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China’s dam on a river

Videh Upadhyay — Sun, 22 Nov 2009 15:47:00 GMT

In a recent statement, the ministry of external affairs said New Delhi was scanning media reports that China has begun constructing a dam on the Brahmaputra as part of the Nagmu hydroelectric project, which was inaugurated in China in March this year. The Assam chief minister said on this: “If the Yarlung Tsangpo is diverted, the Brahmaputra will become dry.” The minister also wanted to put a contingency plan in place to face such a situation. With little or no technical information available first hand from China on the project, a contingency plan may be difficult to conceive, but a starting point here requires taking up the issue with China strongly. It should be made clear that, if media reports are found true, China is breaching its obligation to India and violating international law and norms. Here is how and why.

The plan for damming the Tsangpo was in the news in 2006 when both countries agreed to establish an expert-level institutional mechanism to discuss transborder river issues. The use of such a bilateral mechanism has clearly not been felt by China this time around. A transborder river running dry is what lawyers call transboundary environmental damage, and it attracts some key legal principles. The fact that states should not permit the use of their territory to cause injury to others is backed by the notion of relative sovereignty as opposed to absolute sovereignty, a principle of ancient origin to “use your own property so as not to harm that of another”, and the principle of “good neighbourliness” as found in several international instruments. Besides, two key legal principles described as the “cornerstone of international environmental law” also mandate that states have “the responsibility to ensure that activities within their jurisdiction or control do not cause damage to the environment of other states or of areas beyond the limits of national jurisdiction”.

It is thus no surprise that today, even a director-general of the treaty and law department of the Chinese government recognizes that “the principle of permanent sovereignty over natural resources is balanced with environmental concerns indicating a shifting emphasis from an absolute right to use and dispose, to a relative duty to protect” (Xue Hanqin in her book Transboundary Damage in International Law, Cambridge University Press, 2003). This duty to protect can also be seen in the Convention on the Law of the Non-navigational Uses of International Watercourses adopted by the UN General Assembly in 1997. The UN watercourses convention provides for the obligation not to cause significant harm and for providing “timely notification” accompanied by “available technical data and information, including the results of environment impact assessment in order to enable the notified states to evaluate the possible effects of the planned measures”. Clearly, no contingency plan (as being mooted by the Assam government now) is possible without sharing of such technical information and, in its absence, downstream governments will be only to look at media reports to know more. To be sure, China is not technically obliged to provide this information under the said Article 12—it being actually one of only three states that opposed the adoption of the UN watercourses convention. If the use of the convention principles is problematic, so is the case with most other principles, which provide little practical guidance to states in their activities.

International laws may be soft, and with many holes, but that doesn’t take away the point that China’s project without notifying India is a breach of international law. India needs to take that as the singular basis for engaging with China on the issue. The engagement ahead needs to factor in that China is not accustomed to following laws made for it by free-standing international authorities. India will agree that perhaps the only point in China’s favour is that it is not alone with this habit.

Videh Upadhyay is special counsel, Delhi Pollution Control Committee, and partner, 3E Law. Comments are welcome at otherviews@livemint.com

Do IIT reforms deliver?

Puranika Narayana Bhatta — Mon, 16 Nov 2009 17:35:00 GMT

The ministry of human resource development (HRD) is nudging the Indian Institutes of Technology (IITs) to change their admission process to give greater weight to the class XII examination results. Key reasons put forth: to improve the quality of intake into IITs and to control the growth of Joint Entrance Examination (JEE) coaching centres. The question is whether these “reforms” and those made in the last several years by IITs actually deliver on the stated objectives. Coincidentally, this kind of “reform” is now spreading beyond IITs, too.

Since 2006, JEE comprises, almost entirely, “objective-type” questions. This would have been sacrilege in days gone by, when professors expected students to be able to describe the steps to get to an answer, allotting more marks to, say, a more elegant proof. But, with one change to JEE, IITs decided that the means were less important than the ends, thus diluting the very exam’s worth. And it is easier to coach a student to get the result than to teach one to understand the process: Coaching centres delivering “highly synthesized inputs” naturally mushroomed as a result.

This brings us to two fundamental problems plaguing the system: a fixation with “selection ratio” and lack of focus on nurturing the brand.

Selection ratio is the proportion of the number of candidates selected to the total number of applicants. IITs, with active prodding by the HRD ministry, have come to the conclusion that they are not selective enough. One way to reduce the ratio—making IITs statistically more selective—is by “popularizing” JEE and increasing the number of applicants. But once the applicants increase, it is difficult to evaluate the greater number of answer scripts with detailed answers; hence, the conclusion of “objective-type” questions. Lo and behold, the coaching centres see an economic windfall and the gold rush begins.

A related problem is the lack of focus on the brand. The brand ensures that only candidates who believe they have the wherewithal to get selected apply. One of the pillars of the IIT brand has been JEE’s toughness; with that gone, the brand starts to lose its sheen.

Even Indian IT companies appear to be on a similar path. Infosys claims on its website: “Last year, over 1.3 million people applied for a job at Infosys. Only 1% of them were hired. In comparison, Harvard College took in 9% of candidates”. Surely, the suggestion is not that people are forgoing their Harvard graduate programmes for a job at Infosys. It is sad that a fine brand in our industry is getting carried away by marketing spin rather than raising entry barriers on the supply side.

To really understand the exercise of true brand-building, take classical music and sports. In golf, an individual screens oneself through a handicapping system. The enormous hard work involved in becoming a professional golfer is quickly realized and the individual disqualifies oneself from the process. This results in a very high quality of output of golfers provided to the audience: So players, golf organizations, sponsors and audience gain. Similarly, very few find their calling in classical music. Ustad Zia Fariduddin Dagar, the great Dhrupad exponent, was once asked what is required to make Dhrupad more popular. He refuted the very idea of making Dhrupad popular and said Dhrupad is a very difficult art; hence, he wanted only the committed to listen or learn. This was not a popularity contest.

Educational institutions and businesses are not popularity contests either. So how does it matter if the intake ratio is 1% or 100%?

Puranika Narayana Bhatta runs a finance and operations consulting firm in Bangalore. Comments are welcome at otherviews@livemint.com

Developing the swap market

A.M. Godbole — Sun, 15 Nov 2009 15:32:00 GMT

Two problems, among others, currently beset India’s financial sector: that banks are exposed to high interest rate risk (that increases systemic risks or interest cost to borrowers), and that the corporate bond market is too nascent for most companies to access capital. Both these problems can be handled if we had a transparent floating benchmark for interest rates.

Since independence, India has largely followed the British banking model of relying on commercial banks for credit (with a few notable exceptions). This model is well suited to serve the working capital needs of the low-end manufacturing sector—around 75% of the value of high-end manufactured goods now consists of services embedded in it: research, design, sales, advertising and so on. However, in order to serve the long-term financial needs of corporate borrowers, we need a developed corporate bond market.

The bond market in India is dominated by government securities (G-secs). Due to the large and growing borrowing needs of our government, its merchant banker, the Reserve Bank of India (RBI), probably finds it best to arrange long-term bond issuances—to manage a smaller gross issuance in a year. Banks are large investors in G-secs, at least partly because of regulatory requirements. But banks largely have short-term liabilities. So, if they invest in long-term fixed-rate G-secs at a lower interest rate and if the current short-term deposit rates are higher, either their profitability would suffer (even to the point of insolvency) or their borrowers would have to pay a disproportionately higher interest rate for making good the banks’ loss.

This problem can be avoided by an interest rate swap, a derivative that makes it possible to convert fixed interest rate cash flows into floating interest rate cash flows, or vice versa. Often, the swap market in India is dominated by foreign banks. In general, foreign banks are highly dependent on the overnight call money market for credit; this call money rate is the floating rate for the swap market. And the swap curve generated by this rate—a curve that sketches across a timeline the rate for swaps at different maturities, like a yield curve does for bonds—is often lower than the G-sec yield curve. Thus, a borrower in the overnight interbank call money market will effectively be able to borrow at a rate lower than the rate paid by the government, regardless of the credit risk.

