Wednesday, August 30, 2017

A healthcare reform agenda - focus on public health

Really good article by Jacob John that captures one of the fundamental problems with India's health care system. It is focused on disease care, to the exclusion of public health. In fact, apart from municipalities, we just do not have a professional public health system at all.

I cannot describe it any better,
Nearly all democracies use two modalities of modern medicine to keep citizens healthy—public health and disease-care. Public health is what the state does to prevent diseases and to protect health. In contrast, disease-care includes the different types of biomedical interventions that are carried out to restore health after an individual falls ill. Therefore, disease-care is popularly called “healthcare”. Healthcare is labour-intensive, given by one worker to one client at a time. Clinics and hospitals are visible infrastructure and sought after as a felt need in times of distress. Public health, on the other hand, is invisible infrastructure, working in society to mitigate social determinants of diseases and in the environment to mitigate environmental determinants of diseases. Usually, this is managed by a ministry of public health or at least a separate public health department under the health ministry...
To confuse the common man, the term “public health” has been misappropriated by policy leaders and medical professionals to mean healthcare in the public sector. Healthcare is not and cannot be called public health... Public health must be managed by professionals trained in public health and empowered to work for the health security of all people—urban and rural, poor and rich. Such professionals must be part of a cadre-like structure and career track...
In the absence of a public health framework that can supervise disease prevention, we vaccinate against Japanese encephalitis, but without controlling the disease; we vaccinate against hepatitis B, but without monitoring the benefit; meanwhile, measles continues to kill children even as we have a major measles vaccination thrust. Leprosy is being eliminated but new cases occur unabated. Monitoring of all disease burdens can be done only by public health. Without monitoring by public health, most of our disease-control projects are flying blind.
Not only do we not have a public health focus, we do not even make a pretension to have one. As a reflection, most states call their health departments either Health Department or Health and Family Welfare Department. What we call primary health care is disease treatment, maternal and child health activities, monitoring of various program verticals, and epidemic response either when one breaks out or there is a threat of one breaking out. This pretty much sums up all the activities of the entire health system and its professionals from district upwards. 

Note that there is nothing here about real public health, as defined above. There is no active focus on preventive care. Instead of preventive care, we have reactive scramble or fire-fighting. The medical officers in the Primary Health Centres (PHCs), the nodal field entity for all health care activities, spend the major share of their times either on disease treatment or epidemic response, with virtually not attention to active preventive care (apart from maybe the routine anti-malaria operations).

In some ways, this state of affairs is comparable with education. The preventive care activities are the primary school learning outcomes equivalent in education, with disease treatment being equivalent to the matriculation examinations and professional college entrances. Just as in education, the focus is skewed towards the latter. Naturally, learning outcomes and public health stand out as massive governance failures. 

These preferences are felt across the system. Public health specialty is a very poor and stigmatised cousin of other medical specialties, as reflected in the specialty preferences of candidates in the post graduate examinations. It is not incorrect to say that even within their graduate coursework, medical students largely sleepwalk through their public health courses as a necessary evil. In the marriage market, public health doctors struggle to find place as doctors. The only domain where there is a distinct public health focus is in urban governments, and in many states these are also among the least preferred posting options for doctors (except where the priority is to make money!).  

This misplaced priorities is understandable. Disease care can be reduced to a set of visible, monitorable, and logistics-type (so called "thin") activities. In contrast, preventive care involves invisible, less monitorable, and engagement intensive set of (so called "thick") activities. Systems with weak state capacity, as public agencies are in developing countries, just about manage to get "thin" activities done whereas they struggle with "thick" activities. In due course, such systems gravitate towards the former and marginalise the latter. It has happened with healthcare just as it happened with education. 

This demands, as Dr John argues, a whole new cadre of public health professionals. In fact, as I have blogged on several occasions, we actually do not need a full-fledged MBBS doctor in a PHC. Given the basic nature of primary medical care that is dispensed in PHCs, it is adequate to have them delivered by nurses under the supervision of the public health physician. The treatment doctor can be redeployed to fill the vacancies and supplement resources in our over-stretched secondary and tertiary hospitals. 

In fact, a treatment doctor in a PHC is a very bad use of scarce resource and ends up with worst of all worlds. He is not required to dispense treatment given the nature of primary care, and his focus on seeing out-patients displaces his more important role of co-ordination and management of various sub-centres and field activities. 

In the circumstances, as a practical agenda, it is useful to consider moving disease treatment doctors away from PHCs and replacing them with public health doctors, thereby also shifting the focus of PHCs away from disease treatments towards preventive activities. The public health doctor's major responsibilities should be active and comprehensive preventive care management, co-ordination of the vertical national programs and their integration into preventive care activities, maternal and child health care and related outreach activities, management of the sub-centre and PHC as effective referral centres, and epidemic response. 

Needless to say, there is no need to have a single model for the whole country, though the broad thrust and structure has to be same. In a few states, some of the PHCs do regular maternal deliveries, and it may be useful to have a pool of doctors who travel across a cluster of PHCs and attend to such deliveries. Other variations to accommodate local context would be necessary.

Update 1 (10.09.2017)

Good article in Indian Express highlighting the patient over-load problems faced by the polyclinics in Delhi.

Tuesday, August 29, 2017

Weekend reading links

1. If you thought Microsoft is an American company, then atleast its tax filings do not indicate that. Consider this about Microsoft's latest tax filing,
Microsoft’s latest annual report, released earlier this week, shows that over the past two years, the company enjoyed worldwide income of almost $43 billion. It claims to have earned just 0.3 percent of that—$128 million—in the United States... The company now discloses a total of $142 billion in “permanently reinvested” foreign earnings—an increase of $18 billion in the last year—and reports it would pay a tax rate of 31.7 percent if these profits were repatriated. This means that the company is currently avoiding a stunning $45 billion in taxes by holding its money offshore... Foreign profits are subject to the 35 percent federal corporate tax rate minus any taxes paid to foreign governments. This means Microsoft has paid a foreign tax rate of just over 3 percent on these offshore earnings... Collectively, corporations have at least $2.6 trillion stashed offshore. If these profits were repatriated under current tax rules, it could mean $700 billion in tax revenue.
What more evidence do you need to address such egregious tax evasion (it has long since crossed the line of avoidance)? Examples like these and the absence of even one criminal indictment of a Wall Street executive for the sub-prime mortgage crisis seriously erode the credibility of modern capitalism. 

