The collapse of Fannie Mae and Freddie Mac has vital lessons for India
Fannie Mae (Federal National Mortgage Association) and Freddie Mac (Federal Home Mortgage Corporation) are the two largest mortgage finance companies in the USA, established respectively in 1938 and 1970. While they are owned by ordinary shareholders, they have the unique backing of the government and are called Government Sponsored Entities (GSEs). This means that they are supported by the Federal Reserve and the government and are entitled to lines of credit and a bailout in case of a crisis. More importantly they are exempted from taxes and outside SEC (Securities Exchange Commission) oversight.
The two firms do not lend directly to home owners. They instead buy mortgages from approved lenders and then sell them on to investors. They guarantee or own roughly half of the $12 trillion US mortgage market. These are the two ways in which they make money. Almost all US mortgage lenders, from huge financial institutions like Citigroup to small, local banks, rely on Fannie Mae and Freddie Mac to keep up their businesses. Lenders look to them for the funds they need to meet consumer demand for home mortgages. By linking mortgage lenders with investors, the two firms keep money available at a low cost. These companies buy mortgages from banks and take on the risks of possible defaults — allowing banks to make even more mortgages.
The sub-prime crisis centred on a housing collapse due to reckless lending encouraged by a benign interest rate regime. When interest rates rose and borrowers faced higher outflows, they began to default. The process of securitisation fostered by these cousins made the process complex as the originators of the loans got mixed up and the final investors lost badly. Fannie Mae and Freddie Mac made losses of around $11 bn in the last three quarters. Further, news spread that they were under-capitalised, meaning they would have to go to the market for capital infusion. But, when an institution is under-capitalised and making losses, no one is willing to invest in their equity. This created the panic.
The implications of a collapse are serious. If these two entities are not able to borrow from the market or can do so only at a high cost, then the market senses trouble and would be wary of lending to those seeking housing loans. Housing has been a major stimulant for the US economy and the present slowdown could be largely attributable to the collapse in this business. This led to the eventual crisis as their share prices tumbled as investors lost confidence in these institutions.
The basic paradox here is that these two GSEs are considered to be too large to fail (we heard that of Enron earlier) and simultaneously considered too large to rescue. Therefore, direct government action was mandatory to retain market confidence. This was done in three ways. First, the Treasury decided to buy a stake in their equity to augment capital. Then, the New York Fed chipped in by providing a line of credit and third was the imposition of a condition where the Fed would henceforth have oversight of their operations.The story of these cousins is pertinent to us because mortgage finance has been gaining in importance in India over the last five years. However the share of these loans in total bank credit is only about 15 per cent. Housing finance companies on their part have been relatively more conservative with their lending operations and are well capitalised.
But the issue is broader. In a rising interest rate scenario, we always run the risk of defaults and the institutions would come under pressure as losses mount when defaults take place. Today the ratio of Non-performing assets to total loans is around 1 per cent in this segment, which is low. Further, the securitisation habit, which transfers risks to other entities and can make the originator a bit callous, has not really caught on as yet. Our public sector banks — GSEs in the US sense — broadly resemble the Freddie-Fannie cousins, but there is a critical difference. Public sector banks are well regulated by the RBI which has imposed prudential lending norms, absent in case of the American counterparts.
The Freddie Mac and Fannie Mae episode sends a warning signal across the world and highlights the importance of regulation in the financial business.Regulation of GSEs becomes more critical because, there could be a tendency for such institutions to slip into somnolence and hence become reckless especially if they are sure that they will be bailed out by the government.
Saturday, July 19, 2008
Friday, July 18, 2008
Is Stagflation on the Horizon: Buisness Line: 18th July 2008
To contain cost-push inflation a demand-pull solution is being used by central banks. This has the potential to slow down growth.
Stagflation is a phenomenon which surfaced in the 1970s when the world went through the first oil crisis. Curiously this was also the beginning of the temporary end of Keynesianism because it was shown for the first time that inflation and unemployment can coexist.
We are now in the midst of another oil crisis and the question which is being raised is whether we are moving towards stagflation once more. The question is germane to most countries, especially the US, the UK, the Euro zone and India. The responses of monetary authorities have, however, been disparate.Global phenomenon
The rise in inflation is a concern everywhere, and is truly a global phenomenon. The US is worried, and so are the ECB (European Central Bank) and BoE (Bank of England). We in India are petrified of double digit inflation but seem to have reconciled to it after the initial umbrage.
It is agreed that inflation is a cost-push phenomenon with higher oil and food prices driving it up. And it is also accepted, albeit very reluctantly, that there is little that can be done as both food and oil prices are outside the purview of policy action in the short run.
