{News Analysis} Rupee value is dropping steeply - What RBI has done?

    In recent times, we have been hearing news about plunging rupee value against US dollar. As a layman, let's take a closer on 'what is happening?' in this article. Before that lets set some basic rules.

    In a market, items or commodities are sold and/or bought. So, the value of a commodity depends on three criteria,

1. Buyers
2. Sellers
3. Availability

With respect to the buyers, If there are more buyers for a commodity, then its value would be raising more likely. Otherwise its value may fall. [Demand]

With respect to the Sellers, if there are more sellers who want to get rid of a commodity they have by selling it off, then its value would be falling more likely. Otherwise its value may raise or sustain. [Supply]

The sellers and buyers can sell or buy a commodity if only it is available. So, with respect to availability, if an item is available scarcely then its value would tend to raise. If it is available abundantly its value may fall. [Supply Management]

With the above rules in mind, lets analyse the current situation. In our market, the commodity is money or currency (Rupee, Dollar ...etc). With respect to the demand and supply of a particular currency, its value may vary (There are hell lot of factors involved in determining a currency's demand and supply. Like, demand for a country's goods and services...etc. Now, we can simply assume that globally there are more demand for American goods and services, so the demand for dollar is more and thus its value is high). When the global economic variations affects a country's currency, the central bank of that country has a major role in managing that situation. In our country, it is the RBI.

What are the options that the RBI has in its hand to tackle the falling rupee value against dollar?
1. Making the US dollar easily available in Indian market by supplying/injecting more dollars into the market.

Result : Dollar is available easily in market, so its value would fall. If not, at-least the value of dollar will not raise in market for some time. But there is a drawback here. From where RBI would get dollar currencies? of course, from the external reserves. The dollar availability in reserve depends on our export earnings. Currently, our country is already facing current account deficit. So, decreasing the for-ex reserves to save the value of rupee will backfire badly. Moreover this option is temporary i.e., it can save rupee value for some time only.

2. Decreasing the availability of the rupee in market. So its value would raise. If not, at-least the value of rupee will not fall down further or it will ease.

How it is done?

• Make the interest rate higher (MSF-short term, Bank rate-long term). So borrowing rupee will become costly, thus less availability of rupee.
• Decrease the availability of rupee for lending to banks (i.e., limiting the LAF to 1%).
• Buy rupee from market by selling Govt securities (Open Market Operations).

Result : Less availability of rupee leads to less money to lend to the businessmen. This will lead to less GDP growth.

What is "Cheap Money Trap"? and What are all its ramifications?

Cheap Money Trap:

In an economy, to boost the growth the policy makers lower the interest rate of the central bank. So that the entrepreneurs would get money for lower rate and they produce goods and sell it. Thus the economy will grow. But in real world this have not been worked that perfectly.

During 'Great Depression' (1930), UK govt tried this cheap money regime. They targeted the entrepreneurs, but the people took advantage of cheap money and borrowed more loans for housing. So, less economic transactions lead to less growth. Thus, the cheap money regime was a largely unsuccessful one.

This cheap money policy becomes a trap, when the fear of depression/recession tend to keep the rates low always. This is like economy becomes addicted to 'cheap money'. If we try to stop the drug (raise interest rate), the sick guy (economy) may collapse and the safe way to do is unknown. Thus the "cheap money trap".

Ramifications:

As for as the rich countries are concerned, their problem would be like "If we raise the interest rate, will the economy collapse?". But, sooner or later, when the situation is most favorable they will surely raise the interest rate.

With reference to India, we are now(2013) largely depending on the foreign investments. Whenever we receive USD in any form (FII or FDI), we become happy that our reserve raises. But actually we are accumulating debt. During cheap money regime the foreign investor gets easy money and he would want to get more returns out of it. So he invests in India. But when the cheap money supply stops, the foreign investment flow also stops. In fact it would get reverse and investment flows out of the country (i.e., India). This effect would destabilize our economy and lead to another BoP crisis. The possible way out from these difficulty (for India) is to strengthen the domestic Industries. Because, only a competent domestic industry will ensure the export earnings.

