Month: July 2016

Explained: In Power-Surplus India, Why Power-Cuts are Still the Norm

As a matter of routine, every afternoon, the power minister Piyush Goyal sends out a tweet titled Afternoon power check. Here are his tweets from the last few days:

Afternoon power check: 2,165 MW available at Rs.2.30/unit for states to buy. Check http://www.vidyutpravah.in (July 26, 2016)

Afternoon power check: 2,998 MW available at Rs.2.23/unit for states to buy. Check http://www.vidyutpravah.in  (July 25, 2016)

Afternoon power check: 5,085 MW available at Rs.1.89/unit for states to buy. Check http://www.vidyutpravah.in  (July 24, 2016)

Afternoon power check: 2,921 MW available at Rs.2.20/unit for states to buy. Check http://www.vidyutpravah.in  (July 23, 2016)

What this clearly tells us is that India as a whole has surplus power. Nevertheless, large parts of the country still suffer from power cuts. Just go to news.google.com and say power cuts + India and you will get a spate of news reports on it.

One such news report recently appeared in The Economic Times. It points out that no  Pan-India data on power cuts is available, nevertheless, rural India and small towns experience regular power cuts.

An NGO called Prayas, has been monitoring power cuts in different parts of the country and coming up with a monthly report. As of now the April 2016 report is available. The report collects data from 160 locations (33 Rural and 127 Urban). It essentially looks at three main parameters of the quality of power supply. These are: i) no supply hours, ii) number of interruptions, and, iii) evening hours of supply.

The report states that in April 2016, 46 per cent of the locations experienced power cuts of more than 15 hours. 24 per cent of the locations experienced 30 power cuts of more than fifteen minutes each. 16 per cent of the locations experienced an average 30 minutes of power cut in the evenings.

The one weakness with these figures is that most of the locations where the NGO is monitoring power cuts are in urban areas. The power situation in urban areas is much better than rural areas. Hence, to that extent these figures are not representative enough. The overall power cuts are likely to be much worse.

The following graph shows us how bad the power cuts are in the state of Uttar Pradesh. In the five locations that Prayas tracks in the state, there was no power for 418 hours on an average in April, 2016. This works out to around 17.4 days. Hence, there was no power in the rural areas of Uttar Pradesh, for more than half of April, as per the Prayas report.

Interestingly, Bihar did much better than Uttar Pradesh and had no power for only 7.5 days during the course of the month.

While this data is not definitive, it does tell us that power cuts are still the norm in large parts of India. This despite the fact that the country now has surplus power.

As the Load Generation Balance Report 2016-2017 points out: “The country is likely to experience the energy surplus of 1.1% and peak surplus of 2.6%. Statewise power supply position shows that almost half of the states would be either surplus or balanced.”

In fact, when the report was first published these lines got splashed across the media. The caveats that came after these lines were largely ignored. Let me point them out here: “Surplus energy is anticipated of the order of 3.3% and 6.9% in the Southern and Western Regions respectively. Northern, Eastern and North-Eastern regions are likely to face energy shortage of 1.8%, 10.3% and 8.3% respectively. The peaking shortages are likely to prevail mainly in the Northern, Southern and North-Eastern Regions to the tune of 1.6%, 10.0% and 3.8% respectively.”

Hence, the entire country will not have a power surplus in 2016-2017. Only the Southern and Western parts of the country will have a surplus. The Norther, Eastern and North-Eastern regions will see deficits. In fact, even within regions there is a huge variation. Like in the Northern Region, Uttar Pradesh is likely to see a deficit of 9.7 per cent. Jammu and Kashmir is likely to see a deficit of 15.8 per cent. In comparison, Haryana and Himachal Pradesh are likely to see a surplus of 7.9 per cent and 3.5 per cent, respectively.

In the Eastern region, Bihar and Jharkhand are likely to see a deficit of 18.4 per cent and 7.2 per cent, respectively. The power deficit states need to buy power from the power surplus states, in order to ensure that there are no power cuts.

