1. Debashis Basu draws attention to this,
One of the most egregious recent cases of misconduct is the behaviour of credit-rating agencies. YES Bank AT1 Bonds, DFHL, and IL&FS all sported AAA or AA+ ratings just months before they went bust. A fortnight before IL&FS went bust in September 2018, the rating-agencies India Ratings, ICRA, and CARE had all given its debt papers AAA/AA+ ratings, even when its subsidiary, IL&FS Transport Networks, had defaulted in June the same year. Investors looking for safe investment have lost billions of rupees due to the ratings. And yet, the Securities Appellate Tribunal (SAT) seems to think this is simple carelessness.Last week, SAT reduced the penalty imposed by the Securities and Exchange Board of India (Sebi) on CARE Ratings from Rs 1 crore to Rs 10 lakh in a case related to lapses in assigning a credit rating to non-convertible debentures of Reliance Communications (RCom). SAT felt this was a case of “lack of due diligence for not having acted in a timely manner … the maximum penalty of Rs 1 crore is highly excessive, harsh and arbitrary and (is) not commensurate with the violation”. After all, it is not that the ratings were not downgraded, pointed out SAT, “but not in a timely manner. There could be a case of carelessness or sluggishness or laxity … but it is not a case of oversight”.
When you have orders like this, it's no surprise that financial market regulation remains weak. This is also yet another example from India's disappointing experience with appellate tribunals. It's a reminder to market enthusiasts like those who formulated the Indian Financial Code that theory and practice often diverge to the detriment of the system.
In this context, I had blogged here outlining the case against having appellate tribunals to adjudicate on regulatory decisions by financial market regulators like RBI, SEBI, or IRDA.
2. Ashok Gulati writes about the unsustainability of rice and sugar exports by India, pointing to their very high water consumption.
It is well known that a kg of sugar has a virtual water intake of about 2,000 litres. In 2020-21, India exported 7.5 million tonnes of sugar, implying that at least 15 billion cubic metres of water was exported through sugar alone. Another water guzzler, rice, needs around 3,000 to 5,000 litres of water for irrigating a kg, depending upon topography. Taking an average of about 4,000 litres of water per kg of rice, and assuming that half of this gets recycled back to groundwater, exporting 17.7 million tonnes of rice means that India has virtually exported 35.4 billion cubic metres of water just through rice.
3. India is not alone in its import dependence on China. But given the border issues, India's dependence assumes even greater significance. Sample this,
Two categories topped Chinese imports during 2019-20 (the latest disaggregated data): “electrical machinery and equipment and parts thereof; sound recorders and reproducers, television image and sound recorders and reproducers, and parts" ($19.1 billion), and “nuclear reactors, boilers, machinery and mechanical appliances; parts thereof" ($13.32 billion), amounting to almost 50% of the total Chinese imports that year. China has already supplied a significant chunk of India’s installed turbine-boiler-generator capacity, sweetening the deal with dirt-cheap financing. The critical question here is: Can the private sector in the West finance Indian infrastructure at comparably low rates?
This raises some questions. One, notwithstanding all the blame that will reflexively get laid at the doorstep of the government, the electrical and electronics imports are clearly an indictment of India's private sector. They've had three decades since the liberalisation to get this right, but due to lack of entrepreneurship, risk appetite, and ambition, they have instead allowed the sector to be dominated by foreign competitors (especially Chinese). It's stunning that the landscape of even consumer durables in India, including the new category of mobile phones, is dominated by foreign brands. For a large country, it surely cannot be that the government is to blame for this.
Second, the infrastructure equipment story raises a conundrum. Given the lower cost of Chinese equipment, is there a case that the lower cost imports are alright since it would also lower the life-cycle cost of the infrastructure service? Or do the risks outweigh the benefits from lower life-cycle cost? And in cases like solar, it's an indictment that, despite the presence of the likes of Adani Group, Indian module/cell manufacturing has been so poor.
4. When Abiy Ahmed took over as Ethiopia's Prime Minister, he was hailed as the next great African hope, and even won a Nobel Prize. Just two years later, the fall from grace is near complete.