India’s swap market thus requires a floating rate benchmark that is relevant for hedging the interest rate risk for most of its banks (public and private). For such a benchmark, we could use either the 182-day treasury bill rate or a new benchmark explicitly linked to, say, the average of RBI’s repo and reverse repo rates. Such a benchmark will make possible:

• Long-term floating interest rate government securities that do not cause huge interest rate risk for banks.

• The same benchmark may be used for loans to companies that may then use the swap market to convert them to a fixed rate as and when desired.

• Floating rate corporate bonds would have a spread over the sovereign floating rate benchmark corresponding to their creditworthiness, making it relatively easy to compare these bonds across issuers long after the issuance date. This would enable the development of the secondary market, which in turn would help form a virtuous cycle by aiding the pricing of new corporate bond issuances.

With a sovereign floating rate benchmark, RBI could even influence the shape of the sovereign yield curve quite effectively whenever desired, by just intervening in the swap market and without directly intervening in the government bond market.

With one stone, we could kill not just two birds—banks’ interest rate risk and a corporate bond market—but also target a third: RBI’s monetary policy transmission.

A.M. Godbole is an adviser with AV Rajwade and Co. Pvt. Ltd, a risk management consulting firm. These are his personal views. Comments are welcome at otherviews@livemint.com

On the cusp of growth

Rashesh Shah — Wed, 11 Nov 2009 15:16:00 GMT

We all tend to overestimate growth in the short term and underestimate growth in the medium to long term. Soon after the economic reforms process started, a few of us had estimated that the daily turnover in Indian capital markets—then in the region of Rs100 crore—would probably double in two years and reach around Rs2,000 crore in 10 years. It took longer than two years to reach the Rs200 crore mark. But in 10 years, the daily turnover on the Indian stock markets had crossed Rs1 trillion.

It is this learning that forms the basis of my belief that in the medium to long term, the Indian capital markets are poised for great growth —maybe higher than other financial services. Allow me to share some numbers to illustrate this point.

In the last 10 years, annual household savings in India have gone up from around $100 billion to $260 billion. Around 40% of this is held in physical assets (real estate, gold and the like) and the rest in financial assets. Now, out of this, $150-odd billion of financial assets, 60-70%, is kept in bank deposits ($90-100 billion). The insurance sector, including unit-linked insurance policies (Ulips), accounts for $33-38 billion. An additional $10 billion is held in cash, and the approximately $10 billion remaining comes into the capital markets either directly, through initial public offerings (IPOs) or the mutual fund route. This means that 8-10% of total household savings in India ($22-26 billion) is currently coming into the capital markets either directly or through the mutual funds or Ulip route.

In the future, a combination of demographics and economics is going to propel the demand for capital market products. It is estimated that by 2015, Indian household savings are likely to touch the $450 billion mark, with some $300 billion in financial assets.

Meanwhile, there is a huge pressure building up on the generation that will look at retirement between 2020 and 2030. This is because there are no organized social security or pension services available in India. And the two institutions—public sector undertakings (PSUs)/government and families—that traditionally provided some social security are under stress. The PSUs/government is moving from an assured pension for life to a contributory model. Changing social dynamics means that children looking after old parents is no longer necessarily true. The generation that retires between 2020 and 2030, therefore, has to start doing some serious retirement planning. Investments in capital markets, with their historical post-tax returns of 15-18% compared with all other financial assets, which have given 5-8% returns, are the only real option to build a nest egg.

At Edelweiss, our belief is that by 2015, the amount of household savings coming into the capital markets from all routes will grow almost threefold to $70-85 billion. In addition, overseas investment in all forms is also likely to double to around $20 billion. We are then talking about a total of $90-100 billion—that is, four-five times the present levels—flowing into the capital markets per annum. By all accounts, this will be a game changer for the Indian capital markets.

Of course, a few policy and regulatory initiatives are needed. We need to continue to administer the markets in a manner that the faith in them remains high. Second, financial products addressing specific savings needs—from corporate bonds to real estate investment trusts (Reits) to structured products—need to be developed. Third, the endless duplication of know your customer (KYC) norms needs to be eliminated, and we need to move towards electronic trading of products such as mutual funds and insurance.

The Indian capital markets are on a cusp of explosive growth. If the economic growth and market-friendly policies continue, all of us could well be making the same mistake of underestimating their medium- to long-term growth impact, as my friends and I did about two decades ago.

Rashesh Shah is chairman and managing director of Edelweiss group. Comments are welcome at otherviews@livemint.com

What to name the decade

Ranjani Iyer Mohanty — Tue, 10 Nov 2009 15:14:00 GMT

This decade is almost over and people are still trying to find the name that best captures it. Various ones have been tried: the Primes, the Unies, the Pre-teens, the Millennials. The most often used has been the Aughts, though it’s neither particularly descriptive nor emotive. I prefer the Ohs or, given the recent economic crisis, the Oh-Ohs. However, none of the labels has stuck and discussion is continuing.

Journalist Tom Wolfe coined the term the Me Decade, referring to the 1970s, and that seemed to define the mood so well that it was expanded to cover the next 40 years. Sociology professor Imogen Tyler wonders if it will be a Me Millennium.

But change is in the air. Even though psychologist Jean Twenge titled her book Generation Me and describes those born in the 1970s, 1980s and 1990s as confident, assertive and entitled, she also says they use these characteristics to give back to society and help others. Philosopher Dan Dennett feels that the Me Decade is now in the past: The dropping birth rate shows that we are motivated with something other than replicating ourselves.

Now this may either mean that we are so into ourselves that we no longer want to spend our time raising children, or that we are slowly becoming concerned about things beyond our individual selves. I’d like to think the latter.

We are progressing from the Me Generation to the We Generation. Not Us, as in Us vs Them, but rather We, to present and promote inclusivity. We—the generation of social networking and Wikipedia. We—the generation of the many, the wise, the connected. Time magazine’s 2005 Person of the Year was “The Good Samaritans”: three global philanthropists committed to helping others. Time’s 2006 Person of the Year was “You”, or as Lev Grossman explained the choice in his article: “It’s a story about community and collaboration on a scale never seen before.” Author Seth Godin and management professor David Logan discuss the importance of modern-day tribes and how to best use them as agents of change. And throughout this transition, I hope that James Surowiecki’s idea of “The Wisdom of Crowds” is indeed true.

So let’s stop looking in the rear-view mirror. Let’s get past the Aughts and the Naughts. Let’s not quibble over semantics. You say potayto, I say potaato, oh let’s just move forward. Instead of trying to find the catch phrase for the decade that has passed—which seems to be more navel-gazing and a throwback to the Me Generation—we need to shift our focus outward and to the future. Since we are the Net Generation and connected, we can use both these characteristics to jointly tackle global issues and determine beforehand what the next decade will be—or rather, what we want it to be. Surely, we no longer need to wait till the end of a period to define it post-facto: We can proactively shape the coming one.

Such prescient or hopeful behaviour has precedence—such as naming 1979 the International Year of the Child, marking 1976 to 1985 the UN Decade for Women, and awarding Barack Obama the Nobel Peace Prize. An obvious choice would be to name the next decade for sustainable development, to be ushered in at the coming conference on climate change in Copenhagen. Or the decade of effective food distribution, such that the extremes of obesity and hunger, often within the same country, are avoided. Or the decade of education for all women and children, such that they too have a full range of options and can contribute to making it a better world. There are many options for naming the next decade, all depending on what We, in our collective wisdom, want.