As Load Generation Balance Report points out: “The remaining states would face both peaking and energy shortages in varying degrees during 2016-17. However, the actual shortage in a state would depend on the extent to which the state is able to get additional power from the surplus states.”

Hence, states that have a power deficit need to buy power from states that have a power surplus, in order to ensure that there are no power cuts. In order to do this, they need to have money. Let’s take the case of Uttar Pradesh. The government run electricity business in Uttar Pradesh suffered losses of Rs 17,678 crore in 2013-2014 (the latest number I could find). Given that, the state has no money to buy surplus power that is available in the country as a whole.

Further, the state had aggregate technical and commercial losses of 24.65 per cent in 2013-2014. This basically means that a major portion of the power that is used is not paid for. This, further means that the state loses money on any extra electricity that it buys and supplies. Hence, if it wants to limit its losses, then it is better off not buying any surplus electricity that is available from other states.

As the power minister Piyush Goyal lamented in June 2016: “We’re selling power for Rs 3.70 per unit to Uttar Pradesh…What can I do if UP does not buy power?” In comparison, the union government used to sell power at Rs 10 per unit earlier, Goyal had said.

What is true about Uttar Pradesh is true for several other states which incur huge losses every year and have huge accumulated losses as well. This explains why even though India has a power surplus, power cuts still continue to be the norm in large parts of the country. Also, this is a mess which will not be easy to sort out. I will continue dealing with this issue in the days to come.

The column originally appeared in Vivek Kaul’s Diary on July 27, 2016

The Next RBI Governor Will Bat for the Country, Not Just for the Government

RBI-Logo_8

Over the last two weeks, the media has speculated on who is likely to be the next governor of the Reserve Bank of India(RBI). If media reports are to be believed Arvind Panagariya, the vice-chairman of the NITI Aayog, seems to be leading the race.

Arundhati Bhattacharya, the chairperson and the managing director of the State Bank of India, is also in the race. The factor going in her favour is that she is a woman, and RBI has had no woman governor till date. The factor going against her is that the merger of the State Bank of India with its subsidiaries has been initiated, and the government is keen that she completes that. Newsreports suggest that the government is even ready to give her an extension so as to ensure that she is able to complete the merger.

Until sometime back Rakesh Mohan, a former deputy governor of the RBI, was also deemed to be in the race. But given that he recently called the Mumbai-Ahmedabad bullet train project useless, his chances of becoming the next RBI governor, despite being qualified for it, are rather dim.

As has been seen in the past, the Modi government is rather touchy about any sophisticated criticism. That was one of the points that went against the outgoing RBI governor Raghuram Rajan, who was seen to be as outspoken. Given this, the government is unlikely to appoint another similar individual. Former deputy governor Subir Gorkarn along with one of the current deputy governors Urjit Patel, are also said to be in the race. And given the government’s tendency to appoint bureaucrats to the RBI governor’s post, one cannot rule out any of the senior bureaucrats in the finance ministry.

Of course, the speculation will continue, until the government announces the next RBI governor, which has to happen soon, given that Rajan’s term ends in early September 2016.

One of the theories that has been put forward over coffee table conversations (at least among people who have such conversations while having coffee) is that the next RBI governor will be someone who is close to the government and in the process do what the government wants him or her to do.

This basically means that the next RBI governor will do the Modi government’s bidding and in the process cut the repo rate. Repo rate is the rate at which the RBI lends to banks. The hope is that once the RBI cuts the repo rate banks will cut their lending rates as well. In the process people will borrow and spend and economic growth will return. This is something that the finance minister Arun Jaitley, has been demanding for a while now.

While the interest rate mechanism is not so straightforward, but then that doesn’t stop people from talking and hoping. Remember, we are talking about coffee table conversations here.

In fact, a similar logic was offered when D Subbarao was made the RBI governor in 2008. Subbarao at that point of time was the finance secretary. He was also in line to be the next cabinet secretary, given his seniority. As the finance secretary he directly reported and worked with the then finance minister, P Chidambaram.

At that point of time the then government, like Jaitley is now, had been demanding lower interest rates. But the then RBI governor YV Reddy had not obliged. When Reddy’s second term came to an end in 2008, Subbarao was appointed to succeed him.