2. The India-China stand-off at Doklam is finally over. The Ministry of External Affairs has put out a statement that conveys mutual disengagement and its verification. But the Chinese statements appear contradictory. I guess, there is intense logic-splitting here. 

As I have blogged earlier, a mutual disengagement should be taken as a victory for India. So if as the MEA statement is true, then the Chinese statements should be taken as understandable grandstanding for domestic audience. Did the forthcoming BRICS summit at Xiamen and the Chinese host anxiety to clear the ground help India push this settlement through? If this is true, it is a very significant victory for Indian diplomacy. 

3. The decision by the Railway Ministry in India to ask three very high ranking officials - Railway Board Chairman, General Manager, and Divisional Railway Manager - to go on leave for the derailment of the Puri-Haridwar Utkal Express at Khatauli in UP which killed 21 people, is a huge signal. But is this likely to have any of its intended effects? 

In brief, as the newspapers report, the derailment happened due to track maintenance work involving replacement of a small strip being done without having taken clearance from the station master. 

Now, this is evidently a very basic lapse, and accountability will have to be fixed and action initiated, among officials at the local level. And it has to go beyond mere suspension, with disciplinary proceedings done quickly and strong enough punishment meted out. But I struggle to find out how the DRM, much less the GM, and even much less the Railway Board Chairman should be accountable enough to be asked to go on leave.

At such senior levels, given the nature of the lapse, there can only be moral accountability and not functional accountability. And I am not for a moment saying there should not be moral accountability. But the question is who is the best positioned to assume moral responsibility and do so in a powerful enough manner? 

Without in any way condoning such lapses on first order requirements, we need to also appreciate the chronic conditions under which these things are done in India. While standards and protocols for everything may be clearly laid out, its compliance would require some basic requirements - adequate manpower, basic work materials, maintenance time slots, and so on. When these basic requirements are off by orders of magnitude, then it is not uncommon to see such omissions and lapses. Deaths of linemen in electricity discoms due to electrocution arising from undertaking line repairs (most often in case of emergencies or due to sudden interruptions) is another example. 

4. Nice article in FT which examines the request by new entrant Reliance Jio to the Telecom Regulatory Authority of India (TRAI) to lower interconnection charges.
Now Jio is pushing the government to slash the mobile termination charge — the fee that India’s mobile operators charge to offset the cost of handling incoming calls, which is paid by the caller’s network operator. A reduction would benefit Jio, largely because it has offered free calls to all subscribers, pushing up its ratio of outgoing calls to incoming ones... the hit to revenues would be a blow to other operators that had invested in infrastructure in the countryside, “because traffic is largely from urban to rural, with little call origination revenue in rural areas”. Jio’s subscriber base is “more urban-centric” than rivals’, according to analysts at India Ratings and Research... In a presentation to regulators last month, Jio claimed that the mobile termination charges have been kept unduly high for years, inflating sector revenues by more than Rs15tn ($235bn) over the past five years. “Incumbent operators are trying to coerce a rent from smaller operators due to their inefficiencies and lack of investment with flawed arguments,” Jio wrote in the presentation... the current mobile termination charge of Rs0.14 is already below the cost of handling incoming calls.
This is going to be one very interesting decision. TRAI will have to balance the interests of consumers and operators, by weighing the benefits of further lowering what are already one of the lowest telecom tariffs anywhere in the world against the costs inflicted on chronically indebted operators in an ultra-low margin business. I am inclined to the view that this may be one example where lower price is not always good for the long-term health of the sector.

5. If we thought India with 58 million entrepreneurs had too many of them, you haven't heard of Nigeria's,
In 2013 the National Bureau of Statistics found that Nigeria has nearly 37m firms employing fewer than ten people (most of them unregistered sole traders). Just 4,670 employed 50-199 staff. 
I suspect much the same holds true of other low income countries. The problem is not too little entrepreneurs, but too many of them, and the overwhelming majority of the wrong kind. These aspiring entrepreneurs should instead be encouraged to spend efforts acquiring skills that can help them access productive jobs. 

6. This blog has consistently urged caution on India's solar boom. The spectacular declines in tariffs over just a couple of years defied all business sense. Even in the most optimistic scenarios and with the cheap Chinese modules, it would have made sense only if none of the risks surfaced. And then too, only with the smallest of margins. 

Now those risks are surfacing one by one, and all even before the projects have been commissioned. First, faced with "buyer's remorse", State government distribution companies have started renegotiating on the initial rounds of higher tariff solar contracts. The surprising absence of any compensation for cancellation has encouraged state governments to pressure developers. A recent revision of the model contract document addresses this anomaly. 

Now comes news of rising Chinese module prices. Sample this,
Several developers and analysts Mint spoke to said that the record low tariff of Rs2.44 per per kilowatt hour (kWh) at the auction of 500 megawatts (MW) of capacity at the Bhadla solar park in Rajasthan in May was quoted assuming module prices will fall to around 23 cents per watt. With the module prices currently around 32 cents and the August delivery quoted at around 34 cents, developers are wary about the future tariff trajectory. Modules account for nearly 60% of a solar power project’s total cost and their prices fell by about 26% in 2016 alone. Module prices have, however, firmed up with China extending the feed-in tariff regime, which ensures a fixed price for power producers, for the third quarter and US developers placing advance orders to shore up cell and module supplies amid demands for a cap in prices of cheap imports to the US.
Suppliers realise that the operators are locked into long-term power purchase agreements with discoms and have deadlines looming, and therefore cannot afford to delay commissioning. They have been using this leverage to renegotiate higher module prices. 

