»5 Minute Wrap Up by Equitymaster

On This Day - 27 JULY 2010
India's poor infrastructure needs more than money

In this issue:
» Agriculture to bounce back in FY11
» Those benefitting from Madoff under scanner
» RBI hikes repo rates
» India gets an upgrade from Moody's
» ...and more!!

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It has been a well known fact for some time now that the state of power infrastructure in India has been abysmally poor. While various targets had been set in the past in all the five year plans in terms of capacity addition, the government has consistently failed to meet these targets. There have been a myriad of reasons for this persistent underperformance. One of them being shortfall in funding.

And so, in an attempt to bridge a funding shortfall and help banks avoid asset-liability mismatches, the government plans to create a Rs 500 bn debt fund. This will raise low-cost and long-term resources for re-financing power projects. In this kind of financing, a long-term financing institution such will agree to take an existing loan off the books of a bank for a price. This would help banks in asset-liability management in financing long-term projects. Especially when their resources are short or medium-term in nature. What is more, the government has set up a target of adding 160,000 MW of capacity in the Eleventh Plan (2007-12) and Twelfth Plan (2012-17). This will require huge investments running into trillions of rupees. And therefore, depends upon the ability of the government to mobilize debt.

But will this be enough to solve the ills that are afflicting India's power infrastructure? Or other areas of infrastructure such as roads for example? We are very doubtful. While financing projects is all very fine, the matter does not end there. Execution remains the key. And on this front, history has laid bare, the government's inefficiency. As Ajit Dayal, the founder of Equitymaster has rightly pointed out that the Ministers seem to be more focused on how to get a quick solution for the pathetic state of India's infrastructure. But what India desperately needs is a long term solution!

 Chart of the day
The past many years have not been good for India's agricultural production, infact the latter has been on the decline. However, good growth in manufacturing and services made up for this and pushed India's GDP growth beyond 9% before the global crisis unfolded. But the importance of the agriculture was brought to the fore last year, when failed monsoons impacted crop production. Agricultural production dipped and contributed to the slowdown in GDP. But as today's chart of the day shows, agricultural production in India is expected to bounce back strongly in FY11. Especially if monsoons this year remain normal. Although India's GDP is expected to grow stronger this fiscal, healthy growth in agriculture will also play a crucial role in helping India achieve that magic double-digit growth rate.

Data Source: CMIE

The central bank itself seems to have had a change of opinion with regard to the global economy's near term fate. Greece's tryst with junk rating and 'soft spots' in the US economy have been the key reason for the same. As far as domestic economy is concerned, the central bank is not too confident either. It did endorse the IMF's projection of higher GDP growth (8.5%). However, when it came to inflation, the projection has pretty much been left to the Rain Gods. While the RBI has put forth a tentative number of 6% (WPI) by the end of this fiscal, there is very little certainty. Secondly it is also banking on softening global energy prices. This it believes will offset the impact of recent fuel price hikes.

The RBI has revised the repo rate upwards by 0.25%. On the other hand the reverse repo rate (rate at which banks lend to RBI) has been hiked by 0.5%. What this means is that the RBI wishes to persuade banks to borrow less from it and instead keep more money with the RBI. The obvious impact of this will be in the form of liquidity being sucked out from the banking system.

One notable factor in this review is the non mention of fiscal deficit. The bumper 3G telecom auctions and fuel price hikes seem to have completely addressed that concern. Thus, while the RBI's tone seemed to be far more optimistic on the domestic scenario, inflation stuck out as the grey area.

Really strange things are happening in the US these days. As per CNN, Mr. Irving Picard, the man who was appointed by the US courts for recovering funds from Bernie Madoff in the multi-billion dollar scam, now has a new target. The investors who made money through Madoff. Yes, that's right. Mr. Picard is now preparing to file lawsuit against half of around 2,000 individuals who profited from Madoff's Ponzi scheme. So far, all of Picard's energies were focused on recovering money from those who were closest to Madoff. This includes his family members and funds that invested with him.

Well, we certainly applaud Mr. Picard's well intentioned efforts. And if Bernie's poor victims can be compensated, why not the millions of investors who suffer at the hands of Wall Street day in and day out? After all, even Wall Street ran a giant Ponzi scheme before the onset of the financial crisis and duped investors to the tune of trillions of dollars. The only difference perhaps lied in the fact that while Madoff lied to his investors, Wall Street blamed it on the rules of the game. Save for this one reason, Wall Street certainly runs a bigger Ponzi scheme than Mr. Madoff.

A top US Treasury Department official is reported to have said recently that nations must not pull back too quickly on economic stimulus. That's because it feels that the global recovery still needs support. Last week however, European Central Bank President Jean-Claude Trichet made a somewhat contrasting plea. He said that industrialized countries needed to come up with plans soon on how to rein in their embarrassing deficits. And thus, countries the world over continue to swing between the all important question of what is better for their economies at this point of time. Spending more? Or spending less?

Rating agencies have a lot of prestige about them. Or at least they used to. That was before being diagnosed as comatose during the lead up to the financial meltdown. So, frankly we don't know whether one should take their call seriously anymore. In August 2008, Moody's had downgraded India's sovereign rating outlook, citing deteriorating macro economic conditions at home and external shocks. Yesterday, Moody's has upgraded India's local currency government bond rating from Ba2 to Ba1 with a positive outlook. True, the earlier rating was during the financial crisis. Now India is the apple of everyone's eyes. But that begs the question - do these agencies broadly state the obvious? Or is there an effort to stick by internal standards irrespective of broad consensus? Our advice to investors would be to also do their own homework. Because, as the financial meltdown showed, sometimes the biggest names in finance don't.

In business, focus is the key. Businesses that try and diversify to unrelated areas face several pressures in managing such a diversification. We have seen several instances of this in the past. The Indian government has possibly taken a leaf from this. This is the reason the government is in no mood to grant banking licenses to public sector NBFCs like PFC and REC.

As per the government, these institutions were set up to lend to a particular sector, power here. As such, their diversification into an unrelated and a much wider area like banking isn't the right way to go. In an age when numerous large Indian private sector companies have forged into unrelated businesses, this thought from the government seems to be in the right direction.

With the RBI revising India's GDP growth to 8.5% from 8%, buying on the bourses intensified post the noon session. At the time of writing, the BSE-Sensex was trading higher by around 103 points (up 0.6%). Gains were largely seen in auto and banking stocks, while healthcare stocks were at the receiving end.

 Today's investing mantra
"The book value deserves at least a fleeting glance by the public before it buys or sells shares in a business undertaking. In any particular case the message that the book value conveys may well prove to be inconsequential and unworthy of attention. But this testimony should be examined before it is rejected." - Benjamin Graham

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