This led people to conclude that given that the government was appointing the current finance secretary as the RBI governor, he would bat for the government. In the past, finance secretaries have been appointed as RBI governors. This includes YV Reddy as well as Bimal Jalan, who was the RBI governor between 1997 and 2003, before Reddy took over.

In Subbarao’s case, it was the first case of the finance secretary directly becoming the RBI governor. In all the earlier cases, there had been breaks. Subbarao recounts this in his new book Who Moved My Interest Rate? – Leading the Reserve Bank of India Through Five Turbulent Years: “Y.V.Reddy, my predecessor, had a formidable reputation for standing his ground with the government. The commentariat said that my familiarity with, and sympathy for, the government’s point of view would help repair that strained relationship between the ministry of finance and the Reserve Bank. Others thought that my allegiance to the ministry of finance would make me more pliable and I would dilute the independence of the Reserve Bank. Some even suggested that I was being dispatched to implement the government’s agenda from within the Reserve Bank.”

People who analysed along these lines forgot that Reddy like Subbarao after him, had also been an IAS officer. Hence, using the logic, even he should have been pliable and could have been made to do things that the government wanted him to. But that did not turn out to be the case and he did what he thought was right for the country.

Subbarao in his book goes on to write: “The only bit [of all the analysis happening on his appointment] that troubled me was doubts about my credentials and the suspicion that I would compromise the autonomy of the Reserve Bank. I was aware too that the only way I could counter those doubts and suspicions, and establish my credibility, was by demonstrating my professional integrity in all that I said and did, which would inevitably take time.”

Rest assured that if Panagariya or Bhattacharya are appointed as the RBI governor, a similar sort of logic of them being close to the government, will be offered. But the thing to remember is that in the past many RBI governors have come from bureaucracy and done the right thing.

There are multiple reasons for it. One is that they have their legacy to think about. Second, the past RBI governors have set high standards and given that the new RBI governor needs to stand up to that. Look at what happened at the Election Commission, after TN Seshan cleaned it up. Booth capturing and violence (though not totally) have become a thing of the past.

Third, the RBI governor’s job is typically the last high-profile government job, an individual will take on, and hence, he need not oblige the government and keep it in good humour. (Manmohan Singh is an exception to this). Fourth, the RBI governor needs to do the right things, if he or she wants to be taken seriously by the financial markets.

Given these reasons, the next RBI governor, whoever he or she is, is likely to do the right things, than just bat for the government.

The column originally appeared in Vivek Kaul’s  Diary on Equitymaster on July 27, 2016

Of marriages, second hand cars and being unemployed

car

Since I started working nearly a decade and a half back, I have quit four jobs. Three out of four times, I quit without having a new job in place. Two out of the three times I was looking for a job, I easily found one.

Nevertheless, if you go by conventional advice this is really not done. And there is solid logic behind it. The economists call it information asymmetry. This is essentially a situation where the seller has more information than the buyer.

When I quit a job and look for a new job, I am a seller of services. The prospective employer is the buyer. I know why I quit my job, the prospective
does not. This is information asymmetry and it creates doubts in the mind of the prospective employer.

The following questions might crop up in the mind of the prospective employer: a) Why did he quit his job? b) Did he really quit, or was he fired? c) Is he too much of a rebel?

The information asymmetry creates problems. As Ray Fisman and Tim Sullivan write in The Inner Lives of Markets: “If a job applicant’s previous employer didn’t want to keep him on the payroll, it’s worth asking why not. You can also imagine that the problem deepens the longer you’ve been out of work: Why on earth hasn’t she found someone willing to give her job and what are other prospective employers seeing that I don’t.”

And this is why quitting a job without having a new one, is something really not done, unless you are thinking of doing something else. Information asymmetry spoils the job market for everyone who quits a job, without having a new one. This, despite the fact that the individual quitting the job might simply be bored or not have gotten along with a nasty boss.

The situation is similar to those who resist marriage for a long time and then want to get married, a little late in life.