The year of Great Divide - Population of India

    In general, impact of economic growth in an economy on the population will show following behavior,

1. High rate of birth and High rate of deaths - Low population growth (under-developed)
2. High rate of birth and Low rate of deaths - High population growth (developing)
3. Low rate of birth and Low rate of deaths - Low population growth (developed)

    In a country like India, where the children are considered as assets, rate of birth tend to be high. But at the same time, due to low economic growth health services will be lower. So that there will be high death rates also.

    In due course of time, after achieving certain level of economic growth, the health services would be accessible to people. So, that the country will show high rate of births and low rate of deaths.

    After achieving good level of economic growth and better literacy rate, people tend to have less children. So, there will be low rate of births and low rate of deaths.

    The year 1921 is a "year of the great divide" in the demographic history of India when mortality started to decline leading to acceleration in the rate of population growth . During the next three decades (1921-51) the rate of population growth continued at a level of over one per cent per annum. The slight dip in the growth rate in 1941-51 partly reflects the Bengal famine of 1942-43 and dislocation,-, due to the partition of India in 1947. After independence the rate of population growth accelerated considerably because of extension of public health services. The growth rate was at its peak in the period 1961-81 with the popu lation growing at a rate of 2.2 per cent per annum. The decade 1971-81 is a turning point in that fertility started declining and continued to decline every year thereafter. during the decade 1981-91 the rate of population growth declined from 2.2 per cent per annum to 2.1 per cent. Though the decline is a welcome sign the pace of decline is not enough to ease the relent less pressure on social services. The population has crossed the one billion mark in 2001. There are sharp regional variations. Another feature of the growth of population in India is the absolute size of its increase in the decade of 1981-91 India added 163 million people: an incremental population almost equal to the population of Indonesia, the fifth most populous country of the world. India adds every year a population almost equal to that of Australia. Given a population increase of this magnitude it would be difficult to provide even rudimentary social services despite best efforts

    

    The observation from the above graph shows that the population in India started steadily increasing from 1921. And continued to increase, that is the sign of India entering into the second stage of population growth. It is long way for India for stepping into the third phase of population growth, i.e., low growth. Despite India's economic growth, population is keep on increasing. 

Census 2011

    As per the 2011 census, there are 181 million people (~Brazil's total population) added to Indian population. There is another noteworthy point, i.e., after 1911-1921, 2001-11 is the first decade that has added lesser population than previous decades. If this behavior continues, then India will enter into the third phase within few more decades.

Highlights from census 2011

Poverty Alleviation, Employment Generation and Social Protection

    The universally accepted standard way of measuring growth is the Human Development Index. As per the latest Human Development Report from United Nations Development Programme (UNDP), HDI for India is 0.554 and it ranks 136 out of 187 countries. As we know, HDI is being measured on the basis of capabilities like *to live long healthy life, *to be knowledgeable, *to enjoy decent economic standard of life. Here, if we focus on the aspect of decent economic standard of life, it is necessary to have a decent income to achieve it.

    From HDR 2010, poverty has been measured in terms of Multidimensional Poverty Index (MPI) which measures intensity of deprivation in terms of living standards, health and education. India has an unfavorable MPI of 0.296. If we use this indicator instead of national poverty line then the population below poverty line widens substantially.

