Understanding the Future from History

Note: As a corollary to the post previously written and continuing an effort to understand the current predicament we find ourselves in- I revisited Ray Dalio's (Founder of Bridgewater Associates, the world's largest hedge fund) Economic Principles and the framework espoused therein, to gauge where in the economic cycle we are. 

The Ray Dalio Framework

To ascertain where in the economic cycle we are, one must understand the interplay of three concepts (as seen in Figure 1):

1. Productivity gains- Denoted by Real GDP per Capita, this has more or less seen a linear progression through the last century. 
2. Long term debt cycle- Since the times of Old Testament (which also calls for the need to wipe out debt once every 50 years- better known as Jubilee), cycles of credit creation and bust have persisted in our economy. Credit and spending rises faster than income levels which in turn generates higher incomes and networth through increased aggregate demand. This cycle, however, cannot persist forever and as the cost of servicing the debt rises beyond a certain limit, so does the chance of its default. This pushes the economy through a arduous process of deleveraging before the economy is capable of going back into the consumption phase.  
3. Short term debt cycle- What is commonly known as the business cycle, is primarily controlled by the money supply and velocity in the economy. When rate of spending grows at a faster clip than the economy's ability to produce we witness heightened rates of inflation. To curb this, tighter monetary policies are sanctioned leading to a contraction in the economy. Such recessions end with a reversal in monetary policy in order to stimulate demand, and the cycle replays. 

Figure 1: Interplay of the three concepts

Implications of this Framework

At the very least, viewing the events of this century through the lens of Dalio's framework, exposes the folly of calling the Financial Crisis of 2008-09 a concluded recession. Quantitative easing to the extent we have seen (see Figure 2) in all the developed economies should have been more than enough to spur spending and therefore aggregate demand in a post recession world. This however isn't the case. Deflation and lack of growth are still at the front of every central banker's mind in these economies, as they wallow in the denial of their ineffectiveness to salvage economic growth. It is not monetarists that the world needs now; it is time for the Keynesians to shine. 

Figure 2: Money Supply in USA

The inability of easy monetary policy in spurring credit growth and the rather high levels of indebtedness in the developed economies indicate a top in the long term debt cycle. When the cash flow crunch causes the deleveraging process to commence is anyone's guess but a look at Figure 3 indicates that it is likely to be sooner than later. 

Figure 3: Household debt service at an all time high in USA

The over-indebtedness of the borrowers makes sensible lending impossible, thus rendering easy monetary policy as a tool to create easy credit growth, useless. The above charts clearly indicate that the scenario of fundamental imbalance that we find ourselves in today, is most similar to the circumstances seen in the US in the 1930s- a depression, not a concluded recession.

Combating the Implications

It is imperative to study the methods of combating these implications simply to make an educated guess of the what to expect from government policies across the developed world over the next decade.  The debt to income ratio can be tackled down with two sets of policies:

1. Deflationary and Recessionary- Debt reduction methods including austerity.
2. Inflationary and Stimulative- Debt-monetization and heightened government spending.

While parts of Europe has adopted the former, US seems to be on track to adopt more of the latter. This predicament the economy finds itself in, coupled with the election of Donald Trump has paved the path for the Keynesian thought process of 1930s to take over USA today. This recovery, however, will be a onerous process as infra spend is a long term commitment and current level of debt will raise the difficulty level of the conundrum. Figure 4 however demonstrates a template from the past to help determine our expectations of the future.

Figure 4: Federal Budget Surplus/ Deficit in USA

The appendage of fiscal stimulus can only be taken away when we return to normalcy; i.e. "only when capable providers of capital willingly chose to give money to capable recipients of money." For this to occur the populace will go through denial, reluctance to accept lower credit and therefore lower spend levels, acceptance of the new normal, admittance of the fiscal stimulus into their systems and finally ability to run without the appendages again. This elongated deleveraging process will cause a shift in the global economy; the lull period in the developed economies of today will be capitalized. The occurrence of the shift is even more obvious from the Figure 5 below. The developed of the past will become the developed of the future. 

