Wednesday, October 7, 2015

India's anemic credit growth

Some commentators point to the sharp increase in non-bank credit growth, especially commercial paper (CP) issuances, as a positive sign and a reflection of corporate investment revival despite non-food bank credit growth still languishing in single-digits. Never mind that short-term CP is hardly a relevant metric of investment revival. In any case, how do the numbers stack up?

In 2014-15, net CP issuance rocketed from a negative Rs 26.4 bn in 2013-14 to Rs 866.54 bn in 2014-15, and Rs 1054 bn in the first five months of 2015-16. In the same period, equity and bonds raised by private corporates rose from Rs 116.8 bn to Rs 170.6 bn to Rs 97.93 bn for the same three periods respectively. A comparison of the bank and total non-food credit growth, which combines both bank and non-bank (CP, capital markets, PSU bonds, public financial institutions disbursements etc) credit, reveals the following graphic.
This should not come as a surprise since bank lending dwarfs other forms of financing in India's narrow financial markets. In 2014-15, the total non-food bank credit was Rs 64,420 bn or 51.3% of GDP, while the combined non-food credit was Rs 66,859 bn or 53.3% of GDP. Even taking FDI at 1.7% of GDP and external commercial borrowings at about $30 bn (1.2% of GDP) estimated for 2015, it becomes clear that all types of non-bank credit sources are almost a rounding error.

A more plausible inference from the spurt in the CP issuance is that even as stressed banks refused to pass on the rate cuts, the declining money market yields forced down the rates for, especially short-term credit like CP. The resultant spurt in CP issuance is therefore a proximate reflection of weakness in the banking sector than revival of the corporate investment cycle.  

Monday, October 5, 2015

India's healthcare quality gap

India's healthcare system, as I had blogged earlier, mirrors education as an example of a massive governance failure. Just as with the poor learning outcomes in education, the quality of health care is seriously compromised, as is borne out by a large and growing body of research.

This graphic from a cross-country comparison of vignettes (providers are given hypothetical cases and responses/questions compared to a checklist of essential nationally accepted set of procedures) and direct observation of the doctor-patient interaction by Jishnu Das, Jeff Hammer, and Ken Gordon is revealing,
They document the time spent, number of exams done, and medicines given across providers based on their effort levels (itself a measure of all the three).
Another study benchmarking quality of care in four countries, based on the percentage of mandatory tasks (as in a checklist) completed by the providers shows,
Shockingly, even the top quintile of Indian doctors (sample of public and private providers in clinics in Delhi), perform worse that their counterparts in Tanzania, Indonesia, and Paraguay on all the four diarrhea procedures as well as on different measures of effort. They write,

Doctors in Tanzania complete less than a quarter of the essential checklist for patients with classic symptoms of malaria, a disease that kills 63,000-96,000 Tanzanians each year. A public-sector doctor in India asks one (and only one) question in the average interaction: "What's wrong with you?"... We find that the quality of care in low-income countries as measured by what doctors know is very low, and that the problem of low competence is compounded due to low effort - doctors provide lower standards of care for their patients than they know how to provide. 
They construct a competence index (constructed by applying Item Response Theory to the responses of doctors to various types of patients) of providers based on their responses and finds out,
As an indicator of how poor overall competence is, a doctor in India has to be above mean competence in the sample to have a better than even chance of not harming the patient.
They compare the relative performances of three categories of doctors based on their competence and effort,
First, private doctors without an MBBS complete just over 20 percent of all essential tasks, but they are doing pretty much all they know to do—the constraint on their performance is competence. Second, private doctors with an MBBS knew 40 percent of the essential tasks, but in actual practice were completing only 25 percent of them. The constraint on their performance is effort. Third, the gap between competence and practice among public-sector doctors is even higher—these doctors knew to complete 30 percent of essential tasks, but actually completed only 8 percent. Here, the constraint on performance is clearly effort.
This dynamic is captured by the graphic below,
Just in case, one is tempted to explain away these findings claiming that the patient load in India is massive, the findings remain robust when controlled for patient case loads. 

