1.

THE END OF THE GREAT AMERICAN SHOPPING SPREE

Transfixed by unruly financial market, we may be missing the year’s biggest economic story: the end of
the Great American Shopping Spree. For the past quarter-century, Americans have gone on an
unprecedented consumption binge – for cars, TVs, longer vacations and almost anything. The ever-
expanding streams of consumer spending that pulled the US economy forward and, to a lesser extent, did
the same for the global economy.

How big was the consumption push? In 1980, American spent 63% of national income on consumer
goods and services. For the past 5-years, consumers spending equalled 70% of GDP. At today’s income
levels, the difference amounts to an extra $ 1 trillion annually of spending. To say that the shopping spree
is over does not mean that every mall in America will close. It does mean that consumers will no longer
serve as a reliable engine of growth. Consumption’s expansion required Americans to save less, borrow
more and spend more; that cycle now seems finished. The implication: Without another source of growth
(higher investment, exports?), the economy will slow.

Why did Americans embark on such a tear? In his book going Broke, psychologist Stuart Vyse of
Connecticut College argues that there has been a collective loss of self-control, abetted by new
technologies and business practices that make it easier to indulge our impulses. Virtually ubiquitous credit
cards (1.4 billion at last count) separate the pleasure of buying from the pain of paying. Toll-free
catalogue buying, cable shopping channels and Internet purchases don’t ever require a trip to the store.
There’s something to this. But the recent consumption binge probably has more immediate causes.

o One was the ‘wealth effect’. Declining inflation in early 1980s led to lower interest rates – and led to
higher stock prices and, later, higher home values. People regarded their newfound wealth as a
substitute for annual savings, so they spent more of their annual income or borrowed more, especially
against higher home values.

o The ‘life cycle’ (aka demographics) also promoted the shopping extravaganza. People borrow and
spend more in their 30s and 40s, as they buy homes and raise children. In the 1980s and 1990s, many
baby boomers were passing through their peak spending years. That reinforced the wealth effect.

o Finally, the ‘democratisation of credit’ supported the shopping spree. At the end of World War II, it
was hard for most Americans to borrow. Since then, mortgages, auto loans and personal credit have
been liberalised. By 2004, three-quarters of US households had debt. All these forces for more debt
and spending are now reversing.

The stock and real estate bubbles have burst. Feeling poorer, people may save more from their annual
incomes; it’s already much harder to borrow against higher home values. Demographics tell the same
story. “Life-cycle spending drops among 55-to 64 – years-olds” – they borrow less and their incomes
decline – “and that’s where US household growth is now.”

And credit ‘democratisation’? Well, the message of the subprime-mortgage debacle is that it went too far.
Up to a point, the spread of credit was a boon. Homeownership increased; people had more flexibility in
planning major purchases. But aggressive – and often abusive – marketers paddled credit to people who
couldn’t handle it. There are no longer large unserved markets of creditworthy consumers. Indeed, many
Americans are overextended. In 2007, household debt (including mortgages) totalled $ 14.4 trillion, or
139% of personal disposable income. As recently as 2000, those figures were $ 7.4 trillion and 103% of
income. The resulting retrenchment of consumer spending is already being felt. “Retailing Chains caught
in wave of bankruptcies,” headlined The New York Times recently.
2.1 SECURITY MARKET
Local investors go where FIIs fear to tread

FIIs may have turned bearish on the Indian bourses, but their domestic counterparts appeared to have
taken a bold call on the market, absorbing part of the fund-based selling in the past quarter. The bear
market has seen a diversion of FII holding to local players like promoters, financial institutions and the
public. Bombay Dyeing, Reliance Energy, RNRL, Tata Teleservices, HDFC Bank and L&T are a few
examples where domestic investors have increased their exposure while FIIs pared their stakes
substantially. Showing signs of maturity, retail investors could be seen buying beaten down stocks. The
foreign investors were net sellers of over Rs 12,000 crore, or $ 3 billion, during January-March quarter.

Sensex down 726 points on the last day of the fiscal 2007-08

Monday; 31st March 2008 – Not a day goes without some bad news. And lately, much of it is homegrown
such as rising inflation, slackening industrial output and change in accounting norms requiring Indian
companies to disclose losses arising out of derivative contracts. The market is clueless as to how many
companies have signed such deals. India was the worst performer in Asia on Monday; 31st March 2008,
with a sell-off in banking shares pulling down equity indices by over 4%. The Sensex shed 726.85 points,
while 50-share Nifty ended down 207.50 points over the previous close.

31st March review 28/03/08 31/03/08 Points Percentage

Sensex 16,371.29 15,644.44 (726.85) (4.44%)
Nifty 4942.00 4734.50 (207.50) (4.20%)

Rising number of MTM losses worry investors: More and more companies providing for mark-to-market
(MTM) losses on derivative trading has become a matter of concern among investors. There are fears that
corporate earnings could come under cloud of MTM losses, which, in turn, would lead to some correction
in valuations already reeling under pressure of the current slump.

1st week of April ’08 – Sensex down 1.93%

Daily review 31/03/08 01/04/08 02/04/08 03/04/08 04/04/08

Sensex 15,644.44 (17.82) 123.78 82.15 (489.43)
Nifty 4734.50 5.05 14.65 17.40 (124.60)

Weekly review 31/03/08 04/04/08 Points Percentage

Sensex 15,644.44 15,343.12 (301.32) (1.93%)
Nifty 4734.50 4647.00 (87.50) (1.85%)

Inflation is the dominant concern – A joke doing the rounds of Dalal Street is that it is the stock market
that is leading the fight against inflation: by way of lower share prices. In a booming market, investors
would have told you that high inflation is not a bad thing as it is a reflection of the rapid growth in the
economy. But this logic has no takers when FIIs are in retreat, high interest rates threaten to hurt
demand in the economy, and the world markets are in a state of flux.
2nd week of April ’08 – Sensex up 3.03%

Daily review 04/04/08 07/04/08 08/04/08 09/04/08 10/04/08 11/04/08

Sensex 15,343.12 413.96 (169.46) 202.89 (95.41) 112.54
Nifty 4647.00 114.20 (51.55) 37.40 (14.05) 44.80

Weekly review 04/04/08 11/04/08 Points Percentage

Sensex 15,343.12 15.807.64 464.52 3.03%
Nifty 4647.00 4777.80 130.80 2.81%

Growth in India’s industrial output in February ‘08 – The Sensex recovered by 3% over the week amid
prevailing uncertainty as investors found some respite in an unexpected growth in India’s industrial
output. India’s industrial growth at 8.6% in February was better than the market expectations that helped
relieve fears of a possible slowdown. The output was a dismal 5.3% in January ‘08.

3rd week of April ’08 – Sensex above 16k mark, up 4.26%

Daily review 11/04/08 14/04/08 15/04/08 16/04/08 17/04/08 18/04/08

Sensex 15.807.64 0 346.02 90.53 237.01 0
Nifty 4777.80 0 101.85 7.65 71.10 0

Weekly review 11/04/08 17/04/08 Points Percentage

Sensex 15.807.64 16,481.20 673.56 4.26%
Nifty 4777.80 4,958.40 180.60 3.78%

Normal monsoon – The BSE Sensex rose for the fourth straight session on Thursday on sustained buying
by funds as inflation eased amid reports of a normal monsoon. Buying activity picked up in financial
company stocks after reports that US banking Major JP Morgan Chase posted better-than-expected
quarterly results. Market watchers said an easing inflation rate amid the weather forecast reports of a
better monsoon this year were positive factors for the current rally.

4th week of April ’08 – Sensex above 17k mark, up 3.91%

Daily review 17/04/08 21/04/08 22/04/08 23/04/08 24/04/08 25/04/08

Sensex 16,481.20 258.17 44.54 (85.83) 23.04 404.90
Nifty 4,958.40 78.60 12.30 (26.50) (22.95) 111.85

Weekly review 17/04/08 25/04/08 Points Percentage

Sensex 16,481.20 17,125.98 644.78 3.91%
Nifty 4,958.40 5,111.70 153.30 3.09%

Inflation fully discounted – Too much skepticism can at times be good for stock prices. Friday’s 400-point
rally on Sensex is a testimony of that. Inflation is showing no signs of yielding, ICICI Bank has warned
that it will go slow on pay hikes, corporate earnings have been a mixed bag, and there are indicators that
the economy may be shifting into a lower gear. But all these factors did not deter bulls from lifting the 30-
share Sensex past the psychological 17,000 mark for the first time in nearly two months.
5TH week of April ‘08 – Sensex up 1%

Market awaiting favourable Credit Policy -

Prudent and appropriate government and regulatory policies play a significant role in guiding market
sentiments. When we look forward to the RBI Credit Policy on April 29, 2008, we are hoping and praying
that the Credit Policy sends out positive signals for the markets and the economy.

Indian markets have corrected more than any other emerging market and valuations of many good
companies are significantly down from the peaks they reached in end December/ early January. The GDP
growth forecast at 7.5% for the Indian economy during the current financial year is still ahead of any
other competing economy.

There is enough money waiting in the wings for investments into Indian equities. There are funds sitting
in the West Asian oil rich countries for deployment into India. Many cash rich Asian Central banks are
planning to invest in India. Even domestic institutions are sitting with huge cash waiting for a firm trend
to emerge. A favourable RBI credit policy will push these fence sitters to start investing in Indian stocks.

Any measure which controls inflation without increasing the interest rates, would be appreciated by the
market and result in major gains. Increase in interest rates would cause a temporary set back for the
markets and may result in sell offs. However, long-term outlook of the Indian capital-market continues to
remain positive irrespective of contents of credit policy. Long-term value investors like the pension funds
and the insurance companies, would start investing at every fall for building their long-term portfolio.

The macro economic survey

A survey conducted by the country’s central bank based on the responses from various professional
economic forecasters has indicated that the economy could grow at a healthy rate of 8.1% this fiscal. With
the turmoil in the overseas credit markets, a slowdown in loan growth tempering demand in certain
industrial segments, many agencies and forecasters had recently pared their estimate of India’s economic
growth for 2008-09.

But the survey – a first of its kind by the Reserve Bank of India in line with the practice adopted by many
central banks – shows that the economy could expand by over 8%. This is the median of the responses of
professional forecasters. Over the past four years, India’s economy has grown at an average rate of 8.6%
with the figure for the last fiscal being 8.7%.

The survey further shows that the expectations for savings rate growth for this fiscal is still impressive
35% while the rate of growth in investment is expected to be 36% of GDP.

