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Volume XIX Number 152

MUMBAI | MONDAY, 16 MARCH 2015

A re-emerging dilemma
Apparent hardening of inflation means less room for RBI

The gold disease

Measures in Budget only tackle symptoms

he Union Budget paid special attention to gold. The finance minister

outlined a multi-pronged approach to persuade households to stop
hoarding the precious metal. Thus, existing gold-loan schemes will be
reviewed and tweaked. The government will make arrangements to
issue its own gold coins and biscuits to ease pressure on imports. A sovereign gold
bond will also be launched. The compulsions are clear: too large a proportion of
savings is parked in an unproductive asset that is, moreover, imported. India
imports about 1,000 tonnes or more of gold annually, making this the second
largest contributor to imports. In fact, the current account would probably be surplus in 2014-15 if gold imports were to moderate just a little.
HDFC Mutual Funds Chief Investment Officer Prashant Jain recently drew
attention to data that highlight how deleterious the obsession with gold has
proved. While receiving the Business Standard award for the best equity fund manager, Mr Jain said that in the past 15 years, foreign institutional investors parked
$150 billion in Indian equities and India imported over $250 billion worth of gold.
During that period, stock market indices gave a return of around 15 per cent a year,
while gold gave an annual return of only eight per cent. Hence, India has lost out
in terms of investible resources and suffered pressure on the current account,
while gold investors have lost out on returns. Each of the proposed Budget initiatives has pros and cons. The devil lies in the details. The sovereign gold bond
will be a derivative instrument. Units will be benchmarked to gold prices and fluctuate accordingly in price, while a small interest rate (about two per cent a year)
will also be paid. The instrument is to be settled in rupees, obviating the need to
import metal. The interest costs will be easily financed by investing the corpus
in higher-yield instruments. But this bond also commits to absorbing capital losses in the event of mass redemptions at high gold prices.
Gold-lending schemes already in operation have not proved popular. In
these, the investor lends metal, receives interest in rupees and redeems by receiving gold back in the form of biscuits. In theory, lending enables stocks of idle gold
to be monetised and used by jewellers, etc. However, much of the idle gold stock
has been accumulated with the help of converted black money. Also, no household wishes to hand over jewellery and receive biscuits in return. The new loan
proposal would have to be tweaked to take account of these preferences. The success of the third new concept, that of launching indigenous gold coins and biscuits, will depend largely on relative efficiencies. Will it really be cheaper for the
Indian government to set up a precious metal mint, or to import customised biscuits in bulk?
The obsession with gold has its roots in Indian customs. But the traditional
preference has been compounded by the lack of safe investment options for
households. The stock market is perceived as scam-driven; there is no secondary
debt market; mutual funds and unit-linked insurance policies have been mis-sold.
Finding less damaging ways to satisfy the appetite for gold is no more than treating the symptoms. To change household preferences and persuade retail investors
to move their savings back into financial assets, systemic problems across the
financial sector must be tackled.

The retreat of rural China

BOOK REVIEW
LARRY ROHTER
In Chinese, the region that was once the
cradle of the mighty Qing dynasty is
today rather prosaically known as
Dongbei, the Northeast. Home to 110 million people, it has smoggy cities and bitingly cold weather. It can seem drab or
worse to a visitor. But Michael Meyer has
a more refined sense of history and poetry, and with his new book he seizes the
opportunity to dig beneath the regions
gritty surfaces.
Mr Meyers motivation for writing

his book is simple. Since 2000, a quarter of Chinas villages had died out, victims of migration or the redrawing of
municipal borders, as the country
urbanises, he notes early on, adding:
Before it vanished I wanted to experience a life that tourists, foreign students, and journalists (I had been, in
order, all three) only viewed in passing.
In Manchuria shifts back and forth
among various genres. It is part travelogue, part sociological study, part
reportage and part memoir, but it is also
a love offering to Mr Meyers wife,
Frances, who grew up in the unfortunately named Wasteland, the village
that Mr Meyer chooses as his base near
the start of this decade, and to the
unborn son she is carrying by the time
In Manchuria ends.
To tell his story, Mr Meyer alternates
between chapters that examine a broad