Ranjani Iyer Mohanty is a Delhi-based writer. Comment at otherviews@livemint.com

Liberalizing royalties

Satvik Varma and Komal Kalha — Mon, 09 Nov 2009 15:24:00 GMT

On 5 November, the Union cabinet issued a press release stating its intention to liberalize the regime relating to the payment of royalties for technology transfers and for the use of trademark and brand name of foreign companies.

Under extant foreign direct investment (FDI) policy, royalty payments for technology collaborations up to a lump sum of $2 million or 5% of domestic sales and 8% of exports are permitted under the automatic route, that is, without governmental approval. These royalty payments are calculated net of taxes and on the basis of net ex-factory sales price of the product. Current legislation stipulates that for the use of trademark and brand name, the foreign collaborator is entitled to receive royalty payments up to 1% of domestic sales and 2% of exports, also under the automatic route. Additionally, there are no restrictions on the duration of any of these payments. It is worth noting that these restrictions apply even where the collaboration is in a sector where 100% FDI is otherwise permitted.

The recent press release proposes to alter present regulation by stating the government’s intention to “freely promote the transfer of state-of-art technology into the country”. The government intends to do away with both monetary and procedural restrictions on royalty payments and subject such payments only to exchange control regulations.

Some domestic players may be quick to argue that a free hand to decide royalty payments may result in foreign companies demanding exorbitant amounts and may tilt the balance in favour of international players. Though a somewhat valid concern, it is worth noting that even under current regulation, royalty payments in addition to the prescribed limits can be made—subject, however, to government approval accorded by the project approval board. To prevent any undue advantage to foreign party’s, the proposed change requires a post facto reporting mechanism—at which stage, presumably, the parties will have to disclose and justify the formula by which the payments have been agreed.

Domestic companies should instead consider the proposed change as an opportunity that will give them access to updated technology. Sectors such as pharmaceuticals and healthcare, automobiles, infrastructure, aviation and telephony, all of which are technology-intensive, will now only stand to gain. From a social perspective, access to latest technology will help to increase India’s production and efficiency and will improve its overall “health”. In fact, under the proposed policy, India can potentially further strengthen its position as a global research and development hub, and this should hopefully lead to greater innovation in the country.

From a transaction perspective, the proposal to do away with prior governmental approval should be lauded. The approval process is usually an emotional roadblock in transactions, especially since it can be both time-consuming and one runs the risk of the application being rejected or the transaction coming under scrutiny. Hence, under the new rules, one can expect a major reduction in the transactional timing and this will also lead to simpler transaction structures. The change will also put to rest criticism that India has faced with respect to there being too many regulatory hurdles to investment.

In conclusion, the statement of the commerce minister that “India needs to access the best of technologies available abroad; the caps were coming in this way; hence, we have liberalized the policy”, lends credence to the government’s intention to further ease the FDI regime. As the global economy is showing signs of recovery, the current government appears to be making all efforts so that India can continue its position as the second most favourable investment destination in the world. In proposing these instant changes to the regulatory regime around foreign technology collaborations, the government wants to make sure that regulatory hurdles no longer stand in the way of India’s desire to achieve global excellence.

Satvik Varma is a partner designate and Komal Kalha is an associate at Amarchand Mangaldas, New Delhi. Views expressed here are personal. Comments are welcome at otherviews@livemint.com

Countering fake handsets

Subimal Bhattacharjee — Thu, 05 Nov 2009 15:21:00 GMT

In early September, the department of telecom (DoT) issued a circular for the third time to all access service providers about the need for genuine mobile handsets to be connected to their networks.

Mobile phones across the world are identified by a unique 15-digit number called the international mobile equipment identity, or IMEI, which is allotted to the handset manufacturers by five bodies authorized by the GSM Association (GSMA).

It is estimated that as many as 25 million mobile handsets, most of them illegally imported from China and Taiwan, are already working on Indian cellular networks. Many of these handsets are in use by terrorists and criminal syndicates, and the most glaring instance of misuse was the handsets used during the Mumbai terror attacks last year.

The government and security agencies have been working closely with mobile service providers and handset manufacturers to ensure that all handsets connected to India’s networks are genuine and have an IMEI number. They have also been working to strengthen the verification process when providing a mobile SIM card connection. The home ministry has asked DoT to ensure that cellular operators follow the security accreditation scheme (SAS) when purchasing SIM cards from foreign vendors.

As a lot of illegally imported handsets in use in India have been bought by people unknowingly, a special initiative was undertaken by the above consortium to provide such users with an IMEI number under a programme called the genuine IMEI implant (GII), which is being handled by the Mobile Standards Alliance of India. Under this initiative, until 30 November, illegal handsets will be given an IMEI code by paying a nominal fee, and this will be done through a network of 1,600 centres identified across the country.

The recent circular calls for disabling all handsets from the midnight of 30 November after the equipment manufactures and the operators had asked for extensions from previous cut-off dates. The government has asked all the access providers to submit a compliance report by 15 December.

The national security concerns around such illegal handsets are quite serious. Not only can they facilitate communications among terrorist networks, but they can also become tools for remotely setting off explosions and attacks. There have been a few instances of such concerns.

It is also very difficult to trace such handsets in case of thefts.

Some concerns have also been raised about such handsets being bugged by manufacturers in China for remote-listening capabilities. Such fears are yet to be proven, but communications are very critical from a national security standpoint, and so any form of listening capabilities have to clearly be dealt with.

While the step is a bold one, the time limit for compliance should not be extended as this would send out a wrong signal. There are already expectations that an extension will be granted as a large number of handsets have to be provided IMEIs, and it will be difficult to complete this in the available time frame. However, illegal mobile phones are not only a security threat, but they are also a drain on the resources of genuine handset makers. It is estimated that these handsets account for annual losses of almost Rs4,000 crore for the companies. Such handsets are also hazardous, and many battery explosions have actually happened in such handsets.

The deadline is drawing close, and one only hopes that compliance will be met.

Subimal Bhattacharjee is country head in India for General Dynamics. These are his personal views. Comments are welcome at otherviews@livemint.com

Insider lessons for Sebi

Praveen Chakravarty — Wed, 04 Nov 2009 15:51:00 GMT

Talk Is Cheap. The title of this 1988 Keith Richards’ music album could well be the paradoxical message of the recent Galleon insider trading scandal and the potential lessons it offers for emerging market regulators such as the Securities and Exchange Board of India (Sebi).

After the Galleon insider trading story broke last month, a young rising equities analyst in Mumbai came to me and said: “I’ve been led to believe proprietary information is the key to success in this business, but evidently that is illegal. Is our business just plain illegal then?” It struck me as bizarre that an otherwise extremely smart analyst could not comprehend something as simple as “insider trading”. But this seemingly unobtrusive question from the analyst was a lot more profound and prompted a question: How do we educate today’s young market participants about the shades of grey in this business?

In a society such as ours that is loud and vibrant with dozens of business newspapers and television channels, information is cheap and commoditized. My dipstick survey of around 20 well-educated, professional equity analysts shows an appalling lack of understanding of the meaning of “material, non-public information” or “insider trading”. Pondering over the question, it dawned on me that there is no process in place today to ensure, first, awareness and, then, compliance with some basic rules that govern well-functioning capital markets.

In an information arbitrage business such as investing in equities, possessing “proprietary” information is perceived to be the cornerstone for success. As most money managers will gloat when asking you for your money, they will beat the market with “superior information and analysis”. What does superior information and analysis entail? Every mutual fund and investment bank revels in the size of its research team: These large teams of research professionals are paid to produce exactly this superior information and analysis.

Moreover, whose responsibility is it to ensure that these professional market participants are educated on the nuances of the blurry lines separating what’s legal, what’s ethical and what’s plain wrong?

