Tired, old and unhelpful

Read this Edit in ‘Business Standard’ on how India should be cautious about not ‘irking’ or ‘annoying’ China by joining the Quad – U.S, Australia and Japan with India included.

An unfortunate edit especially the finishing note. What has India got to show for its ‘non-alignment’ with respect to China and for being mindful of its sensitivities? Even as this Edit was being written, China was harping on the lack of consensus in the U.N. Security Council on the lack of consensus in the Security Council on declaring Masood Azhar a ‘Global Terrorist’.

When will we be ready or what would it take – over and beyond what has happened over the years – for us to shed old shibboleths and repeat the tired, old advice that have nothing to show for them in terms of results on enhancing India’s security or standing?

Read Richard McGregor here and here as to what and who is driving China’s (what it sees as its inevitable) quest for dominance. These Edits are pointless.

Watershed Congress

In a brief comment on the National Congress of the Communist Party of China, JP Morgan Asia Chief Economist Jahangir Aziz and Haibin Zhu call the Congress a watershed moment for China. Simply put, they think that China is ready to re-balance because they have re-defined their ‘principal contradiction’. Well, I remain sceptical.

What is, perhaps, missing is the mention that this re-statement of the ‘tension’ will have to stand the test of a true economic slowdown, true de-leveraging from a massively inflated leverage.

It won’t be easy at all because the government itself has encouraged speculation in the stock market, in housing, etc. , with periodic bouts of leveraging.

The jump in leverage since 2015 equity market crash has been almost as dramatic as the one that happened post-2008. The same President has been in office in 2015 too. Reversing any of these will be easy, assuming that they really do want to reverse these.

Not to mention the apparent contradictions in the statement that JP Morgan mentions. In other words, the watershed moment in words might remain just that without being translated into a watershed moment in deed.

That risk is not insubstantial.

What is Ray Dalio saying here?

Average statistics camouflage what is happening in the economy, which could lead to dangerous miscalculations, most importantly by policy makers. For example, looking at average statistics could lead the Federal Reserve to judge the economy for the average man to be healthier than it really is and to misgauge the most important things that are going on with the economy, labor markets, inflation, capital formation, and productivity, rather than if the Fed were to use more granular statistics. That could lead the Fed to run an inappropriate monetary policy. Because the economic, social, and political consequences of an economic downturn would likely be severe, if I were running Fed policy, I would want to take this into consideration and keep an eye on the economy of the bottom 60%. [Link]

It is not clear to me as to what Mr. Ray Dalio is advocating here. Does he want the Federal Reserve not to try to normalise monetary policy. Honestly, they have been doing it so gingerly over the last four years that financial conditions have eased substantially since
they began their ever-so-glacial tightening in 2014.

If he documents the divide between the bottom 60% and the top 40% so eloquently, does he not know that Fed policy has played a big role in creating this chasm?


He wants the Federal Reserve not to reverse it because it would ‘hurt’ the bottom 60%!


Aswath on Bitcoin and other links

Aswath Damodaran provides an excellent tutorial while explaining what Bitcoin is all about.

Andy Mukherjee’s piece on Yes Bank having had to restate its NPA by a multiple of 4X is a MUST READ.

Billionnaires becoming richer thanks to QE. Surprising piece in FT. Hope FT Free Lunch journalist Martin Sandbu read it.

Good friend Srinivasan Varadarajan sent me this paper – speech by John Taylor, one of the candidates to replace the Federal Reserve chairperson, Janet Yellen, at the Conference on monetary policy hosted by the Federal Reserve Bank of Boston. My forthcoming column for MINT is based on this speech. I was underwhelmed.

Two cheers for India’s ‘stimulus’

On the evening of 24th October, the Finance Minister of India made several announcements. The key ones are the amount of money being allotted for recapitalising public sector banks and for a ‘Bharat Mala’ highways project. The documents that the Ministry of Finance had put together for the announcement can be found here and here.

There is plenty of confusion and misunderstanding in the public domain about the bank recapitalisation initiative the government had announced – deliberately or otherwise. The amount announced was Rupees 2.11 trillion (2.11 lakh crores of Rupees). Of this, Rupees 760 billion is already in the works. The government has to come up with Rupees 180 billion and banks have to raise Rupees 580 billion by issuing shares. The latter would dilute government stake.

The government had announced, as part of the ‘Indradhanush’ programme, recapitalisation of Rupees 70,000 cores (700 billion). Of this, Rupees 520 billion has already been provided to banks. The balance will come out of the budget provisions in the coming two years.

The banks were told to raise Rupees 1.1 trillion of equity capital themselves. They have raised 212 billion of rupees as capital. The government now expects them to raise another 580 billion rupees. Not the balance 888 billion Rupees.

