Negative Interest Rates

“It’s not how much money you make, but how much money you keep.” – Robert Kiyosaki

Saving is a dominant factor when it comes to policy-making decisions. We all do save money for unforeseen circumstances in different forms. The worth of money demanded today is not the same as that in the future. It is comparatively lesser due to inflationary pressure and other factors. Therefore, people expect a positive return on their investments or savings. 

But, imagine a bank paying negative interest. Crazy as it sounds, the world of banking is experiencing a revision with the central banks of some major economies offering zero or negative interest rates. Unlike the traditional approach where the lenders were being paid for lending money, the reverse is seen into effect. This trend got the ball rolling with Nationalbanken, the central bank of Denmark, which has been charging negative interest rates since 2012. The same was followed by the European Central Bank two years hence. Soon, Switzerland, Sweden, Japan and Hungary also adopted the same policy.

Back in the nineteenth century, Silvio Gesell proposed the theory of negative interest rates for situations of an economic slump. Severe downturns require ample monetary policy accommodation through interest rate cuts. In times of deflation, people tend to hoard cash instead of looking out for avenues to invest. This steers poor demand, lower production, fall in price and a rise in unemployment. To combat this situation, quantitative easing and negative interest rates are followed to stimulate growth. But, breaking the zero lower bound comes at a cost, mostly inflation. In the middle of mixed opinions around the globe, penalizing the investors for parking funds with negative interest rates has been regarded as the last option to boost the economy. It reduces the cost of borrowing in the market, incentivizes risk-taking and boosts the spending in the economy.

On the contrary, apart from inflation, negative interest rates also reduce the margin between the borrowing and the lending rate, thereby reducing the profit earning capacity of the banks. Since borrowing becomes cheap, companies may resort to buying back of shares, making fewer shares available in the market and creating pressure on the share prices which in the future may lead to lesser investments in projects. Given the increase in the risk-taking capacity of the borrowers, it creates a pneuma of borrowing more than what one can repay. Such rate cuts for a long period creates confusion in the market for valuation of assets and liabilities. Finally, it may lead to instability in the country. 

Negative interest rates are a draconian measure which shows that the policymakers are afraid of the economy falling into a deflationary spiral. What’s crucial is that the negative rates on short-term debt spread on to longer-term bonds that have a larger effect on consumer and business borrowing. At present, there are roughly $16 trillion of negative-yielding bonds out in the global bond market.

If negative interest rates have so many flaws, why all the controversy? The answer, of course, is that the case isn’t that strong. Some technical and political factors may hinder success. In some countries, zero-interest policies seem to have sparked some additional lending, but quite slowly. The fear of the possibility that the banks would attempt to liquidate their inactive assets and purchase positions in more liquid assets to avoid the penalty interest rates on their reserves has so far been muted. This would weaken banks’ profitability without necessarily spurring economic growth. What ultimately matters most is the public reaction which may be out of the ordinary. Banks are scared of triggering public-relations disaster. But if the negative rates aren’t passed along to depositors, their effectiveness in stimulating spending may be minimal.

Possibility of Negative Interest Rates in India: Among all the countries with negative interest rates, Hungary is the only emerging country to adopt it. The success of Denmark and Sweden cannot be replicated in other parts. Authorities in Denmark and Sweden were clear on the outcome since they did not leave any scope for the people to escape. The central banks of Japan, Sweden, and Denmark charged the deposits instead of rewarding only for a proportion of deposits held by commercial banks, unlike what ECB followed.

Focusing on our country, RBI had cut its small savings deposit rate, which was an obstacle in lowering the lending rate before. The report presented by State Bank Ecowrap showcased that most banks were unwilling to lend, provided the already adverse scenario of loans in India. From the analysis of 26 banks, the deposits have grown by a meager 1.6%. The credit growth in the country has suffered a decline, even when the RBI has constantly been reducing their lending rate. For a country like India, where inflation rates are already nearing 4% and global oil prices have dropped almost $60 per barrel, the policy of negative interest rates may not stimulate growth and development. Learning from the adverse results of Japan’s Abenomics policy and ECB, the rate cuts will only lower the profits of the banks which they will try to recover by charging the depositors, sooner or later. Below zero rates, when passed on to the retail depositors, might trigger withdrawal from the accounts and hoardings of cash. Various analysts and economists opine that slashing of rates below zero will not be fruitful in the long run, especially in countries that are highly dependent on cash.

