How much efficiency is too much efficiency?

One of the salient markers of progress and development is efficiency and cost-effectiveness - is the work being done more efficiently and cost-effectively than earlier? So formal markets are more efficient than informal ones, technology enhances efficiency, machines make people more efficient, and so on.

So theoretically, a large share of the work in today's world could be parcelled out to be done either completely by machines or farmed out to a waiting army of low-paid and unprotected virtual workers. Amazon's Mechanical Turk is an illustration of this. This is efficiency enhancing. But what about its costs?

This view of the world overlooks two factors.

1. Efficiency from whose perspective? What is efficient from the perspective of the business need not be efficient (much less desirable) from the perspective of the economy or society as a whole.

For a business, the most efficient path is to reduce its costs and maximise its revenues and profits, return money to the shareholders, and make good quality products available to its customers at the lowest price possible. In the process, it can outsource activities to other countries, squeeze more out of workers, even parcel out work to the likes of Mechanical Turks. It can squeeze on wages, minimise its tax outgo (tax avoidance planning), and avoid paying workers benefits. It can seek to externalise all costs and appropriate all gains.

This can look efficient in the aggregate (profits go up, consumers are happy, share prices rises, and animal spirits become active). But do we care that these gains come with a social cost (welfare of the workers) and tax payer subsidy (social security, tax revenues foregone etc)?

2. The social contract. This search for efficiency creates its set of externalities. All economic activities come with costs and benefits. Businesses have always sought to internalise the benefits and externalise the costs of any activity. Governments and regulations exist to mitigate this risk and make businesses internalise at least some part of the costs.

With any innovation once it becomes commercial, it takes time for the externalities to get recognised and internalised. After that regulations kick-in to address the market failures. Indeed this initial run-way which allows the first-movers to internalise and appropriate gains and externalise costs is the incentive for innovation itself, the first-mover's advantage.

The regulatory arbitrage associated with e-commerce and aggregators is an example of this process at play. The Ubers, Lyfts, AirBnBs, Facebooks and Amazons are currently reaping the fruits of this run-way. It is only a matter of time before the costs are recognised and regulations put in place to internalise some of those costs. That has always been the case and will be this time too (Do valuations take this into account?)?

Any society, democratic or authoritarian, is built on a social contract among different socio-economic groups. The rich need the poor, owners need workers, lenders need borrowers, rural needs urban, shareholders need executives, landlords need tenants, sellers need buyers, and so on. The exact vice-versa holds in equal measure. The relationships are symbiotic.

Accordingly, its richer people agree to pay more taxes; poor people agree to live in less attractive areas; savers lend their money at cheap rates to borrowers who in turn make very high returns; shareholders allow their executives to payout exorbitant salaries, far disconnected from their inherent worth; workers agree to workplace conditions and benefits that are far less comfortable than their managers and executives; farmers agree to policies that lead to terms of trade that favours consumers; residents of rural areas (and slums) allow a higher absolute and per-capita investment and better infrastructure in urban areas (and posh colonies) and so on.

There is no iron law which states this should always be the case. We've had societies in not too distant past where these were not true. After all the majority could turn around and say why should these be the case?

It has generally been the case that the power relationships between these groups have been skewed in favour of one side. And ironically, the relationship has always been in favour of the few and against the many. But this dynamic of relationship has held for centuries. But this dynamic was generally tempered by the social contract.

In a world of brute force majority, the powerless many would always question and upend the powerful few. Indeed revolutions have been built on the back of this inequity in relationships, especially when the inequity exceeds reasonable proportions.

Update 1 (08.05.2020)

Louis Gave of Gavekal Research on the perils of pursuit of excessive efficiency,

One big hurdle in getting the economy up to speed again is the dislocation in supply chains. Say the Peugeot plant in Wuhan has opened up again, but it can’t get a crucial part from France. This is a result of the exponential optimization that has happened in our economies over the past twenty years. We have optimized everything; supply chains, balance sheets, portfolio construction. Every level in the capital system has been optimized. That works great as long as everything is humming along. It’s a bit like high performance athletes; they get injured pretty easily. Our economies are like super optimized athletes that have just received a big hit. How quickly can they be back on their feet? My fear is it will take longer than many market participants think.

Update 2 (22.05.2020)

Sam Blum talks about how the culture of productivity enhancements and self-help has seeped into everything we do in life, with disastrous consequences. 

A lot of that yearning for productivity comes from social media, he says, where people tend to broadcast their accomplishments, even in spite of the pandemic. “Seeing how productive everyone else is during this situation, [I] feel like even though I’m just as productive as I can be, I am nowhere near as productive as I can be.”

The struggles of the outsourcing industry

There are perhaps three different approaches to private participation in public services. Apart from full privatisation and PPPs, there is also outsourcing of public services. This blog has written extensively about the impact of privatisation and PPPs. 

Interestingly the world of outsourcing of public services has been undergoing serious turmoil in the UK. The collapse of the contractor Carillion early this year was a landmark event. 

Now Interserve, a construction and support services contractor for public works and services, which employs more than 45000 people across UK (and 69,000 staff worldwide), has announced deep restructuring to stay afloat. The company employs twice as many people as Carillion, and earns almost 70% of its income from offering services like probation, hospital cleaning and home nursing to governments in UK. It is now surviving on the back of its profitable equipment services subsidiary, RMDK. Interserve's problems come on the back of those of Amey and Kier, two other outsourcing contractors struggling for survival. 

Other major outsourcing contractors like Sodexo, Sopra Steria, G4S and Serco too have courted several controversies and fines in recent years. Some have been accused of outright fraud by way of fraudulent claims on electronic monitoring contracts for offenders and even admitted to the charges and paid fines. G4S was earlier stripped off its outsourcing contract to run Birmingham prison.

A just released study by think-tank Reform has found that 52 outsourcing contracts to private companies wasted at least £14.3 bn of taxpayers' money in the 2016-19 period. It attributed this to poorly designed contracts and their management,

It found that the Ministry of Defence was the biggest culprit, accounting for just under a third, or £3.9bn, of the extra cost. One of the most costly programmes was a 15-year delay in the full decommissioning of some of the Royal Navy’s nuclear submarines, which cost an extra £1.4bn. An army recruitment programme run by Capita cost £286m more than expected, after soldiers had to be brought in to tackle backlogs created by an untested IT system. Other examples include the high-profile liquidation of Carillion in 2018, which cost the taxpayer at least £148m and a £105m payment by the Department for Education to Learndirect to continue delivering training for an extra year even after the £120m programme was rated “inadequate” by Ofsted, the regulator... About a third of the government’s budget — or £292bn annually — is spent buying services from the voluntary and private sectors... Last year, the government awarded a 12-year contract to Capita to run the Ministry of Defence’s fire and rescue services, including the transfer of 2,000 staff at 53 MoD fire stations in the UK and overseas. 

It called for the creation of an outsourcing regulator to review all contracts from signing to completion. 

