Niveshak July 2009

NIVESHAK THE INVESTOR

VOLUME 2 ISSUE 6

Investment Banking: A flawed model Pg.6

July 2009

SPECIAL EDITION National food security Bill Pg.22

Niveshak Volume II ISSUE 6 July 2009

Faculty Mentor Prof. S.S. Sarkar Editor Biswadeep Parida Team Niveshak Amit Choudhary Nilesh Bhaiya Sareet Mishra Sarvesh Chowdhury Sujal Kumar Tripurari Prasad

From Editor's DesK

M

arkets across the globe are at their peaks since the Sub-Prime crisis engulfed the world economy last September. Although it was there for some time, it made its presence felt when the so called rock stars of high street finance, the last four wall street investment banks, ran for cover in the second week of September last year. Since March this year the bull has been spotted on most of the occasions but bear has capitalized on the volatility of the markets on some occasions. Since then, Bull has pushed all the indices by more than 30%. To name a few, Nasdaq composite has moved up by 48%, Dow Jones Composite Index up by 35%, NYSE S&P 500 by 40% and Nikkei by 35%. But the star performer has been our very own Bombay Stock Exchange-Sensex which has risen by more than 80% since March this year. This has been made possible by positive quarterly corporate results, positive government reports, dwindling unemployment figure, and growth in Industrial indices, increased oil prices, increased government spending by all countries, favourable growth projections by banks, government & nongovernment agencies. Banks like Goldman Sachs, Citibank, JP Morgan Chase which were seen chasing Federal Reserve for life support a few months back booked huge Q2 profits even after servicing debt bullets. This brought more cheer among B-Schoolers than in the market. Corporate houses have been successful in riding this wave and have accumulated huge capital. Indian corporate which raised huge capital through Global Depository Receipts and by Qualified Institutional Placement, were seen a few waves ahead. All these news push me out of the limits of my realistic self. But as I float in optimism and take a look behind my shoulders, I see lots of instances where a day of Bear Paws upset days of Bull Run. What does this suggest? This says that there is enough pessimism and volatility in the market; too high for comfort. Any half cooked report of a small negative projection by any non entity on any sector has upset the whole market on many sessions. Macroeconomic fundamentals are projected on flowery assumptions and so are still dicey. They have been intentionally projected to boost sentiments, financial markets & the economy. As a result most of the markets are trading by more than twenty times their Price to Earnings Ratio. Most of the listed companies are trading at more than fifty times their Price to Earnings ratios. This indicates that even at such perceived low levels, the market is irrationally upside and will slip once the dust settles and the smoke clears. My last editorial suggested that much of India’s recovery and growth depends upon the Union Budget. The Union Budget was passed on 6th July with a negative short term effect on the markets. The long term effect of this budget, its effect on various sectors, its comparison with expectations and growth parameters have been discussed in details as the cover story of this issue.

All Images and artwork are copyright of IIM Shillong Finance Club ©Finance Club Indian Institute of Management, Shillong

I am very happy to note that in our next issue, Niveshak will celebrate its first anniversary. With your support, good wishes and contributions, Niveshak has successfully completed a full circle around the sun. Together we have witnessed the most turbulent time of the world of Finance and learnt from it. We have seen the fall of banking stars, we have seen iconic companies turning to Chapter 11 bankruptcy or mergers/acquisitions for survival, we witnessed bankruptcy declaration by sovereign states and then we saw economies navigating through the worst of recessions. To mark the success of our journey together, we shall have a special anniversary issue capturing the roller coaster ride that we have been through, the highs and lows of the world economy over the past year, the most fearsome fight between the Bear & the Bull. I invite you to contribute articles on any specific event of the last year or on “The year that was” as a whole. Yes that is the theme of out anniversary issue. Lots of exciting prizes are waiting to be yours. For more information, please see the declarations page or Niveshak website. What an awesome “Year that was”. -biswadeep Parida (Editor- Niveshak) Disclaimer: The views presented are the opinion/work of the individual author and The Finance Club of IIM Shillong bears no responsibility whatsoever.

ContentS

In The News(4)

Finsight Investment Banking A Flawed Model(6)

Cover Story Budget '09(9)

The Chindia Debate Where neighbours Spend(20)

Opinion National Food Security Bill(22)

FinLounge FinToon(12) FinQ(24) © The Finance Club, Indian Institute of Management, Shillong

In the newS

July

14

Gold compensation for Goldman’s employees after robust Q2 Performance

Goldman Sachs stunned the world with a net income of $3.44bn this quarter even as the newly turned bank holding company repaid back $10 bn of federal loans. It is now crystal clear that Goldman knows how to make money better than anyone else on Wall Street. For Goldman Sachs, it is the time to pay-off the conscientious foreign exchange and commodities traders, the people accountable for the bank’s whopping profits. The bank is in the process of deciding the compensations for their employees which may go up to $11 million. According to the CFO, these packages reflect the performance of the firm in the second quarter where the ratio of compensation and benefits to net revenue rose to 49 percent. These fat bonuses were widely criticized for pushing the world into sub-prime crisis.

July

10

Tech Mahindra’s increased stake in Mahindra Satyam

After the rechristening of Mahindra Satyam, tech Mahindra hikes its stake in the company. Through the second round of preferential share allotment, Venturebay, a unit of Tech Mahindra, increases its stake to 42.7% as Mahindra Satyam apportions 19.86 crore additional shares to venturebay. Tech Mahindra had to go for second round of allotment of shares as it failed to acquire 20% additional stake from the open market due to higher market price of Rs. 73 as compared to the open offered price of Rs. 58 per share.

July

10

Deflation Paradox Continues

Despite the fact that the prices are rising on weekly basis for the seventh straight week, still the wholesale price index (WPI) decreased by 1.55% in the week ended on June 27. The overall price index inched up 0.04% during the week with prices of primary articles firming up by 0.3%. Retail inflation has increased from April to May 2009. Inflation in manufactured items, however, remained benign, hence suggesting a poor demand environment.

July

10

China Opposed ADB loan to Arunachal Pradesh

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Volume 2 Issue 6



July 2009

Page 4

The diplomatic war between India and China over the $60 million loan from the Asian Development Bank, or ADB, for Arunachal Pradesh has entered a new arena. After the ADB overruled China’s objection and approved a $60 million loan for a watershed development project in Arunachal Pradesh, China took its protest to Japan. This loan is a part of ADB’s $2.9 billion India development plan for three years to 2012. China’s Opposition is based on its claims that Arunachal Pradesh is its territory. Its wait and watch for now.

In the newS

July

07

Banks opting for “take-out financing”

For a long time, banks like SBI and IDBI have been trying to transfer some of their infrastructure loans to finance companies like IDFC and LIC. Now, India Infrastructure Finance Company (IIFCL) plans to pick up infrastructure loans from banks’ books after a few years of disbursement. With four ultra mega power projects (UMPP) proposed by the government, the enormous loans required for a longer period necessitates the take-out financing option.

July

07

Budget for “aam aadmi”

On 6th July, Union Finance Minister Mr. Pranab Mukherjee presented the Union Budget for the year 2009-2010. The budget concentrated mainly on policies to augment the economy with a focus for increasing the GDP growth rate to 9 percent per annum. Fiscal deficit was 6.2 percent of the GDP for year 2008-09. Allocation for rural and urban infrastructure was increased by a large amount of almost 87 percent. GST would be applicable from April 1, 2010. It also concentrated on the upliftment of the weaker sections. This budget had considered all the sections which affected the economy. This Budget has been discussed in detail as the cover story of this issue of Niveshak

July

03

Mamta’s unique Rail Budget

Railways Minister Ms. Mamata Banerjee, on 3rd July, unveiled a massive plan to revamp railway stations in the country, saying that 50 stations in large cities would get world class facilities, while 50 more would have multi-functional complexes. Though the financial stress was high, Ms. Mamta Banerjee did not change passenger fares or freight cost. Passengers may cheer as the Rail minister has promised to start 11 new non-stop trains and also improve on the other rail facilities on the various routes. But with gross traffic receipts expected to grow at a slower 7.3%, while total working expenses are set to climb by 12.7%, the operating ratio is set to deteriorate to 92.5% in 2009-10 from 88.3% in the revised estimates for 2008-09.

