Saturday, May 27, 2017

The most effective example of industrial policy?

The renewable energy sector may well be one of the best examples of industrial policy, initiated by the German government's Energiewende program and subsequently emulated elsewhere,
When the definitive history of the energy transition is written, the taxpayers of Germany will deserve their own chapter. They bankrolled the green energy revolution known as the Energiewende, pioneering generous subsidies nearly 20 years ago that helped drive renewables up from 9 per cent of Germany’s electricity mix in 2004 to 32 per cent last year. As other European nations — and some US states — boarded the green power wagon, it kindled a wave of demand for wind turbines and solar panels that helped drive costs down worldwide. Solar’s price fall was especially steep after a Chinese manufacturing boom spurred global over-supply. The result was doubly miserable for conventional fossil fuel generating companies: renewables crowded them out while simultaneously driving down wholesale power prices, causing billions of euros in losses.
Doubtless renewables remain very small share of global energy consumption - oil, gas, and coal fired 86% of global lighting, cars, and home heating; solar and wind just 4.4% of global electricity; and electric cars just 0.9% of global vehicle sales. But the pace of growth is spectacular, and threatening to upend business models and markets in electricity and transportation,
Global renewable power generation capacity rose by 9 per cent last year — a fourfold increase from the start of this century — buoyed by the growth of newer sources such as solar power that shot up by more than 30 per cent. For the second year in a row, renewable energy accounted for more than half the new power generation capacity added worldwide. Sales of plug-in electric vehicles last year were 42 per cent higher than in 2015, growing eight times faster than the overall market. The storage capacity of big lithium ion battery systems more than doubled last year... Germany’s two largest power utilities, Eon and RWE, shook the industry last year when they split themselves in two, hiving off struggling fossil fuel operations from cleaner power businesses... The US solar industry employs more than twice as many workers as the coal sector, a report showed in February. Manhattan has more Tesla charging spots than petrol stations, though many are in fee-paying parking garages.
Developing countries, primarily China and India, have taken the lead in driving the market now,
Yet fast-growing industrialising nations are seeing some of the most profound changes. Towering over them all is smog-choked China, which has become a green energy juggernaut after designating renewables a strategic industry. China has more than a third of the world’s wind power capacity; a quarter of its solar power; six of the top 10 solar-panel makers; four of the top 10 wind turbine makers and more battery-only electric car sales last year than the rest of the world combined. India is eager to follow: it built one of the world’s largest solar photovoltaic farms last year; ranks fourth in the world for wind power capacity; and could become the world’s third-biggest solar market this year. It also wants to boost its use of electric cars.
And on the history of global energy transitions - wood to coal and oil, and now to renewables,
As coal gradually displaced wood, for example, it reached 5 per cent of all fuel energy in 1840 but was still only about 50 per cent by 1900... (But) Nuclear power in France went from 4 per cent of the country’s electricity supply in 1970 to nearly 40 per cent in 1982, for instance... the latest energy transition could be swifter because it is driven by deliberate efforts to curb climate change, rather than chance. Countries around the world have adopted more than 1,200 climate change laws, up from about 60 two decades ago, a study this month showed. Renewables now receive direct policy support in an estimated 146 countries, nearly triple the number in 2004. That backing has seen the cost of wind turbines fall by nearly a third since 2009 and solar panels by 80 per cent, says the International Renewable Energy Agency... In 2010, IEA projections suggested it could take 14 years before there was 180 gigawatts of installed solar capacity. It took less than seven years for the world to reach more than 290 gigawatts, nearly the entire generating capacity of Japan.
It looks increasingly likely that the big breakthrough for renewables will come from storage and possibly again industrial policy, this time in China,
Storing clean power has long been a holy green grail but prohibitive costs have put it out of reach. This has begun to change as battery production has ramped up to meet an expected boom in electric cars. Lithium ion battery prices have halved since 2014, and many analysts think prices will fall further as a slew of large battery factories are built... at least 14 megafactories being built or planned, says Benchmark Minerals, a research group. Nine are in China, where the government is backing electric cars with the zeal it has directed at the solar industry. Could this led to a China-led glut like the one that helped drive solar industry write-offs and crashing prices after the global financial crisis?
Australia may provide a glimpse of the dynamics when storage causes off-grid production and consumption and its impact on utilities,
For all the excitement about batteries, the technology is still not ready to let householders in any part of the world stick a solar panel on the roof, a battery in the garage and abandon grid power completely... In Australia, where household electricity prices nearly doubled in the decade up to 2014 and rooftop solar levels are among the world’s highest, more than 6,700 battery systems were sold last year, up from 500 in 2015... By 2020, about 1m homes could have batteries... All utility investors should monitor Australian market developments to anticipate how the market will evolve elsewhere. Battery companies flocking to Australia say it is only one example of a new breed of “prosumers”, people using renewables and batteries to produce and consume their own power... In quake-prone Japan, a hotbed of battery technology, industry leaders say it is inevitable that home solar-storage systems will become commonplace.