With domestic manufacturers making up just 10.6% of the modules market, Indian developers are heavily dependent on the dominant Chinese suppliers.  

And we still have not seen the operational risks surface. And there are likely to be many of them ranging from uncertainty about realised output to maintenance and replacements!

7. Finally, The Economist has an interesting analysis of the impact of recent trends on airport operators. Globally, non-aeronautical revenues from shops, airport parking, car rental and so on formed two-fifths of airport operator revenues of $152 bn in 2015. But these revenues have been showing declining trends. This may be due to the ubiquity of nearly identical duty-free and luxury shopping at airports, the shifting demographics of passengers (who have less money to spend), increasingly better public transit connectivity of airports with city centres, and the popularity of ride-hailing companies.  
At the start of the year, Aéroports de Paris, Frankfurt airport and Schiphol airport, in Amsterdam, announced drops in spending per passenger in 2016 of around 4-8%.
These trends pose challenges for countries like India which have only recently set out on a path to develop airports on PPPs. 

Thursday, August 24, 2017

PPPs in infrastructure - finance operating assets

Finance 101 teaches us that life-cycle costs of infrastructure projects are optimised by financing them as end-to-end projects, from construction to operation and maintenance (O&M), since it aligns the incentives of the private operator to design and construct in the most efficient manner. Never mind the overwhelming evidence to the contrary. 

This blog has consistently taken the contrary view that the cleanest and most practical approach to leveraging private capital into infrastructure is to channel them into the O&M of commissioned infrastructure assets.

The reasons are simple. One, large infrastructure projects are exposed to very high constructions risks, mostly arising from factors that private operators cannot control. Only governments can control those risks. Two, construction risks induce delays and cost over-runs, which in turn add to the already higher cost of capital that private operators face when compared to governments. Three, post-construction, there are significant uncertainties associated with commissioning - e.g.. traffic realisation in transportation, tariff/user-fee realisation in utility services etc. Again, these risks are better managed by governments than private parties. Four, once constructed and commissioned, the O&M risks are far less and the revenue stream is more predictable. 

In simple terms, the risk allocation and financing terms for construction and commissioning, and O&M are qualitatively different. They demand different types of financing. Accordingly, it is better that construction and commissioning is done by one agency, preferably a government owned but autonomous entity, and a private concessionaire to do the O&M.

An acknowledgement of this comes from two of the most ardent upholders of free-markets and private participation, and that too highlighting the woes facing infrastructure projects on both sides of the Atlantic. 

The FT, which has featured several articles critical of PPPs in recent months, has this to say, in the context of UK's struggle with trying to attract funding to infrastructure projects,
“The big difficulty is in getting investors to take on the risk of major new standalone or bespoke projects”, says Andy Rose, chief executive of the Global Infrastructure Investor Association. “When people talk about a wall of money wanting to invest in infrastructure it is primarily for operating assets.”
And The Economist, in the context of declining infrastructure spending in the US, writes,
Anton Pil of J.P. Morgan points out that most large infrastructure projects in America need at least some federal funding to succeed. Unless the federal government leads the way, there is unlikely to be much new activity... It is easier, it seems, to raise money to invest in infrastructure than to spend it.
Finally, the FT's editorial view on PPPs is very clear,
To insist on the private sector stepping up to finance grand projects with huge construction risks and long-term pay-offs — beyond most investors’ time horizon — is a recipe for failure. There is undoubtedly a role for the private sector in financing smaller projects, those where assets are already in operation or where the future income stream is clear. But the government is the best risk-taker for long-term projects.
How long will it take for governments in countries like India to realise the need to exercise caution in relying on PPPs to stoke infrastructure spending?

Tuesday, August 22, 2017

Mid-week graphics link fest

1. The remarkable rise and stability in the US equity markets since the election of Donald Trump and the daily roller-coaster of uncertainty flies against conventional wisdom. The graphic below captures the Trump stability,

2. Talking about equity markets and widening inequality, John Mauldin points to this stunning graphic from BofA about the number of hours the average worker has to work to buy a notional share of the S&P 500.

3. This graphic, again from Mauldin, is even more stunning - the US has more indices today than there are stocks! ETFs are driving the equity markets, not stocks.  

4. The folks at GMO who forecast the 7-year asset class returns have dismal findings - US equities expected to decline by 4.2% annually and bonds by 1%. The only silver-lining being emerging market equities.

5. One of the major beneficiaries (and an amplifier) of this financialization have been the credit rating agencies, or the nationally recognised statistical rating organisations (NRSRO) in the US. 
The credit rating market is virtually consisting of just three firms!

6. It is well accepted that the Fed has played an important role in propping up the equity markets. This graphic of Fed balance sheet expansion and the rise of equity market from John Authers is pretty striking. 

7. This graphic shows that the Bank of England's lending rates are currently its lowest in its 323 year history! Since its founding in 1694, the BoE had never lowered its lending rate below 2 per cent till January 2009!

8. One of the most unfortunate things about the sub-prime mortgages induced crisis in the US has been the virtual absence of fixing accountability. This graphic shows that even as 324 Main Street mortgage lenders, loan officers, real estate brokers, developers and others have been convicted, US prosecutors have not been able to complete charges against even one Wall Street CEO. This despite over $150 bn having been realised in fines. 

9. I recently blogged about the declining interest in PPPs. The graphic below captures the sharp decline since 2007 in UK's pioneering Private Finance Initiative (PFI) to attract private investors to infrastructure deals. 
The decline should be an eye-opener for those mindlessly continue to hold up the PFI as an exemplar of best practice in PPPs.

10. Finally, this is really stunning and sad. In the US, fewer millennials are employed or own homes than previous generations at the same age, the younger Americans have never shouldered a heavier student loan burden, and fewer millennials are out-earning their parents at the same age.