There appears to be no solution to the oil price crisis as new highs are reached. Food prices remain an enigma, with dwindling stocks leading to riots in Mexico, Morocco, Uzbekistan, Yemen, Guinea, Mauritania and Senegal. The rich nations are also worried on account of the diversion of land to produce crops for bio-fuels. Tough stance
In this situation, most central banks have taken a tough stance, of increasing interest rates to control inflation. The ECB has done it and the RBI is doing the same. However, the Fed remains un-nerved and the BoE is not reducing the rates any further.
Inflation is just above 4 per cent in the US and is inching towards this mark in the Euro zone, which is well above the 2 per cent norm that has to be pursued. In the UK inflation is around 3.5 per cent while it is getting close to 12 per cent in India. GDP growth expectations vary, from 7-8 per cent in India to 1.7 per cent in the UK and the Euro zone; it is expected to be lower at 1.4 per cent in the US.
The central banks are in the process of tightening the monetary tools, such as interest rates and reserves. What happens when interest rates are raised? Consumption and investment get curtailed, and this could lead to a cut back in production and accumulation of stocks. Under such circumstances, labour is released leading to higher unemployment. While this is an extreme situation, there would definitely be a slowdown in employment growth. Back to 1970s?
Therefore, there would be a throwback to the 1970s, with high inflation, low growth and unemployment. The route, however, would be slightly different. In the 1970s, the oil shock caused GDP to fall and unemployment to increase. The governments increased expenditure to prop up the economy. But this did not lead to higher production and resulted in inflation. Today, higher oil prices have not resulted in low growth — in fact growth in 2006 and 2007 has been fairly satisfactory throughout the world.
However, to contain cost-push inflation a demand-pull solution is being used by central banks, which has the potential to slow down growth.
The explanation given by most central banks is that what matters more today is not inflation so much as inflationary expectations.
Central bank action sends strong signals to the people that it is keen to protect the price level and, hence, ensure stability. This counters the higher spending that comes into play when wages rise in response to inflation.
But if one looks at the Federal Reserve, it has taken a more liberal view and prefers to protect growth even if it means a little more inflation. The initial conditions in the US were different from those in the ECB zone or India, as it was buffeted by the financial crisis which threatened the edifice of growth. The priority was to bring about growth at any cost (elections too are around the corner) which made the Fed reduce interest rates to 2 per cent.
After embarking on such a path, it would have been difficult to take an aggressive stance on inflation. The best that it is doing today to counter inflation is not to lower rates further. There were expectations of the Fed lowering interest rates further given the rather nebulous growth prospects in the economy.
The ECB is more worried about the inflation rate being twice the acceptable level and has evidently put growth as a secondary objective. Therefore, one may expect the ECB to raise rates further in the course of the year if inflation continues to bite. The BoE has resisted the urge to lower interest rates and has preferred to take the more conservative route of neutrality in the present circumstances. Inflation concerns
The RBI, on the other hand, has little choice as inflation is a major concern and is politically unpalatable. Hence, with growth being less of a concern and inflation the major stumbling block it is not surprising that the focus has been on inflation. But this runs the threat of slowing down the economy and leading to a near stagflation state as the growth projections have now slipped to 7-8 per cent from 8.5-9 per cent.
Hence, while technically it may not be a recession, which in the West is defined as two successive quarters of negative growth, such a slowdown would mirror the effects of a recession.
Thus one does witness a varied set of reactions from central banks across the world motivated by different concerns. There is really no unique approach to a common problem: one size cannot fit all.
Stagflation is a phenomenon which surfaced in the 1970s when the world went through the first oil crisis. Curiously this was also the beginning of the temporary end of Keynesianism because it was shown for the first time that inflation and unemployment can coexist.
We are now in the midst of another oil crisis and the question which is being raised is whether we are moving towards stagflation once more. The question is germane to most countries, especially the US, the UK, the Euro zone and India. The responses of monetary authorities have, however, been disparate.Global phenomenon
The rise in inflation is a concern everywhere, and is truly a global phenomenon. The US is worried, and so are the ECB (European Central Bank) and BoE (Bank of England). We in India are petrified of double digit inflation but seem to have reconciled to it after the initial umbrage.
It is agreed that inflation is a cost-push phenomenon with higher oil and food prices driving it up. And it is also accepted, albeit very reluctantly, that there is little that can be done as both food and oil prices are outside the purview of policy action in the short run.
There appears to be no solution to the oil price crisis as new highs are reached. Food prices remain an enigma, with dwindling stocks leading to riots in Mexico, Morocco, Uzbekistan, Yemen, Guinea, Mauritania and Senegal. The rich nations are also worried on account of the diversion of land to produce crops for bio-fuels. Tough stance
In this situation, most central banks have taken a tough stance, of increasing interest rates to control inflation. The ECB has done it and the RBI is doing the same. However, the Fed remains un-nerved and the BoE is not reducing the rates any further.
