## Sunday, October 29, 2006

### Bad news coming out of Afghanistan

I used to think that with the removal of the Taliban in Afghanistan, and with the change of heart on the part of General Musharraf, the situation in Afghanistan was getting dramatically better. But in the last two months, the picture seems to have worsened. It may be the case that significant bets have been placed on the scenario that NATO forces will fail, that Hamid Karzai will be gone and that the Taliban will be back in Afghanistan:

Lisa Curtis of the Heritage Foundation has a good backgrounder' on 26 October, titled Denying terrorists safe haven in Pakistan, which puts these issues together and tries to think about how this can play out in coming years.

And while I'm on this gloomy subject, I must point you to Noah Feldman, who has a marvellous article in The New York Times Magazine titled Islam, Terror and the Second Nuclear Age, which tries to think through nuclear proliferation in a world of suicide bombing.

## Thursday, October 26, 2006

### Estimating the liability of state governments

A new RBI committee report on liabilities of State governments is now on the RBI web site. It has some interesting new material. But they seem to have missed out on some pieces of literature survey. E.g. the committee does not seem to know about Bhardwaj & Dave, 2005, the best work so far on estimating the liabilities on account of pensions.

While I'm on this subject, I'd like to draw your attention to a summary table of the liabilities of the US government done by the GAO. It's a great table - I would be thrilled when we are able to do such a table for India - I wonder what is the agency in India which can become such a GAO? It's interesting to see that they fold their liabilities on account of civil servants health and pensions into the early part of the table. On a related note, there's a great article in The Washington Post by Matt Crenson titled GAO Chief Warns Economic Disaster Looms.

In the Indian case, in estimating the liabilities of the State, we'd have to add in the liabilities on account of the implicit put option that the State has out on all public sector finance companies. Susan Thomas and I did some measurement work on this question in 2000, with a paper titled Systemic fragility in Indian banking: Harnessing information from the equity market. In the following years, the idea of using this option theory approach has become much more mainstream (e.g. papers by Luc Laeven etc). In the years that followed, the moneyness of the put worked out fine, but that does not change our measurement of the contingent liability faced by the Indian State circa 2000. There is a new NBER paper by Gray, Merton and Bodie on a related theme.

Sometimes, it is felt that in the case of US-64, the political process reached a roughly 50-50 allocation of the pain, between citizens and taxpayers. Does this bode well for the future? I don't believe so. In the case of US-64, there was no legal liability on the hands of the government - even if UTI claimed the units were worth Rs.14 while they were really worth Rs.6, there was no legal obligation upon GOI to pay customers anything. In contrast, when it came to the assured return schemes, there was no space for GOI to dodge any of the liability that UTI had written down in black and white. In similar fashion, there is no space for GOI to avoid the liabilities of PSU banks and insurance companies. So in short, the fact that GOI did not go up to Rs.14 for US-64 does not change anything in terms of the contingent liability that GOI faces owing to other public sector finance companies.

## Tuesday, October 24, 2006

### An alternative fiscal rule?

As is well known, a debate has been developing in India on the issue of the FRBM targets. On one hand, fiscal purists argue that it is terribly important for India to achieve these meagre targets - which will probably deliver a consolidated deficit of centre and states of around 6% of GDP, the highest in the world. On the other hand, there is a legitimate criticism of the FRBM fiscal rule as not directly representing a stability condition for debt/GDP.

In a recent EPW article [pdf], Percy Mistry offers a fascinating way out of the conflict. He proposes a fiscal rule that directly fits economic logic: a 60% target for the debt/GDP ratio. Along with this, he proposes a rules-based trigger for ensuring this limit is met. Everytime the limit is breached, the government would sell assets (land or shares in PSUs) so as to get back to the 60% limit.

A fiscal stability condition phrased in terms of debt/GDP is clearly technically sound. It gives space for a bigger/lower fiscal deficit based on interest rates and GDP growth rates, thus permitting greater flexibility when compared with a rule phrased in terms of the fiscal deficit. Most importantly, a fiscal stability condition like this can be backed by a clear action which ensures that the limit on the debt/GDP will not be breached. This is unlike the existing situation, where it's possible to get FRBM rules being met but the debt/GDP can continue to rise.

