Dubai's Debt

The global market is rattled by the debt crisis of Dubai. So what happened and what are the consequences? Dubai, a city-state, is one of the emirates of the United Arab Emirates. Dubai does not have oil like that of the other emirates and hence followed on a principle of making Dubai a middle-eastern Las Vegas. The Dubai government followed the idea of making Dubai a financial hub and a high-class tourism center in the oil-rich region. One of the steps followed by the Dubai government to achieve this was to set up an investment firm, "Dubai World", which raised capital through foreign investors who saw the potential of Dubai and its grand ideas in the oil rich region. This idea actually worked out pretty well and the evidence of this is the skyscrapers and the business activities that go into these buildings. Dubai, as it planned, became a famous tourist destination for wealthy westerners and others. And as Dubai World appeared to become successful, it played a key role in many development projects in both developed and developing economies.
But when the credit crisis struck last year, I was expecting Dubai to be one of the first state to get severely hurt. Dubai has always planned its grand ideas through foreign money and I was expecting the foreign money to dry up in a rapid pace than what appears to have actually happened. As of this date, Dubai has an external debt of 103% of GDP. Dubai has around $80 billion in loan and Dubai World which is a government subsidiary has $59 billion in liabilities that it owes to its lenders. And Dubai World has asked the lenders to agree to a standstill agreement which would allow Dubai World, which is in the process of re-structuring itself, to delay its loan payments to its creditors. This has shocked the world market and we are waiting for a more appropriate response from the markets this week which were in a holiday week. I am very confident that Abu Dhabi, which is an oil rich emirate, would bail out Dubai and would keep Dubai running. But the handling of this debt crisis by the Dubai government has made me think if the foreign investors would still think Dubai to be a safer investment place. And this comes at a very bad time for the global economy. There is already a severe credit-crunch in the world and this debt situation only worsens the credit and money flow in the economies.
We still don't have a very clear idea about the exposure of Asian and Western banks to Dubai. I am especially worried about the Asian banks exposure because with credit flow remaining worse in the western economies, its the Asian customers and businesses who are expected to pull the world out of global recession. Especially through exports to the Asian countries, I expect a pick up in credit flow to western businesses by western financial companies since I feel that the western governments have not done everything that they should have done to increase demand and credit flow.
As of now, we have the data of exposure of the following banks to Dubai: RBS - arranged $2.3 billion in loans for the Dubai World. HSBC - has the largest exposure in UAE with around $17 billion of loans in just 2008. Abu Dhabi Commercial bank, PJSC, which is a lender and a book runner, has around $1.9 billion exposure. British banks have a combined $49.5 billions of loan outstanding in UAE. Bank of Baroda, an Indian bank with state support has around $1 billion of exposure in the region.
If more Asian banks reveal their exposure in the coming days, then this would cause a run in Asian investments by foreign investors. This would severely hurt developing economies although the pain might look less severe at the beginning. Asian banks and financial institutions trying to raise capital for a variety of Asian acquisitions of foreign firms, which is very essential for a strong demand and credit flow, will be hurt and this might cause a slump in the already weak global economy and prevent various successful implementations of much needed programs, like the UN food aid program which is already in a worse situation due to the global economic crisis.
I sincerely hope that Abu Dhabi comes with enough money in its pocket to bring a confidence in the minds of global investors on Dubai and this rescue of Dubai should definitely be done in a grand manner, by which i mean that investors get the confidence back on Dubai. This should also be done at a very short time-frame without dragging the rescue process, if one is needed.
Dubai has built sufficient infrastructure for it to continue as same old Dubai if it somehow becomes successful in getting confidence into the global investors' minds and keeps foreign money flowing into it.

China's Economy and the Yuan

There has been so much talk about China's rising economy and its "yuan" policies. International pressures are building up on China to allow its currency, yuan, to appreciate. But to understand why China is fighting back and not allowing its currency to appreciate, we must look into the fundamentals of the Chinese economy. China is a low-wage country with abundant supply of cheap labor. Due to the opening up of China's economy and availability of cheap labor, there is a huge capital inflow into China. One of the main reasons for this buoyant flow of capital investment in China is because the yuan is pegged to US dollar. It was literally pegged to US dollar until a few years back (1US$ = 7.6yuan). After heavy pressures from international community, particularly the US, China allowed its currency to float although tightly managed against a basket of currencies. And "tightly managed" here means that China interferes heavily in the currency market to keep its currency's exchange rate with US dollar almost constant which stays around 1$ = 6.8 yuan.

It is important to note that during the enormous growth of the Chinese economy in the past decade, the Chinese domestic consumption has decreased from 45% to 35% of the GDP. During the last decade or so, the Chinese economy grew on two major factors - exports and government spending. The Chinese state heavily invests in fixed assets and capital infrastructure thereby providing a conducive atmosphere for export-oriented industries which in-turn combined with its currency pegging policy and cheap labor attract huge amounts of FDI, mostly in the form of capital investment.

The export-oriented manufacturing plants that blossom up due to this heavy capital investment and incentives by the Chinese state act as a major source of job creation. Due to the lack of proper social safety net in China, a major portion of the income earned through these jobs by the Chinese individuals get saved in the state-run banks. It is also important to note that many industries including the ones that require heavy investment and man-power are run by the government. The banks then lend, under the orders of the government, to these state-run industries and export-oriented industries which in-turn create more jobs which in-turn increases the savings rate of the country.

