Double trouble for the Indian economy

Mar 31, 2012

In this issue:
» Another bubble scenario in the US?
» Holidaying in the summer? Flight rates are set to increase.
» Growing Apples among US homeowners
» P-Notes - to tax or not to tax?
» ...and more!

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Twins. They can be either twice the fun, or double the trouble. Twin deficits on the other hand are nothing but trouble. A twin deficit economy is one that suffers from both a fiscal and a current account deficit. Either of these deficits on its own is bad. Now, you can imagine what both of them together add up to.

India is part of a not so illustrious club of nations that suffer from the twin deficit problem. The other members include the US, UK, Greece and Ireland. All of these countries suffered heavily post the financial crisis and have still not fully recovered. In this article however, we will keep our focus on India. The Reserve Bank Of India (RBI) recently stated that the current account deficit of the balance of payments (BoP) rose to 4.3% of GDP at the end of the 3QFY12. This is compared to 2.3% of GDP seen in the previous fiscal. For the first time since 2008-09, capital inflows were unable to finance the current account deficit. This forced a drawdown of forex reserves by nearly US$ 13 bn.

On the fiscal front, the woes continue. India's fiscal deficit projections have also been raised for FY12. The government has revised it upwards to 5.9% of GDP from 4.6% projected earlier. But, the actual deficit may be even worse. According to latest data, India's fiscal deficit in April-February was Rs 4.9 trillion, already around 95% of the revised full-year target of Rs 5.2 trillion.

The twin deficit problem preceded India's 1991 economic crisis. Now, things are not as bad as they were then. But, with the country's finances in disrepair, handling external shocks such as a prolonged global slowdown and high crude prices may be a challenge. Plus, given India's fiscal scenario, the RBI may not cut rates in a hurry. If India doesn't get its act together soon and exercise discipline on its finances, the consequences could very well be disastrous.

What do you think of India's twin-deficit problem, and can it be cured? Share your comments Let us know your comments on our Facebook page / Google+ page.

 Chart of the day
Facebook isn't even public yet, but its highly anticipated initial public offering (IPO) has created a lot of buzz. Is the company a worthy investment though? Today's chart of the day shows that, according to a few productivity metrics, Facebook has convincingly blown past many other companies in the US$ 100 bn club. Each of this social networking site's 3,200 employees generates Rs 1.2 million in revenues and over US$ 300,000 in profits. This compares very favourably versus other players which have a similar market cap, but lower productivity. But, while financial metrics look rosy, at the current inflated valuations, the Facebook IPO may not have much left on the table for investors.

Data source: Wall Street Journal

Last year, all eyes were focused on the deteriorating prospects of the Western economies. The money printing spree initiated by their respective central banks had gotten people extremely wary of their currencies, especially the US dollar. Then came August. The Indian rupee crashed. Suddenly, the vulnerability of the Indian economy to external shocks was exposed. The problem is that our economy is heavily dependent on imports of crude oil. To our misfortune, oil prices have been extremely volatile thanks to myriads of political crises. That's not all. Our stock markets depend heavily on the whims and fancies of foreign institutional investors (FIIs). So any significant fund flow tends to rock our currency rate. Then our insatiable appetite for gold further adds to our import burden. In addition, a host of other factors such as the recently proposed tax laws, slowing economic growth and the widening twin deficits as discussed above. All of these are a serious threat to the rupee in the coming months.

There is a real possibility that US, the so called land of the free could start being known by another name. The land of the bubble that is. For not only are they popping up every now and then, they are also coming equipped with a lot of variety. If reports are to be believed, the education sector seems to be the latest victim to fall prey to the bubble tendency in America. Total student loan has topped the US$ 1 trillion mark, up from about US$ 600 bn in 2007. In other words, students in the US are taking more loans than before. And to make matters worse, more than 25% of the borrowers look to be behind on their payments.

How possibly could have things gone so wrong? Well, it appears that since jobs are fast moving to low cost destinations like India and China, freshly minted graduates in the US are feeling the heat. They thus are not being absorbed by the job market as fast as before. The fact that that the US economy itself has slowed down a great deal is also playing havoc with the job market we believe. Thus, settling for a lower salary and tightening their expenses seem to be the only viable option before the students as of now. Otherwise the education sector too will be in need of a bailout, according to us.

The job of Finance minister is not easy. And budget announcement was just the start. The Indian stock markets were left agitated over the issue that foreign investors could be subject to new taxes proposed in the recent budget. However, the Finance minister has clarified that it will examine the tax liability of FIIs and not participatory note (P-note) holders. It is important to note here that while FIIs are registered with SEBIs and can directly invest in the Indian markets, P notes are instruments (issued by FIIs) to let foreign investors test the markets.

