Sad but true. Price rises are far from over!

Jan 25, 2011

In this issue:
» Americans find a new mode of investment in the Yuan
» 60% increase expected in govt's biggest welfare spend
» 205 m people around the world without jobs!
» Green policies affecting India's FDI?
» ...and more!!

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 Chart of the day
The humble onion has brought tears to many Indians in the past few months. Other food items too have shrunk the 'disposable income' of middle income households. But the culprit is not just food. Other commodities have also seen prices shoot up in the past 9 months. The manufacturing sector has recorded one of the lowest growth levels. This is primarily thanks to record rise in input prices. However, a comparison with the rise of the commodity prices in the international markets will tell you that price rises are not really behind us.

Data from the RBI's economic survey points out that the pass through of international rise in commodity prices has so far been slow. These could be attributed to local supply conditions and administrative price measures in place. However, going forward, the linkages of global and domestic commodity prices could get stronger. Petrol prices have already started reflecting this trend. But subsidies and export curbs on other items have so far softened the impact of international price rises.

Data source: RBI, World Bank, Min of Commerce and Industry

The RBI too has done its job in controlling domestic prices. After 6 inflation-fighting rate hikes in 2010, the maiden hike for 2011 was announced today. The 0.25% hike in repo and reverse repo rates, nevertheless, came with a caveat. That this is only an attempt to temporarily arrest rise in food prices. Unless steps are taken to enhance outputs, food inflation may get more pronounced. Further the government must improve the quality of its expenditures. The RBI believes that subsidies only keep a check on supply side inflationary pressures. Instead committing more resources to capital expenditure may help remove bottlenecks to it.

We hope that the government realizes it sooner that the subsidies are passť. They are neither the only nor the best way to check price rises. In the meanwhile, it would be advisable for investors to arm their portfolio with some inflation hedging assets like gold.

What measures are you taking to hedge your portfolio against inflation risk? Let us know or post your view on our Facebook page.

The US Fed has chosen to keep short term interest rates near zero for an extended period of time. In effect, it has sounded the death knell for a US bank savings account. At present rates, the account is incapable of even preserving one's purchasing power. Amidst such a scenario, US citizens are forced to invest in risky assets like equities and commodities. However, these remain extremely volatile in the near term and carry a strong possibility of a permanent capital loss. But now, there's some ray of hope we believe. And it comes from the most unlikely of sources, China. As per Moneynews, The Bank of China is letting Americans invest upto US$ 20,000 a year in Chinese Yuan. In other words, the Americans can have their own Yuan denominated bank account. These will offer two benefits we believe. First, interest rates would certainly be higher than what one gets in the US and secondly, there is a strong possibility of a capital appreciation as well what with the Chinese currency being significantly undervalued. This is one Chinese association which would be without its fair share of controversies we believe.

The government's biggest welfare spend could see a 60% increase in its outlay. We're talking about the Mahatma Gandhi National Rural Employment Guarantee Scheme (MGNREGS). The coming FY12 budget could see a provision of Rs 640 bn for this scheme. This is quite a jump compared to Rs 401 bn in the current fiscal. The increase in outlay will be due to mainly two factors: linking wages under the scheme with the consumer price index (CPI) for agricultural labour; and a marginal increase in the number of working days guaranteed under the scheme. The indexation will help provide real wages to people in view of rising inflation. Quite valid reasons we believe. But how long can welfare expenditures keep growing because of inflationary pressures?

The world might be on a recovery path, but it's still not showing in the employment numbers. At least that is what the numbers coming from the International Labour Organisation (ILO) suggest. As per the ILO, the global jobless rate is stuck at an all time high. Around 205 m people around the world are still without jobs. This is about the same number that was recorded at the end of 2009. This makes the global unemployment rate as 6.1%, which is also what the ILO expects to remain in 2011 as well.

As per the ILO, the chief trouble lies in the developed world where unemployment is showing no signs of coming down. The jobless rate in the developing world however, while remaining high, is gradually coming down.

