Weekend reading links

1. Jared Bernstein, Chair of the White House Council of Economic Advisors, makes an important point while justifying the Biden administration's large fiscal stimulus.

Twenty-twenty hindsight is an analytical luxury — certainly one we didn’t have in January of 2021. Back then, we had millions of unemployed people. We had Covid deaths peaking. The economy was improving, but it was far from reopened. And vaccinations hadn’t been anywhere near adequately distributed. So the extent of uncertainty regarding the impact of Covid on the economy warranted a very strong rescue plan. And I don’t regret the plan. We certainly got more heat than I envisioned at the time, no question, but we also got a lot more growth, less child poverty, fewer evictions, more business survivals, and a much quicker return to full employment and very little economic scarring... I used to say, back then, “The risk of doing too little was greater than the risk of doing too much.”

2. NYT on the China risk that Elon Musk is riding on. In every industry Musk is in, his main competitors are the Chinese - EV, batteries, solar panels, boring machines, and satellite launches. Tesla is still awaiting permission in China for full-self driving, something which domestic competitors have already secured. 

As an illustration, during President Xi's latest visit, SpaceSail, the state-backed Chinese satellite launch company, signed a deal with the Brazilian government to launch satellites for Brazil. 

In terms of corporate risk, brand Elon Musk stands completely at the mercy of two forces he cannot control at all - Donald Trump and China. Worsening matters, the two conflict with each other at several points, making it tails he loses and heads the other side wins!

3. DHL and NYU have a Global Connectedness Tracker which gives a wealth of information.

4. EV car manufacturing in China

The business of car-making in China is far more promiscuous. Huawei has Seres-style alliances with three other major local manufacturers and presents itself as a provider of smart software, hardware and retail expertise that more traditional automakers can put on four wheels. It’s also joined forces with Anhui Jianghuai Auto Group Corp., or JAC, which manufactures cars for US-listed EV-maker Nio Inc., on a soon-to-be-released luxury people mover. Xiaomi is now making its SU7 in-house, but even there it initially tied up with BAIC Motor Corp. in developing it.

5. The problems with Trump's threat to tax Canadian imports.

“How do you compete with China if you price Quebec aluminum, Ontario cars, Saskatchewan uranium and Alberta oil prohibitively?” Flavio Volpe, the president of the Automotive Parts Manufacturers’ Association, a Canadian industry group said, citing some top Canadian exports to the United States. “Half of the cars made in Canada are made by American companies, and half of the parts that go into all the cars made in Canada come from U.S. suppliers, and more than half of the raw materials are from U.S. sources,” Mr. Volpe added. “We are beyond partners. We are almost as inseparable as family.”

6. China EV market facts 

BYD, Tesla’s biggest rival in China, has demanded its suppliers slash prices by 10 per cent, as the world’s largest auto market braces for a fresh salvo in a cut-throat price war. The carmaker urged its suppliers to send over their quotes by December 15 and officially mark down prices starting next year, executive vice-president He Zhiqi wrote in an email circulated on social media on Wednesday. “In 2025, the EV market . . . will go into a grand final battle and a knockout tournament,” he said. “To enhance BYD cars’ competitiveness . . . you and your team must take it seriously and effectively exploit space for cost reduction”... “The rise of China’s auto industry cannot come at the expense of the livelihood of domestic workers and suppliers,” one supplier responded. “We are unable to accept your company’s request and unwilling to take part in this type of co-operation that violates business ethics and human nature.” In the first nine months of 2024, the average time BYD took to clear its bills payable, most of which were attributed to suppliers, was 144 days, longer than the 124 days a year earlier, according to company filings.

7. Claudia Sheinbaum is pushing ahead with radical reforms as the new President of Mexico.

During her first weeks in office, she has thrown her weight behind a package of López Obrador’s most controversial ideas, branded “Plan C”. Her first year in office will be spent implementing elections for judges, dismantling regulators and cementing the dominance of state companies in the energy sector... Mexico will be by far the biggest country to elect all its judges via popular vote, in a process Sheinbaum backed enthusiastically throughout the campaign, arguing that it would reduce corruption and make the distrusted judiciary more accountable... Together we are going to transform the judiciary, truly from the bottom, from the people of Mexico,” she said at a recent rally in Zacatecas. “What is democracy? The power of the people by the people and for the people.” Despite warnings from the US government, business leaders and lawyers that it would damage judicial independence and democracy, Sheinbaum pressed ahead.

But she has to preside in the long shadow of her predecessor and mentor Andres Manuel Lopez Obrador (AMLO) 

Much of Morena’s leadership — in the party and congress — is seen as more loyal to its founder than to her, a profound risk as she faces a recall referendum three years into her six-year term.

8. As President designate Trump threatens a full-scale tariff war, here's a graphic pointing to who will likely be hurt the most.

There are many worthy academic studies of the Trump tariffs from 2018. While not the most riveting reads, they give a reasonably clear account of the evidence... The evidence suggests: US importers bore the vast majority of the cost of tariffs. Overall, for a 20 per cent tariff, the importer paid 18.9 per cent higher prices with the ex-tariff price reducing just 1.1 per cent. Tariffs were passed on to US importers much more than US exchange rate depreciations, where contracts tend to be fixed for a period in dollars... While US importers paid, these costs were not always passed on directly to US consumers. Washing machines were a bit of an exception where prices rose. In other areas, prices barely increased. It is less certain whether retailers spread the tariff effect over multiple goods, margins were squeezed or products were bought ahead of tariffs being imposed... The incidence of US tariffs clearly appears to fall on the US corporate sector, with it then passed on to households in a combination of lower profits, higher prices and lower wages.

