The Indian Rupee Crunch....(6) - Task Force Report

The summary of the recommendations of the Task Force on Balance of Payments with India and the Rupee Shortage (and my comments) are presented below:

MONETARY

Immediate measures:

i.                   Review the reserve requirements for banks: Royal Monetary Authority (RMA) to review cash reserve ratio (CRR) and statutory liquidity ratio (SLR) and introduce other demand management measures to control credit.

(Routine job of RMA. RMA should be more accountable to fulfil its responsibilities.)

ii.             Enhancement of Government of India (GoI) line of credit:  Government to enhance GoI line of credit from INR 3 billion to INR10 billion at 5% interest.

(Interest rate is more attractive than SBI overdraft rates.  The credit utilization should be justified with proper rates of return.)

iii.             Rupee currency SWAP arrangement with India:  Government to seek additional support through bilateral local currency SWAP with India for balance of payment (BoP) deficits, as an interim measure.

(An interim measure, so we should not rely heavily on it.)

iv.           Institution of annual Rupee management plan:  RMA to submit convertible currency (CC) and Rupee reserve management plan to the Government, in collaboration with the Ministry of Finance and related stakeholders.

(Isn’t it routine job of RMA? RMA should be more accountable to fulfil its responsibilities.)

v.            Surveillance over the financial sector and its credit expansion: RMA to exercise its authority and take measures to discourage excessive lending to non-productive and highly-exposed sectors through appropriate policy interventions and imposition of more stringent provisions.

(Should have been routine job of RMA. RMA should be more accountable to fulfil its responsibilities.)

vi.           Streamlining access to and use of Indian Rupees: RMA to establish Rupee exchange counters along border towns and main commercial hubs to monitor the outflow of Rupee and for converting local currency to Rupee subject to certain limits.

(This should follow steps of item vii below)

vii.          Exchange restriction: Indian Rupee to be treated as an essential reserve currency and managed (both on the demand and supply fronts) in line with regulations and exchange restrictions framed and enforced by RMA.

(INR exchange rate restriction should be more strategic and step-by-step approach, not to carry out on an adhoc end-to-end basis.)

viii.         Base rate and policy rate: RMA to introduce a system of base rate and policy rate for the financial sector as part of its monetary tool to manage and influence domestic credit growth.

(Aren’t  all central banks suppose to do this? It should be the responsibility of RMA.)

ix.           Enforcement of Bhutan’s foreign exchange regulations to close bank accounts of non-residents at border towns:

 (Recommendation is based on intuition that bank accounts of non-resident Indian businessmen in Bhutanese banks contributed to large Rupee outflows.  It lacks in-depth analysis and correlation with practices of business fronting, tax evasion, illegal authentication, taking advantage of other loopholes at all levels of economy, and black/grey money deposits.)

x.             Promote the use of electronic means of payment:  Use  electronic payments  to allow efficient monitoring and save costs.

(All efficiency enhancing measures should be implemented.)

xi.            Ring-fence adequate Rupee reserve for Rupee debt service.

(Recommendation vague. Efficiency enhancing measures should be implemented )

xii.          RMA to review the annual Government budget size and provide opinion to the Ministry of Finance.

(Very close overall coordination between the Government and RMA is imperative, including for review of annual budget.)

xiii.         Improving surveillance of Rupee flows: promote transparency and informed decision making:. Carry out  in coordination with Department of Trade and Department of Revenue & Customs (DRC) the monitoring of export proceeds and import payments in BoP with India to track the actual flow of Rupees.

(RMA should keep close track of export proceeds and import payments with India.)

FISCAL

Immediate measures - Taxation:

i.              Impose a green tax on vehicle imports: recommended  40% green tax on all vehicle imports.

(The blanket tax increase recommendation looks purely for discouraging indiscriminate vehicle import. Heavy tax on import of vehicles has mostly negative impact on economy because of  high vehicle operation cost through the use of old vehicles, e.g., Singapore discourages using old vehicles by imposing heavy tax on old vehicles. Rather than taxing, positive approach of streamlining import policies and procedures is better option.)

ii.             Levy Customs Duty and Sales Tax on the import of heavy earth moving equipment: recommended to be brought under the tax bracket. 

