The big-bang year

Cash was king as government chased tax evaders and promoters tapped profit-makers to sustain capital-guzzlers in the group

By Mohan Sule

If the assassination of a president was a seminal moment for Americans (Where were you when Kennedy was shot?), it arrived with a thud for Indians at 8 pm on 8 November. Like addicts displaying withdrawal symptoms, the forfeiture of high denomination notes sent everyone scurrying to take stock of their cash chest. There was shock and awe even on the other side of the Atlantic at the election of a maverick as president, perhaps demonstrating that the oldest and the largest democracies in the world share more in common than thought of: the off-streaming of the mainstream media. There was anger, denial and finally acceptance of the ostensible drive to unearth black money and choke corruption. The acrimony turned from the lack of preparation, despite repeated explanations by the finance minister on the need to maintain secrecy, to the positives and pitfalls of a digital India. The meltdown was not restricted to an anti-corruption crusader and a fiery leader of an impoverished state coming out of many years of Communist rule. The most pathetic lot was the economists, clueless on the outcome of the mind-boggling exercise just as they were split wide open on the continuation of the previous central bank governor. The tinge of skepticism if it is ever possible for India to become cashless was derived from the four-storied GST structure and the wrestling between the Centre and the states on the degree of control over revenues.

Control was at the heart of other dramas unfolding elsewhere. At Bombay House, allegations of coup were aired by the retired honcho who refused to fade out gracefully and countered by accusations of fraud by his successor who did want to exit quietly as the shareholders saw their wealth evaporate and corporate governance was condensed to a tussle between izzat and downsizing. Turf wars were not always internecine. The aggressive business model of a new telecom services provider erupted in a battle for survival, with user’s interconnectivity becoming the dead point as existing players retaliated. The exhaustion led to tepid response to spectrum auction, disrupting government calculation that had already gone haywire due to failure to stick to the PSU divestment timeline. Cartelization was not restricted to the air waves. Cement producers in India and drug exporters to the US were pulled up by monitors for ganging up to fix prices, raising concern over the sustainability of their valuations. The worry extended to tech stocks facing cut in spends by the financial sector in the US, Brexit and the EU. Even as emerging markets’ currencies played snakes and ladders with the dollar, boosting and pulling down ferrous and non-ferrous metals in turns, another deadly game was being played at the LoC, with surgical strikes countering terror attacks on army bases.

Meanwhile, promoters resorted to complex restructuring exercises in the name of synergy but in reality to suck out cash from profit-making companies to help capital-intensive businesses. Uncertainty arising from uneven global growth and an increasingly imminent second hike in US interest rates since the credit crunch of September 2008 kept domestic equities range-bound but propelled the Dow to new heights. Will they fly out or stay put was the dilemma of local investors second-guessing the behavior of foreign portfolio investors despite them turning net sellers for most part of the year. The renewed rural buying after a normal south-west monsoon following two years of deficiency bolstered earnings of a host of sectors ranging from two-wheelers to cement and consumer durables. The accord on cutting production to stabilize the declining trend in crude prices in the waning days of 2016 was a solace for project exporters depending on orders from the Gulf region and to commodities depressed by a strong dollar. It was not only gold whose luster was fading due to spurt in prices riding on a weak rupee and government crackdown on jewelry sales in cash and on imposition of cap on holdings. Liquor, too, became scarce as Kerala and Bihar banned sales. For banks groaning under bad loans, the surge in deposits post demonetization was a blessing as bond yields dived on easy liquidity, boosting treasury income. Stocks, meanwhile, continued to trade volatile, unable to make up their mind if the cash crunch will be a bigger threat to growth or the outflow of foreign funds to the US due to belief of increased spending on infrastructure. In a nutshell, the paradox of growth coming at the expense of trade barriers in one corner while increasing transparency and ease of doing business trying to be the selling points in another perfectly captured the essence of the year that was.

Audacity of hope

The 50-day transition towards digital transactions will be a unique feat for an economy sustained by cash dealings

By Mohan Sule

There might be two views on the short-, medium- and long-term impact on the economy of the sudden withdrawal of old high denomination notes from 9 November. Projections of the dent in the GDP growth rate for the current fiscal have ranged from 0.1% (according to some brokers) to 2% (according to economist-turned-politician Manmohan Singh). The confusion stems from the fact that there is no track record to rely on, no esoteric research papers to latch on to. India has become the first growing economy to undertake the exercise. So far, only a handful of autocratic, poor and financially-devastated nations have resorted to such a drastic step. Demonetization carried out in India in January 1978 was before liberalization, Internet, mobile telephony and Jan Dhan accounts. Hence, there is neither a road map nor any serious studies to draw conclusions of the salutary or adverse impact of demonetization. As such all the estimates have to be taken with a big dose of skepticism. The market has not been of much help either. As the announcement coincided with the results of the US presidential election and indication by the US Federal Reserve about a second hike in interest rate since the credit crunch of September 2008, there is uncertainty about the weight to assign for the causes of the flight of foreign portfolio investors. The diving of the Indian rupee has to be seen in tandem with the weakening of other emerging market currencies against a soaring dollar. The move, at hindsight, could not have been timed better. The kharif season was over and so also festive buying courtesy some of the disbursements recommended by the Seventh Pay Commission. Most rabi-crop growers had bought fertilizers and seeds to begin sowing. Some state elections are due early next year.

Almost all the downward revisions in targets for the equity market are based on two assumptions. First, the informal sector is dependent on the cash economy and drying up of the flow will lead to diminished purchasing power. Second, discretionary spend is largely financed by unaccounted wealth. What is ignored is the fact that cash is merely a medium and plugging of this mode does not mean legitimate stakeholders will be denied their dues. The disruption will lead many to utilize their Jan Dhan accounts, so far the receptacles of subsidies. The telecom revolution is not merely fueled by urban areas. Even rural areas have embraced the communication technology. The question that should be posed is if a 50-day window adequate to effect mass-scale switch-over from physical to digital payments. The concern that consumption sectors will take a hit has to be viewed in the context that the new buyers that urbanization will create and the shepherding of the informal segment into tax-paying players will boost volumes of mid- and low-level products and services to balancing out the decline in demand for high-end output. There will be correction in prices of some of the supplies that banked on scarcity rather than any innovative appeal. Investors might prefer players catering to a larger market at sensible and realistic margins. As their earnings will depend on number of units sold, the demand for manpower and inputs, too, will increase.

