Arbitrage Magazine - October 2019 - Finance & Investment Club | IIM Rohtak

OCTOBER 2019 Vol 3 Issue 8

Article of the month:

INDEX

S.No.

Article

Page No.

1

Corporate Tax Cut: An Analysis

1

2

Index Funds

6

3

The Big Bank Merger

9

4

Market Outlook

13

5

Insolvency: The End or a New Beginning

17

6

Does Productivity Decide Wages?

21

7

A Note on Derivative Markets in India

24

8

Rethinking Macroeconomic Policies

27

9

The Big Bank Theory- Public Sector Bank Merger

30

10

Policy Uncertainties

32

11

New Era in Indian Real Estate

34

i

Corporate Tax Cut: An Analysis By: Shaubhik Das (IIM Lucknow) Introduction: A corporate tax is a tax paid by all the registered companies in India registered under company law on their profit for a year after deducting all expenses. On September 20, 2019, FM of India, Nirmala Sitharaman declared that the base rate of corporate rate will be brought down significantly from 30% to 22% to tackle the current slowdown through which India is going. The results of the decision may be good or bad, but one should admit that FM showed a lot of guts in taking such a big decision.

Impact on different sectors of economy: The private sector will be the ultimate beneficiary of this decision. A huge chunk of money that these companies gather as revenue used to go into government’s pocket. Now, with larger cash flows, companies will be in a position to expand more. The households will have direct benefits if and only if the companies pass the tax benefit onto the consumers by reducing the prices. The government, on the other hand, faces huge losses amounting to Rs. 145000 crores as corporate taxes contributed about 21% of India’s tax revenues. The decision may also incentivize a lot of foreign companies to set up their manufacturing units in India. That way, exports can be expected to rise vis-à-vis a fall in imports, giving a boost to the economy. Overall, the government expects an economic boost to the Indian economy as a result of this move.

Market reacted favorably immediately after the announcement. However, it started to revert back to its old course as time passed on, which is not a good sign for the economy. This calls for a deep understanding about what went wrong and what are the implications. To get into that discussion, the first step will be to understand why at all such a step was required from the part of government.

Source: PIB India

Close Price 12000 11000 10000 8/23

9/2

9/12

9/22

10/2

10/12

Source: NSE Data

1

What was the problem?

Indian economy is going through a very rough patch after having a dream run in the last 3-4 years. This growth was fuelled by reduction in oil prices, certainty regarding the business environment and huge expections from Modi government to make India a business friendly platform. However, things went ugly since the last 2 quarters or so. The GDP growth in the last quarter was just 5% which forced government to come up with strong fiscal and monetary correction measures.

Source: https://www.ceicdata.com

More or less, everyone agrees that the slowdown was caused by both cyclical and structural problems. The major reasons that could have led to such a slowdown include the following: 1. Demonetization: People are not yet able to get out of the cash crunch shock they received and as a result delaying their purchases over time. This was a blow to the huge informal retail sector, which runs on cash, as well.

2. GST Implementation: Rolling out of a new tax reforms at such a scale and further continuous changing of tax slabs for different industries might have led to delay in private investments. Low investment means low income generation and obviously, the consumption gets hit. Also, formalizing informal sector will lead to decrease in investment as the profits of informal businesses will suffer due to inclusion under the tax structure.

3. BS VI Reforms: The buyers might be delaying their purchase on one hand, and on the other hand, manufacturers might be delaying their investments in new products. The cumulative effect is a slowdown in the automobile sector.

2

4. Electrification of vehicles: NITI Aayog recently declared that all the vehicles in the country will be converted to electric vehicles by 2030 in a press statement. This forced a few auto manufacturers to go into a panic mode.

5. ILFS-DHFL Crisis: Today, most of the automobile and housing loans are lent by NBFCs and HFCs. This kind of events (defaults) involving the sector’s leading players will definitely cause the buyers of automobiles and houses think twice. This also is the mind-set of the banks from whom the NBFCs majorly borrow funds.

6. US-China Trade War and global slowdown: With the escalation of US-China trade war, Hong Protests, German slowdown, Brexit deal issue, etc. coupled with the domestic issues, the foreign investors seem to be not in favour of taking risks of investing heavily in India

CAUSES OF SLOWDOWN Demonetization

US-China Trade War and global slowdown

GST Implementation

ILFS-DHFL Crisis

BS VI Reforms

Electrification of vehicles

Why corporate tax cut?

From the analysis of the reasons behind the slowdown, it is understandable that it was mostly a demand side slowdown. Simple economics tells us that if consumption demand has to be pumped in, there are basically three ways: 1) Reduce tax rate on consumer (direct or indirect or both), 2) Increase government spending, and 3) Reducing policy rates.

India's Corporate Tax Rate 50% 0% 2000

2005

2010

2015

2020

https://tradingeconomics.com/india/corporate-tax-rate

3

We saw certain welcome moves including multiple tax cuts from RBI, last one being today (4th Sep, 2019) and a reduction in GST rates. But government also choose to go for a reduction in corporate tax rate at a large scale, which largely aims to boost supply of goods and services in the economy by incentivising the companies to expand opertaions. The step seems a little bit counterintuitive as Indian companies are already suffering from large stock piles and underutilized assets. However, we shouldn’t ignore the upsides of the move which might have led to such a bold move by FM. 1. Automobile Sector Boost: The benefit from reduction in tax rate can be passed on by the manufacturers to the consumers in the form of reduction of prices. This may pump up the demand for automobiles and eventully lead to a recovery of the sector.

2. Increasing Competitiveness of India as a investment location: India was not favored by investors who want to set up manufacturing units in Asia due to its high corporate tax rates. A reduction in tax rate makes India a lucrative destination to invest.

3. Share market Boom: An increased profitability data will likely be coming out of the firms listed in India during their quarterly results. This will reiterate faith of investors in the economy and hopefully stock market will boom once again.

4. Investment: Tax-cut means increased cash with companies, which they will use for R&D/expansion. In either case, there will be fresh investment in the country and thereby there is a possibility of high growth due to multiplier mechanism that runs in an economy.

Opinion: Though this looks like a wonderful idea- reducing corporate tax rates along with reducing policy rates and GST. But there are huge downside risks involved here. First, with such low tax revenues, government may eventually face liquidity crunches and a huge fiscal deficit. Thus, the onus comes to disinvestment route and/or raising money through government bonds to fund the current projects There is high uncertainty regarding how far the government will be successful in raising money through the disinvestment route.

Secondly, government might have to reduce attention to a lot of social programs in lieu of decreased

4

resources. This will harm the long term growth potential of India. A third option of raising funds, rather the most dangerous option is to print more currency.

This will further widen the bunch of problems India already is dealing with by increasing inflation rates.

Overall, I would say the move of reducing corporate taxes is a right move from a long-term perspective but may not necessarily help in solving the current crisis which is majorly a demand-side issue and the move might even end up creating further short term problems for the economy.

References: 1) https://tradingeconomics.com/india/corporate-tax-rate 2) https://home.kpmg/xx/en/home/services/tax/tax-tools-and-resources/tax-rates-online/corporate-tax-ratestable.htmlhttps://www.moneycontrol.com/indian-indices/nifty-50-9.html 3) https://home.kpmg/xx/en/home/services/tax/tax-tools-and-resources/tax-rates-online/corporate-tax-ratestable.htmlhttps://www.moneycontrol.com/indian-indices/nifty-50-9.html 4) https://pib.gov.in/PressReleaseIframePage.aspx?PRID=1577423 5) https://www.moneycontrol.com/news/economy/policy/breaking-it-down-corporate-income-tax-ratecuts-and-what-it-means-4460131.html 6) https://tradingeconomics.com/india/gdp-growth-annual 7) https://www.ceicdata.com/en/indicator/india/real-gdp-growth 8) https://economictimes.indiatimes.com/wealth/personal-finance-news/what-will-be-the-impact-ofcorporate-tax-cut-on-companies-sectors/articleshow/71347134.cms 9) https://economictimes.indiatimes.com/news/economy/policy/corporate-tax-cut-issue-of-carryingforward-losses-vexes-companies-in-red/articleshow/71321427.cms?from=mdr 10) https://www.indiatoday.in/business/story/gst-council-meet-finance-minister-nirmala-sitharaman-taxcuts-economic-slowdown-1601151-2019-09-20

5

Index funds By: Viranch Damani (NMIMS Hyderabad) Origins of Index funds: Index funds owe their existence to a man named John Clifton “Jack” Bogle. John graduated from Princeton University in 1951 and was hired by Wellington Fund. Bogle eventually became the chairman of Wellington before he was fired in 1970 for a merger that he had approved. In 1974, Bogle founded the now iconic Vanguard Company. Vanguard started off with an index fund that closely mirrored the S&P 500 index. Vanguard as of today has around $5.3 trillion under management making it the second largest asset management company by AUM just behind Black Rock.