(This will act as disincentive to construction industry and not in line with developing domestic contractors. The system may be strengthened rather than levying tax.)

iii.            Impose a green tax on fuel imports: recommended that a green tax of 5%, equivalent to the current sales tax on fuel imports be levied.

(The strategy should be saving fuel through vehicle operation cost reduction, rather than raising tax on fuel. The fuel cost is already very high. Further fuel cost raise will increase the transport costs of goods and services.)

iv.           DRC to identify and propose new taxes (including capital gains tax) and rationalize existing rates including the zero rated items; and

(Careful identification without heavy impact on longer term strategic goals may be beneficial to the country.)

v.            Ministry of Finance to consider shifting the levy of sales tax on vehicles from Point of Entry to Point of Sale.

(This will further increase the cost of vehicles in addition to the taxes proposed above. This will be counter-productive to the economy for the reason mentioned above.)

GOVERNMENT EXPENDITURE

Immediate measures:

i.              Review implementation of FY 2011/12 budget. Government agencies not to initiate new works that are yet to be initiated in this FY;

(Adjustments on  FY 2011-12 budget not possible at this stage, if not already done. )

ii.             To minimize the Rupee pressure, non-priority activities including those that have no socio-economic benefits to be eliminated in the FY 2012-13 budget.

(Budget preparation and review procedures to be strengthen. Why should non-priority items that do not contribute to strategic goals be included in the budget?)

iii.            Revise debt service schedule for GoI loans for hydropower development as most of the loan repayments (maximum 2.8 billion) falls due in every January and to include such debt servicing schedules in all future loan agreements.

(Pros & cons of rescheduling debt may be analyzed first.)

iv.            External borrowings should be strictly for investment purposes.

(This should be strictly followed.)

v.             No agency should propose and no consideration should be given for enhancement of allowances and service benefits.

(Indefinitely? Time period for such freeze needs to be indicated.)

vi.            Ministry of Finance (MoF)  to issue directives to government corporations not to hold board/management meetings outside Bhutan and not sponsor sporting events out of corporate funds.

(Indefinitely? Time period for such freeze needs to be indicated.)

Medium term measures:

i.              Deficit if any to be met through domestic borrowings in the form of ways and means account or issuance of T-Bills and to maintain fiscal deficit at not more than an average of 3% of GDP during each FYP period.

(Domestic borrowing to meet fiscal deficit can ease INR pressure. More innovative the means better it is.)

ii.             Currently, debt policy and strategy is to ensure that loans are availed at the lowest cost with maximum social and economic returns and to maintain debt at internationally accepted thresholds. This is important to be continued and constantly monitored.

(Debt policy and strategy need to be diversified and strengthened. International Monetary Fund (IMF) pointed out that indicative debt thresholds are often breached. Specific attention has to be given not to breach the debt indicators.)

iii.             Strengthen debt management capacity

(Debt management capacity seems weak. Mobilize strong staff team and acquire debt management tools to give better and timely analysis on debt and debt issues.)

iv.           Time schedule for GoI fund (grant) releases: Timely release of GoI project-tied grants and SDP funds will help financial planning and project scheduling.

(MoF and GNHC should work on a time schedule and agree with GoI.)

v.            Explore the possibility of issuing Indian Rupee bonds for mega projects.

(Issuance of bonds for selected projects to attract private investment from India is a good idea. It may be difficult to attract private funds without improving corporate governance.)

TRADE

Immediate measures:

i.              Third country imports:  MoF, Ministry of Economic Affairs (MoEA) and RMA should coordinate and put in place an effective import license system, to take care of proper hard currency transactions.)

(We should take more liberal approach to  third country imports as long as the imports are within affordable limits.)

ii.              Software exports

(Department of Trade has stopped issuing certificate of origin. So it is non-issue.)

iii.            Balance of trade projections

(Preparation and projection of balance of trade with India should be given priority and regular job of the Department of Trade.)