ILLUSTRATION BY AJAY MOHANTY

hree monthly data releases last week have raised questions about the
state of the economy and the appropriate policy responses to it. On the
positive side, the Index of Industrial Production (IIP) numbers for
January indicate that the recovery that has been seen over the past few
months is still on track. The overall index has increased by 2.6 per cent over a year
ago, while the manufacturing component, accounting for over 75 per cent of the
basket, has gone up by 3.3 per cent. This takes the increase in the overall index for
the April-January period to 2.5 per cent but manufacturing is still catching up,
with the 10-month increase being only 1.7 per cent. At a disaggregated level, capital goods are looking fairly robust with an over 12 per cent increase in January.
However, consumer durables are still very sluggish, with a decline of over five per
cent in January that at best moderates the 10-month decline to just under 15 per
cent. Of course, the larger question that arises about the IIP numbers is their consistency with the new gross domestic product (GDP) series, which shows the
manufacturing sector performing at a much better clip than the IIP does. While
the discrepancies between the old and the new series are yet to be sorted out, the
value of the IIP series as an early indicator of economic performance will inevitably
be viewed with scepticism.
On the negative side, the Consumer Price Index (CPI) numbers for February
have revealed inflation to be somewhat higher than expected, coming in at 5.37
per cent. This has dashed hopes of another policy rate cut by the Reserve Bank
of India (RBI) in April, causing markets to decline sharply. While this reflects positively on the RBIs credibility on inflation control, it also, inevitably, dampens
prospects of monetary policy reinforcing whatever forces are currently driving the
recovery. It also raises the question of whether the central bank was too quick to
cut the policy rate after the Budget, when the inflation data were only about a week
away. On the trade front, the data for February have showed exports, in both dollar and rupee terms, declining by over 15 per cent from February 2014. Imports
have declined by roughly the same rate, in line with expectations, given the
trends in oil and other commodity prices. However, a sharp slowdown in exports
in a scenario in which the US economy is recovering points to a loss of competitiveness, to which one contributory factor could certainly be the appreciation in
the rupees real effective exchange rate (REER).
From a policy perspective, these patterns appear to be pulling in opposite
directions. Lacklustre growth in industrial production and the decline in exports
both support stronger stimulus from the monetary policy, involving both lower
interest rates and measures to prevent rupee appreciation, if not induce some
depreciation. However, the apparent hardening of inflation, particularly as it
comes in the wake of the formal adoption of an inflation-targeting regime, implies
both less room for interest rate cuts and the benefits of a stronger rupee. In its policy statement, the RBI was clearly wary of accepting the new GDP numbers,
which would have clinched the argument against further easing. But the inflation
numbers may have tilted the scales in that direction.

Policy on the hop?

Understanding what lay behind the Reserve Bank of Indias sudden
cut in interest rates
am quite certain that I am not the only marketwatcher who was flummoxed by the unexpected
cut in the repo rate a couple of days after the
Budget. However, I have been told that that I shouldnt really have been quite so surprised after all, the
Reserve Bank of India (RBI) had delivered an out-of
meeting cut a little over a month
ago on January 15 this year.
However, I still wonder what the
hurry was the bi-monthly monetary policy is due on April 7 and
the central bank could have waited
a month before announcing the
cut. Typically, a crisis either on the
interest-rate or the currency front
warrants such surprise moves.
The last time I checked I couldnt
seem to find one.
ABHEEK BARUA
I am not entirely happy with
this kind of reactive policy
response. For one, making policy
so literally data- or policy-dependent is an indirect
way of saying that the central bank doesnt have
much of a view on the medium term and is making
policy on the hop. This has the risk of undermining
the markets confidence in the central bank. It could
also breed unrealistic expectations about rate moves,
as the US Federal Reserve has begun to realise. Any
positive data release would breed unrealistic expectations of an RBI response leading to an uptick in the
markets. If the RBI does not deliver, it would cause
markets to sell off. This might mean undesirable
volatility in the markets.
The simplest explanation for this unanticipated
cut is that the RBI feels that it has fallen behind the

proverbial curve and has to make up for lost time by

tweaking rates between meetings. That hypothesis
isnt quite convincing since the central bank lost the
opportunity to move on rates in the February policy.
The other view on this is that the RBI wants to make
its actions a little too literally data- or policydependent. It wants to cut rates only
(but quickly) in response to more
information flow on the various preconditions it has laid down for softer
rates. In January, it cut the rate in
response to remarkably soft inflation.
The early March cut was ostensibly
in response to an improvement in the
quality of targeted expenditure, particularly the improvement in the ratio
of capital to revenue spending. This
could mean that unless new information comes along before them, the bimonthly policy statement will be more
of a forum for regulatory announcements than monetary policy announcements, and
cuts could happen anytime in between.
The third hypothesis doing the rounds is that there
is a complex game being played between the finance
ministry and the RBI. There are various structural
changes on the anvil that draws from the copious
Financial Sector Legislative Reforms Commission
(FSLRC) report. A number of them effectively dilute
the central banks regulatory powers. This has triggered a bargaining process in which the RBI manages
to retain some of its powers (control over the money
markets, for instance, that the Budget threatened to
take away) in exchange for a cut in rates.
I am not a great believer in conspiracy theories and

