City-States over Nation-States?

My friend Ram forwarded me the first of the four-part lecture by Lim Siong Guan for the Institute of Policy Studies – Nathan annual lecture series. The first lecture was titled, ‘Accidental Nation’. It is worth going through. The full lecture is available here. Mr. Lim mentions a paper by Sir John Glubb: ‘Fate of empires and search for survival’. The extracts he cited were interesting. The paper is available here. I am yet to read it. I hope this is the paper he referred to.

My wife found an interesting article in the ‘Comments’ section below the newspaper report that carried his speech highlights. That article suggests that the future belongs to City-States rather than nation-States. I don’t buy that. Not that I have done much research into it. Nor do I claim myself to be an expert in such matters. I am grateful to be educated.

From the article, I learnt about the unclaimed land between Croatia and Serbia and also about Patri Friedman, the grandson of Milton Friedman.

But, I do believe that modern nation-States would last longer than the ancient Roman Empire, perhaps.

Humans need anchor these days. They have come a long way from their nomadic hunter-gatherer days. Back then, there were no identity markers such as religions and groups. Now that we have them, it is difficult to go back to that ultimate ‘libertarian’ world.

Even those who enjoy the freedoms that cities afford but nation-States don’t – the highly educated foot-loose global citizens who feel at home in all global cities rather quickly – would ache for the protection and security that nation-States afford when technology and other threats make their livelihoods and lives that much less secure.

So, it is good to have competition for today’s Nation-States. But, I am not prepared to wager on their demise. Not soon.


The truth about the Indian economy – 4/4

T. N. Ninan’s column on Sept. 8 in ‘Business Standard’ is worth a read. It is a wake-up call and I would say that it is too mild a wake-up call. Average real GDP growth in the last 7 years has been around 6.7% and in the previous years, it has been 8.4%. One simple explanation is that the global backdrop had changed from being favourable to unfavourable. Global backdrop matters.

That is a point that Ruchir Sharma had made in his comprehensive interview with CNBC-TV18 a while ago. Some extracts from his interview:

…. let us just say that India is growing somewhere in the ballpark of 5-7 percent, depending on what you believe are the right numbers. That for me, is a fair outcome because if you look at the world today, at the peak of the boom, in the middle of the last decade, there were more than 70 countries in the world which were growing at a pace of more than 5 percent….

…. just 28 odd countries have been growing at a pace of more than 5 percent this decade. There has been a compression everywhere. There is not a single region in the world, as I said which is growing at the same pace because one of the main ways to grow richer is to export your way to prosperity. And look at export growth. This is especially in an environment of de-globalisation. Export growth has fallen everywhere across the world.

Even India’s export growth, last decade during the boom years was 20-30 percent a year between 2003 and 2007. That export growth basically has flattened out this decade and it has happened in most places. So this is the era of de-globalisation, after the era of hyper globalisation that we got over the last 2-3 decades. And in this environment, if your export engine is down, it is very difficult to grow rapidly.”

That is fair. But, there are things that one can change and things one cannot. Are we doing enough with things that we can change? Or, even worse, are we compounding the problem?

Take the case of GST cess on luxury cars. The GST was supposed to make things simpler and not more complicated. It was supposed to help make the countrys’ tax system cess-free. Also, this frequent tinkering with tax rates is not healthy. This adds to the ‘Unease of doing business’.

With data for July on GST receipts available (even if provisional), there has been a credit of around Rupees 90,000 crores (900 billion or 15 billion USD, appx.) but there have been input credits claimed by GST payers for around 60,000 crores of Rupees (600 billion or 10 billion USD appx.) So, the government is scrutinising all those who claimed GST credit of more than one crore of rupees, according to the Economic Times. Interesting that this should appear in a Pakistani website too and look at the comments too by scrolling down.

Then, there is another story in ‘Economic Times’ that cash deposits made even before November 8 ‘Note ban’ announcement are being investigated. There is no end to this ‘cat and mouse’ story between taxpayers, tax dodger and tax collectors. While much of this might well be needed with a very low tax/GDP ratio, the fact remains that tax incidence in India is still high.

Tax rate percentage of commercial profits Note: Total tax rate (% of commercial profits). Source: World Bank, Doing Business Project (

India’s overall tax incidence on the commercial sector is above 60% and quite high notwithstanding the fact that Brazil and China have a higher tax incidence. In China, corporate sector is predominantly state-owned and they get several other advantages from the State that offset this tax incidence.

