The return of the devil…

I am writing after more than 2 years. This was because of various regulatory constraints due to my last job.

Let me cover the macro picture today.

 

It would be apt to term it as macro “puncture” of the economy. We are in complete disarray and the government in office is making every last minute efforts to avoid the ‘big’ crisis that we are heading towards.

Generally, I am a very optimistic person but considering the current state of affairs, I have turned completely pessimistic. The road towards the recovery is very patchy and without predicting or speculating the outcome of the next loksabha elections, I am of the firm opinion that the current self-made economy woes will be hitting us hard.

We are now almost fighting a losing battle. We are unable to control the inflation despite having tighter monetary policies running in for almost two years. I warned multiple times earlier that inflation will come back. These articles are dated November 4, 2008, December 23, 2010 and January 30, 2009 (Click here for details: 1^st article, 2^ndarticle and 3^rdarticle).

According to people from the opposite camp, the time has come for RBI to ease monetary policies. They argue that the core inflation is at its lowest levels. For novice like me and to keep it simple, the core inflation is something that excludes items like energy, food products etc. The people from opposite camp forget that the retail inflation, which forced RBI to take stringent monetary policies, has not moved by an inch. Retail inflation is something that hurts middle and poor class the most when food prices go up. Now with the depreciation of rupee, we are having a bigger risk of retail inflation (and also core inflation) moving up again at an unabated speed.

The approach to control the inflation was grossly wrong. The inflation was visible before the last loksabha elections. So in a way, we are in the inflationary economy for last more than 5 years now. The government before the elections committed that it will control the inflation in flat 100 days if it comes to the power. It could have been done, had the government focused on fiscal disciple. This is where the government went wrong. They tried to cure the inflation which was because of fiscal issues by using tighter monetary policies of the RBI. This has broken the backbone of the corporate world esp. with high debt. The fiscal deficit was because of mindless spending on various so-called social schemes. Most of these schemes are unproductive and marred with corruption. The real beneficiaries do not get the most of out of it and the society at large is deprived of the scared resources.

The second problem which emerged was because we were importing (mainly crude, gold-silver, consumer goods/electronic items etc.) more than we were exporting (IT services, agriculture products, manufactured products etc.). This led to the Current Account Deficit (commonly called CAD) which means shortage of dollars. Now we needed more dollars to fill the gap created by CAD. There were two options: either we increase our exports or we get dollars through investment. The first one is a long process and with current situation world-over, we were left with only second option of going behind investments. Here, to get investment we had two options again. One was through Foreign Direct Investment (FDI) which is a time consuming process and would have required many fundamental changes in the economy. So we went behind the second option which was getting dollars mainly through Foreign Institutional Investors (FIIs). In technical language, we were filling in the gap created by Current Account through Capital Account. The money from Capital Account is easy money and has a risk of fleeing away quickly. If FIIs start pulling out money, you are heading for a situation similar to what Asian countries witnessed in late 90s.

The best would have been control CAD and that too much before. Our forefathers have argued to spend based on our means. But we conveniently forgot and stretched ourselves too thin and too long. The government has shown some signs of the courage by initiating policy actions. But it seems to be a case of too late and too little with seemingly little political backup due to looming elections.

My heart says that we are going to come out of this mess but my mind disagrees. I only wish that post elections; we get a stable government at center which takes constructive and firm decision on economy front. Till then I sign off and wish happy investing to all of you.

Look forward to receiving your response/feedback/criticism/praise.

Regards,
Niteen S Dharmawat


IMPORTANT DISCLAIMER: Investment in equity shares has its own risks. Sincere efforts have been made to present the right investment perspective. The information contained herein is based on analysis and up on sources that I consider reliable. I, however, do not vouch for the accuracy or the completeness thereof. This material is for personal information and I am not responsible for any loss incurred based upon it & take no responsibility whatsoever for any financial profits or loss which may arise from the recommendations above. I sincerely request you to do your homework before you take any position whatsoever. I, my relatives or friends may have position in this company.