9. We are not yet at peak fossil fuel emissions.

And this on off-shore oil drilling

10. The souring of China market ambitions of Western financial institutions.

In spring 2009, Beijing’s state council, the country’s top decision-making body, set an ambitious target: Shanghai would become an international financial centre by 2020... More than 15 years after China pledged to turn Shanghai into an international financial centre, the port city has failed to live up to its early promise... American law firms, once participants in huge cross-border financial flows, have left the city as foreign investment plummets. No western bank has participated in a single IPO on Shanghai’s stock market this year, and, in a domestically-focused market, the need for foreign staff is increasingly unclear. Asset management firms that flocked to the city in the hope of a loosening of China’s capital controls must reckon with the prospect that Beijing will tighten them instead.

11. Important point about Tamil Nadu's manufacturing base

Tamil Nadu has been pursuing a policy of creating multiple electronics manufacturing clusters across the state rather than locating them in one area. Apart from Sriperumbudur, it is creating a cluster near Tiruchirappalli where Jabel Inc, an American electronics major, will set up a production facility. Coimbatore, the minister said, will focus on electronics and semiconductor design. Madurai, meanwhile, is being prepped to house large global capability centres.

12. For all punditry around what to expect from the Trump White House, Alan Beattie has, in my opinion, the best assessment.

If you enjoy watching narratives disintegrate and re-form like crystals in a supersaturated solution, you’ll have loved the last few days in Washington... The value of palace politics in analysing the Trump administration will be strictly limited. The economic and trade team will be a gaggle of vying courtiers under an erratic president motivated by instinct and prejudice. This was, after all, exactly what we got during Trump’s first term. This time, his compulsion to listen to voices outside that circle urging him to deport foreign-born workers or pursue security goals even if they damage the US economy will be even stronger. It’s more productive to look at what powers the administration has and what it can get done if it tries... As in Hollywood, nobody knows anything. The one pretty safe bet is that Trump will use tariffs over the next four years. But it is very unclear how they might be employed, or for what end, or what other economic and financial tools might also be deployed, or whom he will be listening to at any given time. This week is a warning to anyone who thinks they have the Trump administration all figured out. They do not.

Bringing financial discipline to India's power sector

This post will make certain specific recommendations to bring financial discipline to India’s electricity sector. 

Arguably, the biggest obstacle to bringing financial discipline within India’s power sector is the opacity of financial accounting, especially in discoms. This accounting problem starts with the regulatory award, runs through subsidy allocation in the budget and its actual release, and climaxes at the capital and operating expenditures accounting and their financing. It’s therefore natural that any meaningful reform of the sector address this central problem.

To start with, there are four important but less discussed subsidy-related factors that impact the financial sustainability of Discoms:

a. Under-reporting of subsidy requirements through non-disclosure of the full subsidy requirement by the discoms to regulator

b. Regulatory under-provisioning of the subsidy by the regulator in their annual tariff awards on the informal directions of the government

c. Budgetary under-allocation by the government on the regulatory award

d. Under-release of even the under-allocated amount

As a summary of the process of subsidy determination, the discoms make their Aggregate Revenue Requirements (ARR) filing to the Regulator based on all their expenditures. At the same time, expected revenues are computed based on projected sales and the tariffs determined in the previous year. The Regulator uses the ARR and expected revenues to arrive at the revenue shortfall. Thereupon, based on the subsidy commitment from the state Government and the Full Cost of Service (FCS) principle, the Regulator determines tariff for the coming year.

The discoms, dictated by the government, tend to boost their ARR by inflating the consumption of their subsidizing consumers and deflating that of their subsidized consumers. In their filings, the discoms also try to suppress the gap between the FCS and ARR so that they do not put pressure on the state governments to either allow tariff increases or provide the additional subsidy. They also boost the availability of power from cheaper Hydro stations and suppress the quantum that they would buy from more expensive stations. Their filings also either do not provide or under-provide for the emergency purchases that they would invariably make from the market to tide over spurts in demand.

The under-reporting by discoms complements similarly distorted incentives on the regulatory side. Often, the regulator is gently nudged by the state government on its tariff intentions. In its efforts to confine the award to the government’s requirements, the regulator’s tariff award typically suffers from three problematic assumptions:

a. Over-estimation of the categories of the cross-subsidizing consumers (like commercial and HT consumers)

b. Under-estimation of cross-subsidised consumers like agriculture

c. Under-estimation of total consumption

The net effect of this is a lower subsidy requirement. However, in reality the differential between the actually realized revenues and the tariff award revenues every year would invariably be much higher.

This under-award is compounded by the increasing practice of state governments under-provisioning on the regulator’s award in the budget estimate. Then there is the practice of state governments not releasing even the budgeted amounts. In addition to under-release of subsidies, there is also the problem of inordinate delays in the payment of current power bills by government entities – urban and rural local bodies, public institutions like schools and hospitals, and government offices.

The net result of all these is the significant gap between the actual subsidy and the allocated subsidy, and actual subsidy requirement and the actual releases. The former is absorbed as unregulated losses, and the latter as unregulated debt. The former piles up and corrodes the discom’s balance sheet, while the latter (or a major part) becomes off-balance sheet borrowing of the government.

Finally, this opacity in accounting also comes in the way of fixing accountability. The regulated debt is clear enough. But the unregulated debt combines the under-provisions and under-releases by the government as well as the discom’s own losses and inefficiencies (especially due to free farm power) plus the accumulated interest arrears on these. In the absence of farm power metering, disaggregating the two becomes difficult and discoms commonly add all losses beyond what they desire to project into agriculture consumption.