Monday, August 21, 2017

Assessing India's economic growth prospects

Ruchir Sharma offers a nice dose of realism about Indian economy, the relationship between economics and politics, government's contribution to growth and more. He makes some interesting points. 

1. Lower growth rates are the new global normal. There is not a single region in the world which is growing faster now than a decade back. Exports, which provided the boost for the last two decades of growth has been stagnant this decade. To that extent, any growth rate above 5 per cent should be good for India. 

2. India has been out-performing its emerging market peer basket by about two percentage points for 2-3 decades, and that out-performance is likely to continue. It helps that the country's GDP per-capita at $2000 is only a fifth or so of the peer basket average, and therefore the boost from low base is significant. 

3. Empirical analysis of state elections shows that even in the past decade, anti-incumbency has been the dominant trend in Indian politics, even when states deliver impressive economic performance. Anti-incumbency has only marginally declined from 65% to 58% in the past decade.

4. The findings of the World Values Survey over the past 2-3 decades show that among the major countries India shows the highest increase in public preference for authoritarian leaders (as against one more answerable to the Parliament and favours more democracy). 

5. Economic growth in recent years has been driven by consumption than investment, as reflected in the buoyant performance of consumer stocks as against the poor performance of manufacturing and infrastructure sector stocks. To the extent that the former is less dependent on government policies than the latter, the government role in contributing to the high growth rate is marginal. 

6. The arrival of a new leader in emerging economies is associated with elevated stock market performance for 2-3 years, with an out-performance of 20-30%. Over the past three years, Indian stocks have out-performed emerging market peers by 10-15%. 

7. The quality of private sector companies, in terms of having consistently delivered 15% or more earnings growth on a steady basis for more than five years, driving equity markets in India is the best in the world. This is encouraging sign both for the sustainability of the bull market as well as for future growth. 

He writes,
The path has been one of incrementalism for a very long period of time and that is the path that we should expect over the next few years and therefore... to pay attention to politics in India is, from an economic perspective, is really a waste of time... this is a country... that consistently disappoints both the optimist and the pessimist. And so, that realism is what we need. You can always be an optimist and always say that this is going to happen. But for me, that is a money losing strategy and that is one thing which is also, we have not appreciated that if you look at what has happened over the last three years, had you bet on the government to deliver, look at it from a pure stock market perspective, you would have been a loser... the evidence suggests that there is really no connection between politics and economics in this country. On the other hand, it is this sentiment of nationalism and you see this, you see this across social media, you see it across television channels, it is this sentiment towards nationalism and stride at hyper-nationalism at times, it is this sentiment which is what is buoying Modi and the current administration... 
if you look at what has worked in the stock market over the last three years, you will find that there is nothing to do with the government or politics. The best performing sector since May 2014 has been the consumer staples sector. This reflects the fact that what is really driving the Indian economy over the last three years has been consumption. As we know from instances across the world, that the government really doesn't have much of an impact on consumption as much it has on investment. Investment is what the government can really drive by creating the investment environment for investment to pick up or pushing that. Instead if you look at investment related stocks in India, those have done quite poorly on a relative basis especially over the last three years.
And this is interesting and I agree,
So, my simple point being here that the connection between politics and economics in this country is rather limited and the stock market's behaviour over the last three years since this government came to power has only reinforced that notion. If you look at both the internals of the market, in terms of what has done well and also the overall market, neither the pessimists nor the optimists on the Modi government would have made any money based on a political view. So, in this country if you want to do well you have tune out the politics and be an internal exile as far as politics is concerned because that only interferes with sort of making money in this nation.
But, in favour of the government, it has to be argued that the counter-factual is impossible to have. To its credit, the government has not done any harm, and has largely been pursuing stable fiscal and macroeconomic policies. This is more than can be said of governments, not just in India previously, but also globally in emerging markets. 

It is here that I disagree with Ruchir, 
There are countries like China, Korea, Taiwan which have been able to grow at 10 percent plus. But my point has always been that to expect big bang reforms in India, to expect that some major big bang reforms will take place in India has always been a bad bet because that never happens. Our culture is one of incrementalism. We do things in incremental steps and I think that is what should be the operating assumption.
I do not think that there are big-bang reforms in India's context. When we talk of big-bang reforms, we think of one-off decisions like deregulation, privatisation, promulgation of new laws, and so on.  Take a decision and you are done. The sort of stuff like privatisation of banks and public sector units, while necessary, on their own, are unlikely to unlock massive growth energies.

The real reforms in India's context, as we laid out in our book, Can India Grow?, are more in the nature of steady and focused accumulation of human, physical and institutional capital, whose base is astonishingly low for an economy of India's size. Deficiencies in these are the binding constraints to sustainable high growth rates. No amount of big-bang can make up for them. For sure, there are some big-bang stuff there, as we outlined, but those are not the stuff the markets associate with big-bang reforms. They are in the nature of pulling complementary levers and persistent follow-up for long periods to address deep-rooted problems.

They would include reorientation of school education single mindedly towards learning outcomes; restructuring of UGC, MCI etc; facilitating the development of financial savings  instruments and enabling access to them, so as increase the savings rate; transition to outcomes-based financing in health care, away from line-items health funding; policies to provide tenure stability and address politicisation of officials postings; across the board standardisation, e-procurements, and third party quality audits; reforms to address decision paralysis and so on. Not the sexy stuff like repeal of Section 25N of Industrial Disputes Act 1947 or the privatisation of Air India or Indian Railways!