## Monday, October 23, 2006

### An impending cartel of airlines?

I wrote an article in Business Standard about the issues on competition policy and airlines, titled Revel in competition. Here, I worry about the impending cartel, and argue that the hallmark of a well functioning market economy is creative destruction', where firms continually die and firms are continually born.

This falls in the context of a flurry of bad news for ailines in recent weeks. Is it bad to have an episode where an industry experiences a drop in profit? On 25 September, Business Standard had an editorial on the subject:

With the pioneer among low-cost carriers (LCC) wiping out half its net worth in a short 15 months, it is time to take a long hard look at an aviation sector that seems to have got caught in very rough weather. For, the country's largest (full-service) airline's chairman told his shareholders last week that, while Indian carriers had been expected to lose Rs 2,200 crore during the year, this figure would climb as more low-cost carriers entered the market. Since Naresh Goyal is presumably including in his numbers those of Air-India and the foreign operations of Indian Airlines, this translates to loss levels equalling 10-12 per cent of turnover. Any business with those numbers is going to have a short life.

In the weeks prior to announcing his disastrous results, Deccan Air's Captain GR Gopinath was citing the example of telecom to calm nervous investors: Airtel made huge losses in the initial years, he said, while building up a client base, and this was just part of doing business. Mr Gopinath is absolutely right, and he has been adding one new aircraft every month since he first opened his doors to passengers?and also deviating from the LCC model of sticking to just one kind of aircraft (which may partly explain his current troubles). In any case, there is one aspect he did not speak of: just three or four of the original band of 10-11 players in the telecom business are around today. Will there be similar consolidation in the aviation business?

It certainly seems that there is no hope of the sector making profits if fare discounting does not stop - and for that there has to be consolidation in the market so that the fight for market share is not ruinous, as indeed it has been in the US, where too every airline is now bankrupt. The alternative, as the civil aviation minister has threatened, is regulation: which might be considered the European model. The problem with that is it would preclude the rapid growth of the business that has been in evidence over the past year, recording an astonishing 40 per cent and more and taking aviation beyond the segment of business travellers to include those travelling at their own expense, having upgraded from rail.

Some analysts still believe in the LCC model, as opposed to the full-service model of Jet and Indian Airlines. But at today's prices, each extra mile flown is adding to losses. Just the fuel costs to fly a mid-sized jet from Delhi to Mumbai is around Rs 3.5 lakh: so, a low-cost carrier needs around 90 passengers to cover just this, and fuel costs are just 40 per cent of total costs. So, even a plane with 130-140 passengers on board is losing money when it takes off. So unless there's consolidation (as Jet tried by merging with Sahara before the deal fell apart) and fares go up, it's difficult to see how low-cost carriers can justify their existence at today's below-cost prices. If the losses that Mr Goyal warns of were to materialise, investors will need to take a call on whether they want to fund them. It is equally clear from the aborted Jet-Sahara deal that the chances of investors exiting at a reasonable price aren't great.

A front page article in Economic Times had a disturbing story by G. Ganapathy Subramaniam titled Govt on alert as airlines see red:

Civil aviation minister Praful Patel has convened a meeting of all airline chiefs amidst growing concern over huge losses -- estimated to be around Rs 2,200 crore for the current year -- incurred by the industry. The government now fears that the aviation boom -- where growth has ranged between 30% to 50% since early '06 -- may soon go bust due to overcapacity and mindless competition.

It is understood that the government may intervene and put on hold fresh approvals for airline companies till the proposed civil aviation policy is formulated. Established airlines may be asked to consider voluntary calibration of capacity addition to avoid overcapacity. This may mean a temporary go-slow on capacity addition for the airline sector. For consumers, however, this is not good news since slowing down capacity additions may force cheap fares to disappear from the market. Some airlines feel growth should not be at the cost of bottomline as this would force carriers to collapse like a pack of cards.

Mr Patel would discuss key issues with airline chiefs on Thursday evening, highly-placed official sources said. It is understood that head honchos of all airlines, including Jet Airways, Indian, Air-India, Air Deccan, Kingfisher, SpiceJet, GoAir, IndiGo and Paramount have been invited for the consultation.