Figure 5: % Share of the World GDP

The Political Cycle Implications

Dalio's framework suggests that there are five stages a country goes through:

1. Countries that are poor and think they are poor- Transition from such a stage is gradual and only initiated with minor structural reforms which results in Foreign Direct Investment in the country in order to take advantage of its low cost of production. India's economic liberalization in the early 1990s would be that reform that has transformed the country over the last two decades. Without such reforms countries can be stuck in this phase for a long time. 
2. Countries that are rich but think they are poor- Such nations are characterized with hard-work, immense amounts of savings as they are unsure of the future and predominantly an export led economy. China in the first decade of this century would be a textbook example of this stage.
3. Countries that are rich and know they are rich- With a generation being born into prosperity, without the conditioning of the hardships faced in the previous two stages, countries that find themselves in the higher decile of nations (in terms of per capita GDP), act like it. Their economic prowess enables them to wield significant dominance over global politics. The "American Empire" that "ruled by speaking softly and carrying a big stick" post World War II is a classic specimen of this stage. 
4. Countries that start becoming poorer but still think of themselves of being rich- Adorned with a phase of leveraging, debts start piling up as income levels do not support the spending sustained in the earlier state of 'richness'. The end days of this stage are denoted by repeated asset bubbles. In hindsight, the first decade of the 21st century in the US which witnessed two massive bubbles- tech bubble in 2000-01 and financial crisis of 2008-09 is likely an example of such a case. Britain between the two world wars would also fit in with this stage. 
5. Deleveraging- With the growing imbalance between credit fueled spending and income, great countries and nation empires of the past go through a phase of decline and those in stage 3 at the time take over from them. 

Dalio's framework of long-term debt cycle leads us to a similar political conclusion for the future of this world as discussed in the previous post. His framework however enables us to better understand the progression from today, to that conclusion while giving us a reasonable guesstimate for a timeline that can be deduced upon using his template. 

Note: To further understand Dalio's framework read his book titled Economic Principles. The link for the same can be found here.

History of the World

Disclaimer: This is my most ambitious post yet for I am trying to condense thousands of years of human history into an essay, sincerely (and most likely foolishly) attempting to recognize patterns therein; in an effort to better understand the resurgence of nationalism today. In writing this I am not trying to make a contention of my historian credentials (for I have none) but merely positing a theory that emerges from my perception of the repeating stories in history.

My hypothesis is that despite differing manifestations, the circular story-lines in history do repeat themselves. The difference in my view stems however from claiming where the cycle starts. Since it is a circular recurrence, there is a chicken and egg problem. Nonetheless, I believe that we have smaller groups (families/ tribes/ nations) that are born and just as children's conscience and minds which are clean slates, wanting to learn from everyone around them- these smaller units engage in trade with everyone around them to gain as much knowledge as possible from them. It is this trade that results in fostering the spirit of globalization and internationalism. As these units expand their numbers and horizons, they start forming beliefs and strong sense of self; quite like an adult. This sense of self stems from generations being born into prosperity directly. As the spirit of nationalism heightens, generations born into prosperity grow detached of the world outside the unit. This inward looking behavior continues resulting in a display of a class struggle within the unit eventually disintegrating into distinct different new units. And so the cycle starts again.

I. Ancient: Hunter gatherers to Civilization to its Collapse

As hunter gatherers, homo sapiens only looked out for themselves at first and later their tribes. As we underwent the neolithic revolution with the discovery of wheel, cereal crop cultivation, mathematics and cursive script, we began settling down and forming urban centers. These urban centers traded with one another in order to gain the best products from each others. The centers that thrived flourished into civilizations- Mesopotamia (3500 BCE), Egypt (3000 BCE) Indus Valley (2500 BCE) and China (2200 BCE onward). As trade grew, a complex economy structure developed with barter system giving way to currency. The regulation of these innovations demanded a central government and sophisticated language and writing skills. With prosperity and a need to legitimize a government, cultures and religion emerged. Religions that started with praying to the natural elements enabling flourishing trade, ultimately resorted to deitification. It is with these deities and the myths conjured to legitimize their being, that competing philosophies started emerging in the world giving rise to the Axial Age (in 8th century BCE). An era of global trade and prosperity was about to give way to more self-centric sentiments. 

