NO RELIEF IN SIGHT FOR INDIA INC ; STILL REELING UNDER FOREX DERIVATIVE LOSSES

BM Aggarwal , Chartered Accountant

INDIA'S corporate sector has raised significant funds through foreign currency loans like FCCBs, ECBs, etc., during FY07 and FY08. The corporate sector had preferred to keep its forex payable positions un-hedged in anticipation of appreciating INR trend to continue wherein FCCBs would eventually get converted into equity. While at the same time exports were hedged using various derivative instruments.

The foreign exchange derivatives contracts entered into by the Indian companies in the last two to three years has starting taking its toll now on its performance on the back of continual depreciation of the rupee against the dollar. Suring that period banks sensed an opportunity and approached the exporters with derivative products claiming that they have a product which can save the exporters from the impending Rupee appreciation losses.

According to a recent research the BSE 100 universe reveals that a large portion of forex payables is still outstanding and unhedged. The aggregate outstanding unhedged forex loan and gross currency derivative position for the BSE 100# universe was INR 1.3 tn and INR 1.9 tn,respectively (based on last reported balance sheets of companies).

During FY09, India Inc. was caught unguarded by steep INR depreciation (~28 percent vis-à-vis US$), which resulted in huge MTM losses on both unhedged loans and derivative contracts.

Aggregate forex losses stood at INR 434.1 billion for BSE 100,of which, MTM loss on forex loans and outstanding forex derivative contracts (gross) was INR 243.9 billionn^ and INR 99.3 billion^, respectively, comprising 21.4 percent of reported PBT. However, revised accounting norms came to the rescue of these companies by allowing deferment of MTM losses, a significant portion of which has been reported off P&L.

Large amount of contracts were signed by the exporters with various banks which include SBI, ICICI Bank, Axis Bank, ABN Amro, etc. in gross violation of the existing Guidelines by RBI. This was done on the basis research data provided by these banks to exporters showing that how the Rupee would continue to go down and probably touch Rs.32 and below.

The major fluctuation was witnessed in US$/INR. American Dollar depreciated to as low as Rs39 per dollar and shot up to Rs.52 in a time span of less than a year with approximate variation of about 33 percent. While over a longer period if we compare from June 2002 to October 2009, US$ has depreciated up to 42 percent in comparison to other recognized global currencies, whereas in India it has depreciated only by around 5 percent.

According to a recent research, companies like Wockhardt, Ranbaxy Laboratories, Suzlon Energy HCL Tech, etc have suffered huge losses due to the fluctuation of US$ against Indian rupee.

Some of the companies such as Rajshree Sugars, Nahar Industrial Enterprises and Sundaram Brake dragged banks to court last year after they discovered the enormity of losses they have made. They claimed that the banks had promised trading profits and the contracts were not made for hedging purpose.

The participants in the derivatives got trapped based upon the historical movement of the Dollar over a prolonged time frame of seven years and this sudden movement from Rs.39 to Rs.52.

The Indian forex derivatives market is still in at an infancy stage with huge growth. The development of a vibrant forex derivatives market in India would critically depend on the growth in the underlying spot/forward markets, growth in the rupee derivative markets along with the evolution of a supporting regulatory structure.

Factors such as market liquidity, investor behavior, regulatory structure and tax laws will have a heavy bearing on the behavior of market variables in this market. Increasing convertibility on the capital account would accelerate the process of integration of Indian financial markets with international markets.

The introduction of derivative products tailored to specific corporate requirements would enable corporate to completely focus on its core businesses, de-risking the currency and interest rate risks while allowing it to gain despite any upheavals in the financial markets.

Increasing convertibility on the rupee and regulatory impetus for new products should see a host of innovative products and structures, tailored to business needs. The possibilities are many and include INR options, currency futures, exotic options, rupee forward rate agreements, both rupee and cross currency swaptions, as well as structures composed of the above to address business needs as well as create real options. ( editor@thesynergyonline.com)

NO MCI, NO UGC ; MINISTER TO HAVE HIS WAY

By Ravsjourno

STRANGE are the ways of functioning in the power corridors, so it seems. Instead of curing the disease, its symptoms are treated more often than not. When the issue of the capitation fee in medical colleges erupted in the media, suddenly the powers-to-be wanted to be seen in the media with their own wish list. Not only an ambitious blue print for reforms in the higher education mooted out, it was conveniently leaked to the media as well. The moot point here is what was the need to have a super regulator in the first place.