The cascade of under-provisioning allows the government to abdicate responsibility for a large part of the unregulated debt. In turn, the discom can suppress its AT&C losses, and blame the government for its financial problems.

Debt management

The combination of all these four is a major cause for the continuously growing pile of Discom debts. In order to meet their working capital requirements arising from these under-provisioning and pending receivables, and avoid having to make budget provisions for the gaps, state governments encourage discoms and gencos to take working capital loans with or without government guarantee.

These loans which are generally repaid over time by the government, are effectively state government’s off-balance sheet debts. This arrangement allows state governments to undertake revenue expenditures on subsidies without having them show up in the budget accounts.

This is a continuous cycle – discoms take loans, accumulate debts, and roll them over. Over time, it becomes difficult to segregate the debt into the government and discom’s shares. Once the accumulated pile of debts become unsustainable, Government of India steps in with some restructuring package. This creates moral hazard all round – discoms are disincentivized from efforts to reduce their losses and inefficiencies, and governments from ending the practice of under-provisioning and under-releasing. Over the last two decades, without acknowledging these critical financial accounting issues, different central governments have announced reform packages to restructure the loans. The results have been predictable.

The regulator allows the gencos to assume capex and opex loans. In contrast, the discoms are restricted to assuming only capex loans. The refundable advance that discoms take from consumers is assumed to be sufficient to meet their working capital requirements.

The opacity in accounting, distortions arising from state government guarantees, and inadequate regulatory oversight have allowed discoms to assume large working capital loans and both companies to divert their loans for purposes other than its intended use. It’s essential to put in place regulatory safeguards at both the electricity companies and at the financial institutions to control these bad practices.

It does not help that Discoms have access to a continuous and easily accessible supply of lightly regulated loans from institutions like Power Finance Corporation (PFC) and Rural Electrification Corporation (REC), and public sector banks, who do not monitor the deployment of funds and turn a blind eye towards diversion of the loan amount. The PFC and REC have emerged as the dominant lenders to the discoms and gencos, capturing over two-thirds of the total loans and most of the incremental debt. The state government guarantee and the high interest rates chargeable (lender’s market) make this a captive source of very attractive and easy lending for these power sector development finance institutions. Their inefficiencies too get hidden in the opaque accounting system.

The Discoms also transfer their dues from the government onward to the state-owned Gencos who too access these loans and pile up debts. In fact, this readily available loan spigot of PFC/REC becomes the sink for most inefficiencies in the sector.

Any meaningful attempt to take the power sector to a sustainable pathway should address these issues.

Financial management prescriptions

In light of all the above, in order to improve the financial management of the discoms in particular and the sector at large, the following are proposed:

a. The CERC should issue detailed guidelines to limit under-reporting of their aggregate revenue requirement by the discoms. A standardized ARR estimation format, which builds on the actual expenditures in the previous years, can form the basis for this.

b. The CERC should consolidate the information on ARR, regulatory awards, budget allocation, and budget estimates from all states every year, and make the information available on its website. All actual expenditures should also be collected head-wise at the end of the financial year.

c. The regulatory under-provisioning can be addressed by clear guidelines from CERC that standardise the method for calculation of estimates of consumption. Since the tariff filings are done in the third quarter of the financial year, it’ll not be possible to have the actuals of the previous year to calculate the estimate for the next year.

Instead, the consumption trends for each category from the audited annual accounts of previous years should form the basis for all consumption estimates for the regulatory award. One approach would be to take the estimates for the last five years and then use the compounded annual growth rate for the past five years for that category to calculate its consumption estimate for the ARR (the actuals of H1 and estimate of H2 with an increase based on CAGR over the past five years). This removes discretion from the exercise.

d. The Ministry of Power and CERC, and SERC, too should consider only the regulatory award and actual power consumption or expenditure, not the budget estimate, as the basis for determining the state’s power subsidy obligation. GoI may consider adding these clauses to the National Tariff policy.

e. Accordingly, for example, the state government should reimburse this amount to become eligible for the additional borrowing limit made available as per the Fifteenth Finance Commission recommendations. If the state govt does not provide the subsidy in advance, as is required, a mechanism to automatically bill at actual rates should kick in.

f. The state government should be made accountable for the difference between the subsidy requirement in the regulatory award and the actual budget release. If the budgetary allocation is lower than than the Tariff Order, SERCs should be directed to revise the tariffs suo-moto to make good the deficit. This may be made part of the National Tariff policy.

g. Further, it’s required to monitor how discoms are meeting this financing gap. This should be explained by the state government in its disclosure before the borrowing calendar is announced. If financed through any form of off-balance sheet borrowings, the same should be deducted from the state’s annual open market borrowing ceiling for the coming year.

h. The state government should reimburse the Discoms the full subsidy through regular monthly payments, at the beginning of the month. SERCs should be mandated to take up suo-moto tariff revision every quarter based on actual flow of subsidy, through a direction in the National Tariff policy. The subsidy account for each year should be closed by the end of the year. Non-payment of the monthly subsidy in advance should result in punitive actions like reduction in the state’s net borrowing ceiling.

i. As a corollary requirement, the discoms should prominently state in their audited annual accounts as to whether it has assumed any un-regulated debt on behalf of the state government. The certification in this regard should be the personal responsibility of the Director Finance and the CMD of utility company.

j. The financial institutions too should consider only the subsidy requirement estimated in the regulatory award (itself calculated as above). Any under-provisioned amount in the budget should be accounted as dues receivable from the state government. This information should be used in all credit assessment decisions of financial institutions.

k. Discom dues to Gencos should be subjected to the same terms as that to NTPC. All the dues should be cleared at the end of each financial year, and the same certified in the accounts of both Discom and Genco, on the personal responsibility of the Director Finance and the CMD of the company. In the alternative, the regulator should be compelled to increase tariff without any option.

