Like the US, is India staring at its own cliff?

Jan 2, 2013

In this issue:
» Will oil prices stay above US$ 100 per barrel?
» US reaches deal to avert fiscal cliff
» Another reason why property prices will rise
» China is looking to curb corruption
» ...and more!

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The fiscal cliff in the US and the impending disaster if both the political parties do not agree to a deal has been dominating headlines for quite some time now. Thus, by agreeing on a consensus on the first day of 2013, the crisis seems to have been temporarily averted even though this consensus was with respect to taxes and not spending cuts. But is the US the only country that is grappling with this problem?

If the latest data on the current account deficit (CAD) is anything to go about, India has its own demons to deal with. Indeed, the CAD for the July-September 2012 quarter was pegged at 5.4% of GDP which is an alarming figure. Current account deficit is the difference arising when the country spends more than what it earns abroad. The country has to pay for such excess consumption by either earning more abroad, or by controlling spending, both at the government level and elsewhere. At present, India is paying import bills for oil and gold by borrowing more from banks and allowing foreigners to invest more in Indian debt and equity. This is pretty much akin to what has landed Greece and other European countries into trouble. But that is not all. The government has to deal with the issue of a bloated fiscal deficit as well. This has already been revised upwards for FY13 to 5.3% of GDP. And although a roadmap to reduce this has been outlined for the coming years, the government has so far been hardly been able to stick to its targets.

An article in Firstpost argues that given the calculation of CAD as a percentage of nominal GDP (i.e. real growth+inflation), the Finance Minster would not have a problem with inflation staying high if it lowers the CAD figure. But this is wishful thinking and hardly solves the problem especially since persistent high inflation is surely a dangerous trend going forward.

The crux here is not the cut down in government spending, especially those on unproductive purposes such as subsidies, but a ramp up on productive ones such as infrastructure. So far there has not been much initiative on this front given the political repercussions of the same. And with general elections around the corner, it would hardly be surprising if no such radical moves are undertaken. But just as the US had to deal with its fiscal cliff when matters came to a head, so will India have to deal with its twin deficit problems. And we hope that this happens sooner rather than when matters reach a crisis.

Do you think that the twin deficit problems that India faces are as serious as the fiscal cliff problem for the US? Share your comments with us or post your views on Facebook page / Google+ page

 Chart of the day
As if FY12 was not tough enough, the Indian auto industry struggled in the first 8 months of FY13 as well as the slowdown in the Indian economy took its toll. As today's chart of the day shows, the passenger vehicles segment has been the best performing so far in FY13. This has largely been due to stupendous growth in utility vehicles (up 62% during this period). On the other hand, growth in CVs was tepid on account of volumes for medium & heavy CVs (M&HCVs) falling by 16%. Rise in fuel prices, firm interest rates, sluggish industrial demand and slowdown in the economy have taken its toll on the industry.

*Passenger vehicles
**Commercial vehicles
Data Source: SIAM

No economic prediction for the year ahead is complete without a prediction about the most important commodity of all. In case you haven't guessed, it is crude oil we are talking about. A story in Financial Times reports that the Brent crude closed the year 2012 with the highest ever annual price average. So, will this record be broken in 2013? The experts are not so sure. But what they are more certain about is the fact that oil prices will stay above US$ 100 per barrel for the third time in a row in 2013.

Now, doesn't that prediction run counter to stories of the shale revolution in the US? Or for that matter rising oil production in Canadian oil sands? No, it doesn't. Simply because while US and Canada could see their oil production jump, there are areas where production is declining. Thus, the two scenarios would cancel out each other. Besides, Saudi Arabia, the leader of the OPEC cartel could also lower its production so that a floor is set under the crude price. This is not to say that oil price wouldn't swing wildly. It certainly would if some unexpected development takes place. But be prepared to keep shelling out high petrol and diesel prices in the event of a more normalised world.

Call it a last minute arrangement. But the deal to tide over US fiscal cliff was a saving grace for Obama government on the first day of 2013. The solution is no doubt temporary. But the deal has managed to defer an economic threat for US and global markets. Absence of the deal would have evoked automatic tax rises and spending cuts of US$ 600 bn. These would have not just pushed the US into recession but also hurt global financial markets. The agreement though is solely on the issue of taxes. The tougher decision on spending cuts has been deferred. Thus, the fiscal deal does not call for any celebration. On the contrary, the apathy of governments of world's two largest democracies (US and India) towards managing fiscal balance is worrying indeed.

Waiting for a correction to buy that dream home? Well, if the government has its way then that dream may well remain a dream. We know that property prices in Maharashtra, especially Mumbai, are sky high. In such an environment, the government is all set to increase the ready reckoner (RR) rate by up to 30%. RR rate is a rate set by the government below which property sales are not allowed. This move is likely to further increase property prices. As such, volumes may take a hit.

Technically speaking, right now, the property prices in Mumbai are way above the RR rates. Thus, the move should not impact property prices much. However, it may be noted that stamp duty and registration charges are based on RR rates. Hence, any increase in RR rates indirectly increases property prices as builders pass on the increase to the end buyers. It seems that the government wants to increase RR rates so as to increase its share of revenue from stamp duty. However, genuine buyers will suffer from the above move. At a time when government should take steps to improve buyer confidence in the real estate sector it is doing exactly the opposite.

Corruption is like the termite that makes an entire system hollow from within. If unchecked, it can lead to social unrest and the fall of the entire political as well as economic system. Therefore it is interesting to note that China's new leadership has realized the significance of checking the rampant corruption in the country. For the dragon nation, corruption has led to the increasing income divide. As a result, the leaders fear that if things remain the way they are, it would lead to social unrest. This would hurt the country's economic stability as well as the capital flows. Therefore China's head of the ruling party has put a noted modernizer as in-charge of the corruption fighting department. It would be interesting to see how this development in the dragon nation pans out. Just setting up departments and appointing new heads is not really enough. What is required are strict laws as well as sound policies that do not have loopholes that can be exploited for personal gains. This means that to check corruption, the entire system needs to be revisited not just a part thereof.

In the meanwhile, the Indian equity markets traded in the positive right through the day. At the time of writing, BSE Sensex was up by 140 points (0.7%). Barring FMCG stocks, all sectoral indices displayed positive investor sentiments. Asian stock markets too traded positively with Malaysia being the only exception.

 Today's Investing Mantra
"You're looking for a mispriced gamble. That's what investing is. And you have to know enough to know whether the gamble is mispriced. That's value investing." - Charlie Munger

You thought you knew Buffett well enough? How about Charlie Munger, the man even Buffett looks up to? Test your Charlie Munger quotient here...

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2 Responses to "Like the US, is India staring at its own cliff?"


Jan 2, 2013

At least US has got low level of Scams & corruption But we Indians are Having very big interest in a big number occupation in the list.So its an added danger to any of financial correction !!!


abhay Dixit

Jan 2, 2013

All democratic governments are notorious for avoiding hard decisions and postpone other decisions(except giving freebies to voters and for personal benefits) till it become unavoidable. Only crisis prompts them to get in to action. This is the tragedy (actually failure) of democratic system.

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