Efficient Market Hypothesis: One of the most powerful hypotheses in recent times when it comes to investing and something that has changed the way we think about investing is the efficient market hypothesis. The efficient market hypothesis states that in today’s age of ultra-fast communications networks and algorithms that constantly try to squeeze profits from even the most minor inefficiencies that may be present in the stock market, it is practically impossible for any one person or even a group of people to be able to beat the market or generate any “alpha”. The efficient market hypothesis is being proven correct as time passes. Look at the image below which shows the percentage of actively managed funds that trail the S&P 500 index. It shows a steady increase of funds that are trailing the S&P 500 index.

Source – CNBC

6

How do index funds work?

The efficient market hypothesis forms the bed rock of the rationale behind index funds. Since it is presumed that no one person or a group of people can beat the market, it is wise for the average investor to just mimic the market as it moves along rather than try and beat it. It would be a time consuming and difficult task for the average investor to reconstruct the market’s constituents and reshuffle them every few months to ensure that the investor’s portfolio’s constituents and the index’s constituents match each other on a weighted basis. An index fund helps the investor by mimicking an index, so that they don’t have to do it on an individual basis. The index fund would hold the same stocks as the index and in a proportion like the index.

This proportion is usually on a market capitalization basis although other forms of proportions such as market price, equally weighted etc. also exist. The index fund, having mimicked the index, issues “units” to investors which can be bought and sold by the investor at his or her convenience. Each unit of the index fund acts like a unit of a stock market index. An investor holding onto a unit of the index fund is indirectly holding onto a portfolio that mimics the index or the market. The gross return of an index fund is the gross return of the index that the fund tracks.

Why choose index funds over actively managed funds?

Index funds generally come along with a very low management fee. One of the major factors that determines the return from a mutual fund is the fee that the asset management company charges to the fund’s investors. Since actively managed mutual funds require personnel to gather information and research stocks, they require more efforts and correspondingly more resources than an index fund. An index fund only requires a person to track the index and reshuffle the various constituents of the index at intervals such as once every six months or so. A fund’s net returns are its gross returns – asset management fees. Since index funds come with very low asset management fees, the net returns on index funds are better than that of actively managed funds unless and until the actively managed fund manages to generate a significant alpha over and above the index.

Index funds in India: The Indian stock market, unlike its American counterpart does not command the same type of efficiency which means that active fund managers can exploit market inefficiencies and generate alpha or a return above the market index. However, the Indian stock market is a very broad category and can be further subdivided into various indices. Specifically. The large – cap indices such as the Nifty 50 and the Nifty Next 50 have stocks which are actively traded by various Domestic Institutional Investors and Foreign Institutional Investors. The stocks in Nifty 50 and Nifty Next 50 indices are tracked by various analysts.

These two indices are efficient in the sense that any material market information is reflected in the stock price in a very short amount of time.

There are various index funds in India that track the Nifty 50 and Nifty Next 50 indices such as UTI Nifty Junior Index fund, the SBI Nifty 50 Index fund and so on and so forth. Over the past few years, the performance of many actively managed funds in India has been trailing the performance of Nifty 50. The Exhibit below shows the calendar year wise underperformance of various large cap funds as compared to 7

NIFTY 50 TRI since 2009. It is observed that ~68% of the funds have not been able to beat the benchmark over the last 10 years.

Source - NSE However, the mid-cap and small-cap indices of the Indian stock market are not yet efficient enough for index investing to be profitable over actively managed index funds. Many actively managed small-cap and mid-cap index funds in India manage to beat the small-cap and mid-cap indices on a net return basis.

Can Index Investing be the only form of investing?

Index Investing works only because of the assumption that markets are efficient, and markets are efficient only because market participants are continuously gathering data on the basis of which they trade, and stock prices reflect all available information. If everyone however depends on index investing, then there will be no one to trade and stock prices will diverge from their intrinsic value to a significant amount. Thus, there is a case to be made that as index investing or passive investing becomes more and more prevalent, there will be less active investors in the market and there will come a time when active investing will have enough opportunities to profit from market inefficiencies. When that time will come is anyone’s guess, however.

8

The Big Bank Merger By: Anurag Kothari (IIM Ahmedabad) The health of the Indian PSU banks (PSBs) had been deteriorating for the last few years, and it was becoming evident that without the doctor prescribing a booster dose, they would not survive for long. Let’s crank up some numbers from the past – how serious was the illness of the 27 PSBs? A quick look at the financials of these banks brings out some horrendous figures – FY16 – the banks reported a loss of Rs. 28,490 crores; FY17 – a paltry profit of Rs. 474 crores; while in FY18 – the loss swelled up to Rs. 85,371 crores. Clearly, the PSBs were suffering from a deficiency of vitamin C (capital), and all this was only putting more burden on the promoter of such banks – the Central Government - to pump in more and more money to keep them alive.

Finally, on the 30th August 2019, came the inevitable announcement. Citing the success of the merger of Vijaya Bank and Dena Bank with Bank of Baroda, the government made the mass-marriage announcement - 10 PSBs were handpicked to be merged into 4 PSBs, with the total number of PSBs operating in India to come down from 27 earlier to just 12 after the mergers. The entire scheme of consolidation of PSBs is as follows:

9

Who got what: 10 PSBs will get a total of Rs 55,250 crore.

PSB Punjab National Bank Union Bank of India Bank of Baroda Canara Bank Indian Bank Indian Overseas Bank Central Bank of India UCO Bank United Bank of India Punjab & Sind Bank

AMOUNT (Rs. Crore) 16,000 11,700 7,000 6,500 2,500 3,800 3,300 2,100 1,600 750

But was this mega-merger called for? What would its impact be? Let’s analyze these disturbing questions a bit deeper.

The Positives • Achieve economic growth and improve the risk appetite of PSBs : The idea to merge smaller PSBs and create bigger banks seems to have been influenced from the rapid economic growth witnessed in other Asian countries like China, South Korea and Indonesia. The mission to make India a $5 trillion economy in the coming 5 years has prompted the government to build the size of the balance sheets of the banks large enough to fund large infrastructure projects and the ability of banks to maintain a perennial flow of credit even in times of slowdown. The move is expected to increase the risk appetite and operational efficiency of banks and cost-cutting through branch rationalization.

• Improved efficiency : The smaller PSBs have long been considered less efficient than their bigger counterparts. The idea of merging them with bigger PSBs thus ensures improvement in the efficiency of the entire banking system in the long run. This would lead to lowering of lending rates and decrease in operational costs. On the operational front also, there are potential benefits as the smaller banks with outdated technology would now be able to come up at par with the latest technologies and security features.

The governance and compliance environment is also expected to improve post-merger, for the banking industry as a whole.

• Faster decision making : The governance and compliance environment is also expected to improve post-merger, for the banking industry as a whole. Bigger banks are expected to allow the managerial bandwidth to deal with the industrialists and ministers with more confidence and take decisions quicker due to less bureaucracy.