The ministry does not want a repeat of the post-1991 boom & bust cycle in which a number of players, including East West, Damania and ModiLuft, went down under. While capacity grew rapidly and passengers benefited due to better services, the financials of these airlines could not simply hold on. The ministry wants the current boom to sustain and not turn into a bubble. "We have seen growth of up to 50% in some months but airlines are bleeding," an official said.

All major players, including Jet Airways, Air Deccan and SpiceJet which are listed companies, are in the red while Kingfisher and GoAir have not turned out any profits so far. Since most players in the industry are planning large expansion which could lead to further bleeding. The failed Jet-Sahara deal, valued at Rs 2,300 crore, has also led to concerns about the need for a better business climate.

Air Deccan recently announced a Rs 340-crore loss for the 15-month period ending June '06. SpiceJet, another rapidly-expanding carrier, lost Rs 41 crore in '05-06. Even market leader Jet Airways is suffering losses and its chairman Naresh Goyal expressed the fear that the industry would lose Rs 2,200 crore this year. The Centre for Asia Pacific Aviation (CAPA) has also predicted huge losses for airlines till next year. "The situation has to be considered with concern. Almost all airlines are making losses," said Ajay Singh, director, SpiceJet. The estimated losses for the industry works out to a worrisome Rs 6 crore per day.

Since new players like Kingfisher and GoAir are closely-held companies, it is not known how much they have lost during the current boom. Air-India, which is still in the black, recently announced that its net profit for '05-06 was only Rs 16.3 crore as compared to Rs 93.3 crore the previous year. The 83% decline in profits are due to increasing input costs, primarily hike in fuel prices and human resource. The other state-run carrier, Indian, is also said to be facing severe pressure due to high fuel prices and intense competition.

...

On 15 October 2006, Hindustan Times had a story High drama likely at airlines meet by Gaurav Choudhury:

The top brass of all of the country's airlines will meet in Mumbai on Monday to thrash out the broad contours of a common industry-wide turnaround strategy. Aviation analysts, however, expected that the meeting might see a division within the industry on the contentious issue of a price war unleashed by the new low-cost airlines (LCCs).

"The concept of a restriction on further cut in tariffs is not going to be acceptable to us as we work on the very model of low fares," Spicejet CEO Siddhanta Sharma told /Hindustan Times/.

There are expectations that full service airlines such as Jet Airways, Sahara and Indian (IA) might pitch for a partial restriction on predatory fare cuts. Globally, there is no evidence of airlines getting together to decide on matters of fare and tariffs.

The meeting is also expected to take up the issue of capacity addition, which is cited by many as the primary reason for the bleeding balance sheets of airlines, as they try to boost market share and brand value to maintain volumes that help long-term viability.

"Everybody is adding capacity in a market that is showing low yields. There has to be some rationality in capacity," said Sharma.

Significantly, Air India (AI) chairman and managing director V Thulasidas has convened the meeting.

The chief executive officer (CEO) of a budget airline, who did not wish to be identified, said that the idea behind AI convening the meeting is to ensure neutrality as it does not operate on domestic routes.

The invitation sent out by Thulasidas to all airline CEOs says that the meeting will address "a collaborative growth agenda for the airline industry in India."

The government has also expressed concern about the financial health of the domestic civil aviation industry . At a recent meeting with airline CEOs, Civil Aviation Minister Praful Patel indicated that the government would explore appropriate policy interventions to bring down the operational costs of airlines.

The meeting on Monday is also expected to take up the idea of "cash-flow pre-audit" of airlines, where the airlines submit an anticipated cash-flow of the ensuing three months.

The industry is not averse to the idea of submitting a quarterly business plan on a prospective basis. "No airline present in the meeting with the minister recently has objected to the proposal. It is in a way good for us as it gives us an opportunity to plan ahead", said Sharma.

The airline industry is not alone. We have plenty of problems on competition policy in other areas also. As an example, look at recent evidence on competition policy problems in banking, as seen in a story on 25 September 2006 in Business Standard titled RBI nod delay hits Vijaya expansion:

Vijaya Bank sees itself falling short of its target with regard to branch expansion. The bank had earlier targeted taking its total number of branches to 1,000 from 925 at present. Meanwhile, it may also declare interim dividend after half-yearly results this year.

