India Crisis Watch: Is it Panic Time?

Have the average Indians been in a panic?

Sovereign Man’s Simon Black says current indicators point to a yes:

For the last 24-hours, banker and fund manager friends of mine have been telling me stories about oil refinery deals in North Korea, their crazy investments in Myanmar, and the utter exodus of global wealth that is finding its way to Singapore.

My colleagues reported that in the last few weeks they’ve begun seeing two new groups moving serious money into Singapore– customers from Japan and India.

Both are very clear-cut cases of people who need to get their money out of dodge ASAP.

In Japan, the government has indebted itself to the tune of 230% of GDP… a total exceeding ONE QUADRILLION yen. That’s a “1″ with 15 zerooooooooooooooos after it.

And according to the Japanese government’s own figures, they spent a mind-boggling 24.3% of their entire national tax revenue just to pay interest on the debt last year!

Apparently somewhere between this untenable fiscal position and the radiation leak at Fukishima, a few Japanese people realized that their confidence in the system was misguided.

So they came to Singapore. Or at least, they sent some funds here.

Now, if the government defaults on its debts or ignites a currency crisis (both likely scenarios given the raw numbers), then those folks will at least preserve a portion of their savings in-tact.

But if nothing happens and Japan limps along, they won’t be worse off for having some cash in a strong, stable, well-capitalized banking jurisdiction like Singapore.

India, however, is an entirely different story. It’s already melting down.

My colleagues tell me that Indian nationals are coming here by the planeful trying to move their money to Singapore.

Over the last three months, markets in India have gone haywire, and the currency (rupee) has dropped 20%. This is an astounding move for a currency, especially for such a large economy.

As a result, the government in India has imposed severe capital controls. They’ve locked people’s funds down, restricted foreign accounts, and curbed gold imports.

People are panicking. They’ve already lost confidence in the system… and as the rupee plummets, they’re taking whatever they can to Singapore.

As one of my bankers put it, “They’re getting killed on the exchange rates. But even with the rupee as low as it is, they’re still changing their money and bringing it here.”

Many of them are taking serious risks to do so. I’ve been told that some wealthy Indians are trying to smuggle in diamonds… anything they can do to skirt the controls.

(This doesn’t exactly please the regulators here who have been trying to put a more compliant face on Singapore’s once-cowboy banking system…)

The contrast is very interesting. From Japan, people who see the writing on the wall just want to be prepared with a sensible solution. They’re taking action before anything happens.

From India, though, people are in a panicked frenzy. They waited until AFTER the crisis began to start taking any of these steps. As a result, they’re suffering heavy losses and taking substantial risks.

Indian’s financial markets have been in a terrible mess.

The rupee has been taking it to the chin down by 21.6% year to date and counting.

Yields of the Indian government’s 10 year bonds has touched US crisis 2007 highs but has retraced. 

If the panic in the rupee escalates, India’s bonds will take more damage.

India’s equity markets the Sensex has been under pressure but has not encroached into the bear market yet, unlike ASEAN peers

The run in the rupee comes amidst India’s huge forex reserves. Another proof that reserves alone are not enough to prevent a run.

The reason for the rupee’s fall, desperate government unwilling to undertake reforms but has instead turned the tables on the private sector via gold sales prohibition and expanded capital controls. Thus the panic.

With free market champion Raghu Rajan assuming office only in September 4th, media has been optimistic that the new governor will be able to institute reforms. One of the early reforms which will supposedly be undertaken by Mr. Rajan has reportedly been to allow trade settlement in rupees. But mainstream media repeatedly calls for “expansionary policies” which ironically has been one of the main causes of India’s predicament.

Mr. Rajan will be faced with a huge stumbling block as I previously noted.

While it may be true that Mr. Rajan has a magnificent track record of understanding central banks and the entwined interests of the banking system coming from the free market perspective, in my view, it is one thing to operate as an ‘outsider’, and another thing to operate as a political ‘insider’ in command of power.

Mr. Rajan will be dealing, not only conflicting interests of deeply entrenched political groups, but any potential radical free market reforms are likely to run in deep contradiction with the existing statutes or legal framework from which promotes the interests of the former.

The other source of media optimism has been in reports that the BRIC will forge a $100 billion currency swap pool. All these arrangements will be futile and only symbolical unless the real sources of India’s economic malaise are dealt with.

But if the panic in rupee will spread and incite major damages in the domestic banking system, where loans from the banking system represents 75% exposure on the economy, a crisis may be in the offing

And considering what appears as skyrocketing bond yields globally led by the US, time may be running out. 

No wonder the legendary investor Jim Rogers has been short India.

Yet if the rupee meltdown persist and worsen, such will compound on the gloomy environment for Asia. 

Caveat emptor.