Even as these problems play out, the UK government has continued with outsourcing,

Civil enforcement officers employed by the HM Courts and Tribunals Service will be transferred to private sector companies Jacobs, Marston and JBW Group, according to a contract notice released by the Ministry of Justice last week. The bailiff-style work involves the serving of warrants for magistrates’ courts, including the powers to arrest people who have failed to pay court fines — which range from speeding tickets and TV licences to more serious offences such as assault. According to the notice, the work “includes all warrants of control and warrants of arrest in relation to the enforcement of unpaid criminal financial impositions”. Although private contractors, with arrest powers, have been used in the past within the MoJ’s civil enforcement service, it is the first time that all of the work has been outsourced.

Do tax cuts spur investments?

It is an entrenched narrative that tax cuts will lead to greater investments. This was one of the primary arguments behind the Trump tax cuts in the US. The top executives of US companies lobbied aggressively making public statements that if the cuts were made, it would boost investments.

The law cut the corporate rate to 21 percent from 35 percent, and allowed companies to deduct the full cost of new equipment investments in the year that they make them... Companies have already saved upward of $100 billion more on their taxes than analysts predicted when the law was passed. Companies that make up the S&P 500 index had an average effective tax rate of 18.1 percent in 2018, down from 25.9 percent in 2016, according to an analysis of securities filings. More than 200 of those companies saw their effective tax rates fall by 10 points or more. Nearly three dozen, including FedEx, saw their tax rates fall to zero or reported that tax authorities owed them money.

Now that the $1.5 trillion cuts have happened, what has been the outcome?

A New York Times analysis of data compiled by Capital IQ shows no statistically meaningful relationship between the size of the tax cut that companies and industries received and the investments they made. If anything, the companies that received the biggest tax cuts increased their capital investment by less, on average, than companies that got smaller cuts... 

From the first quarter of 2018, when the law fully took effect, companies have spent nearly three times as much on additional dividends and stock buybacks, which boost a company’s stock price and market value, than on increased investment... Those cuts stimulated the American economy in 2018, helping to push economic growth to 2.5 percent for the year and fueling a boost in hiring. Business investment rose at an 8.8 percent rate in the first quarter of 2018, and was nearly as strong in the second quarter. But the impact dwindled quickly. In the summer, the economy grew at just 1.9 percent and business investment fell 3 percent, including a 15.3 percent plunge in spending on factories and offices. Over the spring, companies spent less on new investments, after adjusting for inflation, than they had in the winter.

The Times article writes about FedEx, one of the more vocal lobbyists for tax cuts,

FedEx’s financial filings show that the law has so far saved it at least $1.6 billion. Its financial filings show it owed no taxes in the 2018 fiscal year overall. Company officials said FedEx paid $2 billion in total federal income taxes over the past 10 years. As for capital investments, the company spent less in the 2018 fiscal year than it had projected in December 2017, before the tax law passed. It spent even less in 2019. Much of its savings have gone to reward shareholders: FedEx spent more than $2 billion on stock buybacks and dividend increases in the 2019 fiscal year, up from $1.6 billion in 2018, and more than double the amount the company spent on buybacks and dividends in fiscal year 2017... FedEx spent $10 million on lobbying in 2017, in line with previous spending, with much of it focused on tax issues, according tofederal records. Its team pushed hard to shape the bill behind the scenes, meeting regularly with House and Senate committee staff who were writing the provisions.

Shining light on the balance sheet of corporate India

When some trouble surfaces in the economy, there is a common narrative. The government and politics is shackling India's enterprise and entrepreneurship. If only the government could get out of the way, the energies of India's private sector would be unlocked. If only it were so simple.

Ananth has a nice post which provokes thinking in this direction. 

Consider this balance sheet of corporate India in recent years.

1. The IT sector has achieved remarkable success in establishing themselves as the world leader in outsourced services. But it has remained a services industry, and have not been able to move up the value chain into making products and into leading-edge areas like cloud computing, data analytics, and artificial intelligence. Where is the Indian major IT product or solution? Where is the Salesforce or Slack or Skype or Cognos? Or even world-leading products on niche markets, apart from core-banking solutions for Indian banks like Finacle or BaNCS?

2. While the Indian start-up sector is bubbling with enthusiasm and there are now 30 unicorns, none of them are in areas of deep technology like robotics or artificial intelligence or data analytics. Most of them are in the consumer facing me-too areas, copying ideas from developed markets. Where is the Indian internet company (even TikTok?)? Given fintech is the simplest, where is the Indian Lufax?

3. There is a hype that entrepreneurship and innovation will help address many of India's development problems. As I have blogged here, where are the expected telemedicine, e-learning, killer app in agriculture, low-cost diagnostics, and so on? There is not one start-up innovation from the country which has addressed any of the persistent development problems. Even in copying, where is the Indian equivalent of Alibaba's rural Taobao?

4. The Indian pharma companies have had a head start in generic drugs and Active Pharmaceutical Ingredients (APIs). In both, it is struggling to keep pace on the back of self-inflicted quality-related fraud and stave off the Chinese assault. The sector's global share and importance has steadily declined in the years and has become stigmatised globally for fraud and poor quality. 

5. The telecom sector, the contrast between BSNL and the private operators, has for long been held out as the totemic example of what private sector in India could have achieved if unleashed from the restrictive role of governments. But the sector's current problems, at the least qualifies that claim significantly. In perhaps one of the most competitive markets, the race to the bottom in terms of tariffs has devastated the balance sheets of telecom companies, 

6. Much the same applies to the Indian airlines sector which is entrapped in a bad equilibrium, which can no longer support a full-service domestic carrier. Again, competitive markets have led to aggressive ticket pricing and fleet expansions have resulted in cycles of boom and bust. Admittedly, boom and bust are a feature of the airline industry globally.

7. What about private banking in India. In the early days of the ongoing banking crisis, the contrast between the public and private sector banks made it appear that bad practices were the exclusive preserve of public sector banks. In due course, the skeletons have come tumbling out from the cupboards of the private banks. Major corporate governance failings and concealed NPAs have surfaced from most of the big private banks - ICICI, Axis Bank, Yes Bank, and RBL. 

8. Take the example of infrastructure sector. As we know now, the 2003-08 boom was built on the back of aggressive bidding and gold-plated project reports to raise debt. There were no stressed promoters but only stressed projects. The promoters had already made their returns and had no skin left when the projects started to stall. The banks are still reeling from these bad loans. 

9. What about sectors where a home-grown champion could have emerged - mobile phones, solar panels, consumer electronics? Isn't it just shocking that there are no major Indian brands among refrigerators, air conditioners, washing machines, televisions etc (except a stray Voltas, Videocon, and Godrej)? None among automobiles!

10. What about the sunrise sectors - renewables, medical devices, batteries, internet of things etc? There is not one Indian company of any growth promise anywhere on the horizon in any of these areas. What happened to Suzlon?

11. The worst set of failings have been with the financial markets. The Credit Suisse folks have written about the excessive concentration of debt among the big corporate groups. The culture of relationship banking, as we have seen above, was not the exclusive preserve of public sector banks. The IL&FS and DHFL scandals may be exceptional only in its excess and its elements in varying degrees representative of the larger malaise.

12. Finally, on corporate ethics and leadership in general, less said the better. See this, this, and this. There are exceptions of course, but we are talking about the norm.  