In the transition to a cashless society, Prime Minister Narendra Modi will be demolishing many myths. First, only an economist can understand the economy. This is a generic assertion. Rather the differentiation should be made between a mediocre and an out-of-box thinker. A leader is not afraid to take a stand that might cause pain in the short term but packages it so attractively that followers are willing to make the small sacrifices called of them. On this criterion, the prime minister has passed with distinction, modifying the implementation as per feedback without losing sight of the objective of sucking out the excessive cash from the system. Second, firmness is a disadvantage. Instead, it can turn out be a virtue when the going gets tough. There is already optimism that the next big move to stimulate the economy will come early next year or in the budget for the next fiscal to be presented on 1 February. Third, a government-mandated changeover to a new environment cannot be achieved in a limited time frame. Sudden disruption can lead to chaos but there are times when beginnings have to be abrupt so that the old system is discarded fully. Though the switch to de-mat trading was achieved in phases by the stock exchanges presiding over a universe of one of the largest listed equity markets in the world, there was a timeline to adhere. If the current turmoil results in India achieving a state where only about 8% of the transactions in value are in cash as in many developed economies as against more than 65% in value in India, the daring experiment will be emulated and examined by historians in the years to come.

Currency moves

After one-nation, one-tax, get set for higher tax-base, lower-tax regime and easing of doing business

By Mohan Sule

Replacing notes making up nearly 86% by value of the currency in circulation is a huge decision, particularly so when more than two-thirds of the economy is run on cash. Add to it the reluctance to use plastic money, inadequate penetration of the banking system and illiteracy. The resultant concoction is indeed combustible. Yet to go ahead with the risk of demonetization means even modest gains outweigh the repercussions of not doing anything to dismantle the parallel economy. The bold move that will add to the GDP growth by transiting to cashless transactions succeeding is more than it failing. For one, the infrastructure to switch to paperless banking is operational though not fully embraced. The working population even in the remotest corner of the country has been covered by the Jan Dhan Yojna’s zero-balance bank accounts to deposit subsidies as well as wages for government work.Online payments and credit and debit card usage are increasingly gaining acceptance in urban areas. The share of credit card-based lending in the overall bank loans has gone up up over the last five years, though it constitutes less than 1% of the value right now. Second, a system is in place to monitor high-value exchanges. Though the correct size might not be visible from invoices, bills or agreements, the revenue department at least has an idea who is entering such deals. Third is the spread of mobile telecom services, a medium through which the government is seeking to disseminate information about its schemes and can also be used to receive and dispatch money.  For all-pervasive use, smart phones and data tariffs have to become affordable. 

Prime Minister Narendra Modi seems to have two goals. The first is to burnish his pro-poor credentials by targeting tax evaders. Second, reducing the scope and size of the cash-based economy along with the incoming one-nation, one-tax regime will give him room to ease business regulations. The subsequent widening of the tax base will provide leeway to cut peak personal and corporate taxes. As Modi is fond of repeating, India is the only bright spot in the globe. As such the attack on unaccounted wealth could not have been delayed. The NDA government has reached its half-way mark. If the salutary impact of the crippling of the underground economy has to percolate to the grassroots before the Lok Sabha polls mid 2019, there was no time to waste. Besides, buying activity is poised to recover after the partial disbursement of the Seventh Pay Commission recommended payout and a normal monsoon. Some of the arrears might have generated cash payments but now will be absorbed into the real economy, translating into more tax revenues for the government. The unorganized sector, populated by unskilled workers and migrants, might see temporary drying up of business due to the cash crunch. The segment, on the flip side, does not get the benefit of the formal lending system such as pass-through of reduction of interest rates. If the discomfort caused in replacing old currency with new prompts even some to shift to the banking system, the temporary dislocation will be worth the effort.

Importantly, the formal sector too stands to gain as the lopsided competition with small units without any book-keeping will reduce. In the meanwhile, the income tax department has obtained a huge database of first-time depositors who had ignored the voluntary income disclosure scheme that closed end September 2016. Along with GST, the current crackdown on illegal funds has the power to expand the tax basket if accompanied by easy compliance and low rates, thereby shrinking the informal economy. Crucially, some of the links in the vicious chain of conversion of electronic money into physical form to meet the demand of those relying on cash will come loose. There are bound to be political ramifications arising from striking at black money. At the visible level, influencing voting might go down because big withdrawals will act as red flags. Injection of liquidity on the eve of elections, thereby distorting prices of essentials, will cease, allowing the central bank to focus on the underlying strengths and weaknesses of the economy. Defence deals and infrastructure contracts will lose luster. Real estate, a conduit to funnel below-the-counter wealth, will turn into like any other industry. Players will have skill sets rather than political connections and cater to different niches of customers rather than putting up towers of babble to recoup their rent money. There might be consolidation among political parties and fading of regional power centers. Do not be surprise if there are coups against entrenched leadership so far perched comfortably due to control of the purse strings.    

The Tata supremacy

The phase of the market during a CEO’s tenure often determines his success or failure

By Mohan Sule

Boardroom brawls are rarely genteel. There is intrigue and manoeuvres and strike-backs.  If the incident occurs near results announcement, the inference is that the turmoil stems from the poor numbers. If the bloodshed comes out of the blue, theories about clashes and corporate governance issues are rarely off the mark. The power tussle at Bombay House is being played out in public. Ratan Tata, the interim chief of holding company Tata Sons, has signaled the aggressive actions of his predecessor to staunch bleeding, particularly the refusal to buy the 26% stake of telecom joint venture partner, NTT DoCoMo of Japan, breached a commitment. Outgoing Chairman Cyrus Mistry has indicated, contrary to allegations, all his actions were with the approval of the board. There are five takeouts from the sordid drama unfolding in the media. Following a larger-than-life predecessor is a heavy burden to bear for the successor, even if he is the son of a business associate. Comparisons abound. The board has to be clear about the mandate for the selection. Is it to continue with the tradition or break from the past? Apparently, Mistry wanted to shrink the balance sheet that was weighed down by debt taken to finance overseas forays, while Tata wanted the group to ramp up revenues to US$200 billion by the fiscal ended March 2021. Second, the yardstick to measure outcome has to be defined: should it be creating shareholder value or the best company to work for? Restructuring cannot be painless. Legacy businesses might have to be shed merely to stay afloat. Cost-cutting affects suppliers as well as employees.