Medium-term measures:

i.              Enforce value addition criteria: All industries must meet the national value addition criteria of 40%.

(Review value addition percentage properly and once established, enforce it stringently.)

ii.             Streamlining distribution of goods and services:  The distribution of goods and services to be streamlined and organized so that Bhutanese traders deal directly with principle companies in India and other countries or deal with the main national or regional dealers.

(Streamline government regulations, policies and procedures; and strengthen supply-chain, inventory management and control systems for import of goods and services from India and abroad.)

iii.             Attracting Indian tourists: develop strategies to attract high-end and middle income Indian tourists to the country.

(Attract Indian tourists by competing with other hill stations, Darjeeling, Simla, Ooty, Kathmandu and others.)

Long-term measures:

Encourage industries that can substitute imports as well as has the potential to promote growth in exports as follows:

(Isn’t it asking for too much? If we have strong exports, we should not be too concern about import substitution.)

i.              Promote the use of local building materials:  substitution by local materials. 

(Easier said than done. We should not depend too much on it.)

ii.             Promote sustainable and efficient use of forest resources:

(Isn’t this being done already?)

iii.            Import substitution must be encouraged through the liberalization of policies for manufacturing industries.

(An in-ward looking approach! More emphasis should be given on export earning industries than import substitution enterprises.)

iv.            Ministry of Agriculture and Forests and related stakeholders should consider building simple cold storage based on air-cooling systems on high passes to store agricultural goods for sale during the off-season.

(Is it feasible and cost effective solution? I have my doubt.)

OTHER RECOMMENDATIONS

Corporations to maintain separate CC and Rupee accounts.

(Corporations may keep separate accounts but monitoring of INR and other foreign exchange transactions should be the responsibility of RMA.)

Debt swap for Dungsum Cement (DCCL) : MoF and Druk Holding and Investments (DHI) should study the prospect of converting  INR 2 billion loan from State Bank of India Capital into Rupee bonds, given the huge cost of borrowing under the present arrangement.

(Isn’t this the responsibility of DHI to mobilize most cost-effective financial resources for DCCL? DHI should be made more accountable. )

Consider abolishing tax-free vehicle quota system.

(Quota system has been counter-productive. Introduce more effective incentive  to government staff.)

Government Vehicles:

(The proper management of government pool vehicles is always an issue in most countries. An efficient system can be devised if sincere efforts are made.)

Private education:

There is an urgent need for the Ministry of Education (MoE) to facilitate the development of private tertiary colleges in Bhutan.  Work on starting at least 2-3 such colleges should be started immediately.

(The establishment of private colleges are governed by the demand for such colleges. People should have the options for quality education both within and outside the country. )

Statistics:

On BoP and related matters, there is a need for National Statistics Bureau (NSB) to have data updated and published on a regular basis.

(A recommendation for an agency not doing its job? NSB should be made more accountable.)

Medium-term fiscal framework:

The MoF had established a high level macro-economic framework coordination committee (MFCC) and later this requirement was also prescribed in the Public Finance Act 2007. It has members from the key agencies like RMA, MoEA, GNHC, MoF, NSB and a few others. In view of the recent developments, the need for representation at the highest levels from these agencies in the MFCC through a reconstitution of the Committee is important. MoF should also seek the support of the International Monetary Fund (IMF) in getting a resident expert to assist in further improvement of the framework.

(The recommendation is dubious.  MoF should seek IMF support in preparing medium-term fiscal framework.)

First, we should learn from the experience that import-driven internal consumption-based growth model is not very conducive to a small land-locked country like Bhutan. Economists should be able to analyze better! The sound strategy for us should be to strongly support production base for export of goods and services, and improve balance of payment. Since the economic growth model determine the investment/expenditure pattern, a slow shift towards export-led growth model (from current import driven economy, characterized by high credit growth and internal and external imbalances) is highly desirable. So the medium/longer-term measures should take full cognisance of such strategy. No such depth is reflected in above recommendations.

