The Delusional Optimism of India’s Real Estate Companies


Daniel Kahneman, the Nobel Prize winning psychologist, in his brilliant book, Thinking, Fast and Slow, writes: “One of the benefits of an optimistic temperament is that it encourages persistence in the face of obstacles…[The] confidence [of the entrepreneurs] in their future success sustains a positive mood that helps them obtain resources from others, raise the morale of their employees, and enhance their prospects of prevailing. When action is needed, optimism, even of the mildly delusional variety, may be a good thing.”

This optimism of an extreme delusional variety has been visible among India’s real estate entrepreneurs. For the last five to six years, they have been saying that a recovery in the sector is just around the corner, and the fact that it hasn’t happened yet is because the Reserve Bank of India (RBI) refuses to play ball by cutting interest rates, adequately.
Rajeev Talwar, the Chief Executive of DLF, recently told the Business Standard: “We are in a new economic cycle… When demand picks up, it will take everybody by surprise.”

Niranjan Hiranandani, chairman of Hiranandani group, told the same newspaper: “Any depression will not last long.”

Isn’t a period of five to six years a long enough time?

A report by Crisil Research points out that the absorption of new homes (i.e. sales) in in top 10 cities (Ahmedabad, Bengaluru, Chandigarh, Chennai, Hyderabad, Kochi, Kolkata, Mumbai Metropolitan Region (MMR), National Capital Region (NCR) and Pune) has fallen by 8 per cent per year on an average in the last six years.

What does this mean? It means that if real estate builders sold 100 new homes in India’s top 10 cities in 2010, in 2016, they managed to sell only 63. In absolute terms, this is a fall of 37 per cent. And Mr Hiranandani is talking about any depression not lasting long. I guess six years is a long enough time.

In fact, things haven’t looked good even in the last three months. As per real estate research firm, PropEquity, housing sales stood at 22,699 units during the period July to September 2017, in eight key cities. The sales had stood at 34,809 units during the period April to June 2017. This means a collapse of close to 35 per cent in a period of just three months.

The eight key cities are Gurgaon, Noida, Mumbai, Kolkata, Pune, Hyderabad, Bengaluru and Chennai.

What are the reasons for this collapse? As I have been saying over and over again, real estate prices in India, are beyond what most people can afford and unless this anomaly is corrected, sales will continue to remain sluggish.

Over and above this, real estate companies have really worked hard to break whatever little trust the prospective buyers had in them, by not delivering homes on time.

Further, investors are no longer the driving force in the market, given the sluggish returns in the sector. For a real estate investment to be a viable proposition, after taking in the costs and the risk involved, it should be generating a return of at least 10 per cent per year. And this hasn’t happened for a while.

The overall economy continues to remain sluggish. Take a look at Figure 1, which plots the growth of the non-government part of the GDP, which forms around 90 per cent of the Indian economy.

non govt GDP growth

Source: Centre for Monitoring Indian Economy.

The growth of the non-government part of the economy has fallen from well over 9 per cent to a little over 4 per cent in a period of 18 months between January 2016 and June 2017. This also means that incomes are not going up at the same pace as they were in the past. And given this, it is but natural people are going slow on buying a new home, which is the biggest financial commitment that they make in their lives. During a time when the rental yield (annual rent divided by market price of a home) is around 2 per cent, this makes immense financial sense.

The fear of job losses in the IT industry has also had an impact. The state of the IT industry has a major impact on real estate sales in cities like Pune, Hyderabad and Bengaluru.

In this scenario, the real estate builders have been offering discounts in order to get prospective buyers interested. As Crisil Research points out: “Pressure on residential real estate prices across top 10 cities was clearly visible during H1 2017 [January to June 2017]. While several developers offered upfront per square feet discounts, a few large developers bundled financing schemes and reduced interest schemes to offer ‘all inclusive house prices’. Home buyers, in many cases, were also offered indirect benefits such as reduced floor charges or premium location charges. Taking into account these aspects, the effective price correction was 5-10%.”

But even this 5-10 per cent correction isn’t enough to pull buyers in. This basically means that home prices continue to remain expensive. As I have often said in the past, home sales will revive as and when home prices become affordable, which is currently not the case. For home prices to become affordable builders need to cut prices from current levels. Given that a majority of them are in no mood to do so, it basically means that home sales will remain sluggish in the years to come.

Crisil Research expects that “in the next 12-18 months, prices are likely to remain stable at current levels on account of weak demand and moderation in new supply additions.” This basically means that instead of a price correction, the real estate sector in India is seeing a time correction. If prices remain stable over the years, they lose value once adjusted for inflation and in the process, they might become affordable.
Keep watching this space.

The article originally appeared on Equitymaster on October 16, 2017.


25 Things PM Modi Did Not Tell You About the Indian Economy

narendra modi

The Prime Minister, Shri Narendra Modi addressing the Nation on the occasion of 71st Independence Day from the ramparts of Red Fort, in Delhi on August 15, 2017.

In a speech last week, Prime Minister Narendra Modi, offered several data points to tell his fellow countrymen, that all is well with the Indian economy. And those who didn’t think so were essentially being needlessly pessimistic, he suggested.