Sunday, October 4, 2015

Government as engine of innovation

Mariana Mazzucato has a brilliant TED talk on government as investor, risk-taker, and innovator which questions the conventional wisdom on private sector as leading technology innovation with cognitively striking examples of Apple and the pharmaceuticals industry. 

Driving home the message that government, and not entrepreneurs, is the real engine of innovation, she informs that the NIH funds 75% of all revolutionary new drugs and that all the core technologies of iPhone (internet, cellular communications, GPS, solid-state memory, siri, touch-screen, capacitive sensors, and microchips) were the result of public innovation. She claims that government spending on research and innovation does more than fix market failure, it creates new products and whole markets. Further, interestingly, this and most other similar innovations and their commercial exploitation is largely confined to the United States. 
She argues that there is no substitute for long-term, patient government funding for scientific innovation and though the private sector in turn should be allowed to build on these innovations there should be a mechanism to plough back a bigger share of their profits to refinance more public spending on research. She gives the example of Finland's state research agency, SITRA, which retained its investments in Nokia and used the returns to finance newer research areas. 

Saturday, October 3, 2015

Weekend Reading Links

1. Dani Rodrik makes and assessment of India's economic prospects that deserves the attention of policy makers. When asked about the world's most over-rated economy by Tyler Cowen, Dani replied,
I think India, because I think the kind of growth that India has had, I don’t think it’s sustainable. Partly going back to our earlier discussion about premature deindustrialization. I think they have these plans to significantly strengthen their manufacturing base. I just don’t see it happening. I think India can grow at 4, 5 percent per year on a sustainable basis. I don’t think it’s going to be 8 or 9 percent. When this sinks in, I think there’s going to be a negative overreaction, would be my fear.
One could quibble about whether it is 4 or 5 or even 6, but I would tend to agree that 8-9% on a sustainable basis looks more hope than realism. India just does not have the base - infrastructure, consumers, industries, public spending, agricultural productivity, credit, and skilled labor - to support such growth for too long. These deficiencies feed into the other and constrains rapid growth, beyond very short bursts. On top of all these stand the biggest deficiency of them all, weak state capability. 

2. Lant Pritchett is as provocative on learning outcomes as only he can be,
If you want to find a child who lacks education today, the place to find them is in school. That’s because nearly all children are in school. That’s the good news. Governments have built schools and hired teachers. Parents have seen that schooling is key to their child’s future and are sending their children to school... But the bad news is that hundreds of millions of children are starting school, going day after day, year after year, but not really learning. One study found that almost three-quarters of a recent cohort of youth in Zambia were innumerate and six of 10 illiterate. But only 7% of these youth had not attended school. In fact, half of those who were innumerate and a third who were illiterate had not just started school but completed grade 6. These children were being schooled but not educated.
And interesting the call for greater research on learning outcomes,
Research will be an integral part of reaching learning goals. Knowing what you need to know isn’t the same as knowing it or knowing how to do it... Progress on learning goals requires getting systems of education on a much faster pace of improvement. But too little is known about how to do that – which accounts in part for the slow progress. The British government has recognised that and is funding research to generate the practical knowledge needed to improve systems of education.
3. Fascinating map (via FT) that captures the average monthly cost of renting a one bedroom flat within a kilo meter of all London's 250-odd tube stations. See the larger version here
The FT summarizes the affordability challenge,
For the 250-odd Tube stations in London, only a quarter have one bedroom flats costing £1,000 a month or less to rent. As you might expect, these locations are all concentrated at the extremities of lines, meaning a long journey and £225 a month for a zones 1-6 Travelcard. Across the capital, the average rent for a one-bedroom flat within walking distance of a Tube station works out to £1,327. And there are 20 locations where, if you were mad enough, it would cost you above £2,000 a month (all bang in the centre).
Here are interesting sites which show which areas in London are more accessible by bicycles or public transport, another which trades-off average commute times and average rents, and this map of rents on each tube line.

4. Guardian points to the findings from the World Bank-Gallup Global Findex Survey 2014, which asked over 150,000 respondents in 143 countries how and why they access financial services. As the map shows, the North-South divide is clearest in terms of where people spend their borrowed money.
Unlike the North, where mortgage dominates borrowing, in the South the largest share of loans are consumed by education and health care. In India, 21% of people took loans to finance health care needs, 10% to finance education, 9% for business, and just 4% for mortgage.  