5. Livemint writes about the rise of start-ups and their financing in tier 2 and 3 cities of India,
According to data from Tracxn, a business intelligence platform, nearly 3,700 startups were launched from tier-2 and tier-3 cities in 2020, which cumulatively raised as much as $3 billion from investors. In the current year until May, a total of 120 startups have been founded in such towns. Cumulatively, these startups have raised as much as $2.25 billion, showing that the per-deal average has increased in 2021. Among sectors, the consumer technology vertical saw the highest number of new ventures in the last couple of years. It was followed by fintech, food/agriculture and travel/hospitality.
Even if majority of the financing is aimed at services and little towards manufacturing, it's a good thing that formal financing is finding its way into funding risk endeavours in smaller cities and towns of India. This is an important outlet for mobilisation of risk capital that would otherwise have gone into speculative activities like real estate. Sample this
In Maharashtra’s Amravati, chartered accountant Mayur Zanwar, 40... decided to put money in other startups. Till date, he has invested in nearly 20 ventures. He liquidated all of his real estate holdings last year to increase his bets on the startup segment and aims to invest in as many as 30 early-stage ventures by the end of 2021.
6. The deal involving the majority ownership takeover of PNB Housing by Carlyle Group through allotment of preferential shares worth Rs 4000 Cr has generated controversy. Following an advisory firm's report, SEBI stepped in and directed that the deal be done only after a valuation by an independent entity.
PNB Housing is a public sector undertaking (PSU) because it is promoted by PNB, a public sector bank. PSUs command considerably low valuation in the stock market compared to their private sector peers because of a variety of reasons, such as the style of functioning and government interference. Since the control will change after the deal, an independent valuation of the firm was critical. The PNB Housing board kept the allotment price in tune with the Sebi rules, but rather strangely did not factor in any premium for the control it was ceding. In fact, the share price nearly doubled after the deal announcement, though it has corrected recently because of the uncertainty over the deal. The stock market has re-rated the stock to account for a change in control... Even if the board was convinced that there was no case for such a premium, it should have followed good governance practices and got the deal vetted by an independent valuer instead of its own auditor. This would have not only made the deal more transparent and acceptable but would have also absolved some of the directors of the accusation that it was influenced by their links with Carlyle Group in the past.
7. Questions are being raised and evidence to the contrary is building up about the efficacy of the Chinese vaccines,
In the Seychelles, Chile, Bahrain and Mongolia, 50 to 68 percent of the populations have been fully inoculated, outpacing the United States, according to Our World in Data, a data tracking project. All four ranked among the top 10 countries with the worst Covid outbreaks as recently as last week, according to data from The New York Times. And all four are mostly using shots made by two Chinese vaccine makers, Sinopharm and Sinovac Biotech... In the United States, about 45 percent of the population is fully vaccinated, mostly with doses made by Pfizer-BioNTech and Moderna. Cases have dropped 94 percent over six months. Israel provided shots from Pfizer and has the second-highest vaccination rate in the world, after the Seychelles. The number of new daily confirmed Covid-19 cases per million in Israel is now around 4.95. In the Seychelles, which relied mostly on Sinopharm, that number is more than 716 cases per million...
China, as well as the more than 90 nations that have received the Chinese shots, may end up... contending with rolling lockdowns, testing and limits on day-to-day life for months or years to come. Economies could remain held back. And as more citizens question the efficacy of Chinese doses, persuading unvaccinated people to line up for shots may also become more difficult... Mongolia has now vaccinated 52 percent of its population. But on Sunday, it recorded 2,400 new infections, a quadrupling from a month before... a Sinovac study out of Chile showed that the vaccine was less effective than those from Pfizer-BioNTech and Moderna at preventing infection among vaccinated individuals.
Non-supervisory roles have seen strong wage gains in recent months, while New York Federal Reserve surveys show that the average lowest wage that workers with no college degree say they will accept for a new job has jumped by 19 per cent since before the pandemic hit — the sharpest such increase since at least 2014.
It remains to be seen how persistent would be this trend. It's too early to argue that this marks a reversal of a long period of labour wage compression relative to capital income.