The unanimous answer to this question is likely to be a regulator such as Sebi. But it’s not the lack of Sebi guidelines that’s worrying; rather it’s the implementation of those. The first basic step is to increase general awareness among securities professionals of both the actual rules and the spirit behind these rules. A good starting point will be to make it mandatory for securities professionals to be licensed.

Most developed capital markets, such as those in the US or the UK, require mandatory licensing of securities professionals that attempts to highlight various regulatory nuances. Earlier the Securities and Exchange Commission and now the Financial Industry Regulatory Authority in the US require securities analysts to pass four levels of examinations to get licensed. If nothing, this licensing process will help clarify currently prevalent misgivings such as “if my friend’s friend voluntarily tells me about an acquisition for his publicly listed employer, since I did not solicit the information, I am free to use it in any manner I want”.

While cynics will argue that the larger issue is one of morals and ethics, and cannot be solved by regulatory licensing, I am merely arguing for a starting point—not for boiling the ocean in an attempt to uplift moral standards in the country. Awareness is the first step, and compliance follows after. Requiring securities professionals to undergo a fairly rigorous licensing process not only increases awareness among market participants, but also demonstrates to the greater society the onerous responsibility of every individual in this business. I urge Sebi to consider steps such as mandatory licensing of securities professionals and, thereby, send a broader message to every corporate participant in India that “talk is not cheap” and can prove to be very expensive.

Praveen Chakravarty is managing director of BNP Paribas Securities India. Views are personal. Comment at otherviews@livemint.com

The Chindia trade solution

Amitendu Palit and Alec van Gelder / WSJ — Tue, 03 Nov 2009 15:28:00 GMT

India and China disagree about many things, not least their border, where tensions have been flaring up again recently. But on one thing there are encouraging signs that they may be willing to cooperate in a way that will benefit both of them, and the rest of Asia: trade.

The countries announced at the recent East Asia summit in Thailand that they will pursue negotiations for a free trade agreement. This makes perfect sense. Beneath fiery rhetoric from both sides on issues such as the border and broader political influence, China has quietly emerged as India’s most important trade partner, and India is an increasingly important partner for China. Since China joined the World Trade Organization in 2001, bilateral trade has grown to $40.6 billion a year from $2.3 billion—an average 50% increase every year. Since 2003-04, it has grown at almost double the rate of their trade with other countries.

This is the latest flowering of an ancient relationship. The busy southern Silk Route connected the Sichuan basin in China and the Gangetic plains in India for almost 3,000 years, and it never completely disappeared.

India and China accounted for 48.9% of world output in purchasing power parity terms in 1820 before colonization and the rise of the West. Today, despite popular suspicions, ordinary Indians and Chinese again are discovering that trade turns enemies into colleagues.

China and India are an ideal match: India’s technology and services-oriented companies complement perfectly Chinese manufacturing and infrastructure prowess. India also stands poised to benefit from the investments of cash-rich Chinese companies. India’s telecommunications infrastructure has received a massive boost from Huawei Technologies’ $100 million research and development facility in Bangalore, producing cutting-edge optical networks. Major Indian information technology companies such as Infosys, Tata Consultancy Services and Satyam already have operations in China, as do pharmaceutical firms such as Ranbaxy and Dr Reddy’s Laboratories. Supply chains are now more likely than ever to run through both Chinese and Indian companies. One example is the far-reaching Lenovo production network, with both Chinese and Indian factories.

Trade is opening the way for stronger cultural and intellectual ties. Researchers in both countries are collaborating in agricultural research, trade in commodity futures and even on the environment. The number of students in India learning Mandarin has shot up and there is even a female Chinese cricket team, coached by an Indian and training in Punjab.

Politics is the greatest barrier to the continuation of these healthy trends. Hostility surfaces time and again over the disputed border regions and issues such as Tibet. However, the meteoric rise in bilateral trade over the past decade could force Beijing and New Delhi to rethink their relationship —including the insight that renewed aggression would threaten each other’s prosperity.

A trade agreement could institutionalize that understanding, if such a pact materializes. Today, there is an opportunity to strengthen the prospects of peace and to catapult growth higher still by a concerted political effort to remove existing barriers between the two nations. Research indicates two-way trade could rise above $100 billion in the next few years, but this remains a tiny fraction of their combined gross domestic product of $5.6 trillion. As a matter of national self-interest, both countries should act now.

THE WALL STREET JOURNAL

Edited excerpts. Amitendu Palit is a visiting research fellow at the Institute of South Asian Studies of the National University of Singapore and Alec van Gelder is project director at International Policy Network, a London-based think tank. Comments are welcome at otherviews@livemint.com

Much ado about derivatives

Jonathan Rosenoer — Mon, 02 Nov 2009 16:27:00 GMT

In their classic investment text, Security Analysis (1934), Benjamin Graham and David Dodd tell us, “An investment operation is one which, upon thorough analysis, promises safety of principal and a satisfactory return. Operations not meeting these requirements are speculative”. Finance has come a long way since then, but yesterday’s prejudices die hard. The economic meltdown has generated a lot of heat about derivatives, which some critics wildly deride as “weapons of mass destruction” or tools for gamblers seeking to turn a little money into a lot. But this condemnation is misguided, for it can deprive enterprises of the real benefits of derivatives: to prevent a large amount of money from becoming a little.

On 15 October, the US House financial services committee approved legislation that would, for the first time, regulate derivatives and require that swap transactions between major financial players viewed as posing systemic risk be conducted over transparent exchanges. The rules would exempt enterprises—such as manufacturers, airlines and life insurers—that use derivatives to hedge against business risk. This exemption underscores their utility as valuable business management tools.

At core, derivatives and their benefits concern the likelihood of a future event and its consequence. For example, an Indian export-driven company with significant dollar revenues and rupee expenses may want to ensure that rupee devaluation will not leave it insolvent. To do so, it may enter into a forward contract with a buyer who will pay a set rate for the dollar receipts. While the exporter is willing to give up profit if the dollar-rupee currency market suddenly turns up, the buyer (or counterparty) is willing to take the risk the market will turn down—in return for a chance that it will go the other way. There are many other types of such products.

That is not to say there is no risk. A key problem that we have seen during the recent crisis is that markets are not always efficient and they are prone to extreme event risk. For example, the market might wrongly model the risk embedded in a class of financial instrument, causing participants to flee the class and stop trading upon revelation of the error. Or normally correlated assets may diverge for an unexpectedly long period of time, causing a vicious cycle where companies keep dumping these assets.

Yet, those aren’t the risks the US government seeks to contain with its legislative recommendations.

In fact, the recommended changes are virtually irrelevant in India, because here the derivatives marketplace is tightly regulated and the types of permissible transactions are severely limited. This does not mean, however, that Indian companies are immune to systemic and extreme event risks as they cascade from foreign markets.

During the meltdown, Indian companies were severely affected when US and European enterprises suddenly found themselves in a liquidity crisis. Foreign companies repatriated as much foreign investment as possible, causing an abrupt decline in the value of the rupee against the dollar. There was also a sudden drop in export demand and downward pressure on prices. The result was an economic debacle for a number of Indian companies that had not taken adequate steps to protect themselves—including some that had entered into derivative transactions to protect against foreign currency movements, but had not taken steps to adequately understand and manage the associated downside risk.

This experience highlights the need for Indian companies to ensure that they have in place the appropriate governance and risk management structures. These will produce the transparency, responsibility and accountability needed to ensure that derivatives are not used to earn a little extra money, at the risk of losing a lot, but are utilized to manage real business risks.

Jonathan Rosenoer is a Europe-based partner with KPMG now working in India to support the firm’s financial risk management clients. Comments are welcome at otherviews@livemint.com

Do not fear transparency

Anmol Vanamali — Thu, 29 Oct 2009 17:49:00 GMT

India has been a driving force and the de facto spokesperson for the developing world in international climate change negotiations. When Prime Minister Manmohan Singh announced the national action plan on climate change (NAPCC) last year, it was a strong indication that India is willing to voluntarily and unilaterally adopt nationally appropriate mitigation actions. The solar and energy efficiency missions are ambitious mitigation plans which, if executed properly, can propel India into the forefront of the clean and renewable technology revolution.