Inflation is just above 4 per cent in the US and is inching towards this mark in the Euro zone, which is well above the 2 per cent norm that has to be pursued. In the UK inflation is around 3.5 per cent while it is getting close to 12 per cent in India. GDP growth expectations vary, from 7-8 per cent in India to 1.7 per cent in the UK and the Euro zone; it is expected to be lower at 1.4 per cent in the US.
The central banks are in the process of tightening the monetary tools, such as interest rates and reserves. What happens when interest rates are raised? Consumption and investment get curtailed, and this could lead to a cut back in production and accumulation of stocks. Under such circumstances, labour is released leading to higher unemployment. While this is an extreme situation, there would definitely be a slowdown in employment growth. Back to 1970s?
Therefore, there would be a throwback to the 1970s, with high inflation, low growth and unemployment. The route, however, would be slightly different. In the 1970s, the oil shock caused GDP to fall and unemployment to increase. The governments increased expenditure to prop up the economy. But this did not lead to higher production and resulted in inflation. Today, higher oil prices have not resulted in low growth — in fact growth in 2006 and 2007 has been fairly satisfactory throughout the world.
However, to contain cost-push inflation a demand-pull solution is being used by central banks, which has the potential to slow down growth.
The explanation given by most central banks is that what matters more today is not inflation so much as inflationary expectations.
Central bank action sends strong signals to the people that it is keen to protect the price level and, hence, ensure stability. This counters the higher spending that comes into play when wages rise in response to inflation.
But if one looks at the Federal Reserve, it has taken a more liberal view and prefers to protect growth even if it means a little more inflation. The initial conditions in the US were different from those in the ECB zone or India, as it was buffeted by the financial crisis which threatened the edifice of growth. The priority was to bring about growth at any cost (elections too are around the corner) which made the Fed reduce interest rates to 2 per cent.
After embarking on such a path, it would have been difficult to take an aggressive stance on inflation. The best that it is doing today to counter inflation is not to lower rates further. There were expectations of the Fed lowering interest rates further given the rather nebulous growth prospects in the economy.
The ECB is more worried about the inflation rate being twice the acceptable level and has evidently put growth as a secondary objective. Therefore, one may expect the ECB to raise rates further in the course of the year if inflation continues to bite. The BoE has resisted the urge to lower interest rates and has preferred to take the more conservative route of neutrality in the present circumstances. Inflation concerns
The RBI, on the other hand, has little choice as inflation is a major concern and is politically unpalatable. Hence, with growth being less of a concern and inflation the major stumbling block it is not surprising that the focus has been on inflation. But this runs the threat of slowing down the economy and leading to a near stagflation state as the growth projections have now slipped to 7-8 per cent from 8.5-9 per cent.
Hence, while technically it may not be a recession, which in the West is defined as two successive quarters of negative growth, such a slowdown would mirror the effects of a recession.
Thus one does witness a varied set of reactions from central banks across the world motivated by different concerns. There is really no unique approach to a common problem: one size cannot fit all.
State-sponsored inflation: Economic Times: 18th July 2008
Inflation is becoming progressively a major concern since the number has reached crazy heights; and the more pessimistic ones are already likening this situation to the pre-reforms crisis phase. All possible options have been explored to tackle inflation. The CRR and repo rates have been relentlessly raised. Imports have been liberalised and exports curtailed. Stock limits have been applied for essential commodities. Tariffs have been reduced and even futures trading in some commodities have been banned. Yet, there seems to be no respite from inflation, which has been driven by fundamentals as well as global factors. In this milieu the role of government has escaped attention. The purpose here is to examine the possible inadvertent part played by the government in fuelling inflation, which may be called ‘state-sponsored inflation’. Government here should not be interpreted as the existing or past governments, but simply as the entity which runs the country and has economic policies to support its functioning. The approach is from the theoretical angle and there are no political undertones as this would hold good for governments anywhere in the world. The government comes into the picture several ways. To begin with, it controls the prices of several essential goods comprising the wholesale price index (WPI). There is the MSP (minimum support price) which is announced for several crops every year, at the time of sowing. The idea is that the farmers should be aware of the price to be received at harvest time. It is calculated by the Commission on Costs and Prices (CACP), which determines the price based on several parameters such as price last year, cost of cultivation, cost of living, relative prices of other crops, etc. This is fixed for all major crops including cereals, pulses, oilseeds and fibres. It is active mainly in rice and wheat and to an extent in cotton