The UK is finished
(Jan 21, 2009)
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In this issue:
"The UK is finished!" Well, this isn't a threat from a terrorist, wanting to blow up the country. Of course it is a diagnosis of destruction but we are talking economic destruction here. And the man behind the lethal comment is none other than Jim Rogers, one of the smartest investors of our times. Although Rogers is a contrarian but this time around, we guess a lot of people will be willing to agree with him.
» Will Obama's plans work?
» Move over G7, its time for G2
» End of GM's 77 year reign
» Threat to the Indian BPO industry
» ...and more!
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What else could explain the steep fall in the UK's currency yesterday, its biggest drop against the Yen and a record low against the dollar in seven years? The slide started when the British PM Gordon Brown sanctioned £100 bn pounds (US$ 142 bn) for banks. And the new bailout has come on the back of a £ 50 bn recapitalisation program and a £ 250 bn bank credit line. This at a time when the country's economy is running twin deficits (budget as well as trade) and undergoing one of its worst recessions since the Second World War.
What more, there seems to be little respite in sight as the financial industry, on which a lot of UK's growth was built in recent times is not likely to see its glory anytime soon. Little wonder, traders holding pounds are making a beeline to the exit door. And unlike its closest ally, the US, the pound cannot boast of being a reserve currency of the world, thus restricting UK's ability to print endless amount of money without having an adverse effect on the exchange rate. Although it may not be finished just yet, it will definitely decline rapidly if the rot is not stemmed.
Another nation that is in danger of declining rapidly is of course, US. And hence, all roads led to Washington yesterday as Barack Obama, the last real hope of the US citizens was sworn in as the country's 44th President. While the Americans hope, and expect, and pray for a better future, from what we have seen so far, Obama's economic revival plan is just a little more than Bush's plan in a different garb. Just like his predecessor, Obama is also planning to throw trillions of dollars at the problem that was created due to trillions of dollars.
However, unlike Bush who had the headroom (via the Fed) to bring interest rates to near zero to pump in more of cheap money into the system, Obama is short of this monetary policy ammunition. Rates are already near zero. So what will he do? Cut rates to less than zero like the Japanese did in the 1990s?
It didn't work for the Japanese. Recession in the country lasted for more than a decade despite sub-zero interest rates. And despite Bush's trillions of dollars in bailout money, around 2.5 m Americans have still lost their jobs and the recession is only getting worse.
Obama, like another former US President Franklin D. Roosevelt*, has also talked about an infrastructure plan that will employ 'millions of Americans'. To do what? Pave roads and dig ditches?
But Roosevelt's 'New Deal'* didn't work either! Despite everything he did starting 1933, the US still entered into a recession by 1937. Industrial production declined sharply, as did profits and employment. Unemployment jumped from 14% in 1937 to 19% in 1938. As unemployment rose, consumers' expenditures declined, leading to further cutbacks in production.
Despite the mountains of money Roosevelt threw at the Great Depression, it still took ten years and World War-II before the economy came back to life.
Now, if Obama were to repeat these failed policies, how will he be able to produce better results? Following the failed policies of Roosevelt and Bush will only make matters worse for the US and subsequently for the world.
Giving failing companies and consumers more money to make more debt repayments when the debt will eventually go bad, will only elongate this crisis. And if the crisis prolongs, Obama will ensure that many companies that might otherwise survive, fail. Millions of more job losses will follow.
If the auto industry was crowning glory of the US' economic might when the country's supremacy was at its peak, it is only fitting that it is also amongst the first bastions to fall when the cracks have begun to surface. We are referring to the probable end of GM's 77-year reign at the top, where it was the largest selling auto brand in the world. The US car maker is due to announce its 2008 global sales sometime later in the day and by all likelihood, it will trail the volumes that were achieved by Japanese major Toyota, which will then emerge as the largest car maker in the world.
However, it is not the number race that GM is preoccupied with currently. Blown away by the credit crisis, the company is trying hard to bring itself back to profitability and in fact, is resorting to voluntary shrinking so that it can become more nimble. Only time will tell whether the plan succeeds or not.