Confucianism, Jainism, Buddhism, Jewish Monotheism all emerged approximately in the same century- 6th century BCE. The societies propagating these religions came at odds with the ideal Republic vision espoused by the Greek Philosophers Socrates and later Plato in 5th century BCE. Alexander the Great made an effort of getting the western school of thought into the east but competing theologies had already created regional empires here- Median in Iran, Mauryan in India and Han in China. We had become more inward looking. As these regional empires persisted, heavy costs were levied on peasantry and land-owners born into prosperity increasingly exercised their power of abuse while evading any sense of duty. Pressure on the frontiers and discontentment brewing within led to the collapse of these regional units into smaller groups.

The Han dynasty gave way to the triple kingdom in 220 AD which later disintegrated further with the invasion of the nomadic tribes from the north in 4th century AD. China remained a constellation of small kingdoms until the establishment of Sui dynasty in 581 AD. Similarly the Roman empire disintegrated into warring nations under the Germanic tribes with eastern part of the empire being annexed into the Byzantine empire.

II. Pre-Medieval: Silk road to Crusades to Black Death

The fall of the Roman empire in 5th century AD allowed for the rise of early Islamic conquests. Arab slave trade, Mongol invasion of central and south Asia and the rise of the Ottoman Empire. The Islamic traders set up ports across Africa and Asia to facilitate the trade of gold, spices and other commodities. A second wave of global trade and internationalism had emerged.

All of the newly established nations under the Germanic tribes, associated with the catholic church. While the silk road acted as a bridge for trade between Asia and Europe, the merchant economy of the Islamic civilization along with the goods brought its faith into China, India, West Africa and to Turkey, the door to Europe.

Being born into an era of global prosperity and motivated by a common allegiance to the catholic church, the kings of Europe, 11th century AD onward, launched number of crusades to push back Muslim power and retake the holy land. Their colossal failure at this task was exemplified with the onset of the plague in the 14th century AD which wiped out over a third of the population of Europe.

III. Medieval: Renaissance to Trade to Fall of Imperialism

With an utter lack of resources and will to fight, the European nations entered a phase of rebuilding themselves. The knowledge they gained from the developments of the Islamic world upon their interaction on the battlefield pushed them down the road to Renaissance. Scientific revolution owing to inquisitiveness having witnessed the glory of their opponents, resulted in these nations engaging in innovations and new manufacturing. The curiosity that formed the basis of this knowledge revolution forced them to be master seafarers and trade with new empires as well as continue learning from the old ones. Curiosity served with a dollop of necessity resulted in the third wave of globalization. 

Machinery advanced with greater interaction with the rest of the civilized world and scientific revolution gave way to industrial revolution. Mass scale production of manufactured goods was witnessed for the first time. International trade flourished at first but with a generation born into such prosperity in the post Renaissance Europe, there now arose a need for acquiring customers and markets in order to ensure continuing profits for your nation’s factories.

This economic competition as a consequence gave rise to military challenges, which resulted in the creation of the modern system of nation states having aspirations for economic, linguistic, and hence socio-political dominance. The rise of colonialism and warring imperialistic states eventually plunged these nation states along with their territories at the time, into two gory world wars in the 20th century. With the empires stretched and pressure on the frontier, independence movements gained strength and swept across the ‘oppressed’ colonies resulting in the formation of new groups/ countries across Asia and Africa.

IV. Modern: Unions to Nationalism to ?

By mid 20th century AD, the world was reeling from the losses of the world wars and under the influence of new nations that aspired to gain from all their peers, in the nascent stages of nation-building. The fragile globe at such a stage entered into the fourth wave of globalization with the establishment of the European Union and United Nations respectively. Seeing the debacle of their own imperialistic actions, the European Nations aimed to re-brand themselves as a common market (rather than competing ones as in the past) under a set of common virtues including liberty and democracy. The United Nations was (intentional choice of the prepositional phrase) a valiant attempt by the giants of yesterday to maintain world order by having a forum to help themselves and the newly formed nations of the world. This era of internationalism was propelled even further with the onset of the information age given the improved transportation and communication, especially with the arrival of the World Wide Web.

But as Arnold Toynbee correctly asserts that ‘giants of yesterday are but pygmies of today’. The giants of today are not willing to accept gleefully the world order imposed upon them by those of yesterday (China a case in point for the current -lack of- functioning of the UN, WTO, etc.). In Europe a generation born without the memory of the excesses of the world wars and the imperial states that led to them is likely to take the EU and its advantages as a given. It is the disadvantages that the union brings to them in the way of immigrant crisis or outsourcing of jobs to those with a different linguistic predisposition, etc. that will be now at the forefront of their minds and hence their politics. So the rise of more inward looking behavior is natural; nationalism today is natural or at least given our history it should have been expected of us.