and sugarcane. But, this sets the tone for prices in the market as a floor is set by the government itself. Curiously, today the build up of excess buffer stocks when production has peaked has created a shortage in the market for foodgrains as prices are increasing. Now, products such as rice, wheat, cotton and sugarcane have a weight of 6.79% in the WPI and directly enter the inflation basket. So, when the MSP of rice or wheat is increased, one may expect the inflation numbers to move upwards. If others like coarse cereals, pulses and oilseeds are added, then the weight goes up by 3.89%. For the last season, the MSPs of paddy, bajra, maize, ragi, arhar, moong, urad, masoor and barely were raised by over 10%. Intuitively, one can guess the impact on inflation. Therefore, in the agri-sphere, one can say that 10.68% of the 22.03% weight of primary articles has a strong government influence. The entire mineral oils group which has a weight of 6.99% is dormant as long as the government decides not to change their administered prices. But, the moment it does, then the prices for the entire group moves up by varying degrees. This component is nearly 50% of the entire group of fuel products in the WPI. Here the government faces a conundrum. If fuel prices are not raised or the MSP is increased, then the subsidy bill goes up, pushing the fiscal balances into jeopardy. If the government adjusts fuel price, then inflation goes out of hand. In fact, while the direct impact of fuel prices is 6.99%, the indirect effect is even higher as fuel products go as feedstock into products such as fertilisers, pesticides and other chemicals which in turn add to the cost of cultivation. Also as transportation costs go up, the prices of all commodities in the WPI would move up as transportation is part of all costs of production. Hence, the indirect impact can be even more severe than the direct impact, which is hard to quantify. Within the manufactured products group, sugar (where the price is controlled partially) accounts for 3.62% of the WPI. Besides, as the SMP (statutory minimum price) of sugarcane is increased, the price of sugar goes up. The other route for state sponsored inflation is taxation. Today, total indirect taxes, which fall essentially on manufactured goods (a very small part goes on agri-products) account for around 30% of value added in manufacturing. And given that manufactured goods have a weight of 63.75% in the WPI, we are really speaking of another 19% of inflation being driven by government policy. Taxes have been moving down in the past, but, prices generally tend to be sticky in the downward direction. Also with the exception of probably the consumer goods industry, the lower tax benefits are seldom passed to the consumer. What does all this add up to? Around 21% of the WPI is directly influenced by government action where the actual impetus is provided by the state. The government has a problem here since in the agricultural sector, where farming is the only means of livelihood for workers, an increase in MSP is the only way to protect against core inflation. Since productivity is low and there is no significant increase in acreage under cultivation, farmers would slip into poverty in the absence of such increases in prices. If we add the other 19% taxation effect, the government can actually move 40% of the inflation numbers directly. The indirect impact would be hard to quantify as all components are inter-related: higher taxes on steel push up the price of automobiles, engineering goods and so on. On a conservative side, the indirect effects of all these components especially fuel and agri-products could influence another 10% of the price index. This means that almost 50% of the WPI is under the purview of the government. Hence, it can be seen that one of the dominant causes of inflation is the government and such state-sponsored inflation cannot be escaped. All these monetary policy measures or bans may just be like chasing a crooked shadow, especially since the genesis of the irksome double- digit inflation rate, ironically, lies within.
Wednesday, July 16, 2008
Does Core Inflation Really Matter: 17th July 2008
Economists argue the RBI's actions would be different if it targeted 'core' inflation - but using this wouldn't really change things argues.
A concept that has become pertinent today is core inflation. Central banks are supposedly looking at core inflation now because it is felt that what needs to be affected by monetary policy is not ‘general' inflation but ‘core' inflation. What is this concept and in our own context, which of them should be tracked?
Core inflation, as the name suggests, is basically inflation that is not peripheral and is ingrained in the system. To be more specific, this theory says that food and fuel prices in particular are peripheral as they are affected by the prevailing environment and may not hold forever, being essentially transient in nature. In fact, they are supposed to be mean-reverting, implying thereby that while these prices may go up in the short run due to some disturbance in the farm sector or oil economy, they would tend to revert to equilibrium in the medium run. And such inflation is really out of the purview of anyone — after all you cannot stop the OPEC from raising prices nor can you counter the shortfall in farm production by pushing prices down artificially for a long time. This means that what matters are the prices of other products that will not tend to asymptotically move back towards a hypothetical normal. In case of the other goods, their prices would tend to be sticky in the downward direction and hence all increases could be taken to be of a permanent nature. If this is so, then the central bank should logically target only core inflation.
