Will US Fed need a bailout?

Jan 18, 2011

In this issue:
» Rising interest rates force India Inc to turn abroad for loans
» Surging inflation worries RBI
» TCS grabs the crown from Infosys
» China becomes a lender to the world
» ...and more!!

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Through the global crisis, banks have been going bust left, right and centre. Some have been allowed to fail while some of the luckier ones were bailed out. But the underlying reason for all of them was the same - liabilities were higher than assets.

Imagine if this were to happen to the world's most powerful central bank. Yes. We are talking about the US Fed. The bank's liabilities have been going up thanks to the rounds of quantitative easing that it undertook. But at the same time, asset creation has lagged behind. The central bank has been using most of its money in buying the treasury bonds. If and when inflation starts to kick in, the value of these bonds would start to take a hit. As a result, experts have started to question - will the US Fed need a bailout in times to come?

As per its Chief, Mr. Bernanke, this is impossible. In case such a situation should arise, then the bank would just not put its profits back into the treasury as it normally does. The theoretical way out is to sell bonds and suck up the excess liquidity. But this would impact the country's growth rates. Another way to avoid this from happening is to just open up the money printing press and shower notes from the helicopter. We are all aware that Mr. Bernanke is only too happy to resort to the latter method.

Do you think the US Fed will need a bailout in the future? Share with us or post your comments on our Facebook page

 Chart of the day
Today's chart of the day shows the trend in India Inc's foreign borrowings (as a percentage of total borrowings). With all things going gung ho, foreign exchange borrowings had shot up in 2007. However, things reversed in 2009. The global crisis and lower domestic interest rates forced Indian companies to turn towards domestic sources for funding. With things picking up in 2010, the trend seems to be reversing again. Would 2011 be another year of high foreign exchange borrowings for the Indian companies? At the moment, it certainly looks like it.

Data source: Prowess
Note: Data is for the BSE-200 companies excluding banking & finance companies

The cost of borrowing on Indian shores has got dearer in the past 9 months of the fiscal. Bankers believe that Indian corporate looking to raise short term debt may have to shell out a lot more in 2011. Banks themselves are getting wary of accumulating high cost deposits in their domestic branches. They would rather look for options where they can earn a better spread.

Ever since the US Fed slashed lending rates to near zero, the difference in the interest rates to that in India has only got wider. The RBI sees this as a potential risk that could attract hot money into Indian markets. It has tried to cap FII investments into Indian debt. But there is one risk that is being overlooked. That of Indian companies deserting domestic markets in search of cheaper funds. This is a trend seen in the early stages of every interest rate hike cycle. However, for the Indian economy to grow, it is important for the homegrown corporates to access local funds. Else, the country's financial system may lose a big pie of lending opportunity to the corporate sector. In addition, currency risks may eventually take a toll on the borrowing costs.

Meanwhile, rising inflation is giving sleepless nights to the aam aadmi. It has not even spared the RBI governor, who yesterday accepted that India is facing a serious inflation threat. As Dr. Subbarao told a business gathering, "Lot of other countries are still flirting with deflation...On the other hand, we are having a surge in inflation."

Dr. Subbarao is right in expressing his fear on rising prices - of anything and everything we consume in our daily lives...right from onions to cars. A large onus of this i.e., rising inflation lies on supply side factors (like poor crop this year). But more than that, the easy money policy of western central banks has played a key role in exporting such inflation to the developing world, including India.

Anyways, Dr. Subbarao said in a lighter vein, "Other central bank governors tell me: why don't you give us a bit of your inflation. That shows how desperately they want some inflation and how desperate we are to control our inflation."

Meanwhile, the Indian markets are trading well above the dotted line, as IT stocks led the pack on the back of strong quarterly numbers posted by TCS. At the time of writing, India's benchmark index, the BSE-Sensex was trading higher by about 113 points or 0.6%. Besides IT stocks, FMCG stocks also showed strong gains, while those from the realty and oil and gas sectors saw declines. Most major Asian markets were trading positive today with Hong Kong trading higher by 0.6%.

If you look at the November 2010 Index of Industrial Production (IIP), it may seem that the consumer goods industry is slowing. The consumer durable space grew at a bleak 4.3%. On the other hand, the consumer non-durables space fell by a sharp 6%. However, quite contrary to the data, the industry is quite optimistic about the growth prospects. Most players are bullish about maintaining a 15-20% growth rate. Then why is there this huge gap between the IIP numbers and the industry expectations? There are a couple of reasons to explain this. One, the consumer goods space has traditionally seen a dip in growth numbers in the Diwali month. Inventories for the festive season are built in advance. No wonder then that the consumer durables segment clocked a 30% rise in October. This quite explains the poor figures for November. A second reason for the anomaly is that the IIP data do not reflect the correct industry picture. The IIP sample includes out-of-circulation products. So while IIP numbers may draw a dreary picture, the consumer goods space remains quite upbeat.