Now what?

To guess what could come next, I go back to my hypothesis,

“As the spirit of nationalism heightens, generations born into prosperity grow detached of the world outside the unit. This inward looking behavior continues resulting in more iteration ultimately ending with a class struggle within the unit. The unit eventually disintegrates into distinct different new units. And so the cycle starts again.”

The first statement is already being proven true given the recent votes in UK, USA, Italy and now possibly in France in 2017. In Europe the EU disintegration could be a stepping stone to setting up newer nations. In China we see the patterns of the Medieval European cycle being repeated- their investments in Africa and Latin America suggest their want to acquire resources, customers and markets. We have seen what forms that can metamorphose into.

I think, in my lifetime, the giant of today (which in hindsight can very well be ‘yesterday’), USA, will be dethroned. Newer nations will appear on the anvil. Gains seen in technology in transportation and communication will stagnate. Emerging powers- China and India- too will see a class struggle emerge within them. While I cannot control these things, a framework enabling me to understand where in this cycle (at times vicious and at time virtuous) of stories we are in, acts as a lens to view current happenings through. 

The Placid Reform

Amidst the brouhaha over the upcoming GST reforms, and more recently around the demonetization move by the RBI and the Government, a prolific reform, brewing for over a decade lies ignored. The APMCs (Agricultural Produce Market Committee) as they function today will be replaced by a national e-market for agricultural produce. 

Why is this necessary?

In the 21st century, India has journeyed from a being a 476bn USD economy to a 2trn USD powerhouse (implying a CAGR of 9.3%). The largest sector (by employment) however missed out on this journey and have only registered a CAGR of 6.5% in the same time period. What is even more disheartening for over half of the nation's population employed in agriculture and allied services, is that the middlemen have eaten away from this sub-par growth leaving them declining real earnings at times over the last decade. The consumers on the other hand faced double (and at times triple) digit percentage point inflation in the prices of foodstuffs. This resulted in abnormal profits for the middlemen but excluded half of all Indian households from benefiting from the gains in pricing of their own product. 

59% of India's GDP relies on private consumption. For India to, therefore, become an economic growth engine participation of the masses is vital. Half of the households that are employed in farming and related activities can no longer be excluded from our growth story.

The Draconian Way

As the system stands today, the local APMC must be the first point of sale for the farmer. The limited number of licenses per APMC in such a system, gave a rise to a bandit of politically favored traders that colluded to lower the prices paid to the farmer while inflating the retail price by controlling the flow at times. 

To add to their horrors, each APMC had its own structure of levies and market fees that imposed on all participants. Additionally, they also had a menu card for any of the services that the farmers would have to avail from them. 

The Contemporary Way

Adopting the spirit of the Model APMC Act passed in 2002 and combining the same with the digital advancements the world has seen since, the Government of India will now replace this with a national e-market. 

The tenets of the Model APMC Act that this initiative will entail:

• Single license valid across the nation
• Uniform fee structure applicable for levy at a single point
• Consumers, Corporates and Contract farming sponsors to be able to purchase directly.

While this gives the farmers more autonomy over their produce, it is the tadka of the national e-market that really aids in redistribution of wealth and power from the middlemen to the producers. A preview of this move is on display in the state of Karnataka.

The e-market there enables the farmer to deposit their produce at any APMC in the state. The APMC then tests for quality and grades the produce and updates the detail of the same on a statewide online portal. Any registered bidder (trader, corporate, etc.) can place a bid for the produce and can up the bid at any point of time as well based on competitiveness of the bid. At the end of the day the farmer receives a SMS with the best bid and can accept or decline with a click of the button. If he/ she does accept the money gets transferred directly into their bank account. 

Why is this significant?

By March 2018, 585 of the 2000+ major Mandis in this country will be on the national e-portal. The software for the same will be provided by the Department of Agriculture and Cooperation in addition to an allowance of 30lakhs per Mandi to implement this platform. 