Prakash P Mallya, chairman and managing director, told mediapersons, "We already have placed applications for 143 branches with the Reserve Bank of India (RBI). We had targeted crossing the 1,000-mark by the end of March 2007. But the approvals are pending with the RBI and as I see it, crossing the 1,000-mark may not be possible this year. However, we may cross the 950-mark by then." Mallya said the bank had also applied for branch licences in Hong Kong, China and Dubai.

...

As a consequence, we have this strange phenomenon of buyers queuing up to buy a bankrupt bank, so as to be able to grab it's licences. As Business Standard wrote in an edit on 12 September, titled Attractions of bankruptcy:

Over a dozen entities have lined up to take over the troubled United Western Bank. For the small, 70-year-old, Satara-based private sector bank, which has eaten up its capital, this is an extraordinary swayamvar. Commercial banks of all hues, non-banking finance companies, a co-operative bank, a stock broker and even a state government have thrown their hats in the ring. The list of suitors includes Canara Bank, Corporation Bank, Andhra Bank, Allahabad Bank, Uco Bank, Bank of Maharashtra and IDBI from the public sector; Federal Bank and ICICI Bank from the private sector; Standard Chartered and Citi among foreign banks; Indiabulls Financial Services; stock broker Pradeep Bhavnani; Saraswat Co-operative Bank and, last but not the least, the Maharashtra-HDFC-IDFC-Sicom combine. With so many takers eagerly waiting for the regulator's nod, the United Western stock which had plunged from Rs 22.60 on September 1, a day before the Reserve Bank of India (RBI) imposed the moratorium on the bank, to Rs 16.14 on September 4, bounced back to Rs 21 by September 8. Each new suitor has sent the stock price up by another notch.

The bank had reported a net loss of Rs 98.64 crore in 2004-05, and followed it up with another Rs 106.48 crore net loss in 2005-06. For the quarter ended June, its net loss was Rs 6.08 crore. Although United Western showed a capital adequacy ratio of 0.67 per cent last year, going by the RBI's internal estimate, it could now be minus 0.3 per cent. On July 31, the gross non-performing assets of the bank were 13.84 per cent (Rs 493 crore) and net NPAs 6.16 per cent (Rs 201 crore). This is against the peer group's average net NPA of 1.97 per cent.

What explains this rush to lap up a poor specimen of the banking industry? Indiabulls, a rapidly growing financial services company, wants to convert itself into a banking entity by merging United Western Bank with itself. It has valued the bank at Rs 300 crore. The Maharashtra government, on the other hand, is keen to retain the bank's Marathi ethos. It is willing to pump in Rs 210 crore to help the bank retain its regional identity and prevent a merger with bigger banks. For most of the serious bidders, the major attraction is the bank's branch network. It has 230 branches, 12 extension counters and 75 ATMs. The bulk of these branches are in the cash-rich belt of Mumbai-Thane-western Maharashtra. The location of the branches will help the prospective acquirer expand its agricultural portfolio and achieve priority sector lending targets by focusing on agriculture and small-scale industries.

Considering that fresh capital infusion of at least Rs 350 crore is required to revive the bank, the suitors are willing to spend close to Rs 1.5 crore for every single branch. Prima facie, this is too high a price as opening a new branch in semi-urban and rural pockets costs much less. So, if there is a scramble to take over the bank, it is because of the RBI's restrictive branch licensing policy. The banking regulator is never liberal in allowing foreign banks to expand their branches. Local players too are encouraged to focus on under-banked districts. The scarcity of branch licences has further been intensified with the regulator unwilling to allow some of the fast-growing banks that were involved in the demat scam to expand their branch network. For them as well as for the foreign banks, acquisition is the only route to grow their branch network, even if it means acquiring a bankrupt bank. That would suggest a problem with the branch licensing policy.

I guess the greatest fantasy of every airline CEO is that when he chooses to throw in the towel, a stream of prospective buyers will step forward to buy the failed airline for the value of the licence.

