Trade agreements are broadly classified in to five types.

Spectrum of Formal Regional Trading Arrangements (see the image below)
 Preferential Trade Agreements (PTAs)
regional agreement in which members of the PTA impose a preferential tariff or lower customs
duty on the products originating from the member countries.
 Free Trade Agreements (FTAs)
FTA is a special case of PTA where all tariff and non-tariff barriers are abolished and free access
is allowed to the products of member countries. In both PTA and FTA, each member is free to
maintain different most-favoured-nation (MFN) barriers on non-members. Rules of Origin
between the members of FTA is agreed to ensure that genuine products of the FTA partners
alone are given duty-free access (World Bank 2005).
 Customs Unions (CUs)
A Customs Union moves beyond a free trade area by establishing a common external tariff on all
trade between, members and non-members. Customs Unions typically contain mechanisms to
redistribute tariff revenue among members.
 Common Markets (CMs)
A Common Market deepens a customs union by providing free flow of factors of production
such as labour and capital in addition to the flow of outputs.
 Economic Unions (EUs)
In an Economic and Monetary Union, members share a common currency and macro-economic
policies (Example European Union).
There is only a very shallow integration between PTAs, FTAs and Custom Union whereas a deep
integration exists between Common Markets and Economic Unions
Over a period of time there has been an explosive growth in regional and preferential trading
system in the form of Regional Trade Agreements and Preferential/ Free Trade Agreements
(PTA / FTA).
India is also involved in a number of RTAs andFTAs.India is currently involved in 19 free trade
Q. What is Backwash effect?
Ans. It is an economic development effect suggested by Swedish economist Gunnar Myrdal. It
basically means that
if one particular area in a country starts growing or developing, it causes people, human capital
as well as physical capital (infrastructure, finance, machines etc.) from other parts of the country
to gravitate towards this growing centre.
This essentially leaves the other areas worse off than before because their best brains and capital
leave them to go to the growing centre. It means that growth in one area adversely affects the
growth in the other.
For instance, in India, let’s say
 Delhi is the developing centre with all the companies being set up there.
 Then people from all over Haryana, Punjab, UP, Bihar etc. have a tendency to move to
Delhi because all companies are located there and better employment opportunities exist.
 So Delhi will grow but the remaining areas will be worse off. This is Backwash effect.
Counter to the Backwash Effect is the
“Spread Effect”
 also discussed by Myrdal. Here,
 development in one place, spreads to its suburbs and all the adjoining areas.
 Again taking the example of Delhi, we could argue that suburbs like Faridabad, Gurgaon,
Ghaziabad etc. have benefited from Delhi’s growth due to the Spread Effect caused by
Delhi’s growth.
[Economy 4 Newbie] Securities, Derivatives,
Financial Market
As usual nothing 100% politically / technically correct.
1bls ottlcle ls oboot some vety boslc coocepts. 8ot l’m wtltloq tbls becoose yoo’ll oeeJ
these concepts to understand the more complex topics like SEBI, Stock Exchange etc.
Issues & Securities,
1. lf l wrlLe on a plece of paper saylng ºooyooe wbo qlves me 100 ks., l’ll qlve
blm 120 topees oftet 6 mootbs” = this is public issue
2. If you give me 100 Rs. And take that paper- then that paper becomes the
keep ln mlnd LhaL 1he 100 ‘s you glve Lo me or Lhe 120 ‘s. l'll glve Lo you afLer 6
months- that is NOT Security. That Piece of paper is the security.
Technical definition
 Security means a formal declaration that documents a fact of relevance
to finance and investment gives the holder a right to receive interest or
 Security means A guarantee that an obligation will be met

Shares, debentures.
1hey're also securlLles of one type. You must be knowing about them already so just
in brief–
1. If for your 100 rs, I give you a limited ownership in my company and
promise to give you the share from my profit = this is share
2. 8uL lf l say LhaL, l'll glve you 13 ‘s. Lvery year no matter I get any profit /
not = this is debenture.

Derivatives / Stock Market Derivatives
 you gave me 100 ‘s and l gave you a paper saylng l'll payback 120 ‘s.
(=Mrunal's securlLy paper)
 there is another guy named Mitul who, same way borrowed 100 Rs. And
gave you anoLher paper saylng he'll pay you 120 ‘s afLer 6 monLhs. (MlLul's
security paper.)
 Now you need money before 6 months, so you write on a new paper,
ºanyone who glves me 220 ‘s, l'll glve hlm 240 ‘s. WorLh “ecurlLy papers of
Mrunal and MlLul."
 LhaL new paper you craLed ls agaln a 'securlLy ' buL lL doesn'L have 'dlrecL-
money aLLached wlLh lL' –instead, it derives its value from the security papers
for Mrunal and MlLul. “o your new paper ls called 'uerlvaLlves'
|ets now dev|ate from our art|c|e's top|c for a wh||e to |earn a few th|ngs re|ated to
recession from above talk.
Mortgage, Asset bubble & derivatives
 ?ou glve me 100 ‘s. And l glve you paper saylng ºlf l don'L pay back, you
can Lake away my house"
 Lhls ls morLgage. 8uL agaln Lhls ls also one klnd of 'securlLy paper'
 now you're a blg bank, so you've plenLy of such morLgage papers
because you glve loans Lo loL of people. (even Lo Lhose who can'L afford Lo pay
back the loan)
 Then you repack those mortgage papers (security ) and make a new
securlLy paper ºanyone who glves me 300 ‘s. l'll glve hlm morLgage papers of
3 houses" = this is derivative product.
 Suppose 3
guy bought such derivative papers and after few months, he
repacks them- makes another derivative product and sell it to 4
 “uch papers are one sorL of 'asseL' (because you can geL money from
someone using it.)
 buL as you can see, you dld noL creaLe any 'new asseL' you're [usL keep
reselllng same sLuff over and over Lo dlfferenL people. “o you're blowlng a
 After few months, I refuse to pay money, and tell the 4
guy to take away
my home. But the prices in reality sector are low so even if you sell my home
you can'L recover your 100 ‘s. = Lhls ls 'Loxlc asseL' / nÞA = non-performing
asset and your asset bubble ls 'bursL'

Financial Market

 You gave me money I gave you a piece of paper (security)
 The place where we did this business is called financial market.
 If I had promised to pay back money in less than 1 year (=short term loan)
, this will be called Money Market
 If I had promised to pay back money after long time like 10-20 years (=long term
loan) , this will be called a CAPITAL MARKET.

Subparts of capital market.
 As said above, when I take long term loan = its capital market.
 When initially I took money from you and give you piece of paper = this is
'Þ‘IMA‘¥ market.' *
 8uL afLer someLlme, you need Lhe money whlle l'm golng Lo pay back
after 10 years.
 So you borrow 100 Rs from another guy and give that piece of paper
(=security) to that guy. And tell him to recover the money from Mrunal = you
traded my security. This is '“LCCNDA‘¥ MA‘kL1' (Sharemarket / BSE/NSE
(*this primary market will be discussed in another article) our current article deals
only with capital market.)
lL's Lhe [ob of SEBI to control both Primary & Secondary Capital market in India.
(detailed article about SEBI,BSE,&NSE is coming soon.)

As you saw on above dlagram LhaL CovL. ls also a 'player' ln caplLal markeL. “o,

Why does Government issue securities?
 “uppose l'm Lhe CovL.
 My expenses are more than my income
 = l'm ln deflclL (gap)
l've followlng opLlons Lo cover LhaL deflclL

1. Increase tax rates (income tax, VAT, import duties)
But this will make people unhappy and they'll noL voLe for me ln nexL elecLlon
2. Print more money
But this will create inflation= again unhappy people= less votes.
3. Borrow from international institution (world bank / IMF)
8uL lf l borrow Loo much, l'll have Lo play by Lhelr Lunes regarding Kashmir,
Copenhagen, WTO-Doha.
4. Borrow from people within India
This sounds safer!

 “o l'll lssue securlLles. (When you lssue for Lhe flrsL Llme = you're ln
primary market.)
 keep in mind that Govt. does this for short term deficits. (its like I need
money ln CcLober 2010 buL you're golng Lo pay lncome Lax ln March 2011 so
l'll use Lhls Lrlck Lo cover my money needs.)
 Govt. generally plays only in the primary market.
 When you give me your money and receive that piece of paper
(security) = you can be cerLaln LhaL l'm golng Lo pay back and won'L run away
like Ashok !ade[a. AfLer all l'm the Government. And I pay good profits.
 LhaL's why CovL. securlLles are called 'G||t-Ldged secur|t|es'

How does this thing work?
 As l declded Lo lssue securlLy ln prlmary markeL, buL LhaL doesn'L mean l'll
send my peon/clerk/Secretary to the primary market with bag full of papers
(security) and sell it like vegetables.
 I give my piece of papers (security / treasury bills) to RBI- Lhey'll glve me
Lhe money and Lhen ‘8l's men wlll sell lL ln Lhe prlmary market. = RBI is
CovL.'s debL manager.*
 *“ecurlLy Þaper= l'm golng Lo pay money afLer some Llme. = l'm ln your
debL. And ‘8l manager's my securlLy papers so Lhey're my 'debL manager.'

Separate debt Management office.
 Ok so now you know LhaL ‘8l ls CovL.'s debL manager. 8uL conslder Lhls
 ‘8l's maln [ob = malnLaln llquldlLy (=money supply) in market via
monetary policy (=CRR,Repo etc crap)
 But, When RBI sells Govt. securities in primary market, and give the
money to Govt. = money supply flow is interrupted = liquidity is drying =
harder to get loans
 = conflict of interest.
 1haL's why many people are calllng for separaLe Þubllc debL ManagemenL
office and relieve RBI from this duty.

Ok now ,final part in this article-As we saw, there are 2 types of capital market :
Primary and secondary. but

Why do we need Secondary market?
Gives Exit Route
 l'm golng Lo reLurn money Lo you afLer 10 years. “o your hands are 'Lled'
– you can'L recover lL from me until next 10 years, so what if you needed
money ln emergency? ?ou've secondary markeL so you'll sell my securlLy Lo
someone else and recover the money. Otherwise,
 In the absence of a secondary market, many of the investors would
probably not agree to supply capital (money) in the primary market because
they would not have an exit route for their investment.
Gives Price information
By active trading by millions of investor, you get price information regarding the
This price information is used to judge
1. the corporate performance (share prices)
2. performance of the Government
3. economy (through interest rates on Government debt).
4. facilitating value-enhancing control activities (mergers & acquisitions) and
5. enabling implementation of incentive-based management contracts
(employee stock options).
Infrastructure – Roads, Railways, Seaports
Infrastructure is one of the most important topics for UPSC, because in mains-essay-
interview it helps you frame better answet lo olmost oll poestloos teqotJloq loJlo’s
problems (ranging from Maoist to insurgency to poverty) this article is just to give
basic highlights about infrastructure concepts, the minute fact-data you can find
from any magazine.
What is infrastructure?
 In simple terms, things like roads, dams, power-plants,schools, etc. help
you in your life and business = this is infrastructure.
 ºlnfrasLrucLure" ls deflned ln dlcLlonary as ºLhe underlylng foundaLlon or
baslc framework"
 Broadly, infrastructure includes all public services from law and order
through education and public health to transportation, communications,
power and water supply, as well as irrigation and drainage systems.

→hat’s the use of Infrastructure
Why infrastructure in important?
How does it help in economic Development ?

Infrastructure contributes to development both directly and indirectly.

 When Govt. opens more polytechnique, IITs,IIMs you'll geL beLLer
trained people to work in factories and business.thus,
Quality of labour is enhanced by human
capital improvements via Social infrastructure

 “uppose you're runnlng a cybercafe. So, the shop, the computers and
lnLerneL connecLlon ls your 'caplLal' (=someLhlng LhaL generaLes money.) 8uL
what if there is no electricity in 3 days per week?/ slow internet connection? =
your business will be ruined.
 So, When Govt. opens more powerhouses, lays more telephone cables,
sends more Satellites = your cybercafe will earn more money.
productivity of physical capital is improved by
power and transportation etc economic

lf you're a Lruck drlver. lf Lhe roads are bad Lhen? 1ruck's Lyres,englne wlll need
more servicing.
lf Lhe roads are good Lhen? you'll be able Lo drlve your Lruck fasLer and make more
Infrastructure lowers the cost of producing a
given level of output or, alternatively, can
increase the amount of output produced by all
other inputs for a given cost.

• Infrastructure enables markets to work better. Transactions are made less costly
and this increases the benefits of trade. For example, advances in transport and
communications have considerably lowered storage costs by permitting producers to
respond rapidly to changing consumer demands
even in international trade. (this ls referred Lo as ºmodern loglsLlcs managemenL").

lf you're runnlng a facLory, and Lhere ls no elecLrlclLy 3 days per week, Lhen you'll
wasLe loL of your money buylng & runnlng dlesel generaLors & Lhen you'll sell your
products at higher cost, to recover that money you wasted in diesel.
Unit costs tend to rise due to unreliable or
inaccessible public infrastructure.
Both small and big firms spend a significant portion of their expenditure on buying
infrastructure services and suffer when these are not available.

Now lets take a look @ some very important segments of infrastructure.
Physical Infrastructure

Roads are divided into five categories for administrative purposes.
1. National highways,
2. State highways,
3. major district roads,
4. other district roads
5. village roads

 Central Govt. is responsible for maintaining the National Highways,
other 4 types of roads are maintained by State Govt.
 Before LPG in 1991, only Govt. could invest in making roads. but after
LPG, National Highways Act was amended in 1995 to allow private sector
 NHAI (National Highways Authority of India) was created to build and
upgrade national highways.
 Funds have been made available to the NHAI for its capital base through
a tax on motor spirit and cess on diesel.
but yet
NHAI isnt working @ its full potential because
1. Frequent change of officers ( 5 chairmans in last 3 years)
2. Environment ministry clearance (you want to chop down trees to make
roads then you need permission from Forest Dept.)
3. Land Aquisition
Sam Pitroda has pointed out the difficulty -
 In old times (60s to 90s) when the land was cheap, Govt. didnot acquire
 so now it has to buy the land and pay very high prices per square meter
+ other compensation. (+ the pseudo-environmentalists)

 Railways provide energy efficient form of transportation compared to
 i.e. you want to send tonnes of wheat/coal from one state to another,
lL'll consume more dleasel lf you do lL vla Lrucks.
 railway services are intermediate inputs to production; any reduction in
these input costs raises the profitability of production.


 Traditionally, railways are seen as part of essential public service
 =railways should not be denied to even those who are unable to pay
 (=poor people should also be allowed to enjoy railways= Garib Rath /
Student concession pass etc.)
 8uL lL doesn'L fall from sky, lf someone ls en[oy someLhlng Lhen
somebody has to pay money for it, right ?
 so, freight charges* and upper class passengers ticket prices are set high,
to cover that cost.
 Lhls ls called ºCross subsldlsaLlon"

Railways earning
 30 % from Passenge tickets
 70 % from Freight traffic.*
 <*when you send physlcal lLems llke wheaL / coal = Lhls ls 'lrelghL'>

Problem for Railways
as you saw, 70° of ‘allway's proflL comes from lrelghL Lrafflc buL nowadays lL's
facing high compitition from other sectors. like

road sector the four-lanlng of Lhe ºColden quadrllaLeral" and Lnew expressway
use of pipelines for the transportation of petroleum products
coal and cement have started moving via coastal shipping.
+ Cheaper airplane tickets so those previously moving via 1st class AC Railways,
switch to Airlines when prices are low.

8uL above 4 are also 'lnfrasLrucLure' (roads, plpellnes,shlpplng porLs, alrporLs!) so
Development of one infrastructure may degrade the Development of other
But, ultimately the common people benefit from it.+ Compitition lowers the prices

To solve the problems, Railway had taken some steps

 Gauge conversion,
 doubling of existing single lanes,
 electrification projects,
 allowing Private companies to make wagons and passenger coaches
 running Duranto Expresses
 and many more.

 India has coastline of 7,000+ kms and
 12 major ports (managed by Central Govt.| account for over 75 % of
total cargo)
 185 minor ports (managed by State Govt. |25% Cargo transported via

 After LPG, Private companies are allowed to participate in Development
of these ports.

 lf you wanL Lo exporL WheaL Lo “.Afrlca, Lhen lL'll be expenslve lf you do
it using aeroplanes.
 but cheaper via sea-routes.
 8uL flrsL of all you've Lo LransporL the wheat grown in Punjab /
uÞ/Paryana Lo Mumbal's porL vla ‘allway/1rucks.
 Thus,
 Ports require good inland connectivity
(via rails/roads)

so Efficiency of one infrastructure depends on
other infrastructures.

1haL's why, CovernmenL ls lnvesLlng ln lmprovlng the road connectivity to major
ports through the NHDP.

REGULATION of sea-ports
 as you know, there is TRAI (Telephone regulatory Authority of India) as
'[udge' for Lelephone relaLed maLLers. (oLherwlse 8“nL wlll acL as monopoly
and pvt players llke vodaphone, AlrLel won'L geL level playlng fleld ln specLrum
allocation etc.)
 same way, for level playing field in sea-port operations Tariff Authority
for Major Ports (TAMP) has been set up.

landlord ports
 when cargo handling is done by private players, such ports are called
landlord ports. (just like airport Management given to pvt players.)
 but in India all major ports are run by Port Trust made by central Govt.
 the concept of Landlord ports is not yet implemenLed ln 'Ma[or ÞorLs'.
 but A wholly private owned port of Pipavav is setup in Gujarat = this is
Landlord Port.
 port of Sika ( Gujarat) accounts for the largest cargo handling among all
ports in the country. (its connected to Reliance Refinery @ Jamnagar.)

 Airports are under the management of Airports Authority of India.
 Private investments are to be drafted for the upgradation of the four
major airports (Delhi – Mumbai – Kolkata and Chennai).
 'greenfleld' alrporLs under prlvaLe ownershlp are comlng up aL 8angalore
 and Hyderabad.
 new airport promoted by Kerala State Government has come up in Kochi
with private investor participation.

 Tax on Aviation fuel = air-tickets costly.
 Big burden on tax payers, known as Air-India.


estimated 80,000 villages yet to be electrified,
Problems in Electricity supply
 Uneconomic tariffs charged from the priority sectors,
 Factories have to pay higher bills per unit of electricity so that Govt. can
give free/cheaper electricity to farmers. (again cross subsidisation)
 High transmission and distribution losses (T&D losses) because of bad
 Electricty theft.
 Financial constraints to undertake systems improvement schemes
 = slnce you're supplylng elecLrlcLlLy @

 New Telecom Policy (NTP) was introduced in 1999.
 its aim is to provide connectivity to all rural, hill villages & remote parts.
 + level playing field for pvt players.(against BSnL)

 over 2,00,000 vlllages were unconnecLed' (as of June 2002)
 Many rural / hlll areas don'L geL adequaLe Lelephone/moblle connecLlvlLy
because Lhey're ºhlgh cosL servlce areas º
 =moblle companles don'L earn enough revenues (lncome) Lo cover costs
of operating in that area.
 1hus lL falls on CovL's shoulders Lo do LhaL work. (LhaL's why CovL. Þ“u
BSNL exists.) –> this is one of the arguments in favor of public sector
 = to serve the people where pvt players are not interested to work in.
anyways, back to the topic:-

Universal Service Obligations: (USO)
 ln shorL CovL. says lL'll Lry Lo glve phone connecLlvlLy Lo rural areas.
 for this they created a fund called USO fund. so when pvt players do
someLhlng ln rural areas, Lhey'll geL money from lL.
 Govt. is trying to increase the teledensity in rural areas via 3 strategies

Niche Operators

It is assessed by TRAI that despite the USO support, existing big service
providers would not be interested to serve about 50 per cent of the villages. To
address this issue, TRAI in its Unified Licensing recommendations envisaged
that the Short Distance Charging Areas with teledensity less than 1 per cent be
notified as telecom-wise-backward areas. In these areas, niche operators,
deflned as 'Lhe Lelecom servlce provlders whose servlces are resLrlcLed Lo Lhese
backward areas only' wlll be lnducLed. 1hese operaLors are enLlLled for
concessions of zero entry fees, lower license fees and funds. The scheme is aimed to
promote local entrepreneurs who have the technical competence to provide
communication solutions but cannot compete on equal footing with large operators.

Creating Mobile Telephone Infrastructure
means lf you're seLLlng up moblle Lower / need land ln backward area Lhen CovL. wlll
glve you subsldy. buL afLer 1 year you'll have Lo share LhaL Lower wlLh oLher players
by taking some fees from them.

Subsidising the Rural Household DELs
ln shorL lL means lf you're Lhe 1aLa/ AlrLel/vodafone and lf seLup phone llnes ln rural
areas then Govt. gives you subsidy for that work.

Banking Infrastructure
What does the Bank do?
it saves your money, give you interest on it and lL'll glve LhaL money as loan Lo
someone else to buy home/start business.thus,
Banks transfers the savings into productive
But its not just the banks- but share market as well that transfers savings into

Inter-State Difference in infrastructure
In Bihar only 10% of households have access to electricity, While in Andhra its 67%
(2001 Census )

(we'll have Lo go Lo uevelopmenL admlnlsLraLlon, pollLy ,cenLre –state relations,
history etc things to understand this inter-state difference in infrastrucutre.) so not
writing much on that here.

until now we talked of Physical infra. now lets see the
Social infrastructure

Human Develpoement index has 3 components
 Income
 Knowledge
 Health.
Some Facts-
 10th Plan talked about effectively using traditional Indian medicine
system consisting of ayurveda, yoga, unani and siddha.
 These combined with homeopathy is named as AYUSH (was asked in
mains 2009.)
 Generally Govt. funds are mostly spent on preventing the of
communicable diseases.(AIDS, Cholera,Polio etc) + family planning schemes.
 But in 10th plan they talked about National Mental Health Programme
(for 'menLally challanged')
 India has 1/6th of humans living in this world.
 8y 2030 we'll be Lhe counLry with largest population on earth.
 large population has its problem- drinking water, food etc.

Total Sanitation Campaign
= making toilets in the rural areas = sanitation
= people don'L fall lll ln waLer-bourne disease
= Lhelr producLlvlLy lncreases (slnce Lhey're noL ln bed and dolng work (=earlng
money)+ their savings saved from being wasted in medicines.)

ln Loday's speech, Obama said
"the best poverty remova| program |s wor|d
c|ass educat|on"

You can find the data regarding Sarva-Siksha Abhiyaan + Mid day meal from
yearbook or slmllar books/magazlnes. “o l'm noL wrlLlng much on lL here.

Now the last part for this article

Who should create infrastructure?
 Govt. made a huge bridge on sea in Mumbai called Warli-Bandra sea link.
 Now every car passing from it has to pay about 25-50 Rs.
 8uL CovL. spenL crores of rupees maklng Lhe brldge + Lhey've to maintain
staff to collect those fees from cars , and pay that staff the salary.
 “o lL'll Lake almosL 100 ?ears Lo 'recover' Lhe money CovL. lnvesLed lL.

Second case
 We get water from Narmada dam, every morning for 2 hours. For that
we've Lo pay abouL 430 ‘s. A year. Agaln- as the same reason given above– So
lL'll Lake almosL 100 ?ears Lo 'recover' Lhe money CovL. lnvesLed lL maklng Lhe

 But we cannot deny the fact the bridges and dams are important.
 But private players won'L be lnLeresLed ln maklng Lhem because lL Lakes
long time to recover the money invested = long gestation time.
 1haL's why Lhe physlcal lnfrasLrucLure llke heavy lndusLrles, dams, roads,
bridges etc. is considered to be responsibility of the Govt.

 Problem when Govt. starts doing something = red tape, inefficiency,
corrupLlon. + nowadays CovL. doesn'L have loL money Lo make new pro[ecL.
 1haL's why Lhey Lalk abouL keeplng Lhe prlvaLe players
 So we get PPP = public pvt partnership project.
 1hen we've 8C1= bulld operaLe Lransfer Lype of pro[ecL. l'll Lalk abouL
this two (PPP/BOT) in detail in another article.
SEBI & Stock Exchange (The Beginning)
This is the first article regarding how and why SEBI
came to existence and how things were running in Stock markets in old times. The
more about how they calculate SENSEX etc. will be dealt in upcoming articles later
As usual, my articles are politically and technically not 100% correct.
What is SEBI?

 Securities and Exchange Board of India = SEBI
 It regulates both the primary and secondary markets. (explained in my
previous article)
 It protects the interests of the investors in securities
 It promotes the development of the securities market.
 SEBI was established in 1988 but was given statutory powers in 1992, and
started working effectively since 1993.
Why did the government create SEBI?
As you know LhaL ln lndla, Lhe CovernmenL won'L do any ma[or reform or acLlon
unless the things get messed up really bad. The same was the case why SEBI was
given the power to control both primary and secondary market because they were in
complete mess. So lets first see, what was the problems in primary and secondary
markets before SEBI came in picture.

The problems in Primary market before SEBI came
 primary market was extremely restrictive regulations on the issuers
enforced by the Controller of Capital Issues (CCI)
now leLs assume l'm Lhe blg buslnessman.
 Primary market is where i issue my security for the first time.
 l can'L flx Lhe prlces of my shares, as l llke, because l've Lo follow Lhe rules
made by CCI.
 but that dude always underprice my issues.
 When I put my equity shares for the first time in Primary market = this is
IPO (initial public offering)
 buL now as you know LhaL l can'L flx hlgh prlces for my lÞC due Lo CCl
 so my IPO is very cheap.
 so lots of people will send application to buy it because its cheap (= over
 so l'll have Lo glve Lhe lÞC shares via lottery only to a few people.
 but those who get my cheap IPO via lottery will immediately go to
secondary market and sell it at higher price.
 = I lost money (that I could have made if CCI dude allowed me to sell my
IPO @ higer price.)
 and those lucky dudes who won the lottery made money without really
doing anything.
 As you can see, all this is not good for industrial Development.

The problems in secondary market before SEBI came

Secondary market = where you trade the securities that you purchased from primary
For general understanding- the stock markets = secondary market = where you
sell/buy shares.
So lets see the

problems of Stock markets before SEBI came

 first organized stock exchange was established in 1875 in Bombay (now
 there were almost 20 regional stock exchanges in 1992,
 but trading was concentrated in Bombay Stock Exchange and it enjoyed
a monopoly
 Users from outside Bombay found it extremely difficult to trade in BSE
due to poor technology and high cost of telecommunications. (tbey JlJo’t
have internet or cellphones with free incoming calls in 1992!)
 BSE imposed a high entry barrier, so that competition among brokers was
 1haL's why services provided by the brokers were, thus, extremely
lnefflclenL and cosLly. (lLs same llke lndlan rallway's sLlnklng LolleLs- you can'L
complaln because rallway don'L have much compeLlLlon.)
Specific problems in Share market before
open outcry system
 means trading used to take place in trading ring where non-brokers were
not allowed in.
 1hese Lraders wlll shouL Lhe prlces llke we've ln vegeLable markeLs.
 1here wasn'L any mechanlsm Lo verlfy Lhe prlces aL whlch Lradlng acLually
took place.
 So, brokers used to charge prices to the investors (buyers and sellers of
securities) that were usually different from the actual prices
 =brokers used to report higher than actual prices for buy orders and
lower than actual prices for sell orders).
 If investors (buyers or sellers) demanded a more accurate price, orders
often got cancelled (for example, the broker could simply claim that such a
favourable price was not obtained in the market).
The settlement system
 payment of money and delivery of securities after trade by the brokers to
both parties (buyer and seller of shares)
 it favored the brokers and was to the disadvantage of the investors.
 Lhe seLLlemenL was ºfuLures-sLyle" and was on a fortnightly basis.
 means that trading done during a fortnight would be settled at the end of
the fortnight.
 system of badla =enabled the brokers to carry forward their liability (of
money or securities) to next settlement.
 so, brokers could postpone settlement almost indefinitely, if the prices
were not favorable to them.
 This led to a high degree of risks. Large-scale problems arising out of
failure to make payment or deliver shares, would lead to closure of BSE for
days together,
 this used to recur at the rate of almost once every other year.

bad delivery of Shares
 Even after you buy the shares and get the paper in your hands- you had
to send the shares to the registrar of the company to register the ownership
of that share in your name.
 At this stage, the problem of bad delivery arose due to a number of
 if the signature of the seller did not match with the one maintained with
the registrar, the shares were sent back.
Reasons for inaccurate signature
 The seller of the shares, who probably purchased the shares years back,
might unwillingly sign in a different manner.
 But in many cases, manipulations by unscrupulous operators were
 counterfeit shares (wherein any signature were put by the counterfeiter),
 Lnglneerlng bad dellverles by selllng parLy's brokers or by Lhe companles
themselves to delay settlement in order to support price manipulation.
 The time lag between buying shares and getting it registered in the name
of the buyer used to take anything between 1-3 months if everything was
 The time lag normally went up to six months on an average in case of bad

Anyways so above were the problems with primary + secondary market so Govt.
made a law to give powers to SEBI to control them both. And so CCI was abolished.

NSE (National stock exchange) was established to end the monopoly of Bombay
Stock Exchange.

NSE (National stock exchange)
 NSE was a new exchange promoted and owned by public sector financial
institutions (like IDBI, UTI, LIC, GIC, IFCI, etc.) and banks.
 NSE is professionally-managed (as opposed to the other exchanges that
are managed by brokers or members still today)

You saw the problems of BSE ago, and to curb them,
NSE came with 4 innovations

Computerized trading
 First, physical, floor-based, brokers-dominated trading outside the eyes
of the investors was replaced by anonymous, computerized order matching
 where trading is done in front of the investors.
 The order-matching system is characterized by strict price-time priority,
 wherein an order is executed according to the price parameters set by
the investors.
 The OTCEI, which was set up in 1992, was the first computerised
exchange in India.
 NSE started operations in 1994 with electronic trading, while all other
exchanges introduced electronic trading subsequently.
 By March 31, 1999, all the 23 stock exchanges in the country had
computerised on-line screen based trading.
Satellite communication
 to spread the reach of the exchange to all over the country was
attempted successfully, for the first time, by NSE.
 This was in stark contrast to the other exchanges which till then had the
reach limited to their cities of operation for over a century.

Professional managers
 the traditional exchanges were and still are managed by the member
 This gave rise to many malpractices, a conflict of interest being the most
important one. Since the brokers themselves were in charge of enforcement
of rules and regulations, they never took a decision in favour of the investors
that went against their interest.
 This gave rise to a conflict of interest between the members as brokers
and members as responsible for enforcement of rules and regulations.
 NSE avoided this problem right from beginning because it was set up as a
limited liability company with brokers as franchisees.
 This led to a situation where brokers were not held responsible for
enforcement of rules and regulations, and
 those who were entrusted with enforcement (professional managers)
were not brokers.
 As a resulL, n“L's sLaff is free of pressures from brokers and is better able
to perform regulatory and enforcement functions.

Weekly settlement
 lf you buy shares from me, you've Lo glve me Lhe money ln 1 week and
l've Lo glve you Lhe shares ln Lhe same 1 week.
 the traditional practice of fortnightly settlement cycle + system of badla
that allowed extension of even this fortnightly cycle was replaced by a strict
weekly settlement cycle without badla.

Result-BSE Is busted
 Equity trading at NSE commenced in November 1994.
 Within one year of operation, NSE surpassed the BSE in terms of
 BSE was working since 1875, with monopoly now it had to face
competition with N.S.E
 So in March 1995, BSE also adopted similar innovation to keep up in the

All this, lead to 5 good things Stock

Improved Transparency:
Investors can see with their own eyes the prices that are currently being quoted
in the market, and choose to trade or not.
Anonymity= no cartels
 The electronic trading platform makes trading completely anonymous.
 Traditionally, lack of anonymity in trading in the floor-based system
 gave rise to cartels (of brokers) and made price manipulation easy. NSE
 was a break from this tradition as well and removed much of the scope
 price manipulation.
More brokers = competition =good for clients
 NSE throws open the business of stock broking to all and everyone
(subject to fulfillment of certain criteria).
 In contrast, BSE restricted new entry into the brokerage business until
NSE came into picture.
 Now More than a thousand brokers entered the market with the NSE
leading to steep increase in competition and the consequent fall in the
brokerages* by a very substantial amount.
 This led to a drastic fall in transaction costs. (*Lhe broker's Commlsslon)
No more bad delivery
Automation of the trading system eliminated all the problems associated with
manual trading (e.g., bad delivery/ signature etc.)
Investors outside Mumbai can earn money
 Investors from all over the country have got access to an exchange on
same terms and conditions as investors within Mumbai for the first time.
 Earlier, Bombay stock exchange was the pre-dominant one in the
 but investors outside the city found it extremely difficult and costly to do
business in the exchange. (no cellphones with free incoming!)
 Thus, true to its name, NSE turned out to be the first national stock
 This benefited the investors from outside Mumbai more than perhaps
the investors within the city.

National Securities Clearing Corporation
Limited (NSCCL)
 lL's a subsldlary of n.“.L, Lo prevenL Lhe counLer parLy rlsk. (esLabllshed in
August 1995)
 counter-party risk means the risk that one of the two parties in a
transaction may fail to honour their commitment to pay cash [buyer] or stock
[seller] on the scheduled settlement date
 For every trade (buy or sell) done on the NSE, NSCCL becomes the
 means, the seller sells the securities to the NSCCL, and the buyer buys
from the
 Even if a brokerage firm fails to make payment (or deliver securities),
NSCCL makes the payment (or deliver securities).
 This has almost eliminated counter-party risk and contained the
recurrence of payment crises that characterised Indian stock markets for
almost a century.
Demat account

 ?ou read above, how Lhe 'bad dellvery of shares' was englneerlng by Lhe
brokers.+ the menace of counterfeit shares. And the fear of theft of shares.
 To curb this problem, SEBI came up with the novel idea that is
'uemaLerlallzaLlon of share holdlng'
 1hls means, you've Lo geL a uemat account in the bank and
 when you buy shares, you don'L geL a 'plece of paper'. 1haL share geLs
automatically credited to your demat account.
 In November 1996, the National Securities Depository Ltd. (NSDL), the
first depository in India, was established For this purpose.
 SEBI played an active role in gradual shifting from physical certificates to
dematerialised holding by introducing a mandatory element in the process.
 Currently almost cent percent trading and settlement are done in a
dematerialised environment.
 But things are not that safe and sweet, thanks to IPO scam-Demat Queen
Roopal Panchal
Money market, Repo Rate & Call Money
Mrunal update October-18-2012: This is Old and outdated article. don’t pay much attention, I’ll
refine and rewrite it later.
What is money market
 In simple terms, if I borrow money from you for less than 1 year = the
place where we do this deal is Money market
 For long term loans = Capital market.
See this diagram

Technical definition
 market refers to the market for short-term funds, i.e., up to one-year
 money market is the place where lending and borrowing is done through
instruments having an original maturity of up to one year.
Use of money market
 money market provides a mechanism to balance the demand for and
supply of short-term funds.
 the opportunity for players to invest their short-term surplus funds and to
borrow short-term funds in case of deficit.
 Its interlinked with Foreign Exchange market (read my article on currency
devaluation for more on this)
Call/ Notice/Term Money Market
 It is the market for borrowing and lending for short-term periods (usually
upto 14 days, but at times more than that)
 The deals mostly by commercial banks.
 It is a telephonic market, i.e., deals are struck over telephone and reported
to RBI. (that’s why its ‘call’ market)
 Commercial banks often face temporary shortages of funds (e.g., to meet
CRR and SLR requirements, or sudden outgo of funds) or temporary surpluses.
 When a bank is in shortage of funds, it telephones & borrows from
another bank which is in surplus.
3 types of deals in Call Market

Call Money

 If borrowing (or lending) is made for one day (overnight), it is known as
“Call Money”.
 This segment is also called overnight money market.
Notice Money
 If the maturity of borrowing (or lending) is more than 1 day but up to 14
days, then it is known as “Notice Money”.
Term Money
 “Term Money” refers to money borrowed (or lent) for more than 14 days
but less than one year. In

Indian money market, most of the transactions are of call money and notice money.

Players in Call Market

 commercial banks and primary dealers can both borrow and lend,
 LIC, UTI, GIC, IDBI, NABARD, ICICI & Mutual Fund managers can
lend money in this market (but they’re not allowed to borrow from this
 RBI, as regulator, routinely participates in the market to inject liquidity
(lend) or to mop up liquidity (borrow).

Repos/Reverse Repos
 repo (also known as ready forward contract) transaction,
 Suppose I write on a piece of paper “anyone who gives me 100 Rs. I’ll
give him 120 Rs. After 1 year”
 this piece of paper is security.
 Now I give that paper to you and collect 100 Rs. And tell you that I’ll buy
(repurchase) that paper after 6 months and give you 110 Rs.
 This is called repo-contract
 And this period (6 months) is repo period.
Now remember the ‘mirror’ – in the mirror my left hand will show as my right hand.
Same is for ‘Reverse Repo Rate’

 →hen you buy a security and sign contract that you’ll sell it after 6 months
= this is reverse repo contract.
 one party borrows funds for a specific period (known as repo period)
against the collateral of specific securities at pre-determined rate (known as
repo rate)

for buyer its reverse repo rate (RRR) and for seller its repo rate.(RR)
And whether the transection is RRR or RR is classified by who initiated the deal?
If the buyer initiated the deal– then its RRR
If the seller initiated the deal then its RR

To prevent the topic getting confusing and complicated. Lets take an example

First the easy example-
I’m the RBI manager.
 When I give you security (paper) & take money from you – this is Repo.
 When I buy the security (paper) from you and give you money- this is
reverse Repo.
Now the more correct example
I’m the RBI manager.
 When I give you security (paper) & take money from you & promise you
that I’ll buy the same paper back from you after few months – this is Repo.
 When I buy the security (paper) from you and give you money & you
promise me that you’ll buy back that paper from me after few months- this is
reverse Repo.

The players in Repo / Reverse Repo Rate

 RBI, Scheduled banks & Primary dealers can borrow and lend
 Non-Bank participants (Finacial institutions) + companies listed in stock
market can only lend , they can’t borrow.
Lets rewind the liquidity tape
1. Liquidity = How much money in the market? = if money is plenty= easy to get
loans @ cheaper interest rate = this is called cheap / easy money.
2. When there is less liquidity =hard to get loans and the interest rate will be
higher = this is Dear money.
3. Where there is too much money= inflation
4. →hen there is too less money= bad to business as you can’t get loans easily to
run your works.
5. So RBI’s work is to fine tune the liquidity (money supply.) = tuning the dear
money / easy money policy based on the situation.

RBI & Repo
 absorption of short-term liquidity, RBI carries out overnight (one day)
repo auction at a fixed rate.
 Currently, fixed-rate repo and reverse repo auctions are conducted by the
RBI on a daily basis (excluding Saturdays, Sundays and other public holidays)
for 1 day (overnight) tenor.
 This means, RBI is ready to sell as much securities as is demanded by the
participants at the fixed rate.
 This rate is fixed in the sense that it does not change on a daily basis
depending upon the supply-demand condition of short-term liquidity
 Changes in the fixed repo rate are usually made in the Annual Monetary
and Credit Policy or in the Mid-Term Review of the Monetary and Credit
RBI & Reverse Repo
 In order to inject liquidity into the system, RBI conducts fixed rate
auctions of reverse repo at a rate higher than the repo rate.
 The reverse repo rate is linked to the repo rate in the sense that it is set at
specific percentage point above the repo rate.
Definition difference from international
 Keep in mind, the terms repo and reverse repo have been defined above, is
just opposite to the international practice.
 That is, what is repo in Indian terminology is reverse repo in international
parlance, and what is reverse repo in India is internationally known as repo.
 In a fast globalising environment, this may create confusion.
 Consequently, RBI has changed the definitions of repo and reverse repo to
bring them in line with international practice with effect from 27th October
 However, in this article, we have throughout followed the older (Indian)

Money market topic doesn’t stop here, there are other remaining items like
Commercial papers, Treasury bills, Certificate of Deposits etc which will be dealt in
some other article.
Kerosene Subsidy & Parikh Report
As usual nothing 100% technically or politically correct. and
As usual media is not playing its role right. “lnce yesLerday Lhey're all crylng ln loud
and angry tone that they all are covering KirlL Þarlkh CommlLLee's ‘eporL only
hlghllghLlng ºLPG rates will be hiked by Rs 100 per cylinder and kerosene by Rs 6 per
litre.” And their tone is like Mr. Parikh is the enemy #1 of India by suggesting price
rise in petro-products. But none of them is actually explaining why exactly Parikh is
recommending for price rise?
So here see the other side of the mirror-
PDS= public distribution system (Raashan ki dukaan.)
PDS Kerosene price has remained at around Rs.9 per litre at Delhi since
Govt.’s intention for selling cheap Kerosene
· If kerosene is expensive then Poor Girls will be forced to collect firewood all day= can’t go
to school
· deforestation = climate change + global warming.
· Villagers using Cattle-dung
· but Cattle dung has better use a manure.
If poor people use wood / dung for cooking then?
 indoor pollution
 respiratory disease, eye burns.
 thus, Life-Expectancy of women + infants reduced.
These are Govt.’s good intentions for selling cheap kerosene but lets look @
the ground realities.
Kerosene Smuggling!
 price of PDS kerosene in India is very low in comparison with that
in neighbouring countries -Bangladesh and Nepal.
 The price of kerosene in Bangladesh and Nepal is Rs. 29.28/litre
and Rs.
 36.29/litre respectively as in January 2010, more than 3 to 4 times
the price in India.
 So people are doing cross-border smuggling this is referred as
‘Fuel tourism’
Size zero coins
 Related to the ‘fuel tourism’, previously our currency coins were
‘thick in size’ esp Rs. 2 & 5 but these people would smuggle it to
Bangladesh and melt it and make shaving razor-blades from it.
 For e.g.out of 2 Rs.’s thick coin they’ll make 10 blades and sell it
for 5 Rs. and cutting their production cost- they’ll still make good profit.
 that is one of the reason why Govt. changed our coins- now
you’ve ‘thin-size zero’ coins for 1/2/5/10.
 Anyways, back to the topic-

Kerosene & Cooking
NSSO survey says that
 In 2004-05, 62% of the rural households got kerosene only from
PDS and
 consumed less than 3.5 litres per month
 But, less than 1% used it for cooking but 60%
used it for lighting.
 Means they’re using firewood and dung for cooking even when we
give them cheap kerosene.
 (so it kills the purpose of saving poor women from indoor pollution /
firewood gathering by giving cheap kerosene.)
Diagram- solutions & problems

Kerosene & Light

 The primary objective of subsidizing kerosene is for lighting
 In the absence of electricity, kerosene has, for long, been the only
source of lighting (apart from more expensive vegetable oil-based
 However, with the development of LED lights, LED lanterns using
ordinary dry cells provide an alternative
 which, at comparable cost to what household spend on subsidized
kerosene, provides better light and involves no subsidy.
 As manufacturers make these lanterns available across the
country, the need for kerosene for lighting will reduce.
 But, these alternatives pose the problem of safe disposal of used-
up cells but its not really challenging task.
 Solar lighting systems can also provide an alternative albeit at a
much higher initial cost.
Kerosene & Electricity :- Double subsidy!
 For BPL people, there is Rajiv Gandhi Gramin Vidyutikaran Yojna
(RGGVY),for getting electricity supply but yet they’re using kerosene for
 Since kerosene subsidy is going largely for lighting, the allocations
should be reduced as more and more BPL households are connected
to the electricity grid.
 Such connections under the RGGVY are subsidized and continuing
kerosene supply to such households amounts to double subsidy.

Kerosene used in Diesel vehicles!
 Large price difference between PDS kerosene and diesel is an
incentive to divert
 kerosene to adulterate diesel.
 Estimates suggest 35% or more of PDS kerosene is diverted for
unauthorized purposes including adulteration.
 A consequence of this diversion is that the more than Rs.20000
crore of investment in producing Euro III and Euro IV diesel would be
negated to large extent if diesel continues to get adulterated by
 Govt. adds some dye in kerosene so PDF kerosene becomes blue
color, but that doesn’t solve anything. (if you put sand +charcoal+ some
chemical power then blue colored kerosene will become white again)

How to prevent Kerosene adulteration in
Diesel vehicles?
 first important step in kerosene pricing should be to have one price
in the market
 Kerosene price should be close to the price of diesel so as to
eliminate any incentive to mix it with diesel!
 This can be achieved if PDS kerosene is provided to BPL
households through a system of smart
 cards with biometric identification.
 The cards would indicate the household‟s entitlement of
subsidized kerosene.
 This will reduce PDS kerosene need by one third, as diversion
would cease.
Direct cash transfer instead of subsidy?
 When we say kerosene’s price should be closer to diesel’s price so
it becomes unprofitable to mix kero with diesel.
 But then you full proof distribution of subsidy kerosene and OR give
direct cash to poors so they buy kerosene from market instead of PDS
 But then suppose a poor man given 100 Rs. To buy monthly
kerosene for his family , he may not buy it and instead buy liquor and
beat up his wife to collect firewood from jungle for cooking.
 Thus, The argument for providing subsidy in kind rather than in
cash rests on the problem of intra-household distribution of expenditure
where a woman‟s needs may get a lower priority.
 This intra-household distribution problem can be addressed to
some extent by transferring cash to the account of woman of the

Smartcard & Kerosene- time delay
 the use of Smart Cards for targeting the subsidy on kerosene
may take two years or more until the
UID project becomes fully
 so Parikh Committee recommended that allocation across states
should be rationalized to bring down all-India allocation by at least 20%
 price of PDS kerosene be increased to at least Rs.15/litre so as
to keep subsidies under reasonable level
 this will keep diversion and adulteration under check.
 Thereafter, price of PDS kerosene be raised every year in step
with the growth in per capital agricultural GDP at nominal price.

Developed States & PDS Kerosene
 Over the years, distribution of PDS kerosene has developed an
inverse relationship
 with the income levels of states, which needs to be rationalized.
 For instance, the average per capita kerosene allocation in high
income States in 2007-08 was 14.1 litre
 which was 41% higher than that of the low income States.
 economic development and improvement in power supply, the
percentage of households using kerosene in different States has
declined. (so where is all this Kerosene
going ?)
 Most of the households use only 3.5 litres per month. State-wise
 allocation should be based on the number of BPL households
without electricity in rural areas
 and urban households using kerosene for cooking. Since electricity
supply may be erratic, a
 smaller allocation say 2 litres per month may be made for electrified
BPL households.
 subsequent progress of rural electrification, LPG and piped gas
 availabilities is expected to reflect much larger reductions in Kero
use in coming years.

Poorest Rural BPL spends around 2 per cent of its monthly expenditure on
While they spend 13 %per cent of , what one might call, its discretionary
expenditure on
1. entertainment,
2. personal effects,
3. toilet articles,
4. sundry articles,
5. consumer services
6. conveyance.
There is therefore, some scope for increasing price for PDS kerosene.
if we take the growth rate of per capita
GDP in agriculture, that should give a
good measure of the ability of the rural
poor to pay.

How to calculate new price for
 PDS Kerosene prices have not been raised from around Rs.9 per
litre since March 2002.
 During 2002-03 to 2008-09, the per capita agriculture GDP at
current prices has increased by around 60% (at an annual compound
growth rate of 6%).
 By 2009-10, the increase is likely to be 66%.
 A 66% increase in kerosene price would keep the share of
expenditure on kerosene at the same level as in 2002-03.
 Thus, the price of PDS kerosene could be raised by 66% to reach
a level of around Rs. 15/litre without putting undue burden on the poor.
Govt. Price control on Petroleum Products-
 80% of our oil is imported.
 2008 saw an unprecedented rise in oil price on the world market.
 Crude Barrel price increased from US$ 36 / barrel in May 2004 to US$132.5 / barrel in
July 2008,
 government did not permit Public Sector Oil Marketing Companies (OMCs) to pass the
full cost of imports on to domestic consumers of major oil products, i.e., petrol, diesel,
domestic LPG & Kerosene.
 Since it doesn’t fall from sky,somebody has to pay for it.
 Govt. paid it- via issuing bonds to Oil making Cos.
 So what we are getting is ‘subsidized product’ and this is how Govt. ‘controls’ the prices
of petroleum products
Bad Consequences of Government’s Price
control on petro-products
 If Petrol producer can’t sell the petrol @ high price, he has no interest in expanding /
upgrading his factory. so–
 Artificially low prices can widen long term supply-demand imbalances by discouraging
refiners and marketers to expand capacity and, on the other hand, encouraging demand
 Since Petro is cheap,
 every Tom, Dick and Harry around is going to fill his bike’s tank full and loiter around
the city & colleges with out doing any productive work.
 People are going to use vehicles even for short distance travel which they could cover on
foot/bicycle or public Bus/Railway
 So Fuel shortages are nearly universal when prices are kept low.
 Since petrol is cheap, people don’t use extreme parsimony /care in its use.
 Subsidizing domestic consumers also doesnot incentivize them to economize on use of
petroleum products.
 Market malpractices like hoarding, black marketing, and adulteration thrive when prices
are controlled arbitrarily. Especially for Kerosene, I see long lines of Rickshaw drivers in
front of those Kerosene vendors every evening – why do they come there?
 Major oil exporters that subsidize petroleum product prices can actually become product
importers for lack of investment in the downstream sector. Iran, Iraq, Nigeria and
Mexico are prime examples.
 Cross-border price difference trend to widen when prices are kept low; it
encourages “fuel tourism”/ Smuggling especially for Kerosene.
What’s the consequence of Oil Subsidy?
 They put stress on government’s finances.
 Lot of Govt.’s money goes into subsidizing these things which could have been used for
other projects.
 Oil cos have to sell their product @ the price determined by Govt. thus, they don’t have
big cash surplus to invest in finding new oil wells in country or buying oil fields abroad.
 Govt. doesn’t issue oil bonds to Oil cos on time, they created cash flow problems for
OMCs who had to borrow from the market,
 which increased interest payments and reduced their surplus.
 only the OMCs were provided financial support, the private sector companies withdrew
from oil marketing.
 This not only made infructuous the large investments they had made in setting up retail
 it also reduced competition in oil marketing.
 And low competition amongst manufacturers is bad for consumers.
People earn more, yet pay less for petro
 In last 10 years, Petrol prices are almost constant, around Rs. 40-50 bracket.
 while income of people has increased (+ the 6th Pay Commission)
 so, lot people buying cars and bikes.
 so, the demand for petroleum products such as petrol and diesel recorded double digit
growth -higher than the GDP growth.
 Continuation of the present policies is not viable, particularly once oil prices rise again
Note: these are the observation of Parekh Committee!
 Since Govt. pays money to keep petrol cheap, it puts money shortage for Govt.
 (which is under lot money burden already thanks to pakis – we’ve to maintain huge army,
make test new missles every week)+ naxals + insurgency in N.East = lot money going
into Revenue Expenditure instead of capital Expenditure.
Why Should the government intervene at all
in the market and set prices?
 because poor people need cheap kerosene to cook food, else they’ll chop down the trees.
= climate change they also use kerosene lamps, because they have no electricity.
 suppose LPG & Kerosene were sold on high prices then?
 Poor Girls will be forced to collect firewood all day= can’t go to school
 Deforestation = climate change + global warming.
 Villagers using Cattle-dung but Cattle dung has better use a manure.
If you use wood / dung for cooking then?
 indoor pollution
 respiratory disease, eye burns.
 thus, Life-Expectancy of women + infants reduced.
if Diesel was expensive then?
 truck owners will demand higher fees for transporting veggies + milk. = inflation !
 But Parikh Committee reports it is not entirely true. (petro-diesel control will be in next
Cycle of Inflation even if petro prices go
 suppose today World Oil Barrel price is say 10,000 Rs./ barrel.
 Govt. lets the market forces decide the oil price
 so here they’ll sell Dieasel @ 100 Rs. / litre
 inflation in milk/veggies price.
 but even after few weeks – when world price goes down to 5000 Rs/barrel
 the middleman won’t let the price of milk/veggies go down.(even if truckers reduce their
 thus,
 complete pass-through of increase in world oil prices may cause inflation which may
persist even when oil price comes down.
Ultimately even Cheap Petro is bad for
 Petro doesn’t fall from sky, somebody has to pay for it.
 in this case, Oil cos sell petro cheap and Govt. pay for it.
 But, Govt. can’t ‘print more money’ just to give it to Oil cos. (that’ll create inflation)
 so where does the money come from?
 general increase in taxes, or
 by increasing fiscal deficit or
 by cutting other government expenditure
 so ultimately someone is suffering in some way.
 tax rise = rich & middle class
 MRP of products increase due to higher VAT on other things so on one hand you get
cheap petro on the other you get costly soap/toothpaste.
 and even poor are affected because everyone buys matchsticks.
 Fiscal deficit= (its consequences are discussed in my old article on public debt.)
 Suppose they chop down Govt. Expenditure on girl education to release some subsidy
money for cheap petro= society suffers in long term.
kills the innovation
 Price control means setting prices
 price calculations involve rigid specifications of items to be considered and their costs.
 today most people get gas via ‘cylinders’ – have to wait after booking the cylinders.
 but if they laid the pipelines in every town and city , gas connection to every home-
 that’d make the life of a middle-class man very easier.
 but initial cost of setting the pipelines is high, and since
 Govt. doesn’t let the LPG sold @ higher prices, Oil cos have no money for it and
 Govt. pays for petro-subsidy, instead of using that money to lay down gas-pipelines- to
settle the problem atleast in major cities.
Other impacts
 if diesel is cheap, it may encourage freight movement by trucks rather than by train.
When the price
 difference between petrol and diesel is high, diesel driven vehicles may be preferred. If
there is a large difference between the prices of diesel and kerosene, kerosene may be
used to adulterate diesel.
 In 2008, we have even seen diesel being used in place of furnace oil.
 Thus, Price control, subsidies and taxes can introduce distortions which may not be
What happens if Govt. stops regulating?
 if international crude oil price rise from $60/barrel to $120/barrel
 then price of petrol in Delhi is required to be increased by Rs.20/litre,
 the price of diesel by less than Rs. 20/litre and
 LPG by around Rs. 200 per cylinder.
 In order to shield the Indian economy and consumers from the adverse impact of a
volatile international oil market, the government decided to fix the consumer prices of
four sensitive petroleum products, viz. petrol, diesel, domestic LPG, PDS kerosene.
 As the prices of these products were below their cost, government devised a
compensation mechanism for the public sector oil marketing companies (OMCs).
 This mechanism essentially involved financial support to OMCs from other public sector
upstream companies, viz. ONGC, OIL and GAIL by way of price discounts and from the
government through issue of bonds.
 Parikh Committee suggests that at current levels of prices of petrol, diesel, PDS kerosene
and domestic LPG, the financial burdens on the companies as well as on the government
will be unsustainable.
 Therefore, there is a need to change the existing policy which can strike a balance
between the capacity of the consumer to bear higher prices and fiscal stability of the
 Explicit formula-based pricing mechanism of petroleum products is not conducive to
establishing a long-term viable and globally competitive oil industry in the country.
 As more than 3/4
of the current domestic crude oil requirements is met by imports and
is expected to go upto further in the future, the domestic consumer prices of petroleum
products should be increasingly aligned with movements in international oil markets.
 Any ad hoc system of price fixation by the government may provide a semblance of
domestic price stability in the immediate-to-short term, but give rise to serious long-term
instabilities in the demand-supply conditions in the country, competitive functioning of
oil companies, and fiscal soundness of the government.
 A viable and sustainable pricing system for petroleum products is a key requirement of
stable, long-term growth of the economy. Similarly, a financially strong and globally
competitive oil industry provides an enduring platform to strengthen energy security of
the country. It is therefore important that oil companies should have the freedom to set
prices based on competitive market conditions. The government needs to extend subsidy
to the targeted consumers in such a manner which does not impinge on the freedom of oil
companies to set prices in the market place.
Petrol-Diesel-LPG Subsidy- The Parikh
1. Petrol is largely an item of final consumption.
2. So Petrol price, therefore, has a very small impact
on inflation
3. Because goods and veggies are transported via trucks which use
One Example
 A two-wheeler consumes, on an average, 86 litres of petrol per year,
for which the owner spends Rs. 320 per month (Rs. 510 in Delhi).
 The fuel expenditure of car owners is much larger at Rs. 2210 per
month (Rs. 4140 in Delhi).
 Motorized vehicle owners are largely well-off persons belonging to the
upper two/three deciles of the population.
 There is no reason to subsidize this class of consumers.
 Full price pass-through at US $ 80/bbl will increase the retail price
of petrol by around
 Rs.7/litre. The additional expenditure of a two-wheeler owner would
be only Rs. 50 per month (all-India average).
 If higher petrol prices lead to less driving, more fuel efficient
vehicles and an efficiency
 increase by 20%, the additional cost would be that much less.
 Parikh Committee believes that the cost increases can be
borne by motorized vehicle owners and
recommends that petrol prices should be market-
determined both at the refinery gate and retail

Out of total Diesel consumption in India
see this pie-chart to know who uses how much of it-

Diesel & Agriculture
 Farmers use diesel for following things
 tractors,
 thrashers,
 tillers,
 harvesters,
 pump -sets
Diesel & Farmers
 if diesel price rise- they’ll suffer BUT
 Government can compensate via fixing higher Minimum Support
Price (MSP) for major crops.
 Therefore, any increase in the cost of diesel will be reflected in the
price and will not adversely affect farmers
 Higher diesel price will induce them to use less diesel which may
reduce over-use of ground water prevalent in many parts of the country
(via pump-sets)
 Govt. instead of giving cheap diesel- uses that subsidy money to
build more canals, then farmers won’t have to use lot pump-sets
 higher diesel price = higher MSP will increase subsidy for PDS,
(since food become expensive, Govt. has to give more money to supply
same quantity of PDS wheat/rice.)

Diesel & Truckers
 Trucks and jeeps & SUVs consume around 40% of diesel.
 With industrial revival and higher economic growth, the truck
owners generally raise their rentals in consonance with growth.
 Therefore, long distance charge for a round trip between Delhi and
Mumbai for a
 9-tonne truck is more than Rs. 40000 today whereas its diesel
consumption works out to around Rs. 22000.
 Higher diesel price would encourage fuel use efficiency as well as
greater use of railways for freight movement.
 Railways consume around 1/4th as much diesel per net tonne
kilometer as trucks.
 means climate change help.

Even assuming that the truckers, power generators, industrial users etc.(other
than the
passenger car owners) are able to pass on fully the additional cost of diesel,
an increase of Rs. 4 per litre would mean an increase of around Rs. 20,000
crore in their cost of diesel which would be around 0.4 % of GDP in 2008-09.
This should be compared with the inflationary impact of subsidies, which
would be similar.

Car owners who drive diesel vehicles, including Sports Utility Vehicles
(SUVs), should
be able to bear the additional cost. There is no economic or social reason to
subsidize them
so Parikh Committee recommends that the price of
diesel should also be market determined both at the
refinery gate and retail levels.

And finally, LPG
LPG Cylinders
Subsidy situation
 LPG consumption is growing and global price is also expected to
increase, the subsidy burden will keep growing. This is not a
sustainable situation.
 Normally, a subsidized product ought to be given in limited
amounts. However, domestic LPG is both heavily subsidized
and available in unlimited quantity.
 The burden of subsidy can be reduced by
either raising the price or reducing the quantity or

How many cylinders used per year?
1. rural households use from 5.17 to 7.91 cylinders per year.
2. Urban people use 8-10 cylinders per year.
3. Poors use firewood/dung/kerosene
4. 57% of urban households but only 8.6% of rural households used
5. Rajiv Gandhi Gramin LPG Vitrak Yojana launched in 2009 aims to
cover 75% of the population by 2015 which will substantially increase
access of rural households to subsidized LPG.

Wrong people getting cheap LPG?
 LPG-consuming households in the top 3 decile in urban areas,
comprising some 22 million households, use nearly 40 per cent of LPG
and spend less than 5 per cent of their total expenditure.
 These households get a large part of the subsidy even when they
have the capacity to pay the market price for LPG and
will use LPG even when the price is raised.
 Since providing universal subsidy through price below the cost
misdirects the subsidy to the relatively affluent, a strong case can be
made for subsidizing LPG as a clean cooking fuel for the poor.

How to distribute LPG to poors?
 If the poor are to be subsidized, we need an effective mechanism to
provide the subsidy.
 smart card system or transfer on entitlement based on the UID
platform can be used which entitles a household a fixed quantity of LPG
at subsidized price beyond which the market price would be charged.
 yet this can happen—poor getting cheap LPG cylinder- selling it to
middle class family @ a little higher price and then burning firewood &
dung to cook in his own home. So not just ‘smart-cards’ you need a
more full proof system like gas pipeline or something.
 Best solution is just simply giving direct cash- and then every one
including poor men buy LPG @ market prices!
Direct cash transfer instead of subsidy?
 Instead of subsidy, direct cash transfer to poors may be provided
and everyone is charged the market price.
 But then suppose a poor man given 100 Rs. To buy LPG , he may
not buy it and instead buy liquor and beat up his wife to collect firewood
from jungle for cooking.
 Thus, The argument for providing subsidy in kind rather than in
cash rests on the problem of intra-household distribution of expenditure
where a woman‟s needs may get a lower priority, and on the merit good
nature of LPG use. The intra-household distribution problem can be
addressed to some extent by
 transferring cash to the account of woman of the household

The UID /Smart cardsystem,
 which is currently under progress, or the Smart Card system piloted
by Petro ministry with biometric identification could provide a
transparent, targeted subsidy delivery mechanism which can eliminate
diversion of LPG cylinders for unintended uses.
 However, since rolling out of the Smart Card mechanism on the
UID platform may take at least 2 yearan interim arrangement has to be
devised to contain the ballooning LPG subsidy. In
 this regard, we have only two options: either ration the
quantity or raise the price.
 As we so ago- even with smart card- you give cheap
LPG – they’ll go in wrong hands so you’ve to give
direct cash transfer to poor – not cheap LPG.
Ration / Subsidy system’s problem
 Any scheme of rationing or limiting the number of cylinders at
subsidized price without Smart Cards will involve a complex monitoring
and inspection system more likely to promote Inspector Raj rather
than effectively reduce subsidy.
 In the interim, therefore, there is no choice, but to
raise the price of domestic LPG if the subsidy burden is to
be reduced. As the NSSO survey data have shown, households have
flexibility in absorbing certain additional costs on LPG by adjusting
expenditure on discretionary items.
 Accordingly, LPG price can be increased at least to the extent their
income has increased so that the proportion of income that they spend
on LPG remains the same.
How to calculate new price for LPG?
 The logic of adopting changes in GDP as a yardstick for increasing
prices of PDS
 kerosene has already been explained in previous article. A similar
dispensation can be devised for domestic LPG also. Since LPG is used
largely in urban areas its price should be determined on the basis of
growth of total GDP (in contrast to agricultural GDP considered for
 The per capita urban GDP during 2004-05 to 2009-10 has
increased by 84% (say 85%).
 Accordingly, the fair price of domestic LPG cylinder from the base
price of Rs. 262/cylinder in
 2003-04 is estimated to be Rs. 485/cylinder in 2009-10. Another
way of assessing the level of price of LPG cylinder in 2009-10 is to
maintain the percentage of LPG subsidy in the price of 2003-04.