Now only if he had bothered to look at data points beyond those he chose to offer, a totally different situation would have emerged. In this piece, I offer many data points to show that all is not well with the Indian economy.

1) Let’s start with the loans disbursed by banks during the course of this year. Let’s look at non-food credit to start with. These are the loans given out by banks after we have adjusted for food credit or loans given to the Food Corporation of India and other state procurement agencies, for buying rice and wheat directly from farmers at the minimum support price (MSP) for the public distribution system. Take a look at Figure 1.

Figure 1: 

The Figure 1 clearly shows that the total amount of non-food credit given by banks during the course of this year has been in negative territory. This basically means that on the whole banks haven’t given a single rupee of a loan. The situation is the worse it has been in five years. Non-food credit consists of loans given to agriculture, industry, services and retail sectors, respectively.

Let’s take a look at each of these sectors.

2) Let’s take a look at Figure 2, which plots the loans given by banks to agriculture and allied activities.

Figure 2: 

Loans given to agriculture and allied activities are in negative territory during the course of this year. Again, this basically means that on the whole banks haven’t given a single rupee of a loan to agriculture. In technical terms, their loan book to agriculture has shrunk. Is this possibly because of farm loans being waived off by state governments, that only time will tell.

3) Let’s take a look at Figure 3, which plots the loans given banks to industry.

Figure 3: 

Figure 3 makes it clear that loans given to industry by banks continue to shrink. This isn’t surprising given the huge amount of bad loans accumulated by banks on lending to industry. Banks still don’t trust the industry.

4) Let’s take a look at Figure 4, which plots the loans given by banks to the services sector.

Figure 4: 

This comes in as a major surprise, loans given to services have shrunk majorly during this financial year. Services constitute half of the Indian economy. If the firms operating in this sector are not interested in borrowing, then how can the Indian economy possibly be doing well?

5) Let’s take a look at Figure 5, which plots the retail loans given by banks during this financial year.

Figure 5: 

Retail loans are the only loans which have been in positive territory during the course of this year. Nevertheless, they have been more or less at the same level over the last few years.

This, despite the fact that interest rates have come down dramatically. If people are not willing to borrow more even at lower interest rates, how can things be alright with the Indian economy, is a question well worth asking.

Sadly, Prime Minister Modi, did not include any of these data points in his speech and presentation.

6) The latest Consumer Confidence Survey of the Reserve Bank of India (RBI) for September 2017, states: “Households’ current perceptions on the general economic situation remained in the pessimistic zone for four successive quarters, with the outlook worsening… The employment situation has been the biggest cause of worry for respondents, with sentiment plunging further into the pessimistic zone; the outlook on employment has also weakened.”

7) Take a look at Figure 6, which plots the cement production over the years.

Figure 6: 

Cement production is down this year, in comparison to the previous year. This tells us clearly that the construction and the real estate industry continue to be in trouble. These industries are huge employers of people, especially those who have low-skills.

8) The commissioning of new projects has slowed down. As Centre for Monitoring Indian Economy, which tracks this data, points out: “Projects worth Rs 512 billion were commissioned during the quarter ended September 2017. In the coming weeks this estimate is expected to rise. It could reach about Rs 700 billion. Even if this happens, this would be the lowest commissioning of projects during the Modi government’s tenure so far.” 

9) There has been a fall in new investment proposals. As Centre for Monitoring Indian Economy, which tracks this data, points out: “Projects worth Rs.845 billion were proposed during the quarter ended September 2017. This is the lowest level of intentions to invest seen in a quarter during the tenure of the Modi government.”

10) There has been a huge fall in the profit of companies. As Centre for Monitoring Indian Economy points out: “We infer this and other related nuggets of information from the financial statements of 1,127 listed companies… Profit before taxes of these companies fell by 27.9 per cent over their level a year ago.”

11) Take a look at Figure 7, which plots the trade deficit or the difference between exports and imports.

Figure 7: 

The trade deficit has jumped up majorly during the course of this financial year. This as I have explained beforehas primarily been on account of a jump in non-oil non gold non silver imports, in the aftermath of demonetisation. The unseen negative effects of demonetisation continue to impact the economy.

12) The growth in private consumption expenditure is at a six-quarter low. As the RBI Monetary Policy Statement pointed out: “Of the constituents of aggregate demand, growth in private consumption expenditure was at a six-quarter low in Q1 of 2017-18 [April to June 2017].”

13) As the RBI Monetary Policy Statement further pointed out: “India’s export growth continued to be lower than that of other emerging economies such as Brazil, Indonesia, South Korea, Turkey and Vietnam, some of which have benefited from the global commodity price rebound.”

14) Take a look at Figure 8 which plots the investment to GDP ratio.

Figure 8: 

The investment to GDP ratio has improved a little in the period of three months ending June 2017, but it continues to remain very low. As the RBI Monetary Policy Statement pointed out: “The implementation of the GST so far also appears to have had an adverse impact, rendering prospects for the manufacturing sector uncertain in the short term. This may further delay the revival of investment activity, which is already hampered by stressed balance sheets of banks and corporates.”

15) Now let’s take a look at Figure 9, which plots the growth of the non-government part of the GDP.