By embracing NAPCC, India has already considered reducing emissions voluntarily from a carbon-intensive reference scenario; there is no question of that.

The question that we need to face head-on, and presumably the one that minister of state for environment and forests Jairam Ramesh is grappling with, is the degree of international involvement in India’s voluntary mitigation actions. To convince ourselves why the international community needs to be involved, let us imagine a scenario in which it is not.

According to the solar mission, India aims to have an installed capacity of 20 gigawatts by 2020. Let’s assume that this happens and that we have reduced emissions considerably relative to a reference scenario by our internal estimates. Come 2020, if the world evolves as hoped, India will unequivocally be a world leader, economically and geopolitically. At this juncture, it will be tough for us to use the same justification for not accepting any sort of emission targets as we do currently and rightly so.

However, if the international community is not allowed to participate in some amount of review of our voluntary mitigation actions such as the solar mission, then we will be subjected to a baseline scenario in which our unilateral actions could be considered business-as-usual. This is certainly not acceptable and would be a worst-case scenario, especially if the government of India invests public funds into adhering to its voluntary targets. In order to avoid future pain and disappointment, it is essential that India allows a certain degree of review of voluntary mitigation actions by the international community if nothing else but then for the sake of posterity.

India has, so far, argued that efforts to curb emissions should be in proportion to a country’s historical record; however, if India’s voluntary reductions are not a part of any record, much less an international accord, then it will be a major loss of negotiating strength in future. It is possible certain quarters might be skittish that a review means another version of measuring, reporting and verifying (or MRV, in climate change parlance) emission reductions. This is a valid concern and Ramesh has tried to address it by stating: “The domestic mitigation actions will only be open for a review and not an MRV.”

Another advantage of reporting data in adherence to a multilateral agency is that it keeps the Indian government accountable to its policy pronouncements. The emphasis will shift from announcing policy for the sake of international posturing to accountability through execution. By opening up our books, we can negotiate forcefully for greater financial and technology flows, which so far have eluded us. A successful multilateral partnership will also go a long way in eliminating the centuries-old mistrust due to the so-called North-South divide.

To sum up, the only downside of allowing the world to look into the execution of voluntary mitigation actions is the inability to escape with inaction. That is something no responsible citizen or politician of India should be afraid of.

Anmol Vanamali is a climate policy analyst based in Washington, DC. Views expressed are personal. Comments are welcome at otherviews@livemint.com

Climate change in context

Bjørn Lomborg — Tue, 27 Oct 2009 16:10:00 GMT

Global warming is a serious challenge that has captured the world’s attention. But in the areas that will be worst hit by climate change, what do locals value and want prioritized?

The tiny island nation of Vanuatu speaks with a big voice on global warming, calling for larger countries to make immediate carbon cuts.

In a warning often repeated by environmental campaigners, the Vanuatuan president told the United Nations that the entire island nation could be submerged. “If such a tragedy does happen,” he said, “then the United Nations and its members would have failed in their first and most basic duty to a member nation and its innocent people.”

Torethy Frank, a 39-year-old woman carving out a subsistence lifestyle on Vanuatu’s Nguna Island, is one of those “innocent people”. Yet, she has never heard of the problem that her government rates as a top priority. “What is global warming?” she asks a researcher for the Copenhagen Consensus Center.

Frank has more immediate concerns—problems that are not spoken about on the world stage, and that do not attract the attention of the media or environmental advocates.

Frank and her family of six live in a small house made of concrete and brick with no running water. As a toilet, they use a hole dug in the ground. They have no shower and there is no fixed electricity supply. Her family was given a battery-powered DVD player but cannot afford to use it.

Three of Frank’s four teenage children have never spent a day in school. The eldest attended classes on another island, which cost Frank and her husband 12,000 vatu ($110) a year, but she now makes him stay home because “too many of the kids at the school were smoking marijuana”.

Three years ago, an outbreak of malaria ravaged Frank’s village, Utanlang. The mosquito-borne illness is a big problem in Vanuatu, although aid from the Global Fund to Fight AIDS, Tuberculosis and Malaria is helping. This deadly disease causes fever, headaches and vomiting, and can disrupt blood supply to vital organs.

One small clinic in Utanlang provides basic medicines such as painkillers and bandages. For real medical care, Frank must travel to the capital, Port Vila. In perfect conditions, that involves a 30-minute boat trip and then a two-hour car ride. Because the villagers are too poor to own any boats other than outrigger canoes, it can take up to 5 hours.

To get by, Frank’s village sells a few fish, fruit and baskets in mainland Vanuatu. But after paying for transport, little money is made. She has learnt that “it’s best to return with no money and nothing new”, because otherwise other villagers ask for their share.

The government, too, takes its cut in the form of tax. “But it doesn’t give anything back,” Frank says. “No education, no power, no water, no transportation, no healthcare. Why should we pay them?”

Frank’s life would not be transformed by foreign countries making immediate carbon cuts.

What would change her life? Having a boat in the village to use for fishing, transporting goods to sell, and to get to hospital in emergencies. She doesn’t want more aid money because “there is too much corruption in the government and it goes in people’s pockets”, but she would like microfinance schemes instead. “Give the money directly to the people for businesses so we can support ourselves without having to rely on the government.”

Vanuatu’s politicians speak with a loud voice on the world stage. But the inhabitants of Vanuatu, like Frank, tell a very different story.

Bjørn Lomborg is director of the Copenhagen Consensus Center, a think tank. Comments are welcome at otherviews@livemint.com

Hamid Karzai relents

Wed, 21 Oct 2009 15:50:00 GMT

Before Afghanistan’s president, Hamid Karzai, acceded to a runoff election on Tuesday, you could almost hear his arm being twisted. And it took a lot of top-level talent to do it. US secretary of state Hillary Clinton, British Prime Minister Gordon Brown and French foreign minister Bernard Kouchner all insisted that Karzai accept an international audit that found that nearly one-third of his first-round votes were stolen—driving his final count to below 50%.

Even then it took a five-day marathon of negotiations with US senator John Kerry, chairman of the foreign relations committee, to get Karzai to do what was necessary. And that was the easy part.

To ensure that the run-off is fair and credible, it’s going to take a lot more effort and high-level attention —and even more arm-twisting. And there are less than three weeks before the 7 November vote.

A fair election is essential. But if Karzai wins—the odds are he will—that won’t turn him into the credible leader that the Afghan people deserve and the credible partner that the US needs if there is any hope of holding off the Taliban. Karzai’s main challenger, Abdullah Abdullah, talks a better game but is untested.

The next Afghan government has no hope at all unless it is truly committed to rooting out corruption (Karzai will have to start with his own brother who, US officials charge, is deeply involved in the drug trade) and delivering basic services and security to its people.

US President Barack Obama may still be undecided about future US troop levels, but he should be delivering this message to Afghanistan’s leaders—and the US military and diplomats—right now.

When asked why Karzai thought he could get away with stealing the election, US officials blame the Bush administration and, in particular, president George W. Bush, who enabled Karzai’s worst impulses while refusing to invest the troops, money or attention that Afghanistan desperately needed.

That is all true. And the election planning was well along before Obama took office. But he and his aides should have taken a lot more care to ensure that Karzai and his challengers understood that such wholesale fraud would be a disaster —in Afghanistan and in the US, where support for the war is fast evaporating.

(Like many, we wonder what happened to Obama’s special envoy for Afghanistan and Pakistan, Richard Holbrooke, who established a bureaucratic fiefdom at the state department but has been neither seen nor heard from during this critical period.)