Now, the concept of core inflation can be contested since when we assume that inflation of food and fuel products returns to a normal, it is too simplistic an assumption to make. Oil prices are increasing world over and it would be absurd to think that these prices will go back to the double digit levels of, say, 2006. The same holds for food prices. When they rise, and so does general inflation, this number gets factored in by farmers when they are fixing their prices for the next crop. Under these conditions, they will not go back to the normal but will raise it above this level. Hence, this level will keep moving along gradually in the upward direction along with the inflation line. Therefore, even when there is a good harvest, there is only a partial correction in prices as farmers have to buffer in the increased cost of living caused in the previous cycle on account of inflation. Further, since the food crisis today is on account of a fundamental shift in cropping pattern globally due to biofuel consideration, it is unlikely that the higher prices today will actually dip to the low levels of 2006 or 2007.
Even so, from the point of view of an academic discussion, it would be interesting to see what variations in inflation have been seen in India in the last quarter of a century with respect to core and general inflation . Core inflation here excludes food and related manufactured products and fuel products. The core inflation products account for approximately 65 per cent of the present WPI when cereals, pulses, oilseeds, manufactured food products and fuel products are excluded. The above table has information on the two inflation rates averaged across five year periods for the last 25 years.
One feature that stands out is that there has not been much of a difference between general and core inflation in the Indian context. The difference at best has been one percentage point and there has been no definite trend as such in terms of widening or narrowing down over this period of time. However, a micro-analysis of the same reveals that in the period up to 1990, differences between the two were over one percentage point in six out of eight years. Further, in six out of 25 years, core inflation was actually higher than the general inflation rate, which could be explained by the fall in primary product prices due to good harvests. However, the same has not been observed of late, when harvests were good. In fact in 2007-08, when agricultural production peaked, the difference between the two rates was maintained at 0.8 per cent. Again, in 1996 and 1999, there was a difference of as much as 3 percentage points between the two, which could be attributed to higher farm prices.
However, on a long-term basis, core inflation appears to be not more than one percentage point different from the general inflation rate. This may be explained by the inherent upward pressure exerted by general inflation on future food prices that makes a large part of the increase in food prices permanent in nature. Oil prices are administered and are rarely reduced, given the fact that products are heavily subsidised by the government and oil companies. Therefore, this component too becomes more or less permanent in nature.
Therefore, when it comes to inflation targeting, the RBI will not really be off the mark by tracking the general inflation rate. Also, the fact that the difference is very small would mean that we cannot talk differently of a core inflation number as this rate varies with the general inflation rate. Hence, we will have to continue expressing our ‘desired inflation rate' as the ‘targeted rate' and not the ‘core inflation rate'.
A concept that has become pertinent today is core inflation. Central banks are supposedly looking at core inflation now because it is felt that what needs to be affected by monetary policy is not ‘general' inflation but ‘core' inflation. What is this concept and in our own context, which of them should be tracked?
Core inflation, as the name suggests, is basically inflation that is not peripheral and is ingrained in the system. To be more specific, this theory says that food and fuel prices in particular are peripheral as they are affected by the prevailing environment and may not hold forever, being essentially transient in nature. In fact, they are supposed to be mean-reverting, implying thereby that while these prices may go up in the short run due to some disturbance in the farm sector or oil economy, they would tend to revert to equilibrium in the medium run. And such inflation is really out of the purview of anyone — after all you cannot stop the OPEC from raising prices nor can you counter the shortfall in farm production by pushing prices down artificially for a long time. This means that what matters are the prices of other products that will not tend to asymptotically move back towards a hypothetical normal. In case of the other goods, their prices would tend to be sticky in the downward direction and hence all increases could be taken to be of a permanent nature. If this is so, then the central bank should logically target only core inflation.
Now, the concept of core inflation can be contested since when we assume that inflation of food and fuel products returns to a normal, it is too simplistic an assumption to make. Oil prices are increasing world over and it would be absurd to think that these prices will go back to the double digit levels of, say, 2006. The same holds for food prices. When they rise, and so does general inflation, this number gets factored in by farmers when they are fixing their prices for the next crop. Under these conditions, they will not go back to the normal but will raise it above this level. Hence, this level will keep moving along gradually in the upward direction along with the inflation line. Therefore, even when there is a good harvest, there is only a partial correction in prices as farmers have to buffer in the increased cost of living caused in the previous cycle on account of inflation. Further, since the food crisis today is on account of a fundamental shift in cropping pattern globally due to biofuel consideration, it is unlikely that the higher prices today will actually dip to the low levels of 2006 or 2007.
Even so, from the point of view of an academic discussion, it would be interesting to see what variations in inflation have been seen in India in the last quarter of a century with respect to core and general inflation . Core inflation here excludes food and related manufactured products and fuel products. The core inflation products account for approximately 65 per cent of the present WPI when cereals, pulses, oilseeds, manufactured food products and fuel products are excluded. The above table has information on the two inflation rates averaged across five year periods for the last 25 years.