Why Jim Rogers is Shorting India

In an interview at Wall Street Journal’s Livemint, the legendary investor Jim Rogers says that he is shorting India…

I used to own tourist companies in India at a time. India should have had the greatest tourist companies in the world. If you can only visit one country in your life, my goodness, it should be India—it is an astonishingly spectacular place to visit. There is no place that has the depth of culture that India has. Yes, I have new reasons to short India—just read its newspapers everyday and you will see why.

The government goes from one mistake to another—no matter what the controls are, no matter how much the debt keeps rising, Indian politicians are only looking for scapegoats. Look at the latest thing with gold—Indian politicians want to blame the problems of their economy on someone else, and now it is gold. Gold is not causing India problems, but it is quite the contrary. Exchange controls in India are absurd, the regulations that India puts in place result in foreigners going through 70 loops before they can invest in India. Foreigners cannot invest in commodities in India.

India should have been among the world’s greatest agriculture nations—you have the soil, the people, the weather, but it is astonishing that you have not become one—it is because Indian politicians, in their wisdom, have made it illegal for farmers to own more than five hectares of land. What the hell—can a farmer with just five hectares compete with someone in Australia or Canada? Even if you put together the land in all your family, it is still not possible to compete. Much as I love India, I am not a fan of its government. Every one year, they (Indian government) come up with more reasons for me to be less optimistic about that country.

India’s major equity benchmark the BSE 30

The more a country’s economy becomes politicized and the more their government engages in bubble blowing activities resulting to inflated asset prices, this usually makes for an attractive ‘short’ opportunity.

Indian Government Agencies Squabble over Inflation

I have been saying here that QE has not been a practice limited to developed economies, but has become a global central bank operating standard.

In India, in what seems as pot calling the kettle black, two government agencies wrangle over who is responsible for causing of “inflation”.

From Bloomberg, (bold mine)

The biggest critic of India’s $100 billion budget deficit is also one of the largest purchasers of the debt that finances it: the central bank.

The Reserve Bank of India faults government expenditure for stoking inflation even as its sovereign-bond holdings have risen to $91 billion from negligible amounts in 2008. While it has a mandate for price stability -- like counterparts in the U.S., Europe and Japan -- the RBI has another charge its peers lack: ensuring the government achieves its borrowing program.

The RBI’s ability to damp the cost of living may be further curtailed by record government borrowing and spending next fiscal year, stoking demand and prices in an economy facing supply constraints. The inflation threat adds pressure on India to join nations from the U.S. to Brazil in separating debt management from inflation control. A bill to do so has been sent for cabinet approval, two Finance Ministry officials said…

The bank holds about 27 percent of the sovereign bonds issued since 2008, when its holdings stood at $2.5 billion, according to calculations by Bloomberg News based on RBI data.

The late great dean of the Austrian school Murray Rothbard lucidly explains the disparity between budget deficits/deficit spending and inflation: (bold mine)

Deficits mean that the federal government is spending more than it is taking in in taxes. Those deficits can be financed in two ways. If they are financed by selling Treasury bonds to the public, then the deficits are not inflationary. No new money is created; people and institutions simply draw down their bank deposits to pay for the bonds, and the Treasury spends that money. Money has simply been transferred from the public to the Treasury, and then the money is spent on other members of the public.

On the other hand, the deficit may be financed by selling bonds to the banking system. If that occurs, the banks create new money by creating new bank deposits and using them to buy the bonds. The new money, in the form of bank deposits, is then spent by the Treasury, and thereby enters permanently into the spending stream of the economy, raising prices and causing inflation. By a complex process, the Federal Reserve enables the banks to create the new money by generating bank reserves of one-tenth that amount. Thus, if banks are to buy $100 billion of new bonds to finance the deficit, the Fed buys approximately $10 billion of old Treasury bonds. This purchase increases bank reserves by $10 billion, allowing the banks to pyramid the creation of new bank deposits or money by ten times that amount. In short, the government and the banking system it controls in effect "print" new money to pay for the federal deficit.

Thus, deficits are inflationary to the extent that they are financed by the banking system; they are not inflationary to the extent they are underwritten by the public.

The RBI can always opt NOT to finance the government deficits via QE or debt monetization. But such would undermine the reason for their existence.

At the end of the day, all such manipulations and political accommodations through central banking inflationism will have nasty consequences.

Global Financial Markets Party on the Palm of Central Bankers

It’s has been a “Risk On” frenzy out there. And I’m not just talking about Philippine financial or risk assets, I’m alluding to global financial markets.

From the global stock market perspective, the bulls clearly have been in charge.

The Global Asset Rotation

Most of this week’s modest gains virtually compounds on the advances of the last three weeks.

Among the majors, the US S&P 500 and the Japan’s Nikkei appeared to have assumed the leadership on a year-to-date return basis, which looks like a rotational process at work too.

