NIVESHAK

THE INVESTOR VOLUME 3 ISSUE 2 FEBRUARY 2010

FIN-Q PG.24 Calendar spread: Key to free lunches Pg.6

FROM EDITOR’S DESK
Dear Niveshaks

Niveshak Here comes the month of February- a month which is long awaited by many
of us to witness the balance sheet and income statement of our own – India Inc.
Volume III Yes!! I am talking about the Union budget which is expected to be released on 26th
ISSUE 2 Feb by our finance minister Mr Pranab Mukherjee. His first budget may not have
February 2010 been accepted well by Indian citizens, but this time the old warhorse is leaving no
stone unturned. He is expected to target on the GDP growth rate as this budget
Faculty Mentor will be very critical for India to lead the recovery from the global economic crisis.
However, looking at the Reserve Bank of India’s (RBI) recent review of the monetary
Prof. S.S Sarkar
policy, we can predict that the forthcoming Budget will reverse the expansionary
fiscal policy and rein in fiscal deficits. After two years of runaway deficits, surely, the
time is ripe for the finance minister to initiate the fiscal consolidation process in the
EDITORIAL TEAM forthcoming Budget. Besides this, the Railway Budget 2010-11 is also scheduled to
be presented to the Lok Sabha on February 24 after the Budget session of Parlia-
ment begins on February 22.
Editor
Bhavit Sharma The “January effect” on the sensex also seemed to have faded away by the
fag end of January 2010, when our benchmark BSE sensex broke by 490.6 points
on a single day due to global cues and fears of tightening monetary measures
Sub-Editors by central bank. As per the expectations, RBI launched a battering on inflation by
Durgesh Nandini Mohanty increasing the cash reserve ratio by 75 basis points to 5.75 percents. We hope that
Hitesh Gulati this move brings cheers to the aam aadmi by dampening the momentum of sharp
surge in food prices and uneasy price escalation which has been a cause of worry
Sumit Kedia
for all of us. However, there have been some positive results too against the back-
Tanvi Arora
drop of this RBI’s decision. The manufacturing sector seems to be poised for revival
Upasna Agarwal
after the HSBC Markit Purchasing Managers Index (PMI), one of the most reliable
indices tracking the health of the manufacturing sector, climbed to its highest level
in one-and-half years to 57.6 in January, 2010. We also see IIP numbers reaching
Designers
new heights. The Indian IT sector, on the contrary, might get perturbed after US
Bhavya Aggarwal
president Obama’s decision to end tax breaks to American firms that outsource
Swarnabha Mukherjee jobs overseas. But it needs to be seen if the president can afford to walk his emo-
tional talk.
Now as we are speeding on a road to recovery, a question arises in front of
us is – Are we achieving this economic recovery at the cost of fiscal deficits and
inflation? So to throw a word of caution on this, we have our cover story which
highlights some of the inherent financial problems like huge fiscal deficits in India,
and which shows a possible way ahead for us in this edition. This reading also
All images, design and artwork
provides a primer on the resurgence of mergers and acquisitions post recession
are copyright of
and an article on “Calendar Spread” along with some arbitrage trading strategies
IIM Shillong Finance Club
for Index spread trading. Let us go through some really insightful articles that our
friends from across all B-Schools have penned down. Hope this issue would prove
to be an interesting read for you.
©Finance Club
Indian Institute of Management Wishing you all a very Happy Holi!!!
Shillong Happy Investing

www.iims-niveshak.com Bhavit Sharma

(Editor-Niveshak)

Disclaimer: The views presented are the opinion/work of the individual author and The Finance Club of IIM Shillong bears
no responsibility whatsoever.
CONTENTS
Niveshak Times
04 The Month That Was
Finsight
13 Coffee Derivatives Market

Cover Story
17 India at crossroads Recherche
- yet again 21 Growth Story : Myth or
Mist?

Article of the month

06 Calendar Spread : The Key
to Free Lunches

finlounge
PERSPECTIVE 24 Fin-Q
09 Resurgence of M&As post
Recession
 Niveshak Times www.iims-niveshak.com

The Month That Was

Tanvi Arora the conditions have been deteriorating for Greece. In
IIM, Shillong 2009, the government debts were about 113 percent
of its GDP. And the budget deficit was 12.7 percent
Market Watch
of GDP. Two thirds of this debt is owed to foreigners.
The markets for this month (January 25 – Feb- Greece had planned to default on its bonds impos-
ruary 19) were calmer as compared to previous few ing the losses on banks and other investors. But the
months. The four weeks ended in positive but not EU leaders came to rescue Greece with the bloc’s
much achievement. highest budget deficit under control. Also, they have
In the week starting on January 25, Sensex and determined to take strict actions to come out of this
Nifty both were plunged down due to the RBI’s an- crisis. But this help has seen mixed reactions. This
nouncement of increased CRR. But the recovery on might lead to demand of deficits from other debt-
both the indices was quick. The 30-stock BSE index laden countries of the bloc.
fell below the 16,000 psychological mark during the
week. But it recovered quickly to close the week at Another stride in Yahoo-Microsoft deal
16,357, up by 51 points or 0.3 percent. The CNX Nifty The European and US regulators have given a
also ended up by 0.3 per cent or 14.8 points at 4,882 nod to the long pending issue of Microsoft Corp.
points. and Yahoo Inc.’s relationship. The several years long
The second week (February 1 – February 6) was courtship period between the two companies seems
an extended week for the Indian stock market as to be ending up as an alliance finally. Though Yahoo
there was a special 90-minute trading session on had turned down Microsoft’s offers quite a few times
Saturday, February 6. Sensex marked the end of the in previous years but now it sees this as an oppor-
week at 15,915.65 after gaining 124.72 points, while tunity to enhance its slumping profits. In May 2008,
the broad-based Nifty gained 38.60 points at 4757.25. MS had to withdraw its offer of $47.5 million pricing
The special session on Saturday remained bullish Yahoo’s share at $33. But this time, the companies
throughout after two losing days for the indices. are counting on the 10-year deal to counter Google’s
domination of the lucrative Internet search market.
Indian equities stabilized in the 4 trading day’s
The source of revenue for these companies is the
week (February 8 – February 11) after a month’s
advertisers who pay to have their links appear when
widespread selling activity on both Sensex and Nifty.
people search for certain terms. This deal would
Sensex ended with modest gains of 236 points end-
lead to greater competitive pressures in the market-
ing at 15,915.65 points as compared to the last week.
place. Till now the figures have been sad for both
Nifty fifty closed on Thursday evening at 4757.25
Yahoo and Microsoft with 7.4% and 3.2% of search
points. The markets this week were majorly affected
requests’ share, respectively. The speculations are
by the fear of growing debt in Greece and its effects
that Microsoft’s technology would start processing
on the economic recovery around the globe.
search requests that people enter on Yahoo’s US site
The fourth week of this month (February 15 – by the end of this year. But making it available to the
February 19) suffered volatile movement on the ma- rest of the world would be delayed until 2012. Yahoo
jor indices but managed to close the week with little estimates the partnership eventually could boost its
gains. The stocks opened on a negative note due to annual operating profit by $500 million. The financial
higher WPI in January then December. The Sensex gains aren’t expected to start flowing to Yahoo until
rallied 39.04 points to end the week at 16,191.63 on next year. The other details of the deal are being
Friday and Nifty ended the week at 4,844.9 points, discussed upon.
gaining 18.15 points.
Government saves Air India
EU saves Greece
The Indian government has approved the injec-
With the increasing pressure to refinance al- tion plan of 800 crore rupees into the loss making
most $23 billion of bonds maturing in April and May, Air India. Air India has been struggling to pay off the

