Niall Ferguson follows a holistic concept of 'civilization' in his exploration on the shifting of the axis of economic power and dominance from the East to the West
The word ‘civilization’ conjures images of Kenneth Clark guiding us through historical sights in Europe in the BBC television serial by the same name. But according to Niall Ferguson, civilization should be looked at more broadly to include social, economic and political structures such as art, culture, urban life, living standards, laws, innovations and happiness. This is the theme he develops in his new book Civilization: The West And The Rest.
The author feels that for almost six centuries, before the western world started its dominance, major powers were the Orient (Roman) and Ottoman empires. There was then a sudden shift to the western view of the world which continues to be the dominant architecture today. A question that can be posed is whether or not after the financial crisis older powers like China and India would get resurrected to a prime position?
Curiously, the metamorphosis in civilizations followed patterns that evolved more by way of thinking than consciously by design. Being a historian, Ferguson takes us through 600 years of historical developments. The journey would be of interest to the student, but a bit taxing for the lay reader. While it appears that Ferguson’s six themes are economic in nature — competition, consumerism, science, medicine, property and work ethic — the narrative is a historian’s. This could make the reading hard at times as the author gets too involved in history that may not always be germane to the subject being tackled. But some insights on how the croissant or cappuccino evolved in Turkey are refreshing.
Let us look at these key applications or apps. Competition evolved from the time of spice trade that touched eastern regions. Western powers then began their commercial and military extensions, which brought in the competitive spirit and challenged eastern rulers. Second, the scientific revolution that came along with this dictum was inspired by the Renaissance, Reformation, music, painting and delved further into the realms of philosophy and scientific theories. Rulers such as Frederick the Great of Prussia overtly encouraged such developments, while Islamic empires lagged as they were unwilling to accept these blasphemous tendencies. Related to this application was the development of medicine, which helped increase longevity.
The fourth application, property rights, was the raison d'être for the existence of the state. This was part of the democratic process that worked in North America, but flopped in the southern continent. The protection of this right made capitalism flourish.
The fifth app was consumerism where the culture was to ‘work more, produce more and consume more’. A virtuous circle was thus created that was the hallmark of western societies. This laid the path for the growth of the industrial revolution, which had its origins in England where common law, low wages and the political framework supported it. The emphasis on clothing and the concept of western attire spread across countries including conservative regimes.
Lastly, work ethic was the clincher where Max Weber’s protestant ethic comes in. When religion tells you to work more and spend more, it reinforces the capitalist spirit. But why then did it appear that this system was to collapse? Greed is the answer, as nations such as the US spend more and save less. This is anti-Weber, as the nation now lives on borrowed money, which is not sustainable. The interesting question here is if there will be a reversal of fortunes for the western civilisation. Here, Ferguson blows hot and cold and does not devote too many pages. But he indicates this may not happen. While it is true that China has the ‘app’ of capitalism, Iran has science, Africa medicine and Turks consumerism, these are imports of western civilization and, hence, mere adaptations. They do not have all the six applications. And more importantly, these models are not exactly collapsing in the West even though there could be some deviations. Therefore, it is not doomsday for anyone as subsequent introspection will bring civilisation back on rails. But more importantly, it is still the victory of the western civilisation, whichever way we look at the world.
This book is definitely worth reading though for those with limited proclivities towards history, some of the pages can be skipped without disturbing the overall image.
Civilization: The West and the Rest
By Niall Ferguson
Penguin
Wednesday, June 22, 2011
The curious case of Inflation combat: Financial Express, 15th June 2011
In the last 15 months or so, the Reserve Bank of India (RBI) has relentlessly pursued the goal of inflation control as the number appears to be quite intransigent despite all the positive developments in agriculture. The results have not been encouraging so far and the impact has been limited.
How do we tackle inflation then? The answer could actually be staring in front of us that we have not taken into account. To understand more, let us look at the composition of inflation in terms of what are the sectors that influence inflation. Broadly speaking, primary products have a weight of 20%, fuel products 15% and manufactured goods 65%. Inflation has been relatively high in all the sectors by the pre-2009 standards and each of them is guided by a different government body that has influence over prices.
Let us look at primary products. Here the ministry of agriculture (MoA) has maintained that FY11 has been one of the best for agriculture. Yet prices have been rising and all the assurances of good monsoon, robust kharif and an ecstatic rabi harvest has not helped bring down prices. This is partly due to the fact that the ministry has been instrumental in increasing the minimum support prices (MSP) of all farm products. In the last 2 years, it has been increased by between 10% and 30%, which means that there is an inherent tendency for prices to go up as market benchmarks are increased. Last week, the MSPs were raised once again by the Cabinet Committee on Economic Affairs (CCEA) across pulses, cereals, oilseeds and fibres. This means that there is an inherent upward bias in the market even though the government physically only deals in procurement of wheat and rice. By counter-intuitive reasoning, it may be concluded that MSPs have driven inflation since the government maintains that the high MSPs have helped to shift crop patterns and increase output. Here we are not passing a value judgement on whether it is justified or not.
