Saturday, March 25, 2023

Weekend reading links

1. Make in India and production linked incentives (PLIs) are not resulting in the emergence of Indian mobile manufacturers. From The Ken,

Mobile-phone production in India stood at 310 million units valued at over Rs 2.8 lakh crore ($33 billion) in the year ended March 2022, said Finance Minister Nirmala Sitharaman in the Union Budget 2023-24. Of that, domestic manufacturers are estimated to have a share of 5%... Dixon has exported a paltry Rs 657 crore (~$79 million) worth of mobile phones in the year ended March 2022 (2021-22 is the first full year of the PLI scheme)... Foxconn and Wistron have already received Rs 357 crore ($43 million) and Rs 601 crore ($73 million) for the year ended March 2022... They, along with Pegatron, are likely to receive incentives for the year ended March 2023 soon... Samsung has claimed incentives for the year ended March 2022... Bharat FIH, the fourth international company and a Foxconn group firm, has been unable to claim incentives... Padget Electronics, which is a Dixon subsidiary, and UTNPL—a newly incorporated joint venture between India’s UTL Group and Israel’s Neolync solutions—are the only two entities that have achieved the targets for domestic companies under the scheme... UTNPL makes JioPhones for conglomerate Reliance Industries.

This summary of PLI

The scheme extends a 4-6% cash benefit on incremental sales of electronics goods manufactured in the country to eligible companies for five years, with 2019-2020 as the base year... The scheme with an outlay of Rs 38,600 crore ($4.7 billion) is expected to boost mobile-phone exports at scale... The scheme offers incentives to two categories of companies: international ones, including Wistron, Pegatron, Foxconn, its subsidiary Rising Star, and Samsung, with revenues over Rs 1,000 crore ($121 million ), and “domestic champions” with revenues over Rs 100 crore ($12 million). The incremental investment and sales targets are relatively lower for domestic companies, with the former set at Rs 50 crore ($6 million) and the latter at Rs 500 crore ($60 million). In comparison, international companies are required to meet higher targets of Rs 250 crore ($30 million) and sales in the range of Rs 4,000-7,000 crore ($483-846 million) annually.

2. While exports have in general been declining, an export success story has been that of sugar - its exports have soared from $810.9 m in 2017-18 to $4.6 bn in 2021-22 and could cross $5.5 bn this fiscal year. 

3. Praveen Chakravarthy points to a inter-state issue associated with the possible reversion to Old Pension Scheme by many Indian states.
Paradoxically, states that want to implement OPS have much higher debt levels (40 per cent of GDP) than the states that are reluctant to switch to OPS (22 per cent). That is, states that are in a financially worse condition want to burden their finances even more with OPS, while states that are slightly better off are more financially prudent by resisting OPS. Punjab has debt of a whopping 48 per cent of GDP and spends nearly one-fifth of its income on just pensions for government employees, who constitute a mere 6 per cent of the total families in the state. Similarly, Himachal’s debt levels are 42 per cent with a pension expenditure of 21 per cent for just one-fifth of the households... Just four large states – Maharashtra, Tamil Nadu, Karnataka and Gujarat — are net contributors to the Union government’s tax pool while most other states are net takers. For example, for every Rs 100 that an average Maharashtrian pays in all forms of taxes to the Union, nearly Rs 70 is sent to other states. But for every Rs 100 that the average Punjabi or Rajasthani pays to the Union government, they get back Rs 150. In a sense, when the Punjab or Himachal government claims it has the right to decide on OPS, it is actually paid for indirectly by the future generations of people in Maharashtra, Gujarat, Tamil Nadu and Karnataka through the Union government... Unfortunately, the gap between the “net giving” and the “net taking” states has only increased. For example, the gap between the debt levels of states that have implemented OPS (Bengal, Rajasthan, Punjab, Jharkhand, Chhattisgarh, Himachal) vis-à-vis the states that have resisted OPS (Maharashtra, Tamil Nadu, Gujarat, Karnataka) has increased from 13 per cent in 2003 to 20 per cent of GDP in 2023.

