A Lifeline Of Red Tape?

Witnessing the debris of the American free market in Philadelphia and Chicago, SHANTANU GUHA RAY suggests that, for once, Indian economic conservatism may save the day

• In a giant WalMart, prices of almost 90 percent of products — from cranberry juice to washing machines and DVD players — have been slashed heavily. Students with plastic buckets solicit donations at traffic crossings, carrying the sign: We actually need money.
• In Chicago, cabbies band together to drop the $20 airport charge — to fight off competition from the bus service, which too, had cut its prices.
• A CNN reporter visiting an African- American to discuss the economic crisis over dinner ends up buying their food and cooking it with the family.
• Democratic presidential nominee Barack Obama blazes through Philadelphia and surges in opinion polls as his rival, John McCain, is perceived as linked with the failed policies of the Bush Administration. As far as the American voter is concerned, it’s definitely the economy, stupid.

Shellshocked Investors have lost over Rs 6 lakh crore since the BSE Sensex crashed 2,000 points Photo: REUTERS

A MELTDOWN IS never sudden or reactionary. It’s a concoction of planning, manipulation and poor strategy, with a generous proportion of greed, hustle and mistakes stirred into the pot.

Even if the current economic crisis is not as catastrophic as the Great Depression of 1929, its statistics are comparable with another capitalist misadventure — the October 19, 1987 crash. Then, the Dow had lost 43 percent of its value in the days preceding the 500-point, 23- percent drop of that Black Monday. This time, 40 percent of holdings on the NYSE have been wiped out. Then, the tipping point was the LBOs (leveraged buyouts) and the financing of junk bonds, a la Michael Milken and arbitrageur Ivan Boesky. The tipping point now is the creative financing of that all-American dream — home ownership — thanks in large part to the royalty of Wall Street: Lehman Brothers, Merrill Lynch, Morgan Stanley, Goldman Sachs and the biggest broker (insurer), AIG.

Citibank CEO Vikram Pandit puts this recession into perspective. “There is a consumption-saving imbalance. Everybody thought they were saving because their housing prices were going up,” he says. “Well, they no longer are.” Speaking recently at the Wharton School of Business, Pandit also commented on the reverberation of the US crisis in the economies of the world. “The financial system around the world was overloaded. There’s a lot of growth elsewhere in the world and the world is trying to figure out how to grow without causing inflation,” he said.

BAILOUT BOSS Geared up? Global markets await Kashkari to deliver his mandate Photo: AP ECONOMIST JEREMY SIEGEL is intrigued by the appointment of a Goldman Sachs alumnus to lead history’s biggest economic rescue. “It is the toughest job on earth,” says Siegel of the mandate for Neel Kashkari, the US Treasury Department’s assistant secretary for international affairs, now the point man overseeing the $700 billion financial bailout as the interim head of US Treasury Secretary Henry Paulson’s Office of Financial Stability. Kashkari, an Indian-American, has been examining the consequences of economic fallout since he joined the Treasury in 2006. The New York Times recently reported he was one of three Treasury staffers who stayed up until 4am to put together the first bailout bill that the US Congress shot down. Kashkari, 35, who grew up in Stow, Ohio, didn’t take the stereotyped route to banking but started as an aerospace engineer for NASA. “He cannot afford to fail,” says Professor Michael Useem of the Wharton School of Business, who once taught Kashkari. Critics though blame Paulson for surrounding himself with ‘Goldmanites’. They say Kashkari is too inexperienced to handle the task of rebuilding the US financial system. Kashkari’s mother, a pathologist, helped destress people. His father, a retired engineer, had worked to bring clean water and electricity to remote African villages. Now, it’s time for the son to prove his record in public service.

For economies such as India, the domestic growth is real and reasonably steady. But the impact of the recession in the US and the global credit freeze has meant that stockmarkets are in turmoil as foreign institutional investors (FIIs) sell equity in domestic stocks to meet liquidity needs back home; companies which had raised funds abroad now see the money supply dry up; and lack of liquidity impinges on Indian banks’ ability to lend. Wharton business professor Mike Useem says this is the world’s worst financial crisis. “Unlike the US, the world will not see an immediate impact on the surface, but the pain will be felt slowly,” Useem told TEHELKA.

But the pain is already being felt and it is very real indeed: nearly $10 billion of private equity funds that investment banks like JP Morgan, Blackstone, DLF Laing, Kotak and ICICI Bank had planned are stuck because credit markets are in a deep freeze. At the start of this month, institutional investors in PE funds had turned risk averse, affecting India Inc’s plans for investment in job-heavy sectors such as retail and real estate.

ONCE GUNG-HO, Blackstone, which was to partner Citigroup and Mumbai-based Infrastructure Development Finance Company (IDFC), has simply walked out of the hyped $5 billion India Infrastructure Fund. This means missing out on $3 billion in debt and $2 billion in equity. Worse, the Fund has barely collected $900 million in equity after opening for subscription this June. “Global conditions are very, very tough,” says MK Sinha, CEO of IDFC Project Equity Corporation, without commenting on the Blackstone pullout.

The State Bank of India (SBI), Macquarie and the International Finance Corporation (IFC) — the World Bank’s private lending arm — had planned a $2- billion fund with investments up to $450 million split between the three. That’s virtually gone with the wind. SBI is not even responding to repeated mails. Nick van Gelder, senior managing director of Macquarie Capital Funds for Asia and Middle East, merely told CNBC that an announcement would be made shortly. It doesn’t sound like good news.

The markets have been so volatile that last week, the benchmark BSE Sensex plunged nearly 2,000 points, wiping out Rs 6.6 lakh crore of investors’ wealth. The Sensex lost 800.51 points (7.07 percent) on Friday to close at 10,527.85 — its lowest level since August 2006. From the peak of January 2008, the Sensex has now lost some 10,000 points.

