Credit Policy - Reddy has called it wrong

Reddy has called it wrong this time.

Indian economy is not leveraged asCredit Policy, Housing, much as that of the other developed economies and it is the supply side dynamics which is contributing to the double digit inflation. Some even argue that this effort of the central bank may further accentuate the problems caused by supply side dynamics due to the capacity addition being delayed mainly due to the steep increase in funding costs.

The policy initiatives of the nineties have dismantled the Long term Funding institutions, which has pushed India Inc to look at the global markets for raising long term funds. Having taken this route they are now forced to call correctly the exchange rate movement. The companies which are not capitalized adequately, or are afraid to go to the international market for want of loosing control, silently suffer. This in the long term, affects the economy as planned capacity additions do not take place. Policy makers have failed to acknowledge this void and take steps to correct.

At the other end of the spectrum, the needy do not have any access to institutional funds. Attempts to eliminate the usury rates charged by the middleman have failed miserably. With the so called growth in bank credit being fueled by indiscriminate lending to salaried and self employed persons for consumer durables and lavish spending, it is repaying time for these institutions, with even the central bank taking special interest in these advances. Defaults in certain locations are a staggering 40 % in this segment, if we are to believe unconfirmed reports.

For lending to the housing segment and make it robust, we have important lessons to learn from US. The Fed had openly issued government guarantees to Fannie Mae the share holder owned financial institutions with a public mission. These institutions are private in nature but backed by the government. Hence these banks could approach the international market to raise cheap funds and provide funds exclusively for the domestic housing market.

It is time we also did the same thing. The government should guarantee the bonds issued by say a division of ICICI or AXIS or HDFC bank or a combination of the divisions of the banks with a caveat that funds raised thus are exclusively used for a defined housing market.

In the last 3 years the housing sector saw a robust growth and provided the much needed overall growth in GDP. The current attempts by the central bank to chase the inflation is hurting these segments and will once again deprive many a citizen the chance of owning a home in his or her life time. Will the government at least intervene?

Clearing the muddle of Rising Food Prices

Many column centimeters in leading newspapers, including your paper combined with interesting sound bites in all TV channels have put before us multiple reasons responsible for the spiraling price rise. Out of these a few stand out which has to be tackled by policy makers on a war footing.

The planned increase in agricultural production shall meet the increasing population, the additional demand created by new generations aspirations and affordability. This is best achieved by careful planning and timely implementation of irrigation projects, making available at the retail level advanced improved seeds, tested soil enriching techniques to improve the yield and above all easy rural credit with minimal collateral to the rural agriculturist. In the absence of such a coordinated approach there will be gaps which will leave us exasperating at the slow agricultural growth rate.

On the other hand diversion of land from wheat to Bio fuels in developed economies is one more self centered approach of the developed economy which we need to understand to live with. Financial centers have established and put in place procedures & mechanisms that make it easy for the non informed to bring in their savings in to commodities and make a fast buck on scarcities. We should have sufficient negotiating clout to bring them around to stop such a move which we sadly lack (as proved in various WTO forums).

Further, given the depth of scientific community available with in the country and the financial resources available with us (we have invested hundreds of billions of dollars in other country's instruments for a rainy day!) it is really surprising that a concerted approach is not being taken to solve this fundamental problem.

Politicians should take note that their continued neglect of this fundamental issue will shake them up and even dislodge them from their exalted positions.

Sub Prime Mortage Fall out

We are reading different reports of the impact of the US Sub Prime Mortgage fall out on developing markets and emerging economies. The reports unfortunately have to rely on information which are handed over to you by the administrations and regulators, who have the powers to remain opaque.

Given the levels of visibility reached through satellite imaging techniques such as Google Earth, it is surprising that in large financial transactions running to billions of dollars, opacity stares at you. The crisis which is purportedly created by a few banks, seem to have had regulatory sanction, as you find the Regulators coming out openly in support of them, with the public fund. The Regulator in UK has come out openly to save a bank and the US Fed is reportedly injecting billions to allow some of the entrenched entities to move out in a more orderly manner. In a mature functioning capital market, it is indeed strange that we are seeing certain Regulatory actions, which can be clearly interpreted to be in support of defined entities who have abused the rules.

In such circumstances, given the opacity of the transactions, it is but natural that one would come to the logical conclusion that the excesses committed by these entities, have been enjoying the Regulators tacit support all along. No wonder, RBI governor in his inimitable manner has warned of surprises and indicated recently his resolve to take "unconventional" actions as necessary.