Last year’s developed market leader, the German DAX which generated a 2012 return of about 29% has now underperformed relative to the US S&P 500 (11.52% in 2012) and the last minute or mid-December spike by the Nikkei (22.94% in 2012). The huge push on the Nikkei has been in response to the Bank of Japan’s (BoJ) increasingly aggressive stance to ease credit by expanding her balance sheet.

The BoJ is set to target 2% inflation and may follow the US Federal Reserve and the ECB’s unlimited option or commitment on the coming week[1]

For the ASEAN majors, the Philippine Phisix has taken the helm with a 5.62% return over the same period. The milestone or records highs have been reached following three successive weeks of phenomenal gains.

Yet ASEAN’s peripheral economies, Vietnam and Laos, have eclipsed the remarkable performance of the Phisix, with 9.77% and 15.91% in nominal currency returns covering the same period. Incidentally, the Laos Securities skyrocketed by 11.61% this week contributing to the gist of her 2013 returns.

It is important to point out that rotational process which is a manifestation of the inflationary boom has not just been a domestic episode but a global one too.

First, my prediction that the domestic mining sector will lord over the Phisix in 2013 appears to have been reinforced this week. The mining sector has stretched its lead away from the pack, up by 13.65% in three weeks.

Last year’s other laggard, the service sector, also has taken the second spot.

So aside from some signs of rotation within the local stock market, there seems to be signs of an ongoing rotation dynamic operating among global equity markets.

This brings us to the next level

The rotational process across asset markets: Specifically, there has been a meaningful shift in money flows towards equities.

Since the start of 2013, during the second week of the year, money flows into global equities has reached historic highs[2] (left window).

The yield chasing dynamic has essentially reversed investor sentiment on the equity markets. Investors have mostly shunned the stock markets and have flocked into bonds. This has been particularly evident with the US stock markets[3] since 2007.

Nonetheless despite the still robust flows towards fixed income, initial manifestations of the so-called “great rotation” exhibited the outperformance of global equities relative to global bonds[4], two weeks into 2013 (right window).

Yet such phenomenon has not been a stranger to us. I predicted a potential rotation from the bond markets into the stock market in October of last year[5].

We can either expect a shift out of bonds and into the stock markets or that the bond markets could be the trigger to the coming crisis.

In my view, the former is likely to happen first perhaps before the latter. To also add that triggers to crisis could come from exogenous forces.

It is important to realize that financial markets are essentially intertwined. For instance, stock markets have been closely tied to bond markets since many companies have used the bond markets to finance stock buybacks[6], as well as, to finance the property sector which has prompted for today’s booming assets.

In other words, the RISK ON environment prompted by monetary policies have made the asset rotational process a global dynamic.

Rotation Pumped Up by Releveraging

We are seeing massive systemic “releveraging” which has been inciting a speculative mania that is being greased by a credit boom.

Proof?

In the US, Hedge funds have reportedly been upping the ante by the increasing use of leverage to increase stock market exposures. From Bloomberg[7] (chart from Zero Hedge[8] as of December 29^th) [bold mine]

Hedge funds are borrowing more to buy equities just as loans by New York Stock Exchange brokers reach the highest in four years, signs of increasing confidence after professional investors trailed the market since 2008.

Leverage among managers who speculate on rising and falling shares climbed to the highest level to start any year since at least 2004, according to data compiled by Morgan Stanley. Margin debt at NYSE firms rose in November to the most since February 2008, data from NYSE Euronext show.

Traditional instruments of leverage haven’t been enough. Wall Street has essentially resurrected financing via securitization or the innovative pooled debt instruments called Collateralized Debt Obligations or CDOs, which played a pivotal role in the provision of finance to the previous housing bubble which resulted to a crisis.

From Bloomberg article[9], [bold mine]

What’s old is new again on Wall Street as banks tap into soaring demand for commercial real estate debt by selling collateralized debt obligations, securities not seen since the last boom.

Sales of CDOs linked to everything from hotels to offices and shopping malls are poised to climb to as much as $10 billion this year, about 10 times the level of 2012, according to Royal Bank of Scotland Group Plc. (RBS) Lenders including Redwood Trust Inc. are offering the deals for the first time since transactions ground to a halt when skyrocketing residential loan defaults triggered a seizure across credit markets in 2008.

The rebirth of commercial property CDOs comes as investors wager on a real estate recovery and as the Federal Reserve pushes down borrowing costs, encouraging bond buyers to seek higher-yielding debt. The securities package loans such as those for buildings with high vacancy rates that are considered riskier than those found in traditional commercial-mortgage backed securities, where surging investor demand has driven spreads to the narrowest in more than five years.