June

30

Cuts in SBI rates

SBI promotes its market share in dealer financing by reducing the interest rates by 50 basis points that is 0.5%. This sink would depend on the bank’s internal rating scale for each individual customer. This new scheme started from July 1 and will be open till December 2009 and would help to double the bank’s market share. It would also provide roaming current account and multi-city cheques facility to dealers.

© The Finance Club, Indian Institute of Management, Shillong

Page 5

-Tanvi Arora

FinSighT

Investment Banking

...A Flawed Model ith the fall of the GODS of the Wall Street (most of the Investment Bankers “Big Five”), the question in everyone’s mind is whether the concept of I-banking is flawed. What needs to be understood is, what made these institutions fall. Was it because of the fallacies inherent in the Model or simply because of Factors that were exogenously determined, such as the burst of the Asset Bubble? The people who argue so claim that the I-Bankers took very high risks in order to book even higher returns, that could not be justified by any kind of logical financial analysis. I do not dispute their claim that perhaps they took risks that could not be justified, but their extension of this argument that this points to the faulty model of the I-banks is something that I do not concur with. I-Banks had started out as Organizations that facilitated foreign trade through Underwriting and Distributing the issues of the companies and later on moved to trading and facilitating Government Securities Market. They were primarily family run businesses, and they bore all the risk of their activities that they chose to undertake. This ensured that the risks would be controlled as the owners themselves were liable. As the banks progressed and the need arose they ventured into the business of providing advice as financial experts on a variety of issues such as Mergers and Acquisitions, Issues of Equity, Capital Structure, etc and also Investing their clients wealth. Still the risk of the investment lay with the Investment Banks due to the “Principal Risk” clause in their contracts. Thus their Revenue Model divided into two kinds of businesses, Feebased and Fund-Based. Underwriting, Advisory Services and Merchant banking all formed part of this revenue source wherein there was little or no risk in such returns. The other source of revenue was Fund Based, which consisted of Investing on behalf of their clients. This part also called Book-Keeping, and this is where the risk lay. With time as these Institutions expanded and were no longer family owned or managed, these Fund-based earnings were managed by the smart Investment Bankers, typically MBAs from IIMs and MDIs of the world. They were paid huge bonuses based on the kind of return that they were able to generate, without any personal financial risk. This effectively provided them sufficient incentive to take more and more risk, as the risk was the organizations’ and they were counting on the diversity of such risks to hedge their bets.

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All went hunky dory till the Asset Bubble went bust and the Subprime Crisis began. Most of the I-Bankers had purchased the CDOs (Collateralized Debt Obligation), and MBOs (Mortgage Backed Securities) of the world, based on the promise of high returns. This was under the assumption that since such debts had been bunched together as securities the risk had been adequately hedged, playing by the rule of large numbers. Unfortunately they did not anticipate the fall of the entire market of such securities due to drastic fall in the value of the underlying asset, the real estate. This led to fall of the fund-based part of the Investment Banks, due to insufficient Risk Management of their investments. They had forgotten the very principle that they had based their risk on, the Portfolio Theory. Nobel Laureate Harry Markowitz (for his contributions in Economics namely The Portfolio Theory), had said in an interview “Diversifying sufficiently among uncorrelated risks can reduce portfolio risk toward zero”. The important word here is uncorrelated, as the risks that these organizations undertook was simply not diverse enough, and when one investment tanked it was followed by many more. Hence I believe that it was not a failure of Investment Banking per se, but of Risk Management. Moreover Investment Banks are not just Fund-based Revenue dependent but also dependent on Fee-based revenues, which are relatively no risk businesses. Hence the Investment bank as an Institution has not failed but it’s a failure of the Management, and more specifically the HR (Human Resource) of these organizations. The kind of Performance Management System these organizations had along with the individualistic and competitive work culture provided an environment which was conducive to high amount of risk taking. The only I-Bank that had a relatively more team oriented work structure Goldman Sachs is in fact the one which has been least effected as the team structure ensured lesser investments because of competition and more because of analysis. What does come out of this crisis of the Investment Banks is the need for better Risk Management by the Corporates and the role of the Human Resource Departments of these Corporates in creating a more conducive environment which supports a more stable and sustainable growth.

Volume 2 Issue 6

By Utkarsh Bindal

MDI, Gurgaon



July 2009

Page 6

W

Cover storY

D BU GET ' 0 9

Exhibit: Revenue Budget 2008-09 Revised Est. (INR b)

2009-10 Budget Est. (INR b)

Increase in FY10 over FY09 (RE) %

Tax Revenue

5072

4660

4742

1.8

Non-Tax Revenue

958

962

1403

45.8

6030

5622

6145

9.3

Non-Debt Capital Receipts

147

123

53

(56.4)

Debt Capital Receipts

1261

2965

4010

35.2

Total Capital Receipts

1407

3088

4063

31.6

72

300

Total Receipts

7509

9010

10208

13.3

Fiscal deficit financing

1333

3265

4010

22.8

Total Revenue Receipts

Draw down of cash balance

© The Finance Club, Indian Institute of Management, Shillong

Page 7

2008-09 Budget Est. (INR b)

Cover storY

Exhibit: Expenditure Budget 2008-09 Budget Est. (INR b)

2008-09 Revised Est. (INR b)

2009-10 Budget Est. (INR b)

Increase in FY10 over FY09 (RE) %

4484

5618

6188

10.0

591

562

769

37.0

Total Non Plan Expd.

5075

6180

6957

13.0

Total Revenue Plan Expd.

2098

2417

2784

15.0

Total Capital Plan Expd.

336

413

468

13.0

Total Plan Expd.

2434

2830

3251

15.0

Total Budget support for central plan

1800

2041

2398

17.0

Total Central Assistance to states/UT

634

788

853

8.0

Total Expenditure

7509

9010

10208

13.3

Total Capital Non Plan Expd.

T

he Union Budget for the year 2009-10 was announced by Finance Minister Mr. Pranab Mukherjee on 6th July 2009. He had the twin responsibility of meeting the expectation of the Aam Aadmi who had delivered a clear mandate to the Congress led UPA and the responsibility of taking India back to the 9% growth bracket. Lets us see how he fared the expectations. The budget for FY10 clearly focused on boosting demand and enhancing infrastructure investments. This is reflected in: 1) An increase in plan expenditure by 34% from the revised estimate in FY09, and an increase in non-plan expenditure by 37%. 2) Increasing disposable income by abolishing surcharges on personal income tax and by marginally increasing (by INR 10,000) the tax exempt income bracket. The estimate is that this will increase disposable income in the upper and upper-middle income brackets (i.e. annual income above INR 10m) by 4.5-5%. 3) Allocation to key infrastructure projects increasing sharply – for example the National Highway Development Program (23% increase over FY09), Jawaharlal Nehru National Urban Renewal Mission (87% increase) and Accelerated Irrigation Benefit Program (75% increase). 4) A larger target for agricultural credit flow (INR

Niveshak

3,250b from INR 2,870b in FY09), continuation of interest rate subvention for farmers (short term crop loans up to INR 300,000 at 7%). PSU disinvestment as a source of funds has not been considered aggressively, moreover diluting the disinvestment plan over a period till 2014. The government chose to increase the fiscal deficit to 6.8% of GDP (from 6.2% in FY09). The market borrowing target increased from INR 3.1trn in the interim budget to INR 4trn – raising concerns about an increase in bond yields and interest rates. Moreover, GDP for BE 2009-10 has been projected at INR 58.57t assuming 10.05% growth over the revised estimates of 2008-09 (INR 53.21t) as released by CSO, leading to the risk of slippage from the fiscal deficit target.