The latter avoids the huge registration costs in case the investments are not heavy. The markets welcomed the news. But the issue is far from being settled. This is because FIIs are still under the scanner for tax liabilities. If these convert into actual taxes, there are strong chances that FIIs will pass it to end clients - P note holders. Post this clarification, we hope such a scan will filter out speculative investments and curb volatility. But having said that, the Government needs to articulate its policies better. The lack of clarity and resulting panic can cause us to lose genuine investors as well as disturb the markets.

Starting this April, airfares are set to rise considerably. Rising demand has propelled airlines to increase fares. This is especially so since the troubled airline Kingfisher has cut flights and lowered its capacity. To top it all, increase in service tax by the government means that this will be passed on to passengers. It must be noted that Indian carriers are likely to post a combined loss of US$ 2.5 bn FY12. Hence, they need to raise fares to return to profitability and cut debt. The gradual exit of Kingfisher will also play a role in bolstering the fortunes of other carriers. For instance, before Kingfisher ran into financial trouble, about 230,000 airline seats were available daily in the local market and about 175,000 passengers were flying. However, Kingfisher reduced its fleet to 16 from 66 in November. So, at least 30,000 airline seats have disappeared from the inventory. This improves the occupancy level, giving airlines the leverage to raise fares. That said, over a period of time if fares sustain at higher levels, demand is bound to come down. In such a scenario, whether airlines will be able to improve profitability remains to be seen.

A key feature behind Apple Inc.'s success has been its ability to create and market products, which have become high on the 'object of desires' lists of many. The company's products are one of the most sought after consumer products due to their designs, their easy usability as well as their exclusivity.

An All-American survey made by CNBC further reinforces the above-mentioned points. According to the report, half of US households own at least one Apple product. Moreover, one in ten homes, who do not own any Apple products, is planning to buy one within a year. The survey also showed that homes with relatively higher income levels tend to own an average of three Apple products as compared to 0.6 for lower-income homes.

Jay Campbell, the vice president of Hart Research Associates (which conducts the CNBC survey), puts the result of this survey aptly - "It's a fantastic business model - the more of our [Apple] products you own, the more likely you are to buy more."

The world stock markets ended the week on a mixed note. The US stock markets saw the best quarter in 14 years and positive economic data released towards the end of the week resulted in the markets closing the week higher by 1%.

The Indian stock markets were marginally up 0.2% during the week. However, it brings some relief to the investors after 5 consecutive weeks of losses. Amongst the other world markets, Japan and Singapore (both up by 0.7%) were the only gainers. China had the worst performance during the week and was down by 3.7% followed by Brazil (down by 2%).

Data Source: Yahoo Finance

 Weekend investing mantra
"The fact that people will be full of greed, fear or folly is predictable. The sequence is not predictable." - Warren Buffett

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    3 Responses to "Double trouble for the Indian economy"

    Arif Manikfan

    Apr 2, 2012

    The policy makers responsible for the development of indian economy were keen in presenting a populist budget so that they may not take risk compromising their return to power. Whereas the true fact is that the indian economy is already bleeding and recourse for its revival has to be done at the earliest. Let it be not that when one even if voted back to power wont complain that it's too late now. One has aptly said that to destroy a nation, there is no need of any deadly weapons for mass destruction. Just derail the economy. Its a silent killer. So, put every other thing aside and give top priority in bringing back the economy on track



    Mar 31, 2012

    With Noddle spinned Manmohan and Pronobda the Bengali needing to eat a ton of fish per hour simply to not slip into donkey hood , we can expect the mother of ALL crises to hit us . Capo di tuti capi Sonia the Italian financial genius cum Bar maid at large with her cretin runt Rahul and Priyanka the serial proselytiser cum nightclub floor burner what else can you expect . Amyarta Sen will soon come -up with his Noble wisdom that all this is bhely bhley good , the JNU Bengali Mafia will be there to back it up . Mamata bringing up the rear . Rupee will be 100 to the $ by 2014 , inflation at 20 % and we will be at the doors of the IMF being dictated to by the Chinese ! What this space


    g r chari

    Mar 31, 2012

    The twin problems are no doubt as bad as it can get, but our handling of or addressing the problem is the cause of worry. No major policy is in place to rein-in the burgeoning twin deficits and just like the farmer waiting for the rain gods to shower its bounty on him, our govt. is waiting for windfall gains to come from disinvestments and sale of scarce spectrum to balance its current account deficit; actually this money should be deployed for national reconstruction and capital formation. The govt. is more keen in political management (read day-to-day survival) than economic management of the country.

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