Friday, August 18, 2017

Historical asset prices

Ananth points to the FT Alphaville article that features the new work of Oscar Jorda, Alan Taylor and Co that examines the relative rates of return for equity, housing, bonds, and bills for 16 countries over the 1870-2015 period. Their finding,
Over the long run of nearly 150 years, we find that advanced economy risky assets have performed strongly. The average total real rate of return is approximately 7% per year for equities and 8% for housing. The average total real rate of return for safe assets has been much lower, 2.5% for bonds and 1% for bills. These average rates of return are strikingly consistent over different subsamples, and they hold true whether or not one calculates these averages using GDP-weighted portfolios. Housing returns exceed or match equity returns, but with considerably lower volatility—a challenge to the conventional wisdom of investing in equities for the long-run.
A summary of their finding below shows that while returns on housing and equity have been relatively similar, the former has been much less volatile than the latter.
The relative performances of all assets with respect to bills for the period from 1870 and from 1950 are below.
FT though points to a wrinkle to this assessment, highlighting that contrary to conventional wisdom capital appreciation is a smaller share of wealth effect from housing and a significant share of the returns to housing has come in the form of rental yields, something unavailable to the typical homeowner. This coupled with the cost of mortgage taken to finance the purchase means that the real return to the homeowner from a housing asset would be far lower. 

And in a nod to Thomas Pikketty and Co, the authors find that r, the real rate of return to capital, has consistently exceeded g, the real GDP growth, in the aggregate sample, except during the wars,
A robust finding in this paper is that r ≫ g: globally, and across most countries, the weighted rate of return on capital was twice as high as the growth rate in the past 150 years... In fact the only exceptions to that rule happen in very special periods—the years in or right around wartime. In peacetime, r has always been much greater than g.
They also find that risky rates, a measure of profitability of private investment, have remained more or less constant over the past four decades, whereas risk-free rates have declined over the same period,
Both risky and safe rates of return were relatively high in the pre-WW2 era, with an obvious dip for WW1. The risk premium between risky and safe rates grew large with the Great Depression and through the Bretton Woods era. Safe real rates were especially low in WW2 up to the late 1970s. After spiking in the 1980s, the safe return has gradually declined, yet risky returns have remained relatively close to their historical average level, and the risk premium is approaching post-1980s highs... We find that the real safe rate has been very volatile over the long-run, more so than one might expect, at times even more volatile than real risky returns. 
An equally important finding is the remarkable rise in correlation of cross-country risky asset returns, in particular equity returns, and attendant risk-premiums
Historically safe rates in different countries have been more correlated than risky returns. This has reversed over the past decades, however, as cross-country risky returns have become substantially more correlated. This seems to be mainly driven by a remarkable rise in the cross-country correlations in risk premiums. This increase in global risk comovement may pose new challenges to the risk-bearing capacity of the global financial system, a trend consistent with other macro indicators of risk-sharing.
This is one more datapoint in the growing pile of evidence about the global interconnectedness and systemic risks posed by excessive financial market integration.

Thursday, August 17, 2017

The contrasting trajectories of infrastructure and welfare sectors in development

Consider how roads were built even thirty years back in countries like India. Government officials would make the project reports and work estimates and get the road approved. Once approved, the local officials would procure materials like bitumen, hire workers, and use government owned machinery to lay the road. One group of officials from the department would do the field execution, another group would do the recording and check measurements, and yet another group would conduct quality control checks. Once constructed, another group of officials from the same department would be entrusted the responsibility of maintenance. As can be imagined, the government incurs the full expenditure for the road on its completion. 

Fast forward to now, and the scene has been transformed beyond recognition. Consultants make detailed project reports and estimates. Once approved, the department tenders the work out to contractors, who have the responsibility of construction to specified standards. The department owns no equipment and supplies nothing. It even outsources quality control and project management responsibilities to consultants. The maintenance responsibility is either bundled with the construction contract or outsourced after construction. What's more, the government even amortises its expenditure by making periodic payouts to the contractor on meeting agreed service levels. 

The department's role is to co-ordinate among a group of private providers. Contract management has replaced execution as the primary responsibility of government. Much the same transformation has happened across infrastructure sectors, including the urban sector. 

It cannot be denied that this transformation has had a very significant impact in the ability of governments to develop massive infrastructure projects, improve the quality of service delivery, lower corruption, and become all round more efficient. 

Now take the example of school education. Thirty years back, governments would construct school buildings, hire teachers, and run schools. The department would develop, print and supply text books; stitch and supply uniforms; run mid-day meal kitchens; buy and make available television and computers with operators; procure teaching material for teachers; and provide trainings on curriculum instruction, leadership, motivation and so on. It would also develop testing instruments, hold examinations, hire data entry operators to collect and consolidate data, and so on. 

Fast forward to now, and virtually nothing has changed. The government continues to do all the same set of activities! Much the same applies to health, nutrition, agriculture, and most other welfare sectors. 

In some sense, this also, at least partially, explains the relative stagnation in service delivery quality in welfare sectors.

In a world of twenty years hence, given very weak state capacity, it is highly unlikely that we would have achieved learning and other outcomes without having catalysed markets that offer services across welfare sectors. Therefore, catalysing markets and the emergence of an eco-system of service providers should be one of the primary objectives of public policy in social sectors in developing countries.

This is not an argument in favour of privatisation but one to leverage complementary strengths. The private or non-government sector is likely to be better at doing engagement intensive activities, which weak state capacity is likely to hinder state from being able to deliver effectively. While schooling and primary health care, being public goods, will have to remain mainly public responsibilities, governments should seek opportunities to leverage private sector strengths where possible. 

Tuesday, August 15, 2017

Is the tide turning on PPPs?

It is no hyperbole to claim that the tide on the unqualified embrace of PPPs has turned. The only thing surprising for me is that the likes of FT are leading the charge. Interestingly, the most intense debate on the issue is happening in UK, one of the countries which was at the forefront of the privatisation movement. I have blogged numerous times that PPPs are costlier, invariably run renegotiation risks, and suffer from governance failings, all of which make them extremely controversial.