India promised to bring down corporate taxes and eliminate exemptions. Announcement was made in the budget for 2015-16. A diluted follow through happened in 2016-17 budget which restricted the lower taxes to companies with paid-up capital of less than Rupees 50.0 lakhs (INR 5 million). There was no follow-through in 2017-18 budget. That is it. The government promised to reduce the cost of hiring labour by bearing payroll taxes. But, the threshold was set too low to make a difference to hiring, especially at a time when businesses face multiple uncertainties and are battling a heavy debt load.

Bloomberg Quint organised a conversation between three Mumbai-based economy watchers. A summary is available here. There are no ‘ready-to-be-implemented’ answers from them. Deploying some confusing metaphors, Neelkanth Mishra says that a fog has descended on the house under construction that the Indian economy is. He calls for monetary and fiscal stimulus. Easier said than done. Monetary stimulus is unlikely to be effective nor is it likely to be forthcoming, given that inflation has begun to pick up and current account deficit, even with the economy as weak as it is, is 2.4% of GDP. It is not their fault.

The law of human endeavour is that it is easier to screw up than to spruce up. Governments are not exempt from that law.

Much of the slowdown might be due to factors beyond the control of the government. Global slowdown is one. Commercial and industrial loans that turned bad now had their origins in the aftermath of the global crisis of 2008. But, it is the mess that UPA created that gave the opportunity for BJP to come to office. Hence, throwing up hands and pointing the finger at UPA do not help.

This government has made at least three mistakes, if not more:

The single big mistake that this government made – even at the risk of oversimplifying – is to have accepted the fake fiscal deficit number of 4.5% given by the outgoing UPA II administration and reduce fiscal deficit to 4.1% and further lower from there. The oil windfall went towards legitimising UPA’s bogus fiscal arithmetic.  That is what the mid-year economic appraisal of 2014-15 said:

The deficit target represented strongly pro-cyclical fiscal policy-consolidation when growth was below potential-which is ambitious at the best of times and also unusual amongst the major economies today.

Was there an application of mind on the path of fiscal consolidation?

Having done that, it beats me as to how they expected growth to revive – just because they were in office – and take care of the NPA problem. Second mistake was to wear that jacket because it led to the third. The third mistake was to buckle under the ‘Suit boot ki Sarkar’ jibe and turn anti-business.

A slower and gentler glide path to fiscal consolidation would have given the government resources to recapitalise banks that deserved recapitalisation, merge and jettison the rest. Government bond yields might have declined more slowly but the bond market would have been happier with intent and direction of progress, if not magnitude of fiscal consolidation. The boost to the economy thanks to the multiplier effect coming from a well-functioning credit market than the boost (if any) that the economy got from lower government bond yield in a dysfunctional credit market.

Direct tax system needs reforms – lower rates and fewer exemptions. The indirect tax reform – GST – has started off with some needless (inevitable in the views of some) complexity.

Further, some of its well-intentioned and sound initiatives have been thwarted by bureaucratic risk-aversion. Whether it is something as simple as ‘visa on arrival’ or something as important as crop insurance and liberalisation of inland waterways for foreign-owned ships, bureaucracy vastly diluted the government’s intent.

The IIM Bill is yet to become law. Only the Lok Sabha has passed it. The initiative to declare 20 educational institutions as world-class institutions and grant them full autonomy is stillborn. The unified labour code has not left the Labour Ministry. Companies do not have a unique identification number – talked about for quite some time.

In a detailed column for Bloomberg Quint, Shankkar Aiyar suggests going back to the BJP Manifesto for 2014-15 to ‘recalibrate the bearings.’ That is a good suggestion.

I would add the following:

(1) Someone must pick up the courage to tell the PM that there is a serious problem with the economy. He must be made to understand that a series of moves by the government, judiciary and RBI combined have made the business environment more uncertain.

PM should address the nation on the economy without necessarily stating that the government had messed up but acknowledging the issues short-term while long-term is looking good because of serious structural reforms, etc. He should acknowledge corporate sector woes in the face of all the so-called structural reforms. He should admit that, under his government, the ‘unease of doing business’ has grown.

Regardless of what one thinks of President Donald Trump, he is doing the right thing here:

President Donald Trump plans an aggressive travel schedule, taking him to as many as 13 states over the next seven weeks, to sell the idea of a tax overhaul as the administration tries to avoid repeating the communications failures of its attempt to repeal Obamacare. [Link]

If the leader believed in something, he has to champion it till the last step. It is not enough to contribute soundbytes and catchy headlines and stop with that.