Figure 9: 

Figure 9 basically plots the growth of the non-government part of the economy, which typically constitutes 87 to 92 per cent of the economy. The growth of the non-government part of the economy has fallen to around a little over 4 per cent. This extremely important detail did not find a place anywhere in Prime Minister Modi’s speech.

If the non-government part of the economy is growing at such a slow rate, how will jobs for the one million youth entering the workforce every month, ever be created.

16) The situation becomes even more worrisome if we look at Figure 10.

Figure 10: 

As is clear from Figure 10, the growth rate of industry in general and manufacturing and construction in particular is at a five-year low. The manufacturing part of industry grew at 1.17 per cent during April to June 2017, whereas construction grew by 2 per cent during the same period.

This is a big reason to worry simply because manufacturing and construction have the potential to create new jobs. An estimate made by Crisil Research suggests that in construction 12 workers are typically required to create Rs 10 lakh worth of output. In case of manufacturing it is seven workers.

17) Take a look at Figure 11, which basically shows that labour intensive sectors have slowed down between January to June 2017.

Figure 11: 

As Crisil Research points out in a recent research note: “In the past two quarters, three sectors have grown much faster than GDP: 1) Trade, hotels, transport, communication and services related to broadcasting; 2) Electricity, gas, water supply and other utilities, and 3) Public administration, defence and other services. Of these, only the trade, hotels and restaurants sub-sector is labour intensive, requiring about 6 workers to produce Rs 10 lakh worth of output. But the share of this sub-sector in total output is low at ~12%. In contrast, a fast growing sector like public administration, defence and other personal services, despite having a larger share in output, has low labour intensity of only 3. And sectors with higher labour intensity – such as construction (12) and manufacturing (7) – have been undershooting overall GDP growth.”

It needs to be said here that public administration, defence and other personal services sector is basically a proxy for the government. And the government has stopped creating jobs.

18) Take a look at Figure 12.

Figure 12: 

Figure 12 plots the index of industrial production (IIP), a measure of the industrial activity in the country. It also plots manufacturing, which forms more than three-fourths of IIP. The growth of both these measures has been in low single digits for a while now and is clearly a reason to worry.

19) Take a look at Figure 13, which basically plots the consumption of petroleum products, over the years.

Figure 13: 

The consumption of petroleum products has more or less been flat in comparison to the last financial year. This is another good indicator of slowing economic growth.

20) Take a look at Figure 14, which plots the sale of commercial vehicles during the course of this financial year.

Figure 14: 

Commercial vehicle sales, which are a very good indicator of a pick-up in the industrial part of the economy. Commercial vehicle sales this year were lower than they were last year.

21) Take a look at Figure 15. It plots the fiscal deficit ratio of the government over the years.

Figure 15: 

As can be seen from Figure 15, in the first five months of the current financial year, 96 per cent of the annual fiscal deficit has already been crossed. Fiscal deficit is the difference between what a government earns and what it spends. Why is the fiscal deficit during the first five months of the year at such a high level? The answer lies in the fact that the economic growth is slowing down and the government is trying to drive up growth, by spending more.

22) Take a look at Figure 16.

Figure 16: 

It tells us that the increase in government expenditure has been a greater part of the increase in GDP over the last two years. For the period April to June 2015, the increase in government expenditure made up for around 1.3 per cent of the increase in GDP during that period. Since then it has jumped to 39.2 per cent between January to March 2017 and 34.1 per cent between April to June 2017.

So, the government is spending more and more in order to drive economic growth. This again shows that the government in its actions does believe that the economic growth is slowing down, but PM Modi won’t say so in his public posturing.

23) Take a look at Figure 17, it plots the bad loans ratio of public sector banks.

Figure 17: 

Figure 17, basically plots the gross non-performing advances ratio or simply put. the bad loans ratio of public sector banks, over the years. Bad loans are essentially loans in which the repayment from a borrower has been due for 90 days or more. There has been a huge jump in bad loans of public sector banks over the last two years.

On October 7, the Reserve Bank of India imposed restrictions on the banking activities of Oriental Bank of Commerce (OBC). OBC was the seventh public sector bank on which restrictions have been placed. Now, one-third of public sector banks have restrictions in place. And all is well with the Indian economy?

24) Take a look at Table 1.

Table 1:

Gross NPAs (in Rs Crore) Gross Advances Gross non-performing advances ratio
Indian Overseas Bank 35,098 1,40,459 24.99%
IDBI Ltd. 44,753 1,90,826 23.45%
Central Bank of India 27,251 1,39,399 19.55%
UCO Bank 22,541 1,19,724 18.83%
Bank of Maharashtra 17,189 95,515 18.00%
Dena Bank 12,619 72,575 17.39%
United Bank of India 10,952 66,139 16.56%
Oriental Bank of Commerce 22,859 1,57,706 14.49%
Bank of India 52,045 3,66,482 14.20%
Allahabad Bank 20,688 1,50,753 13.72%
Punjab National Bank 55,370 4,19,493 13.20%
Andhra Bank 17,670 1,36,846 12.91%
Corporation Bank 17,045 1,40,357 12.14%
Union Bank of India 33,712 2,86,467 11.77%
Bank of Baroda 42,719 3,83,259 11.15%
Punjab & Sind Bank 6,298 58335 10.80%
Canara Bank 34,202 3,42,009 10.00%

Source: Author calculations on Indian Banks’ Association data.(The table does not include the associate banks of the State Bank of India which were merged into it).