    Apart from Human Development and Poverty, we have our labour force also increasing which means that pace of job/livelihood creation must be accelerated. During 2010, only 15.6% of total workforce were in organised sector whereas 33.5% were casual workers and 51% were self-employed. This means that majority of workforce is in unorganised sector. To achieve inclusive development, several programmes on poverty alleviation and employment generation are being implemented by Government of India. Some of them are,

1. MGNREGA
2. Swarnajayanti Gram Swarozgar Yojana (SGSY)
3. Swarna Jayanti Shahari Rozgar Yojana

And also some of the social protection schemes are,

1. Aam Admi Bima Yojana (AABY)
2. National Social Security Fund
3. Bilateral Social Security Agreements

MGNREGA:

    It is a livelihood security enhancing programme which provides 100 days of guaranteed wage employment in a financial year to every household where an adult member of the family volunteer to do unskilled manual work. The objective of the programme is to augment wage employment and also focusing on the works that address drought, deforestation and soil erosion. Initially, in 2006 it was started at 200 districts and then expanded to further 130 districts. And also the wage under this programme was increased from Rs. 65 to Rs. 120 in 2011-12.

   This has led to increase in purchasing power of the people, decrease in distress immigration and also increased bargaining power of the agricultural labourers. Anyway, the implementation could have been better with focused planning and capacity building of Panchayat Raj Institutions.

   This programme also sought for 1/3 participation of women. But the share of women in generated person-days is 48%, i.e., more than expected.

    Some major initiatives for the effective implementation of this programme being, 1. Service delivery framework using ICT for better transparency and accountability. 2. Providing wage rate of Rs. 100 per day as an entitlement and developing an index for fixing wage rate and its periodic revision.

Swarnjayanti Gram Swarozgar Yojana:

    This is a self-employment programme to help poor families to cross the poverty line by providing bank credit and government subsidy, so that they can involve in income generating activities. It is envisaged that 50% of this programme should go to SC/ST and 40% to women. Under this programme each district of the country to have Rural Self Employment Training Institute for basic skill development.

   Now this programme has been restructured as NRLM (National Rural Livelihood Mission) and its salient features are,

• At least one member of the family (preferably a woman) to be brought under SHG network.
• By setting up strong SHGs, reducing their external dependencies.
• Continuous capacity building of the stakeholders (SHG, NGOs...)
• Subsidies to be available in terms of funds and capital subsidies to cover their long term credit needs and short term consumption needs.
• Universal financial inclusion - in case head of the family or earning member natural death 30,000/- accidental death 75,000/- for total permanent disability 75,000/- and for partial disability 37,500/- .

Janashree Bima Yojana:

    Launched in 2000, for rural, urban persons living below poverty line, (18-59 years of age) and 45 identified occupations. This scheme provides cover in case of natural death 30,000/- accidental death 75,000/- for total permanent disability 75,000/- and for partial disability 37,500/- .

Rashtriya Swasthya Bima Yojana (RSBY):

    Launched in 2007, this scheme provides smart card based, cashless healthcare of 30,000/- per family (5) per annum. The state center sharing will be 75:25 except kashmir and north-east (90:10).

Unorganised Workers Social Security Act 2008:

    Launched in 2009, Providing social security to unorganised workers.

Swarna Jayanti Shahari Rozgar Yojana:

    Launched in 1997, to provide gainful employment to urban unemployed and under employed by encouraging them to setup self-employment ventures or provision for wage employment. This scheme subsumed earlier ones like Urban Self Employment Programme (USEP), Urban Woman Self-help Programme (UWSP), Skill Training for Employment Promotion amongst Urban Poor (STEP UP), Urban Wage Employment Programme (UWEP) and Urban Community Development Network (UCDN).

Social Protection

    As we stated earlier, the share of informal workforce is high. The following programmes are focusing on providing social security to them.

Aam Admi Bima Yoajana (AABY):

    Launched in 2007, provides natural as well as accidental cover. Security Board was setup in 2009 and it has recommended the schemes like RSBY , JBY and Indira Gandhi National Old Age Pension Scheme (IGNOAPS for old age pensions) to be extended to construction workers, MGNREGA workers, Asha workers...etc.

National Social Security Fund:

    For the unorganized sector workers.

Bilateral Social Security Agreements:

    In case of posting in any third country, the workers will be exempted from social security contribution, totalisation of contribution period and exportability of pension in case od relocation to home country. Currently this agreement has been made with Belgium, Switzerland, Netherlands, Denmark and Norway.