Parikh Committee’s recommendation on
LPG pricing

 A long term viable system of pricing of domestic LPG and effective
targeting of subsidy can be ensured through a transparent distribution
system based on the UID/Smart Card framework. Under this
 a single price of LPG for all consumption purposes
can prevail in the market, which will eliminate the scope for diversion to
unintended uses.
 Subsidies to the targeted group such as the BPL rural households
can be delivered as entitlements or through direct cash transfers
to be given to the woman of the household.
 Since the above mechanism is yet to be made operational, an
interim measure needs to be put in place.
 While companies would weed out multiple connections
and create a scientific data base for effective monitoring, there is a
strong case to increase the price of 14.2 kg LPG cylinder
by at least Rs. 100 per cylinder.
 Thereafter, the price of domestic LPG should be periodically
revised based on increase in paying capacity as reflected in the per
capita income.
 The subsidy on domestic should be discontinued for all others
except the BPL households once an effective targeting system is in
 As a clean cooking fuel, LPG is a merit good and subsidy to poor
households may be needed and justified.
RBI prints more money when and its
implication on gold and forex reserves
Tanvir Khan asked What are the situations at which rbi print notes?
Answer: RBI prints new notes to replace the old torn-out notes and to meet the money demands
of a rising economy.
As you know, if people have x amount of money but there are not sufficient items in market to
purchase, then there will be inflation (price-rise).
So RBI’s job is to maintain the money supply (liquidity) in the market, to prevent inflation.
If there is shortage of money in the market, RBI generally alters its SLR,CRR,Repo,Reverse-
repo to increase the money supply.
Lets imagine,
We need to buy new F16 fighter-plane from America, they ask for 1 billion dollar$.
So Prime minister Manmohan Singh asks the RBI to print new notes of 50 billion rupees and
pack them in a big suitcase. Then he takes it to Forex market, gets the Rupee converted into
dollars and buys the fighter-jet. But the same broker at Forex market, will use those 50 billion
rupees to buy all the tea,Basmati rice, onion, potato and everything in India and then export it to
other countries!! So shortage of items for Indian consumers = price rise=inflation.
So RBI cannot print notes indiscriminately.
However an expanding economy like us, requires more money so people can take loans and start
business etc. Even after altering SLR,CRR,Repo,Reverse repo, there will be still demand for
money So RBI must be printing more money after looking at the indicators like IIP, GDP etc.
Besides printing money also costs money. So I think there will be some complex formula, but
I’m not aware about it.
2.)Sufficient gold or forex reserves is necessary to print notes by the rbi but please explain me
what happens to the forex or gold reserve as soon as the indian notes are printed. i.e., if the rbi
has 4000 u.s. dollars as forex reserve and a situation occur to print 100000 rupee notes (2000 us
dollars=100000)(so after printing the notes, will the forex reserve of india become as 2000 us
dollars or will it remain at 4000 us dollars itself.
Please explain…..
Nothing happens to forex or gold reserve. It remains as it is.
Prior to World war-II era, nations used to print only as much currency as the gold-reserve they
had. Nowadays currencies are not linked with gold.
However, RBI uses special printing-machines, papers and inks imported from Switzerland etc. to
print the new currency notes. so obviously RBI has to pay in dollar$$ while buying the raw
material. So in that sense some of its forex re$erve will deplete.
RBI can never link the money-printing to gold or forex reserve because that’ll sevearly limit its
capacity to meet the money-demands of a rising economy.
you can get brand-new fresh notes and coins from RBI branch, but before you have to wait in
long queue while the RBI staff sells it to the agents from the backdoor (Rs.10 Commission on
Coins worth Rs.500). And those agents sell it to merchents, but merchants never use it and insist
on you to buy toffees worth Rs.1,2,3 instead of returning the change. (as seen on sting-operation
by E-T↑) So, in that sense, artificially created shortage of ‘change’ also boosts economy!
Deregulation of Petrol prices : Pros, Cons,
1. As petrol becomes expensive, the college kids waste less of it, loitering around on their
2. Middle-class people start using public transport systems instead of their private vehicles
= less air & noise pollution and traffic congestion during peak hours.
3. Less subsidy burden on tax-payers, who are not using petro-vehicles
4. People switch to CNG based vehicles = less pollution.
1. As petrol becomes expensive, rickshaw fares increase. So you end up wasting lot of time
waiting for the bus or wasting more money on rickshaw.
2. Cost of everything that is transported by petro-vehicles, also increases.
3. Erratic public transport system (buses and railways) creates problem in reaching at office
/ school /college on time = negative-effect on nation's productivity.
4. Deregulation of petrol doesn't directly mean that Government will reduce taxes, they'll
simply start diverting that subsidy-money to something else like NREGA where again
their cronies loot it via ghost muster rolls and fake ration cards. So better you and me
misuse the subsidized petrol then let them enjoy the subsidy money!
5. If petrol becomes expensive People start preferring to buy diesel vehicles. So recession in
petro-vehicle sector and boom in diesel vehicle sector.
6. People start buying electricity-based cars and scooters but where does that electricity
come from?? if from coal based thermal power plant, then again it'll lead to more
7. Petrolpump owners will start adulterating more kerosene in petrol, to increase their profit
margin, while vehicle-engine efficiency decreases.
8. The theoretical assumption that as petrol becomes expensive, businessmen will start
investing in clean energy: doesn't hold much water in India, as the required infrastructure
and Government support for research in clean energy technology is bare minimum,
compared to USA etc.
Micro finance and its problems
The Sketchy details about micro-finance are as following.
Poor people want to start some small business, but don’t have money and banks are not
interested in doing lengthy paper-work to lend them small amount of money.
So poor people end up going to moneylenders, who charge 36% interest rate and then poors
remain indebted forever.
To fix the problem, Government came up with a microfinance solution.
Basically Government gives money to NABARD (National Bank for Agriculture and Rural
NABARD supplies it to local cooperative banks etc.
Poor ladies from village gather up and make ‘self-help groups’.(SHG)
They pool some money lets say 5000/- And NABARD gives them 20000/- on very low interest
rate, so they can start some small business like wafer-chips, embroidary, greeting cards, soaps,
detergent etc. As they start earning profit, they slowly start repaying the debt in small amounts
like 100-200 Rs.
Since they’ve formed a group, they’re less vulnerable and more likely to repay the money back.
All sounds good on paper. Mohd.Yunus even got a Noble for this, with his Gramin bank in
Bangladesh. And you can read all rosy-feel-good stories about it in The Frontline, Yojana and
But when you add corrupt politicians, indifferent-bureaucrates, crony NGOs and agents to this
Microfinance equation, everything changes.
Problems in Micro-finance
1. Compare potato chips business between some poor self-help group vs. giant companies
like Lays, Kurkure etc. SHG can never match in the supply-line, package quality,
advertizement and retail distribution agents like them. Same about soap giants like
Lifebouy or Nirma. So ultimately only a few SHG survive the competition and make
some money [Generally those with traditional-handicraft stuff exporting to America].
Rest of them get disbanded after initial enthusiasm and so cannot pay back the loans.
Although NABARD generally doesn’t go on tough loan recovery like those
moneylenders or banks do (because that’d cost votes in elections)
2. →hatever alleged ‘2 week-business-training‘ they’re given by Government is all those
namesake powerpoint dudes stuff. While you know that to compete your product
against some big company like Lays, Kurkure, Nirma or Lifebouy you need lot more
exhaustive and rigorous training, exposure and a mentor.
3. Sometimes before elections, big Loan-melas are held on the instance of local politicians,
so every villager ends up getting some loan of small amount, but most cannot payback.
4. There are some good for nothing crony NGOs, who create ghost SHGs, get the loans
sanctioned, give a share to the officers and everybody enjoys life.
5. Microfinance gives only a ‘small’ amount of loan, while for starting a business you need
a little big. For example, they give 20000/- for your one project, while you need 1 lakh
rupees, so either you put 4 new flimsy-projects under different categories to make up the
money or go to moneylender to get the rest amount on higher interest rate.
6. the lack of entrepreneurial culture at rural level means whatever little money they make is
wasted in wedding ceremony or repaying previous loans to money-lenders, instead of
investing it back in their business. So money made, doesn’t bring more money.
7. In Andhra pradesh there are more than 10,000 SHGs (highest in the country), it accounts
for about 40 per cent of MFI lending across the country of about Rs 30,000 crore, and is
currently facing a crisis due to bad loans and MFIs using coercion to recover loans, even
leading to suicides.
If we’ve Trade deficit why RBI has so much
Question via email:
Every year we do some import and some export and usually we have some deficit every year so
how do we overcome that deficit, for exp- we import 300Billion USD and we export 200 Billion
USD so we have deficit of 100 Billion USD almost every year so how do we balance this margin
 a)- Do we use our Forex Assets , a very stupid option as we have around 270 Billion
USD and that will get exhaust very soon.
 b)- Does RBI print this much of amount every year.
When we say “we are importing more and exporting less”… That is not same as “we are
spending more and earning less” So forex doesn’t get depleted. Because RBI is not
importing, it’s the businessmen who import. And when they’ve to import, they get their
rupee converted into Dollars in the forex market or go through a barter system (like
give me 1 iphone and i’ll send you 30 kilo Basmati rice).
RBI has 270 bn USD that doesn’t mean whole India has only 270 bn USD, you’ve to see
the amount of money the Indian businessman have (which they can get converted into
dollars at forex market, whenever they’ve to import something).RBI has 270 billion
dollar$ that doesn’t mean whole India has only 270 bn USD or that whole India’s capacity
to import is only 270 bn USD, you’ve to see the amount of money (in Rs,$,Yen,Pound) the
Indian businessman have.Ofcourse RBI does print new currency regularly, but it’s not to meet
the trade-deficit, if RBI does so, that’ll lead to huge inflation.
Non-Banking Financial Company (NBFC)
Mukesh asked, Please help me to understand NBFC
 Non-Banking Financial Company (NBFC) is a type of company and not a bank.
 So NBFC cannot accept or give demand deposits, fixed deposit, demand drafts,
credit cards, ATM cards or cheques like a normal bank.
 NBFC is mainly involved in giving loans.
 It’s more like a sophisticated moneylender for example Mannapuram gold
loans, it gives you loan when you deposit your gold with them.
 Manapuram finance is an NBFC and not a bank.
Greece crisis and Sovereign Default
Ankit Agarwal asked, I want to know about Europe crisis in 2010 and its effect??
 Greece Government was giving pension benefits, social security and welfare schemes
(NREGA Mid-Day meal like stuff), mega PSUs to give jobs for wooing the voters,
without realizing that money doesn’t flow from sky.
 Ultimately, the Expenditure became way tooooo higher than Government’s income.
 So Greece started borrowing from market, by issuing bonds.
Adding insult to the injury, 2008s American recession had snowballing effect on Greece : fall in
exports, tourists stop coming and more. So Government’s tax collection falls down.
In this scenario, a seasoned player would not like to buy such Government bonds.
So Government of Greece was misreporting its official economic statistics as well as its
borrowing status to make the country’s economic foundation appear strong on paper.
But later that was found out, and lead to a speculation that Greece is on a verge of bankruptcy
and will default on all its loans and borrowed money. (=Sovereign default)
Such speculation makes share-market collapse, foreign players pulling out their money from
This is Greece Crisis.
It is originating from the fact that Government was spending way to more than its income
(=Deficit) until they came on the verge of bankruptcy.
Similarly Portugal, Spain, Ireland, Italy & UK also have huge deficits compared to their GDP.
Together it makes the Europe crisis of 2010 also known as Sovereign
Debt crisis.
European Union’s response to Greece
EU had two options:
1. kick Greece out of their team. or
2. Give it the money to recover.
Since #1 was not easily workable so EU had to do #2.
But unlike the Bollywood movies, EU cannot simply print suitcase full of Euros and give it to
Greece to solve its debt problems. (recall my earlier example: PM asking RBI to print more
money to buy fight-jets, will lead to heavy-inflation when broker buys stuff from that extra-
printed money.)
So when EU gives financial relief to Greece, it actually goes from other team-members’ wallets.
(Germany, France.) So they’re not happy, especially Germany.
Effect of crisis on the nation itself
Monetary help from EU, IMF etc. comes with riders attached, like Greece would have to stop its
welfare schemes, reduce salary of Government employees, close down their inefficient PSUs etc.
that again leads to more strikes and anti-Government riots in Greece = further deterioration in
tourism and trade.
Looking at such a grim picture of Greece, foreign players prefer to invest their money in some
other nations and the vicious cycle continues.
Effect of crisis on the world (From Indian Point of view)
1. Big players start pulling out their money from these troubled nations, and look for
opportunities to invest that money somewhere else with better returns. Since American
market is also still recovering, they narrow down their investment-choice to emerging
economies such as India.
2. European Union Is India’s largest trading partner, accounting for 20% of India trade. So
Downturn in EU means Indian exporters dealing in chemicals, textiles etc. get low orders
from those EU nations [Portugal,Spain,Greece etc.] + Non-EU nations of Europe (UK).
Means European crisis is not good for Indian export industry.
Badlaa system or Carry forward transaction
Archana asked, What is Badla system?
Badlaa = In Hindi movies it means ‘revenge’ but for Stock market it means “on your behalf”
 There is a lottery ticket costing Rs.50, first price is 1 crore rupees. You don’t have a
single penny to buy it, so you talk to your friend and he buys it for you on your behalf.
 If you win, you don’t have to pay that friend any share from the 1 crore you won.
 You only have to give him Rs. 50 after winners are declared and in the meantime interest
on that 50 rupees as long as the result doesn’t come.
 That’s how Badlaa system rolls.
 Suppose you purchase 10 shares of Reliance Power for Rs. 3000, and at the end of the
day, the stock closes at Rs.3300.
 You speculate that this Reliance power share price will go even further up and you can
make a handsome profit out of this. But you don’t have the money to pay to the broker
and take delivery of these shares!
 To solve this problem, you enter into a badlaa transaction, so your broker will carry out
the money payment on your behalf. You’ve to keep paying him the interest rate for it (as
long as you ‘hold’ these shares and donot sell them to someone else).
 Badla transactions are settled on Saturday session each week.
 The interest rate on Badlaa transaction is determined by market forces of supply and
 i.e. if lot people entering into Badlaa contract that means money is in high demand =
Interest rate on Badlaa increases. If broker believes that xyz share prices will go really
high then he’ll demand more interest for financing it because the customer will be
making big profit. And so on…
 In English this is called “Carry forward transaction” because you’re carrying forward the
payment date for those shares you’ve purchased.
 As you can see, any no0b without sufficient money can enter in this speculating game as
long as he has some money to pay interest rates on Badlaa transactions. And if luck
favors him, he can walk away with a decent profit.
 So lot of people doing speculative share-trading like this = speculation + volatility
 but it may happen that share prices don’t work out as they had speculated and then they
refuse to pay money or go bankrupt or suicide = not good for economy.
 After ‘92s Harsha Mehta scam, badla system was banned in the county for a while.
 As such Baldaa is not bad because it allows you to arrange money. And it also allows the
brokers-financiers to lend you money and earn interest on it.
 Pitfalls in Badlaa system are same as in overspending with credit card or buying way too
much stuff on loans to an extend where 70% of your monthly salary goes in EMI
 In Badlaa you’ve to regularly keep paying interest-rate to the broker as long as you ‘hold’
the shares. So your hands are ‘tied’
 In options (or Vaada/Waayda) contract, there is only one time premium to be paid. So
your hands are not ‘tied’ in interest payment.
How Foreign Direct Investment (FDI) would
influence the Economy
Question: Tell me how FDI would influence the Economy in a simple language as I am new to
Economics Please.
Suppose Foreign Direct Investment (FDI) is allowed in multi-brand retail sector then Wall mart
can come to India and start a big mall in every city.
 So lot of laborers, contractors, cement suppliers, masons, electricians etc get work for
 After mall starts running: people get jobs as salesmen, accountant, manager, security
guard and sweeper in it.
 Since competition increases, consumers get more choices and attractive price offers by
competing malls & small vendors.
 All these people who got job because of this mall, now they’ve money in their hands so
they go take home and bike loans, so it increases the demand and thus people in those
automobile-real estate sectors also get more orders.
 new houses are built so more laborers get jobs and that goes on and on…
Thus it helps economy.
Operating ratio in Railway budget
Question: What exactly is meant by the operating ratio with respect to the Railways budget?
Answer. Operating ratio is the amount of rupees spent to earn 100 Rupees.
 If its less than 100 = you’re making profit.
 If more than 100 =you’re making losses.
For railways, Operating ratio for passenger trains used to be about Rs.75 earlier but now it is
almost Rs.125. That means Railway is not making profit in passenger trains.
Because of this increase in Operating Ratio, Railway increases Freight charges (money charged
on transport of goods such as coal, cement etc), to cover up the losses. This is called Cross-
subsidization and it increases the inflation indirectly.
Effect of Coal prices on WPI (Whole sale
price index)
Q. How does increase in price of coal by Coal India affected the WPI?
Ans. When coal becomes expensive, the electricity by thermal power stations becomes
expensive. And freight railway charges also increase.
That has snowballing effect on everything because
1. Now factory owners have to pay more electricity-bill while producing same amount of
2. They’ve to pay more money to trains while getting same amount of items transported.
3. Steel, aluminum, cement, glass etc industries also require coal during manufacturing
4. So, they’ve to increase their product-price to keep the profit margin same.
And coal price itself is counted in WPI, with about 1.7% weightage.
Thus Whole sale price (WPI) increases when coal becomes expensive.
Difference between Tax and Cess
Q. explain the difference between ‘Tax’ & ‘Cess’
Tax is self-explanatory, you’ve to pay a portion of money to the Government on the income
/profit you make or the products you purchase etc.
Cess means Tax on that tax.
For example if there is 10% income Tax and 3% Educational-Cess on it.
Your income is 1 lakh Rupees, so you have to pay 10% income tax on it =Rs. 10000.
And Cess = tax on the tax. So 3% cess on Rs.10000 income Tax = Rs.300
Generally Cess is temporary in nature. e.g. Education cess on income tax is taken, and after
Government get sufficient money to open new schools, then cess is removed.
Food for thought
The tax itself is taken in pretext of running the administration and doing the Development work
so If Cess (tax on tax) is demanded that means something is not right in the system.
Minimum Alternative Tax (MAT) its
provisions in DTC
Question from via email: Explain Minimum Alternate Tax (MAT) and its provisions under the
new Direct tax code (DTC)
Ans First we need to understand why Government takes MAT?
Zero Tax companies
Example, A company’s book-profit is 10 lakh Rupees.
Then they use some creative accounting methods like depreciation, donations etc. to claim
deductions and finally their ‘taxable’ income is reduced to almost zero.
e.g. in 2009 during the recession time, Government of India launched a scheme to give 50%
depreciation to commercial vehicles. (with assumption that it’ll boost the vehicle demand and
help the automobile industry to come out of the recession.)
So the company buys a truck, for 20 lakh rupees on loan.
Their deduction on first year= 50% of 20 lakh rupees= 10 lakh rupees.
Their taxable income = book profit minus deductions =10 minus 10=0.
So they don’t have to pay any tax on their profit at all!
Other tricks involve donating 5,000 rupees to some religious institution run by con-man and
getting donation-receipt of 5 lakh rupees. And claiming deduction! and so on..
These companies, making profit but having zero taxable income, are known as ‘Zero tax
Minimum Alternative Tax (MAT)
Around 1997, Indian Government realized above large-scale problem of creative accounting and
tax-deduction. So it came up with MAT (Minimum alternative tax).
So if company’s taxable income is less than 30% of its book profit, then it’ll have to pay MAT,
which is around 15% of the book profit.
Therefore, now even if above zero-tax company escapes the regular taxes, it still has to pay 1.5
lakh rupees in MAT.
MAT under new Direct Tax Code (DTC)
The new Direct Tax Code (DTC) initially proposed that MAT should be calculated on assets
rather than book profit. i.e. 2% MAT on assets.
But the industry oppsed it saying, some companies have long gestation period (like real-estate,
steel,cement etc) before they start seeing big profits, but these companies have to buy high-value
assets since the beginning (land,machinery) to start and run their operations. so if MAT is
calculated on their asset value, it’ll not be good for industrial growth. similarly if a company is
making losses, it’ll still have to pay MAT for its assets. That’ll be like an insult to the injury!
Taking note of this objection, Government revised the DTC and said the MAT will be calculated
on book-profits only.
3 Methods of calculating GDP
Got this question from mail,
what are these income,production and expenditure methods in calulating GDP?how do terms like
between gdp at constant prices and current prices. its very confusing
I’ll deal with each question in one post. First, lets refresh the concepts again.
GDP (Gross Domestic Product) means,
Money value of everything you produce within your country.
(Domestic=within country).
Everything means products and services.
GNP (Gross National Product) means,
The Money value of everything you produce within your country PLUS your income from
abroad. Anil Kapoor goes to America, get 5 million dollar$ to play baddie in Mission Impossible
4, but sends that money to India = counted in India’s GNP.
But with same logic, Cricket Coach Gary Kirsten gets 50 lakh rupees from BCCI, and sends it to
his family in S.Africa, you’ve to deduct it from India’s GNP. (South Africans will count it in
their GNP)
Similarly, Americans will subtract the dollar value of Anil Kapoor’s remittance to India while
counting their GNP.
So, what’ll be the (stupid) formula?
Gross National production=Money value of everything produced within India+Incoming money
from outside-Outgoing money to abroad.
Or you can simply say
GNP = GDP + incoming money from abroad – Outgoing money to abroad.
How GDP calculated and what is are these income, production and expenditure methods.

GDP is calculated by three methods.
Theoretically all three of them should give same final number, but in reality there will be slight
difference between each of them.
Here you count the money spent by everyone.
So How to make a ‘technical’ formula? Ask yourself, where is the money changing hands? There
are five components of that.

like you and me buying (overpriced) daal, vegetables and milk (courtesy: Sharad Pawar).
I buy your second-hand bike for 15,000 Rupees, should we including it in the consumer
Expenditure (C) ? Nope. Because the bike Is not ‘produced again.

Second hand products are not counted
When you had bought that bike for Rs.30000, 10 years ago, we had counted that money in that
year’s GDP. So second hand-product sale money cannot be counted in this year’s GDP.
Now, I buy your second-hand bike from an auto dealer, (who gets Rs.1000 Commission) should
we include it in the (C)? Hell Yes, because he sold his ‘service’ to me uniquely. Every time he
sells a second hand product, although no new ‘product’ is created but new service is delivered by

Each service or product has separate value even if same currency note is used to purchase it
I gave a note of Rs.1000 to that dealer as part of his brokerage (dalaali) and he gives the same
Rs.1000 note to the electricity company for his monthly bill.
Same Rs.1000 note is changing hands so is our GDP =Rs.1000? Nope. GDP is the money value
of everything produced within India. So brokerage service is Rs.1000 separately and the
electricity produced is also worth Rs.1000 separately. Therefore, Even as same 1000 rupee note
is given to both parties.
Total GDP=1000 brokeage+1000 electricity bill=Rs.2000
If gives that 1000 rupee note to its peon as salary, then again it has to be counted.
Because peon sold his unique service separately to the company. So in that case
Total GDP =Brokerge+Electric bill+peon^’ salary=Rs.3000
#2: Investment [I]
People investing in sharemarket, putting money in banks etc.
#3: Government spending [G]
Like buying (overpriced) sports equipment from Kalmaadi’s associates during Common wealth
games. Government paying salary to staff, buying new tanks and missiles..everything.
#4, 5 :Export & Import [X & M]
Money we get from export is added.
You remember that GDP means Money value of everything we produce within India. So if we
import something, it has to be subtracted, because it is not produced within India.
So formula (for ease In remembering)
GDP = Consumer+Investor+Governer + (eXporter – iMporter)
Technically correct formula:

#B: Income Method of counting gdp
Here you count everyone’s income. But some people may be running business in credit
(udhaari), sometimes payments are delayed. So may not give the ‘full picture’ for the given year.
#C: Production method of counting gdp
Total money value of everything produced (value added at each stage)
1. Farmer produced Wheat and sold 100 kg of it @ 2000 Rs. (Original value)
2. Flour mill, purchased it, grinded it and sold the flour to baker @ 2500 Rs. (+500 value
added to previous purchase)
3. Baker made breads, cookies and biscuits and sold the total production @3500 Rs to its
final customers. (+1000 value added to previous purchase)
what is total ‘GDP’ here?
2000+2500+3500=8000 Rs? Hell no! You’ve to see the value added.
So, total money value of this line is: 2000+500+1000=3500.
Not all of the wheat goes into Baker’s oven. Some of it will go in making beer, some in a normal
household for making roti and so on. You’ve to track the value added in each different line.
To be continued… GDP at nominal price, Market price, Factor Cost, etc.etc.etc.
GDP at Factor cost and Market price
Continuing the previous article, GDP at Factor cost means, money value of everything produced
in India, without counting Government’s role in it. i.e. indirect tax and subsidies.
Example#1: Subsidy
1 kg. Urea fertilizer’s original-price is 500 Rs.
When it reaches the local supplier, Government is giving 10% subsidy. So farmer purchases it @
(500-50)=Rs. 450
1. GDP @ Factor cost= 500 [i.e. without Government's involvement]
2. GDP @ Market price= 450 [with Government's involvement]
Example#2: Tax
Box of 10 Blank DVDs =Rs.100 +10% VAT so final M.R.P.=Rs.110
1. GDP @ Factor cost=Rs.100 (Real value of those dvds)
2. GDP@ Market price=Rs.110
How will you calculate GDPMP if GDPFC is given, & vice versa?
GDP@Market price=GDP@ Factor price+Government involvement
Now, Government involvement=+Indirect taxes-subsidies
So finally,
GDP@Market price=GDP@Factor cost+Indirect tax-subsidies
Or doing the reverse,
GDP@Factor cost=GDP@market price-Indirect tax+subsidies
Still doubt (like I always had about everything in college)? Following table should clarify it.

GDP @ Factor Cost and Market Price for same Urea and Blank DVDs
As you can see, Factor cost= Original or real value of something.
So at marketprice, even when Government is giving subsidy, the manufacturer still receives the
original price. E.g. although farmer pays Rs.450, still manufacturer gets Rs.500 so we ‘add’
subsidy when converting MP to FC.
Similarly, even when customer pays MRP of DVD is 110, the DVD-manufacturer is still getting
100 Rs. So we ‘deduct’ the indirect tax(↑AT) while converting MP to FC.
GNP = everything produced inside India + Anil Kapoor’s income from Hollywood – Gary
Kirsten’s remittance to S.Africa (more here)
So, what is Net National product @ Factor cost, and @Market price.
Net = Gross minus depreciation.
So NNP=GNP minus depreciation.
And factor cost, market price, just as explained above..with and without Government
To be continued.. GDP @ Current Price and Constant Price, GDP deflator
GDP mean money value of everything* produced inside India.
(*Everything means goods and services.)
100 kg. of onion produced in 2009, market price = 20 Rs/kg.
100 kg of onion produced in 2010, market price =70 Rs/kg (courtesy: Sharad Pawar)
So, India’s GDP has increased at the rate of 250% in a year! But the →orld bank and leading
economists say we can hardly reach 9% GDP increase rate per year. So what is this 250%??
It’s nothing but inflation. Just because onion prices rose thanks to Government’s faulty food
policy or black marketers, doesn’t mean that real-GDP has increased and that our contry has
So how do we find real GDP for 2010, when prices of everything have increased due to
→e need to compare 2010s production to some base year.
Let’s pick 2003-04 as base year. So whatever price Onion had in that year, will be our base price.
IN 2003-04, average price of 1 kg onion was 30 Rs. A kilo.
2010s GDP= 1 kg onion price of base year (2003-04) *multiply* total onions produced in 2010
=30 x 100
=Rs. 3,000 is our real-GDP for 2010.
So Formula: Real GDP= Price of xyz item in base year x Quantity produced in current year.
GDP Deflator

Image: Formula
In our onion case
Nominal GDP in 2010= 70 Rs/kg x 100 kg=Rs. 7000
Real GDP as we calculated=3000.
So, GDP deflator= [7000/3000]x100= 233
What does it mean?
Here, GDP deflator is >greater than 100. That means there is inflation. (very very heavy
IF it was near to 100, that’d mean, there is no difference in real and nominal GDP hence there is
no inflation in India.
→e’ve →PI and CPI to measure inflation, but they don’t include each and every product and
service available in India, while with GDP deflator, we can get an inflation-picture of them too.
Newspaper: “Montek Singh said we’ve got 8% GDP in 2010
That doesn’t mean India’s GDP is 8%. It only means whatever was our GDP in 2009, we’ve
increased it by 8%.
IF India produced goods and services worth 100 billion $ in 2009, then in 2010 we’ve produced
goods n services worth 108 billion $. That’s why GDP rose by 8%.
Now back in our onion example,
2009s real GDP=3000
2010s real GDP=3000
So real-GDP has rose by 0% in two years.
3 audit reports of CAG
V.Ahlawat asked, what is audit report on appropriation account, audit report on public under
takings and audit report on finance accounts?
Appropriation account:
When Union Government spends money in various schemes, it is noted in this account.
E.g. Parliament passed 500cr. rupees project for health care and only 400 cr. were spent at the
end of the year, 10 cr. worth projects were given to x company etc.
Audit report on public under takings
self explanatory: audit report of ONGC, SAIL, DRDA etc PSU companies. Their income and
Audit report on finance accounts:
When Government receives money (tax etc.) and distributes it among various departments, it is
noted in this account.
Constitution has empowered CAG to audit all these accounts.
Who is the regulator of capital market in
Q. from mail: Who is the regulator of capital market in india?
A. RBI (it issues Govt-securities)
B. SEBI (it securities exchange market)
C. MoF (it decides how much G-sec to be issued) or
D. all three of them
 Capital market = Primary market + Secondary market
 SEBI controls both primary and secondary market. Means SEBI controls the entire
capital market.
 RBI is ‘controller’ only for Banking and not for securities.
 MoF (Ministry of Finance) decides how much Government security is to be issued, but it
for filling the Government’s money requirement. It doesn’t regulate the capital market, it
merely participates in it to get money.
Contradiction in GDP (Expenditure)
Followup question on my previous article Three methods for calculating GDP
in the start of definition of gdp…..u r nt counting income of
anil kapoor or garry kirsten…..but in the topic….expenditure
method of calculating gdp….u have used exports-imports… this
nt contradictory…..kindly plz….xplain?
Answer: Anil kapoor-Garry Kirsten example was for GNP. [GNP= domestic product+income
from abroad]
For GDP (expenditure), we’ve to calculate
consumption (C), Government’s expenditure (G), investment(I) and eXport (X).
But what if government imports 5000 special mobile devices to print biometric UID smartcards?
That is also counted in Government’s expenditure accounts (G).
So, we’ve to deduct all the iMports (M) to prevent them from being counted into nation’s GDP.
That’s why
GDP (Expenditure)= C+I+G+(X-M)
Now, GNP (national product)= Domestic product + Income from abroad.
But since foreigners will be sending remittances to their families back home. So if every nation
adds(+) foreigner’s income (who is residing in their country) into their GNP, then it’ll lead to
double counting. So we’ve to deduct(-) the remittances.
GNP= GDP + Income from abroad – income earned by foreigners.
Fiscal stimulus package : meaning and
Myra asked, what is a fiscal stimulus package ?
 A weak athlete takes some steroids and runs faster than his built-in ability, so Steroid is
 Similarly when Government comes up with some plan to increase the performance of
(depressed) economy, it is fiscal stimulus.
During recession, the demand is depressed (i.e. noone is buying stuff) so Government has to
come up with something to increase the demand, to make the consumers buy something.
In 2009, Government of India gave tax benefits on purchase of commercial vehicle to increase
automobile demand.
It also chopped down excise duty by 4%, asked RBI to release more money to EXIM bank to
provide it as cheap-loans to exporters and so on…. this is a fiscal stimulation package which
costed Government about 4 billion $.
Similarly 2008, President Bush released 700 billion $ bailout package to buy the toxic loans and
to save American economy from the sub-prime crisis. That is also a fiscal stimulus.
How is fiscal stimulus different from fiscal policy
1. Fiscal stimulus is given in extraordinary circumstances, it is temporary in nature because
→hen Government feels that the economy is back on track, it’ll remove/stop giving the
2. Fiscal policy (taxation and spending of Government) is rather a regular-routine process.
Fiscal deficit
 We also know that money doesn’t fall from sky, so If Government is giving ‘stimulus’
that means it is either borrowing from someone else to supply that money into the
depressed economy or it is cutting down its own tax-rates (income) to stimulate the
 So, obviously when stimulus is given, the fiscal deficit increases.
No Frills account: Meaning advantages
Q. What is no frill account?

In simple words it :If a company makes its service/product cheaper by removing the extra
features, that is no frill.
eg. Mobile phone postpaid package without unlimited ringtones or free night talk.
Dish TV package without 100 sports channels.
For our discussion purpose :
No frill account is a type of bank account, with
low / Zero balance requirement with extra-
features removed.
RBI came up with this No-frill concept, because poor people cannot open regular bank
accounting having requirements like Rs.5000/- minimum balance etc.
So there are no frill accounts for them. So that poor people can open bank accounts and take
loans, that’ll save them from the 36% interest rate charged by the evil money lenders.
For example
Allahabad banks no frill account
1. - Account can be opened with a minimum initial deposits of Rs.5/- and maintained at the
minimum balance of Rs 5, no penalty charges will be deducted in case the minimum
balance reaches zero.
2. - The Account holders will not be eligible for Cheque Book and ATM card facilities
3. - Maximum numbers of withdrawals are restricted to 30 every 6 months.
4. - Duplicate passbook may be issued to the account holder with a charge of Rs.10/-
As you can see above, it doesn’t have the extra-features like Cheque book and ATM etc. So it is
no-frill (because extra-features removed).
Apart from the features mentioned above,
1. Rural women can put their hard earned money in it, less chances of theft or husband
spending it on Desi liquor.
2. Can get easy loans, saved from the clutches of moneylenders.
3. Some banks even offer free of charge DD (demand drafts) like 2 per month.
4. No frill account holder can convert his/her account to regular saving account later.
5. Financial inclusion, Empowerment, Development, ….(Kurukshetra, Yojana, Frontline
6. Less chances of that good-for-nothing ***** bank forcefully sending you credit card
behind your back along with hidden insurance and service charges and then refusing to
take it back.
 None. Although it has limited withdrawals, no chequebook/ATM but think about the
targeted poor people. They don’t need it much, they just need a place to safely park their
 It’s same like buying a no-sports channel DTH package, doesn’t put you on disadvantage
because you never really wanted to see those channels in the first place!
Monetary and Fiscal Policy Difference and
Distinguish between Monetary and Fiscal Policy. To what extent is monetary policy independent
of fiscal policy in India
Monetary Policy
Who makes it? Ans.RBI.
What is their intention?
Ans.To control the money supply in the banking system and thus control the inflation.
What tools do they use?
Repo,reverse repo, bank rate, SLR etc.
What happens?
Suppose there is too much inflation (price rise) in the market because people have more ca$h in
hand and only few products in market.
So RBI changes those numbers in a way that banks have less money to give as loans to people.
Obviously the banks will charge higher interest rates on their loans, this is called tightening of
the moneytary policy / Dear money policy.
Reverse of it, is Cheap money policy i.e. when RBI feels that people should get loans @cheap
rate so that there is boost in demand.
Fiscal Policy
Who makes it?=Government.
What tools do they use?
1. Taxation
2. Public Expenditure.
What is their intention?
Re-distribution of income,allround Development.
e.g. Government puts 30% corporate tax (taxation), then uses that money to fund NREGA [100
days wage to poors] (public Expenditure).
So part of rich people’s income gets redistributed to poor -people.
To what extent is monetary policy independent of fiscal policy in India
As we saw Monetary= RBI, fiscal =Government.
Many times, Government doesn’t have enough money to fund its projects*. So they release
bonds. RBI sells those bonds on Government’s behalf to the banks. Now banks may or may not
be interested in purchasing them. So, RBI has a tool called SLR* (Statutary liquidity ratio),
which means banks have to compulsory keep x amount of their money in form of Government
bonds even if they like it or not.
* See?
Government project= fiscal policy’s public Expenditure tool
SLR=Monetary policy’s tool (by RBI)
Thus, SLR (part of monetary policy) is not totally independent from fiscal policy.
There is conflict of interest: RBI’s role as money supply controller vs RBI’s role as
Government’s debt manager.
Same way, Government wants that farmers should get loans @cheaper rate.
So, RBI makes special consessions to regional rural banks in CRR/Repo etc.
IMF Vs World Bank Difference in functions
Function of IMF and World Bank in the context of the world economy.
International monetary Fund
IMF gives short-term loans to its members, and helps in recovering from BoP crisis (balance of
payment crisis)
In simplest terms, BoP crisis means you don’t have enough money/ foreign currency to pay for
your imports. So in that case you run to IMF.
→hen IMF gives loans, they’ll ask you to change your policies accordingly. eg. they’ll ask you
1. let the MNCs enter your market,
2. reduce the jobs or shutting down the loss making Public sector units etc.
3. stop giving subsidies to particular section (petrol/fertilizer etc.)
and so on…
IMF gives loans, it expects you to pay full amount back + interest rate.
In IMF there is a thing called Quota i.e.
Every member has to give some money to IMF, (IMF will give it to loan as other members). The
rich nations with bigger Quota has more voting rights (USA).
So rich nations can effectively decide how IMF should function.
World Bank
In short, They give soft loans to poor nations for Development purpose and various health-
education,poverty removal programs.
Soft loan= minimal interest rates, the EMIs have longer time brackets in between, and they don’t
expect your to pay back the principle.
They facilitate private players to setup business in poor nations. (via insurance and loans)
Their loan-terms are not as stringent as IMF.
Financial innovation : Meaning advantages
and criticism
What is Financial innovation ?
financial innovation=when you come up with complex financial instruments (bonds, securities
e.g in 1980s there was simple thing :just one LIC life insurance policy. you pay installments, you
die your family gets money. Now there are complex ULIPs (Unit linked insurance planning),
child education plans, pension fund, travel insurance, health insurance… this and that. =financial
Other examples of financial innovations
 interest rate swaps ,
 credit default swaps,
 Collateral debt obligation.
 credit and
 debit cards and
 online payment systems like PayPal.
1. Makes life easy, e.g. Paypal, credit card, travel insurance etc.
2. Helps you hedge the risk. Hedge= a fence or compound wall built to protect your
property. Hedging = a method of preventing risk. Example, Oil Hedging
Two main Criticisms
fool’s paradise
There is no “neutral evidence that financial innovation has led to economic growth.”
example The money gone into bonds and policy should lead to real asset/physical product
creation (like you buy insurance policy from me, and I lend that money to a businessman who
makes a factory or launches a new physical product like cola or breads or a service like Hospital/
Hotel chain and so on… ) Then we can say yes this financial innovation is leading to economic
But instead Some of the money goes into two directions
#1: further speculation business like mutual funds, commodity market or
share market
(click me to first understand the Derivatives)
Like you buy some insurance policy/mutual fund/complex security bond from me, I invest that
money in speculation, whether xyz share/commodity’s price will go up or not. (via options and
futures contract) So I’ve a virtual portfolio : today 5 lakh, tomorrow 1 lakh third day not even
worth 10,000, fourth day jumping to 10 lakh rupees. I’m betting and speculating, like those kids
playing and trading →→F wrestler’s cards. No real asset creation or economic growth. In the
meantime, you claim your policy, If my portfolio is 10 lakh, I would pay away otherwise I would
borrow from third party to pay you and give that third party a futures bonds, he sells it to forth
guy as a derivative who again invests it into some speculation game. This game goes on, without
any real economic growth. Just more papers and bonds.
#2: The Complex financial products=Chor bank robbing you in daylight
Similarly you open a bank account in that Chor party bank (Chor=thief, you know which bank
I’m talking about), they trick you into getting a credit card and deduct insurance premium behind
your back saying that credit card comes with a ‘free’ health-insurance policy. And adding insult
to the injury, when you get heart-attack, they don’t pay you, saying sorry heart attack is not
covered, this health insurance covers minor injuries in road-accidents only* (*provided that you
were wearing helmet/seatbelt, driver had licence and was driving under speed limit)! And
whatever money the Chor party bank earns from this unethical game, they reinvest it into putting
more ‘feel-good’ advertizements on TV to trick more people like you, while the already fooled
customers get redirected like footballs from this call centre to that call centre. = No economic
So, end product of this kind of financial innovation is a new even complex financial product –
not a physical product or service that you can see/touch/feel or consume.
Led to recession
This innovation led to complex Derivatives that led to *asset bubble and ultimately we got
Investment banking Meaning and functions
sanchit asked: investment banking samjha do plz
Ans. Suppose you want to start a new factory, don’t have enough money. Banks are not giving
you loans or their loan-conditions are very tough. So you want to Issue an IPO/security in the
primary market to get the required funds.
*security =a piece of paper. When someone buys that piece of paper from you, they give you
money like 100. And you’re supposed to pay them back after a period or share your profits with
them (Shares).

But what if nobody buys your IPO? And how to go and launch your IPO in the first place? You
don’t know the technical nitty gritty or paper-work involved in it, or have the competent staff to
do that? Easy, just walk in to an investment bank, they’ll launch the IPO on your behalf. They’ll
sell you on your behalf and if no-one buys it, the investment banker will buy it and pay you the
money. This is called underwriting.
Investment banks’s primary job =offering underwriting.
For example, on following link see the big underwritings made by Kotak Investment bank and
the list of their big clients
Kotak Investment Banking: Leaders in the Equity Capital Markets
Other functions of an investment banker
1. If you’re a big corporate co., currently under heavy-debts, they’ll help you re-structure
your debts. e.g. longer EMIs, selling or renting your non-core assets to squeeze some
money and so on.
2. help you make deals,big investments, joint ventures, Mergers and acquisitions with other
companies. They provide you with Research data like how much risk is there, what’ll be
your return on investment, is there any technical or legal hurdle, if yes then how to
bypass it.
3. Settle your family disputes. (like big corporate dad died and now people fighting for
property, they help you come at an amicable compromise, without getting involved in
lengthy court process.
4. They also help you convert your money from one currency to another.
So investment banker is not just a banker but combo of many things: lawyer, financial adviser,
money-lender, insurer, Real estate agent and so on.
But Investment banks don’t do anything on small scale. Like you can’t walk in to get
bike/car/house loan or get your 100$ converted into rupees.
Their customer base= big MNCs and corporates.
Their scale of operation= in millions and billions of Rs./dollars.
Liquidity and monetary policy
Question from a Reader: Here is a paragraph one which went over my head. Read this excerpt
from monetary policy:
“After remaining in surplus for 18 months, liquidity conditions transited to a deficit mode
towards end-May 2010. This was the consequence of a large build-up in government cash
balances as a result of higher than expected proceeds from spectrum auctions. Beginning October
2010, liquidity conditions became even tighter. Both frictional factors such as the above-normal
build up in government cash balances and structural factors such as high currency demand
growth and credit growth outpacing deposit growth contributed to tight liquidity conditions.”
My question is if credit growth has outpaced deposit growth (more ppl r takin loans rather than
depositin them) then how can that contribute to tight liquidity !!! There will be more money wid
ppl due to loans taken. Pls xplain
Here liquidity is a relative term. If the banking-system has more money to offer as loan today,
compared to last month, we’ll say liquidity has increased. If banks have less money to offer as
loans today, compared to last week/last month/last year, then we’ll say liquidity is tight.
Now there are 3 factors.
#Spectrum auction
In the spectrum auction, the big telecom companies withdrew their deposited money from the
banks and also took loans.The telecom companies had to pay around Rs 68,000 crore within 10
days of the auction. So as you can see, that much money went from banking system to the
Government and hence was unavailable for loans.

#above-normal build up in government cash balances
If above money from spectrum auction, was deposited in Government’s bank account, then it’d
be again available for loans again, immediately. But it was deposited in the consolidated fund of
India.From this consolidated fund of India, Government gives salary to judges, its whole staff,
finances various projects like NREGA, JNNURM, and so on.
Hence, this 68k cr. is no longer available for loan.
=less liquidity compared to earlier.

#credit growth outpacing deposit growth
if credit growth has outpaced deposit growth (more ppl r takin loans rather than depositin them)
it means less money available for loans. So we say ‘tight liquidity’.
Implications of liquidity
When liquidity is tight (or low), that means less money available for loans hence interest rates on
loans increases.
1. Too high liquidity =easy loans=less interest rates= people have more ca$h than products
in market= inflation.
2. Too low liquidity=hard loans=high interest rates=businessman find it hard to finance new
projects, demands for automobie/cars etc. decrease and so on.
Zero Interest Rates in Japan and America
Question from a reader: RBI increases interest rates slowly and higher interest rates encourage
more FDI inflows. I got the reason wich u mentioned that y RBI duznt increase the rates
Question wich arises here is wrt Japan. Japan has been keeping near zero interest rates for a
while now. Why so? Higher interest rates as usual wud mean more FDI in Japan wich will
bolster its growth. So wat r the reasons for keepin low interest rates?
Ans. You’re right, if Japan or any nation increases the interest rates, then more FDI will come.
But Japan’s concern at the moment is not FDI but consumer-demand. FDI matters for third world
and newly emerging economies because you need big money for
infrastructure,factories,machinary, R&D for launching new product etc. but Japan,America are
already far ahead in those things hence some-what saturated for FDI. So their main-priority =
consumer demand @Home and Abroad.
Interest rates in Japan are kept low, to encourage people to
1. take loans and spend it (=boost in auto-real estate demands home)
2. take loans and do some production (if loan-interest is low, the final product will be cheaper
and can compete with Chinese export-items abroad)
Same is the case, why America too has near zero-interest rates.
They’ve so much money available as loan but people are not interested in taking it for spending
or production =>so decrease the rates even further.*
India is reverse: so much inflation, so you need to swallow some money out of the sytem. =>so
increase the rates higher.
*While Japs and American authorities believe that zero-interest rates will help boosting the
demand, there are thinkers with opposite view.
Copy pasting from TIME
American consumers, too, are trying to reduce household debt, so borrowing more money for a
new car or to remodel the kitchen is not a high priority. And without greater consumer spending,
most companies have little need for new loans to expand operations. “Interest rate cuts don’t
matter in this environment,” says Kirby Daley, senior strategist at financial-services firm
Newedge Group in Hong Kong. “It doesn’t get at the heart of the issue.”
CASA (Current and Savings Account) Ratio:
meaning, implications, danger
Siddhant asked: WHAT IS THE CASA ?
Ans: CASA =Current and Savings Account.
Lets refresh a few concepts before diving into CASA.
In a bank, there is incoming money and outgoing money.
Incoming Money in the bank
 Bank will pay you interest, when you deposit money in savings account, as Fixed Deposit
 Bank will borrow from RBI. (and will pay RBI interest)
Outgoing Money from the bank
 Bank will give you loans for bike/car/home/business and charge higher interest rate on
So in simple terms,
Bank’s profit = Interest charged on loans -(minus) Interest paid on deposits.
Now, CASA= Current and savings account
Casa ratio =is the share of current and savings account deposits to the total deposits of the bank.
To keep it simple, lets just say bank’s incoming money comes only from two types of deposits:
1) CASA deposits and 2) FD (Fixed Deposit)
#1: CASA (Current and savings account) deposits
 Here whatever money you deposit, you can withdraw it any time. banks do not pay any
interest on current account,and interest paid on savings account it (pathetically) low as
 And then bank will circulate your money in form of house loan to others, and will charge
9.5% interest rate on it! So, that is a decent profit margin.

#2: In FD (Fixed Deposit)
 Also known as Term Deposits, like “double your money in 10 years or deposit 20,000
today and get 50,000 after 10 years” etc.etc. Here bank will pay you interest rate of
around 7-9% per year.
 But downside:you cannot withdraw your money before the term completes, else bank
will charge penalty and you won’t get the total ‘double your amount’ thing.
 As you can see, If bank would circulate this FD money in loan, there is not a big profit
margin, as in case of CASA.
Implication of High CASA Ratio
For SBI, CASA ratio is around 47%. (That is 47% of their total incoming money in form of
deposits, comes from CASA). So SBI can earn lot of profit by circulating this money as loan.
If Bank X has CASA ratio =barely 10%, obviously, not so good position like SBI.
Higher CASA is good only for banks?
 Not only banks but loan-taker people also benifit from higher CASA ratio. Because bank
with higher CASA, will keep its loan base rates low.
 Confused? Let me rephrase: If Bank X has barely 10% of CASA, means lot of their
money comes from FD. And in FD they’ve to pay higher interest rate on deposit, hence
they’ll keep their loan-interest rates higher to maintain the profit margin.
 ex. SBI= loan base rate is about 7%, but for Bank of Baroda its about 8%, because BoB
has got lower CASA than SBI.
 In India, interest rates paid on current and savings account deposits is administered by
banking regulator – the Reserve Bank of India.
Danger with high Casa ratio?

 From CASA account, you can withdraw your money any time. So, while bank is
circulating this money as loan, then have to be careful.
 They do a statistical analysis, like 10000 people deposited total 1 crore rupees in CASA
accounts. And on any day, not more than 10 lakh rupees are withdrawn in terms of
cheques, demand draft etc.
 That’s 10% outgoing money from CASA? So lets keep 15% of CASA money in terms of
‘cash’ in the bank and give away remaining CASA money as loans
 BUT, what if suddenly account holders withdraw a lot of money? Example, back in 2008
during sub-prime crisis, some one spread a rumour in Ahmedabad that ICICI has gone
bankrupt! So people panicked and lined up in front of ICICI branches and ATMs to
withdraw all their account money. On daily basis more than Rs. 5 crores were withdrawn
Ahmedabad’s branches and they had to order truck load of cash from other cities and
even run the branches on holidays to meet the situation.
Take a reverse case, what if thousands of people take home loans and then show inability to pay
back [=bad loans / toxic assets / N.P.A. as it happened in America]? And at the same time CASA
depositers come and demand to withdraw lo lot of their money? So with this kind of situation,
the statistical calculations may go wrong. and if Bank has given lot of its CASA money to long
term loans (house loans for example) then it’ll be a real panic-situation.
The FD money is safer in this way. because banks know, once you make an FD, you’re not going
to withdraw it for next 5-10-20 years (in most cases) so they can safely circulate this money as
Curious case of SBI
1. As we saw SBI has highest CASA Ratio in India = high profit
2. but then again SBI has highest N.P.A. (Non-performing assets / bad loans/toxic assets)
amongst all the banks in India!
If people don’t take loan what will banks do?
Question. →e’ve learnt that the main source of income for banks is loans which they give out to
borrowers, where the interest rate for the loans is set at a higher rate than the savings bank rate
which they provide us with. Let us suppose a situation where, we have our savings deposits
intact in our banks, and no people needs to take loans from the bank. How will the bank function
at that time?
Ans. A Bank’s life depends on circulating the money from one hand to another and pocketing the
difference of the interest rates between them.
If people stop taking loans then Bank will invest in sharemarket, fund real estate projects, mutual
funds, oil bonds etc. or start giving loans to people of other nation or finance projects abroad. If
bank doesn’t see much profit even in that scenario then they will have to close down the
Base year and Current year price? How to
calculate WPI and CPI?
Question . I’ve come across these terms numerous times, but couldn’t make anything out.
→hat’s all these about Base year prices and Current year prices while calculating economical
Tell me what is inflation?
It’s the increase in the price of a product.
How can you say there is inflation?
Because, earlier in the year 2001, we could buy a litre of petrol for Rs.50, but now it’s Rs.70/-
per litre. So there is price-rise and hence there is inflation.
Means you need to compare the current price, with some old price to say that the price has
increased (or decreased), right ?
Hence, to calculate the inflation (CPI,→PI) we’ll need to compare the price of some item for two
different years.
Suppose Price of a lifebouy soap was Rs.10 in 2001. And now it has increased to Rs.12 per bar.
So what is the % increase?
[(12-10)/10]*100=20% incrase in the price of a soap.
What did we do, in above formula?
We took 2001 is the base year and 2011 is the current year. Then we divided the change in price,
with the price of base year and multiplied it with 100 to get the percentage.
If price of a soap was Rs.1 in 1950s (don’t get excited because in those days, monthly income of
most middle-class people was around 100-300 Rs, so one rupee was a big amount.)
So with 1950 as base year, what’ll be the % price increase?
[(12-1)/1]*100=1100% increase in the price of a soap!
But does it make any sense to calculate inflation with such an old base year? Ofcourse not,
because lot things have changed after 1950, including the salaries of the middle class people. So
you won’t get the real picture.
Inflation is a ‘hurt-meter’. You cannot fathom how much it hurts now, if you didnot feel less
pain earlier. Those who lived in 1950s are all either dead or retired. And the current-working
population never actually bought a soap for 1 rupee. So how much is the soap price hurting the
current-population, to know that answer, you need to set the hurt-meter to compare the prices of
recent memory: oh yeah back in 2004 it was only 10 rupees and now it’s 12 so yes I can feel it
hurting me.
Morale of the story: We need to have the base-year at some near-past level like 2004-05 to get
the real picture of inflation. (Earlier this base year was about 1993-94)
Now lets get a lil technically correct, above post was written to clear the basic concept of base
year and current year only, the CPI and WPI are not calculated so straight-forward.
How to calculate the WPI or CPI?
Price of a bike was 30,000 in 2004 and now its close to 55,000/-.
Price of one litre milk was 25 Rs. in 2004 and now it is almost 60/- (After Sharad Pawar advised
all the dairies to buy an alarm, which rings at paheli taarikh every month to remind them to
increase the price without fail)
So, What hurts to you more, or what hurts the people at large: bike price or milk price? ofcourse
the milk price inflation because you need to buy it every day.
So when calculating the inflation, you need to ‘weight’ the products according to their usage.
The weightage given in WPI
It is something like this
1. Primary Articles (food,fruits etc):22%
2. Fuel, Power, Light & Lubricants :14%
3. Manufactured Products (biscuit,toothpaste):63%
Now survey the prices of all items in the base year and in the current year. Then you plug them
in the Lesperes Formula for weighted arithmetic mean. (Formula is not important, but what is
important for you to know is, that it is not a simple average but a weighted average)
And you get a number, we call it the WPI index number for the given year or given week or
given month.
Suppose after calculation you get a number 110 on 1st August 2011.
For base year we assume that WPI is 100.
So there is 10% inflation.
i.e. [110-100/100]*100
Now on 1st September 2011, you calculate again with new price data and the number is 112.
What does that mean? The inflation has increased by 12% compared to compared to base year
AND inflation has increased by 1.8% compared to last month. i.e. (112-110)/110*100
If dollar weakens, oil price appreciates How?
Relation between dollar and oil prices
Question. Plz explain The Relationship Between Oil Prices & Dollar … If dollar weakens , the
oil price appreciates… How??
Answer. Lets say today 1$=50 Rs and price of one barrel of oil is 100$.
Means, if you sell 1 barrel of oil, you get 100$ (or 5000 Rs.)
so by selling 1 barrel, you can buy stuff worth 5000 Rs. from Indian market.
But next week, dollar weakens and it stands at 1$=40Rs.
If you still sell your one barrel @100$ then you can buy stuff worth
Rs.4000 only. So what should you do to keep your profit margin same?…Obviously
increase the price of 1 barrel of oil to 125$. (because $125*40=5000 Rs.)
In short, dollar has weakened, means its purchasing power has declined in the international
market. Now you can buy less stuff from Chinese, European or Indian market using that 1 dollar
compared to earlier times, when Dollar was stronger.
Since you’re selling your barrel in the dollar currency, you must increase the price of your oil-
barrel to maintain your profit margin and standard of living the same. (else you’ll have to cut
down on your expenses like the chauffeur for your limo or the number of workers in your oil-
Difference between Subprime Crisis and
Eurozone Crisis
Question via email
Difference between Eurozone crisis and Subprime Crisis?
Ans. I’m writing for explanation purpose only. Technical details, intentionally skipped.
Subprime Crisis
First you need to understand Mortgage, derivatives and Asset bubble.
You give me $10,000 loan and I sign on a paper that if I can’t pay back the amount before 2045,
you can take over my house. So my house is ‘mortgaged’.
Subprime dude
He is the borrower who is less likely to repay a loan. Because his income is low or irregular.
Why would bank want to give loans to sub-prime dudes in the first place?
Because bank can demand more interest rates from such people because of their bad credit
Subprime is also in the car-loans, credit card etc. Besides when the general manager gives
‘impossible targets’ to his probationary officer, So what can a man do? Just give loan to every
swinging dude around.
You’re a big bank, you’ve given such loans or credit cards to lot of sub-prime dudes and you
know it well that they’re less likely to pay. So after a while, you decide to cash in your
investment before these dudes start defaulting, so you repack those mortgage papers (security)
and make a new security paper “anyone who gives me $50,000, I’ll give him mortgage papers of
5 houses” = this is derivative product, because this security paper derives its value from those
mortgage papers.
Asset bubble
So now you sold such a derivate product to second guy, he then re-packs it with other things and
makes a new derivative product sells it to third guy…chain continues. Here, no new asset
(property or something that can generate $$) is created, basically you all are playing games with
the same five houses mortgaged, blowing the ballon with new derivates. Thus the asset bubble is
A point comes when people who took loans or did big shoppings with credit cards : they refuse
to pay back and say
take our houses, we don’t have the money.
But you can’t sell the house, real-estate has collapsed, noone is ready to pay even $5000 for that
house, on which you had given $10000 loan. Your asset bubble is burst, and what you’ve in your
hand: that piece of trash paper is a ‘toxic asset’ or a ‘non-performing asset’ (NPA).
This is sub-prime crisis. And technically it contained, after American treasury bought all such
NPAs worth $1 trillion (somewhere in 2009), but the aftershocks are still felt: American
economy is not back on track yet, because that $1 trillion bailout money didnot fall from sky, nor
does the dollars spend on military expenditure in Iraq or Afghanistan fall from sky.
Eurozone Crisis
Also known as Sovereign debt crisis.
What happened here is the Governments of PIGS (Portugal, Ireland, Greece, Spain) were
spending way too much money on subsidies, NREGA stuff and bank bailouts etc. They used to
finance their spending by borrowing from the market. These nations earn most of their money
from export to America and tourism income from American travelers. But the sub-prime crisis
and the recession in 2008-09 meant Americans stopped going on vacations. So the
airlines,tourism and export business declined, while the expenditure remained the same. Hence
in a way, Eurozone crisis is an aftershock of the Sub-prime earthquake.
Little concept: debt to GDP :
Suppose Debt to GDP is 96% (meaning if the country produced goods and services worth $100
in a year, they already had outstanding loan-repayment worth $96)
High Debt to GDP means investors loose confidence in your country.
These PIGS had high Debt to GDP than other nations, hence they are in the crisis.
But why only PIGS: why they ran out of money? (along with Debt to GDP %)
Over-spending by Government, inefficient PSUs with too much manpower (just like our Air-
Their banks were running the same asset bubble game like the Americans. When it collapsed,
Government had to bail’em out.
Overspending on Social schemes, overinflated staff in PSUs. Misreported its official economic
statistics, to fool the investors in buying the Government bonds. Caught.
Socialist Government, so lot subsidy and NREGA stuff.
What is Export Promotion Capital Goods Scheme?
First, what are capital goods?
Examples: Textile machines, big agro-harvesting vehicles, expensive lab instruments for
medicines, printing press for magz/newspaper, sophisticated computer-server for your call centre
Means Capital goods are the things you need to manufacture your products or give your services.
What is Export Promotion Capital Goods
Scheme? (EPCG)
Under EPCG scheme, you can import these instruments (capital goods) at only 5% customs duty.
But condition is that, within 8 years, you’ve export manufactured products worth 8 times the
duty you saved.
This EPCG is part of India’s EXIM policy (Export-import)
Boost to agri-business
If you import some Agriculture related machinery like Big harvesting machines they show on
discovery channel, this EPCG period is 12 years instead of 8 years.
Again minute details like 12 years and 13 years are not important, what is important :
Government is giving extra benefit to agro-machines under EPCG to make Agro-GDP grow by
4% a year for their 11th Five year plan target.
Can you see how it’s all linked?
11 FYP–> Exim Policy –> EPCG tool.
What is Duty Entitlement Pass Book (DEPB)
You’re an exporters, you get this passbook from Government.→hen you export something :
gems, chemicals… anything; they will write it down in your passbook.
Mr. XYZ has exported 1 kilo paperclips and U-pins worth 4000 rupees. So he is entitle to Rs.4
credit. (They’ve specific rates for each export product, I’m only giving a fictional example)
You can use this Rs. 4 credit in two ways.
1. →hen you import something, you’ve to pay customs Duty. Now you can just show your
passbook, and ask them to deduct the credit from it.
2. Or if you’re not planning to import anything, you can ask them to pay that Rs.4 in cash.
This DEPB is a tool under India’s EXIM/ Foreign trade policy.
EXIMExport Import,
The FDI in Retail business pro-cons Single
brand vs Multibrand Retail
In the fond memories of Dev Anand,
What’s the difference between Single brand
vs Multibrand retail?
Single Brand retail
· Nike Company opens outlets in A’bad, Banglore, Delhi and Mumbai selling nothing but Nike
Shoes, Nike wrist-watches and Nike t-shirts only.

· This is single brand retail.

· FDI in Single-Brand Retailing was permitted in 2006, to the extent of 51%.

· These were mostly outlets for sportswear, luxury goods, apparel, fashion clothing, jewellery,
hand bags, life-style products.

· But neither the Political parties nor Local Kiranawala raised any voice against this,why?
Because these are ‘high-end’ luxury items for brand
conscious upper middle class and rich class people. It doesn’t hurt population at large. It was not
like people would stop purchasing from local
garment store to get Nike or Adidas.
Multi-brand retail
· Big Bazaar opens mall in above cities: selling t-shirts of multiple-brands such as Reebok, Nike,
Adidas, Allen Solley, Van Huesen, Peter England etc.
+and+ they also sell unbranded t-shirts (you know those buy one get three t-shirts free from
unknown companies.)

· So this is multi-brand retail: when an outlet sells a product (tshirt, tie, shoes anything) of more
than one brand.

Retail means when product is sold to the ultimate consumer (common man)

Argument against FDI
Anti #1: will lead to mass-unemployment
1. Retail sector in India is the second largest employer after agriculture. Almost 33 million
people involved here.

2. Now the problem part: “Disguised unemployment”. Father and two Sons running a farm,
producing 200 kgs of wheat. You take out any two members,
the production still remains 200 kgs. Same problem goes with family owned-operated retail
stores, the intermediaries and middle agents.
3. What should be done? Obviously one of the two sons ought to get himself in other sector
(service, construction, manufacturing, industry, etc) But
there is lack of opportunities, the manufacturing sector is not growing at the pace. So the
argument=: Displaced retail-operators will not be absorbed
in other sectors. This FDI will lead to unemployment.

Although this “unemployment” argument is flawed because

1. Walmart cannot open malls in every nook and corner of India. Their electricity, staff and
security costs will surpass their profit margins.

2. Customers can’t goto →almart on daily basis for ‘attractive discounts’ because the petrol cost
(and time wasted in traffic) will negate the discount
on small purchase. So they’ll be using local small-retailer for daily requirements of bread, milk,
newspaper etc.

3. Did STD booth-operators become unemployed after advent of mobile phones with zero
roaming charges and free incoming? Nope, they diversified and
started running Xerox and cybercafés.

4. Did local Udipi owner ran out of business because of McDonald / KFC? Ofcourse not.
Anti #2: Predatory pricing
· Walmart or any other MNC retail mall, for the first 3-4 years they’ll give heavy discounts and
seductive offers, even if they make loss in the deal.
Result : all the customers in a particular city are hooked to walmart only.

· The smalltime retail players cannot run business giving such heavy discounts, they close down.
Once all competition is eliminated with this
‘predatory pricing’ →almart will slowly stop giving discounts and recover their losses by
increasing the MRP.

· Since these big MNCs have deep pockets, they can affort this sort of loss. But in the long term,
they recover everything.

· Same way Once the small time retailers are out of business, Wal-Mart will start exploiting
farmers, paying them extremely low money for their produce, because
now Wal-Mart is the sole retailer in the city.
counter arguments: ‘Predatory pricing’
1. Customer thinks of Traffic, time and petrol cost involved before visiting Walmart everynow
and then. Not like someone would go 10 kilometers, just
because the mall is giving Rs.3 discount on apple juice.

2. There is a Competition Commission of India to look into this matter. (earlier MRTP,
Monopoly and restrictive trade practices act)

· (sidenote) Another example of Predatory pricing is our airline industry. One of the prime
reasons why they’re making losses.
Anti#3: India will become dumping ground for Chinese
· Dumping means, suppose a ballpen is sold for Rs.10 in China but they intentionally export it to
India at the price of Rs.5, in order to ruin the business
of local Indian pen-producers and to capture the Indian stationary market.

· China is notorious for this dumping tactic, earlier we had to impose Anti-dumping duty on their
rubber products and tires.

· Some believe that entry of Foreign retailers will facilitate the Chinese scheme of dumping our
market with their cheap products.
Arguments in favor of FDI in retail
Pro#1: No more wastage of agro-produce
· India is the second largest producer of fruits and vegetables,

· If we are the 2
biggest producers of fruits and vegetables, why are we not a ‘big name /
exporter’ in world market? And more
importantly, if we are second largest producer, then why is so much inflation in food items?

· Because Post-harvest more than Rs. 1 trillion worth farm produce, especially of fruits,
vegetables and other perishables, is wasted due of lack of
storage and transport facilities.

· More than 50% of this can be saved, if we’ve proper cold-storage facilities.

· Government is not doing much about this (duh they are unable to save even the wheat in PDS,
let alone cold-storage) and the private Indian players
donot have much money to invest in this cold-storage chain or those expensive big transport-
trucks of America that we see in Discovery channel.

· So if FDI in retail is allowed, the MNCs would invest in cold-storage chains and those big
transport trucks. Means lower wasted of produce. More
supply of fruits and vegetables. According to supply-demand rule the prices will go down.