What does Table 1 tell us? It tells us that many public sector banks are in a big mess on the bad loans front. Banks like Indian Overseas Bank and IDBI with bad loans ratio of 24.99 per cent and 23.45 per cent, will pull down the performance of any big bank they are merged with.

Even the big banks like Union Bank of India, Bank of Baroda, Punjab National Bank and Canara Bank, have a bad loans ratio of 10 per cent or more. If and when weaker banks are merged with these banks, their performance will only deteriorate. The question to ask is, why are many of these banks still being allowed to operate?

25) The capacity utilisation of 805 manufacturing companies tracked by the RBI OBICUS survey fell to 71.2 per cent during the period April to June 2017. This is the lowest in seven quarters.

I guess I will stop at this. There are many other economic indicators which can be used to point out that all is not well with the Indian economy. (For more details on how PM Modi cherry picked data to build a positive economic narrative, you can click here and here). Of course, this is not to say that there are no positive economic indicators right now. But the negative indicators far outnumber the positive ones.

As I keep saying, the first step towards solving a problem is recognising that it exists. But that doesn’t seem to be the case with PM Modi. In his world, all is well.

The column originally appeared on Equitymaster on October 9, 2017.

Robots Don’t Take Toilet Breaks

One of the points I often make is about one million Indians entering the workforce every month. That makes it 12 million or 1.2 crore youth entering the workforce every year.

That is our ‘so called’ demographic dividend.

And that is half the population of Australia.

And that is more than 2.5 times the population of New Zealand.

The question is where are the jobs for these youth?

The former RBI governor Raghuram Rajan made a similar point recently, when he said: “Remember that we have what we call the population dividend. A million new people entering the labour force every month… If we don’t provide these jobs that are required, you have a million dissatisfied entrants. And that could create a lot of social mischief.”

The government’s response to this issue seems to be, that we have done what we could, now it is the industry’s turn to do its bit. As Arvind Panagariya recently said“The major impediment in job creation is that our entrepreneurs simply do not invest in labour intensive activities.” Pangariya said this on August 25, 2017. He was the vice-chairman of the Niti Aayog at that point of time. His term came to an end on August 31, 2017.

Recently, the Labour Secretary M Sathiyavathy also made a similar point, which was that eight states had amended the Industrial Disputes Act. This gave firms more flexibility to hire and fire workers. But despite this the corporates were not investing in labour intensive industries in these states.

The question is why are firms not investing in labour intensive industries. First and foremost, the Industrial Disputes Act is not the only labour law going around which needs to be amended, if corporates are to invest in more labour-intensive industries.

As Jagdish Bhagwati and Arvind Panagariya (the same Arvind Panagariya quoted earlier, and this makes me wonder why did he say what he did) write in India’s Tryst with Destiny: “The costs due to labour legislations rise progressively in discrete steps at seven, ten, twenty, fifty and 100 workers. As the firm size rises from six regular workers towards 100, at no point between the two thresholds is the saving in manufacturing costs sufficiently large to pay for the extra costs of satisfying these laws.” Hence, India needs better labour laws. The work that has already been done on this front is clearly not enough.

We will get back to labour laws later in the Letter. Recently, I came across a very interesting research report by Nikhil Gupta and Madhurima Chowdhury of Motillal Oswal, who have a very interesting data driven take on why Indian corporates prefer to use capital rather than labour.

The analysts use data up to 2014-2015 from the Annual Survey of Industries and based on it conclude that over a period of 35 years up to 2014-2015, the rate of employment in the Indian industry has increased at 1.9 per cent per year on an average. At the same time, the gross value added has increased at the rate of 8 per cent per year on an average.

One method of measuring the gross domestic product (GDP) is by calculating the value added by the different industries during the period the GDP is being measured. This value added is referred to as gross value added (GVA). The GDP is defined as GVA plus indirect taxes minus subsidies.

What the Motilal Oswal analysts are essentially saying is that while the gross value added has grown at a rate of 8 per cent per year, labour employment in the industrial sector has grown at just 1.9 per cent. Factories covered by the Annual Survey of Industry covered around 1.4 crore individuals in 2014-2015. This basically reflects labour employment in the formal sector and forms around 20 per cent of the total employment in the Indian manufacturing sector.

So, what is happening here? Why has GVA grown at 8 per cent per year and the employment at just 1.9 per cent per year? The companies have expanded using capital (i.e. money to buy machinery and equipment). Gupta and Chowdhury point out that employment has grown at an average of 1.9 per cent per year, over a period of 35 years. In comparison, the capital employed by industry has grown at the rate of 14 per cent per year.

Clearly, capital has won the race hands down. Or if I were to put it in simple words, when it comes to Indian industry, machine has won over man for a while now.

The total number of employees per factory has come down from 80 in the early 1980s to around 60 in 2014-2015. Hence, the average Indian factory now employs one fourth fewer people than it did earlier. At the same time, the total capital employed in a factory has jumped from less than Rs 50 lakh to more than Rs 10 crore, during the same period.