Yes, on each of the above, the supporters of the private sector will have an explanation. The government or RBI or regulators did not do this. Or they did this. And so on. But the canvas of failures is too broad, almost universal, over such a long time for a massive private sector in a continental sized economy to hide behind such excuses.

I am not holding any brief for government or civil society or anyone else. Just making the point that there are "many fountainheads of India's economic malaise". And the corporate sector is just as, or more, culpable. The other less discussed, but just as much contributing, culprit is the judiciary - the IBC, here and here, is only the latest high-profile exhibit.

These need to be acknowledged as we proceed with policies to address the malaise if we are to make sustainable progress.

Update 1 (28.11.2019)

Bloomberg has a nice article about the competitive race in India's mobile payments market. The big name Indian capitalists - Anand Mahindra, Kumar Mangalam Birla, and Dilip Sanghvi - have all chickened out after acquiring Payment Bank licenses. Only Reliance is left to fight the battle with global giants like Google Pay, Phone Pe (Walmart), and PayTm (Alibaba and Softbank). 

But on the positive side, there is T-Series, which owns rights to as much as 70% of Bollywood music released in the past three decades, and with 117 million subscribers is the world's largest You Tube Channel. It appears reasonably well-positioned to take on the likes of Netflix. This is interesting

T-Series’ presence on YouTube and other streaming platforms is maintained by just 10 full-time employees, each responsible for uploading videos and songs in one language or genre.

The regulatory shock to the Indian economy

The demonetisation and Goods and Services Tax (GST) are commonly considered the two biggest negative shocks faced by the Indian economy in the 2016-8 period. They have been variously blamed for the economic slowdown, credit squeeze, and other ills afflicting the Indian economy today.

There is a third, perhaps a more important negative shock. This involves the administrative actions by way of enhancing oversight and enforcement of laws and regulations by the RBI in particular.

Three sets of actions in this regard assume relevance.

1. The RBI initiated the asset quality review (AQR) of all schedule commercial banks. It then initiated a process for early detection of stressed loans and their surveillance, by classifying them as Special Mention Accounts (SMA). It also then withdrew all the restructuring schemes and through its February 12, 2018 circular directed that all defaulting loan accounts had to be classified as stressed even for a day of default, and also mandated that bankers had to refer all accounts with over Rs 2000 Cr loans to the National Company Law Tribunal (NCLT) within 180 days of default. In order to initiate immediate corrective action on banks struggling with capital adequacy ratios, asset quality, and profitability, the RBI initiated the Prompt Corrective Action (PCA) framework.

The AQR and SMA made no distinction between the different asset categories of banks. Temporary defaults on large infrastructure projects with their innately cyclical nature, even for a day beyond the 90 day period, were to be treated on a par with those on personal loans and classified as NPAs with process initiated to recover the loans under the IBC. 

In addition to all these, the RBI adopted the Basel III capital adequacy norms, and that too with a higher capital buffer than required. This, at a time when banks were struggling under the weight of the rising NPAs, squeezed them even more. The credit taps just got turned off completely. 

2. The Insolvency and Bankruptcy Code (IBC) was promulgated to help resolve bankrupt businesses and recover debtors and investors capital. It introduced a paradigm shift into the process of dealing with defaulting corporates. It was a welcome reform. This was state-of-the-art regulation and a progressive and big-bang reform. It was believed then that the days of capitalism without exits was over!

It should have been eased into the system. Again, here too the RBI stepped in by mandating a zero-tolerance approach for defaulting borrowers through its SMA classification. Ambitious time lines were fixed for completion of the entire process of resolution, including the judicial stages.

In fact, at that time, I thought it was a good move by the RBI, since a paradigm shift often needed actions which shook up the system off deeply entrenched practices. But it clearly seems to have backfired, by squeezing too soon.

3. The spate of financial market scandals led to tax authorities initiating investigations and raids across the country and across business sectors. This was accompanied by the crack-downs on shell companies, tax evaders, and black money peddlers. Both the demonetisation and the GST accentuated this trend. All this empowered tax officials and created a culture of aggressive enforcement.

All the three cases mentioned above were associated with radical regime shifts. In all of them, the system moved quickly from one of permissiveness and abundance of slack to one where tight adherence to very restrictive requirements became the norm. Theoretically, all of them were progressive moves, attempts to emulate best practices which are the norm in developed economies.

But these were sledgehammers. And these sledgehammers from RBI, IBC, and tax authorities (black money, shell companies, evasion etc) all fell at the same time, and that too when the economy was weakening. This was perhaps the last straw which broke the camel's back.

As I wrote in an earlier post, using the sledgehammer is just as inappropriate as is ignoring the problem altogether. Both are easy responses for regulators and policy makers at the helm of affairs. Making change happen in a more thoughtful and calibrated manner is very challenging.

I am inclined to believe that when the history of the Indian economy for this period, perhaps even an important long-term inflection point, is written, then these three channels of regulatory shocks will occupy the central role. It may also be a good example of the limitations of technocracy, especially in central banking. 

The "liberal meritocratic capitalism"?

The Economist reviews the latest book of Branko Milanovic which takes about different phases of capitalist evolution. It refers to the current phase as one of "liberal meritocratic capitalism". That, in particular, the "meritocratic" nature may be a figment of imagination. 

There are at least two reasons.

1. Getting to the starting line in accessing life's opportunities is increasingly one of ovarian lottery and less about innate talent or merit. The rich invest heavily in their children's education, which in turn gives them an unassailable head-start in the race to access career opportunities. The signatures of these are everywhere, from declining intergenerational mobility to increasing concentration of those from privileged backgrounds in top universities.

2. The aforementioned trend is being reinforced by a capture of the institutions, or the processes of rule-making, by a tiny elite. This, in turn, is being driven by the dynamic of widening inequality, and, there too, the excessive concentration of wealth in the hands of a tiny few at the very top. A striking manifestation of this is the fact that in the US in 2016, the "top 1% of the top 1% accounted for 40% of campaign donations".

In fact, in the US, the share of campaign donations by the top 0.01% has surged four-fold since the early nineties.

There is no better illustration of political capture than the Big Tech, especially Apple. Sample this,

Apple currently holds about $252 billion in profits offshore, where it can avoid paying U.S. taxes. That’s over 90% of the company’s total cash on hand. This profit is subject to the corporate income tax as soon as it’s “repatriated” back to the U.S. Before the recent tax code overhaul, the company would’ve paid $78.6 billion in taxes if it brought the money home, according to the Institute on Taxation and Economic Policy. Apple didn’t want to pay this tax, so it let the cash sit offshore for years.

In the meantime, Apple and its peers have been working furiously to tilt the tax code in their favor. Apple spent $2.3 million in the third quarter of 2017 alone lobbying. The other four big tech companies—Microsoft, Facebook, Alphabet (which owns Google), and Amazon—chipped in another $14 million. For their efforts, these titans of Silicon Valley are being rewarded handsomely. Now their offshore profits will be taxed at a one-time, 15.5% repatriation rate, also called a tax holiday. And all other corporate profits will be taxed at 21%, down from a previous nominal rate of 35%. So that $38 billion Apple’s going to pay in taxes now? It means the company effectively dodged more than $40 billion it would’ve otherwise paid.