4 NIVESHAK VOLUME 3 ISSUE 2 February 2010

 Niveshak Times www.iims-niveshak.com

The Month That Was

debts of about £2 billion. Government has decided Bharti-Zain – Win-win deal
to give a support of about Rs. 5000 crores subject The acquisition proposal by Bharti Airtel has
to condition that Air India implements certain cost been dealt positively by the government. It plans to
cutting measures which includes downsizing its fleet acquire Kuwait-based Zain’s African operations for
by about 30 per cent, to 105 aircraft by March 2011. $10.7 billion. The payment would be financed using
The already awful reputation of Air India was wors- $1.7 billion debt and the remaining would be the
ened due to various controversies in the last one outgo of the company. Bharti currently has 125 mil-
year. Owing to these situations India’s national car- lion user base in India which would be extended to
rier made huge losses in the last financial year. But African markets by the addition of 42 million new
the question now raised is why the already strained users. There would be knowledge and technology
Government of India is bailing out an airline when transfer between the two companies so that they
the state is that the demand is less and supply is can provide better services in both India and Africa.
more. Earlier, Bharti had got into talks of acquiring MTN,
the largest service provider in Africa, but was unsuc-
Government doubles the limit on FDI
cessful. Though there seems to be certain abrup-
The government raised the cap on foreign di- tions with the deal but it is expected to work out in
rect investment proposals from Rs. 600 crores to Rs. the end.
1,200 crores. This means the tenders of the total
foreign equity inflow of upto Rs. 1200 crores can Impressive numbers in third quarter results
be approved by the finance minister. Previously, The banking sector saw more than 20% in-
any amount of foreign investment exceeding Rs. crease in the net profits of HDFC bank and Axis bank
600 crores could be approved by the finance min- and a minor steady increase for State Bank of India
ister and other proposals with more than that had and Punjab National Bank. On the other hand, ICICI,
to be forwarded to the cabinet committee of eco- the second largest bank of India, announced a fall in
nomic affairs for approval. This increase in the limit quarterly profits.
is only on the operations of foreign equity and not The IT giants of the country, TCS, Infosys and
the whole project. The government also made a few Wipro also had good figures on the balance sheet
relaxations for FDI, like cutting back the role of the with Wipro having net profit increase of about 21%.
Foreign Investment Promotion Board so that the ap-
Jet Airways’ profits soared to reach Rs. 106
provals on foreign investments are not delayed due
crore compared to a loss of Rs. 214 crore in the same
to unnecessary conventional regulations.
period last year. This came as the result of cost cut-
RBI increases CRR ting measures by the airline and also the increase in
In the recent quarterly monetary policy review, air traffic. But the respective figure increased by only
the central bank has tried to keep the policy rates 5.4% for Hindustan Unilever.
unchanged. But the RBI increased the cash reserve For Tata steel this figure shot up by almost
ratio or CRR by 75 basis points to 5.75% as against three times. Tata Motors reported a turnaround with
the expectations of the market of an increase of only net profits jumping to Rs. 400 crore compared to
50 bps. The repo and reverse- repo rates remained a loss of Rs. 263 crore in the previous year’s third
untouched. This decision was taken as an attempt quarter.
to not upset the growth but impacted the inflation Reliance Industries Limited announced more
index. The CRR hikes were to be launched in two than expected net profits increase of 15.8% to Rs.
phases. The first phase was effective from February 4,088 crore.
13 with an increase of 50 basis points. It will be fol- In the telecom sector, Bharti Airtel posted gains
lowed by another 25 basis point increase effective of just 2% compared to the same period last year.
from February 27. This would suck out almost Rs
36000 crore from the system.

© FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG 5

 Calendar Spread
....The Key to Free Lunches
Arpan Ghosh
IIM Shillong
Those who still believe in the rity expiry months to gain from the
In this article we saying “There Ain’t No Such Thing as spread movements.
explore Index future a Free Lunch”, have not yet heard As we already know that there
spreads and develop about ‘Arbitrage’. can be two market conditions with
an algorithm which Arbitrage is the art of purchas- respect to contract prices of two dif-
ing and selling assets simultane- ferent future contracts of different
will help us to earn
ously to take advantage of the price expiry month. Here we designate the
high returns at mini- differentials that arise due to inef- contract that has the shorter matu-
AoM

mized risk by utilizing ficiencies in the market. Contrary rity period as the “near month” fu-
the calendar spread. to popular beliefs, the real world ture and the other the “far month”
markets are full of irregularities and future. A normal market condition is
Also, a proper flow of provide ample opportunities to the when the far month futures contract
activities for a trading “Intelligent Investors” to enjoy free price is higher than the near month
strategy is provided lunches. futures contract price. So in this
to understand things One such arbitrage strategy, ex- situation, also known as ‘Cotango’,
tremely popular in the world of op- if the spread differential is expected
better. Further the to increase, one should take a short
tions is “Arbitrage Spread”. Spread
concept of exponen- trades are strategies that involve a position in the near month future
tial moving average position on two or more options of and long position in the far month
future. Alternatively, when the
(EMA) is detailed in the same type. The position can be a
call or a put but can never be both. spread is expected to decrease, re-
and the relations to verse position should be taken. The
Some examples of spreads include
trading strategy mix butterfly, vertical, horizontal, diago- rationale behind this strategy is that
and development of nal calendar etc. in a normal market condition when
future market price of far month is
a good returns strat- In this article we explore Index
greater than future market price of
egy is discussed. future spreads and develop an al-
near month and spread is increas-
gorithm which will help us to earn
ing, there can be three cases:
high returns at minimized risk. Here,
we have used “calendar spread” in Case I: Future prices of both
Index futures. “Calendar Spread” near and far month increase
is the difference in prices of two In this case as spread is in-
future contracts with different ma- creasing, therefore increase in price
turities but the same underlying as- of far month future contract will be
set. One can make profit by under- greater than increase in price of near
standing and predicting the relative month future contract hence taking
price movements of the two future long position in far month future
contracts. Depending on the expec- contract and short position in near
tations as to whether the spread month future price will result in pos-
would increase or decrease, traders itive cash flow.
can take long and short positions
in the futures with different matu- Case II: Future price of both

Contrary to popular beliefs,

the real world markets are full
of irregularities and provide
ample opportunities to the
“Intelligent Investors” to enjoy
free lunches.

6 NIVESHAK VOLUME 3 ISSUE 2 February 2010

near and far month decrease position is that of a long option and further risk is
In this case as spread is increasing, therefore just the value of the option.
decrease in price of far month future contract will be The calendar spread tries to capitalize on
greater than decrease in price of near month future the differences in time decay of options between
contract hence taking long position in far month fu- months. Options in nearer-month expirations have
ture contract and short position in near month fu- more time decay than later months. The calendar
ture price will result in positive cash flow. spread profits from this difference in decay rates.
Case III: Future price of far month increases Trading Strategy
and that of near month decreases We now try to find a profitable arbitrage trading
This is most profitable condition as both long strategy for Index Spread trading. For this purpose
position and short position will result in positive we compare the spread in the values of 1 month
cash flow. Index futures of Nifty.
In order to build the strategy, we start with

AoM
In an inverted market, i.e. when the far month
futures contract price is less than the near month the simple process of comparing the actual spread
futures contract price (a condition called “backward- values to their 3 day exponential moving average
ation”), the strategies are completely reversed. (EMA). The rationale behind this process is very
well documented- ‘the exponential moving average
A long calendar spread, which involves buy-
smoothes the fluctuation in the spread values and
ing an option with a longer maturity and shorting
provides indication of a long term trend’. This will
one with shorter maturity, in a normal market condi-
help us understand the trend of the spread in short
tion would require an initial investment because of
term as compared to long term so that we can deter-
the greater value of the long call. Thus long option
mine whether spread is increasing or decreasing. So
spreads are traded for a debit. The amount of this
this strategy is based around the interaction that the
debit paid up until the short option expires repre-
spread line will have with the moving average line –
sents the maximum possible loss. After expiry the
hence we are creating a kind of a lagging indicator
START