There are multiple things that we can conclude from these numbers:

  • The Indian corporates prefer machine to men and they have done that for a while now.
  • The Indian corporates like the idea of expanding their production and in the process their business, by installing new machines and equipment, rather than employing more people. (Okay, I know I am saying the same thing in different ways. But it is important to make this point multiple times).
  • It also tells us that Indian corporates like corporates in any other part of the world, do what is beneficial for them. They are in the business of doing business and not in the business of creating jobs.
  • The question is why do Indian corporates prefer machines over men? The reason is straightforward. Machines are cheaper and more productive than men. Over the years, the labour costs have been growing at a much faster rate than the capital cost. The ratio of cost per unit of labour divided by cost per unit of capital was greater than 2.5 in 2014-2015. This basically means that hiring additional employees to expand is much more expensive than simply installing extra machines and other equipment.

The cost of per unit of labour has gone up over the years, whereas the cost per unit of capital has remained more or less stable. What this tells us very clearly is that when companies expand, it is cheaper for them to employ more machinery and get the machines to do the job, than human beings. If I were to put it simplistically, robots (i.e. machines) have won the employment race in India.

Other than this, labour laws remain a major issue which discourage companies from employing people. Take a look at Figure 1.

Figure 1: Distribution of manufacturing workforce among small, medium and large firms in India and China. 

What does Figure 1 tell us? It tells us very clearly that close to 85 per cent of Indian manufacturing firms are small. They employ less than 50 workers. In case of China, only around 25 per cent of the manufacturing firms are small. Also, in case of China, more than 50 per cent of manufacturing firms are large i.e. they employ more than 200 workers. In the Indian case, around 10 per cent of the manufacturing firms are large. And India has very few middle-sized firms which employ anywhere between 50 to 200 workers.

Since, a bulk of manufacturing firms are small, they create fewer jobs. This is a phenomenon which plays out across labour intensive sectors which can employ a huge mass of India’s unskilled and semi- skilled labour, as well. Some of the most labour intensive sectors in India are textiles, apparels and food and beverages.

The Motilal Oswal analysts point out that while the gross value added by these sectors has grown at rapid rates, the employment in them hasn’t. Take the case of textiles, the GVA has grown at the rate of 12 per cent per year, whereas employment has grown at just 3.1 per cent per year. In case, of apparels, the GVA has grown at 11.4 per year and employment at 1.8 per cent per year. For food products, the rates are at 12.3 per cent and 2.4 per cent, respectively.

These data points are again telling us that the businesses in these different sectors are growing at fast rates but they aren’t creating jobs at the same pace. At the aggregate level, what it tells us is that while companies are expanding and so is the economy, jobs aren’t being created at the same pace. In fact, jobs are being created at a very slow pace. A major reason for this, as explained above, lies in the fact that it simply makes more sense for corporates to use machines rather than human beings when they are looking to expand.

Take a look at Figure 2. It worth remembering here that the apparel sector has the potential to create huge jobs. As the chief economic adviser Arvind Subramanian along with Rashmi Verma in a June 2016 column in The Indian Express, wrote: “Every unit of investment in clothing generates 12 times as many jobs as that in autos and nearly 30 times that in steel.”

Figure 2: Distribution of Enterprise Size in Apparel Sector. 

What does Figure 2 tell us? It tells us that a bulk of Indian apparel firms employ less than eight employees. This basically tells us that they start small and continue to remain small. The question is why? Labour laws the way they are, are a major reason, as I explained at the beginning of the Letter. It’s time to get into a little more detail on the issue.

As the Niti Aayog – IDFC Enterprise Ease of Doing Business – An Enterprise Survey of Indian States report points out: “Stringent labour laws have continued to hold back the emergence of large enterprises… It is however noted that a majority of enterprises tend to have less than 49 employees regardless of whether they are located in a high- or low-growth state. This may be of interest with regards to the impact of In¬dia’s labour laws on the enterprise sizes in India. Only few laws are applicable to enterprises of all sizes such as the Minimum Wages Act of 1948. As far as legal registration of manufacturing firms is concerned, the employment threshold of ten is a major mark¬ing point in the sense that all those employing ten or more workers and using electric power (20 or more if power is not used) are required to register under the Factories Act of 1948.”

If jobs are to be created the size of these firms need to go up. They need to employ more people. But these firms need to draw a comparison between labour cost and capital cost, and for a while the capital cost has been winning hands down. In this scenario, it seems highly unlikely they will create jobs.

To conclude, robots (i.e. machines bought with capital(money)) are more productive than human beings.

They are cheaper than human beings.

And also, they don’t take toilet breaks. Yes, Robots don’t take toilet breaks.

The column originally appeared on Equitymaster on October 3, 2017.

How Demonetisation Destroyed Indian Jobs and ‘Possibly’ Helped Create Jobs Abroad

The ill-effects of demonetisation are still coming to the fore. In this issue of the Diary, I will talk about how demonetisation destroyed Indian jobs and “possibly” helped create jobs abroad.

Before I get into explaining why I am saying what I am saying, a recap of some basic economics is necessary here.