## Saturday, October 14, 2006

### India and NATO?

Ivo Daalder and James Goldgeier have an article titled Global NATO in Foreign Affairs, September/October 2006 where they point to a growing role for NATO in complex problems like Afghanistan which are far removed from the original cold-war role of NATO, in locations which are far removed from the North Atlantic. In this, they say:
Clearly, NATO is changing. But is it changing enough? If the point of the alliance is no longer territorial defense but bringing together countries with similar values and interests to combat global problems, then NATO no longer needs to have an exclusively transatlantic character. Other democratic countries share NATO's values and many common interests -- including Australia, Brazil, Japan, India, New Zealand, South Africa, and South Korea -- and all of them can greatly contribute to NATO's efforts by providing additional military forces or logistical support to respond to global threats and needs. NATO operations in the Balkans and Afghanistan have benefited greatly from contributions made by non-NATO members. Australia, Japan, and South Korea have sent substantial numbers of troops to Iraq in support of efforts by NATO members to stabilize the country. Together with other non-NATO democracies, such as Brazil, India, and South Africa, they have also contributed significantly to peacekeeping operations around the globe.
It's something to ponder. The nuclear deal, where India has been accepted into the nuclear club, was once considered unthinkable. Is there a symbiotic relationship between India and NATO?

## Tuesday, October 10, 2006

### The class of SEBI actions which can be appealed at the Securities Appellate Tribunal

Somasekhar Sundaresan has an article in Business Standard on an important development on the class of SEBI actions which can be appealed at SAT:
 The Securities Appellate Tribunal (SAT) has recently passed a landmark order having far-reaching consequences for appellate oversight in the capital markets. The order is about the sweep of appellate scrutiny over decisions and actions of the Securities and Exchange Board of India (Sebi). Disposing of an appeal by the National Securities Depository Ltd challenging a Sebi circular, SAT has ruled that its appellate jurisdiction covers all Sebi decisions. The term “order” has finally been dealt with exhaustively. Section 15T of the Act enables any person aggrieved by an “order” passed by the Sebi to appeal. Sebi strenuously argued that SAT could sit in judgment only over its quasi-judicial orders. Since the challenge before SAT related to a circular directing depositories not to charge demat account holders in a specific situation, Sebi argued that the circular was a policy decision, and at best a legislative action. It did not partake the characteristics of an appealable “order.” While the appeal itself was not upheld on merits, SAT has given an unexceptionable and well-reasoned judgment on what constitutes a Sebi “order.” SAT noted that the term “order” had been defined by law dictionaries to include “rules” and “regulations.” “The right of appeal is a statutory right and it has necessarily to be governed by the provisions of the statute which creates it,” SAT said, adding that it was “open to the legislature to restrict that right.” It noted that the Act did not entail any such restriction. Noting that Parliament had consciously conferred on Sebi executive, legislative and judicial/quasi-judicial powers, SAT said the provision for appeal under Section 15T of the Act did not limit that right only to orders passed by the board or its officers in exercise of judicial/quasi-judicial powers. “The language used in Section 15T is of widest amplitude and makes every order passed by the board appealable, whether it be in exercise of its administrative, legislative or judicial/quasi judicial powers,” SAT noted. It also pointed out where Parliament desired to limit the right of appeal under the Act, it had done so. For example, Section 15Z of the Act, which provides for an appeal from SAT to the Supreme Court, clearly restricts such appeals to only questions of law, and excludes questions of fact. Sebi circulars are but general orders that are passed in lieu of multiple specific orders. Merely because the order is in the form of a circular, thereby becoming a policy decision or legislation, the right of persons by such decisions or legislation to pursue a challenge under Section 15T of the Act would not get frustrated. SAT has reiterated the import of a constitutional Bench order of the Supreme Court to emphasise that even subordinate legislation in the form of regulations made under an Act of Parliament can be challenged before a tribunal if they are in conflict with the Act. The only restriction imposed by Parliament on such oversight by tribunals was on constitutional challenge to the very Act of Parliament that created the tribunal. This decision finally puts to rest, at least at the SAT level, one of the most common objections to appeals under the Act. Often “acknowledgement cards” given to enable initial public offerings to go ahead under the Sebi (Disclosure and Investor Protection) Guidelines and “letters of observations” given to acquirers making open offers under the Sebi (Substantial Acquisition of Shares and Takeovers) Regulations are challenged since they partake the character of an order. Such appeals are strenuously objected to on the ground that these documents can never constitute an appealable “order.” The true test would be to check whether the contents and import of a document create any binding obligation on any person. If such obligations cannot be ignored without incurring adverse consequences under the Act, regardless of purported disclaimers or the nomenclature of the document prescribing the obligations, an appealable order would come into being. The charm here is not in having a forum in SAT to challenge every decision of Sebi, but in the consciousness that the SAT’s decision would drill into the author of every such circular, policy decision or regulation, to ensure that the decision in question has to be reasonable, fair, non-arbitrary, and most importantly, in consonance with law.
Here is the full text of Section 15T of the SEBI Act:
15T. APPEAL TO THE SECURITIES APPELLATE TRIBUNAL.