The run-off won’t be easy to pull off. Time is short, winter is near and the Taliban threat continues to worsen.

The Afghan government must immediately dismiss any election officials implicated in the fraud. The United Nations, which sponsored the independent audit, will have to play a more robust role in overseeing the preparations for the vote, monitoring polls and the count. The US and Nato must get ready to provide security for voters and monitors.

To have any chance of producing a legitimate result, both candidates must make clear that, this time, they are not encouraging and will not tolerate ballot-box stuffing and phantom voting. While Karzai’s supporters accounted for nearly a million tainted ballots, some 200,000 votes cast for Abdullah were also thrown out.

Meanwhile, there is talk of a possible political deal between Karzai and Abdullah that might obviate the new election. That should not be anyone’s first choice. If it is unavoidable, it must be done constitutionally, and it must produce a functional government that is committed to a responsible agenda.

We have watched as US officials debate military strategy for Afghanistan. They need to devote at least as much attention to coming up with an effective political strategy. The lesson of the stolen election is clear: Nothing in Afghanistan can be taken for granted.

Your comments are welcome at otherviews@livemint.com

Microfinancing consumers

Soumendra K. Dash — Tue, 20 Oct 2009 15:33:00 GMT

Microfinance institutions (MFIs) have been partially filling the gap left by bigger banks, and providing financial services to the unbanked population. They have been providing microcredit to borrowers for income generating and consumption, based on group guarantee—making one’s neighbour a co-signatory on the loans builds up the peer pressure that can ensure repayment. However, based on the observations and analysis of the portfolio of MFIs, it has been found by rating agencies that the majority of the microcredit provided to group members are strictly for income-generating activities, but not broader consumer finance.

In fact, even if borrowers of a group show good credit history for four or five loan cycles, MFIs end up providing loans directly to individuals without group guarantee. But this is still only for income-generating activities.

Rating agencies expect that as the income levels of borrowers improve, they would also require consumer credit. Now, the question arises whether MFIs should enter into consumer financing and how it would help borrowers. What are the risks involved in providing consumer finance by MFIs?

Microfinance borrowers, apart from accessing credit from MFIs for income-generating purposes, would also be tapping other sources of credit to purchase consumer appliances. Purchase of such consumer appliances or electronics or machinery may directly or indirectly affect their existing sources of income-generating activity as its use may yield higher income for the borrower. For example, if a general store owner purchased a refrigerator, it would lead to better storing of perishable items, thereby bringing additional income from the sale of these items.

Thus, provision of consumer credit from MFIs would help borrowers in increasing income and improve their economic status. But MFIs should provide consumer finance to only those borrowers whose activity is directly linked to the purpose for which the borrower is seeking consumer credit. For instance:

• Purchase of refrigerator for a borrower engaged in tailoring might not be useful; however, for a general store owner, it would be useful for storing cold drinks and other perishable items—thus increasing business.

• Purchase of two-wheeler (such as a motorcycle) for a borrower engaged in selling milk or dairy products would be useful, whereas for a person involved in sheep rearing, it may not lead to any increase in income.

• A borrower who acts as an intermediary in selling agricultural products such as rice and wheat would benefit from the purchase of a mobile phone.

However, MFIs also need to exercise caution since consumer financing may not necessarily be backed by group guarantee—leading to higher risks. Such financing would also increase indebtness of the borrower and put pressure on their debt repayment capacity in case products purchased under consumer credit do not lead to a substantial increase in income.

Thus, it’s only those MFIs with many years of experience in microfinance and with an established client base (and, hence, credit history) who should explore this option. Apart from this, screening of clients by the loan officer would also be an important step. MFIs also need to have excellent systems to track the performance of their borrowers on a constant basis to reduce the probability of default.

Soumendra K. Dash is an economist based in Mumbai. Comment at otherviews@livemint.com

New story of old fuelwood

Richard Mahapatra — Sun, 18 Oct 2009 14:55:00 GMT

With this year’s drought, the queue of women with head loads of fuelwood out of the nearby forests gets longer. However, it is not entirely a new sight; it has just become more visible. And it delivers a dire message: India’s fuelwood market is emerging as the most sensitive index for crisis in rural livelihood.

The fuelwood market is truly pan-Indian with close to 12 million people (mostly women) involved in collection, selling and processing. Its annual turnover is in the range of $16-17 billion. However, this big business doesn’t follow any conventional norms. It is a zero-cost (capital) business for its practitioners.

After the oil crisis of 1971, when India seriously thought over energy security, the fuelwood trade got prominence as a major source of energy. Till the 8th Five-Year Plan, India used to plan seriously on fuelwood as a key component of rural energy security. Of late, there is not much debate or planning over it. The demand-supply gap has become 121 million tonnes (mt).

Long forgotten in the quest for commercial energy security, fuelwood is still used by around 72% of rural households and 33% urban households. And its volume is rising 0.5% annually. It is still the largest use of wood in the country; the spread of kerosene and liquefied petroleum gas (LPG) has not made any dent in its consumption.

This stealthy rise of the fuelwood business is an outcome of deep rural distress. It has metamorphosed from a trade to fill a demand-supply gap to a crisis-driven survival option. It has become the new free economy of the country’s poorest. So fuelwood tragically becomes the most authentic expression of ecological degradation in India’s dominantly biomass-based villages—a source of energy that yields so little monetary value but still manages to lure so many people.

In fact, the loss of agriculture as a survival proposition has forced people to think over alternatives. Nearly 50% of India’s agricultural lands face erosion and drought as frequently as once every three years. Thus agriculture needs more inputs such as fertilizer, pesticide and irrigation—now more than ever. Low landholding in India already makes agriculture expensive and discourages the mostly small and marginal farmers from it. Less agriculture means less agricultural residue for fodder, restraining them from keeping a large number of livestock, the second-line survival option. For this cash-deficient population, fuelwood is the next best option, as it doesn’t involve capital investment.

Forests have been accommodating many of these people displaced from agriculture. The forest-dependent population has gone from 184 million in 1996 to 226 million in 2006. But forests are thinning away and the restriction over profitable forest produce leaves people opting for twigs and dry branches to sell as fuelwood.

Under these circumstances, it is no wonder that consumption of fuelwood has also gone up from 78 mt in 1996 to 96 mt in 2006. In fact, the population from non-forest areas also depends more on forest now: 513 million in 1996 that went up to 632 million in 2006. Another pointer that people are using fuelwood as a tool of survival is the trend of the rural poor shifting to inferior fuels such as leaves and twigs. Good fuelwood is being reserved for selling. Surveys show that fuelwood collectors keep usually one-third of the fuelwood for self-use.

This crisis, like others, is an awful thing to waste. Given its economic importance to rural dwellers, fuelwood collection should become a legitimate forestry activity. Till now, we have been looking at this trade from a narrow conservationist perspective. Recognizing fuelwood would actually also be a sensible forest conservation step forward, since fuelwood chiefly comes from dried twigs and branches, not from felled trees.

Moreover, in the future, we have to make the vast rural areas energy-secure. Given the current energy balance, this possibility seems remote if we only stick to conventional energy sources.

Richard Mahapatra is a Delhi-based development writer. Comment at otherviews@livemint.com

Time to go cashless

Suresh Gurumani — Thu, 15 Oct 2009 15:15:00 GMT

Recently, one of our loan officers at SKS Microfinance was murdered and robbed of cash collections when he was returning from the field. Any death under these brutal circumstances is tragic, of course. But it’s even more tragic because it was perhaps completely avoidable. It was the result of a systemic failure in banking—a sector that still insists on being traditionally centred on cash.

Just why was the young man carrying cash? It was because the villages from which he had collected the cash—weekly loan repayments—had no bank branch where he could deposit the money. He had no option but to carry the cash around.