The search for yield extrapolates to a search of alternative assets to speculate on. This is why investors have also been piling into state and municipal fixed income bonds. From Bloomberg[10]

Investors are pouring the most money since 2009 into U.S. municipal debt, putting the $3.7 trillion market on a pace for its longest rally versus Treasuries in three years.

Demand from individuals, who own about 70 percent of U.S. local debt, rose last week after Congress’s Jan. 1 deal to avert more than $600 billion in federal tax increases and spending cuts spared munis’ tax-exempt status. Investors added $1.6 billion to muni mutual funds in the week ended Jan. 9, the most since October 2009 and the first gain in four weeks, Lipper US Fund Flows data show.

Companies have once again commenced to tap unsecured short term fixed income security commercial markets usually meant to finance payroll and rent. 

From Bloomberg [11]

The market for corporate borrowing through commercial paper expanded for a 12th week as non- financial short-term IOUs rose to the highest level in four years.

The seasonally adjusted amount of U.S. commercial paper advanced $27.8 billion to $1.133 trillion outstanding in the week ended yesterday, the Federal Reserve said today on its website. That’s the longest stretch of increases since the period ended July 25, 2007, and the most since the market touched $1.147 trillion on Aug. 17, 2011.

This hasn’t just been a US dynamic, but a global one.

For instance, China has been exhibiting the same credit driven pathology too, as local governments go into a borrowing binge.

From the Wall Street Journal[12]

Bonds issued by local-government-controlled financing vehicles totaled 636.8 billion yuan ($102 billion) in 2012, surging 148% from 2011, the central bank-backed China Central Depository & Clearing Co. said in a report published earlier this month.

Moreover, lending from China’s non-banking institutions Trust companies, which is said to be the backbone of the ($2 trillion) Shadow Banking system—via loans to higher risks entities as property developers and local government investment vehicles—have likewise zoomed.

From Bloomberg[13],

A seven-fold jump in last month’s lending by China’s trust companies is setting off alarm bells for regulators to guard against the risk of default.

So-called trust loans rose 679 percent to 264 billion yuan ($42 billion) from a year earlier, central bank data showed on Jan. 15. That accounted for 16 percent of aggregate financing, which includes bond and stock sales. The amount of loans in China due to mature within 12 months doubled in four years to 24.8 trillion yuan, equivalent to more than half of gross domestic product in 2011, and the People’s Bank of China has set itself a new goal of limiting risks in the financial system.

Reports of the credit boom appears to have jolted China’s Shanghai index to soar by 3.3% this week. This brings China’s benchmark into the positive territory up 2.7% year-to-date. In 2012, the Chinese benchmark eked out only 3.17%, most of the recovery came from December which erased the yearlong losses.

In India, soaring loan growth by the banking system, (chart from tradingeconomics.com[14]) now at almost 80% of the economy, has prompted the IMF to raise the alarm flag citing risks of “a deterioration in bank assets and a lack of capital as the economy slowed”[15]. 

India’s major stock market index, the BSE 30, seems on the verge of a record breakout. Also, India purportedly has a property bubble[16].

The Brazilian government’s directives to improve on credit accessibility have likewise led to a surge in lending.

From Bloomberg/groupomachina.com[17]

President Dilma Rousseff's insistence that Banco do Brasil SA boost lending is helping the state-controlled bank almost double its bond underwriting, giving the government a record share of the market.

International debt sales managed by the bank surged to 10 percent of offerings last year from 5.6 percent in 2011, the biggest jump in the country. With Brazilian issuers leading emerging markets by selling a record $51.1 billion in bonds, Banco do Brasil advanced six positions to become the third- largest underwriter, overtaking Bank of America Corp., Banco Santander SA and Itau Unibanco Holding SA, data compiled by Bloomberg show.

Banco do Brasil, Latin America's largest bank by assets, is profiting from the government's push to expand credit as policy makers cut interest rates to revive an economy that had its slowest two-year stretch of growth in a decade. The bank's total lending, which includes loans, bonds on its books and other guarantees to companies, surged 21 percent in the year through Sept. 30 to 523 billion reais ($257 billion) as it piggybacked off existing relationships and bolstered a team of bankers dedicated to pitching borrowers on debt sales.

Following last year’s 7.4% gain, the Bovespa has been up by a modest 1.65%. Like almost everywhere, there have been concerns over the growing risk of a bubble bust[18] in Brazil.

The point is that all these synchronized and cumulative push to create “demand” via massive credit expansion has been driving leverage money into a speculative splurge that has elevated asset markets relatively via the rotational process.

Asset Bubbles and the Mania Phase

The impact of asset inflation has been different in terms of time and scale but nonetheless most assets generally rise overtime. Of course, such will need to be supported by greater inflationism which central banks have obliged.

Eventually all these will spillover to the real economy either via higher input prices or via higher consumer prices that will entail higher rates that may reverse current environment.

