The Cabinet Committee on Economic Affairs (CCEA) has decided to increase the minimum support price (MSP) of rice by Rs 50 per quintal or 3.8% to Rs 1360, for this year. The MSP is the price at which the government buys rice from the farmers, through the Food Corporation of India(FCI) and other state government agencies. The law minister Ravi Shankar Prasad was confident that this decision will not fuel inflation. As he told the media “I do not think rise in MSP is directly linked to inflation. We are taking several measures to control inflation”. While the increase in MSP of 3.8% is lower than the average increase of 9% per year in the MSP of rice since 2007-2008, Prasad’s statement is wrong on several counts. As economist Surjit Bhalla put it in a November 2013 column in The Indian Express “For each 10 per cent rise in previous years’ procurement prices, there is a predicted 3.3 per cent increase in the current year CPI…When the government raises the MSP, the prices of factors of production involved in the production of MSP products — land and labour — also go up.” Given this, even a 3.8% increase in the MSP of rice will translate into some inflation. Further, several states like Punjab, Haryana, Uttar Pradesh, Andhra Pradesh and Odisha, levy procurement taxes on the rice and wheat procured by the central government through FCI. A recent article in The Financial Express estimates that these “purchase levies account for 10-14.5% of the minimum support price (MSP) announced by the Centre on rice and wheat procurement.” Hence, when the MSP of rice goes up, these levies which are a certain percentage of the MSP, also go up. This in turn pushes up the price of rice. Also, it is worth remembering here that the FCI, directly and through state government affiliates, procures rice and wheat from farmers at the MSP set by the government. It buys all the rice and wheat that farmers bring to it, as long as it meets a certain quality. Farmers have a ready buyer, and one who keeps increasing the price. This has led to a situation where the government of India has become the biggest hoarder of rice and wheat. A recent report in The Financial Express points out that “the Food Corporation of India (FCI) had rice stock of more than 28.2 million tonnes at the start of the month, which is more than the double the requirement under the strategic reserve norm.” Hence, it is not surprising that the price of rice in May 2014 rose by 12.75% in comparison to May 2013. Earlier this month the government decided to sell around 5 million tonnes of rice in the open market. As and when this happens this will have some impact on the price of rice. But that effect will be negated with the government buying all the rice that lands up at its door and starts hoarding again in the months to come. Take the case of last year when the MSP for rice was increased by 4.8% to Rs 1310 per kg. In October-November 2013, the inflation in the price of rice was at around 15%. The only possible explanation for this is the fact that the government bought much more rice than it needed to run its various programmes. Hence, a lesser amount of rice landed up in the open market and thus fuelled inflation. Given these reasons, Ravi Shankar Prasad is wrong when he says that the decision to increase the MSP of rice will not fuel inflation. Having said that some amount of increase in the MSP of rice is necessary. The farmers also need to be paid more every year, given the high inflationary times that we live in. The only way for the government to ensure that it does not cause inflation is to buy the right amount of rice and wheat that it actually needs to run its various programmes and not more. The article originally appeared on www.firstbiz.com on June 27, 2014
A recent report in The Economic Times said that onion prices may touch Rs 100 per kg by October 2014. The report pointed out that “hailstorms and unseasonal rain in the past, along with the weak start of the monsoon season has created scarcity and strong inflationary pressures.” For the week between June 12-18, 2014, the rainfall had been 45% below the normal. If this trend continues, chances are that vegetable prices in general and onion prices in particular may rise in the months to come because a lack of sufficient rainfall will lead to a fall in production. Nevertheless, vegetable prices have risen over the last few years, despite a steady increase in production. A standard explanation for the inflation in vegetable prices over the last few years has been that the demand for vegetables has far exceeded their supply. Data provided by the National Horticultural Board tells us that India produced 129.07 million tonnes of vegetables in 2008-2009. This number had gone up to 170.2 million tonnes in 2013-2014. This meant an absolute increase in production of around 32% over a period of five years or an increase at the rate of 4.67% per year. This is a reasonable rate of increase though not a fantastic one. During the same period the vegetable prices more than doubled. Given