All these point to more major events in the immediate future. The tremors of Sub Prime Mortgage, are still traveling through the depths of integrated global economy sea. One is not sure where it is heading and which is the shore it is going to hit. There are no sensors to track this "Tsunami"(financial) and predict land fall.

Planners may be warned to plan for the landing and put in place emergency mechanisms to evacuate and provide "First Aid"

Indian Governments need to be more proactive

Choke Eases Even More

RBI has done its bit to unshackle the Indian Entrepreneur and industrialists from the chains of bondage to the Indian currency. The Investors are, by the day being encouraged to, explore new markets, compete globally to maximise returns on their capital.

It is now the turn of the Government to step in an unobtrusive way to support the initiative. In this era of globalisation, we need to ensure energy security, and committed linkages to commodities that help us meet our growing needs. This is best done through selective investments, which also translate to export of our capital globally. All these can be front ended by the nibble footed Indian investor, but he surely needs the unfailing commitment of the government.

We need politicians who will understand the dynamics of the Indian multinationals' support requirements and guide the policies. They should intervene to nudge friendly governments to grant a license or exclusivity. They should also provide the bureaucratic support to secure favourable terms for our capital such as Sovereign government guarantees, negotiate hard during bilateral exchanges with the Indian investors capital in mind.

Bulk of our increasing foreign exchange reserves are due to the earnings of Indian diaspora who are toiling away to bring in the riches to the country. It would befit all their efforts if the governments and Indian Entrepreneurs use this capital to further enhance the Indian growth story.

Irrelevance of Inflation Targetting

In spite of phenomenal increases in the basic prices of Metals and Oil, which we import to run our economy, our economy is ticking and moving forward reporting marginal increase in inflation rate. This shows that we have found a way to scale up volumes and efficiency. We are also increasingly shedding cost plus factors, as is evident in air travel and communication costs which are no longer operating on social basis but are driven by market forces and hence competitive. I still remember the news stories, (similar to the ones which we are seeing in Oil sector today), that Indian Airlines request for revisions are not decided by the government and hence the Airlines is likely to report losses!

Therefore monetary policies should factor in structural changes and encourage on a sustained basis the attempt to bring an impetus to growth. We are at this stage a unique economy where our knowledge workers are gaining recognition and bringing in large profits which are retained in the nation. Consumption is increasing and goods are being delivered to meet the demand. Sustained corporate earnings growth across sectors is aided in no small measure by volume growth.

So we need to have our own policies, which in this case may even call for increased deficit financing or using the forex reserves. We need to therefore find the way to sustain this growth through monetary policy and be very cautious in our moves lest, this momentum gained over ten years of 5 year planning is challenged.

Economic Renaissance in the Developed World

Economic Renaissance is sustainable and the Developed world is looking up to India to bolster their economy through the improved performance of our economy and increased consumption. Just to illustrate - Today our earnings in foreign exchange is across a much wider spectrum as compared to a decade ago. While there used to be only remittances from sweat labour from across the middle east and supporting funds from non resident residents to the near and dear ones, today Indian born and international entrepreneurs are returning to their mother land with ideas, systems and seed capital. This is setting in a new chain of growth which will take our economy to new levels, leave alone sustain. Their presence and their interactions with the world clearly demonstrate the sustainability of the growth story, for these are definitely not "Fair weather Friends".

True any mismanagement of the macro economy can undo part of the growth story. But the current government has not given any indication of such actions. On the contrary, the government owned Goliath the Indian Railways has returned surplus and is set to surpass its own stellar performance last year. The investment in the aviation sector is returning surplus as well.

The capacity addition being seen in the Capital goods industry, the booming service sector and the additional investment being planned for in the Retail, Infrastructure through Public Private participation, indicate that the Indian corporate and international private fund managers have a diametrically opposite perception from that of IMF. They believe in the Indian growth story and are eager to participate at the first opportunity, rather than wait and be left behind.

Monetary Policy

Central Bankers prime responsibility is to utilise the Monetary Policy to achieve Monetary stability over long periods under varying conditions. This as the author has indicated, predominantly relate to maintaining the Purchasing Power of a currency. But there are two other significant elements which need to be balanced;

- One the competitiveness of the export basket should not deteriorate and the other
- the main stay of the people be it industrial wages or the value of agriculture produce should be stable.

While some may tend to ignore the comparison of Gold to purchase power, as to be too elitist, the situation of the Indian farmer or the wages of our semi skilled worker will throw a definitive view. It will be too simplistic to assume that all these can be achieved only by the Monetary policy. But monetary policy can substantially support these, as in the case of USA where the Asian economies surpluses are funding the subsidy of the USA farmers(Budgetary deficit). Not many states will be able to practise this. The decision of the US central bankers to believe in their systems and make their currency fully convertible in an era of where everything was closed has brought them this reward. It is always the first mover who will have the advantage as it is evident here.