A more appropriate description of today's capitalism would be "benign plutocratic capitalism"!

Summarising the entrepreneurship, urbanisation, and job creation research

Ejaz Ghani and his team have done some very good work on entrepreneurship, urbanisation, and job creation in India by studying granular data on economic activity in nearly 650 districts across services and manufacturing, and formal and informal sectors, and come up with certain observations. 

A summary of their clear takeaways (most of them were already well known, nevertheless a summary is useful):

1. New and young firms form the overwhelming share of net job creation

2. Urban areas are responsible for all of net job creation in manufacturing

3. Among the factor market distortions, the biggest and most critical is that involving land markets. Land is critical to both set up the enterprises as well as to raise capital. Distortions in this market drive spatial dynamics of economic activity.

4. The primary driver of entrepreneurship and job creation are investments in physical infrastructure and human resources, with the former being critical for manufacturing, and the latter for services. Ease of doing business, differential rates of returns etc are all distant secondary.

5. Firms face centripetal (access to markets, labour supply, good infrastructure, economies of scale etc) and centrifugal (cheaper cost of land, housing affordability, traffic congestion etc) forces in urban areas. In case of the large firms, the latter dominate, making them shift away from the large cities towards rural areas beside major transport corridors - de-urbanisation of manufacturing. In case of SMEs, the former dominate, making them shift to the large cities.

6. But the medium-sized (secondary) cities in India are not well equipped to support the shifting larger firms, nor be attractive enough for the SMEs. Prioritise the development of infrastructure and human resource investments in these cities.

7. The result is an uneven spatial development compared to other countries, with most productivity and growth concentrated within large cities.

8. Nevertheless low-density intermediate towns and cities (secondary) have been growing faster than the high-density large cities, pointing to the power of the inherent dynamic of economic growth.

9. Investments in the Golden Quadrilateral (GQ) is associated with heightened firm entry growth in non-nodal districts within 10 km of the network in industries that are land and building intensive, but even reduction in those further away pointing to displacement effects (as well as the importance of such transportation infrastructure). The GQ nodal districts experienced shifts towards industries less intensive in land and buildings. In the net, GQ improved the spatial allocation of economic activity in India. It activated economic activity in medium-density cities.

The conclusion is very clear - focus on human resource development (education and health), and development of physical infrastructure. Without this foundational requirement, rest all is tinkering at the margins.

Law of unintended consequences - Amazon, Airbnb, and mobile money editions

Three cautionary notes on the unintended consequences of popular technologies of today.

The first concerns how the aggressive and convenient home-delivery services of e-commerce companies like Amazon are hurting cities. This from NYT on problems in New York,

Delivery trucks operated by UPS and FedEx double-park on streets and block bus and bike lanes. They racked up more than 471,000 parking violations last year, a 34 percent increase from 2013. The main entryway for packages into New York City, leading to the George Washington Bridge from New Jersey, has become the most congested interchange in the country. Trucks heading toward the bridge travel at 23 miles per hour, down from 30 m.p.h. five years ago. While the rise of ride-hailing services like Uber has unquestionably caused more traffic, the proliferation of trucks has worsened the problem. As a result, cars in the busiest parts of Manhattan now move just above a jogger’s pace, about 7 m.p.h., roughly 23 percent slower than at the beginning of the decade.

Neighborhoods like Red Hook, Brooklyn, are being used as logistics hubs to get packages to customers faster than ever. At least two million square feet of warehouse space is being built in New York, including what will be the largest center of its kind in the country. Amazon added two warehouses in the city over the summer... The average number of daily deliveries to households in New York City tripled to more than 1.1 million shipments from 2009 to 2017, the latest year for which data was available, according to the Rensselaer Polytechnic Institute Center of Excellence for Sustainable Urban Freight Systems... Households now receive more shipments than businesses, pushing trucks into neighborhoods where they had rarely ventured. And it could be just the beginning. Just 10 percent of all retail transactions in the United States during the first quarter of 2019 were made online, up from 4 percent a decade ago, according to the Census Bureau. Amazon is now moving toward one-day delivery rather than two days for its Prime customers and plans to spend $1.5 billion this quarter, which includes the holiday season, to reach that goal... 

Still, drivers often cannot find legal parking because of a lack of available curbside space, especially in Manhattan, company officials said. There are not enough loading zones, and they are often taken up by idling vehicles... About 15 percent of New York City households receive a package every day, according to the Sustainable Urban Freight Systems center at Rensselaer. That means a complex with 800 apartments would get roughly 120 packages daily. “What percent of your deliveries are truly urgent — 5 percent or 2 percent?” said Mr. Holguín-Veras, the Rensselaer professor. “We as customers are driving the process and to some extent creating these complications.”

Similarly Airbnb is hurting the housing market by making the already unaffordable housing more unaffordable in the largest cities. Sample this,

According to a report released by the city comptroller’s office... in Manhattan’s Hell’s Kitchen and Chelsea neighborhoods and the Midtown Business District, which accounted for about 11 percent of all Airbnb listings in New York City in 2016, average monthly rents increased by $398 between 2009 and 2016, of which $86, or 21.6 percent, was a result of Airbnb’s presence, the report said. In Greenpoint and Williamsburg in Brooklyn, the study said, rents went up 18.6 percent in those years because of Airbnb listings. The report said that Airbnb’s influence cost New Yorkers $616 million in additional rent in 2016 as a result of price pressures... Airbnb has more than 50,000 apartment listings in New York City, the company’s largest market in the United States. The comptroller’s report shed light on the clash of the so-called sharing economy with city neighborhoods struggling to preserve their stock of affordable housing and rein in skyrocketing rents.. The attorney general’s report said Airbnb was dominated by operators with multiple listings, finding that 6 percent of the hosts made 37 percent of the revenue — or $168 million.

Another report by David Wachsmuth, a professor of Urban Planning at McGill University, studied Airbnb activity over 2014-17 involving over 80 million data points for the entire 20 m population New York City metro region and found,

Wachsmuth found reason to believe that Airbnb has indeed raised rents, removed housing from the rental market, and fueled gentrification—at least in New York City... Wachsmuth found that 12 percent of Airbnb hosts in New York City, or 6,200 of the city’s 50,500 total hosts, are commercial operators—that is, they have multiple entire-home listings, or control many private rooms. And these commercial operators earned 28 percent of New York’s Airbnb revenue (that’s $184 million out of $657 million)... Unlike hotels, they don’t pay commercial property taxes or hotel taxes. And that’s a problem, both for the city itself and for other hosts... the researchers calculated that anywhere between between 42 percent and 46 percent of all active listings have had illegal reservations... Overall, his data suggests that half of all Airbnb rentals that are conducted by only 10 percent of hosts, who earned a full 48 percent of all the revenue earned in the city last year. That’s some 5,000-people earning a combined $318 million. In contrast, the bottom 80 percent of New York’s hosts—the city’s 40,400 true home sharers—earned just 32 percent of all revenue, or $209 million, in 2017...