At its most basic level, the gross domestic product(GDP), a measure of the economic size of a country, is expressed as Y = C + I + G + NX, where:


C = Private Consumption Expenditure

I = Investment

G = Government Expenditure

NX = Exports minus imports

The point to remember here is that imports are a negative entry in the GDP formula. The more a country imports, its GDP falls to that extent. Having said that imports also represent consumer demand at the end of the day, even though that demand does not add to the country’s GDP. For example, every time an Indian buys an electronic good manufactured in China, he is adding to the consumer demand but not to the GDP. Of course, he is adding to the Chinese GDP because exports are a positive entry into the GDP formula.

Hence, if we remove the imports of oil, gold and silver, from the total imports number (in dollars), what remains (i.e. non-oil non-gold non-silver imports) is a good indicator of consumer demand.

Now let’s take a look at Figure 1, which basically plots the year on year growth in the monthly non-oil non-gold non-silver imports. Hence, the non-oil non-gold non-silver imports in April 2017 went up by 42.5 per cent in comparison to the imports in April 2016. And that’s how it is for all other data points in Figure 1.

Figure 1: 

What does Figure 1 tell us? It tells that non-oil non-gold non-silver imports have grown at an extremely fast rate after October 2016. They are growing at rates at which they haven’t grown for a couple of years. What is happening here?

As Jahangir Aziz, head of emerging market economic research, told Bloomberg Quint recently: “What we had also feared was the demonetisation would disrupt the supply chains that run through both the formal and the informal economies. And if those supply chains get disrupted, then the revival in demand would not get fulfilled by domestic production.”

This basically means that demonetisation destroyed domestic supply chains. Without supply chains products can’t move. This has resulted in consumer demand being fulfilled through imports.

This is clearly visible in the huge growth of non-oil non-gold non-silver imports. What this also means is that as demonetisation destroyed supply chains in India, it also led to a huge job destruction. If goods weren’t moving, there was no point in producing them either. This meant shutdown of firms and massive job losses.

Further, by importing stuff that we used to produce in India earlier, we have helped the manufacturing business in foreign countries and in the process “possibly” helped create jobs there.

The irony is that one million youth are entering the workforce in India, every month. The economist Kaushik Basu had said in November 2016 that “[The] economics [of demonetisation] is complex & the collateral damage is likely to far outstrip the benefits.”The impact of this complex economics is still playing out and along with the botched up implementation of GST, has pulled down non-government GDP growth to around 4.3 per cent.

The column was originally published on Equitymaster on September 26, 2017.

There’s No Free Lunch in Economics

free lunch

So here is a small story, which you, dear reader, should probably try and remember all through your life.

There are four mithaiwallahs (sweetshops) in a colony (You can call them cookie shops or cake shops or bakeries, if you want to. It doesn’t change the argument that I am trying to make in anyway).

A fifth mithaiwallah, who is loaded with money, decides to set up shop. Given that his mithais(sweets) are more or less same to what everyone else is offering, he needs to offer something more to attract customers. So, he offers free mithais, up to one kg, every day, for the first 2 months.

Given that we all love a good deal, soon, there is a queue in front of his shop everyday. And not surprisingly, the business of the remaining four mithaiwallahs collapses. There is only so much mithai that people can consume. (I mean they can go briefly overboard on this front, but then there are health consequences that they would have to bear).

The four mithaiwallahs decide to compete with the new kid on the block. They are not as loaded with money as the fifth one to be offering stuff for free, so they cut prices of their mithais. The hope is that at lower prices the consumers who have ditched them, will come back to them. After all, they have shared a healthy relationship over the years.

And come to think of it, it is their fault as well. For a very long time, they have operated like a cartel, and have kept prices high. Given that the four mithaiwallahs are all related, the gains have been shared all within the family.

So, not surprisingly, when the fifth mithaiwallah sets up shop, the consumers who are seeing the benefits of competition for the first time, go running to him. I mean, if someone sells you products of the same and better quality for a lower price, why wouldn’t you buy stuff from him. The money thus saved can be spent somewhere else. At the end, there is only so much money going around and that has to be judiciously spent.

Soon, the four mithaiwallahs come to the realisation that cutting prices isn’t taking them anywhere because the fifth mithaiwallah continues to offer mithais for free. He is bleeding but in the process, he is ensuring that they are bleeding as well.

The fifth mithai wallah has owned government ration shops for many years and has made pot loads of money selling cheap rice, wheat and sugar, in the open market at higher rates. Hence, he is loaded with money and can outlast the four mithailwallahs he is competing with.

In order to compete the four mithaiwallahs also start offering some mithais in a limited amount for free. They are left with no other option. If they have to compete they have to offer stuff for free.

But as a result, they have to dilute the quality of their mithais. In their line of business, quality and quantity rarely go together. The consumer realises this shift in quality. This is not to say that the fifth mithaiwallah was offering good quality mithai. It’s just that he was offering it free. The fall in quality of the four mithaiwallahs leads to a situation where the consumers who were sticking on to them because of their better quality, also decide to desert them.