10

The Main Points • Does not solve the bad loans problem : While the government might say that one of the motives behind the proposed mega-merger was to control the mounting burden of bad loans, the merger could actually increase the risk of recoveries. In the case of certain stressed assets, the creditors’ pool may be common, with different banks having different positions in the hierarchy of the list of creditors. There might be situations where one bank has a view different from the other bank regarding the stressed asset, prolonging the recovery process due to the conflict of interest.

• Realising cost synergies - a far-fetched idea : The limited flexibilities involved in the restructuring and rationalization exercise, together with other hindrances and conflicts could make it practically difficult to realise meaningful cost synergies. The proposed merger might not turn out to be as simple as the Bank of Baroda merger due to divergences in the culture and working style of the merging entities.

• Losing focus on growth in the short-term: In the wake of the economic slowdown, the government needs to push lending and investments. With the merger process underway, the management and staff would be too pre-occupied to monitor credit and lending. The recent mergers involving SBI and Bank of Baroda are ample proof of the fact that focus on integration hampers near-term growth.

• Will banks become stronger? – Highly doubtful: The mergers as announced, demonstrate varying degrees of financial strength. For example, let us take the case of Indian Bank. The Indian Bank is considered to be the financially strongest among the 10 banks with a net NPA of 3.8%, as compared to 5.2% of Allahabad Bank. The merger, thus, is going to adversely affect the health of Indian Bank, instead of making it stronger.

• Culture fit: Post-merger integration can be difficult at times, especially when dealing with resistance to change of the employees and different cultures of the merging entities. As such, the banks would have a hard time in seamlessly integrating the technology, employees, processes and the culture.

Conclusion: The merger of the PSBs is credit positive as it enables them to scale their lending and help strengthen in sub-scale segments of low customer wallets and low retail loans. While the step seems to be taken with the right intent, the timing looks a bit wrong, given the existing bad loan problem and the economic slowdown, coupled with the NBFC crisis. As such, the government has taken a very bold step where it feels that the existence of 12 PSBs along with some 20-odd private banks is enough to fund the needs of the growing Indian economy. Only time will tell whether this decision proves out to be a game-changer for the banking sector and the Indian economy.

11

References: 1) https://www.livemint.com/news/india/pnb-obc-and-united-bank-to-be-merged-nirmala-sitharaman1567158678718.html 2) https://www.livemint.com/Opinion/nioD0s2ZNJSsXxh2Nges4N/How-bad-are-our-public-sector-banksHere-are-some-vital-sta.html 3) https://economictimes.indiatimes.com/news/economy/policy/big-bank-mergers-government-turns-tenpsbs-into-four/articleshow/70918585.cms?from=mdr 4) https://economictimes.indiatimes.com/industry/banking/finance/banking/nirmala-sitharaman-pnb-obcunited-bank-to-be-merged/articleshow/70909247.cms 5) https://economictimes.indiatimes.com/industry/banking/finance/banking/but-is-big-bang-bank-mergersa-solution/articleshow/71087411.cms 6) https://www.financialexpress.com/industry/banking-finance/indian-banks-a-dwarf-on-global-stage-thisbank-will-be-indias-lone-entry-for-years-to-come/1699918/

12

Market Outlook – Pain Ahead But Green Shoots in the offing By: Priyam Shah (S.S Management Consultants) In the midst of a global economic slowdown, global trade wars, macro-economic uncertainty coupled with a domestic demand slowdown – a general sense of pessimism has been a constant when it comes to the Indian markets as well as our global counterparts.

Economic Outlook The Indian economy is currently in a phase which can be compared to a textbook economic slowdown. The Indian economy started showing the first visible signs of stress when auto sales started declining last year.

Any classical cyclical slowdown goes through three phases – it starts from a slowdown in high value discretionary items (sharp and visible drop and car sales), which was followed by a slowdown in the low value discretionary space (airlines fares, Jet airways going bankrupt) and the cycle ends with a slowdown in the staples (staples demand have decreased – especially in the rural areas). As a matter of fact, Rural consumption is at a 7-year low - rural consumption today is only half of aggregate urban consumption whereas normally it is twice that of total urban consumption.

All the macro indicators and market commentary clearly pinpoint towards a cyclical slowdown. The unique thing about this slowdown is that when it comes to number crunching, the fall in demand across sectors looks very sudden. The reason for this majorly has been the fact that the cyclical slowdown in India was majorly amplified by the NBFC mess which put a sudden brake to all the liquidity within the system and thus exacerbating the slowdown.

Key reasons that amplify the current slowdown One of the key reasons that is stalling the recovery of the current slowdown is there is visible, and data backed lack of liquidity in circulation since the last 2 years which has hampered lending and has ultimately affected the total output.

13

Exhibit 2–Monetary tightening M3 is the indicator of total circulation of money.

Source–Valuenomics.wordpress

Exhibit 3–Decline in advances by PSBs Source–RBI publication

One of the most important reasons that have led to the prolonged slowdown is that there has been a significant level of monetary tightening in the economy post demonetization. Whether demonetization was a policy error or not is debatable – but one of the major policy errors of the system was that it took too much time for liquidity to come back to the system.

Exhibit 2 shows that M3 – an economic term for the total amount of circulation in the economy has been lagging for the past 2 years. The narrative and the broad consensus has been that after demonetization – a sudden drop in liquidity paralyzed the economy and led to a demand slowdown. However, there is much more to this argument. If looked closely, the crux of the entire situation is there has been a systemic risk in the entire banking sector that has been evolving since a long time now. If we go back in time, the first big ticket NPAs started emerging in 2013 – 2014.

The entire first wave of NPAs was majorly from Public sector banks. This is when the government decided that it will drastically reduce lending from the public sector banks to curb the NPA mess which in hindsight remains one of the biggest policy errors.

This decision to reduce lending turned out to be one of the biggest inflection points of the banking sector.

One must remember that public sector banks at that time had an 80% market share in the country vis a vis 70% right now. With the major deposit base with public sector banks – a sudden decision to decrease lending led to a liquidity crunch across sectors as seen in Exhibit 3.

To meet the aggregate liquidity needs of the entire economy – Non banking Finance Companies (NBFCs) saw this as an opportunity and stepped up aggressive lending and in the process ended up with huge exposures to sectors which now have become stressed assets. The NPA news that we see now has been a cycle that started in 2013 – 14 and is finally at its tail end in this fiscal year.

There are some structural drivers too There has been one major change in the entire economy – Something that is already changing the way the economy operates. There has been a huge amount of Digital disruption. When we look around today, what do we see? Flipkart and Amazon posting 3 billion$ sales each during Diwali. Netflix and Amazon prime are changing the way people are watching TV. Food service from Swiggy and Zomato has changed the concept of going to a restaurant every time you want your favorite meal. In the last 2 to 3 years an undercurrent of digital disruption has become very evident and is strongly growing.

Furthermore, GST has changed the way we do business. It has formalized the whole process. The use of cash in retail trade has fallen. Household savings are getting more financialized . Today’s millennials want a rule based economy with higher consumption and comfort levels. Structural changes if any present themselves gradually in any economy. Digital disruption has started but evidence suggests that it is still at a nascent level to cause any major slowdown in the economy.

14

The slowdown that we are witnessing today is purely cyclical – which has been amplified by both weak global economic conditions and a weak domestic business environment. Structural undercurrents exist but we believe that they are not only still at a nascent stage but also are going to aid in shaping the economy in a major way in the years to come.

Where exactly are we in the entire economic cycle?

We strongly believe that we are on the tail end of the cyclical slowdown. However, we believe that there still are a few quarters of pain left before everything starts clearing up.

Furthermore, what we need to understand that India is a country which historically has one of the highest Inventory to GDP ratios in the world – in simple terms this means that we have the highest levels for Inventory anywhere in the world. When liquidity tightens in any economy what we usually see is a large amount of inventory pile up across sectors. At the end of the cyclical slowdown . When liquidity starts to loosen – de stocking starts taking place – a phenomenon that is being seen right now in the economy. As the government continues to respond to the slowdown – by decreasing interest rates and pumping in liquidity, aggregate demand increases and then de stocking starts taking place. And then the waiting period starts. The entire period of destocking of inventory to normalization of demand patterns and then new capex kicking in – marking the end of the slowdown takes considerable amount of time. India, having one of the highest levels of inventory in the world leads us to the conclusion that there would be a significant waiting time for the growth cycle to revive. In short – expect a few more quarters of pain.

