Mid-week reading links

1. The world according to Trump

2. Buoyed by cheap capital, bond market capital raising hit a new high of $6.62 trillion in 2016, with corporate bonds contributing nearly half. 

Eight of the ten largest bond offerings this year were by corporates, who competed to take advantage of the cheap borrowing to finance a wave of mergers and acquisitions. 

The flip side to this is the risks it engenders as interest rates appear to be one the cusp of an upward cycle. Reflecting this, US 10 year bond yields have surged from a record low of 1.36 per cent in July to 2.57 per cent. The impact of a steep enough rise on the indebted corporate balance sheets can be devastating. 

3. Another study finds no evidence of link between executive compensation and company performance. The FT has a report on the study commissioned by the CFA Society of UK and done by the Lancaster University Management School. 

In a study of more than a decade of data on the pay and performance of Britain’s 350 biggest listed companies, Weijia Li and Steven Young found that remuneration had increased 82 per cent in real terms over the 11 years to 2014. Much of the increase was the result of performance-based pay. But, the report’s authors say, the metrics used to assess performance — such as total shareholder return and earnings per share growth — are unsophisticated and short-termist, acting against the interests of long-term investors. The research found that the median economic return on invested capital, a preferable measure, was less than 1 per cent over the same period... A separate research study, by Vlerick Business School’s Executive Remuneration Centre earlier in December found that the median UK chief executive earned €6.175m last year, 50 per cent more than the average counterpart in Germany, the next best paying country.

This really is getting so egregiously embarrassing in a world which increasingly claims to be evidence-based. The brazenness with which such claims are made is shocking. Worse still, instead of being stamped down on, the world continues to be tolerant of the evidence-free claims of the supporters of corporate compensation.  

4. Gavyn Davies has got this spot on. This will be one of the dominant themes of economic and political debates not just in 2017 but in the years ahead. 

How should we compensate the losers from globalisation?

Maurice Obstfeld, the IMF Chief Economist, has called for "trampoline policies" that act as springboard to new jobs as against just the conventional "safety net" policies. 

It is also a teachable moment in intellectual dishonesty and duplicity among the so called "economists" and "public intellectuals" in the west like Mr Davies. For at least three decades, developing markets, or at least significant population groups there, had been at the receiving end of the trade liberalisation agenda. Though the country as an aggregate may have gained, trade liberalisation and globalisation have destroyed local markets and livelihoods, disrupted their social fabric, and engendered political instability. Now, with the shoe in their feet and "economic nationalism" threatening to disrupt social and political status quo, the same worthies in developed economies who then insensitively waxed eloquent about the benefits of unfettered free-trade, have now suddenly turned sceptics. They argue for policies that protect local communities from cheap Chinese exports. 

Worse still, this revisionism cannot be construed as a matter of late realisation due to a mistaken analysis. The same people still support harmonisation of policies especially in labor standards and environment, despite its same consequences on developing country markets. 

Anyways, the issue by itself assumes equal or greater significance for developing countries, where population categories adversely affected by trade are even bigger and public resources required to mitigate much higher proportion of public spending. The challenge is compounded by the weaknesses in markets and state capacity to effectively administer such redistribution.

5. After this, Manas Chakravarthy swings to the other extreme in urging caution on informality. He's as much spot on this time as he was off the mark last time. He writes,

A 2014 paper by Rafael Porta of the Tuck School of Business and Andrei Shleifer of Harvard University, published in the Journal of Economic Perspectives, concluded thus: “we are skeptical of all policies that might tax or regulate informal firms. Rather than encourage informal firms to become formal, such policies may have the effect of driving them out of business, leading to poverty and destitution of informal workers and entrepreneurs. The recognition of the fundamental fact that informal firms are extremely inefficient recommends extreme caution with policies that impose on them any kind of additional costs.”

In other words, shock therapy such as demonetisation could very well turn out to be counter-productive. Instead, Porta and Shleifer say the cure for informality is economic growth. The evidence shows that informality declines, albeit slowly, with development. An 2009 OECD paper on Informality and Informal Employment also came to the conclusion that policies that make it more difficult for informal firms to carry out their activities and stricter enforcement of laws and regulations “have contributed to increased poverty and vulnerability by pushing already vulnerable groups of people into even more difficult situations.” What the government should instead aim for is expanding the formal sector, by making it easier for firms to operate there.

I am in complete agreement. To repeat, my concern with the debate on informality is that it is mistakenly seen through the lens of tax evasion. That is completely missing the point, since informality and tax evasion are inevitable because firms cannot become formal and stay competitive in an extremely price sensitive market where the vast majority of consumers are very poor.

6. Ajit Ranade makes a very strong case for raising income tax rates on capital gains. He advocates treatment of short-term capital gains as similar to regular taxes and taxing long-term capital gains, especially given the Government's decision last year to amend the Mauritius tax treaty.

(This) was a relatively unsung but revolutionary tax reform. Opponents had warned that there would be hell to pay as foreign investors would flee India if deprived of the freebie Mauritius route. Nothing of that sort happened... The amount of tax foregone because of tax-free LTCG can be gauged from data released by the tax authorities this year. In assessment year 2014-15, the total amount that escaped the tax net due to LTCG was Rs 64,521 crore. A recent research report published in the Economic And Political Weekly estimates the loss to the exchequer due to capital gains tax exemption at Rs 45,000 crore. Just by way of comparison, in the US, all short-term gains are taxed as regular business income, and long-term gains are taxed at a rate of 15%. It must also be remembered that most foreign investors (FII) who come into India are long-only funds, with a minimum time horizon of three years. So for these investors, gains made in one year are immaterial. Hence it is inconsequential to them if gains beyond one year are made tax-exempt. It, of course, matters a lot for the exchequer. So, ideally, the LTCG tax exemption should kick in after completing three years. Anything shorter, the capital gains should be like regular income. Such a non-discriminatory and transparent tax regime will do away with arbitrage between gains in listed versus unlisted stocks and also foreign versus domestic investors.

7. Finally, the foreign policy victor of 2017, Vladimir Putin and Russia. Consider this from David Gardner,

The Kremlin seems to be getting away with its cyber intervention in the US election. It is having some success in dividing Europe and erecting an illiberal democratic pole inside the EU. And President Putin has a new admirer in US president-elect Donald Trump. President Recep Tayyip Erdogan of Turkey and President Abdel Fattah al-Sisi, the former army chief who rules Egypt, are already Putin fans. Benjamin Netanyahu, Israel’s rightwing premier, has cultivated the Russian leader. Mohammed bin Salman, the young deputy crown prince in de facto charge of Saudi Arabia, has developed what one Arab official calls “a functional relationship” with Mr Putin.