5. I have blogged earlier about the corrosive political economy impact of the assault on incentives. A disturbing trend may have been initiated by the Maharashtra government in imposing a "drought surcharge" on items like fuel, liquor, cigarettes, jewelry etc for a period of five months to raise Rs 16 bn in tax revenues. Cash-strapped governments are likely to adopt policy interventions like these to circumvent the constraints imposed by the forthcoming national GST.

6. Early this week, the IMF released its assessment of emerging market corporate debt. The graphic below shows the status of non-financial corporate debt to GDP ratio of the largest emerging economies. 
Developing countries quadrupled their corporate borrowings from $4 trillion in 2004 to well over $18 trillion in 2014.

7. On the back of declining corporate capex investments comes news of fall in capital expenditure by public sector units (PSUs). Underlining the weak demand conditions, the Business Standard finds that the capex by 36 largest listed PSUs, who have been sitting on a cumulative cash reserve of over Rs 2000 bn, declined by 23.5% to Rs 1290 bn in 2014-15.

An RBI survey of ex-ante capital expenditure investment decisions of Indian corporates found that in 2014-15, 830 firms intended to invest in Rs 1459 bn, as against 1056 companies' investment plans for Rs 2081 bn in 2013-14. The time phasing of the investment intentions of these companies indicate likely investments worth Rs 1933 bn in 2014-15, 27% lower than 2013-14.

8. The Institute of International Finance (IIF) estimates that net capital inflows into emerging economies may turn negative for the first time this year, with more a trillion dollars of outflows as repayments of foreign currency loans by EM corporates, especially in China. 
The IIF estimates that indebtedness at EM non-financial corporates has risen five-fold over the past decade to $23.7 trillion. This is a good illustration of the scale of potential debt induced instability,
The IIF estimates that currency depreciation has increased corporate debt in Brazil by an amount equal to 7.3 per cent of gross domestic product, and 6.2 per cent in Turkey, for example.
9. The latest figures on stalled projects in India being tracked by CMIE points to an increase in their stock from Rs 8.8 trillion to Rs 9.9 trillion over the three months to end-September 2015. Interestingly, nearly a quarter of projects are stalled due to lack of promoter interest or commercial unviability. 
The stalling rate, or stock of stalled projects as a share of all projects under implementation rose to 11% in the last quarter, up from 9%.

10. Finally, amidst all the concerns about Japan's low female workforce participation rate, MR points to this graphic which shows that Japan has overtaken US in female workforce participation.
Funny that this fact escaped the attention of everyone calling for the release of third arrow of Abenomics.

Thursday, October 1, 2015

Winner's curse in auctions - minerals and telecom spectrum in India

It was inevitable and it now has surfaced on the horizon. Livemint points to a PwC/CII report that the power project developers who bid aggressively to secure coal blocks in recent auctions are reluctant to mine them on the face of the government's decision to cap fixed charges based on regulatory considerations. 

All the power sector coal-block auctions had gone into forward-bids, where not only would developers not pass on the cost of coal to customers, but, in some cases, even pay the government an additional premium (over and above the mandatory royalty and reserve price). It was claimed that the 66 blocks, awarded through auctions and allotments to state-owned firms, will generate revenues of Rs 3.35 trillion and electricity tariff benefits worth Rs 693 bn to consumers. Power producers, instead of bidding at a discount on the reserve price, even offered to give money to the government. Since you cannot buy something and give that free for 25-30 years, these bidders, all of whom have sunk investments in plants which are currently idle and bleeding money, were presumably betting on "smuggling" in the fuel costs elsewhere.
It was abundantly clear during the auctions that the developers had bid aggressively for fuel in the hope that they could recover the costs by transferring it into the fixed capacity charges for the untied part of the plant capacity (aside from the already existing PPA) and/or by the sale of the 15% of generation capacity as merchant power. Livemint also points to an ICRA report which estimated the under-recovery in fuel cost in the range from Rs.0.39/kwh to Rs.1.02/kwh on a levelized basis over a 25-year period and the aggregate under-recovery for the bidders at Rs.8 billion in FY2015-16 and about Rs.18 billion by FY 2017-18. 