Equity Markets The equity markets have literally had a rollercoaster ride this year. This has been a very eventful year for the markets with the mood swinging from extreme optimism to pessimism which has culminated with an announcement by the government to introduce corporate tax rate cuts.

Earnings upgrade post corporate tax cuts to keep valuations attractive The tax cuts would increase profitability for those companies in the highest tax bracket by 14% . Post the tax cuts nifty is expected to be revised upwards by 10% led by banks and consumer companies which are paying taxes at the highest rates. There would be a dual impact of the tax cuts on most companies. Not only will earnings be revised upwards leading to a PE upgrade but also there would be an impact on the growth of the companies as increased profits would be used by companies to stimulate demand through price cuts and also for new capex.

Most stocks in the Nifty are trading at a 30% to 40% discount to their long term averages as of today and present a good investment opportunity.

One very important thing one must remember is that all the measures taken by the government like corporate tax cuts, Insolvency code etc. have been on the supply side. It is only when aggregate demand 15

picks up that we are going to see an effective revival in the economy. It will remain to be seen how long the time frame will be before we see an uptick in aggregate demand.

The market commentary as of today is optimistic about the near term but that has always been the case.

Every samvat almost all of us are flooded with Diwali picks. Most people are always on the hunt for cheap, beaten down stocks or themes which are “trending” and will do well. If I could summarize all the things thing that Samvat 2075 has taught us it would all come down to 1 line – “Stick to quality”. The best performers of this year were those stocks which had a quality business, strong and healthy moats and were not too over leveraged.

Going ahead identifying investment picks we believe we should have the following rationales: • • • •

Emphasis on steady businesses Top & bottom line compounding in excess of 10% for the last 5 years Healthy return ratios (ROE over 10%), low or negligible debt, and insignificant promoters’ pledge Valuation comfort with respect to fair value

Insolvency: The End or a New Beginning By: Nikhil Rai (XIMB) This article attempts to unravel the intrinsic features, characteristics and drawbacks of insolvency procedure to propose and articulate new disruptive protocols for aiding the financial system.

1. Introduction There is an old proverb – ‘Those who do not learn from history are doomed to repeat it’. This saying fits perfectly in context of Insolvency resolution procedure currently in practice. Global Recovery Rate (GRR) 16

hovers around 50% and global average resolution time currently stands at 2.5 years showing only a miniscule decrease of 7.4% over a decade of policy making and technical advancements indicating the need for revision in insolvency framework. There is positive side of the story too as major economies are looking for more transparency, accountability and decentralized techniques to combat insolvency. India is leading the pack with its revised board and code of conduct for insolvency, liquidation and bankruptcy through expert insolvency professionals. As the hysteresis of economic crisis of 2008-09 is gradually being buried and all major global economic indicators have stabilized, it’s about time that policy-makers scrutinize the bottlenecks, roadblocks and intrinsic challenges in implementation of a smooth, uniform and timely insolvency resolution protocol. In Indian context, all stakeholders must perform a gap analysis with its global counterpart and carry forward with government’s recent initiatives and undertakings.

2. Insolvency Vs Bankruptcy Vs Liquidation Characteristics of Insolvency, Bankruptcy and Liquidation are fundamentally different yet they are not mutually exclusive as seen by basic definitions: ▪ Liquidation – An accounting procedure for bringing an end to a company (legal entity) irrespective of companies’ solvency or bankruptcy status ▪ Insolvency – the state of being incapable of paying short or long term liabilities, often further categorized as: a. Cash flow Insolvency – when an entity is unable to repay liabilities or operational expenses in apt form but holds assets that can be liquidated for repayment b. Balance Sheet Insolvency (Actual) – when an entity has no asset or prospect to run business or repay liabilities ▪ Bankruptcy – The legal process which adjourns an entity as unable to pay its outstanding debts (often confused with balance-sheet insolvency) 3. Trends in Insolvency management

17

3.1 Global Context – The universal trend in managing insolvency is 1) Framing a legislative framework for insolvent individuals and managerial professionals 2) Providing consultancy or debt restructuring services to insolvent/bankrupt clients.

Worldwide, Insolvency is viewed by practitioners as a predecessor of some form of restructuring (corporate or debt) and hence strong financial system aids in successful and fast recovery from insolvency. Due to efficient financial institutions, countries like Japan, Germany, US and South Korea have a recovery rate of more than 80% while fast developing countries like India, China and Brazil are yet to achieve even Figure I : Global and Region wise Insolvency Index 50% recovery rate in their entire financial history. In terms of timeliness, again the developed economies wrap up the insolvency process in average of 1.5 years while the developing economies take four years on an average. Policy framework too differs on a vast scale as UK is yet to change its insolvency protocols in past 30 years while India has adopted a new Insolvency and Bankruptcy Code (IBC) in 2016. Counties like Australia and Canada which have the most efficient banking system tend to dynamically change their policy framework to react proactively to lapses in insolvency handling.

Figure II : Average Insolvency Resolution Time (geographical)

18

3.2 Indian Context– Indian insolvency processes historically lacked both efficiency in terms of recovery rate and timeliness in terms of average resolution tenure. To counter this disparity and to consolidate regulatory norms, Insolvency and Bankruptcy Board of India (IBBI) was setup and Insolvency and Bankruptcy Code (IBC) was laid in 2016. The new protocols empower third party agents known as Insolvency Professionals to fasttrack insolvency cases with specialized tribunals for corporate (Corporate Insolvency Resolution Protocol through National Company Law Tribunal) and individuals (Debt Restructuring Tribunal). The timeline for drafting a case is set at maximum of 180 days and new amendment has made clearance of insolvency process mandatory in 330 days, thus making IBC 2016 a landmark legislative framework in global context too. IBC has been criticized as a pro-creditor protocol with debtors having comparatively little legal support in liquidation process, yet IBC has successfully countered the jeopardy of Non-Performing Assets as recovery has skyrocketed to Rs 70000 million (a record of 48% recovery).

Figure III - Rising Bankruptcy India

4. Reviving the Insolvency framework Insolvency resolution protocols have always been such a dicey undertaking for legislators that patching one aspect of it introduced another challenge in some other facet in a perpetual manner. As the financial system of the world is altogether moving towards a disruptive technological change; officials, bureaucrats and professional who manage insolvency cases must look beyond traditional methodologies with following heuristic being recommended: ▪ Cutting time, cost and scope in resolution process –Insolvency resolution must be re-framed gradually to cut on time and cost and hierarchical scope must be laid for any escalation without having to engage everyone at once. Optimizing processes in terms of timeliness and monetary expenses would yield a readily deployable framework and save opportunity cost for creditors, debtors and insolvency

19

professionals involved in the act while defining a clear scope and escalation matrix would reduce the overall transaction costs in resolution procedure.

▪ Leveraging on the learning curve – As this is the era of analytics and datasets for insolvency cases are readily available for past half a century, these data can be processed using new technologies like Big Data, Artificial Intelligence and Deep Learning to get hidden insights into merits and flaws of Insolvency processes that are historically carried without scrutiny.

▪ Digitization of Insolvency framework – As mentioned beforehand, the financial industry is facing a host of technological disruptive forces that are de-aligning basic financial and accounting practices. For instance, blockchain and cloud-hosting are destined to decentralize a huge proportion of financial transactions. Regulators must look for collaborations with academia and industry experts to document these projections and come up with new scope of insolvency resolution under these paradigms to reduce the disruptive capacities of these technologies 5. Synopsis As insolvency is the natural consequence for business and operational risk, punishing insolvency will deter investors from taking genuine risk and disturb the financial dynamics. Softer stance on insolvency would on the other hand reduce sustainability in business environment. Hence a balanced and inclusive way forward is need of the hour for an effective implementation of insolvency protocols. In Indian context where ample scope for improvement exists due to profound inefficiency, it is estimated that a streamlined insolvency procedure would save the Indian banking system a projected sum of Rs.400 billion and would channelize effective utilization of nascent assets. Strong Information Technology (IT) enabled procedure for insolvency handling would imply a stronger Asset Liability Management (ALM) at individual and aggregate level, thus helping reduce the sensitivity to external financial distress and boosting confidence of domestic and foreign investors. We conclude that while a major chunk of progress has been made to curtail the anguish of insolvency, many small breakthroughs are waiting to be made for a sustainable and rewarding financial system in the future.