Using Zillow’s Rent Index, Wachsmuth and his team estimate that over the last three years, Airbnb has increased long-term rents in the city by 1.4 percent. The median household looking for a new apartment will pay $384 more per year than they would have three years ago, due to the growth of short-term rentals... Between 2014 and 2017, Wachsmuth and his team estimate that the platform raised rents by 1.42 percent in north-central Brooklyn neighborhoods such as Bed-Stuy and Crown Heights. This is high for a neighborhood that has only recently acquired a large Airbnb concentration—indeed, it’s the same 1.42 percent rent increase seen in longtime high-revenue areas like Chelsea, Clinton, and the Upper West side.

See also this about other major cities. 

Finally, as Zimbabwe grapples with its latest encounter with hyperinflation, Izabella Kaminska shines light on the role the country's large mobile money operator, EcoCash, which covers 90% of the country's adult population would have played in this episode.

Last time, the hyperinflation crisis was eventually tempered by an official transition to a multicurrency framework. This amounted to an informal dollarisation of the economy. By 2016, however, a serious lack of foreign currency in circulation began to threaten the system’s stability. EcoCash, by facilitating demonetisation, may have heightened those pressures. As it was growing in popularity and serving the unbanked, EcoCash’s nationwide network of agents sucked dollars out of the hands of the population, turning them into digital balances. This amounted to the transfer of foreign cash stock from citizens to the banking system, with the money ending up in the control of the central bank. That’s all fine if you trust the core banking system. Not so much if you do not. The government has also encouraged the demonetisation by paying salaries in EcoCash. As the dearth of dollars intensified over the course of 2016, officials began to experiment with local alternatives to ease pecuniary pressures... But nobody really trusted the credits were actually there, putting pressure on the dollar peg.

One more data point to ponder while the debate on digital currencies pick up heat.

Update 1 (26.03.2022)

A new study on ride sharing companies (or transportation network company, TNC) (see the study here) like Uber or Lyft has interesting findings,

They found that a TNC trip actually decreases local air pollution, on average, compared to driving a personal vehicle... the team found that, on average, a TNC trip produces just half of the local air pollution costs of a personal vehicle trip, reducing air pollution-related health costs by around 11 cents. However, the team showed in their study that added travel on the road from TNC vehicles also carries major drawbacks. TNC drivers spend much of their time driving between passenger pickups or waiting for new ride requests, known as deadheading. This extra driving means that a TNC's fuel consumption — and by extension its greenhouse gas emissions — are on average about 20% higher than a personal vehicle. More time on the road also means more congestion, more noise, and more potential for vehicle crashes. Considering all of these factors, the team found that opting for a TNC over a private vehicle increases external costs to society by 30% to 35%, or about 32 to 37 cents per trip. This burden is not carried by the individual user, but rather impacts the surrounding community. Society as a whole currently shoulders these external costs in the form of increased mortality risks, damage to vehicles and infrastructure, climate impacts and increased traffic congestion.

Weekend reading links

1. Rajeev Mantri points to this essay by Sam Long about financialisation of the American elites, or a business elite dominated by financiers.

This is interesting about HBS graduates,

In the 1960s, just 6 percent of the school’s graduates pursued careers in finance; the sector itself generated only 3 percent of the country’s GDP... From 2014 to 2018, over 30 percent of graduates opted for jobs in finance... Another 24 percent chose management consulting, whose rise parallels corporate America’s subservience to shareholder primacy and its emphasis on financial initiatives like cost cutting and merger diligence. This trend is not unique to Harvard, as data from Stanford and Wharton show identical trends... over the last five years, 61 percent of U.S.-bound HBS graduates have landed in three cities — Boston,New York, and San Francisco. These metropolitan areas certainly have dynamic econo­mies, but they contain only 6 percent of America’s population. This clustering in a handful of cities has created “SuperZips” and a new American segregation based on economic class.

The essay highlights the story of billionaire philanthropist Seth Klarman and his hedge fund Baupost and its vulture-like investments in distressed debt. The dissonance is nicely summarised,

Loudly criticize political dysfunction, but make no effort to explore its structural causes or remedies. Decry political inertia on climate change, but keep your powder dry because it will present excellent investment opportunities. Say the easy things about prioritizing your employees, but never forget that your shareholders come first. Speak of investing as an activity that requires a long-term view, but never miss an oppor­tunity for short-term arbitrage. Stand up for democratic norms, un­less, of course, electoral outcomes threaten your returns. When that happens, patiently explain how the market works, and if there is still conflict, use your network, education, and checkbook to cut to the front of the line.

2.  Nice old FT primer on factor investing among hedge funds. Factors - value, momentum, quality, volatility, size, and carry - are ingredients which drive asset prices at any point in time.

But rather than scour markets and oceans of data for fleeting signals, factors are the big, persistent market drivers that in theory exploit timeless human foibles, such as our tendency to favour glamorous stocks over solid ones. Financial academics argue that a lot of what asset managers do is take advantage of these well-known patterns, anomalies and inefficiencies.

3. Fascinating analysis of President Trump's 11000 plus tweets since taking office. Twitter has become the go-to place for Presidential announcements.

Over time, Mr. Trump has turned Twitter into a means of presidential communication as vital as a statement from the White House press secretary or an Oval Office address. The press secretary has not held a daily on-camera press briefing — a decades-long ritual of presidential messaging — since March. Instead, Mr. Trump’s Twitter activity drives the day.

4.  An FT article on the struggles of hedge fund Blue Mountain Capital writes,

Three former senior BlueMountain employees said the intense pressure on portfolio managers to deploy capital as quickly as possible contributed to the decision to make a bet on PG&E. “It was symptomatic of having to take big shots to make things work, as opposed to running on the merits of an idea,” said one of three portfolio managers... said one former portfolio manager who worked there after the London whale trades, “The firm became very large and they were trying to chase whatever the hot hedge fund thing was.”

5. Mobis Philipose hits the nail on its head in analysing the troubles facing the Indian telecoms market,

What’s really needed is a holistic policy approach that is not only pro-consumer, but also encourages sustainable growth for the industry. “Telecom consumers have had it really great, with progressively declining tariffs over the past many years. But this also means that producers have had it really bad," says a former official of Telecom Regulatory Authority of India (Trai) who asked not to be identified. Clearly, the elephant in the room is the cut-throat pricing in the industry... "The heart of the matter is that current tariffs are way below optimal levels, and the government should consider regulations on pricing if it is really interested in a three-player market," says an analyst at a domestic institutional brokerage.

Indian telecoms industry represents the curious case of shrinking output even as the market itself expands,

In the past three years, since Reliance Jio launched services, consumers have had it so good that the size of the industry has shrunk by a third. Three years ago, consumer-level spends on mobile services stood at about ₹1.8 trillion, which has now fallen to around ₹1.2 trillion, numbers collated by Kotak Institutional Equities show.

The three-way market in India is under threat on the back of a Supreme Court ruling in favour of the government on payment of license fees at the rate of 8% of the Adjusted Gross Revenue (AGR) as well as penalties and interest on past dues. In case of Vodafone, the total dues would be double its cash balance, thereby putting the company at risk of being taken to the bankruptcy court.