At that time, Partha Bhattacharyya, who knows a thing or two about coal mining, had this interesting observation in an oped,
However, whether it is conducive to promoting sustainable mining depends only on the premise that the bidders be fully aware of the implications of their actions. Unfortunately, self-destructive bidding is not unknown in the Indian context. Bidding for ultra mega power projects (UMPPs) has provided examples in the not too distant past, with winners throwing up their hands after finding it impossible to deliver power at the offered price. Analyses of the root cause in all of these cases indicate an inadequate core competence in coal mining or coal sourcing as the underlying reason. In the present case of bidding among end-users, the possibility of a similar inadequacy cannot be ruled out.
Now that the government has capped the fixed capacity charges and the spot markets are down on their knees, the developers have no choice but to take unsustainable losses. In fact, even if the government had not capped the fixed charges, it is unlikely that developers would have been able to realize higher charges given the perilous state of discom finances. It is undeniable that the lack of clarity in the tender documents on the calculation of capacity charges and the failure to quell the doubts in unambiguous terms before the auctions encouraged the aggressive bids.

Much the same story is repeating in telecommunications, with call drops being the commonest manifestation. Irrespective of whether the spectrum available is adequate or not, it cannot be denied that telecom operators, who bid very aggressively in the 3G auctions, have, for some time now, been skimping on capacity improvement investments. As Shyam Ponappa describes, there are other failures arising from the quest for revenues maximization,  India's telecoms spectrum market,
India brought in more operators than other markets, didn't provide as much commercial spectrum, fragmented what it had, and priced it out of sight. Consequently, substantial spectrum is idle with the government, while large operators with very little spectrum and the legacy of underdeveloped fixed networks have over 100 million customers each, with high voice and growing data usage. This situation is likely to worsen as more spectrum holdings come up for renewal.
The widely acclaimed telecoms spectrum auctions realized revenues worth nearly $17 bn. Unlike with coal, spectrum already under use by incumbents was re-allocated through auctions. This left existing operators, who have massive fixed investments, with little choice but to bid aggressively to retain their spectrum. The net result is that India has become one of the costliest telecoms spectrum markets.
The exorbitant cost of spectrum adds to other headwinds that telecoms operators have to navigate. Though one of the fastest growing telecoms market in the world by customer-base, operator margins are squeezed by the lowest average revenue per user (ARPU) of about $3, less than a tenth elsewhere. This is exacerbated by cut-throat competition, with nearly ten operators in each circle. And now, the high cost of spectrum has sharply increased the debt burden of  operators, leaving them with little room to raise resources to invest on network expansion, maintenance, and upgradation.

This leaves operators with no option but to raise tariffs significantly, which will certainly constrain demand, and thereby work against the government's ambitious Digital India objectives. In a highly price-sensitive market where just one in hundred have access to high-speed broadband, and where the baseline penetration of data-services is very small, affordable prices are critical to expanding both customer base and services. 

The aggressive bids made both in the reverse auction (for coal blocks designated for power plants) and forward auction (for non-use specified blocks), and telecoms spectrum, and the attendant squeezing of possible margins, raises more questions about the unqualified acceptance of auctions in the allocations of natural resources.

There is a compelling argument that in the spectrum and mineral allocation auctions, government's immediate fiscal considerations have crowded-out larger sectoral objectives. In other words, the details of the auction design may have been skewed towards maximizing auction revenues than sustainable introduction of new technologies into the telecoms market or delivery of power at a reasonable price and rate of return. 

Interestingly, this skew may reflect the institutional power balance within the Ministries of Government of India, in particular the balance between the Ministry of Finance (MoF) and the respective line Ministries, Power and Telecommunications in this case. The MoF has a very hands-on approach in any such contract formulation, applying due diligence that invariably revolves around the binary "public interest" touchstones of expenditure control and/or revenues maximization. The recommendations of the respective regulatory commissions tend to get sidelined in the face of "public interest". The recent history of scandals and the chaotic investigations and prosecutions that followed, may have only amplified this trend. Not only have the advocates of "public interest" become stronger, the voices of the primary stakeholders, the respective Ministries, have become more wary of being seen to be doing anything which would appear to support the private market participants.  