Soon, because of offering free stuff, they are losing money hand over fist. The wait for the customers to turn up has become endless. Of course, with no money coming in, they find it difficult to repay the loans they had taken from the local bank to build their shops.
Very soon, one of the mithaiwallah defaults on a loan. Soon, the others join them. And the local bank has a problem.

Meanwhile, the fifth mithaiwallah, seeing that his competitors are in trouble, starts cutting down on the free stuff on offer and raises prices. He figures out that soon he will be the only one left with any cash and the market will be all his. So, best to start cashing in on it.

He is the last man standing in the market and can price mithais, any way he wants to. The people are already addicted to his free mithai, cannot do without it and hence, have to pay whatever he asks for.

With the bank tottering, the depositors start making noise, and the local government has to come to their rescue, and ends up in financial trouble as well. This basically means that the taxpayer has to bailout the bank.

Dear Reader, you will see a version of this story, play out over and over again. The point being there are no free lunches in economics. Never!

There is always a cost that the system has to pay. Hence, if something looks too good to be true, maybe it is.

The column originally appeared on EquitymasterThe column originally appeared on Equitymaster on September 25, 2017.

Gold Imports Surge: Are People Hedging the Risk of Another Demonetisation by Converting Black Money into Gold?


The impact of demonetisation has played out in many ways. Here is one more way: The gold imports between April and July 2017 have been nearly 2.7 times the gold imports during the same period last year.

Let’s take a look at Figure 1 which plots gold imports (in Kgs) over the last few financial years.

Figure 1: 

It is clear from Figure 1 that the gold imports have jumped up big time between April to July 2017, in comparison to last year. In fact, they are the second highest in the last five years. Take a look at Figure 2. Figure 2 plots the money spent on importing gold over the last five years.

Figure 2: 

Even in value terms significantly more gold has been imported this year than last year. The price of gold during the period April to July 2017, averaged at $1257.9 per ounce (one troy ounce equals 31.1 grams). During the same period last year, the price of gold had averaged at $1291.3 per ounce, which was slightly higher.

How do things look if we look at the calendar year instead of the financial year? Between January and July 2017, the total amount of gold imported stands at 6, 61,836 kgs. Between January and July 2016, this had stood at 3,11,938kgs. There is a clear jump in this case as well. In fact, the interesting thing is that the import of gold has been concentrated during the first five months of the calendar year, immediately after demonetisation.

What does this tell us? When and why do people actually buy gold?

The history of economics tells us that people buy gold when the faith in official paper money (in this case the Indian rupee) is low. Take the case of the period between April to July 2013. A lot of gold was bought during this period. The rate of consumer price inflation was at 9-10 per cent. Given this, a section of the population had lost faith in the Indian rupee and was hedging against inflation and buying gold.

What is happening this time around? This time around Indians are buying gold because in the aftermath of demonetisation which was carried out in November 2016, there is a feeling that the government might do it again. Given this, a portion of the black money which was held in the form of cash earlier, is now simply being converted into gold. This seems like the most logical explanation for this surge. The lower price argument doesn’t really hold because prices this year have been more or less similar to prices last year.

Of course, gold is easy to store and has never gone out of fashion. Hence, it can easily be converted into cash at any point of time.

In 2013-2014, people had lost confidence in paper money because of extremely high inflation. This time around, people have lost faith in paper money because of demonetisation. Hence, they are buying gold.

As Indians bought gold in 2013-2014 and a lot of it (close to 4,20,000 kgs, during the first four months of that financial year, as Figure 1 suggests), the demand for dollars went up. India imports almost all of the gold that it consumes. Hence, it buys gold internationally in dollars. As the demand for dollars went up, importers sold rupees and bought dollars. In the process, the rupee lost value rapidly against the dollar.

In April 2013, one dollar was worth Rs 54.23. By August 2013, it was worth Rs 67.4. The rupee simply crashed during the period. It is worth asking here that why a similar situation does not prevail right now. Why hasn’t the rupee crashed like it did when people bought lots of gold between April and July 2013?

This is because while Indians are buying gold, a lot of dollars continue to come to India through the foreign institutional investors route. These investors continue to invest in the Indian stock market and the debt market. Between April and July 2017, the foreign institutional investors have invested a little over Rs 95,000 crore in the stock and the debt market. The foreign institutional investors sell dollars and buy rupees in order to invest in the stock and the debt market. This demand for the Indian rupee has ensured that the dollar has remained stable against the rupee at around Rs 64. Hence, the demand for rupees among these investors is negating the demand for dollars among gold importers. This has led to a stable value of the rupee against the dollar.

What had happened between April and July 2013? While, the demand for gold was very high, the foreign institutional investors were selling out of India. During the period, they encashed close to Rs 27,000 crore from the stock and the debt market. In fact, the foreign institutional investors sold stocks and debt worth over Rs 60,000 crore between June and July 2013.

In order to repatriate this money abroad, they had to sell these rupees and buy dollars. This along with heavy gold buying, which was accompanied by selling of rupees and buying of dollars, pushed up the demand for the dollar, and drove down the value of the rupee.

This essentially explains why the value of the rupee had crashed in 2013-2014, and has remained stable during this financial year. Nevertheless, people are buying gold because their faith in the Indian rupee has gone down and they clearly want to hedge against the risk of another round of demonetisation.