On the debt management side, the ultimate objective should be to ensure that companies can raise institutional finance only for purposes allowed by the regulator and the debt raised is utilised for the intended purpose. This needs work on the management of both capex and opex loans.

a. PFC and REC should be regulated by the RBI on the same lines as private sector NBFCs. The end-use of loans made by PFC and REC should be closely monitored by the FIs and strong action taken in case of diversion. Presently, such monitoring of end-use of funds is practically non-existent. These institutions should also have prudentially rigorous state and state-sector exposure limits which are strictly enforced.

b. All capex loans given to the companies by financial institutions could be routed through a PFMS like system, whereby the money gets transferred directly from the lending agency to the supplier or contractor, upon certification by the borrower. The discom would operate the account and determine the releases, though any recipient should necessarily be the registered end-use supplier/contractor. To start with, this could be implemented for all REC and PFC loans, and then extended to all banks.

c. In case of opex loans, ensuring accountability on lending and end-use is more difficult. One option is to completely bar discoms from assuming opex loans and restrict gencos to only permissible opex loans. However, its implementation poses difficulties and it can also become too restrictive. A more feasible option in this regard is to permit borrowing for opex loans only upto the limits allowed by the SERCs and CERCs as per the tariff determination process. In any case, the lenders should have visibility into the opex commitments and cash flows of discoms by mandating that discoms should have only one account to transact on all operating receipts and expenditures. The opex lenders should have visibility into the trends in this account and the nature of opex commitments. This will allow lenders to make clear data-based decisions on the pricing and sanctions of their opex loans.

d. The RBI should issue a clear guidance on what kinds of opex debts can be financed by financial institutions, and what should not be financed (accumulated losses, under-provisions and under-releases etc).

The steps mentioned above should be complemented with accurate measurement of farm power to arrive at the correct assessment of AT&C losses.

Management theories and public systems administration

In a recent speech, N R Narayanamurthy, the co-founder of Infosys, suggested that recruitment to the Indian Administrative Service and Indian Police Service should be done from Business Schools rather than through UPSC examinations. 

“It is time for India to move from an administrative mindset to a management mindset. The administration is all about the status quo. On the other hand, management is all about vision and high aspiration. It’s about achieving the plausible impossible,” he said. According to the Infosys co-founder, the current system of competitive UPSC examinations can only produce civil servants trained in general administration. He recommended a management-based approach that focuses on vision, cost control, innovation, and rapid execution to cater to the changing demands of governance.

This comment comes even as Donald Trump has enlisted Elon Musk to lead the new Department of Government Efficiency in his administration to cut inefficiencies in government (substitute for removing extra staff and deregulating processes).

The underlying premise is that public bureaucracies are inefficient in terms of bloated staff and being mired in red tape. They could be improved by importing management practices taught at business schools and widely applied in the private sector. This is the latest reprise of a well-versed cliche with a long history. 

Narayanamurthy and Elon Musk stand on the same side in their deep ignorance of the nature of the activities of governments. Let me try to explain. 

Google AI search informs that the core principles of modern management consist of division of work, authority and responsibility, discipline, unity of command, unity of direction, subordination of individual interest, and remuneration. Management 101, as applied in the private sector, essentially consists of enhancing efficiencies and hastening decision-making through process re-engineering and system transformations, minimising costs primarily by shrinking staff, and improving execution by selecting the right people and aligning incentives among them. 

I can think of several insurmountable areas of divergence between these management theories and the challenges of actual policy implementation.

1. The core activity of government involves running large and dispersed institutional networks, to deliver statutory (Tahsildar, police, and regulatory offices) and non-statutory (schools, hospitals, anganwadis, municipal, welfare etc.) services, through officials recruited on a lifetime employment basis and who are deeply enmeshed in the local political economy. 

These core activities of governments across sectors have hardly changed over time. Neither have the methods and instruments available to them to implement and administer those activities. The problem has been the state’s failure to ensure the effective implementation of those basic sets of activities. This arises from state capability deficiencies and governance failings. 

There’s a belief, drawn from the private sector, that public sector problems can be addressed through innovations. But as I have blogged here, it’s misleading to assume that we can leapfrog fundamental state capability deficiencies and governance failings and innovate (or digitise or privatise or outsource) the way out, as is the practice in the private sector. Instead, there’s a need for boring and painstaking work of building capabilities and delivering good governance. Management 101 is unlikely to be of much value in this endeavour. 

2. Since governments are trustees of public interest and use public resources, strict procedural safeguards in public-sector decision-making processes are unavoidable. This is especially desirable in weak institutional systems like in India, which are prone to corruption and capture by vested interests. This places inherent limitations on the freedom, flexibility, and speed of decision-making. Besides, decision-making in a political system involves tight coordination between the bureaucratic and political executives. Such coordination happens through institutional processes and rules that further constrain decision-making freedom. Furthermore, important public sector decisions invariably require the mobilisation of electoral support, something which is outside the control of even the political representatives. 

These constraints are inherent to public systems across developed and developing countries and have remained so despite all the social, technological, and other changes over time. The private sector is not constrained by any of these factors. 