That is how one gets to the figure of 760 billion Rupees.

The balance 1.35 trillion rupees will be raised by the government from the banks themselves so that the government can provide equity capital to the banks. The Government of India (or an entity chosen by it) will issue these bonds to banks. Banks will subscribe and the government, using the proceeds raised from the bond issuance, will subscribe to banks’ equity.

In other words, the government borrows to invest in stock. This is ‘investing on margin’. Replicating a call option! Hence, the returns to the government could be high if PSU bank stock prices rise after this announcement.

Banks are flush with cash from the cash raised during the demonetisation exercise and hence they should have no difficulty in subscribing to the recapitalisation bonds and earning some decent interest income too on it.

Some more information is available on the mechanism of ‘recapitalisation’ bonds in this informative article by Aarati Krishnan in ‘BusinessLine’ published in February 2016. Recapitalisation bonds will not add to the fiscal deficit but the interest payments would. But then, the government might earn enough through dividends from banks and through higher taxes from an improved economy that the recapitalisation of banks could bring about.

Apparently, according to the IMF, recapitalisation bonds will not count towards gross general government debt either.

On ‘Bharat Mala’ and other infrastructure programmes, the fiscal implications are not clear. Impact may be spread out over few years. What is going to be spent this year might be already provided for. So, one cannot assume that all of it is incremental fiscal spending and that too in 2017-18 itself.

I would give this ‘stimulus’ a total of 2.0 cheers:

One cheer for non-bank related stimulus.

0.5 cheer for bank recapitalisation. (0.5 cheer not earned due to the delay in coming to this point. Three years is too long to wait for a resolution to banking bad debt crisis especially when debt capital markets for India’s private sector is not well developed).

Another 1.0 cheer not earned by the government for lack of reforms in the governance and regulation of government owned banks. As this CPR research note says (co-authored by the current vice-chairman of NITI-Aayog), the government had issued some 84 circulars to banks owned by it, between 2012 and 2014. Incidentally, this research note, written in January 2016 – after the government announced the ‘Indradhanush’ programme records that the government’s programme was not bold enough. I quite agree.

Dr. Y.V. Reddy has extensive discussion on public sector banking in his book, ‘Advice and Dissent’ and had also spoken at length about the issues when he was both a Deputy Governor in RBI and then a Governor. See my blog post here for some of his ideas.

Bonus 0.5 cheer for the announcement that Public Sector Undertakings would have to mandatorily become part of TReDS (this is Factoring and Bill discounting that would get working capital into SME faster with banks buying the dues from bigger firms). To know more, see my blog post.

The next Fed Chair

Newspapers and experts have had their share of speculation and critiques of the choices that President Trump has in nominating the next Chairperson of the Federal Reserve, including the incumbent Janet Yellen. Paul Krugman dissed Kevin Warsh, a favourite of this blogger.

In doing so, he thought he was criticising President Trump’s choice of personnel. But, read differently, he seemed to be taking a big dig at the Federal Reserve itself.

Now, I don’t know who Trump will actually pick to head the Federal Reserve. It might actually end up being someone smart, knowledgeable and honest. Hey, there’s a first time for everything. [Link]

Is he saying that, for the first time, the Federal Reserve might have someone smart, knowledgeable and honest? That is some Freudian slip.

Now, Noah Smith at Bloomberg has waded into John Taylor, who has also been tipped as a potential Chairman of the Federal Reserve. He says that John Taylor would have raised interest rates in 2011 and that that would have been a mistake. I have a few questions for him.

While he is right to chart the Employment-Population Ratio, the level of stock market volatility and the core consumer price inflation, is it possible for him to prove that the monetary policy of the Federal Reserve was responsible for these? Or, will they have happened regardless of what the Federal Reserve did or did not do? Second, is it not possible to argue that the low stock market volatility might be a case of mixed blessing now and could be a source of disaster later? Third, before the 2008 crisis happened, America’s monetary policy managers were vigorously patting themselves on the back for steering the economy and financial markets away from risks. It was somewhat similar to the praise that Noah Smith confers on them now. They did not wait a full cycle to judge themselves. It is quite possible that he is making the same mistake now.

I think America would be better served by either of these two gentlemen. A substantial portion of the blame for the accumulated problems in the advanced world over the last three decades could be laid at the doors of the Federal Reserve. It is time for a regime change and that has to start with the change of personnel who have all tended to think alike.

John Cochrane endorses his colleague John Taylor at Stanford University. The reasons he advances for endorsing John Taylor are sound.

But, I am doubtful if President Trump would really drain the monetary policy swamp.