Plot Spread and 3

day EMA of spread

No Check Yes
Spread>0

Above Spread cutting Spread cutting Above

EMA from EMA from
Above or Below Below or Above

Below Below
Take Long in Near Take Long in Far Take Long in Far Take Long in Near
Future & Short in Future & Short in Future & Short in Future & Short in
Far Future Near Future Near Future Far Future

Is spread
Stay trend
Invested changing
?
No
Yes
Square off
your position

STOP

© FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG 7

 supported by strategies for its various behaviors in
order to earn profits over a long term. Strategy ad-
opted for trading is explained with the help of flow
chart shown in Figure 1

amples from the graph in figure 3 to prove the

point.
The graph plots the spread of Nifty futures
maturing in January and February 2009. The val-
ues used are the prices at which the futures
were traded in NSE in the months of December
AoM

Based on the flow chart we can develop a two

dimensional matrix with dimensions as Spread (Pos-
itive or Negative) and Direction of Interaction (Above
or below) as shown in Figure 2.
We apply this strategy set depending on
the conditions i.e. if spread is positive (if Future
price of far month is greater than future price
of near month) and actual spread is cutting ex-
ponential moving average (EMA) from below i.e.
Spread is increasing, then take a long position
in far month future and short position in near
2008 and January 2009. These months were
month future. Similarly if spread is negative
chosen as they represented the worst phase of
and actual spread is cutting EMA from below
the current economic crisis.
i.e. spread is actually decreasing then take long
position in far and short position in near. Thus So we can conclude that the exponential
the strategy that the investor employs to enable moving average (EMA) line of the index futures
arbitrage will differ according to the position can be used as an indicator of the market sen-
of the spread line with respect to the moving timents in conjunction with the actual spread
average line and their respective directions of trend line. An investor who varies his strategy
movement. So based on that, the 4 strategies according to the kind of interaction that takes
that we have are based on whether the spread place between these lines according to the
is positive or negative, when we decide to enter framework provided in this article will be able
the market and whether it is cutting the moving to earn good returns in the long term. Thus arbi-
average line from above or below. trage trading if done carefully with a specific tar-
get and strategy in mind can indeed be a “free
In order to test this strategy we took the
lunch” that would disprove the famous saying.
premise that 100 Index futures are being traded
in and we enter the market when the spread
line is moving near the moving average line and
square our positions on the other side once the
lines have intersected. So, let us take a few ex-

The calendar spread tries to

capitalize on the differences in
time decay of options between
months

8 NIVESHAK VOLUME 3 ISSUE 2 February 2010

 Resurgence of M&As Post Recession
Durgesh Nandini Mohanty
Team Niveshak
With the arrival of the new capture a higher market share
decade as the world has woken in a fragmented industry. Other
Recession affected
up to a paced recovery from the reasons behind an M&A could be the bread and but-
Global Recession, analysts have the development of a competitive ter of the I Bank-
promised a renewed fervor in the edge due to better visibility in the ers by crippling all
Merger and Acquisition activities. market, availability of capital at a Merger and Acquisi-
Growth has evidently picked up lower overall cost etc. tion activity. Now as
and the world economy is gradu- M&A DURING RECESSION
ally trying to regain its previous
the world economy
The frequency of mergers recovers from the
glory thanks to the timely stim-
and acquisitions speaks volumes worst downturn
ulus packages by the govern-
about the current health of the
ments. Be it Kraft Foods’ takeover
economy. In the recent Reces-
since 1929, M&As
of Cadbury after a five month are picking up again.
sion that raised concerns world-

Perspective
elongated take over battle or This article analyses
wide merger and activity had
Reliance Industries’ proposal to
acquire Lyondell Basel, the pros-
experienced its lowest in years. the various factors
This was because of the liquidity like increasing P/E
pects of M&A seem to be reviving
crunch that the markets expe- Ratios and declin-
this new year.
rienced and there was a severe
These sometimes hostile, dearth of capital for significant
ing Debt to EBIDTA
sometimes friendly multi-billion deals to happen. It is believed ratios that are re-
dollar deals somehow always end that acquisitions are rampant sponsible for this
up becoming a media eye-candy. when good times prevail and upheaval. Besides
So what is it that makes Merg- the cash inflows of the compa-
ers and Acquisitions one of the
some of the latest
nies are good. When biggies like acquisitions have
most sensational happenings in the century old Lehman Brothers
the financial world? The eminent came crashing down in seconds
been looked into
Investment Bankers from the Wall and companies were trying hard from an Indian and
Street are always busy negotiat- to make ends meet it was a dis- a global perspective.
ing and forming a large company tant dream for them think about
from two smaller ones. A Merger buying out other firms. Besides
or an Acquisition is a strategically M&As involve a big deal of risk
important process of corporate and the probability of them be-
restructuring that believes that coming a success is around one-
two companies together create third. And consciously taking one
more value for the shareholder more risk in the downturn was
rather than two separate compa- not something that the conven-
nies. Companies merge to achieve tionally risk-averse companies
higher level of cost efficiency due would do.
to economies of scale and hence

With cheap credit available

again, leveraged buyouts are
ready to make a grand entry
on the M&A dais.

© FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG 9

 In 2009, the volumes of Mergers and Acqui- stimulus packages has led to an upward surge in
sitions were believed to have come down by as the capital markets, stock indices have risen to
much as 36% with respect to the previous year. their pre recession levels. The fuel required for
With just 5,800 deals billing up to $2.3 trillion in mergers and acquisitions - conveniently avail-
2009, M&A volumes were at their lowest since able capital is here again. M&As post Recession
2004. The main cause behind this was the 29% can be studied under the following three heads.
reduction in market capitalization worldwide.
The activity of private equity firm also dimin- RETREAT OF CORPORATE ACQUIRERS
ished due to the unavailability of credit. When
adjusted for market capitalization the level was With cheap credit available again leveraged
almost at par with 2008, though slightly lower buyouts are ready to make a grand entry on the
than that of 2007. M&A dais. This is primarily due to two reasons:
Perspective

Improved P/E Ratios

FROM ANOTHER POINT-OF-VIEW
Corporate acquisition appetite has in-
Some experts though expressed contradic-
creased many times over in the recent past. This
tory views. They believed that an important cor-
is because of the highly improved forward P/E
porate restructuring strategy like an acquisition
Ratios of the companies with respect to that of
or a divestiture should continue in all phases of
the previous year. Though the markets during
the business cycle, be it a recession or a boom.
recovery have been pretty volatile throughout
And if done with a strategic goal in mind, a
the year ago, forward P/E Ratios have increased
merger or an acquisition could add value even
by 7% from13.1x in 2009 to 14.0x in 2010. An
during the downturn. ‘Distressed M&A’ which
increase in earnings by as much as 24% has
means the purchase of bankrupt companies is
been predicted by analysts in 2010 with respect
a permanent feature of any Recession period.
to 2009. In such a conducive environment and
It was said that deals during downturns some-
peaking markets the forward P/E Ratio is bound
times outperformed the ones during robust
to increase. The resurgence of Mergers and Ac-
economic times. One good example of a smart
quisitions in 2010 may not sky-rocket, but it will
acquisition that brought a turn around in fates
be a steady one.
was IBM’s acquisition of Lotus in 1995.
Declining Debt to EBITDA ratios
M&A POST RECESSION
During recession companies had been busy
An economy buzzing with M&A activity striking the debt off their balance sheets and
gives out the vibes of a vibrant economy. As deleveraging. Post recession due to these low-
we gradually recover from the downturn, pes- ered Debt to EBIDTA ratios improved the deal
simism has made way for optimism. Companies making capacity of the acquirers as they could
have shifted their focus from the reduction of take more debt for leveraged buyouts. EBIDTA
debt. Firms are busy in rapidly recapitalizing ratios are expected to decrease by 18% from
their balance sheets. The government provided

‘Distressed M&A’ which means the purchase of bankrupt companies is a permanent feature of any
Recession period. It was said that deals during downturns sometimes outperformed the ones during
robust economic times.