Friday, May 26, 2017

"Across" and "within" sectors growth challenges

Dani Rodrik's latest co-authored book examines the development of seven countries in the 1990-2010 period using a framework that distinguishes between "structural transformation" and "fundamentals" challenges in growth. The seven countries are Brazil, India, Vietnam, Botswana, Ghana, Nigeria, and Zambia. See their paper here

The authors define "structural transformation" challenge as about ensuring resources flow to more productive modern economic activities like manufacturing and services away from traditional activities like agriculture, and "fundamentals" challenge as about accumulating the skills and broad institutional capabilities needed to generate sustained productivity growth, not just in the modern sector but across the entire economy including nontradeable activities. The former is an "across" sector change, whereas the latter is a "within" sector change. Evidently, successful development is about being able to achieve both changes simultaneously as was achieved by the likes of Hong Kong, Taiwan and South Korea.
Their assessment of the seven countries,
  • Botswana has high fundamentals, but has experienced limited growth from structural change in recent years. While growth in Viet Nam has benefitted from relatively rapid structural change although fundamentals remain relatively low.
  • Ghana, Nigeria, and Zambia have had growth-promoting structural change, but vacillate between episodic growth and slow growth.
  • Brazil has moved from episodic growth to slow growth, reflecting greatly improved fundamentals but slow structural change.
  • India has not experienced the kind of structural change that successful import-substituting countries or the East Asian exporters have gone through, so its growth prospects remain limited.
The conclusion is sobering,
The problem—and thus a reason for tempering our expectations—is that structural transformation can lead to rapid and relatively quick growth by moving labor into more productive sectors, while the growth payoffs to investments in fundamentals like human capital and institutions are likely to take longer. The bottom line is that future East Asia-style “economic miracles” are unlikely. Instead, development will have to happen the hard way.
That is the essence of my own work with Ananthanageswaran on India's growth prospects here.  

Wednesday, May 24, 2017

Business concentration, superstar effect, and hegemony

I like Tim Harford and enjoyed reading his several books. But I cannot help getting the impression that he has lost the plot here. And it is a teachable moment in the cognitive blindspot of the liberal establishment and how it causes alienation that leads to the likes of Brexit and Trump. The article has several blindpsot based arguments. Sample this,
Why hasn’t competition chipped away at the market position of the leading companies? The simplest explanation: they are very good at what they do. Competition isn’t a threat to them. It’s an opportunity. What Professor Autor and his colleagues call “superstar firms” tend to be more efficient. They sell more at a lower cost, so they enjoy a larger profit margin. Google is the purest example: its search algorithm won market share on merit. Alternatives are easily available, but most people do not use them. But the pattern holds more broadly: superstar firms have grown not by avoiding competitors but by defeating them... The policy response required is subtle: after all, the growth of innovative, productive companies is welcome. It’s the unintended consequences of that growth that pose problems.
The last is a deep and unqualified statement. Let us unpack it. This essentially means that superstars firms like Google competed on a level-playing field with competitors and won the race on merits. How can we be so sure? In fact, there are strong arguments to dispute this narrative.

I see several alternate narratives. What if there were entry barriers (beyond a network size) that stifled competition and that Google was, by happenstance, the first to cross this? What if these barriers gave Google the time and network density to gather more data to refine its search algorithm, which in turn entrenched its position even further? What if there is some stickiness to search engine users that confers definitive first mover advantage (beyond a certain network size)? What if Google manipulated its search algorithms to steer traffic towards itself and away from competitors?