· Right now, 100% FDI Is allowed in Cold-storage chain, but foreign players are not coming
there because they’re not allowed to sell it in retail
malls. There is not much profit margin in operating a cold-storage alone. It’d take years to
recover the investment. Only if MNCs are allowed to sell
the produce as well in their retail malls, they’ll feel interested in investing in this cold-storage

· Similarly FDI in Wholesale trading was allowed upto 100% since 1997.
Pro#2: Farmer gets more money for his produce
· Indian Farmer doesn’t have cold-storage or transport facility, if he grew 200 kilos of carrots, he
has no option but to sell it as soon as possible
before it get spoiled. The middle agent buy this produce for as low as 2-4 rupees per kilo, but by
the time it reaches market, the price jumps to 25-30
rupees per kilo. WHY?
Indian Truck Transport: Overloading and Bribes
· There is no organized truck- transport service, the truck operators are running in extremely
competitive environment so they’ve to overload their
trucks. Once this overloaded truck goes through checkpoint, policeman will demand bribe for
flouting the road permit provisions.

· Since the truck is overloaded, engine efficiency is reduced. He has to get his truck repaired

· The road quality and traffic Management is bad, more diesel is consumed.

· Trucker will add all these costs (bribe, repair, extra diesel) in his service charge.

· Truck reaches the city, your local vegetable-vendor pays to offload the carrots but he gotta
maintain his own profit-margin as well, (+ the bribe he
has to pay to local policeman, municipality inspector etc) so the carrots that were lifted for 2
rupees, ultimately get sold for 25 rupees a kilo after
cutting everyone’s Commission.
When an organized MNC retailer gets in picture, he has his own extremely efficient and
streamlined transport service. So there is no overloading of
trucks, there is very systematic packing of goods. His truck maintenance cost is thus very low
and there is low wastage during transport.

Second, He doesn’t have to pay so many bribes at every level, because

1. There is no overloading of trucks, papers are in order. Less chances for policemen etc to
blackmail him into paying bribe.

2. He got deep pockets, he gives big annual donations for ‘election funds’ to the ruling party and
Diwali gifts to the concerned district officers.
That’s why small time petty officials such as police, municipality, food n sanitation inspector
can’t dare to bother him every now and then, as they do
to small time retailers.

So MNC retailer’s cost price is quite low compared to small-time retailers. Hence he can afford
to give attractive discounts to customers as well.

Same reason why many political parties dislike MNCs in Retail, you can extract more election-
funds from 1000 small time players compared to from one
big player. Big player is less susceptible to arm-twisting compared to a small player.
No more intermediaries / Middle men in the chain= Lesser
levels of Commissions
· Right now Intermediaries [middle agents] dominate the value chain. They often their pricing
lacks transparency. They often run secret cartels, so
even in open auctions, farmers don’t get good price for their produce.

· Wholesale regulated markets, governed by State APMC Acts, have developed a monopolistic
and non-transparent character.

· These elected cooperative marketing societies and Mandis are more or less same BJP vs
Congress fight for domination in university elections, there is
hardly anything positive reform done for the students.

· According to some reports, Indian farmers realize only 1/3
of the total price paid by the final
consumer, as against 2/3
farmers in nations with a higher share of organized retail.

· A study commissioned by the →orld Bank : →hy India doesn’t earn much money from
exporting its Fruits and vegetable (even though we’re second largest
producer) = Same reason, Non-competitiveness. Bad supply lines.

· A price that the farmer receives for a typical horticulture product is only 12–15 per cent of the
price the consumer pays at a retail outlet.
Small and Medium scale industries
· Example small time cushions, toys, shoes, plastic wares maker. They don’t see much business
because they don’t have the avenues to sell their
products. Big mall with big floor space, provides them opportunity to market their products and
get customer’s attention.
Assured quality, no adulteration
· Tune into Aaj Tak newschannel during afternoon, it is always somewhere in Uttar Pradesh,
they caught adulterated Milk, Milk products or soft drinks
produced using banned chemicals.

· More than 40% of the medicines sold in rural and semi-urban areas of India are of fake brands.

· For an MNC retailer you can atleast feel confident that it won’t be the case.
More competition = Better prices and products
· Remember once upon a time, Mobile calls used to cost 7 Rupees per minute and “incoming”
wasn’t free. →hy? Because there was low level of competition.
Barely 2-3 players in the market. FDI can be a powerful catalyst to spur competition.
Trickle down Theory
· To open a big mall, walmart has to purchase land and construct a big building= lot of laborers,
masons, plumbers, electricians employed.

· Same way farmers are getting more money so all these people have more money in their hands
and they use it to purchase bikes, mobiles etc. so more
demand and more employment.

· This is trickle down theory. Marxist and Vinod Dua (NDTV) disputes this theory.
Fear exaggerated
· Fears of large adverse effects on existing retailers are grossly exaggerated especially since
modern domestic retailing has begun in any case via
desi retailers such as Big Bazzar and Reliance. (10
plan document)
Suggestions for safeguards
1. Entry of foreign players must be gradual with social safeguards so that the effects of labour
dislocation can be analysed and policy fine tuned.

2. Foreign players should initially be allowed only in metros cities only.

3. Gradual opening of the retail sector over a period of 3-5 years to give domestic industry
enough time to adjust to the changes.

4. More stringent Compulsory corporate social responsibility requirement (e.g. Ask them to open
1 school and 1 clinic in every city where they’re
operating etc.)

5. Regular monitoring of mall-inventories to see that India is not used as dumping ground for
Chinese products.
Some reports for mythbusting
***Ok now this is copy paste job***
Based on their study
#1 : Not as much job loss as feared
1. Unorganized retailers in the vicinity of organized retailers experienced a decline in their
volume of business and profit in the initial years after
the entry of large organized retailers.

2. The adverse impact on sales and profit, however, weakens over time. There was no evidence
of a decline in overall employment in the unorganized
sector as a result of the entry of organized retailers.

3. The rate of closure of unorganized retail shops in gross terms was found to be 4.2 per cent per
annum, which is much lower than the international
rate of closure of small businesses. The rate of closure on account of competition from organized
retail was found to still lower, at 1.7 per cent per

4. There was competitive response from traditional retailers through improved business practices
and technology upgradation.
#2 good for consumers
While customers from all income groups saved through organized retail purchases, the lower
income consumers saved more. Thus, organized retail is
relatively more beneficial to the less well-off consumers.
#3 Intermediate players
There was no evidence of an adverse impact by organized retail on intermediaries. There is,
however, some adverse impact on turnover and profit of
intermediaries dealing in products such as, fruit, vegetables, and apparel. Over two-thirds of the
intermediaries planned to expand their businesses,
in response to increased business opportunities opened by the expansion of retail.
#4 More money to farmers
Farmers were found to benefit significantly from the option of direct sales to organized retailers.
The average price realization for cauliflower
farmers selling directly to organized retail was about 25 per cent higher than their proceeds from
sale to regulated government mandis. The
profit realization for farmers selling directly to organized retailers was about 60 per cent higher
than that received from selling in the mandis. The difference was even larger when the amount
charged by the commission agent (usually 10 per cent of sale price) in the mandi
is taken into account.
Scenario in other third world countries
· FDI is permitted in the retail sector in Brazil, Argentina, Singapore, Indonesia, China and
Thailand without limits on equity participation (that is
100% FDI allowed)

· Thailand: Since 1997, 100% FDI. Positive result: Thailand has now become an important
shopping and tourist destination.
A story of Forex, currency conversion, rupee
depreciation, inflation, subsidies etc.
Again in the fond memories of Dev Anand.
I’m writing this story so that the newcomers can get some idea about Forex, currency
conversion, rupee depreciation, inflation, subsidies etc. (caution : full of technically not-so-
correct examples, just to give you a broad idea of what ails Indian economy) Ok here it goes…..
Investor: Faith won and lost
Enter an American Mr.James. Thanks to American recession, he decides to invest outside USA,
and comes to India with a bag full of green dollars, after he was assured by RBI and Commerce
Secretary that environment in India is very conductive for business. Please come, give us your
dollars, we convert it into rupees.
He (full of confidence) converts his dollars, at the rate of 1$=Rs.40
Now James searches for land to open office or factory somewhere near a big city in India. But
price of land is so high thanks to the black money, it doesn’t make any sense buying a property.
He says ok, let me just ‘rent’ some readymade building and I’ll starting a small-scale i-phone
production company.
But the electricity shuts down at random, for hours and days.
James: ok, I’ll buy a diesel generator like every other industrialist in this area.
Again price of Diesel also increasing, Profit margin shrinking.
Adding insult to the injury, his workers have gone on strike. Workers are demanding pay-rise
because of the ever increasing prices of milk and petrol and James unable to settle the dispute so
a lengthy (and expensive) legal battle is drawn. Meanwhile the factory remains closed for weeks
and months together.
James: let me start a coffee house to pay lawyers’ fees.

But the price of raw material (milk,sugar,gas) also increasing.
Add the bribe he has to pay to local goons, policemen, and municipality corporators. If he raises
the selling price of each cup, there will be drastic reduction in customers. Again Hardly any
profit margin left.
Moreover frequently one political outfit or another, calls for a ‘strike/bandh’ for creation of
separate state or to protest against inflation or corruption or lokpal or just because someone
slapped their political leader.
James dares to open his shop on such ‘Bandh day’ and he is beaten up severely by the political
goons, his coffeeshop is ransacked while police watches silently.
His calls his buddy Allen in America, cautions him not to invest in India.
Currency Speculations @ Forex Market
At the local beer-bar in California, Allen overhears some conversation between drunkards that
soon IMF and world bank will give big financial aid to the ailing Greek and Portugal, and their
economies will be back on right track. If one invests money at this point, in stock market or real-
estate in those countries, he could get a handsome return of 40-50% a year.
Allen recalls a Bollywood movie he saw on youtube with English subtitles, the handicapped old-
man in that movie had given a profound and universally applicable Management advice: “Lohaa
garam hai maar do hathoda”
Allen immediately runs to Forex market, with his bag full of dollars to get them converted into
Crude Oil Bill
Curiously, Chairman of IOC (Indian oil corp.) is also waiting there @Forex market, with a
suitcase full of rupees. He is in desperate need of dollar$ for King of Saudi doesn’t accept
payment in Rupees for the crude oil sold.
IOC Chairman: dude got any dollars? Come on man. I need them, please.
Allen: How much?
IOC Chairman: You know the routine rate. 1$ for 40 rupees.
Allen: Hell NO!!! I ain’t selling. My best friend told me not to.
IOC Chairman: ok ok how about 45 rupees for a dollar.
Allen: Nope
IOC Chairman: 50
IOC Chairman: 52
Allen: ok, You got a deal.
The Solutions
Back in India
(upon knowing that at Forex market, Rupee is selling down at 1$=52Rs)
RBI Chief: what in the god’s name is happening? 52 rupees for a dollar? How are we supposed
to import crude-oil at this expensive rate?
Finance Minister (FM): hey look at the bright side, although our imports become costlier but
now our exports will earn more money. It is Good for call-centres and textile exporters. And then
they use that money for buying items in Indian market = it will create more demand= more
jobs=boost in economy!!! Trickle down theory!!!
RBI: Wait a minute! Nobody is going to buy nothing under this high-inflation. So Whatever
extra-profit the call centre owner makes thanks to this rupee devaluation, he’ll lock it in bank’s
fixed deposit or pension funds and he’ll wait and watch for the prices to go down before making
any big purchase. This trickle down theory isn’t that linear and straight forward as you’re
thinking. Back to the point, We need dollars to finance the crude oil import..
Finance Minister: No problem. You’ve got more than 200 billion dollars Forex-reserve in your
custody. Release them in the market.
RBI Chief: Never. I’m saving it for the rainy day. God forbid if situation gets even worse, we’d
have our pockets totally empty. What if a war breaks out with Pakistan or China, how will we
purchase extra-oil for our fighter-jets and combat-tanks during that crisis, if our Forex reserve is
wasted like this?
Finance Minister: Damn it, if prices of petrol and diesel are increased because of this rupee
depreciation, the truck-transportation cost will increase and so will the prices of milk,eggs,fruits
and vegetables. Spider-man’s Uncle Ben before his untimely death, had said “With great power
comes great responsibilities and for great Pawar comes great slappings” Please man, do
something, we need green dollars to finance the oil bills. I’ve UP election to win.
RBI Chief: how about you stop MNREGA? That will stop a lot of corruption, black money
generation and the resultant inflation and price rise.
FM: You’re kidding, right? How am I supposed to win UP elections without MNREGA?
Centrally sponsored welfare scheme is the only Brand-USP of our party!
RBI: Ok how about disinvestment? Sell a part of your shares from SAIL, Coal India and other
public sector undertakings.
FM: Yes we can do that but wait Madam-ji and NAC (National advisory council) said the
disinvestment money is to go in National Investment fund from which it’ll be spent for more
schemes like MNREGA.
RBI: ok lets recover the 2G and CWG corruption money from Raja and Kalmadi then use it to
finance the oil-bill.
FM: lolz, come on man, be serious. Hey wait…. how about you print 10 suitcases of rupees in
your printing press. Then I goto Forex market and get them converted into dollars.
RBI: Yes that could work. Only problem is that the guy how buys these suitcases from you in
exchange of dollars…. He might come back, buy all the onions and potatos from our market
using same printed rupees and takes them to his home-country. That would lead to even further
inflation for there will be lesser produce left in our market.
FM: no no UP election…no more inflation.
RBI: Look I understand your constrains but I can’t release dollars from my reserve. But How
about you arrange for dollars … know something like via FDI? How about 51% FDI in
retail, that ought to attract a lot foreign players with bags full of dollars, they’ll get desperate to
convert it into rupees.
Cash and Carry wholesale trade meaning
The term “Cash and Carry wholesale trade” has been appearing a lot in newspaper columns
nowadays, because of that ‘FDI in retail’ issue.
Traditional wholesale trade
 An electronics store owner, Jethalal Champaklal Ghada, requests 20 LCD TVs from
Sony wholesaler.
 Wholesaler arranges for the truck, sends the LCDs.
 Jethalal need not pay the entire cost-price of 20 LCDs at once.
 He’d keep paying it either in installments or entire sum before next-Diwali or next month
or only when those LCDs are sold to a newly opening hotel. (i.e. deals made on credit)
Another example of traditional wholesale:-
sometimes you see a guy with a notebook, making rounds at your local kiranastore or dairy
parlor. He’d note down the ‘order’ from that store owner and after some time, he’d come back in
loading-rickshaw full of biscuit, softdrink and wafer packs. And the money is settled on monthly
Cash and Carry wholesale trade
It is different from the traditional wholesale deals in following manner:
 Here Jethalal himself goes to that →holesaler’s warehouse (or sends his henchmen Nattu
kaka or Bagheshwar).
 He pays entire cost of all 20 LCDs, at once. (Cash/Cheque/DD etc.)
 He arranges for the truck-transport by himself and takes it back to his shop. (Carry)
Cash n Carry wholesale in India
(here goes copy paste job from Financialexpress)
 In many big cities there are “Best Price Modern →holesale stores” by →almart Bharti
venture, as 100% FDI is already allowed in wholesale.
 They stock about 6,000 items, including a wide range of fresh, frozen and chilled foods,
fruits and vegetables, dry groceries, personal and home care, hotel and restaurant
supplies, clothing, office supplies and other general merchandise items.
 These items are available at competitive wholesale prices, allowing retailers and business
owners to lower their cost of operations.
 Over 90% of these goods and services are sourced locally, thereby helping keep costs to a
minimum, adding to the growth of the local economy and creating job opportunities.
On What basis 49-51% are calculated in
Basheer asked,
what is this 51% and 100%…on what basis those percentages are allowed for fdi….i mean if
51% in multibrand is allowed thn how can they maintain tht 51 %.

Situation #1

 Anil Kapoor is running a mall in Mumbai (or a big retail-mall chain, having presence in
all big cities) and his total investment is 49 crores.
 Then Tom Cruise cannot invest more than 51 crores in this mall.

Situation #2

 Tom Cruise dreams to open a retail mall chain in India, he calculates it’d require total
investment of 100 crores.
 Even if he has 5000 crores, he can only put 51 crores from his side and he’ll have to find
one or more Indian players to invest the remaining 49 crores, else his dream will become
a ‘Mission impossible‘ (Ghost protocol)

Situation #3

 Anil Kapoor has a public listed company doing the retail business (i.e. they’ve shares in
 In this case Anil might issue extra shares on preferential basis to Mr.Cruise upto the limit
of 51% in total investment
 On these shares, the dividend cannot be more than the limits given by Finance ministry.

Percentage Calculation
49-51 sharing percentage is calculated on total investment, which can be anything.
 Total investment 204 crore(100%)=Anil’s 100 cr.(49%)+Tom’s 104 cr.(51%)
 Total 1020 (100%)=500 (49%)+520 (51%)
difference between current account deficit
and trade deficit
Tanvir asked: →hat’s the difference between current account deficit and trade deficit?
Current account
First the meaning of “Balance of Payment“= keeping track of incoming and outgoing money
from a country.
In Balance of Payment, we’ve two components :
1. Current Account and
2. Capital Account.
Current Account= the sum of
1. Balance of trade (exports minus imports of goods and services)
2. Factor Income (interest and dividends from international loans and investments.)
3. Net transfer payments (such as foreign aid).
When we say Current account deficit, means incoming money is less than outgoing money.
Trade deficit
First, the meaning of “Balance of Trade“ = difference between value of import and export.
→hen we are importing more than our exports: we’ve Trade Deficit.
It doesn’t consider foreign aid and interest payments but only the ‘trade’ part.
Do you see the hierarchy ??
Balance of Payment >> Current Account >> Balance of Trade >> Trade Deficit
By the way, how to calculate current account deficit, has been explained here: Click ME!
Link between Credit Rating & Interest Rates
Another Question from email: ”DO→NGRADED rating could lead to hiked interest rates and
borrowing costs”: →hat does this mean?
first of all,
What is a credit rating agency?
 A credit rating agency is like the Box office review columns in Saturday’s newspapers: 2
star out of 5, means waste of money. (Ra.One, Don 2 for example).
 Similarly Credit rating agency (CRA) assigns credit ratings to issuers of bonds and
securities : companies, Governments etc.
 From their rating, you can know issuer’s credit worthiness (i.e., its ability to pay back a
 Example of CRA are :Standard & Poor’s (U.S.), CRISIL (India)
Standard & Poor’s (S&P) credit rating
It has “stars” from AAA to D.
AAA means the guy is most likely to pay back.
D means the guy is most-bogus.
Now consider this:
But if I get lower ratings such a BB, or CCC…. in that case most people wouldn’t want to
purchase my bonds because they’re afraid that I may default on payments.
So how do I motivate them to invest money in my bonds? Obviously by offering higher returns.
“Anyone who gives me 100 Rs., I’ll give him 170 rupees after 6 months, instead of 120 that I
promised earlier!”
 From your side (Lender) what do you see?= hike in interest rate.
 From my side (Borrower) what do I see?=increased cost of borrowing, because I have to
offer higher interest rate.
S&P downgraded U.S. long-term credit rating from AAA to AA+
So, Borrowing costs will rise for U.S. government (via treasury bonds), companies etc in long-
term because now they’ll have to offer higher interest rates.
This was the credit rating for governments, companies, but what about
Credit Rating for individuals

 Credit Information Bureau of India (CIBIL) is a central agency that prepares a report
of all loan borrowers who have defaulted on their payment to their banks.
 In short, CIBIL knows if you are a good borrower or a bad one. Banks seek these reports,
called as credit reports, from CIBIL before they sanction you a loan amount.
 If your credit history is not good, your loan request may be rejected, or you may be
required to pay higher interest rate.
Non-related question,
What is Angel fund?
A wealthy individual who provides financing to a start-up compny.
Start up company means a company in its earliest stage of development, usually before its IPO.
Story of Forex Part II
Continuing the Technically-not-so-correct story of Forex and currency conversion
Kashyap asked,
First Question
Why king of Saudi does not accept payment in rupees?
 If he accepts rupees, his hands are ‘tied’, meaning he can only use that cash to buy stuff
from India.
 But even If he wishes to import Indian mangoes or oranges, the Indian exporters would
gladly accept American dollars, so why bother with rupees?
 Secondly, What if he wants to buy I-phone or Ferrari from America?
 He’ll have to get those rupees converted into Dollars.
 But everytime he converts one currency to another, there will be taxes and Commission
charges applied @ the forex market. So why waste money in it? Just get the dollars- it’s
universally accepted-Can buy anything from anywhere.
 You buy something from my medical store and pay but instead of returning change (

), I give you plastic coin or coupon with “2-rupees” written on it. It can be used to
purchase items from my store only. So, will you accept that plastic coin currency or will
you demand an actual Indian currency coin? Which one has more benefits?
Second Question
At the beginning only 1$=Rs.40?why not 1$=Re.1?
First, Why do we want to convert one currency to another? Because we want to buy
something from that country, or to invest in that country.
Let’s just presume for a moment,there is no share-market or speculation or FDI/FII, just plain
buy n sell of goods between nations.
 In the initial years after independence, we didnot have the excellent manufacturing
 There were droughts so food shortage. We were dependent on the west for food supplies.
 There was heavy inflation because of wars with China and Pakistan.
 →e emphasized on ‘Swadeshi’, we were using “Import substitution strategy”. We
prevented the entry of foreign companies, hence our Swadeshi automobiles, cameras, etc
were not of ‘export-quality‘. If the third guy (British) wanted to buy a car, he’d convert
his pounds to dollars and buy a ford from America and won’t come to India to buy the
khataraa Ambassador.
 In those years, America was quickly advancing, they had color TV, missiles, tanks,
weapons, sports cars for sale and export in their show-room.
 Compared to them, We didnot have much expensive stuff to export.
 As we saw a paragraph ago: why we exchange currency? so that we can buy something
from their local market. So how do you motivate an American to exchange his one
dollar to your rupees?
 1$=1Rupee? ofcourse not. Why should he give you his one dollar for just one rupee?
 What is so precious in your Indian show-room that he feels tempted to exchange his
dollars for your rupees?
 1 gallon is approx 4 litres. He can buy 4 litres of petrol, in about 16$ on American gas-
station while you’ll need Rs. 280 to buy 4 liters in Indian petrol pump.
 He can buy a computer mouse in 7 dollars in America, while here it costs no less than
Rs.150 in India. ( I mean to say, if he exchanges 1 dollar for 1 Rupee and imports things
from India, he is at loss.)
 Besides, we are have desperate need of dollars to purchase his weapons, his machinery,
or to pay $$ for crude oil.
 So you would need to motivate him by offering more rupees for each dollar so that he can
purchase more from India.
That’s why 1 Dollar did-not equal to 1 Rupee. You had to offer him more than 1 Rupee.
PS issues of officially Fixed exchange rate, devaluation etc intentionally skipped to keep the
explanation plain and simple. You can read more about that by clicking me
Third Question
3. why did Allen exchanged dollars with rupees?
 Because India would have appeared a good investment-destination 3-4 years ago when
Allen came, and America was struggling with recession.
 But then thanks to Jairam Ramesh’s Environmental activism, Niyamgiri-POSCO
agitations, Cairn-Vedanta deal obstacles, mining scams and energy crisis etc. the scenario
right now, may not appear attractive to new investors.
SENSEX calculation
Before venturing into SENSEX calculation, lets refresh basic concepts of Index calculation, that
we saw in WPI calculation
Suppose Price of a Lifebouy soap was Rs.10 in 2001.
And now it has increased to Rs.12 per bar.
We take 2001 as our base year.
We take Rs. 10 as our base price.
Then our index for 2001,
= Price of soap in 2001 divided by price of soap in 2001
=(10/10) x 100= 100%
Our index for 2011
=Price of soap in 2011 divided by price of soap in 2001
=(12/10) x 100=120%
The formula is essentially, “new price divided by old price”
Now for SENSEX
Base year : 1978-79 [to be specific, the price on 1st April 1979]
First the concept of-
Free Float market Capitalization
1. Kingfisher: suppose has total 1 lakh shares: 30,000 held by Malya and rest 70 thousand held
by general public.
2. Value of each share in Bombay Stock Exchange (BSE) on 11 January 2012 is Rs. 150.
Now we first calculate a thing called “Free float Market capitalization” for Kingfisher, which
is nothing but
= Number of shares held by general public multiplied with Value of Each share on the given date
in Bombay Stock Exchange (BSE)
= 70 thousand x 150
= 105 lakh rupees
So Kingfisher’s Free float Market cap (FFMC) for 11 January 2012= 105 lakh rupees.
Like this kingfisher, you pick up total 30 companies, calculate their FFMCs, add them
together.This number becomes our “Price of lifebuoy”, say it is 15 crore rupees. (NEW
And total Free floating market cap of 30 companies, on that 1st april 1979 was say 10 lakh
rupees. (OLD PRICE)
So as we saw earlier, INDEX= new price divided by old price (% value)
Now SENSEX = Total Free float market cap (FFMC) of 30 companies today divided by Total
(FFMC) of 30 companies on 1st April 1979
=(15 crores / 10 lakh) x 100
This 15,000 my friends, is the today’s SENSEX.
P.S. Actual formula not this linear.
Some points
 The 30 companies, in that list keeps changing. So 30 companies in today’s SENSEX not
necessarily included in 1979’s list. But we take their values.
 Actual SENSEX calculation involves minute technical-items such as “free float factor
for each company” but it’s beyond the scope of routine competitive exams. However
curious souls can access it by clicking following
 Different companies have different ‘weights‘ in the Index. So calculation won’t be
directly new price by old price but weighted average, similar to how in WPI we assigned
weights to different commodities.
 Total market capitalization =total number of shares of a company (i.e. Malya+General
public) multiplied with price of each share on given date.
 SENSEX from 1986 to 2003, was calculated on this Total market capitalization. In 2003,
they switched to Free Float Market Cap.
 The word SENSEX is made by combining two words: Sensitive + Index.
 BSE’s dollar version of SENSEX. [SENSEX is calculated on rupee values]
 SENSEX is calculated on 30 chosen companies. (Started in 1986)
 NIFTY is calculated on 50 chosen companies. (Started in 1995), otherwise method is
 Similarly BSE 100= calculated on 100 companies, since 1989.
Teaser Home Loans: Meaning, Implications
Question from Manish Kumar:
I want you to throw some light on “TEASER LOANS”.. I have searched on the net and tried to
understand the thing but not satisfied.
Meaning of Teaser Home loans.
 In the first few years, you’ve to pay a very low interest rate on your home loan, but
afterwards, the interest rate will be normalized (and increased)
 SBI started this in India, in 2009 with two products:
 1) Happy Home Loan 2) Easy and Advantage Home Loan.
 Both these loans hold the interest rates fixed and below the market rate in the initial
years. Thereafter, the rates turn floating.
Target customers:
1. Low-income home buyers.
2. Young people who just got job, married and want to buy a home.
Why RBI is against Teaser loans?
 RBI had observed that many banks at the time of loan appraisal did not check the
repaying capacity of the borrower at normal lending rates of future.
 RBI fears, this may lead to a housing bubble and sub-prime like situation.
 If the bank has given loans to people undeserving or unable to pay higher rates later on,
Customer may lose the property.
 Mass scale defaults on home-loans= real estate market crashes, and you get a situation
like America’s sub-prime crisis of 2007.
SBI’s argument in favour of Teaser loans
 We have chosen the borrowers wisely, it has been a great product especially for the
younger borrowers.
 Young people have lower incomes earlier, and hence lower EMIs, as their income levels
increase with time, so will their EMIs.
 It is an ideal product for the disciplined person who saves money prudently.
In an attempt to discourage teaser loans, RBI had asked banks to make provision of 2% of
outstanding portfolio for such loans with immediate effect.
Result: SBI withdrew teaser home loan plan with effect from 1 May 2010.
Some more GK on SBI
1. SBI has launched “Bank on →heels” project in Nagaland to deliver banking services at
the doorstep of rural people even where there was no branch.
2. SBI country’s biggest lender, will name and shame “wilful” defaulters and put their
pictures in newspapers to get them to pay up
3. SBI’s chairman is Prateep Chaudhari.
Currency Swap deal between India and
Ankit asked via email
It is a deal made between the central banks of India and Japan, to prevent the fall of Rupee and
Yen, due to speculative trading @Forex Markets.
Currency swap agreement
 Means that Japan will accept rupees and give dollars to RBI up to a stipulated limit, and
similarly RBI will take yen and send dollars to Japan if speculators seek to thrash down
the respective currencies.
 Currency swap would take place between the Reserve Bank of India and its counterpart
in Tokyo, the Bank of Japan.
 The two central banks would give each other dollars to stabilize their currencies, in case
of need.
 A dollar swap arrangement can help emerging economies as it promises a supply of
dollars in an emergency.
 The previous currency swap deal between the two nations, signed in 2008, has expired.
How is India benefited?

 Government of India, issues bonds to oil marketing companies
to compensate them for losses on sales of petroleum products below cost.
 Oil Companies sell these bonds to LIC, Banks etc to recover the money.
 To prevent the downfall of Rupee, RBI can open a Forex-window, where Oil
cos line up and exchange their oil-bonds in lieu of dollars from RBI.
 For this activity: RBI can exchange its rupees to Japanese bank and get
dollars and then RBI gives that dollars to Oil cos. in lieu of
Government bonds.
Chiang Mai Initiative
(2 marker for GS-Mains)
 1997: East Asian countries had a big financial crisis due to speculative forex investors.
 Under Chiang Mai Initiative in 2010, ASEAN countries + Japan + China + S.Korea have
a currency swap agreements.
 Chiang Mai is a city in Thailand.
Some GK
 1$= about 76 Yen = about 48 Rupees.
 1 Yen= about 0.6 Rupees
 1$= 6 Yuan
 1 Yuan= 7 Rupees
How does RBI know about money supply in
the market?
Question from Kritika
How govt assume more money with public which causes inflation?
If am right,persistent rice in price level is inflation which is assumed to happen whenthere is
more money with public, as a result demand increases , which causes price rise.
So to curb the flow of money with public ,RBI taking measures to increase repo rates.
But what my doubt is , how can govt come to conclusion that there is more money with the
Government and RBI are two different entities.
Both are involved in managing the economy in their own capacity.
1. What Government does (taxation and budget) is called Fiscal policy
2. What RBI does (repo, reverse repo, CRR, SLR etc) is called Monetary policy.
It is the job of RBI to worry about Money supply in the market.
They’ve a system called M1,M2,M3,M4 to calculate it and they tweak their repo rates etc
FDI and FII difference & which one is
Reform: FDI vs FII definition
Chindu proposed in Budget speech that
 We need to remove the ambiguity on what is FDI and what is FII,
 I propose to follow the international practice:
o if an investor has a stake of 10 per cent or less in a company, it will be treated as
FII and,
o if more than 10%= FDI.
 Later Chindu formed a panel under Arvind Mayaram for giving clear definitions to FDI
and FII.
What’s the difference? Which one is better?
 FII players pull out their money from stock-market even for slightest good/bad rumors
and invest in in different country.
 That’s why it’s called ‘Hot money‘ -was responsible for 1997 Asian financial crisis {2
marker in GS Mains Paper-I, 2007}
 In 2007, the 2 marker appeared because that year SEBI made some regulation in FII
investment via participatory notes to control the hot-money.
 Also, there were allegations that Pakistan might use it for ‘financial-terrorism’ using FII
via Participatory notes.
 Although there are tools such as Tobin Tax, to control the flight of hot-money. But still,
For development, Governments want and prefer FDI and not FII. Because It’s hard to
pull out FDI once invested.
Budget related current affairs making you
Question via email :
When I am trying to think the budget as a Current Affairs activity, my head shakes. I have to
depend on Chronicle or news papers for the highlights of the budget. I am not able to read and
analyze the budget presented every year. So will it be possible for you to suggest – how to read
the budget? What all things are there in Budget? What area we should focus on or not focus on?
budget is not about minute data and numbers like 15664 cr. alloted to some xyz scheme and
19.5% excise duty on footwares.
1. all you need to understand from budget is
2. tax slabs
3. new policies meant for promoting FDI / business etc.
4. broad objectives of Government welfare schemes.
5. how will the Government handle deficit?
+ The burning issues: GST, DTC, what did the FM said in this budget speech about them?
IIP: Index of Industrial Production:
Meaning, implication, impact on Rupee-
When we say economy is booming or industry is facing a slump: how do we know? Mere by
perception? But Government or Banks or investors cannot make their policies and decisions on
perception, they need some quantifiable data to work on. Hence they need IIP (index of
Industrial production). It is a number, that gives you idea on how industries are performing.
<without getting technically so correct or in minute details>
Suppose industrial output of India, in the year 2004-05 was 100 crore rupees.
In 2010-11 it is 105 crore rupees.
So simple percentage calculation: 5% increase in the industrial output over the base year.
Newspaper headline: IIP shows growth of 5%.
For this ‘industrial output’ value, we’ve to measure the output in three sectors (MEM)
1. Mining
2. Electricity
3. Manufacturing
Then we take out the weighted arithmetic mean and that is our ‘industrial output’ value. Then do
all the index calculation of current year and baseyear.
 It is a single representative figure to measure the general level of industrial activity in the
 It measures the absolute level and percentage growth of industrial production.
Who calculates this IIP?
Central Statistical Organisation (CSO) under the Ministry of statistics and program
When do they calculate this IIP?
Every month.
Why do they calculate it every month?
Because if they calculate every year, it’ll be too late for the Government or RBI to make
necessary amendments in the policy ! They’ve to keep a constant eye on this number.For
1. Automobile sector is facing very negative growth, Government may give them tax-
holidays or allow them to import foreign machinery without paying import tax. [Fiscal
2. Negative IIP may mean People don’t have money in their hands, so they’re not
purchasing products (less demand) hence industry had to reduce the production or
Businessman are having hard time borrowing because of high interest rates. = Change the
repo, reverse repo CRR etc to increase money supply in people’s hands. [Monetary
What are other ‘Indexes’?
1. Wholesale price index (WPI)
2. Consumer price index (CPI): four subparts
a. Industrial Workers (CPI-IW)
b. for Agricultural Labourers (CPI-AL);
c. for Rural Labourers (CPI -RL)
d. for Urban Non-Manual Employees (CPI-UNME).
What is the impact of poor Industrial
Here goes mere rephrasing of another article from
As a job seeker
1. Lower demand will force businesses to invest less and scale back expansion plans. That
means lower hiring.
2. So, if you’re looking for a job in the manufacturing/industrial sector, expect the going to
get a little bit tougher.
As a stock investor
3. Lower industrial output means lower revenues and profits (which are also getting hit by
higher borrowing costs). That lowers earnings per share for investors
4. continuation of the poor IIP trend could lead to more earnings downgrades and lower
stock valuations. Means FIIs start pulling their money out of India and invest it in
different country = leads to weakening of rupee.(more below)
As a shopper
5. manufacturers to offers discounts and freebies, to attract shoppers to stores. (haha like the
Flipkart ads shown below!)
6. Of course, shoppers will only be inclined to spend if they still have jobs or enough
disposable income.
As a borrower
7. RBI may lower the rates, to increase the money supply in the market and make borrowing
As a producer/exporter:
8. businesses using locally-priced inputs, there might be a silver lining in terms of costs,
which could come down.
9. if the prices of those inputs are based on international prices, they might not be so lucky
because a falling rupee will increase prices in local terms.
10. Now some real life examples: End of rephrasing, now writing further on my own.
IIP for October’11 : Rupee weakens
 had negative growth (-5 .1 percent).
 (This data was released in Dec’11)
 It sent panic among investors and SENSEX fell by 343 points.
 FIIs started pulling out money from our stock-market, they’d sell their stock-get rupees,
get them converted into dollars and invest it elsewhere in different country.
 You get the picture: Demand of dollar$ increase and demand of rupee decrease hence the
rupee made a new lifetime low of 52.** against the dollar
IIP for December 2011
 ↑ery low +1.8 growth (In Dec’10 it was 8.1%!)
 This data was released in Feb’12.
 in crude terms, it is the foreign investors who invest money in Indian stock-market.
 They pull out their money immediatly if they see problem.
Direct Tax Code (DTC): Meaning,
Explanation, Basics
Mansoor asked
I have read about DTC in other articles but finding it difficult to comprehend it. please explain.
First the Basics
Direct Tax vs Indirect Tax
Direct Tax
You pay it on your income and property.
1. Income Tax
2. Corporate Tax
3. Wealth Tax
^ Direct Tax Code (DTC) seeks to consolidate them all in one book.
Indirect Tax
You pay it on the goods and services purchased.
1. Sales Tax
2. VAT
3. Customs duty
4. Excise Duty
5. Service Tax etc
^ Goods and services Tax (GST) seeks to combine them all in one book.
Redistribution of wealth
 Direct Tax follows the principle of redistribution of wealth
 in short it means:
 Tax the rich and use the money for the welfare of poors.
 You tax middle-class and rich-class, use that money to provide subsidized wheat for poor
people = wealth is ‘redistributed’.
Why do we need Direct Tax Code?
(just covering the brief highlights without getting into details)
All In ONE code
 Right now we’ve different Codes for different taxes for ex.
 Under DTC, all the direct taxes will be brought under a single Code
Simplify the language for ‘aam-aadmi’
 So that even non-experts can interpretate the rules on their own, and no need to consult a
tax-lawyer or Chartered Accountant every now and then.
Provide stability in direct tax rates
 At present, the income tax slabs and rate are changed in every budget, thus keep keeping
people on their toes.
 Therefore, People have to keep making rounds here and there to tax-consultants and
insurance agents to save themselves from higher-tax slabs, every year.
 DTC will provide stable brackets and rates for a longer time, (ofcourse they can be
amended from time to time.)
Increase Tax to GDP ratio.
 It means the ratio of tax collection against the national gross domestic product (GDP).
 Right Government’s tax collection is not optimum, because people get so many tax-
 Under DTC, Men and women are treated same. Women would cease to enjoy income-tax
 Only senior citizens will get extra relief with tax exemption
 Tax exemption on LTA (leave travel allowance) is abolished.
 DTC removes most of the categories of exempted income. Unit Linked Insurance Plans
(ULIPs), Equity Mutual Funds (ELSS), Term deposits, NSC (National Savings
certificates), House Loan principal repayment etc.
 Thus, Government’s tax collection would increase, because there are less exemptions
 Plus, Government needs truckload of money for their inefficient schemes such as
MNREGA and Food security bill, otherwise problem of fiscal deficit. In that sense too,
DTC is very important for them.
Rates under DTC:
 10 per cent tax on annual income between Rs. 2-5 lakh,
 20 per cent on between Rs. 5-10 lakh,
 30 per cent for above Rs. 10 lakh
Other provisions of DTC
[Not covering everything in detail]
 Tax exemption on Education loan is continuing.
 Before DTC, if you own more than one property, there was provision for taxing notional
rent even if the second house was not put to rent. But, under the Direct Tax Code 2010,
such a concept has been abolished.
Wealthtax ‘cutoff’ increased
 Right now you’ve to pay additional tax if you own farmhouses, shopping malls,
jewellery, vehicles etc ‘wealth’ above Rs.30 lakh.
 Under DTC, you’ve to pay wealth tax only if you own assets worth to Rs 50 core or
Corporate tax rate 30% (no surcharge or cess)
 [Earlier they had to pay educational cess.]
 means now they’ve to pay less because there is no cess!
 Confused about what is ‘Cess’ Then click me!
 Combine this with “Stability” point explained above, and Foreign players would feel
attracted to invest in India.
MAT (Minimum Alternative Tax)
 I already talked about that a year ago. Click me If you missed the MAT article
If approved, the DTC shall come into force on the April 1, 2012, and shall be applicable for
income earned during the financial year 2012-13.
Headline vs Core Inflation Difference
Headline inflation
 It is the figure we get by Wholesale Price index
 Wholesale price index (WPI), has three components.
1. Primary items (food, milk, eggs etc.)
2. Fuel (kerosene, coal, petrol, diesel, gas,electricity etc)
3. Manufactured items (textiles, plastic, leather, metal products etc)
Core inflation
 it is Headline inflation minus food and fuel prices.
 The food and fuel prices keep changing based on season and external factors. Hence,
headline inflation gives a very volatile number.
 The policymakers (RBI and Fin.Min.), cannot use this number to make future predictions
or long-term policies, so they also keep a separate watch on Core-Inflation number.
How do we measure inflation in India?
Central Statistical Organisation (CSO) under the Ministry of statistics and program
implementation calculate the WPI, CPI.
 The same org. also responsible for compiling Index of industrial production (IIP)
Related to this
Phillips curve
If the unemployment rate is LOW, Inflation rate will be HIGH.
Both unemployment and inflation rates are high and growth rate is low.
Basel III Norms: Tier 1 and Tier 2 Capital
meaning use
 Keep in mind friends, for a regular Government job recruitment exam [UPSC, State PSC]
or MBA admission GDPI, you need to have only a basic idea about BASEL. No need to
dwell into extreme details such as exact numbers of Tier 1 and Tier 2, credit valuation
adjustment or Net Stable Funding Ratio.
What is BASEL?
It is a city in Switzerland.
Why Do we Need BASEL norms?
Consider these cases
ICICI bank collapse hoax
Back in 2003, Someone started a rumor in Ahmedabad that ICICI bank is going to collapse.
Suddenly thousands of panicked account holders lined up at the nearest ICICI branch to take out
their money and hence there was such a money-shortage in ICICI’s Ahmedabad branches, they
had to actually call up trucks loaded with cash from their Mumbai branches.
 Things settled out after a while and it was confined only to a few cities of Gujarat, but if
it was an entire-countrywide hoax, just imagine the fallout!
SBI: Imaginary case
 SBI takes deposits from you and me, pays us 7% interest rate, and gives same money as
loan to car-home seekers, businessmen etc at 12% interest rate, thus earning 5% in profit.
 SBI gave Rs.1500 as loan to Kingfisher.
 SBI gave loan of Rs.4500 crores to Telecom players for 2G auction and now the licenses
are cancelled.
 What if those telecom players run away without paying back the loan and Kingfisher
goes broke?
 Adding insult to the injuries, someone starts a systematic campaign on facebook and
twitter to spread rumors that SBI itself is going to collapse.
 Lakhs of middleclass account holders will run to the nearest SBI branch to take out their
deposited money (as it happened in ICICI, Ahmedabad in 2003 in real-life).
 Overnight entire banking sector will collapse and You already know about the sub-prime
crisis etc: the aftershocks were felt everywhere in every sector.
Here comes BASEL in picture
 The BASEL Norm is kinda safeguards / backup plan for Banking sector.
 It provides internationally accepted detailed guidelines about how much money should a
bank keep aside, to deal with such financial crisis.
 Even if loan-takers run away without paying, Bank should have money to give back to
deposit holders.
 More risk the bank takes, more money it has to keep aside in reserve to counter the risk.
What is Tier 1 and Tier 2 Capital?
 Tier 1 and 2 capital is way too technical and detailed, to be asked in a routine
Government recruitment exam for Generalist posts, so not much point in getting to that
depth and numbers. But still for the sake of discussion:
 Capital= Wealth in form of Money, Property, Bonds etc.
 As we saw earlier, banks need to keep some money aside to deal with crisis. It meant the
word “capital”.
 If bank keeps aside capital, in form of real-estate investment (say buying 5 farm houses)
then during the crisis, it won’t be easy to sell away farm-houses and get money within a
day or two. So this ‘Capital’ is not ‘liquid’.
Tier 1 and 2 is way of classifying the capital of a bank.
Tier 1
Easily liquid. For example
 currency notes and coins in the bank value
 Stocks held by Bank, can be easily sold off in share-market.
Tier 2
 Not easily Liquid, for example the building or land owned by the bank.
For BASEL norm will be something like this
[technically totally incorrect, just for the purpose of basic understanding]
1. If a Bank loans 1 crore rupee to a company with “B” Credit Rating, it must keep capital
worth 20 lakhs aside for crisis.
2. And out of that 20 lakhs, Rs. 15 lakhs must in form of Tier 1 Capital and 5 lakhs can be
in form of Tier 2.
3. If the Company has credit rating of “AAA” then Capital worth and so on…..
Governor of RBI signs on this BASEL agreement, comes back home and forces all the Indian
banks to follow these norms. Same thing will be done by French, Chinese, Americans etc. and
thus banks in every country will function prudently thus preventing another Global financial
Latest is BASEL III accord, came in 2010. It has stringent provisions keeping in mind the sub-
prime crisis.
Criticism of BASEL
1. One shoe doesn’t fit all.
2. Just because American Banks were so imprudent in their functioning and ran into trouble,
doesn’t mean →E the Indian banks need be so overcautious and keep so much of money
aside for ‘safety’, it could be used for giving loans to needy people.
3. Already existing complex Monetary policies of Central Banks in each country (example
RBI’s CRR, SLR, Repo etc.) make it difficult to uniformly implement BASEL norms.
Greenex : New BSE Stock index for Energy
efficient companies
Before moving further, I suggest you read How do they calculate SENSEX (click Me)
What is Greenex?
 it is a stock index similar to SENSE, launched in 2012.
 It measures the share-trading activity of 20 top energy efficient companies of India in
Bombay Stock Exchange.
What type of companies listed in Greenex?
 Just like SENSEX this is a ‘weighted’ index, but comprising of energy efficient
companies or ‘green’ companies.
 biggest weightage in this index :Tata Steel.
 Included : ICICI Bank, State Bank of India, HDFC, Sun Pharma and BHEL.
 Not included: Infosys, wipro, ONGC, reliance etc big companies
 Baseyear: 1st October, 2008 (incase of SENSEX it is 1979)
 Basevalue: 1000
 Started in Feb. 2012, opened at 1488
 Numbers are not important, but you must understand the meaning: If the value of all
stocks traded in BSE, was Rs.1000 in 2008 then right now it is Rs.1488.
 In case of SENSEX: the basevalue is 100, meaning
 if value of all stocks traded in BSE in 1979 was Rs.100 right now it is 15000 (or
whatever it is).
ok, but why create Greenex, where there is already SENSEX?
 You and me purchase shares
 Company makes profit and gives us ‘dividend’ on those shares. If company gets higher
profit, we get higher dividend.
 (assumption) In long term, energy efficient companies will get better profits than other
 So if there is a separate index to measure performance of Energy efficient companies in
stock-market, the investors can make a better and informed decision about where should
they put their money. That’s why separate Greenex despite having a SENSEX.
National Investment Fund (NIF): Meaning
Use and Demo CSAT question
What is National Investment Fund (NIF)?
1. Government has shareholding in PSUs (Public sector undertakings: ONGC, SAIL, LIC
2. Government sells part of its shares in the market, and get ca$h. (it is called
3. Government puts that cash in this NIF, instead of the consolidated fund of India.
4. SBI, UTI etc will act as fund managers, use this money to invest in sharemarket etc, and
generate profit. (just like Mutual funds)
5. 75% of profit, will be used for MNREGA, Indira Awas Yojana and other schemes of
Union Government.
6. 25% of the profit will be invested in profitable PSUs. (lolz e.g. Air India)
7. NIF was given approval in 2005 but in reality it started working in 2007.
What is Consolidated fund of India? (CFI)
 For the moment, just a brief idea: all the money earned by Union Government should go
in this fund, and all the expenses of Union Government will be made from this fund.
 According to Constitution, The Union Government (Executive) cannot spend money out
of this Consolidated fund of India without parliament’s permission.
 Hence they’ve to present budget every year: To get parliament’s permission.
 This ensures accountability of Executive to the legislature.
 Ideally the disinvestment money should go in CFI, but UPA in its infinite wisdom has
decided to put disinvestment money in NIF.
 Official reason: better Money Management, more profit, can be used to social schemes.
 Unofficial reason: No more parliamentary control over how Government spends the
money out of this fund: for their (Bogus) pet-schemes and on the kinds of AIR-India.
Demo Question for CSAT 2012
Which of the following statements is/are correct about National Investment Fund?
1. It falls under the jurisdiction of Ministry of Commerce and Trade.
2. National Investment fund is created to increase investment in backward states.
3. NIF money is spent on advertizements to attract foreign investment in India, and to create
investor friendly infrastructure such a rail, road, and electricity.
4. Government requires Parliamentary approval to spend money out of NIF.
a) Only 1, 2 and 3
b) Only 1 and 4
c) All of them
d) None of them
Cairn Vedanta Deal: What’s the problem?
First who’re the players?
Cairn Energy
Oil and Gas exploration company of UK. Its Indian arm Cairn India owns big oil-drilling blocks
in Rajasthan etc.
Vedanta Resources ltd
 London based Mining company owned by Anil Agarwal.
 ↑edanta acquired majority ownership in the Cairn’s Indian arm for about 8 billion
 The deal was done in 2010 but got stuck due to ONGC and Government of India.
So what’s the problem?
#1: ONGC delying No Objection Certificate (NoC)
 ONGC and Cairn India had started oil drilling operation in Rajasthan under a Joint
 Cairn owned 70% and ONGC 30%.
 So Cairn had sought an NOC (No objection certificate) from ONGC for this deal with
 When a company digs or drills somewhere, they’ve to pay Mining Royalty to the
Government. Currently ONGC is paying the entire Royalty amount; they want Vedanta
(or any future owner) to share this cost in future.
 On this issue, ONGC kept the NOC file pending.

#2: Approval File pending in Union Cabinet

The deal also needed approval from Indian Government because
 Government launched New Exploration Licensing Policy (NELP), and auctioned various
oil-blocks to private players for oil drilling operations.
 (example: Reliance in Krishan Godhavari Basin)
 That’s how Cairn Energy (UK) came to India.
 FDI in Oil exploration is permitted upto 100% but with Government approvals.
 Now Cairn is selling its Indian operations to third company, Government had to
deliberate on the matter because ..
 Cairn was given tax-benefits under NELP.
 Rajasthan oil block is THE LARGEST onshore (i.e. on land) oil block of India so Home
Ministry had to give security clearance, when a foreign company was acquiring majority
stakes in it.
 Plus, Govt. of India itself owns about 75% in ONGC.
Cabinet Committee on Economic Affairs (CCEA)
Another (unofficial) angle of this story:
 ONGC secretly wished that Cairn sold the ownership to them but it was beyond ONGC’s
Aukaat (????) to outrun Vedanta in the bidding process.
 It’d have required almost 10 billion dollars. Hence they’re playing kabab mein huddi.
(?????) by delaying the NoC.
Climax and The End
 August 2010: Cairn announces its plan to sell Indian operations to Vedanta.
 July 2011: Cabinet give approval to the deal.
 December 2011: ONGC gave the NoC.
 Notice the delays: Almost one and a half year!
 Such lethargy on part of Indian Government discourages foreign players from
investing in India.
Currency Devaluation Alone will not Bring More FDI!
Ad-Valorem Tax, Unit Tax, Dumping Duty
Before moving into Ad-Valorem, Consider The taxes levied on per litre of Petrol :
(Data may be outdated but just for concept clarity)
 Union takes excise tax: Rs 14 per litre,
 State takes Sales tax : 20%
[ Important: 'Central Government' is a wrong word to use. The official and correct word is
'Union Government' so be very careful your choice of words, in Mains/ Essay and Interview.
Some examiners (and interview panelists) get really irritated on such minute mistakes. Now back
to the topic ]

Two types of Taxes on petrol
Notice the Difference between Union and State taxes.
Union charges absolute value: Rs.14 per litre.
Meaning whether original price of Petrol from the Oil refinery is 20 rupees or 100 rupees, Union
Government will get only per Rs. 14 per litre.
So Union is charging tax according to ‘Quantity’ of Petrol.
While state charges (percentages) % of petrol prices.
So if petrol comes for Rs. 20, state gets Rs.4 in Sales Tax.
if petrol comes for Rs.100, State gets Rs.20.
State is charging tax according to ‘Value‘ of Petrol.
Latin word for “according to value” = Ad ↑elorem.

Ad Valorem Tax
is a type of tax, levied on the value of a product, service or property.
Following are the examples of Ad Valorem tax
 Sales Tax
 VAT and GST
 Property Tax (According to the value of building etc)
Now the second type of tax:
Unit Tax / Specific Tax
What is Dumping?
 China exports its products to India at a price lower than its normal price in domestic
Chinese market.
 Meaning they’re ‘dumping’ their products in India @lower price to capture the Indian
market and destroy competition from local Indian players.
 Indian Government can impose anti-dumping duty on such items.
Examples of Anti-dumping Duty
Copy pasting from newspaper articles
 India has imposed an anti-dumping duty of Rs 1,50,000 per 1 lakh unit on import of
sewing machine needles to protect domestic players from cheap Chinese shipments.
 India has imposed anti-dumping duty of up to $0.538 per “kg” on imports of a plastic-
film used by the advertisement industry to protect domestic players from cheap Chinese
 India imposed dumping duty of up to $99.05 per “set” of bus and truck radial tires
(including tubeless) from China and Thailand,
Notice the words: per 1 lakh units, per kg, per set…
This is example of per unit tax. Indian Government is putting tax on ‘quantity’ of Chinese
products, not the ‘value’ of those product (because they’re cheap anyways).
To sum up
 Ad Valorem tax is levied on the Value of a product or property.
 Unit Tax/ Specific Duty is levied on per Quantity of a product. (kg-weight, meter, litres,
unit etc.)
Carbon Tax: Meaning, implications
Carbon tax is important topic under the Environment and Biodiversity portion of CSAT GS
Paper-I, also for interviews because it is in recent news.
Table of Contents
What is negative externality?
 A Thermal powerplant uses coal to produce electricity, sells it to the citizens.
 But the residents living near this Power-plant have to breath very polluted air- get various
lung disease – have to bear the medical expenses.
 The soot from the plant’s chimney settles down on their homes, compounds, clothes, cars
and they’ve to dust and clean it every day.
 This is a case of negative externality.
Externality means : Two parties enter in a deal, and benefit from the deal.
but a third party who is not involved in this deal also gets affected involuntary. (Without
Externality can be positive also. e.g I run a perfume-shop and local-residents get to enjoy the
lovely fragrances for free.
What is Pigovian tax?
 Suppose Government puts tax on the coal purchased by this Power-plant and uses this
tax-money to provide cheap medical care to the residents of that area for respiratory
diseases and gives them subsidy for buying special type of windows that filter the
incoming polluted air in the house.
 Such tax is called the Pigovian tax, because a British economist Arthur Pigou argued
about negative externalities and imposing taxes on companies involved in creating
negative externalities.
 Now to the main topic of this article…
What is Carbon tax
 The polluter will have to pay this tax on per tonne of carbon dioxide emitted in the
 It is an example of ^Pigovian tax.
Implications of carbon tax?
We know that companies pay the tax, but ultimately the consumer has to bear the burden.
Consider this chain: There are two companies A and B.
 In the beginning, both are emitting same amount of carbon and hence have to pay same
amount of carbon tax.
 So, They will include this Carbon tax costs in their product’s MRP. (Maximum retail
 But later company A invests in new production technology so that their carbon emission
is reduced, now they have to pay less carbon tax and thus their MRP will decrease = good
for consumers and bad for second company B, because their product will remain
expensive = less selling.
 So either company B will run out of business (like Kingfisher), or they will also invest in
clean technology to reduce the production-cost.
 Ultimately good for environment and good for citizens.
 and Government can use the money collected using carbon tax for various schemes of
environment protection.
Why is it the news?
EU -Airlines
 European Union imposed a carbon tax on all airlines from January 2012: about 6 Euros
per ton of CO
 China, Russia, India and United States, have opposed the EU move. (Because their
international flights will also help to pay this tax while flying over the skies of European
Australia’s move
 Australian government also planning to implement carbon tax: about $23 per ton of
carbon dioxide emitted by a company.
 Indian businessmen are concerned with this news because our steel companies import lot
of coal from Australia.
 (a tit for tat case) Indian government had proposed Mines and Minerals (Development
and Regulation) bill that a mining company should share 26% of its profits with local
tribals. So Austrialian businessmen are also concerned!
Mock Questions for Mains and Interview
CSAT Prelims
Which of the following statements are correct?
 1. India introduced the carbon tax (a.k.a. Clean energy cess ) in the Union budget 2010.
 2. This Carbon tax rate is Rs.50 per tonne of Coal.
 3. Companies have to pay this tax on Locally mined coal but not on the coal imported
from other nations.
 4. The money collected via this tax, is deposited in the National Clean Energy Fund.
Mains, Essay and Interview
 Is India justified in its move of opposing carbon taxes imposed by Australia and EU?
 National clean energy fund. 15 marks (“Yearbook” Q? for GS Mains)
 National mission on Energy Efficiency.
 Energy Efficient Certificate.
 Fiscal policy and pollution. (Essay)
Why do we need budget?
The Two problems
Ask yourself a question : How does government earn the money?
Obviously, by collecting taxes from us : income tax , sales tax , customs duty and so on
but here is the first problem:
Constitution of India says: “The government cannot put any tax on us without the passing a Law
in Parliament…..(Problem #1)
 Anyways, All this tax money goes in the “Consolidated fund of India.”
 When government wants to pay salaries to bureaucrats, create new (bogus) schemes like
MNREGA etc., wants to purchase new missiles and fighter planes, it will take out money
from this Consolidated fund of India.
But here is the second problem:
Constitution of India says, The government cannot take out even a single penny from this fund without
authorization from the Parliament…..(Problem #2)
So, What do we conclude from Problem #1 & #2?
Government will need the permission of Parliament for to earn money and to spend money.
Hence each year, the Finance Minister prepares two files: they have the details of
 1. How government wants to earn money from citizens
 2. How government wants to spend the money.
 He puts these files in a leather suitcase. French word for this bag /Purse: “bougette“.
That’s how we got the word Budget.
 You must have seen the Finance Minister holding a brown colored leather bag and
getting photographs outside the Parliament on the day of budget.
The Two files
 The first file (how government wants to earn money by taxing us)
 it is called “Finance bill“.
 The second file (how government wants to spend the money)
 it is called “Appropriation bill“
 →e call them “Bills” because they are only proposed by government and not yet passed
by the Parliament. (Just like Lokpal “Bill”)
 When they passed by the Parliament, and President of India signs on these files, they
become “Acts”.
Choice of Words
 The Finance Minister does not lay down a budget in the Parliament.
 He lays down the “Annual financial statement”. (There is no word “Budget” in the whole
Constitution of India: Article 112)
 Same way, Parliament does not pass the budget. It passes the Appropriation bill and the
Finance Bill.
Million Dollar Question
Still remains: why do we need budget? →hy did Constitution of India impose these “problems”
on the government?
 To ensure the financial accountability of executive (Government) towards the legislature
(parliament) and by extension towards the people of India.
Currency Devaluation alone will not bring
more FDI
Question: as 1$ = 7 yuan and 1$ = 48 rupees it implies that our currency is devaluated thus
should attract more FDI . I have read that china keeps its currency devaluated to gain more FDI
but above data seems to be paradox to me. Please clear my confusion
 If your currency is devalued, your exports
will increase because American dude can purchase (import) more mangoes for the given
$ 1 note.
 But →hen you’re talking about FDI: the Foreign investor
will also look at many factors apart from just currency devaluation e.g.
 Return on investment.
 Safety of his invested money (Telenor’s 2G license
cancelled by SC)
 Government policy on labor, civil laws,
 Foreign Exchange laws (Capital account convertibility).
 And Most importantly: Political stability and scenario.
 For example, today Foreign investor Mr.X comes to India and Environment Minister
five suitcases to clear his files, and it seems that current Government might collapse after
a few months, and new Government’s new minister would ask for another five suitcases–
Mr.X is unlikely to invest in such volatile situation.
 In this context, Political stability in China is rock solid, judicial intervention in
Administrative decision= minimal, unlike India. So they get more FDI.
 Chinese President Hu Jintao was ranked #1 in Forbes’ world’s most powerful person list.
The Magazine said
 “Unlike →estern counterparts, Hu can divert rivers, build cities, jail dissidents and censor
Internet without meddling from pesky bureaucrats, or courts.”
 You don’t hear about Niyamgiri, Jaitapur, POSCO or Kundankulam in China. Their
Administrative machinary takes action quickly. Either “Yes or NO”.
 In India Decision Making is slow. Mohan won’t say yes and he won’t say no either. Files
remain pending under consideration in GoM (Group of Ministers) for months. As it
happened in Cairn Vedanta Deal
 You don’t invest your money somewhere only because that country’s currency is
devalued. You look at all such factors. That’s Currency Devaluation alone doesn’t bring
more FDI.
QFI (Qualified Foreign Investor) vs FII,
Need, Implication, Currency Depreciation,
Demat Account and more (Story of Forex
The Technically incorrect Story of Forex continues with new topics : FII, QFI (Qualified Foreign
Investors), Demat, PAN card and more
What is FII, Why did Rupee weaken against Dollar. Why did QFI come?
Foreign Institutional Investor (FII)

Tom Cruise: What is FII?
Anil Kapoor: It means foreign player can invest money in Indian stock market.
Tom Cruise: Cool. Tell you what, I’m not getting much interest-rate in my savings account in
American bank, I got $1 million in the suitcase, let’s go to Bombay Stock Exchange and buy
some shares!
Anil Kapoor: Ain’t that easy! An individual foreigner can’t simply walk in the Dalal street and
do shopping. Go to Maxwell Assets Manager . He will explain everything to you.
Sub-Account under FII
Maxwell Manager: I’m an established financial asset Management firm. I’ve got a licence from
SEBI to operate as an FII (foreign institutional investor) in Indian market. (After paying $5000
application fees). Mr.Cruise, you will have to register as ‘sub-account’ under our FII firm. And
then you give your suitcase to us, we’ll invest it in Indian stock market on your behalf.
Tom Cruise: Are you the only FII guy ?
Maxwell Manager: →ell I’m not the only FII, there are many others like BNP PARIBAS,
MORGAN STANLEY and other 1,700 FIIs and more than 5,500 sub-accounts registered with
SEBI. But we are the best, we charge the least Commission and give free caller tunes and
Unlimited talk time*. So, Let’s goto SEBI office and get it done. (*conditions apply)
cut to SEBI Office.
Peon: Our Saaheb is gone for tea-break so wait for 145 minutes.
(after 145 minutes)
Tom Cruise: (to the SEBI clerk) ya I wanna open a FII sub-account.
SEBI Clerk: oh Really? Every desi dude here wants to be an IAS,
IIT and every firangi dude wants to be an FII ever since the sub-prime crisis. But are you a
wealthy foreign individual or firm with a minimum net worth of $50 million (about Rs. 260
crore)? Only then we give the license, and not to any random swinging dude that walks into our
Tom Cruise You don’t know me? I’m the Tom Cruise.
SEBI Clerk →ho’s that?
Maxwell Manager He is a famous Hollywood hero, got billions of dollars.
SEBI Clerk hmm never heard of you. I only watch the movies of India’s Finest Actor, Fighter,
Dancer and Bollywood Superstar Mimoh Chakraborty. Anyways here is the application form for
$1000. Fill it up, Attach photocopies of your id and address proof, 10
, Graduation
marksheets, Work-Ex and Extra curricular activity certificates: Everything in triplicate, and
attested by a Gazetted Officer and your three passport sized photographs with white background,
no smile, and sign on your photo with black pen only.
Tom Cruise: Man this is so hopeless, it sounds like a perfect plot for Mission Impossible #5.
Anil Kapoor can get the 2 minute’s role of Gazetted Officer, while I fool the Indian audience for
the second time spreading rumors that he is given a big role just like in MI-4!
Tom gets the sub account opened.
Maxwell Manager: congrats. Now we can invest your money in Indian Stock market on your
behalf, so which company do you want to put your money in?
Tom Cruise: hmm, I’ve been doing some market research myself, recently saw Abhishek
Bacchan’s Idea 3G ad in Divya-Bhaskar (Gujarati Edition), I think that company and its 3G
service is going to be huge hit. Buy some Idea-shares for me so I can earn huge dividends later
on. Also buy a few of Vedanta cause they acquired some oilfields from Cairn India, they will
also make huge profits and pay good dividends to their shareholders.
Maxwell Manager Whaat an Idea sir-ji!
Cut to : Supreme Court cancels 2G licenses of all Telecom companies.
Tom Cruise Man this is hopeless. I think investing in Idea was a bad Idea. Company is gonna
make any decent money now, my return on investment will be ridiculous. Vedanta-Cairn deal is
also stuck in the Cabinet, means no quick and huge profit there either.
Tom Cruise (phonecall to Maxwell Manager) hi, sell all my shares of Idea and Vedanta.
Maxwell Manager Sure. But Where should I invest the money then?
Tom Cruise: I have no idea sir-ji, what do you suggest?
Maxwell Manager I have been looking at the IIP (index of industrial production), the numbers
are going in negative range. RBI is also hellbent on tightening the monetary policy, thus
increasing the loan-rates and decreasing the demand of products to contain inflation. Indian
industries are facing a slump, there is electricity problem, there is problem of getting
environment clearances. Even blue chip software, chemical or automobile companies are not
doing good thanks to slowdown in America and Europe. No hope in Airline companies either..
I don’t think it is worth it to play in Indian market any more. Besides you’ve one million dollars,
meaning If Indian market gives you 5% return on Investment and Singapore’s gives you just 6%,
still you should run away because 1% of one million dollar= easy $10,000, huge cash! So, I
suggest we pull out your money completely from India and get it invested somewhere else,
Singapore, Australia, perhaps?
Tom Cruise: Just Do It. Anything is better than the stalemate and “Policy paralysis” in India.
Serious Note on FII (copied from

 At present, a foreign individual seeking to invest in Indian stocks has to be registered as
a sub-account of an FII, which in turn has to apply to Sebi on the behalf of the sub-
account holder.
 India allows only wealthy foreign individuals or high networth individuals (HNIs) who
have a minimum net worth of $50 million (about R260 crore) and registered as a sub-
account of a foreign institutional investor (FII) to invest directly in local equities
 FIIs pulled out money on account of growth falling below 7% and widely-publicised
difficulties in obtaining regulatory clearances. Net outflows exceeded $450 million last
 For many FIIs, economic woes in their home markets, especially due to the European
debt crisis and a perceived policy paralysis in India following a string of scams,
exacerbated their pull-out.
 Euro zone crisis has led to investors pulling money out of Indian equities. For India, the
problem has been compounded by a slump in investor confidence because of policy
inaction leading to a sharp fall in new projects.
 Reserve Bank of India (RBI) estimate says that a 10 percent fluctuation in FII investment
results in a 35 percent variation in stock prices.
 FIIs pulled out money on account of GDP falling below 7% and widely-publicised
difficulties in obtaining regulatory clearances. Net FII outflows exceeded $450 million
last year.
QFI: Qualified Foreign Investor

Finance Minister’s office
Secretary: Sir, the FIIs are pulling out their money like there is no tomorrow. They have lost
confidence in India’s growth story (thanks to you). Since they’re pulling out money, Demand of
Dollar is increased and demand of rupee is decreased. Currently $1 goes for 54 Rupees in Forex
market. We have to do something before all hell breaks loose!
Finance Minister: damn, let us start a new scheme “Qualified Foreign Investor” (QFI) as New
year gift from 1st January 2012 to increase the ‘confidence’ of investors in Indian Market.
Secretary: What does is do? Another (bogus) scheme like your MNREGA?
Finance Minister It means a foreign individual, group or foreign firm can directly invest in
Indian stock-market like any normal Indian citizen, without requiring the sub-account with FII.
This should bring in some more investors, who’re interested in investing in India but feel turned
off because of this sub-account and strict High Net-worth rules.
Tell RBI manager to do verification of the applicants though, make sure these individual, group
or associations are resident in a foreign country that adheres to anti-money laundering and anti-
terrorist financing guidelines as defined by the financial action task force (FATF).
Secretary: Good idea but I suggest we name this scheme “IGQFI” or “RGQFI”
Finance Minister: ??
Secretary: Indira Gandhi or Rajiv Gandhi QFI :P
Finance Minister: Why not both of them simultaneously? IGRGQFI
Secretary: Whaat an Idea Sir-ji!!
Brad Pitt: haha my turn now, I’m gonna purchase some shares from Indian Market!
HDFC Manager: hey →ait, you can’t just walk in like that. First you’ve to open a Demat
account and a Trade account with a DP (Depositary Participant) like us!
Brad Pitt: wait wait wait, so many words in a sentence, I’m getting confused, let’s talk this one
at a time:

What is this Demat account?
→hen you purchase shares, you don’t get paper certificates, but those shares get electronically
transferred to your demat account in the Depositary. Meaning your shares are not in physical
paper (material) form but electronic format. De-materializied= De-mat. No fear of theft,
misplacement, delay in transfer etc. Something like having a caller-tune in your mobile. You
own the tune but don’t actually have to have it in your phone’s memory card.
What is Depository?
A Depository is like a bank locker where securities (shares) are held in electronic
(dematerialised) form.
In India, there are only two Depositories -National Securities Depositories Limited (NSDL) and
Central Depository Services Limited (CDSL).
What is Depository Participants (DP)?
DP’s are like bank branches where shares in physical (paper) form need are deposited for
converting them in electronic (demat) form and email it to the Depositary.
Examples of Depository Participants (DP) :ICICI, SBI, HDFC etc. You’ve to open a Demat
Account with any one DP.

