Looking Out Across The Horizon

The world markets as well as politicians are watching the Eurozone very closely recently. Many are waiting with bated breath to see if Germany and France will be able to lead the Eurozone out of its current sovereign debt crisis and chart a stable course going forward. However, that is not what this note is about.

The Eurozone crisis has now put us on a really important historical pivot. Historical in the sense of millennia, not decades. Human civilization has come a long way from hunter-gatherer groups of yore. Members of these groups were relatively friendly to each other and extremely hostile to outsiders. By and by, trade was discovered and these groups became less hostile as trade made friendliness to strangers necessary. Life improved and group sizes increased. It grew into clans and then to small villages (with the advent of agriculture). “Politics” was limited to the village with the elders making rules and adjudicating over disputes.

With time, plain barter was replaced with shells and pretty stones. Trade increased and began happening over longer distances. Trade routes took shape and became important. As distances increased, pretty stones and shells were replaced with precious metals. As trade became easier, the world became a smaller place. Cities turned into city-states with spheres of influence spreading out further and further. After centuries of having city-states came the inevitable consolidation – the nation. While it can be argued that the emergence of countries was a socio-political development, it was as much a consequence of economic factors as anything else.

The present Eurozone (or European Union) is the next step in that evolution of civilization. It is a grand experiment for taking the scale of aggregation to the next level. The result of this experiment, which was set in motion about 60 years ago with the Treaty of Paris in 1952, will tell is if we have the ability to live in larger political aggregations as human beings. Arguably, we already live in larger aggregates (India’s population is almost twice that of the European Union as it stands today). However, the question is whether it is possible to stitch together these incredibly diverse populations into one centrally governed entity. Indeed, is it possible to stitch them together even in a suitably federal structure?

Were the Eurozone experiment to fail, we will be set back by decades if not centuries in our quest for greater and greater cohesion amongst the residents of this planet. And if we succeed, we could see a flurry* of aggregation, ASEAN, SAARC, Organsation of African Unity (OAU). We live in interesting times indeed.

* In the context of political reorganisation, when I say flurry, I’m thinking on the lines of a 100 years rather than a decade.

This note was originally written for the clients of Third Wave Solutions Pvt. Ltd., on August 22nd, 2011.

Parijat Uncategorized Economics, History, linkedin, Politics, Society

John Maynard Keynes coined the term “Technological Unemployment” back in the 1930s in a letter “Economic Possibilities for our Grandchildren”. The term implies the unemployment that is generated because of the replacement of manual labour with technology. When one puts it like this, it sounds like a bad thing. However, this is not the complete picture.

As Matt Ridley points out in his recent book - The Rational Optimist - improvement of technology allows the creation of goods and services at lower costs and lower investment of man-hours. This makes goods cheaper in the economy making more money available for creating demand for completely new goods and services. Labour, which has been freed up by technological innovation can then go about providing these goods and services. Everybody wins and standards of living rise. There is one catch though.

The creation of new goods and services by the same labour force assumes that the individuals of the labour force are capable of acquiring the skills required to provide these new services. This is not an ordinary requirement. Decades earlier, a person could go to school (or join an apprenticeship) to acquire a skill in early years and then reasonably expect to be able to live off that skill for the rest of his life. This is no longer the case today. As Alvin Toffler points out in his seminal work - Future Shock - the pace of technological change in society has increased to the point where it begins to have an impact due to its sheer speed, irrespective of the direction it takes. The future can arrive too quickly for too many people. A skill acquired today can lose its value in well under a decade. Someone who learned to use the internet (even email) in the mid-90s probably had a significant “edge” over his peers. Today, it barely counts as a skill.

While the necessity of continuous skill acquisition and upgradation becomes ever stronger, it simultaneously becomes harder to pick up new skills. Education is vastly more specialised and intricate today and takes longer to acquire (courses in medicine can take almost a decade in some countries). What is required is a radical transformation in the way education and skills are delivered to students. At a more fundamental level, the organisation of knowledge itself has to be transformed in a way as to make it more accessible for non-specialists. The millions of specialised branches have to be re-organised in a manner so that cross-fertilization of ideas across specialisations becomes easier and more effective. On top of this transformation in knowledge representation, the education system has to develop methodologies to teach students to exploit this restructured knowledge-base more effectively.

At a policy level too, Government and policy-makers have to stop fretting about jobs being lost to technology. There also has to be a push to reduce incentives for people to remain stuck in low-productivity jobs - for instance farming in India. Policy-makers are doing a great disservice to the country and to the farmers themselves by directing fiscal spending towards recurring subsidy programmes instead of focusing on alternate skill development within rural communities. The skill-development approach alone can help these people escape permanent poverty while enhancing their productivity and helping the country reap the anticipated “demographic dividend”.