3. Management 101 extols the wisdom of allocation of roles and responsibilities and delegation of powers. However, in public systems, such delegation tends to backfire. The underlying premise is that people once appropriately empowered or authorised are both capable and incentivised enough to fulfil their responsibilities, failing which they can be replaced. These assumptions do not hold with public systems. Complicating matters, measurement or attribution is a challenge with their activities, thereby making the enforcement of accountability very difficult. 

Therefore, in public systems where capabilities are weak, most often it’s required to supplement managerial work allocation with direct monitoring of the frontline. At the least on critical tasks, leadership must cut through layers and engage directly with the frontline officials to both limit transmission losses in instructions and ensure reliable feedback. 

Management 101 would argue that such direct engagement will weaken the chain of command and distort incentives. And it does. But without it, it’s most likely that execution in public sector contexts will flounder. 

4. Traditional management theories can break down when faced with the management of government employees. For a start, organisational leaders cannot select their team (or even deputies) and must work with those available (or unavailable) in systems where incentive misalignment has uncontrollable contextual roots. There are deeply constraining limits to disciplining, let alone removing people. Even the standard role-allocation and authorisation-based management strategies are blunt in systems where meaningful performance accountability and its enforcement are, at best, extremely challenging and normally impossible. 

5. Management 101, following the pervasive trend in the private sector and public sector in developed countries, similarly advocates the virtues of outsourcing work to consultants and third-party service providers. In public systems, such parcelling out work is unlikely to be effective for multiple reasons - inherent difficulties in disaggregating core activities, limited or weak supply side for these services, and difficulties in monitoring the quality of service delivery. 

6. There’s very little that management theories can teach us in managing relationships with politicians, media, and civil society groups. The very wide variety in the features of these relationships and their interaction with the social and cultural norms of the contexts makes them ill-suited to templates or cookie-cutter approaches. They require good judgment that’s heavily influenced also by the specific context and circumstances. 

7. Finally, development contexts exhibit a very wide variance across people, tasks, and situations. This also means that management in such contexts will have to go beyond templates and theories and involve the exercise of judgment, one which emerges from experiential learning. In many respects, public sector management is a specialisation in itself.

Weekend reading links

1. Nigeria oil production fact of the day.

Authorities estimate that Nigeria still loses as much as 300,000 barrels of crude per day to theft, pipeline sabotage and other criminal activities, despite a recent improvement in the security outlook. For comparison, Nigeria produced 1.3mn barrels per day of crude in September, according to Opec data.

Is Shell Foundation the best illustration of green-washing? Wonder why nobody asks Shell Foundation to focus all its doing-good energies to clean up the mess left behind by it in Nigeria?

2. Europe's diversification away from Russian gas should count as a remarkable success of western solidarity in the aftermath of the invasion of Ukraine. It's a truly impressive achievement. 

3. London bus service facts of the day

The most recent data show that 86 people died or were badly injured in bus collisions in London between 10 December 2023 and 31 March 2024... Compared with other world cities like New York and Paris the capital’s buses rank in the top quartile for financial efficiency but the bottom quartile for collisions per kilometre... Could this have anything to do with the way that bus contracts prioritise speed... Drivers described the pressure of long shifts, few breaks and having to drive in sometimes blistering heat, all while being shouted at over a monitor by controllers who want them to make up the time to the next stop, and keep the right amount of distance between their bus and next. It’s not surprising that a third of bus drivers, before the pandemic, reported having had a “close call” from fatigue... Michael Liebreich, a former McKinsey consultant who sat on the TfL board for six years, believes that TfL’s contracting out model is “institutionally unsafe”. Bus drivers are under such pressure, he thinks, that some may break the speed limit and overtake cyclists dangerously.

4. A measure of the Trump tariffs risk exposure of various countries.

5. FT long read writes that Germany is experiencing a serious downturn.

Over the past three years, Europe’s largest economy has slowly but steadily sunk into crisis. The country has seen no meaningful quarterly real GDP growth since late 2021, and annual GDP is poised to shrink for the second year in a row. Industrial production, excluding construction, peaked in 2017 and is down 16 per cent since then. According to the latest available data, corporate investment declined in 12 of the past 20 quarters and is now at a level last seen during the early shock of the pandemic. Foreign direct investment is also down sharply... In its latest forecast, the IMF says that German GDP will expand by just 0.8 per cent next year. Of the world’s largest and richest economies, only Italy is expected to grow as slowly. In manufacturing, where Germany is Europe’s traditional powerhouse, things look especially bleak. Volkswagen has warned of plant closures on home turf for the first time in its history. The 212-year-old Thyssenkrupp, once a symbol of German industrial might, is bogged down in a boardroom battle over the future of its steel unit, with thousands of jobs at risk. The tyremaker Continental is seeking to spin off its struggling €20bn automotive business. In September, the 225-year-old family-owned shipyard Meyer Werft narrowly avoided bankruptcy with a €400mn government bailout...

Economists and business leaders blame Germany’s economic woes on high energy costs, high corporate taxes and high labour costs, as well as what they describe as excessive bureaucracy. These issues have been compounded by a shortage of skilled workers and the dire state of the country’s infrastructure after decades of under-investment. Meanwhile, according to the country’s statistical agency, nervous German consumers are now saving 11.1 per cent of their income, twice as much as their US peers — thus slowing down the economy even further... According to the VDA, Germany’s automotive industry association, vehicle production in Germany peaked in 2016 at 5.7mn cars; last year the number was 4.1mn, down by more than a quarter. Since 2018, 64,000 jobs have been lost in the industry — nearly 8 per cent of the country’s automotive workforce — and tens of thousands more are at risk.

Industrial production has been on a downward trend since 2017. 