(2) Stop making the situation worse. Stop hurting by making negative comments: BJP President asking businesses to stop ‘wailing’ or the Minister for Transportation threatening to ‘bulldoze’ auto manufacturers are things that should stop. It should not be a surprise that antacids are driving India’s Industrial Production growth.

(3) End obsession with revenue neutrality. It is easy to achieve it on paper but it is dumb. One needs economic activity to achieve it in reality. Cess on luxury cars is badly timed and amounts to changing rules midway through the game.

(4) Remove not just redundant laws but also other laws that are stifling. Removing dead and outdated and (inactive) laws is mostly symbolic.

(5) Take a hard look at the construction sector woes.​ Most important unskilled labour employer after agriculture. Get States to increase FSI and boost construction activity.

There is no guarantee that these would deliver the economy out of its present doldrums. None of us have a magic wand. But, all of us owe it to ourselves and to the country to do what we can. What is beyond our control is, in anyway, beyond us.

The government should do what it has to and stop doing or talking what hurts the economy and the country.

In a recent weekly column for MINT, I wrote:

The previous NDA government fell on the sword of “India shining”. Achche Din might prove to be this government’s Damocles sword if it does not wake up to its failure to add to its rather meagre economic successes such as the PMJDY.

If they don’t wake up, it would be bad for India because the alternatives are worse. In the time since they were forced out of office, they have learnt nothing and forgotten nothing.

The truth about the Indian economy – 2/4

On Tuesday morning, 12/9, I woke up to see two pieces in MINT dealing with the new paper by Thomas Piketty and Lucas Chancel on inequality in India. Manas Chakravarty and James Crabtree had written the articles. Interestingly, I learnt from an email sent by James Crabtree that his forthcoming book on India has also been titled, ‘Billionaire Raj’. Unbeknownst to him, Piketty and Chancel have also chosen to name their piece, ‘Indian income inequality, 1922-2014: From British Raj to Billionaire Raj?’. Manas helpfully provided a link to the original paper.

Manas contents himself with summarising the original paper. The paper looks at India’s income trends from 1922 to 2014.  Yes, the data stops with 2014 before NDA came to office. But, you would not guess that from reading James Crabtree’s article. Somewhat unsurprisingly and yet disappointingly, the sub-title of his article is ‘The massive inequality in the country gives the lie to Narendra Modi’s rhetoric—and poses several economic threats’. May be, he did not write it but MINT editors did.

I did not quite get it since the data ended in 2014. For all the rhetoric of poverty and ‘reforms with human face’ it is clear that inequality trends had worsened in India in the years between 2004 and 2014 – the UPA I and II era. Look at any of the charts in Appendix 13 (1 to 4), 14 and 15. Also, take a look at Figure 6 in page 20. Reproduced below. Figure 9 in page 23 is equally dramatic but not reproduced here.

Top 1 percent income share in India

You will get what I say. Inequality trends accelerated under UPA (I & II). That is par for the course in India. Policy discourse/rhetoric is one thing and policy effect is another. Reading James Crabtree’s piece would not give you the impression that the problem became big in the UPA era. That said, UPA’s failure – it not only failed to stem but it also actually witnessed an acceleration in inequality – holds lessons for the current NDA government. Lessons which it has shown no sign of learning from, however.

James Crabtree’s concluding lines are not too far off the mark, however, even though the NDA government is not providing much hope for crony capitalists as the previous government did:

Beyond this a far more radical agenda is needed, to improve basic social services at the bottom, while using competition policy and regulation to stamp out crony capitalism and entrenched corporate power at the top.

For all of his talk of fairness, Modi is doing little of this. If he does not change course, the Billionaire Raj is only going to grow stronger. [Link]

Piketty and Chancel write:

Under Prime Minister Jawaharlal Nehru (in power from 1947 to 1964), India was a statist, centrally directed and regulated economy. Transport, agriculture and construction sectors were owned and administered by the Central Government, commodity prices were regulated and the country had important trade barriers. Nehru’s followers, including Indira Gandhi’s (1966-77 and 1980-1984) prolonged these policies and implemented a highly progressive tax system. In the early 1970s, the top marginal income tax rate reached record high levels (up to 97.5%).

It is difficult to call a top marginal tax rate of 97.5% progressive in many ways, except if one believed in an usurious State.