Third, the macro environment influences the track record of a CEO. Nearly three-fourths of Tata’s regime coincided with domestic liberalization and a boom in the global markets. The transmission of the adverse effects of the credit crunch post September 2008 began to be felt as he prepared to step down. The last four years, coinciding with Mistry’s ascension, were characterised by policy paralysis and, subsequently, drought at home. Overseas markets were being kept alive by pump-priming. The recent referendum to exit EU is expected to see the UK slipping into recession. The Tata group’s major international presence is in Britain. Flagships in the tech, automobile, steel and hospitality sectors have been at the forefront in absorbing the brunt of the sluggish global economy. Fourth, success or failure of a boss depends on the point at which his induction is taking place. A board might prefer a visionary to help the company climb up the next step in the value chain when the outlook is bright, while a competent manager might be suitable to tide over the downturn. Acquisitions are cheaper over the organic route to grow during a bullish phase. Importantly, Tata’s shopping was confined to the domains the group is operating. The purpose was to build up scale and international presence. Similarly, selling non-performing assets is a practical solution to cut fat and Mistry cannot be faulted on the score. Being at the helm for nearly two decades implies that the positives will overwhelm the negatives when Tata’s legacy is reviewed compared with the brief reign of Mistry. Fourth, any transition is fraught with uncertainty. The next generation might have more than one contender as might in-house promotion. An appointment making sense at that point of time might seem off the mark at hindsight.   

Any tragedy brings its own lessons for investors. First, the ramifications of the handing over of charge cannot be predicted. The process can be similar to an acquisition by a new owner. Tata ejected satraps to run the group without insubordination. Mistry, however, was labelled brash for bringing in his people. Second, the market is supposed to take into account transparency and earnings while giving discounting to a counter. Yet, the tyranny of quarterly growth can lead to the skidding of the best-managed companies. Putting on the block Corus, UK, could not have been an easy decision. Third is the perennial dilemma of stock pickers: choosing between a family-run company and a family-owned but professionally-managed company. The predominant shareholder is preferred for long-term growth but can be autocratic in decision making. An outsider’s perspective is needed for taking tough calls but the omnipresence of the controlling owner can be a dampener.  Fourth, emerging businesses pose a frightening challenge to promoters of historical groups. The thrashing many of them have received in the telecom space so as to prompt a re-jig of their conglomerates is a stark reminder that India is changing and so also the approach to hand-me-down empires.

Turning of the cycle

The US and Gulf recovery will have the power to pull up emerging economies and trigger an era of high growth and inflation

By Mohan Sule

The latest policy initiative by the Reserve Bank of India evoked two kinds of reactions. Industry and investors welcomed the unanimous decision of the new Monetary Policy Committee to cut the lending rate by 0.25% to the lowest level in five years. It is unlikely that banks, groaning under the burden of bad loans, will transmit the measure as the earlier downward revisions are yet to be fully passed on to the borrowers. Yet, the step is a sentiment booster. The message is that the central bank is shifting focus to growth from the obsession with inflation, noting the sluggishness in industrial output and weakness is prices of food, metals and manufactured items. Armchair economists, meanwhile, fretted about the unwarranted adventurism. The responses from either side of the aisle have as much basis as contradiction. The decision by oil producing and exporting countries to cap output to stem the sliding crude prices poses a threat to the benign inflation environment. Recovery in rural buying post a normal southwest monsoon could be another tripping point. On the other side is the wave of low interest rates and bond-buying in ex-US developed economies. The US Federal Reserve has been displaying extreme restrain despite falling unemployment in continuing its rate hike cycle that was started December last year. China, too, is loosening its monetary policy to bolster capacity utilization. The depreciation of the yuan means   emerging markets have to weaken their currencies to stay competitive. The plunge in the value of the pound against the dollar following the Brexit poll is another challenge for Indian exporters. The rupee has been gaining of late due to the inflow of foreign portfolio and direct investment. The success of the Make-in-India campaign hinges on a soft currency.

Apart from the slump in economic indicators capturing output and prices, an important reason why the RBI could not have taken a pause in paring rates is the momentum of the US recovery that makes a second rate hike in a year by the Fed increasingly inevitable. Post December, there is a possibility of net outflow of foreign portfolio investment. India’s comfortable reserves could deplete rapidly if capital flight were to gather momentum and oil prices rule higher than the levels in 2015.  The glut in food grains is likely to result in pressure on the government for  higher support prices to farmers. All these developments will strain the balance sheet of the government and fuel inflation, complicating any move to ease interest rates further. Balancing the adverse effect of the Fed’s action will be the bounce-back of the Chinese economy. China is the largest exporter to the US. A healthy American market is bound to revive the appetite for commodities. If not the US due to its sufficiency in energy on the back of the domestic shale gas industry, Chinese consumption will lend support to fossil fuels. The revival in spending by Gulf countries on back of higher crude prices will be a powerful booster dose for India’s services and merchandise exports.

The reluctance of the market to break from its range-bound movement indicates that the coming Fed rate action has been factored by equities. As such, there might not be a plunge of the magnitude that would take stocks to the post-September 2008 level. Some industries seem to have priced in the recovery of the Indian economy post southwest monsoon of 2016. These are mainly the consumption sectors such as automobiles, apparels and housing-related products, whose purchases had been differed due to the two years of drought. Some others, primarily in the core and infrastructure space, will benefit from low base on private sector investment. In fact, booming US and Chinese economies will do more to wipe out Indian banks’ bad loan problem than any amount of relaxation in income recognition norms. Discretionary sectors might continue to report flat margins as the rise in demand could be accompanied by a spurt in the cost of raw materials. A muscular dollar will push up exports to the US and at the same time ensure that the Fed ramps up its discount rate in driblets and the exuberance in commodity prices is capped. If foreign funds maintain the inflow momentum to buy cheap Indian assets, a strengthening rupee, essential to keep a lid on inflation, is likely to blunt the salutary effect on the margins. Revival of IPOs in the US might see a repeat of history, with profit booked going to emerging economies. So much so that some countries might have to impose capital controls. Investors will have to reconcile that the era of cheap money might be coming to an end by the second half of the next fiscal due to increase in risk-taking in the US, India and China. As such, higher Fed rates and oil prices could be the liquidity injection by the US and the Gulf region to pull up global economies.

Going for a ride

Promoter and institutional offloading is a concern for secondary market investors but does not seem so in the primary market

By Mohan Sule

The success of the Rs 6000-crore IPO of ICICI Prudential Life Insurance Company, the biggest primary market offering since Coal India’s Rs 15000-crore share-sale in 2010, proves two things. The slowdown in the loan growth of banks is not due to lack of investment opportunities but because of risk aversion. Second, the atmosphere of gloom of the past four years is dispersing. The optimism is captured by the multiple times subscription and surging small and mid caps this fiscal. A booming primary market tends to suck out liquidity from the secondary market. China had to suspend IPOs to halt the plunge in stocks last year. The Rs 11700-crore issue by Reliance Power early 2008 was blamed for the subsequent crash in prices though the run-up to the collapse of Lehman Brothers later in the year could have been the contributor. Currently, there are no signs of any adverse impact of the resurgence in issuance on the cash market. Volatility has been in tandem with the mixed signs from the US Federal Reserve and the oil exporting countries to cap output. The indecisiveness in movements is also an outcome of the entry and departure of investors with differing views on the course of the global and Indian economies. Such a fluctuation should actually frighten issuers. On the contrary, it is being considered an opportune time to strike as equities are not displaying a noticeable trend either way. Any decline due to profit-booking results in attractive valuations, enticing investors.