6. Hungary has absorbed more than a quarter of Chinese investments into Europe. This includes massive inflows into the EV industry, making Hungary the staging post for Chinese manufacturers push into the European EV market. This would avoid the 45% tariffs imposed on EV imported directly from China. 

BYD chose Szeged in South Hungary and CATL is building a €7.3bn plant in the east of the country. But as President Trump assumes office, Viktor Orban is faced with the challenge of balancing his two friends - Xi Jinping and Donald Trump.

7. Tesla is not the only Trump trade!

Private prison stocks are breaking out. Shares in Geo Group and CoreCivic, two of the largest for-profit operators of prisons and immigrant detention centres in the US, have shot up 74 per cent and 55 per cent since Donald Trump’s election victory this month. History suggests Make America Great Again trades do not always do so great. In theory, the two companies stand to benefit greatly if Trump delivers on his promise to crack down on border security and illegal immigration. For his second term, the president-elect pledges to oversee the largest deportation operation in American history.

8. Important point about Trump's legacy

Trump is the most important person of the century so far precisely because his dissent from the trade consensus, so shocking at the time, has spread.

9. The importance of Nvidia

When regular companies report quarterly earnings, investors peruse them, and the shares move up, down or sideways. When those earnings come from Nvidia, however, the financial world tilts on its axis... At $3.6tn, the company is the world’s biggest by market capitalisation, and makes up 7 per cent of the S&P 500 index. Back in 2000 when Cisco briefly became the planet’s most valuable company, its weighting was less than 4 per cent of the S&P. As of Wednesday, Nvidia’s stock accounts for 24 per cent of the index’s gains this year... Bank of America analysts had calculated this week that investors were expecting a 1 per cent index move in response to Nvidia’s earnings — greater than the shift they expect from US inflation data later this month. The interconnectedness is real: as Huang quipped on Wednesday, “almost every company in the world seems to be involved in our supply chain”... its valuation is far behind the 130 times earnings Cisco enjoyed in 2000... Cisco’s earnings were 20 per cent of its sales before the dotcom crash; Nvidia’s are nearly 60 per cent.

10. SEBI cracks down on abuse of the SME trading platform by increasing the rigour of listing requirements.

Among those, the regulator has suggested increasing the application size from Rs 1 lakh to Rs 2 lakh. The shift is expected to bring relatively informed investors. It has also suggested increasing the minimum number of allottees to 200 from 50. This will help increase liquidity and also spread the risk. The issue size is proposed to be increased to Rs 10 crore. Further, the proportion of offers for sale is proposed to be restricted to 20 per cent of the issue size. Besides, it has been proposed that the utilisation of proceeds should be monitored for fresh issues above Rs 20 crore. Further, the regulator has suggested extending the disclosure requirements for related-party transactions under the Listing Obligations and Disclosure Requirements for companies above a certain threshold. An analysis by the regulator showed that 50 per cent of the top 50 listed SMEs have undertaken related-party transactions of over Rs 10 crore. Therefore, there is a greater need for scrutinising such transactions, which can be used to divert and misuse funds.

11. Demonetisation status update

The cash-to-GDP ratio fell from 11.9 per cent in FY16 to 8.5 per cent the following year, then rose to 14.2 per cent in FY 21 before falling to nearly 12 per cent in FY24... Digital payments have grown lightning fast, reaching Rs 36.59 trillion in FY24 from Rs 19.62 trillion in FY18, achieving a compound annual growth rate (CAGR) of about 44 per cent.

12. Power sector update

... cumulative debt of Rs 6.84 trillion and accumulated losses of Rs 6.46 trillion. These staggering numbers partly reflected the combined impact of a record demand in 2023-24, and a rising cost of expensive imported coal. The upshot was that 16 states —including large ones like Uttar Pradesh, Telangana, Maharashtra, and Punjab — saw financial losses jumping significantly.

13. Tatas inorganic growth into electronics contract manufacturing for Apple

Tata Electronics has agreed to buy a majority stake in Taiwanese contract manufacturer Pegatron's only iPhone plant in India... Tata will hold 60 per cent and run daily operations under the joint venture, while Pegatron will hold the rest and provide technical support... Tata already operates an iPhone assembly plant in the southern state of Karnataka, which it took over from Taiwan's Wistron last year. It is also building another in Hosur in Tamil Nadu, where it also has an iPhone component plant... The Tata-Pegatron plant, which has around 10,000 employees and makes 5 million iPhones annually, will be Tata's third iPhone factory in India.

14. Important insights about trends on private non-financial investments from Kavitha Rao of NIPFP by analysing the composition of income from income tax returns data of 408 non-financial corporates who make up the BSE 500 and form 94-95% of the net fixed assets of the index companies. She points to a reduced focus on capital formation in these companies.

The share of fixed assets has declined from 66 per cent to 59 per cent in the same period... the ratio of net fixed assets to financial assets... declined from 1.95 to 1.45 during the same period... the share of capital works in progress and intangibles as a percentage of net fixed assets has declined from 24 per cent to 14 per cent... Of the 408, considering 384 companies for which data is available for the entire period, 248 companies have reported an increase in the share of financial assets in total assets. These companies account for 62 per cent of the net fixed assets as of March 2024.

She proposes an explanation in terms of an emerging preference for long-term investments (or financial investments)

For non-financial companies, the share of long-term investments has increased from 61 per cent to 78 per cent, reflecting a reduced interest in long-term loans and advances. Apart from possible incentives provided by sharp increases in stock prices in the capital markets —an average growth of over 14 per cent in the index over the last 10 years and in more recent times, a growth of over 25 per cent — the above trends raise questions about the opportunities for gainful investment within the economy. A moderation in private investment in 2019, preceding Covid, suggests a medium-term moderation in demand in the economy — a simultaneous surge in stock markets would provide an attractive venue for investment of surpluses generated by profitable companies.