Once India’s so-called liberalisation started, it did boost average incomes:

Real per adult national income growth, which has more sense from the point of view of individual incomes than commonly used GDP, significantly increased after the reforms. It was 0.7% in the 1970s, 2.5% in the 1980s, 2.0% in the 1990s and 4.4% since 2000 (Figure 1). However, little is known on the distributional characteristics of post-2000 growth.

When national incomes accelerate, top income earners see their incomes rise faster (see their Figure 11 in page 245). But, India is an outlier:

Unequal growth dynamics over the period are not specific to India. Income growth rises the higher up the income distribution one proceeds in China, in the USA and in France as well. India’s dynamics are, however, striking: it is the country with the highest gap between the growth of the top 1% and growth of the full population. It is also interesting to note that bottom 50% of earners grew three times more slowly in China than in India, the middle 40% six times more slowly than their Chinese counterparts, but that the incomes of those at the very top of the Indian have grown at a faster pace than in China.

Looking at figures 12 and 16, it is clear that India did a far better job of distributing its poverty between 1951 and 1980 than it has done distributing its prosperity between 1980 and 2014 (Pages 26 and 29 respectively). At 49%, the middle 40% had a much better share of total income growth in the period between 1951 and 1980 than it had in the period between 1980 and 2014 (23%).

At one level, this should not be surprising. The annual Credit Suisse Wealth report (forget which year – 2015 or 2016) had mentioned that India had extreme wealth inequality. Then, this news report in ‘Business Standard’ in July this year mentioned that the ratio of executive compensation to median worker pay was 1200 times dwarfing the 276 times in America!

What the present NDA government is doing is somewhat similar to the equality that India had achieved before 1980. Everyone was relatively poorer. No one was extremely rich or very very few. This government has so far managed to steer clear of crony capitalism, as far as we know and at least not in a big way. On paper, it is going after big defaulters on public sector bank loans. Even as it hurts (assuming it is true) the big guys, the sad truth is that it may be hurting the small guys more!

The current NDA government has not been able to boost incomes at the lower income strata. If anything, its well-intentioned (or so we believe or that they would like us to believe) policy measures such as the Note-Ban exercise of 8th November  2016 and its implementation of a nation-wide Goods and Services Tax seem to be hurting the rural poor and small businesses more than it is hurting the richer and larger businesses and urban dwellers. In that sense, paradoxically, this government too might be contributing to worsening inequality. It is trying to make up for it with harsh rhetoric directed at the rich and big corporations and tax investigations. In other words, India might be having the worst of both worlds.

The world over, growth vs. distribution trade-off challenge is a real one. One needs to grow the pie to divide it among many. But, growth would see inequality rise as those who are in the centre/core benefit from opportunities that growth throws up before those opportunities percolate to those in the periphery and poor. The big re-distributor is the government with special schemes and subsidies for access to education and health for the poor and low income classes.

This is where India may be failing big. In other words, more than economic policy reforms or more redistribution, India’s challenge in confronting its stark inequality lies in governance reforms and greater accountability in government – both at the Ministerial and at the bureaucratic level. For example, read this interview by Professor Devesh Kapur in THE HINDU in July and weep.

Who will bell the cat?

It needs a politician who is prepared to be in office just for a term or even less but is clear about what he or she needs to do and is determined to do them.

Wielding geoeconomic tools with success

Beyond sheer size, sums, and growth rates, four more variables help explain a country’s ability to translate its domestic market into geopolitical leverage:

ability to exercise uniquely tight rein over access to domestic markets,

capacity to redirect domestic import appetites to make a geopolitical point,

actual or perceived consensus that a country’s domestic market is too large to ignore (this, of course, especially applies to China and is merely a regional dynamic in the case of Russia), and

a growth trajectory that makes other countries see rising future costs to opposing its foreign policy interests today. Of the various geoeconomic instruments currently in use, these domestic market features are probably most relevant in determining how fruitful particular trade and investment policy and sanctions efforts will be in producing geopolitical benefits.

That is a great framework to think of international trade in geoeconomic terms.  It is from the book, ‘War by other means’ by Robert Blackwill and Jennifer Harris. I have finished reading five of the ten chapters of the book. I found it rich in terms of information. The geoeconomic strategies and tactics adopted by Russia and China are extremely interesting and useful.

I was pleased to note that the authors confirm my understanding of geoeconomics: the use of economics as a tool to further the nation-state’s geopolitical and international power projection goals and not the other way around.