10 NIVESHAK VOLUME 3 ISSUE 2 February 2010

1.5x to 1.2x. Geographically analyzing, the debt expecting to expand significantly in the short
to EBITDA ratios in Africa & the Middle East will term. Private Equity M&A activity that loitered
have a 37 percent decline (down from 0.8x to around $15 billion a quarter since 2008 end, has
0.5x), followed by North America at 24 percent, increased to three times this value, i.e. $45 bil-
Asia-Pacific (excluding Japan) at 20 percent, lion in the fourth quarter of 2009.
Latin America at 18 percent and Europe at 15 CHANGE IN THE INTERNATIONAL ORDER
percent. M&A had been used as a powerful arm to
Thanks to the above two factors, both the extend the foreign presence of companies and
corporate appetite and corporate capacity for convert themselves into pan national giants.
M&A activity has increased in 2010. This trend came to a halt in 2009 when the num-
RETREAT OF PRIVATE EQUITIES ber of cross-border deals dropped significantly.
With the economy showing evi- Cross border activity as a percentage
dent signs for recovery the time of total M&A volume dropped by
is ripe for Private Equity forms ten points from a pre recession
to make their much await- value of 40%. However, this
ed comeback. After a de- phenomenon was limited
cade of frenzied activity, to the Western countries.
PE players were faced the Recently companies from
shock of Global Reces- Asia have been trying to

Perspective
sion and an acute credit expand their global pres-
crunch. They had to rethink ence. This fact is confirmed
their strategies of entry and by the fact that companies in
exit and managing their portfo- the Asia-Pacific accounted for 26%
lios. With Wall Street nearly back a t of the global M&As. So M&A activity
its previous glory and giving away bonus- es was distributed more uniformly around the
like pre Recession days, investors stand con- globe.
vinced that the economy has found sturdy EXAMPLES OF SOME RECENT ACQUISITIONS:
ground beneath its feet, at last. According to Kraft’s Acquisition of Cadbury
recent poll conducted, 80% of PE managers be-
Kraft Foods, the world’s second largest
lieve that a wave of M&As will sweep the finan-
food company behind Nestle, finally bought out
cial world in near future.
Cadbury in a deal worth £ 11.9 billion. The driv-
Further, exposure to PE investments ing force behind this acquisition was the expo-
through publicly traded Exchange Traded Funds sure to the emerging markets that the British
(ETFs) is being offered by giants like PowerShares confectioner Cadbury offered to Kraft. The new
Global Listed Private Equity Portfolio (PSP). PSP company will own more than 40 brands. Share-
invests in over sixty PE firms all around the holders of Cadbury have been offered 500p in
world. The investments of PSP are distributed cash and 0.1874 Kraft stock for each share they
in various countries with a majority stake in US own. This values Cadbury at 840p per share, but
(36%). Private Equity Companies have making shareholders will also receive a special 10p divi-
big gains in 2009 already. PSP made gains worth dend. Moving above the initial ‘derisory’ offer of
140%, which is still 50% its pre-recession levels. 755p per share of Cadbury, the deal was struck
Sentiment within the private equity industry is at 840p per share which was supposed to be a
clearly yet to fully recover, as firms expecting good deal though the shareholders themselves
to trim their operations far outnumber those believed every share to be worth more than £ 9.

Kraft Foods, the world’s

second largest food company
behind Nestle, finally bought
out Cadbury in a deal worth £
11.9 billion.

© FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG 11

Perspective

Bharti takes a bite off Zain of factories and customers and this fuels RIL’s
After the Bharti-MTNL deal failed to see new obsession. Lyondell Chemical Co. is a Neth-
the light of the day, international dreams of In- erlands-based company which filed a plan to
dia’s largest telecom operator came true after reorganize with the U.S. Bankruptcy Court in De-
it acquired the African assets of Kuwaiti-based cember. RIL said it raised Rs. 26.8 billion rupees
Zain Telecom in a deal worth $10.7 billion. This ($586 million) selling shares. As a result of this
new venture will help Airtel access a customer its shares fell by 0.9%.
base of 70 million across Africa and Middle East. SOME MORE NUMBER CRUNCHING
Bharti, controlled by the Mittal family caters to Mergers and Acquisitions and Private Eq-
110 million customers already. The promoters of uity transactions have surged with a new vigor
Zain, the Kharafi family owned a stock of 11% at present. All the M&A and PE deals (includ-
had been looking for an investor for sometime. ing QIPs) in the month of January have been a
Zain had other eligible suitors like state-owned whopping $3.8 billion (around Rs 17,480 crore)
BSNL and MTNL but none of them were inter- totaling 85 deals. This is way above the statis-
ested to pay more than $ 10 billion. Zain has tics of January of 2009 which amounted to $2.1
annual revenues of over $ 7 billion and has in- billion (around Rs 9,660 crore) coming to a mere
vested around $12 billion to expand its opera- 34 deals. There has been a growth of 81% and
tions in Africa. this is proof enough for the changing climate.
Reliance’s Lyondell dreams Besides many Indian companies are looking for
This is one giant deal which is yet to hap- acquisitions outside the country. The total val-
pen. According to latest reports, Reliance valued ue of outbound M&A deals (Indian companies
the bankrupt chemical maker at $13.5 billion acquiring businesses outside India) in January
which considerably exceeds its November bid of 2010 was $341 million (15 deals), as compared
$12 billion. LyondellBasell’s board is unyielding to $40 million (five deals) in January 2009. The
even now and demands more compensation. total value of domestic deals this January was
If this deal materializes it would entail India’s $2,167 million (32 deals), as compared to $1,324
largest company buying $2.25 billion in stock million (eight deals) and $223 million (28 deals)
and backing a $2.8 billion share sale. Lyondell during the corresponding months of 2009 and
would do wonders to Reliance by giving them 2008, respectively.
access to three continents and large numbers

12 NIVESHAK VOLUME 3 ISSUE 2 February 2010

 Coffee Derivatives Market
Debprotim Dutta & Sripriya GN
IIM Bangalore
India is among the top-5 that either severely restricted or
producers of most commodities banned commodity derivatives
There is an im-
besides being a major consumer trading for select commodities. mense need for an
of bullion and energy products. This sentiment reached its peak active commodities
Agriculture contributes about after independence in 1952 when derivatives market
20% to the GDP of the Indian commodity options trading and in India and here
economy and employees around cash settlement of commod- the study on coffee
57% of the labor force. All these ity futures was banned in India.
are indicative of the fact that In- A further blow came in 1960s
derivatives markets
dia can be promoted as a major when following several years of has been reflected.
center for trading of commodity draughts, many farmers default- The authors here
derivatives. It is important to un- ed on forward contracts. As a re- have argued for the
derstand the need for commod- sult, forward trading was banned establishment of an
ity derivatives and the role they in many commodities considered active derivatives
can play in risk management. It primary and essential. The com-
is common knowledge that prices modities markets remained inac-
market in coffee and
of commodities, metals, shares tive until, in the new millennium, established its vi-
and currencies fluctuate over the government started actively ability as an efficient
time. The possibility of adverse encouraging the commodities de- market using ADF
price changes in future creates rivatives markets. Since 2002, the test. However, some
risk for businesses. Derivatives commodities markets faced un- structural and regu-
are used to reduce or eliminate precedented boom crossing the
price risk arising from unforeseen $1 trillion mark in 2006.
latory bottlenecks
price changes. The two most com- However, there are still sev-
have to be sur-
mon derivatives for commodities eral impediments to be overcome mounted in order to
markets are commodity futures for a sustainable commodities have a sustainable
contracts and commodity options market to function in the coun- derivatives market in
contracts. try. For instance, trading in com- India.
COMMODITY MARKETS IN IN- modity options has been banned
DIA since 1952. With a ban on such
an important derivative, the com-
FinSight
The history of commod-
ity markets in India dates back modities derivatives markets
to 1875. However, it was feared cannot be called complete. Also,
that these markets would engen- there are issues regarding ware-
der unnecessary speculation ad- houses and standardization. The
versely affecting the markets for Central Warehousing Corporation
the underlying commodities. Sev- of India presently operates 500
eral acts were passed overtime warehouses with a storage ca-
pacity of 10.4 million tones. This
The coffee futures and op-
tions markets at NYBOT
provide the perfect tools for
risk managers throughout the
coffee marketing chain to help
protect the bottom line.

© FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG 13

 is not sufficient for a vast agricultural country. When a commodity assumes a prominent
In addition, cash settlement of the contracts is position in the global economy, it also invites
not allowed upon the maturity of the contracts speculative excess and ever-increasing vulner-
because of which many settle the contracts just ability to major price shocks. The coffee trade –
before the maturity. Further, many commodity with its long sea-route, supply lines and weath-
exchange houses (3 national and 21 regional) er variables – suffered from wild price swings.
impede achieving economies of scale. To add After an uncontrolled cash market specula-
to these, there are restrictions regarding the tion brought about a calamitous market collapse
movement of goods from one state to another. in 1880, a group of coffee merchants mobilized
Finally, there are issues regarding government’s to bring some order to the chaos. The first trans-
Minimum Support Policy (MSP). Given the wide- action on the New York Coffee Exchange, of 250
spread use of providing subsidies even in devel- bags of coffee, helped to establish an organized
oped nations, price controls etc, the MSP cannot marketplace that served several key functions:
be wished away in the near future. However, it set standards for different grades of coffee;
severely hampers free market mechanism and provided a market where growers, merchants,
efficient functioning of commodities markets. roasters and wholesalers could hedge against
One way could be to de-link MSP from pro- losses in the cash market; established an ar-
curement. Under this model, while MSP could bitration system to settle disputes; recorded
continue to be fixed, present prices may be de- and disseminated current market information to
termined by market forces. The farmers could members.
be reimbursed the difference between the mar- At any time along the marketing chain for
ket prices and MSP on the marketed produce. coffee from the tree to the cup, coffee prices
The other method could be to guarantee the can move quickly and often in response to key
income level of farmers through an insurance supply and demand factors such as weather, po-
programme where guaranteed income will be litical policies, labor contracts, crop predictions,
determined on the basis of MSP and historical etc. Given the growth cycle/ characteristics of
yield of the farmer and the difference between the coffee bush/ tree (three to five years from
guaranteed income and actual income (actual planting before bearing marketable beans), the
production and market price) will be made good processing capabilities necessary for higher
under the insurance programme. grade and quality washed Arabica coffee and the
We thus see that there are several struc- shipping/storage demands, the physical market
tural and regulatory issues that need to be ad- cannot respond quickly to reflect changing sup-
dressed and resolved for a truly active and na- ply/ demand conditions. In the absence of a
tional commodities market to emerge in India. major increase in consumption, adjustments on
In this paper, we will focus on the coffee deriva- the supply side are difficult to implement in a
tives market in India. short time frame and involves painful choices
FUNDAMENTALS OF COFFEE for producers that cannot be easily undone.
FinSight

Although coffee, like cotton, has many Futures markets, however, can respond
grades, growths and specific growth qualities, quickly through their price discovery process
it is primarily classified into two types – Arabica that reflects changing cash market conditions.
and – Robusta. Arabica coffee beans, which grow Futures markets react immediately to any funda-
mainly in the tropical highlands of the Western mental change in the marketplace and the price
Hemisphere, make up the bulk of world produc- discovery process reflects this shift. The coffee
tion and are higher grade, higher quality beans. futures and options markets at NYBOT provide

As the gestation period for coffee

plantations is large, any new invest-
ments in coffee plantations are for
long term and short-term adjustment
of supply and demand is absent
which results in high price volatility.

14 NIVESHAK VOLUME 3 ISSUE 2 February 2010

the perfect tools for risk managers throughout COFFEE- EFFICIENT MARKET HYPOTHESIS
the coffee marketing chain to help protect the TESTING
bottom line. Before we argue for an active encourage-
Coffee offers a good illustration of the vital ment of coffee derivatives market, we will es-
risk management function of futures and op- tablish the efficiency of the market in coffee
tions. Coffee production’s sensitivity to weather derivatives to confirm its viability. This can be
shocks and its limitations of climate and geogra- achieved by an econometric analysis of the data
phy are a constant source of price volatility. The obtained from New York Board of Trade. Howev-
historical volatility for coffee has been signifi- er, before we delve into the findings, the theory
cantly greater than for other commodities (like behind the methodology used will be explained
cocoa or sugar). in brief.
Coffee futures and options mar- A series is said to be (weakly or covariance)
kets do not increase volatility. The stationary if the mean and auto-co vari-
volatility and risk originate in the ances of the series do not
cash market. The cash price of cof- depend on time. Any se-
fee, while benchmarked to the Cof- ries that is not stationary
fee “C” futures price, is determined is said to be nonstationary.
primarily by cash market condi- A common example of a
tions. Thus, while coffee futures non-stationary series is the
and options markets cannot re- random walk:
move volatility and risk arising yt= yt-1 + et
from a change in cash market
Where et is a station-
conditions; they do allow coffee
ary random disturbance term.
industry participants to transfer
This random walk is a differ-
and manage risk.
ence stationary series since
The same coffee price the first difference of the above
volatility that makes coffee equation is stationary:
futures and options markets necessary to risk
yt - yt-1= et
managers creates opportunities for investors.
Since volatility measures the frequency and size Econometric theory says that if the move-
of price movements in both directions, it affects ments of market prices, as regressed against
all levels of the marketing chain and brings in previous historic prices, gives a stationary pro-
market users with opposing price goals. As the cess this would imply inefficiency within the
levels of volatility and risk management activity market. The Augmented Dickey Fuller (ADF) Test
in the futures market increase, the speculative tests for the presence of this stationary process.
opportunities on both the buy and sell side of Consider an autoregressive, pth order pro- FinSight
the market expand. The speculative activity in cess:
the coffee market provides a critical mass of li- yt = a0+ a1yt-1 + a2yt-2 + … + apyt-p + et
quidity and pricing opportunity. Increasing the This can be rewritten in the following form:
numbers of bids and offers in the trading ring
∆ yt = a0 + Γyt-1 + Σbi∆yt-i+1 + et ;
throughout the day increases the pricing effi-
ciency of the market. Due to these character- for i ranging from 2 to p
istics, coffee presents an attractive and viable Where Γ = - (1- Σai); for i ranging from 1
derivatives market. to p

When a commodity assumes

a prominent position in the
global economy, it also invites
speculative excess and ever-in-
creasing vulnerability to major
price shocks.

© FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG 15

 And bi = - Σaj; where j ranges from i to p have been performed. In this section we ana-
The coefficient that is to be observed in lyze the results and findings.
the above equation is Γ. If Γ = 0, the equation The data series for these periods passed
has a unit root. This comes from the theory of the unit root test indicating it is a non-stationary
difference equations that if the coefficients of a processes. During the period from 1994 to 2001,
difference equation sum to 1 (in this case Σai), coffee prices underwent a period of intense vol-
at least one of the characteristic roots is unity. atility showing very high bullish trends due to
We thus test the hypothesis of a unit root at considerable speculative activity. The only inevi-
standard critical values and a failure to reject table correction caused prices to plummet only
the hypothesis would imply a non-stationary to witness this cycle repeat.
process. A cointegration test between the spot and
However, there are certain assumptions futures rates indicate the presence of a coin-
to be made while performing ADF test. Firstly, tegrating equation between the two. The test
it assumes that the error terms are indepen- probability is low for the initial 1994 to 2001
dent and have a constant variance. The value end period but the significance improves for the
of Γ cannot be estimated subsequent period.
accurately unless all the The findings are thus
autoregressive terms are encouraging and imply ef-
included in the estimat- ficient market mechanism
ing equation. The practical in place for coffee deriva-
implication of this is the tives.
problem of choosing the The coffee markets
lag length. Seasonality in follow the commodity cy-
the roots and structural cles. As the gestation pe-
breaks require specific riod for coffee plantations
handling. is large (5-7 years), any
Once the series has new investments in coffee
passed the unit root test performed, namely plantations are for long term and short-term ad-
the ADF test, we check the correlation between justment of supply and demand is absent which
the spot and the future market. This is done results in high price volatility.
through cointegration testing. The basis behind THE ROAD AHEAD
cointegration testing is the possibility that a lin-
ear combination of two or more non-stationary The current Indian regulations prevent
series may be stationary. We say that a non- players from writing either call or put options
stationary series is cointegrated if there exists or even from the purchase of call options. This
such a linear combination of series. The latter is based partly on the downside risk that these
combination is known as a cointegrating equa- options expose you to and also on its effect
FinSight