6. Martin Wolf reviews Thomas Philippon's new book, which upends the conventional wisdom on US market being competitive. This summary,

“First, US markets have become less competitive: concentration is high in many industries, leaders are entrenched, and their profit rates are excessive. Second, this lack of competition has hurt US consumers and workers: it has led to higher prices, lower investment and lower productivity growth. Third, and contrary to common wisdom, the main explanation is political, not technological: I have traced the decrease in competition to increasing barriers to entry and weak antitrust enforcement, sustained by heavy lobbying and campaign contributions.”

Reflecting lack of competition, the post-tax profit share of US companies has doubled.

Another indicator of anti-competitive forces is the rising gap between prices and cost of labour.

This about the lack of competitive pressures in the financial markets is striking,

On finance, the startling finding is that the cost of intermediation — how much bankers and brokers charge for taking in savings and transferring them to end users — has remained around two percentage points for a century. All those computers have made no difference. This then is a rent-extraction machine.

7. Fascinating article about Athletic Bilbao, the Spanish La Liga football club, which is unique because of this,

For more than a century, only those born or raised in the Basque Country, made up of four provinces in north-east Spain and three in south-west France, are eligible to play for Athletic. It is the only side in top-level European football to restrict itself to local players.

And it has not done badly at all.

8. Gillian Tett points to a new paper from BIS which appears to indicate that fears of an imminent recession are overdone,

The authors start from the belief that the nature of business cycles has subtly shifted recently. In decades past, downturns were often sparked by rising inflation. But today, consumer price inflation seems increasingly benign, if not downright boring. They write that “there has been a shift from inflation-induced to financial cycle-induced recessions”. For this argument, the BIS staff define financial cycle as “the self-reinforcing interactions between perceptions of value and risk, risk-taking, and financing constraints”. The 2008 financial crisis is a case in point: a boom-to-bust financial cycle sparked a recession... financial cycle metrics (such as the debt service ratio, property prices, credit spreads and so on) are better for predicting recessions than the yield curve. Why? One probable reason is that quantitative easing has distorted rates. BIS economists think that in non-American markets, credit quality issues are muddying the issue too. But another — more basic — issue is inflation: in a world of benign consumer price trends, long-term inflation and rate expectations no longer act as the key guide to market recession expectations.

The takeaways,

There are three reasons why this argument matters now. First, if the BIS paper is correct to argue that business cycles are now being driven by financial flows, not inflation, we need to question why central bank mandates are so focused on consumer price inflation targets. Second, this analysis also suggests that it is crucial for central banks and finance ministries to integrate their analysis of the real economy with studies of financial flows. This still seems surprisingly hard for many institutions to do, since the people paid to look in the financial weeds are different from those tracking the macroeconomy or setting monetary policy... Third, the BIS argument might also imply that Wall Street’s current anxiety about recession might be overdone... they do not think that the US financial cycle signals a looming recession of the type we saw a decade ago (excluding the impact of a sudden external shock).

9. Finally, it appears that Arcelor Mittal will be able to take control over Essar Steel after the Supreme Court set aside the order of the appellate tribunal that had ordered equal rights for secured and unsecured creditors over the sale proceeds.

"Asymmetric ignorance" and the "hiding hand"

Is uncertainty a virtue in decision-making within large and complex systems? Does absence of full information about the future state of the world increase the likelihood of optimal actions by agents?

Albert Hirschmann talked about his theory of "hiding hand". He had said that governments are often either too risk-averse or too intimidated to undertake large, complex endeavors. He argued that in such cases it would help to have a hiding hand that encourages policymakers and politicians to temporarily overlook the challenges and take decisions. This may well have to be the spirit underlying any complex reform endeavor or large projects like this or this.

Oxford economist Bent Flyvjberg talks about how the proponents of large infrastructure projects use "strategic misrepresentation" involving hiding the true cost of mega-projects to secure their approvals. The belief in all such cases being that the biggest challenge is to bite the bullet and initiate the project or the reform, and then address the problems as they emerge. 

Similarly, on the monetary policy side, researchers have talked about the value of asymmetric ignorance in disciplining agents' response to monetary policy. Former US Federal Reserve Governor, Donald Kohn has argued that the Fed may be communicating more certitude to the markets than may be appropriate. 

Mr. Kohn believes that some of the ways the Fed now communicates to markets—by way of its “dot plot” of interest-rate projections, as well as its other forecasts—have come to be viewed as more certain than they are. He believes the Fed, both in the presentation of these views and in the remarks of officials, has reinforced the certainty of its outlook, even when officials already know much about the future is unknowable. The Fed’s quarterly forecasts should be aligned with “the rhetoric of uncertainty and data dependency and the true state of economic knowledge,” Mr. Kohn said. The Fed should stop summarizing key projections with medians, and portray the amount of uncertainty the Fed has around its various forecasts.

 In this context, The Economist writes that it might help if central banks talk less,

Microeconomists have long known that ambiguity can have strategic uses. Employment contracts, for example, do not specify every action an employee must take, nor all the obligations of an employer, possibly because it may be better to leave room for either side to punish the other’s bad behaviour. In recent years Bengt Holmström of mit, who in 2016 won the Nobel prize for economics, has argued that central-bank opacity has its uses in credit markets. Most of the time, he argues, these markets, unlike stockmarkets, are “information-insensitive”—they do not respond much to news. In contrast to stocks, there is no upside for the lender when things go especially well, and default is a remote risk, especially when loans are adequately collateralised. “A state of ‘no questions asked’ is the hallmark of money-market liquidity,” he argues.

In a panic, however, money-markets dry up as the risks loom larger. Lenders find themselves having to scrutinise every transaction. Restoring stability might require a promise that is light on detail, and thus hard to pick apart. At the worst of the euro zone’s sovereign-debt crisis, for instance, Mario Draghi, the head of the ecb, pledged to do “whatever it takes” to keep the single currency safe. Mr Holmström also notes that when the Fed provided emergency lending to banks during the financial crisis, it did not disclose which institutions received support, for fear that any associated stigma could provoke bank runs.

It also talks about the success of central banks with shaping inflation expectations, which may be coming in the way of the fight against disinflation.  

It does seem that, ironically enough for a world awash with information, scarcity (of information in this case) may indeed be a big disciplining force!

Thinking through on the Indian Economy's problems

More thinking aloud about the ongoing problems with the Indian economy. 

What to do about the Indian economy? Is the slow-down cyclical or structural? If cyclical, what are the solutions? If structural, what are the reasons? And what are the prescriptions?

Only the naive can claim there are unique answers to any of these questions. What follows is, instead, an attempt to understand the direction of enquiry and perhaps even the broad outlines of some answers.

As a starting point, let's get out of the way what is not disputed. Most people agree on the following.