We are too used to taking unidirectional solution to the economic problems without even looking into diversified options. So, how do you know what the trend is? For instance, while China is starting to lose its attractiveness  in ready-made garments (RMG) markets (also because of their focus on internal consumption to boost economic growth), Bangladesh  is expected to be the next hot spot for RMG. With about $15 billion in exports in 2010, RMG is the Bangladesh’s  most important industrial sector (representing  13 percent of GDP and more than 75 percent of total exports). The forecast is to export-value growth of 7 to 9 percent annually within the next ten years, so the market will double by 2015 and nearly triple by 2020. Bangladesh does not even produce RMG raw materials. They outsource from India and China. That’s called creating your own niche! (see http://sangpatamang4.blogspot.com/2012/03/bangladesh-next-hot-spot-in-apparel.html)     To compete with outside world, the country has to have ‘levelled playing field’. Has our thought process for last 30 years gone beyond hydropower projects and traditional in-ward attitude bogged down with display of superficial skills with no/little substance? The outcomes speak for itself !

Second, in trying to find solution to INR crunch, the Task Force has essentially focused on immediate measures in financial sectors, and included no substantive recommendations on longer-term scale that reflect future development perspective and foresight. For instance, investment in road infrastructure is one of the best approaches to saving costs. Both China and India have been investing heavily on road infrastructure to cut down their vehicle operation costs. Most of road infrastructure in Bhutan is breaking to the levels which are beyond routine/periodic maintenance norms. Should the road infrastructure be improved to appropriate level of road roughness index and other technical standards, the annual saving in vehicle operation costs (fuel, repair and maintenance costs) will amount to billions of rupees, without accounting time savings and other efficiency gain. This requires obviously sector foresight and strong organizational capacity. Similar sector-specific cost savings approaches will have significant contribution to the economy.

Third, the above recommendations have highlighted the fact that the department/Authority/Agency concerned  are not fulfilling their direct responsibilities effectively and there are gross imbalances in terms POWER,  AUTHORITY, RESPONSIBILITY and ACCOUNTABILITY in these organizations. Looking at the above recommendations, I wonder if the RMA is fulfilling its primary and secondary objectives as stipulated in Royal Monetary Authority Act of Bhutan 2010 [see The Indian Rupee Crunch..........(2) for RMA’s objectives.]

Fourth, in early April 2012 it was reported that the Government borrowed INR 9.7 billion [GoI standby credit of  INR 3 billion at 5% per annum interest and from State Bank of India (SBI) overdraft (OD) facility INR 6.7 billion (against the limit of INR 10 billion) at 10% per annum].  In addition on 13 April 2011, Bhutan received INR 1.62 billion Indian grant for development projects under 10th plan. 

Now it is reported that RMA has borrowed INR 2 billion from Punjab National Bank (PNB) at 10.5% interest because overdraft facility extended by SBI reached its limit of INR 10 billion last week (18 May 2012). The credit from PNB will replenish domestic banks with INR. It only means that in about slightly more than a month, an amount of INR 14.62 (3+10+1.62) billion has been used. The INR 14.62 billion is more than 20% of GDP and may not have been used for any plausible purpose except to clear old liabilities. Is this an effort to support BTN in the face of a financial overextension that is driven by past (in)actions including investment in real estate? Time will tell us.

The RMA borrowing INR 2 billion from PNB is an issue, but more than this, the biggest issue that is of concern is INR inflow into the system and debt sustainability. As I said earlier debt can make a country effectively bankrupt. The Task Force seems to have not done detailed review of the country’s debt situation, an issue I consider the most critical in the current situation.

