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.