In general,the authors note that China has scored tangible gains – at least in the near term – from their application of geoeconomics as a weapon/tool to achieve their goals. This is what they write:

China openly flexes geoeconomic muscle—both positive and negative—and much of the time it succeeds in advancing Chinese geopolitical interests, at least to some degree, on issues of concern to it. This is not to suggest that China’s geoeconomic tactics are always efficient, in either economic or geopolitical terms, or that there are not cases of overreach and backfire. But by exercising this pressure China has managed to deter arms sales to Taipei and to steadily reduce the number of countries to recognize Taiwan; it has curtailed the activities of the Dalai Lama; it has deterred countries from political showings of support for human rights issues; it has registered noticeable impacts on votes in the UN and frustrated various Western efforts to pressure North Korea; it has given tactical support to a newly emboldened Russian foreign policy; and, not least, it has challenged the balance of power in Southeast Asia, forcing some countries to alter course in pursuing territorial claims, and placing others on notice.

In that sense, what President Trump has been doing in his seven months is to bring back geoeconomics to American foreign policy which, the authors say, America has grown out of. My guess is that, in principle, the authors might approve of what the Trump administration is doing.

In that context, read what Professor Graham Allison had written in the Wall Street Journal on the President’s handling of North Korea. He seems to find a logic in the seeming irrationality. In fact, that is the very idea.

Also, recall what William Galston wrote on August 9 in WSJ on technology transfers and China:

If turning over our technological crown jewels to a foreign power is against the national interest, then our government should have the power to prevent it. But wielding this power without blowing up the international trade regime will not be easy. [Link]

In other words, it is not easy dealing with someone who thinks they obey only the rules they make. Of course, today’s superpowers behaved the same way when they were rising powers.  Now that they are status quo powers, the aspiring powers would challenge the order that they established. So, both the US and China are doing what they are expected to do. But, from the American point of view, confronting the challenge of China would not be easy and criticising the approach of the Trump administration is easier than coming up with more feasible alternatives.

Chinese reactions show that they are worried by the U.S. announcing an investigation into the theft of intellectual property by Chinese firms. The investigations could pave the way for retaliatory action by the United States. See here and here. China says that the American actions threaten to blow up the global trading system but that is what is needed, according to William Galston, to stop China’s ‘unfair trade practices’.

One final point: we should not forget that China’s domestic economic vulnerabilities have risen in tandem with its ability, willingness and brazenness in wielding geoeconomic tools. Perhaps, there is a causation from the former to the latter? I am yet to read the latest IMF Article IV Annual Economic Assessment of the Chinese economy and ‘Selected Issues’. I understand that the Fund has been rather forthright in its bleak assessment of the Chinese economy risks.

RBI MPC Meeting Minutes – June 2017

Last week, the Reserve Bank of India (RBI) released the Minutes of its Monetary Policy Committee (MPC) Meeting held earlier in June. It made both for interesting and for sad reading. It was interesting because, for the first time, there was one dissent in the meeting. Prof. Ravindra Dholakia dissented. He presented a case for a rate cut for 50 basis points, rather eloquently and cogently. Cannot say the same of others.

Dr. Pami Dua, one has noticed, rather diligently tracks the Economic Cycle Research Institute in the US. One doubts if the U.S. Federal Reserve does that. ECRI’s recession warnings in this cycle have not materialised. In any case, to what extent they matter to India is unclear to me.

The excessive concern of many MPC members with farm loan waivers was disappointing. First, they are being spread over a few years.  Second, they are addressing a distress condition and that is not the same as as unprovoked fiscal give-aways. The latter is fiscal expansion. The former is merely about preventing the economy from sliding further into a slowdown and disinflation. Third and more importantly, as long as the States do not exceed their overall budget deficit, loan waivers cannot be incrementally fiscally expansionary. Dr. Ravindra Dholakia had done well to point that out. There are other reasons to object to loan waivers. But, an inflation risk is not one of them. Not this time. The farm loan waiver that UPA 1 government did in December 2007 deserves to be blamed for that and much more.

He also brought out an important point that if the unexpectedly low inflation rate seen in April was enough for RBI to revise its inflation forecast lower, then it should be good enough to cut rates too. One cannot have it both ways.

Also, it is a truism that one can always wait for more data. But, that is not going to solve the problem. In theory, with every passing month, one has more data. There is a trade-off between waiting for certainty and acting. Certainty will always be elusive in macro economics with uncertain lags. Judgement is inevitable. In the previous three months, actual inflation had undershot the central bank’s expectation.