And what about this “Trade account”
The same DP bank also act as stock-brokers. You open a trade account with us, This enables
you to trade in shares without going through the hassles of manually converting your dollars in
rupees or chasing your broker for cheques or Transfer Instructions etc. Everything will be done
after you login to our online portal.
Brad Pitt: ok so If I get it correctly: First I purchase shares using my trade account, then transfer
them in my demat account. I can do this all without needing a third party agent (FII or Share-
Broker), just like how an Indian citizen can play in share-market and Government took this step
to increase money inflow and reduce volatility in the market, which was created by FIIs. This is
the crux of QFI. Sounds good. I’m desperate to become a QFI, Open my Trading account right
HDFC Manager:But for that you need a Demat account.
Brad Pitt:Ok open my demat account.
HDFC Manager:but you need a PAN card for that.
Brad Pitt:Ok open my PAN card account.
HDFC Manager:You’ve to get PAN card from Income Tax department.
Brad Pitt:Man this is hopeless. No wonder why India ranks low in “Doing Business”
Index.Now What is this PAN card?HDFC Manager:Permanent Account Number (PAN) refers
to a ten-digit alphanumeric number, issued in the form of a laminated card, by the Income Tax
Department in India.
It is now compulsory to quote PAN in share-trading and financial transactions. Although
Dividends from companies and mutual funds are not taxable in India, PAN card is required to
fulfill the KYC (know your customer) norms for us— a critical requirement in the age of
laundering and transferring terrorist money!
Brad Pitt:But I’m a Foreigner! Do I need PAN card too?
HDFC Manager:Yes you do mister. and you’ll have to get it from IT office.
Cut to- Income Tax Office.
Peon (To Brad Pitt) Saaheb is gone for a tea-break. Wait for 145 x 10
Brad Pitt (Facebook-twitter status update): #missionimpossible6On a serious note, QFI from
 2011: QFI were allowed to invest in pension and mutual funds only and not in the Indian
Sharemarket as such.
 Until now Foreign Institutional Investors/sub-accounts and Non-Resident Indians are
allowed to directly invest in the Indian equity (Share) market.
 2012: Now QFI can also invest in sharemarket.
 QFI is an individual, group or association resident in a foreign country that adheres to
anti-money laundering and anti-terrorist financing guidelines as defined by the financial
action task force (FATF), a multi-lateral body.
 The QFIs do not include FII/sub-accounts.
 QFIs can own up to 5% of Indian companies while their cumulative investments are
capped at 10%. These limits are over and above the FII and NRI investment ceilings
prescribed under the portfolio investment route for foreign investment in India
 The QFIs shall be allowed to invest through the SEBI-registered Qualified Depository
Participant (DP), with the QFI required to open only one demat account and a trading
account with any of the qualified DP and make purchase and sale of equities (shares)
through that DP only.

Mock Questions for CSAT (Economy)

Which of the following statements are correct?
 At present there are four Depositories to hold shares in Dematerilized form
 PAN card is issued by SEBI
 Only Indian Nationals can get PAN card.
 PAN card has 16 digits.
 Aadhar (UID) card has 10 digits.
Reliance KG Basin Issue : Reason,
Controversy, Crux of Matter
Before dwelling into Reliance KG Basin Issue, get some foundations clear
New Exploration Licensing Policy (NELP)
Under this policy, government auctioned potential oil and gas field areas to private players such
as Reliance, Cairn etc.
These companies would take all risk of discovering the oil/gas, drilling it out and sell to to make
Conventional Mining and Royalty
 if you are involved in Iron-ore mining, the Indian Bureau of Mines ( IBM) will determine
its present market value and you have to pay 10% royalty of that, to the Government.
 For example you digged 1 kilo (!) iron ore, its present market-value is Rs.100, you’ve to
give Rs.10 as royalty
 It does not matter how much profit you make out of this, you’ve to pay 10% right from
the day one of your mining activity.
 But for the gas-exploration, the system of royality is different, it is called:
Production Sharing Contract (PSC)
 But here in case of gas, first you’ve to do “Exploration”. It may happen that you drill in a
potential area but still donot find any gas, and yet you’ve to purchase expensive drilling
instruments, vehicles, hire engineers and monthly salary to staff etc.
 So there is a “gestation” period involved, before you actually discover the gas, start
selling it, recover your costs and then see the profits.
 If there is a direct “royalty” sharing formulas like conventional iron-ore mining, then
private players will not be interested in taking the risk in this gas exploration activity.
 Hence government came up with a concept called “Production Sharing Contract (PSC)”
 Under this scheme, the company will have to share royalty, according to the profit made.
 Initially company makes low profit, government gets extremely low share, later company
discovers more and more gas fields, its production increases and costs go down, then it
has to share more profit to the government.
 This is not the standard royalty model as seen in mining systems, where revenue is shared
regardless of profitability. This PSC model allows the operator (RIL) to substantially
recover his costs before the sharing of revenue.
 However, once these costs are recovered, the sharing with the government is often large.
 But As you can understand Private contractors (RIL) have virtually no incentive to
minimise capital expenditure and a substantial incentive to increase capital expenditure
(they’ll buy more and more vehicles, machines etc) to keep their operation-cost high,
which would result in low/lowest share of profit for the government of India
The crux of Reliance KG Basin controversy
 It is alleged that Reliance used false accounting-methods to show huge-costs and
operating expenses to keep the profit low so that they have to pay less money to the
 CAG found this out after auditing, media started reporting, right now matter in PAC
(Public accounts committee) of parliament.
 Also, RIL had to take permission of government before raising the sale price of Gas.
 So citing the heavy cost and low-profit, Reliance also increased the sale price of gas with
Government’s permission.
 And then this (expensive) gas was sold ot fertiliser companies, power plants and thus
snow-balling effect: price of fertilisers, electricity also increased = inflation.
 Director-general of hydrocarbons (DGH) was responsible for looking after this
exploration-activity, how much gas is generated, what is the operating cost, is there any
real loss etc. (but as the common sense suggests) he might have taken “suitcases” to turn
a blind eye to all this.
Dateline of Reliance KG Basin Controversy
 1999 Vajpayee Government introduced NELP (NEw exploration licensing policy)
 2000 Reliance got the licence to explore gas in Krishna Godavari Basin
 2002 Reliance Industries discovered huge reserves of natural gas – and some small
reserves of crude oil – in a block called D6.
 2007 CAG starts auditing
 2011 CAG submits audit report and media starts reporting this controversy.
War of Words
Oil Ministry and its technical arm, the Directorate General of Hydrocarbons, “did not pay
adequate attention to protecting the government’s financial interest.
Reliance Industry’s response
CAG has not found any false inflation of the cost or any dishonesty in developing the nation’s
largest gas fields.
Corporate rivalry motivated a few people with vested interests to indulge in a vicious smear
campaign against us
CAG neither had any expertise in hydrocarbon exploration
Ashok Chawla Committee on “Pricing of Natural Resources”
Production Sharing Contracts like the one Reliance Industries signed for the gas-rich KG-D6 are
designed to benefit private players at the government’s expense.
Tapan Sen, a Rajya Sabha MP
 if your production is increasing, then your expenditure per unit must come down. But,
here, production cost almost quadrupled.
 even if you take into account the trial and error method of digging here and there, even if
you take into account your wasted efforts of searching gas and exploring,
 your development cost cannot triple or quadruple.
 Reliance can’t charge the country like this. It’s a clear case of gold-plating the cost.’
 It would incur the government a big loss because only after recovering the cost of
production would the government start getting a return on the national asset.
 inflated cost of Reliance has national ramifications. If the cost of gas exploration is too
high, then it will affect the prices.
 Reliance, the company that had ‘gold-plated’ the expenditure of exploration
 Then Reliance hiked the price from $2.34 mmBtu to $4.2 mmBtu. So, fertilisers
companies, power plants and common consumers are paying more to Reliance. This
collective loss by the nation and to 1.2 billion people should be calculated.
 Whatever the money Reliance has to make, they have made.
 The government should have quantified the loss to the exchequer. The government
should have calculated when would Reliance recover its cost and when would the
government start sharing profits.
 The same Reliance sold 30 per cent stake to British Petroleum for $7.2 billion. It was
approved by the government.
 Director General of Hydrocarbons should be prosecuted. The production-sharing contract
should be re-written and price level should be revised.
 It will make electricity cheaper, fertilisers cheaper and industries would benefit.
 I don’t blame Reliance. If I get the opportunity to steal, am I going to leave it? It is the
duty of the government to see that nobody takes people for a ride.
Bonds vs Shares, Debt vs Equity, IPO,
Underwriter, Venture Capital, Angel Investor,
Junk Bonds, Bearer Bonds, Gilt Edged
securities: Meaning, Explained
I want to start an Ice cream company, what will I need?
Land To build a factory.
Labor Workers to run the machines.
Capital Money to buy Freezers, mixers and packing machines to make ice-cream.
Entrepreneurship To take the risk and do above three things.
 These are called the four factors of production.
 I already have the entrepreneurship in my heart and mind.
 But it requires truckload of cash to arrange for the other three items: Land, Labour and
How To get the cash to start my company?
 I can rob a bank
 Or I can just start my own IIT Bombay, sell its application forms for 5,000 rupees and
then declare cut off 99.99% and thus earning truckload of cash without actually wasting a
single rupee in arranging the admission interviews.
 Or I can join politics.
Problems in above options
 Can’t rob a rob a bank because this too requires Labour (gangsters) and guns, masks,
vehicles and Entrepreneurship (to take the risk of going to jail).
 Can’t start my own IIT Bombay would again require those four factors of production
(Land, Labour, Capital, Entrepreneurship)+Permissions from UGC/AICTE.
 Can’t join politics because Only ministers can make huge money, MPs/MLAs don’t. And
Unfortunately I’m not a son or daughter of some big politician so I can’t become minister
@ young age (Agatha Sangma, Sachin Pilot, Naveen Jindal et al) So even If I join
politics right now, I’ll have to do bootlicking of ‘Party high command’ until I get 60
years old, only then I can become minister and break the records set by A.Raja and
Madhu Koda.
Now, There are two ways to (legally) arrange money for starting a company or to expand a
company. First is Debt and Second Equity. See this chart

Financing my company: Debt OR Equity

#1: Debt- bond
 The word debt is self-explanatory. You borrow money from someone: It can be a bank, it
can be a friend, it can be a stranger.
 I write on a piece of paper: “To whoever pays me Rs.1000, I’ll pay annual 10% interest
rate (Rs.100). And after 5 years, I’ll also repay the principle amount Rs.1000. No “ifs”
and “buts”.
 This is one type of security paper. →e call it “BOND”.
 IF you hold my bonds, I’m liable to pay you money no matter what happens. →hether my
ice-cream company actually makes profit or goes Kingfisher. I have to keep paying fixed
money to you, every year.
Junk Bonds vs Gilt Edged Security
 In above case I offered you 10% interest rate. But in real life, there are credit rating
companies like CRISIL, S&P, Moody’s etc. They’ll give credit ratings to a bond. (i.e.
Am I capable enough to actually pay you?).
 Based on that, they give ratings example AA,A, BBB, BB,C,D etc.
 I had talked about them in my previous article. Go through the Archive on
Junk Bonds
 If my Bond gets “C” or “D” rating, it means I’m not creditworthy, I may default on this
loan, I may run away. So my bond is as junk as Ra.One movie. A wise man will not
invest in it.
 So, how can I seduce you into purchasing my bonds? How can I convenience you to take
the higher risk, in buying my junk bond?
 How about Free caller Tunes or a scratch-card that offers you a chance to dine with
Sachin or Katrina?
 Or How about Higher Interest rates: “If you give me Rs.1000, I’ll give you 25% interest
rate per year!”
 This is also known as “High Yield Bond”, because you’re getting higher profit.
Gilt Edged Securities
 Like an ice cream company, Government also needs finance- at times when tax collection
is low and they need some temporary funds.
 They issues treasury bonds. RBI sells these treasury bonds on Government’s behalf.
 But Governments generally have the “aukaat” to repay the principle and interest rates.
Hence Government bonds have higher credit ratings (AA). So, they don’t need to seduce
you, they’ll offer very low rate, say 4%.
 Similarly, well known companies with high credit ratings (AA) also issue bonds but pay
low rates.
 If you don’t like to take risks, you’ll invest in such bonds. These are called ‘gilt-edged
Bearer Bonds (and Bad Guys)
 In Bollywood movies, Kidnapper demands ransom of Rs.10 lakhs but he wants the
money in the denomination of Rs.5/10/50 Rupee notes. Why? Because it is easy to
circulate these notes and harder for police or banks to keep track of this money.
 Same way, in Hollywood Spy-thriller movies, the Villain will ask you to pay 10 million
dollars in Bearer bonds.
 Bearer bonds are same as regular bonds, but they don’t have “Holder’s Name” on them.
These bearer bonds have coupons attached with them. So, if you don’t want to withdraw
the whole money, you can cut a few coupons and sell them to a broker to withdraw
partial amount.
 E.g. Rs.100 interest is to be paid on 1st April 2012, But even on December-2011 you can
sell the coupon to a Broker. Although he’ll not give you Rs.100 but something like Rs.95
or 90. (Why so? Think about it!)
 Anyways, the point is, Noone can keep a track of who withdrew the money, who’s
buying, who’s selling Because there are no “names”, addresses or records. Bad guys like
it, because this ensures anonymity.
 See the following example photograph of a Bearer bond of Government of Palestine.
Notice that it doesn’t have space for Owner’s names and there are three coupons attached
at the bottom.
 Question: →hy would Government issue bearer bonds? Because when they’re in dire
need of money, there is emergency, there is war going on, they cannot waste time in
checking the lengthy registration forms. So, Better just sell the bonds to any swinging
dude that comes, without asking his name, address, mobile number or email id.
 Although, in real life, it is hard to find Bearer bonds. Because most of the bonds now,
exist in Electronic (DEMAT) format and you’ve to give your pan card number (or other
similar personal information in foreign countries) to buy or sell bonds/shares or any
similar security papers. So, now bad guys want payment in gold, diamond or other
precious metals instead of bearer bonds.
#2: Equity: IPOs and Shares
 So far, we saw that first option is to ‘borrow’ money and pay regular interest rate. (Debt -
>Bonds). Now continuing this not so technically correct article,
 Second option is, I take money from you and in return I offer you partnership. This is
called Equity.
 Assuming that I need 1 crore rupees to start my company and I’ve 30 lakhs in my
savings. So, I write on a piece of paper: “ I’ll give 0.0001% ownership of my company to
whoever gives me Rs.1000”.
 This is again a type of ‘security-paper’. But since I’m sharing a part of ownership with
you, in crude terms, we’ll call it “Share”.
 Then I print 10,000 such papers. →hat’s the value of these papers?
 10,000 Papers multiplied with Rs.1000 each =1 crore. ↑oila that’s total money I need.
 And since I already have Rs.30 lakhs, I can purchase 3000 shares. (because 3000 papers x
Rs. 1000 each = 30 lakhs)
 So out of the Total 10,000 shares that I printed, I will own 3,000 shares, so percentage
wise I own 30% of this company’s equity.
Related to this: How do they Calculated SENSEX? Click Me to Read it
Shareholders and Board of Directors
o Since I’m issuing the ‘shares’ (Equities), under the Company law, I’ve to
Constitute a board of directors and hold annual general meeting of the
o For important policy decision, I’ll have to take votes of the shareholders, the
Board of Directors will supervise over my activities. In short I cannot run the
company as I please, I’ve to give answers to those people.
o On the first year, I make profit of Rs.25 lakhs. The board of directors will meet
and decide
distribute Rs. 10 lakhs as Dividend among the shareholders. Now about the remaining 15 lakhs,
invest them back in the company to expand our production-capacity , buy bigger machines and
install new factories in Pakistan and Somalia.
 Here is the cool part, I can become CEO of my own company and say I’ll take salary of
Rs.1 only! And still, I will earn Rs.3 lakhs.
 How? Because I own 30% of shares in this company, so when that Rs.10 lakh Dividend
is shared among the shareholders, I get 30% of it = 3 lakhs, apart from my Rs.1 salary as
an ‘employee’ of this company.
 Here is a demo photograph, of Creek Mining Company’s shares.
The owner Mr. George own 200 shares of this company. And in the small fonts, it is mentioned
that total 30,00,000 shares of $1 each. Meaning Mr. George owns (200/30 lakh) x100 =0.0067 %
stocks of this Creek Mining Company.
But in real life, nowadays, when you purchase shares , you don’t get such cool looking colorful
paper certificates. You get the shares in electronic dematerialized format. They get transferred in
your demat account. (already discussed in QFI vs FII article.)
What is IPO?
 Mithun Chokrobarthy’s Son Mimoh Chakrabarthy was launched in the first film
“Jimmy”. That year he got Best “Newcomer” award. Movie was flop, then Mimoh
decided that changing his name, would bring him some luck.
 So he became Mahaakshay Chkarbarty and yet gave a few more flop films.
 Now people don’t call him Newcomer, they call him flop hero.
 Moral of the story: →hen you act in your first film, you’re called a ‘newcomer’. Then in
your subsequent movies, you’re called a flop actor, although you’re the same human
being from your daddy’s eyes.
 Same way, When I sell my share papers for the first time, to the public, it is called IPO
(initial public offer)
 Then you (the buyers of these IPOs), sell these papers to each other, the same paper is
called “Share” or “Equities”.
 From Daddy’s point of view (Mine), it’s the same. If someone has one paper, he gets
0.0001% from the dividends.
Primary vs Secondary Market
 Primary market = this is the Place where IPOs are sold,
 Secondary Market= this is the place where IPOs are re-sold as shares.
 Physically both things are done in the same place e.g. BSE (Bombay Stock Exchange)
but this virtual classification helps in keeping track of things, making statistical analysis
Venture Capitalist and Angel Investors
Now Two more sub-types of Equity financers
What is Venture Capital?
 Venture Capital is a company that gives you money, to start your company or to expand
your company but in return they demand part of ownership.
 They deal with only ‘big’ things, ‘big’ projects, ‘big’ investments. They won’t help me to
open an ice-cream parlour in Gujarat University despite the fact that its monthly revenue
will be higher than SBI General Manager’s salary.
 Copy pasting example of Ojasventure, India
 We invest in technology based businesses in sectors such as Mobile technology,
Telecom, Software.
 We make an initial investment of US $ 250,000 to US $ 1.5 million.
How do they get money?
 Ofcourse money doesn’t fall from sky, these ↑enture Capitalist companies themselves
borrow money from other companies like mutual funds, pension funds or they may be
issuing their own ‘bonds’ to get money.
How do they operate?
 They’ve their own team of Management experts, corporate lawyers, chartered accountant,
and business consultants. They study your business plan, approve the money.
 They’ll demand seats in your company’s board of directors to Influence the Decision
Making in your company, according to their requirement and so on…
Who is Angel Investor?
 These are rich gentlemen. They finance startup companies for getting partial ownership
and or assured returns on investment, after few years.They can give debt (i.e. just like
moneylenders and banks) or Equity (i.e. partial ownership). But mostly they play in the
equity field.
What is the need of Angel Investors?
 You can get money from Banks / Bonds (Debt) or IPO/Venture Capitalist (Equity), if
your business project is likely to bear success based on previous experiance.
 For example: Pharmaceuticals, Dairy, Engineering instruments, Mining, Telecom,
Textiles, Oil Refinery etc.
 But they may not get interested in you, if you talk about untried and untested business
plans / product or fields.
 Imagine Steve Jobs requesting SBI Bank Manager to give him business loan in 1970s to
start Apple Computers,
 or Same Steve Jobs launching IPO of Apple in NewYork Stock exchange during that
 But there was an angel investor Mike Markkula, who actually believed in his plan and
gave him some money and got 1/3rd ownership in the company in 1977.
 Angel investor doesn’t mind taking huge risk by helping even small timers with totally
unique and untested idea, if he think that it’ll grow up huge success in future.
 Similarly, Amazon online shopping website and Starbucks coffee chain also started with
Angel Investors.

Capital Gain Tax Revisited
Recall the argument given by Mr.Vodafone in Capital Gains tax?
An individual who owns 45 per cent share capital does not own 45 of that company’s assets.
There is a difference between the sale of shares in a company and the sale of assets of that
 Why is it so?
 Because most of the company don’t directly start with IPO / Shares. First the
entrepreneur starts a small company using money from his own savings, borrowing from
friends, relatives and banks or from an Angel Investor.
 Once the business starts booming, he’ll launch an IPO to get extra funds from public, to
expand his business.
 So, He already has some building, machinery, vehicles etc assets in his small company
before launching his IPO.
Take a really crude example
 I have Rs.30 in savings, I borrow Rs.20 (Debt) and thus start a company for Rs.50
 After few years, I need another Rs.50 to expand business, so I launch an IPO: Total 50
share papers worth Rs. 1 each (Equity)
 You buy 10 shares for 10 rupees. Means you own 10/50
=20% of my
shares/stocks/equity/ IPO whatever you want to call it.
 But the total assets of my company are= From Rs. 50 I had already + Rs. 50 from IPO =
Total Rs.100
 So, You don’t own 20% assets of my company, because you’ve given me only Rs.10!
and my total assets are financed from both Debt + Equity.
 Same way, if you purchase 10% shares of Jet Airways, doesn’t mean you own 10% of
their airplanes and buildings.
Who is Underwriter?
 So far we’ve seen that
 To arrange money I can either borrow (debt, Bond) or I can give shares (equity,
 Here is the problem: I cannot print those security papers on my own Home PC’s cheap-
 First, A lengthy legal and accounting paper-work has to be done, it’ll require chartered
accountants, Corporate Lawyers experts in these matters.
 So, I goto an underwriter, he charges Commission but he promises to cover all the
technically things, paperwork, SEBI regulations, selling, accepting money for IPO/Bonds
sale etc.etc.etc.
 Same underwriter also offers a kinda insurance, that he’ll buy the IPO/Bonds if others
don’t buy it.
 Kotak Mahindra, ICICI offer such underwriting services.

Debt vs Equity : good and Bad things
 In real life, companies don’t rely on single source to finance their adventure. They’ll
arrange part of the cash from Debt (Borrowing) and part of the cash by issuing IPOs
 Each has its own advantage and disadvantage. Let’s check
Good things: bonds vs shares
Debt (Bond) Equity (IPO/Shares)
 I have complete ownership and control
over the company. I’m accountable to
nobody just like UPA-II.
 I don’t have to ‘share’ my profit with
anyone. I get to eat the whole cake.
 I can claim income tax deduction for
paying the loan.
 It require less paperwork and time to
borrow from bank / friend than via
sharemarket (SEBI permission, board of
directors etc)
 If the company makes loss, I don’t
have to share any money with the
shareholder, just like Kingfisher.
 So there is no ‘regular’ interest
payment, as we do in the loan.
Meaning I’ve less tension compared to
bank loan/ bonds.

Bad things: bonds vs shares
Debt (Bond) Equity (IPO/Shares)
 Even if I don’t make profit, I’ve to
pay interest rate, because basically
this is a ‘loan’ just like home loan or
car loan. Whether you earn or not,
you’ve to pay the EMI.
 I may have to mortgage something
(machinery, building) to get the loan.
So in case I default on the loan, the
bank/financer can take it away from
 I don’t get complete ownership and
control over the company.
 I’ve to constitute a board of directors, hold
general meetings of shareholders, I’m
accountable to them. The board of
directors can throw me out of CEO job, if
I donot deliver results, unlike Mohan.
 It requires heavy paperwork and time to
initiate IPO, sharemarket thing (SEBI
permission, underwriting etc)
 So, it’d be better if I finance a part from debt and a part from equity. That leads us to the
discussion about Debt to Equity Ratio.
Regional Rural Banks vs Cooperative Banks
What is NABARD?
 National Bank for Agriculture and Rural Development (NABARD)
 It is the top development bank.
 It was established in ’82 by a special act of parliament: to provide cheap loan to
 Government of India holds 99% stake.
How does it give money to villagers?
 It takes money from RBI, World Bank and other international funding institutes.
 It loans this money to Regional Rural banks and to NBFC (Non-Banking Finance
Companies) working in Microfinance sector.
 Recall that Muthoot Finance is also an NBFC, but It cannot get money from NABARD.
(although they may be giving gold-loans to villagers!)
Where is the office?
 NABARD’s Headquarter = in Mumbai
 RBI Headquarter = in same Mumbai. (and NOT in Delhi)
Now two more types of Banks: Regional Rural Banks (RRB) and Cooperative Banks.
Regional Rural Banks
Where do they operate?
As the name suggests, they are located in rural / semi-urban areas.
What do they do?
They give loans, mostly to small and marginal farmers, agricultural laborers and rural artisans.
How were they born?
 They were established under Government ordinance in mid-1970s.
What is ordinance?
When parliament is not in session, President can make an act on advice of the cabinet.
Such law is called ordinance.
Who owns RRB?
RRBs are jointly owned by
 Govt. of India,
 the concerned State Government and
 Sponsor Banks
 Ownership in the proportion of 50%, 15% and 35% respectively
Give some examples of RRB?
 Dena Gujarat Gramin Bank
 Andhra Pradesh Grameena Vikas Bank
 Vidharbha Kshetriya Gramin Bank
 Paschim Banga Gramin Bank
What’s their problem?
 Same as Air-India and Kingfisher: Loss making.
 Out of political compulsions, they hold ‘Loan-melas’ to give ‘mass-loans’ to farmers
(during Election-years) but later cannot recover the money.
 Sometimes loans given to undeserving people, due to political pressure.
 Makes sense huh? Government owns 99% in NABARD >> NABARD Gives money to
RRBs, I hope you get the picture.
K. C. Chakrabarty Committee on RRB, 2009
 RRBs are not functioning properly; they need new capital infusion of Rs 2,200 crore by
 Performance of RRBs should be monitored by state level committees headed by finance
secretaries of state governments with officers from the NABARD, etc.
What is Co-operative bank?
 They’re small-sized units organized in the co-operative sector (mostly Rich-businessmen
and relatives of politicians gather-up and open such banks in a city/ small town)
 These banks, until 1996, could only lend for non-agricultural purposes.
 Cooperative Banks in India are registered under the Co-operative Societies Act.
 These banks provide most services such as savings and current accounts, safe deposit
lockers, loan or mortgages to private and business customers.
 Co-operative banks function on the basis of ‘no-profit no-loss’. Co-operative banks, as a
principle, do not pursue the goal of profit maximization.
 Therefore, these banks do not focus on offering more than the basic banking services.
Loans and Co-operative Banks
 Co-operative banks give cheaper auto loans compared to private banks.
 The criteria for getting a loan from a UCB are less stringent than for a loan from a
commercial bank. For instance, when taking an education loan, it does not matter whether
the course you are going for is recognized or not!
How to scam using Cooperative bank?
 Step 1: Gang up a few heavy weight politically connected people, and Open a
cooperative bank.
 Step 2: take deposits from common-men, borrow some money from RBI, but give loans
only to your friends and relatives and don’t ask them to pay EMI.
 Step 3: Keep doing this, until the bank collapses.
 Step 4: Now pay bribe to police and run away to any foreign country.
 Some big scams: Madhupura Bank-Ketan Parekh, Aadarsh Bank, etc.
IIP Index calculation mistake for January
You already know about the meaning and implications of IIP (If not, click me)
But what you and I didnot know so far: IIP index for January 2012, as bogus as Ra.One
Consider this: Initially CSO said
“January IIP is 6.8%”
Now they’ve revised the number and Chief Statistician of CSO, is saying
“Sorry, Galti se mistake ho gaya!! January IIP is only 1.1%”
Why revision in IIP?
Because actual sugar production was 58 lakh tonnes but they entered 134 lakh tones in the
Excel datasheet. (MS Office Version 1997, Windows 95 Operating system)
Why sugar data impacts IIP?
 Because Sugar data is used in the IIP index, under the Manufacturing >> Consumer
(Non-Durable) Goods.
 But sugar has just 1.5 per cent weight in the IIP index, how can it lead to such huge
fluctuation? Obviously some other commodities’ production is also mis-reported apart
from Sugar.
But why was sugar data incorrect?
 Because Directorate of Sugar in the Ministry of Consumer Affairs-Food & Public
Distribution, had given wrong sugar data to CSO.
 (May be he was in hurry to watch cricket matches with ‘you-know-who runs the agro-

But why should we care?
→hen we’ve extremely important news-reports on Nupur Talwar and Nirmal Baba, why should
we bother with IIP’s bogus-data? Why should we care?
Because RBI studies these numbers: WPI, CPI, IIP, M1, M2, M3 etc. and decide the monetary
policy accordingly.
If a number is misrepresented, RBI will make wrong policy. Then it affects everyone of us.
RBI is going to update its policy on 17
April. Suppose CSO did not admit the mistake, what
could happen?
Oh yes January IIP is rosy good 6.9%! this means plenty of liquidity in market. Junta and
businessman are getting loans easily and have sufficient money in their hands. →e don’t need to
do anything, time to watch #IPL Matches!
But now CSO has admitted mistake, what will happen?
oh hell NO!! January IIP is just 1.1%; this is so hopeless just like Zardari’s political future. We
gotta ease up the monetary policy, change the Repo, SLR, CRR etc so that interest rates go down
and businessmen can get funds easily.
IIP Data misuse and crony capitalism?
 Indianexpress says “Crony capitalist benefit from IIP miscalculation.”
 How?
 Because Government also uses IIP index to make policies. For example a low IIP
because of low steel production= Government may ban
the iron-ore export, to make more raw material available to local steel producers. So
mining mafias don’t like low IIP.
 Similarly, low IIP because of low sugar production= Government may temporary ban
sugar export, to prevent shortage in local market.
 But sugar-industrialists enjoy exporting sugar, as it fetches them higher price compared
to local market. So they may not want low IIP index.
 I can understand if there is an error in calculating 0.1% of 0.2 %, but a revision from
6.8% to 1.1% is totally baffling
 →e shall have to ensure that government data integrity should not be challenged…
 I have asked concerned authorities to look into it that why it has taken place and they
should be much more careful in the future (lolz man why always lock the stables after
horses run away?)
Anand Mahindra
We used to claim our economic data was more reliable than China's. Looks like we're catching
up with them at least in one area!
Rahul Khullar, commerce secretary
This is not the first time! →e had $9.4 billion ‘correction’ in the exports data for April-October
2011 due to a computer crash and data entry errors.
 Government is not only incapable of estimating figures for the future but also of
capturing past data accurately to make sound decisions.
 Is the country being fed wrong information through government agencies because they
are backed by corporate interests and foreign institutional investors?
 Is the rise of crony capitalism driving data collection agencies to feed wrong information
to benefit vested interests?
 The government must realise that sanctity of underlying data lies at the core of sound
policy formulation.
 No doubt, gathering socio-economic data in a country as complex as India, which is not
monetised and computerised, cannot be expected to be 100 per cent accurate. But it
should not be so skewed as to twist our perspective.
 It is time the government took data collection and collation more seriously and got it
scrutinised by some independent agencies before releasing it.
Economic Times
Industrial growth in February 2012, we are now told, was 4.1%. But do we know for sure? Or
will we have to wait till next month? Or the month after?
Different Types of Companies: Pvt.Ltd,
Public Ltd., Public Corporation,
Departmental Undertaking, PSUs
Paid up Capital
 This word is going to keep reappearing in next few articles, so better understand it in
 You already saw that there are two ways to finance a company: Debt + Equity.
 Paid up Capital means the amount of money contributed via Equity (shareholders)
Private company
 It has a minimum paid-up capital of Rs.1 lakh
 It needs minimum two members and maximum 50 members (i.e. The persons who hold
its ‘equity’)
 This company is to use the word “Private Limited” at the end of its name.
 It cannot have more than 50 members
 It cannot borrow for general public.
 For example Balaji Telefilms private ltd= Ektaa Kapoor’s company, involved in making
those boring Saas Bahu serials.
 Another example: Neela telefilms private ltd. = Asit Modi’s company, they produce the
comedy serial Tarak Mehta Kaa oolta Chashmaa.
 : the online shopping website is also a private company, started by Sachin
and Binni Bansal.
Public company
 It has minimum paid-up capital of Rs.5 lakh.
 Requires minimum seven members to start a public company.
 It has to hold annual general meeting of shareholders.
 It can borrow from general public via IPOs and Bonds.
 For example, Infosys started as a private ltd company in 1981, but in 1992, it re-
registered itself as a Public Ltd company and launched the IPO in 1993.

Holding company and subsidiary company
 If company A holds more than 50% Shares of company B then,
 Company A is a holding company
 Company B is a subsidiary company
 Example: Coal India is a holding company. Bharat Coking ltd, Mahanadi CoalFields ltd
are its subsidiary companies.
 Similarly, Konkan Railway is a subsidiary company of Indian Railways. Although Indian
Railways is not a ‘Holding Company’, it is a Departmental undertaking.
Departmental undertakings

 They are involved in some commercial activity such as engineering, manufacturing etc.
 They’re directly controlled by the government, just like any other department
 For example: Indian Railways, postal Department.
 They are not registered as companies under the companies act
 They are wholly financed by the government (and not through Debt+Equity like a
normal company)
 They cannot use their profit to meet their expenditure, or to expand their business
activities without the permission of Government (by extension parliament. I.e. Railway
budget for Railways and General Union budget in case of postal Department)
 Their employees are government servants.
 Directly audited by CAG.
 RTI applies to Departmental undertakings.

Government Company

 It is a company in which government holds not less than 51% of paid-up share capital.
 For example, ONGC, SAIL
 Here, The “Government” means the union government or the State government(s) on
 For example, in Company A, 30% shares are held by union government, 10% by Gujarat
government, 11% by Madhya Pradesh government, still Company A is a Government
company (30+10+11=51%)
 The government company is managed by the board of directors.
 Board of Directors are appointed by the shareholders. But since government owns
majority of the shares, majority of directors are chosen by the government.
 They can borrow extra money from public via IPOs and bonds.
 This company does not need Parliament’s approval on how to use the profit, But it will
need approval of Board of directors on how to spend the profit.
 They’re not directly audited by CAG, but CAG appoints the private firms (Chartered
accountants) as auditors.
 RTI applies to Government companies.

Public corporation

 They are established by a special act of Parliament or state legislature (Vidhan Sabha)
 The act defines how this organization will run. For example: LIC, Air India, IDBI, UTI
 They are wholly financed by the government, but still they can also borrow from general
public via Bonds and shares.
 Government appoints board of directors.
 They can use their profit as per their requirements without Parliament’s approval
 Employees of public corporation are not government servants.
 Directly audited by CAG, although in some cases CAG outsources the work to private
 RTI applies to Public Corporations.

PSU (Public Sector undertakings)
 When we use the word PSU: it means Public corporations + Government companies.
 Departmental undertakings (Railway/Postal) are not PSUs.
 CAG has two wings:
 1. The Civil wing looks after the auditing of Ministries + Departmental undertakings.
 2. The Commercial wing looks after the auditing of Government companies +Public

Shares vs Stocks, Rights Issue of Shares,
Bonus Shares, RSU
Share versus stock
 Suppose the company has issued 1000 shares, worth Rs.10 each
 You purchased 50 shares of this company. So you have to pay 50 shares x 10 Rs. Each =
 That means you own “50 Shares” of this company and
 You own “stock of Rs.500” in this company.
 In short, when we talk about shares we refer to the number of papers held by you.
 When we talk about stocks, we refer to the money value of those papers held by you.
 But ultimately, both shares and stocks suggest the same thing: “Equity”. You already
know what equity means, if not click me
Different types of shares
 Normal shares
 It comes with voting rights. This is what you get from routine IPO>>Share thing
 Preferential shares
 Already discussed in the SBI capital infusion article
Still There are some topics related to shares

Rights issue of shares
 You launch IPO, get funds from the public, and start a company. (Equity)
 After some years you want some more money to expand the company, so you want to
issue additional shares. But under the companies act, you can issue additional shares to
the existing shareholders only. This is called “rights issue of shares”
 Here, you give notice to the existing shareholders, offer them to buy your new-shares,
you cannot offer any other “outsider” to purchase the shares.
 If you do not want “rights issue of shares”, you have to hold a general meeting of
shareholders and pass a resolution that “company does not need to offer new shares to the
existing shareholders, and these new shares are available for anybody to purchase”
So, what’s the point in doing rights issue?
 Well the direct utility of rights issue= obviously to gather more money to expand your
 But it is also used for other purpose
To reduce the debt: equity ratio
 From the Debt VS Equity article: There are ‘credit rating agencies’ S&P, CRISIL etc.
they give rating to your company’s bonds. AAA,BBB etc.
 Lower the rating = higher the interest rate you’ve to offer, to seduce the people into
buying your bonds. (Recall the Junk Bonds.)
 But before giving rating to your bonds, the credit rating agency will look into your
company’s performance, assets, liability everything. And one of the thing they’re
interested in, is “Debt to Equity” Ratio
 The company with high debt to equity ratio = it has more debt = compulsory interest
payment = trouble = lower rating.
 If such company issues more bonds to gather money, it’ll have trouble; its new bonds will
receive even lower credit rating. So, what can they do?
 Another case: You’re kingfisher. You’re not doing good, nobody is helping you. So you
want some foreign investor to come and help you. But he’ll also look into debt:equity
ratio before finalizing the terms of deal. →hat can you do to appear ‘good’ in front of
 Obviously: reduce the Debt to Equity ratio. But how?
 Simple: offer new equity (shares) to existing shareholders @ a discounted rate. (=Rights
issues of shares). You’ve offer it at a discounted rate, else no one would buy it. You’re
doing this whole exercise, because you’re in trouble in the first place.
For example: Here is my offer of “Rights issue”:
 1:1, Face value Rs.100, @ Discount of Rs.50
 Meaning, if you already have 10 shares of my company, you can buy 10 more shares
from me (1:1), Each of these shares will have “→orth Rs.100” printed on it but I’ll give it
to you for Rs.50 only.
 What good does it do to me? Well in the legal record, for the calculation of Debt Vs
Equity =they’ll calculate using Rs.100 face value. Thus my Debt:Equity ratio will go
down, and I’ll look good when credit rating agency / FDI investor starts evaluating me.

Bonus shares
 In the debt versus equity article, you saw that a company can collect money from people
by issuing shares (IPO/Equity/Stock whatever you want to call it), but every year,
company reports the profit to the board of directors. The board of directors will decide
how much profit is to be re-invested in the company and how much profit is to be shared
with the shareholders.
 The profit, thus shared with the shareholders is called “dividend”. Generally dividend is
sent to the shareholders via cheques.
 But sometimes,company also gives you extra shares.
 It means company paid the money to purchase shares on your behalf and gives it to you.
So you got free shares and next year when company distributes the dividends (cash), you
will get more dividend, because now you are holding more shares. Alternatively, you can
sell away these bonus shares to someone else and take out the money.
 These are called “bonus shares”
 What is the difference between Bonus shares and “rights issues”
 →ell, as a shareholder, you get shares for free under “bonus shares”.
 But you’ll have to pay money for buying new shares under “rights issue”
Employee stock option scheme
 Here the company issues shares its employee at a discount price.
 This is done to make the employees committed to the success of company because if the
company makes more profit, they can walk away with higher dividends.
 Such shares have minimum lock in period: for example if your boss gives it today, you
cannot sell it for one or two years.
Restricted stock unit (RSU)
 This is also a form of Employee Stock Option but here the company promises to deliver
shares to its employee in future date.
 For example, Apple’s new CEO Tim Cook: he’ll get $900,000 of cash salary and a $377
million in RSU.
 Apple will deliver him 500,000 shares of Apple stock in 2016, and 500,000 more shares
in 2021 — as long as he stays employed at the company.
QFIs to enter in Bond Market: Reasons and
From my previous articles, you know
 What is the difference between QFI and FII (if not click Me)
 What is the difference between Bonds and Equity (if not Click Me)
Continuing further
 On Jan 1, 2012, Pranab had allowed QFIs to invest in equity (share) market.
 But right now (May 2012) Pranab is discussing with SEBI and RBI chief about allowing
QFIs to invest in Bonds (debt) market as well.
 Currently, FII can invest maximum $15 billion in government bonds and $20 billion in
corporate bonds.
 Rumors suggest that max limit for QFI in bond market will be $5 Billion.
 But why did Pranab suddenly came up with this idea of allowing QFIs in Bond market?
Reasons are following
High interest rate=Bad IIP
 RBI’s monetary policy has been very ‘tight’ last year. Loan interest rates are quite high,
big corproates are finding it hard to borrow at such high interest rate.
 So when QFIs come up with their cash = more money supply in Indian market.
 Supply more = price goes down.
 More Supply of money = interest rate goes down.
 And thus, Indian businessmen will be able to borrow @ a lower interest rate and then use
the money to manufacture more goods and services = better IIP = better GDP.
S&P Downgrade=FII exit
 Recall the ‘breaking’ news of S&P credit downgrade for India. After that news, FIIs
panicked and within days they took out almost 700+ crores of their investment from
Indian market.
 In such scenario, Pranab is trying to ‘stabilize’ and ‘deepen’ the market by allowing QFIs
to come and invest in Bond market as well.
Ok so, Just allow QFIs to invest in Bond market and every problem is solved. Does it mean “ke
bhaiyaa all is well”? Nope. Because …
No “AAA” Rating=No QFI investment
 In the Debt + Equity article, you read about Junk Bonds that carry high risk vs Gilt-edged
securities that carry low risk.
 Therefore Junk bonds offer you higher rate of return to seduce you into purchasing them.
 But If you want to play in Junk bonds, you need to have lot of money in your pocket so
even if they default on your payments, you can still pay your grocery and telephone bill.
 The FIIs have got huge cash in their pockets, so they’ve the guts and ‘aukaat’ to invest in
junk bonds. They don’t mind taking the risk, if the returns are attractive.
 But QFIs don’t have that much money, so they like to play safe and generally prefer to
invest in bonds with “AAA” ratings (i.e. Gilt edged securities)
 Here is the problem: Not even five per cent of the Indian Companies have the premier
‘AAA’ rating from S&P/ Moody’s.
 So even if QFIs are allowed in Bond market, doesn’t mean immediately the problems of
low-IIP + low-GDP, will be solved.
General Anti-Avodiance Rules (GAAR):
Meaning, Pros, Cons, Implications,
Before reading further, make sure you have read the previous article on Vodafone-Hutch Capital
Gains tax case.
Ministry of Finance, Delhi (2008)
Ok, This year we need to collect 8 lakh crores to finance our bogus schemes
and other “Royal” Expenditures such as luxury foreign vacation trips of
Pratibha + business-class Air-tickets for Sharad et al.. I’ve told the custom and
excise Department to collect 3 lakh crores in indirect taxes, and you get me the
remaining 5 lakh crores from direct taxes. Else I won’t promote you.
But sir your target is implausible just like reading entire Mishra-Puri and Dutt
Sundaram for economy!
Well, the Diamond traders in Surat and Builders in Mumbai got plenty of black
money. You raid their offices every month, starting from tonight.
We are already doing that. Yes, we recovered truckload of cash but still your
target is just way too high.
Then catch those big fishes that use Cayman island and other tax havens for
making business deals!
Matter is outside my jurisdiction. And even if I try to do something about it,
they’ll go to court and win the case. So, First, you’ve to update the Income tax
act of 1961.
Betaa “I” don’t have to update the IT Act. It’s your job to write the bill, give
paper to me; I present it in parliament, and if parliament approves and President
signs, the bill becomes the Act and I take all the credit.
IT Commissioner calls up other senior and experienced officers from his department and starts
updating the Income Tax Act.
Drafting of the DTC Bill
Alright. I’m done writing the major provision about Income Tax in Direct Tax
Code. (click me if you haven’t read them already.)
Only one part remains: Our Department must have the power to take action
against these folks who use tax-havens for making business deals.
Retired IT
Yes, We should make the necessary rules and call it GAAR: General Anti-
Avoidance Rules.
Wow that name GAAR sounds really unique and awesome, as if the
*Singham* is roaring grrrr…I wish I could get selected in IPS :-(
Retired IT
Betaa there is nothing really unique or awesome in GAAR.
Australia has GAAR since 1981.
Then Canada, New Zealand, Germany, France and South Africa also adopted
GAAR. Hell even China got GAAR in 2008!
I’m surprised to see Indian authorities were sleeping all these years and
suddenly realized in 2009 that we too need a GAAR!
Well, Better late than never!
Both gentlemen watch Tarak Mehta kaa Ooltaa Chashma on SAB-TV and write the GAAR
rules for India in between the advertisement breaks.
IT Commissioner (To Pranab):Sir, I’ve finished drafting the DTC and included GAAR In it.
Let me tell you the specific rules under this GAAR, which are as following

Rules of GAAR
 Under these rules, I can take action against those people involved in tax avoidance.
 I, the Income Tax Commissioner, will have full power to decide whether a business deal
is genuine or some sham to avoid tax payment. It doesn’t matter whether the business
deal was done in India or outside India or
 It doesn’t matter whether the deal is between any Indian citizens / NRIs / Foreigners.
 It doesn’t matter whether the deal is protected by some bi-lateral tax treaty between India
and the given country.
 GAAR provisions shall override the terms of any Double Taxation Avoidance Agreement
(Tax Treaty) that India may have entered into.
 No ifs and not buts; I'll have full jurisdiction to question any business deal.
 I can send notice to the concerned parties and demand explanation.
 After hearing their side, if I’m not satisfied, I shall order my Assessing offer (AO) within
12 months, to take necessary action against them and recover the taxes.
 If the party is unhappy with my order, it can appeal in Dispute resolution Panel (DRP),
which will consist of three IT Commissioners like me.
 DRP will have to give the verdict in nine months.
 If the party is still unhappy with DRP verdict, it can file appear before the Income Tax
Appellate Tribunal (ITAT)
 If party is unhappy even after ITAT verdict, it can approach High court and Supreme
Burden of Proof
 In the regular criminal cases, suspect is presumed innocent until proven guilty. The
burden of proof rested on the prosecution, i.e. Sarkaari Vakil (and Police) has to
convenience the court that Raja is guilty.
 However, in case of GAAR, the burden of proof rests with the party, Raja has to prove
that he is innocent.
 This is similar to TADA and POTA: Burden of Proof rested on the suspect. The Suspect
was presumed guilty, and he had to prove that he had no criminal intent.
Pranab: ↑ery good. Just the way I wanted it. Now I’ll table this bill in parliament.
Parliament of India (August 2009)
Pranab tables the Direct Tax Code-2010 bill in parliament. As usual Opposition MPs start
shouting slogans against him.
Lok Sabha TV-viewer: Yaar, ek toh Pranab’s Bengali English accent is so hard to decipher in
the first place and all this shouting is making it impossible to understand what he is saying!
Review by Standing Committee
The bill is sent to the Standing Committee on Finance, headed by BJP Leader Yashwant Sinha,
for review. The Committee issues an advertisement in the major newspapers :
“We’ve uploaded the draft DTC code on our website so if anyone got problem or suggestion,
send it by ordinary post or meet us in person because our fax machine is not working and our
Secretary forgot the Gmail password.
One such stakeholder is our good old Mr.Vodafone, he appears before the standing Committee to
present his case.
Pro and Anti GAAR viewpoints
Mr.Vodafone: This GAAR is totally rubbish. I strongly oppose it because
Should be a separate Act
 Government should have introduced GAAR as a separate act. But Pranab has
mischievously packed this GAAR with Direct Tax code (DTC).
 Target audience of DTC = corporates+ middle-class tax payers but target audience of
GAAR is mostly big corporates such as myself.
 And the dimwit media of India doesn’t really understand what is the issue and confuses
the junta as if we the corporates are against the entire DTC.
 No, we are not against DTC; we are concerned about GAAR. But yet we are
unnecessarily getting vilified just like anyone who dares to speak against Team-Anna is
automatically labelled as Congi-agent.
Assumption of Guilt
Mr.Vodafone: Adding insult to the injury, the GAAR rule says, “It shall be presumed that
tax-avoidance is the main purpose of a business deal, unless otherwise proved by the
taxpayer.” →hat the hell man?? This is same like POTA and TADA were it was presumed that a
person is guilty, and the burden of proof rested on the suspect.
→hy treating us as terrorists, especially when you don’t have the guts to say,
“Maoists=terrorists” in UN assembly?
Kalmadi can walk out on bail despite stealing crores from Indian-taxpayers and we are not even
allowed to do proper tax planning.
Even Supreme Court said in the Vodafone case that.
All tax plannings cannot be said to be illegal / illegitimate or impermissible. Genuine strategic
tax planning is permissible.
Conflict of Interest
Mr.Vodafone: In the GAAR, IT Commissioner alone will decide whether a business deal is
genuine or a tax avoidance sham? But Why give him this discriminatory power?
 We all know that IT Commissioners are given revenue collection targets from ‘above’.
 So when an IT Commissioner is under pressure to meet the target, he may issue a notice
to us even where there is no case of tax avoidance, and the deal is totally legit.
 Ultimately we’ll have to treat him as ‘maai-baap’, give him gifts and bribes every Holi-
Diwali, thus GAAR will bring back the Inspector Raj.
 And IT Commissioner is given so much power. He'll be Police, Judge, Jury and the
Executioner. On one hand, you are against the Jan-Lokpal giving same argument and yet
allow it in GAAR.
 In most of the countries, IT Commissioners don’t have so much discretionary powers, the
GAAR matter is generally handled by a panel/Committee system and not by individual
Pranab: but there are safeguards. You can appeal to the DRT, ITAT, High court and Supreme
court, if you’re not happy with IT Commissioner’s order!
Mr.Vodafone: But we’ll have to waste so much of our money in hiring tax-lawyers! Do you
have any idea how much time and money did it cost me to prove my innocence in Vodafone-
Hutch deal? This GAAR will only generate more income for the top 10-12 tax lawyers of India.

Misplaced priorities: Tax Evasion vs Tax
Tax Evasion
Means illegal arrangements where liability to tax is hidden or ignored i.e.
The tax payer pays less tax than he is legally obligated to pay by hiding income
or information from tax authorities.
Black money falls here.
An arrangement of a tax payer’s affairs that is intended to reduce his liability and
that although the arrangement could be strictly legal.
The key distinction being that in tax avoidance the key facts and financial details
are not hidden by the tax payer but are on audit-record.
So there is no ‘black-money’ because all the money is reported to the tax-
Arrangement of a person’s business and /or private affairs in order to minimize
tax liability.
 GAAR is not an antidote for ‘tax evasion’; it can only solve ‘tax avoidance’.
 The GAAR cannot deal with tax evasion since it cannot deal with what is not reported.
 You’ve shown enthusiasm against Tax evasion but you don’t flex your muscles in same
manner when it comes to Hasan Ali and other tax evaders!
 So instead of clubbing GAAR with DTC, make a separate law for that incorporates not
only GAAR (tax evasion) but also provisions for black money.
 GAAR is only a piecemeal approach. The situation requires a holistic approach to handle
both Tax Avoidance + Tax evasion.
Piecemeal vs Holistic Approach
Pranab: But my friend, something is better than nothing. As you’re well aware, I don’t enjoy
majority in Rajya-Sabha. It is very tough for me to pass any bill be it women’s’ reservation bill
or pension and insurance reforms.
 According to the Constitution, Income tax legislation falls under the domain of Union
Government. Therefore I can proceed easily with DTC without consulting State
Governments. Besides DTC target audience=middle class+corporates= The ‘vote-bank’
is large enough so no party dares to oppose DTC beyond a level. I can easily pass DTC
(+ GAAR) in Rajya Sabha too.
 But when we talk about “Holistic” approach of dealing with “Black Money”, that
involves both direct and indirect taxes. So, I’ve to take state governments in confidence
before passing any legislation or framework, just like the FDI in retail or GST (Goods
and services tax.)
 You’ve already seen► all Non-Congressi chief ministers opposing NCTC. Even if I want
to do something good, How am I supposed to proceed with a “holistic” approach /
legislation to deal with both Tax Avoidance + Tax evasion?
No respect for bilateral Tax
Mr.Vodafone: The GAAR even says that its provisions shall override the provisions of any
Double Taxation Avoidance Agreement (Tax Treaty) that India may have entered into with other
nations. This means total disrespect for bilateral tax treaties!
Vienna Convention on the Law of Treaties that that a treaty should be interpreted and must be
performed by parties to it in “good faith”.
Pranab (intervenes): haha dude we have neither signed nor ratified that Vienna Convention!
Mr.Vodafone: But then how am I supposed to do business? There is no certainty whether you’re
going to respect the International tax treaties or not. It will all depend on the whims and fancies
of your IT Commissioner.
How am I going to make business deals with other companies abroad? Economy cannot prosper
in places having any type of uncertainty. Take the case of Naxal affected regions.
Besides Supreme Court has said in my case
Tax policy certainty is crucial for taxpayers (including foreign investors) to make rational
economic choices in the most efficient manner.
Pranab: ya ya I know it very well what Supreme Court said in your case. And the main reason
for doing GAAR is to make sure that you can’t win in Supreme court next time.
Mr.Vodafone: Then I’ll make sure you that get a downgrade in Standard and Poor (S&P)’s
rating. Just one stroke and the FIIs will pull out crores from your market in a week=Rupee
weakens =crude oil becomes expensive= inflation. Fir GAAR ki poongi bajaate rahenaa.

 GAAR is a set of rules to check on tax-avoidance.
Pro GAAR-Lobby
Pranab, His party, Jholaachhap NGOs and Leftwing columnists of The Hindu et al
 Big companies sell their products in Indian and make huge cash. Yet they do business
deals in Mauratius, Caymen’s island etc to avoid paying taxes to Indian Government.
 With GAAR, we can recover taxes from them and use it for poverty-removal (!)
Anti GAAR-lobby
Big Corporates, Sharebrokers, Rightwing Columnists of Indian Express, Times of India et al
 GAAR is a draconian Act, in its present form.
 IT Commissioners are vested with so much discretionary powers, and they’ll abuse it to
meet the Revenue collection targets.
 Burden of proof rests with suspect and not with the prosecution. GAAR puts the onus on
the taxpayer to prove that his business-deal is not for tax-avoidance. This will create a lot
of uncertainty and could potentially lead to a dangerous trend of the IT Commissioner
questioning almost every transaction that results in tax saving.
 GAAR doesn’t respect bilateral tax-treaties= uncertainty=not good for making business
End of article. Die hard fans of Sachin, Nupur Talwaar and anyone else not as bored and fed up
as I’m, can leave now. No need to read further.
Epilogue #1: Mr.Vodafone
Some newspaper columnist: GAAR is blah blah blah blah GAAR is blah blah blah..
Mr.Vodafone: what is this yaar? GAAR should have been a news issue since August 2009 when
Pranab introduced the DTC bill in parliament.
But Only in 2012, after Vodafone judgment and Budget 2012, you fellas start writing about
GAAR and that too only for namesake. And nobody is gonna read your newspaper columns
except those UPSC and MBA aspirants. This GAAR issue requires proper public-debate because
it has direct implications on Foreign investment, IIP, GDP, employment, inflation everything.
Why no news channel is taking up this GAAR-matter?
Newchannel Anchor: sorry man but my news schedule is totally jampacked with Sachin’s
Rajya-sabha nomination and Nupur Talwar’s bail case. I’ve to cover these two breaking news
tirelessly for next 15 days 24/7.
Mr.Vodafone: Thousands of girls get raped and killed across India on daily basis. What about
them? They’re not important? Don’t they too deserve to get justice and media activism? Posh
victims of Delhi-Noida region deserve quicker justice than some poor victims in Chhattisgarh or
Zee News, Aaj Tak, NDTV, Star News, TimesNow and CNN_IBN, no matter which channel I
switch to, there is only Nupur Talwaar, Nupur Talwaar and Nupur Talwaar. You’re giving
minute by minute live coverage of her: Nupur wore her own clothes to jail, she borrowed a jail
library book, she was given a blanket, a mug, and she dined on brinjal-potatoes, dal and rotis.
Hell, even Nathuram Godse, Lee Harvey Oswald and Nalini Sriharan didnot get this much
Newchannel Anchor: How can you be so cruel and insensitive about the Arushi murder case? If
she wasn’t murdered she could have become the next female President, Speaker or Prime
Minister of India.
Mr.Vodafone: oh yes…right ….now I get it. And since Sachin is becoming a Rajya Sabha
MP…. Rivers of milk and honey will flow, Naxalites will stop kidnapping good Collectors,
Drunkards will stop beating their wives, Lokpaal bill will be passed…., Black money will be
brought from Switzerland, Kashmir issue will be solved, Bhopal Gas victims will get proper
compensation and all the MBA colleges of India will stop looting aspirants in fee refunds, by
declaring their results simultaneously on same date, right?
Newchannel Anchor: Haahaahaa really man, please stop talking like Justice Katju!
Mr.Vodafone: But I didn’t mention Farmer suicides or Sunny Leone.
FCNR Rate Hike to Prevent Rupee Downfall:
Meaning, Implications, Explained
What is FCNR?
 Foreign Currency Non-Resident (FCNR) scheme was launched by RBI in the early
 It allows NRIs to make fixed Deposits (FD) in Indian Banks, in Pound Sterling, US
Dollar, Japanese Yen, Euro etc.
 They don’t need to convert their foreign currency into rupees, just directly deposit foreign
currency in Indian Banks.
 They don’t need to pay income tax on the interest earned in such account.
 RBI decides the ‘upper ceiling’ on interest rate to be paid on such deposits.
 Minimum maturity at 1 year, max is 5 years.
 Example SBI FCNR. You can read its terms, conditions and features by clicking Me
What does SBI do with foreign currency
 NRI deposits his hard earned dollars$ into SBI account.
 SBI gives these dollars as loans to Indian Importers, who have to make payments in
dollars for the importing raw material, machinery and goods from foreign countries.
 SBI also gives these dollars as loan as pre-shipment credit to Indian Exporters. Because
they’ve too may need to import some raw material from third country, also for paying the
transport cost to ships etc.
 In short, SBI (or any Indian Bank), takes dollars from NRIs in FCNR account and gives it
as loans to Indian businessmen for import/export.
 Same thing for Yen, Pound, Euro etc. (Because NRI can deposit those currencies as well
and those Indian businessmen may also need Euro/Yen for making special purchases
from particular country.)
Why is FCNR in News?
 As usual, Rupee is weakening against dollar.
 On 4
May 2012, the exchange rate was $1=53.** Rupees.
 RBI had to do something immediately to stop the further downfall of Rupee against
Dollar, so RBI chief increased the upper ceiling of FCNR interest rate. Now Indian banks
can offer even higher interest rate on FCNR deposits.
Implication of FCNR interest Rate hike
 Currently Citibank USA offers only 0.05% interest rate on savings account! (does it
sound ridiculously low? Well, these rates are given on the official page of Citibank USA!
 Compared to that, Bank of Baroda’s FCNR interest rate on dollar deposits is around 3 to
4%. Now they’ll increase the interest rate even higher, after RBI increased the ceiling.
 So, the NRIs will find it even more attractive to park their dollar-savings in Indian banks
rather than in American banks.
 This Means, Supply of dollar increased for those Indian banks.
 They can loan these dollars at to Indian importers. (more money supply =more liquidity =
loan-interest rates go down).
 Thus “Demand” of Dollars decrease @Forex market, because now you can borrow
dollars from SBI @ a lower cost compared to what SBI used to charge earlier. So no need
to run to Forex agents.