However the worrylines remain. The macro economic survey released by the RBI on 28th of April, a day
before the credit policy announcement has hinted that there could still be a need to tighten even inflation
cools off in the near term. This is because it believes that financial imbalances can also build up in the
absence of overt inflationary pressures. This suggests that it is important for monetary policy frameworks
to allow for the possibility of a tightening even if near-term inflation remains under control – what might
be called the “response option”.

The unveiling of the professional forecasters survey by the RBI could well help the market be better prepared
for policy measures and reducing the possibility of surprises.
Market cheers Credit Policy -

The Reserve Bank of India’s surprise decision to keep key lending rates unchanged triggered a fervent
buying activity in stock markets with the benchmark Sensex and the wider Nifty spurting by over 360
points and 100 points, respectively. RBI’s projection of economic growth at a healthy 8-8.5% for 2008-
09 and the Centre’s decision to extend the tax holiday scheme to export-oriented software technology
parks and refineries also aided sentiments.

Tax sops under STPI extended by another year -

In a huge relief for the IT industry, software companies have been allowed to enjoy benefits of the
software technology parks of India (STPI) scheme for another year. The government has extended the tax
concessions under Section 10A of the Income-Tax Act to March 2010. The scheme was to expire in
March 2009 under the sunset clause provided in the scheme. On an average, IT companies would have a
revenue benefit of at least 5-7% (on an effective tax rate). Normally, companies have about 50% business
located in the technology parks, export revenue from which is exempt from any kind of tax.

Daily review 25/04/08 28/04/08 29/04/08 30/04/08

Sensex 17,125.98 (110.02) 362.50 (91.15)
Nifty 5,111.70 (22.05) 105.85 (29.60)

Weekly review 25/04/08 30/04/08 Points Percentage

Sensex 17,125.98 17,287.31 161.33 0.94%
Nifty 5,111.70 5,165.90 54.20 1.06%

MONTHLY REVIEW
Month March ‘08 April ‘08
Date 31.03.08 30.04.08
Sensex 15,644.44 17,287.31
Points Base 1,642.87
percentage Base 10.50%
2.2 INDIAN ECONOMY
Still on a roll

There is far too much gloom in the public discourse on the economy than is warranted by facts. The
Indian economy is still on a roll – in fact, the chief perceived ill, inflation, is an indicator of robust growth
and resultant demand. Let us not make the mistake of talking ourselves into a mess.

Is there a slowdown? Yes, from about 8.7% in 2007-08, the rate of economic growth has been forecast to
come down to about 8%. Today, we see this as slow. It was the fastest the Indian economy grew in any
year in the nineties. Further, there’s hardly any other major economy in the world other than China that is
expected to grow 8% in this year. If the Indian economy grows 8% in the midst of a global slowdown:
that should be considered terrific, not terrible.

The International Monetary Fund forecasts world growth in 2008 to 3.7%, down from 4.9% and 5%
respectively in 2007 and 2006. The emerging markets that drive global growth in a manner not foreseen
even five years ago are expected to throw up a combined growth of 6.7% in 2008, after growing at 7.9%
and 7.8% in 2007 and 2006.

IMF expects global growth to accelerate a little to 3.8% in 2009, with the group of emerging countries
growing at 6.6%. India’s growth forecast for 2008 and 2009, at 7.9% and 8%, remains significantly higher
than for emerging economies as a whole and is bested only by China’s numbers. However, China is
expected to lop off nearly two percentage points from its spectacular growth in excess of 11% achieved in
both 2006 and 2007. In contrast, India’s growth rate is projected to fail by less than one percentage point.
By any yardstick, India’s economy is doing quite well.

Foreign investors lap up Indian depositories

FIIs might be selling in India but overseas it’s been a different story for depository receipts of Indian
companies over the past three months. Foreign investors are lapping up Indian depositories. The total
trading turnover of Indian companies on International Order Book (IOB, the depository receipts trading
platform on the LSE) has risen 94% from $ 1.7 bln in the January – March quarter of 2007 to 3.3 bln this
year. Reliance Industries, SBI, Indiabulls Real Estate and L&T were among the scrips that have witnessed
robust trading activities.

Depository receipts (DR) represent stocks of a company trading on a foreign stock exchange. Many
Indian companies with global ambitions have floated their shares on bourses in London, Luxembourg and
New York to tap foreign investors.

The Sebi-imposed restriction on the P-Note route has resulted in investors buying Indian GDRs on the
IOB. British investors are also showing considerable interest in Indian GDRs. Institutional investors find
it easy to invest locally as they are familiar with settlement modes; they are more comfortable deriving
benefits in dollar denominations as well.

According to equity analysts, even American Depository Receipts (ADRs) of Indian companies (on
NYSE and NASDAQ) are witnessing sharp demand from foreign investors. A major portion of the rise in
turnover could be attributed to the conversion of FCCB (into DRs) floated over the past two years. The
DRs of most Indian companies have bounced back after their fall in the recent market meltdown. The
broad market perception in the US is that Indian stocks are relatively isolated from global concerns.
2.3 INDIA INC: EXPENDING HORIZONS
India Inc guns for the top league

India Inc has scaled global ranks and that too, across all sectors. Sample this: Indian consumer durable
major, Videocon Group, is the third-largest manufacturer of colour picture tubes in the world and may
soon become the world’s third largest mobile phone maker if the Group’s bid for Motorola Inc’s mobile-
phone business goes through. It would displace Sony Ericsson and become the World’s third-largest
handset producer after Nokia and Samsung.

Recently Tata Chemicals became the world’s second largest soda ash company in the world. Likewise,
Tata Tea, which owns Tetley, rose from being a non-descript Indian player to become the second largest
tea company in the world. Similarly, the Corus acquisition made Tata Steel among the five largest steel
makers in the world up from seventieth in the pecking order.

Indian firm Essel Propack, the world’s largest manufacturer of laminated tubes, has just acquired US-
based Catheter and Disposables Technology (CDT). And Indian bike maker Hero Honda that hung on to
the position of world’s No 1 two-wheeler company for the seventh year in a row. In the same vein, there
are many other Indian companies that enjoy global position.

Vijay Mallya’s UB Group became the second largest alcohol maker in the world, with over 140 liquor
brands, after it took over Shaw Wallace. Then there is Moser Baer, which is the second largest optical
storage media manufacturer in the world. Its product range includes floppy disks, CDs, and DVDs, and it
has a presence in over 40 countries. But with the fear of an US recession snapping at the heels of the
Indian growth story, will these conglomerates be able to hold on to their international ranking? Experts
reckon that they will.

The list does not end there. Ahmedabad based Arvind Mills continues to be the third largest denim
manufacturer in the world. Similarly, Pune-based Bharat Forge on the other hand, is the world’s second
largest forging company. And on the slightly quirkier side, Standard Fireworks in Sivakasi enjoys the
position of being world’s largest pyrotechnic company. In the same vein, Gujrat’s Amul has also become
the world’s largest milk pouch brand. Looking at the list, it seems that India Inc has bought itself nice pair
of cross trainers to run faster, leap further and climb higher.

The biggest wealth creators

Government-run companies have been the bigger wealth creators in FY08, boasting of an additional
market capitalisation of over $ 120 billion. This is more than a quarter of the total increase in BSE
market-cap during the year. The private sector was not far behind with eight individual firms adding $ 5
billion plus each in market capitalisation during the last financial year. The top ten private sector firms, in
terms of absolute increase in market-cap in 2007-08 include Reliance Industries, L&T, Reliance
petroleum, HDFC, Jindal Steel & Power, Tata Steel, Sterlite, ITC, R.Com, and Essar oil.

Interestingly, just about half of the top ten private sector wealth generators during the year were part of
the Sensex. This point to a large part of the India growth story is outside the broad market index. This is
part of a larger trend where firms under emerging business groups like GMR Infra, Jaiprakash Associates,
Unitech, Suzlon, Adani Enterprise, and REI Agro have been among the significant wealth generators in
the country, all of them adding $ 1 billion plus in their market cap. And, DLF, Reliance Power and Power
Grid during the fiscal ‘08 were listed with market capitalisation of $ 27.5 billion, $ 17.9 billion and $ 10.3
billion respectively.
2.4 WARNING SIGNALS

World trade growth may slip 1% this year

The outlook for world trade bleak, with growth expected to dip to 4.5% from 5.5% in 2007. According to
the World Trade Statistics 2008, continuing strong growth in emerging economies like China and India is
only partly offsetting a sharp economic deceleration in key developed countries.

While India’s share in world merchandise exports at $ 145 billion has remained more or less static at
1.06%, it rank among the world’s top service exporters has improved two places to 11 in 2007. India
exported $ 86 billion of services in 2007, accounting for 2.7% of global service exports. China, on the
other hand, was the seventh largest exporter of services in 2007 with exports worth $ 127 billion. In
merchandise trade, China was the second-largest exporter after Germany. It exported goods worth $
1,218 billion in 2007, accounting for 8.8% of world trade.

The one percentage slide in global merchandise trade in 2008 is based on the assumption of a basic
scenario of global GDP growth between 2.5% and 3%, the report said. This estimate is supported by the
results of the WTO Secretariat’s time series forecasting model which predicts a slowdown in the OECD
area’s imports of goods and services to 3%, a further 1.5% decrease from the already subdued rate
observed in 2007. The present economic growth forecast for developed markets is 1.1%, while for
developing countries, the growth is forecast at above 5%.

US home foreclosures jump 23% in Q1

Real estate data firm Realty Trac said: “Home foreclosure filings jumped 23% in the first quarter from the
prior quarter, and more than doubled from a year earlier, as more overextended borrowers failed to make
timely payments.” One of every 194 households received a notice of default, auction sale or bank
repossession between January and March, for the seventh straight quarter of rising foreclosure activity.

Rick Sharga, vice president of marketing at Realty Trac said: “I’m more convinced that we haven’t seen
the peak of foreclosure activity yet, and the wave probably won’t crest until late third or fourth quarter of
2008.” Nevada, California, Arizona and Florida had the highest foreclosure rates among states during the
quarter. A buying frenzy by speculative investors had sharply inflated home prices in all of those states
before a slide into one of the worst housing markets in a century began in 2006. These states are now
inundated with unsold homes, many valued less than the size of the mortgage. The oversupply is pressing
prices down, forcing some owners to walk away and escalating pressure to foreclose. Many homeowners,
particularly those with adjustable-rate subprime mortgages, are struggling to make payments that have
skyrocketed when the loans reset.