Now let us look at the fuel prices that are increasing by around 13%. Higher crude oil prices make state-run oil marketing companies unviable and there is this constant call to align petro-product prices with those in the market (including by economists). The ministry of petroleum (MoP) decides on the pricing policy. Motor spirit prices directly feed into inflation with a weight of around 1%, while diesel comes with a direct weight of close to 5% and an indirect influence of 0.75-1% on prices. Although it makes economic sense to increase prices, it also adds to inflation.
Then there is the ministry of finance (MoF), which has its opinion on the subsidy bill on food and oil. To ensure that the Fiscal Responsibility and Budget Management (FRBM) targets are adhered to, it is reluctant to increase its expenditure and hence deficit, and is exerting pressure on the MoP to increase fuel prices. Curiously, the government can enhance its expenditure without the fear of being caught in the RBI’s web of increasing interest rates as it gets its funds through the regular auctions, which come in at an average rate of around 8.4-8.5%.
The last sector, manufacturing, is the one which generates core inflation (non-food and fuel). If manufactured food products and textiles are excluded (as they are agro-based), then this group accounts for 45% of inflation and core inflation would be only 5% in April 2011. In fact, since April 2010, this entire group has shown an increase of between 5% and 6.5% consistently until April 2011 with limited volatility. This is where RBI policy can work.
But for this to happen we need to answer some questions. First, is consumption supported by bank finance increasing demand of houses (mortgages) or automobiles or consumer durable goods? Is investment by industry growing rapidly? Is industry holding on to large inventories? If the answer is yes, then interest rate hikes will lower demand by increasing cost of credit. But if the answer is a shoulder shrug then we may be barking up the wrong tree by raising rates.
The point that emerges is that we have a situation where different arms of the government are speaking different languages and expecting RBI to tackle inflation. So we have a case of food and fuel prices increasing on which RBI has no control—after all, no one borrows money to eat food. The poor anyway continue to starve as they are not credit worthy. Therefore, RBI may be forced to treat a malaise over which it really has limited control.
What is the solution? The MoA, CCEA, MoF, MoP and RBI should all sit together and discuss the inflation strategy. Currently we have every authority looking closely at its own jurisdiction and taking decisions to ensure that their houses are clean, while RBI has the tough job of finding solutions to inflation. We certainly must have all these ‘arms’ talk to each other continuously with a macro eye. This will ensure that we have a singular approach to inflation and eschew this seemingly chaotic situation where RBI is on one side and the others are pulling the strings in the other direction.
How do we tackle inflation then? The answer could actually be staring in front of us that we have not taken into account. To understand more, let us look at the composition of inflation in terms of what are the sectors that influence inflation. Broadly speaking, primary products have a weight of 20%, fuel products 15% and manufactured goods 65%. Inflation has been relatively high in all the sectors by the pre-2009 standards and each of them is guided by a different government body that has influence over prices.
Let us look at primary products. Here the ministry of agriculture (MoA) has maintained that FY11 has been one of the best for agriculture. Yet prices have been rising and all the assurances of good monsoon, robust kharif and an ecstatic rabi harvest has not helped bring down prices. This is partly due to the fact that the ministry has been instrumental in increasing the minimum support prices (MSP) of all farm products. In the last 2 years, it has been increased by between 10% and 30%, which means that there is an inherent tendency for prices to go up as market benchmarks are increased. Last week, the MSPs were raised once again by the Cabinet Committee on Economic Affairs (CCEA) across pulses, cereals, oilseeds and fibres. This means that there is an inherent upward bias in the market even though the government physically only deals in procurement of wheat and rice. By counter-intuitive reasoning, it may be concluded that MSPs have driven inflation since the government maintains that the high MSPs have helped to shift crop patterns and increase output. Here we are not passing a value judgement on whether it is justified or not.
Now let us look at the fuel prices that are increasing by around 13%. Higher crude oil prices make state-run oil marketing companies unviable and there is this constant call to align petro-product prices with those in the market (including by economists). The ministry of petroleum (MoP) decides on the pricing policy. Motor spirit prices directly feed into inflation with a weight of around 1%, while diesel comes with a direct weight of close to 5% and an indirect influence of 0.75-1% on prices. Although it makes economic sense to increase prices, it also adds to inflation.
Then there is the ministry of finance (MoF), which has its opinion on the subsidy bill on food and oil. To ensure that the Fiscal Responsibility and Budget Management (FRBM) targets are adhered to, it is reluctant to increase its expenditure and hence deficit, and is exerting pressure on the MoP to increase fuel prices. Curiously, the government can enhance its expenditure without the fear of being caught in the RBI’s web of increasing interest rates as it gets its funds through the regular auctions, which come in at an average rate of around 8.4-8.5%.
The last sector, manufacturing, is the one which generates core inflation (non-food and fuel). If manufactured food products and textiles are excluded (as they are agro-based), then this group accounts for 45% of inflation and core inflation would be only 5% in April 2011. In fact, since April 2010, this entire group has shown an increase of between 5% and 6.5% consistently until April 2011 with limited volatility. This is where RBI policy can work.