APMC is hardly an exciting topic that is absolutely incapable of inspiring an invigorating discussion but surely warrants one. It redistributes wealth and control by preventing its concentration in the hands of the traders/ middlemen. But more silently, a transparent nationwide price discovery mechanism enables an environment of structurally low inflation vs. the 100% rise in onion prices we see oh so frequently. In light of food and beverages constituting of 54% of India's CPI index, this move is monumental to say the least. 

Are they thinking again?

The recent launch of the NM App warrants the question, "Is the ruling party doubting their move?" or perhaps, "Are they now skeptical of their own estimation of the opposition's ability to turn this to their advantage post the by-poll results?"

The following graphic from Bloomberg Quint illustrates succinctly how the ruling party may have wrongly estimated people's willingness to "suffer" for the greater good.

In Lakhimpur, Assam, the BJP may have retained their vote share but demonetization has surely helped the INC to consolidate the opposing vote share and increase their share by eight percentage points! 

Political Maneuver? Think Again.

17th November 2016

Whether one hailed the Prime Minister's move to demonitise currency notes of Rs. 500 and Rs. 1000 or found themselves obloquious of the same, everyone seemed to agree that this move was timed well for UP and other upcoming local and state elections. We too gave into the notion and thought for a while that we were right; after all it did indeed claim a victim as well- AAP in BMC polls (or the timing of the same was fortuitous).

Alas, be it sheer altruism or mis-calculation of risk (in politics always believe the latter) it seems that this move could very well be BJP's undoing in the upcoming local and state elections. The evidence of this is seen in the front page ad of the newspapers today articulating and reiterating the difference between a bad loan write-off and waiver. The PSU banks are writing off 63,000 crores worth of bad loans as they are flushed with liquidity and have (finally!) the ability to provide for the same in their balance sheet. The sheer amount of financial jargon I have used in the previous sentence demonstrates the ease with which the opposition parties/ forces can convince people that a loan write-off constitutes as a waiver. The strain the farmers find themselves in today make them a vulnerable target for such disinformation; the strain for which the government cannot be blamed but can be held responsible for now, thanks to the multitude of its opposing forces.

District Co-op Banks are not allowed by the RBI to participate in the exchanging of demonitised currency notes. Customers are simply allowed to withdraw from these banks- the problem herein being, there are no new currency notes stocked with them. Time and again RBI studies have suggested money laundering activities being facilitated by such banks.  Reports of politicians using the technologically challenged co-op banks to issue back-dated FDs post the PMs announcement surfaced post which the RBI, in a statement dated 14th November 2016 excluded the banks from this process (opposition parties' officials at the helm of these banks could also be a motivator). The price of one another shall pay.

Of the 8 crore cultivator households in India, 7.5 crore take some form of loan for cultivation from a financial institution. 3 crore of these take it from these banks, though the share of these co-op banks in the credit flow is at a lower 29%. 66% of the loans made by such banks go to small and marginal farmers, a proportion higher than the 55% for commercial banks.These banks have an unsurpassed outreach at the grass root level and therefore crippling them, even for the right reasons, would agitate the farmers.

Loans against warehousing receipts by NABARD are not viable as well since the farmers are unable to move their produce. 50% of the country's truck drivers are currently idled- to an extent, possibly purposefully. The harvest is piled up at farms (a gross but not entirely incorrect generalization on our part) inhibiting income flow and co-op banks are disallowed from the currency exchange program hindering credit flow. We may face an issue of food price inflation before the promised wonder of structural disinflation kicks in.

In view of such a liquidity crunch faced by the farmers during the Rabi season preparation time, the local political forces  seem to be milking the situation to the greatest extent possible by claiming a PSU bank's write-off, to be a 63000 crore central government waiver to the industrialists.

Add to this potent mix, the local politicians giving away their accumulated unaccounted cash to farmers as a short term crop loan (interest- free!) and voila! not that smartly timed after all it seems. The government's intention were not in anyway misplaced, but they underestimated Indians' aptitude for engineering (financial included) and overestimated the nobility of their opposition/ peers (though when not in power they would have possibly done the same).