Given this background, it is necessary for the central banker to come up with innovative mechanisms and steps, structured to capitalise on the individual country's strength. We have today put in place sound controls which can be relied up on. So it is time to take bold steps which are unique to our country's strengths. Two starking uniqueness are evident

One - Our huge retail stock of gold(should say hoard) No other country has so many of their citizens hoarding gold. This immense asset is not put to use. This has to be done.

Second - Our Youth. We are one of the two countries who will have the largest number of youth in the next decade, whose services will be in dire need amongst the so called developed nations as well. We need to formulate policies, to retain this youth in our country to levergae thier earnings.

India is poised to move in to another era and path breaking efforts are needed to take to Her to the rightful place She deserves.

Control Notes Supply

The constant increase in Printed Notes Supply and the excess requirement of working capital due to processes and legacy issues are two significant elements which need to be tackled head on to rein in inflation. The slack money which is in the system as working capital in form of credit at various stages is increasingly pushing up the cost to the consumer and sucking in more credit for achieving the same output. An alternative will be to incentivise use of money for shorter periods. This has to be through a policy initiative and will signal better management of working capital limits.

Given the fact that most of the receivables are linked to central & state governments the finance ministry will do well to seek a review of the Outstanding payments; the Government's "Sundry Creditors List" and devising methods to settle the same with in reasonable limits. Even for approved plan outlays, payments are with held or not released, as either the funds are diverted for meeting out salary payments (as in the case of state implemented projects with central funds) or stuck due to terms of contract an euphemism for dithering. This needs to be addressed immediately with the accelerated growth seen in the recent years.

Cash transactions have again not been controlled as the key contributor is Real Estate whose administration is the responsibility of the Center and state. A pragmatic to capture the true Real Estate values and make it attractive to comply with completing transactions closer to realistic values needs to be put in place.

Currency rate Instability

One of the reasons the interest rates do not impact the Real estate asset class is because of the simple fact that it is running on money which is PARALLEL. No individual or HNI can borrow through the official channel to buy a land in any city. It may not even cover 5 % of the cost. That being the case to signal control of this asset class through monetary instruments, as you have very simply and eloquently argued is shooting your self in the legs and yes both of them.

Lack of agricultural growth and its impact on the growing economy has been ignored by the government even though the central banker has been highlighting its failure on this account. In the election year this becomes a much more bigger problem.

Importing essentials, while being a short term measure, to cover the ground to arrest inflation, long term bilateral international agreements (like the ones being done for energy Security) can be negotiated for essentials to cover a planned period before our internal agricultural production escalates.

We need to think out of box to come up with solutions which are specific to us and the way in which we allow our parallel economy to grow and accept inefficiency.

Who is doing the saving

A series of articles in your paper ( India's young savers will prove McKinsey wrong - Sunday the 13th May, Macro scan - Who is doingg the Saving and Investing and How countries Compete - a nice crisp extract from books under E- Dimension - Both in today's editon) all have focused on one critical issue of the change in savings and investments patterns in the last few years.

That there is a shift in who is doing the Saving has been acknowledged and is accepted. The challenges for the policy makers are to capture this change, understand the factors behind this change and generate model which can project their impact at the Macro Level together with the key parameters which cause these changes.

Any growth will bring in change inevitably. That the shift is from agro based industries, to ITes and BPOs, industrial establishments is abundantly clear. Hence the savings are not from from agriculturists but from workers, executives and generally the white and blue collared community. This has been encouraged by the governments policy initiatives to make our country "Competitive". This is a welcome change and is accepted by one and all as the way to move forward.

But what should worry the policy makers is the impact this change makes on capital formation at the grass root level of the economy.

Indians are generally known for their thrifty habits and hence saving is prevalent across households. Their savings especially in the rural and semi urban areas are the seed capital of many an enterprise, retail outlets and small shops. These savings have been supporting the active functioning of the small enterprises and any deceleration in the savings growth at this micro level, will seriously erode the capital formation ability.

Given the near absence of institutional support at this level (our major bank's focus is on big ticket investments) unless a dedicated effort is taken immediately to address this issue brought forth in your articles, we may be seriously disrupting our basic economic structure. It is therefore necessary for the policy makers to understand this change and focus on providing substitutional avenues where seed capital can be easily accessed at the micro level.