While GM has undertaken the restructuring journey on its own, rival Chrysler has decided to join hands with Italian carmaker Fiat whereby the latter would buy a 35% stake in the company. The two companies will then share technology and Fiat will also help Chrysler launch the former's small cars in the US. Fiat is obviously aware that injecting cash when it is extremely scarce and that too in a troubled company like Chrysler is fraught with danger. And hence, it has shied away from purchasing the stake by way of cash but instead will retool one of the Chyrsler's plants at its own expense and make it suitable for manufacturing small cars. Fiat also has the option of increasing its stake at a later date.
The investment community has become more sensitive and vocal about corporate governance in India after the Satyam fraud. Take the case of India's most valuable company - Reliance Industries (RIL). As per a leading business daily, there are several areas where RIL could follow better corporate governance practices. These are:
- A complex group structure including private companies;
- Loans and advances to promoters' private firms;
- Gross refining margins that do not follow regional trends; and
- Poor disclosure of information in areas like segment wise sales and cost break up, purchase and sales information and hedging positions for crude oil.
However, the blame for poor disclosure cannot be put entirely on the company because its competitors aren't any better. As such, information becomes a key to competitive advantage. Still, it might ultimately be in RIL's best interest to adopt more disclosure. After all, companies with good disclosures are likely to receive better valuations.
If you've had your portfolio shrink by double digits in recent times, you are surely not alone. You have one of the largest private equity firms in the world to give you company. New York based Blackstone launched plans to expand in Asia in 2005, finding India an attractive destination. The Blackstone Group has invested over US$ 730 m in India since, only to see much of it washed away in the recent stockmarket plunge. Blackstone invested US$ 150 m in August 2007 in Nagarjuna Construction. The stock has fallen some 71% since. Its investments of US$ 165 m in garment maker Gokaldas Exports has met with the same fate. Other such top international private equity players like Kohlberg Kravis Roberts & Co (KKR) and Warburg Pincus too find themselves in similar positions.
India so far has been dominating the global business process outsourcing (BPO) industry. This is amply reiterated by the research firm Everest, which has stated that the global BPO industry will be worth around US$ 220-280 bn by 2012, with India accounting for almost US$ 50 bn of the opportunity. But if you thought that this dominance is unshakeable, think again!
While India's low cost advantage was one of the foremost drivers for the growth of the BPO industry in the country, looks like US and Latin America are fast catching up. This is because falling wage rates and increased availability of unemployed professionals are helping locations in the US and Latin America emerge as competitive 'nearshore' destinations for outsourcing of back-office work. In fact, wages in these countries are now only a tad above those in India.
This is just the tip of the iceberg. The unemployment rate in the US is rising fast. And with Obama already announcing that his administration would provide tax benefits to companies creating local jobs, means that India has something to worry about. What's more, Indian IT biggies themselves are establishing centres in Mexico to tap opportunities in this lucrative market.
China certainly has more to its credit than being the most populous nation in the world. The fact that it has been one of the fastest growing economies in the past decade is common knowledge. But how many of us know that it has grown a staggering 70 times in the last 30 years, having given up its communist policies for free-market ideas in 1978? No nation in history has clocked this rate of growth in so short span of time. The economy overtook Germany to become the third largest in the world in 2007 and has now set its eyes on Japan. However, to achieve this milestone it needs to resolve its issues with the US.
Asian stocks continued their decline today, pulling down the MSCI Asia Pacific index to its lowest levels in seven weeks amidst concerns that fresh wave of losses across banks could prolong the recession. BSE-Sensex, the Indian benchmark also performed badly, shedding 3% from its last closing levels. The US markets also traded deep in the red yesterday and closed to a two-month low as investors chose to pick a badly bruised economy over Obama's inaugural ceremony.
Corrigendum: In yesterday's 5 Min., we had incorrectly mentioned that the Indian markets closed higher by 3%. The markets had actually declined by 2%. We apologise for the mistake.
"Get inside information from the president and you will probably lose half your money. If you get it from the chairman of the board, you will lose all of your money. - Jim Rogers
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