This attempt to remote control the academic institutions is nothing but an antithesis of democracy, where the jurisdiction of independent bodies is being curtailed. After all, democracy is the art of decentralization of the power and not to decentralize it. If there are reports of corruption in states, should it mean that the Centre should take charge of the states as well? What is the guarantee that the proposed super regulatory authority will be corruption free?

The basic tenet of democracy and the conventional wisdom suggests that power corrupts and absolute power corrupts absolutely. If there has not been a foolproof system in the admission procedure of medical colleges despite of so many regulatory bodies playing their role, how will the new super regulator do it without any check and balance mechanism.

Actually, the whole business of getting into independent bodies is borne out of the desire to control the institutions. Not very long ago, the then Union Health Minister A Ramdoss tried his best to control the All India Institute of Medical Sciences by curtailing the wings of then AIIMS chief Dr Venugopal Rao. The move failed, thanks to the apex court intervention. And now is there another move to take control of the independent bodies, like the Medical Council of India, the University Grants Commission and the Bar Council of India. However, conventional wisdom would suggest that the centralization of power only adds to more corruption, but then probably wisdom has no place in the megalomaniac society. ( editor@thesynergyonline.com)

NATIONAL FOREIGN TRADE POLICY NEEDS BOTTOM UP APPROACH TO POLICY MAKING

Thesynergyonline Edit Bureau

NEW DELHI, MARCH 05 :
"THE National Foreign Trade Policy (NFTP), 2004-09 has brought trade to the forefront of the national development strategy with its emphasis on export promotion, employment generation and enhancement of economic growth. However, while some of its provisions are impressive, it suffers from not being tuned to realities at the grassroots and the practical needs of economic agents.

The provisions are too complicated and agents at the grassroots simply lack the awareness or information to take advantage of various government schemes”, noted Pradeep S. Mehta, Secretary General, CUTS International, a leading economic policy research and advocacy group .

Mehta then went on to throw light on the issue of inclusiveness in formulating the NFTP:

“The highly centralised nature of trade policy design and the lack of local involvement have affected formulation. NFTP schemes are therefore biased towards large exporters and big trading houses due to their significant influence among the policy community.

Moreover, lack of an integrated approach to trade and development policies has hampered NFTP’s effectiveness. These inadequacies need to be overcome in the forthcoming NFTP if trade and the advantages it bestows are to play a more pivotal role in India’s development.”

Mehta’s comments are based on a CUTS study which suggests the following remedies for the mentioned deficiencies in NFTP:

· Organisation of awareness campaigns for the grassroots on trade related schemes and provisions via NGOs and state government agencies.

· Active Interstate Trade Councils and WTO cells in states to involve the grassroots more in trade policy formulation.

· Trade related special schemes, technical training programmes and marketing facilities for small farmers and entrepreneurs.

· Sectoral integration of trade and development policies for maximisation of welfare benefits.

According to Mehta, the interim foreign trade policy announced on February 26, 2009, though a step in the right direction, is probably not enough of a departure from NFTP, 2004-09 as none of the mentioned remedies have been incorporated. The announcement of the second NFTP (2009-14) is due on April 1, 2009. Mehta is hopeful that the final text of the second NFTP will at least include some of the mentioned recommendations. ( editor@thesynergyonline.com)

COUNTER TERRORISM NEEDS FINANCIAL BOOST AND CONSTITUTIONAL REVISION : CUTS

Thesynergyonline Edit Bureau

"MUMBAI'S leading hotels, prominent centres of business negotiations, coming under the siege of terrorists, is symbolic of the fact that progress in counter-terrorism/law and order efforts and India's economic progress are intertwined.

India is now increasingly being perceived as a high risk country by both foreign entrepreneurs and international tourists. This is the time to not only give a major financial and technological boost to anti-terrorism/law and order efforts but ring in some major constitutional changes" said Pradeep S. Mehta, Secretary General, CUTS International, a leading economic policy research and advocacy group, in a press release issued here today

"The Mumbai terrorist attack is probably the biggest attack to hit the world after 9/11" said Mehta, "while the apathy of the government in the wake of so many terrorist attacks in the recent past has been both startling and unnerving, we should realise our own responsibility as citizens of this country"

The civil society, intelligentsia and media need to launch a sustained campaign to ring in major changes into the system instead of just raising the alarm after major terrorist attacks.

