Are we seeing the end of the BRICS story? - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

Are we seeing the end of the BRICS story? 

A  A  A
In this issue:
» RBI hikes repo rate
» Is manufacturing the answer to US' woes?
» Regulatory hurdles hurt Indian Pharma
» India has a poor disinvestment record
» ...and more!

Emerging markets were the apple of the investors' eye in the years before the 2008 crisis because of their superior growth rates, rise in disposable incomes, strong performance by corporates among many other reasons. At a time when growth in the developed world remained sluggish, the prospect of healthy returns in emerging markets seemed quite promising. Little wonder then foreign investors made a beeline for their shores sending asset prices in these markets soaring. Even when the 2008 crisis unfolded, despite initial hiccups which saw some flight of capital, the interest in emerging markets did not really wane because growth in some of these countries bounced back. Indeed, the emerging market world was expected to re-balance the growth of the global economy.

Things have not evolved as per the script though. Today, emerging countries are facing a crisis of sorts of their own making. No longer can the slowdown in these countries be entirely attributed to the weakness in the US and Europe. Indeed, as per an article in Firstpost, noted economist Nouriel Roubini has touched upon several reasons why emerging countries, in particular the BRICS nations, are facing what he has termed as a 'midlife crisis'.

The first is the lack of second generation reforms. Most of these countries benefitted tremendously from the surge of foreign capital when times were good. But none of them really looked upon this as an opportunity to implement some structural reforms that would have bolstered the prospects of growth in productivity. Dominant role of state owned entities in the economy also to a certain extent hampered growth. For those whose economies were dependent on the commodity story, Roubini opines that the commodity super-cycle is probably over. This will impact exporters of commodities notably Brazil, Russia and South Africa especially since growth in China, which was a commodity guzzler, has slowed down.

Loose macro policies and absence of demographic dividend (India is an exception) are some of the other factors that BRICS needs to worry about. Last but not the least, Roubini is of the view that the BRICS countries are stuck in a middle income rut. Indeed, high growth in these economies was enough to lift a sizeable chunk of the population from low income to middle income status. But the transition from here to a developed economy is that much more difficult. And it is a hurdle that BRICS have not yet managed to overcome?

Does that mean that the story for BRICS is over? Not really. Most of them do have the ammunition to take growth and development to the next level. There is enough headroom for this given that none of these countries are as saturated as their developed counterparts. It ultimately all depends on how proactive the governments of these countries are in terms of implementing structural reforms that bolster growth potential. For India in particular, all focus is on which party forms the new government in the upcoming general elections. But more importantly, it will be interesting to see what path of growth the new government charts out that will be beneficial for the health of the Indian economy.

Do you think that the current crisis in the BRICS nations has reduced the chances of higher economic growth in the future? Let us know your comments or share your views in the Equitymaster Club.

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01:26  Chart of the day
So which has been the worst financial crisis in the last 100 years? As per the Economist, that dubious distinction belongs to the Wall Street crash in 1929 and the consequent fallout that was the Great Depression. Not surprisingly, the worst incidents since that one are all related to the 2008 global financial crisis. The near bankruptcy of Greece, the housing collapse in Ireland and the banking crisis in Iceland are all products of the excesses and asset bubbles that had formed before 2007-08. Since then, there has not been much of a meaningful recovery seen in most of the developed countries of the US and Europe as output has stagnated and unemployment rules high. The only form of support has been loose monetary policies unleashed by central bankers. Rather than solving the problem, these have only raised the prospect of higher inflation in the future.

Great Depression remains the worst crisis

Contrary to the market expectations of status quo, the Reserve Bank of India hiked repo rate by 25 bps in its third quarter review of monetary policy. This rate now stands at 8%. The Cash Reserve Ratio (share of deposits banks have to park with the RBI) is still at 4%.

Given the lower inflation rates in December, the rate hike move was unexpected. Moreover the GDP growth rate has not seen any uptick in the recent past. The central bank has cut the growth forecast to less than 5% for 2013-14. But the elevated inflationary levels remain the daunting challenge. The wholesale price index (WPI) and the consumer price index (CPI) at 6.2% and 9.8% respectively still stand above the desirable levels. The central bank continues to battle the challenge of economic growth that remains at a decade low. On the top of it, it has to tackle the persistently rising prices. High time we understand few facts!! The inflation fuelled by supply-side shortages stands beyond the monetary policy control. Hence, the government efforts in removing supply bottlenecks stand critical. We hope government plays its part in complementing the RBI's efforts in stimulating economic vitality.

Change is the only constant in this world goes the famous saying. Therefore, fighting this change may not prove to be very remunerative. As a matter of fact, it could prove to be counterproductive. But as Business week highlights, US President Obama is in no mood to heed this advice. Apparently, Obama and other so called economic experts want manufacturing in the US to be revived. As per them, growth in manufacturing is what a growing middle class requires. So, is their understanding correct? The article doesn't seem to think so. It presents a compelling evidence of why creating more manufacturing jobs may not be the answer to US' woes.

Simply because over the last 30 years or so, US has replaced low skilled workers with machinery which has proved to be far more productive. And any attempt to bring low skilled jobs back to the US may end up harming the US consumer as he can get the same goods much cheaper from abroad. So, net-net, US economy would be at a loss rather than profit from the trend. Thus, if not manufacturing, what is it that the US should do to create more jobs? Well, the choice looks obvious. It will have to create more jobs in the service sector and also spend more on retraining workers. And there's evidence from Germany that retraining does indeed work. To us too, this seems a much better option than spending billions of dollars on social security for those who exit the workforce.