One, there is an economic slowdown. Two, its immediate manifestation is the declines in consumption across a range of sectors. Three, worsening (and contributing to) it is the clogged credit markets - both the banks and NBFCs, the latter increasingly important for working capital requirements in several sectors, are struggling from NPAs and heightened uncertainties. Four, all signatures of private investment has been trending downwards, and investments in new projects are at a fifteen year low. Capacity utilisation too is very low and declining. Five, the government's ability to prime the pump is limited given the already high fiscal deficits. Six, worsening the problem, tax revenues seem to be declining, further weakening the government's ability to stimulate. Seven, external trade as an engine of growth has long since stalled. Finally, as if all this was not enough, state governments too have been reining in expenditures, as they struggle with rising fiscal deficits.

In other words, C, G, I, and NX are all sputtering. So all the constituents of output growth are struggling simultaneously.

There is of course no agreement on what are the reasons for this state of affairs. Much less on what can be done to pull the economy out of this. This should be no surprise.

Worsening the situation a negative spiral of self-fulfilling prophecies appear to have gripped the economy and its actors. Consumer and business confidence, as captured in RBI surveys, are at very low levels. The confidence fairy has disappeared.

For sure, as the saying goes, we tend to be irrationally exuberant and pessimistic when faced with good and bad times respectively. Even discounting for the doomsday predictions, we can say with reasonable confidence that the economic sentiments are very weak. The problem with such situations is that such negative loops can be self-fulfilling - consumers will cut back purchases, businesses will freeze investments, and each reinforces the other.

The economy can remain entrapped in this grid-lock for a significant time. For a country like India, with weak safety nets, this can be even more damaging in terms of the human suffering and welfare losses. The confidence fairy, therefore, has to be brought back. And this requires action in the immediate.

What can be done in terms of immediate measures to revive growth? As I prefaced, I am not suggesting any specific answers. The typical levers available to revive the economy when faced with an aggregate demand problem are fiscal and monetary policies. Both are constrained, the former due to the limited fiscal space available and latter due to transmission problems from clogged credit markets. As Andy Mukherjee wrote, the "credit and fiscal crises are joined at the hip".

Given the problems faced by banks and NBFCs, it is unrealistic to expect monetary policy on its own to be much effective. In fact, highlighting the gravity of the credit squeeze, Niranjan Rajadhyaksha writes, 

The Bank of International Settlements provides a very useful data series on what it calls the credit gap, which measures the extent to which the ratio of credit-to-GDP has deviated from the historical trend as calculated by the Hodrik-Prescott filter. The credit gap has been negative for 22 consecutive quarters now, or the credit-GDP ratio has been below trend. Compare this with 55 quarters of a positive credit gap from the three-month period ended December 2000.

Therefore, only the government may have the power to break the doom-loop. This power will have to be exercised, even if it stretches its ability (in terms of the fiscal space). While the 3 per cent FRBM requirement for fiscal deficit is not arbitrary, it is also not a figure cast in stone. So, as a starting point, greater public spending, cannot be avoided.

But there has to be a very high premium associated with this public spending. It will have to acknowledged as being deployed to create the stimulus required to breakout off the grid-lock and also buy the time required to implement the necessary structural reforms. A wasting of the opportunity in terms of not undertaking the deep structural reforms will merely make the economic prospects worse.

Therefore public spending has to be tailored to maximise the boost to consumption and investment. In other words, it should seek to target instruments with the highest fiscal multipliers and target population or consumption groups with the highest marginal propensity to consume.

If fiscal policy will have to do the heavy lifting to provide the thrust, the question arises about the types of fiscal spending. Accordingly, within fiscal policy, capital expenditures, have the highest multiplier. It will have to focus on shovel-ready projects, especially of the public sector units and perhaps city governments. The more promising instrument, in terms of boosting incomes, may well be transfers. However it has to be used carefully and with exit options which can be practically exercised.

There are also limits to the effectiveness of traditional fiscal policy levers like tax cuts. The conventional wisdom around middle-class spending on consumer durables, vehicles, housing etc, leading to a virtuous loop of consumption, investments and economic growth may be on shakier grounds this time. For a start, as discussed earlier, the middle class itself is very small. Second, unlike the early years of the millennium, there may be limited pent-up demand, and also given the limited broadening of the base in the last two decades, the middle-class consumption story may be in its latter stages. Finally, as the RBI survey indicates, consumer confidence is at a six-year low. It is unlikely that a small dose of "income effect" (either by tax cuts or something else), will provide a significant shot at growth revival.

This leads us to the rural consumers and the idea of taking a leaf out of the 2009-11 stimulus which largely involved transfers to them. As demonstrated by that experience, such transfers are fraught with risks and build-up of economic weakness. However, given the high MPC of such types of transfers, they cannot be avoided. 

Some commentators talk about selling public assets to finance the government deficits. The idea of governments exiting certain areas should be welcomed and certain assets should be sold. However, it should also be borne in mind that the performance of the private sector in many areas has been no better. Further, for various strategic and other considerations, government may have to retain ownership in certain sectors.

But more importantly, wanting to privatise does not translate into actual privatisation, for a variety of factors, mostly on the demand-side. While some of the best performing public sector entities, especially on the petroleum and natural gas side, will naturally attract considerable foreign and domestic interest, the same cannot be said about the rest. In these cases, the market interest will be there only if there are windfall gains. In any case, the markets do not have the depth to absorb large volumes of privatisation in quick time. This too will take time.

However, in the meantime, some of the better performing public sector units may have an important role to play in the economic revival. In the absence of fiscal space within governments, these PSUs could expedite or front-load some of their planned and approved investments. This, especially from those in petroleum and gas, power generation and transmission are significant amounts. Similarly, government facilitation can possibly help expedite the planned infrastructure and capital expenditures in the private sector.

But this is hardly the garden variety cyclical weakness. There are too many signatures that the slow-down is structural. So what are these structural problems?

If we peer deep into the structure of the Indian economy, it is difficult to argue against the biggest challenge to long-term economic growth. With V Ananthanageswaran, I have argued in Can India Grow?,

The short story is that India faces acute capital deficiencies on multiple fronts as well as much under-appreciated adverse global structural headwinds which pose serious constraints to the achievement of sustainable high growth rates. High growth can be achieved only as episodes of over-heating followed by years of pain and lower growth from cleaning up the excesses. In the circumstances, the most prudent strategy may be to target a long period of moderate growth by focusing on steady economy-wide physical, human, and institutional capital accumulation and opportunistically riding on emergent global tailwinds.​.​

Among these deficiencies, the demand-side deficiency is acutely self-limiting to growth. The middle class is vanishingly small as a share of population. And national economic growth is supposed to be underpinned by middle-class consumption. It is stunning that there has been such limited acknowledgement among the opinion makers about this problem. 

This blog has written countless times about the "missing middle-class". The Economist had a cover story and briefing on this last year. Worse-still, as Rahul Jacob writes, even this small middle class seems to be shrinking.

... almost three decades after reforms started in 1991, the very notion of a middle class is more of a vague national aspiration than an actuality in India. “The middle class in our minds is actually the upper class," says Rama Bijapurkar, the well-known marketing consultant. Bijapurkar repeats the witticism that the middle class in India is “more sociological than logical." She prefers the term Middle India. That is a better description for people who are merely in the middle of the population in income terms but not at all a middle class. Those with a per capita income between $10 and $20 a day belong to the global middle class, according to a 2015 Pew Research Centre report. This would translate into the top 3% of India’s population.