And finally, will implementation of above measures strengthen both public and private sectors and lead the country to the path of easing INR balance of payments in mid/longer-term?  How comfortable are you as regards these? Be your own judge!

continuation under June.....................The Indian Rupee Crunch..........(7) 

The full report of the Task Force is available online since 11 May 2012 at
http://www.cabinet.gov.bt/rp/Task%20Force%20Report%20%20-%2011%20May%202012.pdf

The Indian Rupee Crunch..........(5)

The field of development fascinates many, in both depth and dimension from the perspectives of critical infrastructure, human capital, environmental sustainability, social inclusion, health, safety, literacy, regional/national competitiveness and others. The understanding is from as simple as feeder road construction with specific justification in the back-seat to a complex situation whereby one tries to catch-up with other -- nationally, regionally and even internationally -- looking into new prospects, untapped potentials, and even missed opportunities. More simpler the understanding of it, the lesser the chances of doing well! In my view, casual oversimplification dilutes innovative drive as well as development accountability. I am now wondering if we are suffering from this syndrome. Let me go on why it is this way.

Following the trend is creating value while herd-mentality is chasing profit. Former needs tracking “open interest” over a long period to detect subtle patterns and creating one’s worth, be it of a country or an individual. You create your niche and try and excel in it. "Those guys" don't put flashing neons for you to see in broad day light which will enable you to outclass them in their own game with start-up advantage. Or else the world would have seen many Steve Jobs by now.

And, with the herd-mentality drifting on intuition,  you will not even notice the world go by outside your window.  You will eventually reach the point where it becomes a cubicle black-mountain devoid of anything resembling real-world logic, and feel good about being grazed around.

In private sector, they moved in herds: constructing buildings the rates of return of  which cannot even hang onto elephant’s tail leave aside riding on top, buying tipper trucks of which you are not sure who the real owner is – the driver or you,  and excavators, resorts, Prados/Santa Fes, dealerships, shopping malls, and so on. So far so good, as long as the banks were flooded with cash and desperately trying to find sanity somewhere to park their deposits from across the fence. But to assume that the economic growth that is supposedly as a result of increasing capital investment will support long-term return on such investments is showing lack of passion and commitment. There is no problem in investing with such assumption if you are financially accountable no one. The people with passion and commitment are stylish, dignified, distinguished and civilized -- qualities sadly fading these days. They do not belong in the herd. They follow the trend.

In public sector, we have not moved much from doing things the way those were being done 20/25 years ago. Not much incremental value addition in gewogs. Nobody’s fault at the moment, I guess. There is no capacity to analyze resource potentials and local/regional/national competitive advantages, and make strategic plans that set the gewog visions to optimize their contribution to national development goal. So it is essentially service-oriented-inward-looking development model there. From strategic perspective, gewog is too small a unit to do anything creative with vision. The technical resources are too scare, both in quality and quantity, even for thin spread at gewog level. If the gewog is given authority and responsibility without resources, I have no idea where the accountability lies. Should we  believe in the same model, we will be repairing BHUs, rural water supplies, feeder roads that have neither technical values nor economic justifications for years to come and drawing satisfaction from the excuse that no substantive contribution to the economy could be possible from grass-root level. No doubt about it!

Nationally, it is the old institutional/organizational lust -- that reflects value, attitude, ethic, culture, discipline, strength, ability and pride – that has lost its way. Why would a government official tell me he was doing me a favor by coming to his office right after his official tour and processing my case that was pending for more than a week? It’s not the case that was pending is of concern; it’s his work attitude, ethic and culture that bothered me. Was it an isolated situation? I do not think so but you would have had your experiences too. What exists generally matter. In another situation I asked the director of an authority (autonomous organization), “do you know what you have to do?” “Yes”, he said. “Do you know the importance of your authority nationally and have clear idea with regard to its authority, responsibility and accountability?” He said, “no one has ever explained to me these.” I asked one more, “do you have full realization of your professional space within which you perform your tasks quite freely as an autonomous body and feel that it’s adequate to do your work well without interference?”  This triggered stories connected with ministries, RCSC, audit, ACC and other forces of thrust: each coming with their own version and understanding of the autonomous authority. How can the authority be result-oriented the way every autonomous body is supposed to be, I wondered.   