The Valuation Impediment

Since Budget Day 2016, the NIFTY has seen a massive rise of 27%. As a result newspapers, TV channels and other media outlets are awash with stories of how there is an impending crash ahead and how valuations indicate a bubble, etc. Undoubtedly the chart you have seen everywhere is the one below: 

It is true that the P/E multiple and most of the other relative multiples are above their long term average. Though these multiples in themselves are objective, as numbers always are; their interpretation is completely subjective. In eloquence, while price is objective, value is always subjective. The spurt in multiples is not a uniform phenomenon though- it is driven majorly by three sectors:  private financials, automobiles and consumer companies. While the complacency in some of the proclaimed “quality” stocks has resulted in frothy valuations for those companies in these sectors, a certain degree of the higher valuations in these companies as well as their peers will sustain. 

What are my options in India?

Savings in India can be parked in gold, real estate or financial assets. 

Gold?

Purchases of Rs. 2 lakh or above from any jeweler require a PAN Card. The advantage of parking undisclosed income in gold is no longer a meaningful one given the 2 Lakh limit on it. Given that individuals would be forced to deploy only their disclosed income in gold for the most part- taxation becomes an important consideration. Except for indexation, there are no advantages from a taxation point of view as well should you chose to liquidate your savings in gold in the long run (note: long run in this case is defined as 36 months. 

These are the regulatory hinderances to investing more in gold. The key questions that we as Indians also have to answer is how much more can we invest in gold? An all India investment and debt survey done in 2012 (see table below) clearly demonstrates that except for the 99th percentile (or the “1%”) most people buy more of gold than consumer durables. This too has changed- with frequent technology upgrades and an heightened aspiration for consumption, the desire for consumer durables is only bound to increase and most likely going to eat into our consumption of gold. And gold prices are where they were 6 years ago, dissuading investors from gold. Consumption and investment in gold by Indians, therefore does not seem rational at this point. 

All India Investment and Debt Survey 2012 Findings 

Real Estate?

Real Estate is the largest parking lot of Indian household savings. It absorbs over 50% of savings and over 85% of Indians’ total investment and debt utilization. The investment appetite for this asset class, however, has completely evaporated. Rental yields in metros hover around 2% (annually!) making it an asset that may contribute to your net worth but does not do much for your income. With massive illiquidity being the classic feature of this asset class, even more so now at such high prices, investors are wary of real estate. 

With the looming implementation of state-wise regulators under RERA (Real Estate Regulation Act), builders are unwilling to do cash transactions. 70% of the payments collected from buyers is now escrowed, only to be used for contraction purposes. The appreciation of prices noted in the past, on account of increasing amounts of cash with people leading to a rise in demand for real estate, has finally come to rest. In the NCR region the asset class has deteriorated to the extent of builders now advertising discounts on their projects. 

Financial Assets?

With falling interest rates we have seen Fixed Deposit rates, PPF rates, etc. come down. Post tax return on fixed deposits hovers around 6% now, barely beating our rate of inflation. Suffice to say that, it hardly makes an interesting case for investors. 

All of the above asset classes and the conundrum in which their investors find themselves in, indicate that the flow should shift someplace else. India’s GDP is 2trillion USD. Over the course of the remainder four years of this decade we shall add a trillion USD more to our GDP. With a savings rate of 30%, thats 900bn USD of additional savings until FY20. Given the illiquidty in the real estate markets, especially now, assume that the 50% share of financial savings increases to 60%. Given the fall in interest rates, assume that of the new financial savings one-third comes to the equity market- that is a jaw dropping eleven lakh and seventy thousand crore of rupees. You can discount it a by a factor of ‘x’ whatever you may chose it to be, you still know that this is a significant amount. Juxtapose that with the highest domestic inflow we have seen in a year- 70,000 crore in 2015. The highest ever number seems measly now. 

Seen in the context of such a staggering imminent flow (it can take 6 years instead of 4 but that’s the extent of the deviation possible in my outlook), the prices today don’t seem overtly high. Higher multiples could very well be the norm going forward for investments are made not by looking at the past (no point comparing to historical averages) but with a vision of the future (underlined by an astonishing influx of money). 

What are my options globally?

Ray Dalio has talked about the corporate de-leveraging being on the cusp of commencement in the west (an idea discussed in my previous write-up). Industrial growth seems like a distant possibility in the west owing to such a phenomenon. To add to that we have negative rates and increasing amounts of self- inflicted destruction. 

Negative Rates?