Written by – Harsh Goyal (Section 6, PGP1)

The doldrums of political revenge

Two articles of impeachment were approved by the House Judiciary Committee: One for abuse of power and one for obstruction of Congress. On 18th December, 2019 the House voted 230-197 in favour of abuse of power and 229-198 in favour of obstruction of Congress. The House has 435 members and a majority of 218 was needed to impeach Mr. Trump.

Now that he has been impeached, becoming the only third president in the history of the US politics, after Andrew Johnson and Bill Clinton, the process will now head to Senate where the Democrats have to establish a two-third majority to remove Trump from office. This seems highly unlikely as out of the 100 Senators; they would require 67 votes in order to do so. The Democrats are 45 in numbers, Republicans are 53 and there are 2 independent Senators. Even with counting 45 Democrats and the two independents, the Dems will need 20 Republicans to shift camp, which is not an easy task.

Something big is being brewed by his adversaries. The democrats, led by House Speaker Nancy Pelosi, are on his throat. They have started a campaign to impeach the POTUS (President Of The United States) which he terms as ‘fake’, ‘witch-hunt’ and ‘kangaroo court’.

This impeachment process has been termed by political experts to be a ‘political suicide’ for Nancy Pelosi.

Let’s delve deeper.

What’s an impeachment?
Impeachment in simple terms mean accusing a government official of a certain wrong doing that is ‘unconstitutional’. Impeachment, in most countries, itself never removes someone from the office. An impeachment is followed by a vote of removal/conviction. However, in some countries, like India, a government official can’t remain in office while the impeachment process ensues.

What does the US constitution say?
US constitution, under Article One, gives the right to the House of Representatives (House) to impeach and the Senate to conduct a trial on a successful vote for impeachment. The government official is not removed from office. The second stage begins where a vote is held for the removal of the official in the Senate. This process requires a supra-majority or two-thirds majority. For president it says that one can be impeached for ‘treason, bribery or high crimes and misdemeanours’. It doesn’t define what falls under ‘high crimes and misdemeanours’.

The history, please!!
Oh yes. Till date, the House has begun impeachment process 62 times and out of that nineteen federal officials have been impeached including two presidents, one senator and fourteen federal judges. The last impeachment of an official was during 2010 against a federal judge for accepting bribe which he was duly convicted of. While, the last impeachment of a president was in 1999 when Bill Clinton was charged with lying to jury and obstruction of justice, both of which he got cleared of.

Okay! Why Donald Trump? What has he done now?
It’s a long story. A story of two political rivals trying to outdo each other. It all started with an allegation by a whistle-blower that POTUS withheld military aid to Ukraine in a bid to investigate his political rival and Democratic presidential candidate Joe Biden and his son Hunter Biden for wrongdoings on a phone call.

Who were on the phone call?
American Side: Donald Trump
Mike Pompeo, Secretary of State
Robert Blair, Senior Adviser to Chief of Staff Mick Mulvaney
Keith Kellogg, National Security Adviser
Jennifer Williams, Adviser for Europe and Russia
Charles Kupperman, Deputy National Security Adviser
Timothy Morrison, Senior Director for European Affairs
Alexander Vindman, Top Ukraine expert

Ukrainian Side: Volodymyr Zelenskiy, Ukraine president
May include Other officials and translators

What are the wrongdoings and why Mr. Biden?
In early 2014, Mr. Biden, the then vice-president, was appointed as an emissary to Ukraine by President Obama after Russia invaded Ukraine. He did what most VPs do – persuaded Ukrainian leaders to improve financial condition of Ukraine and gave ultimatum to get rid of rampant corruption. This was as his son Hunter got inducted into the Board of Directors in a Ukrainian Oil Company, Burisma Holdings. He was paid $50,000 per month just to attend a meeting. It was alleged by some advocates and administrators in Obama that Hunter took undue advantage of his father’s position.

Well if it was 2014, why raise this issue now in 2019?
Election!!! Trump!! Mr. Trump has played his ‘trump’ card to eliminate Joe Biden’s campaign for presidency by smearing his image in public. He has great connect with retirees and has a foothold in north eastern states. This is a major reason why the Trump camp is too eager.