Even FED officials have raised concerns anew that “record-low interest rates are overheating markets for assets from farmland to junk bonds, which could heighten risks when they reverse their unprecedented bond purchases.”[19]

Of course, the problem is HOW to reverse without materially affecting prices of financial assets deeply DEPENDENT on the US Federal Reserves and or global central bank easing policies.

The likelihood is that each time market pressures or downside volatility resurfaces, policymakers will resort to even more easing. Threats to withdraw such policies have merely been symbolical.

And a further point is that while overextended runs usually tend to usher in a natural correction or profit taking phase, a blowoff phase may yield little correction. Instead, any transition to a manic phase of a bubble cycle will generally mean strong continuity of the upside.

We have seen this happen in 1993 when the Phisix posted an astounding 154% yearly return.

Moreover, the 1986-2003 era basically epitomized the full bubble cycle in motion as shown by the bubble cycle diagram (left) and the Phisix chart (right).

I am not saying that this manic phase is imminent, but rather a possibility considering the current behavior of global and the domestic financial markets.

And I would like to reiterate, I believe that the returns of the Phisix will depend on the expected direction of, and actual actions by policymakers on, interest rates.

If the current boom will not yet impel for a higher rates soon, then such inflationary boom may continue. The Phisix I believe will remains strong, at least until the first quarter of this year.

All these goes to show that financial markets essentially have been dancing on the palm of the central bankers.

---

[1] Reuters.com BOJ eyes open-ended asset buying, agrees new inflation goal January 18, 2013

[2] Business Insider The Most Amazing Thing About This Week's Historic Shift Into Equities January 11, 2013

[3] Mike Burnick When to Consider Going Against the Grain with Your Investments, money andmarkets.com January 17, 2013

[4] Business Insider CHART OF THE DAY: The Historic Surge Into Stock Mutual Funds That Has Everyone Talking About The 'Great Rotation' January 11, 2013

[5] see Will Frothy Bond Markets Drive the Phisix Higher? October 22, 2012

[6] see How US Federal Reserve Policies Linked the Bond Markets with Equity Markets December 13, 2012

[7] Bloomberg.com Hedge-Fund Leverage Rises to Most Since 2004 in New Year January 15, 2013

[8] Zero Hedge Margin Debt Soars To 2008 Levels As Everyone Is "All In", Levered, And Selling Vol, December 29, 2012

[9] Bloomberg.com Wall Street Returns to Property CDOS in Yield Hunt January 15, 2013

[10] Bloomberg.com Go-Go Market Beating U.S. Treasuries Most Since ’10: Muni Credit January 16, 2013

[11] Bloomberg.com Commercial Paper Market in U.S. Expands for 12th Week, Fed Says, January 18, 2013

[12] Wall Street Journal, China's Local Governments Boost Borrowing, January 14, 2012

[13] Bloomberg.com Default Alarm Rings as Trust Loans Jump Sevenfold: China Credit, January 17, 2013

[14] Tradingeconomics.com DOMESTIC CREDIT PROVIDED BY BANKING SECTOR (% OF GDP) IN INDIA

[15] Bloomberg.com India Banks System Face Worsening Asset Quality, IMF Says, January 16, 2013

[16] Wikipedia.org Indian property bubble

[17] Bloomberg.com Rousseff's Bond Business Booms After Lending Push: Brazil Credit, groupomachina.com January 16, 2013

[18] BrazilianBubble.com IPEA’s Economists: “Brazil’s property bubble will burst when interest rates rise” and “it’s all the government’s fault” September 18, 2012

[19] Bloomberg.com Fed Concerned About Overheated Markets Amid Record Bond Buys, January 18, 2013

Massive Earth Hour (Blackouts) in India

Massive power outages in India has affected more than half of the population.

From the Bloomberg, (bold highlights mine)

India’s electricity grid collapsed for the second time in as many days, cutting off more than half the country’s 1.2 billion population in the nation’s worst power crisis on record.

Commuter trains in the capital stopped running, forcing the operator, Delhi Metro Rail Corp., to evacuate passengers, spokesman Anuj Dayal said. NTPC Ltd. (NTPC), the biggest generator, shut down 36 percent of its capacity as a precaution, Chairman Arup Roy Choudhury said by telephone. More than 100 inter-city trains were stranded, Northern Railway spokesman Neeraj Sharma said, as the blackout engulfed states in the north and east.

So what went wrong?

From the same article…

State-owned Power Grid Corp. of India Ltd., which operates the world’s largest transmission networks, manages power lines including in the northern and eastern regions. NTPC and billionaire Anil Ambani-controlled Reliance Power Ltd. (RPWR) operate power stations in north India that feed electricity into the national grid. The northern and eastern grids together account for about 40 percent of India’s total electricity generating capacity, according to the Central Electricity Authority.