4. After the Swiss National Bank's $54 bn liquidity backstop to Credit Suisse failed to calm the markets, the Swiss authorities forced a merger of the 167-year old bank with its fierce rival UBS. 

On Wednesday, the so-called “trinity” of the Swiss National Bank, regulator Finma and minister of finance summoned Credit Suisse chair Axel Lehmann, who was in Saudi Arabia for a conference, and chief executive Ulrich Körner for a call. In the same meeting where they authorised the SFr50bn backstop, they also delivered another message: “You will merge with UBS and announce Sunday evening before Asia opens. This is not optional,” a person briefed on the conversation recalls... The trinity called UBS and ordered the group to find a solution to save its ailing peer from bankruptcy. “Resolution [a government-controlled wind-down] would have been a disaster for the financial system and introduced the threat of contagion around the world,” says another person involved on the UBS side. “Our interests were also aligned because a failure is not good for the Swiss wealth-management brand. So we said, on the right terms, we would help.”

The Bank's latest crisis was triggered by findings of "material weaknesses in internal control over financial reporting" for 2021 and 2022 in the Bank's annual financial report released on March 14. This follows a serious of governance issues and dodgy investment decisions over the last few years - Greensill, Archegos, Mozambique bribery scandal etc. The report also announced large losses for the year, and its release coincided with the SVB failure and heightened scrutiny of banking assets. The day after release of its annual report, CS's largest shareholder, Saudi National Bank disclosed that it would not step in with any more investment, thereby setting off fears in the market about the Bank not being able to absorb its losses. The Bank's CDS surged, its shares plunged 24%, and prices on its bonds fell to distressed levels. The Swiss authorities then stepped in.

The shotgun marriage creates the world's fourth largest bank by assets, with 120,000 staff and $5 trillion in assets. It would also be the second largest wealth manager, with $3.5 trillion assets, only behind Morgan Stanley. 

As per the merger, UBS agreed to pay CS shareholders $3.1 bn in an all-share deal, and the Swiss government agreed to provide second loss backstop for 9 billion francs of potential losses from CS assets, 100 bn franc liquidity lifeline from SNB, and allowed UBS to wipe out about $17.3 bn of CS's Additional Tier I bonds. The write down of AT1 bonds even as shareholders received $3.1 bn goes against the standard practice of equity holders being subordinate to bondholders, and spooked the $275 bn European market for these bonds. European authorities stepped in to reassure AT1 bond holders in the Eurozone and UK. An FT editorial writes,

The wipeout of AT1 bonds is the most controversial element of the deal. It cast doubt on the hierarchy of claims in the event of a bank failure: common equity is usually considered subordinate to these bonds in the capital structure, yet shareholders received a small sum at their expense. Finma cites a clause in the bond prospectus allowing this, but bondholders are now threatening a legal challenge... The payout to shareholders is regrettable, though this may have been an attempt by the Swiss authorities to extend an olive branch to international equity holders, particularly from the Middle East, which is an important location for the banks’ wealth management operations. Legal challenges could add to uncertainty around the deal: shareholders are already miffed they did not get a vote on it and Swiss politicians have complained that the hefty government backstop, risking taxpayers’ money once UBS bears initial losses, was not debated in parliament. The combined UBS-Credit Suisse will be a behemoth: its combined assets will be roughly twice the size of the Swiss economy. If Credit Suisse on its own was deemed too big too fail, the new entity will take on even greater global systemic importance — which makes its success crucial.

But Finma's argument goes as follows

The “AT1” bonds in question — a type of hybrid debt instrument created after the financial crash of 2008 to give banks greater capital flexibility in the event of crises — contained explicit contractual language that they would be “completely written down in a ‘viability event’ in particular if extraordinary government support is granted”, Finma said. This allowed the regulator to prioritise equity holders ahead of AT1 holders.

This is a fascinating FT account of the five-days over which the deal was consummated. It shows how the entire transaction was done through zoom calls between third party advisors hired by both Banks (separately by both managements and Boards) and the government, SNB, and Finma officials, and with almost no direct contact between the two sides. The Swiss government was under intense pressure from the US and European governments to quickly address the problem so as to limit its contagion on the global banking system, which was already reeling due to implosion of SVB. The Swiss Finance Minister, Karin Keller-Sutter played the primary matchmaker, and the deal did not involve any shareholder approval process. The Swiss were also keen to keep Credit Suisse at home and prevent outsiders. BlackRock tried hard to takeover the ailing bank. 