One in every 54 Nevada households got a foreclosure filing in the first quarter, up 137% from a year
earlier. California had the second-highest rate of filing among states with one in every 78 households,
soaring by nearly 213% above the same period last year. “The really insidious part is that, particularly if
you’re in a market with a glut of inventory, as more properties go through foreclosure… they add
properties on the market that are effectively going to be coming in with distress pricing, which makes it
even worse,” Sharga said. The share of vacant US home grew to a record high in the first quarter, as
homeowners struggled to find buyers and foreclosures escalated. The percentage of owner-occupied
homes sitting empty rose to 2.9%, the third straight monthly rise, for a total of 18.6 million vacancies.
With prices seen falling further at a time when there is an overabundant supply, some government
mortgage relief programmer may not preclude foreclosures from mounting.
3.1 MUTUAL FUND
Many happy returns for mutual funds on bull-run’s fifth birthday

April, 18 has a special significance for cricket buffs and marketmen. The day marks the beginning of the
much awaited Indian Premier League cricket series and the completion of five years of bull-run on Indian
stock exchanges.

The great Indian bull-run according to experts, specially started on April 18, 2003 – at a time when
Sensex hovered around sub- 3000 levels. The Indian equity market (benchmarked on Sensex) has
multiplied five times in just five years – putting it amongst the best performing markets in the world. Only
four other countries – Russia, Brazil, Indonesia and Mexico – have managed to achieve this. While the
near- 25% correction since the beginning of this year raises questions on sustained buoyancy on Indian
shares, analysts spreads the log-sheets to find answer to the mother of all questions – who made more
money in this bull run?

Its mutual fund managers as a community – and not bulge-bracketed Foreign Institutional Investors – who
achieved higher return; while FIIs collectively made an annualised return of 30% over the five-year
period; it was 34% for Mutual Funds. In arriving at this, the cumulative investment by FIIs has been
considered along with the returns generated by the MF community as a whole. For the analysis, the
portfolio of FIIs and MFs were analysed along with their net investment figures (Sebi data) over the five-
year period to calculate internal rate of return.

Birla Sun Life Mutual Fund’s CEO A. Balasubramanian said: “Investment strategy-wise, mutual funds
adopt a bottom-up approach. Most funds, over the past few years, have been able to spot out potential
winners in mid-cap and small-cap segment and invest in them. In the initial years of the bull-run, mid-cap
indices outperformed large-cap indices by a huge margin. So to that extent, outperforming the Sensex was
an easy game as out-performance meant having higher exposure to mid-caps. For instance, in FY’04,
S&P CNX Midcap gave a return of 140%.

A rare opportunity on the platter

Last couples of months have caused pain in global equity markets, and Indian equity markets in particular
have suffered the most. The Sensex has corrected by 30% from its all-time high achieved on January 10.
There is no way to foretell when the sentiments will turn, or when the investor confidence will return.
Existing mutual fund investors may be well advised not to allow panic. They need to remain focused on
their financial goals and take a long-term view of the market. The longer one remains invested, the less is
the impact of volatility. And for the new investors looking for price-value gap, these are like rare
opportunities on the platter. Investors with a 3-5 year horizon can take advantage of these opportunities by
building an equity mutual fund portfolio using the SIP route over the next 6-12 months.

Concept of good redemption

At present, the stock market turbulence has not only derailed the day traders but even those mutual fund
investors who thought that fund managers will device the way to hedge their risks. Krishnamurthy
Vijayan, CEO, JP Morgan, puts his faith in the concept of a ‘good redemption’ and a ‘bad redemption’.
According to him, a good redemption is when a person exist a fund with a profit, either because he needs
the money or wants to book profits. A bad redemption, on the other hand, is when a person exists because
of sheer frustration panic at the notional loss he has suffered. By and large, any redemption at this stage in
equity is likely to be a bad redemption, unless the investor has invested in some theme, which is clearly
defunct now. I would suggest that investors use this opportunity to accumulate the funds where they have
confidence in the portfolio.
3.2 COMMODITY MARKET
Government may take China route as way forward

In the wake of rising commodity prices, the Left has been constantly mounting pressure on the
government to ban forward trading in commodities, which come under the Essential Commodities Act.
The government had earlier banned rice, wheat, arhar and black gram (urad) for forward trading.

The government may take the Chinese route to convince its Left allies that forward trading is important
both for farmers and exporters. Just a week before the Abhijit Sen committee report on forward trading is
scheduled to be submitted, deputy chairman of Planning Commission Montek Singh Ahluwalia said that
India can’t ignore the active commodity market in China.

People don’t realise that there is quite an active forward market for commodities in China. Also, events in
India have shown that the ban on forward trading did not alter the underlying uptrend in wheat prices
which reflects what is happening in world market. Equally, there are other products where forward trading
is allowed which have not experienced inflation.

Joseph Massey, CEO of Multi Commodity Exchange (MCX), pointed out that three of the Chinese
commodity exchanges – Shanghai Futures Exchange (SHFE), Zhengzhou Commodity Exchange (ZCE),
and Dalian Commodity Exchange (DCE) – figure among the top 10 commodity future exchange in the
world. “China may be a controlled economy but this is an indication that they too believe in market-
driven pricing because of the advantage it offers to the entire supply chain connecting producers and
consumers. They have also realised that developing a well-regulated market is the only way forward to
integrate better with global market as each economy depends on international market for trade.”

The Left, however, does not like the Chinese comparison. CPI’s national secretary D Raja said, “Left not
bring the Chinese angle into it. Let the government prove that forward trading has actually helped the
farmers. We are demanding the ban as it has been counter-productive to farmers.”

An analysis of four banned commodities by Centre for Monitoring Indian Economy (CMIE) has shown
that prices of rice, tur and wheat have increased despite the ban. For rice, there has been a price rise of
over 20% from the time of its ban. In fact, sugar and potato are two classic examples of commodities
which have forward trading and yet their prices have not increased over the last one year.

A recent study carried out by United Nations Conference of Trade and Development (UNCTAD) of five
leading commodity futures exchanges spanning the major developing regions – Bolsa de Mercadorias &
Futuros (BM&F), Brazil; Dalian Commodity Exchange (DCE), China; Multi Commodity Exchange of
India (MCX); Bursa, Malaysia; and the SAFEX Agricultural Products Division of JSE, South Africa –
found that exchanges can yield critical impacts such as better sowing and selling decisions by farmers,
empowering the entire ecosystem through better transparency, quality standards and infrastructure
especially in developing countries like India and China.

The middle way

Banning futures trade in agri-commodities is akin to shooting the messenger. The government needs to
put in place effective long-term solutions that enable proper price discovery after removing unwarranted
speculative forth. This should include creation of a strong and effective regulator, which can act on
intelligence it picks up from the market, and can take decisions independently. Additionally, measures
must be taken to open up the spot market for commodities to allow freer movement of foodgrains across
state borders. Derivative trade cannot work efficiently in commodities where the government has a
significant role to play and where even the spot market is highly controlled.
4. FINANCIAL SECTOR: TRANSFORMING TOMORROW
Financial literacy necessary, not enough

The financial crisis has shown that in the world of finance, we are all beginners. The difference between
sophisticated I-bankers and retail investors is being only one of degree. And, the Reserve Bank of India’s
desire to improve the level of financial literacy in the country is unexceptionable. What we are less sure of
is whether asking banks to set up counselling centres as suggested in the RBI’s Concept Paper on the
subject is the best way of going about the job.

The paper defines financial literacy as “providing familiarity with and understanding of financial market
products, especially rewards and risks, in order to make informed choices”.

In a country where the general literacy rate is just about 60%, financial literacy is all but non-existent.
Investment in financial instruments is, more often than not, based on a tip here, a whisper there, seldom
on a full understanding of the product in question. The risks associated with such mindless investment are
not high as long as it is in safe avenues such as bank deposits or government bonds. But it is a different
matter altogether when it is in stock market instruments. Here there is no substitute for detailed reading of
the prospectus/ study of company/industry, etc., something few retail investors are either willing or
competent to do; nevertheless to the extent the RBI also has a developmental role, it is a worthy pursuit.

1. FINANCIAL ADVISORS:
Weigh impact on investors

Learning curve

The RBI is taking proactive measures to prevent a US-type subprime crisis in India. The US crisis had its
genesis, with American banks proving loans to those who can’t afford repayment. It is widely felt that the
crisis could have been avoided if borrowers were more aware of their liabilities. While Indian banks are
more careful on home loans, aggressive marketing of products such as personal loans and credit cards to
vulnerable borrowers could give way to over indebtedness and results in these loans turning bad. To avoid
this, RBI has asked banks to set up credit counseling centres either individually or collectively that will
warn borrowers if they are raising loans beyond their means. Globally, credit counseling, already exists in
the US, the UK, Canada, Australia and Malaysia.

Two of the main conditions for setting up these centres are that they should provide ‘free’ advice and
should not try to sell products by providing investment advice. Also, they should be outside a branch and
maintain an arms length relation with the bank. The central bank has said that it may convene a meeting
of bank CEOs, the Indian Banks’ Association, Nabard, co-operative banks, experts and few NGOs to
discuss the concept and the mechanism to spread financial literacy. Going forward, RBI has expressed
intent to make credit counseling a part of banks’ fair lending codes.

In a concept paper, the central bank stressed the need for financial literacy since the common man does
not have an access to complete information from the markets. The paper points out that the growing
middle class in India is increasingly resorting to debt for funding consumption need. Against such a
backdrop, credit counsellors may help borrowers by offering them sound advice on ways to restructure
the debt and better ways of money management. Going a step ahead, banks have been told to place all
information relating to fees, interest rates, yields etc. on their website. RBI is now exploring the option of
displaying the consolidated data on all banks on its website and having a dictionary of common terms.
2. FINANCIAL PLANNERS
Value unlocking for all stakeholders

High finance laid low

What we call “financial services” – insurance and real estate, as well as banking and securities trading.
In 1976, it was 15% of GDP; now it’s 21%. The expansion has produced many benefits – more credit for
families and businesses, more investment choices for people for retirement and anything else, and more
investment capital for start-ups and smaller firms. However, the paradox of finance is that its virtues and
vices come tightly packaged together.

Unfortunately, financial advances have also created periodic episodes of massive waste that threaten to
destabilise the entire economy. The subprime-mortgage debacle is not a rare exception. Before that, there
was the tech bubble of the late 1990s when anyone with a business plan ending with .com could get
money from venture capitalists.