Cleaning up power
oal is an environmentalists bugbear. The use of coal to generate
energy is the key reason the
world is looking at a catastrophic
future because of climate change.
Recognising this, global civil society
has given a rousing call for coal
divestment, asking companies, universities and individuals to stop investment in coal thermal power plants.
They want coal to go, renewables to be
in. And in the interim, for clean gas,
also a fossil fuel, to be used as a bridge
fuel. In this scenario, any talk of
cleaning coal to make it less damaging is untenable.
This will not work for us in India.
We have a huge energy deficit, with
millions of households without power
for basic lighting or cooking. We have
to address access to energy as much
as the environmental problems of
unclean power. We need to push for
renewable energy not because we
can afford to do without coal, but
because this source of energy provides
us the option to leapfrog to decentralised and off-grid power. But equally, and perhaps even more important,
is to clean coal power, so that it does
not destroy the environment and take
human lives.
This is what my colleagues at the
Centre for Science and Environment
(CSE) have done. They have taken
apart quite literally the thermal
power sector in India and plant by
plant looked at what is the efficiency

historical canvas and those focused on

his daily life in Wasteland. There he
sleeps on a kang, a combination bed
and stove heated by burning rice husks;
uses a rudimentary outhouse and a
public bathhouse; and tries to adjust to
a place defined by what was absent,
with no local newspaper, no graveyards, no plaques, no library, no former
mansions or battlefields.
In Manchuria is the second book by
Mr Meyer, whose work has also
appeared in magazines and newspapers, including The New York Times.
His first was The Last Days of Old
Beijing, a well-received portrait of daily
life in an ancient section of the city that
is about to be razed in the run-up to the
2008 Olympics.
As a political and cultural centre of
21 million people, Beijing offers an
almost endless supply of fascinating
characters and historical details.
Wasteland, elevated to village status
only in 1956 and populated by a handful
of families, is a more difficult subject,

DOWN TO EARTH
SUNITA NARAIN
rate, the pollution load, the management of waste and the compliance with
environmental standards. Their findings, published in the report, Heat on
Power: Green rating of coal-based thermal power plants, concludes that our
plants are way behind the global best
in terms of performance.
More importantly, it speaks of the
dire crisis in the power sector in the
country, where the obsession is to
build more plants and not fix what is
clearly so completely broken the
supply of affordable power to all. Of
the 47 plants surveyed accounting
for roughly half the installed capacity
in India in 2012 only 12 had an efficiency higher than 36 per cent, which
touches Chinas average. The Indian
average, pulled down by dated technology and poor resource management, was a low 33 per cent.
Worse, the plant load factor has been

and Mr Meyer responds to that challenge with mixed results.

Applying a method that worked well
in Last Days, he has found colourful
locals to anchor his narrative, and capably captures the flavour of colloquial
Chinese. Two residents seem especially
noteworthy: the voluble Auntie Yi, a
retired Communist Party cadre and a
bit of a well-meaning snoop, and her
taciturn brother San Jiu, who is rendered as the quintessential Chinese
peasant, canny and deeply attuned to
the interrelated cycles of nature, weather and the cultivation of rice.
But when Mr Meyer turns to the
transformation of the Chinese countryside in recent decades, he is able to use
his experience in Wasteland to illuminate much larger trends. A commune in
its early years, the village is, by the time
he moves there, on its way to becoming
a company town, yoked to a privately
held enterprise called Eastern Fortune
Rice. Founded in the late 1990s by a former chauffeur of the village chief,

so I am going to get carried away with this so-called

political economy explanation of the central banks
behaviour. My sense is that the central bank has a
clear strategy of front-loading rate cuts into the first
half of the year. It then treads carefully in the second
half for a couple of reasons. The first (and it has stated this quite categorically in the statement accompanying the post-Budget cut) is that it expects inflation to perk up in the second half. A data-dependent
policy approach would, thus, tend to close the window for cuts.
The bigger risk is that the US Fed will hike rates
either in the middle or in the last quarter of the year
and as the markets get increasingly convinced of
this, money is likely to leave emerging market shores
and seek safe haven in the United States. If there is
pressure on the currency, the last thing a central bank
governor would want to do is to cut interest rates.
This leaves one question: if it indeed wants to
pack in rate cuts in the first half, why not cut rates in
the February policy? One possible reason: it has raised
too much of a stink in the past about fiscal irresponsibility to cut rates before at least doing a preliminary
review after the announcement of the Budget. Once
that was out of the way, it lost no time in cutting rates.
Going by this argument, my tea leaves certainly portend a cut in rates once or at best twice more in the
first half and then all goes quiet on the RBI front.
As I said earlier, I am not a big consumer of the
explanations based on the idea of quid pro quo
between North Block and Mint Street. But I do find
some of the structural changes in our monetary
and public debt management structure intriguing. We
often tend to fetishise the very notion of independence whatever its impact is. I think the idea of having an independent Public Debt Management Agency
(PDMA) is a clear case of fixing something when it
aint broke and actually ending up breaking something in the process.
We need to accept the fact that in our economy,
monetary policy has and will continue to be conducted in the presence of large central and state government borrowings. Intervention in the currency
market is imperative to ensure a certain degree of
competitiveness. The impact on domestic liquidity
has to be managed, and the timing and size of government borrowings can be an important tool in
this. The RBI has done a commendable job in doing
this. It has also handled state government borrowings
(whose fate under the new PDMA remains uncertain) deftly in sync with central government borrowings. In short, any new agency will have to coordinate with the RBI almost on a real-time basis to do
its job efficiently. Does it not make sense then to
leave the RBI with this remit instead of adding another tier of bureaucracy?
The writer is chief economist, HDFC Bank