For true professionals, motivation need not be always in the form of benefits. It can be in the form of job satisfaction,  innovation, creativity, sense of being part of great team/product, being helpful to others in need, clear career path and others. It takes massive effort and time to build institutions/organizations with such values. But to destroy those values it takes few minutes. The Apple is the company where people are motivated to make great products: IPODs, iPhones, IPADs. So products, not profits, are real motivation for Apple engineers. The profit is inevitable result of their products. That's why it is $550 billion (equal to Google+Microsoft+Amazon) company today.  No country can expect to motivate its government staff to Apple-level. The point here is organizational capacity cannot be built without staff motivation. And, the bottom line: we have to improve organizational capacity of the economy, not only of the institutions!

Well, despite the above we are doing good -- the GDP was growing at 11.8% last year.  So far so good, everyone seems happy with status quo. So, we move ahead with the national philosophy and goals. Then swings the economic pendulum, the driver - rupee crunch!  The swing is almost from one end to the other. The rupee rationing followed by complete suspension of rupee flow, suspension of loans and import licenses, closure of non-resident foreigner accounts and so on. It’s like closing the household tap. Earlier the tap was full-open and water flooded the house. Now it’s closed-tight to let the flood dry.

Even with INR 9.7 billion plus INR 1.6 billion refill, we have to find more stable solution to the rupee problem. With no immediate opportunity for export increase, the inward way is to look into import substitution. The import substitution – the latest lead to improve productivity and ease rupee crunch – of shoes, vegetables, dairy products, and many. Great, if we can do it. But the fact is I find no one talking about economic and strategic rationale of import substitution. Will there be cost and quality advantage to importing those products? Will there be resource (say, emphasis on agriculture may take people back to villages for farming) imbalance in the economy because of such activities? Do we have capacity, technology, potential and/or infrastructure? Most importantly, does it fit into the country’s long-term development strategy? With the aim of import substitution in agriculture near-term, are we aiming for agriculture-based economy longer-term, more in terms of export earnings through vegetables and agricultural produces? What level market we aim at, organic level? Does it go hand-in-hand with other strategic goals? The import substitution is good provided these issues are cleared at the policy level. Then, we go all-out with no room for reverse future. Half-hearted attempt will not work.

 In late fifties when I was a little lad in the village, my family was self-sufficient except for clothes and salt. I wore no shoes. Can you apply that definition of self sufficiency in 2012 so that my requirements are met through import substitution? I guess not. Time does not move, it changes. And, we have to move with time, not backward but forward!

I strongly believe that no country can excel in everything, not even the US, China or India. The best strategy is to realize, in every sense of the word, what you are good at and focus fully on it with an intention to carve out your own space. It is by far the best development strategy rather than trying to spread your resources thin with an aim to cover near-term difficulties/short-comings without proper focus and longer strategic purpose. For this,  it is crucial to put the house in order, do homework, and change gears with an aim to enhance the lives of the total population through  resource-based economy. Change is the essence of life. We should be willing  to surrender what we are, for what we could become. We have to have vision!

You won’t get anything unless you have the vision to imagine it. – John Lennon

continuation under May.....................The Indian Rupee Crunch..........(6) 

The Indian Rupee Crunch..........(4)

In his book, Hamlet’s Blackberry, William Powers writes: “Our screens perform countless valuable tasks for individuals and for business and other organizations. They deliver the world to us, bringing all kind of convenience and pleasure. But as we connect more and more, they are changing the nature of everyday life, making it more frantic and rushed. And we are losing something of great value, a way of thinking and moving through time that can be summed up in a single word: depth. Depth of thought and feeling, depth in our relationship, our work and everything we do.”

This is the state of affairs of digital world with more and more connectivity causing information overload. I am not even sure if there is here information overload but it is certain  that information is processed through a tendency of graze, float, glide the surface and shortcuts. Why would a person work hard when earning is easy doing practically nothing through business fronting, tax evasion, illegal authentication, and by taking advantage of other loopholes at all levels of economy? Will the works get done properly through these processes? Do you create business value? People followed these paths because system, environment and work culture held up to it.