So, a central bank that moved to a neutral stance in February has had enough time to observe the underlying behaviour of inflation and respond by June. It chose to wait again. That is somewhat inexplicable.

The following observation of the Deputy Governor, Viral Acharya was puzzling:

Accommodation in monetary policy during 2015-16 did not get transmitted to the corporate sector, and private investment remained weak then in spite of the monetary stance. The Treasury gains accruing to banks in this time, while not a direct concern for the monetary policy, only masked the true stress of their balance-sheets.

If the rate cut did not get transmitted in the form of loans but enabled bank balance sheets to get better, that is also a legitimate and justifiable reason for an easing of monetary policy. Banks, under pressure to make more provisions out of profits, were reluctant to do so because it would cause their net profits to decline and make the management look bad. But, if they found some extra gains from their bond holdings, wouldn’t that not make them more willing to recognise bad loans?

I wonder if the Deputy Governor has gotten his logic inside out or may be, I do not know something that he does. That is always possible.

In fact, a good friend pointed out a puzzling comment that the Deputy Governor had made in the February MPC Meeting. As per the Minutes,

The balanced budget, by focusing on fiscal stability and expenditure reorientation to rural and housing, seemed to exonerate the Committee from the burden of skewing rates to bridge the output gap and instead allowed the Committee to focus squarely on the inflation-targeting mandate. [Link]

Probably, he meant to say, ‘expansionary budget’. In that case, it does take the load off RBI of trying to orient monetary policy towards stimulating economic activity. A balanced budget does the opposite and, in fact, requires the central bank to offset fiscal prudence by loosening monetary policy.

In any case, for me, the budget for 2017-18 was pedestrian. Neither prudent nor expansionary nor balanced. It was a nothing budget.

Finally, it is somewhat worrying that the MPC did not discuss the uncertainty caused by government policies – for good or bad reasons. Their note-ban exercise, tax claims and pursuits, real estate regulation bill, benami bill, forthcoming Goods and Services Tax have induced uncertainty over and above the impact of stressed balance sheets.

RBI released the 77th round of Quarterly Industrial Outlook Survey on April 6th. Perhaps, the questionnaire was sent out in February or March. It should have included specific questions about higher or lower uncertainty arising out of note-ban and GST. It did not. I think they missed an opportunity.

I am also struck by the fact that it did not occur to any of the MPC members, if one went by the Minutes of the meeting.

In sum, on reading the Minutes of the June MPC meeting, one get the impression that, barring Dr. Dholakia, others seem to be in need of urgent acquaintance with the art of decision-making under uncertainty.

448 million social media comments and other STCMA – 24 June 2017

The retreat of the Renminbi. Quite. The image of the Global Payment Currency rankings is telling. Danish Krone has a bigger share than Renminbi. Strategically sound advice from Shyam Saran not to assume that Renminbi’s onward international march is dead but factually incorrect. Article behind paywall.

Anjana Trivedi of WSJ calls it a ‘The Onion’ Headline. I have to agree.

A very good tweet:

Until China willing allow failures and losses, deleveraging campaign should be taken as seriously as any Democratic congressional campaign [Link]

James Mackintosh tweeted this:

Lovely Deutsche Bank chart of over-optimistic economists’ predictions for 10-year bond yield. Average 12-month forecast error: 60 basis points too high. [Link]

Two great tweets by James Kynge of FT

MSCI’s China A-share choice was between relevance and governance. Like many seduced by China dream, they chose former…. [Link]

…. And will come to regret the lack of the latter [Link]

His articles on the MSCI including China A shares in its index on the China Banking Regulatory Commission asking Chinese banks to reduce their exposure to China’s corporate cowboys (ambitious overseas acquirers) are worth reading. Could be behind paywalls, though.

Chris Balding’s blog post on the both these topics is worth a read too.

It is all about free cashflows in these Chinese corporate cowboys or, more precisely, the lack of it.

Chris Balding tweeted, while commenting on this blog post at PIIE.

“How brutally misleading and worthless a blog post by @PIIE. Look at all the products that aren’t even allowed in so don’t have a tariff rate​” [Link]

I guess we all know where PIIE stands with respect to China.

From the abstract of the forthcoming paper by Gary King of the Harvard University and co-authors:

We estimate that the (Chinese) government fabricates and posts about 448 million social media comments a year. [Link]

After Moody’s, now S&P also threatens a downgrade of China’s sovereign credit rating. Currently, it stands at AA- with a negative outlook.