Mehta elaborated on the systemic changes mentioned above:

· The need to make law and order and, therefore, counter-terrorism a Central subject through a constitutional amendment

· A massive recruitment drive to enhance the strength of our police forces (our country is characterised by one of the lowest police-to- population ratios in the world) and the formation of a central anti-terrorism bureau

· Preparation of a list of important monuments and public places for provision of special security so as to make the common man more secure

· A corresponding decline in the emphasis on VIP security by trimming the list of VIPs so that the available police force can provide better security to the common man

Mehta concluded with an appeal:

"If we do not act now both the economic prosperity of India and the physical and mental security of its populace are at stake. The civil society, the media, the intelligentsia and ordinary citizens need to rise as one and not rest till we have made sure that the necessary safeguards have been put in place". (editor@thesynergyonline.com)

SILVER LINING IN SIGHT IN REAL ESTATE SECTOR

N P Sinha

Thesynergyonline Edit Bureau

Indian economy grew at slowest pace in Q1 2008 since 2004, according to latest GDP estimates by the Central Statistical Organization (CSO). Even though the construction sector growth slowed down to 11.4 per cent in Q1 2008-09 (in comparison to 12.6 per cent in Q4 2007-08), it bettered the 7.7 per cent growth rate in Q1 2007-08. Manufacturing gained paltry 5.6 per cent compared 10.9 per cent in Q1 2007-08. Financing, Insurance, Real Estate and Business Services grew at 9.3 per cent. Clearly therefore real estate is among the better performing sectors in the economy.

India was demoted in the ‘Real Estate Transparency Index 2008’ list from ‘semi-transparent’ rating to ‘low’ rating. The present consolidation in the real estate industry would lead to more transparency. This would be possible through introduction of regulatory authority, more professionalism and adoption of international best practices in real estate that will significantly cut operational costs. Fringe players exit during the course restructuring of the industry.

Companies that adopt corporate models survive downturns of this nature and build a strong foundation for future. As an example of optimising costs and delivering differentiated products with higher value, foreign architectural skills are being hired by Indian developers. The idea is to embrace competition and deliver better products. On the administrative reforms front, Haryana government is all set to embark on the computerisation of land records in 2008.

A lot of new real estate projects have taken-off this year despite numerous apprehensions of bubble-bust in the real estate sector in India. Huge investments have been committed by existing players and new players have entered the industry expecting to earn premium. This is a strong indication that the market is maturing and it has evolved to sustainable levels. Real estate Developers continue to post impressive profits; Purvankara notched up 41 per cent profit growth, Unitech 15 per cent, Shoba Developers 23 per cent and DLF 23 per cent – growth in net profits in Q1 of the current fiscal.

Foreign investments continue to flow into the realty sector in India; Taib bank of Bahrain and J P Morgan Chase invested both in PE and FDI segments; Germany based PE firm MPC Synergy has committed to invest Rupees 1300 crore in various SPVs of the Phoenix Mills Group of India. Huge sums have been committed by Ansal Properties (Rs 900 crore in Haryana SEZ), Sunil Mantri (Rs 200 crore), Sun City (Rs 8000 crore) and CHD Developers (Rs 2500 crore in next 5 years). Indu Projects Limited received Rs 325 crore out of total Rs 476 crore credit line from Credit Suisse. Several real estate projects across the country attracted NRI participation to the extent of 20 per cent of the total project investments.

Only recently California based INC Developers has announced its plans to enter the Indian real estate market with a super luxurious apartments scheme worth Rs 100 crore over next 2 years. Morgan Stanley Real Estate is planning to invest an additional $1 billion over the next five years in Indian market. It has also recently set up a Indian operations. These facts and figures speak for itself. We have just left behind a lean phase in the Indian real estate business.

Although the retail sector has no immediate promises of foreign investments by relaxation of regulations, Indian firms are aggressively diversifying and expanding their retail business. Dabur expands its retail biz in Hyderabad, Pantaloons’ ‘Big Bazar” is expanding in Chennai. Shriram Group from Chennai has diversified into mall construction business. The Transport Corporation of India (TCI) is planning to foray into the real estate business.