We are challenging the retailers by bringing in Global players as their competitors and simultaneously also challenging their abilities to access seed capital through our policy initiatives of bringing in modern industries and IT services. We are acquiring their land for our grandiose SEZ's and the parks. While these initiatives bring in a change for the better for some, the policy makers need to appreciate the disruption these changes cause and provide a substitute, alternate mechanism.

As otherwise we may mortally harm the retailers, which in the long run could hurt everyone.

Budget 2007-08

As the fine print is being read and the implications sink in, the clarity of the man in control on the way forward is becoming more clearer to us all the common men. Here is a man who is no hurry. He knows that in these middle overs, he has to keep the run board ticking and not go overboard with flashy strokes. The slog overs are just around the corner with election to come in early 2009.

While, a little bit of tinkering has been done for now, one can expect a land mark 2008 -09 budget which could be a please all. Bold measures including allowing increased freedom for investments for Indians in various foreign assets can be expected. With the institutions to channelise foreign exchange reserves in to Infrastructure projects in place, I am sure he will initiate bold measures to shift a significant portion of reserves to Infrastructure.

RBI's new approach

The title as befitting a Central banker is just a hint for the well heeled and one needs to drill down and mull over the contents to understand the implications.

The suggestions by the former governor is very timely and needs to be implemented. We need to "segregate a part of the reserves that can be traced to more sustained flows" and allow a government agency to manage these funds to achieve more than " 6 % plus returns" will really help the economy. I see the "Invisible receipts" which our economy boasts of as one amount which is sustainable and growing. These receipts majority of which emerge from middle east can be invested in infrastructure projects to accelerate the growth.

The "comrades" will also like the idea.

No Point in Blaming RBI ?

The authors have correctly argued that RBI has limited scope for deploying other instruments.

But what the RBI can do and which has failed to do is to prevail up on the Finance Ministry to deepen the debt market. Corporate paper is nearly absent in the debt market and there is crying need for it to be quickly implemented so that the Non agricultural credit growth is met at rates which the industry can service and credit growth in this segment is not mixed up with the rest of the market.

Similarly expansion of currency notes in circulation, which is taking place year on year to support the Real Estate expansion and phenomenal rate increases is being ignored. It is surprising that RBI as an institution which does not come under any direct influence of the Government should turn a blind eye to this phenomenon.

It is necessary for RBI to take a bold step in this regard and announce through its reports the damage currency based transactions bring to its policies. As long as RBI continues to hide and thus encourage such transactions, they will be blamed and quite correctly too.

Macro Changes in Indian savings

A series of articles in your paper ( India's young savers will prove McKinsey wrong - Sunday the 13th May, Macro scan - Who is doingg the Saving and Investing and How countries Compete - a nice crisp extract from books under E- Dimension - Both in today's editon) all have focused on one critical issue of the change in savings and investments patterns in the last few years.

That there is a shift in who is doing the Saving has been acknowledged and is accepted. The challenges for the policy makers are to capture this change, understand the factors behind this change and generate model which can project their impact at the Macro Level together with the key parameters which cause these changes.

Any growth will bring in change inevitably. That the shift is from agro based industries, to ITes and BPOs, industrial establishments is abundantly clear. Hence the savings are not from from agriculturists but from workers, executives and generally the white and blue collared community. This has been encouraged by the governments policy initiatives to make our country "Competitive". This is a welcome change and is accepted by one and all as the way to move forward.

But what should worry the policy makers is the impact this change makes on capital formation at the grass root level of the economy.

Indians are generally known for their thrifty habits and hence saving is prevalent across households. Their savings especially in the rural and semi urban areas are the seed capital of many an enterprise, retail outlets and small shops. These savings have been supporting the active functioning of the small enterprises and any deceleration in the savings growth at this micro level, will seriously erode the capital formation ability.

Given the near absence of institutional support at this level (our major bank's focus is on big ticket investments) unless a dedicated effort is taken immediately to address this issue brought forth in your articles, we may be seriously disrupting our basic economic structure. It is therefore necessary for the policy makers to understand this change and focus on providing substitutional avenues where seed capital can be easily accessed at the micro level.

We are challenging the retailers by bringing in Global players as their competitors and simultaneously also challenging their abilities to access seed capital through our policy initiatives of bringing in modern industries and IT services. We are acquiring their land for our grandiose SEZ's and the parks. While these initiatives bring in a change for the better for some, the policy makers need to appreciate the disruption these changes cause and provide a substitute, alternate mechanism.

As otherwise we may mortally harm the retailers, which in the long run could hurt everyone.