According to experts, there seems to be a regular cycle of financial innovation (good), imitation (good up to
point, because it provides competition) and finally suicidal excess. But the basic problem is that as long as
people are benefiting from innovation and investors are making money, it hard to impose restraints on the
excesses. Only a crackup brings clarity.

It is often wrongly said that the present problems originated in the mindless financial deregulation begun
in 1980s, as if everything be fine if the old financial system remained. Actually, the old system –
dominated by banks and savings and loans – collapsed. Many S&Ls failed when high inflation raised
interest rates on their short-term deposits above the levels on their long-term mortgages. Banks suffered
huge losses on energy, commercial real estate and developing-country loans. Securitisation and other new
forms of financing filled the void left by weak banks and S&Ls. So, modern finance has a split
personality. Greed, shortsightedness and herd behavior compromise its usefulness. Even, regulation
cannot cure this dilemma, because regulators can’t anticipate all the problems and hazards.

Come clean on subprime:

The State Bank of India chairman O P Bhatt’s admission that the bank’s corporate clients are likely to
suffer a loss to the tune of Rs 600-700 crore on account of currency derivatives puts paid to any hope that
public sector banks might have been more prudent and desisted from structuring questionable deals while
chasing profits. It has reported not made any provisions in its books, presumably because none of its
customers have taken the bank to court, unlike in the case of many private banks, though prudence would
suggest the need to set aside some amount. A provision of $ 10 million has, however, been made on
account of mark-to-market losses due to exposure to subprime paper in its overseas market.

Clearly, foreign and private sector banks are not the only ones who’ve burned their fingers in the
subprime crisis. As of now there is no reason to believe there is any systemic risk on account of such
losses; something the RBI governor has stated repeatedly. This is no doubt reassuring, but there is need
for much greater transparency and disclosure. Estimates of the total quantum of derivatives in the books
of Indian banks vary from Rs 12,800 crore to Rs 20,000 crore. Such a huge variance in the numbers and
the absence of any clear indication from the regulator only creates uncertainty causing the banking sector
to be re-rated downwards. RBI must set the record straight.
3. WEALTH MANAGERS
Map out the details to translate into benefits

Global economic & financial governance

Two key institutions – the World Trade Organisation (WTO) and International Monetary Fund (IMF) –
are central to global economic and financial governance. A third institute – World Bank – is often
included in the list but its substantive significance is now limited. Most countries now have ample access
to private capital and the Bank is now a substantial net recipient of funds from the developing countries.

Sixty years of economic development has bought some major developing country players – Brazil, China,
India, South Africa and South Korea – on the world stage. This has given rise to the need for a change in
the governance structure of the WTO and IMF. Interestingly, the response of the two institutions has been
quite asymmetric. The dominance of the developed countries in the decision-making process has
undermined the credibility of the IMF to effectively handle the financial flow crises and generated two
kinds of responses:

o On the one hand, countries such as Russia and Argentina chose to effectively default on their
loans when hit by financial crises.

o On the other hand, countries such as Brazil, China, India and South Korea went on to accumulate
large foreign exchange reserves to insure themselves against future crises.

Today, capital flows freely across a vast array of developed and developing countries. The improved
access of the developing countries to private capital markets, have resulted in considerably reduced
lending by the IMF. Given the imperfect and asymmetric information in the capital markets, the threats of
financial crises will continue to loom large. And, these crises would spillover from one country to another
on account of the interconnected nature of the markets.

Customer Appropriateness and Suitability Policy

Minister of state for finance Pawan Kumar Bansal said private sector banks, including ICICI Bank,
HDFC Bank, Kotak Mahindra Bank, AXIS Bank, Yes Bank, were active in derivative products. The banks
enter into derivative transactions with companies as a part of their business. Corporates enter into
derivative transactions with banks to hedge against adverse currency movements having bearing on their
earnings.

Under the RBI Act, “derivative” is an instrument, to be settled at a future date, whose value is derived
from change in interest rate, foreign exchange rate and other securities including interest rate swaps,
forward rate agreements, foreign currency swaps and options.

The RBI had issued a circular in April ‘07 to provide a framework for undertaking derivative
transactions. The guidelines emphasised the need for a proper risk management framework, and
appropriate corporate governance practices. To protect the market-maker against the credit, reputation
and litigation risks that may arise from a user’s inadequate understanding of the nature and risks of the
derivative transactions, the guidelines also provide that market-makers should adopt a board-approved
‘Customer Appropriateness and Suitability Policy’ for derivative business.
4. INCLUSIVE CEOs
Innovative responses to problems

Exotic Forex derivatives

Last year, the world ‘subprime’ found its way into almost all dictionaries and was even awarded the
‘word of the year’ title. But that was last season. This time its ‘Exotic’, that has soured the flavour. At
least this stands true for banks and corporates, which tried this recipe for garnishing their balance sheets.

As more and more companies come out in the open and knock the legal doors seeking an intervention, the
forex derivatives’ losses may well turn out to be the subprime crisis for India Inc. And once again, the
banks have found themselves in the vortex of this financial crisis.

According to a Credit Suisse report, the size of the potential market-to-market (MTM) losses at
corporates is placed anywhere around Rs 120-200-billion. The report also states that the total hit for
Indian private banks is about $ 328-million.

Analysts may agree that the erratic currency movements may have triggered this blood bath but there is
no consensus on – whether it is the corporate house that went wrong or was it the banks’ zealous
approach, which made them enter into complicated derivative contracts.

Banks feel that they’ve an iron-cast defence and most of these will fall flat when contested. As, these
options are not something new. They have been existed for a long time. In fact trading in these options
had become a popular tool for profit management. The clients actually knew what product they wanted.
They just wanted to quote the prices from bank. There is nothing wrong with these products. It’s just like
a cricket bat in your hand; you need to know how to use it.

According to the Credit Suisse report, Indian banks have 25-30% market share among large and 60-65%
among mid size corporates in complex derivatives. Once the strong players (large corporates) knew that
it’s turning turtle they moved out. They have greater risk management tools. But it wasn’t easy for mid
size corporates. Another twist to this fairy tale, which went horribly wrong, is that since RBI doesn’t
permit significant open positions on forex, many Indian banks did the deals and in turn entered into back
to back deals with foreign banks. It was so because Indian banks didn’t have those exotic products, they
bought it from foreign banks and sold them to corporates.

Though the situation may worsen from here on, some analysts believe that the concerns regarding
potential forex-derivative-related loses are overdone. The Credit Suisse report also states that it is unlikely
that losses for the bulk of the corporates individually will exceed a level that would significantly affect
their ability to repay or to borrow (as corporate sector leverage is still extremely low).

The accounting regulator (ICAI) has directed companies to follow new accounting norms that would
require them to disclose and provide for their derivatives losses with immediate effect. The ICAI
announcement requires corporates to tell the mark to market losses and disclose them separately.
However, doubts are raised on the taxation part. It’s not clear whether the companies can claim deduction
on unrealised losses. For now it appears that the much relied upon forex derivatives may have turned into
proverbial Titanic for corporates and banks alike, as for survivors they’ll have an exotic tale to narrate!
5. CREDIT COUNSELORS
Resolve convertibility and recompensation issue

Financial risk (re) engineering

The recent upheavals in the world financial architecture have clearly brought the challenges in managing
risks through a business cycle. This is an era of exotic financial (re) engineering. The developed countries
(and to some extent developing countries) have taken recourse of usage of derivatives in order to ‘manage
risk’. Structured finance is yet another tool claimed to create high quality low risk securities out of a
relatively riskier portfolio. There are now instruments to control the risk of weather, something, which
even top science brains, could not achieve in past 200 years!

The derivative is an instrument whose price depends on price of some other underlying security. For
example, an option is to buy or sell a commodity at a fixed price on a particular date. Now depending
upon the daily change in the price of that commodity, the price of this option too changes. Modern
techniques have given us the tools to transform any financial transaction into a software code that can be
transferred from one party to another at the click of a button. And the derivatives can be sold or bought at
almost every moment till the actual date of buying and selling. However, the downside of the story is that
actual transfer of goods rarely happens. At settlement date, only money exchange happens.

In the same vein: welcome to world of weather derivatives, where parties will bid whether it will rain or
not on a day. And depending upon the actual event, exchange of money shall happen. If we rip off all
financial jargons, one may struggle to differentiate this from gambling.

Come to the era of structured finance! One collects promise of payments from a pool of borrowers (like
mortgage borrowers), aggregates them and converts them into various tranches. Some of these tranches
become senior securities, some more junior. The senior once will have first right to get money in case of
default by borrowers. Thus they get an AAA rating from credit rating agencies. They are then sold in the
market as ready-to-buy-instruments. It can even so happen that, I took a mortgage loan and also hold a
paper of security to which my own mortgage loan was also a contributor. The fact however remains that a
bad portfolio is a bad portfolio. And when the portfolio gets bust, all tranches face doom together. A case
in example is the ongoing subprime crisis. These products merely reallocate risk and this in itself brings
the greater peril. This is actually a risk magnification instead of risk management!

The critical thing to do is a proper and systematic credit risk assessment of the individuals. That is the
only way to manage risk in the true sense. Take for example the recent subprime crisis in the US. It is
now clear that the origin of the crisis in the US was a complete lack of a due diligence exercise done to
find out the antecedents of the people given loans (interestingly, believe it or not, even income records of
the individuals were not checked while granting a housing loan). These risks are now being/have been
transmitted to other countries through this structured finance.

In the end, an interesting observation: The US economy has financed its era of high growth through
monetising its current deficits from developing countries (China, for example) in the last decade or so.
Now, in the era of (de) growth, the risk is being transmitted to other countries through sophisticated
fireplay. Let regulators be more cautious in identifying, and dealing with such fireworks. Let economic
growth be based on core sectors and fundamental progress and not merely on financial indices.
6. RISK MANAGEMENT CONSULTANTS
Educate – Engineer and Enforce

Satyajit Das, author of Traders, Guns and Money, has spent more than 31 years teaching and practising in
the exotic financial derivatives industry. Today, by his own words, Das sounds like a grumpy old man
who started his career as a banker, which was considered honourable profession. “Your word was like a
bond and you abided by it. But things have changed now. I am not against change, if the change is good.
But there are no ethics in the business anymore. What we have is naked greed,” he says.

