What current European politics mean for India...

May 8, 2012

In this issue:
» Unemployment in developed world has surged
» Another tax rule has been abolished
» Losses of power distribution cos. mount
» Steel production capacities face hurdles
» ...and more!

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Austerity appears to be the most maligned term in Europe. At a time when debt has ballooned and needs to be trimmed down, resorting to austerity seemed a no brainer. But it is not as simple as that. The recent presidential elections in France and many smaller ones in countries across Europe have given out an unmistakable signal: citizens do not want austerity. Indeed, in France, Socialist Francois Hollande dethroned Nicolas Sarkozy as president simply because the former promised an end to austerity. A lot of this also has to do with economic growth. Most European countries including Britain have now sunk into recession and austerity measures to some extent have contributed to this. By any yardstick, the Europe crisis is here to stay for some time.

The US meanwhile has not managed to kick start growth either despite a zero interest rate regime for quite some time now. And China is also showing signs of slowing down as the developed world sinks into recession. So what does this uncertain global economic scenario mean for India and its stock markets?

As the global crisis in 2008-09 showed, weak sentiments overseas are bound to create some amount of volatility in the stock markets. What matters is how Indian companies are dealing with such an uncertain economic scenario. Indeed, besides a weak global economy, India has many other problems on its hand on the domestic front. These include stalling of reforms, corruption scandals, higher interest rates, rising fiscal deficit and firm oil and commodity prices. The latter especially are not only pressurizing government finances but are also hurting profitability of Indian companies. Further, this global uncertainty has also led many Indian companies to pile up cash. Because of this not being put to use, shareholders are suffering in the form of lower returns on equity. That said, companies do not want to give out this cash either as it saves them the effort of raising cash when it will be required in the future.

Taking a call on all such economic factors is not easy and mostly beyond the most of us. What ultimately matters is the kind of companies one chooses to invest in. These have to be the ones with strong management, a sound business model and less leverage and more cash. While they are bound to take a hit during uncertain times such as these, they will certainly be the fore runners when all these concerns die down and growth picks up. And while the near term outlook for India does look a bit bleak, there is no reason why its long term growth potential should be discounted.

Do you think a change in the political landscape in Europe and the uncertainty there will impact India going forward? Let us know your comments or post them on our our Facebook page / Google+ page.

 Chart of the day
There is a stark contrast between what the unemployment scenario was before the global crisis and after for the developed world. As today's chart of the day shows, barring Germany, unemployment for most developed countries has surged post the crisis. Indeed with so much debt and stagnation in growth, hiring plans have gone for a toss. And the governments' plan of pumping in stimulus measures has also proved a damp squib relying as it does on consumption. With incomes shrinking and the prospect of unemployment looming large, citizens in these countries are wary of going on a consumption spree. This means that the governments in both these regions will have to come out with something more radical if growth has to take off.

Data Source: The Economist

It seems to be a roll back season out here in India currently. Close on the heels of the controversial GAAR getting deferred by a year, another tax rule has been abolished. The one percent tax deducted at source (TDS) on immovable property that is. The rule that was to see the light of the day from October 2012 onwards has now effectively been scrapped.

Additional compliance burden is the main reason why the Finance Minister has chosen to take the step. And this seems to be true in some way. The purpose of the TDS was to create a data base of real estate transactions and hence, stem the flow of black money into the sector. But the fact remains that with stamp duty and registration already in place, black money scrutiny can be done even without the TDS. Thus, the Government appeared in no mood to create yet another administrative headache without the resultant benefits. The real estate sector has no doubt welcomed the move and this would also come as a welcome relief to home buyers.

What happens when costs are higher than income? The answer to this one is simple. It results in losses. This simple answer is one that most companies never ever wish to arrive at. But this has become an unfortunate reality for the power distribution companies. As per the rating agency, CRISIL, the losses of the power distribution companies has crossed Rs 2 trillion this year. The sector has been fraught with rising costs and lower consumer tariffs. The result being huge quantum of losses. Though banks have been able to fund a large part of these losses, the question remains as to how long this would continue? Unless the government allows these companies to raise power tariffs, there won't be an end to the current state of affairs. The government has to cautiously look at raising tariffs while helping the companies bring costs under control. Most power companies in India rely heavily on imported coal which is more expensive than domestic coal. But erratic supplies on the domestic side give the sector little choice. Ensuring smooth domestic coal supply, timely subsidy payments and higher tariffs is the need of the hour for the sector.

India had an ambitious target of achieving steel production capacity of 124 million tonne per annum (mtpa) from current 78 mtpa by FY12. In order to achieve this target, 301 MoUs were signed by steel companies with various state governments. However, most of these projects are yet to see the light of the day. Land acquisition, pending environment and forest clearances, raw material linkages and local law and order situation are some of the reasons for the delay. Because of this, investments worth billions of dollars are in cold storage. These include Rs 520 bn investment of South Korean steel giant Posco. It also includes Rs 500 bn investment of world's largest steel maker ArcelorMittal. The government has formed an inter-ministerial group which will monitor and coordinate on the issues concerning major investments in the sector. But unless the clearance process is fast-tracked, the steel industry could continue to struggle for some time.

Robin Hood was a heroic figure in English folklore. He was famous for "robbing from the rich and giving to the poor". Obama plans to do the same, albeit in a lawful manner with the "Buffet Rule". This is a tax increase for the millionaires proposed by the US President. Obama has suggested a minimum tax of 30% for those people earning at least US$ 1 m per year. A Congress Committee estimates that this could help raise an additional US$ 46.7 bn over the next 10 years. But this may still not help balance the US' budget. This highly debated increase in taxes would cover only 0.7% of the US$ 6.4 trillion increase in spending that would result over the next 10 years according to Obama's 2013 budget plan. But at least it is a start.

In the meanwhile, the Indian stock markets continued to trade weak. At the time of writing, the BSE Sensex was down by 166 points (1%). Barring PSU, FMCG and realty stocks all other sectoral indices were witnessing selling pressure. Asian stock markets were mostly trading in the green with China and Hong Kong being the only exceptions. Europe opened in the red.

 Today's Investing mantra
"Long-term competitive advantage in a stable industry is what we seek in a business. If that comes with rapid organic growth, great. But even without organic growth, such a business is rewarding. We will simply take the lush earnings of the business and use them to buy similar businesses elsewhere." - Warren Buffett

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    2 Responses to "What current European politics mean for India..."

    g r chari

    May 8, 2012

    It will certainly hurt India as it's foreign trade is linked to performance of developed nations in the global market. However, it will not be very harsh on India as our international exposure is limited, as compared to say, China. But, India's policy makers are in a sort of Harakiri mood (given the strong domestic growth potential) and that needs to be corrected -- point is, who is going to wake-up a sleeping dinosaur? The govt. needs to let go it's strangle hold on the economy and stick to the basics of governance.


    Abhay Dixit

    May 8, 2012

    We should always look at what politicians have for them in the law. 1% TDS on immovable property would create more problems for politicians as they are one of the biggest buyers. Hence it was scrapped.

    Incidently, FM played a neat trick by coming out with ridiculous laws in the budget (which were later taken back)to divert attention from ballooning deficit. He succeeded.

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