The latest example of governance failings come from London's £4.2 billion 15 mile long "super sewer" project, which has been accused of profiteering at the expense of tax payers. The project, being developed by Thames Water through a very complicated project structure and with several government guarantees, is an over-flow super-sewer linking the 57 over-flow pipes across London. This sewer will serve as a catchment for sewerage water which prevent overflow into Thames when it rains heavily and the treatment system cannot cope up with the inflows. 
Of the £4.2 bn, £1.4 bn is being provided as equity by Thames Water, with the investments coming from investors through a very complicated company structure,

The FT article writes,
Thames Water paid £157m in dividends to its offshore investors in the year to March 31 2017 and currently carries £11bn of debt... The European Investment Bank has issued a £700m, 35-year loan and the balance is made up of a mix of bank debt and bonds. As of March 31 the investors had paid in £370m in equity and had bought a further £529m of subordinated debt — commonly used to reduce tax liabilities — receiving an interest rate of 8 per cent... the government has agreed to be the backstop for the project, minimising any risk. According to the terms of the contract, if the cost overruns exceed 30 per cent, the government could be forced to step in to provide additional equity to the Bazalgette consortium or the investors will be allowed to discontinue the project and receive compensation... Thames Water’s 15m customers, who will pay for the project through higher water bills — an increase of £12 to £15 a year currently, rising to £20 to £25 by the mid-2020s — paid £33m to Bazalgette last year, which used the money partly to cover the interest payments on the debt... 

Thames Water has a complicated offshore holding structure and so does Bazalgette, which is owned by Bazelgette Holdings Ltd, which in turn is owned by Bazelgette Ventures Ltd, which is owned by a holding company, Bazelgette Equity Ltd... Meanwhile, Bazalgette paid £2.2m in directors’ salaries in the year to March. Andy Mitchell, chief executive, saw his base salary almost double in the past year to £425,000. He also received a bonus of 66 per cent of his salary, or £281,000, taking his total package to £729,000. These rewards were made even though the management of the project has been outsourced to Amey OWR for system integration and Ch2MHill, which is project managing the three construction consortiums. All the management of the tunnel is doing is co-ordinating some contractors... The tunnel has also provided rich pickings for dozens of law firms, including Linklaters, Herbert Smith Freehills, Ashurst and Norton Rose Fulbright. UBS — which also advised on the sale of High-Speed One, Eurostar, Royal Mail and the Green Investment bank — was an adviser on the project, and the chief financial officer of Tideway was formerly a UBS employee.
Update 1 (11.09.2017)

FT has this balance sheet on UK's water privatisation,

Over the past decade, the nine main English water companies have made £18.8bn of post-tax profits in aggregate, according to a study by Greenwich University. Of this, £18.1bn has been paid out as dividends. Consequently, almost all capital expenditure has been financed by adding to the companies’ debt piles. Collectively these now stand at a towering £42bn... Ofwat, the regulator, permits it because it takes no interest in the companies’ capital structures as long as they retain investment grade ratings... The result has been very juicy for private equity investors. Macquarie, for instance, received returns of between 15.9 per cent and 19 per cent during the 11 years it controlled Thames Water, according to Martin Blaiklock, an infrastructure consultant. According to him, that is twice what an investor might expect from a private utility. But it is harder to see what is in it for the customers, who have to pay the mounting debt interest. Their bills are, in effect, rising to fund the massive shareholder payouts. The utilities insist they are putting in investment. But it all adds up to some very costly infrastructure. Those annual interest bills might be £500m lower if the companies were still in state ownership, according to the Greenwich researchers. Customers also would not have to finance the £1.8bn in dividends. Bundle it all together and that could knock £100 off a £400 annual water bill.
And Thames Water itself,
In the decade between 2006 and 2016, Macquarie paid itself and fellow investors £1.6bn in dividends, while Thames was loaded with £10.6bn of debt, ran up a £260m pension deficit and paid no UK corporation tax.

Monday, August 14, 2017

The GIS mapping challenge in power distribution

This post is slightly technical and may interest those engaged in power distribution sector. A feature of distribution loss reduction programs across India over the past fifteen years has been the focus on GIS mapping of 11 KV distribution feeders emanating from sub-stations. This is also a major part of the government's latest distribution loss reduction thrust as well as an important priority under the UDAY distribution sector reform agenda. 

Interestingly despite tens of thousands of crores of rupees having been spent on GIS mapping by distribution companies, we do not yet have even a single 11 KV feeder anywhere in the country GIS mapped in a manner that it serves as decision-support. The last part is important since many discoms will claim to have GIS mapped their networks without delivering any reasonable functional utility. This should count as arguably one of the biggest technology scandals in any sector. And, what's more, I shall hazard the claim that we are unlikely to succeed any time in the foreseeable future with such GIS mapping. Here is why. 

A 11 KV distribution feeder is a network with a 11 KV spine that culminates in several distribution transformers from each of which further lines feed into several household connections. This network is a very dynamic system, especially in urban areas, with new connections being added and old ones disconnected, connection categories being changed, and transformers being split or upgraded. Further the distribution network itself undergoes constant changes due to strengthening works, road widenings, large property developments, and several other practical exigencies. 

In this context, any GIS map is reliable only if we have a system to capture these changes and update the network map in real time. This can be done only if the entire work-flow of the distribution company - approval of works, connection changes etc - is automated and captured in one application. Further, the work and completion plans of all network related works and connection changes should  respectively emerge from and be captured and integrated into the base GIS map. 

Even the best distribution companies in India especially those with significant rural areas, despite powerpoint presentations and tall claims, are still some distance away from being able to achieve this.

None of this is to deny the undoubted importance and urgency of distribution feeder mapping - identifying all the consumers under a feeder and each one of its distribution transformers. This is an essential starting point for any meaningful energy audit, critical for the reduction of distribution losses. But this is best done as a simple and diligent exercise of physical mapping of all connections under each feeder. Unfortunately, there are no technology shortcuts to this basic requirement.

This should also count as a teachable example of the limits of using technology in improving public systems. If ever there was the need for a negative screen for an "innovation", GIS mapping of electricity distribution network is the one!