This fact should be borne in mind whenever we make prescriptions about the Indian economy. It is still a country where the vast majority are very poor.  

Call it the home-market problem or whatever, the real issue is that India's middle-class is surprisingly small, even tiny as a proportion of population compared to its peers. This is perhaps the single biggest structural limitation to the country's sustained economic growth. It is growth constructed on a very narrow base. 

This may have multiple reasons. And it is most likely that all of them are relevant, and it will be impossible to disentangle the exact contributions of each. In any case, one of them is this,

When market forces are left to themselves, farm yields tend to stagnate or even fall. Demand for land increases faster than supply, so landlords lease out land at increasing rents. They also act as money lenders at high rates of interest. (This also adds to their holdings when debts cannot be paid and they seize the land that had been pledged as collateral.) Tenants, facing stiff rents and costly debts, with little or no security of tenure, cannot make the investments, like improving irrigation or buying fertiliser, that would increase yields. The landlords could make the investments, but they make money more easily by exacting higher rents and by usury. Land inequality leads to low long-term growth, which reduces the income of the poor but not of the rich. So, radical land reform is vital.

In fact, for those looking for a practical and actionable road-map for long-term structural reforms, one need not look farther than Joe Studwell's excellent book. How many economists could have written such a book?

The high growth period of 2003-11 were built on release of pent-up demand, massive public investments in infrastructure, and large transfers through welfare programs. As the present problem highlights, that growth did not lead to any significant broadening of the middle-class. It appears to have largely increased incomes through temporary transfers from the government, especially to rural citizens. The attendant consumption boost and investments supported the high economic growth rates. Once the transfer spigots dried up, rural incomes tanked, and household savings fell by more than six percentage points, it took the wind out of economic growth. Exogenous factors and shocks merely exacerbated the problems.

In light of above, the debate on whether the slowdown is cyclical or structural misses the point. The current slowdown has both cyclical and structural features. Further, as discussed earlier, all the major engines of growth appear to be sputtering. 

This brings us to the point about specific structural reforms. The list is long. A listing of many of them are here, here, and here. The approaches to be adopted too are outlined in there.

In this context, one note of caution will be to refrain from using the sledgehammer. Like with everything else in nature, change too has to take its time. Too quick a change will do more harm than good. And unlike physical systems, we are dealing with social systems inhabited by people. And human suffering should be minimised.

Take the example of the credit market reforms. Logically, the RBI's slew of actions on recognition and resolution of banking sector problems - SMA, AQR, PCA framework, February 12 circular etc - cannot be faulted. For sure, they have undoubtedly laid the foundations for a better financial intermediation. But the question is at what cost and whether it could have been phased out more gradually? Perhaps not. But we cannot ignore the costs of such actions. This is a good analysis of the sledgehammer that RBI delivered.

In any case, I am inclined to the belief that using the sledgehammer is just as inappropriate as is ignoring the problem altogether. Both are easy responses for policy makers at the helm of affairs. Making change happen in a more thoughtful and calibrated manner is very challenging.  

Such sledgehammers are most often counter-productive. In the case of China, it is now widely acknowledged that the crackdown on corruption and off-balance sheet financing entities has had the effect of squeezing spending and investments. 

Another example is the idea of transitioning the economy from informality to formality. This, as overwhelming evidence from elsewhere suggests, cannot happen directly. The share of the formal sector increases not by shrinking the informal sector, but by having the formal sector grow faster and gradually displacing the latter. 

Weekend reading links

1. Ananth points to this article on the floatation of Virgin Galactic, the loss-making $2.3 bn valued space tourism company for the immensely rich. Some of the comments are delicious,

And while 3 bn persons need fresh water and healthy food we all wish you a nice flight...

I'm sure the Vision Fund will invest in this...

New 'beyound meat'!

2. FT has an article on China's strategic investments in metals. This about the Chinese state-owned Citic Metals in Ivanhoe Mines in Democratic Republic of Congo,

Chinese companies already own some of the richest deposits of copper and cobalt in the DRC and beyond, metals that are critical to the switch away from fossil fuels to renewable energy. They have invested at least $8bn in Congolese mining assets since 2012, with miner China Molybdenum buying the Tenke copper and cobalt mine from Freeport-McMoran for $2.65bn in 2016... China has long coveted the idea of having a large mining company to rival western groups such as BHP, Anglo American and Rio Tinto, which they see as controlling the world’s best deposits.

3. Is Mark Zuckerberg the epitome of everything that is wrong with Big Tech? It is hard to not come away from watching his Congressional deposition on Libra without feeling concerned about the competence of Facebook's leadership.

4. Bloomberg points to the likely source of the next round of financial market crisis - CLOs. Sample this,

CLOs own about 54% of all leveraged loans outstanding... An alarming number of leveraged loans—29% by some estimates—are rated B- by S&P Global Ratings or B3 by Moody’s Investors Service. For both ratings companies, that’s just one rung above CCC, the very lowest tier before default.

5. How many times will this repeat? The latest episode of African debt defaults appear on the horizon. High fiscal deficits, fraud and deception, and the increased share of non-concessional commercial debt have all been contributors. Sample the signatures of troubles in frontier market debt,

Almost half of frontier market countries are either at high risk of falling into debt distress or are already distressed, the IMF has said, up from zero as recently as 2014. The warning comes as issuance of hard currency frontier market debt is set to hit a record high this year, with $38bn set to be raised, according to the IMF... Mozambique is already in default after it borrowed more than $2bn, much of it concealed from the IMF and donors, ostensibly to finance a tuna fishing fleet and maritime security projects, only for much of the money to be diverted to kickbacks for bankers and government officials, according to US prosecutors. The Republic of the Congo, Africa’s third-largest oil producer, Zimbabwe, The Gambia and Grenada are also on a list of nine states the IMF classes as being “in debt distress”. A further 24 countries, including Ethiopia, Ghana, Zambia, Haiti, Laos and Tajikistan are deemed to be at “high” risk of following suit, by far the highest level since comparable records began in 2010... The outstanding stock of such debt has already tripled to $200bn over the past five years with the median issuer now labouring under a debt pile equivalent to 7 per cent of gross domestic product and close to half its gross reserves, compared with 3 per cent and 20 per cent respectively in 2014. In terms of debt to GDP, the median frontier issuer now has a ratio of about 55 per cent, a rise of almost 20 percentage points since 2013.

Despite the growing risks frontier market yields have fallen from 8.2 per cent in November 2018 to 6.2 per cent as investors search for yields.

But with global monetary accommodation most likely in its final phase, this graphic on debt redemption (or roll-over) schedules looks ominous.

6. FT on the changing face of American capital markets. The abundance of private capital has led to an almost having of listed companies in the US.

7. In the context of the RCT focused Nobel Prize, some very good articles - Sanjay G Reddy, Ingrid Harvold Kvangraven, TCA Srinivasa Raghavan, Jean Dreze, and this one unravels the actual story behind the claims made here.