Six nations, are in a negative interest rate territory today. Rates have been far too depressed for far too long that they have seized to be an effective tool for monetary policy, especially coupled with the corporate de-leveraging. Every couple of months a “new” Fed rate hike story floats around the markets putting equities in a temporary panic mode. Even if there is a rate hike, how much further up can we go from 0.5%! Even at 1.5% we are still well below the rates seen historically, when 18x was the long term average NIFTY P/E multiple (as seen below).  

Socio-economic uncertainty? 

The BREXIT vote has marked what I believe will be the end of the European experiment. The parasitic leaching of German tax-payers cannot be sustained for eternity. Italian banks see a system wide NPA level of over 18%, Portugal over 12% and Spain over 10%. This problem seems further accentuated when only non-financial business loans are considered; 30% in Italy, 16.5% in Portugal and 13% in Spain. Combine this with the breaking away of their largest trading partner (UK) from their common market and we have a massive problem approaching. The western world is far away from any meaningful economic growth. 

China, the perennial alternative presented to India, is also brewing trouble. Real disposable income of urban consumers has slowed to 5.8% in Q1FY17 vs. north of 10%, a decade ago. Households are therefore leveraging to sustain consumption. Consequently, household debt as a percentage of bank deposits stands at 50%, double of its 2009 levels. Though this is nowhere near the excesses of the west, a quarter of all mortgages outstanding in China today has been taken out in the last 12 months. The NPAs there are not going to stay low forever. A slowdown and maybe a few shocks are inevitable there as well. 

In the light of deceleration of growth elsewhere, negative yields and rising bad debts globally- Indian stock prices may not be over-valued. 

What should we do?

There are pockets of over-valuation in the Indian markets. It would be foolish to deny that. IPO markets are a classic case of the same; but in face of the quantum of domestic inflows we are going to see in the Indian equity market- we should adjust to this new reality. While multiples are becoming difficult to grasp, if we stick to the approach of deciding the value based on the company’s market capitalization, decisions can be made. A 500cr company growing at 20% can command a 40 P/E multiple in today’s market. The question to be asked for your sanity is: Can this be a 1000cr company? Fail to change your viewing glass and you could lose out on a bull run of an enormous proportion. The choice is yours, the choice is ours. 

The argument that Congress should have made and the media should have covered

And once in a while everyone staying in a democracy has this urge of wanting out- witnessing the past week in the parliament was that moment for me.

Why a fugitive from justice governs the debate (or the lack of it) in our parliament-baffles me. Why a leading news reporter that wishes to place India above all, give importance to such a person by traveling ten thousand six hundred and twenty eight kilometers to interview him-confounds me. I guess it really does go to show that in India, cricket is a religion.

The discussion should have been focused on the contents of the GST bill. Unless they were auditioning for one of the many reality television shows in our country, the legislators should not have resorted to vicious personal attacks instead of talking about the appropriate rate of tax under GST? The economic participants it would impact? And the degree of that impact? The ruling party cites a benefit of two percentage points of GDP growth on successful implementation of the GST bill. If this was the case- why did they let India sacrifice six percentage points of GDP growth and raise opposition to the GST proposal in 2012. And why is the opposition currently succumbing to the same tactics that resulted in inefficiency during their years of governance. Why is no one asking for the basis of this two percentage point incremental growth estimation? Why are we not questioning if the supposedly proposed 25-27% GST rate is going to deliver additional growth?

Approximately half of the domestic indirect taxes are collected on goods (taxed at 30% roughly). The other half comes from services (taxed at 14%- raised from 12.5% in anticipation of GST). To impose a common tax-rate on goods and services such that the rate of inflation is not impacted by the same, 21.25% (based on 12.5% VAT)- 22% (based on 14% VAT) should be the ideal range to focus on. The government's proposal on 25-27% is significantly higher than the inflation neutral rate. It is therefore tough to imagine how tax induced higher prices for goods and services are going to result in additional two percentage points of growth for India. The proposal of 18-20% GST may not be revenue neutral but may have advantages in spurring growth. Why was this difference in approach not the focus of the debate? And why did the media not force the legislators to such a debate by ignoring the comments of a person who wants to assume importance by causing chaos.

We, the people of this nation deserve better. Our intelligence deserves more respect than what we were shown this past week. Our legislators need to be more in awe of the place they work in and the constitution that has given them this right. This may sound preachy and unlike the other posts on this blog- but the level of debate in our country needs to be raised.