But for this to happen we need to answer some questions. First, is consumption supported by bank finance increasing demand of houses (mortgages) or automobiles or consumer durable goods? Is investment by industry growing rapidly? Is industry holding on to large inventories? If the answer is yes, then interest rate hikes will lower demand by increasing cost of credit. But if the answer is a shoulder shrug then we may be barking up the wrong tree by raising rates.
The point that emerges is that we have a situation where different arms of the government are speaking different languages and expecting RBI to tackle inflation. So we have a case of food and fuel prices increasing on which RBI has no control—after all, no one borrows money to eat food. The poor anyway continue to starve as they are not credit worthy. Therefore, RBI may be forced to treat a malaise over which it really has limited control.
What is the solution? The MoA, CCEA, MoF, MoP and RBI should all sit together and discuss the inflation strategy. Currently we have every authority looking closely at its own jurisdiction and taking decisions to ensure that their houses are clean, while RBI has the tough job of finding solutions to inflation. We certainly must have all these ‘arms’ talk to each other continuously with a macro eye. This will ensure that we have a singular approach to inflation and eschew this seemingly chaotic situation where RBI is on one side and the others are pulling the strings in the other direction.
Just FDI in retail isn't enough: 2nd June 2011 Financial Express
There is talk once again of allowing FDI into retail. This thought has been driven not so much by change in ideology of being less xenophobic but by the high food inflation numbers. The fear is quite palpable that inflation may not come down that easily and that FDI can provide some comfort. Let us see how this can work.
FDI in retail as typified by Wal-Mart or Carrefour are examples of how quality products are delivered to the customer at low prices. These companies provide end-to-end solutions to deliver superior results with the creation of logistical support being an integral part of their business models. They procure foodstuff cheap and have it delivered via their retail outlets through modern storage, processing and transportation, thus eschewing wastages. All this is done maintaining standardisation in quality, which adds value for the customer.
This looks like the cure that we are looking for, as the government has admitted that the extent of losses in horticulture could be around 40% due to absence of cold storage chains. The Budget provides incentives here and there, but definitely cannot create such superstructures. This is where FDI matters. Today, FDI is permitted in cold chains, but no one is interested as retail, which is the creamy layer, is out of its purview. Once allowed, their business models would bridge the gap. A study carried out by NABARD some years ago showed that the farmer gets just around 30% of the final price paid by the consumer in certain horticulture products. The World Bank puts this at around 15%. FDI will help to truncate this value chain and ensure that both sides get a better deal as it rakes in its profit. This way it is a win-win situation.
If the solution is quite simple then what is holding us back? Essentially the retail segment in India is in the unorganised sector with just about 3-4% qualifying as organised. A large number of small mom-and-pop stores exist that serve as points of sale with many being brought into the fold of some of the Indian corporates. A sudden influx of FDI would threaten these small outlets as well as the corporates that have built this retail franchise in the smaller towns.
Today consumers are driven by prices and quality. If both are offered, which will be the case with FDI, then the natural choice would be to switch loyalties. This is already evident in the metro cities where organised retail has made significant inroads, with the positioning in a mall working well for the owners as well as for the consumers from all income streams. Given that around 33 million are employed in this segment, will there be any adverse consequences? The kiranas will still have their place, given the smaller quantities that they deal with, provision of home delivery, credit etc.
Further, the solution would be to integrate these outlets in the model where they become franchisees of the superstore for a commission just as being done by chocolate, soft drinks and cosmetic firms. In fact, the fresh employment opportunities that will be generated would be significant with superior skill sets being imparted. The icing will be provided to the government in the form of better tax collection as organised retail has a tax audit trail.
The class to be affected severely would be the intermediaries who would lose their grip on the market. The barrier here will be erected in the form of political interference as there will be parties that are sympathetic to this class who will oppose this move as it will virtually keep them out of business once the model develops.
There is a concern of the FDI entrants squeezing the farmers, which has been the case in the West. This is something that the government has to address with its price support policies that are otherwise relevant for only rice and wheat in out context. This will minimise this threat of farmers being squeezed.
There are, however, two reforms that have to be implemented as precursors to getting in FDI into food retail. The first is that the APMC laws have to be amended to allow for free movement of farm products across states. In the absence of the 2003 Model Acts being passed, it will not make sense for any investor to enter this area. Currently, there are restrictions on the movement of goods across states and, as a result, products grown in a state can be sold only in the same region, which, in turn, imparts rigidity to prices given that the mandis are oligopolistic in nature. The other is to formally permit and encourage the concept of contract farming as this will benefit the farmers directly once the FDI investors are in. In fact, these two reforms will provide the current domestic organised retail this advantage that can minimise the distance between the foreign counterparts when they are permitted.
But, will this help to reduce food inflation? The answer is still a shoulder shrug because there are certain factors at play that have severed the relation between higher production and lower prices. The first is the price policy of the government. MSPs tend to increase the benchmark prices in the market even when there is no direct procurement. The second is that as farm productivity has been stagnant or increasing only marginally, farmers will increase their prices to maintain their consumption levels at higher inflation levels.