What if Google manipulated the market with unfair business practices that took advantage of its initially emerging leadership share? Or what if Google used its rising market power to lobby and put in place rules of the game that erected subtle entry barriers - after all Eric Schmidt was the Technology Czar in the first Obama administration and there is some argument that the frequent visits by Google executives to White House helped swing the anti-trust investigations by Federal Trade Commission their way? For more on a theory of such narratives, whether you believe them or not, read Matt Ridley here.

I am not suggesting in favour of any of these narratives. In fact, most reasonable people would agree with me that all these narratives, including the one unquestioningly embraced by Mr Harford, are possibly equally likely (even people like David Autor included). Maybe all of them played some part or other in elevating Google. It is true that they may arrive at different choices when they apply their judgement call on the various alternatives. I am inclined to believe that we may never be able to decipher the true dynamic that has catapulted Google to where it is today. 

But I am disturbed by the nonchalant, almost reflexive, manner in which Mr Harford overlooks all these alternatives to embrace his narrative to rationalize away the trend of business concentration as the meritorious evolution of superstar firms. By calling it an "unintended consequence of growth", Harford is dramatically altering the frame of reference in conversations surrounding business concentration. It attenuates the sting of the economic efficiency and moral repugnancy arguments against business concentration. It is inconceivable that an intelligent and shrewd commentator like Mr Harford is unaware of these. It is more likely that he considers them less likely or unimportant.

This is hegemony. Such depth of mental capture is disturbing. And it is true of many important public concerns among even the most influential liberal thinkers and opinion makers.

Monday, May 22, 2017

Automation update - brick making machine!

Brick making employs around 10 million of the poorest people in India, making it one of the biggest single occupational types. And what do we have in India, a country with abundant labour supply and limited productive employment opportunities - a brick making machine that can make 300 bricks a minute!
Yes, work conditions in brick making make it like "modern day slavery". But what is the alternative for these poorest of poor employed in brick making?

Now consider the public debate. If software industry with just 3.5 million of well-off workers, a major part of India's private sector induced middle-class, faces a strengthening rupee or threats from artificial intelligence etc, there are public debates about what should be done. Government and the Reserve Bank of India gets blamed for not doing enough to retain the exchange rate competitiveness or promoting AI.  

Here you have an intervention that threatens to gradually eliminate the livelihoods of three times that many workers, arguably among the poorest of the poor. And it gets nary a mention in the media. What's more (if you see the comments here), it is held out as an example of India's progress! The only people who are likely to stand up for them are (hopefully) the political representatives from those areas worst affected by such labour displacement. I therefore am not always unsympathetic to some of the political decisions that are often decried as statist or not progressive. Government of India's policy to slow down the pace of liberalisation and easing FDI in retail is a case in point. 

One can be rest assured that the brick-laying machine has critical components which are imported, with the imports enjoying concessional tariffs. And the manufacturing enterprise making the machine benefits enormously from capital investment subsidies, and fiscal and input subsidies. In other words, public policy is subsidizing interventions that displace labour. And if the brick laying unit is in the formal sector, with workers having mandatory wage deductions, then public policy would be penalising labour!

Yes, I can hear that. I am no Luddite. Neither am an apologist for the liberal/progressive order. The creeping automation does concern me. I also acknowledge that policies or human restraints can only delay the inevitable. But staying back and letting things take its course does not look the most advisable option for me. And buying time helps in deepening growth and enabling the gradual process of adjustment, that may be the best public policy can do.

The story that such technologies improve overall productivity, raise incomes, and create new jobs to accommodate the displaced comes with several bells and whistles. For one, if Industrial Revolution is any indicator, incomes can actually keep going down for several years. And even if the story holds in the aggregate, itself debatable given evidence from industries about displacement and new job generation, there are likely to be large pockets of losers. Anyways, it is most unlikely that these illiterate and poorest of poor brick workers could get retrained and acquire another job.

Too many of such struggling voices have been marginalised in mainstream debates on public issues. It is of course a reflection of the capture of the progressive/liberal order by those who benefit from it. But, as Brexit and Trump shows, such marginalisation happens at a prohibitive cost. You sow the wind and reap the whirlwind! 