tion and indicates long run equilibrium between on foreign exchange flows. The absence of a
the variables. Cointegration testing checks if a commodity derivative market in India implies
group of non-stationary series are cointegrated a requirement to trade at International mar-
or not. kets, chiefly New York and London for meeting
India’s hedging needs. These traders and mar-
RESULTS kets, quite unaware of the Indian seasonality
The methodology followed to test the hy- cannot do complete justice to the execution of
pothesis is explained in this section. The data the trade. The translation of prices from the In-
for coffee has been taken from the New York dian to the International scenario could result
Board of Trade spanning from the year 1994 to in some distortions and inhibit efficient trading.
2006. The trends and volatility of the data over a
running period of 30 days has been calculated.
Subsequently, ADF test and cointegration test

16 NIVESHAK VOLUME 3 ISSUE 2 February 2010

India

Cover Story
@ Crossroads
...Yet again
Anurag Joshi
IIM Shillong
Milton Friedman made a sardonic description from falling. General elections too somehow man-
of Government’s Budget once suggesting four ways aged to coincide with the financial crunch raising
in which money can be spent: the fiscal deficit further. Deficit financing may in
“First, when you spend your money on yourself the short run help the economy curtail the effects
you do your best to put the money to good use. of recession however for a growing economy like
Second, when you spend your money on some- India’s, such an increase in fiscal deficit is non-
body else you try to control costs. sustainable.
Third, when you spend someone else’s money Slowly as the economy has started picking
on yourself you try to have a good time without up the discussion regarding the ‘exit strategy’ has
bothering about costs. started gaining pace. The big question is how the
government and RBI should go about with the roll
Fourth, when you spend someone else’s money out slowly withdrawing the stimulus packages of-
on somebody else—and then you do not care about fered earlier. But, before going on to discuss some
either the efficiency of spending or the price. possible way out, we need to understand the key
And that’s Government, Touche!” financial issues facing the country.
As the economy suffered its biggest recorded The Age old Impossible Trinity
hit in USA, the transmission channels established As the government of India opened up the
during the period of great moderation, sprung into economy for inflows in investment, India has be-
action ensuring that no country in the world re- come a hot market. With investments pouring in,
mained unscathed. In India, the Government was the rupee value will appreciate. However the IT
face to face to with a difficult situation. The reaction Sector of India which is a major source of employ-
was immediate and predictable. As currency inflows ment for millions of Indians suffers because of ru-
dried out, the Govt. of India and RBI performed the pee appreciation as most of its services have been
textbook exercise of lowering interest rates, easing outsourced to it. Hence the RBI is required to keep
trade barriers and deficit financing. a check on the exchange value of Rupee so as to
Below is a graph showing the ratio of Centre’s keep the interests of IT sector in mind. This how-
Fiscal Deficit to GDP. During the period of great mod- ever increases the rupee supply in the economy
eration the ratio showed a steady decline due to leading to a price hike. During the recessionary
tax reforms and increasing inflows in investment. period since the capital inflows dried out a huge
However as the Global Financial Crisis surfaced it- amount of money was pumped into the system to
self in India, after the fall of Lehman Brothers the keep the economy from dying.
Government was forced to push in stimulus package Now as the Capital inflows start coming in,
to prevent the Humpty Dumpty of Indian economy the excess money supplied at the time of reces-

© FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG 17

Cover Story

sion needs to be sucked out of the system to cit from 2.7 per cent in 2007-08 to 6.2 per cent
prevent inflation from rising further. And this is of GDP in 2008-09 and estimated that the to-
the big question that the RBI is facing. If it with- tal fiscal stimulus (equal to 3.5 per cent of GDP
draws the stimulus, and capital inflows take at current market prices) in 2008-09 amounted
time, then the economy will be hurt in the long to Rs. 1,86,000 crore. It is true that 2008-09 did
run. However if it does not withdraw the stimu- see a significant increase in expenditures with
lus the rising inflation will continue to torment non-plan expenditures in particular rising by 23
the common man. per cent relative to the revised expenditures for
The problem obviously is graver than 2007-08. However, there were two other areas
suggested by Mundell, as the complex Indian that were responsible for the major rise in the
economy is affected by a multitude of factors. deficit. The areas being Government Subsidies
However the question of balancing the TRINITY and Expenses incurred after Sixth Pay Commis-
is something that has a great relevance for an sion.
emerging economy fighting for its place in the The payment of the new salaries and half
world when it emerges from a downturn. of the arrears during 2008-09 resulted in addi-
The Mammoth Fiscal Deficit tional expenditure of about Rs. 21,500 crore, re-
sulted in 18 per cent of the actual increase in
‘Government spending grew 3 percentage
non-plan expenditure. The increase in subsidies
points a year faster than India’s gross domestic
product at current prices, going by compounded resulting from higher minimum support prices
annual growth rates over 59 years. The abso- and larger procurement during added another
lute numbers are truly astonishing: The size of Rs. 59,500 crore to the non-plan expenditures.
the economy grew 578 times since 1950 while Government debt in the advanced econo-
the size of the government’s spending bill grew mies is projected to jump from the pre-crisis
3,020 times.’ - Niranjan Rajadhyaksha level of 78 per cent of GDP in 2007 to 118 per
As already mentioned the Govt. of India cent by 2014 assuming some discretionary tight-
made huge spending during the last year to ening begins this year. In such a scenario, what
keep the economy buoyant. The spending has are now seen as cyclical fiscal deficits may, in
fact, morph into structural fiscal deficits. We
resulted in a huge fiscal deficit which branches
out into three salient issues: may then see the return of fiscal dominance
and undermining of the independence of cen-
a. The fiscal stimulus at the time of recession tral banks
was more than required
Therefore it can be seen that the rise in
b. The stimulus was largely responsible for defi- fiscal deficit has not been only because of the
cit in the budget stimulus packages rather it is a conjoint effect
c. The only way to solve the problem is through of the benefit package along with other govern-
lowering expenditures ment schemes rolled out during the previous
In his budget speech delivered on July 6, year. It becomes necessary to state this, be-
2009, Finance Minister Pranab Mukherjee en- cause the effect of a ‘roll back’ on the fiscal
dorsed that the fiscal policy did create a bur- deficit may not be as much as the government
den on the economy when he said that “fiscal expects it to be. Therefore a closer look at the
accommodation” in response to the crisis had Fiscal Policy is needed currently.
resulted in a sharp increase in the fiscal defi- The Supply Side Shocks

18 NIVESHAK VOLUME 3 ISSUE 2 February 2010

 Another important issue is that of the vul-
nerability of food prices in India to supply side