Okay with that done, who uncovered this secret?
It was Rudy Giuliani, Trump’s personal lawyer, who went on to claim that the vice-president removed Viktor Shokin, a former prosecutor general of Ukraine, who in turn was investigating Hunter Biden’s involvement in money laundering tracing it all the way back to Brisma. Shokin said to media that he was forced by Petro Poroshenko, the then Ukrainian President, thrice – once on phone and twice personally to halt the investigation. When Shokin tried seizing Brisma’s assets, Poroshenko lost his cool and personally asked Shokin to resign. Shokin said it was all done to please Joe Biden who was threating to withhold a $1 billion loan to Ukraine.

Wait. What? Now Trump is getting accused of same thing his personal lawyer tried accusing Joe Biden of?
Haha. Yes. But even if it’s remotely true, Biden faces complete annihilation of his political career or what’s left of it anyway (he is 77 years old).

Great! Can you lay a time line please?
I thought you would never ask!

May, 2019 – Rudy Giuliani said he was going Ukraine to meet Volodymyr Zelenskiy, Ukraine’s new president, to discuss on matters involving Hunter Biden. After a week, Yuriy Lutsenko, a former prosecutor general, stated that there were no evidences of any wrongdoings by Biden.

July, 2019 – As per White House’s notes, Trump called Zelenskiy to investigate Joe and Hunter Biden.

August, 2019 – Reports start coming out alleging Trump of withholding military aid amounting to $350 million to Ukraine.

September, 2019 – Foreign Affairs, Intelligence and Oversight Committees gets involved in the investigation against Giuliani and Trump. After the whistle-blower’s complaint surfaced, Nancy Pelosi demanded a formal impeachment inquiry against Trump with rising support from Democrats. A transcript related to the call that happened between Trump and Zelenskiy is released by White House in which Trump asked his counterpart to ‘do us a favour’. Subpoenas are issued against both Mike Pompeo, US Secretary of State, (a privy to the call between Trump and Zelenskiy) and Giuliani. Kurt Volker, Special envoy to Ukraine resigns.

October, 2019 – Trump goes public encouraging China to investigate the Bidens. Volker turns over text messages of the diplomats to the Congress. House Democrats subpoenaed the White House to submit the Ukraine documents or else face a full blown impeachment enquiry. A second whistle-blower comes forward. Subpoenas issued against Defence Secretary, Mark Esper and 4 other officials. Marie Yovanovitch, the former U.S. ambassador to Ukraine who was abruptly ousted in May, testifies before the House Intelligence, Oversight and Foreign Affairs Committees alleging Trump pressured to remove her from office. Hunter Biden steps down from a Chinese backed private equity firm. With a vote of 232-196, the House officially adopts an impeachment resolution.

November, 2019 – House Republicans request for eight witnesses to appear at public impeachment process. The first public impeachment process begins on 13th. About 10 individuals testify in these public hearings.

December, 2019 – House Judiciary Committee votes whether to send the report to the House Intelligence Committee. Nancy Pelosi asks the committee to draft the articles of impeachment. The articles are then unveiled by the House Democrats.

Some individuals and their testimonies:

George Kent: The deputy assistant secretary for European and Eurasian affairs, testified that Trump did pressure Ukraine to probe the Bidens.

William Taylor: The acting ambassador to Ukraine, testified that he protested over the policy taken by Trump.

Marie Yovanovitch: Former diplomat serving under Bush and Obama era pointed that the whole process was revolved around quid-pro-quo and that’s the reason why Trump removed her.

Alexander Vindman: The top Ukraine expert registered concern over Trump’s request almost immediately with the legal staff on the National Security Council as per his testimony. He was present when the call was made.

Jennifer Williams: Special adviser on Europe and Russia to Vice-President Mike Pence, was in the White House Situation room listening to the call. She testified that the requests were “unusual and inappropriate,” but did not relay her concerns to her supervisor.Kurt Volker: The former U.S. special envoy for Ukraine, tendered his resignation after the whistle-blower’s complaint got out stating that he was an intermediary in Giuliani’s exchange with the Ukrainians. This made him turn and hand over the text messages to the Congress.