Derivative fiasco:
Derivative fiasco has happened in the world and now getting repeated in India. Indian companies have
used forex derivatives to meet quarterly targets and to meet analyst expectations. These derivatives have
been used to make loans cheaper and in certain cases also to disguise certain borrowings with the use of
leverage. For a long time, these companies have made huge profits, but today things have changed and
they are not happy about it. It has happened across the world and its happening in India now.

The issue is slightly different in India. In most countries, banks actually do trade in exotic derivatives.
Since they are the traders themselves, they are also the creators of these products. So, when companies or
firms buy these products from banks, the sellers of these products have more knowledge about these
derivative products than the firms who buy these products. But Indian banks do not really trade in these
products due to RBI guidelines. What they do is get into back to back dealing with foreign banks. Thus,
Indian banks are selling the products that are created by foreign banks to Indian firms, which want to
hedge their risks. The foreign bank remains safe. They don’t have the credit risk of the client.

What one needs to understand is that both the Indian bank as well as the Indian firm does not understand
the product completely. When there is a problem, the Indian bank and the Indian firm sour their
relationship or get into a legal haggle.

Derivative game:
This is the oldest game in the book. Many trades were based on the stability of the value of the yen and
the Swiss franc against the dollar. Stable currencies have always existed and banks to sell all kinds of
products have used them. There were many Asian currencies pegged against the dollar.

What people need to understand is that the stability of currencies that we see in a graph does not give any
reasons. In many cases, these graphs can be shown to prospective buyers who do not understand how to
interpret them. In such a situation, it becomes easier to sell them currencies that have economic or
historical reasoning for their stability to investors who have no background of the forex market.

Naked greed:
In the complex world, you cannot earn high returns all the time. In such a situation, the CFO has to
manufacture earnings. The real business is to make change. But to make change, it takes years. The
markets want explosive earnings over a short-term horizon. For many of the CFOs, the remuneration is
built around ESOPs. This gives all the more reasons for the CFO to manufacture earnings than the core
product. This is what leads to all the problems. They take risks that they do not understand.

The financial literacy is necessary, not enough. However it totally depends on how you use it. People
write books and there are training classes, which are very lucrative, and this is an industry on its own.
Finance is like psychology. There are no definite answers, but with the right tools we get an idea. If you
understand the basic principles of finance and have some luck, you can end up making a lot of money.
7. TECH SAVVY PROFESSIONALS
Take first step to ensure efficient and reliable system

You can soon dial payments

Mobile-based payment systems will see the light of the day this year, with the central bank stressing on its
importance. Though the number of banks offers mobile-based banking solutions for online fund-transfers
and utility bill-payments, they do not facilitate payment to merchants. Usage of mobile phones to spread
the reach of banking is a tried-and-tested formula in many African countries, Korea and The Philippines.

It will enable an individual to make small-value payments via the mobile phone, instead of using a credit
or debit card. Threat of frauds like skimming during card payments is well documented and payments via
the mobile phone will offer a hassle free system.

Moreover, RBI is looking at extending mobile-banking services to the large population, which does not
have access to banking facilities. The services will be cheaper alternative to banks setting up rural
branches, and will also work in tandem with the business correspondent model. Remittance of funds
through mobile phones is another phenomenon that has caught on internationally. Two of the country’s
largest banks the State Bank of India and ICICI Bank, have been in the process of piloting a remittance-
system in association with Airtel and mobile-service provider mChek.

According to RBI, the reach of mobile phones has been increasing at a rapid pace. There were about 231
million mobile connections at the end of December 2007, and the pace at which this number is increasing
is one of the fastest in the world. The fact that almost every household will have a mobile phone throws
up an opportunity for banks to set up a new delivery channel. Mobile-payment solution providers say the
SIM card can hold all the relevant financial data and double up as a smart-card.

8. MICROFINANCE PROFESSIONALS
Developing alternative credit delivery models

General Credit Card (GCC) scheme

Banks will now touch the lives of more Indians. The measures announced by the central bank will bring
more people under organized banking and make it easier for banks to fulfill their priority sector mandate.

Currently, banks give loans for non-farming activity (in rural regions) under GCC scheme. About 50% of
the credit outstanding under the GCC is classified as indirect finance to agriculture. From now onwards,
RBI has decided to permit banks to classify 100% of the credit outstanding under GCC and overdrafts up
to Rs 25,000 against ‘no-frills’ accounts in rural and semi-urban areas as indirect finance to agriculture
under the priority sector.

The measure is aimed towards financial inclusion, given that a majority of households in rural India still
do not have bank accounts. The GCC is similar to personal loans taken by borrowers in villages. The
interest rates on such loans vary from 9.5-10%. According to RBI norms, each bank has to lend 40% of
the total loans to mandated sectors like agriculture, small-scale industries and housing. Besides, 18% of
the overall credit has to be for farm sector which will also include the GCC. According to bankers, most
banks were hard selling Kishan credit card to farmers for meeting their annual targets. Now, banks will
try to reach out customers to sell the GCC.
9. CONTINUING LEARNING CENTRES
Take informed decisions

It’s back to school

It’s back to school for loan recovery agents, who now need to complete a certificate course to comply
with new guidelines introduced by the regulator. Banks have been given a year to ensure that all recovery
agents appointed by them complete 100 hour of training and obtain a certificate from the Indian Institute
of Banking and Finance (IIBF). Worried over the huge reputational risk that the banking industry faces
over adverse publicity, RBI has decided to review the policy, practice and procedure involved in the
engagement of recovery agents in India.

At present, there is no educational course for the recovery agents. RBI has asked Indian Bank’
Association (IBA) to formulate a certificate course in consultation with IIBF for direct recovery agents,
with a minimum of 100 hours of training. RBI’s objective is to sensitise recovery agents to borrower’ to
borrower’s rights and about the law of the land. Keeping in view that a large number of agents,
throughout the country, may have to be trained, other institutes or a bank’s own training college may
provide the training to recovery agents by having a tie-up with the Indian Institute of Banking and
Finance so that there is uniformity in training standards.

10. ONE-STOP-SHOPS
Dedicated to offer related services under a roof

The Raghuram Rajan panel’s report

The recently released draft report of the Raghuram Rajan-led committee on financial sector reforms
carries the right tone on at least few broad macro-related issues. It correctly emphasises that Indian
policymakers should not take the wrong message from the ongoing financial mess in some developed
economies that markets and competition do not work. Financial innovation typically leads financial
regulation, and infrequent but sizeable disruptions can take place. But that does not mean we need to give
up moving forward rapidly. After all, a motorist does not give up driving because of a mishap.

Derivatives call for proactive policymaking

Derivative securities provide corporates and investors with routine opportunities for hedging and risk
management. But the real risk now is that the policy establishment would draw all the wrong conclusions,
and simply deem derivative positions as akin to glorified gambling activity. Instead, it needs to firm up
accounting norms for derivatives, boost skill set in quantitative finance and shore up the fledgling or non-
existent derivative markets here in India.

In tandem, what’s needed is pedagogy and training in high-level quantitative economics, finance and
state-of-art modeling. An accounting ‘background’ can be found quite wanting for modern finance. In
parallel, what’s warranted is sound accounting treatment of derivative positions. What’s surely needed is
proactive policy on derivatives.
11. GLOBAL OUTLOOK
Globalisation works both ways:.

For the past 3-4 years, India’s growth acceleration trend has benefited more from the globalisation of
capital markets than from the globalisation of trade. This trend now appears to be reversing.
Globalisation works both ways

Decoupling is inherently illogical

RBI governor YV Reddy mentioned while announcing the RBI quarterly review of monetary policy on
29th April 2008, that there is no decoupling between India and international markets. Initially, when the
problem started in the US, many analysts believed that there was a decoupling. Not I. What I mentioned
was that you cannot have everybody benefiting from globalisation, but when the problem arises, you
expect decoupling.

In fact, decoupling is a theory, which is contextually convenient, but inherently illogical. Now, the
general analysis is, there may not be decoupling, but there can be a divergence in terms of effect. So that
is why you find that in advanced economies the impact on growth is large and in emerging markets the
impact is less. So there is a differential impact on EMEs and among EMEs. But directionally everybody
would be impacted.

A new theme in the country’s globalisation experience

Dr Manmohan Singh broaches a new theme in the country’s globalisation experience: a quest for
proactive leadership of the process, instead of being merely a passive, albeit gainful, participant. To
buttress his point, the PM cited three instances of global mismanagement that have serious implications of
India and other developing countries:

One, the global food crisis, aggravated by diversion of food crops to biofuel in developed countries;

Two, the cartelised rise in crude prices to the tune of 90% even as world demand has grown only at the rate
of 1% over the last two years; and,

Three, the international finance institutions’ failure to come to grips with mismanagement of the financial
system in developed countries, particularly the US, leading to severe distress in the global financial system,
impacting growth around the world.

India’s voice must be heard on such matters. Be it the management of the world food economy, be it the
management of the world energy economy, be it the management of the global financial system, or
indeed, be it the management of global security. India has both a responsibility and a right to participate
in the management of the global challenges.
12. ISSUES OF THE PRESENT
Freedom to get & fail in the system of free enterprise

The Tragedy of the Commons

It’s a phrase that every student of economics is familiar with – the tragedy of the commons: the conflict
over finite resources in situations where individual interests clash with the common good. It was first
popularised by Garrett Hardin in the 1968 essay. “The Tragedy of the Commons”, where he gave the
hypothetical example of a common pastureland in the village that was shared by local herders.

Since each herder would wish to maximise his yield, he would have an incentive to increase the size of
his heard whenever possible. But this is where his individual interest clashes with that of the larger group.
The herder receives all the benefits when his cows graze on the common land. But the pasture is degraded
with the addition of each successive animal so while the individual herder gains hugely; everyone using
the pasture shares the costs. In other words, perfectly rational behaviour of individual shepherds leads to
over-grazing and degradation of the pasture in the long term.

Global warming is a modern parallel. Each country in its bid to foster ever-faster economic growth would
like to pollute without restraints. But it can do so only at the cost of common environment. Substitute
‘underground water’ for ‘common pasture’ or ‘environment’ and you have another parallel most of us
living in the metros will be familiar with. In water-scarce cities each of us has an incentive to pump up the
maximum amount of underground water but if everybody does that the water table will recede. Eventually
a day will come when we will not be able to suck out even a drop of water.

But this column is not about the tragedy of the commons, as it is commonly understood. It is about how
the phrase has acquired a new meaning in the context of the ongoing financial crisis. The crisis has shown
financial meltdowns can have a huge systemic cost, i.e., the collapse of a single institution can have an
adverse impact on the entire financial and macroeconomic system. But what is different, about the present
crisis is that entities like investment banks and mortgage lenders are not part of the payment system and
hence they should not carry any systemic risk, and have been bailed out at taxpayers’ expense.