And why were there no bank branches in these villages? Could other cashless methods of repayment have not been possible?

The Reserve Bank of India (RBI) July 2005 Final Report of the Internal Group to Examine Issues Relating to Rural Credit and Microfinance stated that the scheduled commercial banks covered only 18.4% of the rural population as far as savings accounts were concerned. According to another RBI report in August 2009, at least 41% of the population is unbanked.

Given issues of costs and infrastructure, RBI has also recognized that it is just impossible to have bank branches in every village of India. Clearly the solution is then to encourage a network of business correspondents (BCs) and business facilitators that can provide quasi-banking services for the rural poor.

RBI published the first set of guidelines designed to encourage banks to appoint BCs in 2006. Apart from undertaking facilitation services, BCs were also supposed to undertake services such as the disbursal of small-value credit, the recovery of principal or collection of interest, the collection of small-value deposits, the sale of retail finance products and the receipt and delivery of small-value remittances.

In 2009, three years later, RBI itself reviewed the progress on the appointment of BCs by 27 nationalized banks. It found out that in three years, these banks had appointed a total of only 85 BCs. If you take out three banks—State Bank of India, Punjab National Bank and Bank of India—which had appointed the maximum, the other 24 banks had together appointed just 37 BCs. Several had appointed not even one.

But the bigger question is why can’t India leapfrog from this whole issue of branch banking and go to a situation of branchless banking and cashless payments? Take the example of M-Pesa, a mobile payment service launched in 2007 by Safaricom, Kenya’s largest mobile operator. Such has been its runaway success that more than half of Kenya’s population uses mobile phones to transfer or remit money.

India has all the ingredients to make this system work. It is the world’s fastest growing mobile phone market with a multiplicity of operators. Since competition has driven down pricing on voice telephony, each of these operators is looking at alternative sources of revenues. India is also a world leader in software development, which is required to make such mobile payments safe and secure. What is more, RBI even announced guidelines governing mobile payments a couple of years back. Despite all this, there has been no progress on the mobile payments front: The process is tied down in various bureaucratic procedures within the banking system.

This is really a pity because as someone who heads a company that provides microfinance to at least five million members located in over 60,000 villages, I believe the solution to India’s problem of financial inclusion lies in an innovative combination of policy, microfinance and the technology of cashless—especially mobile—payments.

What is more, it will also go a long way in curbing needlessly tragic deaths such as that of my young colleague a few weeks ago.

Suresh Gurumani is CEO, SKS Microfinance Ltd. Comment at otherviews@livemint.com

At first, multiple-rate GST

Pratik Jain and Siddharth Mehta — Wed, 14 Oct 2009 16:11:00 GMT

In a recent meeting of the empowered committee of state finance ministers, certain states demanded a concessional rate for the proposed goods and services tax (GST) for essential commodities, in addition to the merit rate. The Centre has apparently given, in principle, a nod to this structure. Thus, contrary to the initial understanding, we might have at least four different categories of goods under GST; namely, those liable to rates of zero per cent, 1% (precious metals), 8-10% (essential commodities) and 16-18% (merit rate applicable to all other goods and services).

Questions are being raised about whether we can really expect a reformed tax regime which has so many rate slabs similar to the current tax framework. After all, a single-rate GST would have been much simpler to understand and implement without worrying about the classification of goods and services or the need to tweak systems to look up the correct GST rate based on classification. Also, a lower GST rate for select products could mean a higher standard rate in order to achieve revenue neutrality.

However, the multiple-rate structure seems to be a necessity, given the current socio-economic dynamics of our country. To begin with, it would ensure that essential goods currently subject to a concessional rate of tax do not become overly expensive overnight, distorting trade as well as consumer preferences. Take, for instance, steel, one of the building blocks of the nation. If the prevailing 2% Central sales tax (CST) or the 4% value-added tax (VAT) rate on steel increases to an 8-9% state GST, the impact on the infrastructure and manufacturing sectors could be significant. Similarly, a steep increase in the GST rate for commodities such as computers, mobile phones, food items and so on (which currently attract a lower rate of tax) would have a direct impact on most household budgets.

A concessional GST rate would also help to broaden the tax net by including goods which currently don’t attract any tax. Thus, the list of exempted goods can now be pruned by subjecting them to a lower GST rate without causing hardship to industry or consumers.

Internationally, a large number of countries have a lower rate of VAT for essential goods and services. In the UK, while the merit VAT rate is 15%, domestic fuel and power, energy saving materials, residential renovations, etc., attract a 5% VAT. Similarly, in France, a reduced rate of 5.6% is applicable to food, public transport, some pharmaceutical products, etc. There are, however, certain things, which need to be kept in mind. The classification adopted for a lower GST rate should be simple, clear and uniform across all states. This is necessary to reduce unwarranted disputes with tax authorities and the diversion of trade from one state to another.

The lower GST rate should not result in an “inverted duty structure”, which happens when the output attracts tax at a lower rate than the inputs that go into it, leaving the taxpayer with surplus tax credits. Therefore, the goods entitled to a lower GST rate should be carefully selected to avert this problem to the extent possible. There should also be a fallback option in terms of a speedy refund (both in law as well as in spirit) of excess credit, if any.

Also, all competing goods should attract the same rate of GST. For instance, different types of fuel used to generate power should attract the same rate. This would enable industry and consumers to take “tax-neutral” decisions, or decisions driven purely by commercial imperatives or individual preferences, without considering the tax implications.

To conclude, a well-thought-out multiple-rate GST system may actually be desirable for the country—at least for the time being. Once GST is successfully implemented, an attempt can be made to converge the multiple rates into a single unified rate in a phased manner. This could be a win-win situation for both the government as well as taxpayers.

Pratik Jain is executive director and Siddharth Mehta senior manager at audit and consulting firm KPMG. Comment at otherviews@livemint.com

Lessons from a deluge

Sudhirendar Sharma — Mon, 12 Oct 2009 17:04:00 GMT

Let’s begin with a disclaimer that no individual weather event, such as the one that submerged parts of Andhra Pradesh and Karnataka this month, could be attributed to global warming. The big rise in global temperature probably won’t take place until the second half of this century, but the tragedy is that, thanks to our dams and reservoirs, there will still be plenty of non-climate-change-induced damage.

The likes of the 600% higher rain that caused the deadly floods in south India have reportedly become 10% more frequent in the last decade. But preparedness for such events has remained inadequate, notwithstanding similar floods in Gujarat (2005) and Bihar (2008). As fresh disasters charter unfamiliar territories at a fiery pace, the National Disaster Management Authority (NDMA) has failed to get its act together.

That traditionally water-deficit regions in the Deccan plains registered a water surplus in one fortnight can be partly attributed to the story of low-pressure areas across the Bay of Bengal. The significant other part relates to the bickering for decades over rights to the Krishna river, resulting in Andhra Pradesh and upstream Maharashtra and Karnataka furiously building dams and diversions to hold a larger share of the river water. While the Koyna dam exists on the Krishna in Maharashtra, Karnataka has the Almatti and Narayanpur storage structures across the river. The overflowing Srisailam dam during the recent floods and the tallest Nagarjuna Sagar dam, too, exist on it in Andhra Pradesh. Even the Tungabhadra tributary of the Krishna has not been allowed to flow freely—the dam on it is a joint initiative of Karnataka and Maharashtra.

Built with the twin objective of producing hydropower and irrigating farmlands, each of the large dams in the country has failed to provide flood protection to downstream populations. It was no different during the recent floods: Excess inflow from the Almatti reservoir caused the Srisailam dam to overflow, inundating as many as 50 downstream villages, for no fault of theirs. Far from providing protection, structural flood-control measures have enhanced vulnerability.