Foreign institutional investors (FIIs), especially some big hedge funds, last week alone sold stocks worth nearly $1 billion. FIIs’ net selling this year crossed $10 billion, compared to a record net inflow of $17 billion last year. Worse, there was also delivery-based selling by panic-stricken high net worth (HNW) investors that pushed prices down.

With equities in turmoil, banks have pressed the redemption button on mutual fund investments. Scheduled commercial banks’ overall MF exposure dropped to Rs 10,759 crore for the fortnight ended September 26, from a high of Rs 78,717 crore in early August last year (when the credit crisis first erupted in the US), a steep fall of 86.3 percent in little over a year. Some banks have been forced to pay as much as 23 percent for overnight loans on the call money market.

Home alone The US housing market crash fuelled the global crisis Photo: AFP

“A kind of a mindless panic has gripped the market. There are no buyers but loads and loads of sellers,” says Dhirendra Kumar, CEO of Value Research online, which tracks the mutual fund industry. Kumar says returns of some MFs have crashed by over 30 percent in the past few months.

On his recent visit to the International Monetary Fund (IMF), RBI Governor D Subbarao said he felt New Delhi could escape the worst consequences of the global financial crisis because it had strong internal drivers for growth. But he agreed that it could still impact money, debt and credit markets. He told the IMF over the last weekend that he welcomes coordination among the world’s developed economies to solve the crisis, but the implications of such management on emerging economies should be explicitly factored in. “It is important that emerging and developing economies are consulted whenever the policies and actions of the developed countries have implications for them,” he told reporters outside the IMF building in Washington.

Last week’s hammering of the stock markets put Subbarao and Finance Minister P Chidambaram into crisis management mode. Chidambaram had to assure investors about the safety of their bank deposits before the markets stopped the free fall in the first two trading days of last week. The RBI then decided to also relax guidelines for mutual funds, allowing them to borrow against certificates of deposits, to ease redemption pressure on them. This was something mutual funds had been asking for some time: the RBI announced a 15-day loan window for banks to meet the liquidity requirements of mutual funds.

Across India, state-owned banks are lowering bulk deposits as interest rates inch closer to their prime lending rate (PLR), the rate of interest at which banks lent to customers with high credibility. Currently, the PLR is between 13.25 and 14 percent and the banks are coughing out almost 13 percent on wholesale deposits tapped from big companies.

Effects are also being felt on funds run by Indian asset management companies. The Telegraph reported that mutual funds of the so-called ‘Liquid Plus’ category recorded a lower NAV for last week Friday than their NAVs for last week Wednesday, the previous day when the markets were open. Though the number of affected funds was not large — just five of 36 — analysts said the loss was noteworthy.

The Indian companies to be affected include the National Hydro Power Corporation (NHPC) whose maiden issue is being put on the backburner, both because of the bear market and the low valuations derived by the book-running lead managers (BRLMs) to the issue. Market sources told TEHELKA that the stateowned company was advised that a high price might deter institutional investors. NHPC is now contemplating tweaking borrowing norms to meet the capital requirement for its power projects.

THERE IS, of course, the US Treasury- led bailout plan: the staggering $700-billion one. However, a close look at what caused the subprime crisis in the US reveals there could be many ifs-and-buts to its success. And the recovery of markets across the world depends both on the speed and the depth of the US recovery.

In the US, home buyers bought into the illusion of the five-bedroom, three-car- garage dwelling in the American suburbia as the ultimate investment: they were myopic, or perhaps audacious, to take on the adjustable rate mortgage (ARM), convinced that paying interest rates a notch above the rent for the same property was fine.

They thought that before the rate expired in three to five years, they could sell at a 100 percent premium. People were sold the concept by the realtor, who got the loan officer on his side, on commission by the finance broker, who got a cut from the lender, who was selling realty credits re-packaged by investment houses not just to the gullible but also to smart creditors across emerging neorich economies.

Realty rose like a phoenix — only to fall flat on its inflated belly. The problem was that every other Joe was in buying mode until there weren’t enough Joes to off-load it to. In three years, the ARM came calling: soon, three percent rates converted to eight percent and thence to eventual foreclosure.

WHEN IT comes to real estate, Indians are much richer than Americans, minus the exchange rate. In the US, 95 percent homes are mortgaged and owned by financial institutions. In India, the equation is reversed — homeowners own 90 percent of homes. But give it a few decades and the influence of the global economy will compel Indians towards the mortgage machine.

For generations, Indian society has propagated thrift. Parents would forego a meal to ensure their children’s education. They did not buy what they could not afford. Indians’ immovable assets were paid up in real estate, and their movable assets weighed in gold. It’s ironical to hear pundits preach what has been forgotten since. Two generations ago, the mantra for success in both the world’s largest democracies was hard work, perseverance, integrity and frugality. Today, the US has become used to enjoying on someone else’s dime: an average American owes $9,000 in credit card debt.

That India will feel pain from the US economic crisis is a given. If there is a gain, however, it’s in the fact that unlike the real estate appraisals that were artificially inflated by the month, the economic fundamentals of the US remain strong. Some serious financial course correction can see the US economy back on the rails.

When the largest market in the world is in the grip of a bear hug, emerging economies — be they dragons, tigers or elephants — will feel the great squeeze. India’s strength lies in the economic fundamentals of the Indian way. A couple of centuries ago, India’s GDP used to be 16 percent of the global economy. That was not a miracle. But to get back there might take one.

(With inputs from Mateen Sayeed in San Francisco and Pauline Chiou in Washington)