this, there might be some truth in the argument that demand for vegetables might have outstripped their supply. But this is clearly not true at least in the case of onions. The onion production in the country has gone up at a rapid rate over the last few years. In 2007-2008, it stood at 9.14 million tonnes. This more than doubled to 19.3 million tonnes in 2013-2014. Hence, Indian farmers are clearly producing enough onions. Also, it is safe to assume that demand for onions couldn’t have suddenly doubled over a period of five years. So, what explains the fact that onion prices have crossed Rs 100 per kg several times over the last few years and in the months to come the same scenario might play out again? The simple answer is hoarding. While most vegetables cannot be hoarded given that they rot quickly, onions last easily up to six months. This leads to their hoarding by traders in Nashik, Navi Mumbai and the Azadpur (in New Delhi) mandis. As the report titled Competitive Assessment of Onion Markets in Indiawhich was commissioned by the Competition Commission of India points out “A few big traders having well connected networks with market intermediaries in other markets seem to play a major role in hoarding for expected high prices.” These traders typically start hoarding onion in the post harvest season. By doing this they manage to tighten supply in the lean season. “The lean season also happens to coincide with start of major festivals and ceremonies like marriages in India. This clearly manifests itself during months of September to January, in which the supply from onion producing regions is minimal and festivals like Dasera, Dipawali, Eid, Chrismas and marriages and other ceremonies put higher pressure on the demand of onion,” the report points out. It is not difficult for the government of the day to identify who these traders are. But most of these traders are close to political parties. Take the case of the traders operating at out Nasik and Navi Mumbai. These traders are known to be close to Sharad Pawar’s Nationalist Congress Party. Given this, it was not surprising that when Pawar was the agriculture minister he regularly made statements that drove up onion prices. (You can sample a couple of statements here and here) Economist Devinder Sharma in a blog written in December 2013 points out “The Azadpur mandi traders association in Delhi is aligned to the ruling Congress party. In Punjab, on the other hand the traders associations predominantly back the ruling SAD-BJP combine.” This explains to a large extent why politicians tend to look the other way when onion prices are rising, and they even go ahead and make insensitive statements. Take the case of Kapil Sibal, who when asked about the rise in onion price in September, 2013 had said “Ask the traders this? The government does not sell onions.” Given this, it is not difficult for the government to control the price of onion, if it wants to. All it needs is a few basic steps. As the report commissioned by the Competition Commission of India points out “For these, measures such as cancelling license for a temporary period; putting fines and penalties, and monitoring closely the behaviours of traders for any intentional hoarding, could be taken.” Of these measures, monitoring the behaviour of traders for any intentional hoarding is the most important. Having said that, the onion production may have seasonal variations and that may drive up the price of onion. But that still does not explain the astonishing rise to Rs 100 per kg several times over the last few years. As Shreekant Sambrani writes in the Business Standard “ A five per cent reduction in its supply supposedly causes a 50 per cent increase in its price. While its per capita availability trebled in the last decade (faster than the per capita income, which doubled), its price rose fourfold in the same period.” Hoarding is the only possible explanation. Potato, is another vegetable, which like onions, doesn’t rot immediately, and hence can be hoarded. Potato production has grown at the rate of 6.2% per year between 2008-2009 to 2013-2014 to 46.4 million tonnes. Between 2012-2013 and 2013-2014, the production grew by only 2.3% but the prices over the last one year have shot up by more than 30%. Hoarding is a major reason for the same. Given this, the government needs to ensure that the prices of onion and potato are decided on true market demand and supply, and not because of hoarding. The inflation that the people faced during the second term of the Congress led UPA government was a major reason why the Narendra Modi led BJP was elected to power. Hence, it is important for Modi and his government to do all that they can do on the inflation front. If they don’t, there will be trouble ahead. As Sambrani puts it “Inflation is a two-edged sword. Hurt in the pocketbook, the aam aurat could start venting her wrath on the new government. Onions don’t respect ideology while bringing tears.” The article originally appeared on www.firstbiz.com on June 26, 2014.