References 1) https://ibbi.gov.in/ 2) https://www.financialexpress.com/economy/how-cases-under-insolvency-process-progressed-statusreport/1563127/ 3) https://data.worldbank.org/indicator/IC.ISV.DURS 4) https://iclg.com/practice-areas/corporate-recovery-and-insolvency-laws-and-regulations/india 5) http://ibccases.com/articles/banks-insolvency-bankruptcy-code-2016/ 6) https://economictimes.indiatimes.com/news/economy/policy/rules-to-revive-companies-beforeliquidation-to-come-out-soon/articleshow/68571841.cms?from=mdr 7) http://www.gesetze-im-internet.de/englisch_inso/ 8) http://www.prsindia.org/theprsblog/insolvency-and-bankruptcy-code-all-you-need-know 20

9) https://www.ibef.org/research/india-study/insolvency-and-bankruptcy-code 10) https://www.thehindubusinessline.com/money-and-banking/banks-lose-4000-cr-income-overinsolvency-delay/article25478481.ece 11) https://www.livemint.com/money/personal-finance/how-does-the-insolvency-resolution-process-work1562084179866.html 12) https://moneyterms.co.uk/technical-insolvency/ 13) https://www.ibanet.org/Conferences/conf938.aspx 14) https://www.worldbank.org/en/topic/financialsector/brief/global-insolvency-law-database 15) https://www.ibanet.org/Publications/publications_insolvency_and_restructuring_international.aspx

21

Does Productivity Decide Wages?

By: Abhishek Singh (Indian Institute of Technology Kanpur) The Economist in 1995 stated, “Differences in wages reflect differences in productivity. Low wages in emerging economies go hand in hand with low productivity.”

Shift of Value in Supply Chain and its consequence on the Wages Setting the Historical Context Adam Smith, one of the first classical economist in his book “The Wealth of the Nation” mentions Industrial workers as the heart of the productive economy. He was convinced that growth of the nation depends on the number of industrial workers and time spent by them in creating values in the products which eventually will decide the price for it and will bring in the revenue to the county. He was also the first economist to coin the term “Invisible Hands” which basically means the competition in the market will result in commodities being produced at minimal cost and will favour the consumers in the long run. Following his idea, economist David Richardo introduced the concept of comparative advantage i.e. variation in productivity differences by sector determines the International Trade, he also mentioned that the real value lies with investing the profits again to reproduce and creating more job and production opportunities which eventually will bring in revenue for the nation. Taking the idea of Capitalist market ahead, Karl Marx in his book “Capital” mentions that Capitalists owns the means of productions which makes them the side with more power and hence provide them with the advantage of deciding wages favourable to themselves.

He mentioned that even if workers try to unite and gain power then also Capitalists can extract its surplus by mechanization or “reserve army” of unemployed. Following these works came the idea of marginalism, which tried to explain the difference in the wages among various professions. The idea was based on the notion of utility and scarcity, in state of equilibrium, the wages were defined by the marginal productivity and their preferences for leisure versus work. It states that the labour is valuable because it is scarce.

Basically, the firms’ tries to capture the most optimised User Value for the Exchange Value spent on the labour.

Understanding the Dark Value Captured in the Value Chain of Apple The world economy is a dynamic system, where expropriated value takes two forms: visible monetized flows of bright value and hidden uncosted flows that carry the dark value (the recorded cheap labour, labour reproduction and ecological externalities). We first will look at the degree of dark value captured in the value chain of Apple and then will try to present reasons for such monopoly and range of profit margins.

22

Dark Value Embedded in Each iPad Unit of Apple (2014) Sources of Dark Value Extraction US $ Dark Value Waged Labour 397 Professional, Managerial &Headquarter Office Labour 175 Household Labour Externalities 171 Underpaid and Unpaid Informal Sector 144 Unpaid Ecological Externalities 190 Total 1077 Here the Dark Value is calculated based on the difference in wages which a labour in America would have received in comparison to the one which is currently paid to the labour in China and other countries part of the value chain of Apple. The above calculation was first presented by Donald A. Cleland in his highly cited paper “Dark Value and Degrees of Monopoly in Global Commodity Chains”. It seems evident that the philosophy of Smith, Industrial manufacturers being the heart of value doesn’t hold true in the today’s world. The value capture in the supply chain has seen a huge shift over the years, where the majority of the value used to lie on the left side of the value chain during the period of classical economists, it has shifted to the rightmost end of the value chain in today’s world, where majority of the value capture is done by the activities such as Marketing, Patents etc. The interesting fact in the above table being, Apple used to capture $1,077 of dark value in a iPad which actually was more than double of its market selling price of ~$500.

This reminds me of famous incident which took place at All CEO Meet at White House when President Obama asked Steve Jobs that what it takes to bring the manufacturing back to US and the answer was “It’s not coming back”.

Factors affecting the distribution of wages By now, we are pretty much sure that it’s not just the productivity which defines the distribution of wages and there are many more factors which contributes to it. Few of the major factors contributing to such imbalance in the wage distribution are: 1. Increase in the number of employments under Informal Sectors As per ILO, Manufacturing stopped being the leading employer in the late 20th century in Global South, which effectively is the group of developing nations focusing on manufacturing activities. The decrease in employment is caused because of the increase in the activities categorized under informal sector, where the activities are unrecognised, unrecorded, unprotected and unregulated. For example: For the manufacturing of Apple products, the conflict minerals are used which are extracted by the labourers at the gun point.

Witnessing the surge in the employment in informal sector, Mike Davis stated “the global informal working class is about 1 billion strong making it the fast growing and most unprecedented social class on earth”.

Other factors which contribute to this increase are the social constraints, one of the findings of Stephanie Seguino mentioned that the Asian economies with the widest wage gap between men and women grew most rapidly and the process of Housewifization is witnessing an upsurge in the market which helps in tremendously reducing the labour costs.

23

2. Difference between the Supply and Demand Currently almost 45% of the world population earns less than $2/day, which creates a very huge pool of exploited or unemployed labourers which migrates in search of work. As the marginal utility theory states that when the supply crosses the equilibrium point with the demand, the reduction in wage occurs spontaneously, which effectively is currently observed in the Global South. This scenario also allows the firms to exploit the labours by extracting the most out of them at the least cost and also following various evil acts such as wage cut for being late to the work, eliminating social interactions, demanding 80+ hours of works per week without paying the extra bonus etc.

3. Local Minimum Wage The firms always try to pay the least possible wage to the labourers which are required for them to come back to work the other day. The whole of product manufacturing for Apple takes place in China but the total share of wage of china labourers is less than 4% of the selling price of the product. For example: Considering the basic local minimum wage of Tianjin in China is CNY 920, the wages paid by Foxconn the firm which manufacture products for Apple, Samsung and other big giants is CNY 940 to its labours, whereas the food consumption per capita in Tianjin is CNY 451, and Monthly living wage considering the Engel’s coefficient at 0.5 and dependency ratio of 1.87 is CNY 1685, which effectively is CNY 745 more than what is paid to a labourer at Foxconn. Apparently, the basic wage of the frontline workers is not enough to maintain decent living standards in the cities.

4. Possible Level of Exploitation In the free market, the fight is never between equals, on one hand it’s the big corporate with huge control on the supply chain and on the other hand are the mere labourers, producers etc. Apple is not able to enjoy the operating profits of more than 50% just by itself, it’s this huge difference between the power of the two sides, which allows them to have a huge control on the life of the other. In case the labourers try to unite and fight back, the idea presented by Karl Marx of bringing in the reserved army helps the firm extract the surplus.