9. Latest unicorns update (HT: Marginal Revolution).
10. Interesting announcement by Reliance Industries on its entry into renewables industry with a Rs 75000 Cr investment plan over the next three years,
Under the plan, RIL will set up a Dhirubhai Ambani Green Energy Giga Complex, spanning 5,000 acres, in Jamnagar, Gujarat, at Rs 60,000 crore while another Rs 15,000 crore will be invested in value chains, partnerships, and future technologies, including upstream and downstream industries. RIL will create a capacity of producing solar power of 100 Gw in 10 years. The ambition is stunning as India’s installed capacity of solar power is now 40 Gw (including ground mounted and rooftop)... RIL will set up four giga factories for integrated solar photovoltaic modules, advanced energy storage, an electrolyser factory for green hydrogen, and a fuel cell factory for converting hydrogen into motive and stationary power. For solar manufacturing, RIL will have integrated manufacturing starting from raw silica and poly silicon to ingot, wafers to finished products cells and modules. This will be a major addition to India’s solar manufacturing plans though the company did not reveal the capacity it would be putting up... RIL will focus in a major way on rooftop solar and decentralised solar installations in villages. The second part of the plan entails creating a value chain for the giga factories. It will be part of the Jamnagar complex of the company. RIL’s renewable energy project management and construction division will provide end-to-end solutions for large renewable plants across the world.
To put this in perspective,
India imports close to 90 per cent of its solar cells and module requirements. Eighty per cent of this is from China. According to the industry data, India has 3,100 Mw of cell manufacturing capacity and 9,000 Mw of module manufacturing.
And this pits the two richest men in India in direct competition,
The move will bring RIL into direct competition with the Adani group. Adani Solar has 3.5 Gw of annual solar photovoltaic production capacity while Adani Green Energy has a portfolio of 25 Gw of commissioned and under construction projects.
Whatever finally happens, it says something about Adani Group, that this completely new greenfield announcement by Reliance is more likely to materialise than the Adani Group's plans on green energy.
11. On a related note, Reliance's financials don't appear too healthy,
The company’s RoCE on consolidated basis declined to 7.8 per cent in financial year 2020-21 (FY21) — the lowest in at least three decades. Similarly, the company’s RoNW declined to a low of 8.4 per cent last fiscal, according to data from Capitaline database. In other words, the company’s returns from its large asset base – the biggest in India Inc – is just a notch above the yield on top-rated corporate bonds. In comparison, Nifty 50 companies reported RoNW of around 14.9 per cent on average in FY21... RIL is also one of the lowest dividend payers among top companies, proportionate to its revenues and balance sheet size. The company paid a total equity dividend of Rs 4,512 crore in FY21. In comparison, Tata Consultancy Services... distributed nearly Rs 30,000 crore among its shareholders by way of dividend and share buybacks last fiscal... The stock is trading at trailing price to earnings multiple of 31X, against Nifty 50 earnings multiple of 29.2X.
12. Pratik Datta has a very educative article which highlights the experience of China with its bad banks.
In the aftermath of the Asian financial crisis, China set up dedicated bad banks for each of its big four state-owned commercial banks. These bad banks were meant to acquire non-performing loans (NPLs) from those banks and resolve them within 10 years. In 2009, their tenure was extended indefinitely. In 2012, China permitted the establishment of one local bad bank per province. In 2016, two local bad banks were allowed per province. By the end of 2019, the country had 59 local bad banks. Chinese banks can currently transfer NPLs only to the national or local bad banks. Recent research by Ben Charoenwong at the National University of Singapore and others highlights that Chinese bad banks effectively help conceal NPLs. The banks finance over 90 per cent of NPL transactions through direct loans to bad banks or indirect financing vehicles. The bad banks resell over 70 per cent of the NPLs at inflated prices to third parties, who happen to be borrowers of the same banks. The researchers conclude that in the presence of binding financial regulations (for example, on provisioning) and opaque market structures, the bad bank model could create perverse incentives to hide bad loans instead of resolving them.
He also points to the US and Swedish experiences,
The US had set up a bad bank in 1989 — the Resolution Trust Corporation. It had a sunset clause of December 1996. The date was subsequently advanced to December 1995. Similarly, Sweden established Securum in 1993 with an estimated lifespan of 10-15 years. In 1995, Securum’s board proposed that the company be wound up by mid-1997. The parliament finally dissolved Securum in 1997. At the time of its closure, Securum had disposed of 98 per cent of its assets.
He argues for four requirements for India's new bad bank, National Asset Reconstruction Company Limited (NARCL) - finite tenure with a clear sunset; specific narrow mandate with a clear strategy for resolution of bad assets and not mere transfer of those assets; reduce the original banks' exposures to the bad loans (through security receipts) once they are transferred to NARCL; resolution should happen through market mechanism, and arbitrage between ARCs and bad banks should be discouraged.