Dam authorities are compelled to hold as much water in the reservoir as possible, to meet the dual objective of generating power and meeting demands for irrigation. Any unexpected upstream recharge would result in unwarranted downstream release of excess water. The Srisailam dam could handle only 1 million cusecs (cu. ft per second) of water, whereas the inflow during the ill-fated week was in excess of 2.2 million cusecs. The storage capacity of most dams has gradually reduced on account of silt deposition.

States often seek flood relief by addressing the symptoms and not correcting the systems, measures which end up enhancing the vulnerability of downstream populations. No surprise then that human misery continues to grab headlines while the cause-effect relationship of disasters skips careful diagnosis.

To draw attention to such lapses, the Telangana Rashtra Samithi, a political party, has attributed the recent floods to human follies than nature’s fury. It has further been alleged that the irrigation projects have been politically motivated to benefit vested interests. Prophetic as it may sound, Peter Salberg, a British engineer, had informed the historic Patna Flood Conference in 1937 that the “skills of engineers and resources of governments have often played havoc with people”.

No lessons seem to have been learnt. Consider that for releasing flood waters from the Bhakra dam, the chairperson of the Bhakra-Beas Management Board was allegedly shot dead during the peak of the insurgency in Punjab. We don’t want that history to repeat itself. Given the decrepitude of much of the existing water infrastructure and profligate ways with water, it’s urgent for NDMA to develop a vulnerability index to measure the impact on the unsuspecting communities before such projects are given approval.

Sudhirendar Sharma is a water expert at the New Delhi-based Ecological Foundation. Comment at otherviews@livemint.com

The end of a drug alliance?

Shamnad Basheer — Sun, 11 Oct 2009 16:03:00 GMT

The Ranbaxy-Daiichi merger in June 2008 heralded the onset of what one might call an “Ardhanarishwar” model in the Indian drug industry, where innovator companies (creators of new drugs) and generics manufacturers came together in holy matrimony for the first time. The recent past has witnessed more such alliances, with companies such as Shantha Biotech, Dabur Pharma and Wockhardt tying the knot with multinationals, which wished to ramp up their generic capabilities. Most recently, the industry is abuzz about GlaxoSmithKline circling Dr Reddy’s to pick up stake.

The mergers appear a win-win situation for both generics companies and innovators. For one, given the recent push by most governments to reduce healthcare costs, multinational innovators get to partake in an ever lucrative generics pie. As far as Indian companies are concerned, the hope is that such unions will make them more innovative.

However, an oft-ignored consequence of such mergers is the likely impact on patient or public health groups. Ever since 1970, when India resolved to bolster its generic capabilities by denying product patents to pharmaceutical inventions, public-health groups and the generics industry have coalesced in their fight against multinational patentees. Not too surprising, since the regime shift in 1970 was premised on the assumption that creating a vibrant generics industry would also result in a reduction of drug prices and thereby benefit patients.

The recent past is, however, witnessing an increasing schism between the interests of the generics industry, on the one hand, and that of patient groups. The advent of the World Trade Organization’s Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPS) and the consequent pressure to conduct more research and development to survive in an increasingly competitive world market may have prompted part of this schism. Indeed, even prior to its merger, Ranbaxy was speaking a language familiar to multinationals—it actively supported the grant of patents to incremental inventions in its submissions before the Mashelkar committee.

This schism is even more evident in the debate over price controls. Illustratively, Cipla is routinely targeted by the National Pharmaceutical Pricing Authority for overpricing its drugs in India, indicating that the interests of the generics industry are not always aligned with that of patient groups.

With Indian generics firms now acquiring dual personalities, and speaking the language of patents and innovation, the number of patent oppositions mounted by generics companies against their innovator partners is likely to decrease. Indeed, a cursory examination of patent challenges filed the world over would indicate that one multinational innovator rarely challenges the patent of another.

It bears noting that the Indian patent regime contains what is probably the world’s most potent and comprehensive “opposition” mechanism, where a patent can be challenged for embodying only a trivial, non-meritorious invention.

A recent study by the author, based on publicly available patent opposition decisions, shows that of the 9,719 pharmaceutical applications filed since 2005, only 34 were challenged in an opposition. Of these 34, patient groups were involved in only three challenges, indicating perhaps that they may have relied on generics companies to take on problematic patents in a vast majority of the cases.

Depending on which side of the ideological fence one is on, the recent alliances between originators and generics could be seen as either “holy” or “unholy”. But what is incontrovertible is the fact that patient groups can no longer rely fully on the generics industry to take up cudgels on their behalf. They have to enhance capabilities and challenge more unsavoury patents to fulfil the mandate bestowed upon them by ailing patients.

Shamnad Basheer is the ministry of human resource development professor of intellectual property law at the National University of Juridical Sciences, Kolkata. Comment at otherviews@livemint.com

China’s growth obsession

Harish Bhat — Tue, 06 Oct 2009 15:33:00 GMT

I left China a day before the World Economic Forum met in Dalian province in September, impressed with the country’s focus on growth but struck by the immense complexity of this challenge. This is a country which is slated to lead the world out of its worst economic contraction since World War II, and my visit to Shenzhen, Dongguan and Hong Kong revealed an economy obsessed with rapid growth.

China has just implemented a massive 4 trillion yuan stimulus package. A significant part has rightly gone towards infrastructure. Thus, the government, in a single stroke, is using its vast reserves to create useful future assets and, currently, jobs. It has prevented the possibility of mass unrest by millions of workers whose jobs were terminated by export factories.

Ironically, many of these export factories in coastal China are now finding it difficult to obtain skilled labour as workers find remunerative jobs in building bridges and railroads in the comfort of their home provinces. This will lead to a positive correction of the income imbalance which has existed between coastal and interior China.

Equally important, the government has ensured that a record 7.7 trillion yuan in bank loans has been disbursed rapidly. This is a steroidal injection of liquidity, and private firms have, perhaps for the first time, been assured far wider access to financing.

Both these measures have resulted in lifting GDP growth to 7.9% in the second quarter of 2009, up from 6% in the previous quarter. The message is clear: We will spare no effort to get back to double-digit growth. China’s primary motive remains its desire to become the world’s pre-eminent superpower, yet in pursuing this goal, it is likely to provide an important economic engine to a fatigued world.

While the single-minded pursuit of growth is laudable, the country appears to be nervous about sustained success because of four key factors. First, the insecurity about this being a jobless economic recovery, since short-term investment in infrastructure is unlikely to create long-term jobs. When the state stimulus is reduced, what will happen to these jobs?

Second, the fear that a significant proportion of bank loans will go to relatively inefficient state-owned firms which dominate large industries such as auto, steel and textiles —since much credit has been earmarked for these sectors. This may crowd out investments by entrepreneurial private firms, which are a far more reliable engine of growth.

Third, and most dangerously because of a lack of adequate controls, a lot of easy money from bank loans is feeding a bubble in real estate and equity markets rather than fuelling real growth. The Shanghai and Shenzhen stock markets have risen by 70% this year, and TheEconomist magazine estimates that up to half of all bank lending may have ended up in China’s asset markets. Therefore, when bank lending returns to normal levels, will these asset markets collapse, or will some banks collapse—triggering a repeat of what happened last year in the US?

Fourth, there is no clear evidence that domestic demand in China has been greatly strengthened by stimulus. This is critical for a country whose economy relies significantly on exports, which have collapsed. Strong measures to stimulate consumer demand are yet to appear.

These fears are expressed somewhat colourfully by a Hong Kong-based columnist who likens the stimulus package to an old Chinese idiom—“loud thunder but small raindrops”. Yet, Beijing appears rightly focused on a return to rapid economic growth. Most people I met during my visit were confident that the government would quickly evolve solutions to the four factors highlighted here before they irreversibly affect the economy.

Harish Bhat is chief operating officer, watches, Titan Industries Ltd. These are his personal views. Comments are welcome at otherviews@livemint.com