As Fisman and Sullivan write: “If you’re still single by the time you reach a certain age, it becomes harder and harder to convince a potential mate, that there isn’t something wrong with you.” In the Indian context, this means regular questions and comments from relatives, as well. I remember a few years back, my maternal grandfather, asked my sister: “If I didn’t like women”. I was 32-33, at that point of time and single. Information asymmetry got to my grandfather as well.

And what is true about jobs, single individuals, is also true about second hand cars. Economist George Akerlof wrote a rather unusual research paper The Market for “Lemons”: Quality Uncertainty and the Market Mechanism, which was published in 1970.

In this paper Akerlof talks about the second hand car market in the United States. He pointed out that there are essentially four types of cars. “There are new cars and used cars. There are good cars and bad cars. A new car may be a good car or a lemon, and of course the same is true of used cars.” Bad cars are referred to as lemons in the United States.

An owner of a car has a good idea about whether his car is a good car or a lemon. As Akerlof put it in his research paper: “After owning a specific car, however, for a length of time, the car owner can form a good idea of the quality of this machine…An asymmetry in available information has developed: for the sellers now have more knowledge about the quality of a car than the buyers.”

This leads to a problem where the buyer of the car has no idea as to how good or bad the car is. Hence, as Akerlof put it: “The bad cars sell at the same price as good cars since it is impossible for a buyer to tell the difference between a good and a bad car; only the seller knows.”

Information asymmetry essentially stops the job market, the marriage market as well as the second hand car market, from working properly.

The column originally appeared in the Bangalore Mirror on July 27, 2016

Does the Food Security Act Really Offer Food Security?

food

In late June 2016, the food minister Ram Vilas Paswan, said that by July 2016, the entire country would come under the ambit of the National Food Security Act. As he said: “National Food Security Act is in force in 33 States/UTs, and in states of Tamil Nadu and Nagaland it will be implemented in next month.”

The National Food Security Ordinance (NFSO),8 2013 was promulgated on July 5, 2013. A little over two months later, the National Food Security Act (NFSA) was enacted on September 10, 2013. Given this, it has taken the states nearly three years to implement the Act.

The Food Security Act offered food security by freezing the price of rice, wheat and coarse cereals at the central issue prices of Rs 3, Rs 2 and Re 1, respectively, for a period of three years, up to July 2016. The targeted public distribution system forms the largest component of the Food Security Act.

In fact, there are two types beneficiaries under the targeted public distribution system. There are those who come under the Antyodaya Anna Yojana (AAY) and then there is something termed as priority households. The AAY was launched in December 2000 and it aims to reduce hunger among the poorest of the poor. Priority households on the other hand includes all families which come under the below poverty line. The broader definition of the priority households has been left to the state governments.

As far as entitlements go, every AAY household is entitled to 35 kg of food grains every month. Those coming under priority households are entitled to 5 kg per person of food grains every month. Close to 12.2 crore individuals come under AAY whereas 69.3 crore individuals come under priority households.

Nearly three years after the Food Security Act was passed, a question worth asking is, does it really offer food security to the citizens of this country?

The Food Security Act largely focusses on making food grains available to the citizens of this country at a rock bottom price. In order to support the ambitious coverage of the Act (nearly 81.5 crore individuals or two-thirds of the country’s population as per 2011 Census), the government has to acquire a large amount of rice and wheat through the Food Corporation of India as well as other state procurement agencies.

This has led to the defacto nationalisation of the grain trade. As Shweta Saini and Ashok Gulati write in a working paper titled The National Food Security Act 2013—Challenges, Buffer Stocking and the Way Forward: “Such large-scale public procurement also has the impact of strangling private trade (as has been the case in Punjab, Haryana and now Madhya Pradesh and Chhattisgarh) (CACP, 2014). Of the total market arrivals of wheat and rice in these states, 70-90 per cent is bought by the government, indicating a de‐facto state take‐over of grain trade.”

This has an unintended consequence. Simply stated, the law of unintended consequences refers to a situation where economic decisions have unexpected effects.

In this context Saini and Gulati point out that “the monopolisation of the grain market by the government, where increasingly lower quantities of grains are available in the open market, also leads to the problem of support reversal.”

