INVESTMENT PERSPECTIVE

By J Mulraj

Jul 17-23, 2022

Structural changes long overdue, to stay in the global race

A replay of the 1966 movie, ‘The Russians are coming’ may well be titled ‘The Recessions are Coming’, though partly due to the Russians. On July 28, the US Bureau of Economic Analysis will release its advance forecast of US GDP growth the second quarter, ended Jun 22. It is likely that there would be a negative growth in Q2, too, after the negative growth of Q1. ( This article though, seeks to explain how, using some strange logic, even if Q2 is negative, it still may not be a recession).

Several countries can be expected to go into a recession, either in H2 22 or H1 23, as is being signalled by inverted yield curves. In its Jul 26-27 meeting, the US Fed will raise interest rates, likely by another 0.75%, seeking to tame inflation. A 75 bips hike in interest rates would mean a $ 225b. higher interest rate burden on America’s national debt, estimated at $ 30 t. The global debt stands at $ 305 trillion!

Other central banks will follow the Fed in a higher interest rate cycle. Japan, which did not follow, is suffering from stagnation.

Inflation needs to be tamed, for it creates a vicious cycle of higher wage demands, which lead to further inflation. We are witnessing strikes of workers demanding higher wages to compensate for inflation, leading to shut downs of airports (Schipoll, Heathrow), and public protests in Sri Lanka, Pakistan, Belgium, Britain, Equador and other countries. The World Bank is worried about the high debt levels of Emerging Markets, which account for 40% of global GDP, and increasing interest rates will make several of them follow Sri Lanka into bankruptcy. The top 5 at risk, as per this article are El Salvador, Ghana, Tunisia, Pakistan and Egypt.

The risk of a recession also extends to several EU countries, especially Germany, which are dependent on Russian oil/gas whose continuing and adequate delivery is in question. The Nord Stream 1 pipeline, which was shut for repairs for 10 days, thankfully resumed on July 21, but with a reduced flow.

Several EU countries have not been able to build up gas reserves in time for winter, when it is most needed. The EU recently came up with a proposal ‘Save Gas for a Safe Winter’, which seeks to voluntarily reduce gas usage by 15% to save more gas. But should circumstances warrant it, EU HQ may get powers to mandatorily ensure cuts.   Will this  be acceptable to all? Poland, e.g. has prudently built its reserves to 98% of its requirement, whilst Hungary is only 47%. So why would Poland, who has planned its affairs better, agree to granting EU more powers to impose a mandatory cut on its citizens, in order to save those, like Hungary, who haven’t? Hungary has sent its foreign minister to Russia asking for more gas.

In such an environment, India, too, will face challenges. These include the high import bill on crude oil, widening the current account deficit and weakening the currency. To support the INR, the RBI has drawn down its FX reserves, which will be needed to repay foreign debt, a chunk of which is due within a year.

India needs to do structural reforms swiftly, most of which have already been discussed but bear repeating until the message gets through. As this columnist has written much earlier, in Delhi the Government has three blocks – North Block, South Block and Mental Block. So good ideas take time to get through. We must:

Improve the investigating agencies and make them independent of politics: How can a country not learn from its errors, and continue to allow criminals to loot and scoot? There are several well known examples. The most recent is the NSE scam, where SEBI has just passed an order calling it a fraud, and fining various entities a total of Rs 11 crores (apparently a pittance compared to the scam). It is likely that a few of the accused have also fled.

There are several other scamsters, including NSEL, Rose Valley, Sahara, where the investigation has been either shoddy or compromised, and victims have received little or no redress. The Government does not care.

Where do investors place their trust if important institutions like NSE, banks, the investigating agencies etc. become unreliable?

It is important to strengthen these institutions,  make the investigating agencies answerable, dependable and independent (we are witnessing police chiefs being jailed for their role in illegal activities!). And, not least, preventing scamsters from leaving the country (surely that is not rocket science!).

Strengthen the judiciary:  Judicial delays make a mockery of justice and India probably has the longest. ‘Resolution of disputes’ is a criteria in which India scores near the bottom in the Ease of Doing Business Ranking. There are several, well analysed, reasons for the inordinate delays, and lots of well thought out suggestions. The only explanation for not doing something about it is, perhaps, the third block.

Perhaps one of the main reasons is that several law makers have got a criminal case pending against them. As per current rules, they are not debarred from contesting until their appeals are finally disposed off. This gives them an incentive to prolong judicial cases and not to find ways to shorten it. So, perhaps, if this Government, if it truly desires to see India grow, were to pass a law under which MPs/MLAs would be debarred if convicted twice (and not indefinitely), it would alleviate the problem. Because then they would be eager to get speedy resolution, to be able to contest elections again.

Modify election laws: It is the electorate, and not the elected, from which power flows. Alas, the elected have subverted the system and a change is necessary. The ease with which the elected are able to cross party lines, and topple elected Governments, thus defying the electoral mandate given to them, all for lucre, is distressing. Why is it that each MLA or MP command, and get, huge amounts, in cash, the figures of which are openly discussed on TV, without them ever being questioned about it? A West Bengal politician was raided recently and caught with Rs 20 crores in cash. This means that the Union Government is either unable or unwilling to penalise them severely, as it should (perhaps an IOU for subsequent use in the topsy turvy world of politics) and that the demonetisation of high value notes was a colossal error (then admit it).

But, unless we reform our investigative agencies, our judicial systems, and our election laws, and unless we seriously and honestly crack down on crimes and punish wrong doers, the India story will remain one of great potential and disappointing delivery.

Last week the sensex rallied 2311 points to close at 56072.

But, in view of the coming recessions, any rally should be an opportunity to lighten, and to research stocks to buy when the recession provides better valuations.

Picture Source: https://www.nytimes.com/2019/07/28/business/economy/economy-recession.html