13. From an article about how private equity has managed to evade paying taxes. This on how they turned ordinary income into capital gains, twice,
The I.R.S. has long allowed the industry to treat the money it makes from carried interests as capital gains, rather than as ordinary income. For private equity, it is a lucrative distinction. The federal long-term capital gains tax rate is currently 20 percent. The top federal income tax rate is 37 percent... Private equity firms already enjoyed bargain-basement tax rates on their carried interest. Now... they had devised a way to get the same low rate applied to their 2 percent management fees... In a nutshell, private equity firms and other partnerships could waive a portion of their 2 percent management fees and instead receive a greater share of future investment profits. It was a bit of paper shuffling that radically lowered their tax bills without reducing their income. The technique had a name: “fee waiver.” Soon, the biggest private equity firms, including Kohlberg Kravis Roberts, Apollo Global Management and TPG Capital, were embedding fee-waiver arrangements into their partnership agreements... Say a private equity manager was set to receive a $1 million management fee, which would be taxed as ordinary income, now at a 37 percent rate. Under the fee waiver, the manager would instead agree to collect $1 million as a share of future profits, which he would claim was a capital gain subject to the 20 percent tax. He’d still receive the same amount of money, but he’d save $170,000 in taxes...
The whole idea behind the managers’ compensation being taxed at the capital gains rate was that they involved significant risk; these involved almost none. Many of the arrangements even permitted partners to receive their waived fees if their private equity fund lost money. That was the case at Bain Capital, whose tactics a whistle-blower brought to the attention of the I.R.S. in 2012. That year, Bain’s former head Mitt Romney was the Republican nominee for president. Another whistle-blower’s claim described fee waivers used at Apollo — one of the world’s largest buyout firms, with $89 billion in private equity assets — as being “abusive” and a “thinly disguised way of paying the management company its quarterly paycheck.”
And this about how IRS audits of private equity partners and firms have become very rare,
While intensive examinations of large multinational companies are common, the I.R.S. rarely conducts detailed audits of private equity firms, according to current and former agency officials... One reason they rarely face audits is that private equity firms have deployed vast webs of partnerships to collect their profits. Partnerships do not owe income taxes. Instead, they pass those obligations on to their partners, who can number in the thousands at a large private equity firm. That makes the structures notoriously complicated for auditors to untangle. Increasingly, the agency doesn’t bother. People earning less than $25,000 are at least three times more likely to be audited than partnerships, whose income flows overwhelmingly to the richest 1 percent of Americans.
14. It's well known that during the sub-prime crisis, the then Treasury Secretary Hank Paulson was in constant touch with his Goldman successor Lloyd Blankfein and other Wall Street executives. It raised serious concerns about conflicts of interest and ethics.
Now comes evidence that Steve Mnuchin and Jerome Powell were in constant touch with Larry Fink, the Chief Executive of BlackRock, in the days when the Fed announced several emergency rescue schemes after the pandemic broke out.
Mr. Mnuchin held 60 recorded calls over the frantic Saturday and Sunday leading up to the Fed’s unveiling on Monday, March 23, of a policy package that included its first-ever program to buy corporate bonds, which were becoming nearly impossible to sell as investors sprinted to convert their holdings to cash. Mr. Mnuchin spoke to Mr. Fink five times that weekend, more than anyone other than the Fed chair, whom he spoke with nine times. Mr. Fink joined Mr. Mnuchin, Mr. Powell and Larry Kudlow, who was the White House National Economic Council director, for a brief call at 7:25 the evening before the Fed’s big announcement, based on Mr. Mnuchin’s calendars... On March 24, 2020, the New York Fed announced that it had again hired BlackRock’s advisory arm, which operates separately from the company’s asset-management business but which Mr. Fink oversees, this time to carry out the Fed’s purchases of commercial mortgage-backed securities and corporate bonds.
The capture of US Treasury by Wall Street is near total. It does not change with administration. As an illustration, now that a Biden administration is in charge, it is fair to imagine it revoking the carried interest loop hole and cracking down on the fee waiver strategies of private equity discussed above. But it's unlikely to happen, even if corporate tax rates go up.
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