Manmohan Singh, shaken but not stirred

12 JULY 2008

Like James Bond's preferred martini, Prime Minister Manmohan Singh appears, after the Left withdrawal, shaken but not stirred. His Government is to face the Parliament on July 22 for a vote of confidence which appears to be touch and go, given the ease with which politicians can be convinced to switch loyalties. Hence, one can assume that the stockmarket will gyrate wildly in the next ten days and will then, depending on whether the Government survives (it will shoot up) or falls (it will drop down), decide its next move. Investors should head for the nearest psephologist!

It is interesting that the sensex shot up 614 points the day the Left decided to withdraw support to the Government, which proceeded with operationalising the nuclear deal with the USA, sensing that rational and overdue economic policies (such as pension, banking and insurance reform) would move ahead faster with naysayers out of the way. It fell at the end of the week on news of a poor growth in IIP (index of industrial production) which, at 3.8% in May 08 is the lowest in six years, combined with high inflation which at 11.8% is at a 13 year high.

This would have several ramifications, for it ought to spur the RBI to hike interest rates again, and to impound more of bank deposits through a hike in CRR, which would be negative for the stock market. The previous hikes by RBI have caused a fall in Government securities prices, and SBI is likely to see a Rs 700 crore Q1 drop due to mark-to-market losses on its Govt. securities.

To counter this the UPA Government may, probably, move ahead faster with pending bills on banking, insurance and pension reform which would be bullish for the market. Pension reform e.g. could see a larger chunk of their funds coming into the equity market, where it has a chance to appreciate, rather than in fixed income markets, where it doesn't.

So we are in for some volatile market movements in which shorter term profit booking may become the norm.

The immense irony of the situation is the whole background of petroleum sector policies that has led to the current face off. The nuclear deal is supposed to give India an option to use nuclear energy in future, though, at best, this would be under 10% of our needs.

The Government has followed a policy of subsidising, for the weaker sections of society, prices of petroleum products such as LPG and kerosene, used for cooking. By the by, it also started subsidising petrol and diesel, not used for cooking but used by those who cannot be described as weaker sections. Even the two products so used, are diverted to non needy persons. LPG goes to restaurants as well as in cars converted to its use. Kerosene goes to adulterate diesel and subsidises truckers. One would imagine that out of the Rs 230,000 crores estimated for such subsidies, perhaps 10%, or Rs 23,000 crores, may be for the genuinely needy and the other for the oil mafia, the car owners and the truckers.

Had Government found a simpler way to deliver the subsidies to those genuinely in need of them, such as coupons, or specially stamped ration cards, or whatever, it could then have spent the balance on developing alternative energy sources. It could have provided subsidies for solar energy (India has a lot of sun) or wind energy. Because of developments in technology for both, the cost of producing solar power or wind power is now quite affordable and much less than nuclear power over which there is so much of brouhaha.

Instead, the Government squandered its increased tax revenue subsidising, as one said, car owners, truckers and restauranters, and in so doing, destroyed 3 of its navratnas (nine jewels) viz. Indian Oil, HPCL and BPCL. It is also destroying ONGC and reducing its ability to invest for future energy resources.

By subsidising petrol, it is also encouraging its over use, which has caused India's current account deficit to go into the red. Besides which, it increases the problem of global warming which has now reached alarming proportions where the northern ice cap is melting.

Now there is a demand to impose a windfall tax on refiners in the private sector, after crude oil prices have shot up! Refineries buy crude, so increases in prices do not result in windfall profits but the contrary! Any profits they make is thus because of refinery design and efficiency and taxing efficiency to pay for an inefficient policy is surely not the best way to proceed.

Most of the well intentioned subsidy schemes waste a lot of resources and increase corruption. This is for lack of monitoring. On paper it looks good with increasing amounts of funds being spent on worthwhile causes; in reality a lot of those funds are siphoned off. One hopes that a future Government will take a hard look at how better to target subsidies.

Andy Grove, of Intel, wrote a famous book “Only the Paranoid Survive” in which he says that corporate management must be paranoid about threats to their businesses and look for the next inflection points, positioning themselves to get on it. General Motors, the world's largest auto company, has a market cap. of just $ 5.6b. (Economist, July 5). This was its market cap in 1954! So a really long term investor in it would have made no money after 54 years! Interestingly, Maruti Suzuki has a mcap of $ 4b. This is because GM did not see that one day, when prices of fuel were high enough, Americans would give up their love of the big cars (SUVs and pick up trucks) and reluctantly adopt smaller, sensible ones. Now that petrol costs $ 4.5/gallon, this is what is happening; fuel consumption is falling in the US for the first time. Sales of GM are down 15%, of Ford 28 and of Chrysler 36!! By subsidising petrol our Government is encouraging the over use of petrol; when prices are eventually raised, as they must be (Malaysia, Indonesia and Thailand did) what would happen to capacities built for the larger vehicles?

Another example of inflection points is what is happening at UBS, one of the largest banks in the world. Both UBS and Credit Suisse have become gargantuan. Their combined assets are over 7 times Switzerland's GDP! Because of the need to deploy such assets, they invested in sub prime securities and UBS is now taking a $38 b write off. Its stock is 70% below its Jun 07 peak!

Over the past four years our Government, too, had problems of plenty! Plenty of tax revenue thrown up by a booming economy. It, too, misspent the tax revenue and we now have to pay the price. Working out excesses from a system takes time. It also takes the courage of the next Government to accept past mistakes and start to take sensible economic decisions. That is the only way to assure a Governments long term survival. Short term measures to gain popularity, if not monitored well, ultimately lead to grief.

The next 10 days are likely to be choppy and only the quick on toes investors should participate. Thereafter it would depend if the Parliamentary bartender lets Manmohan be just shaken, or stirred!

J Mulraj is a stock market columnist and observer of long standing. His weekly column on stock markets has run for over 27 years. An MBA from IIM Calcutta, he has been a member of the BSE. He is Conference Head - India, for Euromoney. A keen observer of events and trends, he writes in a lucid yet readable style and takes up issues on behalf of the individual investor. Nothing pleases him more than a reader who confesses having no interest in stock markets yet being a reader of his columns. His other interests include reading, both fiction and non-fiction, bridge, snooker and chess.

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