Market response The BSE benchmark index, Sensex, tanked 5.83% on the budget day. The market was disappointed primarily because there were no targets set on disinvestments, no announcements on increasing FDI limits on various sectors. But the budget has to address a much larger constituency than what the markets address. In addition to the market concerns, the budget looks at rural spending, infrastructure, education and health. Also, the decline in Sensex may be because of the fact that the market may have misinterpreted some of the specific tax proposals.

Volume 2 Issue 6



July 2009

Page 8

Total Revenue Non Plan Expd.

Cover storY Tax Measures

Impact

Increase in MAT from 10% to 15%

No impact on companies' EPS as increased MAT would be claimed as MAT credit in the same year. Cash flow would decline as MAT is a cash charge. Infrastructure, Telecom and select oil & gas E&P companies are MAT paying.

Abolition of personal income tax surcharge

Increase in disposable incomes (for tax payers with income above INR 1m) by roughly 4.5%

Abolition of FBT

Positive for IT, Telecom and consumer companies by up to 1% in earnings.

Budget impact on various sectors Budget Impact

Analysis

Stock most impacted M&M

Autos

Positive

Higher outlay for rural income/agricultural credit positive for tractors. Increase in personal disposable income due to roll-back of 10% surcharge on income-tax will be a positive for passenger car and UV sales. Higher allocation for infrastructure development (through NHAI and JNNURM) will benefit sales of trucks and buses.

Banks/ Financials

Neutral

Market borrowing in FY10 projected to be INR 3,980b compared with the interim budget estimate of INR 3,086b. Government may shop in the first six months of the fiscal and leave the next for private companies. IIFCL to refinance commercial bank loans, & enable commercial banks to address asset-liability mismatch. Emphasis on developing core infrastructure was evident, with allocation to road, rail and urban infrastructure projects increasing significantly.

Telecom

Neutral

Impetus to the rural economy through employment generation and other initiatives positive. Increase in MAT from 10% to 15% negative, removal of FBT positive.

Oil Gas

and N e u t r a l / Deregulation still on the cards as the government sets up an advisory compositive mittee to advice on fuel pricing reforms.

Real tate

Es- Neutral

Bharti

RIL

Budget disappoints on key expectations. Key beneficiary would be Sintex industries due to increased government spending on housing for rural and urban poor where Sintex already has a presence.

Sintex Industries

Construc- N e u t r a l / Target of increasing infrastructure spending to 9% of GDP extended by two tion positive years to 2014. Increase in MAT from 10% to 15%. IIFCL to refinance commercial bank loans, enable commercial banks to address asset-liability mismatch. Increase in allocation by 64% for the infrastructure sector overall.

L&T, Lanco and GMR Infra

M e t a l s Neutral and Mining

Steel and other non-ferrous metal companies will be a beneficiary of the increased budgetary allocation announced for spending on the infrastructure sector.

IT

N e u t r a l / Overall, neutral to marginally disappointing relative to market expecta- HCL Tech and Positive tions. Market is of the opinion that the industry was lobbying not just for Rolta an extension of STPI tax breaks beyond March 2010, but also for a relaxation of the 10-year holiday period by at least another three years.

Pharma

N e u t r a l / Customs duty on specified life saving drugs/vaccines as well as on specified Cipla and SunPositive heart devices reduced to 5%. Pharma

Cement

Positive

Indirectly benefits through infrastructure and rural housing stimulus.

© The Finance Club, Indian Institute of Management, Shillong

Grasim and Ultratech

Page 9

Sector

Cover storY

The commitment to implement GST from April 1, 2010; the draft new direct tax code within 45 days; elimination of surcharge on personal income tax; increasing allocation to most major infrastructure programs; Support to agricultural sector to maintain 4% growth are the major positive signals from the budget. The FM has projected continuous infrastructure development and export growth as medium and long term drivers for economic growth. Fiscal deficit of 6.8% at the centre means that the economy may be in the unsustainable territory. With a government borrowing program of almost INR 4t, interest rates will head upwards. This may drag down the economic growth even when the government on one hand is spending more to give a stimulus. Our fiscal sustainability is much leveraged to getting back to high growth rates. In this backdrop, the dependence on external capital to fund private sector capex would increase, but to pull the external capital we need a luring FDI policy. This justifies the industry demand of increasing FDI limits. But the stronger view is that to put Indian economy back on the 9% growth trajectory an expenditure-centric budget has been outlaid. IMF expects the global economy to contract by 1.3 per cent in 2009, with a number of advanced economies experiencing the deepest recession in the post World War-II period. The World Bank has an even gloomier outlook of -2.9 per cent for the world economy. This has adverse implications for India's exports and capital inflows, and hence, its growth, which has already slipped from the highs of 9.0 per cent to 6.7 per cent in 2008-09. Had it not been for the government stimulus, the fall in growth would have been sharper. In this scenario, another expansionary fiscal policy is essential to push up growth; however, mounting deficits impose limits on government's ability to do the needful. Deficit spending on this scale risks an international rating review with consequences for the rupee’s external value, potential inflation and of course higher interest rates. Money supply growth has slowed down to 20.2% and is marginally lower compared to last year’s growth of 20.7%. RBI has targeted M3 growth for FY10 at 17%. RBI may undertake various policy tightening measures on higher inflationary concerns. The New Food Security Act, which will come into being in all likelihood by the next budget may cost INR 250b. We continue to spend but without any sustainable financing source. PSU disinvestment and 3G auction proceeds (approx., INR 350b) are not the sustainable route to fund expenditure. We have to target our subsidies better and remove some of the tax exclusions. Infrastructure development (highway and railways, power, gas, water, urban infrastructure, etc) is the answer to sustainable growth. The planned budget allocation has been increased in the above areas to give a platform for sustained inclusive growth. Allocation for railway devel-

Niveshak

opments was increased to INR 158b from INR 108b. The budget stressed the government’s intention of bringing infrastructure investment to 9% of GDP by 2014, from the present 6%. The key proposals in the export sector included the extension of Export Credit Guarantee Scheme till March 2010, interest subvention for exporters, increase in allocation for market development assistance schemes, facilitating flow of credit at reasonable rates to micro, small and medium enterprises through special funds etc. The government is likely to rely on disinvestment as well as an implementation of Goods & Services Tax (GST) to achieve longer-term fiscal sustainability. The latest Economic Survey has suggested an aggressive disinvestment program to generate at least INR 250b per annum. The government proposed to encourage people’s participation in the program while retaining 51% government equity in public enterprises. The threshold for public shareholding in finance companies was also proposed to be raised in a phased manner. The governments’ efforts to bring in structural changes in the tax system (direct tax code) and stimulate tax collections to GDP are a positive system building step. On the indirect tax front, GST can be seen as a system reforming measure. Rural area development spending remains the key policy focus in order to promote inclusive growth. Specifically, the allocation for the National Rural Employment Guarantee Scheme (NREGS) was increased to INR 391b from INR 301b in the interim budget. The government is set to pay additional interest subvention of 1% to the farmers who repay their loans on schedule, which will effectively bring down interest rates for these farmers to 6% from 7%. The deadline for the Agricultural Debt Waiver and Debt Relief Scheme was meanwhile proposed to be extended to 31 December 2009 from 30 June 2009. The allocation for the Pradhan Mantri Gram Sadak Yojana has been raised to INR 120b. Allocation for the Rajiv Gandhi Grameen Vidyutikaran Yojana has been stepped up to INR 63b. Allocation of the housing component of Bharat Nirmaan, Indra Awaas Yojana, is at INR 88b. The living standards of the landless rural workforce would improve with the support from NREGS and other rural develo p m e n t schemes and also with the shortage of labour from Bihar and Uttar Pradesh