In the globalised era where capital is mobile, the actions of one country have an impact on the rest of the
world. In case of failure in one country, the cost of bailing out that country may be borne by the rest of the
world. Whereas Indonesia or Thailand could be allowed to go ‘under’ (read suffer severe economic
downturn as during East Asian crisis) the US cannot. It must be bailed out because the ‘consequences of
the US economy capsizing are much too disastrous to contemplate.

For most of the last decade the US economy expanded its way out of trouble by flooding its economy and
hence the world with liquidity. Today the consequences of that are being borne not only by the US but by
the rest of the world as well. The US, acting rationally to maximise its own welfare, much like the grazer
in Hardin’s example, has destroyed the system that served as the framework for modern finance.

The International Monetary Fund (IMF) estimates the full cost of the crisis at $ 1000 billion. Of this US
banks and other financial institutions are expected to bear roughly half, with the balance being shared by
the rest of the world. In the case of common pastureland, individual action led to depletion of finite,
tangible resource. In the present crisis, individual action by the US has led to the depletion of an equally
finite but intangible, common resource: FINANCIAL STABILITY.
5. RBI QUARTERLY REVIEW OF MONETARY POLICY
Press Release

Over the years – this is the last in the five-year term – the governor of the Reserve Bank of India, Dr Y V
Reddy, has perfected the art of walking the tight rope! The RBI, unlike many central banks but like the
US Federal Reserve, has always had to balance the imperatives of growth with those of price stability. It
has not been easy; never more so than now when growth is slowing and inflation is picking up. With
policy prescription pulling in opposite directions – slowing growth demands a reduction in interest rates
while rising prices demand a hike. The RBI has to make a judgment call. Is growth more endangered than
price stability? Or is it the other way round? Which is more important and what is the cost-benefit trade-
off? The answer, in a democracy that is home to a third of the world’s poor even by the antiquated
definition of a dollar a day, should be clear to all concerned.

COUNTER EXCHANGE
Measure Impact
Cash Reserve Ratio hiked Bank profits take a hit. Auto loans turn costly

Lower risk weight on home loans up to Rs 30 lakh Mid-sized loans could be cheaper

Regulations for mobile payment systems It will encourage even conservative banks to
provide mobile banking services

STRIPs introduced Corporate will find more takers for bonds

Banks asked to review sensitive sector portfolio Banks will lend more prudently

Oil companies allowed to hedge on international Oil companies manage their risks better
exchanges

Banks need to set aside more capital for off- It will discipline banks in the derivative markets
balance sheet exposure

More leeway for urban co-operative banks It will help its business environment to move closer
to that of commercial banks

Financial regulation of systemically important NBFCs relying on bank funds may face stricter
NBFCs regime

Fee-waiver for electronic settlements to continue It will boost electronic settlements

for one year more

Exporters allowed to retain earnings overseas for a It will help them off-set losses on currency
longer time movements

RRBs allowed to sell their loan portfolio It will provide liquidity to RRBs

Indian oil companies allowed to invest overseas in It will be profitable for large oil companies,
sectors such as energy and natural resources especially the private sector players.
6. SECURITY LAWS UPDATES

Daily margin

Stock broking firm will have to notify a client about the latter’s daily margin position from April 1 ’08,
according to a directive from market regulator Sebi. The move follows a spate of complaints from
investors that brokers have liquidating their positions citing insufficient margins though their margin
accounts had enough funds. The other common refrain is that investors are not told of the quantum of
margin money needed to replenish the account. The regulator feels that if investors were informed about
margin positions on a daily basis, it would become easier for them to replenish margin accounts.

Short selling guidelines

Soon, the Indian stock markets will see short selling and the unveiling of the securities borrowing and
lending programme. For long, if a market player reckoned that the price of a stock was overvalued, he
could sell it only on the futures segment in the hope that his judgment call was reflected correctly in the
spot market. But that may not really affect the underlying share price, as in the derivatives market can
well decouple from the cash market. Now this is set to change. How short selling helps? By empowering
institutions to short sell, policymaker hopes that the process of price discovery will be more efficient.
These large institutional investors control nearly a fourth of the market capitalisation, and are increasingly
becoming key constituents of the market.

Equity accounting

Corporate houses that have joint venture companies are set to see a major drop in their valuation and size
when they adopt international financial reporting standards, which would become mandatory in India
soon. The global norms for joint venture accounting are expected to deprive companies of the freedom to
show in their financial statements the revenue and assets due to them from jointly controlled companies.
They will only be allowed to consolidate profits from joint ventures in their financial statements. In what
is called equity accounting. For example, a company having an investment of 49% in a JV that has a
turnover of Rs 100 crore and a profit of Rs 10 crore can show in its books a proportion of revenue and
profits – Rs 49 crore top-lines and Rs 4.9 crore as profit. Adoption of the IFRS would reduce the revenue
to zero while retaining the profit of the parent at Rs 4.9 crore.

Daytradian: tough times ahead

Throughout the long bull-run thousands of people made handsome profits by trading daily in stocks. They
trade on ups, the downs and even the sideways. After the Finance Minister announced in his Budget that
he plans to withdraw the tax rebate against STT, a tax levied on all transactions in the stock market, things
have turned sour to them. Day traders across the country may be poor after the January crash – but the
markets are now even poorer. With no participation from day traders, volumes have dried up and there is
simply no depth for any market player. Volumes enable participants to find much better prices for buying
or selling securities, leading to higher gains.

To explain STT implication with an illustration, suppose, a day trader earns a profit of Rs 300 on total
income of Rs 1000 (expense of Rs 700), he pays 33% tax of around Rs 100. Assuming Rs 20 STT, the
total tax liability will be Rs 80 on current calculation. According to the new proposal, on the same
income, the expenses will now be considered as Rs 720 instead of Rs 700, as the STT will be considered
as an expense. So, the profit will be Rs 280, on which the trader has to pay tax of Rs 92, Rs 12 higher than
what he would have paid has STT not treated as expenses.
7. LIVING WITH INFLATION
Inflation control measures

Cabinet Committee on Prices meets on Monday (31/03/08) to assess the factors responsible for soaring
prices; Committee of secretaries to meet on Tuesday (01/04/08) to discuss price scenario; Group of
ministers on prices headed by Pranab Mukherjee to meet on Wednesday (02/04/08) to review prices of
rice, wheat and procurement of edible oil; and Prime Minister Manmohan Singh has called a meeting of
state chief ministers to discuss price rise.

The UPA government came out with a slew of decisions to douse inflationary expectations. Politically,
the government must be seen to be doing its best to curb inflation. Therefore, new measures such as
scrapping import duty on edible oils, banning export of non-basmati rice and asking state government to
impose stock limits on traders should be seen as attempts to lower inflationary expectations. However, it
is the external variable that will impact India’s inflation rate. If you juxtapose the domestic inflation
conditions against global economic scenario, a very complex situation emerges. The RBI governor
conceded this when he said the inflation rate was indeed unacceptably high. But he also gave comfort by
predicting that in “terms of growth and stability India will continue to be among the best performing
economies in the months ahead. We can only hope and pray Dr Reddy is right.

Cement and steel companies told to hold & cut prices

Cement and steel manufacturers have increased product prices in a move that is likely to stoke inflation.
While cement companies have raised prices by 3-4% across India, steel companies have hiked prices of
long steel products or construction grade products by 18-20% through three-price revision in March
alone. Cement companies have cited increased value added tax on bulk cement, and rising fuel prices.
Steel companies have increased prices due to higher input costs, taking the average price of products
such as channels and angles that are widely used in construction, to about Rs 45,000 per tonne.

Having introduced policy measures to douse inflationary pressures on the food front, the government is
now zeroing down on crucial input sectors like the steel industry to check the rising price index. Steel
producers have been directed to reduce prices by 10% to 20%, failing which the government would
intervene with fiscal measures that could soften prices. Steel has a weightage of just 0.3% in inflation
index, but its usage in industrial and household applications enhances the inflationary impact.

Centre rediscovering Nehru cap on galloping prices

The government is considering imposition of price ceilings on commodities if other measures to tame
inflation fail. The finance ministry asked the CCP to issue a notification authorising ministries to invoke
section 18G of the Industrial Development & Regulation Act, 1951. It has proposed that ministries and
departments should be vested with the authority to impose price controls on essential commodities like
steel and cement. The Act – the government’s Brahmastra – was last used in the 1970s to ring in prices
caps. Section 18G was all set to be repealed in the early ‘90s after the Narasimba Rao government’s
liberalisation moves. It was, however, retained when Congress party members insisted that it should not
be given up as it was part of the Nehruvian legacy.

After government push, steel companies cut prices

The country’s top steel producers, including Tata Steel, SAIL and Jindal Steel on 3rd of April ’08 decided
to roll back the price of long steel products, including construction grade TMT bars by Rs 2,000 per
tonne. The price cuts would be implemented immediately. The steel companies have also agreed reduces
the price of galvanised corrugated sheets use as roofing material for low cost housing. The steel
companies have also agreed to address the issue of supply constraints resulting in higher prices of steel.
Inflation flares up to 3-yr high of 7%
The fight against inflation has just got tougher. Wholesale price-based inflation raced to a three-year high
of 7% for the week ending March 22, 2008, as against a 13-week high of 6.68% for the week ended
March 15, 2008. The last time inflation was above the 7% mark was in December 2004.

Drastic steps need of the hour

There seems no respite in sight as the heat of scorching inflation is being felt not just in the country but
across the globe. With commodity prices rising across markets, the government’s fiscal measures such as
duty cuts and export bans are unlikely to help. Many countries have put in place similar measures, which
mean cheaper supplies are disappearing fast.

World food prices rose 40% last year, according to the UN Food & Agriculture Organisation (FAO) and
the European Bank for Reconstruction & Development. The surge in prices has been led by dairy (up
80%), oil (50%), and grains (42%). Dwindling cereal supplies amidst rising demand pushed up prices of
most cereals, wheat and maize in particular, during 2007. The only exception was sugar, which declined
32% after having increased 20% in 2005-06. The rising food prices are fuelling inflation globally and
have become a concern with many governments.