Thomas Piketty, a French economist, has taken the world by storm. His book Capital in the Twenty-First Century has been the second bestselling book on Amazon.com for a while now. Originally written in French, the book was translated into English and released a few months back in the United States. Piketty’s Capital is not like some of the recent popular books in economics like Freakonomics or The Undercover Economist. It is a book running into 577 pages (if we ignore the notes running into nearly 80 pages) and is not exactly a bedtime read. My idea is not to summarize the book in this column. That would be doing grave injustice to the book. Nevertheless I wanted to discuss an important point that the book makes. A major but not so well discussed reason behind the financial crisis was the increasing inequality in the United States. Piketty discusses this in great detail in Capital. The top 10% of the American population earned a little more than 50% of the national income on the eve of the financial crisis and then again in the early 2010s. In fact, if we look at income without capital gains, the top 10% earned more than 46% of the national income in 2010, which is already significantly higher than the income level attained in 2007, before the financial crisis started. The trend continued in 2011-2012 as well. In 1976, the top 10% of households earned around 33% of the national income. The situation becomes even more grim when we look at the top 1% of the population. The top 1% of the households accounted for only 7.9% of total American wealth in 1976. This would grow to 23.5% of the income by 2007. This was because the incomes of those in the top echelons was growing at a much faster rate. The rate of growth of income for the period for those in the top 1% was at 4.4% per year. The remaining 99% grew at 0.6% per year. A major reason for this inequality has been the pace at which the salaries of the top management of American companies have gone up. As Piketty writes“We’ve gone from a society of rentiers to a society of managers…Top managers[who Piketty calls supermanagers] have the power to set their own remuneration…or by corporate compensation committees whose members usually earn comparable salaries…in some cases without limit and in many cases without any clear relation to their individual productivity, which in any case is very difficult to estimate in a large organization.” This phenomenon was seen mainly in the United States, writes Piketty. But it was seen to a lesser extent in Great Britain and other English speaking developed countries in both the financial as well as non financial sectors. In fact, Piketty even calls this phenomenon of senior managers being paid very high salaries as a form of “meritocratic extremism” or the need of modern societies, in particular the American society, to reward certain individuals deemed to be as “winners”. Interestingly, research shows that these winners got paid for luck more often than not. It shows that salaries went up most rapidly when sales and profits went up due to external reasons. The solution to this increasing inequality of income was to some extent more education. But that is something that would take serious implementation and at the same time results wouldn’t have come overnight. How does a politician who has to go back to the electorate every few years deal with this? He needs to plan and think for the long run. But at the same time he needs to ensure that his voters keep electing him. If the voters don’t keep electing him in the short run there is nothing much he can do to improve things in the long run. This is precisely what happened in the United States. Politicians addressed the issue of inequality by making sure that easier credit was accessible to their voters. Raghuram Rajan, currently the governor of the Reserve Bank of India, explains this very well in his award winning book Fault Lines: How Hidden Fractures Still Threaten the World Economy: “Since the early 1980s, the most seductive answer has been easier credit. In some ways, it is the path of least resistance…Politicians love to have banks expand housing credit, for all credit achieves many goals at the same time. It pushes up house prices, making households feel wealthier, and allows them to finance more consumption. It creates more profits and jobs in the financial sector as well as in real estate brokerage and housing construction. And everything is safe—as safe as houses—at least for a while.” Hence, the palliative proposed by politicians for the increasing income inequality in America was easy credit. As Michael Lewis writes in The Big Short – A True Story “How do you make poor people feel wealthy when wages are stagnant? You give them cheap loans.” While, the government and the politicians worked towards making borrowing easier, there is another point that needs to be made here. As income levels stagnated at lower levels, a large section of the population had to resort to taking on debt and this contributed to the financial instability of the United States. As Piketty writes in Capital “One consequences of increasing inequality was virtual stagnation of the purchasing power of the lower and middle classes…which inevitably made it more likely that modest households would take on debt, especially since unscrupulous banks and financial intermediaries….eager to earn good yields on enormous savings injected into the