Reference:

Indian Economy by Ramesh Singh

Tax System - Simplified

Tax
What is tax? Well, there are hell lot of view about this. Let take it as a tool for redistribution of income. We can also say that tax are imposed for fulfilling expenditure obligations of the government. Lets see some terms about tax. Incidence of tax - the event of tax being imposed. Impact of tax - when tax makes its presence felt, that is impact of tax. Direct tax - (Incidence + Impact @ same point) i.e., the tax is being imposed on you and you feel it. Indirect tax - (Incidence + Impact @ different point)i.e., the tax is being imposed on you but you make others pay for it.

Okay, lets see how taxes are imposed on people.
1. Progressive Taxation
You gain more, you pay more taxes. This may seem like, you are getting rewards for being poor. And the riches get the punishment og more tax so they try to evade taxes.
2. Regressive Taxation
Its the opposite, If you earn more you pay less taxes. This is imposed on small industries excise duty. If they produce more they can pay less taxes. Hence SMEs encouraged.
3. Proportional Taxation
Whatever your earning may be, you have to pay a fixed tax.

Hmm, How good a tax system can be?
To answer this question economists give some principles. So if a country's tax system follows those principles, then it is deemed to be good tax system. So, what are they?
1. Fairness
Persons in similar situation should pay similar taxes (Horizontal equity). And the 'better off' people pay more taxes (Vertical equity).
2.Efficiency
Cost of payment of tax should be less (Online, one click instead of long queue in IT office). And the tax system should not decide how much you save or invest or spend etc (Less interference on the allocation of resources). Moreover, by imposing tax on pollution, smoking nation will get double divident (money+social purpose).
3. Administrative Simplicity
The activities like computation, filing, collection, etc of taxes should be as simple as possible.
4. Flexibility
The tax system should be in such a way that it can be modified easily in future.
5. Transparency
The government should say aloud that "I got this much money from taxes and I gave you these services".

Wow! Now the government have tax money collected. So what it should do with that?
Well, It has to obviously spend on development. Here also three types are present - Progressive, Regressive, Proportional. Here, progressive spending is good. Because, its always good spend only as much as you earn.

References: 
Indian Economy - Ramesh Singh

The Srikrishna's code

    For any economy in the world, the financial sector serves as the backbone. Because, for an economy to grow and sustain the business activity of industries and other players has to be stable and growing. This becomes possible by providing positive environment and support to domestic entrepreneurs. The financial markets and banking system and other financial sector institutions supports the entrepreneurs by providing them long term funds, short term funds, loans and such other mechanisms for resource mobilizing. So, any crisis in the financial sector of an economy is a doom. This makes it essential to regulate this sector properly.

    In Indian economy, the financial sector regulation is carried out by few institutions like RBI, IRDA, PFRDA, SEBI etc. Recently a Financial Stability and Development Council has been setup to promote coordination among these regulatory institutions. Anyway, there is a need felt for reforms in financial sector legislation for the long term financial sector regulations which involves systemic risks. For this, government has appointed Financial Sector Legislative Reforms Commission chaired by Justice Srikrishna. The recommendations of this commission is released recently.

    This commission has proposed a new regulatory architecture. As per the recommendations, an Unified Financial Agency should be created by merging existing four agencies namely SEBI, FMC, IRDA, PFRDA. The commission also recommends to continue RBI with modified functions. Totally, the commission recommends for seven agencies with distinct functions.

1. FSAT (Financial Sector Appellate Tribunal) - to replace Securitied Appellate Tribunal
2. Resolution Corporation - to replace DICGC (Deposit Insurance and Credit Guarantee Corporation)
3. Financial Redressal Agency - new agency
4. Public Debt Management Agency - new agency
5. FSDC (Financial Stability and Development Council)
6. RBI
7. UFA (Unified Financial Agency) - new agency

While quoting the rational behind this huge changes in existing regulatory architecture, the commission said in coming 25 to 30 years India's GDP will be eight times the current GDP, so there is a need for drastic changes. Anyhow implementation of these recommendations may not be smooth as there exists some difference of opinion inside the commission itself.