A spurt in the hotel business in India was anticipated long back. Indian hoteliers are even expanding overseas most notably Indian Hotels of the Taj Group. The Mariott Group has declared its plans for expansion in India. The Jindal group is set to tap the market for budget hotels. Union Minister Ambika Soni, declared a shortage of 150,000 rooms in the budget hotel category. SEZs approval and more development projects are in the pipeline.

It is pertinent at this point to recall that raw material prices for the real estate sector were volatile and erratic during most part of the current year and this had a major contribution in jacking up the home prices. Asset price bubble in Indian real estate market is just a myth and a fallout of US credit crisis hype in the media.

Public policy response was cautionary but prudent. Higher risk-weights were assigned to real estate exposures of banks and ECB (External Commercial Borrowing) window for real estate companies were suspended. Stricter norms for lending based on land value were imposed and restructuring of loans taken by real estate developers was stopped temporarily.

However, liquidity to the tune of Rs 2.80 lakh crore was pumped into the banking system. Reserve Bank of India (RBI) announced measures as policy support to the cash starved real estate sector, and check outflow of foreign exchange reserves. To ensure more funds for the real estate sector, RBI allowed registered housing finance companies to raise short-term funds from overseas markets. Indian banks were allowed to offer competitive interest rates on foreign currency deposits by the non-residents. Risk weights for corporate and commercial real estate were reduced to 100 per cent from the earlier 150 per cent.

Over the past two years, interest rate on home loans had gone up to touch 11.75 per cent to 12.5 per cent as compared to 7 -7.5 per cent offered by banks two years ago. Due to the increase in rate of interest, buying capacity has been compromised and this was another reason for the slack in the market. However, led by PSU banks, interest rates on home loans have been slashed, albeit marginally and currently it is less than 10 per cent for some banks.

The need of the hour is an open approach. Policies offering incentives should come in lieu of more affordable housing, green buildings and other innovative real estate products. And above all a regulatory body to tap this huge opportunity. Indian realty might just have a reality check with this downturn and would come out stronger and bigger in times to come. ( editor@thesynergyonline.com)

RTI ACT 2005 : SITUATION AND DIRECTION

Rajendra Kumar Sharma

RECENTLY , on November 03-04, 2008 the Central Information Commission (CIC) has organised the third National Convention at New Delhi on the Right to Information (RTI) Act, 2005. The theme of the convention was 'RTI and its Ramification for Good Governance'. Since India's independence on August 15, 1947, among the several legislations that the Indian Parliament has enacted so far, the Right to Information (RTI) Act, 2005 is a remarkable step towards attaining the fundamental rights envisaged in the Indian Constitution.

Considering the prevailing diversified scenario of the nation, the Act occupies special position since the Constitution envisaged three columns e.g. Legislature, Executive and Judiciary could not succeed yet in building their image fully bright, clean and transparent. In addition, the two other self-claimed columns - the Media and Civil Society Organisations (CSOs) - also could not dispense their duties in a fully honest manner. However, what all objectives that above all columns should have accomplished and what not towards nation building after the independence is a separate matter of debate.

In India, prime credit for RTI Act enactment is given to the CSOs. Also, the CSOs, too, considers the enactment as their victory contribution. Though, they are not fully in agreement with the essential character of the Act. One group of CSOs favours the Act to be used as a "weapon" in order to introduce complete transparency and accountability to the governance, while the other is supportive of it as a "tool" to be applied.

The very fundamental conflict between the two groups about the concept of the Act is proving to a big building block in the way of its effective enforcement. Hence, as a result of ideological conflict, the actual needy information seekers as well as sincere information providers are facing a big trouble.

In order to ensure an effective enforcement of the Act, and how it would succeed in its prime objective, there is serious urgency to focus up on certain important factors with regards to the conceptual vision such as "why it should be used ", "when it should be used " and "how it should be used" etc.

Because of not taking these factors into consideration holistically, the headlines in the newspapers quite often carry news items like 'RTI Act Not Very Supportive - Chief Justice', Stay on Chief Information Commissioner's Order', Local Body Leads in Not Providing Information', RTI Act Getting Derailed from Its Objective' and 'Wait, if You seek Information', etc.