(1) Save as provided in subsection (2), any person aggrieved, (a) by an order of the Board made, on and after the commencement of the Securities Laws (Second Amendment) Act, 1999, under this Act, or the rules or regulations made thereunder; or (b) by an order made by an adjudicating officer under this Act, may prefer an appeal to a Securities Appellate Tribunal having jurisdiction in the matter.

(2) No appeal shall lie to the Securities Appellate Tribunal from an order made (a) by the Board on and after the commencement of the Securities Laws (Second Amendment) Act, 1999; (b) by an adjudicating officer, with the consent of the parties.

(3) Every appeal under sub-section (1) shall be filed within a period of forty-five days from the date on which a copy of the order made by the Board or the adjudicating officer, as the case may be, is received by him and it shall be in such form and be accompanied by such fee as may be prescribed:

Provided that the Securities Appellate Tribunal may entertain an appeal after the expiry of the said period of forty-five days if it is satisfied that there was sufficient cause for not filing it within that period.

(4) On receipt of an appeal under sub-section (1), the Securities Appellate Tribunal may, after giving the parties to the appeal, an opportunity of being heard, pass such orders thereon as it thinks fit, confirming, modifying or setting aside the order appealed against.

(5) The Securities Appellate Tribunal shall send a copy of every order made by it to the Board, the parties to the appeal and to the concerned Adjudicating Officer.

(6) The appeal filed before the Securities Appellate Tribunal under sub-section (1) shall be dealt with by it as expeditiously as possible and endeavour shall be made by it to dispose of the appeal finally within six months from the date of receipt of the appeal.

## Sunday, October 08, 2006

### Why are elephants attacking people?

In 1997, I was at Mudumalai National Park which was teeming with elephants. The ground rules at the place when walking in the forest were: "If you see an elephant, run away". There were endless local stories about vicious elephants going after people. This wasn't just forest rangers engaging in risk-averse overkill to save themselves the trouble of stupid tourists who get hurt. Elephants attacking humans seemed to be regularly happening. Elephants kill vastly more people than tigers in India.

It always felt strange to me. When one read older stories in the forests, like the books by Jim Corbett, it didn't feel that the elephants were dangerous. And domesticated elephants are the loveliest, friendliest and charming animals. So why were wild elephants so dangerous?

I read a great article in New York Times today about this question. Their main argument is that elephants normally have a complex nurturing childhood in a social setting where they are brought up by a mother and other elders. When elephants grow up without such an upbringing, they are unsocialised. Too often, young elephants are exposed to violence by humans. This seems to set the stage for violence against humans. The NYT article has a fascinating interplay between the problems of young elephants in Africa who grow up as orphans surrounded by violence and young humans in Africa who also suffer the same. Both sides seem to grow up poorly socialised and violent.

It reminded me of the violent young people growing up in inner city Los Angeles, where many children do not have an opportunity to grow up with a nurturing mother and family. I know, this is anthropomorphisation run amuck. But the NYT article seems to suggest that elephants are highly intelligent and highly social, so the analogies with human behaviour actually have scientific merit.

### Understanding the amazing GDP growth

What an amazing period of high economic growth this has been in India! I have never seen such a set of 3 years (12 quarters) of GDP growth:

 Quarter GDP growth (%) Jun-Sep 2003 (Q2) 8.88 Sep-Dec 2003 (Q3) 11.33 Jan-Mar 2004 (Q4) 7.90 Apr-Jun 2004 (Q1) 7.87 Jun-Sep 2004 (Q2) 6.65 Sep-Dec 2004 (Q3) 6.97 Jan-Mar 2005 (Q4) 8.55 Apr-Jun 2005 (Q1) 8.54 Jun-Sep 2005 (Q2) 8.38 Sep-Dec 2005 (Q3) 7.48 Jan-Mar 2006 (Q4) 9.30 Apr-Jun 2006 (Q1) 8.90

In this period, the mean and median of growth is roughly 8.4%. Three years at 8.4% has never happened before. The interquartile range of these 12 numbers is just 1.11 percentage points. See details on the CMIE website.