system by the well-to-do, offered credit on increasingly generous terms.” So, it worked both ways. The government made it easier to borrow and the people were more than willing to borrow. As author Satyajit Das puts it “Borrowing became a substitute for rising incomes.” This wasn’t surprising given that the minimum wage in the United States when measured in terms of purchasing power reached its maximum level in 1969. At that point of time the wage stood at $1.60 an hour or $10.10 in 2013 dollars, taking into account the inflation between 1968 and 2013. At the beginning of 2013, it was at $7.25 an hour, lower than that in 1969, in purchasing power terms. The easy money strategy that has been followed in the aftermath of the financial crisis has again worked led to increasing inequality. The American stock market has rallied by more than 150% in the last five years and this has benefited the richest Americans. In the five year bull run, the stock market generated a paper wealth of more than $13.5 trillion. In fact, in 2013, the market value of listed stocks in the United States went up by $4 trillion. This benefited the top 10% of Americans who own 80% of the shares listed on stock exchanges. A similar thing happened in the United Kingdom, where the Bank of England admitted in 2012 that its quantitative easing program boosted the value of stocks and bonds by 25% or about $970 billion. Almost 40% of these gains went to the richest 5% of the British households. Interestingly, the salaries of CEOs in the United States have continued to go up, even after the financial crisis. If one considers the Fortune 500 companies, the average CEOs salary is 204 times that of their rank and file workers. This disparity has gone by 20% since 2009. At the same time, the income of the median American household fell to $51,404 in February 2013. This was 5.6% lower than what it was in June 2009. Further, the average income of the poorest 20% of the Americans has fallen by 8% since 2009. Given this, more than 100 million Americans are receiving some form of support from the government. In fact new research carried out by Emmanuel Saez and Thomas Piketty reveals that between 2009 and 2012, the top 1% of income earners in the United States enjoyed a real income growth of 31%. Income for the bottom 90% of the earners shrank. The point being that the Western world does not seem to have learnt from its past mistakes. As George Akerlof and Paul Romer wrote in a research paper titled Looting: The Economic Underworld of Bankruptcy for Profit, “If we learn from experience, history need not repeat itself.”If only that were the case!
Note: Not all data has been sourced from Thomas Piketty’s Capital in the Twenty-First Century. Some numbers have been sourced from Raghuram Rajan’s Fault Lines.
The article originally appeared in the June 2014 edition of the Wealth Insight magazine
(Vivek Kaul is the author of the Easy Money trilogy. He can be reached at [email protected])
The Narendra Modi government has come in for a lot of criticism for raising the railway fares. The criticism has been particularly acute in Mumbai, where the prices of suburban railway season tickets have doubled and in some cases even trebled. And this surely can’t mean acche din for the average Mumbaikar who travels by local trains daily and had voted overwhelmingly in the Lok Sabha elections for the BJP-Shiv Sena alliance. Now there is talk about the government reconsidering the decision to increase railway season ticket prices. “The Railway Minister has assured us that the monthly season ticket decision will be reconsidered and a decision taken within 2-3 days,” said BJP MP Kirit Somaya after meeting the railway minister Sadanand Gowda today (i.e. June 24, 2014). This might very well turn out to be the case given that assembly elections are scheduled in Maharashtra later this year. The Modi government will have to take a spate of unpopular decisions over the next few months, if it hopes to do something about the stagnating economic environment. These decisions might include passing on the increase in the price of oil to the end consumers. The price of the Indian basket of crude oil stood at $111.86 per barrel on June 20, 2014. It had averaged at $106.72 per barrel between May 29 and June 11, 2014. The price of oil has gone up rapidly in June 2014 because of a threat of a war in Iraq. India imports nearly four fifth of the oil it consumes. The government will have to allow the oil marketing companies to pass on this increase in price to the end consumers. If it does not do that then it will have to compensate the oil marketing companies for the “extra” under-recoveries they face on the sale of diesel, cooking gas and kerosene. This would lead to an increase in government expenditure and hence, the fiscal deficit. Fiscal deficit is the difference between what a government earns and what it spends. The government is already precariously placed on the fiscal deficit front. The move to allow the oil marketing companies to increase prices is unlikely to go down well with the middle class. The government will also have to make sure that it does not increase the minimum support price of rice and wheat at the same rate as the Congress led UPA government had done in the past. This had been a major reason in fuelling food inflation. So, if the government is serious about controlling food inflation this is a step that it