Sunday, May 21, 2017

Weekend reading links

1. Even as rest of the world is slowly converting farmland for other purposes, Singapore is going in the opposite direction and trying to become a leader in agriculture technologies,
Singapore... is making land available for agriculture for the first time in decades for farmers to come up with high-tech ways of improving the city-state’s food security. About 60 hectares of land will be released for farming from August, in a move authorities describe as providing a “buffer” against disruption in the supply chain... The south-east Asian city-state imports more than 90 per cent of the food needed to cater for its 5.6m inhabitants, and outbreaks of disease among overseas suppliers are quickly felt in price rises at markets... Farmers bidding for the new land will be encouraged to outline their plans to raise productivity as well as competing on price. Land for agriculture is scarce in Singapore and it can be hard to find skilled agricultural labour but farmers benefit from government funding for research and development... Eugene Tan, a political analyst at Singapore Management University, likened the farming plan to Singapore’s efforts to achieve self-reliance in water through rainwater catchment, recycling and desalination. Water technology developed in Singapore has been exported globally... Singapore’s government recently supported a vast farming venture in north-east China, which is intended to provide a reliable supply of pork and other staples. The Jilin farming project, managed by a public-private partnership, covers 1,450 sq km — an area twice the size of Singapore.
2. Story of Amazon stock since listing in 1996,
Amazon shares, listed at $18 at the time, have produced a compound annual return of nearly 40 per cent since the initial public offering. That means, for example, that $100 invested in Amazon stock at the IPO would be nearly $64,000 today (the stock split three times, so one share at the IPO equals 12 shares now). Up 63,990 per cent since its IPO, Amazon ranks as the best-performing US-listed IPO since 1995, according to Dealogic. For context, Netflix is fourth and Yahoo is seventh and the total return on the S&P 500 in the same period is about 300 per cent. It was not always smooth sailing, though. Its shares sold off after the initial euphoria around the listing. Then, during the dotcom bust, adjusted for the stock splits, Amazon fell from a high of $113 in December of 1999 to a low of $5.51 in October of 2001.

3. From the FT, on rising manufacturing and general wages in China,
Average wages in China’s manufacturing sector have soared above those in countries such as Brazil and Mexico and are fast catching up with Greece and Portugal after a decade of breakneck growth that has seen Chinese pay packets treble. Across China’s labour force as a whole, hourly incomes now exceed those in every major Latin American state apart from Chile, and are at around 70 per cent of the level in weaker eurozone countries, according to data from Euromonitor International, a research group.
But for countries like India, even with stagnation in manfacturing wages since 2007 at $ 0.70 per hour, this does not automatically mean good news. In fact, other factors are likely to more than offset China's erosion of competitiveness due to rising wages. The rise in Chinese wages has been accompanied by an even faster rise in productivity. Further, the massive size of Chinese market, at around 20% for a range of sectors, makes local manufacturing even more commercially attractive. These are unlikely to reverse soon.

4. Ananth points to Steve Rattner's twitter graphic on corporate tax rates and revenues as percentage of GDP.
Apart from the US problem, there is one another interesting thing that stares out of this graph. Contrary to the conventional wisdom on lower tax rates leading to higher aggregate revenues, as reflected in the Laffer curve argument, we see a more or less linear relationship. If there is a plateauing of the revenues, it appears to happen at very high rates.

5. Fascinating profile of Emmanuel Macron, the new occupant of the Elysee Palace, by Simon Kuper,
His long, lone walk to the Louvre stage on the night he became president expresses a truth: Macron walks alone. Almost uniquely in modern western democratic history, he has won power without joining a party. He doesn’t seek enduring allies. Instead he seduces useful people, then drops and humiliates them... Le Pen derided Macron as a creature of “the system”. That was wrong: Macron is nobody’s creature, because he isn’t loyal to anyone. This makes him a born transgressor like Blair, keen to trample on sacred beliefs.
The good thing with not having an ideology for a politician is that it helps him or her view problems in the most prudent manner, especially useful when navigating complex public policy challenges. The bad thing is that in the absence of an ideology, without its moral underpinnings (either equity or efficiency, social or individual), the politician becomes an opportunist. Even in this world of convergent ideologies, it is rare to find a combination that marries the two parts in an acceptable proportion.