FDI, as a rule, is good for the country and in the case of retail (food) will definitely bring in value by filling lacunae that we have not been able to address in the last 60 years. By truncating the value chain and cutting down wastages, it can, along with ‘domestic organised retail’, change the landscape of retailing of food products. The farmers will gain, consumers will be better off, kiranas will survive or get integrated in the model while the nation benefits from the investments. The intermediaries will probably have a hard time, but then they were anyway not really adding value. Therefore, this should be welcomed and introduced with some urgency when sentiment is also at a high. But, this may not yet be a panacea for our price woes.
FDI in retail as typified by Wal-Mart or Carrefour are examples of how quality products are delivered to the customer at low prices. These companies provide end-to-end solutions to deliver superior results with the creation of logistical support being an integral part of their business models. They procure foodstuff cheap and have it delivered via their retail outlets through modern storage, processing and transportation, thus eschewing wastages. All this is done maintaining standardisation in quality, which adds value for the customer.
This looks like the cure that we are looking for, as the government has admitted that the extent of losses in horticulture could be around 40% due to absence of cold storage chains. The Budget provides incentives here and there, but definitely cannot create such superstructures. This is where FDI matters. Today, FDI is permitted in cold chains, but no one is interested as retail, which is the creamy layer, is out of its purview. Once allowed, their business models would bridge the gap. A study carried out by NABARD some years ago showed that the farmer gets just around 30% of the final price paid by the consumer in certain horticulture products. The World Bank puts this at around 15%. FDI will help to truncate this value chain and ensure that both sides get a better deal as it rakes in its profit. This way it is a win-win situation.
If the solution is quite simple then what is holding us back? Essentially the retail segment in India is in the unorganised sector with just about 3-4% qualifying as organised. A large number of small mom-and-pop stores exist that serve as points of sale with many being brought into the fold of some of the Indian corporates. A sudden influx of FDI would threaten these small outlets as well as the corporates that have built this retail franchise in the smaller towns.
Today consumers are driven by prices and quality. If both are offered, which will be the case with FDI, then the natural choice would be to switch loyalties. This is already evident in the metro cities where organised retail has made significant inroads, with the positioning in a mall working well for the owners as well as for the consumers from all income streams. Given that around 33 million are employed in this segment, will there be any adverse consequences? The kiranas will still have their place, given the smaller quantities that they deal with, provision of home delivery, credit etc.
Further, the solution would be to integrate these outlets in the model where they become franchisees of the superstore for a commission just as being done by chocolate, soft drinks and cosmetic firms. In fact, the fresh employment opportunities that will be generated would be significant with superior skill sets being imparted. The icing will be provided to the government in the form of better tax collection as organised retail has a tax audit trail.
The class to be affected severely would be the intermediaries who would lose their grip on the market. The barrier here will be erected in the form of political interference as there will be parties that are sympathetic to this class who will oppose this move as it will virtually keep them out of business once the model develops.
There is a concern of the FDI entrants squeezing the farmers, which has been the case in the West. This is something that the government has to address with its price support policies that are otherwise relevant for only rice and wheat in out context. This will minimise this threat of farmers being squeezed.
There are, however, two reforms that have to be implemented as precursors to getting in FDI into food retail. The first is that the APMC laws have to be amended to allow for free movement of farm products across states. In the absence of the 2003 Model Acts being passed, it will not make sense for any investor to enter this area. Currently, there are restrictions on the movement of goods across states and, as a result, products grown in a state can be sold only in the same region, which, in turn, imparts rigidity to prices given that the mandis are oligopolistic in nature. The other is to formally permit and encourage the concept of contract farming as this will benefit the farmers directly once the FDI investors are in. In fact, these two reforms will provide the current domestic organised retail this advantage that can minimise the distance between the foreign counterparts when they are permitted.
But, will this help to reduce food inflation? The answer is still a shoulder shrug because there are certain factors at play that have severed the relation between higher production and lower prices. The first is the price policy of the government. MSPs tend to increase the benchmark prices in the market even when there is no direct procurement. The second is that as farm productivity has been stagnant or increasing only marginally, farmers will increase their prices to maintain their consumption levels at higher inflation levels.
FDI, as a rule, is good for the country and in the case of retail (food) will definitely bring in value by filling lacunae that we have not been able to address in the last 60 years. By truncating the value chain and cutting down wastages, it can, along with ‘domestic organised retail’, change the landscape of retailing of food products. The farmers will gain, consumers will be better off, kiranas will survive or get integrated in the model while the nation benefits from the investments. The intermediaries will probably have a hard time, but then they were anyway not really adding value. Therefore, this should be welcomed and introduced with some urgency when sentiment is also at a high. But, this may not yet be a panacea for our price woes.
Cracks in the citadel: Financial Express: May 17, 2011
The mood in the economy after the presentation of the monetary policy is quite a contrast to that when the Union Budget was announced. There is a hint of despondency as we discuss economic numbers today compared with March and the mood has shifted from optimism to caution. How serious is this loss of confidence?