Volume 2 Issue 6



July 2009

Page 11

Budget discussion

Cover storY

Growth drivers - 2009-10 1) Private consumption During the 4 years of accelerated growth between 2004-05 and 2007-08, increase in private consumption made the most important contribution to aggregate demand. But the picture changed dramatically during 200809. In the first half, the monetary tightening measures by the RBI to control inflation and inflationary expectations

pushed up the cost of borrowing. In the second half, the sharper-than-expected global slowdown had an impact on employment and income growth, especially in exportoriented sectors. As a result, private consumption growth slowed down considerably in 2008-09. The budget of 2009-10 aims to stimulate private consumption by increasing plan expenditure by Rs 400 billion over and above that was announced in the interim budget in February. A large portion of this outlay would be channelled through schemes such as National Rural Employment Guarantee Scheme (NREGS) and Jawaharlal Nehru National Urban Renewal Mission (JNNURM). The enhanced provisions for these schemes are aimed at boosting demand and generate employment in the domestic economy. In addition, an increase in the threshold level for paying income tax by Rs 10,000 for general taxpayers, and by Rs 15,000 for senior citizens would raise disposable income, albeit marginally. The removal of the 10 per cent surcharge on income above Rs 10 lakh for personal income tax payers should also encourage consumer spending. However, In spite of these measures, private consumption growth is unlikely to recover significantly in the current fiscal as job and income uncertainty continues. In addition, interest rates on retail bank credit have not come down to the level necessary to boost household consumption. 2) Government consumption In the second half of 2008-09, the government effectively used the fiscal policy as a tool to provide a boost to domestic demand and counter the negative impact created by the global financial crisis. Government expenditure is once again expected to be a leading growth driver in the current year. Total expenditure of the Central government is budgeted to increase by INR 1.199t or by 13.3 per cent y-o-y, primarily on account of higher plan outlay to boost domestic demand and increased food subsidy Until 2007-08, the most encouraging feature of government finances was an improvement of government savings and the increasing fiscal responsibility it exhibited. The pattern altered completely last year. As noted in the previous section, given the large size of stimulus already underway and more under consideration, importance of a clear commitment to long-run fiscal discipline is critical. In the absence of such a perceived commitment, expansionary fiscal actions can lead to increases in long-term interest rates, which would tend to offset the stimulus effects of the fiscal actions on GDP.

© The Finance Club, Indian Institute of Management, Shillong

Page 11

due to successful NREGS implementation in those states, the day wages of labour would improve in states like Punjab and Haryana. Also the budget points out that NREGS would be merged with other social sector schemes involving farming, land resources and rural roads. NREGS, PMGSY, IAY, would stimulate rural demand for products like cement, steel and fast moving consumer goods as well as services like mobile telecommunication services and direct-to-home television. The government wants to ensure an annual growth of 4.0% in the agricultural sector. The government has increased allocation to Rashtriya Krishi Vikas Yojana (RKVY) by 30% to INR 41b. The outlay for the Accelerated Irrigation Benefit Program (AIBP) has been increased by 75%. The flow of institutional credit to farmers has been increased to INR 3.25t. With 60% of population in India living on agriculture, government has paid special attention to this sector. The performance of the sector is highly depended on monsoons and with the impending shortfall in rainfall this fiscal, the robustness of the governments’ plan would come under severe test. The Budget is silent on Plan-B to achieve projected 10.05% nominal GDP growth in FY10 should the agriculture sector falter given deficient monsoon conditions. The cascading effects would be seen in the manufacturing sector as well. The government has not tackled the slippery wicket of subsidy yet again. The total subsidy bill is around INR 1.06t. The government plans to move towards a nutrient based subsidy regime instead of the current product-pricing regime in the fertiliser sector. The unshackling of the fertiliser manufacturing sector is needed to attract fresh investments. Also government plans to move towards a system of direct transfer of fertiliser subsidy to the farmers. This only means shifting of subsidy from the industry to the farmers, whereas the problem of subsidy still remains. With improvements in farm product pricing, rural transportation, rural roads, irrigation, rural electrification and warehouses, government can embark on a slow reduction of agricultural subsidy and making the sector more responsive to market dynamics. Of course this won’t happen overnight but still an early step in this regard should have been taken. The overall Plan budget for higher education is to be increased by Rs 20 bn over Interim B.E. Government introduced new scheme to provide full interest subsidy to cover loans taken from scheduled banks to pursue any of the approved courses of study in technical and professional streams from recognised institutions.

Cover storY 3) Investment The trend of investments in the economy rising in tandem with the GDP has been a prominent feature of India's growth story. In the last fiscal, however, investment growth, although robust, slowed down from a peak of nearly 19.0 per cent in 2004-05 to just over 8.0 per cent, as financing constraints and depressed demand compelled companies to revise their investment strategies. The improvement in investments in recent years has been driven by a significant increase in the private corporate sectors investment, largely funded via retained earnings, which has doubled as a share of GDP within 4 years - from 6.8 per cent in 2003-04 to 15.9 per cent in 2007-08. The current slowdown is likely to hit corporate investments, going forward. In light of the slowdown in growth of private investment, the budget announced a number of key initiatives to increase public sector investments, especially in infrastructure sectors such as highways and railways as well as urban infrastructure. The increased government spending, although necessary at this juncture, has further weakened the government's fiscal position. The current deterioration of the public sector finances could have an

adverse impact on corporate investment going forward, if a definite plan to reduce fiscal deficit is not in place. Earlier in this decade, private corporate sector investment had soared after the public's saving records started to improve and freed up resources for private investment and also brought down the cost of borrowing. 4) Trade India's external sector also witnessed a significant contraction in export and import growth in the second half of 2008-09 as the global economic crisis spread and world international trade started to contract. In spite of the government measures announced in the budget to support the export sector, such as provision of enhanced export credit and guarantee cover and the extension of the interest subvention of 2 per cent on pre-shipment credit for certain export sectors, trade contraction is likely to persist in the current fiscal year due to shrinking global trade activity.

By Arun Saluru

IIM, Shillong

FIN TOON

By D i lpr eet S. Gandhi &Saurav Bagchi

Niveshak

Volume 2 Issue 6



July 2009

Page 11

IIM Shillong

Cover storY

»»»»»»»» Budget'09:Analysis »»»»»»»» Economic Backdrop Union Budget was to be presented in a difficult time of downturn and recession in the global economy. This had an adverse impact on Indian exports and capital inflows. Growth rate fell from high 9’s to 6.7 percent due to reduced demand and financial constraints faced by the private sector. Almost all sectors took a hit. This could have been worse had the government not provided three stimulus packages as a counter measure.

Expectations

Niveshak

Sector-wise growth rates that influenced the Budget Spending more money in rural sector and lower income grow will create larger multiplier as they have a greater marginal propensity to consume. 8. India's exports have fallen for the ninth month in a row, beginning October 2008 under the impact of the global downturn. Export based industries that expect a decline in growth should be supported. Credit facility, tax incentives, export promotion are some measures that will boost exports and create jobs. 9. Direct and Indirect tax burden on private sector should not be increased as it would affect the sentiments of the sector. Also high taxes will result in lower private investments. Introduce GST to demolish tax barriers between states and have uniform tax rates and policy within the country. 10. Cautious disinvestment was expected. Disinvestment will cause decrease in revenue account receipts due to loss of dividends (especially high performing companies like BSNL). Therefore government should try to increase the efficiency of PSUs. Disinvestment can be done in some selective PSUs. 11. Auction of 3-G spectrum should bring in additional revenues. Loan from World Bank, borrowing from public should be other big sources of funds for the government. 12. FDI limit in some sectors like in insurance should be increased and FDI should be allowed in retail and aviation. This would increase the foreign investment. 13. Roadmap to reduce fiscal deficit was expected.