But the point here is - with so many state run enterprises, a major portion of the banks' loans go out to these state run industries thereby crowding out private industries and entrepreneurs. Due to this crowding out of private sector I strongly believe that innovation in and from China will be less than what is needed and what is possible. So, without innovation and competition, no quality jobs will be created. Without quality jobs it will be very difficult to sustain the Chinese economy on the long run. With consumer spending remaining so low, this only adds up to troubles of achieving a sustainable and inclusive growth.

For any innovation/research, a strong yuan will be needed. A strong yuan can help in acquiring high end technology from the international markets to the Chinese business industries and would help keep input costs cheap which will facilitate greater innovation to come out of China. But any increase of Chinese yuan relative to the US dollar or any other major currencies will severely affect the cycle of money flow in the Chinese economy. This is because domestic consumption in China contributes very little to its GDP and exports are the only major driver of growth for which the yuan has to be kept weak. But if yuan remains weak, then there is a question on sustainable high quality growth in the Chinese economy.

So the foremost point for China is to increase domestic consumption through proper social safety net programs and investment in vital areas such as rural health and education . And when the domestic consumption becomes a considerable number in the GDP calculation, China has to allow its currency to appreciate. A stronger yuan will have better purchasing power which will in-turn kick start the cycle of more domestic consumption, better innovation, entrepreneurship, quality jobs and sustainable economy. This can be better achieved if more competition is allowed within Chinese people for which the government has to liberalize its economy further which would mean that the Chinese state loosen its iron-grip on the business activity of the country and transform from a model of state-led capitalism to a more people oriented free market economy. Will this happen? We wish.

Cookie 1 : Telecom companies' tie-up talks collapse

Cookie 1 : As per the recent news, India's largest cell-phone service provider Bharti Telecom and South Africa's largest telecommunications company MTN failed to reach an agreement that would have resulted in a tie-up and eventually a full-blown merger which would have resulted in around 200 million subscribers coming under the administration and service of a single-entity.

This was a $26 billion cash & stock deal with Bharti taking 49% stake in MTN and MTN getting a 36% economic interest in Bharti. The deal collapsed not because of the companies, which are private and are owned by private shareholders but because of the related Governments. The Govt of South Africa wanted a dual listing - to have MTN listed in Johannesburg even after this deal. But Indian laws prohibit its companies to get dual listed. And to get dual listed, the Indian currency(Rupee) has to be fully convertible. As of now, there is no provision for a capital account convertibility of the Rupee. Potential discrepancies on various other factors like information disclosure rules etc.. were also pointed out by the Indian Govt for not allowing the company to dual list.

BTW, its said, that if this deal had gone through this would have been the biggest FDI in South Africa. But the shareholders of both companies were happy for the collapse of this deal. From Bharti's stand point, the shareholders say that this would have moved away a lot of cash from the company and from MTN point of view, the shareholders say that Bharti's per share offer was very low than the actual market value.

India's food crisis

Case 1:

Lets take this case for our study. Currently( in year 2009), India faced deficient monsoon rains. India is an agrarian economy with 50-70% of the population depending on farming or agriculture-related work. Agriculture and agriculture related work contribute to about 18% of India's GDP. Most Indian farmers live below the poverty line (earning less than $2 a day). Majority of the Indian farmers largely rely on monsoon rains for farming since there are no adequate irrigation facilities. Only very few states of India have sufficient irrigation facilities. So, with the monsoon rains failing this year (well below the normal level - around 40% less than the normal in certain states and around 26% less than normal in many other states), India has declared many districts as drought-hit districts. It is expected that this failure in monsoons will bring food-scarcity in India (India has a population of around 1.1 billion). Thus the demand for food products is about to go up, which would drive up the food prices, thereby causing inflation. The Indian Govt says that there is adequate food storage available but it has to be wait and seen to know if the storage will be really sufficient.

A special point to note here is the commodity "Sugar". India is the largest consumer of sugar in the world (remember Indian sweets :) ) and I think is the largest producer and exporter of sugar too (not sure though). But this year, with the sugarcane crops failing due to poor monsoon rains, the supply of sugar is going to go down, and hence the price of the sugar is going to shoot up (because the Indian Govt will be buying sugar in the international markets to meets its domestic demand and will hence bid up the prices due to a tight supply in sugar in international markets while the demand remains strong).

Ok, so coming to our case-study, the Reserve Bank of India(RBI) (India's Central bank) has warned the Govt of short-term(due to increase in prices of food products) to mid-term inflation(due to increase in food prices + reduced interest rates and other monetary easing) and has therefore recommended to the the Govt (basically hinted) that it would like to cut back the monetary easing and bring up the interest rates (the interest rates were brought down as a response to the global financial crisis, to increase credit flow and demand) soon before its too late.

So, what do you think about the RBI's recommendation. When I can understand that recommendation to cut back the monetary-easing stance is to reduce inflation, will this not slow down growth in the one of the fastest growing economies of the world? Will this not be counter-productive to the very poor farmers that the Govt is actually trying to help? Will this recommendation, if implemented, not be counter-productive to the growing middle-class in India (whom the world is partially depending upon to pull many economies in the world from recession)? Will this in turn not reduce the FDI flow to India which will worsen the already bad physical-infrastructure in India?

But if you say, that the interest rates should be kept low for a longer period of time, then will this not push up inflation further as the RBI had pointed out (like adding fuel to fire)?

So, what are your suggestions in this scenario that India is currently facing?

Indo-Global Economy

As a person passionate about business and International Economics (and welfare of the planet as whole), I am writing this blog to put my thoughts on various issues and scenarios concerning the global economy today. But here is a disclaimer: I am not an economist. But here is another disclaimer: I closely follow and interested in knowing and analyzing the various opportunities and challenges that we as humans face today in the world's economy and how we can improve it as an individual, family, society, nation and world's citizens.