GDP growth expectations for the year have been rolled back from 9% to 7.5-8%. This means that the three sectors will not be able to measure up to expectations. Agricultural production peaked in FY11 and retaining the momentum of 5%-plus in the coming year will be a challenge, considering that we have, so far, not had two successive high growth rates in this sector in the last decade. Therefore, moderate growth can be expected, provided the monsoon is normal and well-distributed across geographies and crops, besides its normal ‘arrival and departure’.
Industrial growth for the year has been lower in FY11, at 7.8% (10.5% in FY10), which can be partly explained by the high base year effect. Can this number be bettered in FY12? High interest rates have been fairly neutral for most of FY11 but may impact growth in the coming year. RBI is willing to sacrifice growth for inflation control, which may be interpreted as the possibility of there being further increases in interest rates that, in turn, will impact investment decisions. Interest rates have a bearing not just on investment and cost of working capital but also on retail loans in the housing and consumer goods segments. This would have a bearing on the production of capital goods, metals, construction, etc. Therefore, a number of 8% or so in the coming year would be an optimistic call, aided partly by the relatively low base year effect.
Next, government balances looked well under control in February. Lower growth in industry will have a bearing on production as well as imports, thus posing a potential loss of revenue in indirect tax collections that will pressurise the deficit. The government has to take a call on taxes/duties on oil products, given the volatile nature of crude prices globally. Therefore, the number of 4.6% for the fiscal deficit will have an upward bias if any of the assumptions made at the time of its drafting change. Also, in this environment, a decision that has to be taken is on government expenditure, as it is the only entity that can provide demand stimulus as higher interest rates do not impact them significantly. But, it has withdrawn this stimulus quite drastically in FY12 with overall expenditure to grow by just 3.4%. With lower spending, the component of services sector, i.e., community and social services, will show a modest increase.
Inflation is a phenomenon that no one has been able to grasp. It appears that we have entered a high cost economy, which is hard to reverse and at best can be stabilised at these levels. MSPs have risen, as has the cost of cultivation. Protection of farm incomes has meant that prices have to increase to preserve real consumption levels. Prices have become sticky in the downward direction. Global prices have provided cues to domestic prices and this linkage is becoming stronger. They, in turn, have been driven of late by speculative forces and may be expected to remain volatile. While a high base should bring down prices, the same did not happen last year, notwithstanding the high base.
The stock market has been largely stable in the 18,000 to 20,000 region, reflecting caution. FII funds have not exactly given the thumbs down signal but have been vacillating in the last few months. June to November 2010 was a boom phase after which flows ebbed for 3 months before turning positive again. FDI has also slowed down for several reasons. Besides, the global economy would be recovering and interest rates could move up, thus re-diverting funds to the developed economies. All this means that there could be pressure on the balance of payments.
The exports story has been impressive in FY11 even if looked at in absolute terms and not just growth rates. Surpassing the mark of $200 billion was an achievement but maintaining this tempo will receive a shoulder shrug, as growing exports by even 20% over a base of $245 billion is a challenge. Imports growth will be linked to industrial production and would tend to slow down if industrial growth is lukewarm. However, higher commodity prices, in particular oil, can spoil the party. While we have been talking of a manageable current account deficit at 2.5% of GDP for FY11, the FY12 outcome could be different.
While it may not be proper to predict doomsday, there is definitely a circle of apprehension over all the economic numbers that defied global gravity in FY10 and only stumbled a bit in FY11. FY12 may still be better than what is happening in the rest of the world, but certainly the inflation impact has distorted images that were constructed at the beginning of the year. The 10% terminal year growth target is obviously ruled out and the five-year average will now be lower than 9%, as was envisaged by the Planning Commission.
GDP growth expectations for the year have been rolled back from 9% to 7.5-8%. This means that the three sectors will not be able to measure up to expectations. Agricultural production peaked in FY11 and retaining the momentum of 5%-plus in the coming year will be a challenge, considering that we have, so far, not had two successive high growth rates in this sector in the last decade. Therefore, moderate growth can be expected, provided the monsoon is normal and well-distributed across geographies and crops, besides its normal ‘arrival and departure’.
Industrial growth for the year has been lower in FY11, at 7.8% (10.5% in FY10), which can be partly explained by the high base year effect. Can this number be bettered in FY12? High interest rates have been fairly neutral for most of FY11 but may impact growth in the coming year. RBI is willing to sacrifice growth for inflation control, which may be interpreted as the possibility of there being further increases in interest rates that, in turn, will impact investment decisions. Interest rates have a bearing not just on investment and cost of working capital but also on retail loans in the housing and consumer goods segments. This would have a bearing on the production of capital goods, metals, construction, etc. Therefore, a number of 8% or so in the coming year would be an optimistic call, aided partly by the relatively low base year effect.
Next, government balances looked well under control in February. Lower growth in industry will have a bearing on production as well as imports, thus posing a potential loss of revenue in indirect tax collections that will pressurise the deficit. The government has to take a call on taxes/duties on oil products, given the volatile nature of crude prices globally. Therefore, the number of 4.6% for the fiscal deficit will have an upward bias if any of the assumptions made at the time of its drafting change. Also, in this environment, a decision that has to be taken is on government expenditure, as it is the only entity that can provide demand stimulus as higher interest rates do not impact them significantly. But, it has withdrawn this stimulus quite drastically in FY12 with overall expenditure to grow by just 3.4%. With lower spending, the component of services sector, i.e., community and social services, will show a modest increase.