China’s capital controls put real estate developments in Johor at risk, as most of them bet on the Chinese buyer.

A great article in ‘Australian Financial Review’ on Malcolm Turnbull becoming a China hawk from being a Panda hugger. You must be lucky to catch it. A question that came up in the head is why these leaders have to learn this all by themselves, all over again, when there is so much history and evidence?

The answer, my dear mind, is “They are not stupid. Their incentives are differently aligned and the cost benefit calculus of pursuing those incentives keeps shifting all the time.”

Chinese loans may put Bangladesh in a debt trap.

The economists who wrongly predicted a decline in healthcare costs for American families under Affordable Health Care are still at it, with dire predictions and interpretations of the Republican new Senate Bill. Here is an article from 2013 on how their predictions of declining health care costs turned out.

Avik Roy explains here how the Senate version improves up on the House version of the Health Care bill while keeping health care afforable.

Greg Ip gives the thumbs up to the Trump team banking proposals.

According to Zerohedge,  Israel deployed fighter jets to help prevent a coup in Saudi Arabia on the announcement of succession that replaced the present crown prince with the King’s son. Strange world.

Interesting article on how Jokowi in Indonesia is rebooting his Presidency before the 2019 elections after his ally and ex-Jakarta Governor had been sent to jail for blasphemy against the Koran.

Technology, jobs and societies are my favourite and anxious topics. These two links make me wonder whether we can ever become sensitised to the dangers of what we consider progress and development.

This is a review of Dan Drezner’s book, ‘The Ideas Factory’ by Edward Luce in FT.  These lines explain the problem of jobs and technology linked above:

The optimal talk, particularly for Ted, which serves as an advertising platform for paid speaking, is to focus on what Evgeny Morozov, a critic of Silicon Valley, describes as the “cyber-whig” view of history: the belief that technology is carrying us upwards.

“Find some peculiar global trend — the more arcane, the better,” Drezner quotes Morozov saying. “Draw a straight line connecting it to the world of apps, electric cars and Bay area venture capital . . . Mention robots, Japan and cyber war. Stir well. Serve on multiple platforms.”

Whose standards are poor? – part 2

In response to my post here, a friend responded. Here are select extracts from the email correspondence:

States deficits have indeed increased (excluding UDAY) but are still within the 3% limit that was fixed for them. They have not exceeded the limits, and they do have a binding force that prevents them going above–namely the Finance Ministry which can refuse permission for bond issuance.

There is very low probability of states exceeding 3% (not counting UDAY). In the 10+ years since Fiscal Responsibility and Budget Management (FRBM) was legislated  in states, out of a potential 300 or so violations of the 3% limit, (30 states X 10 years), only about 10 cases (state-years) has it happened till now and in each case it had to be offset by reduction in borrowing the next year. By the way, the 14th Finance Commission recommended a higher Fiscal Deficit limit for states (e.g., Telangana) that meet stringent debt criteria. About 5 states meet them, and they would be within the limits permissible even if they reached 3.5%. This also could skew the average.

Further, the states cannot, on their own, violate the ceiling –because it is fixed in advance in absolute rupee terms at 3% of the estimated Gross State Domestic Product (GSDP) calculated by the Centre. Permission to issue bonds is controlled by RBI at this absolute level for a given fiscal year. Bonds are issued through the RBI’s debt office. What can happen is that, ex post, the Central Statistical Organisation (CSO)’s calculation of GSDP may be different from the earlier estimate. IF the denominator moves adversely, what was 3% (same numerator) may become 3.2% because of a smaller denominator.

However, the reality does not appear so straightforward. My friend is not necessarily wrong but it would be difficult to explain away the ex-post deficit ratios of many States over the years as marginal overshoots. More below.

In the month of May, ‘The Economist’ wrote a Leader and an accompanying article on the finances of Indian states. You can see them here and here (may be, behind paywalls).

In the ‘Leader’, there is a sentence:

Indian states are meant to keep their budget deficits below 3% of GDP. But this rule is often trumped by political expediency.

There is another sentence:

It is time to signal that they bear responsibility for their own borrowing, and to end the perverse incentives that encourage them to dig themselves ever deeper into debt.

Both these comments are partially true. Evidence points to the opposite for non-special category states but evidence conforms to the above statement for special category states. I had painstakingly manually entered the actual GFD/GSDP ratios for 28/29 states from 2008 to 2015 – that is seven financial years, from the RBI Annual Study of State Budgets. Violations of the 3% deficit rule are not sporadic.