There is no shortcut to hard work! In a small country few things set the trend, which is good if the advancement is in right direction but if the trend goes in wrong way then the committed need of the hour is the paradigm shift. I say again every country has potential to do well. The potential is lost if its citizens’ days are spread thin. Is rupee crunch an opportunity for adjusting properly “the peg in the hole”? There's nothing wrong in making mistake, what is wrong is letting it stay as a mistake without the effort of making it right. Just one case: the certificate of origin issued for software export (not processed and produced in Bhutan) was a mistake from legal, moral and development perspective. The recent decision to stop issuance of certificate of origin is not letting the mistake stay: the early sign of paradigm shift, the signal of the baby opening eyes. There will be numerous others. Thanks, by and large, to INR crunch!  

Public-Private Partnership

While the system is loose and lets private entities take advantage of shortcuts and chase easy/quick wealth, the rent seeking is at its highest level. The system needs tightening and professional discipline and ethics enhanced in both public as well as private sector. In such an environment, the private sector takes pride in associating itself as a committed partner in the development process. When public-private partnership foster for good reasons, the rent seeking dies its natural death. “Frustrated contractors running from one office to another sweet talking the person in-charge to get bills cleared for an ongoing or completed government project is not a new problem,” one of the numerous condemnations in newspapers. The writing on wall is everywhere: payment delays; construction delays; procurement problems; poor quality works; lack of accountability, interest, commitment and so on. Almost everyone knows how and where the trend started but no one knows what to do about it. Now that the baby has at least opened the eyes, it is up to every one of us to make the toddler, that got some air through rupee crunch, grow stronger.

With regard to INR crunch Druk Holding and Investments (DHI) asked the Government: “ What can we do to help?” Because of the above reason I posted in Kuensel (April 4. 2012) the following comments:

“Royal Charter for Druk Holding and Investments takes, among others, “ into account the need to conscientiously lead and stimulate private sector development through a culture of innovation, creativity and enterprise, while preventing the spread of corruption and other undesirable activities.” It would be interesting to know what percent of DHI investment has gone into supporting private enterprises that create value. Does DHI recognize that the best way to lead and stimulate private sector development is to facilitate paradigm shift from the present government-centered private entrepreneurship culture to one that is value-based encouraging innovation, creativity and human industry? In the longer-term the shift will be DHI’s biggest contribution.”

Without public-private sector partnership in right footings away from the culture of “milking the system” (as some put it), achieving the goal of sustainable rupee reserve to fully support  BTN/INR peg at par will look far from reality, with or without the hydropower projects. 

Debt and Growth

The other issue is finance, foreign debt in particular. The debt can make a country effectively bankrupt. The total debt outstanding at the end of the fiscal year ending June 2011 was estimated at BTN 58.7 billion equivalent representing 80.9% (increase from 66.6% in 2009-10) of GDP of which 47% was rupee debt and 37.9% was foreign debt for convertible currency. The rupee debt was INR 34.1 billion including INR 7.9 billion [INR 3 billion Government of India (GOI) standby credit facility  and INR 4.9 billion (spread over 3 years) State Bank of India (SBI) overdraft (OD) facility] to support balance of payment with India. The rest of INR 50.8 billion was hydropower and Dungsam cement debt for seven projects (Chukha, Kurichu, Tala, Punachangchhu 1, Punachangchhu II, Mangdechu and Dungsam cement). These projects are self-sustaining projects with supposedly firm long-term sales contract. Nevertheless part of INR for these projects (BTN cost) helps build INR reserve.

The debt sustainability analysis (DSA) shows a moderate but still significant risk of distress as most indicative debt thresholds are temporarily breached. Based on the DSA, public debt is projected to exceed 110 percent of GDP in 2014/15. As in previous consultations, based on the LIC-DSA thresholds, these levels put Bhutan at risk of debt distress. However, in the staff’s assessment, the risks are mitigated by the concentration of debt in commercially viable hydropower projects, which account for about half of total debt and benefit from India’s strong energy demand. Other mitigating factors are important, including Bhutan’s strong project implementation record and good governance, as well as a comfortable reserve position. Also, operational risks for specific projects (including those related to natural disasters) are significantly reduced as debt repayments are stopped if electricity cannot be delivered to India.

