You might have expected that a period when people’s incomes take a hit, and when companies lose business, would see also a fall in household savings and corporate profits. Well, you would have expected wrong. It turns out that household financial savings, usually about 10 per cent of GDP, were more than twice that level in the first quarter of this financial year (April-June). This, at a time when people were losing jobs and suffering pay cuts.
It was no different with companies — with a time lag. In the July-September quarter, more than 2,100 listed companies tracked by Business Standard showed sales taking a toss, but post-tax profit growing by over 150 per cent (reversing a decline in the previous quarter). Profits are now at a respectable 9 per cent of sales. Finally, we have the infobite that the government, after upping its expenditure in the April-June quarter by 13 per cent compared to a year earlier, amazingly enough reduced its total expenditure at a like rate in the following quarter. Everyone, it seems, has been conserving cash, while the government has been trying to limit its borrowing.
The explanation is of course uncertainty about the future. If you don’t know what the future might bring, you go into hibernation as a consumer. In turn, companies that have lost business and are worried about losses decide to cut their expenditure by more than the fall in sales. Profits have therefore zoomed. And the government, busy announcing one stimulus programme after another and presumably worrying about finding the money to fund those programmes, cut expenditure where it could.
These trends show up in bank deposits growing faster than loans, in imports falling faster than exports, in the Reserve Bank of India (RBI) piling up record foreign exchange reserves, and a money market awash in liquidity — forcing down interest rates as the demand for cash has been less than its supply. The inflation rate too should fall, since the demand for goods is less than their availability; indeed, many discounts are on offer. But with excess cash sloshing around, it should not surprise that the inflation rate has surged to the highest level in six years. The authorities explain that localised, Covid-related lockdowns have caused supply bottlenecks, and that much of the inflation has been in food items with fluctuating supply, like onions and potatoes.
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Neither explanation is convincing when lockdowns are reducing, and when even non-food inflation is well above the RBI’s target rate of 4 per cent (with 2 percentage points variation allowed either way). Whatever the cause, the fact is that even the better bonds and debt mutual funds now offer returns lower than the inflation rate, which climbed to 7.6 per cent in October. Inevitably, riskier funds will come into play even as people turn to the stock market in the hope of better pickings — and the market has been on a tear. Flush global liquidity has turbo-charged these trends through capital inflows, and complicated management of the situation.
But uncertainty is now reducing. The coming months should see a fresh start to spending, and businesses record an upswing. Imports will grow and, along with that, the trade deficit. Companies and individuals will borrow more, and the demand for money will grow. The current dynamic that dictates low interest rates and a booming stock market should therefore change. But runaway asset-price inflation will stop only when there are reasonable interest rates. Without that, this could evolve into a Greenspan moment of “irrational exuberance” as people take riskier bets.
The question is how long the RBI will ignore its mandate on inflation control and keep interest rates below the inflation rate, allowing the government to borrow cheaply. A change in policy direction will see rates climb and bond values fall. Investors in debt funds are therefore at risk, as are people invested in the heated stock market. The correction could be delayed if foreign money keeps pouring in. But bear in mind that old truth: Things that can’t go on forever won’t go on forever. There will be a change in the direction of the wind. One must hope it will be slow and calibrated.
By Special Arrangement with Business Standard.
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There is enough capital in our system, though Govt is nearly bankrupt. What is preventing the Govt to harness the capital available within the system to unleash big ticket Infra projects, which will create demands and ensure supplies – the twin factor to kick start the economy? Money in our system is not the money the holders are holding. They belong to depositors – and they cannot be touched without their consent. Any effort to tap them without the explicit and willing consent of the depositors will lead to crisis of confidence in the entire system – and the financial institutions in future will fall like nine pin, brining the entire country down. But, surprisingly no effort has been made to get that consent from the depositors for using their money for productive use. Mindless pursuit of low interest regime has become counter productive. Since 2014, Modi has been systematically slashing the interest rate on a spacious ground that it will kick start demand and incentivize production – which will lead to expansion of the economy. But it has never been realized – on the contrary, we are going the downhill since BJP came to power six years ago. This proves, if any proof is needed, that there is no empirical evidence to show any connectivity between the low interest regime and higher growth rate in economy. Govt can think of issuing an “Infra Bond” with 12% tax free interest, payable every quarter but with a lock in period of 20 years. Most of the depositors, languishing under the present low interest regime, will move their deposits to the new bond, That will give the necessary “float” to the govt – an essential prerequisite for the Govt to launch big ticket developmental projects. That will generate massive employment opportunities for our aspiring youth, create demand, incentivize production, empower people and expand the economy. This will be a triple whammy for the Govt: in the first place, it will be creating a vast national assets which should stand in good stead in the long run; massive expansion of economy with generation of job opportunities will increase tax collection for the Govt; finally, any project, if run with efficiency, should produce 25% profit. If depositors, who are the financial partners, get 12% interest and the Banks, who act as agents get 3% commission, the Govt will get 10% profit. I do admit the gestation period of infra projects is considerable and the profit can be harnessed some five or six years span of time – but that is the scenario in any business model. 12% tax free interest will create consternation among the business tycoons and their cronies but let them consider, this interest proposed has no meaning considering by 20th year, the value of their investment is almost zero. Yet the depositors will be happy to accept this because it is the question of their survival.
I really don’t know what made T N Ninan write such a na kedly truthful article, idlis or smelling salts. Whatever may be, this article is no holds barred. a very ugly scenario. Even if the change is slow and calibrated its no use. This govt is Torricelli vacuum.