To the extent that the operator or developer's cost is directly translated as the government's revenues, the MoF's role is clearly that of an agent of the government. Therefore, if the MoF prevails in setting the terms of contracting in such auctions and the departments abdicate their responsibilities as neutral arbiters in the auction, it necessarily becomes an one-sided contract. Winner's curse and renegotiations invariably follow.   

One of the oldest axioms of life is that there is no free lunch. The examples of natural resource auctions and public private partnerships (PPPs), which governments have come to view as as a resource mobilization opportunity and the latter as a means to avoid committing large resources for infrastructure investments, and their respective failings, are forceful reiteration of this axiom.

Tuesday, September 29, 2015

A housing market for the super-rich?

A few weeks back I had blogged about how property prices in Mumbai had exploded over the last decade, pricing all but a handful of those at the very highest level of the income ladder out of the market. As Michael Skapinker writes, this is true of London too,
Tiny apartments for £750,000. Family homes in the millions. This is in areas that, in recent memory, were poor and rundown. You can venture into neighbourhoods that still are, but you won’t do much better. The average London home cost £493,000 in February, according to the Office for National Statistics. And renting is no easier, taking a large chunk out of all but the highest salaries. Average London rents grew by 3.2 per cent in 2014-15, compared with 1.5 per cent in the rest of England... Many middle-class professionals are struggling to live in London: teachers, university lecturers, doctors, journalists. Look at the job ads. A senior house doctor in the urology department at University College Hospital: annual salary £30,002 to £47,175, plus a small London supplement. Assistant professor in international political economy at the London School of Economics: £51,908.

It was not always this way. Twenty-four years ago, when we bought a house in one of London’s loveliest neighbourhoods, our neighbours were, and still are, people who do the jobs described in these ads. None of us could afford to move into the area now.It is difficult to see how the successful candidates will find somewhere to live in a city where house prices are many multiples of their salaries... London boasts some of the world’s leading research hospitals and scientific institutes. Who will staff them? And if well-qualified professionals cannot afford to live in London, what of all those essential workers on even lower salaries: nurses, ambulance drivers, firefighters?

So, we live in an age where housing is unaffordable not only to the foot-soldiers of urban growth (janitors, small-service providers, small traders, lower-level public officials, and informal sector workers), but also to the knowledge workers and higher-level service professionals (senior public officials, academicians and researchers, professionals, and managers). In all these cases, a house of a standard that their parents (or the earlier generation) with similar relative incomes would afford, is simply out of reach, even if they use all their life-savings for the house. 

In the bigger cities on average, a Rs 10 million house (itself, a fast increasing lower limit), with a 30% upfront payment, would require an EMI of nearly Rs 75000, on a 25 year loan at an average of 12% interest rate. Assuming a third of income goes for housing, only families with annual income of around Rs 2.5 million can afford this. On the demand-side, in 2011-12, just 1.3% of all tax payers, or 3.9 lakh people in a country of 1.1 billion, had income above Rs 2 million! Multiply the number four fold, 1.6 million, and you realize that the affordability gap is staggering by several orders of magnitude. 

At the risk of repetition, it is abundantly clear that all urban housing, but for a marginal proportion at the top of the income ladder, has become unaffordable. Given the acute scarcity of vacant land within the city, the only answer to the problem is to go up vertically. Policies that promote addition of stock - higher FAR and lower property taxes (for vertical units), especially along transit corridors, coupled with release of large land banks locked up with various public entities - should take the center-stage of government's urban housing policy. This should complement the traditional affordable housing policies for the poor, like public housing programs, infrastructure grants, and mortgage interest subsidies. 

In fact, public policy should be tailored towards increasing the stock of housing, of any kind, without being unduly concerned with the details of means-testing and other regulation. For sure, this would result in some diversion to "ineligible" beneficiaries. But the demand is too huge at every level (except at the top-most tier), affordability heavily skewed, and the supply too limited for us to be micro-managing the housing market through unenforceable regulation. 