declining in the past few years, going found that most plants either contract
down to a low of 65 per cent in 2013-14, out pollution monitoring to third-paras compared to 79 per cent in 2007-08. ty laboratories or have set up online
This clearly speaks of the mismatch emission-monitoring systems. But in
between demand and supply, as state both cases data are poor and systems
electricity companies struggle to buy unaudited. This is particularly imporpower, even cheap power. This then tant because no pollution board has
affects the carbon dioxide (CO2) emis- the capacity (or authority) to shut
down a power plant for
sions from the plants.
obvious reasons.
Indias average was 1.08 A clean-up is
The biggest issue is
tonnes of CO2 a megawatt- essential. But for
hour (Mwh), 45 per cent this, Indias power
gainful use of fly ash, since
higher than the global sector must also come Indias coal is of poor qualbest and 14 per cent high- clean. Companies
ity. For every tonne of coal
er than Chinas average. need to voluntarily
burnt, 35-40 per cent is
Clearly, a huge opportu- share data. It was
generated as waste. Just
nity for India is to improve Indias largest power consider the scale of this
efficiency and to replace generator, NTPC, that
problem: over 40 per cent
its existing stock of plants refused public
land area of power plants
not build new ones scrutiny
is used to dump ash. Over
with best technology.
one billion tonnes of ash
This is not the only challenge. The are lying unused today and to this over
fact is that power plants pollute air, 160 million tonnes are added each
consume water and dump huge quan- year. Everything we have done till date,
tities of waste, namely fly ash. Indian including specifying the use of ash in
plants have a long way to go to clean up cement manufacturing and bricks, is
this mess. This is not a small matter. not making a dent in the gargantuan
My colleagues have estimated that this pile of muck.
sector alone is responsible for 70 per
So a clean-up is essential. But for this,
cent of the total freshwater withdraw- Indias power sector must also come
al by all industries; over 60 per cent of clean. The CSE project requires compathe particulate matter emissions; 50 nies to voluntarily share data. It was
per cent of sulphur-dioxide emissions Indias largest power generator, National
and more than 80 per cent of mercury Thermal Power Corporation (NTPC),
emissions. So if we clean up this sector, that refused public scrutiny. This will
we make huge gains in moderating not build a cleaner future. Ultimately,
pollution from Indias industrial sector. this is the real agenda for reform.
Doing this requires first setting
standards that are stringent and usher The writer is at the Centre for Science and
in best technology and management, Environment
and then ensuring that monitoring is [email protected]
rigorous and verifiable. The CSE has Twitter: @sunitanar

Eastern Fortune grows so rapidly that

when Mr Meyer arrived in Wasteland, it
is urging perhaps pushing is the better word peasants to give up their land
and homes and move into the modern
apartment buildings going up near its
processing plant. By the end of the
book, Eastern Fortunes managers are
even talking about renaming the village
after the company.
This clearly has the support of
Chinas Communist Party leaders. You
have to understand, this will be a
nationwide trend, the companys general manager tells Mr Meyer in between
visits from top officials. It cant be
stopped. [Chinese president] Xi Jinping
has made developing the countryside
his administrations priority.
Mr Meyer also has a knack for noticing amusingly incongruous details, and
he employs that talent to full effect to
convey the contradictions of contemporary China. He sips a cup of Marxism
brand instant coffee (Gods Favored
Coffee! the package promised in

English); notes that Harbin is a city

with a Walmart bordering Stalin Park;
and, at winters peak, observes peasant
girls who belted out Lady Gaga songs
as they watched a basketball game in a
frozen schoolyard, tethered together
with shared MP3 earbuds.
After a year in Wasteland, Mr Meyer
was ready to move on, and he now
divides his time between Singapore and
Pittsburgh, where he teaches non-fiction writing. But his interlude in
Manchuria clearly taught him many
lessons, perhaps the most fundamental
being this: The countryside was
romantic only to people who didnt
have to live there.
The New York Times News Service 2015

IN MANCHURIA
A Village Called Wasteland and the
Transformation of Rural China
Michael Meyer
Bloomsbury; 365 pages; $28