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Budget of 2009-10 was expected to take the economy on a growth trajectory. The Budget was expected to provide the necessary demand side push. Due to this the GDP would grow and the economy will move towards full capacity and employment. Expectations from Budget 1. India needs a massive infrastructure up gradation. Development of infrastructure would not only improve the supply side bottlenecks but also provide the requisite demand side stimulus to growth. This would create jobs, public wealth, conductive environment for business and a good return for investment. Investment plan regarding investments in nuclear power generation was expected to be announced. 2. Disparities in India are stark. 35% of Indians are illiterate. The condition of health care in the rural areas is dismal. Most of the hospitals are without the basic equipment. Spending in education and health sector was expected to increase. Improving the quality of human resource will result long term growth. 3. The huge Central Government fertiliser subsidy is one of the main reasons behind imbalance and overuse of synthetic nitrogen fertilisers in India. Replacing the current subsidy with nutrient base fertilizer subsidy was required. Performance of food grains, oil seeds, sugar and cotton was dismal during 2008-09 compared to 2007-08. 4. Increased allocation of funds for defence and national security. 5. A comprehensive policy on water and food security was expected especially due to climate change issues. 6. Reforms were expected in both fertilizer and food sector. There are urgent non-merit subsidies using step ladder approach. These subsidies are huge burden on revenue account. With stable UPA govt at the centre this was best opportunity to initiate the reforms. 7. Promotion of NREGA, funding to SMEs and SHGs should be done more aggressively as it would create employment in rural sector and increase in demand.

Cover storY

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Fiscal Policy Tools Dissection

Cover storY

Fiscal Deficit Trend

Actual Budget Analysis Expansionary fiscal stance has been maintained in order to reverse the economic slowdown that has set in since the second half of 2008-09. Expenditure has been increased in critical areas while tax rates have been largely left untouched. As a result, the fiscal deficit is expected to increase from 6.2% of GDP in 2008-09 to 6.8% in 2009-10. High deficit poses a threat to mid-term macro-economic stability as, for example, the price level and foreign exchange rates.

Growth strategy

Niveshak

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1. Increase in private consumption (C) - Large portion of this outlay would be channelled through schemes such as NREGS and JNNURM. 2. Government consumption (G) – Government expenditure will be leading growth driver in the current year. Total expenditure of the Central government is budgeted to increase by Rs 1,199 billion or by 13.3 per cent y-o-y. 3. Investment(I) - Budget announced a number of key initiatives to increase public sector investments, especially in infrastructure sectors such as highways and railways as well as urban infrastructure 4. Trade(NX) -Provision of enhanced export credit and guarantee cover and the extension of the interest subvention of 2 per cent on pre-shipment credit. Yad = C + I + G + NX Equilibrium condition will be reached when output supplied (Y) will be equal to quantity demanded (Yad)

Cover storY Area of emphasis Expenditure

security.

2008-09

2009-10

%Change

Defence

105600

141703

34.19

Petroleum subsidy

288.43

3109

7.79

4. FDI limit in insurance sector was expected to be increased. Also FDI could have been allowed in aviation and retail. A high forex inflow opportunity was lost here

Food subsidy

32666.59

52489.72

60.68

Fertilizers subsidy

20139.26

15728.19

-21.90

5. Surcharge should not have been removed. High income group can be taxed as their marginal propensity to consume is low.

Education

4244.18

7778.6

83.28

6. Subsidy like in kerosene and LPG should be only for those living below the poverty line.

Medical, public health and family welfare

1555.75

2726.7

75.27

7. Though there was provision for institutions like IITs and NITs, there was no increase in allocation for primary education

Transport

1550.63

1985.61

28.05

8. Last but not the least budget speech by our FM was expected to be energetic and reassuring, sadly which was not the case here.

If we compare the budget of 08-09 with 09-10 we can see that subsidies have increase specifically in food, oil etc. Subsidy on urea fertilizer has decreased as government has moved towards nutrient based fertilizer policy. Government has laid emphasis to already neglected education sector by increasing budgetary allocation by 83.28%. This budget is therefore directed towards creating consumption which would help industries to recover. Sector which will benefit the most will cement/steel, FMCG, Consumer durables, real estate and automobiles.

Expectations v/s Actual budget

Given the scenario our finance minister has done a good job. There is a calculated risk which has been taken but lot will depend on the execution of the budget provisions. Also monetary policy must be in sync with fiscal policy to maximise the effect of this stimulus. External factors like oil prices, monsoon, external demand etc will also play a major role in the success of this budget.

By Atul Gupta SIBM, Pune

This budget from UPA was eagerly awaited by the industry and general public alike. Industry had hoped for tax reliefs, stimulus packages and reforms in agriculture and subsidies. People especially poor who had brought the UPA government to centre were expecting job opportunities; cheaper/subsidised on food, oil and fertilizers; lower taxes; better health and education facilities. Thus this budget was a challenging task keeping in mind the bleak economic scenario worldwide. Few things that were expected and were not incorporated are – 1. Roadmap to reduce fiscal deficit should have been provided. High fiscal deficit is a cause of extreme worry and can reduce the credit rating for India 2. Roadmap on disinvestment should have been provided at least in the loss making PSUs

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3. The budget disappointed in areas related to seed sector, rainwater harvesting, agri-insurance etc. There is little in budget for agricultural growth but more for inclusive growth. Little has been done to ensure the food

Cover storY

Budget'09

E F F E C T ON Financial sector

Key points of budget'09-10 a) Real and Nominal GDP growth assumed at 6.5% and 10.05% respectively b) Revenue Deficit projected at 4.8 percent of GDP c) Fiscal Deficit projected at 6.8 percent of GDP d) Total expenditure increased by over 36 percent to Rs 10,208.38 billion over 2008-09 e) IIFCL to refinance 60 percent of commercial bank loans for PPP projects in critical sectors over the next 15-18 months f) Allocation to NHAI for NHDP, JNNRUM, APDRP all increased by large extent. g) Rebate for Farmers paying loan on time at a lower rate of 6 percent proposed. h) Allocation under NREGS programme increased

Niveshak

by 144 percent i) Allocation for BHARAT NIRMAN programme increased by 45 percent j) Overall Plan budget for higher education to be increased by Rs 20 billion. k) Retaining 51 percent govt. equity stake at PSUs, still estimated proceeds from Disinvestment for Business year 2009-10 stands at 11.2 billion.