One feature that stands out is that there has not been much of a difference between general and core inflation in the Indian context. The difference at best has been one percentage point and there has been no definite trend as such in terms of widening or narrowing down over this period of time. However, a micro-analysis of the same reveals that in the period up to 1990, differences between the two were over one percentage point in six out of eight years. Further, in six out of 25 years, core inflation was actually higher than the general inflation rate, which could be explained by the fall in primary product prices due to good harvests. However, the same has not been observed of late, when harvests were good. In fact in 2007-08, when agricultural production peaked, the difference between the two rates was maintained at 0.8 per cent. Again, in 1996 and 1999, there was a difference of as much as 3 percentage points between the two, which could be attributed to higher farm prices.
However, on a long-term basis, core inflation appears to be not more than one percentage point different from the general inflation rate. This may be explained by the inherent upward pressure exerted by general inflation on future food prices that makes a large part of the increase in food prices permanent in nature. Oil prices are administered and are rarely reduced, given the fact that products are heavily subsidised by the government and oil companies. Therefore, this component too becomes more or less permanent in nature.
Therefore, when it comes to inflation targeting, the RBI will not really be off the mark by tracking the general inflation rate. Also, the fact that the difference is very small would mean that we cannot talk differently of a core inflation number as this rate varies with the general inflation rate. Hence, we will have to continue expressing our ‘desired inflation rate' as the ‘targeted rate' and not the ‘core inflation rate'.
Friday, July 11, 2008
The Pain of Election Economics: Financial Express:11th July 2008
All governments are concerned about their economies especially with an election around the corner. The variable which matters most is inflation, because it affects everyone. Controlling inflation is, however, only a necessary condition for a positive electoral voice and not a sufficient one. One may recollect that in 2004, the government could not retain power despite the India Shining story. The anti-incumbency drive was stronger.
In the current financial year, the government has taken some populist steps which are debatable. The first relates to loan waivers. Loan waivers were announced by the government to the tune of Rs 60,000 crore in the Budget which has now been enhanced to close to Rs 72,000 crore. The justification cannot be questioned as successive governments have been announcing schemes to help industry as well as the infrastructure sector including IT. By this logic, there cannot be anything wrong in giving concessions to a class which has really suffered in the last few decades. But, such waivers create a nationwide moral hazard wherein farmers, both rich and poor, are induced to default on payments, which was what was recently observed in case of tractor loans. In fact, the recent SBI case reflects the flaws in such schemes as it comes in the way of banking prudence, at a time when we are all talking of global best practices that have been advocated by Basel II. In fact there would be expectations of further waivers which will cause more willful defaults in future.
The fight against inflation has been spurred by a modicum of panic which will make the fiscal numbers look worse—doubling of fiscal deficit to around 5% of GDP. There have been five desperate moves, albeit some half hearted, to control inflation.
To begin with, the government has gone slow on raising the prices of oil products even while the oil companies are bearing the losses which are estimated to be Rs 500 crore a day and have cumulated to over Rs 200,000 crore.
Secondly, in a quest to control the growth in prices, the government has reduced the duties on imported edible oils, which again will end up increasing the deficit as its revenues will be affected.
The third manoeuvre on this front has been the excess procurement of wheat, which has crossed 21 mn tonnes this year—well above the 15 mn which the FCI procures every year. In fact, the high .procurement this year is around 45% of the total marketable surplus which has left a smaller quantity for the private players. This panic purchase and stocking of wheat will firstly push the prices up in the private space and also mean additional outlays on the part of the government to support this procurement programme.
The fourth distortion that has been caused is the ban on futures trading in 4 commodities. Prices continue to increase in the market due to shortfalls, and the government is now planning to hedge its price risk in wheat, which was banned last year on an international exchange. This could have been done on an Indian exchange had the ban on futures trading in wheat been revoked.
Lastly, in order to control inflation, the RBI has been continuously increasing the CRR which has already pushed up interest rates by 200 bps over the last 1 year while the repo rate has been increased by 100 bps. Given that inflation has been a supply driven phenomenon and has little to do with excess demand, the current scenario of liquidity being drawn out by the RBI could impact industrial growth when the busy season begins in and around September.
Hence, the cost of populism, which cannot guarantee success at the ballot box, has been a potential threat to the solvency of banks, widened the fiscal deficit, weakened the oil companies, created uncertainty in the commodity futures market and triggered a regime of higher interest rates.