5. Role of Government In the motivation to improve the relations with the Global North or the Developed Countries, the Governments of Global South are generally reluctant to negotiate with them in terms of the wages, quality of work etc. For Example: In one of the recent reading, I came across the proposal of China Govt. where they made it mandatory of the school/college students to intern at Foxconn during holidays. The Foxconn is able to exploit these interns more than the normal labourers since they don’t even come under the purview of Labour Laws. The Foxconn pays them less and tries to extract almost equivalent to a regular labour. The above mentioned are the few factors which helps the firm decrease their cost and exploit the workers based on the division of value chain and the countries in which they are working in. The situation could only be improved by increasing the local demand, intervention of state in finalising the wages for the labourers, recognition of labour rights and a implementing a fresh conceptual framework with motivation of

24

improving the standard of livings. Though as it could be very well witnessed that the Global Ideology is shifting towards the philosophies of right wing (Capitalists) the scenario is not going to improve soon.

25

A Note on Derivative Markets in India By: Vatsal Chaturvedi (SIBM Pune) A derivative is a financial instrument which derives its value from another asset called an underlying. An underlying could be a physical or financial asset. One of the main purposes of using derivatives is to hedge against the price risk or the risk of fluctuation in the value of the underlying. Risk is one of the main characteristic features of both physical and financial assets. In the last three decades due to the wave of globalization and liberalization that swept across India, financial markets have seen rapid fluctuation in the interest and exchange rates, stock markets and this has exposed the governments, corporates, individual and institutional investors to a state of growing financial risk. In such a scenario derivative can and have played a large part in mitigating these risks.

There are many applications of derivatives ranging from management of risk, efficiency in trading, price stability and discovery to using it for `speculation and conducting arbitrage. The main participants in the derivative markets are Hedgers, Speculators and Arbitragers. All these participants in some or the other way contribute to the liquidity and efficiency of the derivative markets.

History of Derivative markets in India Derivatives Markets have been in existence in India in some or the other forms for a very long time. In the area of commodity derivatives, the Bombay Cotton Trade Association started trading way back in 1875. In the year 1952, The Government of India banned cash settlement and option trading due to the fear of speculation. The first step towards introduction of financial derivatives in India was the promulgation of Securities Law (Amendment) Ordinance.

The main theme of the provision was the withdrawal of prohibition on option in securities. From the year 2000, ban on futures trading in many commodities were lifted. Along the same time national electronic commodity exchanges were also set-up.

In 2000, derivatives trading commenced in India after getting SEBI Approval on the recommendation of L.C. Gupta committee. SEBI permitted the derivative exchange of two stock exchanges, NSE and BSE and their clearing house to commence trading and settlement in approved derivative contracts. Initially SEBI permitted trading in just futures contract of market indices such as S&P CNX, Nifty and SENSEX. Subsequently, index-based trading was permitted in options as well as individual securities.

Trading in BSE Sensex options commenced on June 4, 2001 and trading in options on individual securities commenced in July 2001. Futures contracts on individual stocks were launched in November 2001. Trading in index option commenced on June 4, 2001 and trading in options on individual securities commenced on July 2, 2001.

26

Growth of Derivative Markets in India Derivatives markets have seen a tremendous growth in India. It was very well received by stock market players. From its inception in 2000-01, trading in derivatives have increased leaps and bounds and is expected to continue further. As can be seen from the chart below, derivative turnover as a multiple of cash turnover has increased steadily over the years and it reached 18.21 in 2017.

All this points out the increasing popularity of derivatives being seen as an efficient hedging instrument and as a valuable addition in the portfolio of various financial institutions such as banks, NBFCs and among Assets Managers. Among the products that are traded, single stock futures also known as equity futures have always been most popular in terms of volume and number of contracts traded. If we compare the derivatives market in India with that of the global derivatives market, it has shown better growth (%) as compared to its global peers. This fact points out not just the growing interest in derivatives but is also a sign of India becoming a more mature financial market. The developed, however welcomed, poses to some degree a threat to the financial system as derivatives poses a risk of contagion being spread from one market and economy to another. But SEBI has been cautious and has over the years taken measures to ensure both liquidity in the markets and also to contain risk that these instruments has.

Derivative turnover as a multiple of Cash turnover 20 18 16 14 12 10 8 6 4 2 0 2002

18.21 13.56

14.82

15.74 13.76

10.84 9.32 5.2 2.7 0.05 2004

0.02

2.6

3.06

0.87 2006

2008

2010

2012

2014

2016

2018

Multiple (x)

Commodity Derivatives (special mention): Commodity derivatives by nature are a bit different from derivative instruments on, say, an equity .Flow of information in financial markets is more efficient than in commodity markets which helps in accurate pricing. but in commodity markets, the flow of information, especially in agricultural commodities is not as efficient, which leads to an imperfect hedge for those who wants to hedge agains price risk of the commodities as underlying.But nevertless they play an important part as they help achieve two most important economic functions of price discover and price risk management of commodities in the spot markets. The following table shows a comparision of Indian commodity markets with that of the Global:

27

% of number of contracts traded: Commodity market (derivatives volume) CY 2017: Segment Futures Options Global India Global India Energy 38.3 48 61.7 0 Base Metals 33.1 30.6 4 0 Agriculture 23.5 8.5 29.9 0 Precious Metals 5.1 12.9 4.4 100 As can be seen from the table above, India doesn’t have a vibrant commodities derivatives market. Apart from the energy derivatives, it lags behind when it comes to total number of commodity derivatives traded as a % of total derivatives traded all over the world. It is not until June 2017 that SEBI allowed trading in commodity options. Hence, commodity options market is highly underdeveloped. It is important to develop commodity derivatives market because, as numerous researches have pointed out that having an efficient commodity markets helps in price discovery in physical markets and also in price risk reduction.

Governments too can benefit as they are exposed to commodity price risk and can hedge this exposure which can reduce perceived country risk and better budgetary control would improve debt managementthese effects in large can show in higher growth rates.

Conclusion Continuous innovation in derivatives along with development in information technology, which spurred the growth of risk management centers and better price dissemination, have redefined and revolutionized the landscape of finance industry across the world and also in India. Derivatives have earned a welldeserved and extremely significant place among all the financial products. Derivatives are risk management tools that help in effective management of risk by various stakeholders. They provide an opportunity to transfer risk, from one who wish to avoid it; to one, who is willing and able to accept it. India’s experience with derivative markets have been really encouraging and successful. There is still scope of some improvement in commodity derivative market and it should be taken up for consideration, given the benefits it holds.

Factors like increased volatility in financial assets prices; growing integration of national financial markets with international markets; development of more sophisticated risk management tools; wider choices of risk management strategies to economic agents and innovations in financial engineering, have been driving the growth of financial derivatives worldwide and have also fueled the growth of derivatives here in India.

Significance and contribution of derivatives cannot be neglected in today’s continuously changing world.

Although the benefits and cost of derivatives remain the subject of debate, the performance of the economy and the financial system in recent years have reiterated that the benefits have exceeded the costs.

28

Rethinking Macroeconomics Policies By: Jaskirat Singh (St. Xavier’s College, Kolkata) The recovery has been a long-awaited post-financial crisis and is yet to be seen as strong and sustained growth. Between industrial countries and emerging markets, there is a differential pace of growth. The world is much more integrated, there are common forces at work, explained by the fact that there is slow growth across the world, aggregate demand across the globe is weak.

One of the most obvious forces at work is debt. Pre financial crisis growth was pumped through the leverage that people borrowed to spend. And post-financial crisis this growth his held back because of deleveraging by the number of countries. Though the debt levels were low in emerging markets, the slowdown can be explained that their sources of demand were shrinking. They were exporting for growth and countries that were buying earlier are now being held back because of deleveraging. The second force is productivity, the productivity has fallen.