Imaginary example:
Year 2001
interest given to NRI on savings deposit: 3%
loan interest charged from businessmen: 6%
Year 2002
interest given to NRI on savings deposit: 4%
loan interest charged from businessmen: 5.5%
It seems the profit margin declined in second case, isn’t it? But the “volume” of incoming money
has increase and so will the volume of business.
Besides, it takes only one troubled bank to reduced its loan interest rate, and the other banks will
be forced to reduce their loan-interest rate as well, to stay competitive.
Then why didnot the said troubled bank reduce its loan interest rate earlier? because earlier its
incoming NRI-deposits were low due to FCNR limit so they didnot have enough “raw-material”
to reduce the sales price and yet run operation smooth.
Demand of dollar decreases from open Forex market= rupee strengthens.
 So instead of going down to $1=54 Rs, now rupee will trade @$1=52Rs or lower
 Although it’s not that linear and immediate, takes some time for the laws of supply and
demand to show effects and then rupee will start strengthening again.
Current Account Deficit: How to Calculate
Balance of Payment
Is made up of two components 1. Current account and 2. Capital Account.
This article, deals with Current Account only.
Current account
It is made up of three parts.
 1. Balance of Trade
 2. Earning from Investment
 3.Cash Transfers
Part #1: Balance of trade
Since we are talking about India’s Current account, whatever money is incoming we take it as
positive (+) and whatever money is outgoing, we take it as Negative (-). For 2010-11
Goods and Services Worth (Million Dollars)
Export +299284
Import -381061
Total -81777
 →e got a negative number, therefore India has a trade “DEFICIT” of 81777 million US$
for year 2010-11. Call this figure (1)
 If we had got a positive number, we could say India had trade “SURPLUS”
 Unfortunately, we can never have “Surplus” because every-year we’ve to import crude
oil and gold worth billions of dollar and that disturbs the whole balance.
 Rajiv Gandhi Equity saving scheme was an initiative of Pranab, to make Indians reduce
gold-purchase and use that money to invest in capital market. But so far it seems to be
heading for #EPICFAIL. Reason: Target audience doesn’t have PAN cards and Demat
 Note: For the sake of simplicity, I’ve added + and – in front of incoming and outgoing
money and did the “total”. But technically it is called “net difference” between exports
and imports.
Part #2: Earning on Investment
 Foreigners invest their money in India (both FDI and FII), similarly Indians invest their
money abroad.
 On their investment, they earn income: interest rates / dividends etc.
 The amount of money actually invested, is put under Capital Account
 But the amount of income or interest earned on ^above investment, is put under “Current
 For example, An FII invests $100 on 8% Bond, therefore earns $8 in interest after one
year. The $100 are classified in Capital account and $8 are classified in Current Account.
 Take the difference of incoming and outgoing Earning on Investment for 2010-11 it was
-17309 Million US$… this figure (2)
 Question: why was it negative? Because more Foreigners invest in India compared to
Indians investing abroad. (we do invest ‘abroad’ but in Swiss bank accounts only :P).
Besides even if an Indian had invested in American or European market, he’d not have
recieved much income from the investment because of the global financial crisis during
that period.
Part #3: Cash Transfer
 The money transferred without exchanging any goods or services. For example an Indian
worker sending money from Dubai to his family in Kerala(Remittances)
 Some American nuclear powerplant company using a charity foundation to send
donations to Jholachhap NGOs of India, to help them finance the protests, dharnaa
pradarshan against Russian nuclear powerplants in India = that is also one type of
“service” offered by Indian NGOs but still “Donations” fall under “Cash transfers” and
not under the “Goods and services”
 Again take difference of incoming and outgoing money: thankfully this number was
positive for 2010-11: it was +53140 Million US$….call this figure (3)
 Why was it positive? Because so many Indian people work abroad and send money to
their families, that remittance is soooo high, that it skews to balance in positive direction
 Besides there are very few foreigners working in Indian and remitting money back home.
One of them was that Italian tourist-agent in Orrisa but he was kidnapped by naxalites
and went back to Italy so that is one less foreigner remitting money from India to abroad
= next year the “cash-transfer” of India will look even more positive!
Current Account Deficit

Simply do the addition of figure (1), (2) and (3)
2010-11 Worth US Million $
Balance of Trade -81777
Earning on Investment -17309
Cash Transfer 53140
Total -45946
Since we got a negative number, we call this Current Account Deficit (CAD): worth
45946 million US dollars.
1 billion = 100 million
10 lakh = 1 million
1 billion = 100 crores = 100 x 100 lakhs = 1000 x 10 lakh = 1000 million
1 billion = 1000 million
Hence, 1 Million = 1/1000 Billion
45946 million
= 45946 x (1/1000) billion
=45.9 billion $
Note: you’ll get different number on different website and sources based on their data-sources.
But 2010-11’s CAD was somewhere between 45-55 billion $.
Although absolute number by itself is not important for exams. Economy is not about absolute
numbers but context of those numbers.
The Invisibles
Theoretically, the CAD is calculated using above three figures: BoT + EI + CT
But in real life, many countries, including India uses a slightly modified method of CAD
Under the Current Account subheads, they classify money according to visibility of products.
Visible = import and exports of Goods (gems, petroleum, textiles etc)
Invisible involves
 Import and export of services (softwares, call centre, tourism, softwares, insurance etc.)
 Earning on investment (dividends, profits, interest etc.)
 Cash transfer (remittances, donations etc.)
^These three are classified under “invisible” because you don’t see any physical goods/products
moving around during the transaction.
So, take the balance (net difference) of visible
and take the balance (net difference) of invisibles.
Add them up and you get CAD.
Implications of Current Account Deficit
 As long as India continues to import to crude oil and gold, we cannot have Current
account Surplus
 That means we are doomed to have current account deficit for the years to come. So
Think about following questions:
 How does increase or decrease in CAD help us or harm us?
 Is CAD always bad?
 How can we reduce the Current Account Deficit?
 Ofcourse one solution is: ask the Naxalites to kidnap more and more foreign workers to
decrease the outbound remittances! That’d also reduce the foreign investment coming
into those naxal-affected regions = less outgoing money in “Earning from Investment” =
Current Account Deficit reduced! But is it good for the overall Indian economy? Think
about it!
FCCB: Foreign Currency Convertible Bonds
and FCCB Refinancing
Foreign Currency Convertible Bond (FCCB)
From the previous Debt + Equity article, you know there are two ways to finance a company
1. Debt ( Bonds)
2. Equity (Shares / IPOs )
What is a Foreign Currency Bond?
Example of a Bond:
Rs.1000, 8%, 2023.
It means, You give me Rs.1000, I give you that “Bond-paper”
Until 2023, each year I shall pay you Rs.80 as interest and on maturity (2023), I’ll pay you the
principal (Rs.1000).
This is a bond in Indian currency, with both principal and interest is paid in Rupees.
But what if any Indian company wants to sell bonds to Americans?
$100, 8%, 2023.
Here both principal and interest will be paid in American currency.
This is an example of Foreign Currency Bond.
It is a bond issued by an Indian company expressed in foreign currency, the principal and interest
of which is payable in foreign currency.
What is Convertible Bond?
Again two ways to finance a company : Debt + Equity.
Consider this bond
Rs.1000, 8%, 2023. Convertible to 100 shares after 5 years.
It means, for the first five years, you continue to receive interest payment of Rs.80, each year.
But on the fifth year or after that, you can give this bond back to the company and receive 100
shares (equity) in lieu of your bond.
Think of the pros and cons
From Investors point of view:
 If the shares are selling @higher price. I can exchange my bond for those shares and sell
them in market. In that situation, I should get my bond converted into shares.
From Company’s point of view
 If the bond is converted into share, I don’t have to make regular interest rate payment, nor
I’ve to give back the Principal Rs.1000.
 Less bonds = less debt. This is good for reducing Debt : Equity Ratio. (more explained in
previous “Rights issue of Shares” article)

Foreign Currency + Convertible Bond
Combine above two features in one bond.
 Issue the bond in foreign currency; promise to pay the interest and principal in foreign
 Promise the investor to convert the bond into equity after a fixed date.
When you issue a bond having both of above features, it is called FCCB (Foreign currency
convertible Bond). FCCB started in 1993.
FCCB Refinancing
In crude terms, it means you take a new loan, to repay previous loan!
During the IT-boom period, Many Indian companies took funds from Foreigners using FCCB
bonds. At that time the picture was rosy good and the Indian businessmen had thought, they’ll be
able to repay the interest and in most cases, the foreign investor will get the bond converted into
equity so we won’t have to pay back the principal!
Problem: Foreign investors did not convert their bonds into equity, may be because of the dismal
economy-scenario both in India and abroad.
For example:
I’ve following FCCB of Company xyz
$1000, 8%, 2025, 100 shares after 5 years.
Let us do some aptitude
In 5 years, I earn 8% x 1000 x 5 years =$400 in interest payment.
Now this Indian company offers to convert the bonds into equity of 100 shares.
But the shares of this company are trading @ Rs.150 per share. That is roughly $3.
Means I get $3 per sharex 100 shares = $300 worth of shares.
Even if I sell it in market, I can recover only $300.
How much I make ?
$400 already earned in interest + $300 via shares = $700.
But my initial investment is $1000.
Besides, this stupid company pays very low dividends and my financial advisors tell me that in
future also, its share price of dividend is not going to increase much.
In this scenario, I’m not in a mood to convert my FCCB bond into that Indian company’s shares.
Because as long as I’ve the FCCB in bond form, I continue to receive interest and claim the
Think it this way, from investor’s point of view
If the time is uncertain, where will you invest money: in Debt or in Equity?
Ofcourse in debt because you get assured return on investment.
Why in News?
The current RBI-norms mandate if a company wants to pre-pay FCCBs via fresh foreign loans or
bonds, the new paper must be of longer maturity and carry a lower interest rate than the existing.
For example,
You’ve to repay FCCB of 1000,8%,2025, but you don’t have enough money so you want to
issue another bond to get money and payback this loan.
But You can issue new bond of lower interest rate and longer maturity only, for example
Rs.1000,7%,2030 only.
But unless a higher interest rate is offered, the new investors may not be willing to put in
money. (Recall the junk bond example.)
Therefore Indian corporates are asking RBI to reduce limits on pricing and maturity.
Consider following crisis of Suzlon.

FCCB Problem of Suzlon
Suzlon is a famous wind turbine maker company promoted by Mr.Tulsi Tanti.
Few years back, Suzlon had raised $600 million or Rs 3,000 crore through Foreign Currency
Convertible Bonds (FCCB). The Maturity date is in July 2012. i.e. Suzlon has to repay the
principal of Rs.3000 to those FCCB bond holders.
But according to market sources, The company is not in a good financial position, thanks to the
global financial crisis. Reason-
1. Wind-turbine orders from Europe and American clients have declined and
2. one of the biggest clinet Edison Mission, is not paying the dues in previous orders.)
So, currently, it is outside Suzlon’s aukaat to pay back more than Rs.2250 crores.
Therefore 3000-2250=Rs.750 crore have to be arranged.
Weakening of Rupee currency only adds insult to the injury.
Because in FCCB, both principal and interest have to be paid in foreign currency.
So if 1$=50 Rs., that was well and good but right now 1$= around 54 Rs. Means company has to
get even more Rupees to repay these FCCB bonds.
So, Suzlon is in talks with bondholders e.g.
1. (offering to Bondholder) : Bhaiyaa instead of 100 shares, I offer you 200 shares. But
please convert your FCCB into equity.
If the bondholder agrees, it is well and good but problem: Tulsi Tanti’s shareholding will decline
from 53% to 50%. As you can understand, shareholding less than 50%= Not a good idea Sir-ji.
Just like running a coalition Government with Mamatha Benerjee.
2. Suzlon is also thinking of selling a subsidiary company called “SE Forge”
Again problem: SE forge will not sell for more than 300 Crores, While Suzlon needs Rs.750
3. Issue a new FCCB bond, to repay the previous FCCB Bond.
Exchange Earner’s Foreign Currency
(EEFC) Account
What is EEFC?
Indian People who earn in foreign currency (Exporters, big companies etc), can open the
Exchange Earner's Foreign Currency (EEFC) Account in a Bank and deposit their foreign
currency in it.
Where can I open EEFC?
ICICI, Bank of Baroda and other banks.
Difference between FCNR vs EEFC
Recall the FCNR = NRIs can deposit foreign currency in Indian bank.
EEFC= Indian Exporters can deposit foreign currency in Indian bank.
Why is EEFC called current Account?
EEFC = Current Bank account in Foreign Currency.
Just like a normal “Current Account”, Banks donot give interest on EEFC deposits.
EEFC= No interest paid by Bank!
Yep, The million dollar question is: If Bank doesn’t give any interest on your EEFC deposit, then
what’s the purpose of opening such account?
You import steel from china, assemble bicycle in India and export it to France.
From France you receive Euro and to China, you’ve to pay in Yuan.
Suppse you’ve only a normal bank account, you can only deposit money in Rupees. So first
you’ve to convert those Euros into Rupees, (Forex agent will charge Commission), deposit
Rupee money in your savings account. But just after 10 days, you’ve to pay to Chinese exporters
in Yuan. So again take out Rupee money, convert it in Yuan (Forex agent again charges
Commission.) + so much paper-work.
The only guy benefitting here is the Forex dealer because you’re not earning enough interest and
paying more to him in Commission.
The EEFC account comes handy. You can deposit whatever amount of Euros you received from
France (100% amount) into this EEFC account. And later as and when you need, you take out
the Euros and convert them into desired currency.
Q. In EEFC Account, can somebody hold multiple currency like Dollar, Pound, sterling, Yuan or
he is allowed only for a single foreign currency. (by Pradeep)
Ans: One is required to have multiple EEFC accts for multiple currencies. So, if some exporter
has transaction in EUROs and Yuans, he has to have two EEFC accts i.e EEFC (EURO) and
EEFC (Yuan) (By Nitesh Macwan)
Why EEFC in News? RBI’s new guidelines
Same reason why FCNR was in news! =The declining value of Rupee.
This week, 1$= 53.82 Rs.
RBI wanted to stop the downfall of rupee any further so, Governor issued notification.
It made two new rules.

Rule #1: use your own forex damnit!
Exporters are permitted to buy foreign exchange only when they have completely utilized the
foreign currency in their EEFC accounts.
But why?
Ans. To reduce currency speculation.
For example, my finance expert tells me that I should hold on to my dollars in my EEFC for a
month, because afterwards, dollar is likely to strengthen. (example 1$=50 to 1$=55)
Therefore, at the moment I’m not interested in using any dollars from my EEFC account, I just
kept the “stash” aside. And I buy new dollars from forex market using rupee currency, to make
payments for my business (instead of utilizing my own dollars already stored in my own EEFC.)
This unnecessarily decreases the supply of dollars. (because people don’t use their dollars, they
just keep buying new from others) = demand of dollars even increase = rupee weakens even
Therefore New RBI rule: Exporters are permitted to buy foreign exchange only when they have
completely utilized the foreign currency in their EEFC accounts.
Rule 2: Sell 50% Forex from your account.
Another rule made by RBI: whatever foreign currency I’ve in my EEFC account, 50% of it, will
be automatically sold and converted into rupee and saved back in my EEFC account.
I’ve to compulsorily surrender 50 per cent my foreign currency from my EEFC, for conversion
to rupee balances.
Result: Since I’m forced to sell my foreign currency from my EEFC account= the supply of
dollar / pound and other foreign currencies will increase in the market.
Their price go down (example from 1$=55 Rs. To 1$=50 rs.) = Rupee strengthens.
Vodafone Essar Case: Capital Gains Tax
Meaning, Reasons, Timeline, Implications,
Before venturing into ↑odafone Essar Court Case, Let’s start with the basics
Some information may be technically incorrect / outdated. This article is for illustration and
understanding purpose only and not for writing the actual answers in your exam.
Two type of taxes.
Indirect tax
is paid by rich and poor alike, on the purchase of goods and services. Sale tax, excise duty,
custom duty, entertainment tax and examples of indirect tax.
Direct tax
Is paid by middle class and rich men on their income and property. Income tax, corporate tax,
Wealth tax, capital gains tax, are examples of direct tax.
Direct taxes collected by the income tax department.
What is capital gains tax?
First, What is capital?
 Capital is something that generates income for you. It can be a building, it can be a
rickshaw, it can be a truck, it can be printing press machinery.
 When you sell these capital assets, and IF you make profit (gain), then you have to pay
tax. This tax is known as capital gains tax.
There are two types of capital gains tax.
 Short-term capital gains tax, if you owned that asset for less than 36 months, before
selling it.
 Long-term capital gains tax, if you owned that asset for more than 36 months before
selling it.
Do Shares of a company also come under Capital Gains tax?
Yes Shares of a company also come under Capital Gains Tax. And there is different ‘time-frame’
for them.
 Short-term capital gains tax, if you owned those shares for less than 12 months, before
selling it.
 Long-term capital gains tax, if you owned those shares for more than 12 months before
selling it.
Who pays the Capital Gains Tax?
Who is to pay CGT? The seller or the buyer?
 Suppose I own a shopping mall building worth Rs.1 crore and
 I sell it to you for Rs.2 crores, and thus I made the profit (Gains) of Rs. 1 crore and I have
to pay Rs.10 lakh to the government as capital gains tax. Now the convention is that I
(the seller) don’t actually pay Rs.10 lakh by myself
 Instead of that, you just give me only Rs.1 crore 90 lakhs. And keep aside 10 lakh rupees.
 Then, you (the buyer) will pay the 10 lakh rupee to the Government on my behalf. (Thus
you purchased the mall for Rs.2 crore).
 This is the concept of Tax Deduction @Source (TDS)
So in the case of Vodafone: indeed Hutchison was the seller so he has to pay the Capital gains
tax but he doesn’t ‘actually’ pay it. It is for the Vodafone (buyer) to deduct that tax money from
his payment and give the tax to Indian Government. That’s why IT Department harasses
Vodafone and not the Hutch.
Now coming to the Vodafone Essar case
Players in the Vodafone Case

Vodafone UK based Telecom company.
Hutch Hong-Kong based company.
Hutchison Essar Ltd.
India based company
CGP Investments
Holdings Ltd
Cayman Island based company, has 67% stakes in Hutch-Essar India.
CGP itself is owned by Hutch, Hong Kong.
Income Tax dept. India based *insert whatever word you want*
Innocent Bystanders You and I, because we’ve to prepare such topics for competitive exams.
Timeline of Events
December 2006: Hong Kong
Hutchison Telecommunication International Ltd (HTIL) Boss: My Indian arm “Hutchison
Essar Limited (HEL)” is not making good money. I want to quit from India.
(To his Secretary ) as you know, I own CGP Investments Holdings Ltd, located in Cayman. And
CGP holds 67% in HEL (India). So, just make an announcement that I want to sell CGP and start
talking with prospective buyers.
Secretary: but why all this complex procedure?
HTIL boss: oh come on man, don’t you know that Cayman Island is a Tax Haven. They don’t
have Capital Gains Tax! Better we sell via Cayman route and we’ll save a truckload of ca$h in
February 2007, London
Vodafone (UK) Boss: (To his Netherland subsidiary manager) Take these suitcase full of 11
billion US Dollars, go to Cayman Island, buy that CGP holdings Ltd. From HTIL (Hong Kong)
and give me “miss call” when the deal is finished.
March 2007, Mumbai
Income Tax Commissioner’s Office.
Minister (on Phone): Mast bakraa haath mein aayaa hai ( !). Send a
notice to Vodaphone, ask them to pay Rs. 12000 crores under capital gains tax because they
purchased an Indian Company HEL (Hutch Essar Ltd) for 11 billion dollars!
IT Commissioner: Sir, may I humbly point it out that It is a common practice among
multinational companies (MNCs) to establish such SPV (Special purpose vehicles/ flimsy
companies) in Tax havens of Mauritius / Cayman Island.
And then those flimsy companies (SPV) such as CEG Ltd., buy shares of an Indian company
→hen the MNC wishes to sell or acquire an Indian company, they don’t directly come and buy in
India, they simply purchase or sell the shares of these flimsy companies in Cayman’s Island
because the transfer of shares of an SPV outside India, is not taxable in India. And Cayman
Island itself has very negligible tax rates. It is a win win situation for them.
And This is not the first case, there have been truckload of merger and acquisitions like this, in
past and we’ve never sent any notice to any such company because this matter is outside my
Jurisdiction, sir.
Minister: Betaa, don’t give me this “GYAN” (), get me some “CASH” ! I’ve to give
Rs.71,000 crores in debt-waiver scheme to farmers in 2008 to win the General elections.
 We are already giving billions of rupees in subsidies on diesel, LPG, Kerosene,
 →e’ve to pay crores of rupees to Government employees under 6th Pay Commission.
 →e’re running Development schemes like MNREGA (Rs.40,000 crores a year), and in
future we are thinking of starting Food security Act (2 lakh crores a year). Where is the
money to pay for all this?
 I’ve to give crores to that loss-making Air India.
 I’ve to pay Rs.28000 crores Common Wealth games arrangement.
 All these things requires huge huge huge cash, man. Money doesn’t fall from sky. →e
cannot tax the aam-aadmi beyond a level and
 →e couldn’t get decent money from sale of 2G spectrum, or coal mines auction
 Reliance isn’t paying much from KG Basin gas exploration.
 Don’t you understand? →e’ve to find new ‘sources’ of income. ↑odafone is a good
“bakraa”. Let’s rip him apart.
 Then we use it to create bogus Developmental schemes, siphon off the money and use it
to fight election. This shall help us get absolute majority in Bihar and Uttar Pradesh
because Public of UP and Bihar is so Gullible they will vote for anyone who tells them ki
“hum aap ke liye Delhi se paisa bhejte hai!( !)
IT Commissioner: as you wish. I’ve sent the notice to HEL (India).
Minister: Mogembo khush hua. (

HEL(India) Boss: (To IT Commissioner) Why the hell are you sending notice to me? I am not a
party to any of this! Don’t you see I’m getting ‘sold’ here. Ask the buyer ↑odafone of UK or the
seller Hutch of Hongkong about your Capital gains tax!
In the mean time
Vodafone International boss: (To HEL Boss): I’ve purchased majority shares of your
company. You shall take my name like an obedient wife. From this day on, you shall be known
as VEL (Vodafone Essar Limited) and not HEL (Hutchison Essar limited).
HEL boss: as you wish my lord. Mr. HEL transforms into Mr.VEL.
IT Commissioner: caught you now! Mr.↑EL, you’re the Indian agent of ↑odafone, now you
pay the capital gains tax or I’ll start your ragging worst than that in B.J.Medical College,
Vodafone files appeals in Bombay highcourt and supreme-court, stay orders here and there,
sometimes victory sometimes defeat
Fast-forward to
Sept 2010
Bombay HC: Yes IT Department is right. Mr. ↑odafone you’ve to pay the Capital Gains Tax.
Mr.Vodafone: I’ll go to supreme court.
Leftist Media: Shame shame. You’re going to Supreme Court!! →e are going to report this as in
such a tone as if you’re the main culprit here and doing something immoral.
Mr.Vodafone: When the kinds of Shibu Soren, Sanjay Dutt and Vikas Yadav can goto Supreme
court, why can’t I? Saving tax is a legal activity. I’ve done nothing wrong. I’m the innocent
bystander here. You don’t have the guts to cover blackmoney issue until Anna Hazare and Baba
Ramdev raised it, but just because I’m a rich MNC company I must be the bad guy, right? All
you mediawalla want, is money to keep your mouth shut.
Aug-Oct 2011
Location: Supreme Court, Delhi
IT Commissioner: Your Honor, this Mr.Vodafone here, has purchased ownership of an Indian
mobile company called HEL (Hutch Essar Limited) for USD 11 billion and now he is not giving
me Rs.12,000 crores as Capital Gains tax.
Mr.Vodafone: Get your facts right Commissioner Gordon. Please see this diagram again.

Long thing cut short, I purchased a Cayman Island company from Hutch Hongkong. Now this
Cayman Island company happens to have 67% shares of Hutch Essar ltd (HEL, India), and thus I
only have “Shares” of HEL. I did not purchase any assets like trucks, buildings or mobile towers
from the HEL (India) itself. So where is the capital and where are the gains?
IT commissioner: No that is incorrect. Capital Gains tax applies!! Because You gained Assets
of an Indian company.
Gurmeet (from court viewers): This is utter nonsense. If today you buy 10% of the shares of a
particular company, let us say Jet Airways, does this mean that you automatically own 10% of all
of Jet Airways’ assets? Does this mean that 10% of the entire fleet of aircraft now belongs to
you? By buying out a company that holds 67% of HEL, it doesn’t mean that Vodafone now owns
67% of the assets of HEL. Those assets continue to belong to HEL, which is a separate legal
entity based in India. Read the Company law, Damnit. Because there has been no transfer of
assets, there has been no capital gain.
Judge: order, order.
Mr. Vodafone: Yes your honor, there is a difference between the sale of shares in a company
and the sale of assets of that company. It is an elementary principle of company law that
ownership of shares in a company does not mean ownership of the assets of the company. Thus,
an individual who owns 45 per cent share capital does not own 45 of that company’s assets. The
assets belong to that company which is a separate legal entity. So I have not received any ‘capital
asset’ from the Indian company. I cannot be taxed for capital gains!
IT commissioner: ya But still, you purchased the shares of a company. According to Indian
law, capital gains tax applies to sell of shares!
Mr.Vodafone: Agreed that a person has to pay Capital gains tax on the sell of shares according
to Indian Income tax act. But This share-purchase took place in Cayman’s island, between two
Non-Indian companies. They don’t have any capital gains tax there. So how come you hold me
responsible for paying Capital Gains Tax in India? You don’t have any jurisdiction over this
matter! And If this is your logic, why didn’t you arrest Sunny Leone when she came to
participate in Big Boss season #5? She is a porn actress, and watching porn is illegal in India
(except for Karnataka MLAs). But you cannot arrest Sunny Leone in India, because you don’t
have jurisdiction over her activities in America. It is completely legal to shoot porn in California
State of USA. So why this Kolaveri Di with me?
T.V. SIVAKUMARAN (from Court audience): Let me give another simpler illustration. ICICI
Bank shares are listed in the US Stock exchange. As a US citizen, I own some shares. If I sell
them and make a profit, should I be made liable to pay Capital Gains Tax in India, U.K. and
other countries, where ICICI Bank holds Assets?
Judge: order, order.
IT Commissioner: umm…well….ahhh… oh yes, you and Hutchison International, have
intentionally conspired to make this deal in Cayman’s Island. Because it is a tax haven. Because
Cayman island doesn’t have capital gains tax. You guys are very smart, you intentionally create
such flimsy companies in Tax havens, and then make merger and acquisitions to avoid as much
tax as possible. You’re not the only culprit; plenty of Indian companies are doing the same thing.
[But since you’re a big ‘bakraa’ worth Rs.12000 crores we’ve special interest in you]
Mr. Vodafone: of course. Why not? It is a completely legal activity to save tax through legal
means. →hat’s wrong in that? Blame it to your outdated laws and tax-treaties. If a drunk rich brat
kills 15 people in drunk driving, he still gets out of jail on bail, thanks to your outdated laws So
who is to blame? The drunkard or the Government?
Yes we save taxes by running the show through tax havens in Mauritius and Caymand island, but
you cannot ignore the enormous employment generated because of me. See how many people
got jobs in Vodafone outlets and the substantial increase in excise duty, sales tax and other
duties. Not to mention all those people who got jobs, they also pay income tax, they go out
purchase homes, automobiles, perfumes and skin whitening creams and what about that indirect
employment generated in those industries?
You cry about the puny 12000 crores in capital gains, what about the million dollar happiness in
the lives of all those people benefitted directly or indirectly because of my entrepreneurship?.
January 2012
Landmark Judgment of Supreme court
Saare sabuto aur gawaaho ko madde nazar rakhte hue, ye adalat iss natije par pahuchi hai ki

, इ

 Indian authorities do not have jurisdiction on an overseas transaction.
 Certainly and stability form the basic foundation of any fiscal system. Tax policy
certainty is crucial for taxpayers (including foreign investors) to make rational economic
choices in the most efficient manner
 This offshore transaction evidences participative investment in India and not a sham.
 The demand of nearly 12,000 crore by way of capital gains tax, in my view, would
amount to imposing capital punishment for capital investment since it lacks authority of
law and therefore stands squashed.
Location: Finance minister’s Office, Delhi
There is pindrop silence in the office. Babus are not even playing that “Solitaire/Hearts” card-
game in their Windows 98 computers.
Some of them are busy in toilet, actually leaking information about ‘possible future-moves of
their minister’ to their journalist friends in TimesNow, via SMS from their Antique Nokia-1100
mobile phones.
Minister (entering the Office) : Itnaa Sannaataa kyo hai bhai? (इ ?)
IT Commissioner: Because We have suffered a humiliating defeat in Supreme court, in that
Vodafone case.
Minister: You mean as humiliating as Team India’s defeat in Austrialian test-matches?
IT Commissioner: Well, not *that* humiliating, but still very humiliating.
Minister: I cannot let this matter go. Rs. 12000 crores is not a small amount! I’ve Gujarat
Assembly elections ahead, I need the ca$h! Gang up the best tax-lawyers, study the judgement
and File a review petition in Supreme Court again!
March 2012
Supreme court rejects the review petition.
Those Best Tax-lawyers demand lakhs of rupees as consultation fees from Government of India.
IT Commissioner (to self): Khaayaa piyaa kucchh nahi, glass fodaa…. (

Budget 2012
Minister (announcing in Parliament): I propose an amendments in the Income Tax Act with
retrospective effect from 1962 so that all persons, whether residents or non-residents, having
business connection in India, will have to deduct tax at source and pay it to the government
even if the deal is executed on a foreign soil!
→ith this ‘move’, I’m trying to get around the court’s decision which said that
the government cannot tax a deal between two foreign entities, even if the transaction includes an
Indian asset.
Our party has ‘history’ of trying to outsmart judiciary, whether it was Shah Bano case or 42

Constitutional amendment or….
Random MP: (putting his i-pad aside) →hat does this “retrospective effect” mean?
Peon: Retrospective effect means if Government passes such law in 2012, still the past deals
between companies made in 2007 can be taxed. Only Civil laws can be made with retrospective
effect. But criminal laws cannot be made with retrospective effect.
Random MP: Elaborate
Peon: Criminal law cannot be made with retrospective effect, meaning if in 2012, Government
passes a law that mobile phone thieves will get life time imprisonment, then only those thieves
who’re caught in 2012, after the commencement of that law, will be jailed for lifetime.
But, If a thief stole the mobile phone in 2007, he cannot be given lifetime imprisonment, he has
to be tried under the punishment provision that were in effect during that time. On same logic,
people are still languishing in jail under TADA and POTA cases, even though those acts are
scrapped now.
Random MP:That means I must hurry and do as much corruption as I can, before that Lokpal
thing comes in effect, Whaat an idea Sir-ji.
Outside Parliament
Salman to Media: Right now we only know that it is a unanimous judgement that has gone
against the revenue authorities… →e have to examine. →e obviously need revenue for the
government’s important programmes.
Anand: Just like the Govt insists on tax revenue, even when the supreme court dismissed their
we citizens need to insist that the revenue is spent wisely by the Govt on the welfare of its
The extra tax revenue that the govt would have got from Vodafone would not benefit any citizen.
Instead 90% of the money would find their way into the pockets of our politicians,
while the rest is frittered away as salaries for a burgeoning bureaucracy.
Demo Question for CSAT
Which of the following statements are true?
 Capital Gains tax is a type of Indirect tax
 There are three types of Capital Gains tax in India: Short term, Medium term and Long
 Central Excise Department looks after collection of Capital Gains Tax
 Direct Tax Code 2010, has no provisions about Capital Gains Tax.
Calculating Income Tax, Tax Exemption vs
Tax Deduction, Rajiv Gandhi Equity Saving
You may have read this statement in newspaper, tv-channels.
Rajiv Gandhi Equity Saving Scheme (RGESS) will give maximum benefit of Rs. 5,000 in tax-
→hat does it mean? Before we can talk about that, let’s see the basics of Income Tax calculation,
Exemption and Tax Deduction.
What are the Income tax slabs in Budget
You know about this already:
Income tax slab (in Rs.) Tax
0 to 2,00,000 No tax
2,00,001 to 5,00,000 10%
5,00,001 to 10,00,000 20%
Above 10,00,000 30%
(We are skipping senior citizen provisions)
Time for a very simple question:
if your income is Rs.15 lakhs, how much income tax do you have to pay?
15 lakhs is above Rs.10 lakhs, so you fall in 30% income tax slab.
30% of 15 lakhs equals to 4.5 lakhs income tax.
Sorry 4.5 lakhs is Incorrect Answer. Infact you’re income tax will be quite less than Rs.4.5
Because income tax is not calculated like that.
Then how to calculate income tax?
Suitcase approach
Imagine there are four suitcases labeled one, two, three, four.
You have to fill up each suitcase with your cash.
But there are some conditions
 you have to fill these suitcases in serial order: 1,2,3 then 4
 First suitcase can contain maximum two lakh rupees only. Once it is fully packed, you
move to the next suitcase.
 Second suitcase can hold maximum three lakh rupees
 Third suitcase can contain maximum five lakh rupees
 Fourth suitcase can contain any amount of money. No maximum limit.
Step #1: Distribute money in suitcases
Now start distributing your 15 lakh rupees into these four suitcases
suitcase number Money packed
One 2,00,000
Two 3,00,000
Three 5,00,000
Four 5,00,000
Total 15 lakhs
Step #2: Make a new column and apply those four tax slabs
suitcase number Money packed Tax slab
One 2,00,000 0%
Two 3,00,000 10%
Three 5,00,000 20%
Four 5,00,000 30%
Total 15 lakhs –
Step #3: Calculate the income tax to be paid for each suitcase
suitcase number Money packed Tax slab Tax to be paid
One 2,00,000 0% Zero
Two 3,00,000 10% 30,000
Three 5,00,000 20% 1,00,000
Four 5,00,000 30% 1,50,000
Total 15 lakhs – 2,80,000
The total sum of income tax on all four suitcases =2,80,000 lakhs
So, if your income is 15 lakhs, you have to pay 2.8 lakhs as income tax.
But we forgot some important things: educational cess, tax exemption, tax deduction.

3% educational cess
Cess means tax on the tax.
Union budget 2012, has provision of 3% educational cess.
Meaning 3% of 2.8 lakhs, equal to Rs.8400
Hence the total income-tax that you to pay = 2.8 lakhs +8400= Rs.2,88,400
Now time for two most important parts in the income tax calculation.
What is the difference between Tax
exemption and tax deduction?
#1: Tax exemption
Income tax= the tax on your “income”, but you don’t have to pay income tax on certain type of
income. For example
Policemen and Army jawans get uniform maintenance allowance: Suppose Rs.1000 to wash and
iron their uniforms and to polish their boots every month.
Rs.1000 every month multiplied with 12 months equals to Rs.12,000 every year, apart from the
regular salary.
But Budget-2012 says this Uniform Allowance income is exempted from taxation.
So, If an army jawan earns Rs. 2,12,000, then his taxable income is
2 lakhs minus Rs. 12000 exempted= Rs. 2,00,000.
Now calculate his income tax on Rs. 200,000 based on our “suitcase approach”. (ans. Zero tax,
because Cash finished at first suitcase.)
Crux: Tax exemption is given on INCOME.
#2: tax deduction
If you spend your income on certain activities, you won’t have to pay income tax on that much
amount of your income.
E.g.50% deduction, if you invest in Rajiv Gandhi Equity Savings Scheme. (RGESS)
Suppose you earn nine lakh rupees a year and invest Rs.20,000 in RGESS,
Thus , your taxable income
= nine lakh rupees minus 50% of Rs.20,000 (invested in RGESS)
= 9 lakhs-10,000
= Rs. 8,90,000
Now calculate the income tax on Rs.8,90,000 using our suitcase approach.
Crux: Tax Deduction is given on SPENDING

Union budget 2012: provisions of Tax
Deduction and Tax Exemption
Here are a few examples.
Note: I’m not filling up the minute details and you don’t have to mug this list.
Tax Exemption (on INCOME /
Tax Deduction (on SPENDING)
 Transport / Conveyance
 Child education allowence
 Leave travel allowance (LTA)
 Medical Allowance
 Uniform / Dress allowance
 Gift from relatives
 Agricultural income
 House Rent income
 Rajiv Gandhi Equity Saving scheme.
 Tax saving mutual funds (ELSS)
 Five year tax-saver bank Fixed deposits
 Public provident fund (PPF)
 National Savings Certificate (NSC) or
 National Service Scheme (NSS)
 Employer contribution into New Pension Scheme
 Life insurance/Unit Linked Insurance Plan
(ULIP) premium
 Employee’s contribution towards Employee
provident fund (EPF)
 Home loan principal amount payment.
 Post office tax saving deposit or tax saving bonds
 Pension scheme/Retirement plans (Secion
 Tuition fees paid for children education
 Medical Treatment of family (upto Rs.40k)
What is Tax-Planning?
It means use of Tax-Exemption and Tax-Deduction provisions in such a way that you can save
maximum amount of tax.
Who is Tax-Adviser / Tax-Consultant?
 These are extremely knowledgeable and experienced Chartered Accountants, MBA and
Tax Lawyers.
 They make customized tax-saving plans according to your requirements.
 Big players in Tax Consulting = Ernst & Young, KPMG, Price waterhouse Coopers
 Recall that ↑odafone Essar deal: Saving Capital Gains tax in Caymen’s Island. These Big
Players help in such huge tax-saving deals.
Black Money and Agro-Income
 In above table, you can see that Agriculture income is ‘exempted’ from income-tax.
 Lot of film stars forge documents and show they own ‘farm-lands’ and they’re ‘farmers’.
 Game is simple. They take 5 crores from film producers or 50 lakhs to dance in Dubai.
 But on paper they show only few lakhs as ‘legit payment received’ and pay income tax
on that part only.
 Remaining money is shown as ‘income from that agricultural land’ and thus totally
exempted from income-tax.
 So this is also one type of ‘Tax-Planning‘, just illegal.
 Black money = income on which tax is not paid.
Coming back to the opening sentence of this article:
How does RGESS save Rs.5000 In Tax?
You already know the main provisions of Rajiv Gandhi Equity saving scheme
 Only first-time investors, with annual income less than Rs.10 lakh can invest in the
 One person can invest maximum Rs.50,000 only
Ya but still how is Rs.5000/- saved? You’ve to compare two cases to find that out.
Case #1: don’t invest in RGESS
Your income is Rs.9 lakhs, and you don’t invest in RGESS and don’t get any other tax deduction
or tax exemptions.
The total taxable income is Rs. 9 lakhs.
suitcase number Money packed Tax slab Tax to be paid
One 2,00,000 0% Zero
Two 3,00,000 10% 30,000
Three 4,00,000 20% 80,000
Four 0 30% 0
Total 9 lakhs – 1,10,000
Thus, in case#1: you’re paying Rs. 1.1 lakh as income tax
Case #2: investment maximum in RGESS
Your income is Rs.9 lakhs, and you invest to the maximum limit (Rs.50,000/-).
Thus, the taxable income is
= Rs. 9 lakhs minus 50% of Rs.50,000 ;because RGESS gives 50% Deduction.
=9 lakhs – 25,000
=Rs. 8,75,000
Now calculate income tax for Rs.8,75,000 using same suitcase approach
suitcase number Money packed Tax slab Tax to be paid
One 200000 0 0
Two 300000 10 30000
Three 375000 20 75000
Four 0 30 0
Total 875000 105000
Thus, in case#2, you pay 1,05,000 as income tax.
Difference between Case #1 minus Case #2
=1,10,000 minus 1,05,000
= Rs. 5,000
Therefore all the newspapers, magazines and TV channels shout all the time that you’ll save
Rs.5,000 by investing in RGESS. But here is a ‘fine-print’.
This Rs.5000-magic works only if you fall under the 20% tax slab.
If your income is rupees two lakhs and you invest Rs.50,000 in RGESS, you will not save any
tax. Why? Because you fall in zero% tax slab. Your annual are not taxable in the first place!
Similarly, if you are in the 10% tax slab, you will get different answers.
(No, they’ll not ask this in your exam, this is only for brain exercise)
Calculate the maximum possible tax saving with RGESS, if your annual income is Rs.4 lakhs.
Shortcut tip:
You can get max deduction of 25,000 (that is 50% Deduction of Rs.50000 invested in RGESS)
And your given income 4 lakhs fall under 10%.
So, 10% of 25,000=Rs.2500 saved in tax.
Why does this shortcut method work? Think about it.
Anyways, whether you can save 5000 or 7000 that is not the important question for UPSC, IBPS
(Bank PO) or MBA admission interviews.
The important questions are following
 Why did Pranab come up with Rajiv Gandhi Equity saving scheme?
 Why are only first-time investors allowed to save money in the scheme?
 Why is Pranab not allowing people with annual income of Rs.10 lakh or above, to invest
in this scheme?
 →hy did Pranab say “this move will improve the depth of domestic capital market?”
 What is No-Frills demat account and why is Pranab talking about it?
 If you were in place of Pranab, How will you design the Tax Exemptions and Tax
Deductions for the Aam-Aadmi and how will you help the Indian Economy?
Bretton Woods: Fixed Exchange Rate system:
Meaning Implications Explained
While reading newspaper columns about global economy or Eurozone crisis etc. you may have
come across a sentence, multiple times :
“we need another Bretton woods.”
What is Bretton Woods?
It’s a place in New Hampshire State of USA, just like BASEL is a city in Switzerland.
Why is important?
 In 1944, President Roosevelt hosted a conference here, to rebuild the world economy,
after Second World War.
Delegates of 44 allied nations ( ) had came to participate in this conference.
 Officially it is known as United Nations Monetary and Financial Conference,
commonly known as Bretton Woods because of the place where it was held.
 This conference resulted into creation of four extremely important things
Result of Bretton Woods
 1. IMF
o They give short-term loans to help nations settle the balance of payment crisis.
o They’ve a system called “SDR” :Special Drawing rights. (requires another article)
 2. World Bank
o Officially known as IBRD :International bank for reconstruction and
Development, that time
o They give long term soft loans to rebuild the third world.
o Soft loans= interest rate is very low. Sometimes you don’t have to pay back the
 3. GATT (General Agreement on Trade and Tarrif) – later becomes WTO
o To facilitate the international trade.
o This will later become WTO. Already written an article on this.
 4. Fixed Exchange Rate system. (although Discarded in 1970s)
o Explained in this same article.
Main Players in this meeting
 Total 44 nations participated, but Main players were:
 US President Franklin D Roosevelt
o US Treasury’s Harry Dexter →hite
 UK Prime Minister Winston Churchill
o Lord John Maynard Keynes, Famous economist, UK treasury advisor
India @Bretton Woods
 Absent from the meeting: Mohan, Montek, Pranab, Chindu and Subba (good grief else
they’d have messed up International Economy, just like they did to Indian Economy.)
 India was represented by Sir C.D. Deshmukh, he was the first Indian Governor of RBI,
This gentleman had cracked IAS exam in British-raj ,known as ICS exam in those days.
And No, he is not the grandfather of Ritesh Deshmukh.
Back to the topic,
Impact of World War II on Economy
 Second world war started in 1939, ended in 1945
 There is large scale bombing and destruction in the world. Production has declined, there
is huge inflation.
 Agriculture, Dairy, Manufacturing, Export- everything is brought to standstill.
Agenda of conference
 Help rebuilt the World Economy. Provide money, loan, finance to needy nations. (World
 After →→2, lot of colonies will get independence (India, Sri Lanka…), they’ll introduce
their own national currencies without control of big superpowers (Britain) and they’ll
enter in international trade in their own capacity.(Exchange rates, IMF)
 Hence, Some order had to be created to facilitate smooth international trade. (GATT)
Fixed Exchange Rate system.
What is Fixed Exchange Rate System?
 Under this system, if RBI says $1=30 rupees, and you’ve 30 rupees and want to convert
it in dollars but the Foreigners are willing to give 1 dollar to you…don’t worry.
 RBI will accept your 30 rupees and give your one dollar out of its own reserve and vice
 Cons are obvious : When India is not exporting enough and not attractive enough foreign
investment (in dollars) and still RBI keeps paying people in dollars, one day the bank
lockers will be empty, there will be no dollars to pay. System will collapse.
 But it has Pros (advantages) in the times of uncertainty- →hen you’re writing on a clean
slate, after WW2, if every nation decides to have a fixed exchange rate system- it leads to
stability and predictability in Exchange rates = good for foreign trade.
Roosevelt Vs Mohan: Pegging the Currencies
(Fictional, technically incorrect, imaginary)
President Roosevelt: ok I say we put fixed exchange rate system. Let’s fix the rates that 40
Rupees will equal to 1 dollar. 15 Yens will equal to 1 dollar. 12 Pounds will equal to 1 dollar and
so on. In short, I’m pegging your currencies to US Dollar. Thus Dollar will be the international
reserve currency. AND Your country’s RBI (central bank) will make sure these exchange rates
don’t fluctuate more than 1% from these values.Mohan: ya man, but what if the exchange rate
fluctuates? for example, What If I start running my country in a totally pathetic and
irresponsible manner and hence nobody wants to invest in India so supply of dollar is low but
demand of dollar is high- because Indians want to buy gold and we’ve to import crude oil and
pay in dollars. In short, this will fluctuate the exchange rates between Dollar vs Rupee.President
Roosevelt: Let me ask you a question. Suppose Onions are selling 100 rupees a kilo because of
low supply but suddenly farmers produce fresh new 50 million tonnes of onions and supply it to
market, what will happen?Mohan: Easy! Onion Price will drop down to 40 rupees a kilo because
the supply has increased.
President Roosevelt: yes dude, the same way, whenever exchange rate fluctuates from our
standard rate, you’ll tell your RBI to supply dollars from its own forex reserves in to the market
to calm down the demand and bring the rate back to normal level.
If the reverse happens: (Onions are selling @ 2 rupees a kilo) then you tell your RBI to buy all
Onions dollars using its own rupees, until the supply is reduced and price is back to normal.
Mohan: What nonsense is this? If 40 rupees equals 1 dollar but then what does 1 dollar equal to?
What is the value of your own dollar? Why should we accept your dollar as international reserve
President Roosevelt: I’ve fixed the value of your currency to my dollars. And I’m fixing the
value of my own dollars to Gold. 1 ounce of Gold shall equal to 35 dollars. Meaning you walk in
with 35 dollars in my RBI (Federal Reserve Bank of USA), and you’ll get one ounce of gold in
return. Gold will remain precious forever. So, it’s not like we’re running the show in thin air.
Dollars are backed by GOLD.
Mohan: ya man but what if my RBI doesn’t have enough dollars in its lockers? →hat will we do
President Roosevelt: don’t worry, come to IMF. They’ll arrange short term loans for you, in
Mohan: but still, why should we fix price of our currency to dollars? Why should we accept
dollar as the reserve currency and not Yuan, Yen or Pound? Why should we accept you as our
big boss?
President Roosevelt: Because I’ve the aukaat to pay enough gold, so I say dollars will be the
international reserve currency. IF you’ve enough gold reserve in your RBI, come sit in the chair
and we’ll see whether rupee is strong enough to become the international reserve currency or not.
Even Britain is so financially bankrupt after Second →orld →ar, they don’t have the guts to tell
me set this exchange rate according to their Pounds. Btw, I also got some nuke missiles in my
Mohan: no no…I was just kidding man. I’m well aware of my aukaat (औ) and hesiyat
( ).
President Roosevelt: Besides →hen we’ve a stable and fixed exchange system like this, it’ll
ensure smooth and long term trade deals between merchants of various countries. When you
don’t have fixed exchange rate system, it is bad for economy. For example, today your call-
center boss may give you free lunch and coffee because $1=60 rupees but next day when value
of rupee declines and it is $1=50 rupees, same boss will even stop running the water-cooler in
your office. Third day when $1=40 rupees, He will just kick you out because outsourcing
generate that much profit for him. Such uncertainty, is not good for economy.
Besides, since Gold is in limited supply, Dollar will be spent carefully, and so your currency will
be in spent carefully. i.e. Since currencies are ‘pegged’, you will not indulge in extravagant
spending in subsidies, welfare schemes, tax-reliefs or debt-waivers to farmers. This ensures
fiscal discipline => That ensures less Fiscal deficit = less inflation.
Mohan: Mr. President Sir, I think I got the point now. I’ll tell my RBI Governor here to sign the
Bretton Woods agreement papers, because fixed exchange rate system sounds safe and good.
 As you can see, the fixed exchange rate system, is good for stable international trade
environment, atleast on paper.
 But this system can run smoothly only as long as USA has the aukaat to pay gold to
every swinging dude that walks with dollars into their office.
 Problem started with Cold War. Both USA and USSR (not Russia), are busy in an arms
race, building new tanks, missiles and submarines every week.
 They’re also giving huge donations and help to poor nations, in order to win their support
and dominate the region. This is a non-productive activity, they’re basically wasting
 Now, USA gets involved in a very lengthy and expensive Vietnam War from 1959 to
Inflation and Gold Prices
 Fact: War leads to inflation
 Fact: Inflation decreases the value of your money.
 Fact: Gold becomes more expensive because of Inflation.
 US still kept fixed value of 35 dollars = 1 ounce of gold. But thanks to this inflation,
Gold is trading at higher price in open market – 40 dollars per ounce.
 So there is an opportunity to make quick money, just tell the RBI manager to take
suitcase full of dollars from RBI’s locker to US Federal Reserve, take their gold in return,
and sell it to the local jeweler at higher market price and use this profit to fix india’s
problems- poverty, education etc. (may be by starting another welfare scheme named
after Nehru-Gandhi family.)
 For a while, US Presidents had enough clout over international politics so that they could
force other nations’ RBI managers not to indulge in such cheap profiteering. But
↑ietnam war is fast deteriorating America’s clout and now RBIs of various countries
have started lining up with their suitcases full of dollars and they want gold in return.
 1971, President Nixon decides that if we continue giving gold for dollars, we will go
bankrupt. There will be no gold left in our lockers. So I give up. I’m not going to let
anyone exchange their dollars for my gold.
 And thus Bretton Wood system breaks down.
 1973, World moves to floating exchange rate system.
 →hat is Floating Exchange rate? Governments / Central Banks don’t fix exchange rates
here. It is left to the Forex markets, private players and laws of supply and demand. Just
like in the Story of Forex. Government /RBI will only intervene if there is huge
fluctuation in the exchange rates.
Do we need Bretton Woods?
 →ith respect to, Eurozone crisis, lots of columnists write “We need another Bretton
 They don’t actually mean that we need to move back to the same old Fixed Rate
exchange system, in which every currency was pegged to Dollar and Dollar was pegged
to Gold. Because that fixed rate thing is impractical in real life scenario, as we saw in
above paragraph.
 Just imagine, if tomorrow World starts running according to Bretton Woods system, what
will happen?
 We know that China already has more than 1000 billion dollars in its Forex Reserves. So
People’s Bank of China will send its Probationary officer with suitcases full of dollars
and take away all the gold from Fort Knox. They don’t even need to fight a war, USA
will come down to its knees financially.
 [Fort Knox is a place in Kentucky State, US Government keeps the gold reserves in this
 In real life, not that China will actually do so, but the mere threat and possibility will
keep USA on its toes. Hence US will not agree to Fixed Exchange rate in the first place.
 There is no chance any other country will agree to become the ‘big brother’ and let their
currency become the reserved currency and peg it to gold.
 Especially India, because if we peg our 10,000 Rupees to one ounce of Gold and declare
that we are the new international reserve currency, just like dollar before 1970s, What
will be the Result? Pegged currency means Government can’t do extravagant spending in
MNREGA. They’ll have to stop subsidy on diesel, kerosene, LPG and fertilizers, because
they can doll out only as much rupees as the amount of gold held in RBI’s locker.
 As You can understand, no political party has the guts to do that, hence no nation will
want to become the big brother (or Bali kaa Bakraa) for “another Bretton →oods”.
 So, The sentence “We need another Bretton Woods” is just a metaphor, to say that all the
Presidents, Prime ministers and Economists of the world should meet up once again,
drink some Desi Daaru ( ), watch some Item-song, brainstorm for new ideas and
start something from scratch, totally new, Just like the Gentlemen at Bretton Woods did,
in 1944.
Then what to do?
 It could be anything, untried and untested before like-
 China could agree that we’ll not dump our products in foreign market, we will not keep
our yuan devalued,
 Russia and China could agree that →e’ll stop supporting Assad and force him to give up,
thus integrating Syria into world economy.
 US could agree that we’ll bring back our troop from Afghanistan and cut down on our
Defense Expenditure and its inflationary effect on world economy. We will also stop
supporting Pakistan. Thus reducing defense Expenditure of India in the arms race.
 Iran could agree that we’ll stop our irrelevant obsession with nuke weapons and give up,
So that UN removes the sanctions and our trades can make more money, thus improving
the standard of living for Iranian aam-aadmis.
 EU could agree that we’ll kick out Greece, because it’s just way too messed up.
 And India could agree that we’ll bring all the black money from Switzerland and use it to
finance our bogus Government schemes and subsidies instead of looting aam-aadmi in
petrol tax, to finance those things.
 And finally you and I could agree that every IPL cricket match is fixed, so a serious
UPSC/CAT/CMAT/IBPS/State PSC aspirant must not waste his time watching it and
concentrate on his studies instead.
Excise Duty on Gold in Budget 2012: Reasons
and Implications, Why Jewelers are
In the union budget 2012, government increased the tax on gold jewelry, and the Jewelers all
over India have gone on strike.
They’re agitating and protesting and demanding for the withdrawal of these taxes.
Budget provision
Pranab: (announcing budget in parliament)
 Jewelers will have to pay 4% import duty on gold, earlier they had to pay only 2%.
 Aam-Aadmi will have to pay 1 percent excise duty on non-branded gold jewelry
 If Aam-Aadmi purchases jewelry worth more than 2 lakh rupees, the Jeweler will have to
collect 1% tax from him in TDS (tax deduction @Source=Just like in Vodafone case.)

Jeweler: but TDS form requires PAN card number. In a population of 120 crores, barely 12
crore people got PAN cards! How am I supposed to proceed with the paperwork?Pranab: can’t
you see? it is a move to make people get PAN cards. If everyone has PAN cards then it is easy
to track the tax evasion and black money. So If a person is genuine and has the ‘aukaat’
(औ) to purchase gold worth 2 lakhs, then he shouldn’t fear and get himself a PAN
cardJeweler: agreed but what’s so magical about the lower limit of 2 lakh? →hy not 1 lakh why
not 1.5 lakh but 2 lakhs only?
Pranab: because Most of the black money is routed through gold bars. A normal bar weighs
100 gram or more, and costs more than 2.5 lakhs. So, if customer has to pay tax and quote his
PAN card number, the badman with blackmoney will think twice before making a purchase.
Hawalaa operator: but which fool is going to buy gold worth 2 lakh rupees in one go from one
shop? He’ll just buy the smaller gold bars of 1 lakh rupees each, from 2 different jewelry shops.
Yes, Necessity is the mother of all inventions!
Too bad you Stephenian and JNU-walla ministers and bureaucrats always underestimate the
wisdom, might and finesse of a highschool dropout Hawalaa operatorwhile making your
economic policies.
Pranab: Ya agree but it’ll create some inconvenience and reduce the gold purchase by a small
 And Our end goal is to have compulsory PAN card and TDS for gold purchase of any
price: whether it is 2 thousand rupees or 2 lakh rupees. Only then black money can be
stopped from going into gold purchase.
 But as you know, majority of junta doesn’t have PAN cards so if I announce TDS on
gold purchase of 2,000 rupees right now, it’ll be totally impractical and create uproar in
the country.
 That’s why, we’ll do it in a phased manner: 2 lakh this year, 1 lakh next year, 50
thousands in third year and so on.
 By that time majority of people will get PAN card as I’ll order the Income tax dept. to
launch major drive to register everyone for PAN cards.
Jeweler: Do one thing at a time yaar. Either you ask everyone to get a UID card or PAN card.
Why this overlapping and double labour, it is wastage of tax payer’s money, isn’t it?
Pranab: umm….
Jeweler: anyways I’m still not getting the logic. If black money is the problem, why don’t you
fix the root of the problem- corruption itself, rather than doing firefighting by this gold-buy-
pan-card thing? What about the Lokpal, Whitepaper on blackmoney and Swiss money reports
Pranab: well ummm…ammm…hmmmm…
Rupee weakens due to Gold obsession

Mohan (intervenes): Indian juntaa is the largest consumer of Gold in the world. In 2011 we
imported almost 1000 tonnes of gold worth almost 50 billion dollars.
 Dubai/South Africa’s dealer doesn’t Export gold bars for rupees, he demands payment in
 Don’t you get it? →henever you purchase gold, our rupee weakens in the forex market!
→hen rupee’s value declines, we’ve to pay more money to import crude oil=
petrol/dieasel expensive= milk and vegetables delivered via trucks and rickshaws also
become expensive! Your gold obsession is increasing the inflation.
 →e’ve to reduce the gold consumption in India.
Why Indians consume Gold?
Jeweler: but why is Indian juntaa consuming so much gold in the first place? More people are
getting married or what?
Mohan: Because bad people prefer to convert their blackmoney into gold bars. Other reasons
for gold-consumption are following
#1: Financial Inclusion
 Because good people in rural and Naxal affected areas, don’t have access to banks. So
where can they put with their savings? ofcourse we could improve the law and order
situation and public amnesties (water, electricity and roads) atleast upto Tehsil level so
atleast some of the doctors, bank officers and teachers go and serve in those backward
areas, but why bother.
 Besides these lower middle-class and poor peolpe don’t have PAN cards so they cannot
invest in mutual funds or sharemarket. And even if they were forcibly given PAN cards,
they don’t know the technical knowledge required to invest in sharemarket. So where
can they invest money except buying gold or land?
#2: Safe and Liquid Asset
 Gold is a liquid asset, meaning it can be sold quite quickly and easily. Hence poor people
like it. Besides, given the rise of NBFC Gold Loan Companies like Muthoot Finance
(Akshay Kumar)- they give quick loans in lieu of gold and their target customer base is
poor and lower middle class people.
 So those people definitely think it is wiser to save in gold to get loans in emergency.
#3:Better return on investment
 Banks gives you about 7% interest rate on your savings account while inflation rate is
about 8%. What does it mean? Your bank account is not earning enough money to
counter the effect of inflation. In fact you’re paying invisible 1% inflation tax by
depositing your money in banks.
 Ofcourse SBI could pay your higher interest rate had they not been wasting their money
on ↑ijay Mallya or 2G telecom players. But that’s a different story altogather. The point
is: banks are not giving you enough cash to fight inflation.
 So even urban people think it is better to save now in gold, and sell it later to earn some
profit, especially in the times of global financial crisis, when share market isn’t giving
attractive return on investment.
Jeweler: wow man how do you know all this?
Mohan: Because I’m a good economist.
Jeweler: Then why don’t you do something to fix it?
Mohan: Because I’m not a good prime-minister.
 Fiscal policy= what Government does to control economy.
 Monetary policy= what RBI does to control the economy.
 →hen people buy gold, they’re showing disrespect to my fiscal policy and RBI’s
monetary policy.
 When people buy gold- they’re suggesting that we’ve failed in curbing the inflation. So
gold is my enemy #1.
 I must stop the consumption of gold, instead of stopping the cause behind the
consumption of gold i.e. inflation and blackmoney.
Profit Margin
Mohan: btw, enough talking about me, let’s now talk about you. →hy are you bothered with this
taxation, we all know that the company or merchant doesn’t pay out of his pocket. The taxes are
ultimately Bourne by the final consumer!Jeweler: ya but the gold prices have increased so high,
demand is already decreased. →e’ve to hire so many film-actresses in advertisement.
 Price difference of 10 gm gold pre-budget and post-budget is already Rs.1,500.
 I’m afraid if I pass the taxes to final consumer, by increasing MRP of gold, it’ll further
reduce the demand of gold-jeweler.
 Hence, for a while I’ll have to bear a part of this taxation burden, by reducing my profit
margin and keeping the MRP almost the same as usual, else I’ll lose customers, and
that’s why I’m agitating and demanding the withdrawal of this tax.
Mohan: but that’d means I’ll succeed in my goal of reducing the gold demand in India!
Gold Smuggling
Hawala operator: Not so fast mister! Consider this:
 For every kg of gold imported, the jeweler will have to Rs 1.10 lakh as duties as per the
current prices.
 but if he smuggles the gold from Dubai, and even if the return ticket costs Rs.20,000, he
will easily save 90,000 in tax! (90k+20k=1.10lakh)
 In the same way, on purchasing 5 kg gold, people will save upto Rs 5 lakh.
 In short, your stupid tax policy on gold, will only increase smuggling.
Dawood: Hey I started my career doing the same thing! Smuggling of silver bars and gold
watches in the 80s :P →ho knows History may repeat itself and you’d see another Dawood Jr!
ISI: Whaat an Idea Sir-ji!
Mohan’s son is preparing for CSAT, IBPS, State PSC or Group discussion /Personal interview of
MBA admission
Mohan’s Son (loudly reading the same sentence repeatedly from a note)
 India, the world’s largest consumer of gold, imported 967 tonnes of the precious metal in
 India, the world’s largest consumer of gold, imported 967 tonnes of the precious metal in
 India, the world’s largest consumer of gold, imported 967 tonnes of the precious metal in
 India, the world’s largest consumer of gold, imported 967 tonnes of the precious metal in
Mohan (to his son): What are you doing Betaa?
Betaa: Daddy I’m trying to verbatimly mugup the sentence written in this ready made coaching
class notes/book.
Mohan: But WHY?
Betaa: Because I’m yet to hit the puberty, so I’m still under the impression that they’ll ask
absolute fact/data/number/date based question and one can really score well in the exam by copy
pasting the lines in a verbatim fashion just like in the board exams! Afterall economy is not
about evaluating the implications of a policy or decision, but it is about just mechnical
memorization of Tax rates in Budget, GDP, GNP, weekly Repo, CPI,WPI and Food inflation
QFIs from GCC to prevent Rupee downfall,
IOSCO MMOU and Mock Questions
What Is QFI
 QFI (qualified foreign investor) is an individual, group or association, residing in a
foreign country.
 This does not include the FII/subaccounts (For explanation click me)
 in January 2012, the government had allowed the QFIs to invest in the Indian market but
with condition that their home countries must be part of FATF*.
What is FATF?
 FATF (financial action task force) is an international body, monitoring money laundering
and terrorist financing.
Why QFIs of Gulf nations cannot participate
in Indian Market?
 The QFIs from Baherin, Oman, Kuwait, UAE, Saudi Arabia and Qatar, cannot invest in
India because their countries have not signed the FATF.
 Therefore, now Indian government, is amending the FATF-rules to allow QFIs from
these Gulf nations. As long as these countries are part of IOSCO MMOU, their QFIs can
enter in Indian market.
 International organization of Security commissions (IOSCO)- multilateral memorandum
of understanding (MMOU).
 It is a global information sharing arrangement, among the security regulators (i.e. SEBI
of each country).
 It sets the international benchmark for cross-border cooperation for combating the
violations of securities and derivatives laws.
Why India changing the rule?
 So far, The response of QFIs from EU and USA, has been lukewarm due to the not so
positive economic conditions in their home countries and in India.
 Combine it with Rupee depreciation, right now Rupee trades at about 1$ =Rs.55+
 India needs foreign currency inflows, to prevent further downfall of rupee.
 Therefore, in order to attract the investors from Gulf nations, government of India is
amending these QFI related rules.
Mock Questions for GS Mains
1. Write a note on India and GCC (Gulf Cooperation council)
2. Discuss India’s relations with **** (whatever countries Pratibha and Mohan visited
during last one year using tax payer’s money. I suggest better keep a note, containing the
major outcomes / treaties because of such visits.)
2 or 5 markers
3. financial action task force
4. What is IOSCO
Interview Question
1. Do you think it is a good idea to allow QFIs from Non-FATF participant countries to
enter in India? Should the issue of national security / blackmoney be compromised for
merely stabilize the downfall of rupee?
1. Locate the members of GCC in your atlas.
My Previous Economy articles on QFIs
1. QFI vs FII: explained.
2. QFIs to enter in Bond market: Meaning, Implications
Rupee Downfall – What can RBI and
Government do to prevent further downfall
of Rupee against Dollar?
What steps should RBI and Government take, to prevent further Downfall of Rupee?
Important Steps taken so far
In May 2012, reserve bank of India took following steps to stop the downfall of rupee against
Reducing the speculative trading
1. RBI changed the rules related to EEFC Bank Account. (For Explanation click me)
Reforms in FCNR Accounts
2. RBI relaxed the interest-rate ceiling FCNR Bank-Accounts and allowed the Banks to use
FCNR deposits to provide loans to local residents. (For explanation click me)
Selling part of Forex Reseve
3. in past couple of weeks, RBI itself sold about $200 million from its foreign exchange
reserves, to increase the supply of dollars in the market.
Future course of action for RBI and
Main reasons why Rupee falls down against dollar?
1. Because people have to pay in dollars, while they import crude oil and gold.
2. Because FIIs are exiting Indian Market due to policy paralysis and rumors related to
GAAR. (For explanation click me)
3. Current account deficit is merely the outcome of about two problems. (for Explanation
click me)
4. →hen people say, “rupee is falling because of large current account deficit ”, it means
that supply of dollars is low (from FII/FDI/Exporter etc.) side compared to the demand of
dollars (from Gold and Oil sellers abroad/FII exiting from India etc.).
So what can government and RBI do, to tackle this downfall of rupee?
Policy reforms
 Government could initiate policy reforms to boost foreign direct investment (FDI) in
India. Such as FDI in retail-marketing and aviation sector.
Reduce Gold import
 Recall my previous article on how to calculate “current account deficit”, we've seen that
we can never have “surplus” in balance of trade because we import crude oil and gold
worth billions of dollars, but our exports are not that much.
 The crude oil is a necessary evil, without which our industries or life cannot function
properly. We export textiles and chemicals, but even for their production, crude oil is
necessary. No matter how “climate friendly” it sounds, there is a limit below which, we
cannot reduce our oil consumption.
 However, gold is a luxury item, people will not die if they do not buy or purchase gold.
The government could increase the customs and excise duty on gold, that way “MRP” of
gold jewellery will increase and consequently, its demand will decrease. (except by those
Politicians, Bureaucrats and Real Estate mafias who’ve truckload of cash, and want to
invest it in gold.)
 Recall the Gold Excise duty article, although Pranab did have ‘noble’ intentions of
implementing above things, but then he fell back due to public pressure.
Dollar window for oil firms
 We know that RBI has forex reserve worth around 290 billion dollars. The RBI could
open a special window, allowing the oil companies to sell rupees and by dollars from the
RBI itself, rather than from other forex sellers. Thus, saving some money in the
commission payment and preventing excessive speculation in the forex market.
Sovereign backed NRI bonds
 Recall my article on debt versus equity. In that, I discussed about junk bonds versus gilt-
edged securities.
India Sovereign backed Bonds
So far, government of India has issued such bonds only three times (with help of SBI)
1. in 1991, Indian government had issued India development bonds, to borrow $1.6 million
from abroad.
2. In 1998, Indian government had issued resurgent India Bonds, to borrow $4.2 billion
from abroad.
3. In 2000, India millennium deposits, to borrow $5.6 billion from abroad.
 Generally, these sovereign backed Bonds have maturity period of five years (i.e. you get
principal back after 5 yeas) . They are issued in dollar or pound form
 The interest and principal are paid in the foreign currency itself, therefore, the investor
does not need to worry about fluctuating currency exchange rates
 The Indian government could issue such “Gilt-Edged” bonds via SBI one more time,
offering attractive interest rates to the NRIs.
 Implication: NRIs give their dollars to purchase these bonds, and the dollars, thus
collected can be used for lending to Indian oil companies and or Indian
*ya exporters also need foreign currency! Because sometimes they have to import raw
material/services from a third country for producing their own goods and services. Example:
import electronic –chips from Taiwan, steel from Russia, plastic from China, and assemble
laptops in India and export it to South Africa.
* why NRIs? (Because other FIIs/ foreign investors may not be so interested in investing in India
at the moment given the ‘policy paralysis’ and GAAR etc issues)
Allow banks to borrow from abroad
RBI could take a policy initiative, allowing the Indian banks and nonbanking financial
companies (NBFC) borrow dollars from abroad and lend it in the local Indian market (i.e. Indian
oil companies and Indian businessmen.)
Wayda Bazaar or Futures market Meaning
Question: what is wayda bazaar?
waydaa / Wadaa = promise to buy something in future.
Waydaa bazaar= future (and options) market.
→hen you make an agreement with someone that you’ll buy gold/potato or anything in x
quantity at y price on z date in future. This is future contract.
Waydaa Bazaar is the place where brokers hang out to make and trade such future and options*
*Options means, with such agreement, you’ve the right to buy that 1000 kg potato at the pre-
determined price Rs.150,000 in future, but not the obligation to buy it.
Means you can refuse to buy it later on, if you’re not in mood or find someone who is selling the
same thing at lower prices! But in that case you loose the premium money paid on that options
Oil Hedging meaning and its impact on
Government Subsidies
Rahul asked,
what ‘Oil Hedging’ means and how is it related to the subsidies given by the govt. on oil
 hedge= a fence or compound wall built to protect your property.
 hedging = a method of preventing risk.
Oil prices go up and down very rapidly due to unpredictable and unforeseeable events, such as
political unrest in Egypt and Libya.
So buyers enter in futures and options contracts with the producers to prevent themselves from
such unpredictable price rises.
For example,
Indian Oil Co. makes an options contract with Libyan supplier in October 2010, that on Feb 2011
Libyan supplier will send 5000 barrels @ 70$ each.
Now due to unrest in Libya in February, the oil prices have escalated to 90$/barrel but still that
Libyan supplier is bound by contract to sell 5000 barrels @ 70$ each to the Indian company.
So Indian company prevented the risk of having to pay higher prices.
This is oil hedging.
But suppose there was no riots in Libya and in fact they had discovered a new big oil well, and
thanks to the extra oil supply, Barrel prices went down to 20$ per barrel! In that case Indian oil
company would cancel to options contract and would loose the premium money paid on the
how is Oil Hedging related to the subsidies given by the govt. on oil products?
Sorry I don’t have exact idea, but i think if Oil headgeing prevents Indian Oil Companies from
big price rise, then Government has to pay less subsidy on oil products.
Infy at 3000 premium 100 what does that
Rudranil Ghose asked,
what exactly does it mean when we say that in the stock market, a company is at (say) 3000,
premium (say 100) ..For eg: Infy at 3000 premium 100
Infy at 3000 premium 100.
 It means this is a call-options contract: Buy infy shares at 3000 Rs. on x date.
 Right now you don’t have to pay Rs.3000, but only that premium Rs.100 to that broker.
 Suppose on that x date, price of infy share has gone down to 2000 Rs. you can cancel the
contract, and loose only Rs.100/- (and may purchase those shares from another broker at
2000 Rs.)
But suppose on x date, the price of infy shares went upto 4000 Rs. then you’ll exercise your
option to buy it from that broker at 3000 Rs. and sell back to someone else at 4000 Rs. thus
earning a profit of [4000-3000-100]=900 Rs.
Why use GDP (nominal) instead of GDP
(PPP) when comparing two nations?
After the previous question regarding GDP (at purchasing power parity) between Japan and
China, Tarun asked,
i have a query why GDP (ppp) is not used often to measure worth of countries as it give real
picture than using GDP (Nominal terms)