In the current financial year, the government has taken some populist steps which are debatable. The first relates to loan waivers. Loan waivers were announced by the government to the tune of Rs 60,000 crore in the Budget which has now been enhanced to close to Rs 72,000 crore. The justification cannot be questioned as successive governments have been announcing schemes to help industry as well as the infrastructure sector including IT. By this logic, there cannot be anything wrong in giving concessions to a class which has really suffered in the last few decades. But, such waivers create a nationwide moral hazard wherein farmers, both rich and poor, are induced to default on payments, which was what was recently observed in case of tractor loans. In fact, the recent SBI case reflects the flaws in such schemes as it comes in the way of banking prudence, at a time when we are all talking of global best practices that have been advocated by Basel II. In fact there would be expectations of further waivers which will cause more willful defaults in future.
The fight against inflation has been spurred by a modicum of panic which will make the fiscal numbers look worse—doubling of fiscal deficit to around 5% of GDP. There have been five desperate moves, albeit some half hearted, to control inflation.
To begin with, the government has gone slow on raising the prices of oil products even while the oil companies are bearing the losses which are estimated to be Rs 500 crore a day and have cumulated to over Rs 200,000 crore.
Secondly, in a quest to control the growth in prices, the government has reduced the duties on imported edible oils, which again will end up increasing the deficit as its revenues will be affected.
The third manoeuvre on this front has been the excess procurement of wheat, which has crossed 21 mn tonnes this year—well above the 15 mn which the FCI procures every year. In fact, the high .procurement this year is around 45% of the total marketable surplus which has left a smaller quantity for the private players. This panic purchase and stocking of wheat will firstly push the prices up in the private space and also mean additional outlays on the part of the government to support this procurement programme.
The fourth distortion that has been caused is the ban on futures trading in 4 commodities. Prices continue to increase in the market due to shortfalls, and the government is now planning to hedge its price risk in wheat, which was banned last year on an international exchange. This could have been done on an Indian exchange had the ban on futures trading in wheat been revoked.
Lastly, in order to control inflation, the RBI has been continuously increasing the CRR which has already pushed up interest rates by 200 bps over the last 1 year while the repo rate has been increased by 100 bps. Given that inflation has been a supply driven phenomenon and has little to do with excess demand, the current scenario of liquidity being drawn out by the RBI could impact industrial growth when the busy season begins in and around September.
Hence, the cost of populism, which cannot guarantee success at the ballot box, has been a potential threat to the solvency of banks, widened the fiscal deficit, weakened the oil companies, created uncertainty in the commodity futures market and triggered a regime of higher interest rates.
Tuesday, July 1, 2008
No Percentage: DNA 2nd July 2008
We must establish a National Education Board that oversees a common curriculum.
Education today is a tricky game. Standards have changed as have evaluation processes and the structures we have created have reacted more often than not in a naïve way.
There was a time when a person with 80 per cent marks in 12th standard could walk into an Economics Honours course in St Stephen’s College, Delhi quite easily. But, with that score today one may not be able to dream of entering even a B-grade college.
Shift to Mumbai where junior colleges admissions are the talking point, and the situation is quite weird. When one wants to take admission to a junior college in Mumbai, one needs to apply on the basis of the marks obtained in 10th standard.
There are three main Education Boards (besides the IB which will soon create more problems) which provide this gateways: ICSE, CBSE and SSC. The first two are national-level Boards while the last one is conducted by the Maharashtra government.
The snob value attached to ICSE is highest as one gets to learn Shakespeare and recite Keats while CBSE provides easy transfer options across the country. The SSC Board is localised but more socialist as it caters to even the lowest common denominator and those from a vernacular background who can take this examination.
However, all students want to join junior college either because their schools do not offer the plus two curriculum as the ICSE and CBSE Boards do or because it is just ‘cool’ to go to college and dispense with uniforms and discipline. The SSC route necessarily entails a shift to junior college.
The only apparent objective way to short-list candidates for such admission is through marks. One may recall that even in the 90s, there was a preference for SSC as the marking was perceived as more liberal. Naturally this put other students at a disadvantage.
The solution was to become even more liberal as a result of which one comes across students scoring as high as 98 per cent at the ICSE and CBSE examinations. This really means that in five subjects considered, a person has scored 490 out of 500. The student also ends up getting 99 in English and Hindi, which prima facie appears difficult to digest.
Once the ICSE Board became more liberal, the CBSE Board followed suit leading to a competitive inflationary trend in marks, the result of which is an SSC student at a disadvantage. The problem with State Boards is that they follow the policy of inclusion wherein those studying in government-run schools are put on a par with those who are in the so called convent schools.
The normalisation process invariably scales up one set of marks while scaling down another which averages out the overall level. Ultimately, the topper ends up with 93 per cent or 94 per cent and may still struggle to get on to the first list of a top-rated college where the cut-off mark is higher on account of applications from students of other Boards that mark more generously.