Impact factors and their impact FARM CREDIT Government has directed banks to lend Rs. 3,250 bn to the farm sector. Interest subvention scheme for short term crop loan at a subsidized rate of 7% per annum is going to continue for the current fiscal year. Under the debt relief scheme, farmers having more than two acres of land were given margin upto 30 June 09 to pay 75% of their overdue. In the current budget this period was extended to 31 Dec 09 because of late arrival of monsoon. REFINANCE SCEHME There is also a proposal to provide a special fund of Rs. 40 bn for supporting micro, small & medium enterprises (MSME). This will incentivise the banks & state financial corporations (SFC) to lend MSFE by allocating about half of the incremental lending to small and medium enterprises. Also Rs. 20 bn is allocated for the rural housing fund to National Housing Bank (NHB) will broaden the pace of rural housing. FINANCIAL INCLUSION To ensure provision of atleast one centre for banking services in every part of the country, one time grant in aid of Rs. 1bn was proposed to set aside. This project is expected to be completed in 3 yrs. It has been proposed to relax the Branch Authorization Policy. These proposal are a part of the large financial inclusion drive, providing banks with an opportunity to expand their core banking business. HARDENING YIELD Lower returns on G-Sec in the back drop of revised estimates for fiscal deficit will have a negative impact on the banks’ investment portfolio. On the other hand, the investment activities will pick up due to the growth

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The Finance Minister, Mr. Pranab Mukherjee’s Budget Speech talks of three main challenges to Indian Economy at present:i) Lead the economy back to the high GDP growth rate of 9 percent per annum at the earliest. Growth of income is important in itself, but it is as important for the resources that it brings in. These resources provide us with the means to bridge the critical gaps that remain in our development efforts, particularly with regard to the welfare of the vulnerable segments of our population. ii) Deepen and broaden the agenda for inclusive development; and to ensure that no individual, community or region is denied the opportunity to participate in and benefit from the development process. iii) Re-energize government and improve delivery mechanisms. Indian institutions must provide high quality public services, security and the rule of law to all citizens with transparency and accountability. The Finance Minister has tried his best to maintain a tight balance between all these three objectives throughout the various nitty-gritty’s of his Budget. Let us try to analyze some of the important steps that he has mentioned from the point of view of the problems mentioned above, and how far do they have the potential to be successful in achieving the objectives as mentioned above.

Cover storY in investment income. However, comparing the magnitude of both the effects, it is estimated that the fall in the face value of G-Sec will be of higher order than investment income. Also there are other factors like maturity profile& coupon rate which will determine the impact on G-Sec. Still, on an average this will have a marginal negative impact on the investment portfolio of banks. In Budget ’09, emphasis has been laid on priority sector lending focussing on Agriculture, micro & small enterprises and rural housing. Continuation of interest subvention scheme, debt waiver and debt relief scheme will negatively affect the profitability of banks. However, the reduction in target growth rate (over the previous year ) will give bank a breather. Overall the impact of BANKING & FINANCIAL sector is NEUTRAL

Industry expectations Vs Budget'09 The budget didn’t meet most expectations of the banking sector. There were no announcements made on foreign direct investment (FDI) in insurance and public sector undertaking (PSU) bank divestment. Banks had gained 32% between May 15 and July 3 on account of high expectation of reforms to be introduced but not much was covered in the budget. Also, higher than expected fiscal deficit will put pressure on bond yields. Many financial analysts expect 10-year bond yield to touch 7.5% in short-term and 8% by December-end. Severe liquidity crunch will keep the banking counter underperformer. The relaxation in non-performing loan norms in real estate and corporate sectors may lead to weakening of asset quality and exert greater stress on the sector. Retaining public sector nature of banks is seen as an indicator of slow process of consolidation & reforms. On the contrary, there are few positive points also. As the disposable income of people increases due to Income tax relief, savings will increase and it is also good for banking. Overall, while the Budget did not stand true to all of market expectations, we expect that the government’s efforts will continue outside the Budget also and will help improve India Inc’s earnings.

FinQ March’09 Issue Answers 1. Bank of New York, which was the first corporate stock traded under the Buttonwood tree in 1792, and the first listed company on the NYSE. 2. Berkshire Hathaway 3. $80 million in U.S. Government bonds that were issued in 1790 to refinance Revolutionary War debt. 4. The Philadelphia Stock Exchange, in 1790 5. 1867 6. Chicago Board of Trade 1848 7. Con Edison, which was listed in 1824 as the New York Gas Light Company 8. March 29, 1999, when it closed at 10006.78 9. The Curb, because it was originally started by traders on the streets of New York City standing on and by the curb. 10. The Massachusetts Investors Trust was created on March 21st, 1924

By Arpit S O lanki & Avik Roy

© The Finance Club, Indian Institute of Management, Shillong

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IIM, Kozhikode

The chindia debatE

Where the neighbours spend he current global economic scenario presents several challenges and opportunities to the world’s emerging economic powerhouses - China and India's economic developments. The repercussions of the financial crisis has manifested itself in terms of reduced GDP growth rates in China from 13% in 2006-07 to 9% in 2007-08 and from 9% in 2006-07 to 6.7% in 2008-09 for India. Sustaining high growth rates would require increased government spending to support key areas in economic and social development like agriculture, infrastructure, education, healthcare, etc. Diminishing revenue sources due to the slowdown would make it difficult for governments to finance expenditures necessary to enhance the economic wellbeing of the country and its people. Targeted fiscal deficit for 2009 is at a six-decade high in China while for India it is at an uncomfortable 6.8% of GDP, the widest in sixteen years. While acknowledging these economic pressures, the article tries to look at how being in a period of strategic opportunities, the two countries plan to continue to promote steady and rapid development in three aspects – the rural economy which supports majority of the population, infrastructure – that would provide continued stimulus to growth and education – that determines the future of the two countries.

Rural Economy The sector is very important to both India and China since they have a huge proportion of rural population to support which are directly dependent on agriculture for their livelihood. However, the China-India differential in the average growth rate of agriculture (4.8 per cent versus 2.9 per cent) is like a mirror image of the differential in the overall growth rate of GDP (9.5 per cent versus 5.6) averaged over the last twenty five years. There is wide consensus on the rule of thumb that for China and India, an X% growth in agriculture will result in a growth of 2X% overall. China has 933 million hectares of total land, a little over three times of the Indian land area of 297 million ha. Yet, the Chinese are constrained by an arable land area of 124 million ha, which is three quarters of the Indian endowment of 162 million ha. However, the amount of irrigated land is the same in both the countries at about 55

Niveshak

million hectares giving China an irrigated to arable land ratio of 0.44 while India a modest 0.34. In order to correct this anomaly, the Indian budget proposed a hike of 6.8% for irrigation and flood control and a 5.5 % growth in agricultural allocation this year. In comparison China has boosted spending on agriculture and allied activities with a 43.6% y-o-y increase in 2008-09 followed by a healthy 27% increase in 2009-2010. The Indian budget has also been seen a big push for rural development in 2009. There has been a 144 per cent jump in the allocation for the flagship job guarantee scheme, NREGA to Rs. 39,100 crores, and a 45 per cent hike for the Bharat Nirman programme that seeks to improve infrastructure in villages. There is also mention about efforts to merge the scheme with other social sector schemes involving farming, land resources and rural roads. China has also boosted its spending on rural areas by 20% over the previous year.

Infrastructure Developing infrastructure is the key to sustaining economic growth and poverty reduction. Throughout the last decade, China has invested heavily in infrastructure. A lack of a facilitating policy framework had been the major roadblock in infrastructure development in India. However, the last two years have seen India boosting spending on building highways, modernising ports and airports. Despite significant improvements most infrastructure services are at a level far below that what is required to sustain high rates of economic growth. While most of China’s infrastructure was developed by state owned companies and would continue to be so, India offers huge scope for opportunities for Public-Private Partnerships, private firms and portfolio investors. The Union Budget in India had but limited provisions for infrastructure. It is only the power sector that received an increase of 160% through the Power Development and Reform Programme. It is interesting to note that over the past two years allocation towards transport infrastructure in India had increased 57.1% in 2008-09 and 20.4% in the last budget. The corresponding figures in China had been 28.1% and 17.8% respectively. Also, spending on transport Infrastructure in India is budgeted to be