That special category states are seen to have violated the ‘Fiscal Responsibility’ in hindsight is a bit disappointing because they get additional grants from the Union government. To understand what ‘Special Category’ status means, see here.

It points to many forces at work. Either they underestimate their spending or overestimate revenues or growth wilfully, gaming the system, or there is no competence or expertise to do them correctly. Or, it is that the denominator,  GSDP, is so badly overestimated ex-ante that the final numbers push up the GFD/GSDP ratio.

May be, ex-ante, the Union government never allows a deficit more than 3% except under very special circumstances. But, ex-post, what is the penalty for doing so? To be sure, non-special category status States are not serial violators of the deficit rule. That is, if the GFD/GSDP were above 3.0% in one year, it would be much below in the following year.  That is mostly true for the 17 or 18 non-special category States. But, there are exceptions even there. Until 2014-15, for which actual data are available, West Bengal, Kerala and Punjab have been somewhat persistent in their violations of the deficit rule.

In fact, the XII Finance Commission provided for special grants to West Bengal, Punjab and a bit to Kerala, to bring down its revenue deficit. See Table 10-12 of the Twelfth Finance Commission Report for the full details of the various special ‘Grants-in-aid’ allotted Special and Non-Special Category states.  Yet, these three States – West Bengal, Kerala and Punjab – have been offenders on the deficit ratio.

With the exception of Jharkhand, most of the other States signed up to Fiscal Responsibility Legislation (FRL) between 2005 and 2006.  See Table 2 of the RBI’s Study of the State Budgets 2008-09.

The article has a following sentence:

a 3% annual deficit cap is waived as often as it is enforced.

Even though FRL exists, it is not clear what penalties does the Union government impose for violations of FRL. It would be difficult for it to do so given its own ‘fair weather’ record on fiscal probity and prudence.

It is true, though, on a consolidated basis, the States’ GFD ratio had not exceeded 3% since 2004-05. See page 42.

Indian Public Finance Statistics for 2015-16 are available here.

May be, it will all be more consistent and credible with the Fourteenth Finance Commission.

This article in ‘Indian Express’ (from 2016) does a far better reporting job:

There will be year-to-year flexibility for relaxing fiscal deficit to states subject to fulfillment of conditions as specified in the FFC recommendations. States should have had no revenue deficit this year and in the preceding year. The states will be eligible for flexibility of 0.25 per cent over and above the fiscal deficit limit of 3 per cent of GSDP if their debt-GSDP ratio is less than or equal to 25 per cent in the preceding year….

… States will be further eligible for an additional borrowing limit of 0.25 per cent of GSDP this year if the interest payments are less than or equal to 10 per cent of the revenue receipts in the preceding year….

If a state is not able to fully utilise its sanctioned fiscal deficit of 3 per cent of GSDP in any particular year during the 2016-17 to 2018-19, it will have the option of availing this unutilised fiscal deficit amount only in the following year but within FFC period.

On May 12, RBI released its annual study of state finances. Appendix Table 1 has a statement on combined fiscal deficits of States. The number for 2015-16 is 3.6% and that includes UDAY – restructuring of State Electricity Boards – related expenditure.

In the final analysis, what all this means is this:

The main impact of farm loan waiver and the implementation of the Seventh Pay Commission recommendations will be on quality of state expenditure–less for good projects/ desirable schemes and more for sops. Tamil Nadu has perfected this over the years without violating the FRBM limits. In case, any one has forgotten, Tamil Nadu offers Amma Idli, Amma water, Mangal Sutra, wet grinders, laptops, free electricity to farmers and free and subsidised rice at the fair price shops.

So, this post is all about clarifying the quantitative aspects of fiscal deficits of Indian states. The evidence is mixed. Violations by individual states have been reasonably widespread even after FRL in 2005 and in 2006. Overall, combined GFD/GSDP of States has remained below 3.0%, however. Going forward, as to whether  the quantum would also violate the 3% rule, judgement is reserved.

The quality of their expenditure might deteriorate in the coming years, unless the Goods & Services Tax collections far exceed expectations.


(1) Ragini Bhuyan’s well researched article in MINT shows that credit rating agencies do have a bias against emerging economies and not just India:

As a 2013 paper by Andrea Fuchs and Kai Gehring of the University of Heidelberg showed, ratings agencies tend to favourably rate their home countries as well as countries that share strong economic ties with the home country. This may explain why China, the US’s largest trading partner, is rated much better than other emerging market countries by US-based ratings agencies.