In fact, in case of the ICSE Board, the best five subjects are chosen while in the SSC Board, one is saddled with three languages where it is difficult to get to the nineties. With competition between Boards reaching absurd limits, the day may not be far of when students starts getting 100 per cent. How then will colleges choose their students? Draw lots? One way out is for colleges to have quotas for each board.
One can hear anguished cries at such a proposal considering that we already have a polarised education thanks to reservations. The other is to scale down marks across boards. The problem here is that with already so many normalisations, another one will actually distort a student’s true performance.
The need of the hour is a National Education Board where a common curriculum is taught. This way the regional biases in textbooks of a state would be eliminated. The regional language could be made to vary across states which students could be asked to pass but whose marks would not be included in the final score.
All students would have a common knowledge. The normalisation problem would still be there when students take exams in the vernacular medium. But, at least, course content would be the same.
However, such an approach would have implementation issues. What happens to the superstructure of the Boards and their staff when we have a common education system? How would teachers be re-trained for what they have to teach? And what happens to parents who wants their children to access systems like say the IB with its high-snob value? These are issues which can be gradually overcome.
To draw an analogy from the corporate world, M&As are part of life, and if they make systems more efficient, so be it. This would also be a great leveler in our society which is fragmented in different ways.
Education today is a tricky game. Standards have changed as have evaluation processes and the structures we have created have reacted more often than not in a naïve way.
There was a time when a person with 80 per cent marks in 12th standard could walk into an Economics Honours course in St Stephen’s College, Delhi quite easily. But, with that score today one may not be able to dream of entering even a B-grade college.
Shift to Mumbai where junior colleges admissions are the talking point, and the situation is quite weird. When one wants to take admission to a junior college in Mumbai, one needs to apply on the basis of the marks obtained in 10th standard.
There are three main Education Boards (besides the IB which will soon create more problems) which provide this gateways: ICSE, CBSE and SSC. The first two are national-level Boards while the last one is conducted by the Maharashtra government.
The snob value attached to ICSE is highest as one gets to learn Shakespeare and recite Keats while CBSE provides easy transfer options across the country. The SSC Board is localised but more socialist as it caters to even the lowest common denominator and those from a vernacular background who can take this examination.
However, all students want to join junior college either because their schools do not offer the plus two curriculum as the ICSE and CBSE Boards do or because it is just ‘cool’ to go to college and dispense with uniforms and discipline. The SSC route necessarily entails a shift to junior college.
The only apparent objective way to short-list candidates for such admission is through marks. One may recall that even in the 90s, there was a preference for SSC as the marking was perceived as more liberal. Naturally this put other students at a disadvantage.
The solution was to become even more liberal as a result of which one comes across students scoring as high as 98 per cent at the ICSE and CBSE examinations. This really means that in five subjects considered, a person has scored 490 out of 500. The student also ends up getting 99 in English and Hindi, which prima facie appears difficult to digest.
Once the ICSE Board became more liberal, the CBSE Board followed suit leading to a competitive inflationary trend in marks, the result of which is an SSC student at a disadvantage. The problem with State Boards is that they follow the policy of inclusion wherein those studying in government-run schools are put on a par with those who are in the so called convent schools.
The normalisation process invariably scales up one set of marks while scaling down another which averages out the overall level. Ultimately, the topper ends up with 93 per cent or 94 per cent and may still struggle to get on to the first list of a top-rated college where the cut-off mark is higher on account of applications from students of other Boards that mark more generously.
In fact, in case of the ICSE Board, the best five subjects are chosen while in the SSC Board, one is saddled with three languages where it is difficult to get to the nineties. With competition between Boards reaching absurd limits, the day may not be far of when students starts getting 100 per cent. How then will colleges choose their students? Draw lots? One way out is for colleges to have quotas for each board.
One can hear anguished cries at such a proposal considering that we already have a polarised education thanks to reservations. The other is to scale down marks across boards. The problem here is that with already so many normalisations, another one will actually distort a student’s true performance.
The need of the hour is a National Education Board where a common curriculum is taught. This way the regional biases in textbooks of a state would be eliminated. The regional language could be made to vary across states which students could be asked to pass but whose marks would not be included in the final score.
All students would have a common knowledge. The normalisation problem would still be there when students take exams in the vernacular medium. But, at least, course content would be the same.
However, such an approach would have implementation issues. What happens to the superstructure of the Boards and their staff when we have a common education system? How would teachers be re-trained for what they have to teach? And what happens to parents who wants their children to access systems like say the IB with its high-snob value? These are issues which can be gradually overcome.
To draw an analogy from the corporate world, M&As are part of life, and if they make systems more efficient, so be it. This would also be a great leveler in our society which is fragmented in different ways.
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