Cover Story
shocks. The food prices have sky rocketed this
year on account of poor rainfall leading to lesser
crop yield. As the supply of food grains reduced
the prices shot up. Hence it is being argued that
a mere tightening of monetary policy would be
insufficient to get the food prices down to its
normal level. There is also a chance that the
supply side inflation might change into a de- Weekly movement of Annual Inflation Rate
mand side one as the demand increases in a (May 2009 to August 2009)
recovering economy (with supply shortage). India also experienced a deflationary phase
in 2009 with the fall in oil and metal prices across
the globe and lowering of industrial growth. It
may be argued here that those were exceptional
times requiring drastic steps. However the les-
sons learnt from difficult times(which is not yet
over) should not be forgotten. As Indian econo-
my totters back into life, the ghost of inflation
is here to haunt the dreams of country wishing
for long term growth. The fact that the current
inflation is not a mere effect of monetary stimu-
lus and has been affected due to supply side
Weekly Wholesale Price Index Movements (May constraints which India faces is a lesson to be
2009 to August 2009) learnt for all.
It is true that a mild inflation is good for There should be steady attempts made at
the economy as inflation reduces the return on reducing the supply side vulnerability through
monetary assets relative to real assets. Hence implementation of rural irrigation projects,
investors pull money out of the money mar- stricter monitoring of ‘hoarding’ of food grains
ket and invest in real capital projects. Howev- and a better stock of food grains.
er the level of inflation in India tends to affect Lack of Technological Innovation
the common man the most, reducing his ‘real’ Be it U.S.A. or Europe each of them had
pocket money. Simply put, a very high inflation a point in history where a great technological
makes the poor – poorer. Few steps taken by the push ushered in a new era of development. For
government to cool off inflation are: Europe it was the industrial revolution and for
• The import duty on rice and wheat has been USA it was the golden period of 1960s and 1970s.
reduced to zero. The technological innovation provided the force
• Export of non-basmati rice and wheat has that each of them needed to usher in a new era
been banned and stock limits have been im- of growth and development. While countries like
posed on rice to prevent hoarding and black China, Japan and USA have heavily funded re-
marketing. search facilities, India currently lacks a research
conducive environment. As long as that does
• In order to cool inflationary trends in food
not happen, the country will continue to grapple
economy, the Government has undertaken sale
with imported technology and India will contin-
of wheat under Open Market Sale Scheme. The
ue to be bothered by external shocks.
rate of wheat and rice under this scheme is sub-
sidized, so that the consumers can be benefited. As of now the scientific research receives
very little corporate funding and this has forced
• Allocations have been made through a num-
India to import technology from foreign coun-
ber of channels so as to increase the spread as
tries. A recent example of this can be seen
well as coverage and thereby augment market
from the 3G fiasco in India. As 3G phases out
availability.
from the American and European markets the
telecom companies explore newer avenues to
‘dump’ the existing technology. India is the saf-

© FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG 19

 est playground for such games. Moreover India which the Government could take at this point
takes pride in the services sector especially IT • Control and minimize Government spending,
services, but the major chunk of revenues of the hoping that the tax collections will increase due
service sector comes from countries in America
Cover Story

to signs of global economic recovery

and Europe. The heavy dependence on foreign • Work towards an economic growth hoping the
customers for services creates a difficult situa- growth would ultimately help in lowering the
tion in times of crisis. The need of a developed fiscal deficit
manufacturing and research sector is imminent
and steps need to be taken soon as the digital • Sell Capital Assets to fund revenue spending
divide keeps getting wider and wider. Firstly, if the government does decide to
WHAT MIGHT HAPPEN lower spending it will only harm the country
in the long run as we are still recovering and
“...the crisis saw unprecedented expan- lowering spending now, will only impede the
sionary fiscal and monetary policies launched process of growth. There is huge spending re-
by governments and central banks in coordina- quired in many areas like rural development,
tion. As countries contemplate exit from these infrastructure development and energy resource
expansionary policies, the familiar tensions be- generation and hence curbing on spending at
tween monetary and fiscal policies are showing this stage may not be justified. Also, the na-
up again,” - Dr. D. Subbarao tion’s politics won’t let the Gov-
The Central Government and the ernment decrease spending, as
RBI have come to a decision of not in- payments are to be made for the
tervening unnecessarily in the foreign increased salaries and subsidies to
exchange market. A large proportion win votes.
of dollars bought by the RBI are re-in- The second option seems
vested into US Treasury Bonds, where more plausible where the govern-
the rate of return is very low (approx. ment does place some restriction
3% - 5%), making the cost of main- on its spending, yet focuses to-
taining US Dollar very high. The ex- wards long term growth. The long
cess liquidity flowing in the economy term growth will help in increasing
has to be removed through government bonds, the income thereby increasing tax collections
where again, interest has to be paid. So, in real- (Obviously tax reforms too are necessary). The
ity the tax payer’s money will used to pay the third option of selling capital assets, can be
difference between domestic interest rates and avoided for the time being! A mention of the
the rate earned by RBI. It can also be predicted 3G fiasco could be made here though. The deal
for sure that there will be a hike in interest rates was supposed to get the government extra rev-
with a probable rise of 25 basis points in Repo enue, yet has been delayed due to numerous
Rates and Reverse Repo Rates in April. Also an issues. The need of the hour is thus transpar-
increase in CRR is also probable if the liquidity ency in the government mechanism which will
continues to rise. These measures are necessary prevent such incidences from recurring. Another
to put a check on the level of inflation. However important step which may be taken (yet will
the clear flavor of the monetary policy can only not be taken) is the implementation of a Perfor-
be seen once the Central Government comes mance Based Budgeting method. Countries like
out with the Annual Budget. Sweden, South Korea and U.K. have already had
Also, the restrictions of monetary policy large scale budgetary procedure reforms. It is
will not be effective unless there is also a roll now India’s turn to implement certain changes
back of government borrowing. The RBI had has so as to bring transparency into the system.
already requested the government to indicate The need of the hour is thus to have a long
a roadmap for fiscal consolidation and define term growth in perspective and making policy
the broad outline of tax policies and expendi- decisions such that India’s dream of ‘2020’ is
ture compression. We also have to keep in mind not hampered. The real test lies in identifying
that India’s high fiscal deficit is part cyclical and our long term goals and setting short term mon-
part structural. Therefore the main task before etary policies in alignment with it. As long as
the government is to curb the fiscal deficit from that happens, the ‘FUTURE IS IN INDIA’.
growing further. Now there could be three steps

20 NIVESHAK VOLUME 3 ISSUE 2 February 2010

Growth Story: Myth or Mist??
Twisha Chatterjee & Aditya Jagati
JNU/IGIDR
This decade has witnessed perity and opportunity in the cit-
India’s shift to a high growth, ies; it is sometimes caused by the
A rendezvous with
neo-liberal model of develop- ‘push’ from the rural areas due to the development
ment, the recent financial crisis, significant changes in the mode structure right at
global food crisis and not to for- of production in agriculture in a the grassroots, in
get the spiralling food prices in form that we recognize as “dis- an attempt, to see
India. Whatever the debate be tress migration”.... in which there through the façade
regarding the origin and propaga- is a steady increase in the propor-
tion of these events, these have tion of the rural population who
of all-encompassing
one thing in common: the poor are compelled to seek a living growth. The fable
are the worst affected, trite as it outside agriculture. Most stud- has been quantified
may sound. The Suresh Tendulkar ies recognize the role of migra- with empirical evi-
Committee has recently put forth tion of the rural poorer sections dence questioning

Recherche
its estimate of poverty as 37.2% in search of work and their fre- the claims of strong
for all India (41.8% for rural and quently joining the lower cadres
25.7% for urban India). of the labour market and subse-
economic growth.
THE TRUE MANIFESTATION OF quent forced living in dilapidated
INDIAN GROWTH conditions within cities.
Among the many problems CASE STUDY
that plague urban growth in In- “Sonia Camp”, situated be-
dia, a manifold acceleration in side the Jhilmil Industrial area in
the slums and squatter settle- the Shahadra region of East Delhi
ments in the metropolitans has is one area that can claim of giv-
been widespread. Although large ing employment to hundreds of
scale industrialization, mothered researcher minds who are willing
by the extraordinary phenom- to probe deeper into the most
enon of Globalization, has been “fashionable” issue of today:
rampant, it is still doubtful as to Poverty.
how it leads to a betterment in Our survey revealed that
the informal sector of the econ- Working Class consisted of main-
omy, and it should not come to ly casual hard-earned labourers,
us as a surprise that 93% of the Petty shopkeepers or vendors,
workforce is still associated in Factory workers working in the
the informal sector. nearby industrial area, and some
. Hence the level of urban- reported as unemployed. In a sce-
ization and the rate of urbaniza- nario where people complained
tion may not always be the result of accentuating prices of basic
of ‘pull’ factors of economic pros- necessities, only 27% of house-

If mere installation of the

source can be interpreted as
synonymous to access and pro-
vision of “safe” drinking water,
then undoubtedly the govern-
ment has done its job.

© FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG 21

 Hospitals in the neighboring area that refuse to
admit the patients and cater to the needs of
these poor, these people have learnt to refuse
to believe that they can ever fall sick.
It is conspicuous that none of the house-
holds enumerated possessed a toilet within the
household. One can gauge the enormous prob-
lems that these slum dwellers live with, espe-
cially where hygiene is so highly compromised
with.. Women in some households reported that
holds had multiple working members, else with using open spaces for washing clothes or bath-
an average income of approximately Rs 4500 per ing or doing other household chores may not
month dwellers can only afford meagre suste- be cumbersome, as they are “destined to do so
nance at the brink. The chart below depicts the in poverty” but lack of toilets within the house-
division of workforce in varied fields, but the hold premises causes lot of problems during ill-
fact remains that all work is manual labour, and ness especially during pregnancy. In a situation
contract based labour, where job security or job where MCD toilet is efficaciously ill maintained,
prosperity is bleak. and no heed paid to its renovation or main-
GOVERNMENT PROVISION: A MYTH? tenance, it is tormenting to use such sanitary
While the Twelfth Five year Plan says “Pro- conditions. There were even households who
Recherche

vide clean drinking water for all by 2009 and en- reported that using open spaces was more vi-
sure that there are no slop backs”, our study of able and economical--- paying for using a provi-
the Sonia Camp done in December 2009 reveals sion which is no more in a state of usage, from
a different story. a stipulated budget made no sense. It is to be
However, if mere installation of the source noted that slum dwellers in some of the house-
can be interpreted as synonymous to access holds were extremely particular about cleanli-
and provision of “safe” drinking water, then ness, and hence preferred using open spaces,
undoubtedly the government has done its job. railway tracks rather than using the filthy MCD
The lives of the people of the camp start much toilet.
earlier than the rest of Delhi. With a net avail- It came to us as a surprise to see cer-
ability of approximately 6 taps(totis as the lo- tain households carving out a part of their
cals call it) with 6 taps in the entire area , with living room( which consisted of the entire
each household comprising of an average of 6.5 household),(about 3*3 in area) as toilets for us-
members, long queues , relentless wait and the ing at night, especially during winters or during
fight for water is inevitable. The constraint is illness, or for bathing purposes of young girls.
however, not limited to this. The water is sup- The lack of proper boring or drainage is what
plied for only two hours in the morning and in is conspicuous. When inquired at a household
the evening. Moreover, with open drains around which had a child of 5 years and suffered from
with every basic chore, right from bathing to polio, the mother reported that the child defae-
defecating, done at such close proximity to the cates and it is then manually disposed off in the
water source, potability of water remains ques- morning.
tionable. The residents report that they have Distance from the household to the MCD
not suffered from any major ailment as a result toilet also determined their usage of it. Proxim-
of the poor water quality. However, behind this ity played a big role, especially for women and
claim there could be a number of possible rea- children, and specifically during night—even if
sons. Either, the people have become immune that entailed using the paid unbearable public
to this kind of environment that owing to their toilet or the open space.
forced complacency, they feel no aberration in LITERACY SITUATION
their lives anymore or it could be as a result of
To reiterate common knowledge, this ig-
mere ignorance. With extremely limited finan-
norance is attributable to the state of educa-
cial resources affording a private doctor seems
tion in the area. The government expenditure
a distant luxury. Also, with a few Government

22 NIVESHAK VOLUME 3 ISSUE 2 February 2010

on education as a percentage of GDP has never Attendance ratio in school is slightly
been above 4% despite the target of 6% having skewed toward boys which could have various
been set as far back as 1968 by the Kothari Com- plausible explanation. Attendance ratio of girls
mission. When asked as to which class her son turned out to be 0.416 and for boys happened
studies, Kamla Devi replied, “maybe fourth or to be 0.5837 in the random sample notified. This
fifth”. Ram, her son, studies in class eighth. This is evident from the bar diagrams below. The dif-
does not mean that Kamla Devi and many like ference could be attributed to various existing
her does not attach importance to education. biases against female literacy, which are deeply
According to them there is no point studying rooted in the theories of woman empowerment,
when the “masterji” of the municipality school the existing male hegemony and the chauvin-
comes once a month. The boy would rather help ism that we still need to cope with.
the family fetch some additional fifty rupees.
Total Male literacy in the sample is 100
out of total 608 members in the entire sample.
That gives the Proportion of Literate males in
the population across the sample as 0.1644
(100/608). This is accounted with all the existing
and current literate members going to school.
Total Female literacy in the sample is abysmal,

Recherche
it is 71 out of 608 members in the entire sam-
ple. That provides the Proportion of Literate Fe-
males in the population notified in the sample
as 0.1167(71/608).
NO. OF CHILDREN AND STATE OF EDUCA-
TION

CONCLUDING REMARKS
However, the story of India’s sky-rocketing
growth masks the vicissitudes that a majority
Same accounting as before Christopher of population succumbs to. It is time we look
Udry points out that against the common belief, beyond the artifice of growth and widen our
child labour is not responsible for the low level horizon for an all-encompassing Development
of schooling, but it is the other way round. This structure. The fable thus remains incomplete—
is exactly what the story of Sonia Camp con- what appears as mere escalating figures in the
firms. It is because of the poor teaching stan- growth path is actually smeared with the blood
dards that parents attach low opportunity cost of vagary that the poor is subjected to!
in students not going to school. Frequency of
households having 5 children is maximum, in
the entire random sample of 100 enumerated .

What appears as mere escalat-

ing figures in the growth path
is actually smeared with the
blood of vagary that the poor
is subjected to!

© FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG 23

 FIN-Q
1. The CEO of this European company became a national hero and legend in his country.
However, his expansion programme in television and personal computer manufacturing
brought financial problems commensurate with the size of the company in the late 1980s and
he committed suicide. Identify him and the company.
2. What were the two oldest stock exchanges worldwide?
3. What stock has the symbol BOOT?
4. What has been the longest-listed company on the NYSE?
5. In context with securities market in India, the regulator SEBI has recently constituted a
committee to review the role of market infrastructure institutions in the securities market,
which shall review the ownership and governance structure of market infrastructure
institutions in the context of their evolving role. Who among the following will head this
committee?
6. In which of the following group the shares of those companies are kept which, don’t
comply with the stock exchange listing agreement?
7. Recently Rakesh Mohan , Deputy Governor of Reserve bank of India said that RBI
has been absorbing over Rs 1,00,000 crore (Rs 1 trillion) from banks under the liquidity
adjustment facility (LAF). Which technique is being used for this process?
8. Connect the region shaded in blue to a major happening in the world of global finance
and economics.
FinLounge

9. Name the parliamentarian who raised the matter of insurance fraud by owners of
private insurance companies in 1955. Also name the person, one of wealthiest businessmen
then, who in the resulting investigations was sent to prison for two years. Name them.
10. First credit scoring system in 1958, for American Investments was developed by?

All entries should be mailed at [email protected] by 10th March, 2010 23:59 hours
One lucky winner will receive cash prize of Rs. 500/--

24 NIVESHAK VOLUME 3 ISSUE 2 February 2010

ANNOUNCEMENTS
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of IIM Shillong
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