-       IMF’s  Bhutan: 2011 Article IV Consultation-Staff Report (June 2011)

In 2007 the Asian Development Bank also observed that if the impact of Chukha, Tala, Kurichu and Basochu power projects were excluded from debt sustainability assessment, the debt situation would have become completely unsustainable because benefits from these projects (exports, revenue and GDP growth) constituted a significant portion. Therefore although these large power projects may cause additional financial burden in the short term, the benefits in the long term far outweighed the debt burden imposed on the country.

It is clear from  the ADB/IMF observations  that there is significant risk of  debt distress near-term as appropriate measures are not being taken. In longer-term the debt risks will be mitigated by the hydropower projects. It would be unwise to repetitively breach the “indicative debt thresholds” envisaging that the proposed hydropower projects will ease the near-term debt impasse as well.

And, the above assessments were before the sale of $200 million and the INR crunch. It is now clear that the rupee crunch has culminated into liquidity problem. The RMA closed accounts of non-resident Indians to ease rupee crunch. Prior to 15 March, the problem was of  “excess”  liquidity which compelled the banks to resort to  “loose lending” or “sub-prime lending”. After closure of  3,500 accounts  by 15 March, banks have stopped most of the lending. To ease liquidity RMA has, on 4 April 2012, lowered cash reserve ratio (CRR) to 10% from earlier 17%.

The near-term solution to the problems: borrow INR. So to overcome shortage in INR the Government has borrowed INR 9.7 billion, GOI standby credit of  INR 3 billion at 5% per annum interest and from SBI OD facility INR 6.7 billion at 10% per annum. The entire INR 9.7 billion will support BTN/INR exchange rate peg at par. While this is a costly measure, there is no immediate alternative to fill the gap created  after 15 March due to closure of accounts.

I am not sure if  withdrawal  of reportedly Nu 3.5 billion by Indian traders creates such severe BTN credit crunch while the total deposit liabilities of commercial banks, as of August 2011, was about Nu 44 billion (47% individuals, 28% government corporations, and rest by other sectors). The Bhutan National Bank’s CRRs of February 12 (Nu 3,305.0 million) and March 12 (Nu 1,912.0 million) should work out to withdrawal in March 12 from BNB alone in the amount of about Nu 3,765 million. On top of this there were withdrawals from BOB, Druk PNB, and T-Bank. The figure mismatch does not rule out the possibility of Indian black/grey money deposits in Bhutanese banks prior to 15 March, and withdrawal post 15 March. And we cannot also overlook the fact that there was Indian income tax raid in Jaigaon right after 15 March.

The dimension of rupee crunch and BTN liquidity seem deeper than it looks.  In view of this depth and the need to support BTN/INR peg at par (the corner stone of national economic policy and strategy); the GOI and SBI credits, and other external loans may drive “indicative debt thresholds” nearer leaving not much room for a secluded breach.

For the level of growth the big question now is can we sustain the debt? If not, it may be right time to go slow. Again, there's nothing wrong in making mistake, what is wrong is letting it stay as a mistake without the effort of making it right. Therefore first thing in the agenda should be to carry out debt sustainability assessment and regulate economic activities at affordable level giving priority to the following:

Near-term:

• Conduct debt sustainability assessment
• Tighten fiscal and monetary policies for slow credit growth
• Improve liquidity management
• Control current spending
• Increase taxes for non-essential items
• Work-out measures to facilitate systematic inflow (including supply chain, inventory, and cash flow management) of essential goods from India and abroad
• Work-out measures  to make INR available in the market for day-to-day use

Longer-term:

• Implement  reforms to strengthen regulatory and supervision capacity, and accountability in the government
• facilitate private sector development that aims at value creation with emphasis on innovation, creativity and enterprise in terms of both providing services and producing goods
• provide broad-based support to export-earning ventures with the aim to improve rupee reserve and diversification of economy

As of now, the signals are good but those have to hold with firm grip without slippage.

The pessimist sees difficulty in every opportunity. The optimist sees the opportunity in every difficulty – Winston Churchill



continuation.....................The Indian Rupee Crunch..........(5)