On 4 October, I wrote a column in Business Standard titled Understanding the amazing GDP growth where I argue that a lot of what is going on is owing to procyclical (i.e. destabilising) macro policy. I emphasise the distinction between the long-term trend and the business cycle. What we have seen for three years is the high of the business cycle, exacerbated by poor policies, and should not be mistaken for an acceleration of Indian trend GDP growth.

Update: Andy Mukherjee writes about this and mentions Chetan Ahya on pro-cyclical fiscal policy. Ila Patnaik writes about pro-cyclical fiscal policy, advocating a fiscal stance which achieves FRBM targets in the down of the business cycle while achieving surpluses in goods years like these.

High GDP growth should give a happy citizenry and should make it possible to do economic reforms that hurt a few people and hurt in the short run. Tasting the fruits of success by doing rational things in economic policy should embolden politicians to go further with rational thinking on economic policy. But in India that has not been happening - we are very focused on subsidy programs and an interventionist State, and structural reforms are endangered in the present political climate. Mr. Chidambaram recently pleaded for more political space' for economic reforms, particularly in finance and pensions.

It sounds paradoxical - can you inflict pain when a lot of people are hurting, when asset prices are inducing a negative wealth effect? The answer seems to be Yes: India made more progress in the down part of the business cycle than it is making today.

## Saturday, October 07, 2006

### Analysts and future stock market returns - some Indian evidence

Ashok Desai has an interesting column titled Unsolicited exhortations in the latest Business World about the performance of stock market analysts in India:

...

I came across a recent book written by Rajesh Chakrabarti (The Financial Sector in India: Emerging Issues, Oxford). There he takes 2,190 recommendations on 310 companies by analysts from 25 firms and a newspaper between January 1998 and July 2003. Of them, 46 per cent were strong buy, 21 per cent weak buy and 4 per cent neutral/buy; thus, three-quarters were buy recommendations of one sort or another. Only 9 per cent were sell recommendations. My suspicion that analysts give biased recommendations is fulfilled. Chakra-barti does not use such a strong word; he just calls it broker optimism.

Who were the worst optimists? Some gave only a handful of recommendations. Amongst those who gave over a hundred recommendations, Motilal Oswal was the most optimistic, with 89 buy recommendations out of 106. Pioneer (83/107), LKP (158/191) and SMIFS (130/164) were not far behind.

Who were the least optimistic? Business Line (136/283) was the leader. But it was not a pessimist. Rather, it enjoyed sitting on the fence; 108 of its recommendations were neutral. Rooshnil was similar; although 24 of its 54 recommendations were strong buy, another 18 were neutral. HDFC Securities was a cautious optimist: 54 of its 82 recommendations were to buy, but they were all weak buy. Although 158 of LKP Securities' recommendations were to buy, they also made 25 recommendations to sell. Moneypore had the largest proportion of recommendations to sell - 19 out of 125.

But maybe the optimists were right? Chakrabarti shows that they were on the average. Over the 80 days after strong buy recommendations, the stocks outperformed sensex. Not by much; the average rise in their prices at the end of 80 days was about 3 per cent, against 1.5 per cent in sensex. But the difference was statistically significant. Similarly, over the 80 days after strong sell recommendations, the fall in the stocks was greater than in sensex. Sensex fell about 3 per cent, and the stocks about 4 per cent; but again, the difference was significant, though not always over the entire period of 80 days. It may be noted that sensex generally rose on the average after buy recommendations and fell after sell recommendations; the recommendations were thus partly based on a forecast of the market trend.

Did the analysts lead investors to buy or unload shares, influence the price and thereby fulfil the analysts' forecasts? To test whether they did, Chakrabarti compared the average price in the five days preceding the forecast to it in the five days after the forecast, and similarly for 20 days, and found a definite correspondence between the direction of the forecast and of the price change - more in the case of sell than of buy recommendations. Thus, herd behaviour of those investors who follow analysts helped the latter prove right.