The present state of flux is attracting two types of investors. The first considers the primary market to provide better returns in a shorter span compared with the slow trot of quality listed paper. Most issues are recording gains on debut despite charging premium comparable with established competitors in the belief that the acceleration in the growth of the economy is not if but when. The Securities and Exchange of Board of India has taken steps to create a secure environment for subscribers and issuers. The period for listing of securities has been reduced, thereby freeing funds, and transparency enhanced by insistence on elaborate disclosures by companies. The other class of investors prefers the book-building price band over the off-balancing spurt and fall of stocks at recurrent but unspecified intervals. With traditional industries bogged down by excess capacities and leveraged balance sheets, many entrants are from nascent sectors, whose potential at once excites and scares. Valuations become a concern for start-ups from emerging areas such as insurance and e-commerce as there are hardly any peers for comparison. These enterprises are capital-guzzlers. The tepid listing of ICIC Pru seems to confirm the view.

Another discomforting fact is that many offerings are primarily routes for private domestic and foreign investors to exit or for promoters to cash in partially. Secondary market investors scrutinize the increase and decrease in promoters’ control as well as local and overseas funds’ holdings every quarter to validate or churn their portfolio. A change in stake by either categories triggers introspection and investigation.A decline, reflecting doubt about operational performance, corporate governance or industry outlook, is a cause of concern. Not much time is spent brooding why big-ticket investors want to leave through a public issue. It is assumed that their support is no longer required as the entity is ready to stand on its own and they are looking for decent rewards for providing backing when it was most needed. The venture might need to scale up for which resources have to come from the capital markets. Besides, they will be replaced by institutional investors who will be keeping a watch. Yet it is a point worth pondering. First, hedge funds and mutual funds are not for the long haul. Second, if the future of the company is bright, why not stay put? No wonder, many ordinary investors get the feeling that they are being taken for a ride by clever investment bankers. The systematic marginalization of the small investors despite their quota standing increased at 35% over the years means heavy bookings by foreign funds can create an illusion of huge demand. Sebi’s measures such as barring cancellation of interest evinced during book building have eliminated to a large extent frivolous and rigged bidding. Still the question haunts. With the vigor back, it is time for the market regulator to revise the allotment cap for ordinary investors to 50% of the size to ensure that the offerings are priced moderately and the over-subscription genuinely captures the enthusiasm for the issuer.

Predator v disruptor

Pricing is a temporary advantage to gain market share and not a change that transforms consumer habits

By Mohan Sule

The giddy reaction to Reliance Industries’s foray into telecom pivoted around how the predatory pricing of voice (nil) and data (huge discount to prevailing market rates) would cause turbulence in the industry. Forecasts ranged from tariffs tumbling across the board to consolidation among players. There is no price war in evidence so far nor has the valuations of the top tier rivals plunged though Reliance Communications and Aircel have agreed to merge. The episode, nonetheless, has brought the focus back on what causes the market to change complexion irrefutably. Are these gradual or sudden? The dominance of Apple in the handset space is not due to its competitive pricing. Yet makers of cheaper models were unable to keep up. Steve Jobs created a mobile computer-cum-camera that was aesthetically appealing. Technology that enhances users’ experience can trigger turmoil in a historical model depending on supply-side advantage as illustrated by the gaining popularity of taxi apps. They have shaken up the way we choose to travel by empowering passengers, upending the prevalent practice of taking up the service being offered. The first takeout is that transformation in market dynamics depends on how effectively evolution is captured for the convenience of the customer. Some of the e-tailers are absorbing this important lesson the hard way. The initial proposition of getting orders at the doorsteps quickly has deteriorated into free-for-all price discounts, taking a toll on the delivery timeline. Though a virtue, scale alone cannot rupture the fabric. Looking back, there is realization that the Internet by itself would not have had the force to bring about an upheaval if not for the blooming of online payment modes just as plastic money is believed to have spurred consumption.

The government’s thrust on niche channels to transfer money is an efficient use of the digital platform to widen and deepen the reach of banks.The aim is to eliminate the informal system that charges huge interest rates and plug leakages of subsidies. In fact, the netting of the non-banked will be the first step in doing business with big banks. The primary market for equities and bonds is a supplementary route for companies to raise risk capital and not a substitute for borrowing from banks. Importantly, traditional banks are adopting technology to make transactions for customers simple and speedier. Computing did not erase the need for maintaining accounts but eliminated manual book keeping. The second observation is that disruption has to alter the contours of the industry and should not merely be a flyover to reduce discomfort. Till becoming a member of the World Trade Organization, Indian pharmaceutical producers could get away by making copycat products by reverse engineering. Now, they have to wait till the patent expires to manufacture generics. Their market has expanded across the globe as patients in rich nations switch to cheaper versions of the expensive medicines that they were prescribed due to the reluctance of the developer to bring down prices.

Automobiles is another sector that is projected to see turmoil in the coming days. Electric and self-driven cars are thought to bust traditional auto companies as outsiders are taking the lead. Pricing and safety, however, will determine mass acceptance. Even legacy manufacturers can foray into the arena by modifying their existing platforms. A fallout might a plunge in oil prices and the possibility of the comeback of fossil-fuel-run vehicles as they become affordable. If this happens, the current uncertainty might turn into much ado about nothing. Investors in FMCG stocks are in a flux as personal-care products with Indian flavor are catching fancy. It is too early to say if this is a fad that will fade over time. Going by the recent quarter results, the urban-oriented fast food sector seems to be going out of fashion. This means its popularity was a manifestation of increased purchasing power rather than a displacement of entrenched habits such as the increasing use of cell phone to capture images. The third conclusion, therefore, is that though shedding of the skin will be a recurring phenomenon, the process will be life-altering only if there is no going back to the old lifestyle. Showing signs of giveaway is the way media are being consumed, with handsets streaming entertainment on demand. Not surprisingly, the market is turning to predictable industries such as oil and refineries, power, construction, logistics, cement and housing related products for comfort.