The grids in the east, north, west and the northeast are interconnected, making them vulnerable, said Jayant Deo, managing director of the Indian Energy Exchange Ltd. The outage has also spread to seven additional states in the northeast, NDTV television channel reported.

“Without a definitive plan by the government to gradually bring the grids back online, this problem could absolutely get worse,” Deo said.

Singh is seeking to secure $400 billion of investment in the power industry in the next five years as he targets an additional 76,000 megawatts in generation by 2017. India has missed every annual target to add electricity production capacity since 1951.

Well in reality, the root of the problem hasn’t been about ‘definite plans’ by the Indian government, but rather largely due to India’s statist political economy.

Again from the same article…

Improving infrastructure, which the World Economic Forum says is a major obstacle to doing business in India, is among the toughest challenges facing Singh as he bids to revive expansion in Asia’s third-largest economy that slid to a nine- year low of 5.3 percent in the first quarter.

Tussles over policy making with allies in the ruling coalition, corruption allegations and defeats in regional elections have weakened Singh’s government since late 2010.

Must I forget, artificial electricity demand has partly been boosted by India’s central bank, the Reserve Bank of India (RBI), who passes the blame on others.

Again from the same article

The Reserve Bank of India, which has blamed infrastructure bottlenecks among others for contributing to the nation’s price pressures, today refrained from cutting interest rates even as growth in the $1.8 trillion economy cooled to a nine-year low in the first quarter.

Indian consumer-price inflation was 10.02 percent in June, the fastest among the Group of 20 major economies, while the benchmark wholesale-price measure is more than 7 percent.

The last time the northern grid collapsed was in 2001, leaving homes and businesses without electricity for 12 hours. The Confederation of Indian Industry, the country’s largest association of companies, estimated that blackout cost companies $107.5 million.

Chart above from global-rates.com and tradingeconomics.com

India’s bubble ‘easy money’ (upper window) policies in 2009-2010 fueled a stock market recovery (below window) in 2010.

On the other hand, the then negative interest rate regime also stoked local inflation (pane below policy interest rates).

This has prompted the Reserve Bank of India to repeatedly raise policy rates or tightened monetary policy. The result has been to put a brake on India’s economy and the stock market rebound.

Part of the Indian government’s attack on her twin deficits, which has been blamed for inflation through the decline of the currency, the rupee, has been to turn the heat on gold imports and bank gold sales.

Aside from demand from the monetary policies, electricity subsidies has also been a culprit. Farmers have been provided with subsidized electricity. Such subsidy has not only increased demand for power but also put pressure on water supplies.

Environmentalists would likely cheer this development as ‘Earth Hour’ environment conservation.

Yet India’s widespread blackouts are evidences and symptoms of government failure.

Rampant rolling blackouts extrapolate to severe economic dislocations which not only to means inconveniences but importantly prolonged economic hardship.

Shale Revolution Fuels Agricultural Boom in Parts of India

One of the multiplier effects of the ongoing Shale gas boom has been to promote a special agricultural product, a bean grown in India, required for horizontal fracking.

From the Wall Street Journal (hat tip Professor Mark Perry)

From its place on humble Indian tables, a little-known Indian bean called “guar” is making the fortunes of poor farmers.

The demand for guar has soared since gum made from guar seeds started being used to extract shale gas late last year.

Mostly grown in the heart of India’s desert lands, the price of the vegetable has jumped from about 40 rupees ($0.7) a kilogram at the time of the September-October harvest to around 300 rupees ($5.4) per kilogram today.

As a result, barefoot farmers who until recently struggled to make a living are now riding cars and motorbikes and carefully locking the seeds away, according to B.D Aggarwal, managing director of Vikas WSP, an exporter of guar gum.

“There was very strong demand from the overseas oil industry because of a new technology – that is horizontal fracking – for shale gas extraction. There is no alternate to guar for this technology,” said Mr. Aggarwal.

Shale gas, natural gas trapped within shale formations, has become an increasingly important source of natural gas in the United Stated over the past decade, with some analysts expecting its supply to surge to around half of the natural gas production there by 2020.

Horizontal fracking, which requires the use of guar gum as a gelling agent, is considered safer for the environment than the other alternative – a technology known as “hydraulic fracking.”

Guar gum has other uses as well, including for oil drilling and in the textile and paper industries.

Mr. Aggarwal estimates that around 80% of the 1.2 million tons of guar that were harvested last season were snapped up for oil and gas drilling.

For investors such opportunity is what one would call a "pick and shovel play" (Investopedia.com) or a strategy where investments are made in companies that are providers of necessary equipment for an industry, rather than in the industry's end product.

HOT: India Joins Pledge for Stimulus

Wow. Only hours after China’s announcement, India joins the bandwagon for stimulus.