This is a long read on the 167 year history of Schweizerische Kreditanstalt, later rebranded as Credit Suisse, established in 1856 by Alfred Escher to mobilise local finance for Switzerland's infrastructure investments and economic growth. It became the go-to bank for the Swiss. Its partnership with First Boston in 1978 (and subsequent takeover in 1990) introduced it to investment banking and the seeds of the current demise were sown. It escaped the 2008 crisis better than its rival UBS, since it had the backing of two Middle Eastern investors - Saudi Arabia and Qatar. 

In the wider context of global banking, Megan Greene describes it as a Schrodinger's Box

5. Deposit protection facts of the week

As per independent research estimates, smaller bank deposits in the US are insured in the range of 30-45 per cent only. In contrast, smaller bank deposits in India such as regional rural banks, cooperative banks and local area banks are better protected at 82.9 per cent, 66.5 per cent, and 76.4 per cent respectively, while public sector banks, which have a large proportion of customers from rural, urban and semi-urban areas have better customer deposits protection in comparison to private banks.

About 51% of deposits in India are not covered by deposit guarantee 

6. A new report by the consultancy London Economics has this to say about the economic impact of Cambridge University, 

The economic impact of the University of Cambridge is almost four times that of the English Premier League... London Economics calculated the impact of one of the UK’s most prestigious universities at almost £30bn a year and estimated it supported 86,000 jobs. Every £1 spent by Cambridge created £11.70 of economic value... More than £23bn of the economic impact came from commercialising university research, particularly through companies “spun out” from it, the study found. In contrast, the Premier League, regarded as one of the best UK cultural exports, added £7.6bn of value to the economy in 2019-20, according to professional services company EY. Notable Cambridge university spinouts include Nyobolt, a fast-charging battery solution, and Abcam, a leading supplier of protein research tools. 

The report was commissioned by the University itself.

7. Janan Ganesh has an excellent profile of Florida Governor Ron DeSantis, one which applies to several politicians elsewhere.

First, DeSantis is abler and more disciplined than Trump. Even if he believes in just three-quarters of the Maga creed, he can get a greater share of it enacted. Trump’s efforts to subvert the US system always hit against the limits of his own attention span and executive grip. That fail-safe won’t exist with DeSantis. Second, there is something of Theresa May about DeSantis: something of the try-hard. Precisely because he arouses mistrust among Trump voters, he is always striving to prove his populist credentials. Perhaps he seriously believes, for example, that Ukraine does not rank among America’s “vital national interests”. (Which would be troubling enough.) As likely, he is pandering to a crowd that views him with suspicion as an establishment Republican... There was always one benign feature of the Trump personality cult. Because millions of voters are unconditionally faithful to the 45th president, he doesn’t need to say or do anything in particular. His flock is there if he builds a wall against Mexico, and there if he doesn’t. It is there when he flatters the dictator of North Korea, and there when he threatens to crush him. It is there as he promises an infrastructure splurge, and there as his successor Joe Biden does much more to bring one about. It is even there when he recommends vaccines against Covid-19. Trump doesn’t live or die by his policies. That is the point of a personality cult. He has no incentive to become ever more extreme (though also no incentive not to). I suspect he could turn into a pro-trade liberal and China dove and keep the greater share of his following. DeSantis has no such license. What makes him so deceptively risky is that he must keep earning and retaining the trust of populist voters through his actions. His conventional Ivy League résumé, his photo-op with Biden during Hurricane Ian, even his personal stiffness: moderate Republicans hope that these are the marks of a pliable company man.

8. Isabelle Weber and Evan Wasner have a new paper where they find strong correlation between the rising share of corporate profits in GDP and the sharp price rises in US after the Covid pandemic. 