Written By – Tejas Sharma(PGP 2)

Crisis in the current financial service space in India

There has been a lot of chitter chatter happening everyday about the path the Indian economy is dwelling into and the facts and figures aren’t very hunky-dory. The economy is in a gloomy state and the current situation deserves attention. The growth rate witnessed for the second quarter of the fiscal year 2020 has been 4.5%, which has been the lowest in 6 years. The Monetary Policy Committee has revised its GDP forecast for FY 20 to 5%, which is at its lowest level since the financial crisis of 2008. After the soaring of vegetable prices, the government has increased its retail inflation projection upwards to 4.7-5.1%. With a number of things going wrong, one of the sectors most adversely affected is the financial sector and ironically this is the sector that is expected to be the back bone and bring the country out of a slowdown. Let’s see the country’s stand in that area.

The air in the economy about the banking sector in the past few months has been marred with huge amount of NPAs contributed by the public sector banks and cases highlighting messy corporate governance issues. Even though the RBI has been taking initiatives like setting up the Insolvency and Bankruptcy code, setting Prompt Corrective Action, in order to clean up the mess, the effectiveness of these new frameworks still lie in a grey area. According to ICRA, out of the 2542 cases admitted under the IBC, more than 50% cases are still ongoing in courts. Even the cases that have been resolved, only 15% of the cases have yielded a resolution plan, and the rest have ended up liquidating. Additionally, the recent scams like PMC crisis, Karvy scam, highlights that there is still a fundamentally deeper problem which will take a lot of time to go away from the sector. If we observe most of the recent scams, the regulator comes into the picture only when the scam breaks out and the damage has been done. The important point to note is that, why isn’t there an identification of the problem in the annual inspection conducted by RBI and why isn’t there a damage control in the first place? This issue in the financial sector will not be solved until and unless there is a better fraud detection framework in place and until and unless bank’s top board comprises of ethical professionals. 

To add to the already aggravated problems, due to a slump in demand and wide spread negative sentiments, the bank loans given out is at its lowest pace in 2 years. Even after a 135-bps cut in the repo rate from the Reserve Bank of India, the lending has not been boosted. This slowdown currently being faced is the one caused by a lack of demand. The investment demand is more or less interest inelastic as of now, hence any marginal cut in the lending rates by the bank is not encouraging the demand for investments. The last time when the lending rate was so low post the effects of demonetization and GST, NBFCs quickly backed the banks and became a major lending vehicle for the country. NBFCs have been a great saviour for the credit space as their borrowers range right from the smallest ticket sizes to big budget entrepreneurs. However, after the IL&FS turmoil and the subsequent spill over effect on the other NBFCs, the shadow banking is facing a significant liquidity crunch as well. This is even more dampening as NBFCs have been a major lending vehicle for sectors like real estate, construction and automobiles, all of which have been severely impacted due to the crunch and crisis. The government had announced its plan in budget 2019 of giving a 6 months credit guarantee worth 1 lakh crore to boost the lending by banks to the NBFC sector. However, there hasn’t been any improvements and disbursals in that area as well and banks are reluctant to extend credit to this space.

 In fact, there is an even more threatening situation emerging. NBFCs in a search for growth have switched to lending to smaller ticket sizes and riskier loans. According to a CIBIL report, the loans given out to borrowers with a credit score of “below 700” have gone up drastically. The average ticket size of NBFC loans have dipped from Rs. 1,10,000 to Rs. 41,000. This increase in subprime lending to boost the asset base is more engraving for the Indian economy, especially when the financial sector is already loaded with a bucket of issues. What is more concerning is whether there will be a point when the Indian customer loses confidence in the non-banking lending space of India, which contributes approximately one-fourth of the credit flow?

The regulator needs to step up and remove the vulnerabilities faced by the financial sector. Even though currently the economy is witnessing a slowdown, and not a recession, the slowing numbers are definitely a cause for concern and need to be rectified. For that, the country needs to be backed by a stronger and sounder financial system fully trusted by the people of India.

Written By – Anjali Agarwal (Editor, TJEF)

IBC (Insolvency and Bankruptcy Code)

Peeps…Have you heard about the thread game (“What is the one word” kind)?

Well…! It goes like this!

What is the one word that pops up in your mind, when I say.…. Vijay Mallya

Yeah…LOAN DEFAULT (Isn’t it? And beers don’t suit the context)

All we have heard about him is, he borrowed plenty and became an expat after failing to repay them.

Ever wondered what happens to a company or an individual who couldn’t pay back the lenders genuinely (unlike Mallya) and facing immense financial distress?