Reference:

http://www.thehindu.com/business/Economy/srikrishna-panel-moots-indian-financial-code-bill/article4558956.ece

So, what is this FSDC is all about?

    As we know the economic crisis in 2008 originated in US has affected many countries across the world. Many economies are experiencing slowdown. It is important for every economy to learn and prevent such crisis in future. This crisis has called for changes in the regulatory mechanisms in US. As a result US has passed a comprehensive "Wall Street Reform and Consumer Protection Act", popularly known as Dodd-Frank Act. This act provides for comprehensive financial sector regulation, consolidation of regulatory agencies by establishing "Financial Stability Oversight Council" etc...

    US is dominant and well connected economy (especially with emerging economies like India). The implementation of this "Dodd-Frank Act" will be followed by financial adjustments by other economies. Due to this regulatory consolidation in US and global slow down, pressure mounted on Indian economy to take its initiatives towards regulatory reforms to prevent such crisis in future. Thus, a super-regulatory body much like "Financial Stability Oversight Council of US" has been created in India and named as "Financial Stability and Development Council".

    The FSDC consists of,

• Finance Minister as chairman and other member includes, 
• Governor Reserve Bank of India (RBl),
• Finance Secretary and/ or Secretary, Department of Economic Affairs (DEA),
• Secretary, Department of Financial Services (DFS),
• Chief Economic Advisor, Ministry of Finance,
• Chairman, Securities and Exchange Board of India (SEBI),
• Chairman, Insurance Regulatory and Development Authority (IRDA),
• Chairman Pension Fund Regulatory and Development Authority (PFRDA).

    The main functions of this council will be, maintaining financial stability, promoting financial sector development, inter-regulatory coordination etc...

    It is important to note that the parts of financial sector like, Banking, Insurance, Securities, Provident Fund etc... were previously had its own regulators namely RBI, IRDA, SEBI, PFRDA etc... The new FSDC will serve as an institution promoting greater coordination among the financial regulators.

Financial Stability Report of RBI

    The Financial Stability Report of RBI is an attempt to communicate the risks to financial stability that is beginning to happen. As per latest (December 2012) FSR document, the growth of Indian economy has moderated due to global headwinds and domestic policy uncertainties. Some highlights of the report is given below,

      1. Global risks like Euro sovereign debt crisis and US fiscal cliff remain.

      2. Investment and consumption expenditure fell due to fall in domestic savings, persistent high inflation and regulatory and environmental issues. This has resulted in decreased growth.

      3. Rising gold import resulted in widening current account deficit.

      4. No change in inter-connectedness of the system. First time the liquidity contagion in the system has been assessed.

      5. Asset quality of banking system is under stress, but still system is capable of tackling any macroeconomic shocks. Since the quality of asset deteriorated, it may be challenging for Indian banks to migrate to Basel III norms. 

      6.  Financial inclusion, Financial literacy and Consumer Protection has been recognized as important for Financial Stability and these has been discussed in this report for the first time.

For the full highlights and report, click here.

Banking Sector Reform in short

Narasimman Committee on Financial System - I (1991)
   Recommendations:
    1. Lesson CRR from 15% to 3-5%, allow SLR on beneficial investments. Do OMO (Open Market Operations) for evening out money supply.
    2. Phase out "Priority Sector Lending". Keep it within 10% total lendings of a bank. Give for only weaker sections.
    3. Let the market decide interest rates on deposits and of loans. Let the "Bank Rate" be an anchor and others linked to it.
    4. Abolish dual control of banking sector (RBI and Banking Division of FinMin), let RBI be the sole agency of banking regulation. Reduce public sector banks and let it apolitical, autonomous and professional.
    5. Tackle the menace of Non Performing Asset through Asset reconstruction Companies.