The fight over cash

As capital-guzzlers swallow profitable group companies, due diligence will be required of the consolidated entity

By Mohan Sule

It is testing time for minority shareholders. The Securities and Exchange Board of India wants companies to have at least 25% public holding to be eligible for listing. The aim is to increase the free float for better price discovery. The fallout was expected to be enhanced transparency and better corporate governance. Yet two recent instances show that promoters act in a way that benefits them rather than the ordinary shareholders. The furor over the Vedanta-Cairn India merger and the complex restructuring of the Aditya Birla conglomerate once again demonstrate that India Inc merely complies with the norms as a formality. A share-swap ratio that did not compensate the shareholders of the thriving companies being amalgamated with the capital-guzzling ventures was not the only sore point. The concern is that the valuations of the resultant entities will be lower than those of the standalone cash-rich firms. To provide a voice to the small shareholders, the regulator had earlier amended rules for passage of proposals requiring approval by a majority of the ordinary shareholders. Domestic and foreign institutional investors together by and large form the largest non-promoter bloc. Many of them prefer to exit on spotting corporate governance issues. Of late, some have preferred to stay and put up a fight. The promoters justify such exercises for their cost-efficiency. Were they to go the market to raise equity, they would have to offer shares at low discounting due to the capital-intensive and long gestation period of their projects. Dilution of equity is another worry for investors fretting over the leveraged balance sheet.

The owners do have valid arguments. A rejig is usually undertaken for synergies of operations, scale and products. Why should they not use the cushion of a profitable enterprise in their fold to sustain and consolidate a struggling enterprise? After all, they did have the foresight to foray into lucrative sectors for growth after others in their stable had stabilized or become sluggish. The drawback is that the ordinary shareholders might not have anticipated such an eventuality. A small investor buys into a standalone company’s capability and potential. The valuations imparted by the market to a provider of software services might not be the same as those to a hardware maker in the same group. The promoter might want to merge the two to offer a one-stop shop for computer services. The underlying aim might be to use the reserves of the one that is thriving to offer support to the other that burns cash. The margins of the businesses might be different, depending on their market position. The marginal shareholder of the profitable company has two options in this scenario: sell or swallow. The lesson for investors in a momentum stock is to be prepared to share the reward or burden of other subsidiaries. This will require scrutiny not only of the company to which exposure is sought but of other group enterprises as well. Not surprisingly, companies belonging to conglomerates in diversified fields do not enjoy the same discounting as those that stick to their competency.    

 

 Here lies the paradox. The market wants companies to use their cash hoard for better return ratios. With the era of industries across the board surging during a bull run and stagnating during a downturn fading, taking advantage of businesses that are performing comparatively better during a lull in some others makes sense for promoters. Critics of K M Birla’s move to make Grasim a holding company perhaps have not noticed ITC is getting a high discounting because of strategic forays into different markets to flank the cigarette business. Many times disclosures about expansion and diversification are met with mixed reactions even if these are to be financed by internal accruals and nominal debt. The market is worried about the huge cash drain from RIL’s balance sheet to finance the expensive telecom experiment. The disruptive tariff plan means break-even will not be anytime soon as the emphasis seems to be on market share rather on the margins. Some analysts, on the other hand, sense the foray as a foil to the controversial gas venture and the refining legacy because of the emergence of alternate energy sources such as wind, solar and shale and volatility in prices of crude. There are instances of new undertakings outpacing the parent: Bajaj FinServ is getting a huge premium over legacy two-wheeler maker Bajaj Auto. Even different entities of a group in similar niche segments are not immune to different perceptions of the market. The charitable view of ICICI Bank hinges on the expected trigger of listing the insurance subsidiary. In view of no clear trend to rely on, investors need to give the benefit of doubt to the promoters of the Vedanta and Aditya Birla groups.

The cost of liquidity

Rural distress and slowdown of the global economy have ended the era of evergreen sectors

By Mohan Sule

Those who thought the passing of the goods and services tax constitutional amendment bill in both houses of parliament will unleash a secular bull wave have been proved wrong just as those who predicted Britain’s exit from the EU will trigger a prolonged bear phase. Both events are complex and their effects will be felt in driblets over the coming years as new issues get highlighted and old concerns fade.  The euphoric forecasts about the positive impact of GST were reminiscent of those witnessed on the eve of the increase in foreign direct investment in insurance companies to 49%. Similar to GST, the issue had attracted opposite opinions and had got stuck in parliament for a fairly long time. What do the commonalities between these two developments reveal? No doubt, investors’ confidence gets a boost on any reform undertaken to make the economy efficient. Foreign portfolio investors, the movers and shakers of the market, however, act anticipating the outcome of the initiative rather than waiting for the cold numbers capturing the impact at the ground-level. Traders build positions in the run-up to the climax. Ordinary investors see the impatience of big-ticket funds as an opportunity to make capital gains quickly. If the reward is expected to be huge, so also is the risk. The failure of the market to perform to script after the referendum on Britain’s exit from the euro zone trapped many short sellers. The behaviour seems typical rather than exceptional. Increasingly, it is becoming difficult to predict the market’s course by applying historical context.

More than traditional parameters such as economic growth, inflation, debt-to-GDP ratio and current account and fiscal deficits, liquidity is determining the trajectory of the market. As long investors are able to borrow cheaply, arbitrage opportunities will overwhelm decisions taken after painstaking scrutiny. As a result, equities in the US and India are discounting forthcoming events much ahead rather than react at the conclusion. The situation might have been different if the central banks in the developed countries were not making available money aplenty. The negative interest rates by the European Central Bank and the Bank of Japan are emboldening investors to take risks in emerging markets rather than at home and, in the process, skewering the global economy. Global liquidity is posing the biggest challenge to economic stability. Investors in developing economies are increasingly becoming reckless, buoyed by the irrational exuberance of their portfolios. Any stock showing some momentum attracts speculators. The run-up is speedier than the company’s capacity to jumpstart growth. The virtuous cycle attracts more inflow. The rich valuations of equities encourage pricey IPOs that might not be able to sustain going forward. Listing gains fuel a primary market boom. Weeding out companies whose capital expenditure plans are based on genuine demand rather than some fancy projections about the underlying strength of the sector will be the second obstacle that investors have to overcome.