will have to take. This move is unlikely to go down well with farmers. Over and above this, the government will have to go aggressive on selling stakes it holds in public sector companies. This will help the government in controlling the fiscal deficit. Any attempts to sell stakes in the companies it owns is unlikely to go down well with the trade unions and given that they are likely to protest. The broader point is that various steps that the government is likely to take over the next few months, will be fairly unpopular in nature. And given this there will be pressure on it to “rollback” these moves. In fact, as has been in the case of the railway fare hike, the pressure to “rollback” will come not only from the opposition parties, but also from within the BJP. Nevertheless, these steps are required if the economic environment is to brought back into some shape. Given this, the government can take some inspiration from Paul Volcker. Volcker was the Chairman of the Federal Reserve of the United States, the American central bank, between 1979 and 1987. When Volcker assumed office in August 1979, things were looking bad for the United States on the inflation front. The rate of inflation was at 12 percent.In fact, inflation had steadily been going up over the years. Between 1964 and 1968, inflation had averaged 2.6 percent per year. This had almost doubled to five percent over the next four years, that is, 1969 to 1973. And it had increased to eight percent, between 1973 and 1978. In the first nine months of 1979, it had averaged at 10.75 percent. Such high inflation during a period of peace had not been experienced before. Volcker was not going to sit around doing nothing and came out all guns blazing to kill inflation, which by March 1980 had touched a high of 15 percent. He kept increasing the interest rate till it had touched 20 percent by January 1981. This had an impact on the inflation, and it fell to below 10 percent in May and June 1981. The prime lending rate or the rate at which banks lend to their best customers, had been greater than 20 percent for most of 1981Increasing interest rates did have a negative impact on economic growth and led to a recession. In 1982, the unemployment rate crossed 10 percent, the highest it had been since 1940 and nearly 12 million Americans lost their jobs. During the course of the same year, nearly 66,000 companies filed for bankruptcy, the highest since the Great Depression. And between 1981 and 1983 the economy lost $570 billion of output. Of course, all this made Volcker a very unpopular man. As Neil Irwin writes in The Alchemist—Inside the Secret World of Central Bankers “Automakers were…livid: High interest rates meant that consumers couldn’t afford to buy cars…They [i.e. the automakers] mailed Volcker keys to unsold vehicles. But farmers may have had it worst of all. During the late 1970s, many had taken out loans to buy more land on the assumption that crop prices would keep rising at an extraordinary clip. When food prices fell and interest rates rose, people across Middle America lost their farms. They protested by driving their tractors to Washington and circling the Federal Reserve’s grand marble headquarters.” The politicians also protested. As Irwin writes ““We’re destroying the American Dream,” said Republican representative George Hansen of Idaho. A building-trades magazine accused Volcker of “premeditated and cold-blooded murder of millions of small businesses.”” But Volcker stayed put and finally managed to bring the inflation monster under control with the bitter pill that he administered. By July 1982, inflation had more than halved from its high of 15 percent in March 1980.The steps taken by Volcker ensured that the inflation fell to 3.2 percent by 1983. After this, the United States saw solid and almost non-stop economic growth till 2000, when the dotcom bubble burst. Interestingly, Volcker may not have been very popular in the first few years of his tenure, but now he is among the few men in finance who continues to be well respected. At certain points of time economies need to be administered the bitter pill if they are to be healed back to health again. India is in a similar position currently. Tough economic decisions will have to be made and these decisions will be unpopular. And given that there will be protests. When there are protests the easy way is to “rollback” whatever is being protested against. But that will only postpone the problem. The Narendra Modi government of course cannot operate totally like Volcker. Volcker was not elected by the people and he did not have to explain what he did directly to the American citizens. He did have a lot of explaining to do to the American Congress though. But what the Modi government can learn from Volcker is that at times it is important to administer the bitter pill to the economy and not get bogged down by the protests. The important point here is that the Modi government needs to communicate more and more in order to explain its decisions to the people. This can be done through the social media, ministers talking to the media and even putting out detailed press releases. Also, it should not fall prey to the “rollback” culture made so popular by the Congress. The article originally appeared on www.firstbiz.com on June 25, 2014 (Vivek Kaul is a writer. He can be reached at [email protected])