Inflation is a phenomenon that no one has been able to grasp. It appears that we have entered a high cost economy, which is hard to reverse and at best can be stabilised at these levels. MSPs have risen, as has the cost of cultivation. Protection of farm incomes has meant that prices have to increase to preserve real consumption levels. Prices have become sticky in the downward direction. Global prices have provided cues to domestic prices and this linkage is becoming stronger. They, in turn, have been driven of late by speculative forces and may be expected to remain volatile. While a high base should bring down prices, the same did not happen last year, notwithstanding the high base.
The stock market has been largely stable in the 18,000 to 20,000 region, reflecting caution. FII funds have not exactly given the thumbs down signal but have been vacillating in the last few months. June to November 2010 was a boom phase after which flows ebbed for 3 months before turning positive again. FDI has also slowed down for several reasons. Besides, the global economy would be recovering and interest rates could move up, thus re-diverting funds to the developed economies. All this means that there could be pressure on the balance of payments.
The exports story has been impressive in FY11 even if looked at in absolute terms and not just growth rates. Surpassing the mark of $200 billion was an achievement but maintaining this tempo will receive a shoulder shrug, as growing exports by even 20% over a base of $245 billion is a challenge. Imports growth will be linked to industrial production and would tend to slow down if industrial growth is lukewarm. However, higher commodity prices, in particular oil, can spoil the party. While we have been talking of a manageable current account deficit at 2.5% of GDP for FY11, the FY12 outcome could be different.
While it may not be proper to predict doomsday, there is definitely a circle of apprehension over all the economic numbers that defied global gravity in FY10 and only stumbled a bit in FY11. FY12 may still be better than what is happening in the rest of the world, but certainly the inflation impact has distorted images that were constructed at the beginning of the year. The 10% terminal year growth target is obviously ruled out and the five-year average will now be lower than 9%, as was envisaged by the Planning Commission.
How to manage farm inventories: Economic Times 12th May 2011
The recent debate on the merits of exporting surplus wheat is important as it brings to the forefront the fact that we do not have a comprehensive food policy . Normally, concerns on food production relate to ashortage in case there is crop failure. Even here, the reaction is always a case of too little, too late aswe are reluctant to accept the problem and the acknowledgement comes only when the crisis is at the doorstep. It is also ironic that we donot know how to deal with a surplus. When there is a surplus, we hold on to it and do not want to part with it as there is fear that the next harvest may not be good enough. What is required is a comprehensive policy that deals with both surpluses and shortages.
Let us look at the surplus story first. The country had surplus sugar production in 2007-08 and 2008-09 and exported 4.7 million tonnes and 3.3 million tonnes respectively. Subsequently, there was a shortfall in production, which was a global phenomenon that had led to considerable criticism of the country not building a buffer that could have been harnessed. The solution was to ban sugar export, and import 2.4 million tonnes. Now, with wheat stocks overflowing in the granaries and the procurement season being on, there is talk on the possibility of exporting the surplus. Is this a good idea?
Today, about 60% of the produced wheat enters the market as marketed surplus. Hence, of the 84 million tonnes, about 50 million tonnes enter the market. About half of this is absorbed through the procurement process by the government, thus leaving just 25 million tonnes for private traders.
Intuitively, we can see that an artificial scarcity is being created by the government even in times of surplus production as the government is procuring and storing more than the buffer norms warrant.
Clearly, the answer here is that the government should offload the excess stock to private marketers and channel the rest through exports as the cost of holding on to the grain is high and not commercially viable. The under-recovery is close to Rs 9 per kilo of wheat dealt with by the government in terms of difference between economic cost and PDS price. Surplus stocks being held magnify this holding cost of wheat.
Now, since the government has a commitment to the farmers to buy wheat as part of an open-ended procurement programme, there is need to review this system. Even at the level of status quo in the extreme case where the systems are not changed, the surplus wheat above the buffer norms should be offloaded in the market (there will be double costing in the present scenario). Alternatively, with the UID scheme, the government can pay the farmers the difference in price but not physically take on more than what is required. This way, the surplus can be harnessed.
What about export? Export is the best option once the domestic market is satiated as it helps us to take advantage of the global market to get better returns, which would have been the case this year as there has been a case of declining global stocks due to lower production in Russia and China. Producers would have been able to get better value for their produce while we would simultaneously lower our holding cost of such surpluses given the limited warehousing space.
On the shortage side, the medium-term strategy has to be to improve productivity and migration of farmers to grow crops where we have a deficit, such as pulses and oilseeds, and those that consume less water. But that is more on the production side that necessarily involves providing incentives such as water supply, seeds, fertilisers, etc.
However, from a policy perspective, we need to decide in advance the strategy for products that are imported such as pulses and edible oils. Around 20% of our pulses and 55% of edible oil requirement are met through imports today. Output of pulses will peak at 17.3 million tonnes and oilseeds at 30.25 million tonnes in 2010-11.