An effective lubricant for the enactment and enforcement of any Act is the fundamental intention of different stakeholders involved in the entire process. It cannot be an issue of debate and dispute that the outcome of a true objective meant for public welfare will not be comforting eventually.

However, in Indian context, many times a peculiar situation emerges that while the objective is fair enough but there are not proper and adequate actions to attain it. Such actions are expected from all relevant groups and stakeholders. Under the RTI Act, there is a clear definition of "information" that has to provide to an applicant with in the stipulated time period.

During the RTI pre-enactment movement in the nation, the movement leading individuals and organisations propounded a vision that as a result of the Act, there will a new dawn of transparency in the Indian governance mechanism, and not only the government will be accountable for its actions and decisions, but also a kind of system and practice will emerge into it that will generate a deep trust and genuine belief amongst the common citizens.

But, this is a matter of serious disappointment that even after three years in existence of the Act, the adequate enforcement is still a far cry even though the political administration keep on assuring the public about its sincere attempts. If not, then what are the reasons that the information delivery (at every level) of filed applications/appeals are not done in the stipulated time period?

Why are huge numbers of appeals are being filed at the CIC and State Information Commissions (SICs) where also they are kept pending for longer periods? Why the stipulated numbers of Information Commissioners have not been appointed in all the states as per demand of the Act? Why have the states not been able to provide adequate and speedy resources to the SICs for their meaningful functioning? And why are the central as well as state governments themselves come up with pro-public amendments in the Act making it more sharp and powerful so that the bureaucratic functioning is supportive for the citizens in a fully accountable manner.

Given that, although the Act is enforced in entire nation except the Jammu and Kashmir, there is a clear manifestation of inconsistency in terms of number of appointed Information Commissioners in the SICs of various states, number of filed appeals, the speed of appeal disposal and available resources. However, comparatively, in few of the states the situation is satisfactory.

The tragedy of this nation is that characters in the governance system, during the pre and post independence period are being changed but their accountability and loyalty has been confined to the respective higher officials alone. Though, this practice itself has been a major reason of India's slavery.

The common citizens of this country have always remained as servant or slave to the officials appointed on different positions at different levels of governance. The transition of power from India's slavery to independence only helped change the character of administration, but the fundamental intention of governance has remain focused up on considering the common citizen a slave or servant. Hence, there will never be fixation of accountability without the fundamental change in prevailing mind-set of the governance and this game of hide and seek will keep on continue.

The power and inclination of this mindset could be gauged from the fact that even the so-called citizens, who once enter in to the governance and become an active part of it do surrender before this age-old legacy for their own socio-economic and political interests, rather than they could be the supporters of the common citizens and serve them in the real sense of the term.

If the above situation is weighed vis-à-vis RTI Act, then it evident that the background of majority of the appointed Information Commissioners and other officials working at the SICs are highly bureaucratic in nature, and their mindset is committed to the governance that is being managed by one or the other political party.

Often the Public Information Officers (PIOs) are found complaining that the "information sought by the applicants are either meant to put them in trouble" or "unnecessary information is asked" or they are in two minds "whether they should do some work in the office or just get themselves busy in providing information" etc.

In this context, it can be said that the heads of various departments in a capacity of the Appellate Authorities (AAs) and the PIOs find it very difficult to gulp down the hard truth that the nursed anger and plight of the common citizens since decades is coming forth in the form of RTI Act application as a weapon/tool.

There is another ironical angle that since the RTI Act enactment, an enthusiastic dream was woven round that there will be considerable reduction of corruption in the governance, and state, after getting rid of the vex problem of corrupt practices, will march forward on the path of development and the common people at grassroots will taste its benefits.

Enthusiasm was such that many called it a "second independence" of the nation. It is true that all the characters engaged in the governance are not corrupt, but those who are corrupt are capable to make it dysfunctional and defame.

According to the latest report of the Transparency International, corruption in India has increased last year, as India slipped to 74th position in a list of 180 countries. The report does not mention a single Indian state where corruption is at zero level. The states like Rajasthan, Karnataka, Tamil Nadu, Meghalaya and Sikkim have high rate of corruption.