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T

The chindia debatE

Education Education is a fundamental driver of a society’s development. Both China and India spend roughly the same percentage of GDP on education. This implies that in per capita terms, China spends more than India on this front. It is also a well known fact that India well lags behind China in primary education with literacy rates more than 85% compared to India’s less than 65%. While China has achieved universal basic education, India has much left to do. Although primary education is compulsory and there is legal guarantee of free education, the gross enrolment ratio in primary education is low in India at 98.1 as compared to China (116.2). Also, China has acquired a considerable lead over India even in higher and professional education. The Indian Union Budget 2009 has laid emphasis on education through a Rs.900 crores provision for the Scheme ‘Mission in Education through ICT’ and higher allocations under the Skill Development Mission .There has also been enhancement for higher education and allocation of Rs 2,113 crores for IITs and NITs especially in J&K and the North Eastern States. The Mid Day Meal Scheme has been extended to upper primary classes which will benefit 2.5 crores additional number of children. However, spending on school education under Sarva Shiksha Abhiyan has not been increased. Public expenditure on schooling would be inadequate for the number of children entering school-going age every year. The budget also makes no mention of issues related to implementation of the programmes. The Budget has also introduced a new scheme to provide full interest subsidy for loans to the weaker sections of the society. The Budget in China is more focused on compulsory education and implementation. It has provided for a 16.1% increase in for operating compulsory education in rural areas which includes a wide range of allocations from providing tuition and other education-related expenses for compulsory education, maintenance of buildings, to implementing a performance-based salary system for teachers in compulsory education. Funds have also been allocated to develop county-level vocational education centers and demonstration secondary vocational schools and improve facilities in rural schools. Subsidy allocations have been made for vocational colleges and workshops to gradually make secondary vocational education free in rural areas. Several billions have been allocated for assis-

tance to students from poverty-stricken families and for state education assistance loans and subsidies apart from provisions for higher education. At an overall level, planned expenditures for education in the Indian budget have increased at 20% over 2008 and 24.5 % in 2008 over 2007. The corresponding figures for China are as high as 23.9% and 48.5% respectively. Out of the US $54 billion budgeted for planned expenditure in China, funds have not only been allocated for building rural highways, airports and trunk railway lines but also for subsidizing urban public transportation, rural passenger transportation and taxi services. More than half the planned expenditure would be allocated towards rural development and infrastructure construction like roads.

Conclusion The Chinese model of development has stood it in good stead, with agriculture first getting transformed and growing rapidly, creating the funds and manpower surpluses for fuelling industrial growth, notably in the small and medium industrial sector. For India reform began in the external sector. Purchasing power in the rural areas remained low for years, with a tremendous impact on the overall growth rate. The rural poor in India continue to be around 30 per cent of the population as against less than 5 per cent in China. The link between Chinese agricultural expansion and the overall market expansion for all sorts of non-agricultural goods and services is only obvious. All this happened in a country with less arable land than that of India. Over the past decade, economic growth in rural India has outpaced growth in urban areas by almost 40 per cent. Rural India now accounts for half of the country's GDP. Hence, the emphasis on the rural development with an increase of over 117% over the previous year makes strong economic sense. Also, this would further cushion India from external crisis due to increased dependence on domestic consumption whereas the Chinese ‘economic miracle’ is hugely dependent on export-led growth and state-led fixed investment. Importantly, agriculture in rural India now accounts for only half of rural GDP and is declining. However, infrastructure and education need further reforms in India as both hold the key to poverty reduction. Infrastructure development would take place only with stronger political will, greater transparency and an environment conducive to the private sector. Investments in infrastructure, primary education and higher education that foster innovation are indispensable to lay the foundations for more developed economies in future. India has much to learn from China here.

By Manas Jain &Lopam udea Biswas

© The Finance Club, Indian Institute of Management, Shillong

NMIMS, Mumbai

Page 22

about US $20 billion in 2009 while in China it is US $ 27.7 billion. The issue that arises is, even if China is the benchmark and our allocations towards infrastructure are increasing every year, is the pace sufficient to sustain a 8-9 % growth rate. While spending on roads in India would increase by 23 %, spending on national highways other than those implemented by NHAI would reduce .The budget has mainly increased allocations on ongoing projects like Jawaharlal Nehru National Urban Renewal Mission for urban infrastructure and Bharat Nirman.

OpinioN

NATIONAL FOOD SECURITY BILL

Niveshak

The road to insecurity The NFSA bill is likely increase food rate by 30 per cent and may cut 35 per cent monthly allocation of more than 32 million poor families under existing Antyodya scheme. In short, the scheme claims to reduce the prices of food grains but at the same time the total quantity has also been reduced by 10 kgs. Hence the allocation of grains also reduces from the present one. Since poor families generally have many members to feed, they will need to buy the extra needed grains at market prices which in turn will defeat the purpose of providing food security to the poor and needy. • Addresses malnourishment and not hunger: The focus of any food security bill should be nutritional security as opposed to food security. Instead of providing the high quality, high cost and low nutritional valued rice, the centre could provide the poor with nutritionally superior and low cost coarse grained rice. This will not only serve the purpose of feeding the poor but also address their nutrition needs and hurt the government treasury a little less! Thus the NFSA must aim at expanding the food basket by including coarse cereals and pulses. • Dependence on adequate rainfall: The Government, in passing the NFSA bill, has been assuming that the rainfall in 2009-10 will be normal and adequate enough to produce the required amount of food grains. However, if this doesn’t happen and since the Government will still have to honour the proposed scheme, it will just add to the government’s fiscal deficit problems. Thus, any flaw in the proposed Act, leading to unintended exclusions of genuinely poor people will only result in unnecessary discord and discontent at the ground level. The key challenge is not just passing the Bill, but making sure it is implemented in a manner by which this subsidized food reaches the needy. The proposed National Food Security Act (NFSA) cannot be a stand-alone activity. It has to be integrated with various other programmes and policy initiatives to ensure that hunger becomes history. To achieve this objective, the food security plan should essentially aim at adopting a fivepoint approach:

Key points to ensure the success

1. Public Policies for Zero Hunger: • For a successful ‘food-for-all’ in the long-term, India must move to a Zero Hunger programme by attacking the structural causes of poverty and hunger like creating adequate employment opportunities and promoting sustainable livelihoods by involving the village communities. • Better health care facilities, access to safe drinking water and sufficient micro-nutrient intake will ensure that food is properly absorbed. 2. Sustainable livelihoods: • Agriculture is being sacrificed for the sake of industry, mining and exports, and land acquisitions are divesting Indian farmers of their only form of economic security by forcing them to quit agriculture.

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E

mboldened by the electoral verdict that gave 206 seats to the Congress, the UPA-II government has set out a five-year ``transformative agenda for governance'' that promises a big deal to women and the poor. The National Food Security Act (NFSA) is a strategy to effectively address global hunger and improve food security. So is this different from the half-a-dozen schemes already in place or just another populist measure? At present, the Centre provides 35 kg of rice or wheat per month to each BPL family. Wheat is supplied at Rs 4.15 per kg while rice at Rs 5.65 a kg to over four crore families living below the poverty line. The proposed National Food Security Act (NFSA) is the government’s way to feed the hungry and impoverished in India – the world’s largest population of hungry and malnourished. As per the NFSA bill worth Rs. 50,000 crores, each Below Poverty Line (BPL) family would be entitled by law to get 25 kg of rice or wheat per month at Rs 3 a kg. The Act, if enacted properly, could be a new beginning and turn the appalling hunger in India into history or become just another populist measure by the government. However, the only worry here is that the proposed Act should not push the hungry even more deeply into a virtual hell because of the following factors: • The urgency with which the proposed law is being drafted: Meeting the deadline of putting this law into gear in the first ‘100 days’ of UPA-II without first adequately debating the finer details and trying to work out a plausible structure for a long-term food security plan, is fraught with dangers. Merely replicating the Public Distribution System (PDS) in a new avatar will not be sufficient to lift people out of hunger. There have been earlier attempts by other nations at fighting hunger. For example, Brazil’s Zero Hunger programme launched by in 2003, for providing three square meals a day to an estimated 46 million people living in hunger and extreme poverty, was the result of a year of inputs from various stakeholders, and is still far away from alleviating hunger. Thus these hunger-alleviating programs require extensive research and study for effective implementation and success of the programs. • Data surveys carried out to estimate the BPL families, are useless if the people being surveyed have an incentive to lie: Surveys of the National Sample Survey, used to measure poverty, ask people how much they consume of various items. But people have an incentive to understate consumption to become eligible for benefits. E.g.: The Act guarantees 35 kg of grain at Rs 3/kilo for the poor, who are to be identified by five-year surveys. Hence, even the middle-income families will claim to be poor to qualify for cheap food. • Currently, wheat is supplied at Rs 4.15 per kg while rice at Rs 5.65 a kg to over four crore families living below the poverty line. Now if new food security bill is likely to reduce the monthly allocation by 10 kg, then all poorest of poor under existing BPL list are also likely to pay @ of Rs.3 kg in place of Rs.2 kg.