Though we are surrounded by innovative products and companies are doing their work in a cleverer way, this innovation doesn’t show up in the GDP numbers. One of the multiple reasons that effect of innovation doesn’t show up in the numbers is how things are measured? The goods we see today are better than the goods we bought yesterday meaning a car today is efficient and has many more features than the car launched 10 years back. The new car might be 1.2 times the older car but still, it is counted as one extra car. Thus, we are under measuring productivity.

The second reason might be how things are monetized? Since GDP doesn’t measure every good and service that is produced in the economy it only measures that are being monetized. Anybody I don’t pay their work doesn’t count in GDP for example if a wealthy lady marries her chauffer, GDP goes down. Earlier people used to go to the theaters to see the movies but now they can watch it or something better on YouTube for free. So, GDP has gone down, but your sense of satisfaction may have gone up. People are as happy as before.

The third reason is the effect of monetary policy. The theory says if the central bank cuts interest rates, people should go out and spend i.e. its increases consumption demand thus increasing consumption expenditure. Since a number of countries are experiencing population aging like in Europe and Japan, such a population would need to save more in a low-interest-rate environment which implies cutting interest rates beyond a certain point will reduce consumption rather than increasing it. Thus, at best it might be neutral and at worst it may actually reduce consumption demand.

Most central banks follow a domestic inflation mandate which has a lower and an upper bound or limit and many countries are on the verge of penetrating the lower bound. This fall in inflation has led to an unconventional monetary policy like Negative Interest Rate Policy (NIRP) in Denmark, Euro Area, Japan, etc.

29

Another implication of interest rate cut is it depreciates the currency implying an increase in exports thus increasing GDP. In today's world, the exchange rate effect is weak as every economy is implementing this policy. This is a classic example of a prisoner's dilemma. If everybody is doing it none of them will get many benefits. But if you stop your exchange rate will appreciate and will increase the trade deficit. So, a country can’t stay out it has to join others even though there are limited benefits.

So, what should be done?

Since there are consequences of aggressive monetary policy on the rest of the world (ROW). Policymakers need to be careful how much harm does it do outside. As only way policymakers take into account the rest of the world is the spill back effect meaning if country A does something and has adverse effects on country B and which in turn has some effect on country A this spill back is taken into account. Spillover i.e. the effect of A on B is not taken into account.

Since all monetary policies have positive effects on one side and negative on the other, the policies that have sustained negative effects should come under inspection i.e. if country A gets it growth simply by depreciating its currency and drawing growth from ROW and not by making more investments domestically should be examined more closely than policies like a certain country getting its growth partly by depreciating its currency and partly by making investments.

30

More collective action is required globally for example if one country tries to crack down on tax evasion would be problematic as companies would leave and go elsewhere but if collectively the globe cracks down it would have positive effects. We can't get away from needful growth; we have to find growth in real investments that are more stable. It seems obvious that we need more infrastructure investments in emerging markets and in industrial countries is the greener investments for sustained long term growth. As we know we need to invest in more green energy in order to make the world more sustainable. Green investments across industrial countries can result in long-run stable growth.

Finally, I would like to end my article by a joke on the difference between recession and depression as many of the problems came out by comparing what had happened before and after the global financial crisis and during the great depression. So, here's the joke highlighting the difference i.e. single-digit unemployment rate in a recession whereas a double-digit rate in depression, a recession is brief compared to depression as in depression there are repeated periods during which real GDP falls: When your neighbor loses his/her job its recession, when you lose your job its depression.

31

The Big Bank Theory- Public Sector Bank Merger By: Aman Pundhir (Delhi Technological University) The Indian Economy is losing steam and now resembles to a falling aircraft which is being considered as an augury to the ambition of making India $5 trillion economy by 2025. The situation has resulted in the stifling condition of the citizens and with no plausible attempts made by the government to tackle this has augmented their anger. The seriousness of the crisis can be seen through the downfall of the Auto industry in India or with the decreasing profits of companies such as Hindustan Unilever Limited, Siemens, etc. The crisis in our country has left many financial experts baffled and out of any cogent solutions.

With so much happening in the country and in order to handle public`s ire, a massive step had to be taken by the Finance Minister of India. Thus, Nirmala Sitharaman announced the Mega Bank Merger that reduced the number of banks from 27 in 2017 to just 12. Finance minister also announced the contours of a Rs 55,000-crore recapitalization plan for the entities that are to be merged. Bank mergers aren`t new to India since the first bank merger was mandated in 2008 with the solemn purpose being strengthening a financially weaker bank by associating it with a stable and competent bank. Other attempts made in the banking sector include reducing the lending rates, but it has failed to shore up lending. Speaking of the mega bank merger, it has attracted many carping critics that are pretty certain that the bank merger will abate the overall growth and it might also add to chances that Recession hits India by 2020.

However, merger of banks is a double-edged sword. The main idea behind such a massive call is to create banks of global size that can serve the needs of $5 trillion economy by 2025 but the bank merger may or may not be convenient for the customers and various corporations. Also, it might lead to a conflict of interest among horizontal level employees coming from different banks. Such a huge step that involves so many lives getting affected requires a lot of groundwork and tenable reasons that can back your decision.

A lot of issues with state run banks came into limelight with the bank merger on the cards such as Bad Loans of banks that accounts for 75% of their net worth which is huge in terms of losses that they incur in every fiscal year.

32

Also, Non-Performing Asset (NPA) plays a major role in augmenting the losses incurred by these banks.

In a country where 92% of all transactions occur through cash, still we face cyber threat as a major issue.

Also, with reduced number of banks, the control of RBI over state run banks has improved enormously that has enhanced the overall quality of banks and optimized the profits, but at the same time lesser banks means good number of redundant positions that the banks will look to eliminate in order to achieve economy of scale. Thus, merger of banks which was introduced to improve the financial state of the country and stabilize its growth has indirectly targeted the jobs of thousands of employees in banking sector. Also, it has been argued that a failure of a very large bank may have adverse impact on the economy as witnessed during the financial crisis of 2008. Hence, presence of large institutions pose higher risk to the economy and a slight mistake can shatter India`s dream of attaining $5 trillion economy by 2025.

However, the state is embarking on the fact that it is going to be one of the most important decisions in enhancing the GDP of our country. With the target of getting to a GDP growth of over 8% in the next couple of years, experts of our nation need to produce reasonable solutions and effective strategies to achieve it. With the mega merger being mandated, a lot of challenges faced by the RBI and the state-run banks have been plummeted. Since, the number of banks has reduced to 12 so the banking costs to RBI have reduced enormously which has enhanced the profits and improved the banking experience of the customers. Talking from the past, bank mergers have always been fruitful to the Indian Economy and have generated required results in a short period of time. There is no eluding from the fact that the weaker banks are going to be benefitted the most by this decision while stronger banks will look to maintain their financial stability. Along with this, the merger has resulted in fewer but stronger banks which have now acquired enough firepower to face challenges in the global market and they will get proper recognition among all the banks in the world. Therefore, having fewer but stronger banks is a step closer towards a stable and accomplished nation.

33

Policy Uncertainties’ By: Ajinkya Nagpure and Kanchan Vaidya In democratic state of India there is only one thing that took place after every 5 years i.e. the Elections.

Irrespective of election there are many uncertainties throughout this period which last for different time period, whether that is developmental strategies, global strategies, or multi domestic strategies, these are basically long-term policies, which require certain amount of time for acceptance, development and amendment.

But now the decision-making policies of India is changed, there are more surprise elements added to it, the qualms in decision making is said to be the major reason for recent economic slowdown, mainly in auto sector. The economic survey of government policies which states that “if reforms are made majorly without considering the consequences then the profitability, risks in investment increases”, and the irony of situation is that, the economic survey was created at same place where the budget is created, which increases the impact of economic slowdown. The regular reforms and amendment in the policies not only increases the instability, but also create chaos among the small industries and the investors in the country. The policies are continuously changing, due to which the unpredictability in the market increases and thus foreign investment also gets affected.