So, why is it that in spite of RTI Act as a weapon/too in place, corruption expanded even more? If we think about the reasons we find that there is a complete disintegration in its fundamental ideology and lack of unified action.

According to one ideology it is believed that the enemy (corruption) is so powerful that all the three Acts - The Prevention of Corruption Act, 1988; The Consumer Protection Act, 1986 and The RTI Act, 2005 - need to be put into action as unified force simultaneously. Practically, this is a very difficult task. On the other hand, another group believes that one of the three Acts needs to be exploited but with full force and vigor and the implementation process should be highly effective. This is, in comparison to the first one, is more practical. However, if we examine it meticulously we find that both the approaches have their own limitations.

In simple words, we can say: how the crops in fields could be protected if the fence itself starts eating it. In a nation of more than a billion population where hundreds of programmes/schemes worth thousands of crores are formulated, in which thousands of characters in governance are engaged and above that the existing regulatory institutions are not inclined carry out their functions with full integrity, the success of "weapon" or "tool" like RTI Act is in serious doubt.

Second, the limitation interwoven in the above-mentioned "weapons" and "tools" are the obstacles in the way of its effective enforcement. Adding failures to it, the lack of courage and enthusiasm amongst the different governance characters work as negative proponent.

A meaningful and worthy role of the media and CSOs is in place to support and guide the common public baptising them into empowered citizens since the greatest asset of a nation remains with its empowered citizens. Hence, the pace with which the media and CSOs work in creating an army of awakened and empowered citizens, it is not far that the devil like corruption would be wiped away from the governance.

But, the sad part of is that the media and CSOs, in order to survive and sustain their own identity, depend largely up on the demonstrative governance whose key is in the hands of engineers of the first three columns envisaged in the Constitution. How is it possible that snake and mongoose live in the same basket?

But then what should be done now to deal with this challenge and how? For this, there is dire need for creating the groups of honest, considerate, hard working and courageous persons representing all five columns.

These groups should be equipped with belief and knowledge, who continue to work in their respective areas, but before marching against corruption, they all need to assemble with the weapon/tool in which they are master and by becoming supportive to each other and defeat the enemy called corruption. However, it itself is a great challenge to form such groups and ensure their its pro-active and need based involvement, but there is no other way out. Else, sitting like an idle and unconscionable we have to just wait for an another slavery in future and whose aftereffect is beyond one's imagination. (The writer is Programme Coordinator and Deputy Head at CUTS CART) (editor@thesynergyonline.com)

FIGHTING THE ECONOMIC MELTDOWN : THINK AND ACT POSITIVE

Thesynergyonline Edit Bureau

AN economy exhibits bipolar tendencies, ranging from the very buoyant to the very depressed. Psychiatrists treat their human patients who exhibit such tendencies with great care, mixing therapy sessions with strong medicine to even out moods. The government,associated think tanks and wise men clubs can do the same thing for an economy.
Markets run on sentiment, not on logic. Booming stock markets attract investors toparticipate more vigorously; the vigour translates to a further extension of the boom.

Unlike what the common man might think and what is often painted by media hype a boom does not imply that everything in the economy is going well. Excessive spending fuelled by bullish sentiments might stoke inflation. People with fixed incomes suffer; their purchasing power declines and there often is deepening of inequality and poverty.

Think tanks, NGOs and the media can, should and often do step in: they point to the raging inflationary fires and the spread of deprivation and try to wipe off the smugness that comes from rapid increases in wealth in certain sections of the economy. The government is forced to step in with measures to douse inflationary fires: more often than
not interest rates are raised and credit constrained to suck out liquidity from the economy.

As people have less to spend the boom often dies out and the stock market plateaus. What this illustrates is that the government and its associates treat the economy in the same way as a bipolar patient is treated by his psychiatrist.

The psychiatrist wants his patient to be happy but not too happy; extreme happiness is a warning signal that the patient is veering to self destruction. Similarly, a government wants an economy to boom but too prolonged or exaggerated a boom might lead to greater incidence of deprivation and intensification of inequalities. Such strong booms often compel the government to step in with strong medicine and therapy which soothes overly buoyant moods.

The world economy is currently passing through a recession akin to the depressed phase in a bipolar patient’s mood cycle. Most recessions are often started by isolated events which expose the structural weaknesses of the global/national economy.