There comes IBC (Insolvency and Bankruptcy Code) into picture!!

Before delineating the details, let us understand the basic language of the agenda now.

How does bankruptcy differ from insolvency? Are they different in first case?

Insolvency is a state in which a debtor(borrower) is no longer having the ability to pay his/her debt within the due date. On the other hand, Bankruptcy is the legal procedure which is followed to resolve the problem of insolvency.

Okay! Why did we need IBC?

Before IBC became effective in December 2016, there were multiple laws governing the insolvency resolution process for corporates and individuals. Now every such case is brought under the same umbrella. Moreover, there was an increase in Non-Performing Assets (NPAs) despite RBI taking various measures. Yet another reason cited was, the time required for resolution was comparatively poor in India. Now, let us see if IBC had sorted out these issues.

How is IBC different from the laws which existed previously?

  • It brought in the concept of two adjudicating authorities:
  • NCLT (National Company Law Tribunal) – to take up insolvency resolution cases of corporates
  • DRT (Debt Recovery Tribunal) – which deals with the case of individuals / partnerships
  • Earlier, the company going bankrupt was mostly liquidated. But IBC gave the debtors (borrowers) a chance to revive the business. So, it introduced Insolvency Resolution Process (IRP) wherein a restructuring plan is proposed. On approval of the plan by creditors (usually banks), the business is brought back to life and operations are run. 
  • IBC didn’t fail to serve the interest of creditors too. After the code was enacted, the creditors were able to file for the proceedings once they lose confidence in the repaying capacity of the debtor.
  • The code also established Insolvency and Bankruptcy Board of India (IBBI) – It ensures that all the stakeholders abide by the laws of IBC

Moving on, let us acquaint ourselves with the process of insolvency resolution:

  1. A creditor/debtor approaches NCLT for initiating bankruptcy proceedings
  2. If the case is accepted, the NCLT appoints Insolvency Professionals (the experts who conduct the IRP) as in-charge of the company
  3. These Insolvency Professionals form the Committee of Creditors and provide them with a Resolution plan and information from Information Utilities (Central repository of financial and credit related information of borrowers)
  4. This Committee of Creditors is constituted by the lenders to whom the company owes money
  5. The Committee of Creditors is given a mortarium period of 180 days (which could be extended by 90 more days) to decide on the resolution (whether to revive/sell/liquidate the business)
  6. This decision is then conveyed to NCLT by the IR Professional
  7. The order is then issued by NCLT

All set and done, if the company is liquidated, the credit repayment is done in the following order-

  1. Secured creditors (as they hold collateral), who gave financial credit to the debtor
  2. Unsecured creditors – usually the company’s suppliers and employees
  3. Last in the queue are Stockholders

Phew! Quite knotty to comprehend, right?

Fine! Was IBC effective in our country?

To be precise, “Yes!”. We were ranked 130th in World Bank’s Ease of Doing Business (EODB) Index in 2016. Right now, we have jumped up to 63rd position (Huh! How is it related to IBC?). EODB ranking is based on 10 parameters, one of which is “resolving insolvency” category. In this parameter, we have leaped to 52nd rank from 108th last year. This index helps us attracting foreign investment and in due course contributes to our GDP.

The introduction of IBC has resulted in a recovery rate of 43% against the rate of 22% in the pre-IBC era. Earlier, the process of resolution took an average of 4.3 years. Post the effectuation of the code, it has seen a major drop to 317 days (Which is great!!)

Be that as it may, there are a few challenges faced by IBC as well. “Early resolution” was the selling proportion of IBC. But there are some infrastructure bottlenecks decelerating the process. There were delays in the resolution of big-ticket cases like what happened with Essar Steels. The number of NCLTs ought to be hiked.

Across the board, the IBC has made a substantial impact in the insolvency & bankruptcy proceedings in the last 3 years, since its advent. The government deserves the credit (meaning glory here) for carrying on with such a move to enact IBC. As it happens with any typical ordinance, we can expect welcome amendments to better the processes.

Written by — Nagarajan P(Editor, TJEF)

Dichotomy of the Auto Industry

While we have been hearing of car manufacturers stopping production lines and lamenting to the government for measures of revival, one company in specific seems to have recorded an outstanding initial booking, not riding the tide.

MG aka Morris Garage which launched in India through a variant called Hector have hit record sales amidst this auto slump.