From Bloomberg,

Indian stocks climbed to the highest level in a month after Prime Minister Manmohan Singh pledged to revive growth in Asia’s third-largest economy.

ICICI Bank Ltd. (ICICIBC), the nation’s second-biggest lender, paced gains among its peers.Reliance Industries Ltd. (RIL), owner of the world’s largest oil-refining complex, rose to a four-week high after Chairman Mukesh Ambani unveiled plans to plans to invest 1 trillion rupees ($18 billion) over five years to double its operating profit. The BSE India Sensitive Index (SENSEX)advanced 1.2 percent to 16,649.05, its highest close since May 7, bound for its best week this year with a 4.3 percent gain.

India’s Singh yesterday outlined port, railways and road projects and a push to add power-generation capacity to bolster the economy. The government’s pledge follows the central bank’s signal to cut borrowing costs to support an economy expanding at the weakest pace in almost a decade as policy gridlock deters investment and Europe’s debt crisis hampers exports.

“From a very low level of confidence there’s now hope that things will happen,” Hitesh Zaveri, head of investments of portfolio management services at Mumbai-based Birla Sun Life Asset Management Co., said in a phone interview. “There’s expectation of a stimulus coming from Europe and of a rate cut locally. That forced short-sellers to cover their bets.”

Stimulus really does nothing but to juice up the markets over the short term at the expense of redistributing wealth from taxpayers to the bankers and cronies, as well as, fueling boom bust cycles which is negative for any economy over the long term.

Again promises are one thing, actions are another.

The US Federal Reserve’s FOMC will meet on June 19-20th, will they be next?

India’s Economic Growth Slows, Choked by Politics

From Bloomberg

India’s economy expanded at the weakest pace in at least eight years last quarter, hurt by a slowdown in investment that has undermined the rupee and set back Prime Minister Manmohan Singh’s development agenda.

Gross domestic product rose 5.3 percent in the three months ended March from a year earlier, compared with 6.1 percent in the previous quarter, the Central Statistical Office said in a statement in New Delhi today. The median of 31 estimates in a Bloomberg News survey was for a 6.1 percent gain. GDP climbed 6.5 percent in the year to March, the office said.

Singh faces a struggle to bolster expansion as Europe’s debt crisis dims the global outlook and elevated inflation and a record trade deficit limit room for more interest-rate cuts to boost spending at home. Discord within the ruling coalition and claims of graft have impeded his push to open up the economy, deterring investment and sending the rupee to its lowest level.

Well, India’s economic deceleration poses as another factor that contributes to the current environment marked by accentuated uncertainty.

The chart above from tradingeconomics.com does not include the today’s data.

Left of center analyst Satyajit Das at the Minyanville.com has a pretty good account of India’s lingering economic woes, and a list of obstacles towards attaining a developed economy status. (bold emphasis mine)

In recent years, India has consistently run a public sector deficit of 9-10% of GDP (if state debt and off-balance-sheet items are included). The problem of large budget deficits is compounded by poorly targeted subsidies for fertilizer, food, and petroleum, which amount to as much as 9% of GDP. Currently the official deficit is just over 3% of GDP, but trending higher and the highest in the G-20.

In March 2012, India brought out a budget forecasting an official fiscal deficit of 5.9%, well above its previous fiscal deficit target of 4.6%. India’s strong rate of recent growth (an average rate of 14% between 2004-2005 and 2009-2010) made large deficits, in the order of 10% of GDP, relatively sustainable. Slowing growth will increasingly constrain India’s ability to manage large deficits.

As its debt is denominated in rupees and sold domestically, India faces no immediate financing difficulty. Instead, the government’s heavy borrowing requirements crowds out private business.

However, exports are slowing as a result of weakness in India’s trading partners. Higher imports, mainly non-discretionary purchases of commodities and oil, have increased. India imports around 75% of its crude oil from overseas.

India’s weak external position has manifested itself in the volatility of the rupee, which was one of the worst performers among Asian currencies in 2011. Indian businesses, which have unhedged foreign currency borrowings, have incurred significant losses as the value of their debt rises as the rupee falls. Many Indian companies face large debt maturities in the coming year.

India has around US$250-300 billion in currency reserves. Foreign debts that must be repaid in the current year represent about 40-45% of this amount which highlights the increasing weakness in India’s external position.

Further, India is plagued by inadequate infrastructure especially in critical sectors like power, transport, and utilities. While its workforce is young and growing, there is a shortage of skills which has led to large increases in salaries for skilled workers.

The above account shows how India has been TOO reliant on the government.

Since government spending is ALWAYS politically determined, where decisions are usually made according to the needs of the moment or on what is presently popular or on what will accrue to votes for politicians (public choice theory), then the obvious result has been wastage, inefficiency and corruption.