Missing targets has been a norm for the government. And when it comes to disinvestment, the performance has been worse. As per an article in Business Standard, since 1992, the disinvestment target was set roughly 18 times amidst various government regimes but was achieved only 4 times. This translates into a success ratio of 22%.

Disinvestment is an important tool to bridge the fiscal deficit. Considering that India operates on a subsidy model, disinvestment is all the more critical to ensure that the deficit targets are not breached. Thus, one would have expected government to be proactive in meeting targets. However, it should be noted that disinvestment is dependent upon capital market conditions. Poor market conditions dampen investor interest and valuations that government could get. But during the last 15-20 years, India growth story has evolved. Thus, the stage was set for disinvestment. Yet government was unable to achieve its targets. Why? For one, the targets could be unrealistic. Or the government itself was not too keen in divesting its stake. Whatever the reason, we feel that divestment can lead to change of ownership for the better. The role of the government is to run the country. Also, privatization instills competitiveness and brings in better accountability. Meeting disinvestment targets can make privatization dream come true. If not, the nation would continue to suffer over the inefficacy of PSU enterprises.

Microsoft founder Bills Gates, the richest man in the world, is among the world's biggest philanthropists. He is now engaged full-time in philanthropic effort Bill and Melinda Gates Foundation. Recently he made a striking prophecy. He said that by 2035, almost no country would be left poor. Now, that is indeed a noble ambition. But is it realistic? Let's ask a bigger question: Can foreign aid bring countries out of poverty? As per an interesting article in Livemint, the real recipe to bring countries out of poverty is economic growth and trade. Two countries - China and India - testify this theory. Both these countries have managed to bring millions of people out of poverty in the last few decades. On the other hand, foreign aid doesn't seem to have been as effective in poverty alleviation as economic growth. This is not to disregard foreign aid. But the emphasis here is on its significance in bringing countries out of poverty. As far as this is concerned, its role has been important but still peripheral. The problem is the foreign aid often gets squandered and pocketed by corrupt governments. They also tend to lack a proper vision to allocate the resources optimally.

In our view, the foreign aid versus economic growth debate is nothing but an extension of the old debate about intervention versus market forces. And if history is anything to go by, market-driven economic growth with minimal intervention has resulted in the most optimal utilisation of resources.

The period during which the blockbuster drugs of global pharma majors started going off patent was supposed to be a boon in disguise. But the supposed beneficiaries have hardly had the fortune of leveraging the opportunity in generics in recent times. Indian pharma companies, despite their stronghold in global generics, have been ridden with multiple woes. One of course is the crackdown by the US FDA on manufacturing facilities in India. However, as per an article in Business Standard, the government's apathy towards bringing in adequate regulations for the pharma sector is equally to blame. The miserable state of clinical trials in India, at the cost of lives of the poor, has invited the contempt of global drug regulators. It now appears that the regulatory regime for trials have gotten so restrictive that they will have to be conducted outside the country. This will automatically increase the R&D cost for generics manufactures. Needless to say the cost arbitrage that Indian pharma companies enjoy will also be lost. Thus regulatory gaps have not just paralyzed the scope for growth of Indian pharma. But it has also shaken the confidence of global drug regulators in India's potential as generic supplier to the world.

After starting the day on a firm note, the Indian equity markets slipped into the red post the announcement made by the RBI. At the time of writing, the BSE-Sensex was trading lower by about 7 points with stocks from the information technology, banking and pharmaceuticals spaces leading the pack of losers. Stock markets in other major Asian economies ended on a mixed note with China up by about 0.3%, while Japan and Hong Kong ended lower by about 0.2% and 0.1% respectively.

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2 Responses to "Are we seeing the end of the BRICS story?"

Sanjay Kamath

Jan 29, 2014

I do agree that there are problems and hence these markets may not be as attractive as it was earlier. However the key question is if there are opportunities elsewhere other than BRIC. If no, like it or not BRIC will remain HOT in that sense.

I would also like to highlight that "The 5 Minute WrapUp" is increasely becoming pesimistic AND/OR trying to get mileage by giving "sensational" headings. We expect you to be more constructive and positive whilst sharing knowledge. Hope to see a noticeable change in near future.



Jan 28, 2014

In India at least the problems are manmade and due to lack of understanding of the People Holding the Ministerial Offices of their own Charge. As a bright (?) example look at the situation in Karnataka and Goa due to a single decision of the Supreme Court to ban Iron Ore mining with one shot of the pain without either them or a committee of Real Experts examining what are the repercussions of such a decision. As a result of the Supreme court decision (and the Government meekly sitting there without any corrective action) in Karnataka alone an investment of at least 5000 crores or so is idle, creating not only NPAs for the Banks but large scale unemployment, grave problem for the truck owners many of whom had pledged their houses and land for purchasing the trucks for iron ore transport, creating additional NPAs for Banks as well as NBFCs. Same is the case of the Barge Owners in Goa whose barges are idle but the loan instalments are not idle.

Coming to the money part of this one case of iron ore mining alone, the stoppage of supply of iron ore of Rs. 3000 per ton has stopped the production of steel of Rs 30000 per ton, apart from the stuck finances of the Steel Plants, Trucks, Barges and the cost of unemployment of thousands of people who are idling.

The problem should have been sorted out by sending the owners to jail and handing over the mines to the actual users of iron ore (not the exporters) to use the ore as before for producing steel. This would have retained most of the employment as well as keeping the investment productive.

The export of Iron Ore must be expressly banned. We have good quality of Iron Ore but not in abundance to last us for several generations.

This is just one case.

In Coal Supply also the whole country is held to rnsome by one Coal India by producing bad quality coal. There is no competition and the Country pays the high price to economy out of insufficient coal production (of bad quality).

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