Not heard of it… well neither had I…so time for some Wikipedia.

MG, is a British automotive company, now owned by Chinese state owned automotive SAIC motor, launched in India on June 27, 2019 in the SUV category through a model called Hector, in direct competition to Mahindra XUV 500, Jeep Compass etc. Starting at ₹12.18 lakh, the Hector comes in four variants—Style, Super, Smart and Sharp and a total of 11 configurations. But did it sell because it was reasonably priced, or because it was of British make or because it offered 11 configurations …..Not really

“The Hector’s USP is its iSMART Next Gen technology which includes an embedded connectivity solution, maps and navigation services, voice assistant, pre-loaded infotainment content, emergency and information services, and built-in apps. It comes with an embedded M2M sim that ensures that the car remains connected.”

To explain it in layman terms, it is India’s first internet car or as MG calls it “a human car”. Not only does it have all the features that make driving a luxurious experience with all the tech embedded in it, but it also offers it at reasonable prices. Above all what has caught the attention of the Indian bourgeoisie is MG’s vision & need for continuous innovation.

Morris Garage is launching its Electric SUV, the five-seater ZS in January thus embracing the move of the Indian government towards adoption of electric vehicles. With the latest BS VI norms and FAME India scheme, MG along with Kia Motors have had the first mover advantage in penetrating and capturing market share while most auto makers were waiting for the government to rid them of their present miseries.

Now one might ask that why would industry stalwarts not think of what MG thought of. Well mainly because right now the manufacturers consider themselves disadvantaged in the EV scheme. The government has promised a tax rebate of 1.5 lakhs to consumers who avail vehicle loans to purchase EVs but have not incentivized the manufacturers on any count. Local manufacturing isn’t supported with the present infrastructure. This leaves the manufacturer with two options. The first is to import parts and the second would be to make initial investments. Not to forget the cost of making engines BS VI compliant. Naturally these costs will have to be recovered in order to make the business profitable. India is a price sensitive market. So, most manufacturers are caught in a dilemma. Given that India is amidst a slowdown, no manufacturer wants to block capital in projects which seem to project bleak cashflows.

MG’s acquisition of the General Motors Halol plant in India and jumping on the bandwagon of India’s green mobility market is indicative of the potential of India’s EV market. MG plans on leveraging the strength of their parent SAIC motor by importing the technology while working towards building charging infrastructure and battery recharging stations to aid customers with post sales services thus facilitating the use of EVs. Kia motors & Hyundai have also made their initial moves in this industry.

This illustrates two underlying sentiments. The first is that maybe the slowdown is sectoral and is not felt across the upper mid-level and high-level income category. After all a company couldn’t have filled its order books had there not been people with money willing to spend on their product and we are talking big monies here. Secondly, the sector of the Indian public which is the target segment for EVs is not entirely averse to the idea of an EV. Maybe MG, Kia and Hyundai have been able to address a subliminal concern of “how do I maintain my car post purchase” and herein lies their success. The educated class that understands the need to shift towards EV’s for a cleaner and greener future may not be averse to high initial investments if they are assured of future savings and ease of maintenance.MG’s initial success could be attributed to many things: changing consumer buying behavior, its strategic prowess and risk-taking abilities or as skeptics would call it the case of dark horses. However, MG has managed to make hay even when the sun was not shining, and this calls for some appreciation and detailed attention from other auto-makers of the nation

From Shayoni Mukherjee (Editor- TJEF)

Yuan Devaluation Conundrum

China has one of the most flourishing growth stories of mankind. The land of the dragon-acclaimed with the discovery of gunpowder, tea and silk among others-has overcome invasions, colonization and Western Supremacy to hold its position in the world. Revolutionized in 1949 as a centrally planned economy, the dragon broke out of its eggshell, pursuing the policies of economic liberalization and global integration post 1978. Since then, China has enjoyed explosive growth, making it the world’s largest. It has a mixed economy that incorporates limited capitalism within a command economy. It used to attract most of the foreign investments (~49% of the GDP), its working population was at its peak by 2012 and the technological gap between the advanced countries and China was reduced by 2015. But instead of relaxing its economy, the dragon undertook measures to further boost the economic growth which, in reality, slowed down since the double-digit rates before 2013 to approximately 6.5%-7% during the last two years.