But the Indian case is peculiar because, in years where production is good, like 2010-11 for pulses, we end up importing less. The clue is to create a buffer for pulses and edible oils in years when production is better and global conditions are normal. This way, we can ensure that when production fails, which can be anytime due to variable weather conditions, we can fall back on these buffer stocks. This will help ease supplies as well as moderate prices. This policy will also help in using the released warehousing space in wheat for other crops such as pulse, oilseeds and sugar.
The message here is that we should learn to manage our production levels more cogently. Variations in output are going to be part of a system that still has around 70% of farm output dependent on monsoon and where logistics support is suboptimal. We have to judiciously stock surpluses and leverage the export market to incentivise our farmers. Hence, this entire process of managing surpluses and shortfalls has to be dynamic, and just as companies manage their inventory, so too should the government. The issue is that the government being a non-profit organisation does not know how to handle these stocks and, hence, is over-obsessed with security and being politically right. The obsession for security leads to excess stocking. And acknowledging food shortage is a political issue and, hence, self-defeating. Ideally, the government should cease its intervention once the buffer stock level is met through the FCI and re-route the surplus stock into the private market beyond these levels.
The choice of providing increasing MSPs is with the government, and cash may be paid to the farmer directly. But trade in farm products should be left to the market because when there is profit motivation through private marketing and exports, the solutions that emerge are superior, which is what it should be at the end of the day.
Let us look at the surplus story first. The country had surplus sugar production in 2007-08 and 2008-09 and exported 4.7 million tonnes and 3.3 million tonnes respectively. Subsequently, there was a shortfall in production, which was a global phenomenon that had led to considerable criticism of the country not building a buffer that could have been harnessed. The solution was to ban sugar export, and import 2.4 million tonnes. Now, with wheat stocks overflowing in the granaries and the procurement season being on, there is talk on the possibility of exporting the surplus. Is this a good idea?
Today, about 60% of the produced wheat enters the market as marketed surplus. Hence, of the 84 million tonnes, about 50 million tonnes enter the market. About half of this is absorbed through the procurement process by the government, thus leaving just 25 million tonnes for private traders.
Intuitively, we can see that an artificial scarcity is being created by the government even in times of surplus production as the government is procuring and storing more than the buffer norms warrant.
Clearly, the answer here is that the government should offload the excess stock to private marketers and channel the rest through exports as the cost of holding on to the grain is high and not commercially viable. The under-recovery is close to Rs 9 per kilo of wheat dealt with by the government in terms of difference between economic cost and PDS price. Surplus stocks being held magnify this holding cost of wheat.
Now, since the government has a commitment to the farmers to buy wheat as part of an open-ended procurement programme, there is need to review this system. Even at the level of status quo in the extreme case where the systems are not changed, the surplus wheat above the buffer norms should be offloaded in the market (there will be double costing in the present scenario). Alternatively, with the UID scheme, the government can pay the farmers the difference in price but not physically take on more than what is required. This way, the surplus can be harnessed.
What about export? Export is the best option once the domestic market is satiated as it helps us to take advantage of the global market to get better returns, which would have been the case this year as there has been a case of declining global stocks due to lower production in Russia and China. Producers would have been able to get better value for their produce while we would simultaneously lower our holding cost of such surpluses given the limited warehousing space.
On the shortage side, the medium-term strategy has to be to improve productivity and migration of farmers to grow crops where we have a deficit, such as pulses and oilseeds, and those that consume less water. But that is more on the production side that necessarily involves providing incentives such as water supply, seeds, fertilisers, etc.
However, from a policy perspective, we need to decide in advance the strategy for products that are imported such as pulses and edible oils. Around 20% of our pulses and 55% of edible oil requirement are met through imports today. Output of pulses will peak at 17.3 million tonnes and oilseeds at 30.25 million tonnes in 2010-11.
But the Indian case is peculiar because, in years where production is good, like 2010-11 for pulses, we end up importing less. The clue is to create a buffer for pulses and edible oils in years when production is better and global conditions are normal. This way, we can ensure that when production fails, which can be anytime due to variable weather conditions, we can fall back on these buffer stocks. This will help ease supplies as well as moderate prices. This policy will also help in using the released warehousing space in wheat for other crops such as pulse, oilseeds and sugar.
The message here is that we should learn to manage our production levels more cogently. Variations in output are going to be part of a system that still has around 70% of farm output dependent on monsoon and where logistics support is suboptimal. We have to judiciously stock surpluses and leverage the export market to incentivise our farmers. Hence, this entire process of managing surpluses and shortfalls has to be dynamic, and just as companies manage their inventory, so too should the government. The issue is that the government being a non-profit organisation does not know how to handle these stocks and, hence, is over-obsessed with security and being politically right. The obsession for security leads to excess stocking. And acknowledging food shortage is a political issue and, hence, self-defeating. Ideally, the government should cease its intervention once the buffer stock level is met through the FCI and re-route the surplus stock into the private market beyond these levels.
The choice of providing increasing MSPs is with the government, and cash may be paid to the farmer directly. But trade in farm products should be left to the market because when there is profit motivation through private marketing and exports, the solutions that emerge are superior, which is what it should be at the end of the day.