It has been widely reported that there is a possibility of a bad monsoon this year. Data released by the India Meteorological Department (IMD) suggests that “the rainfall activity was deficient/scanty over the country”. In fact, “for the country as a whole, cumulative rainfall during this year’s monsoon has so far upto 18 June been 45% below the Long Period Average (LPA)”, the IMD data suggests. This has had an impact on the sowing of summer crops. Data released by the ministry of agriculture shows that the sowing of kharif crops,which are typically sown around this time of the year for harvesting after the rains (ie, September-October), has come down majorly in comparison to last year. Last year the farmers had sowed rice over an area of 16.4 lakh hectares by June 21, 2013. This year it has dropped by more than half to 7.59 lakh hectares. The planting of oil seeds has dropped by a whopping 84.9% to 1.23 lakh hectares. Pulses have also fallen from 3.74 lakh hectares to 2.6 lakh hectares this year. The planting of sugarcane continues to remain more or less stable at 43.92 lakh hectares. Nearly 55% of the cropped area in India is dependant on rains. It is still early days for the monsoon and the situation might improve in the days to come and that will lead to more sowing. A bad monsoon doesn’t necessarily mean that agricultural productivity will fall and will lead to a lower production of kharif crops. Why is that the case? As Chetan Ahya and Upasana Chachra of Morgan Stanley write in a recent report titled El Nino Impact on India’s Farm Output “In 2009, even with a 22% deficient rainfall trend, agriculture output did not decline on a year on year basis then.” This means the agricultural output in 2009 was not lower than that in 2008, even though the monsoon was 22% lower than normal. The IMD expects the monsoon this year to be 7% lower than normal. Given this, the agricultural productivity should not be impacted much. As Ahya and Chachra explain “while North Western India is likely to face the largest shortfall, it is also the most irrigated region and currently has full reservoir levels. Even in 2009, the impact on the region’s food production was minimal. Hence, North West India (comprising Punjab, Haryana and Western UP), which produces most of the Kharif season (summer crop) rice, should see a near normal crop.” What this means is that rice production is unlikely to drop. What also helps is the fact that the Food Corporation of India(FCI) as on June 1, 2014,had a rice stock of 20.6 million tonnes. The government recently decided to unload around 5 million tonnes of this stock on to the open market in order to control inflation. Even after that a stock of 15.6 million tonnes of rice still remains. Over and above this, the FCI will buy more rice in the coming months. Hence, unless the government ends up buying much more rice than it needs (as it has in the past) to run its various programmes, the price of rice should remain stable. By buying much more rice than it needs the government in the past ensured that a lesser amount of rice landed up in the open market and that led to a rapid rise in its price. Further, the Modi government also needs to ensure that it does not raise the minimum support price of rice at the same rate as the Congress led UPA government had done in the past.Every year the government of India sets a minimum support price for rice and wheat. At this price, it buys rice and wheat from farmers, through the FCI and other state government agencies. In 2005-2006, the MSP for common paddy(rice) was Rs 570 per quintal. By 2013-2014 this had shot up to Rs 1310 per quintal, an increase in price of around 11% per year. In comparison, between 1998-1999 and 2005-2006, the MSP of rice had increased at the rate of 3.8% per year. If these steps are taken the price of rice will remain stable. But what about the other kharif crops? Oil seeds and pulses are largely grown in south and central India. The irrigation facilities in this region are no so well developed as Punjab and Haryana. Also, the reservoir levels in these areas are a concern. “Consequently, price pressures for these items [i.e. pulses and oil seeds] may build up. India may potentially need to import pulses to meet the shortfall in production,” write Ahya and Chachra. The scenario on the oil seeds front is looking particularly weak given that sowing has fallen by 84.9% in comparison to last year. This after central India has received 52% lower rainfall than normal until now. The number in case of south India stands at 27%. “The overall farm output growth is unlikely to contract”, feel the Morgan Stanley analysts, even though things could get difficult on the pulses and the oil seeds front. But the real worry is the drought psychology setting in. As T N Ninan writesin a column in the Business Standard “A drought does not reduce agricultural output with the frequency of an earlier age. In fact, the agricultural sector managed to show marginal growth in both the last two difficult years – helped by the spread of irrigation and other drought-proofing measures.” Hence even with a bad monsoon, a water shortage is unlikely. “For all one knows, cereal production may increase yet again. The real danger is of drought psychology setting in and sending prices skyward, as has already happened with onions and potatoes,” writes Ninan. And that is something that Modi government will have to tackle through better communication.