Tuesday, 22 December 2009

Who can you trust now ?

Conventional wisdom has been that a sovereign guarantee is the best form of security you can have when you lend money. You can be pretty much sure that your money is safe if you buy government debt. Doesn’t matter which government, if you leave aside rogue states like North Korea or Myanmar. Conventional wisdom that is.

That was before the financial crisis. As the crisis spread, Iceland was the first country to go virtually bankrupt. When that happened, it was viewed as an isolated instance of an insignificant country that didn’t matter.

Then came Dubai. Well technically, not Dubai the Emirate, but Dubai World, the company. But then in that part of the world, it’s the same thing. Didn’t people see it coming ? – virtually anybody who’s been to Dubai would know that it was a place gone financially crazy. Of course, everybody knew that. But then everybody expected that Abu Dhabi, the oil rich emirate would always stand by Dubai. That was the mistake. The really startling thing about the Dubai crisis, is that there’s stony silence from Abu Dhabi.

Lenders have woken up and are now no longer sure about government debt. The country under the spotlight is now Greece. This is serious, for Greece is in the Euro zone. For years Greece has had irresponsible governments. The commitment made to join the Euro was that. its deficit would be no more than 3% of GDP – instead Greece runs at above 12% of GDP. Lenders always assumed that since it was in the Euro area, “Europe” (read Germany) would bail them out if it came to a default. Now, after the Dubai experience, not so sure. Rating agencies have fallen over themselves to cut Greece’s credit rating. Interest rates have soared. Greece needs to borrow a large amount in the first half of 2010 just to keep the government going – pay salaries and all that. There’s now real uncertainty whether their debt issue would be taken up.

There’s a lesson here for India. Not just that India must rein in its deficit – that’s repeated ad nauseum and as long as there are a few responsible ministers and bureaucrats in the Central government, we are OK. The lesson is for the States.

Every State government in India is virtually bankrupt. It’s a crying shame that the richest state in India, Maharashtra, is the worst offender. Unlike the Centre, State governments are completely irresponsible and fall over each other to loot the Treasury. The quality of leadership in the States is abysmal, irrespective of which party is in power. Every single minister in every single state would flunk Economics 101.

State Governments survive by issuing debt. The RBI and the Central government exercise control by regulating this, but state governments are masters in resorting to brinksmanship. Nobody would buy state government debt, but for the fact that it is backed by the Central government. The guarantee of the Government of India still stands for something.

So here’s the thought. The Central Government must withdraw the sovereign guarantee for state government debts. Automatically state governments would be forced to become fiscally responsible. Actually the Centre doesn’t even need to do that. They just have to deny a rumour that they may withdraw the guarantee. That’s enough. The markets would do the rest !


Half Indian said...

Brilliant, penetrating. Like your point of view.
Wish you have a Merry Christmas and Wonderful New Year.

Ramesh said...

Thanks Dave. Merry Christmas and New Year

Savitha said...

Is anybody in the central/state govt listening?
For the mismanagement of a few, the fate of the entire country is held at stake? Now, who should we trust??

Ramesh said...

@Savitha - Its unfortunately the mismanagement of many at the State level. A shining exception is Gujarat - whatever be your views on the politics of Modi, you cannot fault the outstanding acievement of administration - its one of the few well governed states in India now.

Srivats said...

I am quite suprised by this. If they are 1 percent as clever as you India would have been much better place to live in

Deepa said...

A very informative post. You are quite right about Gujarat in your comment above. I personally even appreciate their enforcement of compulsory voting for local body polls recently.

Coming back to the post. The States in India are indeed run by a bunch of ignorant ruffians (except in Maharashtra where they are not ignorant, just plain ruffians). Your last two lines, just made me smile at their ingenuity.

Ramesh said...

@Sri - Oh you are far too kind with your comment :)

@Deepa - Its a real pity how the states are run. The clamour for smaller states is just more ruffians wanting to get on to the gravy train. Its far better for India to adopt a highly centralised governance.

VA said...

Once again, brilliant point of view!

It is a very sad part how poorly states are run. There are inefficiencies at every step of governance particularly states which are in bottom five. This reminds of latest passion of one of our Chief Ministers - spending billions of rupees in building and embellishing entire state with the statues of her political guru. I wonder how states get money to do such activities and no one questions it. Though, Supreme Court has taken some preventive actions quite quickly in this case.

kiwibloke said...

Nice post. I must draw your attention to a bunch of clowns headed by some semi literate moron who has 'written' a report about how abysmally bad the Bangalore Airport (new) one has been constructed, recommending the blacklistng of L&T, Siemens and Zurich Flughafen for 5 years from executing any project in the glorious state where Bangalore is. (Personally L&T and Siemens are any engineers dream organization in India!) These are the b@5^@&ds who bankrupt state governments. The other notables indicated in this report as who 'failed' the state are NRN of Infy and Chandrasekar of BPL. Blood boils when we are ruled by such morons.
PS: Our "progressive" leaders have managed to keep a road over rail bridge (spanning all of 83 meters!) as work in progress for 5 years in whitefield!

Ramesh said...

@VA - Thanks. The less said about Behenji, the better. But then that's the consequence of the democracy we have chosen - if we elect such people, we deserve them !!

@kiwi - Yes, I saw that report too. Its amazing how the hellhole called HAL airport, is suddenly a favourite. Unfortunately, our governing class at the states has become abysmal.

Sabareesan said...

Thanks for the wonderful post, it was really engrossing, including the comments from others, we seem to have become a very tolerant generation. We need activism

Ramesh said...

@Sabareesan - Thanks. Yes we need activism but the constructive kind - Not the destructive kind, like the Telangana issue that seems to be rocking the nation.

Sandhya Sriram said...

Had been in khandala this week. every day, the paper was publishing articles on how irresponsible pune municipal corporation was and that they are dumping toxic untreated leachate into open pits in villages outside Pune. there were some notices to PMC etc but not action. then the villagers decided to take it on them, they blocked and returned every PMC vehicle entering their village lead by a social activist.

awareness and direction is the key. there is enough heat in the indian blood to make things happen. the media can actually play a big role in this. but there is no incentive neither to media nor to the activist in driving such mundane non GRP intensive issues and that why we are where we are.

Ramesh said...

@sandhya - yes, there is enough activism in India ; on the more visible and readily understood things. Alas economics is not like that

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