And what is support reversal? “The average cereal consumption in India is 10.6 kgs per person per month (NSSO, 2011), and NFSA supplies nearly half of it (5 kgs per month per person, except for those under the AAY who have a family entitlement of 35 kgs per month). People go to the open market to buy their remaining cereal requirements. However, with the government mopping up the supply of cereals, the open market is left with less causing an upward stickiness in prices,” write Saini and Gulati.

Even for those coming under AAY, the NFSA doesn’t supply enough food grains. Assuming five people per household, the average individual entitlement comes to 7 kgs per month, which is lower than the average cereal consumption of 10.6 kgs per month.

The point being that even though the idea behind the Food Security Act is to provide food security by selling food grains at a very low price, it makes things a little difficult by pushing up prices of food grains. Further, one needs to take into account the fact that food grains are not the only thing that people are eating in order to survive.

The government offers a minimum support price at which it buys rice and wheat from farmers. This helps on two counts. One is that it encourages farmers to grow rice and wheat, knowing well in advance what price they can sell it at. Further, the government buys rice and wheat to create a buffer stock in order to support the food security programmes, as well as maintain food security of the nation.

But this leads to other issues. As Shweta Saini and Marta Kozicka write in a research paper titled Evolution and Critique of Buffer Stocking Policy of India: “The buffer stocking policy of food grains has become the one tool with the government to fulfil the interlinked objectives of supporting food producers and food consumers, and of ensuring food availability at the national level. Buffer stocking is used to simultaneously tackle the problem of volatility in the price of food grains, provide food security and incentivise high production. Using the same instrument to achieve the objectives of ensuring remunerative price to farmers and providing the food grains so procured to the poor at highly subsidised prices creates conflicts.”

One clear problem is the fact that farmers end overproducing rice and wheat, given that the government buys all the rice and wheat that is brought to it. This discourages farmers from growing fruits, vegetables and dal. As the Economic Survey of 2014-2015 points out: “High MSPs result in farmers over-cultivating rice and wheat, which the Food Corporation of India then purchases and houses at great cost. High MSPs also encourage under-cultivation of non-MSP supported crops. The resultant supply-demand mismatch raises prices of non-MSP supported crops and makes them more volatile. This contributes to food price inflation that disproportionately hurts poor households.”

This essentially means that even though the Food Security Act wants to help people by selling rice and wheat at a low price, it ends up creating a difficult situation because prices of other crops tend to go up, as farmers tend to concentrate on buying rice and wheat. Food inflation in June 2016 was at 7.79 per cent. Within food, vegetables, pulses and sugar, saw an increase in price of 12.72 per cent, 28.28 per cent and 12.98 per cent, respectively. Spices went up by 8.13 per cent.

Hence, the unintended consequence of the Food Security Act is to make things more expensive on the whole. What is the way around this? I shall discuss some solutions in the weeks to come.

The column originally appeared in Vivek Kaul’s Diary on July 21, 2016

Why Governments Love Inflation

rupee

The Reserve Bank of India(RBI) governor Raghuram Rajan has often been accused of not cutting the repo rate fast enough and in the process hurting economic growth.

Repo rate is the interest rate at which RBI lends to banks. The hope is that once the RBI cuts the repo rate, banks will cut their lending rates as well. In the process people will borrow and spend and economic growth will return.

The Rajan led RBI started cutting the repo rate from January 2015 onwards. Between then and now it has cut the repo rate by 150 basis points, from 8 per cent to 6.5 per cent. One basis point is one hundredth of a percentage.

In June 2016, the rate of inflation as measured by consumer price index was at 5.77 per cent. The repo rate at 6.5 per cent is hardly high enough.  The gap between the repo rate and the rate of inflation is not even 100 basis points. As Rajan said recently: “This discussion keeps going on without any economic basis. You saw the CPI numbers just last week. 5.8 per cent is the CPI inflation, our policy rate is 6.5 per cent. So I am not sure where people say we
are behind the curve. You have to tell me that somehow inflation is very low for us to be seen as behind the curve. So, I don’t really pay attention to this kind of dialogue.”

Also, the rate of inflation in January 2015 was at 5.19%. Since then it has risen by 58 basis points to 5.77% in June 2016. During the same period, the repo rate has been cut by 150 basis points. So the RBI has cut the repo rate despite, the rate of inflation going up. Hence, the question is, how has it been slow in cutting the repo rate? People who make such arguments, typically do not look at numbers and say things for the sake of saying them.

The fact of the matter is that all governments love lower interest rates and inflation. One reason for this is that low interest rates and inflation can create some growth in the short-term. As I had explained in yesterday’s column quoting a February 2014 speech of Raghuram Rajan: “if lower rates generate higher demand and higher inflation, people may produce more believing that they are getting more revenues, not realizing that high inflation reduces what they can buy out of the revenues. Following the saying, “You can fool all the people some of the time”, bursts of inflation can generate growth for some time. Thus in the short run, the argument goes, higher inflation leads to higher growth.”

The trouble is that this inflation eventually catches up with growth. As Rajan said: “As the public gets used to the higher level of inflation, the only way to fool the public again is to generate yet higher inflation. The result is an inflationary spiral which creates tremendous costs for the public.”

Take a look at the following table.

YearInflation (in %)Economic Growth (in %)Fiscal Deficit as a % of GDP
2007-20086.29.322.54
2008-20099.16.725.99
2009-201012.378.596.46
2010-201110.458.914.8
2011-20128.396.695.73
2012-201310.444.474.85
2013-20149.684.744.43
    
  

In 2007-2008, things were going well for India. The gross domestic product(GDP) grew by 9.2 per cent. The fiscal deficit was at 2.54 per cent of GDP. The inflation was at 6.2 per cent. Then the financial crisis struck in 2008-2009. The government decided to tackle the slowdown in growth by increasing its expenditure. In the process the fiscal deficit went up as well. Fiscal deficit is the difference between what a government earns and what it spends.

The fiscal deficit reached 5.99 per cent of the GDP. Next two financial years the economic growth crossed 8.5 per cent. The rate of inflation also entered double digits. The extra expenditure did manage to create growth, but it also created inflation.

This ultimately caught up with economic growth. The economic growth fell to below 5% levels in 2012-2013 and 2013-2014.

Hence, high inflation ultimately caught up with growth. But it did create growth for two years and during that period the Manmohan Singh government looked good. In fact, if the Lok Sabha elections were around that period, the Congress led United Progressive Alliance would have done much better than it eventually did.

The larger point is that any government has only got a period of five years to show its performance and in that period it has to do whatever it takes. If that means turning on inflation to create growth, then so be it. The trouble is that once you get inflation going, it is very difficult to control, as we clearly saw between 2007-2008 and 2013-2014. But the lessons of that are still not appreciated.

In fact, there is another lesson to learn here. As Vijay Joshi writes in India’s Long Road—The Search for Prosperity: “The Indian state has systematically underestimated the prevalence and the cost of ‘government failure’. It often intervenes, arbitrarily or to correct supposed market failures, without any clear evidence that the market is failing, and so ends up damaging resource allocation and stifling business drive.”

While, inflation ultimately catches up with economic growth, it ends up helping the government in another way. The government finances its fiscal deficit by borrowing. When it borrows the absolute level of government debt goes up. Despite this, government debt expressed as a proportion of the gross domestic product, might come down, because the GDP in nominal terms is growing at a faster pace than the debt, due to high inflation.

As Joshi writes: “From 2008 onwards, fiscal consolidation [in fact, the government was spending more] was meagre but this did not stop the debt ratio falling from 80 per cent of GDP in 2008-2009 to 68 per cent in 2014-2015. This is because high inflation eroded the value of debt.”

Due to inflation, the nominal GDP (which is not adjusted for inflation like real GDP, and against which total debt is expressed) went up at a much faster pace than the total debt of the government. This led to government debt expressed as a proportion of GDP falling.

Given this, there is more than one reason for the government to love inflation.

The column originally appeared on July 20, 2016, in Vivek Kaul’s Diary on Equitymaster