For example:
In India majority of people are poor, and receive subsidized grains (like 1 kilo rice for 3 Rs,
kerosene etc. from PDS shops.
In America poor people are supported by Government by food stamps and social security
Now comparing two nations, GDP (PPP) wise,
Obviously majority of Indians are poor, and majority of them get cheap- subsidized stuff, the
purchasing power parity of India may look better than Americans.
But does it really mean India is financially more powerful than America just because Indians can
buy more stuff in local market compared to Americans?
No, because financial activity is not limited to local market.
→e’ve to import crude oil from Middle east and buy jet-planes, missiles from Russia,France and
→e’ve buy pulses and onions from Africa and Pakistan(!), Those people are not going to sell us
stuff with subsidy in Rupees, like we get in our local market.
They’ll ask hard dollars (or gold or diamonds) as payment. So there, in international market,
America can purchase more crude oil, fighter-jets, missiles and onions compared to India, even
though its GDP-PPP wise it may not be powerful as India.
Even China can buy more stuff internationally than we can, because our forex reserve is only
270 billion, while Chinese got 1400 billion $!
GDP at PPP gives us only picture of how much stuff we can buy within our country.
GDP at nominal rate ($) gives us bigger-picture of how much stuff we can buy internationally.
Using GDP (nominal), it becomes easier to compare two nations’ financial strength, by
comparing their ability to purchase in international market in same currency (dollars). The one
who has more $$, can purchase more stuff internationally.
So bigger the GDP (Nominal), powerful a country is financially. While in case of GDP(PPP) we
cannot say with confidence that bigger the GDP (PPP) is, powerful a country is financially,
because they may be heavily-subsidizing it.
How to calculate GDP (PPP) and GDP
Abhi asked,
How is PPP measured? Suppose India’s GDP is Rs 100. Convert this to dollars as
GDP(nominal) and GDP(PPP)
Take a basket of commodities (like 1 kg sugar,wheat,veggies and cloths etc).
Now find out how much money do you need to buy everything from that basket?
For India suppose the bill is 1700 Rs.
Go to America and buy same items from their local market, the bill is 100$
So 100$=1700 Rs. => 1$=17 Rs.
So, PPP exchange rate is 17 Rs. per 1 $
To calculate GDP (PPP)
GDP (in Rupees) / PPP exchange rate for Rupees
=5 $
India’s GDP (PPP)= 5$
To calculate nominal GDP in $.
Just convert the Rupee into dollar at official exchange rate.1$=50 Rs.
India’s GDP (in Rupees)/official exchange rate
So India’s GDP (nominal) is 2$.
Why use GDP (nominal) instead of GDP
(PPP) when comparing two nations?
After the previous question regarding GDP (at purchasing power parity) between Japan and
China, Tarun asked,
i have a query why GDP (ppp) is not used often to measure worth of countries as it give real
picture than using GDP (Nominal terms)

For example:
In India majority of people are poor, and receive subsidized grains (like 1 kilo rice for 3 Rs,
kerosene etc. from PDS shops.
In America poor people are supported by Government by food stamps and social security
Now comparing two nations, GDP (PPP) wise,
Obviously majority of Indians are poor, and majority of them get cheap- subsidized stuff, the
purchasing power parity of India may look better than Americans.
But does it really mean India is financially more powerful than America just because Indians can
buy more stuff in local market compared to Americans?
No, because financial activity is not limited to local market.
→e’ve to import crude oil from Middle east and buy jet-planes, missiles from Russia,France and
→e’ve buy pulses and onions from Africa and Pakistan(!), Those people are not going to sell us
stuff with subsidy in Rupees, like we get in our local market.
They’ll ask hard dollars (or gold or diamonds) as payment. So there, in international market,
America can purchase more crude oil, fighter-jets, missiles and onions compared to India, even
though its GDP-PPP wise it may not be powerful as India.
Even China can buy more stuff internationally than we can, because our forex reserve is only
270 billion, while Chinese got 1400 billion $!
GDP at PPP gives us only picture of how much stuff we can buy within our country.
GDP at nominal rate ($) gives us bigger-picture of how much stuff we can buy internationally.
Using GDP (nominal), it becomes easier to compare two nations’ financial strength, by
comparing their ability to purchase in international market in same currency (dollars). The one
who has more $$, can purchase more stuff internationally.
So bigger the GDP (Nominal), powerful a country is financially. While in case of GDP(PPP) we
cannot say with confidence that bigger the GDP (PPP) is, powerful a country is financially,
because they may be heavily-subsidizing it.
Purchasing power parity: The case of China
and Japan GDP
nforninad asked,
I Came across this article from the HINDU. I could not understand some of the economic terms
in them. Can anyone please help out?
For many years before that China had been ahead of Japan only when GDP was measured in
purchasing power parity terms. PPP is an indicator that takes into account relative prices and
therefore the command over goods that a dollar of income provides. Since with lower wages and
prices, a dollar in China when converted to RMB delivers more purchasing power, Chinese GDP
measured in PPP dollars is significantly higher than at official exchange rates. Hence, becoming
the world’s second largest economy at official exchange rates does mark an important transition.
First the Purchasing Power Parity part:
Suppose you’re earning 25,000 Rs. per month in India and I’m earning 1000$ in USA. How can
we measure who’s getting better salary? who is happy?
→e’ve to see how much stuff can you buy from the given income?
Suppose, Price of one burger in USA is 10$, I can only buy 100 burgers a month.
While its Rs.25 in India, you can buy 1000 burgers a month!
In this way you’re in better position than I’m, because you can buy more food!
Same way we’ve to calculate not just burger but overall monthly food bill, house rent, electricity,
telephone, petrol etc. to measure who can buy more stuff in the given salary.
This is purchasing power parity.
PPP is an economic technique used to determine the relative values of two currencies by
comparing costs of the identical products and services in different countries.
It is useful because often the amount of goods a currency can purchase within two nations varies
If we only use official exchange rate of 1$=40 Rs.
then my salary in USA is Rs. 40,000, while yours in India is only 25,000.
In that way my position is better than you according to official exchange rate.
In case of China and Japan, as you know China is a communist Government, so food-petrol etc.
prices will be strictly controlled by the Government along with lots of subsidies and benefits.
While Japan is a liberal democratic country so market forces of supply and demand decide the
prices of everything from food, petrol to fertilizers and movie tickets.
So obviously food, petrol and stuff will be cheaper in China compared to Japan.
So for the given salary a Chinese man can buy more stuff in China, compared to the stuff a
Japanese can buy with his salary, just like the same way you can buy more burgers in India than I
can in America.
That’s why China had been ahead of Japan only when GDP was measured in purchasing power
parity terms.
When GDP is measured in absolute official exchange rate (in simple terms how much money the
country has irrespective of the amount of stuff it can buy using all that money)
This is GDP @ official exchange rate.
Earlier Japan was ahead of China in this race. But now Now China is ahead of Japan even in this
race, means it has got more $$ than Japan= China is exporting more and Chinese economy is
booming more than Japan’s.
Main reason:
China keeps its yuan undervalued, hence its exports are cheaper than Japan or India’s.
ADR and GDR Meaning and Use
Question from a reader: What is ADR and GDR?
American Depositary Receipt (ADR)
ADR is method of trading non-U.S. stocks on U.S. exchanges
Suppose, Indian Co. wants to raise money from America, by issuing shares in American stock
But then Indian co. will have to maintain accounts according to American standards.
To prevent this problem, Indian company gives its shares to American bank.
American bank gives that Indian company receipts (called ADR) in return of those shares. Then
Indian Co. can trade those ADR receipts in American share market, to raise money.
Global Depository Receipts (GDR)
Serve as same function like GDR, but on Global scale, it helps the countries from third world, to
raise money from the stock exchanges in developed countries.
Several international banks issue GDRs, such as JPMorgan, Citigroup, Deutsche Bank, Bank of
New York.
Normally 1 GDR = 10 Shares, but not always.
CDS : Credit Default Swaps Meaning
CDS = Credit default Swaps. In simplest form Its buying insurance against a default. For
I’m a banker, gave car-loans to dude, but I’m afraid he might not pay back the full money.
So I’ll goto some other Bank X who sells Credit default Swaps (CDS).
I’ve to pay regular premium Bank X,
but if someday that dudes default on his car-payment, Bank X will pay me the money.
In a CDS transaction, the protection buyer does not suffer a loss when reference entity defaults.
These CDS bonds, once issues, can be sold and bought like any other bond or security.
i.e. Bank X sells my CDS to Bank Y. So now Bank Y gets my premium but in case of default by
that Dude, Bank Y is supposed to pay me.
In Jan 2013, RBI updated the CDS guidelines. As per the revised guidelines-now, CDS will be
permitted also on
1. securities with original maturity up to one year like Commercial Papers, Certificates of
Deposit and non-convertible debentures
2. listed corporate bonds
3. unlisted but rated corporate bonds
Why CDS important for economy?
1. CDS, as a risk management product, offers the participants the opportunity to hive off
credit risk.
2. such products would increase investors’ confidence in corporate bonds (because they can
transfer risk)
3. thus it would be beneficial to the development of the corporate bond market.
(CDS also means combined defense services exam, conducted by UPSC)
Yield Spread : Meaning and use Explained
What is Yield Spread?
 Yield spread is a way of comparing any two financial products.
 Yield spread is the difference between profit you can make in two different types of
Why do we need to calculate Yield spread?
Before coming to the purpose of calculating yield spread, lets go in a different direction.
When you buy a Government bond, you can be certain that you’ll be paid in full, after the
maturity and they’ll not run away. So in this case risk is very low, hence they sell like hot-cakes.
That’s why they’re called “Gilt edged securities”
→hen risk is low, it doesn’t carry much profit.
But some junk company is issuing bonds, no one has ever heard of them.
So their bonds carry high-risk of default, hence people won’t be interested in buying it as
such.So,The company will offer extra-high return (profit) on their bonds, to attract people.
In short : Higher return is offered when Risk is HIGH.
Scene 1: Year 2010
For every 100 rs. Invested in Government bond, you get Rs.5 return after 1 year.
For every 100 Rs. Invested in the junk bond, you’re offered Rs.13 return after 1 year.
So yield spread = (13% minus 5%) = 8%
Scene 2: Year 2011
Government bond’s return remains the same but now that junk bond company is offering you
20% return.
So Yield spread = (20% minus 5%)=15%
In one year, the yield spread has widened from 8% to 15%.
As we saw above, Higher the risk, higher return is offered.
So, market is forecasting a greater risk of default which implies a slowing economy.
A narrowing of spreads (between bonds of different risk ratings) implies that the market is
factoring in less risk (due to an expanding economy).
M1,M2,M3,M4 : Money Stock Measure
What is all this M1,M2,M3,M4?
 It shows the money supply in the market.
 More money = more liquidity = easy to get loans = inflation
 Less money = less liquidity = hard to get loans = problem
 As we saw earlier, RBI controls the money supply by changing its CRR, Repo etc rates.
(thus controls inflation) that’s called ‘Monetary Policy’
 But for that, RBI needs to measure how much money is there in the market (=liquidity) ?
they know it via these M1-M4.
 Side note– Govt. controls economy via changing Tax rates- that’s called ‘Fiscal Policy’
Thank you Satishtj for following information
M1= Currency with public + Current deposits with banking system + demand liabilites portion
of saving deposits with the banking system .
Governor of RBI + ministers + MP can have account with RBI
Now see this chart

PS: sorry for the watermark, although my current id is not but
Who calculates M1-M4?
RBI since 1970-71
What are the other names of this?
1. Money Stock measure
2. Measures of monetary Aggregates
Was there any reform in it?
Yes there was YB Reddy Group 1997-98 – and on their recommendations- following steps were
Financial Sector Survey every 3 Months
4 New measures :M0-M3
3 Types Liquidity
What is all Hot money, soft money, hard currency etc?
That’s ‘Types of Currencies’ -See this chart

What is Dear Money and Cheap Money?
See this chart

Credit Crunch : Meaning, Examples and
What is Credit Crunch?
In simple words, when you can’t get loans easily, its credit crunch.
Definition: reduction in the general availability of loans (or credit) or a sudden tightening of the
conditions required to obtain a loan from the banks.
Examples of credit crunch
1. In America, banks were giving housing loans to any swinging dude, without checking his
credit-worthiness (like can he really pay back the loan or not?). This lead to mass-defaults after
few years. Now bank managers are very cautious and before processing your loan application,
they’ll check it 17 times! this is also a sort of credit crunch because you can’t get loans that
easily, like you used to get, before the recession.
2. In 3G auction spectrum, telecom companies took 70,000 cr. from Indian Banks to bid in the
auction. = lot of money flew out of the system. So for a time being, banks have less money to
give as loans to other customers = Credit crunch. (although that didnot happen) but suppose
Mukesh Ambani had called up a bank asking for 50000 cr. loan for acquiring a foreign company
next morning, Bank manager might have said ‘Sir, sorry we don’t have no money!”
Implications of Credit Crunch
Credit crunch is not good for economy, because
1. A businessman wants to start new factory, but cannot get loans easily = slowdown in
2. A couple wants to buy home, but can’t get home-loan easily = slowdown in real-estate
3. A college kids wants a new bike, but his dad can’t get loan easily = slowdown in
automobile sector, but also good from climate-change angle. as people will be forced to
use public transport system ;-)
If such credit crunch continues for a long time, it’ll lead to job-losses, factories shutting down
and finally recession.
But sometimes credit crunch is a necessary evil, when there is too much liquidity (money) in the
Too much liquidity = too much money = easy to get loans = people have more money in their
hands compared to the items available for purchase = hyper-inflation.
From the previous post about CRR & SLR, we can also say that an (Excessive) increase in CRR
and SLR will lead to Credit crunch.
What is Insider Trading?
Question: Recently got a news Reliance is accused of insider trading!! Can U tell me what is
insider trading??
Insiders (employees and board members) have advance knowledge of Company’s accounts,
secrets, financial statements, future plans of merger & acquistions etc. They can benefit from
this Inside information to trade and make profit in the share-market.
if the CEO of Company A learned (prior to a public announcement) that Company A will be
taken over, and bought shares in Company A knowing that the share price would likely rise. In
this case he made profit, only because he knew the inside information.
Insider trading is an offence punishable under the SEBI Act of 1992.
The penalty Insider trading is Rs 25 crore or three times the gain — whichever is higher.
Reliance Petroleum (RPL) was set up to build a refinery in Jamnagar, no longer exists and has
been merged with RIL.
In Nov.2007, RIL sold about 4% of Reliance Petroleum’s equity for Rs 4,023 crore.
According to SEBI findings, the sellers had same registered address and phone numbers as RIL
in Mumbai and Jamnagar; had opened their accounts with the brokers on the same day; share a
common email address; and had received margin financing from two other companies promoted
by Ambani Navi Mumbai SEZ Pvt. Ltd and Mumbai SEZ Pvt. Ltd.
Sebi’s alleges that the company — which controlled the agents dealing on its behalf — knew that
it intended to sell shares in the cash segment when it transacted in the futures segment so This
amounted to insider trading.
RIL made 500 cr. Rupees profit from these transection. So the possible penalty (if proven) will
be 500 x 3 = 1500 cr.
Currency Devaluation, Dollar to Rupee
Exchange Rate Meaning Implications
First read the Balance of Payment (BoP) article, to understand this concept better.
Consider this example.
1$ = 50 Rs.
Price of one diamond = 50 Rs.= you can buy only 1 diamond in 1$
Now Suppose, RBI and Govt. of India declares that from now on 1$ will be equal to 100 Rs.
Then ??
1$= 100 Rs= 50+50 = you can buy 2 diamonds in 1$!
So as an American you’ll import lot more, if the Rupee is ‘devalued.’
Devaluation means
- The reduction of something’s value or worth
- An official lowering of a nation’s currency; a decrease in the value of a country’s currency
relative to that of foreign countries
Timeline of Rupee Devaluation
- Before 1966: 1$ = 4.76 Rs.
- In 1966: 1$= 7.50 Rs. (Rupee was devalued for the first time)
This is ‘fixed rate system’ means Govt. says 1$= 7.50 Rs. = it’s permanent; It doesn’t keep
changing every now and then. This fixed rate system is also known as ‘Bretton →oods system’
or ‘pegged currency’. (click me to understand it better)
This system was abandoned by most countries in 1973.
India also abandoned this ‘Fixed Rate system’ in 1975, and moved to the floating rate system. In
the Floting rate system , the market forces of supply and demand decide the value of Dollar and
Why Devaluation ?
Like I showed ago, if Rupee is devalued, Americans can buy more diamond in 1 dollar = Export
China uses this strategy. They intentionally keep their Yuan weak compared to Dollar. So in 1
Dollar, the Americans can import more ‘quantity’ of products from China, compared to India.
This way, China is major exporter of most electronic and consumer items, because its cheap!
Thus, China made a huge Foreign Exchange reserve by exporting.
Currently China has more than 1400 Billion Dollars in their reserve! While India has only about
270 Billion Dollars in its reserve.
Then lets do Rupee Devaluation?
Now if you think we should also keep our Rupee very weak (like 1$= 5000 Rs.) to boost our
exports and get lot of Forex like Chinese… you are forgetting something.
When you declare that 1$= 5000 Rs. Then obviously, Americans will import a LOT from India.
→hen you’re buying Crude Oil Barrels from Middle East, you’ve to Pay in Dollars!!
Suppose if 1 Oil Barrel ‘s price was 1 Dollar, then now you’ll have to pay 5000 Rs. To buy just
one Barrel! (earlier you were paying only 50 Rs. To buy one barrel.)
Thus diesel & petrol becomes very costly, = road transport cost increased = milk, veggies and
everything transported by trucks become very costly.=inflation. So whatever money you gained
in export, you lose here.
That’s why you’ve to maintain a fine balance between your Rupee’s ↑alue against Dollar vs.
How much import items you need to run your Country + the well being of your citizens.
In short
1. Devaluation increase exports and decreases imports
2. Devaluation gives a price advantage to the exporting contry.
How does Currency Devaluation help in Solving BoP Deficit
- In BoP Deficit, you’re importing more than what you’re exporting.
- When your currency is devalued, your export increases (1$ buys 2 diamonds)
- And you decrease your import (people will stop using cars, when 1 Liter petrol is sold for
5000 Rs.)
- Thus Export is increased and import is decrease = Deficit solved!
Why India had to go Devaluation?
1966 Economic crisis
· Since 1950, India ran continued trade deficits because of the Quota-Licence-inspector raj.
(Already explained in LPG article, click me to read.)
· Government of India had a budget deficit problem and could not borrow money from
abroad or from the private corporate sector.
· As a result, the government issued bonds to the RBI, which increased the money supply,
leading to inflation.
· In 1966, America stopped foreign aid to India (because Americans were friendly to Pakis)
and we were fighting Indo-Pak war of 1965. During this war, Govt.’s 25% expenditure was spent
in fighting pakis.
· All this lead to problems, you’ve high inflation, you don’t have enough money to buy crude
oil. And you can’t print more money to buy crude oil (click me to know why) ,
· so what will you do? You’ve to boost your exports to earn from $$. And for that you’ve to
reduce the value of your Rs.
· Same thing had to be done in 1991, due to BOP crisis.
Who exactly determines the Exchange Rate?
· 1$= 50 Rs. =this is exchange rate, but who exactly determines this?
· In 1991, India still had a fixed exchange rate system, where the rupee was pegged to the
value of a basket of currencies of major trading partners. (= Central Govt. + RBI deciding 1$ =
will be equal to how many rupees?)
· But then they had to liberalize and Nowadays, it’s the market forces of Supply and demand
who will decide the Exchange rate. = it’s the players @ Foreign Exchange market.
What is foreign exchange market (forex, FX,
or currency market)
· Its a worldwide financial market for the trading of currencies.
· (just like you’ve sharemarket to sell and buy shares)
· The foreign exchange market allows businesses to convert one currency to another.
For example, you’ve a factory in Noida to make bikes, you sell these bikes in India = you earn in
Rupees. But the engines of those bikes are imported from America, so you’ve to pay in Dollars
to that American supplier. So how will you get dollars? Simple, go to the Forex Market, give you
rupees and buy the dollars. Here the ‘supply and demand’ rules will decide the value of 1$= How
many rupees.
Its almost same like vegetable market, today it can be 10 Rs. Per kg potato, tomorrow it might go
20 Rs. /kg, depending on demand and supply.
Consider this talk @ Forex Market
Rupeeguy: hey man! take this 50 Rs. And give me 1 dollar.
$ guy: dude, we’ve only few dollars, and I know you’ve plenty of Liquidity In India, your
economy is booming and you people are earning lot of money. so give me 100 Rs. Otherwise I’ll
not sell. (=$ supply is low)
Rs.Guy: damn it, anyways I need to pay $$ do my American supplier so here take this 100 Rs.
And give me 1$. (=$ demand is high)
=Rs. Is devalued
Let see another deal.
Suppose American banks pay 18% interest rate on your deposit. And Indian Banks are giving
only 7% interest per year on your deposit. Then? If you’re a big player, you want to put your
money in American banks. but they’ll accept only dollars. So what will you do? You go to the
Forex Market to get your Rupees converted into Dollars. But After a few days, there will be huge
rush to buy Dollars. So value of Rs. Will decrease.
Rs.guy = hey man take this 50 Rs. Give me 1 $
$ Guy= I know you want to put that dollar in American bank to earn high interest! I’ve plenty of
people offering me more than 100 Rs. To get 1 Dollar, so you better give me 100 Rs. Or get lost
from here.
Rs. Guy= Ok I agree.
(= rupee is devalued)
3rd deal
There is economic boom in India. If you start a mobile phone factory in Noida, then you can
make a mobile only for 500 Rs and sell it for 1000 Rs. = 100% profit.
Now you’re a Rich American, and American banks are giving you only 18% interest rate for
your deposits. = you’re earning only 18% profit, so You want to invest your money in setting up
Mobile phone factory in India. (= Foreign direct investment/FDI) but for that you’ve to buy
land, cement, labors and they’ll accept payments in only Rupees. So you’ll go to Forex market,
to get your Dollars converted into Rupees.
$ Guy= take this 1$ and gimme 100 Rs.
Rs.Guy= I know you’re going to invest it in India and get 100% profit, plenty of Americans like
you are offering me Dollars. So give me 2$ and I’ll give you 100 Rs. Otherwise get lost from
$ Guy= well that still better than parking my $$ in American banks and earn only 18% interest.
so ok, I accept, here are 2$, give me 100 Rs. [1$=50 Rs.]
(=Rs. Is revalued)
However things are not this straightforward in real life deals.
Many factors including rumors, Govt. policies, Tax rates, speculative purchase etc. will shift the
trends in currency trading, just like your sharemarket.
RBI and Central Govt. will not intervene in minor fluctuations. They’ll let the market forces of
supply and demand decide the exchange rates and play their games. But if there is major
problem, then RBI & Central Govt. will intervene to stop the heavy fluctuations.
Weapons of RBI to control Exchange Rate
Monetary policy
For example,
IF there is plenty of liquidity in Indian market. (= lot of Rs. In circulation) thus, within India
you’ll not get good interest rates from bank and not high profit from your investment so you
want to park your Rs. Abroad. = supply is more= Value of Rs. Will go down. Hence 1$ =100 Rs.
So RBI will step in and change the CRR,Repo,Reverse Repo, Bank rates etc. to suck up the extra
liquidity in market. And value of Rs. Will go up. Thus 1$ becomes 50 Rs.
If there is too much dollars in Indian Market or if there is too less Rupees in Indian market, then
Exchange Rates will change. (based on supply-Demand principles).
If there are fluctuations like today 1$= 49 Rs. And after 15 days, 1$=47 Rs. This is normal
healthy fluctuation but if there is sudden drastic change like in 15 days, 1$=100 Rs. that means
bad guys are not playing by the rules. So to prevent such things, we’ve certain Laws.
Foreign Exchange Regulation Act of 1973 (FERA) (repealed in 2000.)
Foreign Exchange Management Act (FEMA),1999
By these acts, RBI is empowered to oversee and control the forex markets within india.
And the Enforcement Directorate (ED) get the power to investigate and prevent leakage of
foreign exchange which generally occurs through the following malpractices :
· Remittances of Indians abroad otherwise than through normal banking channels, i.e.
through compensatory payments. (eg Many Indian living abroad send money to their wives and
relatievs via Hawala)
· Acquisition of foreign currency illegally by person in India. (for example, Ashwarya Rai
faced inquiry from the Customs department, which has stumbled upon a mysterious postal parcel
addressed to her containing 65,000 euros (Rs.3.7 million) in cash. In another case The ED found
evidence of alleged 50 Lakh hawala payments by a Dubai event manager to Ash, and others.
(refer CNN-IBN)
· Non-repatriation of the proceeds of the exported goods.
· Unauthorised maintenance of accounts in foreign countries.
· Under-invoicing of exports and over-invoicing of imports and any other type of invoice
· Siphoning off of foreign exchange against fictitious and bogus imports.
· Illegal acquisition of foreign exchange through Hawala.
· Secreting of commission abroad.
Third trick is current and capital account convertibility (will write about it in another article.)
RBI’s own Forex Reserve
Another trick- when 1$= 100 Rs. This means, the dollar supply is low in the market compared to
Rupee supply. So RBI will release the dollars from its Forex reserve, or sell its gold in foreign
market and buy some dollars and release them in Indian Market.
· In the period 2000–2007, the Rupee stopped declining and stabilized ranging between 1 $ =
44–48 Rs..
· In 2007, it was 1$ = 39 Rs. , on sustained foreign investment flows into the country .
· This posed problems for major exporters and BPO firms located in the country.
· The trend has reversed lately with the 2008 financial crisis.
Table: Value of 1 Dollar to Rs.
(just to reference, you don’t have to remember every value in it.)
· 1970= 7.576
· 1975= 8.409
· 1980= 7.887
· 1985= 12.369
· 1990= 17.504
· 1995= 32.427
· 2000= 45.000
· 2006= 48.336
· 2007 (Oct)= 38.48
· 2008 (June)= 42.51
· 2008 (October)= 48.88
· 2009 (October)= 46.37
Now a sidenote- currency devaluation and building Forex Reserve.
Advantages of Huge Forex reserves
Now you might wonder what exactly is the use of building a huge Forex Reserve by keeping the
currency devalued / weak, like China has done? And why do they keep the value of Yuan very
low compared to Dollars?
→ell Huge Forex has its own uses… lets see
Indo-China War
Suppose China and India goto war against each other. (and assuming that no one will intervene
to stop the war and they will not use nuke missiles.)
Now what items do you need the most during a war?
1. Missiles, guns, bullets, bombs.
2. Medical supplies
3. Diesel, Petrol
4. Fighter jet planes
Diesel, Petrol is most important in war because
1. You need to transport your soldiers to the borders using aero plane , trucks, trains,
2. You need to setup base camps in remote jungles, but you need electricity to maintain
communication with your Head Quarters= you need wireless sets, and to run them, you’ll need
diesel generators.
3. If you want to use Jet-Fighters planes like MiG, to attack on enemy’s positions, then again
you need very expensive type of petrol to run those Jet Fighter planes.
4. Battle Tanks like Arjun don’t give an average like Bajaj’s Bike (1 Litre goes 100 km) so
again you need lot diesel to run these tanks.
· So ultimately, you’ll have to import huge quantity of crude oil to run a war, and your
foreign exchange reserve (whatever dollars or gold you’ve in RBI) = will be reduced.
· And you can’t print more money to buy oil from middle east. (read my BoP article to know
why?) + if the United Nations intervenes, then they’ll place trade and arms embargo on us (=
quantitative restrictions on your oil imports)
· As you know we’ve only 270 Billion $, while China got 1400 Billion $ in their forex, so
ultimately our pockets will get empty before their pockets go empty,
· And there will be no diesel in our tanks and fighter planes and they’ll win the war.
· Same is the reason why we’ll win against Pakis in a traditional war.
China-America War
· Lets assume China and America go to war against each other. (again assuming nobody
intervenes, and nobody uses nuke missles.)
· Both have got plenty of money so buying Oil is not a problem for them.
· But China has 1400 Billion Dollars in their Forex reseve.
· Suppose it sends all those dollars in American market, then?
· Suppose China buys plenty of cars, food, etc from American market using the same
American Dollars?
· Too much liquidity in America= everyone has more $$ in pocket than the physical products
available in the market. = heavy inflation =1 potato will sell in 1000 $
· So American economy will collapse. And ultimately they’ll have to declare a ceasefire.
Infact China doesn’t even have to go on a ‘traditional war’, all they need to do is just flood
American market with Dollars without firing a bullet and let the economy of America collapse.
Americans will automatically accept their defeat. Same case, for China vs. France / Russia /
Britain/ Canada or any other 1st world nation.
Thus, having a big Foreign Exchange reserve – makes China a nation, feared and respected by
the Western World compared to India.
Low Forex Reserves, is one of the many reasons why India is not getting a permanent seat in UN
Security council.
Role of Forex Reserve in Foreign Policy
- →hen you’ve plenty of Forex, you can give loans or ‘Donations’ to poor nations in Africa,
and then they’ll support your every resolution and policy in United Nation’s General Assembly!
They’ll even support your permanent seat in security council (UNSC)
- China is buying lot agriculture land in poor African nations & in that land, they’re
growing Maize and other crops to produce bio-dieasel. = again China doesn’t have to worry
about Crude oil like India. (=getting powerful for war)
- You can buy latest fighter jets, missiles, bombs, machine guns from France and America.
(=again getting powerful for war)
And finally, you can use that Forex reserve to import pulses, sugar, wheat etc. to control food
prices with in your domestic market.
For latest on this issue, click me to see the archive of all economy articles written by me so far
WTO Doha Made Easy for UPSC and MBA
Group Discussion Interviews
Tariff barriers
 Tariff = A government tax on imports or exports
 When Indian Govt. puts heavy import duty / custom duty on Foreign Products – either
that import item becomes very costly so people will buy desi* items. (and there will be
smuggling of foreign items! Like Gold watches/ perfumes etc in the 80s.) *Desi=
domestic / indian
 This protects domestic players. (= industrialists/ businessmen.) from competition from
foreign players.
Non-Tariff barriers
 When Desi players are given subsidies / preference over the foreign players by Govt. of
 For example,
o when Govt. is buying some phones/ Xerox Machines, in the tender it’ll mention
that only Domestic companies can fill the tender.
o making polices in such a way that its hard for foreign player to start factory /
introduce his product in India
o Intentionally setting the Quality standards so high that certain players can’t sell
their products here.
 Here no tariff (=tax/money) is involved but still there is a barrier for foreign players.
That’s why its called Non-Tariff barrier.
what was happening before WTO?

 Nations would put heavy custom duties on foriegn items. (to protect the domestic /
Swadeshi industries)- this is called ‘protectionism / Tarrif Barriers’
 this all sounds good from patriotic point but
 When there is less competition – products will be expansive & customer won’t have
much choice. for Example….. compare-
 prices of Mobiles in 1999, with current prices!
 features of current mobiles with 1999 (was there any MP3, radio,Camera, Color Screen
etc features, if yes- how expensive was it!)
 talk-time plans (in 1999 it was about 7 Rs./minute + incoming wasn’t free, now its
around 50 Paisa / minute + Free incoming/)
Today we have this fun, because of globalization + import of foreign products & Govt. doesn’t
put high custom / import tax on it. (no high tarrif barriers)
So, The Primary objective of WTO is to remove the tarrif barriers / Custom duties. =
integrate all nations in international economy.
For this, WTO will consult with all member-nations, and will make legally binding agreements.
Why agreements?
 there are total 19 Agreements in →TO, but most imp. are 3. (i’ll explain it later in this
 these agreements talk about what is compulsory & what is non-compulsory for each
 And what will be the penalties if a nation doesn’t follow these agreements.
 Every Agreement has an ‘Annex’- in that you’ll find the detailed provisions & items
included in the agreements.
 The Secretariat of WTO keeps an eye on every nation – seeing whether agreements are
followed or not.
But there will be some bad-nations who won’t play by the rules & try to cheat such agreements.
So second objective of →TO is ‘Dispute Resolution’
that’s like an international civil court.
Now see the 3 most imp agreements of WTO. See this chart

Now lets see their annex 1 by 1 via charts.
#1 Annex : GATT

Now another mimp annex of GATT is, SCM = subsidies & counter veiling measures (=the Red,
Green & Amber list) – see this chart-

Apart from this, shipment inspection and anti-dumping are also included in GATT annex.
#2 : Annex of GATS (services)

#3 : TRIPS
like I said ago, TRIPS doesn’t have any annex!
But TRIPS is very imp agreement in today’s world full of technologies-so lets see what’s it about
TRIPS =Trade related intellectual property
Its one of the agreement between WTO member nations.
TRIPS doesn’t have any annexes.
What is TRIPS all about?
 In short, under TRIPS agreement, every member-nation has to make laws and tough
punishments for anyone who breaks / copies other people’s copyright / patent etc.
Why TRIPS is imp?
 otherwise, there will be wide spread piracy & then Inventors of 1st world won’t invest /
come in 3rd world market.
 there are certain items whose actual price can’t be counted based on ‘physical material
used in it’ (e.g. Books are not sold based on number of pages/ cost of paper but content &
fame of author.) so we can’t apply GATT (which is for physical goods ) and Book is not
a ‘service’ either (so can’t apply GATS)
 Research & Development.(R&D)
 it takes years and billions of rupees to make a new drug.
 but retail price of one tablet of that drug would be about 5 Rs.
 here, if the patent / copyright wasn’t protected, then inventors will not invest in R&D.&
then world will be deprived of better products.
 the GI (Geographical indicator)
 like Darjiling tea- only the tea made in Darjiling can be sold as ‘Darjiling tea’
 otherwise, Britishers would also sell their tea claiming it to be ‘Darjiling variety’ and
then our tea makers will face unfair compitition.
India’s Problem with GI
 Pakis also claim GI for their Basmati Rice.
 TRIPS doesn’t talk about trans-border GIs.
Time limit
 it came in force from 1st January 1995. and according to its provision
 Developed nations have to make such laws within 1 year.
 developing nations (like India) have to make such laws within 5 years.
 Least Developing countries (like Zimbabway/ Somalia) were given time limit upto 11
years (=2006) , but now the time is extended upto 2016 for pharmaceutical patent laws.
Apart from above 3 agreements (GATT, GATS, TRIPS) other 3 imp agreements are-(see this

What is the Use of these agreements? / What
are the trading principles in WTO?
Without Discrimination
a. MFN = Most favored nation
b. In WTO, every nation is MFN
c. So, if India grants a special favor to one nation – India will have to give that special favor
to all member-nations of WTO.
d. India will have to treat locals & foreign players equally. (e.g. you can’t have a system
like Local businessman’s file will be cleared first or local man will be given preference in
contract / tenders/ 3G frequency allocation.)
· Exception to this principle
1. Group of nations can form FTA = Free trade agreements
2. Country can give special favors to 3
world / poor nations.
3. A nation can impose high import duty/ prevent entry of goods from a nation that’s doing
unfair trade practices (like dumping* / Products dangerous to health**)
4. But there are strict conditions in WTO, before you can do above things.
a. *Dumping =China intentionally sends extremely cheap toys in india, so Indian
toy makers collapse and toy market in India is captured by China.
b. ** Products dangerous to health like China’s milk powder which had melamine.
Freer Trade (bringing down barriers in international trade)
 WTO agreements try to abolish following things-
 custom duties
 Quota
 subsidies
 non-tariff barriers* (explained later.)
 red tape
 Artificially propped up exchange rates
o like China intentionally keeps the value of Yuan low, so Americans will find it
cheap to buy from China compared to other nations.)
 When there are legally binding agreements between member nations of WTO- it means,
even after change in Govt. (BJP / Congress / whatever) – the Indian policy of
international trades won’t alter very much.
 This gives confidence of foreign investors because of
 Promise of stability (=Ceilings on customs tariffs.)
 policy environment is predictable.(= Transparency in trade rules)
 Equal treatment to Local players & foreign players. (=open access to markets)
 binding commitments (WTO keeps an eye on each nation – so Govt. can’t cheat. And if
you cheat- you’ll have to pay fines.)
 And foreign investment helps the domestic economy as well.
Fair competition
WTO agreements prevent unfair dumping, subsidies, government procurement
Economic Reforms
to implement WTO Agreements, the 3rd world nations have to change their policies. = reform
(remember the pre-LPG Era – quota,licence,inspctor raj)
What was before WTO?
 Before WTO, there was GATT.
 GATT was criticized for being ‘Rich men’s club’
 Everything in GATT used to work in a manner that’d suit the rich nations.
so WTO is better than GATT?
 Yes, because of following reasons.
 WTO dispute resolution is quicker than GATT (disputes have to be solved within 18
 in GATT, the bad-nation was free to determine its own penalty.
 but in WTO, bad nation has to pay high penalties for not following the rules.
 GATT talked only about goods (physical products) . WTO talks about services (phone
lines, BPO) & Intellectual property rights, along with those goods.
 The working of WTO is more transparent.
 In WTO, every nation has one vote only. Unlike IMF where rich nations have more
voting powers.
India & WTO
first lets see what positive things happened then we talk of Doha Rounds and finally about
→hat’s India’s problem in Doha rounds.
What did India Gain from WTO?
1. India got boom in exports because WTO gradually lowered Barriers internationally.
2. our export was only $33.22 billion in 1998-99.
3. right now India’s exports are worth more than $100 billion
4. India won multilateral dispute settlement against such powerful economies as USA
5. because of TRIPS, India had to adopt international standards in Intellectual property
rights.= flow of Foreign investment & technology.
6. (because Foreigners established research labs/ manufacturing units in India & started
selling their products here.)
7. Textiles boom (because MFA = Multilateral Fiber Agreement was scrapped under
→TO’s ATC=Agreement on Texttile clothings.) otherwise previously UK and other
nation had put quantitative limits on Indian Cotton’s Entry in their market.
what is DOHA?
Doha is capital city of a small nation called Qatar.
4th Ministerial conference of WTO was held in that city in Nov.2001.
and they (member nations) started talking about some new agreements & issues- and the talks
continued.. so this entire package is called ‘Doha round of talks.‘ aka “DDA = Doha
Development agenda.”
Fifth Ministerial Conference was held in Cancun, Mexico in September 2003.
What were they talking in Doha?
Developing nations were complaining that they’re facing difficulties in implementing →TO
so concessions were given to them.
1. SPS annex added under GATT (hope you saw the previous diagram of GATT annex)
i. a. SPS: Sanitary+ Phytosanitary Measures Agreement (on farm products)
ii. b. Each nation can make its own Quality control rules
iii. c. but they’ve to be scientific.
2. Earlier TRIPS (intellectual property rights) was strict.
a. now it was relaxed- and agreement changed saying that Laws should be made
which supports existing medicines and public health interest at large.
items for new negotiations in Doha
1. Multilateral environmental agreements
2. Trade barriers on environmental goods & services
3. Fisheries subsidies =they harm environment, by encouraging too many fishermen to
chase insufficient fish
the Doha conference failed because it ended with out any consensus.
 Members were divided on competition policy & transparency in Govt. procurements.
 First world blames India to be the main villain for failure of Doha talks.
What was India’s Problem in Doha?
SSM=special safeguard mechanism
 its a measure designed to protect poor farmers by allowing countries to impose a special
tariff on certain agricultural goods in the event of an import surge or price fall
 For example, if USA sends so much cheap corn to India, that price of Corn become 50
paisa per kg. then India can put tariff barrier (= increase import duty on American Corn)
so that prices become high again.
 otherwise, no one would by Indian Corn, and our farmers will starve.
 United States arguing that the threshold had been set too low.
 (e.g. if it was decided that if price fall to 5 Rs. / kg corn, then India could do this. but US
wants that India shouldn’t be allowed to act, unless price of corn falls very low,
something like 50 paisa / kg.!)
 India doesn’t agree with US on this.
Apart from this, India has insisted on a large number of special products that would not be
exposed to wider market opening
Like I said ago, more mobile companies are good. Because it increases employment. (you can be
a representative of some mobile co. or if you’ve retail store, you can sell pre-paid cards etc. or
you can start your own mobile repair shop and so on…)
But same is not true about agriculture sector, since 70% of India’s population depends on one
way or another with the agriculture sector. So if cheap foreign items are allowed, then it’ll create
huge problem for their employment. Its easy for each American farmer to produce tonnes of
grain (and sell his produce cheap), because every farmer has huge farms, latest machinery,
fertilizers & great seeds+ continuous water supply + subsidy. But same is not true in India.
However the problem of food-price inflation should also be taken into account. (= read editorials,
you’ll face such topics in mains / essay.)
More trouble for India
NAMA= Non-agricultural market access negotiations
European Union has threatened to approach the World Trade Organisation (WTO) again if India
does not remove the inter-state tariff disparities. “→e want India to get rid of its taxes on wines
and spirits in different states to allow easier access to European wines, failing which we will
approach the →TO again,”
Criticism of WTO
Mostly comes from environment activities.
1. WTO promotes industries, MNC (Multi-national corporations)
a. But these MNCs sometimes are involved in bad things. Eg. They pay huge bribes
to Burma’s military regime for operating the gas lines, nickel mines etc. and
employ forced laborers in it.
2. The infrastructure boom because of WTO (more foreign companies making factories in
India) – leads to habitat / bio-diversity loss & pollution etc.
3. Its hard to put barriers on imported items, thus the domestic industries face tough
competition which sometimes ruins them. (e.g. its not possible for Indian Toy maker to
compete with Chinese toys in retail price.) and yet not much the Indian Govt. can do. If
they put some ban on it, then China will go to WTO, and WTO will impose heavy fines
on India.
4. 3
world has to open its market for first world product without much benefit in the
reverse process. (=3
world’s products lag in race in 1
world’s market.)
5. e.g. as you know in colonial era, when India was under British Rule, if we exported our
Indian Textiles to Britain, they’d put huge import tax on it. Thus our cloths would
become very expensive in their market. So Britishers would only buy locally made cloths
from Manchester. This sort of ‘protectionism’ in old times (almost upto 1995) = their
companies made lot of profit during that era & had lot profit invested in Research and
technology, so currently their products will be technically and in quality far superior than
ours. So even if there is no barrier today, British people will buy their product and not
ours. This argument runs on the same line like of climate change. America allowed its
factories to pollute the atmosphere and thus became a developed nation but now, it wants
the developing nations to stop polluting the world & cut their emissions!
Timeline – Evolution of WTO
· Bretton Woods conference,
· they wanted to make ITO (International Trade Org.) but it didn’t happen.
· GATT (General Agreement on Trade & Tariffs) established
· It was criticized as being ‘RICH MEN’S CLUB’
· Uruguay Round of Talks
· Service & Intellectual Property rights related topics included in the debate
· 1993, everyone agreed on it
1994 (Marrakesh, Morocco)
- All nations signed on agreement & WTO was established
- 148 nations are members of WTO, covering 94% of international trade
Food Inflation : Meaning, Reasons, Solutions
What is food inflation?
 A consistent rise in the price level of all agricultural food items.
See this chart

Non-cereals = Main Culprits
 We grow plenty of rice and wheat. (Cereals). Their supply or price is not the main reason
for food-inflation.
 But the problem is with supply of fruits, veggies, pulses (Daal) and milk. These are called
“Non-cereals” and they’re mainly responsible for food inflation.
Now the million dollar question:
If the fruits, veggies, pulses (=non-cereals) are expensive than rice or wheat (cererals), then why
aren’t the farmers growing more of these fruits, veggies and pulses to earn more money?
Reasons for Low Non-cereal output
Pulses Cultivation
1. Pulses are fundamentally different from cereals since they need nutrients and energy for
synthesising both proteins and carbohydrates unlike cereals that need to synthesise only
2. This makes them more vulnerable to the vagaries of weather than either rice or wheat and
thus riskier to cultivate. This risk would have been mitigated if farmers had better
marketing and price support. But unlike cereals where there is a procurement price
system run by the government — that offers a minimum support price — and private
trade that has developed alongside, this is not true of pulses.
3. Although Government is running lots of schemes to enhance the pulses and oilseed
production, but its not showing enough result.
4. Though the government declares a minimum support price for most pulses, procurement
operations are far less effective than those for cereals. Thus farmers could see a complete
collapse in prices if the crop is good. The lack of a robust marketing network also implies
that in periods of deficit, when retail prices actually pick up, farm gate prices remain
Present Situation: Pulses
 In the major pulses-producing states (MP, Rajasthan, Maharashtra and UP), cultivation
has been pushed to marginal, non-irrigated land.
 Farmers have also been reluctant to invest in fertilisers and other nutrients or experiment
with high-yielding but more expensive varieties of pulses. As a consequence, yields have
stagnated. From about 590 kg/hectare in the 1990s, the average yield for pulses (averaged
across major categories) has risen to barely 600 kg/hectare in the 2000s.
 The average annual growth rate in the output of pulses is less than 1 per cent. This is
alarming since pulses are the major source of proteins for Indians and the population
growth is about 2 per cent.
Solution: Pulses

 Marketing apparatus for items such as pulses and vegetables has to be revamped so that
producers are assured both of a minimum return on production and a share in higher
revenues when prices move up.
 We need to work on developing varieties with shorter cropping cycles so that they can
be grown on the same land as wheat or rice without affecting their cropping cycles. This
kind of multi-cropping could reduce farmers’ risks substantially, while simultaneously
boosting the output of pulses. There has been limited success with this in the case of
chana and mung.
 Agricultural Price Commission Chairman Ashok Gulati has suggested the possibility of
entering into long-term production contracts for pulses with countries like Tanzania,
which have fallow land and weather and soil conditions conducive to cultivating pulses.
This will enable us to bridge the domestic supply gap but with some certainty about
import prices.

Fruits and vegetables
 Absence of a cold chain and an inadequate food processing industry. Given these risks,
farmers are reluctant to follow price signals and commit more land to these items instead
of cereals.
 Post-harvest waste of fruits and vegetables is as high as 50 per cent, and higher output
simply translates into higher levels of wastage and a collapse in farm-gate prices.
 A thriving food-processing industry could have provided producers an assured market
and relative price stability. But that, alas, is not the case since food processing is confined
to only about 2-3 per cent of fruit and vegetable output.
 Thailand, in comparison, processes 30 per cent and Brazil 70 per cent.
 we need huge investments both in food processing and in supply chain for perishables
itesm (i.e. the food items that cannot be stored forever, unlike gold).
 Whether this investment could come through higher foreign investment or greater
domestic resources is for our policymakers to figure out.
 For fruits, vegetables and milk we need large corporate participation in the post-harvest
supply chain. This would break the current monopoly of private traders, reduce the tiers
of intermediation and ultimately ensure a better farm gate price for the cultivator.
Milk and Dairy items

 India is the largest milk producer in the world with an annual output of 9.6 million
 The per capita consumption is higher than the minimum consumption norms prescribed
by the WHO.
 However, these aggregates are shored up by the success of the cooperative movement in
Gujarat (NDDB or Amul), which began in the 1970s, and a handful of cooperatives in
other states.
 A number of states are severely deficit in milk. The result again is sustained high prices
of milk and its impact on food inflation.
Solution : Milk
 →e need an “Amul” in every state, providing procurement and marketing support to
millions of milk-producers who are now outside any safety net.
We need to de-risk the cultivation of critical items that are in short supply. This would ensure
that the farmers are willing and able to use better inputs. The problem of food inflation will
vanish by itself.
Mock Questions for UPSC GS (Mains)
1. Discuss the reasons behind Food inflation in India and suggest remedies
2. List the steps taken by Government, to promote the cultivation of Pulses and Oilseeds.
3. Functions of Agriculture Price Commission
Food for thought
Government has foodgrain stocks about 80 million tonnes, large part of this is rotting because of
the lack of storage facilities. We are literally sitting on a mountain of grain that we can export
and then use it to fund imports of deficit items (example crude oil)
What If Greece Exits from Eurozone?
Implications on Indian and World Economy
Past few weeks, media is talking about Greece’s possible exit from Eurozone and its impact on
Before going into Greece’s possible Exit from EU, let’s once again start from the beginning.
How does a Government finance its
 Obviously by putting direct and indirect taxes on your and me. But even after taxing us,
there is not enough money to run any bogus Government schemes, then what can they
do? That’ll give the answer for…
What is Sovereign Debt?
 Sovereign debt is the money a government borrows from its own citizens or from
investors around the world.
Then what is Sovereign Debt Crisis?
 →hen Government doesn’t have the aukaat to pay back the Sovereign Debt, it called
“Sovereign Debt Crisis”.
What is a government bond?
 Governments borrow money by selling bonds to investors.
 In return for the investor's cash, the government promises to pay a fixed rate of interest
over a specific period – say 4% every year for 10 years.
 At the end of the period, the investor is repaid the cash they originally paid, cancelling
that particular bit of government debt.
 Government bonds have traditionally been seen as ultra-safe long-term investments (aka
“Gilt Edged Securities”) and are held by insurance companies and banks, as well as
private investors. They are a vital way for countries to raise funds.
What is a bond market?
 Once a bond has been issued – and the government has the cash – the investor can hold
the bond and collect the interest every year until it is repaid. But investors can also buy
and sell bonds that have already been issued on the financial markets – just like buying
and selling shares on the stock market.
 The price of the bond will rise and fall according to speculation and analysis by experts.
For example, you bought a Government of India bond. It says Rs.100 / 4% / 2014.
That is, you paid the “MRP” Rs.100 to Indian Government, and every year they’ll pay you 4% of
the Rs.100 until 2014. And on 2014, they’ll also repay you the entire Principal of Rs.100
Suppose things go nice and smooth until 2012. But Then
a. There is heavy inflation, you can’t buy even peppermint for Rs.4 and or
b. There is a rumor that Government will default and its payment and won’t repay you any
In either case, you want to “Exit” from game before its too late. You want to sell the bond to
another person and recover whatever money possible and reinvest that money in something even
safer and more profitable, for example starting your own Saas-bahu serial. It doesn’t require lot
of brain or money (*if you ask the actresses to bring their own makeup, expensive sarees and
jewellary), and still you get to earn plenty of ad-revenue from anti-aging and skin whitening
So, you come to sell this bond to me. But I also read the newspapers (except The Hindu), so I
know things are not good with Indian Government or economy, so I won’t pay you Rs.100 but
only Rs.90 for your bond. You’re not in a position to negotiate, you’re panicked, you just want to
exit from this game and you fear that if you continue to hold this bond, 15 days from now,
people won’t even pay you Rs.50 for it.
Thus I buy the Bond worth Oringally “MRP” of Rs.100, for Rs.90 from you.
why would I do that? Why would I buy a “not so good-looking” bond from you?
Two reasons
1. My profit is more than yours! How? Because, You invested Rs.100 and get Rs.4 every
year, so your profit (technically known as Bond-yield) is (4/100) x 100 = 4%.
1. While I invested Rs.90 and get Rs.4 every year, so my profit (Yield) is (4/90) x
100 =4.44…% which is better than your 4% yield.
2. I may be speculating that after a month or two, the situation with Indian economy /
Inflation / Government will improve and then I would be able to buy a peppermint for
Why do bond markets matter?
1. Because they determine what it costs a government to borrow.
2. When a government wants to raise new money, it issues new bonds, and has to pay an
interest rate on those bonds that is acceptable to the market.
3. The yield (profit) at which the market is buying and selling a government's existing
bonds gives a good indication of how much interest the government would have to pay if
it wanted to issue new bonds.
4. So, for example, Spanish 10-year bond yields have risen above 6% in recent years. That
means that if the Spanish government wants to borrow new money from the bond market
for 10 years, it would have to pay an interest rate on the new bond of more than 6% to
seduce the buyers.
Borrowing beyond the Aukaat
Governments can just go on print “Bonds” on their HP printers and sell it to junta, because
money doesn’t fall from sky. Someone someday will have to pay for it. If they don’t, then the
Bond Yield will increase and a point will come when you (Government) have to offer 36%
interest rate on fresh bonds to seduce new investors. Therefore, Governments, put limit on their
own borrowing. In India we’ve a thing called FRBM (Fiscal responsibility and budget
For Europen Union, back in 1997 when they were forming the gang, they had decided that each
gang-member (country) will not borrow beyond 3% of its GDP per year.
But Government of Greece manipulated** its account-books to appear as if they were staying
within the 3% limit, but actually they had been borrowing much above their “Aukaat” – almost
13% of their GDP.
**(might have taken coaching from Ramalinga Raju!)
Why is Greece such a messed up Economy?
I’ll copy paste the answer from Amol Agrawal’s article.
 around 1,2 million people are employed by the Greece Government —this includes
clerks, teachers, doctors, and priests—which amounts to almost 27 percent of the total
working population of the country (France24 2010). Thus one out of four working Greeks
is employed wholly or partly in the public sector. More than 80 percent of public
expenditure goes to the wages, salaries and pensions of the civil servants.
 Getting a civil service job in Greece is widely perceived as being granted a sinecure and
not as a contractual obligation to work. The resulting inefficiency of the civil service
reinforced a system of promotions based on seniority and not on merit or talent. One can
only move up the ladder more quickly if one has good connections with politicians and
trade unionists.
 This huge bureaucracy just keeps making laws. From 1974 onwards, 100,000 laws were
passed around 2857 per year!
 Then there are rules limiting competition. You pay a fees to lawyers for everything. You
need a degree licence for doing anything in Greece
 In Greece one can find a whole set of laws mandating opening and closing hours of
various enterprises, or defining the geographical proximity where two similar
establishments can operate, setting minimal prices for various professional services,
issuing licenses and preventing or limiting competition.
 Similar restrictions apply to the operation of drugstores. You are only allowed to own
and operate a drugstore in Greece if you hold a degree in pharmacology. The same
applies to opticians. You can only own a shop selling spectacles if you hold a degree in
 If you have a business and you want to advertise your brand or product you have to pay
an amount equal to 20 percent of the advertising expenses to the pension funds of the
 Each time you buy a ticket on a boat, 10 percent goes to the pension fund of the harbor
workers. A part of the ticket price that covers the insurance of passengers goes to the
sailors’ social security fund.
 If you sell supplies to the Army, you will have to pay 4 percent of the money to the
pension funds of the military officers. When you buy a ticket at a soccer game, 25 percent
of the amount goes to the pension funds of the police.
 It is estimated that there are more than 1,000 such levies whose total cost amounts,
according to some calculations, to over 30 percent of the country’s GDP
 Greece is a society dominated by rent seeking rather than wealth producing activities.
The fact that two thirds of the electorate is living partly or wholly on government hand-
outs significantly affects the ideological narratives that are popular in the country.
–end of copy paste–
In short, Greece is not a country but Air India running MNREGA. And adding insult to the
injury, due to the recession in USA, the tourism and export industry of Greece had took a huge
TimeLine of Events
January 2010
 An EU report starts talking about the irregularities in Greek accounting procedures.
 Concern starts to build about all the heavily indebted countries in Europe – Portugal,
Ireland, Greece and Spain (PIGS).
A.Raja could give the loans to save these countries but stupid Indian media gets him arrested,
while Mohan continues to loop his repeated tape on every 15th August speech that Naxalites are
the biggest thread to India, while Pranab continues to loop his tape that everything bad with
Indian economy is because of “Global Situation”.Anyways Fast forward to
February 2012: The Austerity Bill
EU To Greece: Ok we’ll give you the money to pay off your debts, and we call this money
“Bailout money” but you’ll have to shut down your Air Indias and MNREGAs and we call it
“Austerity Measures”.
PM of Greece: “→haat an idea sir-ji.”
Greece Government introduces the austerity bill in parliament which included following
1. 15,000 public-sector job cuts
2. liberalisation of labour laws (businessmen can easily hire and fire employees)
3. Lowering the minimum wage by 20% from 751 euros per month to 600 euros.
Junta of Greece: “Not a good idea sir-ji”
and they start rioting on the street. But since Government kept the promise of introducing
reforms, EU gives them billions of Euro as loan.
May 2012: Elections in Greece
 But no party gets clear majority and no coalition Government is formed.
 So they plan to hold election again on June 2012, and a judge has been appointed to head
an interim government in the mean time.
What’s the EU Exit Rumor?
There are two major parties in Greece.
1. The right wing party: they say we continue in Eurozone, agree to their demand, cut more
jobs and public spending for receiving more bailout money.
2. The Left Wing Party: they want to renegotiate the loan-terms with EU and IMF and
donot want to implement any austerity measures. They’d take a hostile stand against EU,
although in media they say “→e want to continue in Eurozone” but their agenda and
gesture speaks otherwise.
See this same like Paki PM comes to India and speaks in one tone but when he’s back in an
election rally in Lahore he’d be speaking an a totally different tone about Kashmir. And there
he’ll say India is not cooperating with us and India is the bad guy.
Experts feared that public of Greece will elect anti-bailout parties that reject the spending cuts
(austerity measures) suggested by EU and IMF. So this newly elected party will try to
renegotiate the bailout terms with EU / IMF to such a ridiculous level, that negotiations will
break off and then Greece will exit from EU.
Thankfully for the time being, crisis has been averted as the right wing pro-EU / bailout party has
gained the majority.
What’re the consequences IF Greece Exits
Starting Copy paste of BBC Article