15. Nitin Desai writes that the most important economic liberalisation reform in India was the changes to the institutional arrangements in the financial markets that improved financial intermediation and boosted private investments.

A set of substantive changes were made that has transformed the financial market. The most impactful change was the opening of the banking and mutual funds sectors to private enterprises that has led to a substantial improvement in the quality of banking and investment services available to savers and investors. The simplification of share trading through dematerialisation greatly facilitated the widening of savers’ interest in shares. The shift of regulatory authority from the Controller of Capital Issues in the finance ministry to the Securities and Exchange Board of India (Sebi) is another important change. These, along with other changes in the government’s financial policies, have been major factors behind the average 6 per cent growth India has experienced over the past four decades. Private corporate growth was boosted by the liberalisation of the financial market, leading to a significant increase in new capital issues by private companies and a rise in the volume of assets in mutual funds. This opening of the finance market has continued with the emergence of non-banking finance companies that are more effective at reaching out to smaller borrowers, and lately, the emergence of fintech companies. The rapid expansion of digital infrastructure has also been critical to the broader liberalisation of the financial system. 

All this has led to a radical increase in private corporate investment relative to public sector investment, with the ratio between the two rising more than four-fold from 0.37 in 1990-91 to 1.63 in 2022-23. As for investment in manufacturing, in 2022-23, the private sector accounted for 71 per cent, small enterprises within the household sector for 22 per cent, and the public sector for only 7 per cent. One measure of the transformation because of the reform of the financial system is the sharp rise in the market valuation of shares as a percentage of gross domestic product (GDP), from an average of 37 per cent between 1991-92 and 2004-05 to an average of 85 per cent between 2005-06 and 2023-24. 

Addressing the low baseline of property tax revenues of Indian cities

The RBI has just published a report on municipal government finances. It lays bare one of the biggest concerns in India’s urban development agenda, one that I feel does not get its due attention. 

The total revenue receipts (RRs) of 232 municipal corporations studied was Rs 1.7 trillion (~$20 billion) in 2023-24 BE (compared to Rs 1.42 trillion in 2022-23). This amounts to 0.6% of GDP, the same as in 2019-20 and consistently the same throughout the period. Property tax revenues of these corporations was just Rs 32,450 Cr (~$3.9 billion)! In other words, property tax revenues formed just 0.12% of GDP (add the remaining municipalities, and it’ll come to no more than 0.15%)! Tax revenues made up 30% of total RRs, followed by revenue grants and transfers at 24.9%, and fees and user charges at 20.2%. 

The top 10 municipal corporations account for 58% of all RRs at Rs 98,508 Cr (less than $12 billion). Their property tax revenues were just Rs 20,595 Cr (~$2.5 bn). In other words, the 222 other corporations are estimated to raise just $1.4 billion as property tax in 2023-24. 

The RRs of MCs look really miniscule when compared to their state government RRs. It’s estimated to be 4% in 2023-24, up from 3.6% in 2022-23 but down from 4.2% in 2019-20. This conceals a wide variation, from the 30-35% range of Delhi to 14-16% range of Maharashtra to 6-8% range of Gujarat to the 1-3% range for most other states. While own tax revenues (OTR) made up 30% of total RRs, property taxes are the major source of OTR of the MCs, making more than 16% of revenue receipts and more than 60% of their OTR. It’s disturbing that these ratios have hardly changed over the years.

The grants from state and central governments amounted to just Rs 41,872 Cr (~$ 5 bn) and Rs 14,731 Cr (~$ 1.8 bn) respectively in 2022-23.

MCs in India have generally had low borrowings, rising from just Rs 2886 Cr in 2019-20 to an estimated Rs 13,364 Cr in 2023-24 BE, accounting for just 5.2% of total RRs. Municipal borrowings formed a negligible 0.05% of GDP for all MCs. Interest payments made up just Rs 5675 Cr in 2023-24BE. Municipal bonds have not taken off, with a few hundred crores issued each year and just Rs 4204 Cr outstanding on 31.03.2024. 

On the expenditure side, the revenue and capital spending combined of MCs rose from 1.2% of GDP in 2019-20 to 1.3% in 2023-24BE. The revenue expenditure as a share of GDP has hovered around 0.5% and that of capital expenditure has been 0.7-0.8%. 

In absolute terms, the total expenditure estimates of the 232 MCs for 2023-24BE is Rs 3.9 trillion (~$47 bn), of which revenue expenditure if Rs 1.5 trillion and capital is Rs 2.4 trillion (~$29 bn). The same figures for the top 10 MCs being Rs 1.9, Rs 0.8 and Rs 1.1 trillion respectively. The ratios have remained stable in recent years. 

In fact, the total fixed assets created and under creation during the year 2022-23 RE was just Rs 1.8 trillion (~$21.7 bn). 

One positive feature is that the ratio of revenue to capital expenditures was 0.63 for the MCs in 2023-24 (BE) as against 3.7 for the Centre and 3.0 for the States, reflecting better quality of expenditures. However, it must be noted that these expenditure data must account for the salaries of municipal employees which in atleast some states is borned by the state governments. 

Underlining the low level of expenditures, the per capita capital expenditure across states is very low. 

The report has a good summary of all the revenue sources of municipalities. 

A few observations based on these findings. 