Government to target hoarding & profiteering, states told to monitor prices

Commerce minister Kamal Nath said that the government would not hesitate to act against hoarders and
profiteers. He said supply-side management is a challenge to controlling prices of essential commodities.
We will not hesitate to take the strictest measures against hoarding and profiteering.

We may be among the world’s top producers of fruits and vegetables but start saying good buy to the days
of cheap food. Essential edibles are bound to remain pricey on the back of increasing demand-supply gaps
and dicey weather, locally and globally. States have been asked to keenly monitor prices of essential
commodities and vegetables and take suitable steps to keep retail prices of these in check.

Inflation flares up to 40-month high of 7.41%

An unabated rise in the prices of vegetables, food articles and steel has pushed inflation to a 40-month
high of 7.41%. Growing for the eighth consecutive week, inflation, based on the wholesale price index,
rose 0.41% in the week ended March 29, from 7% in the previous week. Inflation, which was 6.54% a
year ago, last touched 7.76% during the week ended November 6, 2004. The common man was affected
most by surging prices of vegetables that showed an increase of 4.1% during the week, while spices and
pulses become dearer by 1.2% and 1.8% respectively in the wholesale market.

Metals, minerals catalyse Inflation

According to government estimates steel and minerals have the two leading factors, among other
components. Steel, which is used widely in consumer goods and construction, has a cascading effect on
the cost of living and is, hence, being increasingly monitored for inflation. According to analysts, excess
demand is also contributing to inflation. With the economy having grown above potential for the past
three years, money supply growth at upwards of 20% and fiscal policy remaining loose, there continues to
be significant demand pressures, which are contributing to the acceleration in prices.
Price rise could diminish reforms, warns PM

The prospect of prolonged food shortages and rising food prices poses a challenge to the world
community. The gravest concern in India is the potential of escalating food prices to slow down poverty
alleviation, impede economic growth and retard employment generation. The PM acknowledged that the
world food situation had become more complex due to the biofuel juggernaut factor. It is particularly
worrisome that the new economics of bio-fuels is encouraging a shift of land away from food crops.
Climate changes and global warming, the other key cornerstones of the drastic changes happening in the
world food scenario also came in for grave concern.

Rising prices to hit poorest countries

The fast rising prices will hit the poorest countries whose cereal import is expected to rise by 56% in
2007-2008. A report by UN Food and Agriculture Organisation (FAO) said that about 37% increases it
had witnessed in 2006-2007. For low-income food-deficit countries in Africa, the Crops Prospect and
Food Situation Report projects an increase in the cereal bill by 74%. As many as 37 countries worldwide
are facing shortage of cereals. International cereals prices have continued to rise sharply over the past two
months, reflecting steady demand and depleted world reserves. By the end of March ‘08 prices of wheat
and rice were about double their level of a year earlier.

FM declares war on inflation

Warning steel and cement makers against forming a cartel, finance minister made it clear the government
was ready to take tough measures. While emphasising that Centre will not hesitate to take more fiscal and
administrative measures to tackle rising inflation, he asked the state governments to join the war against
inflation and take stern measures against hoarders and black marketers. Mr Chidambaram added the states
should take drastic steps against hoarding and the Centre would even sacrifice revenue to control inflation
that has surged to over 7%. However, we cannot panic at this stage despite relentless rise in prices.

MRTP told to investigate suspected tyre & steel cartels: Taking its fight against inflation forward, the
government has asked the fair trade regulator MRTP Commission to probe into suspected cartel like
behaviour among major tyre and steel makers. The investigation wing of the quasi-judicial body on 16th
of April ’08 issued notices to five major tyre makers and is preparing to issue notices to steel companies.
The regulator will seek details of the recent price rise, capacity utilisation, raw material cost, profit
margins and a host of other information to establish a meeting of minds and price parallelism.

Inflation down a tad to 7.14%

The annual rate of inflation, eased to 7.14% for the week ended April 5 from the previous week’s 40-
month high of 7.14%. Inflationary expectations continue to loom over the economy due to hardening
prices of commodities in the international market, and supply constraints on the domestic front. Thus,
inflation may be expected to hold up above 7% for the next 2-3 months.

RBI hikes CRR by 0.5% to cool down prices

The RBI on 17th of April, 2008 hiked the cash reserve ratio (CRR), the amount of depositors’ money that
banks need to park with it, by half a per cent to tighten money supply, as part of concerted efforts with the
government to ease inflation. The hike, which would take CRR to 8%, will come into effort in two trances
of 0.25% on April 26 and May 10. The unscheduled hike comes ahead of RBI’s annual credit policy for
2008-09 to be unveiled on April 29.
Giving the rationale for the increase in CRR, RBI said year-on-year wholesale price index-based inflation,
which was 3.83% on January 12,2008 (at the time of third quarterly review of credit policy), increased to
7.14% on March 29 and remained at 7.14% as on April 5 and its overall impact on inflation expectations
requires to be monitored and moderated.

Monetary steps to cool prices of little use this time, say experts

There seems to be a near consensus among economists that containing inflation through monetary
tightening would prove counterproductive. Unlike in February 2007, when RBI successfully checked
inflation by raising rates, they argue, this time inflation is largely supply constraints led and not demands
pull driven. Any credit squeeze would, therefore, hurt both demand and supply, leaving the gap between
the two largely unchanged.

In the current scenario hike in commodity prices due to supply constraints is the issue and not the money.
Bank credit for the April‘07-February‘08 was up 16.7% over the same period last year. However the
loans growth in April‘06-February‘07 was 22%. This is sure sign that demand pressure is cooling down.
Thus further monetary tightening led fall in production would spell disaster for the economy finding hard
to come over supply constraint led demand.

Core inflation, which excludes the prices of fuel and agri commodities, remained higher then the headline
inflation in March‘07-Febryary‘08. This implies that the major contributor to inflation was higher prices
of manufactured products. The growth rate of production of manufactured goods has witnessed 2.5%
decline from 11.2% during the first ten months of 2006-07 to 8.7% in the same period of 2007-08.

The WPI of manufactured products had risen modest 3.3% in financial year 2006-07. But it went up 5.2%
in April’07-February‘08, a rate much higher than annual WPI for all commodities which stood at 4.1% in
the same period. Meanwhile, the rate of rise in prices of food-grains has declined in April‘07-February‘08
down from 9.7% in 2006-07 to 6.3%, following improvement in supply condition.

Mospi secretary Dr Pronob Sen concurs, “Prices of manufactured products had remained depressed earlier
due to excess production capacities and competition from imports. However, in 2007-08 higher input
costs, drop in sales and lower price realisation because of fall in consumer demand, and higher borrowing
cost reduced the margin. This affected the company’s ability to invest and produce more, which led to a
fall in production, followed by rise in prices of end products.

Time for coordinated global action: Food versus fuel

Finance ministers from around the world, gathered in Washington for the IMF-World Bank meeting, have
warned that surging food prices could reverse progress on poverty reduction in the developing world.
Many have called for a common effort to deal with the immediate problem of food prices, which have
surged 57%, according to the UN, in the past one year.

The World Bank has said there could be civil disturbances in at least 33 countries inhabited by the largest
number of the poor. Inflationary expectations on food are such that people are reportedly hoarding food
grains in relatively rich countries like Singapore, Malaysia and so on. This is bound to fuel further
inflation, which in turn cause havoc with other macroeconomic variables. The first thing world leaders
must do is to arrive at an agreement that they will pursue a policy, which prevents national hoarding of
food items.

Food surplus countries particularly have a responsibility not to get paranoid and impose a ban on grain
exports. Developed nations like the US must review their current policy of diverting over 20% of their
maize crop for making biofuels. The volume of grains used for biofuel equivalent to a full tank of a SUV
could easily be the food supply for a person for a whole year! Some optimal balance must be struck
between food and biofuels. A global consensus must be developed to deal with the food supply situation
in the medium as well as long term. The medium-term solution could comprise easing trade and
distribution problems. Fortunately, most food importing nations have reduced agriculture tariffs to near
0%, something the WTO could not achieve all these years! True, this is the short-term response but there
must be a long-term strategy to globally enhance food production through improved technologies so that
supply catches up with the fast growing demand in the populous developing world.

Inflation accelerate to three-year high of 7.33%

India’s wholesale price index rose 7.33% in the 12 months to April 12, above the previous week’s 7.14%.
The latest rise was partly fuelled by a jump in minerals prices and came in just below 7.41% reached in
March, which was highest level since November 2004.

Measures to combat inflation and discipline industry

The Government on 29th of April announced more measures to combat inflation and discipline industry,
which together covered the strategies of saam (kind enough), daam (material inducement), bhed (threats
and abuse) and dand (penal measures) recommended by Indian tradition to persuade recalcitrant. The
fiscal package includes measures like an export duty on steel and basmati, which is aimed at
disincentivising exports, and cut in Custom duties on some products like steel, skimmed milk and butter
oil to ease supply crunch and soften prices.

Finance minister P Chidambaram warned India Inc; “The government is determined to take all measures
to contain inflation with the cooperation of the industry if possible, and without it, if necessary.” We have
appealed to the industry to contain inflation. The government has reduced excise duty and import duties
on some commodities. Still, some players in certain industries did not respond. Fiscal measures are the
time-tested measures to contain inflation.

However, in some sectors, where inflation is not the result of not-so-sound-policies, it may be necessary
to take administrative measures although, in a market economy, such measures have no place. We are
ready for a set of administrative measures. We will be discussing the measures in the next few days.
Administrative measures may refer to any government intervention including ban on exports, checking
hoarding and price control on certain goods by declaring them as essential commodities.

Mr Chidambaram urged industry to work with the government, even if it means a small hit on the bottom
lines. The short-term pain is the price for long-term gains. The finance minister assured that the
government would continue to invest heavily in infrastructure that will help growth in the economy. The
goal is to bring back inflation and growth to acceptable levels. The minister also appealed to industry to
work with the government and reap the benefits of continued growth.

Inflation scorches at 42-month high of 7.57%, but may cool soon

Inflation rose yet again – to scorching 7.57% for the week ended April 19 – registering a 42-month high.
However, there are some signs that the rise in the price index is moderating. Strong procurement of
wheat, to the tune of 154 lakh tonnes, for the government’s buffer stock is likely to dampen inflationary
expectations somewhat. Reacting to inflation numbers, Finance Minister provided hope by saying current
inflation is likely to be contained. He said food prices will come down sooner than other prices.
Learning from China’s mistakes

The Good thing about a global crisis is that you zoom up the learning curve effortlessly. A country simply
needs to watch its neighbours messing up and chart a wiser course. That saves time, heartburn and costly
experiments. Take the desperate attempts around the world to de-link consumer food prices from
international markets. Only a country completely food self-sufficient, or rich enough to subsidise every
morsel, can achieve it. In the normal scheme of things, beyond a point, it’s impossible.