For e.g. in case of automobile sector which constitute almost 40-50 % of manufacturing GDP and 7.5% of the country’s GDP. Automobile sector is ecosystem in itself, it constitutes service networks, dealers, spare part makers, suppliers, bankers. From October of 2018, the automobile sector is in recession, the sale of automobiles is continuously decreasing, in share market automobile stocks are decreasing severely by 1012%, company like Maruti cuts down its production. And almost 20,000 dealerships are closed now. Instead of providing the concession and subsides for losses, government applied the import taxes on the auto sector which act as a last nail put in the coffin of automobile by Thor’s hammers.

After 1991 housing sector created employment equal to the three major sectors of education, finance, trade, and contributed to the economy as much as agriculture. Housing sector also provided employment to all categories including skilled labor, semi-skilled labor or high skilled labor, due to which the burden of agricultural sector gets reduced and the Foreign direct investment increases in India. The demonetization was the major reason behind the downfall of the housing sector, the sector was in recession before demonetization, but sudden implementation of policy leads to breakdown of many private firms. Soon after this the next step taken by government was RERA, which was a good decision taken at wrong time. Loan taken by builders from bank was of no use, and due to uncertainties, the people investment in the home sector got reduced to minimum. And last step of including GST on construction increases more impact on the home-sector slowdown, which was later taken down by government. But its impact can’t be denied.

There are houses and flats worth 1 thousand crores to be sold by builders but due to economic slowdown and unpredictability the sale is not done yet and approximately 15 lakh houses are ready to be sold but no one is investing in sector.

34

After the budget, the share market is also facing the heat from the investors all over the globe. Even the blue-chip companies which are considered to be stable and provide the economic stability to the country are also in the downfall. This is the first time in fifteen years that the market is continuously slowing down after the budget is announced. The taxes on FPIs, taxes on super riches also reduced investment in the mutual funds.

The interest on the savings was reduced by the government, which was major drawback, as saving of people are generally in terms of fixed deposits and huge cuts on fixed deposits reduces the return of the individuals who are keeping their money in the bank. Even though the savings are falling by significant level, the decision of reduction in interest was also a decision taken which shows the uncertainties in policy of government. The report of CAG on the influence of GST shows how much the market gets affected by it and there were approximately 300 amendments on GST, which signifies the failure attempt of government in GST formation and regulation.

Not only above-mentioned sectors, employment, pharmaceuticals, FMCG, cement, steel, fertilizers are continuously falling down in every quarter. In telecom sector the major companies like Vodafone and idea faces loss of around 5 thousand crores in first quarter. The recession is mainly because of the two reason, first globally second is because of the constant changes and amendment in the law formation process or policy formation. In India the government is mainly focusing on making new policies, but the continuous modification in it shows that the policy makers are not keeping their eye on the future implementation of the policies. The futuristic approach towards the policies need to be done, in order to provide stability to the market and to gain the trust of investors back.

New era in Indian Real estate By: Soumya Kushwaha (IIMA) With three landmark reforms (exhibit 1,2), namely GST (Goods and Services Tax), RERA (Real Estate Regulations and Development Act) and PMAY (Pradhan Mantri Awas Yojana), putting forth the interests of common man, the Indian real estate sector is finally seeing the dawn. All the policies and reforms unleashed by the government in the past couple of years hint towards a new era in real estate marking a shift from a developer centric market to a buyer-driven market. This will give rise to a buyer who is more empowered and a property market that would be more focused on his interests. Houses are set to become more affordable; transactions are due to become transparent and trust of the buyer in real estate is on a course to be rebuilt in this new era. Let’s understand these reforms in detail to find out how they would change the course of Indian real estate.

With the Real Estate Regulatory Authority (RERA) firmly setting in and real estate prices stabilising, now is the best time to invest in property. As of now, 22 states and 6 Union Territories have already notified their RERA rules, out of which 19 states have active online portals. According to a study, the new era of 35

transparency in real estate sector brought in by the regulation has kept a check on speculative buying.

Moreover, developers have become cautious in pricing their products. The stringent byelaws have ensured that only serious real estate companies remained, while the fly-by-night developers vanished, as brought out by a survey of 50 realtors and analysts across ten major cities including Mumbai, Delhi, Kolkata and Bangalore bybizbuzzindia.com.

Although buyers have been continuously complaining about the dilution of the notified rules, they are bestowing their faith in the law and coming forward in bulk to raise their complaints against faulty developers for myriad reasons including project delays. For instance, Maha RERA has received as many as 6,631 complaints as of April 30, 2019, out of which the state authority claims to have disposed more than 64 per cent of the complaints. RERA has truly ushered in a regime of transparency and accountability.

Measures such as demonetization, and GST did cause some pain for the sector in short term but would prove beneficial in the long run. Government set the stage for the real estate sector in the long term through major policy overhauls and initiatives like 100 smart cities and Housing for All by 2022. With Pradhan Mantri Awas Yojana, the realty sector seems to be back on track now.

It is capable of incentivizing and encouraging the realty sector to look beyond the affluent buyer segment based out of the cities. Investments in the real estate sector have increased manifold in the affordable housing space since the second half of 2017. Private equity real estate firms have invested as much as USD 6.1 billion in the country, more than half dedicated towards affordable housing. Envisaged and implemented keeping the average home buyer in perspective, the PMAY scheme offers a slew of interest benefits and tax subsidies. This has further galvanized the housing sector to wake up, shed off the sluggishness and come forward to avail institutional funding and loans with favourable terms and conditions.

There is another interesting twist to the real estate story. India witnessed the launch and successful listing of its first Real Estate Investment Trust (REIT) by Blackstone and Embassy in March 2019. This key event marked the opening of a fresh investment avenue and unfolded a bright new chapter for the country's real estate sector. REITs give retail investors an opportunity to invest in commercial properties which was until now only a dream. The report analyses the factors that will influence the growth of REITs in India.

How will REITs change Indian Real estate scenario?

• • •

The listing of India’s first REIT heralds the institutionalization of real estate assets and indicates increased maturity of real estate markets Growing knowledge of the product will ensure acceptability and gradual increase of retail interest in this segment The instrument will enable retail investors to partake of the massive opportunity in the commercial market’s real estate pie, which until now was only a dream

Is it Wise to Invest in Real Estate in India in 2019 and 2020?

36

A big YES! Considering the various beneficial real estate trends listed above, experts are optimistic about the future of the real estate industry in the country and look forward to brighter days. As mentioned in the beginning, land is a scarce resource, and fundamental supply and demand principles dictate that with higher demand and lesser supply, property prices are sure to go up.

So, if you are looking to add real estate to your investment portfolio, then now is the perfect time to get started.

Exhibits Exhibit 1: Policy initiatives for development of Indian Real Estate Sector

Exhibit 2: Policy renewal in Indian Real Estate Sector

37

Sources 1) https://www.realestateindia.com/blog/the-beginning-of-a-new-era-in-indian-real-estate.htm 2) https://www.thehindubusinessline.com/news/real-estate/rera-brings-in-new-era-of-transparency-and-keepsspeculative-buying-on-check-survey/article27282959.ece 3) https://www.jll.co.in/en/trends-and-insights/research/india-reits-heralding-a-new-era-in-real-estateinvestments 4) https://economictimes.indiatimes.com/wealth/real-estate/this-could-be-the-turnaround-year-for-real-estateheres-why/articleshow/62490034.cms 5) https://www.ashianahousing.com/real-estate-blog/is-it-wise-to-invest-in-the-indian-real-estate-market-in-2019and-2020 6) https://indiablooms.com/finance-details/9229/impact-of-pradhan-mantri-awas-yojana-on-the-real-estatesector-in-india.html

38

ALL RIGHTS RESERVED

FINANCE & INVESTMENT CLUB INDIAN INSTITUTE OF MANAGEMENT ROHTAK For any queries/feedback/comments mail to fi@iimrohtak.ac.in Website: https://fi9522.wixsite.com/home Follow us on Facebook: https://www.facebook.com/FIclub.IIMRohtak

To Advertise with us: Contact Yash 9306426387 Aditya 8412899007

39