Narasimman Committee on Financial System - II (1997)
   Recommendations:
    1. Make the banking system stronger by merging public sector banks and all India financial institution and close down the loss making ones.
    2. After mergers let banking system be on 3 tiers,
        Tier-I International orientation
        Tier-II National orientation
        Tier-III Local banks
    3. Strong legal frame work for debt recovery (SARFAES Act)
    4. CRAR - 10%
    5. Rationalize bank's board.
    6. Don't give money to the public sector banks from budget allocations (Budget recapitalization of banks).
    7. Depoliticize banking staffs.
    8. Setup Board for Financial Regulation and Supervision for whole financial institutions, banks and NBFCs.
    9. Licensing private banks, that's good... keep it up.

Sources of Irrigation

Sources of Irrigation Depending upon the availability of surface or groundwater, topogra­phy, soil, rainfall conditions and rivers, various types of irrigation are practised in India.

Tank irrigation:

Mostly prevalent in uneven and relatively rocky plateau of peninsular India, tanks are the most popular method of irrigation in the states of Tamil Nadu, Karnataka, Andhra Pradesh and Maharashtra. In India most of the tanks are small in size and built by individuals or groups of farmers by raising bunds across seasonal streams. About 11 to 14 per cent of the net irrigated area in the country is normally under tank irrigation. Tank irrigation in the Deccan and South India is highly developed compared to tank irrigation in other regions because the land is rocky and the soil is not porous. Rainwater cannot sink into the ground, making it difficult to dig wells. The dig­ging of canals is also difficult and expensive on the rocky surface of the peninsular plateau. As the rivers of South India are seasonal, the construction of perennial canals is not feasible. The hard rocks of the region do not allow the water of tanks to seep through. Hence tank irrigation has been successful there. But there are drawbacks in tank­irrigation: tanks cover large areas of cultivable land; evaporation of water is relatively rapid due to large expanse of shallow water in the tanks; tanks do not ensure a perennial supply of water.

Well irrigation is an important source ofirrigation. The water in wells is obtained from the subsoil and has to be lifted by suitable devices, e.g., manual or animal labour or by pumping sets run by power. Wells (including tubewells) account for more than 30 million acres (more than 55 per cent of total irrigated area). Well irrigation is most common in alluvial plain areas where the water table is fairly high. Owing to the soft nature of the soil, wells are easy to dig and the yield of crops from the land after irrigation is rewarding. The states with 50 per cent or more of the irrigated area under wells and tube-wells are Punjab, Uttar Pradesh, Rajasthan, Gujarat, Maharashtra. Madhya Pradesh and Tamil Nadu also have a sizeable area under well irrigation. The major changes in respect of well irrigation during the last few decades include change from dug-wells to tube­wells and large scale replacement of animal power with commercial power (electricity or diesel) for lifting water. Tamil Nadu has the largest number of electrified pumpsets. Now, waterpumps running on solar energy are also being encouraged.

Canal irrigation is also an important source of irriga­tion accounting for above 30 per cent of the net irrigated area. Canal irrigation is possible in areas which are exten­sive plains and are drained by well distributed perennial rivers, such as the northern plains, coastal plains, deltas (where even the distributaries can act as canals), and the broad valleys of the peninsula. Inundation canals are those which are taken out without constructing dams or 'bunds' and get water only when the main stream is flooded-thus, they have limited validity. Now, the efforts are on to convert them to perennial systems. The post-independence period saw the construction of canals as a part of the multi-purpose projects, e.g., Bhakra-Nangal (Punjab), Damodar Valley Gharkhand and West Bengal) and the Nagarjunasagar (Karnataka) projects. The initial costs of constructing canals is high, but once constructed, the operational cost is minimum, which makes them a cheap source of irrigation in the long run. Canal irrigation is important in Punjab, Haryana, western Uttar Pradesh, Assam, West Bengal, coastal Orissa and coastal Andhra Pradesh. The canals are almost absent in hilly states like Kerala and the North-East.