Parijat Uncategorized Economics, Education, Government, linkedin, Policy, Technology

The IMF Regional Economic Outlook (Asia and Pacific) published in April basically suggests that the recovery in Asia is on a decent track with regional and domestic demand playing an important role in the recovery. Chinese and Indian economies “are presumed to expand by 9.5% and 8% respectively … with important spillovers for other countries… , particularly through demand for commodities.”

Indian business houses are already going for Australian mining assets with considerable aggressiveness, building railway lines from the mining hinterlands to ports which are also in some cases being developed by Indian companies (Adani group comes to mind). Does this mean that we can expect a sustained improvement in the Australian and Canadian dollars.. basically commodity currencies? And what does this mean for the competitiveness of other Australian exports? The strengthening currency should also lead to greater import demand further hurting domestic manufacturers. Can Australia slip under the standard curse of mineral resource rich countries?

Parijat Finance commodities, currencies, Economics, linkedin, mining

An interesting implication of the pegged currency system in China. Excerpted from a George Soros article in the Financial Times.

The prevailing exchange rate system is lopsided. China has essentially pegged its currency to the dollar while most other currencies fluctuate more or less freely. China has a two-tier system in which the capital account is strictly controlled; most other currencies don’t distinguish between current and capital accounts. This makes the Chinese currency chronically undervalued and assures China of a persistent large trade surplus.

Most importantly, this arrangement allows the Chinese government to skim off a significant slice from the value of Chinese exports without interfering with the incentives that make people work so hard and make their labor so productive. It has the same effect as taxation but it works much better.

Parijat Uncategorized China, Currency Wars, Economics, Finance

On the recent deregulation of petrol prices, the PM had this to say:

““People are wise enough to understand that excessive populism should not be allowed to derail the progress our country is making”

This coming from a PM whose Government is running a 50k crore NREGS scheme and has waived off 70k crores in farm loans, amongst other things.

I’m all for deregulation of fuel prices but this should have been accompanied by a decrease in the ridiculous Rs. 14+ excise duty and Rs. 7.5+ sales tax that the Government collects on petrol. Given that the burden of issuing oil bonds would reduce (or go away completely) with this deregulation, the tax burden should be reduced too. But of course, that is not going to happen for who will then finance their profligate populist schemes that they use to buy their precious votes at the polling booth.

Parijat Uncategorized Economics, Policy, Politics

Russian President Medvedev at the St. Petersburg International Economic Forum on June 18, 2010:

The State should not tear apples from the tree of economics. What it should do is help to grow our apple orchard…

Parijat Uncategorized Economics, Finance, Policy

Since the Greek/Euro crises broke out in earnest some time last month, the German Bunds and US Treasuries have seen increasing demand (and falling yields) as people pull out money from “risky assets” and park them into “safe havens”. This has been the typical behavior in all recent panics, but somehow, this time around it makes little sense to me.

US 2-year treasuries are currently yielding about 80 basis points (or 0.8% per annum). Not only is this ridiculously low for ordinary times, it sounds even worse given the extent of Quantitative Easing being undertaken by the Federal Reserve. As the Fed puts more and more money into circulation, I’d expect severe inflationary pressures; or equivalently for international investors, a severe deterioration in the value of the US Dollar. Except against the Euro. Which brings me to the German Bunds. The case of German Bunds is even more baffling. The reason why German Bunds are in favour right now is because of panic for the Eurozone and the Euro itself. In my mind, that is precisely the reason why German Bunds are a bad investment, particularly at low yields of 2.65% p.a. for the 10 year bond. With a currency facing potential deterioration of 20% or more (the Euro hitting parity with the US Dollar is an oft-discussed possibility), why would someone invest in a fixed income security yielding 2.65%? One reason would be that for a lot of institutional investors in the Euro-zone, investing all (or most) of their corpus in European instruments might be mandatory. They have nowhere else to go and so they buy debt from the least-likely-to-default Eurozone country. But what about others? I’d imagine that they should be buying commodities and gold. That is probably the only safe bet at this point.

Gold indeed seems to be attracting massive attention as it reversed it recent short downtrend and is back at $1215 per troy ounce having fallen to $1170. In Rupee terms, the story is much worse with prices reaching new highs of over Rs. 18,600 per 10 grams. It is here that I think there is some madness again. Part of the reason why fresh highs are being made in INR terms is the bulk pulling out of FII investments from the equity market, which is pushing down the INR against the USD. So while I remain bullish on gold in USD terms, I have mixed feelings about it in INR terms, mostly because I see INR weakness as only temporary and would expect a reversal if/when saner minds take over the market and money flows back out from the insanely over-priced US treasuries and returns to economies where genuine growth is taking place and long-term investors can get the biggest bang for their buck.

Of course, I don’t expect sanity to return too soon and I’d expect to see the INR trade atleast between 49-50 to the Dollar before money flows back in.

Parijat Uncategorized Economics, Finance, linkedin, Markets