The third puzzle is the concentration of investment ideas instead of even distribution of funds across the spectrum. This is surprising as a growing economy should have the power to lift all the sectors. Fall in unemployment should bolster consumption across the board and not only of cement, coal and two-wheelers. If this is not happening, it is not surprising. Not all industries are catering to the domestic market. Many are pure export plays, depending on the well being of their importing customers. Some others have been deliberately shifting their focus overseas to take advantage of the weak rupee or get around stifling domestic regulations and are unable to fully capture the buoyancy in the local market. Moreover, if the fall in raw materials prices is a boon for intermediates producers and end product manufacturers, it is a blow to producers of these commodities. Airlines and automobiles are predicted to soar on cheap crude. Ironically, the fall in oil prices signify tapering economic activity, indicating a slump in demand for the very services that are supposed to benefit from cheaper fuel.  A cheap currency does not necessarily translate into robust earnings for exporters if their destination markets are not healthy. Even usage of consumer disposables, another set of beneficiaries of dip in input costs, is hit by sluggish off-take. The experience of rural distress of the last two years and global slowdown have demonstrated that, unlike in the past, there is not going to be an evergreen sector that will offer an umbrella  during stormy weather. As a result, the investment horizon is becoming shorter and the basket of investible stocks shrinking. The mid- and small-cap space, in particular, is turning into a Ponzi scheme run by speculators.

Churn at the top

The travails of HUL, Infosys and Dr Reddy’s capture why large caps are getting poor discounting compared with their smaller peers

By Mohan Sule

The results season never stops to surprise and amuse. Titans numb investors with poor numbers even as dark horses stun with awe-inspiring performance. The period also marks a turning point for the equity market. Companies dissect past performance and lay the roadmap for the remaining year. Inevitably there is a feeling of change in the air as no two quarters are alike. It will be tempting to write off the June 2016 quarter as yet another showcase of the competently reliable and the notoriously unpredictable. This would be a mistake. For one, the period was the last phase of the impact of the rural distress. Second, Corporate India was operating near mid-point of a new government’s tenure, with enough time to absorb its past policies and assess future direction. Third, the global economy continued to be in a flux as never before: China’s slowdown looked inevitable, US recovery fragile and the financial markets uncertain about the fallout of the two-year of UK’s disengagement with the euro zone. Amid the turmoil stood India, displaying vulnerability about its export earnings and at the same time exhibiting confidence about its domestic economy. If the enabling environment was so full of concerns as well as excitement, could companies remain immune? The tough period of the last few years exposed fault lines. First, the era of crony capitalism is slowly but surely grinding to a halt. Auctions of natural resources, cleaning up of bank balance sheets and the commodity meltdown have knocked off the market cap of quite a few magnates.

Second, certain boom industries seem to have had their run or losing steam. Teflon-like sectors are increasingly being linked to global and local factors just like many other Old Economy cyclical industries, while some are facing the winner’s curse. As long as the US was undergoing a bull phase, the major worry of IT companies was the dent in income in the third quarter due to the longish Christmas break. The focus of the consumer disposable segment was coaxing buyers to upgrade to achieve better margins. If the 2008 mortgage meltdown burst the tech bubble, the two consecutive deficit monsoons of 2014 and 2015 pulled down the lifestyle sellers.  If a repressive regulatory regime was suffocating their well being in the licence raj era, intensifying competition is pinching formulations and intermediate producers. Capturing the essence of the headwinds are three Nifty constituents: HUL, Infosys and Dr Reddy’s Laboratories. They are still the flag bearers of their sectors, steadfastly sticking to their knitting and not foraying into unrelated businesses. Minority shareholders have been amply rewarded through capital appreciation and regular payouts. Yet their numbers for the June 2016 quarter have confirmed a trend noticeable since the last couple of years. They are ageing, are increasingly becoming indistinguishable from their peers and even ceding ground to new entrants.

Once a leader, HUL has become a follower, trying to ape entrepreneurs riding on the desire of Indians to go back to their roots in contrast to the yearning for Indian-made foreign goods during the pre-reforms era. Infosys is encountering growth fatigue. There is limit to geographical expansion if the world looks like a fiery red globe, mid-tier companies snap with low-pricing deals and the forex market turns into a foe. Dr Reddy’s formed one of the two pillars of the pharmaceutical industry with Ranbaxy Laboratories late last century. Ranbaxy promoters, perhaps sensing the shaping of the industry into a first-past-the-goal post during a limited window, sold out and a relatively newcomer, Sun Pharmaceuticals Industries, has assumed the pole position, with the pure domestic play turning attention to exports to stay in the race. Investors would have got better post-tax yield from one-year fixed deposits of public sector banks than from the troika. Facing pricing pressure, they are dispersing their band-with by chasing every growth avenue. The tech sector controls 20% of Nifty’s balance, with financial services and energy being the two other segments enjoying near parity. HUL has twice the weight of Asian Paints, the only other consumer disposable player. If ITC, slotted in an independent category, is included, the FMCG sector has the highest share in the benchmark. Financial services have turned volatile with even private banks bogged down with NPAs, ferrous and non-ferrous metals facing a slump in demand, telecom weighed down by capital expenditure, automobiles waiting for demand pick-up and power and capital goods limping, the large-cap index is being driven by cement, two-wheelers and refineries. No surprise, therefore, for the poor discounting compared with the mid- and small-cap compatriots having domain focus.

Conventional wisdom

Time to shed the historic view that low P/E, soft inflation and weak rupee create investment opportunities

By Mohan Sule

The financial markets are divided into two camps: optimists and pessimists. Those with confidence in the economy note a silver lining to every dark cloud. On the other side are those who forecast bubbles ready to burst. The markets need both types of participants to discover value in neglected assets and effect correction when prices run ahead of the underlying strength of the asset. Yet the increasing volatility in global markets reflects the confusion of investors on what constitutes the threshold of opportunity and pain. The decision of the British that the UK will be better off without carrying on the burden of weak EU members despite many heavyweights weighing in favour of continuance as the path to prosperity is another illustration of the increasing doubts about traditional wisdom. The historic view that the boom in IPO issuance co-exists with resurgent equities is also being challenged: bubbly stock prices are contagious and the virus can lead to the collapse of both markets, leaving investors with pricey duds and putting them off investing. Retail investors seeking quick and massive returns through new offerings contributed to the near 20% plunge of China’s secondary market a year ago, requiring the authorities to suspend IPOs to control the fall. Conventionally, a low P/E indicates value buy. On the other side, the miserable valuations might be due to the scepticism about the stock’s revenue visibility or corporate governance. Conversely, a high P/E suggests earnings not keeping pace with the price. A contrarian might see the figure as the market’s validation of a stock’s growth potential. The smart investor gets out of the stock when earnings hit or miss estimates, resulting in a correction. If investors were to latch on to these stocks on moderation of P/E, they might have to be satisfied with a slow trot.