6. The always brilliant Lant Pritchett takes down RCTs by drawing attention to its X-axis (determinant variable) focus and agnosticism about a theory of the Y-axis (the variable of interest),
Rather than asking “what would help understand the observed (or achievable) variation in Y in ways that allow maximal benefit?” the research asks “who will let me do X or evaluate the impact of their doing X?”... But whether conditional cash transfers induce more attendance at school can be individuated, and sample sizes of individuals can generate statistical power, so we have dozens and dozens of RCT studies of CCTs. This is the case even though we know and knew, for sure, both before and after the CCT research that CCTs were not a very big determinant of even school attendance (across countries, over time, or across individuals), much less learning, much less overall development...

A casually identified estimate of the impact of X on Y does not answer the question of how big the impact is relative to the magnitude to be explained... While one might argue that having a complete model of Y is unnecessary to knowing whether X is a cost-effective intervention, without some sense of “how big” it is impossible to know whether there are other, potentially much bigger Xs left unexplored... That doing X had impact ΔY in a given context is, in the absence of theory, zero rigorous evidence about the likely impact of doing X in any other context. For that matter, it is only theory that can tell us what “context” even means... What a researcher can do in a “field experiment” or an NGO might be willing and able to do with an impact evaluation built in might have nothing to do with what is scalable, particularly scalable by the public sector.
7. I am inclined to argue that India's banking sector non-performing assets crisis has been caused by a combination of three factors - bad business decisions (by both corporates and banks), adverse contextual events and trends, and plain cronyism and corruption. And if and when someone documents the ongoing banking sector crisis in India, I shall not at all be surprised if the third factor played an important role in the build up of such bad assets.

Livemint has a nice graphic that points out that there were nearly 6800 wilful defaulters (or someone who has the ability to pay) who owed nearly Rs 1 trillion or a sixth of the NPAs.

8. Upending the caricature of farmers and agriculture being the problem in bank defaults, the graphic below shows that the problems is far more with corporate loans than with farm loans.
The picture does not change with stressed loans, where too corporate loans predominate.
9. An astonishing set of stats about men's tennis,
Since Roger Federer won his first Wimbledon in 2003, the big five have won every Grand Slam but five—Federer (18), Rafael Nadal (14), Novak Djokovic (12), and Andy Murray and Stan Wawrinka (three each). And the remaining five were won by five different men. That’s 50 of 55 titles taken by just five players—and, remember, Murray’s and Wawrinka’s titles only go back the last five years... Only one of the five one-time Grand Slam winners has come close to another major title... Only 24 men have reached the finals of the last 55 Grand Slams. Of these, 33 finals have been contests exclusively between the Big Five—all of them since the French Open in 2006; that’s 33 out of the last 44. Only 10 men have won these titles and the Big Five players are the only ones to have won more than one.
It is even more staggering if you leave out Murray and Wawrinka, who are clearly at far lower level than the Big Three. Incidentally, the Big Three are the only players other than Rod Laver and Andre Agassi to have completed a career Grand Slam of having won all the four majors. Should we celebrate a rare confluence of extraordinary talent or be concerned at the deficiency of competitors?

10. Finally, Laura Alfaro and Fabio Kanczuk examine the utility of fiscal rules and have this to say,
A simple debt rule that limits the maximum amount of debt is analyzed and compared to a simple deficit rule that limits the maximum amount of deficit per period. Whereas the deficit rule does not perform well, the debt rule yields welfare gains virtually equal to the optimal rule.
This converges with India's own recent shift of its fiscal accountability framework from a deficit-based one to a debt-based rule.

Saturday, May 20, 2017

The anti-trust challenge in US

It was thought that free-market capitalism had solved the problems of monopoly and oligopoly by the nineties. Anti-trust vigilance has since taken a back-seat. But as a superb interview of Roni Michaely, a Professor at Cornell exploring business concentration and its effects, shows that the time may have come for anti-trust regulators to step in.

The rise in business concentration is uniformly across industries, 
And is also reflected in the alarming decline, amounting to a near halving, of the number of listed firms.
And evidence that the concentration is increasing pricing power (and greater surpluses at the expense of consumers) comes from a significant increase in return on assets (RoA) and profit margins of firms in industries that have become more concentrated.
The merger spree in banking since 1996 has led to the collapse of 37 banks into just four giants.
The most egregious indicator of business concentration has to be this - the share of US deposits going to the four biggest banks has risen spectacularly from just 7% to 58%, a more than eight-fold rise, over the 1995-2014 period. 
This cries out for anti-trust action

Thursday, May 18, 2017

Observations on the bankruptcy code

I finally got time to go through the regulations under the Bankruptcy Code. They look very good in theory. Well thought out with clear processes, mandatory timelines, incentive compatibility and so on. It is a paradigm shift in moving from "debtor in possession" to "creditor in control" once bankruptcy proceedings begin. I think we should all agree that we have a state-of-art regulation. 