Lines at the Banks
 Ordinary Greeks may queue up to empty their bank accounts before they get frozen and
converted into drachmas that lose half or more of their value. Depositors in other
eurozone countries seen as being at risk of leaving the euro – Spain, Italy – may also
move their money to the safety of a German bank account, sparking a banking crisis in
southern Europe.
Loan Default by Greece
 Unable to borrow from anyone (not even other European governments), the Greek
government simply runs out of euros. It has to pay social benefits and civil servants'
wages until the new drachma currency can be introduced.
 The government stops all repayments on its debts, which include 240bn euros of bailout
loans it has already received from the IMF and EU.
 The Greek banks – who are big lenders to the government – would go bust.
 Meanwhile, the Greek central bank may be unable to repay the 100bn euros or more it
has borrowed from the European Central Bank to help prop up the Greek banks.
 Greece's banks would be facing collapse. People's savings would be frozen. Many
businesses would go bankrupt. The cost of imports – which in Greece includes a lot of its
food and medicine – could double, triple or even quadruple as the new drachma currency
is introduced.
 With their banks bust, Greeks would find it impossible to borrow, making it impossible
for a while to finance the import of some goods at all.
 One of Greece's biggest industries, tourism, could be disrupted by political and social
turmoil (and rioting).
 In the longer run, Greece's economy should benefit from having a much more
competitive exchange rate. But its underlying problems, including the government's
chronic overspending, may not go away.
Businesshouses go Bankrupt
 Greek companies who still owe big debts in euros to foreign lenders, but whose main
sources of income are converted to devalued drachmas, will be unable to repay their
debts. Many businesses will be left insolvent – their debts worth more than the value of
everything they own – and will be facing bankruptcy. Foreign lenders and business
partners of Greek companies will be looking at big losses.
 Some contracts governed by Greek law are converted into drachmas (=old currency of
Greece before Euro), while other foreign law contracts remain in euros. Many contracts
could end up in litigation over whether they should be converted or not.
Sovereign Debt Crisis for Weak Eurozone
 If Greece leaves the eurozone, that will send negative impression among the investors all
over the world, that Eurozone countries are not trustworthy, hence they’ll not lend to
other countries such as Spain or Italy and if they lend, they’ll charge heavy interest rate.
 This could leave the governments of Spain and Italy short of money and in need of a
bailout. These two huge countries together account for 28% of the eurozone's total
economy, but the EU's bailout fund currently doesn't have enough money to help them
 And as explained earlier, they (Spain and Italy) will have to offer more interest rate on
new bonds, because of the Bond Yield problem.
Good for US and Japan
 Nervous investors and lenders around the world may start selling off risky investments
(i.e. Bonds and Equities coming from Greece and similar nations) and move their money
into safe havens. They’ll instead prefer to park their money in the gilt-edged securities
(i.e. the Government treasury bonds of US, Japan, Germany etc.)
 Thus on one hand, the Greece, Spain and Italy will have to pay high interest rate to
borrow from market, while US, Japan and Germany can borrow more cheaply.
 Problem for India: Creding Rating agencies are not very happy with India’s performance,
they’re unlikely to increase our rating. Meaning, if Mr.X pulls out his money from
Greece or other EU nation, he’ll most likely put it in US, Japan and Germany but not in
India. Because India is getting negative rantings from Standard and Poors, Moody’s etc.
Political Turmoil in Europe
 As eurozone governments and the European Central Bank (ECB) face enormous losses
on the loans they gave to Greece, public opinion in Germany may turn against providing
the even larger bailouts probably now needed by big countries like Italy and Spain.
 The ECB's role of quietly providing rescue loans to these countries in recent months
would be exposed and could become politically explosive, making it harder for the ECB
to continue to help these troubled nations.
 However, the threat of a meltdown might push Europe's or the eurozone's governments to
agree a comprehensive solution – either dissolution of the single currency, or more
integration, perhaps through a democratically-elected European presidency tasked with
overseeing a massive round of bank rescues, government guarantees and growth.
Recession in Europe
 Businesses, afraid for the euro's future, may cut investment.
 Faced bad news in the press, ordinary people may cut back their own spending. = less
demand= could push the eurozone into a deep recession.
 The euro would lose value in the currency markets, providing some relief for the
eurozone by making its exports more competitive in international trade. But the flipside is
that the rest of the world will become less competitive – especially the US, UK and Japan
– undermining their own weak economies.
 Even China, whose economy is already slowing sharply, could be pushed into a
recession. (Because people in Europe will cut down their spending = less demand for
Chinese goods)
—-End of BBC copy paste—
Why Greece Exit =Trouble for India?
 When investors take out their money from Greece, they’ll most likely convert it into
Dollars and invest it US. Means less “supply” Dollar in the international forex market =
dollar becomes more expensive, you’ve to offer more rupees to buy same amount of
dollar. 1$ might become 57Rs. = crude oil expensive = everything becomes more
 Some of above investors may also invest in gold, (After loosing faith in bond market).
Again same supply-demand situation. Gold becomes more expensive.
 Investors will become more and more cautious about credit-ratings, they won’t dare to
invest in places with negative ratings. In a way, right now India is no better than Greece
when it comes to inefficient bureaucracy, PSU and policy paralysis. Thus Indian
Companies and PSUs will have to offer more interest rates under bond yield problem
(why? Because RBI is not cutting down the Repo rate) = so profit margins falls= less
production = fall in IIP Index = job cuts= demand falls = fall in GDP. Finally, when
GDP growth is negative for two consecutive quarters or more = the Recession.
 Seeing the situation of Greece people (Pension and job cuts), the citizens of other
European nations will try to save more and more money for the possible bad times ahead
= less spending on luxery items = less demand for indian textiles, polished dimanonds
and automobiles.
 Indian businessmen who exported goods and services to Greece earlier, will have trouble
collecting their money. Because Greek businessman might simply give up saying “either
you accept my Drachma or file a court case on me. I don’t care. I don’t have money”.
When Indian businessman cannot collect the payment = job cuts, reduced production=
low IIP. (Impact of low IIP already explained in an old article)
Food for thought
 You might wonder- why is Greece against the austerity measures, when the whole world
wants them to do it?
 Their logic: if we stop welfare programs and reduce salaries and pensions, then people
will have less money to spend = demand supressed = slowdown.
 So instead of cutting the Government expenditure, we should do the reverse, just like
what Lord Keynes suggested, “To combat recession, Government should start spending
on public works, thus creating jobs and demand in the market.”
Who do you think is right? Greece or the EU?
EU Fiscal Treaty and European Stability
Mechanism (ESM): Meaning Issues
1. What is the difference between Eurozone and EU?
2. What is EU Fiscal Treaty?
3. What is European Stability Mechanism (ESM)?
4. What is European Financial Stability Facility (EFSF)?
5. What is the problem?
6. What is Bundestag?
7. Archive : 100+ articles on Economy
Make sure you’ve read my earlier article on Eurozone crisis, before proceeding further.
What is the difference between Eurozone and
 EU = European Union. Made up of 27 Nations.
 Eurozone= Those EU countries, which use Euro as their official currency. There are 17
such nations.
 Therefore EU (27)= Eurozone (17) nations. + Other EU (10) nations.
1. Austria
2. Belgium
3. Cyprus
4. Estonia
5. Finland
6. France
7. Germany
8. Greece
9. Ireland
10. Italy
11. Luxembourg
12. Malta
13. Netherlands
14. Portugal
15. Slovakia
16. Slovenia
17. Spain
Note: There are some non-EU countries also using Euro as their official currency, for example
San Marino, Kosovo and Montenegro. But since they’re not members of European Union (EU),
they don’t fall under the definition of Eurozone.
What is EU Fiscal Treaty?
 A pact between the EU member-nations that they’ll not run Air Indias and MNREGAs.
 To put this in a refined language:
The salient features of EU fiscal treaty are following
1. Member-nations will try to get a “balanced or surplus budget.” i.e. Government will not
spend more money than its income.
a. But still, if they end up with a deficit budget (when Government spends more
than it earns) and thus to fill up that deficit, if the Government has to sell bonds,
then it’ll have to notify the Committee.
2. European Court of Justice will check whether nations implement budget rule properly – it
will fine them up to 0.1% of national output (GDP) if they fail to do so. For example,
next time Greece fudges its account books to borrow more than the limit, then it’ll be in
deep trouble.
3. Eurozone has 17 nations, and this treaty will come into effect, if and only if at least 12
Eurozone nations ratify it (in their parliament or via referendum.) Once this is done, the
treaty will come into effect from from 1 January next year (2013).
4. Even after these measures, if there is another Sovereign debt crisis, then they will use
money from European Stability Mechanism (ESM) fund to fix it.
5. If a Eurozone Member-state doesnot pass EU treaty and later on, runs into trouble like
Greece, then it will not get money from ESM fund.
What is European Stability Mechanism
 Eurozone member-nations will pool their money in this fund and during any financial
crisis, the money will be used.
 There will be 500 billion Euro in this fund. (Equals to about $620 billion USD)
What is European Financial Stability Facility
It was the original Eurozone bailout fund, set up in May 2010. Now it will be replaced by the
What is the problem?
 PIGS countries (Portugal, Italy, Greece, Spain) each will have to give $100 billion in the
ESM fund, but it’s beyond their “Aukaat” at the moment.
 So, the big players France and Germany will have to bear the burden and give most of the
 In fact Germany will give 27% of contributions to the ESM, paying out about 20bn euros
in cash and providing guarantees worth about 170bn euros.
 The Left-wing Opposition parties of Germany are unhappy with this Development, they
feel “why should we bear the burden for the problems caused by Greece?”
 German Chancellor Angela Merkel will need 2/3
majority in Parliament, to first get this
EU treaty approved.
 She has made deal with other opposition parties SP and BSP and promised to pause CBI
inquiry against their leaders so they’ll vote in favor of the treaty, in Bundestag.
What is Bundestag?
 It is the Loksabha of Germany.
 Japan’s parliament known as Diet
 Afghanistan = Jirga
 Israel’s parliament =Knesset
 USA’s parliament = Congress. USA’S Rajyasabha= Senate, but with truckload of powers
compared to ours.
Competition Commission of India order
against Cement Companies
What is Competition Commission of India
(CCI )?
 It is a statutory body that monitors anti-competitive agreements, abuse of dominant
position by enterprises and regulates combinations (acquisition, acquiring of control and
M&A), which causes or likely to cause an adverse effect on competition within India.
 Commission comprises a Chairperson and six members. Ashok Chawla is the current
Chairperson of the CCI
Case of Cement Companies
 CCI investigation found that the cement companies had intentionally not utilised the
available capacity so that there are reduced cement supplies in the market and they can
raise prices in times of higher demand.
 The cement manufactures were instrumental in limiting and controlling supplies in the
markets and determining prices through an anti-competitive agreements.
 The commission stressed that such anti-competitive agreements are detrimental not only
to consumers but also to the entire economy as cement is very crucial input in
construction and infrastructure industry, vital for economic development.
 ACC, Ambuja Cements, UltraTech Cement and JK Cement, Lafarge India, India
Cements, Madras Cements, Century Cements, Binani Cement and Jaiprakash Associates.
 Competition Commission of India (CCI) has slapped a penalty of over Rs 6,300 crore on
10 cement companies
 The companies have been asked to deposit the penalty within 90 days.
Case of Oil Companies
 Competition Commission of India (CCI) is looking into Public Sector Oil Companies, for
controlling the petrol prices even after prices in international markets fell.
 PSU oil firms, which generally revise the petrol rates on 1st and 16th of every month
have skipped changing rates recently. The oil companies have not reduced the petrol
prices citing the excuse that imports are getting costlier due to the falling rupee.
 Apart from this, CCI is also watching the Tyre-manufacturing sector.
Pension Fund Regulatory and Development
Authority (PFRDA) Bill Features, Issues
1. Pension Fund Regulatory and Development Authority Bill, 2011
2. History
3. Salient Features of PFRDA Bill 2011
4. What is NPS?
5. Mock Question
Pension Fund Regulatory and Development
Authority Bill, 2011
 has been pending for several years, seeks to open the pension sector to private sector and
foreign investment.
 If it was passed by cabinet in June 2012, it could be tabled in parliament in the Monsoon
Session starting in July 2012.
 But Trinamool Congress, a key ally of UPA opposed it and hence the bill has been put on
backburner yet again.
 Trinamool’s official reason: this PFRDA bill is against the intersest of common man.
 Unofficial reason (if one believes the IndianExpress frontpage 08 June 2012), is that
West Bengal Government wants debt relief of Rs.25,000 crores from the Union
Government and unless and until it is given, they’ll continue to stall all the bills and
policy issues like FDI in Multi-brand retail, Pension Reform bill etc.
 PFRDA, set up as a regulatory body for pension sector, is yet to get statutory powers as
the Bill pertaining to that effect lapsed in Parliament with the expiry of last Lok Sabha in
 Interim PFRDA is functioning since 2003 through an executive order.
 It was introduced in the Lok Sabha on March 24, 2011 was referred to the Standing
Committee headed by senior BJP leader and former Finance Minister Yashwant Sinha for
 Committee wanted the government to specify the FDI cap in the legislation itself, besides
providing for minimum guaranteed return to pension subscribers.

Salient Features of PFRDA Bill 2011

 Establishment of a statutory authority to undertake promotional, developmental and
regulatory functions in respect to pension funds.
 It proivdes for 26% Foreign Direct Investment (FDI) in the pension sector, just like it is
in the insurance industry.
 Bill will provide greater flexibility to subscribers to withdraw funds from their accounts,
and Assured returns to pension fund subscribers.
 It also alters the name of the New Pension System to National Pension System (NPS).
What is NPS?

 NPS is a ‘defined contribution’ scheme for all central government employees who joined
after January 2004. It is implemented through a combination of retailers, pension fund
managers, and a record keeper.
 Under the NPS, every subscriber will have an individual pension account, which will be
portable across job changes. The subscribers will choose fund managers and schemes to
manage their pension wealth. They will also have the option of switching schemes and
fund managers.
 The NPS was extended to all general citizens through central government notification in
Mock Question

Which of the following statements are correct?
1. PFRDA is a statutory body.
2. PFRDA is a Constitutional body
3. IRDA is a statutory body
4. SEBI is a statutory body
5. FDI cap in Insurance Sector is 26%
6. Monsoon session of parliament begins in November.
Rupee & GDP Downfall : Steps taken by
Government, What is Policy Paralysis?
Meaning Implications
In an earlier article, we saw about the steps taken by the reserve bank of India to prevent the
downfall of the downfall of rupee.
In this article, we see the steps taken by government of India, to prevent the downfall of rupee, to
boost the GDP, confidence of Investors and Credit rating agencies (S&P, Moody’s etc).
1. Steps already taken by Government
2. Policy paralysis: What are the problem areas?
o FDI issues
o Oil Price
o Gold Import
o Aviation Fuel
o Roads, Railways and ports
o Telecom
See this diagram

Steps already taken by Government
1. Infrastructure review meeting by the Prime Minister, he says we need investment of Rs.1
lakh crore in the infrastrcture. (hahaha, in another meeting or seminar he had said we
need Rs.2 lakh crore investment, As if money falls from the sky!)
2. Investment tracking system to monitor the status of project of Rs.1000 crore and above.
3. Manufacturing industry promotion board (MIPB) headed by the commerce and industry
Minister, has been set up.
4. Aviation Ministry has cleared and India's new operation plan.
5. Cabinet has cleared the National Telecom policy 2012, and a move to introduce unified
licensing regime.
6. Empowered group of Ministry on spectrum pricing, has endorsed Telecom commission
suggestion that a 10 MHz spectrum per circle be put up for auctions.
7. A nine-member ministerial panel has been formed to hasten the draft coal regulator bill.
8. Finance Ministry set up a meeting with pharmaceutical industry, to work out a
mechanism for fast clearance of FDI proposals
9. Finance Ministry has issued austerity guideline to ministers and bureaucrats
a. Restrictions on foreign travel.
b. Restrictions on purchase of new vehicle
c. Ban on meetings in the five star hotels.
d. Although Planning Commission has been kept out of these auterity measures, and
allowed to build toilet worth Rs.35 lakhs.
10. Government agreed to amend the pension bill and incorporate the suggestions of the
standing committee of Finance, including a 26% FDI and a mechanism for minimum
assured returns. (update this was put on backburner after Mamatha blocked it.)
11. Individual Qualified institutional investors (QFI) are allowed to bring up to one billion
dollar in the Debt Market. (i.e. the “Bonds” market, for explaination read my Debt ↑s
Equity, Bond vs Shares article.) Apart from that, rules have been relaxed to allow entry
of QFIs from gulf countries. More on that given in previous article (click me)
12. New sops for the exporters in foreign trade policy 2009-14.
Policy paralysis: What are the problem
FDI issues
Proposal for the foreign direct investment in the key sectors such as multibrand retail, aviation,
banking and insurance are either stuck at various level or simply put in cold storage because of
coalition politics
1. There is a huge gap in demand and supply of the coal, and it is negatively affecting the
IIP and WPI Index, and electricity supply.
a. How does coal price affect WPI? Click me to understand.
b. What is IIP? Click me to understand.
2. Gas output has declined, directly affecting the CNG and Fertilizer prices.
Oil Price
 Higher petrol / diesel price has snowballing effect on entire economy. It increases the
cost of production and transport of various goods (milk, vegetables ) = Supply side
inflation. What is Supply side inflation? Click me to understand.
 On one hand Oil companies say we are making losses so we’ll hike the prices, one the
other hand Government (At union and state level) keep high taxes on fuels to finance
their bogus Development schemes. So you and I are crushed from both the sides paying
Rs. 80 per litre of petrol.
Gold Import
Already explained in the previous article, how Gold import increases our Current Account
Deficit, thus increasing the demand of dollar = rupee downfall. Hence there should be a heavy
excise duty on gold, to prevent its consumption.
Aviation Fuel
 high cost of aviation turbine fuel (ATF)
 State taxes upto 33% tax on ATF, thus airlines are not generating decent profit. Some are
exiting, some are cutting down the staff.
 Proposal for allowing FDI in domestic airlines = stuck
 Air India = loss making, financed by tax payer’s money.
Roads, Railways and ports
 Slow pace of highway projects, because of the land acquisition issues and environmental
clearance. Strong road-infrastrucutre is a prerequisite for boosting the economy.
 Railways is messed up because
o Passenger fares are not hiked due to vote bank politics. And to cover up the
losses, they keep the freight costs high (i.e. the price you’ve to pay to get goods
delivered from one place to another.) this is called cross-subsidization.
o Higher freight charges = lower profit margin = higher MRP = Supply side
o Because of the Naxal blowing railway tracks, the Indian Railways doesn’t run
many trains through the red-corridor during night hours and the pilots are
instrucuted to drive the train at 30-40 kmph speed only, while going through the
naxal regions = slow transport of men and material = bad for economy.
 Most of India's major ports are short on capacity and grossly insufficient in terms of
tonnes of cargo handled and turn-around time for vessels, when compared to Singapore
or Japan. (Example: If you come up with a cargo-ship containing 500MT of goods from
US to India, it’ll take 2 days to unload the ship in India while it’ll take merely a few
hours in Singapore, due to the unskilled manpower, lack of latest machinary and lots of
paperwork and bureaucratic procedures.)
 Telecom and internet are essential to generate more business and employment.
 But the foreign investors are exiting because of the flawed implementation and court
 Because of the policy uncertainty in the telecom sector, there is very low investment
thefore prices of mobile connection and broadband internet are extremely high compared
to Japan or USA. It directly affects the profit margin of cybercafe / call centre and other
similar businesses.
 IndianExpress’s business section dated 7
June 2012
 Restrcturing, elaboration by You know who.
Prepaid Payment Card
What is Prepaid Payment card?
 Prepaid cards work on the theme very similar to prepaid mobile phone cards. All you
have to do is buy a card, load it with the desired amount and the card is ready to be used.
You do not require any bank account to use these cards.
 They’re convenient alternatives to cash and cheques
 They’re issued mainly by banks and Non-Banking Financial Companies (NBFCs) on
payment of specified amount and are used for purchasing goods and services from
limited outlets.
 These pre-paid cards which are technically known as semi-closed pre-paid instrument
 These instruments do not permit cash withdrawal or redemption by the holder. (i.e. you
buy a card, you’ve to use it.)
 No interest is payable by the bank on such balances.
 The maximum value of any prepaid payment instrument shall not exceed Rs 50,000/-.
Why is it in news?
 With passing of Payment and Settlement systems, Act 2007, all non-bank entities
(NBFCs) currently issuing prepaid payment instruments and those proposing to issue
such payment instruments would have to approach Reserve Bank for authorization.
 In 2009, RBI had allowed Pre-Paid card holders to purchase travel tickets, insurance and
pay water, electricity and telephone bills.
 Now in June 2012, Reserve Bank has allowed holders of pre-paid payment cards, to
deposits school and college fees and pay taxes in addition to buying rail and air tickets
within the prescribed limit of Rs 10,000. (Banks and Companies are allowed to issue
such pre-paid cards without fullfilling the KYC : Know your customer requirement.)
Multi-level TDS on Softwares Removed: Yet
another Reform to boost GDP
Present Tax-structure on sale of softwares
 Under the current structure, TDS of 10 per cent is levied at every level of software
distribution chain from master distributor to retailer and to the final consumer.
 Problems= Lot of paper work + Low profit margins for the software makers.
 (TDS already explained in Vodafone case article)
TDS Reform for Softwares
 Now, Finance ministry will do away with the complex multi-level system of Tax
Deduction at Source (TDS) for the IT sector from July 1,2012.
 Pranab said, “No deduction of tax shall be made on payment by a person (transferee) for
acquisition of software from another person (transferor), being a resident (of India).
 Government will amend Income Tax Act for this purpose.
Condition on TDS relief
 The TDS exemption would be available only when the software is acquired in subsequent
transfer, without any modification.
 This could mean that the benefit of TDS exemption will not be available for unbranded
software or customised software.
Rupee Downfall: RBI directive to Oil Cos-
buy 50% dollars from SBIs
In the earlier articles, I had talked about the “Steps taken by RBI to prevent Downfall of Rupee
(click me if you didnot read it)”
Here is one more step taken by RBI : It ordered the Public Sector Oil marketing companies
(OMCs) to buy 50% of their dollar requirements from single public sector bank.
How do Oil Companies buy the Dollars for
Crude Oil import?
 Until Now following Method:
 The Oil Companies would seek dollar quotes from multiple banks.Eg. they send “email”
asking for estimate to every Bank- “I need $1 million, how much money will you take?”
 The banks respond with individual rates, (counting their profit margin) and then the Oil
company will make dollar purchase deal to the cheapest among them all.
 Indian Oil Corp (IOC), Bharat Petroleum and Hindustan Petroleum are the biggest buyers
of dollars in the domestic market with nearly $7 billion of monthly purchase.
What is the problem?
 The oil company sends same “I need $1 million” email to every bank and that gives an
exaggerated impression of an OMC’s demand, sending a wrong signal to the market that
there is a huge unmet need of dollars.
 This usually ended up strengthening the dollar against the rupee.
 February 2012 : 1$ = Rs. 48
 June 2012: 1$=Rs.57
RBI’s directive to OMCs
 From now on, OMCs have to buy half their daily foreign exchange needs from a public
sector bank like SBI (without bidding)
 and the rest half through competitive bids by a panel of banks — public and private — to
fund their import of crude oil and petroleum products.
 This applies to State Run OMCs only.
Why are Oil Companies unhappy with RBI’s
 Because Dollar purchase from a single bank would lead to dependence on a singe bank
for a large volume which might not be in their best interest. (+lack of transparency /
another scam incoming.)
Definition of 100+ (A-Z) Terms of Economics
from BBC
The best credit rating that can be given to a borrower’s debts, indicating that the risk of a
borrower defaulting is minuscule.
An annual general meeting, which companies hold each year for shareholders to vote on
important issues such as dividend payments and appointments to the company’s board of
directors. If an emergency decision is needed – for example in the case of a takeover – a
company may also call an exceptional general meeting of shareholders or EGM.
Things that provide income or some other value to their owner.
 Fixed assets (also known as long-term assets) are things that have a useful life of more
than one year, for example buildings and machinery; there are also intangible fixed
assets, like the good reputation of a company or brand.
 Current assets are the things that can easily be turned into cash and are expected to be
sold or used up in the near future.
Economic policy aimed at reducing a government’s deficit (or borrowing). Austerity can be
achieved through increases in government revenues – primarily via tax rises – and/or a reduction
in government spending or future spending commitments.
The financial rescue of a struggling borrower. A bailout can be achieved in various ways:
 providing loans to a borrower that markets will no longer lend to
 guaranteeing a borrower’s debts
 guaranteeing the value of a borrower’s risky assets
 providing help to absorb potential losses, such as in a bank recapitalisation
A legal process in which the assets of a borrower who cannot repay its debts – which can be an
individual, a company or a bank – are valued, and possibly sold off (liquidated), in order to repay
→here the borrower’s assets are insufficient to repay its debts, the debts have to be written off.
This means the lenders must accept that some of their loans will never be repaid, and the
borrower is freed of its debts. Bankruptcy varies greatly from one country to another, some
countries have laws that are very friendly to borrowers, while others are much more friendly to
Base rate
The key interest rate set by the Bank of England. It is the overnight interest rate that it charges to
banks for lending to them. The base rate – and expectations about how the base rate will change
in the future – directly affect the interest rates at which banks are willing to lend money in
Basel accords
The Basel Accords refer to a set of agreements by the Basel Committee on Bank Supervision
(BCBS), which provide recommendations on banking regulations. The purpose of the accords is
to ensure that financial institutions have enough capital to meet obligations and absorb
unexpected losses.
Basis point
One hundred basis points make up a percentage point, so an interest rate cut of 25 basis points
might take the rate, for example, from 3% to 2.75%.
The British Bankers’ Association is an organisation representing the major banks in the UK –
including foreign banks with a major presence in London. It is responsible for the daily
Liborinterest rate which determines the rate at which banks lend to each other.
Bear market
In a bear market, prices are falling and investors, fearing losses, tend to sell. This can create a
self-sustaining downward spiral.
A debt security- or more simply an IOU. It is very similar to a bond, but has a maturity of less
than one year when first issued.
The Bank for International Settlements is an international association of central banks based in
Basel, Switzerland. Crucially, it agrees international standards for the capital adequacyof banks –
that is, the minimum buffer banks must have to withstand any losses. In response to the financial
crisis, the BIS has agreed a much stricter set of rules. As these are the third such set of
regulations, they are known as “Basel III”.
A debt security, or more simply, an IOU. The bond states when a loan must be repaid and what
interest the borrower (issuer) must pay to the holder. They can be issued by companies, banks or
governments to raise money. Banks and investors buy and trade bonds.
An acronym used to describe the fast-growing economies of Brazil, Russia, India and China.
Bull market
A bull market is one in which prices are generally rising and investor confidence is high.
For investors, it refers to their stock of wealth, which can be put to work in order to earn income.
For companies, it typically refers to sources of financing such as newly issued shares.
For banks, it refers to their ability to absorb losses in their accounts. Banks normally obtain
capital either by issuing new shares, or by keeping hold of profits instead of paying them out as
dividends. If a bank writes off a loss on one of its assets – for example, if it makes a loan that is
not repaid – then the bank must also write off a corresponding amount of its capital. If a bank
runs out of capital, then it is insolvent, meaning it does not have enough assets to repay its debts.
Capital adequacy ratio
A measure of a bank’s ability to absorb losses. It is defined as the value of its capital divided by
the value of risk-weighted assets (ie taking into account how risky they are). A low capital
adequacy ratio suggests that a bank has a limited ability to absorb losses, given the amount and
the riskiness of the loans it has made.
A banking regulator – typically the central bank – sets a minimum capital adequacy ratio for the
banks in each country, and an international minimum standard is set by the BIS. A bank that fails
to meet this minimum standard must be recapitalised, for example by issuing new shares.
. The point when a flurry of panic selling induces a final collapse – and ultimately a bottoming
out – of prices.
Carry trade
Typically, the borrowing of currency with a low interest rate, converting it into currency with a
high interest rate and then lending it. The most common carry trade currency used to be the yen,
with traders seeking to benefit from Japan’s low interest rates. Now the dollar, euro and pound
can also serve the same purpose. The element of risk is in the fluctuations in the currency
Chapter 11
The term for bankruptcy protection in the US. It postpones a company’s obligations to its
creditors, giving it time to reorganise its debts or sell parts of the business, for example.
Collateralised debt obligations (CDOs)
A financial structure that groups individual loans, bonds or other assets in a portfolio, which can
then be traded. In theory, CDOs attract a stronger credit rating than individual assets due to the
risk being more diversified. But as the performance of many assets fell during the financial
crisis, the value of many CDOs was also reduced.
Commercial paper
Unsecured, short-term loans taken out by companies. The funds are typically used for working
capital, rather than fixed assets such as a new building. The loans take the form of IOUs that can
be bought and traded by banks and investors, similar to bonds.
Commodities are products that, in their basic form, are all the same so it makes little difference
from whom you buy them. That means that they can have a common market price. You would be
unlikely to pay more for iron ore just because it came from a particular mine, for example.
Contracts to buy and sell commodities usually specify minimum common standards, such as the
form and purity of the product, and where and when it must be delivered.
The commodities markets range from soft commodities such as sugar, cotton and pork bellies to
industrial metals such as iron and zinc.
Core inflation
A measure of CPI inflation that strips out more volatile items (typically food and energy prices).
The core inflation rate is watched closely by central bankers, as it tends to give a clearer
indication of long-term inflation trends.
Correction (market)
A short-term drop in stock market prices. The term comes from the notion that, when this
happens, overpriced or underpriced stocks are returning to their “correct” values.
The Consumer Prices Index is a measure of the price of a bundle of goods and services from
across the economy. It is the most common measure used to identify inflation in a country. CPI
is used as the target measure of inflation by the Bank of England and the ECB.
Credit crunch
A situation where banks and other lenders all cut back their lending at the same time, because of
widespread fears about the ability of borrowers to repay.
If heavily-indebted borrowers are cut off from new lending, they may find it impossible to repay
existing debts. Reduced lending also slows down economic growth, which also makes it harder
for all businesses to repay their debts.
Credit default swap (CDS)
A financial contract that provides insurance-like protection against the risk of a third-party
borrower defaulting on its debts. For example, a bank that has made a loan to Greece may choose
to hedge the loan by buying CDS protection on Greece. The bank makes periodic payments to
the CDS seller. If Greece defaultson its debts, the CDS seller must buy the loans from the bank at
their full face value. CDSs are not just used for hedging – they are used by investors to speculate
on whether a borrower such as Greece will default.
Credit rating
The assessment given to debts and borrowers by a ratings agency according to their safety from
an investment standpoint – based on their creditworthiness, or the ability of the company or
government that is borrowing to repay. Ratings range from AAA, the safest, down to D, a
company that has already defaulted. Ratings of BBB- or higher are considered “investment
grade”. Below that level, they are considered “speculative grade” or more colloquially as junk.
Currency peg
A commitment by a government to maintain its currency at a fixed value in relation to another
currency. Sometimes pegs are used to keep a currency strong, in order to help reduce inflation. In
this case, a central bank may have to sell its reserves of foreign currency and buy up domestic
currency in order to defend the peg. If the central bank runs out of foreign currency reserves,
then the peg will collapse.
Pegs can also be used to help keep a currency weak in order to gain a competitive advantage in
trade and boost exports. China has been accused of doing this. The People’s Bank of China has
accumulated trillions of dollars in US government bonds, because of its policy of selling yuan
and buying dollars – a policy that has the effect of keeping the yuan weak.
Dead cat bounce
A phrase long used on trading floors to describe the small rebound in market prices typically
seen following a sharp fall.
Debt restructuring
A situation in which a borrower renegotiates the terms of its debts, usually in order to reduce
short-term debt repayments and to increase the amount of time it has to repay them. If lenders do
not agree to the change in repayment terms, or if the restructuring results in an obvious loss to
lenders, then it is generally considered a default by the borrower. However, restructurings can
also occur through a debt swap – a voluntary agreement by lenders to switch existing debts for
new debts with easier easier repayment terms – in which case it can be very hard to determine
whether the restructuring counts as a default.
Strictly speaking, a default occurs when a borrower has broken the terms of a loan or other debt,
for example if a borrower misses a payment. The term is also loosely used to mean any situation
that makes clear that a borrower can no longer repay its debts in full, such as bankruptcy or a
debt restructuring.
A default can have a number of important implications. If a borrower is in default on any one
debt, then all of its lenders may be able to demand that the borrower immediately repay them.
Lenders may also be required to write off their losses on the loans they have made.
The amount by which spending exceeds income over the course of a year.
In the case of trade, it refers to exports minus imports. In the case of the government budget, it
equals the amount the government needs to borrow during the year to fund its spending. The
government’s “primary” deficit means the amount it needs to borrow to cover general
government expenditure, excluding interest payments on debts. The primary deficit therefore
indicates whether a government will run out of cash if it is no longer able to borrow and decides
to stop repaying its debts.
Negative inflation – that is, when the prices of goods and services across the whole economy are
falling on average.
A process whereby borrowers reduce their debtloads. Primarily this occurs by repaying debts. It
can also occur by bankruptcies and debt defaults, or by the borrowers increasing their incomes,
meaning that their existing debtloads become more manageable. Western economies are
experiencing widespread deleveraging, a process associated with weak economic growth that is
expected to last years. Households are deleveraging by repaying mortgage and credit card debts.
Banks are deleveraging by cutting back on lending. Governments are also beginning to
deleverage via austerity programmes – cutting spending and increasing taxation.
A financial contract which provides a way of investing in a particular product without having to
own it directly. For example, a stock market futures contract allows investors to make bets on the
value of a stock market index such as the FTSE 100 without having to buy or sell any shares.
The value of a derivative can depend on anything from the price of coffee to interest rates or
what the weather is like. Credit derivatives such as credit default swaps depend on the ability of a
borrower to repay its debts. Derivatives allow investors and banks to hedge their risks, or to
speculate on markets. Futures, forwards, swaps and options are all types of derivatives.
An income payment by a company to its shareholders, usually linked to its profits.
Legislation enacted by the US in 2011 to regulate the banks and other financial services. It
 restrictions on banks’ riskier activities (the Volcker rule)
 a new agency responsible for protecting consumers against predatory lending and other
unfair practices
 regulation of the enormous derivatives market
 a leading role for the central bank, the Federal Reserve, in overseeing regulation
 higher bank capital requirements
 new powers for regulators to seize and wind up large banks that get into trouble
Double-dip recession
A recession that experiences a limited recovery then dips back into recession. The exact
definition is unclear, as the definition of what counts as a recession varies between countries. A
widely-accepted definition is one where the initial recovery fails to take total economic output
back up to the peak seen before the recession began.
The European Banking Authority is a pan-European regulator responsible created in 2010 to
oversee all banks within the European Union. Its powers are limited, and it depends on national
bank regulators such as the UK’s Financial Services Authority to implement its
recommendations. It has already been active in laying down new rules on bank bonuses and
arranging the European bank stress tests.
Earnings (or profit) before interest payments, tax, depreciation and amortisation. It is a measure
of the cashflow at a company available to repay its debts, and is much more important indicator
for lenders than the borrower’s profits.
The European Bank for Reconstruction and Development is a similar institution to the World
Bank, set up by the US and European countries after the fall of the Berlin Wall to assist in
economic transition in Eastern Europe. Recently the EBRD’s remit has been extended to help the
Arab countries that emerged from dictatorship in 2011.
The European Central Bank is the central bank responsible for monetary policy in the eurozone.
It is headquartered in Frankfurt and has a mandate to ensure price stability – which is interpreted
as an inflation rate of no more than 2% per year.
The European Investment Bank is the European Union’s development bank. It is owned by the
EU’s member governments, and provides loans to support pan-European infrastructure,
economic development in the EU’s poorer regions and environmental objectives, among other
The European Stability Mechanism is a 500bn-euro rescue fund that will replace the EFSF and
the EFSM from June 2013. Unlike the EFSF, the ESM is a permanent bail-out arrangement for
the eurozone. Unlike the EFSM, the ESM will only be backed by members of the eurozone, and
not by other European Union members such as the UK.
The European Financial Stability Facility is currently a temporary fund worth up to 440bn euros
set up by the eurozone in May 2010. Following a previous bail-out of Greece, the EFSF was
originally intended to help other struggling eurozone governments, and has since provided rescue
loans to the Irish Republic and Portugal. More recently, the eurozone agreed to broaden the
EFSF’s mandate, for example by allowing it to support banks.
The European Financial Stability Mechanism is 60bn euros of money pledged by the member
governments of the European Union, including 7.5bn euros pledged by the UK. The EFSM has
been used to loan money to the Irish Republic and Portugal. It will be replaced by the ESM from
The value of a business or investment after subtracting any debts owed by it. The equity in a
company is the value of all its shares. In a house, your equity is the amount your house is worth
minus the amount of mortgage debt that is outstanding on it.
A term increasingly used for the idea of a common, jointly-guaranteed bond of the eurozone
governments. It has been mooted as a solution to the eurozone debt crisis, as it would prevent
markets from differentiating between the creditworthiness of different government borrowers.
Confusingly and quite seperately, “Eurobond” also refers to a bond issued in any currency in the
international markets.
The 17 countries that share the euro.
Federal Reserve
The US central bank.
Financial Policy Committee
A new committee at the Bank of England set up in 2010-11 in response to the financial crisis. It
has overall responsibility for ensuring major risks do not build up within the UK financial
Financial transaction tax
See Tobin tax.
Fiscal policy
The government’s borrowing, spending and taxation decisions. If a government is worried that it
is borrowing too much, it can engage in austerity; raising taxes and/or cutting spending.
Alternatively, if a government is afraid that the economy is going into recession it can engage in
fiscal stimulus, which can include cutting taxes, raising spending and/or raising borrowing.
Freddie Mac, Fannie Mae
Nicknames for the Federal Home Loans Mortgage Corporation and the Federal National
Mortgage Association respectively. They don’t lend mortgages directly to homebuyers, but they
are responsible for obtaining a large part of the money that gets lent out as mortgages in the US
from the international financial markets. Although privately-owned, the two operate as agents of
the US federal government. After almost going bust in the financial crisis, the government put
them into “conservatorship” – guaranteeing to provide them with any new capital needed to
ensure they do not go bust.
FTSE 100
An index of the 100 companies listed on the London Stock Exchange with the biggest market
value. The index is revised every three months.
Fundamentals determine a company, currency or security’s value in the long-term. A company’s
fundamentals include its assets, debt, revenue, earnings and growth.
A futures contract is an agreement to buy or sell a commodity at a predetermined date and price.
It could be used to hedge or to speculate on the price of the commodity. Futures contracts are a
type of derivative, and are traded on an exchange.
The group of seven major industrialised economies, comprising the US, UK, France, Germany,
Italy, Canada and Japan.
The G7 plus Russia.
The G8 plus developing countries that play an important role in the global economy, such as
China, India, Brazil and Saudi Arabia. It gained in significance after leaders agreed how to tackle
the 2008-09 financial crisis and recession at G20 gatherings.
Gross domestic product. A measure of economic activity in a country, namely of all the services
and goods produced in a year. There are three main ways of calculating GDP - through output,
through income and through expenditure.
A US law dating from the 1930s Great Depression that separated ordinary commercial banking
from investment banking. Like the UK’s planned ring-fence, the law was intended to protect
banks which lend to consumers and businesses – deemed vital to the US economy – from the
risky speculation of investment banks. The law was repealed in 1999, largely to enable the
creation of the banking giant Citigroup – a move that many commentators say was a contributing
factor to the 2008 financial crisis.
A reduction in the value of a troubled borrower’s debts, imposed on, or agreed with, its lenders
as part of a debt restructuring.
Hedge fund
A private investment fund which uses a range of sophisticated strategies to maximise returns
including hedging, leveraging and derivatives trading. Authorities around the world are working
on ways to regulate them.
Making an investment to reduce the risk of price fluctuations to the value of an asset. Airlines
often hedge against rising oil prices by agreeing in advance to to buy their fuel at a set price. In
this case, a rise in price would not harm them – but nor would they benefit from any falls.
The Institute of International Finance is a global trade association of the major banks.
The International Monetary Fund is an organisation set up after World War II to provide
financial assistance to governments. Since the 1980s, the IMF has been most active in providing
rescue loans to the governments of developing countries that run into debt problems. Since the
financial crisis, the IMF has also provided rescue loans, alongside the European Union
governments and the ECB, to Greece, the Irish Republic and Portugal. The IMF is traditionally –
and of late controversially – headed by a European.
Impairment charge
The amount written off by a company when it realises that it has valued an asset more highly
than it is actually worth.
Independent Commission on Banking
A commission chaired by economist Sir John Vickers set up in 2010 by the UK government in
order to make recommendations on how to reform the banking system. The commission reported
back in September 2011, and called for:
 a ring-fence, to separate and safeguard the activities of banks that were deemed essential
to the UK economy
 measures to increase the transparency of bank accounts and competition among banks,
including the creation of a new major High Street bank
 much higher capital requirements for the big banks so that they can better absorb future
The upward price movement of goods and services.
A situation in which the value of a borrower’s assets is not enough to repay all of its debts. If a
borrower can be shown to be insolvent, it normally means they can be declared bankrupt by a
Investment bank
Investment banks provide financial services for governments, companies or extremely rich
individuals. They differ from commercial banks where you have your savings or your mortgage.
Traditionally investment banks provided underwriting, and financial advice on mergers and
acquisitions, and how to raise money in the financial markets. The term is also commonly used
to describe the more risky activities typically undertaken by such firms, including trading
directly in financial markets for their own account.
Junk bond
A bondwith a credit rating of BB+ or lower. These debts are considered very risky by the ratings
agencies. Typically the bonds are traded in markets at a price that offers a very high yield(return
to investors) as compensation for the higher risk of default.
Keynesian economics
The economic theories of John Maynard Keynes. In modern political parlance, the belief that the
state can directly stimulate demand in a stagnating economy, for instance, by borrowing money
to spend on public works projects such as roads, schools and hospitals.
Lehman Brothers
A US investment bank, whose collapse in September 2008 sparked the most intense phase of the
financial crisis.
Leverage, or gearing, means using debt to supplement investment. The more you borrow on top
of the funds (or equity) you already have, the more highly leveraged you are. Leverage can
increase both gains and losses. Deleveraging means reducing the amount you are borrowing.
A debt or other form of payment obligation, listed in a company’s accounts.
London Inter Bank Offered Rate. The rate at which banks in London lend money to each other
for the short-term in a particular currency. A new Libor rate is calculated every morning by
financial data firm Thomson Reuters based on interest rates provided by members of the British
Bankers Association.
Limited liability
Confines an investor’s loss in a business to the amount of capital they invested. If a person
invests £100,000 in a company and it goes under, they will lose only their investment and not
A process in which assets are sold off for cash. Liquidation is often the outcome for a company
deemed irretrievably loss-making. In that case, its assets are sold off individually, and the cash
proceeds are used to repay its lenders. In liquidation, a company’s lenders and other claimants
are given an order of priority. Usually the tax authorities are the first to be paid, while the
company’s shareholders are the last, typically receiving nothing.
How easy something is to convert into cash. Your current account, for example, is more liquid
than your house. If you needed to sell your house quickly to pay bills you would have to drop the
price substantially to get a sale.
Liquidity crisis
A situation in which it suddenly becomes much more difficult for banks to obtain cash due to a
general loss of confidence in the financial system. Investors (and, in the case of a bank run, even
ordinary depositors) may withdraw their cash from banks, while banks may stop lending to each
other, if they fear that some banks could go bust. Because most of a bank’s money is tied up in
loans, even a healthy bank can run out of cash and collapse in a liquidity crisis. Central banks
usually respond to a liquidity crisis by acting as “lender of last resort” and providing emergency
cash loans to the banks.
Liquidity trap
A situation described by economist John Maynard Keynesin which nervousness about the
economy leads everybody to cut back on their spending and to hold cash, even if the cash earns
no interest. The widespread fall in spending undermines the economy, which in turn makes
households, banks and companies even more nervous about spending and investing their money.
The problem becomes particularly intractable when – as in Japan over the last 20 years – the
weak spending leads to falling prices, which creates a stronger incentive for people to hold onto
their cash, and also makes debts more difficult to repay. In a liquidity trap, monetary policy can
become useless, and Keynes said that the onus is on governments to increase their spending.
Loans-to-deposit ratio
For financial institutions, the sum of their loans divided by the sum of their deposits. It is used as
a way of measuring a bank’s vulnerability to the loss of confidence in a liquidity crisis. Deposits
are typically guaranteed by the bank’s government and are therefore considered a safer source of
funding for the bank. Before the 2008 financial crisis, many banks became reliant on other
sources of funding – meaning they had very high loan-to-deposit ratios. When these other
sources of funding suddenly evaporated, the banks were left critically short of cash.
Mark-to-market (MTM)
Recording the value of an asseton a daily basis according to current market prices. So for a
Greek governmentbond, the MTM is how much it could be sold for today. Banks are not
required to mark to market investments that they intend to hold indefinitely (in what is called the
“banking book” in accounting jargon). Instead, these investments are valued at the price at which
they were originally purchased, minus any impairment charges – which might arise following a
defaultby the borrower.
Monetary policy
The policies of the central bank. A central bank has an unlimited ability to create new money.
This allows it to control the short-term interest rate, as well as to engage in unorthodox policies
such as quantitative easing – printing money to buy up government debts and other assets.
Monetary policy can be used to control inflation and to support economic growth.
Money markets
Global markets dealing in borrowing and lending on a short-term basis.
Monoline insurance
Monolines were set up in the 1970s to insure against the risk that a bondwill default. Companies
and public institutions issue bonds to raise money. If they pay a fee to a monoline to insure their
debt, the guarantee helps to raise the credit rating of the bond, which in turn means the borrower
can raise the money more cheaply.
Mortgage-backed securities (MBS)
Banks repackage debts from a number of mortgages into MBS, which can be bought and traded
by investors. By selling off their mortgages in the form of MBS, it frees the banks up to lend to
more homeowners.
The Monetary Policy Committee of the Bank of England is responsible for setting short-term
interest rates and other monetary policy in the UK, such as quantitative easing.
Naked short selling
A version of short selling, illegal or restricted in some jurisdictions, where the trader does not
first establish that he is able to borrow the relevant asset before selling it on. The aim with short
selling is to buy back the asset at a lower price than you sold it for, pocketing the difference.
The act of bringing an industry or assetssuch as land and property under state control.
Negative equity
Refers to a situation in which the value of your house is less than the amount of the mortgage
that still has to be paid off.
The Organisation for Economic Co-operation and Development is an association of
industrialised economies, originally set up to administer the Marshall Plan after World War II.
The OECD provides economic research and statistics, as well as policy recommendations, for its
A type of derivativethat gives an investor the right to buy (or to sell) something – anything from
a share to a barrel of oil – at an agreed price and at an agreed time in the future. Options become
much more valuable when markets are volatile, as they can be an insurance against price swings.
Ponzi scheme
Similar to a pyramid scheme, an enterprise where funds from new investors – instead of genuine
profits – are used to pay high returns to current investors. Named after the Italian fraudster
Charles Ponzi, such schemes are destined to collapse as soon as new investment tails off or
significant numbers of investors simultaneously wish to withdraw funds.
Preference shares
A class of shares that usually do not offer voting rights, but do offer a superior type of dividend,
paid ahead of dividends to ordinary shareholders. Preference shareholders often also have
somewhat better protection when a company is liquidated.
Prime rate
A term used primarily in North America to describe the standard lending rate of banks to most
customers. The prime rate is usually the same across all banks, and higher rates are often
described as “x percentage points above prime”.
Private equity fund
An investment fund that specialises in buying up troubled or undervalued companies,
reorganising them, and then selling them off at a profit.
The Producer Prices Index, a measure of the wholesale prices at which factories and other
producers are able to sell goods in an economy.
Profit warning
When a company issues a statement indicating that its profits will not be as high as it had
expected. Also profits warning.
Quantitative easing
Central banks increase the supply of money by “printing” more. In practice, this may mean
purchasing government bonds or other categories of assets, using the new money. Rather than
physically printing more notes, the new money is typically issued in the form of a deposit at the
central bank. The idea is to add more money into the system, which depresses the value of the
currency, and to push up the value of the assets being bought and to lower longer-term interest
rates, which encourages more borrowing and investment. Some economists fear that quantitative
easing can lead to very high inflation in the long term.
The assessment given to debts and borrowers by a ratings agency according to their safety from
an investment standpoint – based on their creditworthiness, or the ability of the company or
government that is borrowing to repay. Ratings range from AAA, the safest, down to D, a
company that has already defaulted. Ratings of BBB- or higher are considered “investment
grade”. Below that level, they are considered “speculative grade” or more colloquially as junk.
Rating agency
A company responsible for issuing credit ratings. The major three rating agencies are Moody’s,
Standard & Poor’s and Fitch.
To inject fresh equityinto a firm or a bank, which can be used to absorb future losses and reduce
the risk of insolvency. Typically this will happen via the firm issuing new shares. The cash raised
can also be used to repay debts. In the case of a government recapitalising a bank, it results in the
government owning a stake in the bank. In an extreme case, such as Royal Bank of Scotland, it
can lead to nationalisation, where the government owns a majority of the bank.
A period of negative economic growth. In most parts of the world a recession is technically
defined as two consecutive quarters of negative growth – when economic output falls. In the
United States, a larger number of factors are taken into account, such as job creation and
manufacturing activity. However, this means that a US recession can usually only be defined
when it is already over.
A repurchase agreement – a financial transaction in which someone sells something (for example
a bond or a share) and at the same time agrees to buy it back again at an agreed price at a later
day. The seller is in effect receiving a loan. Repos were heavily used by investment banks such
as Lehman Brothers to borrow money prior to the financial crisis.
Repos are also used by speculators for short selling. The speculator can buy a share through a
repo and then immediately sell it again. At a later date the speculator hopes to buy the share back
from the market at a cheaper price, before selling it back again at the pre-agreed price via the
Reserve currency
A currency that is widely held by foreign central banks around the world in their reserves. The
US dollar is the pre-eminent reserve currency, but the euro, pound, yen and Swiss franc are also
Assets accumulated by a central bank, which typically comprise gold and foreign currency.
Reserves are usually accumulated in order to help the central bank defend the value of the
currency, particularly when its value is pegged to another foreign currency or to gold.
Retained earnings
Profits not paid out by a company as dividends and held back to be reinvested.
Rights issue
When a public company issues new shares to raise cash. The company might do this for a
number or reasons – because it is running short of cash, because it wants to make an expensive
investment or because it needs to be recapitalised. By putting more shares on the market, a
company dilutes the value of its existing shares. It is called a “rights” issue, because existing
shareholders have the first right to buy the new shares, thereby avoiding dilution of their existing
A recommendation of the UK’s Independent Commission on Banking. Services provided by the
banks that are deemed essential to the UK economy – such as customer accounts, payment
transfers, lending to small and medium businesses – should be separated out from the banks
other, riskier activities. They would be placed in a separate subsidiary company in the bank, and
provided with its own separate capital to absorb any losses. The ring-fenced business would also
be banned from lending to or in other ways exposing itself to the risks of the rest of the bank – in
particular its investment banking activities.
Securities lending
When one broker or dealer lends a security (such as a bond or a share) to another for a fee. This
is the process that allows short selling.
Turning something into a security. For example, taking the debt from a number of mortgages and
combining them to make a financial product, which can then be traded (see mortgage backed
securities). Investors who buy these securities receive income when the original home-buyers
make their mortgage payments.
A contract that can be assigned a value and traded. It could be a share, a bond or a mortgage-
backed security.
Separately, the term “security” is also used to mean something that is pledged by a borrower
when taking out a loan. For example, mortgages in the UK are usually secured on the borrower’s
home. This means that if the borrower cannot repay, the lender can seize the security – the home
– and sell it in order to help repay the outstanding debt.
Shadow banking
A global financial system – including investment banks, securitisation, SPVs, CDOs and
monoline insurers – that provides a similar borrowing-and-lending function to banks, but is not
regulated like banks. Prior to the financial crisis, the shadow banking system had grown to play
as big a role as the banks in providing loans. However, much of shadow banking system
collapsed during the credit crunch that began in 2007, and in the 2008 financial crisis.
Short selling
A technique used by investors who think the price of an asset, such as shares or oil contracts, will
fall. They borrow the asset from another investor and then sell it in the relevant market. The aim
is to buy back the asset at a lower price and return it to its owner, pocketing the difference. Also
known as shorting.
Spread (yield)
The difference in the yield of two different bondsof approximately the same maturity, usually in
the same currency. The spread is used as a measure of the market’s perception of the difference
in creditworthiness of two borrowers.
A Special Purpose Vehicle (also Special Purpose Entity or Company) is a company created by a
bank or investment bank solely for the purpose of owning a particular set of loans or other
investments, and distributing the risk to investors. Before the financial crisis, SPVs were
regularly used by banks to offload loans that they owned, freeing the banks up to lend more.
SPVs were a major part of the shadow banking system, and were used in securitisation and
Stability pact
A set of rules demanded by Germany at the creation of the euro in the 1990s that were intended
among other things to limit the borrowing of governments inside the euro to 3% of their GDP,
with fines to be imposed on miscreants. The original stability pact was abandoned after Germany
itself broke the rules with impunity in 2002-05. More recently, the German government has
called for an even stricter system of rules and fines to be introduced in response to the eurozone
debt crisis.
The dreaded combination of inflation and stagnation – an economy that is not growing while
prices continue to rise. Most major western economies experienced stagflation during the 1970s.
Sticky prices
A phenomenon observed by Depression-era economist John Maynard Keynes. Workers typically
strongly resist falling wages, even if other prices – and therefore the cost of living – is falling.
This can mean that, particularly during deflation, wages can become uncompetitive, leading to
higher unemployment. The implication is that periods of deflation usually go hand-in-hand with
very high unemployment. Many economists warn that this may be the fate of Greece and other
struggling economies within the eurozone.
Monetary policy or fiscal policy aimed at encouraging higher growth and/or inflation. This can
include interest rate cuts, quantitative easing, tax cuts and spending increases.
Sub-prime mortgages
These carry a higher risk to the lender (and therefore tend to be at higher interest rates) because
they are offered to people who have had financial problems or who have low or unpredictable
A derivativethat involves an exchange of cashflows between two parties. For example, a bank
may swap out of a fixed long-term interest rate into a variable short-term interest rate, or a
company may swap a flow of income out of a foreign currency into their own currency.
The Troubled Asset Relief Program – a $700bn rescue fund set up by the US government in
response to the 2008 financial crisis. Originally the TARP was intended to buy up or guarantee
toxic debts owned by the US banks – hence its name. But shortly after its creation, the US
Treasury took advantage of a loophole in the law to use it instead for a recapitalisation of the
entire US banking system. Most of the TARP money has now been repaid by the banks that
received it.
Tier 1 capital
A calculation of the strength of a bank in terms of its capital, defined by the Basel Accords,
typically comprising ordinary shares, disclosed reserves, retained earnings and some preference
Tobin tax
A tax on financial transactions, originally proposed by economist James Tobin as a levy on
currency conversions. The tax is intended to discourage market speculators by making their
activities uneconomic, and in this way, to increase stability in financial markets. The idea was
originally pushed by former UK Prime Minister Gordon Brown in response to the financial
crisis. More recently it has been formally proposed by the European Commission, with some
suggesting the revenue could be used to tackle the financial crissi. It is now opposed by the
current UK government, which argues that to be effective, the tax would need to be applied
globally – not just in the EU – as most financial activities could quite easily be relocated to
another country in order to avoid the tax.

Toxic debts
Debts that are very unlikely to be recovered from borrowers. Most lenders expect that some
customers cannot repay; toxic debt describes a whole package of loans that are unlikely to be
repaid. During the financial crisis, toxic debts were very hard to value or to sell, as the markets
for them ceased to function. This greatly increased uncertainty about the financial health of the
banks that owned much of these debts.
The term used to refer to the European Union, the European Central Bank and the International
Monetary Fund – the three organisations charged with monitoring Greece’s progress in carrying
out austerity measures as a condition of bailout loans provided to it by the IMF and by other
European governments. The bailout loans are being released in a number of tranches of cash,
each of which must be approved by the troika’s inspectors.
The financial institution pledging to purchase a certain number of newly-issued securitiesif they
are not all bought by investors. The underwriter is typically aninvestment bank who arranges the
new issue. The need for an underwriter can arise when a company makes a rights issue or a
To unwind a deal is to reverse it – to sell something that you have previously bought, or vice
versa, or to cancel a derivative contract for an agreed payment. When administratorsare called in
to a bank, they must do the unwinding before creditors can get any money back.
Vickers Report
See Independent Commission on Banking
Volcker Rule
A proposal by former US Federal Reserve chairman Paul Volcker that US commercial banks be
banned or severely limited from engaging in risky activities, such as proprietary trading (taking
speculative risks on the markets with their own, rather than clients’ money) or investing in hedge
funds. The Volcker Rule follows similar logic to the Glass-Steagall Act and the UK ring-
fenceproposal, and a modified version of the rule was included in the Dodd-Frankfinancial
regulation law passed in the wake of the financial crisis.
A document entitling the bearer to receive shares, usually at a stated price.
Working capital
A measure of a company’s ability to make payments falling due in the next 12 months. It is
calculated as the difference between the company’s current assets (unsold inventories plus any
cash expected to be received over the coming year) minus its current liabilities (what the
company owes over the same period). A healthy company should have a positive working
capital. A company with negative working capital can experience cashflow problems.
World Bank
Set up after World War II along with the IMF, the World Bank is mainly involved in financing
development projects aimed at reducing world poverty. The World Bank is traditionally headed
by an American, while the IMF is headed by a European. Like the IMF and OECD, the World
Bank produces economic data and research, and comments on global economic policy.
Reducing the book value of an asset, either to reflect a fall in its market value (see mark-to-
market) or due to an impairment charge.
The return to an investor from buying a bond implied by the bond’s current market price. It also
indicates the current cost of borrowing in the market for the bond issuer. As a bond’s market
price falls, its yield goes up, and vice versa. Yields can increase for a number of reasons. Yields
for all bonds in a particular currency will rise if markets think that the central bank in that
currency will raise short-term interest rates due to stronger growth or higher inflation. Yields for
a particular borrower’s bonds will rise if markets think there is a greater risk that the borrower
will default.
Current affairs: E-filling income tax return +
Yogendra Garg Committee
Compulsory E-Filling if income more than 10
 Central Board of Direct Taxes (CBDT) has notified that all individuals and Hindu
undivided family will have to file income tax returns electronically for assessment year
2012-13 if their income exceeds Rs 10 lakh.
 Currently, business houses with receipts of Rs 60 lakh and professionals with income of
Rs 15 lakh are mandatorily required to e-file their return with digital signature.
 electronically filed returns are processed at Centralised Processing Centre (CPC),
Bangalore, and two new CPCs are coming up in Manesar and Pune.
 The department also provides some value-added services like tracking of refunds,
viewing tax credit status, e-mail and SMS alerts regarding status of processing and
refunds to taxpayers who e-file their returns.
Yogendra Garg Committee
 It’ll draft the model GST legislation.
 the Committee will be monitered by Central board of Excise and Customs.
Mock Questions for CSAT / IBPS GK
which of the following statements are correct?
1. Central Board of Excise and Customs moniters the e-filling of income tax returns.
2. Manesar is a city in Punjab
3. Yogendar Garg Committee is formed to look in the royality issue of coal mining.
4. From 2012-13, only corporates houses will have to e-file their income tax return.
5. GST is an indirect tax, that will replace the service tax and excise duty.

Mutual Funds and Entry Load
1. What is Mutual fund?
2. What the Entry Load?
3. Sidenote: RGESS
Not really an ‘article’ but a quick response to some readers’ questions
What is Mutual fund?
 They accept money from common people and invest it in shares and bond marks.
 And whatever profit / interest they make, they give back to the customer after cutting
their profit Margin.
 A mutual fund is a type of professionally-managed collective investment scheme that
pools money from many investors to purchase securities (Wikipedia)
 A mutual fund is nothing more than a collection of stocks and/or bonds. You can think of
a mutual fund as a company that brings together a group of people and invests their
money in stocks, bonds, and other securities. (investopedia)
What the Entry Load?
 Mutual fund company pays Commission to the distributors (those agents / brokers etc),
to market and sell their schemes.
 Earlier Mutual funds used to charge 2.25% entry load from customers.
 Meaning, if you give Rs.100 to the agent, the mutual fund company will only invest
Rs.97.75 in various shares, bonds etc. while the Rs.2.25 was paid to the agent who
introduced you to the scheme and filled up your paperwork etc.
 SEBI chairman believed that it is not good, these middlemen are not adding any value to
the investment. hence he banned Entry load thing from Aug’09
 Result: the agents started selling other products where Commissions are higher. Mutual
funds started losing clients. After all this mutual fund/ pension /insurance / childplans/
ULIP etc is a game of marketing (and fooling) people.
 So in June 2012, the mutual fund-walla went to Finance minister and asked him to
resume the Entry load mechanism.
 FM has asked SEBI to look into the matter. So the matter is still being looked into.
 SEBI chairman still says that entry loads are not good. At most we can allow MF to
invest in Rajiv Gandhi equity saving scheme (RGESS).
Sidenote: RGESS
 recall that RGESS was launched to cut the middle men and lure middle-class investors
into the capital market, otherwise they only invest money in gold, real estate = problem
of inflation, black money and current account deficit.
 But after launching the RGESS, Pranab realized the mistake that most of his target
audience (middle class junta) doesn’t have PAN cards and DEMAT account, which are
prerequisite to play in shares and bonds investment. Then Government started talking
about “no frills DEMAT” Account.
Shilabhadra Committee on Fake Currency :
Recommendations for GS Mains
What is Shilabhadra Banerjee Committee?
This Committee was formed to suggest the measures
 To Increase the security features for currency notes (i.e. make it harder for Pakistanis to
print fake Indian Currency)
 To Prepare a roadmap for progressive indigenization of various inputs. (i.e. start printing
currency using “desi” equipment and technology instead of relying on foreign countries
such as Switzerland etc. for the printing press, paper and ink).
What are the recommendation of
Shilabhardra Committee?
1. Create a “Directorate of Currency” under Finance Ministry to coordinate & oversee
acquisition and R&D efforts of security features for currency notes and other security
2. Under this Directorate of Currency, set up a National level research and Development
unit for raw material, security features and currency printing machinery.
3. Government should try indigenisation of manufacture of bank note paper, security inks,
security features, related equipments and coin plating.
4. Set up a Single national level coordinating agency for intelligence, law enforcement and
investigation to tackle the menace of Fake Indian Currency Notes (FICN).
5. RBI should launch a big multimedia campaign for educating the public to distinguish
genuine bank note from the fake notes.
Background : Fake Indian Currency Notes
 National Investigation Agency / NIA estimates that over Rs.16,000 crore worth Fake
Indian Currency is in circulation.
 Such notes, believed to have been routed from Pakistan, have been seized not only from
India but also from Nepal, Bangladesh, Afghanistan and Holland
 Central Economic Intelligence Bureau (CEIB) says that The NIA, the CBI, the DRI and
police have detected only 28 to 30 per cent of fake currency actually circulating in the
 The quantum of fake currency floating around in the country is enough to keep the
terrorist machinery well-oiled and running.
 Price of a fake Rs 100 Indian note in Pakistan varies between Rs 26 and 30 .
 During the probe into the 26/11 attacks, the NIA found David Headley too had been
provided with FICN by the ISI for his recce.
 government has decided to classify offences involving high-value FICN as terror acts
with an amendment to the Unlawful Activities Prevention Act.
 It can be concluded that the notes have been printed on highly sophisticated machines
which a common man cannot acquire, since such machines involve huge capital
 There were other similarities between the FICN and Pakistan’s currency — the same pH
value for chemical nature, the same paper density in g/sq m, and clear signs of having
been printed on the same Simultan dry offset press. It proves that ISI and Pakistani “state
players” are involved in the fake currency game. (besides, Pakistan itself lives on the
charity of USA, how can it finance its war against India, except by printing fake Indian
Social Security: Meaning and Laws in India
for APFC exam
Important topic particularity for Asst.Provident Fund Commissioner (APFC) Exam
What is Social Security?
 any of the measures established by legislation to maintain individual or family income or
to provide income when some or all sources of income are disrupted or terminated or
when exceptionally heavy expenditures have to be incurred (e.g., in bringing up children
or paying for health care)
 social security may provide cash benefits to persons faced with sickness and disability,
unemployment, crop failure, loss of the marital partner, maternity, responsibility for the
care of young children, or retirement from work
 Social security benefits may be provided in cash or kind for medical need, rehabilitation,
domestic help during illness at home, legal aid, or funeral expenses
 It acts as a facilitator – it helps people to plan their own future through insurance and
History of Social security
 Social security scheme was first introduced in Germany in 1883. Under the scheme, each
member of a particular trade (blacksmiths, painters, weavers etc) was required to
contribute at regular intervals; such funds were originally used for hospital and funeral
expenses and for food and lodging for aged and disabled members.
 In USA, Social Security Act came into existence in 1935. (years not important, this is
only fodder material for Essay.)
Social Security in India
 India has always had a Joint Family system that took care of the social security needs of
all the members provided it had access/ownership of material assets like land and gold.
 However with increasing migration, urbanization and demographic changes there has
been a decrease in large family units.
 This is where the formal system of social security gains importance.
Social Security: Constitutional Provisions

Concurrent List
Social Security and labour welfare falls under Concurrent list, it means both union and state
Government can make laws regarding these topics.
 (List III in the Seventh Schedule of the Constitution of India)
 Item No. 23
o Social Security and insurance,
o employment and unemployment.
 Item No. 24
 Welfare of Labour including conditions of work,
 provident funds,
 employers’ liability,
 workmen’s compensation,
 invalidity and old age pension and maternity benefits.
Part IV Directive Principles of State Policy
Article 41
 Right to work, to education and to public assistance in certain cases
 State shall, within the limits of its economic capacity and development, make effective
provision for securing the right to work, to education and to public assistance in cases of
unemployment, old age, sickness and disablement, and in other cases of undeserved want.
Article 42
 Provision for just and humane conditions of work and maternity relief
 State shall make provision for securing just and humane conditions of work and for
maternity relief.
Difference between Organized and
Unorganized Sectors
Organized sector
 includes primarily those establishments which are covered by the Factories Act, 1948, the
Shops and Commercial Establishments Acts of State Governments, the Industrial
Employment Standing Orders Act, 1946 etc.
 This sector already has a structure through which social security benefits are extended to
workers covered under these legislations.
 Examples: employees of union and state Government, army, navy, airforce, Multinational
companies, Infosys, TCS and so on.