OpinioN traditional grain banks (The famed Gola system in Bihar), which need to be replicated through a nationwide programme involving self-help groups and NGOs. 5. International commitments: • Global commitments and neoliberal economic policies like the World Trade Organisation (WTO) agreements, the Free Trade Agreements (FTAs) etc should not be allowed to displace farming communities and play havoc with national food security. 6. Other Implementations: • A system of direct cash transfer to beneficiaries should be adopted instead of resorting to the "complex Public Distribution mechanism" which is fraught with possibilities of default and errors of inclusion and exclusion. Studies show that instead of physical handling of grains, conditional cash transfers to the poor, especially women, are much more cost-effective ways of helping the poor. • New technologies can be used to issue biometric cards to the poor for their entitlements through food vouchers. These food vouchers can be used to buy a number of food items from any grocery shop, who in turn can get these reimbursed from post offices or banks on a commission basis. • To identify the poor, one can combine high-tech methods with social audits. The criteria must be simple, and to the extent possible, foolproof. For example, one can say that all those who have a motorized vehicle, or a cell phone, or a land line with a minimum bill, or a job in the organized sector, etc., are not BPL. However, these people will have every incentive to make false claims to poverty so the leakages to the non-poor will be massive. A better way to improve targeting would be to use gram panchayats to identify the poorest families in each village, and restrict cheap food to them, as in the Antyodya programme, which has a decent reputation for reaching the truly poor. For instance, in poor districts, panchayats could be given enough cheap food to distribute to the poorest 60% of families, while in rich districts panchayats could be given enough cheap food for the bottom 10% of families. This will eliminate the incentive of households to lie to surveyors — beneficiaries will be selected by panchayats, not surveyors. Such a scheme will restore honesty to surveys, and reduce leakages of food and cash transfers to the undeserving. Thus the National Food Security Act which works on the "cheap wheat and rice" model, would not only be more expensive, in terms of economic cost, carrying cost and transportation but will also ignore the nutritional needs and the existing food culture among two-thirds of our population.Also, it artificially inflates the demand for wheat and rice and does not involve or empower the community in any way. Thus unless the UPA-II government comes up with a detailed and well-studied implementation plan, the NFSA or, for that matter, ANY such schemes will erode, rather than enhance the self-reliance of rural communities!

By Rituma & Shubhada

© The Finance Club, Indian Institute of Management, Shillong

NMIMS, Mumbai

Page 22

• In a country where agriculture is the mainstay of the economy, all efforts must be directed towards strengthening low external input sustainable agricultural practices and revitalise the natural resource base, restore groundwater levels, and provide higher incomes to farmers. • The NREGA has to be integrated with agriculture, and the interest on micro-credit for the poorest of the poor has to be brought down to 4 per cent from the existing 20-48 per cent. 3. Dismantling the Public Distribution System: • India’s PDS technically caters to 316 million people. If the PDS had been even partially effective, India shouldn’t have been saddled with the largest population of hungry in the world. Hence, there is an urgent need to dismantle the PDS except for the Antyodya families. • The reason is that the existing PDS, with a network of at least 400,000 fair price shops, suffers from large leakages. The Planning Commission’s study of 2005 shows that roughly 58% of grains issued from the PDS do not reach BPL families due to problems ranging from targeting errors to corruption all along the chain. • The Wadhwa committee looked into the operations of PDS and recommended, in its report submitted in 2009, an endto-end computerization of PDS operations, from procurement to distribution of grains. • It also suggested using radio frequency identification devices to track the movement of grains to stop large-scale corruption and diversion. • Even the present classification of BPL and APL (‘below poverty levels’ and ‘above poverty levels’) needs to be done away with. For e.g. The recommendation of the National Commission on Enterprise in the Unorganised Sector (NCEUS), which states that 836 million people in India spend less than Rs 20 a day, could be the criteria for a meaningful food-for-all programme. 4. The Community Food grain Bank Model: • The dismantling of the Public Distribution System has to be followed by the setting up of food grain banks at the village and taluka levels. Any long-term food security plan cannot remain sustainable unless the poor and hungry become partners in the fight against hunger. • A Community Food Bank could be maintained by the community with withdrawals according to need in times of stress. • The subsidy involved is barely Re1 per kg, as compared to the Rs7-10 per kg for wheat currently being shelled out by the Food Corporation of India under various schemes. • This system has the advantage of cutting down on food miles. The shorter the distribution channel or food pipe, the smaller the possibility of leakage. • Coarse grains and pulses, despite their low cost and nutritional superiority, have not been a part of the public distribution system on account of their limited shelf life. However, this argument is easily overcome by making production and consumption local. • Thus, it would also provide traditional, nutritionally superior, culturally acceptable fare based on coarse grains and pulses rather than on wheat and rice. • The Community Grain Fund model not only caters to the chronically hungry but also empowers them by giving them control over their own food security. Decisions on crops to be planted, procurement prices and beneficiaries would be taken locally, albeit closely monitored by designated government agencies or NGOs. • Thus there are ample examples of successful models of

FinloungE

FinQ 1. Which word was derived from the French word Bougette meaning 'Little Bag' 2. In Indian economic scenario what significant reform was introduced by the Indian Government on April 1, 1957? 3. Name the first private sector corporate launched the gold fund in India? 4. Which is the only country having paper currency and have no coins and it introduced cheque only in 1997? 5. X has its headquarters in Zurich, Switzerland. It opened its first branch outside of Switzerland in 1942. In 1988, it gained a controlling stake in The First Boston Corporation. In 1993, Credit Suisse Group bought Schweizerische Volksbank (People's Bank of Switzerland). Identify X 6. Which company had its world Headquarters located at 383 Madison Avenue, between East 46th Street and East 47th Street in Manhattan? 7. The founder of which brand, now a part of P&G, once said, ''I have done more than anyone else to change the face of mankind''? 8. Identify the company whose ad is shown below?

9. Identify the logo

10. This is a mathematical algorithm for scheduling a set of project activities. It is used commonly in the fields of construction, engineering, plant maintenance among others. It was developed by the DuPont Corporation in the 1950s. What is this technique?

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ARTICLE OF THE MONTH The article of the month for July 2009 goes to Mr. Arun Saluru of IIM Shillong. CONGRATULATIONS!!

Fin-Q Winner for Last issue Ms. Shikha Singh of IIM Ahmedabad. She receives a cash prize of Rs.500/-. CONGRATULATIONS!!

All Are INVITED!! It is time to look back at “The Year That Was” and collate our learning from it. Pick up any of the big news that hit the world of Finance over the last year or look at the year as a whole. You can choose from one of the topics below or write on any other topic that you think affected us more. 1. 2. 3. 4. 5. 6. 7.

The Collapse of Wall Street 21000-8500-15000. what a roller coaster ride? Satyam Fiasco Bankruptcy of Auto Giants Was 2008 worse than 1929? Can the new government in USA & India bring things back on track? Is the crisis bottoming out or is the worst yet to come?

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