Most countries, India included, have now reached point nonplus. They are using crude methods such as
price controls and stock limits to hack through the wild jungle of inflation. That is a huge mistake.
Administrative ways to control food prices only increase consumer misery. But we don’t need to commit
this mistake ourselves to figure this out when there is China blundering along ahead of us.

Spooked by an 18% climb in the consumer price index in one year, two months age Beijing decided to use
price controls to erect a great wall between local markets and the rest of the world. But that worsened
shortage of food. For instance, cooking oil processors, which need government approval to pass on the
full increase in their costs, held back vegetable oil sales while consumers hoarded the supplies they could
find. Last month, 250,000 tonnes of vegetable oil stocks were released from state reserves, but the
quantity was not enough to make a major price impact. China consumes about 2 mt vegetable oil a
month. And reining back of prices led to a few importers to default on their purchase commitments.
What’s more, Beijing has to spend even more expensive oil to replace the fast-diminishing reserves. In
short, price controls provoked hoarding, price volatility, trade disruption and angst.

India unfortunately appears to be in no mood to learn from China. By imposing stock limits on traders and
processors, allowing states a freehand to slam down on day-to-day trade, and using threats to make
manufacturers cut prices, New Delhi is only causing further disruption and volatility in the supply of
essential commodities. When an administrative measure prevents a business from recovering its
legitimate costs, only two things can happen. It can either go underground or disappear altogether.

When retailers find themselves bound hand-to-foot by red tape, they try to wriggle free by simply refusing
to sell. Since no government can force a private shop to sell or maintain adequate supplies, consumers get
a rude jolt when they find empty shelves. In panic mode, they start hoarding everything from cooking oil
to non-perishable such as rice and pulses. The crisis begins to snowball.

Frequent and ill-timed changes in customs duty have a similar effect of freezing normal trade in its tracks.
To stay with cooking oil, the biggest effect of zero import duty has been to make it even more scarce in
the market. Refind soyabean oil plummeted from Rs 70/ kg on March 3 to Rs 53/kg on April 7. That was
certainly what the government had wanted. But the unintended consequence was complete chaos in
business. Importers with older cargos lying at port are finding no takers because their product is more
expensive than the prevailing rate. Traders are in a fix because they can’t pick up cheaper stocks without
first meeting their prior commitments on older contracts. Branded players cannot cut prices because their
dealers have refused to sell older stocks at the new lower price and incur a loss. Retailers are charging the
maximum printed price on branded Oil. In other words, the helpless consumer continues to pay the same
Rs 80/l while the entire trade chain makes a loss.

It’s natural for India to try to minimise the effect of higher international prices on local consumers. Some
of these actions will certainly help stabilise and reduce food prices. But the vast majorities are more likely
to benefit some groups at the expense of others or actually make food prices more volatile in the long run
and seriously distort trade. Decisions made in real time can never be perfect. But urgently need to learn
from others’ mistakes. We can’t afford to makes them all ourselves.
8. ANNUAL SUPPLEMENT TO FOREIGN TRADE POLICY 2004-09
Annual Supplement

Four years ago, Commerce and industry minister Kamal Nath announced India’s first ever-integrated
Foreign Trade Policy for the period 2004-09. He had then indicated two major objectives, namely: (a) to
double our share of global merchandise trade within 5 years, and (b) to use trade expansion as an
effective instrument of economic growth and employment generation.

“I am pleased to say that our achievements have exceeded our expectations. Not only have we fulfilled
our promises in substantial measure, but we have achieved these remarkable results in just four years,
instead of five. In 2004 our exports stood at a little over $ 63 billion. In 2007-08 they have exceeded $
155 billion; our exports are not only just double what they were four years ago, but 2½ times that.”

We have managed an average cumulative annual growth rate (CAGR) of 23%, year on year, way ahead of
the average growth rate of international trade. Our total merchandise trade – exports and imports together
– will be almost 400 billion US dollars this year; accounting for nearly 1.5% of world trade. If the trade in
services is added to this, our commercial engagement with the world would be in the region of $ 525
billion. Our total trade in goods and services is now equivalent to almost 50% of our GDP. This is
unprecedented in India’s modern economic history.

On the issue of employment, it is our estimate that during the last 4 years, increased trade activity has
created 136 lakh new jobs. I have always maintained that exports are not just about earning foreign
exchange but about boosting our manufacturing sector, creating large-scale economic activity and
generating fresh employment opportunities.

What is more remarkable about all our achievements is that they have been accomplished in the face of
appreciation of the rupee (by more than 12% in the last year alone), high interest rates, spiralling oil
prices, withdrawal of some GSP benefits to India by other countries and a general international economic
slowdown in some of our major trade markets. In spite of all this our exporters have shown great
resilience. For this, they deserve our congratulations.

It is in this context that I am happy to present the final Annual Supplement to the Foreign Trade Policy for
2004-2009. In this Supplement, we have proposed several innovative steps:

Extension the DEPB Like the proverbial cats with nine lives, the Duty Entitlement Pass Book
Scheme till May 2009 scheme has defied the axe once again. The popular export incentive will
continue till May 2009. Several moves to replace the scheme over the past
years have proved futile. While the usual practice is to extend a scheme till
March-end, the extra two months have apparently been provided to take care
of elections as the government doesn’t want any uncertainty at that time.

Income tax exemption Biggest achievement of the policy is the extension of tax exemption for EOUs
available to these 100% by one more year beyond 2009” Kamal Nath Commerce Minister: While the
EOUs under Section final annual supplement to the foreign trade policy has not showered new
10B of IT Act will be schemes for exporters, commerce minister has managed to wangle some long-
extended for one more awaited concessions that had been ignored in the Union Budget. Soon after
year, beyond 2009. announcing a package for rupee-hit exporters, he said: “The biggest
achievement of the policy is the extension of tax exemption for EOUs by one
more year beyond 2009.”
 IT hardware sector is in Specific items of this sector shall be made eligible for benefits under High
Special focus initiative Tech Product Export Promotion Scheme. And, funds would be specifically
this year earmarked for this sector under the ongoing MDA and MAI Schemes

Under the Industrial Park Scheme, administered by the Department of

Industrial Policy and Promotion besides manufacturing, it has now been
decided to include, IT, ITES and R&D in Natural Sciences and Engineering,
as industrial activities permitted in the parks

The remarkable achievements in trade and commerce of the past four years gives me the confidence to
spell out an even more ambitious target – that of achieving a 5% share in world trade by the year 2020. In
practical terms this means a four-fold increase in our percentage share in the next 12 years.

Considering that world trade is itself increasing, this would translate into an eightfold increase in absolute
terms. Ambitious the target may be, but achieving it is not impossible. It means we would have to ensure
an average annual growth rate of 25% consistently for the next 12 years. To begin with, I set a target of
$200 billion for exports during the current year. The task is difficult, but the prize is great. If we achieve
it, India will once more become the trading superpower it was two centuries ago.

The Special Economic Zones Policy:

The Government sees SEZs as vehicles of industrialisation and employment generation. Till now we have
granted 453 formal approvals for setting up of SEZs. 207 out of these have been notified, and are at
various stages of implementation and operation. I am particularly happy to say that approvals are not
restricted to a few states, but spread over 19 States and 3 Union Territories.

“SEZs currently provide employment to more than 2.80 lakh people. The incremental employment
generated by these SEZs since February 2006 is 1.5 lakh. In the last 3 years, the exports from SEZs have
shown an increase of over 150%. It is projected that the exports from SEZs would reach Rs 125,000
crores by the end of this financial year. Developments of this nature re-assure us of the validity of the
basic policy relating to SEZs, notwithstanding the skepticism expressed by a few persons.”
9. INSURANCE
Customised insurance plans

Insurance plans not only serve the basic purpose of life cover and relief from tax burden but also help you
plan your investment needs. But before you sign on the dotted lines, it’s important that you should explore
and benefit from customised insurance plans, which many companies now offer. These policies not only
fulfill the basic criterion of buying an insurance plan but also give you enough choices to make them
work as per your investment needs. Here’s a lowdown on what you should watch out for before ordering a
customised insurance scheme.

Suit yourself

Since every investor is unique in terms of his risk profile – life’s priorities, financial need, preferences,
investment styles and habits – financial planners say that a unique set of a requirement needs a unique
solution. This can be done with the help of a tailor-made product, which in turn, can be a combination of
two or more sub-products. Or, a wrap can be created with a mutual fund and an insurance policy and also
a life insurance policy in combination with a health policy and others. The idea is to create a custom-built
package, fitting the need of a specific investor.

Need-based approach

With investors becoming more discerning and their financial transactions turning more complex, the need
for customised products is growing in the market. Service providers everywhere are responding to the
increased demand for customised products. These include investment advisory organisations, investment
banking boutiques, asset management companies, insurance companies and risk management specialists.
It ultimately helps you meet your varied requirements and serve you on multiple fronts.

Leena Dhankher Joshi, senior manager, life profit centre, Tata AIG Insurance, cites an example of their
recently-launched unit-linked endowment plan, where the customer has the option to choose policy term,
premium paying term and even selecting the premium multiples for insurance cover depending on his/ her
requirements. The customer, in fact, can also choose to go on a premium holiday and enjoy the same
amount of cover if he has paid at least first three years premium and finds difficulty in paying future
premiums. Thus, customised products are not only flexible but can also meet the unique needs of each
individual. Customisation offers many advantages to a customer. Not only it give you flexibility to choose
the risk coverage, term of the policy and premium paying period but also the facility of opting for
additional protection by adding riders to the policy as per your requirements.

Chart it out

A customised product, say financial planners, is best suited for those customers who understand their
requirement and are ready to heed to advice. They add that one should buy customised insurance policies
since they offer the twin benefits of life insurance and financial planning in a single product. While the
premium paying schedule ensures discipline and long-term focus, the option to invest partially or fully in
equity markets generate good long term returns. Hence, if the investor needs insurance and wants to
invest regularly for at least 10 years, then customised insurance policies is a great option.

Analysts further say that such products also help in winning customers’ confidence and build a strong
relationship. The only disadvantage financial planners’ associate with customised products is that they
can be costly at times. It can, sometimes, also lead to mis-selling and therefore you should clearly
understand the product and its usage.