Friday, August 11, 2017

Comments on lateral entry

One of the concerns expressed about the proposal we made on lateral entry into the IAS is that the entry conditions are too stringent as to make it unattractive to the best among prospective candidates. Instead, it is suggested, that lateral entry should include contract tenures for five years or so.

As a preface, it is useful to draw the distinction between lateral entry into the bureaucracy and appointments of technocrats into ministerial positions. All the standout successes belong to the latter category. We should also make the distinction from contract appointments for five year tenures to specific posts. I have argued in favour of such appointments and have covered them in an earlier article here.

This proposal is for an institutionalised system of lateral entry into the bureaucracy. It therefore stands to reason that it has to follow the bureaucratic rules of the game of a parliamentary democracy. A proposal to cherry-pick the bureaucratic features of a Presidential system (the federal bureaucracy in the US) and incorporate them into a Parliamentary system only reveals a profound lack of understanding of different political systems.

For a start, I am not willing to buy the argument that the lateral entry as proposed will not be able to attract the best and brightest. For example, the likely candidates could include at least some of the following, and they are likely to be a fairly significant number
  1. Private sector professionals who have made their money and experience a mid-career urge to serve the country
  2. People with passion and commitment who chose a career with non-government agencies and have risen to leadership positions there
  3. Government employees who have excelled in their careers and have exhibited leadership skills for greater responsibilities.
Second, it is very unlikely that lateral entrants, barring rare exceptions, can come straight from outside the government into positions of Secretary to Government of India and the like and succeed to any reasonable degree. The learning gap will be very steep and not easily bridged in a short time. 

Most lateral entrants would need exposure to not just field conditions, but also understand the dynamics of decision-making - negotiations with diverse stakeholders, trade-offs associated with a political system, engagement with states, co-ordination with other departments, navigating the bureaucracy, extracting work in public systems, being effective in systems with scarce resources and weak capacity, and so on. In this, there is no substitute for a few years of field experience. This is also the biggest differentiator between the IAS and the rest, including from the other civil services.  

Third, the proposal is to recruit bureaucrats and not Ministers. Their role is to plan and execute. Professional competence is just one of the desirable attributes. An arguably more important attribute is the ability to administer and navigate a formidable decision-making labyrinth to get stuff done. Experience can be invaluable in this regard. 

Four, an arrangement where some outsiders are able to cherry-pick their posts and be governed by a different set of administrative rules governing their postings, leaving the regular bureaucrats to be satisfied with the remaining posts, is not just untenable but also plain unfair. It would distort the cadre management within the IAS.

Five, high-profile lateral entrants are unlikely to be willing to rough it out to gain this experience. It is unlikely that they would be able to sub-ordinate themselves to their Ministers and play by the rules of a bureaucracy. They are better off being Ministers themselves.    

Six, I am inclined to believe that these criticisms are unlikely to disappear even with a five year contract. For there will still remain the uncertainty associated with postings and tenures. After all, even in the most optimistic scenarios, the tenure of a Secretary would be less than three years. Would the best lateral entrants be willing for a bargain which could run the risk of glamorous and unglamorous, and with uncertain tenures to boot?

Finally, the belief that outsiders, in general, can parachute in for a few years and make a significant enough dent on the complex development challenges of India betrays a very high degree of naivety. Lateral entry into the IAS has to be introduced without doing more harm than good in a complex political and administrative system. There are rarely any simplistic solutions to such complex development challenges.

Wednesday, August 9, 2017

A case for institutionalised lateral entry into the IAS

An evolution of my earlier view on lateral entry. I have a co-authored article here with Dr D Subbarao advocating an institutionalised system of lateral entry into the Indian Administrative Service (IAS).

Monday, August 7, 2017

The failings of post-modern capitalism

Consider this narrative. A combination of economies of scale, first-mover advantages and network effects have privileged a handful of firms across industries. The superstar firms lobby hard to capture the government and set the rules of the game through regulation and occupational licensing, as well as seek innovative approaches to erect entry barriers to competitors. They attract the smartest talent and compensate them with exorbitant salaries, which often border on the vulgar, far far higher than those affordable for their also-ran competitors, thereby engendering an ever widening skills inequality. They raise capital at the cheapest terms while also crowding out capital to the remaining majority. Finally, and most disturbingly, they also exercise market power egregiously to accumulate massive surpluses, which in turn finds its way back not as increased investments and more jobs but returns to shareholders in the form of share buy-backs at inflated prices. The result is heavily amplified market concentration and declined competition. Finance and technology sectors dominate this trend. 

As much as we sing paeans about these innovative and disrupting companies, this picture of post-modern capitalism is far from the orthodoxy associated with free market capitalism.  

This trend is most egregious with technology based firms, where the popular perception endures of start-ups in garages creating entire markets or disrupting entrenched incumbents. Instead the reality has been of a small group of massive firms, which benefited from being at the right place at the right time to take advantage of a nascent industry with dominant network effects and regulatory arbitrage potential. 