Infosys, so far, has always set the trend when it came to the performance of the IT sector during any quarter. But it has not been the case this time around. Infosys' performance for 3QFY11 was quite tepid as sales and profits grew by a mere 2.3% QoQ and 2.5% QoQ respectively. Just when one thought that the rest of the IT sector is set to report lukewarm numbers as well, TCS came out with robust set of results. TCS witnessed a healthy 13% QoQ and 14% QoQ growth in sales and profits respectively. This was led by double digit growth in volumes and a growth in demand from all geographies. What is more, based on the discussions with its clients, TCS is upbeat about the demand environment going forward too. On the other hand, the Infosys management has remained more cautious with respect to billing rates and the demand recovery in the US and Europe. Of course, Infosys traditionally has always chosen to maintain a cautious stance as far as the outlook is concerned. And so, its growth should probably pick up in the coming quarters. But for the time being, the 'IT crown' certainly belongs to TCS.

What is the optimum level of forex reserves that a country should have? We believe that the reserves should be able to provide sufficient cushion for paying import bills and also to service external debt comfortably. Many experts believe that China crossed these landmarks long time back. But still, the accumulation of reserves has not slowed down one bit. In fact, if anything, it has only increased. And these reserves, rather than being a source of pride are beginning to look like embarrassment. For should the value of dollar erode substantially, China's reserves too would take a massive hit. Little wonder, the dragon nation has stepped up its efforts to utilise its huge reserves and it has zeroed in on lending to other countries as one such option.

FT reports that China has actually ended up lending more money to other developing countries than the World Bank over the past two years. It is estimated that while the dragon nation loaned out US$ 110 bn in 2009 and 2010, World Bank could manage to lend about US$ 10 bn less during roughly the same period. We believe that while the move is indeed a smart one, all bets would be off should the dollar start losing value rapidly.

 Todays' investing mantra
"Everyone has the brainpower to make money in stocks. Not everyone has the stomach. If you are susceptible to selling everything in a panic, you ought to avoid stocks and stock mutual funds altogether." - Peter Lynch

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6 Responses to "Will US Fed need a bailout?"

Manoj Kumar

Jan 19, 2011

No! not anytime too soon. It has the tools with it to keep it afloat. It can print as much dollars as it wants. However later, a lot later when even dollar loses its value so much that even printing would also not be an option then may be.



Jan 19, 2011



abhi patel

Jan 18, 2011

actually....it not need itin such current phase....how???...let me explain... US use to be only country which
has money power to control the world with its power of money, uS had no such huge amount of reserve in gold as it has now......if u cheack out the chronological buying of gold of america...u will surely find such significant reserve of gold increase by year to year....and gold is only consider as main currency at world bank and IMF.....US is giant in mind game which it has been playing since inception of economy...it rise the price of gold to fourth fold of their purchase.....US will sell only its gold reserve and sustain its old way of ruling world......is
nt It????


Andrew Virgil

Jan 18, 2011

Sorry i need to be blunt ...You are managing a small fund in India which is still struggling to manage itself (despite the 9 % Growth ) ...as in free world you have right for your thoughts ...but need to be humble civilized polite as a ADVISER ...

Am I Upset I am not your comments on Bernanke is tasteless and wonder why you assume We are all aware he wants to shower currency from a helicopter ...if its meant to be funny statement ....well sire you suck in that dept ...

The point is YOU DO WRITE SOME GOOD STUFF but DONT get carried away .....

Like most other proud Indians (inlcuding yours truely ) please work effectively ....and Contribute .....

If India does this we will grow ...forget the big boys USA or any one ...the fact is India can change the lives of its poor ON ITS OWN ...Stock pickers like you wont know or care about


Gopal Kalpathi

Jan 18, 2011

Living beyond ones means is bad, weather it is an individual, family, society, community of government. The only advantage that the US has is that most of its monies are held by other countries such as China and Japan. So if it goes broke it will take these two giants also down. All these people know it and hence others would avoid such a catastrophe, if need be with a bail out.


M.Dinakar Shetty

Jan 18, 2011

If the time gap between float of printed money and equalent value of asset creation, is minimum, no harm even when printed money is used for purchasing treasury bonds. If such time gap is more, above action is likely to lead for inflation. In the case of United States, they have normally tidy plans before they execute any thing.

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