1. India’s property tax revenues are shockingly low at a mere 0.12% of GDP. Increasing it significantly should become the biggest priority for urban local governments and for central and state governments in their urban agenda. There should be a policy focus to increase it from its current low baseline to about 1% of GDP over the next five years and 1.5% over the next ten years. Some times such targets can be useful. 

Stuck at such low levels, and being just 1-2% of the state government revenue receipts, municipal revenues have become a rounding error. The vast majority of municipalities have become extended parts of the state government. Therefore, apart from the big cities, there’s no system-wide incentive to focus on expansion of the tax base and collection. 

The 16th Finance Commission should consider devoting significant space in its recommendations on the issue of property tax and other own source revenues of municipalities and propose measures to expand their base. 

Increasing property tax revenues should become as much a priority as increasing tax to GDP revenues of the central government. 

2. In the pursuit to raise property tax revenues from its current abysmal baseline, the following could be done by governments at all three levels.

(a) Given the low baseline, urban local governments should prioritise basic good governance in their tax administration over applications of innovations and technologies. The administrative bandwidth of the MCs should be focused on the plumbing issues of constant updation of their assessment value registers, detection of un-assessed and more importantly under-assessed properties, and expansion of the base of vacant land tax, apart from improvements to collection efficiencies. 

In general, Municipal Commissioners should single-mindedly focus on expanding the tax base and ensuring collections. This should become the predominant review parameter of Commissioners by the state government Municipal Administration Departments. 

(b) State governments should focus on shifting towards capital value method of property tax assessments, removing exemptions given to various categories of properties, and significantly raising the property tax rates for the higher slabs. There should be clear 5-year glide paths for these revisions to achieve some benchmark tax revenue targets. 

(c) A major source of revenue loss and exemption for local governments arises from the state and central government properties. State government properties routinely default and state government provides exemptions to educational institutions, industries etc. The 16th Finance Commission could consider advising that all exemptions on property taxes given by state governments should be compensated from the Budget and all property tax dues on state government properties should be reimbursed promptly to local governments. 

In fact, central government could consider emulating the power sector where all central government support to state’s power utilities have been made contingent on prompt releases of subsidy and current charge dues of public facilities by state governments. Similarly, all central government scheme releases should be made contingent on reimbursement of all property tax dues to the local bodies. 

(d) While there are no reliable assessments on the property tax foregone by municipalities across the country on defence, railways, central government offices, and central Public Sector Units (PSUs), it’s certain to be a very large amount. Central government properties claim exemption under Article 285(1) which prohibits all taxation on them. However, as laid down by the Supreme Court (and acknowledged by central government here), this exemption does not cover fees or service charges or other charges levied by local governments. This provides a window to address the festering problem.

In any case, the provision of Article 285(1) is an anachronism and should be revisited by the central government. This is especially important since the local government bears considerable actual costs in providing connectivity and trunk utility access to these central government properties, besides the costs of the externalities arising from their presence. These costs are currently a subsidy from the local government to the central government. It’s therefore only appropriate that the central government either consider amending Article 285(1) or allow local governments to monetise and collect the costs incurred by them in some uniform manner as service charge, and provide for these amounts in the budget allocations of the respective central government departments. 

The 16th Finance Commission too should consider advising the central government in this regard in its recommendations. For a start, it could do great by just documenting and monetising the property tax revenues foregone by local governments due to the exemptions granted to central government entities. But a strong recommendation to consider an amendment to Article 285(1) might just be the impetus needed to stir up a vigorous and honest debate on this issue.

3. The focus on property tax revenues should be complemented with augmenting non-tax revenues. Instead of fixed rates, building permissions and other layout development and construction fees should be indexed to capital value, at least for buildings and properties beyond a certain value. 

In this regard, as I blogged here municipalities should consider the extensive use of land value capture to finance large investments. They should also consider amending the building regulations and manadating purchase of building rights as discussed here and here. 

Municipal revenue augmentation should focus on lower-hanging plumbing issues instead of being stuck on fancy ideas like municipal bonds. 

4. On the debt side, the low level of leverage of municipalities offers a great opportunity to raise revenues to supplement the limited own revenues. But in the prevailing conditions of poor municipal finance accounting and governance, such debt mobilisation should be done very carefully and under very tight end-use monitoring and utilisation by the state and central governments and banking regulator.

Instead of focussing all efforts on fancy ideas like Municipal Bonds (and municipal bonds are indeed fancy for all but a tiny few Corporations), central and state governments should instead prioritise greater access for municipal governments to bank loans. Like with infrastructure sector generally, contrary to the opinion makers fetish with capital mobilisation through the bond market, bank loans will remain the major source debt finance to cities for the foreseeable future. 

Accordingly, the policy focus should be on bank financing structures like project loans without recourse to municipal general funds, credit guarantees, loan syndication, pooled financing etc. The infrastructure DFIs like NIIF, IIFCL, and NaBFID have important roles to play in the promotion of bank financing through these channels. I have blogged multiple times on bank financing of infrastructure, see for instance this, this and this. 

Finally, I want to point to a few major methodological flaws with the report. For a report published by an institution like the RBI, its accounting of revenue and capital receipts is riddled with inaccuracies and inconsistencies. All transfers from state and central governments as grants are part of revenue receipts. This would include statutory transfers (Finance Commission and state government transfers), central government schemes, and all other grants. The RRs are different places in the report are inconsistent. It also does not contain information on the capital receipts of MCs. As a result, there’s the accounting gap between, for example, the total RR of Rs 1.7 trillion and total expenditure of Rs 3.9 trillion for 2023-24BE. This accounting gap would consist of loans and proceeds from sales of assets. The report does not explain this large gap.