Consider the evidence. The Economist points to the work of Germán Gutiérrez and Thomas Philippon of New York University, who write, 
The US business sector has under-invested relative to Tobin’s Q since the early 2000s. We argue that declining competition is partly responsible for this phenomenon. We use a combination of natural experiments and instrumental variables to establish a causal relationship between competition and investment. Within manufacturing, we use Chinese imports as a natural experiment to test the main prediction of competition-based models of investment and innovation, namely that competition forces industry leaders to invest (innovate) more. We establish external validity beyond the manufacturing sector by showing that excess entry in the 1990s, which is orthogonal to demand shocks in the 2000’s, predicts higher industry investment given Q. Finally, we provide some evidence that the increase in concentration can be explained by increasing regulations and, to a lesser extent, stronger winner-takes-all effects in some industries.
The Economist elaborates on the investment slowdown,
Messrs Gutiérrez and Philippon benchmark investment against “Tobin’s Q”, the ratio of a firm’s market value to its book value. A high Q signals that an industry is earning a lot from its assets, which, all else being equal, suggests it should invest more. The authors show that America’s investment has fallen most substantially, relative to Q, in concentrated industries. In these sectors, investment has also fallen more than in Europe. To explore the issue further, the authors draw a distinction between “laggards” and “leaders”, defined as firms comprising the top third and bottom third, respectively, of an industry’s market value. Laggards, they reason, are more likely to wither in the face of competition, so their investment might be expected to fall. Leaders, though, should be up for a fight if rivals challenge them; their investment should rise. They find it is leaders, not laggards, who are responsible for the bulk of the investment slowdown, suggesting a lack of competition.
And its contribution to the declining labour share of profits relative to capital and widening inequality, 
Recent research by David Autor of MIT and four co-authors finds that “superstar” firms pay out less of their profits in wages. As these firms have grown in importance, labour’s overall share of GDP has fallen. Other research suggests that these firms nonetheless pay more, in gross terms, than ordinary firms, so their rise has directly contributed to inequality.
Rana Faroohar has this to say about its impact on the labour market and labour share of the income,
Finance takes 25 per cent of all corporate profits while creating only 4 per cent of jobs, since it sits at the centre of the dealmaking hourglass, charging whatever rent it likes. Meanwhile, wealth and power continue to flow into the technology sector more than any other — half of all American businesses that generate profits of 25 per cent or more are tech companies. Yet the tech titans of today — Facebook, Google, Amazon — create far fewer jobs than not only the big industrial groups of the past, like General Motors or General Electric, but also less than the previous generation of tech companies such as IBM or Microsoft. What’s more, it is not just the top sectors that control the majority of corporate wealth, but the top companies themselves. The most profitable 10 per cent of US businesses are eight times more profitable than the average company. In the 1990s, that multiple was just three. Workers in those super profitable businesses are paid extremely well, but their competitors cannot offer the same packages. Indeed, research from the Bonn-based Institute of Labor Economics shows that the differences in individual workers’ pay since the 1970s is associated with pay differences between — not within — companies. Another piece of research, from the Centre for Economic Performance, shows that this pay differential between top-tier companies and everyone else is responsible for the vast majority of inequality in the US.
Finally, Gillian Tett points to Thomas Philippon and Ariell Reshef who have shown how closely linked pay has been to deregulation of the sector.
However one slices the data, the case for more employee power and use of collective bargaining, direct regulatory action on anti-competitive practices, and enhanced role for public policy to address the failings of excessive competition has never been so clear. Just as the welfare state saved capitalism from the onslaught of socialism in the immediate post-war aftermath, these policies may be needed now to save capitalism from capitalists.

Update 1 (31.12.2017)

The enduring low corporate investment rates in the US despite the extended low interest rate period and the record pile of corporate cash reserves has been one of the biggest macroeconomic puzzles.

German Gutierrez and Thomas Philippon have a new paper which did an empirical examination of private fixed investment in US over the past 30 years and have come up with a range of very important findings,
We analyze private fixed investment in the U.S. over the past 30 years. We show that investment is weak relative to measures of profitability and valuation particularly Tobin's Q, and that this weakness starts in the early 2000's. There are two broad categories of explanations: theories that predict low investment along with low Q, and theories that predict low investment despite high Q. We argue that the data does not support the first category, and we focus on the second one. We use industry-level and firm-level data to test whether under-investment relative to Q is driven by (i) financial frictions, (ii) changes in the nature and/or localization of investment (due to the rise of intangibles, globalization, etc), (iii) decreased competition (due to technology, regulation or common ownership), or (iv) tightened governance and/or increased short-termism. We do not find support for theories based on risk premia, financial constraints, safe asset scarcity, or regulation. We find some support for globalization; and strong support for the intangibles, competition and short-termism/governance hypotheses. We estimate that the rise of intangibles explains 25-35% of the drop in investment; while Concentration and Governance explain the rest. Industries with more concentration and more common ownership invest less, even after controlling for current market conditions and intangibles. Within each industry-year, the investment gap is driven by firms owned by quasi-indexers and located in industries with more concentration and more common ownership. These firms return a disproportionate amount of free cash flows to shareholders. Lastly, we show that standard growth-accounting decompositions may not be able to identify the rise in markups.

Thursday, August 3, 2017

The Doklam stand-off

The Doklam stand-off involving the mobilisation of the Indian and Chinese forces in the Doklam area boundary of Bhutan and China is now a simple chicken game. Who will blink first?

In brief, the Indian forces moved into the area on a request by Bhutan under the Friendship Treaty 2007 following Chinese attempts to construct a road through Doklam, which is claimed by Bhutan and is under its control. Both China and India have been demanding that the other side pull back first.  But that is unlikely to happen. 

It will be perceived as a conclusive victory for China if it forces India to pull back, and vice-versa. Either scenario is politically suicidal for the respective countries. 

A simultaneous pull-back, while apparently fair, may be seen as a victory for India. It would likely signal that India intervened on behalf of a neighbour facing Chinese trespass and forced them out. It would further entrench the Bhutanese dependence on India. Not a signal that China, with ambitions of meddling in India's "near abroad", would want. 

This leaves us with two politically less problematic options for either side. One, the default option is to do nothing at all, and let the issue fade-off from public memory and for both sides to gradually demobilize. With time, even a few weeks, other events would have gripped the attention of media and opinion makers in both countries and demobilisation becomes easier. The risk though is the possibility of escalation, triggered by some small incident or by emergent domestic compulsions. 

The second option is for Bhutan to step in and play a role in separating the two armies. One way, as suggested here, is for Bhutan to swap its army with Indian army in the border area, with the latter retreating into Bhutan, and then for the armies of China and Bhutan demobilising to status quo ante. 

It is most likely that the denouement to this will be one of these two. Both sides will claim victory. But India being the weaker power, would have come out marginally ahead in this game of chicken, especially if it is the first option.

And that matters for India if this stand-off is an indicator of things to come, arising out of China's new assertiveness in its foreign policy.