"We need more Lehmans" - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

"We need more Lehmans" 

A  A  A
In this issue:
» Jim Roger's view on Lehman Brothers
» Bernanke says recession is very likely over
» Airlines' mounting losses continue
» India needs 'clever' regulations
» ...and more!

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It's been a year since the demise of Lehman Brothers, a catastrophic event that deepened the credit crisis, sent the financial markets into a tailspin, froze credit and caused governments across the world to bail out big institutions that were hitherto deemed 'too big to fail'. What is more, since then a debate has raged worldwide whether preventing Lehman Brothers from bankruptcy would have alleviated the crisis that ensued.

As reported in the Economist, while from a purely economic point of view the failure of Lehman hit global economies very badly, from a political point of view bailing out financial institutions then drew considerable criticism as it created moral hazard. Infact, the Economist further reported that at some point political pressures would have required a big firm to go bust. After all, it was only after the Lehman incident that global governments got into damage control mode.

Interestingly, investment guru Jim Rogers believes that the global financial system needs more failures like Lehman Brothers to restore a functioning free market. This is what he said, "Market fundamentals are that failures should collapse and be replaced by creative new forces rather than being propped up as zombies. Financial institutions have been failing for centuries and the world has survived." We believe that bailing out the financial system was inevitable given the enormous pain that would have followed. Having said that, mechanisms will have to be built into the system that will ensure that such a financial blunder is not repeated in the future.

01:06  Chart of the day
India may be one of the fastest growing countries in the world but it seems to be living in the Dark Age. When it comes to providing electrticity to its cities, towns and villages, it ranks abysmally low as compared to its developed peers. As today's chart of the day shows, the electrification rate in India is as low as 56%. In comparison, other countries forming the BRIC nations, chiefly China and Brazil have electrification rates of 99% and 98% respectively. While the importance of infrastructure and power have been given its due in Budget speeches, obviously the Government needs to give equal importance to execution as well. How many times have we heard in the past that the the proposed targets of the Five Year Plans have not been met? Sadly, often enough.

(Data Source: United Nations Human Development Report)

Good regulation is what saved the Indian banking sector from throwing up the likes of Citibank after the global subprime crisis. While the formal Fed chief Mr. Alan Greenspan has criticised the excessive regulation in countries like India, we also have credible voices supporting our cause. Mr. Raghuram Rajan, the former chief economist of the International Monetary Fund (IMF) who also chaired a committee on financial sector reforms in India, believes that all India needs is 'clever' regulations. The economist who was amongst the few to predict the financial bubble in the West, has in an interview to a business daily, said that the global economic damage was largely inevitable due to the underlying rot already present in the system.

According to Mr. Rajan while government intervention, particularly in Western economies has helped quell the panic, the same was not without having long term impact on fiscal balances. Further, Mr Rajan has advocated RBI's focus on expanding access to financial services like savings and insurance rather than pushing credit down the throats of the poor. His views certainly hold significance in the light of financial sector reforms required for the evolution of Indian banking sector.

It may serve to temper those who have been expecting a quick 'V' shaped recovery for the global economy, but the US is likely to see a pace of recovery in 2010 which would be 'moderate' at best. This will be on the back of the unemployment rate coming down quite slowly amidst the realities of ongoing credit problems and efforts by US families to reduce their household debt, thus stifling consumption. That is the view that the US Federal Reserve Chairman Ben Bernanke shared in a recent speech, expressing further that even though from a technical perspective the recession is very likely over at this point, it's still going to feel like a very weak economy for some time to come. This is also due to the fact that most denizens of the US are still low on confidence when it comes to job security and their employment status, with highly restricted spending being the likely outcome of that. Thus what is sure is that any expectations of the global economy getting back to the heady days of the boom are not going to be met in a hurry.

As per the New York Times, airlines worldwide are expected to post a mammoth loss of US$ 11 bn by the end of the year. This is on the back of a 15% expected decline in revenues. Apparently, despite the signs of a recovery, high fuel costs and weak demand for travel continue to take toll on the industry. The situation is not very different in India, where airlines have to fight the additional battle of a skewed industry structure. We have highlighted earlier why the aviation industry is a disaster from the investors' perspective. It suffers from disadvantages in both input costs and pricing power. The highly capital intensive nature of operations and vagaries of crude oil prices make costs hard to control. The presence of many competitors and commoditisation of tickets due to travel portals exert a great deal of pressure on ticket prices.

In fact, Warren Buffett had once noted, "If I'd been at Kitty Hawk in 1903 when Orville Wright (inventor of the first successful airplane) took off, I would have been farsighted enough, and public-spirited enough--I owed this to future capitalists--to shoot him down. I mean, Karl Marx couldn't have done as much damage to capitalists as Orville did." Not the place you want to invest your money for the long term.

According to a World Bank report, agriculture output in India is likely to dip by upto 9% in the next 30 years due to climate change. The reason why India is so venerable is because of its geography as well as high level of poverty and population density. The Chief Economist of the World Bank believes that developing countries face 75-80% of the potential damage from climate change and that they urgently need help to prepare for drought, floods, and rising sea levels. It is estimated that global warming of 2 degrees celsius above pre-industrial temperatures - the minimum the world is likely to experience - could result in permanent reductions in GDP of 4% to 5% for South Asia. With the population growing at 1.5% annually the government needs to take urgent steps if India is to be a major player on the world stage.

As if the global financial crisis, the deficient monsoons and the impending water crisis that India faces were not enough, India's poor healthcare is expected to deal an added blow to the country's economy over the long term. As reported in a leading business daily, India urgently needs to spend more on healthcare and save its poor population from poverty and hunger or face the risk of slower economic growth. More than 27% of the undernourished population globally lives in India. And what's more, the government spending on healthcare is dismal at 1% of GDP. The government obviously needs to pull up its socks in this regard but we wonder how easy that will be given the rampant corruption and inefficiency. We talk about how India has the advantage over the developed world due to its younger population, but will that matter if the quality of life remains poor?

After opening in the positive, sustained buying activity enabled the BSE-Sensex to trade well above the dotted line at the time of writing (up 150 points). On the global front, while key Asian indices closed firm, European indices are also trading in the green currently.

04:56  Today's investing mantra
"In a difficult business, no sooner is one problem solved than another surfaces - never is there just one cockroach in the kitchen." - Warren Buffett
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5 Responses to ""We need more Lehmans""

Rob Miller

Jan 1, 2010




Sep 17, 2009

Projected estimate regarding shortfall of agriculture production & population growth in Asea is perfect.
Nobody in the central ministry is bothered about future which will leave worst for our next generation



Sep 16, 2009

I would very much wish that the finalisation of write up may be carried out after 15.40 hours so that the day's Market behaviour could be covered in it's entireity.
Please accept my appreciation for your dexterity,excellence and dedication. Thank you sirs.


Vishal Sharma

Sep 16, 2009

I note your comments about the airline industry with some caveat. It is possible to make the money in the industry - SouthWest, Singapore Airlines, Lufthansa, Republic, Ryan Air are great examples. Its just a difficult industry. But the philosophical question is - who is funding the 11 billion loss ? and if it is so bad does it mean air travel will end soon since no one will fund it..?



Sep 16, 2009

Fine. It follows the quote--Brevity is thesoul of wit

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