(The column was originally published on Equitymaster on September 19, 2017).

It’s Time Enforcement Directorate(ED) Investigated “Errant” Real Estate Companies for Money Laundering


Many real estate companies around the National Capital Region have taken money from homebuyers over the years, and failed to deliver homes. Some of these companies have also defaulted on bank loans.

Take the case of Jaypee Infratech, one such company, which has been in the news lately. The company has collected anywhere from 70 to 100 per cent of the price of the homes that they were selling, from around 27,000 buyers. These buyers have paid anywhere between Rs 40 lakh each to Rs 1 crore each, to the company.

On the other hand, the company has defaulted on a loan of Rs 526 crore.

Or let’s take the case of Amrapali Group. One of the group companies (Amrapali Silicon City Private Ltd.)  has defaulted on a loan amount of Rs 59.38 crore. Over and above this defaulted amount, overdue interest and penal interest adds to another Rs 11.77 crore.

This takes the total amount to a little over Rs 71 crore. On the other hand, a newsreport in The Times of India suggests that there are nearly 45,000 homebuyers to whom the Amrapali group hasn’t delivered the promised homes.

A report in the Business Today suggests that the group “owes over Rs 1,000 crore to about 10 banks”.

When a debtor defaults, the banks can file an application under the Insolvency and Bankruptcy Code, 2016, with the National Company Law Tribunal, to trigger the Corporate Insolvency Resolution Process and appoint an insolvency resolution professional.

Under this, the existing board of the company is suspended. The professional has 180 days to come up with a workable solution for the company to be able to repay the loans it has defaulted on. This can be extended by another 90 days. At the end of 270 days if no solution is in sight, then a liquidator is appointed.

The trouble is that currently the homebuyers are not on the list of entities that will be compensated for payment of what is due to them once the company is liquidated. Some suggestions have been made that the homebuyers can be compensated under Section 53(1)(f) of the Insolvency and Bankruptcy Code. This is after workmen, secured creditors, employees other than workmen, unsecured creditors, amounts owed to the central and the state government, etc., have been compensated and before preference shareholders and equity shareholders, are compensated.

In fact, Section 53(1)(f) lists “any remaining debts and dues,” under it. The question is can the money handed over by the homebuyers to these real estate companies be treated as debt? From the legal point of view this does not make sense given that the money that the buyers had handed over to the real estate companies was basically an advance and not a loan. Even with this point, the homebuyers come to low in the hierarchy to hope to be compensated at the end of the liquidation process.

In the case of Jaypee Infratech, where the buyers went to the Supreme Court, in order to stall the insolvency resolution process, the Court has directed the insolvency resolution professional to come up with an interim resolution plan within 45 days. This plan is expected to take into account the interests of homebuyers i.e. those people who paid Jaypee Infratech for homes that were never delivered.

The Supreme Court needs to basically decide whether homebuyers can be categorised as financial creditors or not.

But does not answer the basic question: Where did the money that the homebuyers handed over to the real estate companies, actually go? This is an important question to ask because the bank loans that the developers have defaulted on are really very small, in comparison to the total amount of money they have raised from homebuyers and siphoned off.

Take the case of Jaypee Infratech. The company has defaulted on a Rs 526 crore loan from IDBI Bank. In comparison, various media reports and suffering homebuyers suggest, that the company has taken on more than Rs 20,000 crore from homebuyers. Where did this money go?

Given this, the bank defaults and the non-delivery of homes are two separate issues, and they need to be treated separately.

Of course, Jaypee Infratech is not the only company here. There are many other companies. A newsreport in The Hindustan Times suggests that 13 FIRs were filed against six such companies, Amrapali, Supertech, Alpine Realtech Private Limited, BRUY Limited, Today Home Builders and JNC developers, in early September 2017.

The question is where did the money all these companies and others, raised from homebuyers disappear? Did the promoters pad up the expenses and tunnel this money out to buy land? Or did they simply siphon this money off? Or did they use it to complete other projects? And if that was the case, where did the money that was raised for these other projects go? It clearly seems that money has been laundered by promoters of these companies.

Unless, these questions are answered and the homebuyers’ money recovered from the errant real estate companies, there is no way that this issue can be solved.

Hence, the questions listed above need to be investigated. Given that FIRs have already been filed against many real estate companies which have not delivered on homes, under the required sections of the Indian Penal Code, the Enforcement Directorate can register cases against these companies and carry out detailed investigations under the Prevention of Money Laundering Act (PMLA).

Of course, this would mean investigating many companies, but the modus operandi of laundering money in many cases would be similar. At the same time, this can set the record straight for the future. If housing for all is to be achieved by 2022 (or even 2032 for that matter), the private real estate companies need to play an important role in it. And given that, it is important that the errant real estate companies not be allowed to get-away with the crime that they have committed against the homebuyers.

A precedent needs to be set, so that in the future, things like these do not happen all over again. It is also an excellent opportunity for prime minister Narendra Modi to revive his fight against black money and show some concrete action on this front. The hard-earned money of most homebuyers has been laundered and converted into black money and that needs to be tackled.

The column originally appeared on Equitymaster on September 18, 2017.