smaller private banks by assets enjoy better discounting than some of the biggest PSU banks due to more flexibility. In that sense, the government failed to mention reforms as a risk factor. Perhaps the belief was that the private sector would remain fringe players in view of the depth of coverage of the government-owned entities. Later events have shown that the margin counts more than volumes. The need for a third-party arbitrator, therefore, is to ensure the economy grows not due to higher pricing but because of consumption, which calls for cost-effective operations, thereby, benefiting the shareholders of both the producer and the users. Institutional investors have to become active to nudge the government to stop disturbing the pricing equilibrium. Otherwise, there will be only IPOs and FPOs from e-malls, food chains, theme parks and multiplexes.
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