Also, there is no consensus on what should be the P/E to consider a stock a value ‘buy’. Many monopolies and MNCs are quoting at many times the ideal range of 15-20 and still sought after by investors for their business model, steady pace of growth, payout policies and corporate governance. Ultimately, the choice boils down between stocks with a consistent track record of corporate actions and those that compensate for the absence of dividends with rapid capital appreciation. The investment strategy cannot be uniform across the listed universe. Investors have to pick stocks as per their ability to absorb risk or objective: seasonal or all-weather, large caps versus mid and small caps, mid caps with and without transparent operations. There cannot be one-size-fits-all sort of an approach. Another contentious issue is inflation. It has been embedded in the collective conscious of investors that prices should remain static to attract low interest rates and encourage companies and consumers to borrow money to climb up. Capping inflation, however, comes at the cost of growth. Even mature economies are finding virtues in triggering inflation: the European Central Bank and Bank of Japan are following the US Federal Reserve in making available plenty of cheap credit in the hope of spurring consumption. A country is said to be emerging when its population with purchasing power expands. This sort of an economy does not have a ready-made infrastructure on standby, poised to meet the galloping demand. In the interim, the spurt in usage can strain existing supplies, causing prices to jump.

The third issue for tempers to flare up is the foreign exchange rate. Weakness benefits exporters but hurts importers. The currency of open countries moves as per demand and supply stemming from the cost of money and policies on deficit. In India, the rupee is convertible only on capital account. As a result, the finance ministry and the commerce ministry are constantly at odds on the currency’s value. India imports more, particularly crude oil, than it exports due to its inward-looking economy. To finance imports, the country needs foreign fund inflows. If the emergence of the IT and pharmaceuticals sectors as major exporters offered solace to policy makers, it also put them in a fix. Though the dollar remains strong due to its safe-haven status as well as the recovery of the US economy, the Indian currency has appreciated in relation to its competitors in overseas markets, largely because of the gush of foreign direct investment on the back of the Make-in-India initiative. Foreign investors prefer countries with weak currency but want better returns from their investment when it is time for repatriation. Recognizing the limits of depreciation as a tool to boost growth, the market seems to be marking down valuations of export-oriented stocks.

Fall from grace

Companies should provide for buyback to compensate the wealth erosion due to fraud 

or negligence

By Mohan Sule

The fall from grace of Volkswagen should be a wake-up call for companies, regulators and investors. The German auto maker is paying nearly US$15 billion to settle claims in the US that it cheated on emission norms of some diesel vehicles. The figure represents about 25% of its current market value that plummeted more than 40% to a four-year low in the three days since the US environmental protection agency slapped a notice in September 2015.It will be spending nearly US$18 billion to rectify the fault.  World’s largest furniture maker Ikea is recalling 35 million chest of drawers and dressers found to trip and crush toddlers. Besides covert or overt negligence, accidents also result in huge outgo. When oil gushed for 87 days in the Gulf of Mexico following an explosion and sinking of the Deepwater Horizon rig in April 2010, the civil and criminal settlements cost BP US$42 billion in the next three years besides the US$18- billion fine two years later in the largest corporate settlement in the US till then. The other source of trouble is outsourcing.  Apple had to intervene when a large number of suicides of workers were reported at its supplier’s facility in China due to rigorous working conditions. In the meantime, there were calls from consumer activists to boycott its products. The crux is if companies test the boundaries of ethical behavior knowingly to cut costs by deploying substandard technology and materials. The second issue is the response. The quick action of recalling Tylenol , contributing nearly 30% to its profit in 1982, by US healthcare player  Johnson and Johnson after a renegade’s tampering spree has now become a case study of how a company should act in times of panic.

Contrast this with what has happened in India. When worms were found in its chocolates on the eve of Diwali 2003, Cadbury blamed the dealer in Pune for not storing the products in the requisite environment. Later, it roped in Amitabh Bachchan, no doubt at a fat endorsement fee, to assure buyers but did not recall the chocolates. The good thing that came out was that the MNC had to spend Rs 15 crore on machinery to make products foolproof, insulating shareholders from such nasty shocks going ahead. The recall of Maggi noodles on finding high quantity of MSG after a lab in Uttar Pradesh and in Kolkata found lead in June 2015 appeared a forced decision after the Food Safety and Standards Authority of India banned the product. Indian consumers are yet to read about any brand of bread being withdrawn from the shelf after discovery of cancer-causing chemicals in some batches. Indian pharmaceutical makers are frequently in the news for some sort of strictures or alerts issued by the US FDA on their processes and facilities. The stock dips on such incidents but bounces back subsequently on the strength of penetration of the market and other items in the bouquet. Nestle, too, lost value as Maggi contributed nearly 30% to the bottom line but recovered partially on the back of sustainable demand for other legacy products. 

In fact, the trajectory sums up the dilemma of Indian investors when faced with situations of stocks in their portfolios facing unexpected crises. The immediate reaction is to head for the exit. Some vulture investors see the beaten-down counter as an opportunity in the belief that not all parts are rotten or the distressed asset might be a takeover target. Sometimes they are proved right as in the case of Nestle and Satyam Computer Services. The recurring qualifications of auditors of several companies refer to inadequate or nil provisions for contingent liabilities. These encompass payments choked due to the sickness of clients, projects stuck in distant lands due to war or civil unrest, litigation with land owners and income tax disputes. Many do undertake write-offs but an existential crisis can have the might to erode the net worth. Surprisingly, companies spend huge amounts on fire-fighting but do not offer a buyback to shield the minority shareholders from the repercussions. Therefore, why not mandate those with Rs 1000-crore sales to keep aside 2-3% of their profit just as they have to use 2% to fulfill their corporate social responsibility obligation? Investors feel helpless if companies to which they had taken exposure in good faith tumble due to fraud. At such time, the protection fund should be used to mop up non-promoter shareholding at a pre-determined price to compensate the wealth erosion due to any promoter-driven scandal. In the event of accumulation, the cash should be handed back to the ordinary shareholders every moving fifth year as special dividend. Besides providing a safety net to the small shareholders from acts of omission and commission of companies, the move will enhance the credibility of promoters.  

The limits of groups

Looking at the meltdown of the USSR and the chaotic federal structure of India, a common European market was impractical

By Mohan Sule

Now that the referendum to decide Britain’s exit from the European Union is done with, it is time to focus on the core issue. Do groupings serve any purpose? Have they outlived their objective? Should such forums be disbanded? The euro region is not the first of such associations. Earlier, countries with similar ideologies came together for defence and offence. This was the post World War II period, when there were two camps defined by their economic models. It was capitalism versus communism. Yet, the North Atlantic Treaty Organization did not have free trade among its members. Though the aim of the Warsaw Pact was to counter the US-led line-up of allies, it also worked as an informal common platform comprising satellites of the Soviet Union. So here was a paradoxical situation of a socialist bloc having a unified market but a bunch of free-market economies imposing tariff barriers for intra-trade. Eventually, nations began signing bi-lateral pacts for favorable export-import terms. Two-nation agreements subsequently expanded to include nations in the same region. The US signed the North America Free Trade Agreement with Canada and Mexico. African, Caribbean and Pacific group states formed ACP. Further up the value chain was the bunching of countries with shared characteristics and goals, leading to configurations such as G-5, G-8 and G-20 comprising rich countries and those with huge markets. In fact, a clever market analyst devised the acronym Brics to club emerging economies on the threshold of rapid growth.