Will rate hikes work? Business Standard 14th May 2011
The major takeaway from the credit policy is that we are taking a chance on growth to bring down inflation. Friedman has triumphed over Keynes and markets know what to expect. Besides increasing rates, the policy has done much to improve the transmission mechanism to ensure that higher singular policy rates (now the repo rate), combined with measures on provisioning and higher savings account rate, translate into higher commercial lending rates which will slow growth in credit, money supply and inflation.
There are two underlying assumptions here: inflation is caused by monetary measures and can, therefore, be controlled by rate increases which will, in turn, be reflected in the base rate. Table 1 dissects the composition of inflation last year in terms of the contribution of various components to inflation in FY11 (March over March) and highlights the causes and states whether policy can bring down prices. One, it shows that monetary policy could, at best, control around 23 per cent of inflation that was caused last year. This will cover a weight of just a little above 40 per cent of the wholesale price index. Two, of the products mentioned the ones that witnessed a high increase in prices were rubber and plastic products, metals and chemicals for which the global influence was dominant. Three, a corollary is that monetary policy can seek to lower demand for these segments but cannot ensure that prices come down since global factors drive prices of metals and chemical products including plastic products. Four, the government will have to simultaneously take a stance on administered prices of oil products and minimum support price because, while non-market prices are inefficient, we cannot have the Reserve Bank of India (RBI) raising rates and inflation rising in the other 60 per cent owing to government policy. This will weaken the efficacy of monetary policy which can control only demand-pull factors.
How strong is the monetary policy transmission today? To RBI’s credit, the concept of a base rate has brought much greater transparency and made monetary policy stronger because it is based on a formula and the transmission of costs becomes a necessity rather than an option for banks. Table 2 shows the road travelled in the last year on how banks reacted to rate increases in deposit and lending rates. The base rate concept came in July and superseded the prime lending rate which remained fixed.
Table 2 reveals that rate hike transmissions have been more effective in the second half of the year than the first. This was more a result of the shortage of funds for banks during the busy season. Therefore, the transmission system will work when banks require more funds and pay higher deposit rates. Alternatively, these rates should also affect their overall cost of operations through, say, the repo borrowings. What does this mean? The RBI may also have to look at certain quantitative measures to control the amount of resources available for lending. They may include either increasing the cash reserve ratio or placing a limit on the repo window to ensure the overall cost of borrowing goes up.
Assuming that rate hikes lower growth, will that temper inflation? A regression analysis for the last five years shows that around 34 per cent of inflation can be explained by growth in credit. However, the standard Granger causality test shows there is no causal link between growth, credit and inflation.
The three arguments examined here indicate that the impact of policy changes on inflation is equivocal and the present move is not quite the conjurer’s wand, 50 basis points notwithstanding.
There are two underlying assumptions here: inflation is caused by monetary measures and can, therefore, be controlled by rate increases which will, in turn, be reflected in the base rate. Table 1 dissects the composition of inflation last year in terms of the contribution of various components to inflation in FY11 (March over March) and highlights the causes and states whether policy can bring down prices. One, it shows that monetary policy could, at best, control around 23 per cent of inflation that was caused last year. This will cover a weight of just a little above 40 per cent of the wholesale price index. Two, of the products mentioned the ones that witnessed a high increase in prices were rubber and plastic products, metals and chemicals for which the global influence was dominant. Three, a corollary is that monetary policy can seek to lower demand for these segments but cannot ensure that prices come down since global factors drive prices of metals and chemical products including plastic products. Four, the government will have to simultaneously take a stance on administered prices of oil products and minimum support price because, while non-market prices are inefficient, we cannot have the Reserve Bank of India (RBI) raising rates and inflation rising in the other 60 per cent owing to government policy. This will weaken the efficacy of monetary policy which can control only demand-pull factors.
How strong is the monetary policy transmission today? To RBI’s credit, the concept of a base rate has brought much greater transparency and made monetary policy stronger because it is based on a formula and the transmission of costs becomes a necessity rather than an option for banks. Table 2 shows the road travelled in the last year on how banks reacted to rate increases in deposit and lending rates. The base rate concept came in July and superseded the prime lending rate which remained fixed.
Table 2 reveals that rate hike transmissions have been more effective in the second half of the year than the first. This was more a result of the shortage of funds for banks during the busy season. Therefore, the transmission system will work when banks require more funds and pay higher deposit rates. Alternatively, these rates should also affect their overall cost of operations through, say, the repo borrowings. What does this mean? The RBI may also have to look at certain quantitative measures to control the amount of resources available for lending. They may include either increasing the cash reserve ratio or placing a limit on the repo window to ensure the overall cost of borrowing goes up.
Assuming that rate hikes lower growth, will that temper inflation? A regression analysis for the last five years shows that around 34 per cent of inflation can be explained by growth in credit. However, the standard Granger causality test shows there is no causal link between growth, credit and inflation.
The three arguments examined here indicate that the impact of policy changes on inflation is equivocal and the present move is not quite the conjurer’s wand, 50 basis points notwithstanding.
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