The woes over rising food prices are not restricted to India. The situation is grave in other emerging markets as well. Prices have now threatened to reach the highs seen in 2008. This has sparked fears of violence and unrest. Many of these countries are using whatever weapons they have in their arsenal to curb this price increase. These include doing away with import tariffs, imposing export bans, price caps and rules to counter commodity speculation. The problem is that food prices have been on the rise on account of both demand and supply side factors. On the supply side, bad weather and underinvestment in agriculture have led to poor crop production. On the demand side, the population has become more affluent and diet patterns have changed. Moreover, the ongoing recession and loose monetary policies in the US and Europe has led many investors to pour money into commodities in the hope of healthy returns. This has further pushed up prices of food.

Indeed, the governments are responding to this crisis by resorting to short term measures of bans and price caps. What they instead need to do is to focus on long term measures to improve productivity. These would be boosting investment in new production and new agricultural infrastructure including irrigation and storage facilities.

India has always been on its guard against foreign banks. This held us in good stead during one of the biggest global financial meltdowns. Standard Chartered has been operating in the country for 150 years. It also spearheaded the first Indian Depository Receipt (IDR) offering. It accounts for 33% of the only 308 foreign bank branches in India. But, thirteen out of 33 other foreign banks just have one branch apiece. Nothing much to write home about.

Nevertheless, India may soon be reversing its conservative stance. The RBI is proposing to ease its approach in giving out new branch licenses, capital requirements etc. It may also allow foreign banks to tap into the local bond market.However, conditions do apply. These banks will need to operate in India as wholly owned subsidiaries. They will need to have a separate board of directors, at least half of which need to be Indian nationals. Priority sector lending to agriculture, etc will also be part of the agenda.

But, knowing the RBI, it doesn't plan to go overboard. It plans to ensure that Indian banking doesn't suffer a foreign invasion. The central bank states that it will stop giving out new licenses once foreign bank assets reach 15% of the total industry. Currently, they contribute only 7.6%. These banks now have a small foot in the door. But, they will come in all guns blazing to provide credit to the world's second fastest growing economy.

Foreign Direct Investment (FDI) in emerging markets has risen significantly during 2010. As per the United Nations, the total quantum of FDI that flowed into emerging markets during 2010 was almost US$ 1.1 trillion. But interestingly, India's share in this entire quantum was a paltry US$ 19.3 bn (April to November 2010). It was nearly 27% YoY lower than the amount that was seen during the same period last year.

This is a major cause of concern for the RBI, which has enough on its plate with surging inflation and growth rates. The chief reason identified for this decline is the rigidness of the country's environment policies. Most projects do not get approved. And even in ongoing projects, work gets halted due to some environmental concern or the other. The net result is that projects get delayed indefinitely. This has been the key issue for most projects in the mining, construction and port sectors. This has led to investors shying away from making any investments in these areas. Other causes of concerns for the investors are procedural delays, land acquisition and availability of infrastructure. Unless these issues are dealt with and resolved, India may see its precious FDI flow deteriorating in times to come.

After showing reasonable strength in early trades, the Indian indices succumbed to selling pressure after the RBI's rate hike move. The BSE-Sensex was trading 148 points lower at the time of writing this. The BSE Midcap and BSE Small cap indices were down 0.4% and 0.8% respectively. Other Asian markets closed a mixed bag. The European markets have opened on a positive note.

 Today's investing mantra
"If you want to have a better performance than the crowd, you must do things differently from the crowd." - John Templeton

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2 Responses to "Sad but true. Price rises are far from over!"


Jan 26, 2011

Hi, hedging against inflation risk --- this is atough job, I feel real estate,specifically land,gold and other collectibles like paintings, antiques would be the preferred choice for those who can afford. for the rest, it appears to be small amounts in gold ETF's.
Reg food inflation, in the Indian context, if we plug the leaks in the distribution system there would be ample food for all--of course this is easier said than done--maybe the govt should consider privatising FCI or splitting FCI into smaller corporations handling geographical areas such as North, South etc running each as a profit centre with performance based salary/incentives to the employees.regards


Amarjit Singh Bajwa

Jan 26, 2011

1. as per earlier times, all retail small and new investors are gettting cheated by the advice of their brokers and there agents-because first these advisors et- all play up or down the markets and then send out the advisories for lesser ones to lapup and pay for it.
2.The Americans need to be in the shoes of the other world atlast now.

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