The disintegration of the USSR should have alarmed those who propounded and backed the idea of euro. Unlike G members, cooperation based on geography rarely succeeds. First, being neighbors does not necessarily mean that countries share common goals and values. The South Asian Association for Regional Cooperation remained a non-starter for many years due to Pakistan’s reluctance to grant transit rights and concessional tariffs to India. Second, the strong members, invariably, have to bear the burden of carrying with them weaker countries. European communist countries were provided cheap oil by Big Brother. Germany was the biggest contributor to the bail-out of Greece and absorbing refugees from Syria. Third, a common currency compounds rather than eases the problem. Struggling nations need a weak currency to boost exports. Its value, however, can be influenced by members who are doing well. Fourth, despite proximity, cultures of nations might differ. Germany and France were on the opposite side during the war. Absence of a common language to bind the members as in the case of the euro region, where English, German, French and Spanish are spoken, often results in the eruption of parochialism. Fifth, a central bank sets interest rates and controls the availability of money, but risk-taking among countries differs as is evident from the bankruptcy of many smaller countries. The problems faced by federal entities such as India due to lopsided development of different states with governments not necessarily of the political party ruling at the Centre should have served as a cautionary tale. Till recently, inter-state passage of goods was ruled by different entry tax rates. Some states’ focus is on prohibition, others on giveaways.

Yet, weaknesses can also be strengths. Poorly governed states such as Bihar, Uttar Pradesh and West Bengal are pulling down the overall GDP growth of India. They also symbolize the enormous potential of the Indian market were they to undertake reforms. Due to their low base, the country’s economic growth has the capacity to remain in double digits for the next decade. The problem with the euro region was that due to the protection of a common currency, there was no initiative for weaker nations to boost growth. What are the lessons for investors? Mutual funds are supposed to be the best demonstration of collective power. Private placement and a say in book building enable them to demand finer prices. But expenses such as churning costs, asset management fees and distribution commission eat into profit. Returns of most are barely above secure and staid fixed-income instruments. Most big-ticket investors are interested in capital appreciation rather than bothering about corporate governance practices. Their exits and entries are touted by internet investment gurus without explaining the rationale for the action. With the experience of the difficulties facing the euro region and of regional power satraps carving out their fiefdoms, the wisdom of divided we thrive seems to be a better analogy for the present times.

To let go or not

The only silver lining in the global economy needs an RBI boss capable of innovative solutions to support growth

By Mohan Sule

The battle lines are drawn. On one side are market participants and companies. They feel the Reserve Bank of India has been too miserly in reducing interest rates. The asset quality review ordered by the central bank has compounded the problem. Over the last two quarters, public sector banks have been aggressively making provisions for hopeless loans. The exercise is likely to continue till the end of this fiscal. On the other side are economists and foreign fund managers who feel cleaning up of banks’ balance sheets is a precursor to reducing government’s stake to make the behemoths nimble. Critics want the RBI governor to be more aggressive in cutting the cost of money, while supporters view the cautious approach as enhancing India’s credibility in the financial markets. Unwittingly, both schools seem to converge on the issue of the importance of the monetary authority in steering the economy of the country. Implicit in their disagreement is the consensus that the growth trajectory hinges on the action or inaction of the central bank. The outcome should not surprise those who have witnessed the boom and bust of the global financial markets in the last decade. Pumping of liquidity and wielding of the scissors by the US Federal Reserve, European Central Bank, Bank of Japan and, of late, the People’s Bank of China are keenly watched by global markets to decide their bets on currencies, interest rate and commodity futures. The central banks are no longer mere regulators of the financial markets. They are monitors, correcting the missteps of governments.

No wonder, the market has come to vest in central bank bosses mythical powers. Opinion is consolidating that governors can do no wrong. They are the gatekeepers of the economy, the steady hands on the wheels of ships sailing in turbulent waters. Would the world have slipped into a second global depression if the Fed’s Ben Bernanke had not kept interest rates near bottom and embarked on bond-buying program for more than half-dozen years to boost the US economy? What if Mario Draghi of the ECB had paused injecting liquidity to pull out the euro region from recession? Should the BoJ be credited with saving the economy by keeping interest rates negative to encourage spending? These measures are discussed and debated because they go against the conventional wisdom. Till the 1980s, the International Monetary Fund’s remedy for countries with reckless consumption was to tighten belts by slashing subsidies, devaluing currency and opening up the economy. The austerity measures resulted in social unrest in many countries, undermining the textbook prescription. The 180-degree turnaround in the approach to debt is spurred perhaps by the decade-long depression that cuts in spending resulted in the 1930s. The pump-priming of the economy as a solution to avoid slowdown also shifted the primacy of shaping the economy to the central banks from the government. More than reforms, liquidity is becoming crucial to keep the markets ticking. As such, central banks that prefer to stick to theoretical solutions tend to stand out. To some they are models of rectitude in a feckless market, while to others they are anachronistic dinosaurs that should have extinct during the evolution that followed September 2008.

It does not require great intellect to decipher the position Raghuram Rajan will embrace to tackle economic crises. Initially, the obsession was with inflation due to deficient southwest monsoon. The benchmark was changed from wholesale price index that had dipped into negative due to decline in usage of industrial goods to consumer price index to factor in prices of agricultural output. Corporate India would have faced far more difficult times if global commodity prices too had not declined in tandem due to slowdown in China, allowing pass-through of lower prices. After a gradual and steady reduction in rates, any further cuts were linked to government discipline in spending and borrowing. The budget for the current fiscal demonstrated the government’s resolve to stick to fiscal deficit target by slashing subsidies and preventing leakages. The outflow of foreign portfolio investment has been blunted by the gush of foreign direct investment due to the Make-in-India initiative, thereby avoiding major damage to the currency. Though the rupee is off from the bottom, the weakness has neutralized the benefit of soft crude prices. In the meantime, inflation has started to look up, the fallout of two successive years of scanty rainfall. The answer to the question if a country that is the only beacon of hope in the gloomy global environment should practice traditional economics or break away to chart a unique path to complement growth should determine if R3 should get a second term.