Factors that led to Chinese slump are —

  • It is one of the most indebted nations in the world with a debt-to-GDP ratio of over 300% as on June 2019 (over US $69 trillion)
  • Longer period of cleaning bad debts because of a closed financial system
  • Global slowdown bringing down export driven demand of the Chinese manufacturing sector

Countermeasures taken by the government are—

  • Shift from manufacturing to the service sector
  • Implementation of proactive fiscal policies to increase domestic demand
  • Moving from export-oriented growth to consumer demand-oriented growth
  • Devaluation of Yuan Renminbi to boost exports

Among all other measures, the devaluation of yuan was taken as a double-edged sword. While some accused China of entering into a currency war, others felt that it might be an attempt to make a stronger case of inclusion in the IMF’s SDR basket.

Since 2005, Yuan had appreciated 33% against the US dollar. But, on August 11, 2015, the People’s Bank of China made three consecutive devaluations of its currency, knocking over 3% off its value. Many claimed it to be a desperate attempt by China to boost its exports in the slow growing economy, the PBOC claimed that the devaluation was towards making China a more market-oriented economy as committed by Xi Jinping on March 2013. In 2010, Yuan was rejected from IMF’s SDR for not being “freely usable” but the devaluation, supported by the claim of market-oriented reforms, made Yuan a part of the SDR in 2016.

The US-China trade war became murkier. Four days after Trump threatened to impose 10% tariffs on $300 billion worth Chinese imports, China decided to devalue Yuan to an eleven-year low (i.e. below 7 per dollar) on August 5, 2019. Global markets sold off on such a move, including US itself where the Dow Jones Industrial Average lost 2.9%. China was officially declared as a “currency manipulator” on August 5th, 2019. This naming opens up doors for US to consult with IMF to eliminate any unfair advantage towards Yuan.

A Slowdown in Chinese economy is bound to generate global ripples—

  • A weaker yuan makes Chinese exports cheaper. It will offset the impact of higher tariffs on Chinese imports into America. But it will also make imports into China expensive, driving up inflation and creating strains in its already slowing economy.
  • Many emerging market currencies like Turkey’s lira, Indonesia’s rupiah, South Africa’s rand, Vietnam’s dong, Brazil’s real and Mexico’s peso also weakened in value.
  • China consumes up to 50% of some raw materials, and the economic slowdown would severely impact the commodity related sector.
  • China impacts how crude oil is priced. The devaluation signaled the investors that the Chinese demand for the commodity would continue to decline as a result of which Brent Crude fell more than 20% after mid-August.
  • German companies earn 15-30% of their operating earnings and Volkswagen derives half of their total revenues from China. Semi-conductor chips, luxury goods and automobile industries are now recording a drastic fall in their sales as the Chinese turn local.

Though India has not been shackled by Yuan devaluation as some other countries, it will witness radical deep-rooted impacts. China is the biggest importer to India ($459.46 billion as on Sept, 19). These goods would now be available more economically. For India, every $1 drop in oil prices results in a $1 billion decline in the country’s oil import bill.

India will also benefit from the influx of investors who otherwise would have invested in China. With the slump in China, the turmoil in EU and the instability in Latin America, India is gaining in opportunity costs. With 100% FDI being allowed in defence, coal and aviation, foreign investments are sure to come in. India has also jumped up 14 positions from 77 to 63 in the “ease of doing business” rankings showcasing signs of improvements.

However, if India does not grab on these advantages presented by the Chinese slump, the very boon of the devalued yuan could be its bane. As a result of Yuan devaluation, demand for dollars surged around the globe, including in India, where investors bought into the safety of dollar at the expense of INR. The INR immediately plunged to a two-year low against the dollar. The threat of greater market risk led to increased volatility in Indian bond markets, which triggered further weakness for INR.

Also, with reduced commodity prices, Chinese producers can dump Indian markets with their products which has been a case in the textile, metals and chemical industries. China is also a major importer of Indian goods. The economic slump will, thus, be a major blow to the Indian trade deficit.

What India can do best now is utilize the benefits available from the Chinese slump for increasing its growth and development potential. A medley of opportunities presented before India by the ageing Chinese dragon can be realized if and only if it focuses on the development of all the sectors, reduction of inequalities and improvement in the standard of living of people which will be helping India to grow and prosper in the long run.

Harsh Goyal ( PGP 1 Section 6 )