## Friday, October 06, 2006

### Volatility of the Indian equity market

The mass media often has a conspiracy theory view of stock market volatility. E.g. see this piece by Sucheta Dalal. The empirical evidence supports more prosaic interpretations. I did a talk at ICRIER on the subject of Indian stock market volatility. The PDF file of the slideshow might interest you.

## Sunday, October 01, 2006

I have been a happy user of RSS from two points of view: as a consumer of (97) RSS feeds through bloglines.com, and as the writer of a blog. I think this is the biggest advance in the idea of the World Wide Web after NCSA Mosaic. In this post, I have a few ideas for the guys building this stuff.

The only feedreader that I have used is bloglines.com, so please pardon a lack of knowledge of what other authors of feedreaders have been upto.

Scanning an RSS feed is a great advance when compared with scanning a list of websites. It saves time for the user because the feedreader tracks what I have seen versus what I've not seen. This is efficient when compared with landing up (say) at a newspaper web page and diffing against the last memory of what was on that page in the human mind. So RSS was a step forward in protecting the human mind from information overload and reducing the amount of information processing that the user has to do. But this mentality needs to be carried further.

### The no news' mentality

In the good old days, before the web, there was net news. The framework of newsreading was one where one would subscribe to a newsgroup like sci.math.stat (think of it as an RSS feed) and scan whatever entries appeared there. In the 1990-1995 period, I used a great newsreader called `nn' (for "no news" (is good news)) which was focused on reducing the material that got shown to you, in order to save your time.

My main point in this post is that I think it is time to apply that same mentality in RSS feedreading. Users are inundated with information overload, with too many feeds. The name of the game now should be to reduce the amount of information that's given to the human brain for processing. I have a few tangible suggestions of this nature, in order of importance.

### 1. Kill files

With nn, it was possible to write down regular expressions describing the entries one did not want to read.

I think that would fit nicely in an RSS feedreader. It would be great if there was a convenient way to make a big table of regular expressions about the entries that I do not want to be shown. There would need to be two cases: apply this regex to this RSS feed (where I don't want to hear from one particular RSS feed on one particular subject) or apply this regex to all feeds (where I don't want to hear anything about this subject from any source).

### 2. Deletion of dupes

Many newspaper websites exhibit multiple RSS feeds. Many times a given story appears in multiple feeds. The feedreader should prune these.

In the event that the two entries are identical, an implementation based on hashing is easy. But ideally one needs to go beyond an identical match to some kind of approximate matching: please compare many a New York Times story which shows up on the International Herald Tribune RSS feed. I don't have a grip on exactly how to go about it. I believe some hashing algorithms are robust to small differences in the input - e.g. the stuff that's going into the problem of music recognition.

Update: I just noticed that bloglines has a new feature. Entries are normally blue, but if you've clicked on a particular entry, other occurences of this entry are shown in black. I'd say this is nice, but why do you want to burden my mind with having to even parse these dupes and remember to ignore them if the colour is black?

### 3. Search to RSS service

Google has embarked on something interesting by letting you take any search on news.google.com and view it as an RSS feed. That's nice, but they have not carried this through, because every time that URL is accessed, I get the full list of matches afresh. This throws up a lot of repetitive entries (which I've seen already) across multiple interactions with the feedreader within a day. What is needed is a way to keep track of me, know when I last ran the google search, remove the material which matched on that search, and pack up the new material that's come up for the search into RSS format. Maybe this is done if you use google's feedreader?

### 4. Flow control (a sanity check)

Sometimes, people put a megabyte file into an RSS file. This is a huge pain. The RSS feedreader needs to have a sanity check of blocking entries in an RSS file bigger than (say) 65,536 bytes.

### 5. Detecting and deleting defunct feeds

Quite a few entries in the long list of feeds that I think I am reading are actually defunct. Someone thought an RSS feed would be published at this URL but never quite followed up in producing the feed. The feedreader should provide a service where I am alerted to feeds where no content shows up in the last (say) 90 days. That would help me to delete feeds and endup with a smaller .opml file. It would also reduce the psychological discomfort that I suffer when I think that I'm reading 97 feeds.