Not a speech of isolationism

Two days ago, America’s Secretary of State Rex Tillerson made a very important speech. That it was delivered on the same day that China’s President Xi Jinping delivered his address to the 19th National People’s Congress is, may be, an interesting coincidence. May be not.

The full speech is here. ‘Trust but verify’ AND ‘Verify but trust’ have very different implications. Should India go for the latter with the US now or is it already doing  that? I think India should be inclined towards the second.

The word, ‘responsibly’ used in two different contexts:
“China, while rising alongside India, has done so less responsibly, at times undermining the international, rules-based order even as countries like India operate within a framework that protects other nations’ sovereignty.”
“It is indeed time to double down on a democratic partner that is still rising – and rising responsibly – for the next 100 years.”
“We need to collaborate with India to ensure that the Indo-Pacific is increasingly a place of peace, stability, and growing prosperity – so that it does not become a region of disorder, conflict, and predatory economics.”
“We also must recognize that many Indo-Pacific nations have limited alternatives when it comes to infrastructure investment programs and financing schemes, which often fail to promote jobs or prosperity for the people they claim to help. It’s time to expand transparent, high-standard regional lending mechanisms – tools that will actually help nations instead of saddle them with mounting debt.”
Role in the Regional Architecture
“India and the United States should be in the business of equipping other countries to defend their sovereignty, build greater connectivity, and have a louder voice in a regional architecture that promotes their interests and develops their economies. This is a natural complement to India’s “Act East” policy.”
I doubt if any other Secretary of State has said this as forcefully as before:
“Security issues that concern India are concerns of the United States”
Does this speech sound like the speech of an administration that is isolating itself?
There is lot of ‘breast beating’ about the U.S. withdrawing and isolating itself. Not at all. Whether we agree or not, they have come to the conclusion that the architecture that they created post-WW II is no longer helping them advance  their goals but somebody else’s. Hence, they are walking away from it in order to weaken it. That is strategic withdrawal and not isolation.
Mind you, Reagan took the U.S. out of UNESCO before. I do not think Reagan enfeebled America. No, I am not saying that the outcome would be the same this time too. I have no idea and I avoid getting into the prediction business.
But, I think that the intent is not isolation but re-making, which may not be and is not to the liking of some. But, that is different from calling it ‘isolation’.

Germany, Austria and Catalonia and other links

For the last few weeks, my posts have tended to concentrate on India. But, the world does not wait for me to blog about it!

The elections in Austria, coming on top of the rather weak mandate in Germany for mainstream parties and the mood and momentum for secession in Catalonia in Spain have dealt big blows to the facade of European stability and leadership in the world.

Noah Smith has a piece on the ‘inevitable’ takeover of global leadership by China. I demur but that requires a lengthier post. Do not miss the link to a useful and interesting recent paper inside his post.

This article in the Wall Street Journal explains why the clamour for Russian connections to the American Presidential elections appears to have slowly faded away.

Google did not let me circulate the following two articles to my mailing list:

The rise of road fatalities in the US and the use of smartphones [Link]

A new game by ‘Tencents’ to applaud the Chinese President [Link]

A new poll shows that Abe’s political party would win a super-majority in Japan’s polls. Hope it turns out to be correct.

(FT and Nikkei Asia Review links might be behind paywalls. Apologies)

DIY assignment: Off-balance sheet assets in China’s banking system

China’s Financial Stability Report for 2016 published in 2017 is now available in English. You can download it from here. It does not show up under the tab, ‘Financial Stability’. Under that tab, you can download the 2016 report which covers the year 2015.

In the 2017 report, go to the Chapter on Banking Sector (page 48 as per their page number; not as per the PDF file. As per the PDF, the page number is 64) and understand the figures of assets on and off-balance sheet in the China Banking Sector.

Do the same thing with the 2016 report. Go to page 53 of the document. That is page 69 of the PDF document. Find out the off-balance sheet asset size.

The on-balance sheet asset size comes at the beginning of the Chapter in each of the reports.

You can also get the nominal GDP of China from one of the earlier sections.

Now you are ready to do your math on China’s banking system assets and their ratio to GDP, etc. (on and off-balance sheet).

You will know why we have a ‘recovery’ in 2016.

This is what I was alluding to (without proof but with some intuition) in my MINT column which wondered whether the global recovery was statistical or real. Well, I should have asked if it was financial or real.

A report by Macquarie Research (not available in the public domain) released few days ago is cynical but also correct. It backs the perennial doomsday machine to continue because, without that, financial assets worth some USD400trn will be exposed for their hollowness as they are backed by real assets worth far less or nothing.

It is liquidity and leverage or nothing.