For example, the current recession has been triggered by a mortgage crisis: an earlier buoyant phase in the real estate market at the beginning of the 21st century prompted US banks to lend very liberally (and greedily at high rates of interest to cover the high risk of default associated with liberal lending) for purchase of housing: the thinking was that the highly priced collateral (the house itself) would neutralise the risk of default.

Not much attention was paid to the ability of borrowers to earn and repay; when many of them defaulted on the payments of their loans there was a sudden increase in supply in the real estate market. As the increasing number of houses recovered from borrowers increased the supply of housing, real estate prices came crashing down. Suddenly, the houses which had been pledged as collateral were not enough to recover the value of corresponding loans.

Though this was bad enough it was not the entire story; mortgaging had been used to build castles of sand. Lenders to purchasers of real estate had leveraged their mortgages to gain access to other funds; their lenders had in turn leveraged for more financial access
and so on. With people defaulting on the payment of housing loans — the base for a whole chain of financial flows – these impressive but unstable castles collapsed. The rubble, dust and smoke generated have enveloped the global economy and plunged its consumers and investors into deep gloom. Another round of therapy and strong medicine might be in order.

Over recent years the financial linkages among various countries of the world, in particular the developed and emerging economies, have been strengthened. Foreign investors like to invest in emerging economies as they generally grow faster than their developed counterparts and yield rates of return that are higher.

In a way this is good as funds get diverted to the areas of highest return and emerging economies can play catchup with developed economies. But even though developments like greater “interdependence”, “association” and “cooperation” among various countries is often linked to greater global efficiency and growth, the downside in terms of greater instability and vulnerability is often ignored.

The recent financial meltdown confirms that too much of a good thing (the mentioned inter-linkage) might be bad. The real estate loan crisis in the US has travelled through the channels linking developed and emerging economies and resulted for the first time in a truly global recession, much more global than the Great Depression of the 1930s. As borrowers of housing loans have defaulted, their lenders owing money elsewhere (and their lenders and so on) have either defaulted on their financial commitments or have been threatened by a failure to honour these.

Banks and financial institutions therefore have come under a lot of financial stress. Somehow the promised liquidity has to be mopped up from elsewhere; faced with such a problem these institutions have two choices: to sell their investments in emerging stock markets or perish. Naturally many of them have done the former.

It would be instructive to illustrate what has happened next through a moving picture of the Indian economy. As foreign institutional investors pulled out their shares from the stock market and sold them a huge excess supply of shares was generated; as a result share prices and the BSE came crashing down.

What the crash did was to generate a wave of bearish sentiment; the adverse psychological impact meant that potential domestic investors just sat on the fence as they expected the stock markets to fall further. With almost no new demand being generated despite the continuous pull out by foreign institutional investors, the decline soon turned into a bloodbath. As of now the BSE stands at 9000 points, a mere 42 percent of its level exactly a year ago.

Whether the fall in the Sensex will soon peter out is anybody’s guess. Of course, one can be sure that it will peter out ultimately. Moreover, consumers, the government and think tanks can do more about hastening such stabilisation and engineering a recovery than
what they themselves might be aware of.

All citizens, many of whom belong to the ranks of actual or potential investors, need to step up their financial awareness. When the media talks about investor wealth getting halved domestic investors should regard this as a notional decline in wealth; after all if they do not sell their stocks and securities and the stock market recovers to new highs in a few years, the losses pointed out by media reports would never be incurred.

So, Suggestion No.1 is do not worry, be happy and definitely do not sell shares of companies which have come up with good performances in the past in terms of profits generated and dividends distributed. Try and gain satisfaction from dividend incomes; do not react adversely to declines in notional wealth.

Strangely, this is also the time for good buys, similar to picking up cheap woollens through an off-season discount. A look at indices shows that potential investors never had it so good. Blue chip companies like Tata Steel and Tata Motors now exhibit priceearnings
(P/E) ratios lying between 2 and 3; Hindalco currently has a P-E ratio of around 1.8. (Others like those of Reliance Industries have descended from double digit levels to a much more reasonable 6 or 7.)

This clearly indicates undervaluation of shares. A low P/E ratio implies that earnings are a significant proportion of the total value of shares bought. In this case you cannot go wrong by picking up these shares: these earnings will result in a high percentage dividend if distributed among share holders; if not these will be reinvested and add to the value of the stock.