Such dynamic has been the same even in the US, the erstwhile bastion of the market economy where dependence on government spending can be equated to crony capitalism.

Also infrastructure problems represent symptoms of too much politicization, viz., regulations and bureaucracy.

Now for the fun part. Adds Mr. Das… (bold highlights mine)

Corruption and Political Atrophy

Another major problem is large-scale, deep-seated and endemic corruption, highlighted by scandals surrounding the issue of telecommunication licenses and the sale of coal assets.

Used to accessing power and influencing politicians, businesses have advanced their interest in securing rich natural resources, especially land and minerals, and ensured a favorable regulatory framework restricting competition, especially from foreign companies.

India’s economic challenges are compounded by internal and external security concerns. For 2012, Indian defense spending is forecast to be $41 billion, around 1.9% of GDP or the ninth highest in the world. Financing this spending diverts resources away from other parts of the economy.

Political paralysis is another impediment to economic development. Successive governments have failed to undertake meaningful reforms. Complex coalition governments are a barrier to decisive action. The current government failed to implement its own plans to allow limited entry of foreign retailers. The government also failed to get a key anti-corruption bill through parliament.

Changes in land and property laws have not been made. Problems in acquiring land, for instance, are a factor in 70% of delayed infrastructure projects. The land acquisition process falls under a 19th century law and amendments proposed three years ago remain unlegislated.

Tax law reforms, including introduction of a direct sales tax correcting cumbersome differences in individual states, have not been completed. Changes to mining and mineral development regulations to allow proper, environmentally controlled exploitation of India’s mineral wealth have not been made.

Other crucial areas that remain unaddressed include rationalizing unwieldy and economically distorted subsidies; implementing economic pricing of utilities; promoting foreign investment in key sectors; reforming agriculture, especially the wasteful and inefficient logistics system for transporting produce to market. Reform of labor markets and privatization of key sectors has not progressed.

To sum it up, the basic reason why India’s economic advances has stalled has been due to the lack of economic freedom: particularly, too much government spending (crowding out effect), too much regulations (evidenced by stringent labor regulations, corruption), political concessions (subsidies, price controls), protectionism (restriction of foreign investments, and restrictions on agricultural and mining investments) and problems concerning property rights (land and property laws)

Indians have been used to the “License Raj” mentality or a business or commercial environment strangulated by elaborate licenses, regulations, and stultifying red tape, where vested interest groups fervently compete to acquire political power to generate economic clout at the expense of society.

India’s structural problems has important parallels with the Philippine political economy.

Nonetheless people’s opinions signify as the most important force in determining political trends that ultimately affects the state of the economy.

Another quote of wisdom from the great Ludwig von Mises

Many who are aware of the undesirable consequences of capital consumption are prone to believe that popular government is incompatible with sound financial policies. They fail to realize that not democracy as such is to be indicted, but the doctrines which aim at substituting the Santa Claus conception of government for the night watchman conception derided by Lassalle. What determines the course of a nation's economic policies is always the economic ideas held by public opinion. No government, whether democratic or dictatorial, can free itself from the sway of the generally accepted ideology.

Bottom line: the direction of economic growth will run along the prevailing ideology held by the citizenry. The greater the dependence on governments, the lesser the dynamism of the economy and vice versa.

Economic freedom ultimately determines the society's prosperity.

How Economic Freedom Erodes India’s Caste System

From Economic Times India, (bold emphasis mine)

On the face of it, entrepreneur Ashok Khade is just another one of India's growing wealthy, heading a successful $27 million infrastructure and oil and gas business group that employs 4,500 people.

But the 56-year-old is a rarity, as he belongs to India's dalit, or "untouchable" classes, who for centuries have been anchored at the bottom of Hinduism's caste system and remain among the most exploited and despised.

The opening up of India's economy has helped bring in some mobility in the rigid social hierarchy, leading to a gradual rise in jobs and opportunities for India's poorest and even created a new breed -- the dalit millionaire.

Khade, a first-generation businessman who now drives a BMW, battled poverty and discrimination as a child in a village near Sangli in Maharashtra state, about 400 kilometres (250 miles) from India's financial hub, Mumbai.

Not only has economic freedom been expanding people’s choice—to avail of or harness more economic opportunities—for them to advance (unless they are mentally resigned to comply with local customs), but has also been instrumental in reducing class discrimination or class inequalities by providing “some mobility in the rigid social hierarchy”. In short, economic freedom and free trade changes culture.

Audio: Property Rights, Land Titling in the India

From NPR (hat tip divisionoflabour.com)



Notable quote from Corey Flintoff:

The plot of land is tiny, barely large enough for a small house and a backyard garden for fruits and vegetables. But it's an address, and if you have an address that belongs to you, you can get political identity papers, access to credit, and eligibility for government help programs. Without an address, you literally don't count.