The dominant view of inflation holds that it is macroeconomic in origin and must always be tackled with macroeconomic tightening. In contrast, we argue that the US COVID-19 inflation is predominantly a sellers’ inflation that derives from microeconomic origins, namely the ability of firms with market power to hike prices. Such firms are price makers, but they only engage in price hikes if they expect their competitors to do the same. This requires an implicit agreement which can be coordinated by sector-wide cost shocks and supply bottlenecks. We review the longstanding literature on price-setting in concentrated markets and survey earnings calls and compile firm-level data to derive a three-stage heuristic of the inflationary process: (1) Rising prices in systemically significant upstream sectors due to commodity market dynamics or bottlenecks create windfall profits and provide an impulse for further price hikes. (2) To protect profit margins from rising costs, downstream sectors propagate, or in cases of temporary monopolies due to bottlenecks, amplify price pressures. (3) Labor responds by trying to fend off real wage declines in the conflict stage. We argue that such sellers’ inflation generates a general price rise which may be transitory, but can also lead to self-sustaining inflationary spirals under certain conditions. Policy should aim to contain price hikes at the impulse stage to prevent inflation from the onset.

9. Natural gas price in India has since 2014 been linked to a basket of four gas prices through the Administered Price Mechanism (APM). From April 2023, the Government had proposed to shift the APM from basket of gas prices to international crude price. 

Kirit Parikh explains the new proposed Parikh Committee gas pricing formula for the gas covered under APM.

10. China's dominance of all stages of the solar supply chain
Europe was once the world’s largest solar power manufacturer, producing 30 per cent of all photovoltaic panels in 2007. But China's production today dwarfs that of other countries
While Europeans understand the problems with dependence on China, they also realise the benefits from cheap Chinese imports
This capacity growth has led to the cheap prices that enabled Europe’s record-breaking solar installations. According to the IEA, although Europe imported an unprecedented 26GW of photovoltaic modules in 2021, the bill was just a third the cost of 2010, when it imported only 15GW.

11. Simon Kuper makes the point about regulating the SUV's from out of the market so as to reduce carbon emissions

SUVs last year accounted for a record 46 per cent of the world’s car sales, according to the International Energy Agency (IEA). If we’re serious about keeping the planet liveable, we have to regulate and tax huge cars out of existence... huge cars are mostly driven by the rich. In the UK, for instance, the average SUV costs more than the median full-time pre-tax salary of about £33,000 — leaving aside petrol. Generally, it’s the rich who emit most CO₂. Getting rid of huge cars is about reducing emissions first and road accidents second. SUVs evolved from the second world war jeep, but their worldwide numbers have jumped nearly sevenfold since 2010, to about 330 million. Given that SUVs consume one-fifth more oil than medium-sized cars, they now emit about three times more carbon than the UK, per the IEA, which also says that they “have helped keep transport emissions rising “at an annual average rate of nearly 1.7 per cent from 1990 to 2021, faster than any other end-use sector”. Passenger vehicles already account for about 9 per cent of all global emissions... In short, we need to legislate away huge cars such as the Ford F-series truck, the US’s bestselling passenger vehicle for 41 years running. After all, we ban other dangerous substances, and sometimes even not very dangerous substances, such as marijuana. We already regulate cars themselves in all sorts of ways.

12. Tim Harford on economic forecasting,

But many economic pundits seem to have been taking lessons from astrologers. Consider this horoscope: “The balance of risks remains tilted to the downside, but adverse risks have moderated . . . On the upside, a stronger boost from pent-up demand in numerous economies or a faster fall in inflation are plausible. On the downside, severe health outcomes in China could hold back the recovery . . . ” That pretty much covers everything: good news, bad news, more inflation, disinflation. In case you’re wondering, it’s the latest World Economic Outlook from the IMF. But that sort of “rainbow forecast” is typical of the genre...

Walter Friedman’s history of economic forecasting, Fortune Tellers, explains that clairvoyants and economic forecasters started from a similar place. Evangeline Adams and Roger Babson were near contemporaries, born in the US in 1868 and 1875 respectively. Both offered investment advice in general and stock market forecasts in particular. Both were in high demand, and both died rich. The chief difference was that Adams was an astrologer, while Babson offered data-driven forecasts inspired by ideas from physics.

No comments: