How RBI Generated a ₹ 99,122 Crore Surplus for the Government

On May 21, the central board of directors of the Reserve Bank of India (RBI) approved the transfer of Rs 99,122 crore as surplus to the central government for the accounting period of nine months ending March 31, 2021 (July 2020-March 2021). 

This transfer to the government has raised a few issues. Let’s look at them point wise. But before we do that, I want to make a disclaimer here. This is a complicated topic and to make sure that I am able to explain it in simple English, I have left out a few details. At the cost of repetition, the idea is to explain the issues at hand, than get all the details right. So, to everyone who understands this inside out, apologies in advance.

Here we go. 

1) The RBI’s accounting year was from July to June, different from the April to March period that the central government follows. From 2021-22 onwards, the accounting year of the RBI will be the same as that of the government. Given this, the last accounting year of the RBI was for the period of nine months from July 2020 to March 2021, as it moved to the government’s accounting year.

Despite this shortening in the accounting year, the RBI surplus to the government has jumped big time. The surplus transferred to the government from July 2019 to June 2020, had stood at Rs 57,128 crore, for a period of full 12 months. Clearly, there has been a huge jump in the surplus transferred to the government, once we consider the fact that the last accounting year of the RBI was just nine months long.

2) The annual budget of the central government presented by the finance minister Nirmala Sitharaman on February 1, had assumed that the central government would earn Rs 53,511 crore as way of dividend/surplus from the RBI, the nationalised banks and the financial institutions (read the Life Insurance Corporation of India). A few months later, the surplus transferred just by RBI is much more than Rs 53,511 crore. So what gives?

3) Let’s first try and understand how the RBI managed to generate such a huge surplus, which was unexpected (or at least not made public) up until the budget was presented earlier this year. From July 2020 to March 2021, the RBI gross sold a total of $85.2 billion of its foreign exchange.

An accounting change made in 2019, thanks to the Bimal Jalan Committee report, now allows the RBI to pass a part of the profit made from selling foreign exchange, to the government as a surplus. The earlier system was different (for the sake of simplicity we won’t go there).

There is a certain weighted average price at which RBI has bought these dollars over the years. The RBI doesn’t reveal this detail. As per Ananth Narayan, Senior India Analyst at the Observatory Group, this weighted average stood at Rs 55.70, from July 2019 to June 2020.

It would be fair to say the weighted average would be a little higher in the last accounting year, more towards Rs 58-60 to a dollar. The RBI would have sold these dollars, from July 2020 to March 2021, at Rs 72-75 to a dollar, and thus made a profit of around Rs 15 for every dollar sold.

A part of this profit has been passed on to the central government as a surplus. So far so good.

4) While at the aggregate level, everything looks fine, if we start to look at the detailed data, this doesn’t pass the basic smell test. Take a look at the following graph, which basically plots the total gross dollars sold by the RBI every month from July 2020 to March 2021.

Source: Centre for Monitoring Indian Economy. 

The above chart makes for a very interesting reading. Close to 60% of the dollars sold during  the accounting year were sold in the last two months ($50.5 billion of the total $85.2 billion). More than 77% of the dollars sold during the year were sold in the last three months ($65.9 billion of the total $85.2 billion). 

What does this tell us? It tells us that the RBI sold a lot of dollars after the finance minister had presented the budget. And a good chunk of the surplus given to the government was probably thus generated. If I was a gossip columnist, I would have definitely speculated, whether one of the secretaries in the FinMin dialled RBI for more money, around the time the budget was presented.

5) As mentioned earlier, the facts stated above don’t pass the basic smell test. The RBI at various points of time needs to sell dollars in order to manage the dollar rupee exchange rate. While the RBI sold $65.9 billion from January to March, it also bought $61.8 billion during the same period. On the whole, this wouldn’t have made much of a difference in moving the foreign exchange market in a particular direction, when it comes to dollar rupee exchange rate.

Take a look at the following chart, which plots the dollar rupee exchange rate from January 2021 to March 2021.

Source: Yahoo Finance.

As can be seen from the above chart, the dollar rupee exchange rate moved within a narrow  range of Rs 72.4-73.6, for the first three months of 2021.

So what does this really mean? The RBI sold lots of dollars after the finance minister’s budget speech, not because that was what was required in the foreign exchange market, but in order to generate an accounting surplus for a cash-starved government. If I were to put it in very simple terms, the RBI led by Shaktikanta Das, resorted to jugaad.

6) The way things stand the RBI is not allowed to directly finance the expenditure by printing money and handing it over to the government to spend. Hence, over the last couple of years, it has been resorting to different ways to do so. Selling and buying dollars in order to generate an accounting profit is one such way. 

If I were to be slightly flippant here I would ask a rhetorical question – Is RBI a central bank or is it a government sponsored hedge fund?

Another way of financing the government has been printing money and buying existing government bonds from banks and other financial institutions.

While this move does not hand over money to the government directly, it does ensure that the supply of money in the financial system goes up, and the newly created money can be used by banks and financial institutions to buy fresh government bonds. Hence, this is indirect monetisaton of the government’s fiscal deficit or the difference between what it earns and what it spends.

To conclude, while nothing can stop a central bank from printing money, the tactic of selling dollars in order to generate a profit depends on how much the rupee depreciates against the dollar. While the weighted average cost of the dollars that the RBI currently has, is less than Rs 60 to a dollar, it will only rise in the years to come.

Hence, for enough profit to be generated through this route, the rupee needs to depreciate against the dollar. But that’s where atma nirbharta will come in and limit the RBI’s hand. Strong nations have strong currencies, at least that’s the idea in the heads of the politicians who run the current government.

Of Money Printing and Covid Vaccines

I recently wrote a piece for, explaining why the central government should ensure that free vaccination against covid is available even for those in the 18-45 age bracket, and why the principles of free market do not work in this case.

In this piece, I carry the argument forward.

One of the arguments being made is that the companies making the vaccines should be allowed to price the vaccine at a price they deem to be appropriate because they need to be compensated for the risk that they are taking on.

In a normal situation, I would completely agree with that. But this is not a normal situation. We are in the midst of a health emergency of a kind India has not seen in a long time. Also, more than that, allowing companies to decide on the price of the vaccine is bad economics. (I had explained this in the livemint piece and I make a new point here). 

Let me explain. There are two companies which are supplying vaccines, Serum Institute and Bharat Biotech. They have access to the entire Indian market for the next few months, before the foreign competitors come along. Of this, Serum Institute has been supplying 90% of the vaccines up until now. Basically, it has more or less got a monopoly over the Indian market.

This is a very important point that needs to be taken into account. As per India Ratings and Research 84.19 crore out of a total population of 133.26 crore are now eligible for the vaccine, basically people over the age of 18. This is something that the central government needs to keep in mind.

Even if these companies made Rs 100-150 per dose of the vaccine, there is a lot of money to be made, running into thousands of crore, and that is an adequate compensation for the risk involved. Also, it is worth remembering that Serum Institute did not develop the vaccine. It is a contract manufacturer. These points cannot be ignored. 

Other than letting the vaccine companies decide on a price, the central government has also decided to let state governments procure vaccines directly from these companies. The price fixed for the state governments by the Serum Institute is Rs 400 per dose. Bharat Biotech has priced it at Rs 600 per dose.

For the private hospitals, the price has been fixed at Rs 600 per dose and Rs 1,200 per dose, respectively. Of course, these are wholesale prices, and the price eventually charged in the private hospitals, will be higher than this, as those entities need to take their costs of administering the vaccine into account and make a profit as well.

Over and above this, central government will continue to buy vaccines from these two companies and continue supplying them to state governments for free, so that those over the age of 45, can continue to be vaccinated for free, at government vaccination centres.

What will this do? Multiple price points for the vaccines in the midst of a health emergency is bad strategy to say the least. It will encourage black marketing, with black marketers sourcing vaccines from the cheapest source (central government supplying to state governments for free) and selling it for a higher price in the open market. This, especially at a time when there is a shortage of vaccines. 

Hence, it makes sense that central government continue to buy the vaccines from the manufacturers and allocate it to the state governments. This does not mean that the private hospitals should not be involved in the vaccination effort. They should be because the aim is to vaccinate as many people as fast as possible. 

But at the same time it needed to be ensured that the government vaccination centres vaccinated everyone for free, and not just those over 45. This would have ensured that the private hospitals could not have charged a very high amount to vaccinate. This would have keep prices in control and those who wanted to pay could have paid for the vaccine, as well. 

Many state governments have declared that they will vaccinate those in the 18-45 age group, for free. While this is a good move, it needs to be said that this is something that should have happened at the central government level. The central government has many more ways of raising money than a state government. Also, the central government had allocated Rs 35,000 crore towards vaccination in the budget, with a promise to raise the allocation if required. 

Over and above this, there is a more important point. But before I explain that. Let me deviate a little here and talk about an Irish-French economist called Richard Cantillon, who lived in the seventeenth century. Cantillon came up with something known as the Cantillon effect.

He made this observation based on all the gold and silver coming into Spain from what was then called the New World (now South America). When money supply increased in the form of gold and silver, it would first benefit the people associated with the mining industry, that is, the owners of the mines, the adventurers who went looking for gold and silver, the smelters, the refiners, and the workers at the gold and silver mines.

These individuals would end up with a greater amount of gold and silver, that is, money. They would spend this money and thus drive up the prices of meat, wine, wool, wheat, etc. Of course, everyone in the economy had to pay these higher prices.

How is this relevant in the world that we live in?

When central banks print money as they have been doing regularly since 2008, in order to drive down interest rates, they do so with the belief that money is neutral. So, in that sense, it does not really matter who is closer to this money being printed and who is not. But that’s not how it works.   

The Cantillon effect has played out since 2008. When central banks printed and pumped money into the financial system, the large institutional investors, were the ones closest to the money being printed.

They borrowed money at cheap rates and invested across large parts across the world, fuelling stock market and bond market rallies primarily, and a few real estate ones as well.

The larger point being that if a central bank prints money and throws it from a helicopter, those standing under the helicopter, get access to this money first. 

The important word here is access. With state governments and private hospitals being allowed to buy vaccines directly from the two companies, access becomes very important. When vaccination for those between 18-45 opens up on May 1, demand will go through the roof. But the supply will not go up at the same speed, with companies taking some time to scale up. So, how will the vaccine companies decide who to sell how much to?

Should they fulfil the demands of state X first or should they sell more to state Y? Or should they sell more to private hospitals, because the price is higher in that case. In this scenario, access becomes very important. This is the Cantillon effect of vaccines. The phones of the CEOs and the top management of these two companies won’t stop buzzing in the months to come. 

What will also happen is that many corporates will look to vaccinate their workforces (in fact, they already are), so that everyone can get back to work fast (Please remember everyone can’t work from home. India has large banks and many service businesses, in which people can’t work from home). In this scenario, private hospitals will have to decide whether they should vaccinate individuals or should they vaccinate corporate work forces, first.

Corporates might decide to pay a higher price for vaccination simply because it might be more profitable for them to have a vaccinated workforce going out there and doing their work, than not. 

The current structure of vaccination at multiple price points makes the issue of access to vaccination very important and that shouldn’t be the case. The central government shouldn’t be propagating inequality in access to vaccines.

Hence, the central government should have bought vaccines directly from the manufacturers and supplied it to the states.

Nevertheless, this is not going to happen simply because that would mean that the strategy of multiple price points was a mistake. And the government doesn’t make mistakes, especially even when it makes them.

कोरोना काल में छोटू बाबू की बड़ी शादी

शाम के पौने सात बजे थे. बिजली कटी हुई थी. पूरी गली में अँधेरा छाया हुआ था. 
पर प्रोफेसर पी के श्रीवास्तव का घर दूधिया रोशनी में समझो नहा सा रहा था. उनके बड़े बेटे छोटू की शादी थी. 
अमूमन तो छोटे बेटे का नाम छोटू रखा जाता है. पर यहां हुआ ऐसा था कि जब छोटू पैदा हुआ तो वो इतना छोटा था कि लोगों ने उसका नाम छोटू रख दिया. भाई मोहल्ले का भी कुछ हक़ तो बनता ही था प्रोफेसर साहब पर. 
खैर फ़िलहाल छोटू को रहने दीजिये, काम की बात करते हैं. 
पूरी गली में अँधेरा था तो प्रोफेसर सब घर टिमटिमा कैसे रहा था? उसके लिए आपको प्रोफेसर साहब के छोटे साले लल्लन को धन्यवाद देना पड़ेगा. लल्लन जी ने पीछे के फेज से बिजली खींच ली थी. अगर बिजली खींचने में कोई यूनिवर्सिटी पीएचडी वगैरह देती है तो लल्लन को तो ज़रूर मिलना चाहिए. 
“बहुत बढ़िया बिजली खींचे हो लल्लन,” प्रोफेसर साहब ने लल्लन से कहा. 
लल्लन ने इसका जवाब अजीब तरह से मुस्कुरा के दिया. ये वैसी ही मुस्कराहट थी जो मिडिल एज्ड भारतीय आदमियों में अक्सर पायी जाती है, जब वो कुछ कहना चाहते हैं पर कह नहीं पाते हैं. 
“क्या हुआ?” प्रोफेसर साहब ने पुछा. वो समझ गए कि लल्लन कुछ कहना चाह रहा है. 
“जीजाजी वो व्यवस्था हो गयी है ना?” लल्लन ने एकदम लजा लजा के पुछा, जैसे की किसी की शादी में पहली बार दारु पीने वाले हों. 
“हाँ, आखरी वाली कार में सब रखवा दिया है. ओल्ड मोंक, वैट 69, सब कुछ.” 
“और चखना वगैरह?”
“उसका भी बंदोबस्त हो गया है. समधी जी को गाडी का नंबर दे दिया है. जैसे ही हम लोग बरातघर पहुंचेंगे, सेवा शुरू हो जाएगी. चिल्ली चिकन वगैरह सब.” 
इससे पहले की लल्लन कुछ कह पाते, कमरे में, छोटू, बड़े ही गुस्सैल मूड में घुसा. 
अब थोड़ा सा आपको दूल्हे राजा के बारे में भी बता दे. 
छोटू दिल्ली यूनिवर्सिटी से पढ़े थे. पिताजी का बहुत अरमान था कि आईएएस अफसर बने. दो एटेम्पट दे चुके थे. दूसरी बार mains भी क्लीयर हुआ था. इंटरव्यू में वो थोड़ा लड़खड़ा गए थे. पैनल में दो लेडीज़ थी और उनके सामने छोटू जी ने एकदम चुप्पी साध ली थी. 
खैर, mains क्लीयर करने के बाद, पूरे मोहल्ले में उनका बहुत नाम हो गया था. लोग छठवीं-सातवीं के बच्चों को लेकर छोटू के पास करियर एडवाइस मांगने आते थे. 
इन सब चीज़ों से ज़्यादा मैरिज मार्किट में छोटू का वैल्यू बहुत बढ़ गया था. इस साल mains क्लीयर अगले साल कलेक्टर भी बनेगा, पंडित ये बोल बोल कर रिश्ते फिक्स करने की कोशिश कर रहा था. 
प्रोफेसर साहब ने ये सोचा की अभी छोटू का वैल्यू ऊपर है, इसलिए उसे भंजा लेना चाहिए. क्या पता कलेक्टर बने या न बने? प्रोफेसर साहब ने तो शहर के सबसे बड़े आईएएस कोचिंग सेंटर वाले से भी बात कर रखी थी. अगर तीसरा एटेम्पट भी बेकार गया तो छोटू को वहां लगवा देंगे. 
और छोटू की उम्र भी हो रही थी. ऐसे तो तीस साल के थे पर सर्टिफिकेट पर 27 की उम्र थी. इसकी वजह से शादी में प्रॉब्लम भी हो गयी थी. जिस लड़की से बात चल रही थी, उसकी उम्र सर्टिफिकेट पर 28 थी. फिर बातों बातों में पता चला की लड़की असल में 29 की है और मामला सुलझ गया. 
छोटू जी बहुत गरम थे. 
“पापा, आप भी कौन से बैंड वाला लेकर आ गए हैं.”
“क्यों, जमाल बैंड है. हमारी शादी में भी यहीं बजाया था.” 
इससे पहले की छोटू कुछ कह पाता लल्लन बीच में कूद पड़े. 
“क्या बढ़िया बढ़िया गाना बजाता है. आज मेरी यार की शादी है. मेरी देश की धरती सोना उगले, उगले हीरे मोती…” 
“सब पुराना गाना है,” छोटू ने कहा. 
“अरे क्या पुराना है. यही सब गाना पर तो नागिन डांस होता है. अब क्या हम लोग तुमरा शादी में नागिन डांस भी नहीं करेंगे,” लल्लन ने थोड़ा गरम होकर जवाब दिया. 
“पापा, पर दोस्त सब कैसे नाचेगा. वो लोग को ई सब गाना नहीं बुझायेगा.”
“क्या करें फिर?” प्रोफेसर साहब ने पुछा. 
“एक ठो डीजे बुला ले?”
“डीजे?” प्रोफेसर साहब थोड़ी सोच में पड़ गए. “किसको बुलाओगे?”
“अरे पीछे वाली गली मैं पुट्टुवा रहता है ना? 
“कौन पुट्टु? वो जो चार बार एटेम्पट दिया?”
“हाँ वही पापा।”
“डीजे बन गया है आजकल वो?”
“हाँ पापा, बहुत जोरदार बजाता है. डीजे वाले बाबू मेरा गाना चला दे. डीजे वाले बाबू मेरा गाना चला दे.” 
“अच्छा बुला लो.”
प्रोफेसर साहब की इतनी कहने कि देर थी और छोटू उछलते कूदते हुए कमरे से बाहर निकल गया. 
उसके निकलते ही प्रोफेसर साहब ने लल्लन से कहा: “जाओ देखो तुम्हारी दीदी तैयार है कि नहीं.”
“हाँ जीजाजी,” कहकर लल्लन कमरे से निकल गया. 
प्रोफेसर साहब ने अपना मोबाइल फ़ोन निकाला और समधी को फ़ोन लगाया. 
“बस आपका ही इंतज़ार कर रहे हैं,” समधी जी ने जवाब दिया. 
“अच्छा, थोड़ी सी समस्या हो गयी है.”
“क्या समस्या?”  समधी जी ने घबरा कर पुछा, आखिर लड़की की शादी का मामला था.  
“अरे छोटू बाबू को अब डीजे भी चाहिए.”
“तो इस में क्या है. बुला लीजिये. एक ही बार तो हमारी बेटी से शादी करेगा. तो थोड़ा नाच गाना तो होगा ही.”
“धन्यवाद्,” प्रोफेसर साहब ने जवाब दिया.
“अरे आपका बेटा हमारा बेटा।” 
“हम लोग एक घंटे में पहुँच जाएंगे,” ये कहकर प्रोफेसर साहब ने फ़ोन काट दिया. 
प्रोफेसर साहब का फ़ोन काटते ही समधी जी उठे और अपनी पत्नी को खोजते हुए निकले. 
“अरे रश्मी, खाने का 50 प्लेट और कम करना पड़ेगा.”
“काहे?” पत्नी ने थोड़ा इर्रिटेट होकर पुछा. 
“छोटू बाबू को डीजे चाहिए.”
“भाई हम आरबीआई में केवल क्लर्क थे, नोट छापने की मशीन आरबीआई के पास है हमारे पास नहीं.”
आधे घंटे बाद. 
छोटू की बारात रोड पर है बरातघर की तरफ, कछुए की रफ़्तार से बढ़ रही है. 
डीजे वाले बाबू तेरा गाना चला दे, बार बार बज रहा है. एक बार डीजे बजा रहा है. एक बार जमाल बैंड. दोनों में प्रतिस्पर्धा चल रही है. 
लल्लन नागिन डांस करने में लगे हुए हैं. पर तोंद इतने निकल गयी है कि कम्बख्त हाथ ज़मीन नहीं छू पा रहे हैं. 
इतने में धमाका टीवी के रिपोर्टर राजू जो वहां से गुज़र रहे हैं, बारात में इतने सारे लोग देख कर चकित रह गए हैं. कोरोना काल में सरकार ने बारात में परमिशन तो केवल 50 लोगों की दी है. पर यहाँ तो कम से कम 200 लोग चल रहे हैं. 
रिपोर्टर राजू माइक लेकर अपने कैमरामैन के साथ जल्दी जल्दी दूल्हे के घोड़े की तरफ भागे. 
छोटू टीवी रिपोर्टर को देखकर बहुत  खुश होता है, घोड़े से नीचे उतरता है उससे बात करने के लिए.
“कितने लोगों का बारात है?” रिपोर्टर राजू पूछता है. 
“अब सर, डेढ़ दू सौ लोग तो जइबे करेगा न बरात में,” मुँह में गुटका दबाये हुए, छोटू जवाब देता है. 
“और अगर इसकी वजह से कोरोना फैल गया तो कौन ज़िम्मेवार होगा?” रिपोर्टर राजू पूछता है. 
“कोरोना वरोना कुछ नहीं है.”
“अरे होता तो इतना बड़ा बड़ा रैली करते नेताजी.” 
“और हम अंग्रज़ी अखबार पढ़ते हैं. अभी अभी इंडियन एक्सप्रेस में भल्ला और भसीन ने लिखा कि रैली से कोरोना नहीं फैलता है.”
राजू का सर घूमने लगा. 
“जब रैली से कोरोना नहीं फैलता है तो बारात से कैसे फैलेगा?”
राजू का सर और भी घूमने लगा. 
“सब पप्पू का साज़िश है. वही फैला रहा है ये सब नेगेटिविटी. ज़रा पॉजिटिव बात कीजिये सब अच्छा होगा.”
राजू का सर पूरी तरह से घूम जाता है और अपने कैमरामैन से कहता है: “ज़रा माइक धरो.”
और इसके बाद वो छोटू को पीटने लगता है. 
बारात नाचने में मस्त है, जैसी की शादी न हो मैय्यत में आये हो, और सब के सब लगाए हुए हों. 
जब तक बारात को समझ आता है क्या हो रहा है, लाइव टीवी पर छोटू पिट चूका होता है. 
इस कहानी का अंत यहाँ से इंस्पायर्ड है. 

Charles Ponzi and Bernie Madoff Would Have Been Proud of the Ponzi Schemes of 2021

Bernie Madoff, the man who ran the biggest Ponzi scheme of all time, died in jail on April 14, 2021, fifteen days shy of turning 83.

A Ponzi scheme is a fraudulent investment scheme in which older investors are paid by using money being brought in by newer ones. It keeps running until the money being brought in by the newer investors is greater than the money being paid to the older ones. Once this reverses, the scheme collapses . Or the scamster running the scheme, runs away with the money before the scheme collapses. 

The scheme is named after an Italian American, Charles Ponzi, who tried running such an investment scheme in Boston, United States, in 1920. He had promised to double investors’ money in 90 days, which meant an annual return of 1500%. At its peak, 40,000 investors had invested $15 million in Ponzi’s scheme.

Not surprisingly, the scheme collapsed in less than a year’s time, under its own weight. All Ponzi was doing was taking money from newer investors and paying off the older ones.

Once Boston Post ran a story exposing his scheme in July 1920, many investors demanded their money back and Ponzi’s Ponzi scheme simply collapsed, as money being brought in by newer investors dried up, while older investors had to be paid.

Madoff was smarter that way. His scheme gave consistent returns of around 10% per year, year on year. The fact that Madoff promised reasonable returns, helped him keep running his Ponzi scheme for decades. But when the financial crisis of 2008 struck, it became difficult for him to carry on with the pretence and the scheme collapsed.  

As I wrote in a piece for the Mint newspaper yesterday, Madoff was Ponzi’s most successful disciple ever. While Ponzi’s investment scheme started in December 1919, it collapsed in less than a year’s time in August 1920. On the other hand, documents suggest that Madoff’s scheme started sometime in the 1960s and ran for close to five decades.

Nevertheless, both Madoff and Ponzi, would have been proud of the Ponzi schemes of 2021. The only difference being that the current day Ponzi schemes are what economist Nobel Prize winning Robert Shiller calls naturally occurring Ponzi schemes and not fraudulent ones like the kind Ponzi and Madoff ran.

A conventional Ponzi scheme has a fraudulent manager at the centre of it all and the intention is to defraud investors and take the money and run before the scheme collapses. A naturally occurring Ponzi scheme is slightly different to that extent.

Shiller defines naturally occurring Ponzi schemes in his book Irrational Exuberance: 

“Ponzi schemes do arise from time to time without the contrivance of a fraudulent manager. Even if there is no manipulator fabricating false stories and deliberately deceiving investors in the aggregate stock market, tales about the market are everywhere. When prices go up a number of times, investors are rewarded sequentially by price movements in these markets just as they are in Ponzi schemes. There are still many people (indeed, the stock brokerage and mutual fund industries as a whole) who benefit from telling stories that suggest that the markets will go up further. There is no reason for these stories to be fraudulent; they need to only emphasize the positive news and give less emphasis to the negative.”

Basically, what Shiller is saying here is that the stock markets enter a phase at various points of time, where stock prices go up simply because new money keeps coming in and not because of the expectations of earnings of companies going up in the days to come.

Ultimately, stock prices should reflect a discounted value of future company earnings. But quite often that is not the case and the price goes totally out of whack, for considerably long periods of time. 

A lot of money comes in simply because the smarter investors know that newer money will keep coming in and stock prices will keep going up, and thus, stocks can be unloaded on to the newer investors. Hence, like in a Ponzi scheme, the money being brought in by the newer investors pays off the older ones. In simpler terms, this can be referred to as the greater fool theory.

The investors buying stocks at a certain point of time, when stock prices do not justify the expected future earnings, know that greater fools can be expected to invest in stocks in the time to come and to whom they can sell their stocks.

Of course, this is not the story that is sold. If you want money to keep coming into stocks, you can’t call a prospective fool a fool. There is a whole setup, from stock brokerages to mutual funds to portfolio management services to insurance companies selling investment plans, which benefit from the status quo. Their incomes depend on how well the stock market continues to do. 

They are the deep state of investment and need to keep selling stories that all is well, that stocks are not expensive, that this time is different, that a new era is here or is on its way, that stock prices will keep going up and that if you want to get rich you should invest in the stock market, to keep luring fools in and keep the legal Ponzi scheme, for the lack of a better term, going.

 — Bernie Madoff 

This is precisely what has been happening all across the world since the covid pandemic broke out. With central banks printing a humongous amount of money, interest rates are at very low levels, forcing investors to look for higher returns. A lot of this money has found its way into stock markets. The newer investors have bid stock prices up, thus benefitting the older investors. The deep state of investment has played its role.

Of course, the counterpoint to whatever I have said up until now is that unless new money comes in, how will stock prices ever go up. This is a fair point. But what needs to be understood here is that in the last one year, the total amount of money invested in stocks has turned into a flood. Take the case of foreign institutional investors investing in Indian stocks.

They net invested a total of $37.03 billion in Indian stocks in 2020-21. This was almost 23% more than what they invested in Indian stocks in the previous six years, from April 2014 to March 2020. This flood of money can be seen in stock markets all across the world.

Clearly, there is a difference, and the stock market has worked like a naturally occurring Ponzi scheme, at least over the last one year.

This Ponziness is not just limited to stocks. Take a look at what is happening to Indian startups…oh pardon me…we don’t call them startups anymore, we call them unicorns, these days. A unicorn is a startup which has a valuation of greater than billion dollars.

How can a startup have a valuation of more than a billion dollars, is a question well worth asking. I try and answer this question in a piece I have written in today’s edition of the Mint newspaper.

As mentioned earlier, there is too much money floating all around the world, particularly in the rich world, looking for higher returns. Venture capitalists (VCs) have access to this money and thus are picking up stakes in Indian startups at extremely high prices.

Many of these startups have revenues of a few lakhs and losses running into hundreds or thousands of crore. The losses are funded out of money invested by VCs into these unicorns.

The losses are primarily on account of selling, the service or the good that the startup is offering, at a discounted price. The idea is to show that a monopoly (or a duopoly, if there is more than one player in the same line of business) is being built in that line of business and then cash in on that through a very expensive initial public offering (IPO).

As and when, the IPO happens, a newer set of investors, including retail investors, buy into the business, at a very high price, in the hope that the company will make lots of money in the days to come. Interestingly, IPOs which used to help entrepreneurs raise capital to expand businesses, now have become exit options for VCs. 

If an IPO is not possible, then the VC hopes to unload the stake on to another VC or a company and get out of the business.

In that sense, the hope is that a newer set of investors will pay off an older set, like is the case in any Ponzi scheme. Of course, this newer set then needs another newer set to keep the Ponzi going.

The good thing is that when investors buy a stock of an existing company or in a new company’s IPO, they are at least buying a part of an underlying business. In case of existing companies, chances are that the business is profitable. In case of an IPO, the business may already be profitable or is expected to be profitable.

But the same cannot be said about many digital assets that are being frantically bought and sold these days. There is no underlying business or asset, for which money is being paid. Take the case of Dogecoin which was created as a satire on cryptocurrencies.

As I write this, it has given a return of 24% in the last 24 hours. An Indian fixed deposit investor will take more than four years to earn that kind of return and that too if he doesn’t pay any tax on the interest earned.

Why is Dogecoin delivering such fantastic returns? As James Surowiecki writes in a column: “There is no good answer to that question, other than to say Dogecoins have gotten dramatically more valuable because people have decided to act as if they’re more valuable.”

As John Maynard Keynes puts it, investors are currently anticipating “what average opinion expects the average opinion to be.” Carried away by the high returns on Dogecoin, the expectation is that newer investors will keep investing in it and hence, prices will keep going up. The newer investors will keep paying the older ones. That is the hope, like is the case with any Ponzi scheme, except for the fact that in this case, there is no fraudulent manager at the centre of it all.

Of course, the only way the value of Dogecoin and many other cryptocurrencies can be sustained, is if newer investors keep coming in and at the same time, people who already own these cryptocurrencies don’t rush out all at once to cash in on their gains.

If this does not happen, as is the case with any Ponzi scheme, when existing investors demand their money back and not enough newer investors are coming in, this Ponzi scheme will also collapse.

– Charles Ponzi 

Given this, like is the case with people who are heavily invested in stocks, it is important for people who are heavily invested in cryptos to keep defending them. Of course, a lot of times this is technical mumbo jumbo, which basically amounts to that old phrase, this time is different.

But this time is different is probably the oldest lie in finance. It rarely is.

And if dogecoin was not enough, we now have investors going crazy about non-fungible tokens (NFTs), which in simple terms is basically certified digital art. As Jazmin Goodwin points out: “For example, Jack Dorsey’s first tweet is now bidding for $2.5 million, a video clip of a LeBron James slam dunk sold for over $200,000 and a decade-old “Nyan Cat” GIF went for $600,000.” The auction house Christie sold its first ever NFT artwork for $69 million, in March.

In a world of extremely low interest rates and massive amount of printing carried out by central banks, there is too much money going around chasing returns.

There aren’t enough avenues and which is why we have financial and digital assets now turning into naturally occurring Ponzi schemes, giving the kind of returns that the original Ponzi scamsters, like Ponzi himself and his disciple Madoff, would be proud off.

Madoff’s scheme delivered returns of 10% returns per year. Ponzi promised to double investors’ money in three months or a return of 100% over three months. As I write this, Dogecoin has given a return of more than 600% over the last one month.

Here’s is how the price chart of Dogecoin looks like over the last one month.



RBI to Print Rs 1 Lakh Crore to Keep Government Happy

After Lehman Brothers, the fourth largest investment bank on Wall Street went bust in September 2008, the Federal Reserve of the United States, the American central bank, came up with three rounds of large-scale asset purchases (LSAP). The LSAP was popularly referred to as quantitative easing or QE.

Yesterday, Shaktikanta Das, the governor of the Reserve Bank of India (RBI) announced a similar sounding GSAP or G-sec acquisition programme, where G-sec stands for government securities. India now has its own planned QE. (At the risk of deviation, it’s not just the Indian film industry which copies the Americans, our central bank also does.)

The government of India issues financial securities known as government securities or government bonds, in order to finance its fiscal deficit or the difference between what it earns and what it spends. Banks, insurance companies, non-banking finance companies, mutual funds and other financial institutions, buy these securities. Some are mandated to do so, others do it out of their own free will. 

What does GSAP entail? Like was the case with the Federal Reserve and the LSAP, the RBI will print money and buy government securities. For the first quarter of 2021-22 (April to June), the RBI has committed to buying government securities worth Rs 1 lakh crore. The first purchase under GSAP of Rs 25,000 crore will happen on April 15, later this month.

Why is this being done? Among other things, the RBI is also the debt manager for the central government. It manages government’s borrowing programme. After borrowing Rs 12.8 lakh crore in 2020-21, the government is expected to borrow another Rs 12.05 lakh crore in 2021-22. Due to the covid-pandemic and a general slowdown in tax revenues over the years, the government has had to borrow more in order to finance its expenditure and the fiscal deficit.

This information of the government having to borrow more than Rs 12 lakh crore again in 2021-22, came to light when the annual budget of the central government was presented on February 1. Due to this higher borrowing, the bond market immediately wanted a higher return from government securities.

The return (or yield to maturity as it is more popularly know) on 10-year government securities as of January 29, had stood at 5.95%. By February 22, the return had jumped to 6.2% or gone up by 25 basis points, in a matter of a few weeks. One basis point is one hundredth of a percentage. 

The yield to maturity on a security is the annual return an investor can expect when he buys a security at a particular price, on a particular day and holds on to it till its maturity.

As the latest monetary policy report of the RBI released yesterday points out: “Yields spiked following the announcement of government borrowings of  Rs12.05 lakh crore for 2021-22 and additional borrowing of Rs 80,000 crore for 2020-21.”

In May 2020, the government had announced that it would borrow a total of Rs 12 lakh crore in 2020-21. When the budget was presented, the government said that it would end up borrowing Rs 12.8 lakh crore or Rs 80,000 crore more. 

At any given point of time, the financial system can only lend a given amount of money. When the demand for money goes up, it is but natural that the return expected by the lenders will also go up. This led to the bond market demanding a higher rate of return on government securities, pushing up the yields or returns on government securities.

How did this become a bother for the government? When the returns on existing government securities go up, the RBI has to offer higher rates of interest on the fresh financial securities that it plans to issue on behalf of the government to fund the fiscal deficit. This pushes up the interest bill of the government, which the government is trying to minimise. 

Government securities are deemed to be the safest form of lending. Once returns on these securities go up, the interest rates in general across the economy tend to go up, which is not something that the RBI wants at this point of time. The hope is that lower interest rates will help the economy revive faster.

As the debt manager of the government, it’s the RBI’s job to offer the best possible deal to its main client. Hence, post the budget, the RBI got into the job quickly and to drive down returns on government securities launched an open market operation (OMO). As the monetary policy report points out: “Yields subsequently eased somewhat on the back of… the OMO purchases for an enhanced amount of Rs 20,000 crore on February 10, 2021.”

In an OMO, the RBI prints money and buys government securities from those institutions who are willing to sell them. The idea here is to pump more money into the financial system and in the process ensure that yields or returns on government securities go down.

With the GSAP, the RBI has just taken this idea forward. While the GSAP is not very different from the OMOs that the RBI carries out, it is more of an upfront commitment and clear communication from the RBI that it will do whatever it takes to ensure that yields on government securities don’t go up. Like between April and June, the RBI plans to print and pump Rs 1 lakh crore into the financial system. 

Let me make a slight deviation here. In this case, the RBI is also indirectly financing the government’s fiscal deficit. As the debt manager for the government, the RBI sells fresh securities to raise money in order to help the government finance its fiscal deficit.

These securities are bought by various financial institutions. When they do this, they have handed over money to the RBI, which credits the government’s account with it. In the process, the financial institutions as a whole have that much lesser money to lend for the long-term.

By printing money and pumping it into the financial system, the RBI ensures that the money that financial institutions have available for lending for the long-term, doesn’t really go down or doesn’t go down as much,

Hence, in that sense, the RBI is actually indirectly financing the government borrowing. (It’s just buying older bonds and not newer ones directly). A reading of business press tells me that the bond market expects more money printing by the RBI during the course of the year. One particular estimate going around is that of more than Rs 3 lakh crore. In that sense, even if the RBI prints Rs 3 lakh crore, it will indirectly finance around a fourth of the government borrowing given that it is scheduled to borrow Rs 12.05 lakh crore in 2021-22. 

Now getting back to the topic. Like in any OMO, while carrying out a GSAP operation, the RBI will print money and buy government securities. In the process, it will put money into the financial system. This will ensure that returns on government securities don’t go up. In the process, the government will end up borrowing at lower rates.

This is how the RBI plans to keeps its main customer happy. It needs to be mentioned here that with the second wave of covid spreading across the country, chances are economic recovery will take a backseat and the government will have trouble raising tax revenues like it did in 2020-21, the last financial year.

This might lead to increased borrowing on the government front. Increased borrowing without the RBI interfering will definitely lead to the bond market demanding higher returns from government securities. With the GSAP, the hope is that yields or returns on government securities will continue to remain low.

It is worth remembering that Shaktikanta Das’ three year term as the RBI Governor comes to an end later this year. Hence, at least until then, it makes sense for Das to keep Delhi happy.

Of course, the money printing leading to lower return on government securities, will also ensure that the interest you, dear reader, earn on your fixed deposits, will continue to remain low, and the real rate of interest after adjusting for the prevailing inflation, will largely be in negative territory. 

As mentioned earlier, lending to the government is deemed to be the safest form of lending. And if that lending can be carried out at low rates, the other rates will also remain low. This is the cost of the RBI trying to help the government, the corporates and the individual borrowers. It comes at the cost of savers. This is interest that the savers would have otherwise earned.

It is as if the RBI is telling the savers, don’t have your money lying around in deposits. Chase a higher return. Buy stocks. Buy bitcoin. 

If the RBI had let the interest rates find their own level, with the government borrowing more, the interest rates would have gone up and helped the savers earn a higher return on their deposits. This would have also encouraged consumption, especially among those individuals whose expenditure depends on interest income. The argument offered by economists over and over again is that lower interest rates lead to higher borrowing and faster economic recovery.

Let’s take a look at this in the case of bank lending to industry. As of February 2021, the total bank lending to industry stood Rs 27.86 lakh crore. As of February 2016, five years back, the total bank lending to industry had stood at Rs 27.45 lakh crore.

Over a period of five years, the net bank lending to industry has gone up by a minuscule Rs 40,731 crore or just 1.5%. Meanwhile, the interest rate on fresh rupee loans given by banks during the same period has fallen from 10.54% to 8.19%, a fall of 235 basis points.

So much for corporates borrowing more at lower interest rates. This is their revealed preference; the actions that they are taking and not the bullshit that they keep mouthing on TV and in the business media. Currently, the Indian corporate simply isn’t confident enough about the country’s economic future and that’s the reason for not borrowing and expanding, irrespective of the public posturing. 

Anyway, the point is not that higher interest rates are required. But the point is that if the RBI did not intervene like it has been doing, by printing money and buying bonds, slightly higher interest rates which would put the real interest rate in positive territory, would have been the order of the day. And that would have been better than the prevailing situation. A little better for the savers about whom neither the RBI nor the government seems to be bothered about.

But then as I said earlier, the government is the RBI’s main customer these days. And that’s the long and the short of it.