Further, as cities like London, Paris, and New York are finding out, it is also necessary to ensure that housing units and trophy properties do not become pure and highly remunerative investment avenues, which end up squeezing the housing supply itself. Underlining this, it is estimated that 28% of the wealth held by ultra-high net-worth Asian individuals (wealth above $30 mn) was in real estate, to 8% by Europeans and 6% by Americans. A telescopic property taxation system, with very high property tax rates for larger houses, and prohibitive enough vacant land tax on large land parcels, may be necessary to deter such rent-seeking. 

Monday, September 28, 2015

Is there no "missing middle" in India's industry?

Livemint recently had a graph which pointed to research which questions the hypothesis of "missing middle" in India's manufacturing. It shows that mid-sized firms (employing 100-1000 people) are the country's biggest employers.
Economists Chang-Tai Hsieh and Peter Klenow have this graphic which too does not reveal any missing middle.
The claim of "missing middle" comes from the work of Anne Krueger and others and is reflected in the graphic below taken from this IFC report.
Economists Chang-Tai Hsieh and Benjamin Olken question the "missing middle" hypothesis and claim that the "missing middle" came due to transformation of data (a bimodal distribution emerges when firms are categorized into three groups of less than 10, 10-49, and 50 and more employees) and using the distribution of employment share by firm size and not the (more relevant) distribution of the number of firms by size.
Their analysis leads to the following conclusions,
First, while there are fewer middle-sized firms in developing countries than developed countries, there is no missing middle in the sense of a bimodal distribution. Second, the average product of labor and capital is significantly lower in small firms when compared to larger firms. This is important because some theories say that small firms do not grow because they face high marginal costs of capital; if so, the marginal product of the capital that they do have should be higher. While we do not directly observe the marginal product of capital, it appears that the average product of labor and capital is significantly lower in small firms when compared to larger firms. To the extent that marginal and average costs move together, this fact suggests that large firms rather than small firms are the ones suffering the large fixed costs or shortage of capital that could stifle their growth.

Third, we consider the possibility that regulatory obstacles generate a missing middle, but find no evidence of meaningful discontinuities in the firm size distribution. We focus on regulations that kick in at a certain size threshold and test whether there are an unusually large number of firms right under the threshold and an unusually small number of firms right above the threshold: specifically, we focus on a size threshold of 100 employees in India where various labor regulations kick in; a revenue threshold in Indonesia above which firms are required to pay value-added tax; and a revenue threshold in Mexico above which firms face higher tax rates. However, we find no economically meaningful bunching of firms around these thresholds, which suggests that stories based on thresholds due to formality or regulations are unlikely to be causing major distortions in the economy.
The last point and the graphic above assumes significance in light of the conventional wisdom in India that restrictions on labor retrenchment for firms with more than 100 workers has been responsible for keeping firms small and unproductive. As can be seen, there is no statistically significant discontinuity as the firm size approaches 100 (the small kink seen for informal firms would amount to just 418 firms for all of India!). The authors also do not see any discontinuity that is claimed by conventional wisdom around tax notches in Indonesia and Mexico. While the restriction imposed by the Industrial Disputes Act is undoubtedly distortionary, there is little empirical evidence to suggest that it is an important constraint, leave aside being a binding one.

Apart from the bi-modal distribution, another interpretation of the "missing middle" is the absence of sufficient number of intermediate sized firms. This assumes significance since firms generally start small and only a small proportion of them grow into large enterprises, leaving a significant share of intermediate sized firms. Given that the greatest marginal job creation and value addition happens when small firms grow into intermediate size ones, the deficiency of such firms is a matter of undoubted concern for India.

Anyways, missing middle or not, the bigger problem for India's economy is the small size of its overwhelmingly vast majority of firms and their very low productivity, which does not increase with time. Neither do plants grow as they age...
... nor does their productivity rise with age.

This is the nature of the beast that the country needs to overcome. Improved ease of doing business, better infrastructure, access to affordable credit, steady supply of skilled man power, and less of corruption are all essential ingredients in this pursuit. In any case, the works of economists like Chang-Tai Hsieh exploring the reasons for the wide income differentials across nations draw attention to the role of resource misallocation across sectors, across firms within a sector (small Vs big), and within firms (negligence on management practices) as possible contributors to the dominance of such dwarfs and unproductive firms.