It would be justifiable to say that a low P/E ratio of a company, usually an indicator that investment in its shares is a good proposition, does not offer the same comfort in a world characterised by recession as growth of demand for its products might be in doubt .

This logic might be sound for small countries such as Singapore that cannot swim against the global tide. But India with its large population and labour force (around 17 percent of that of the world) and a considerably enhanced GDP, now about 1 trillion US$, can manufacture its own success by keeping up the pace of increase in consumption, investment in capital goods and infrastructure and diversification in both consumption and production.

In other words, we have got to the stage where the country can grow over long periods of time on the basis of its own steam provided it tries to do so intelligently and vigorously.

Thus, Suggestion No. 2 is “retain your spirit of adventure; the recent financial meltdown does not imply that you rush with your lifetime savings to the nearest nationalised bank for safe keeping or insure yourself against risk through fixed deposits or precious metals. If you have some extra cash on hand try to park it in some cheap blue chips. If you do not do that soon others will beat you to it and these
blue chips might not remain cheap for very long”. Also when you are investing money in these it is akin to performing a national service that is at the same time profitable to you.

Your investments and those by others might fuel the eagerly awaited turnaround in the stock market and in many senses the national economy.It is imperative to be calm while maintaining good communication with other people.

You should definitely have your antennae out but should not necessarily take everything they catch at face value. The air is rife with rumours of banks failing; it is not unusual in these stressed times for even banks to regard each other with suspicion. It is important to
realise that a bank is often as good as its depositors. A bank which is not covered by government support can fail if one fine morning all its depositors come hammering on its doors for return of their deposits. This is because economic viability of a bank dictates that its cash reserves are just a fraction of its deposits.

Thus, Suggestion No. 3 is for customers of each bank to form networks (probably online and preferably registered with the government to rule out accusations of malicious intent) to exchange information; these should be coupled with withdrawals that continue to be of a normal magnitude. If banks continue to honour these withdrawals then these networks can be used by customers to reassure each
other.

On the other hand, the networks can be used to send out warning signals. Again, each customer should take a warning signal seriously only if many customers send identical ones out; isolated warning signals are often sent out by rumour mongers.

The last thing that the common economic agent needs to realise is that a financial crisis and the economic recession born out of it often result from a crisis of confidence. In the long run economic growth is born out of hard economic activity (manufacturing products
and producing services). If India was good enough to have an average of around 9 percent annual growth in GDP over the last three years there is nothing that should prevent it from doing the same again in the near future. The roadblocks again are all in the mind and a collection of pessimistic or overcautious mindsets can spell doom for the economy.

Thus, Suggestion No. 4 is “try and be normal in your spending and earning behaviour and quietly try and influence others to do the same. Do not scrimp too much on the good things in life if you can afford them. Your expenditure is income for other people just as other people’s expenditure constitutes your income. When everybody spends healthily incomes are generated and the economy prospers. When expectations of bad times cause people to act in a close fisted manner, not much income is generated and the prophets of doom are proved right”.

In all this the role of the government and the associated think tanks as therapists for the economy cannot be overemphasised. In fact any government which emphasises what this article has said might be doing the citizens of the country a great favour and at the same
time contributing to the long run growth and sustainability of the economy.

Steps like releasing more liquidity into the economy through interest rate cuts help. But note that an economic recession has more to do with market psychology than productivity changes; it is very important for the government to continue talking to its people on the
lines of the suggestions in this article. The ability of the Indian economy is not in doubt but the confidence needs boosting. For this purpose it is necessary to supplement macromeasures with general homespun wisdom that appeals to individual consumers and producers.

To top it all it is necessary for the government sometimes to flex its muscles: this might provide succour to some citizens and at the same reassure others. Infrastructure projects might be a good idea; they provide employment and at the same time present new opportunities for business.

If one were to summarise the entire advice dispensed through this article in a nutshell, it is the same for private individuals, firm owners and the government: think and act positive.

(This article has been researched and written by Siddhartha Mitra, Director (Research), CUTS International who acknowledges the comments received from Pradeep S Mehta and Bipul Chatterjee of CUTS and an SME entrepreneur: C. M. Shukul of Vadodara. ) (editor@thesynergyonline.com)

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