But this is no guarantee that it will work as anticipated. In fact, I shall put my head on the block and say that we can be rest assured that it will fall short of the (inflated) expectations, at least in the foreseeable future. Though India's bankruptcy eco-system would have moved into a superior equilibrium, resolution and liquidation is unlikely to disappear as a major pain point while doing business in India. And I shall hold myself accountable five and ten years down the line and revisit this blog post to make hindsight assessments. 

I foresee some critical challenges.

1. How good will be the Insolvency Resolution Professionals (IRPs)? How good will be the valuation agencies? How fast can we develop a supply-side of sufficient quality in these services? How confident can we be that the ICSI and the ICAI, the two registered Insolvency Professional Agency (IPA), maintain high standards of certifying IRPs? How can we ensure that they (the median IRP or valuer) will not be captured? The four assurance/advisory firms will be dominant, but we have seen several instances in recent years of all of them being compromised. And the stakes here are much higher than those cases.

2. How can we be sure that the asset sale/transfer does not lead to round-tripping back to the promoter though complex set of transactions? The ARC resolution process was seriously compromised by this. In fact, as Vijay Mallaya's Goa property auction shows, after multiple tenders, it required the presence of public sector purchasers to get a private bidder to break "ranks" and bid.

3. The volume of NPAs are so huge that the depth of the market will be severely tested. This means the likelihood of low returns on sales/liquidation etc. Will the different stakeholders accept it? Will the limited depth also make gaming or cartelisation or collusion easier? 

4. Since the vast majority of creditors losses will be taken by public sector banks and the decisions will be taken elsewhere, will it engender a moral hazard in so far as the individual bankers (being public servants) now have less incentive to maximise the recoveries? Especially so since the haircut decisions now delve on the NCLT - so easy to take cover.

5. How long can we keep the honourable courts out of this process? The vast majority of losses are likely to be taken by public sector banks. PILs will follow. The promoters too will not be lying down and taking losses. Will the promoters of Bhushan Steel calmly accept the sale of their steel assets to  say, Jindal or POSCO? They will explore all avenues to litigate. The Courts will have to exercise a level of restraint that has eluded them till now. 

6. Finally, the maturity and the integrity of the NCLT bench itself becomes critical to the success of such transactions. After all, in some ways, they have the decision rights on very high stakes decisions. If this works well, we should have the NCLT added to the pantheon of the handful of credible public institutions in India. 

Answers to all these are judgement calls. It can turn out either way or meander along to some equilibrium (good or bad) over time. In fact, it is difficult to control the dynamics that lead to these sub-optimal outcomes. 

In the circumstances, the only factor that can be controlled is for the Ministry of Corporate Affairs (MCA) and the Insolvency and Bankruptcy Board (IBB) to be under constant vigilance to emerging trends in the implementation, especially in the initial years, and respond quickly with modifications to the regulations to address serious concerns. 

We have seen numerous examples of state of art regulations in sectors like capital markets, both in India and across developing countries (especially Latin America) fail to deliver anything close to their expected outcomes. There is nothing that prevents the same outcome from happening. 

The purpose of this post is not to cynically dismiss the Code. As I said, it is state-of-art and possibly the best that could have been done. But while it may be a necessary condition for the successful evolution of a good bankruptcy regime in India, it is hardly a sufficient condition. In fact, we have only got to the starting line. Now comes the real challenges. 

Instead the purpose is to interrogate the challenges likely and highlight how many of these are not only due to government inefficiencies or weaknesses, but deficiencies that reflect our stage of socio-economic development, corporate ethics and governance standards, institutional maturity, and so on. 

Now these are big bang structural reforms. But most such big bang reforms require diligent and long-drawn work to achieve the desired "bang"! Unfortunately, mainstream debates, even in very informed circles, all too often miss these nuances and blame governments for everything that goes wrong with such reforms.