Unorganized sector
 Examples
Rural Areas Urban Areas
1. landless agricultural labourers
2. small and marginal farmers
3. share croppers
4. persons engaged in
a. animal husbandry
b. fishing
c. horticulture
d. bee-keeping
e. toddy tapping
5. forest workers
1. street vendors
2. hawkers
3. head load workers
4. cobblers
5. tin smiths
6. garment makers
7. Construction workers
6. rural artisans
 Unorganized sector is characterized by the lack of labour law coverage, seasonal and
temporary nature of occupations, high labour mobility, dispersed functioning of
operations, casualization of labour, lack of organizational support, low bargaining power,

Employees’ State Insurance Act, 1948 (ESI
 covers factories and establishments with 10 or more employees and provides for
comprehensive medical care to the employees and their families as well as cash benefits
during sickness and maternity, and monthly payments in case of death or disablement
Employees’ Provident Funds Act, 1952
 applies to specific scheduled factories and establishments employing 20 or more
employees and ensures terminal benefits to provident fund, superannuation pension, and
family pension in case of death during service.
Workmen’s Compensation Act, 1923 (WC
 Requires payment of compensation to the workman or his family in cases of employment
related injuries resulting in death or disability.
Maternity Benefit Act, 1961 (M.B. Act)
 provides for 12 weeks wages during maternity as well as paid leave in certain other
related contingencies.
Payment of Gratuity Act, 1972 (P.G. Act)
 provides 15 days wages for each year of service to employees who have worked for five
years or more in establishments having a minimum of 10 workers.
Social Security In India : Different From
Developed Nations
 We do not have an existing universal social security system
 92% of the workforce is in the informal sector which is largely unrecorded
 today 1/8th of the world’s older people live in India. The overwhelming majority of these
depend on transfers from their children.
 Addressing social security concerns with particular reference to retirement income for
 In India the coverage gap i.e. workers who do not have access to any formal scheme for
old-age income provisioning constitute about 92% of the estimated workforce of 400
million people.

Provident Fund
 Here the employers to contribute to a provident scheme providing a lump-sum payment
in the event of death or disability or on retirement.
Three disadvantages of Provident Fund
1. Money is inadequate for risks occurring early in working life.
2. Provident funds are generally invested in government stock with a rate of interest fixed in
money terms that may be below market rates.
3. Real value of the accumulated savings may thus be substantially eroded by inflation by
the time of retirement.
But From the point of view of government, Provident Fund is attractive because it generates
forced savings that can be used to finance national development plans.
Mock Questions for APFC 2012 Exam
Q1 Which of the following statements are correct?

1. Social security falls under the purview of Union Government only.
2. Social security is a fundamental right enshrined in the Constitution of India.
3. Employees State insurance Act applies to any establishment with 5 or more workers.
4. →orkman’s Compensation Act requires payment of compensation to the worker or his
family in cases of employment related death only.
Q2 Match the following
Name of Act Year
Payment of Gratuity 1961
Maternity Benefit 1972
→orkmen’s compensation 1952
Employee’s Provident Fund 1923
Inflation, Policy Paralysis some more fodder
1. Just some more fodder for Essay and Group Discussion (GD) taken from IE (Indian
Express). Many ideas repeated
What is the problem?
 Among the major developing nations, Only Russia has higher inflation than us.
 India has the second highest inflation with an average inflation of close to 7 per cent
estimated during the seven years from 2005-12.
What is inflation?
 Inflation rate refers to a general rise in prices measured against a standard level of
purchasing power.
Why do we have inflation?
 High inflation generally signifies that too much money is chasing too few goods,
essentially implying that the demand for goods and services is much higher than the
supply, resulting in an increase in the prices of goods and services. (More on supply-side
inflation, explained in older articles. See the archive on
What is the solution?
 massive investments to ease the supply side problem [such as lack of 24/7 electricity and
water supply to factories, cold storage for agro-products, smooth road-connectivity
between villages and cities and so on]
 Government should cut down the subsidies (because they’re mostly misused for example
cheap diesel for running generators that power unnecessary Airconditioners in shopping
 Government should try to divert the public savings into infrastructure, agriculture,
human resource development and so on. [at present public savings go mostly in gold, real
estate, share market speculation]
 Private investments from India and abroad will have to be poured in large amounts.
What are the problems faced by Indian
1. High inflation = raw material is expensive : steel, cement, petrol everything.
2. Sluggish policy making environment,
3. High interest rates and
4. Uncertainty in global economy, particularly Europe.
Chief Economic Adviser Kaushik Basu gives
some wisdom
1. Common man will have to live with high prices for another two-three months as inflation
is expected to come down only by September.
2. Rupee is weakning against Dollar because when there is uncertainty in global market,
investors look for safe havens (to invest) like the US treasury bonds, German bonds and
Gold. You find the entire world’s money is going to all three of these.
3. Indian industrialists should make use of the opportunity because
a. In china, labour wages are on rise, so their manufacturing cost will increase.
b. When rupee is weak (+ our labourers are cheaper than Chinese) then our exports
can become cheaper and attractive in international market.
4. Foreign direct investments must be allowed in retail sector for it would be "highly
beneficiary" for the farmers and be a major thrust to Indian exports.
5. And most importantly India needs governance reforms and corruption control.
China’s official news agency Xinhua gives
even more profound wisdom
From a Column “Indian Economy: The myth is shattered”
1. weakness of the Indian government cannot be changed for a long time…This means that
after the 2014 elections, India could still have a weak coalition government, which is
definitely bad news for reform…Indian political weakness will lead to a weak economy
for many years.
2. In these two years, most politicians have to fight for votes and therefore, reforms will be
set aside”.
3. Rahul still “does not have a dazzling performance”
4. Sonia has been “sick recently”
5. Mohan has become “conservative” and is facing criticism for his “complacency”.
6. opposition BJP too has its own “internal contradictions”.
7. It has used phrases like
a. “farewell to incredible India”,
b. “miracle has become a mirage”,
c. “from bullet train, the economic growth has become express train”
d. “reforms: an empty slogan”
8. once illustrious Indian economy is suddenly faced with numerous questions and has
become a loose brick among BRICS countries
9. Incidentally, India played host to the BRICS summit in Delhi in March, which was
attended by Chinese President Hu Jintao.
10. Giving the example of the stalled reform over allowing FDI in the retail sector, Xinhua
says that India’s economy has not only lost direction but even its growth has lost impetus.
And finally, the most profound wisdom on Indian Education and Career system
I would like to coach the Indian Cricket team but I don’t have the level 1, 2, 3 certificates that
people want sometimes.
-Rahul Dravid
Land Acquisition bill 2011 : Salient Features,
Pro Con analysis
Land acquisition topic is very important for almost all competitive exams of India starting from
UPSC, State PSC, CPF, APFC, Bank and MBA Group Discussion / Interviews.
What is Land Acquisition?
 Land acquisition is the process by which the government forcibly acquires private
property for public purpose without the consent of the land-owner.
 It is thus different from a land purchase, in which the sale is made by a willing seller.
How is this process governed?
 Land Acquisition is governed by the Land Acquisition Act, 1894. The government has to
follow a process of declaring the land to be acquired, notify the interested persons, and
acquire the land after paying due compensation.
 Various state legislatures have also passed Acts that detail various aspects of the
acquisition process.
Land is a state subject then how can the
parliament pass a law?
Though land is a state subject, “acquisition and requisitioning of property” is in the concurrent
list. Both Parliament and state legislatures can make laws on this subject.
What is the problem with land acquisition act
of 1894?
 very old, ineffective, weak
 draconian
 delayed and no compensation
 no livelihood provisions afterwards
Why was new law required?
 Heightened public concern: Singur, Yamuna Express etc.
 absence of proper rehabilitation law
 anticorruption movement
 public unrest at many places
 Law and order problems: police and farmer clashes in UP
The government had introduced a Bill to amend this Act in 2007. That Bill lapsed in 2009 at the
time of the general elections. The government enacted a new bill in 2011.
What are the major changes being proposed?
In 2011, the (bogus UPA) Government made changes in 2007 Bill with regard to
 the purpose for which land may be acquired;
 the amount of compensation to be paid;
 the process of acquisition;
 use of the land acquired; and
 dispute settlement mechanisms.

Land acquisition Bill, 2011
 Land Acquisition, Rehabilitation and Resettlement Bill, 2011 was introduced by the
Minister of Rural Development.
 The Bill proposes a unified legislation for acquisition of land and adequate rehabilitation
mechanisms for all affected persons
 replaces the Land Acquisition Act, 1894
 provisions of this Bill shall not apply to 16 existing legislations that provide for land
acquisition. These include
1. The Atomic Energy Act, 1962,
2. The National Highways Act, 1956,
3. SEZ Act, 2005,
4. Land Acquisition (Mines) Act, 1885,
5. The Railways Act, 1989.
Then where is it applicable?
 provisions of the Bill shall be applicable in cases when the appropriate government
acquires land,
a. for its own use and control,
b. to transfer it for the use of private companies for public purpose, and
c. on the request of private companies for immediate use for public purpose
Applicable even to private companies
 private companies shall provide for rehabilitation and resettlement if they purchase or
acquire land, through private negotiations, equal to or more than 100 acres in rural areas
and 50 acres in urban areas.
 It is not clear whether Parliament has jurisdiction to impose rehabilitation and
resettlement requirements on private purchase of agricultural land.
 While private companies are included, but PSUs are excluded from the responsibility of
Government can acquire land for these
Public Purposes

1. strategic defense purposes and national security,
2. roads, railways, highways, and ports, built by government and public sector enterprises
3. project affected people,
4. planned development or improvement of villages.
5. residential purposes for the poor and landless.
Public purpose includes other government projects which benefit the public as well as provision
of public goods and services by private companies or public-private partnerships.
 Land acquisition will require the consent of 80 per cent of project affected people
 Affected families include those whose livelihood may be affected due to the acquisition,
and includes landless labourers and artisans.
 Projects involving land acquisition and undertaken by private companies or public private
partnerships require the consent of 80 per cent of the people affected. However, no such
consent is required in case of PSUs.
Limits on land acquisition
 maximum of five per cent of irrigated multi-cropped land may be acquired in a district,
with certain conditions.
 Every acquisition requires a Social Impact Assessment (SIA) by an independent body
followed by a preliminary notification and a final award by the District Collector.
 In the case of urgency, the Bill proposes that the appropriate government shall acquire the
land after 30 days from the date of the issue of the notification (without SIA).
 This clause may be used only for defence, national security, and conditions arising out of
a national calamity.
 The value of the assets (trees, plants, buildings etc) attached to the land being acquired
will be added to this amount.
 mandated the job for one person in each affected family or Rs. Two lakhs
 separate allowance for SC,ST
 provision for housing, if the land is acquired for housing projects
1. The market value is based on recent reported transactions. This value is doubled in rural
areas to arrive at the compensation amount. This method may not lead to an accurate
adjustment because people sell land to each other at underreported price to save stamp
2. The government can temporarily acquire land for a maximum period of three years.
There is no provision for rehabilitation and resettlement in such cases.
Dispute resolution
 Bill proposes the following authorities;
1. Administrator;
2. Commissioner for Rehabilitation and Resettlement;
3. Rehabilitation and Resettlement Committee (for acquisition of 100 acres or more of
4. National Monitoring Committee for Rehabilitation and Resettlement; and Land
Acquisition, Rehabilitation and Resettlement Authority (which shall adjudicate all
disputes, with appeal to the High Court).
What if the acquired land is not used?
 If an acquired land which is transferred to a person for a consideration, is left unutilised
for a period of 10 years from the date it was acquired, it shall be returned to the Land
Bank or the appropriate government.
 in cases where the ownership of an acquired land is sold to any person, without any
development made, 20 per cent of the profit made shall be shared among all the persons
from whom the land was acquired.
Why would Mohan want Indian juntaa to be
financially educated?
What is Capital market, Primary market and
Secondary market?

Primary when you buy fresh car (Bonds,IPO), secondary when you sell it to third party.
1. Every businessman requires money to start or expand his business. There are only two
legit ways to arrange money: Debt and Equity (already saw in older articles). The place
where (big) businessmen arrange money for long term investment, via Debt (Bonds) or
Equity (IPOs) is called “Capital Market”. Government also arranges for money by
selling bonds here.
2. It has two subparts: Primary and secondary market.
3. The first time (fresh) sale of Bonds or IPOs are done in a place called “Primary market”
4. Suppose I buy that bond / IPO and then sell it to you, it’s called “Secondary market”.
(used car sales). Anyways, These are only theoretical classifications so the experts can
evaluate how market or economy is performing. Otherwise all the buy and sell is done via
What’s the problem with Capital market?
1. More than 50% of the money invested in Capital Market belongs to FIIs. They tend to
take away their money as and when they find better investment opportunity in other
countries. This makes the market quite volatile AND, weakens the rupee. The
businessmen find it very hard to arrange for the money.
2. Most of the Indians donot invest in Capital market. They just put their money in gold,
real estate pension plans, post office savings or Fixed Deposit.
3. The money is good for economy ONLY if it keeps circulating. For example, you buy
gold and just store it in your locker- it is of no use to economy. But if instead of buying
gold, if you give the same amount of money as loan to xyz businessman (or start your
own business), that helps the economy- creates employment and gets you extra income.
4. Besides, Gold purchase increases current account deficit. (we already saw this multiple
times hence not elaborating again.)
Why do Indians not invest in sharemarket?
1. Because most of them do not have “Financial Education” (or enough money).
What is financial Education?
It is the knowledge and understanding of key financial products you need throughout your adult

1. bank accounts,
2. insurance,
3. retirement savings plans
4. stocks, bonds and mutual funds.
5. understanding basic financial concepts like compounded interest,
6. present and future value of money,
7. Investment return, risk, protection and diversification.
National Strategy for Financial Education
Because Government is contemplating about a “National Strategy for Financial Education”
The aim Is to educate the people about these things, so they start investing in capital market.
Hitting two birds with one stone
1. People gets more return on investment
2. Businessman can arrange money easily.
$1 trillion investment in Infrastructure
Mohan and Montek earlier wanted an investment of 1 trillion dollars in infrastructure (haha
Now Montek says “not possible because
1. Foreigners are not investing thanks to bogus reputation of Government.
2. We had made the 1 trillion figure when 1$=44 rupees! Right now the situation is totally
Mohan: “koi baat nahi, if the outsiders are not coming then apno ko hi bottle mein utaar lete hai,
by educating them about financial education!”
Montek: but how does it relate with each other??
Infrastructure means highways, powerhouses, irrigation, damns, nuke plants etc.
To build such things, Government / private player will need truckload of money. Most of the big
foreign players are not interested in this, after seeing what happened to telecom companies and
Mega Infrastructure projects are usually financed either by
1. total Government funding or
2. by PPP/ Joint Ventures between the Government and private comany or
3. via “Bonds”.
Now you get the connection. Why would Mohan / Montek want indian junta to be educated
about financial education? And why did not they think about it 8 years ago?
Technical stuff:
National Strategy for Financial Education is being drafted by a sub-Committee of Financial
Stability and Development Council (FSDC).
What is Financial Stability and Development
Council (FSDC)?
A gang headed by Finance minister of India. The chiefs are RBI, SEBI, IRDA etc are the
But RBI, SEBI and IRDA now says “first take a survey that how much financial education and
inclusion do the Indians have, so that we can arrange for resources, booklets, advertizements,
syllabus and MCQs accordingly!”
Financial education already explained above.
What is financial inclusion?
It roughly means getting all the poor people in the banking and insurance net.
Because if they don’t have a DEMAT account in the first place, how the hell are you going to
make them invest in capital market?
Anyways this is just another scam coming –
Mohan: ya according to our scheme, we’ll give money to State Governments and they’ll give
money to district officials and Jholaachhap NGOs, to educate the schoolchildren, College kids (if
they’ve time in between Indian Idol and sending more than 200 SMS per day), and common
For each person participating in such seminar and opening a bank / DEMAT account, we’ll give
Rs.200 to the concerned NGO, District office for the Administrative expenses.
District officials, jholachhap NGOs, wife-beater Panchayat members and bootlegger
Municipal corporators (all in one voice): ya, now we just have to create ghost muster-roll and
eat up all the money meant for the beneficiaries, just like we do/did in IAY, PDS, TRYSEM,
MNREGA, SGSY and 50 dozen other schemes named after Nehru Gandhi family! Indeed
Whaat an Idea Sir-ji!
Bilateral Investment Treaty (BIT): Meaning,
use, controversy, explained
What is BIT?
 Bilateral Investment treaty
 It is signed between two nations.
 It provides for the terms and conditions for private investment by nationals and
companies of one state in another state.
 It gives the foreign investors the right to prosecute their claims against the host country’s
actions, in a BIT investment tribunal.
 i.e. If ↑odafone (a Netherland based company), is unhappy with Indian Government’s
action, it can drag India to a separate tribunal under BIT to settle the dispute.
 Thus, BIT provides real protection to foreign investment.
Why is it in news?
 When Supreme Court of India cancelled the 2G telecom licences- Sistema, a Russian
corporation was also affected. It plans to sue Indian Government in under the BIT, in an
investment treaty tribunal.
 Telenor and Vodafone are also planning to do the same.
Indian Government’s response?
 Some folks in the Indian government think that we should simply renegotiate with those
nations and delete the investor-state dispute settlement clause from BIT so no company
can sue us!
 But they forget that it is a two way street. Deleting the investor-state dispute settlement
provisions in BITs will negatively affect many Indian companies who have invested
majorly in Africa, Latin America and other countries like Nepal. Because our companies
won’t be able to drag their Governments in tribunals if things go wrong.
#1: Judiciary is part of the state
 Some people believe that Government of India (executive) did not cancel the 2G licences,
it was done by Supreme court. Hence, the matter is outside the jurisdiction of a BIT
 But a decision of any organ of the state, including the judiciary, can be challenged under
a BIT.
 In addition to the executive, sovereign actions of the judiciary and the legislature can also
violate international law contained in a BIT, for which India, as a country, will be liable
in the BIT tribunal.
#2: More than just FDI treaty
 Some people believe only foreign direct investment (FDI) falls under the ambit of BITs.
 But the definition of “investment” in all Indian BITs covers investment, portfolio
investment, intellectual property rights, rights to money or to any performance under
contract having a financial value or business concessions conferred under law or contract.
#3: BIT deals with taxation
 The Inter-ministerial group formed in response to ↑odafone’s notice to the Indian
government under the India-Netherlands BIT reportedly feels that taxation matters are
outside the ambit of BITs.
 But the fact is Taxation issues are also a part of the host state’s sovereign regulatory
functions and hence fall within the ambit of BITs, unless explicitly excluded.
Steps taken by Indian Government to
enhance the Capital Market?
Before talking about the steps taken by Government to strengthen / improve the Capital Market,
million dollar question is,
what is Capital market?
Ans- already explained in my earlier articles. Now here is the list of reforms initiated for Capital
Anyways, to put this in crude words, Capital market is a place where companies and
Governments borrow money from others via Debt (Bonds) or Equity (IPO, Shares) for long term
So why would Government want to strengthen this market or facilitate investment here? you can
guess the answer!
Now what’re the reforms initiated in Capital Market of India?
First, the QFIs, are allowed to access Indian Equity Markets, corporate bonds and mutual fund
debt schemes. (we’ve discussed this more than once).
Secondly, External Commercial Borrowings (ECB) mechanism has been liberalized to finance
Rupee debt of existing power projects.
3. Financial Stability and Development Council (FSDC) has been setup. (already talked
about this in the “→hy Mohan wants Indian Juntaa to be financially educated?”)
4. Financial Action Task Force (FATF) has been setup.
5. Permitting two-way fungibility in Indian Depository Receipts
6. Dedicated trading platforms for small and medium scale enterprises
7. Reducing transaction cost in Securities markets.
8. Reduction in the rate of long-term capital gains tax in the case of other non-resident
investors, including Private Equity from 20% to 10% on the same lines as applicable to
9. Providing the levy of Securities Transaction Tax (STT) at the rate of 0.2 per cent on sale
of unlisted securities in the course of IPO .
10. Tax exemption to “Angel” investors investing in in start-up companies
11. Extending the lower rate of withholding tax to funds raised through long term
infrastructure bonds in addition to borrowing under a loan agreement
12. Removal of Restriction on Venture Capital Funds to invest only in nine specified sectors
13. Financial Sector Legislative Reforms Commission (FSLRC)
14. Rajiv Gandhi Equity Saving Scheme (already talked about this).
15. Mandatory offer of electronic voting facility (for shareholders)
16. Income tax exemption to the Beneficial Owners Protection Fund (BOPF) set up by the
→e’ve already discussed some of these topics such as QFI, Rajiv Gandhi Equity Saving
Schemes, Financial Stability and Development Council etc.
 For rest you can google.
I’ll try to add articles on them, in future but cannot make a commitment like “→anted” Salman
RBI doesn’t want Ramalinga Raju in
Banking sector + How Drought in USA
brings Food inflation to world?
RBI doesn’t want NBFC and Corporates to
come in Banking Sector.
You already know what is NBFC, if not, go through the Archives:
 from Anil Ambani group, the Mahindras, L&T to Religare — everyone wants to open a
 But the dreams of big industrial houses and non-banking finance companies (NBFCs) to
set up commercial banks are unlikely to materialise because RBI is against giving
banking licence to any of them for the time being.
 RBI will consider new licences only after Parliament approves the amendment to the
Banking Regulation Act.
 RBI had earlier said that promoters and promoter groups with diversified ownership,
sound credentials and integrity that have a successful track record for at least 10 years in
running their businesses should be eligible to promote banks. (sorry Mr.Mallya)
Drought in US, Australia = Food inflation all
over the world
 United States and Australia are world’s top grain exporters.
 Drought-like condition prevailing in both these countries and it has started to push up the
price of soybean, corn, wheat and crude palm oil in the global commodities market.
 as much as 61 per cent of the United States’ agricultural land is facing deficient rains, and
it is Referred as the ‘worst drought in 25 years’.
 US exports more than half of all world corn shipments and also the top exporter of wheat
and soy.
 US drought is expected to hit global oilseed supplies as well. India is the biggest
consumer of palm oil, accounting for around 17 per cent of total world consumption.
 India, the second biggest producer of rice, wheat and sugar, will review its export rules
shortly as monsoon rains have been deficient by 22 per cent. But Sharad said, country
won’t ban exports of rice and wheat as food grains stocks with the government are in
excess of 80 million tonne, which is far above the strategic reserve and buffer stocks
Now the question:
How does drought in US bring Food inflation
in India?
 Even if we are not heavily dependent on US for our wheat or corn, the drought situation
in US will create inflation in India. How? Because If US is unable to supply the grains,
the other countries will look for alternatives, so xyz trader of India, who has stockpiled
truckload of corn / wheat, he will find it more lucrative to export it abroad than sell it in
the local market. So less supply in local market= food inflation.
 It is for the same reason, every once in a while, Government has to make rules to ban the
export of sugar, onion, rice etc. to control their prices in local market. But then the traders
lobby hard, and give suitcase full of money to the ministers, to lift the ban.
 So, here comes another question : should India totally ban export of all food items, to
control food inflation inside India? Think about it.

Statutory Liquidity Ratio (SLR): Meaning
and implications
What the hell is SLR?
SLR Means Self Loading Rifle. The INSAS Rifle used by our Jawans, is one example of SLR.
But for our purpose, SLR means-
 Statutory Liquidity Ratio.
 It is a tool used by RBI to control inflation and to boost growth. Anyways since last one
year, RBI's primary aim is to control inflation.
 If RBI sets SLR to 25%, that a Bank must keep 25% of its Total deposits, into non-cash
forms prescribed by RBI: that is….
1. In Gold
2. In Corporate Bonds / Shares approved by RBI
3. G-Sec (Government Securities/ Treasury Bonds)
 But most bank prefer to put all the money in Government securities (G-Sec), because
they're more safe and convinient than the other two.
What happens if SLR is decreased?
 Earlier SLR was 24%, but on last day of July, RBI changed it to 23%.
 That means, if earlier SBI had total Rs.100 Deposited in all its 11,000+ branches, then
SBI would have to park Rs.24 in G-sec but with new RBI rule, SBI will have to park only
 Meaning SBI can take away Rs.1 from its G-sec investment and use it for giving as loan
to regular customers. So, SBI will sell G-sec worth Rs.1 from its suitcase and use that 1
Rupee for lending as House, Car, Business loans to the customers.
 SBI has one more rupee to lend to the customers, it'll reduce the interest rate (to seduce
more customers). Thus Interest Rates go down when SLR is decreased.
 In real life, 1% decrease in SLR, means SBI alone will have additional Rs.10,000 crores
for lending
 And all the banks (SBI, ICICI, Bank of Baroda etc combined), will have more than
68,000 crores for lending.
 Now the reverse: If SLR is increased, then banks have less money to lend = they'll charge
more interest rates on loans to keep the profit margin same.
But why would SBI sell G-sec?
 Earlier I said, Banks prefer to park the SLR money into G-Sec, because it is safe and
convenient. But when something is “safe” the rate of return (profit) is not high.
 In case of G-sec, the rate of return on G-sec is 7.5%, while if SBI lends the same money
to customers- it can earn more than 10% (because car and home loans have more than
10% interest rate, usually.)
SBI takes initiative
 Just because RBI decreased SLR, doesn't mean all banks will immediately reduce the
loan interest rates (Thank god they don't behave like Oil Companies- who have formed
up sort of cartel, and then rarely reduce oil prices even if crude oil price decreases in
global market.)
 Anyways, whenever RBI decreases rates, usually SBI takes the initiative and decreases
interest rates to attract new customers. [Because SBI is a big player with deep pockets, it
can suffer temporary losses to get new customers- just like Wallmart etc. do by offering
huge discounts].
 Other banks such as ICICI, will then have to reluctantly follow the suit, to keep up with
the competition of SBI.
 For example, on 1st august 2012,
 SBI reduced its Car loan interest rate from 11.25 to 10.75% and
 Home loan interest rate from 10.50% to 10.25%.
 So now if ICICI wants to keep in business, it'll have to reduce its rates. [can't just rely on
Bacchan's advertisement power.]
Why is it called "Statutory" Liquidity Ratio?
 It is called Statutory because it is provided by the Law/Statute(The Reserve Bank of India
 This Act says SLR cannot be more than 40% and less than 25%. [hahaha, if SLR was
40% then who would open a bank in the first place?!]
 But in 2007, Government amended the act and removed the lower limit of 25%, so thus
RBI went to 24 and 23% SLR.
How does SLR reduction impact Bond Yield?
You already know what is Bond yield. If not, then go through the Eurozone Article. (Click Me)
The Newpapers are reporting that Bond Yields increased after RBI cut down the SLR. So why or
how did that happen? Think about it!
SLR decrease unusual
 Usually, RBI would try to manipulate the money supply in the market (and thus control
inflation) by changing the repo rate, and SLR is kept unchanged, but this time, RBI kept
the Repo rate unchanged and instead decreased SLR, why? Again, Think about it.
Urban Financial Inclusion : New Directive of
the Government to cut Subsidy leakage
Urban financial inclusion
 Government has launched the campaign for ‘Urban Financial Inclusion’
 Union finance ministry >> The department of financial services.
 This department, has directed all banks to do following
 1. open at least one bank account for every family in urban areas living below poverty
line in urban areas.
 2. capture biometric information for all such account holders.
 The responsibility of enrolling families would lie on the bank branch in every ward or
circle of a municipal corporation.
 In case there is no bank branch in a particular ward or circle, the responsibility would be
given to the neighbouring bank branch.
Rural Financial Inclusion
 Earlier, the same department had directed banks to open at least one bank account for
every family living in financial inclusion villages.
 Why? = To directly transfer MNREGA wages, Widow Pension etc. into the bank
Why does Government want Bank accounts
for Poors?
 Government wants to cut down leakage of subsidies and limit the total subsidy burden at
2 per cent of the GDP. (because if lot of crooks are eating away MNREGA / Pensions
etc. in half way, then subsidy bill will be high. So to prevent the crooks, money must be
directly sent to bank accounts of Poor People.)
 Therefore in last few months, Finance ministry has undertaken pilot studies for direct
transfer of fertiliser, kerosene and LPG subsidies.
 In the Union Budget 2012-13, Pranab had also announced that the Aadhar
platformwould be used to support the payments made under
o old age, widow and disability pensions;
o scholarships directly to the beneficiary accounts in selected areas.
Drought Situation in India: Suggest solutions
Food inflation is upcoming:
 India has rice and wheat stocks exceeding 80 million tonnes. It is 125 per cent higher
than the buffer stock norms.
 But the impact of the drought will be felt in pulses especially tur dal (pigeon pea),
coarse cereals, oilseeds and rainy season vegetables.
 And the Increase in fodder prices will eventually lead to a rise in the prices of milk, meat
and poultry.
Drought situation in India
 The average annual rainfall in India is 1,160 millimetre, although this is erratic in four
out of ten years.
 It has an irrigation potential of 140 million hectares —76 mha from surface water and 64
mha from groundwater
 but despite all the technology and Administrative machinary, every year 16 per cent of
the country’s total area and about 50 million people in the country are exposed to
drought like situation, due to poor management and low water utilisation efficiency.
What are the solutions?
 India cannot afford to neglect investment in irrigation structures of all
 Drip and sprinkler irrigation systems in scarcity areas will also help save
water, upto 85%.
 Using such systems instead of normal surface irrigation could boost yield
by 10-50 per cent.
 Farmers have problems due to cumbersome loan procedures and
consequent delay in loan disbursement.
 Therefore loan availability needs to be made simpler, especially in
drought hit areas.
 Need to introduce more rainfall insurance products among farmers.
 These products cover for low or high rainfall, cloudbursts, sudden
changes in temperature and hailstorms.
Cut down
 Steps should be taken to link farmers to the remunerative markets directly
through farm-to-fork approach.
 Strong farm-fork linkages will induce farmers to adopt new farming
technologies, trigger investment in logistics, save resources and protect
farmers from the vagaries of the weather.
Electricity generation in India: Grid failure,
privatization, problems, reasons, solutions
and more
Because of the Grid failure, last month about half of India or roughly 10 per cent of the world’s
population, suddenly found they had no electricity.
Electricity is the life line for Manufacturing and Service sector. If India wishes to grow at 8 or
9% a year, then smooth and uninterrupted supply of electricity =essential.
Electricity Scenario: India
 India’s present installed electricity capacity is 205 gigawatts (1GW is 1,000MW).
 Per capita electricity consumption in China is about 3.5 times that of India. [ If a
country’s electricity, cement or steel consumption is higher than India, it means means
they’re more advanced and Developed than we are].
 Hydro and coal account for nearly 77 per cent of electricity generation in India.
Problem with hydro power
 hydro power contributes to only about 20 per cent of electricity generation in India, while
in China- the Three Gorges dam alone satisfies 10% of China’s electricity consumption.
 Only about one-fourth (25%) of the India hydro potential has been harnessed. Why?
 Lack of vision,
 social and environmental activism of Jholaachhap NGOs.
 slow decision-making
 Weak law-enforcement. (the whole naxal belt- Government cannot start any projects
 →e’ve huge potential of hydro power generation in Arunanchal Pradesh but most of the
projects are stalled due to Border disputes with China. (lack of political will.)
Coal Based Electricity Generation
 Coal accounts for more than half of India’s electricity generation.
 country has the world’s fifth largest reserve of coal but its quality is poor because of very
high ash content.
 Coal India has not been increasing production fast enough.
 Compared to China’s exponentially increasing output, Indian production has remained
almost stationary during the past two years.
 Existing mines have strict limits as to how much coal they can extract.
 New mines are difficult to open because of the trouble in obtaining environmental and
land clearances.

What was the reason behind grid failure?
 The national electricity transmission network links up India’s five regional grids.
 some states used more than their quota of power from this network.
 Why? Because of the low monsoon, farmers were using more electricity to pump out
more ground water.
 So this extra demand of electricity overburdened the system, causing a cascade of
 To cut the burden, power plants were shut down, some automatically because of
computer softwares.
Here goes some technical details
What is an electrical grid?
 grid is an interconnected network of transmission lines : on one hand it has Generating
station and on the other hand it has load centres.
generating stations
 They put together, supply the electricity demand through
the transmission lines;
load centres or distribution
 draw the power from the lines and send it to consumers.
 For an electricity grid to function smoothly, it is essential that load and generation must
be balanced at all times to prevent a failure.
 The flow of electricity through the lines should ideally not exceed the rated capacity,
otherwise the lines could trip due to an overload.
Components of a grid
 A grid consists of three main components:
power stations
produce electricity from fossil fuels (coal, gas) or non-combustible fuels (hydro,
nuclear, wind, solar);
carry electricity from power plants to demand centers
Transformers reduce the voltage so that distribution lines carry power for final delivery.
When does a grid collapse?
 There can be two main reasons.
 First reason: equipment failure due to reasons such as fog and pollution
 Second reason: when one or more constituents violate the grid code and overdraw in a
big way from the grid, causing it to fail due to the imbalance in the power injection
 Northern states are repeat violators of the grid frequency norms, especially Uttar Pradesh,
Haryana, Punjab, Jammu and Kashmir.
Penalty for Grid violation
 If a state draws more electricity than its quota, then it has to pay penalty known as
“Unscheduled Interchange or UI rate.”
 Uttar Pradesh is the repeat offender of grid violation, it has ‘UI’ penalty bills of several
hundred crores and delays the payments. The state has also taken advantage of a High
Court order under which it does not pay the full UI penal rate.
What is the network in India like?
 At present the northern, western, eastern and northeastern regions are integrally
connected through AC (alternating current) transmission links to form what is called the
‘NE→’ grid.
Players in the game
Private players
 Few years back, (when there was no recession in US and call centres were booming), the
private players thought that India’s middle class will grow exponentially, and everyone
will buy TVs, fridge, washing machine and computers. Thus demand of electricity will
increase and we could make heavy bucks. So many private players (like Anil Ambani),
entered the game and opened their thermal power stations.
Problems faced by private players in power market
 electricity-generating companies in the private sector do not get enough coal from Coal
India, or get the Indian Railways to transport it in time.
 And They cannot import lot of coal from abroad (Australia) because it is expensive and
Government controls the electricity prices, so they cannot pass on the cost of import to
the final consumers.
 Thus industrialists have started reduced long-term investment in new plants. Some of
them had taken loans from Banks and now showing inability to repay the loan on time, so
banks are also feeling the heat. And adding insult to the injury, Less electricity =
expensive electricity = low IIP, low GDP, high WPI and CPI.
Coal India
 it is the Government controlled mining company that has monopoly over digging up coal
through out India.
 Environmental clearance : can’t dig enough coals from jungles.
 Coal India has $11 billion of unused cash, but reinvests only about 20 per cent of its gross
cash flow into research and Development (R&D).
 So its coal processing capacity, machinery etc. are not up to the mark according to
international standards.
 Technology and management practices in mining and transportation are outdated.
 Management is weak because of strong trade unions [just like Air India] and the system
is rife with corruption. [just like MNREGA]
Local Electricity companies
 Most local distribution firms are state-owned and all but bankrupt, as local politicians
insist that tariffs stay low and that juntaa especially farmers, get free power- especially
during the election year. And given India’s polity, we’ve elections round the year- in this
state or that state. So there is no “dry” year, in which Government can take tough non-
populist measures.
 Lack of modernisation, poor operation and maintenance practices and pilferage (stealing
of electricity) ensure that 30-40 per cent of electricity generated is lost and do not
produce any revenue.
 Farmers get free power to pump groundwater for irrigation, but some of this free power is
illegally diverted to factories.
 Since electricity is free, farmers run their pumps whether or not crops require water. As a
result, groundwater levels in many states are declining by over 1 metre every year.
 This means each year, farmers have to use more electricity to pump water from
increasing depths,
 Secondly, when ground water table decreases, the soil becomes more saline. And saline
soil produces less crop. Combine this with Deforestation and soil erosion= farmers are
forced to use more and more fertilizers to produce same amount of crop.
 So, in the end this becomes a vicious cycle of excessive electricity and fertilizer use.

Suggest the reforms to fix Electricity
problems in India
 Privatize Coal India.
 install new electricity regulator with teeth. (just like SEBI is for capital markets.)
 Install nuke power stations, disregarding the protests by jholaachhap NGOs and their
foreign masters.
 Sort out border disputes with China, so that Arunanchal Pradesh’s hydro potential can be
fully utilized.
 Your suggestions also welcome.
No frills” renamed to “basic savings account”
to prevent stigma
You already know about No Frills Account, (if not, click me) With respect to that topic,
Muhammed yunus has shared this update:
 RBI had introduced "no frills" account in 2005 to provide basic banking facilities to poor
and promote financial inclusion.
 But now, The RBI asked the banks to drop the no frills tag from the “basic savings a/c”
as the this “no frills” had become a stigma.
1. No limit on the number of deposits that can be made in a month
2. Maximum 4 withdrawals in a month , including through ATM's
3. No minimum balance requirement [important fact for MCQ]
4. No charge will be levied on non operation of account [important fact for MCQ]
5. Recipe of money through electronic payment channels or by cheques issued by
government agencies
6. This would help those covered under the welfare schemes like MGNREA in receiving
payments. [important fact for MCQ]
Ref- the Hindu Aug 11, 2012.
Inflation: Demand Pull Theory- Meaning,
I’m republishing two old artices on inflation, because they went missing after I upgraded the
Inflation is as we all know, is the general rise in the price of goods and services. But why does
inflation happen?
There are two major causes / theories behind Inflation
 1. Demand Pull / demand side
 2. Cost push / Supply side

What is Demand pull inflation?
 Also known as demand-side inflation, monetary theory of inflation.
 Crux: When people have truckload of cash in their hand. But there are not truckloads of
goods in the market.
 Consider this scenario:
 Government of India initiates a (bogus) scheme called MNREGA, total 40,000 crore
rupees are sent from Delhi every year and we all know that most of the money is eaten by
the Ministers and government officials before it reaches to the poor people. Now this
minister has truckload of blackmoney in his hands and worried about how to invest it
What is black money?
 Black money is any money on which tax is not paid.
 Black money is not necessarily related with Corruption only.
 Only politicians and bureaucrats have black Money = Wrong statement.
 I run a medical store very honestly, earning 10 lakhs a year but on paper show only 2
lakhs of profit, to save myself higher income tax payment. So this 10 minus 2 = 8 lakh
rupees on which income tax is not paid = black money.
 You purchase a home for 10 lakhs from a builder, but to save the stamp-duty payment,
you give 2 lakhs as cheque, rest payment in cash without any bills. That 10 minus 2= 8
lakh rupees on which stamp-duty is not paid =black money.
Back to the topic;
What should the minister do with his black money?
 Deposit in his bank account? No, he cannot, because he'll get caught because income tax
department keeps an eye on this. He will be booked for ‘disproportionate assets’ case just
like Mulayam, Mayawati and Jaya Lalitha.
 Should he Invest in the share market? No, he can't do this either, because he has to give
his PAN card number for every purchase and sale of shares, and the income tax
department keeps a close eye on this activity.
 So he will use the very time-tested method of hiding black money:
 Either purchase gold, silver, platinum, diamonds or
 Deposit in the Swiss bank account but he is feeling insecure about it, given the current
activism by media, civil society and judiciary.
 or Purchase land, shopping-mall, farmhouse or other real estate: under Benami
what is Benami Transection?
 In crude terms, when you purchase the land, property, car with your money but it is
purchased in the name of your relative, friend, daughter-in-law, driver, peon any even a
person that isn’t born yet or died a long time ago.
 So our beloved Minister purchases quite a few buildings, with the speculation that in
future the price of these buildings will increase. (After all, there is no end to greed, he
already made the cash, but still he would want to make more money out of his money.)
 Now we know that the land, or gold or the number of buildings that can be constructed on
a land are in finite amount.
 So when normal people like you or me go to purchase an apartment, the builder will
demand more money because there is same supply of apartments in the market but more
people waiting in the line to purchase a home. What happened? Supply same, but demand
increased = price rise.
 Same way, the minister would also invest part of his black money in gold and silver, thus
increasing their prices also.
 Minister will also invest some of his money with the moneylenders – who circulate it as
loan @36% interest rate to the needy people.
 →ho’re these needy people?
 #1: the urban middle-class men who suddenly loose lot of money in cricket betting thanks
to Sachin or sharemarket speculation thanks to Anil Ambani’s IPO and then have to
borrow immediately to settle payments. They can’t goto banks because banks take weeks
and months to process personal loans.
 #2: the farmers in rural areas. They need money for two reasons:
 1. settle payment of seeds, fertilizers, electricity, water, laborers or
 2. Dowry for daughter’s marriage and other expenses related to social ceremonies
associated with child-birth, marriage, death etc.
 Irrespective of their India-Bharat divide, the fate of these two categories of needy people
is same: they remain in-debt forever or commit suicide, while minister continues to enjoy
hefty 36% interest rate on his money from them. (Banks only pay about 7% on your
savings account, consider the difference!)
Back to the topic: another factor responsible for “Demand-pull” inflation.
Increased inDisposable income:
What is disposable income?
Every month you get salary,
 part of that salary goes in the EMI of car/bike/house loan payments,
 Part of that goes in the compulsory payment of electricity, telephone, Internet,
newspaper, milk and vegetables.
 Part of the salary deposit in the savings account of your bank and then
 Whatever is money left in your hand for cinema, restaurant, spa, caller-tunes, branded
clothes etc. non-essential, discretionary spending is called disposable income.
 Example. The sixth pay commission increased the salary of government employees,
almost everybody suddenly got say Rs.50,000 per month, compared to 20,000 earlier.
 So even after the regular payments of EMI, Telephone bill etc. they will have more
disposable income in their hands compared to earlier, what will they do?
 They will start visiting restaurants or cinema every Sunday instead of visiting them every
 Many of them may even plan holiday trip. What is the implication?
 1000 families chasing total 500 seats of restaurant / multiplexes in their city
 Or 100 families chasing 50 hotel rooms in Goa.
 We know that supply of seats or hotel room is same as earlier, but demand has increased,
the hotel owners would start charging more = inflation.
Dearness Allowence paid by Government
 Quoting a Line from Times of India
Giving relief to its employees and pensioners from inflation, the central government on Friday
announced a seven percentage point increase in dearness allowance (DA) which will cost the
exchequer an additional Rs 7,500 crore. The new DA rate of 65 per cent of basic pay against 58
per cent earlier will be applicable retrospectively from January 1, 2012.
 What does it mean? Government keeps an eye on the inflation, and gives more salary to
compensate the employee for the increased prices and cost of living.
 So, Government employee need not worry much about increased price of milk or
 BUT private companies are not so generous about D.A. so people working in private
companies (Atleast at the lower level) don’t have that much disposable income.
 Again money supply increased (Rs.7500 crores)= demand by Government employees
increased= inflation is felt by the people working in private companies.
RBI’s monetary policy
 RBI Governor: behold my infinite wisdom and limitless awesomeness. Repo rate is the
interest rate at which we lend the money to banks. I’m omnipotent and omniscient so I
say- decrease the repo-rate from 5% to 4%! Those Aam-Aadmis (common men) are
unable to purchase homes thanks to that minister. If I reduce the interest rates, it’ll bring
some relief to the common men.
 SBI manager: good. Lets borrow as much money as we can, from SBI, and then we lend
it to juntaa.
 ICICI manager: I’m gonna do the same thing!
 SBI manager: damn it ICICI manager competition with me, but I’m gonna show who’s
the real player here. (To his probationary officer) gang up as many annoying telemarking
callers as you can, dial every number in the phone directory, sell our loans and schemes,
If you don’t meet the sales-target of 500 policies a month, I’ll rip you apart and then
make negative remarks in your performance report.
 ICICI manager follows the same suit.
 SBI Probationary Officer (To his manager): Sir it is not working. People are not
interested in taking our loans or policies, ICICI is offering unlimited SMS, free caller-
tunes, with each loan. Indian Juntaa loves mobile phones more than toilets. And they
have rallied up Big B to do the advertisements.
 SBI Manager: damn it, I should have thought about it. Anyhow, I’m going to talk with
 SBI MD: Reduce our interest rates. Then we see who’s the real-player here.
 Juntaa shifts to SBI loans because of lower interest rate. ICICI also follows the suit and
decreases their interest rate.
 No0b loser pathetic college kid to his restaurant owner daddy: I want a Pulsar bike to
impress my friends in college.
 Daddy: but I already increased your pocket money last month for Axe-perfume,
Shahrukh Khan’s Fair and lovely skin whitening cream and John Abraham’s sunscreen
 Bike Salesman in his makeshift ‘outlet’ just outside their home: come on sir, we get you
easy loan from SBI.
 Daddy: alright damnit.
 This way, people get easy loans in their hands and they go out to purchase homes, cars,
 Businessmen also take loans, purchase trucks, machinery, hire more people in their
company: these people also get more salary (compared to their earlier state of being
 and hence people have more money, they demand more products = price rise = inflation.
So what is the problem here?
RBI worsened the problem by relaxing its monetary policy.
It is impossible to get zero percent inflation. RBI should only try to maintain the ‘tolerable’ level.
Should RBI have tighetend the monetary policy?
 What if RBI increased repo rate, thus increasing the home-loan interest rates?
 People would delay their decision of purchasing a home/car/ etc.
 They would instead deposit the money in savings account, or fixed deposit account or
mutual funds.
 This will decrease the cash in the hands of people, thus decreasing the demand= inflation
 Now this is what RBI has been doing throughout last year, RBI Governor kept increasing
the repo rate thinking that this will work.
But it did not work, we did not see any decrease in inflation despite RBI’s monetary measures,
→hy this “tightening of monetary policy” wasn’t effective? Because of two reasons,
 1. The minister/bureaucrat with black money won’t decrease his spending. He will not
put his money in banks, he will not delay his decision of buying a new SUV car, gold-
jewelry or farm-house. RBI’s repo rates don’t have much direct effect on him.
 2. Supply-side problems.
o Onions are expensive
 their supply is low because of bad-weather
 Many middle-men involved and each getting Commission
 Diesel is expensive = transport expensive.
o Milk is expensive because
 Electricity is expensive. (For running the plant, coolers, machinery.)
 Crude oil is expensive (Plastic pouches, printing inks, lubricants for
machinery: All derived directly or indirecty from crude oil.)
What could Government do?
 They could introduce a national savings certificate or kisan vikas patra etc with scheme
“deposit your money in this, get your money doubled in 15 years, and no income-tax will
be levied on it” this will make Government employees deposit their extra disposable
income in savings. Thus reducing the moneysupply.
 Income tax Department could increase the raids on builders and businessmen.
 CBI could increase the investigation speed in NHRM and Mining scams involving
 Government could relax the Environmental “go and No-go” areas of coal mining= more
coal= cheaper electricity
 Government could permit FDI in retail = middlemen removed = onions cheaper.
 And so many other steps that could have been taken but weren’t taken.
This ends the first theory of inflation: demand pull. Second Theory : “Cost Push Inflation” in the
next article.
Inflation: Cost Push – Meaning, Reasons,
Solutions and CSAT Mock Questions
Republishing two old articles on Inflation, after they got deleted due to a technical upgrade of the
website. In the previous article, we saw about “demand-pull” theory of Inflation.
Now time for the second one.
Theory #2: cost push inflation
 Also known as supply side inflation.
 it means the cost of production has increased hence the price of products have increased.
What are the factors responsible?
Increased wages
 Maruti is producing 1000 cars per month, but the union workers of Maruti go on a strike
and demand higher salary.
 Ultimately, Maruti agrees to the union demand, every worker will now get more salary.
But of course the company never pays out of its own pocket and wants to keep the profit
margin same so, the increased cost of car-production is always transferred to the
customers. So the car that used to sell for two lakh rupees, will now sell for 2.17.
Increase in the tax
 Finance Minister reads the newspaper headline – Indians have more mobile phones than
toilets. So he thinks, why not increase the excise duty on the mobile phones and use that
Revenue to give more funds under “total sanitation campaign “ (TSC). That’ll help in
building more toilets on the villages.
 But of course, the CEOs of Nokia, Samsung or Motorola are not going to pay the money
out of their pockets to finance the toilet building in Indian villages, they'll pass the
increased cost to the customers. MRP of Nokia Lumia is increased.
 The cash in your hands is same as earlier, but the MRP has been increased by the
supplier’s side.
Reduced availability of raw material
Consider the case of onion
 Bad weather= less production of onion or
 the blackmarketeers are intentionally stocking up or hoarding onions for better prices in
 Government declared attractive MSP (minimum support price) for Pulses (daal, Moong)
so, farmers have shifted to producing those pulses instead of onions.
 UAE businessman is paying higher prices for Indian onions, because of bad weather
conditions there. So our middlemen, find it lucrative to export onions to UAE rather than
to local vegetable market in city.
In all four cases, because the supply of onions is reduced, the restaurant owner will
 A. Increase the per plate price of pau-bhaaji or
 B. Keep the per plate price same as usual but reduce the quantity of onion given, so that
you’ve to pay extra for the extra ‘supply’ of onion salad.
→hat happened? Supply of onion reduced, so restaurant owner’s input cost increase and he had
to push the menu prices higher.
To get Higher profit margin
 The Supply of rice is same, the disposable income in your wallet is same, but the
restaurant owner wants higher profit margin, so he decreases the size of every Idli , but
your hunger remains the same, so you’ll order more idlies and end up paying higher bill.=
 The restaurant owner may not be the real-culprit here. Perhaps he is that daddy from the
“demand pull pulsar bike” case: He had to increase the pocketmoney of his kid for that
axe-perfume, SRK’s skin whitening cream and John Abraham’s sun-screen lotion.
 That’s why he has to increase his profit margin to pay for those unnecessary products.
 Or perhaps but real-estate market has gone up thanks to that Ministers in “Demand pull”
inflation case. And so, restaurant owner has to increase his profit margin to pay for the
 As you can see in ^this case, there is never a totally “demand pull” inflation or totally
“cost-push” inflation. The final inflation that we feel in our real life, is resulted because
of both of them. (Minister increased demand pull hence Restaurant owner had to increase
the cost-push.) So this brings us to the third theory
Theory 3: Mixed Demand Pull Cost Push
Misc GK Stuff
Name Meaning
Mild inflation
Walking or
Intermediate range 3 to 7% per year
Higher than walking
Final stage, inflation is totally out of control, when it is outside the “aukaat”
of RBI or Government to control this inflation.
Stagflation Both price and unemployment rates increase
Mock Questions
Time for some Mock Demo CSAT questions for General Studies paper 1.
Question number one
Inflation in theory occurs
 A. When the price of essential commodities outstrip the income
 B. When money supply grows at a higher rate than GDP in real terms.
 C. When the exchange rate of currency falls
 D. When fiscal deficit exceeds the balance of payments deficit
Question number two
Which of the following is not a reason for cost push inflation
 A. The payment of dearness allowance to employees.
 B. The existence of large parallel economy (black money)
 C. Fluctuations in the agricultural and industrial output
 D. Excessive indirect taxation
question number three
Among the supply-side measures to contain inflation is.
 A. Postponing the public expenditure.
 B. Mopping up excessive liquidity through taxation
 C. Credit control measures of RBI
 D. Maintaining price levels through an effective public distribution system.
Question number four
Temporary control of inflation can be affected by
 Reducing prices.
 Increasing prices.
 Increasing the taxation rate.
 Restricting the growth of money supply.
Question number five
Out of the items given below, which can cause demand pull inflation?
 Increasing interest rates.
 Increasing investment.
 Increasing money supply.
 Increased cost of materials
question number six
inflation results from an excessive demand over the availability of supply, is known as
 A.cost push inflation.
 B.Demand pull inflation.
 C.Either a or B.
 D.None of these.
Question number seven
inflation is the result of increasing the cost of production. This kind of inflation is known as
 A.cost push inflation.
 B.Demand pull inflation.
 C.Either a or B.
 D.None of these.
Previous years questions
A rise in general level of prices may be caused by
 1. Increasing money supply
 2. Decreasing aggregate level of output
 3. Increasing effective demand
which of these given statements are correct.
 Only one
 only one and two
 only two and three
 all of them
match the list “A” with list “B”
 1. Continuous increase in the general price level.
 2. Raising prices deliberately to relieve the depression
 3. Fall in the price without decline in existing level of
employment, output and income.
 4. Recession accompanied by inflation
 A. Hyperinflation.
 B. dis-inflation
 C. Stagflation.
 D. Reflation
 E. Inflation
Question from passage
Consider the following passage.
Price is not the same thing as value. Suppose that on a day, the price of everything: coal, bread,
postage stamp, labour, rent of house, et cetera where to double- price, then, would certainly rise,
but the values of all things except one would not.
The writer wants to see that if price of all things were doubled
 A.the value of all things would remain constant
 B.the values of thing sold would be doubled
 C.the values of things bought would be halved
 D.the value of money only would be halved.
Stagflation refers to a situation which is characterized by
 deflation and rising unemployment.
 Inflation and rising employment
 inflation and rising unemployment.
 Stagnant employment and deflation.
Stagflation refers to.
 high inflation in periods of high unemployment.
 Deflation in the periods of stagnant employment.
 Deflation in the periods of high unemployment.
 High inflation in the periods of full employment.
What does the term benign inflation imply?
 mild the rate of inflation.
 An unexpected rate of inflation.
 The markup inflation.
 A spiraling inflation
For more on Economy: visit
LIBOR Scam : Meaning, Reasons,
Consequences, Timeline, explained
Continuing the series of not so technically correct economy articles:
What the hell is Libor?
 Suppose SBI and BoB (Bank of Baroda) are London based Banks.
 If Bank of Baroda borrows money from State Bank of India, say 1 crore pounds for 1
month @12% interest rate.
 Then 12% is the London Interbank Offered Rate (Libor).
In short, LIBOR= the interest rate at which banks borrow and lend from each other in London.
(i.e. SBI is “lending” @12% and BoB is “borrowing” @12% interest rate, but either way the
interest rate is 12%.)
But this is a technically not so correct definition. Because there ought to be more than two banks
in whole London and all of them can’t be lending to each other at the same interest rate, right?
→e’ll come to that problem very soon but first of all.
Why the hell do banks lend each other?
 In every country, there is one RBI (Central Bank) and there are some SBIs,BoBs etc.
(Commercial banks). Usually, the SBIs take deposits from customers and some loans
from RBI and lend this money as home/car/bike/business/personal loan to other
customers. So why do these banks need to borrow from each other?
 Well, there are days when more customers have made withdrawals than deposits. (e.g.
before Diwali / Christmas or IPL cricket betting) so a Bank has to borrow from its rival
banks to cover the shortage of cash. It is not necessary that a bank is running into losses
and hence borrowing from the other banks. Because a bank would have loaned the
money to other customers for 5-10-20 years’ period so it can’t immediately recover all
the cash in one day.
 On the other side, banks with a cash surplus can make extra profits by lending its cash to
a rival bank.
 Thus, Banks lend to each other on a short-term basis to either to cover the shortage of
cash or to make a profit.
How do banks borrow each other in London?
 When you want to take car- loan, you visit various bank branches, take their brochures, if
you’re tech-savvy you might just visit the website of all famous banks and compare their
interest rates, loan terms etc. So, there is total transparency about interest rates,
 But when one bank has to borrow from another bank, such transactions take place via
phone-conversations between their executives, there is lot of give and take, bartering etc.
for example-
if your bank promises not to setup any ATM booths around Gujarat university for next
five months and i’ll reduce the interest rate!
another case
I know your 20,000 crores rupees are stuck in the loan given to that Mallya. So you’re in
no position to negotiate. Give me 18% interest else I won’t offer any loan.
 In short, there are many variables and behind the curtain deals.
We can know the buying and selling price for shares of Infosys by glancing at the Nation
Stock Exchange website/ screen/ CNBC or similar business news channels.
 However, there is no comparable screen where we can learn the LIBOR.
 For the last 26 years, the British Bankers’ Association (BBA) has computed Libor by
asking dealers what they saw as prevailing market conditions, deleting the high and low
values of the reports, and taking the average of rest data.
Who calculates LIBOR?
 It is calculated daily by British Bankers’ Association. (BBA)
How does BBA calculate LIBOR?
 Every day, 16 banks in London, will send SMS to the BBA Manager, giving the the
interest rate that they are charged to borrow money.
 The BBA manager will delete the four highest rates and the four lowest rates. And then
he’ll take average [mean] of the remaining data.
 Thus, The average of the eight remaining rates = Libor rate.
Why does BBA calculate LIBOR?
 If a bank is weak and unlikely to repay money on time then the rival banks will demand
higher interest rate while lending money to that weak bank.
 Means, A bank has to pay a higher interest rate to borrow funds if other lending banks
have less confidence in it.
 So, The rate each bank has to pay is in part a reflection of their rivals’ perception of its
financial strength, effectively how much it is trusted.
 This means that the Libor rate gives an indication of the health of the wider banking
 Euribor=plays the same role for banks based in the eurozone.
 SIBOR =for Singapore
 HIBOR=for Hongkong
What’re the Implications of LIBOR
 In UK, the Banks charge interest rate on home loans according to LIBOR. If LIBOR
increases then home loan interest rate also increases.
 Even in USA, majority of the home loans were linked to LIBOR rate (in 2008).
 Same case for business loans.
 Same case for students’ (education) loans.
 Many Futures and derivative contracts in forex, commodity and oil market are based on
LIBOR rates.
 In short, The prices of trillions of dollars worth of financial transactions around the world
are set according to Libor.
 Indirect implications are many (both positive and negative), for example, If a
businessman in US or UK has to pay more interest rate for getting loans,
1. He may increase the price of his products.
2. he may reduce the number of employees or
3. he may be outsource the work to India and Philippines to reduce the operational costs.
4. he may scale down his operation, thus reducing the amount of raw material / input
products imported from India. and so on…
Why LIBOR scam?
 Recall the earlier statement: “A bank has to pay a higher interest rate to borrow funds if
other lending banks have less confidence in it. ”
 If you’re Managing Director/CEO of a Bank, you wouldn’t like to report the higher
interest rate of borrowing. Because that means other banks have less confidence in you.
Imagine what consequences it can bring?
1. The aam-juntaa would still keep coming to your bank as long as you hire celebrities to do
the advertisements.
2. But, The big corporate houses, have wise Chartered Accountants, who understand the
meaning of such numbers and its long term consequences. So, CA may advice his CEO
to close the company’s bank accounts and deposit money in other banks.
3. Some big Companies may even stop taking loans from you.
4. The price of your shares, go down in the sharemarket, because investors lose faith in your
And with all this mess, the Board of Directors may remove you from your CEO job and hire a
new CEO to fix the bank.
What is Barclays?
 Barclays is the name of a British Bank.
 It is the fourth-largest of any bank worldwide (First three banks are: BNP Paribas,
Deutsche Bank and HSBC)
 On a side note, if we make list of Top 50 banks of the world according to the cash
they’ve, then there is no bank from India.
Anyways, coming back to this Barclays Bank.
 Recall the sub-prime crisis, Barclays, along with many other banks had given loans to
plenty of unworthy customers in US, who didnot have the aukaat to repay the loan.
Barclay’s money was stuck in USA – around 12 billion dollars worth of toxic assets. So
Barclay’s situation was bad, the other rival banks of London, knew it and they didnot
have much confidence in this bank.
 But even during this period, Barclay [and other 15 banks in London] had to send daily
SMS to BBA Manager so that he could calculate the LIBOR.
 So, Barclays’ CEO Mr.Bob Diamond sent artificially low figures to BBA manager, in
order to hide the fact that his bank was in a mess.
Bob Diamond says “whaat an idea sir-ji”
 [recall the concept : if bank X has to pay more interest for borrowing from another banks
compared to bank Y, that means Bank X is weaker than Bank Y.]
 It’s not that Bob Diamond himself sends fake SMS from his Nokia 1100, they’d have
pretty sophisticted email or software system and dedicated staff for doing all this, but the
Barclay staff will not dare to send wrong data to BBA, without the secret consent and
approval of Main boss.

It doesn’t mean that Barclays is the only villain in this episode.
Some of the Other 15 banks of London also misreported their borrowing rates, why?
 Because, During the global financial crisis (2007 and afterwards) the RBIs (Central
Banks) in developed countries (like UK, France and US) had started giving loans to their
nations’ banks at very nominal or close to 0% interest rate in order to boost the economy.
 So the various banks in London, also got cheap loans from RBI of UK (known as Bank of
 Now their CEOs had incentive to to quote higher than usual rates of borrowing because if
LIBOR went up, then their banks could earn more interest on Libor-linked loans.
 If LIBOR rate was manipulated even by 0.01%, then these banks could make a about a
couple of million dollars more in the interest rate charged on home / business loan
 So, Barclays is not the only villain this scam, just like A.Raja is not the only guy in 2G
 Side-Question: if the banks in London are getting cheap loans from their RBI, then
Barclays should also have recieved some loans from their RBI @0%, right? yep, but
Barclays was in bigger trouble (12 billion dollars) than the amount of money their RBI
could lend to fix the mess.
 It is also alleged that Barclay staff also coordinated with staff from other banks to jointly
report the false data to BBA. [Because these people had invested in various
futures/derivative contracts whose payment depended on LIBOR rate.]
Wrong Data= Wrong Average
 You already know that BBA manager will receive 16 SMS every morning, he’ll remove
the top 4 and bottom 4 values and take average of the remaining values and publish that
number as “LIBOR” rate for that day.
 If even a single SMS [value] is incorrect, then he’ll get a wrong average [LIBOR].
 In our case, Barclay is reporting lower than usual, while some other banks are reporting
higher than usual, so overall the Average (LIBOR) increased.
 So all these years, BBA manager was publishing wrong LIBOR, because he wasn’t
getting the right data from Barclays and other banks.
 And because of the Wrong LIBOR rate, the UK and US citizens had to pay higher
interest rates on home, student and business loans [because their banks set the
home/education/business loans’ interest rates according to LIBOR rate]. Similarly
investors in Forex, Commodity etc. market ended up paying more than necessary money
for the contracts, because their contracts were linked to LIBOR.
Timeline of Events
The Wall Street Journal (WSJ) published an article on this activity of sending wrong
U.S. Department of Justice conducts a criminal investigation into Libor abuse.
Barclays Bank was fined $160m by the United States Department of Justice, $200m
by the Commodity Futures Trading Commission, and £59.5m by the Financial
Services Authority for attempted manipulation of the Libor and Euribor rate.
CEO of Barclays, Mr.Bob Diamond, resigned.
Innocent aspirants of UPSC, Bank and MBA are forced to learn one more topic for the
Coal acquisition from Abroad: ICVL and its
What is ICVL?
 International Coal Ventures Limited (ICVL) —
 It is a joint venture company
 formed in 2009 jointly by following entities:
Administrative control
Steel Authority of India Ltd (SAIL) Ministry of Steel
Rashtriya Ispat Nigam Ltd (RINL) Ministry of Steel
National Mineral Development Corporation (NMDC) Ministry of Steel
National Thermal Power Corporation Ministry of Power
Coal India Limited (CIL) Ministry of Coal
 It has a capital base of about Rs 10,000 crore and enjoys the powers of a navaratna
Why was ICVL formed?
 To secure metallurgical coal and thermal coal mines abroad, preferably in Australia/
New Zealand, Indonesia, Canada/ USA, South Africa/ Mozambique.
 By the way India has sufficient coal in its own land, but it is either located in Naxal
region or cannot be mined due to environmental clearances/ Supereme Court order, hence
the need to acquire more coal from abroad.
Type Use
Metallurgical coal to make coke for the iron and steel industry.
Thermal coal electricity generation in thermal power plants.
What’s ICVL’s problem?
 Ever since its formation, it has failed to acquire any overseas coal assets either through
bids or through takeovers.
 This non-performance by ICVL has spurred members to quit the ICVL.
 So on one hand you can’t dig enough coal from India, on the other hand, you are not
acquiring enough coal from abroad. What will happen?
a. WPI will increase
b. IIP will decrease
c. GDP will decrease.
d. All of above.
Why no acquisition of coal mines abroad?
 Its members have been doing overseas acquisitions on their own.
 Mineral giant NMDC went ahead and secured mines in Australia and
 CIL secured two coal blocks in Mozambique.
 These individual pursuits by the members are diluting the collective efforts made by them
under ICVL.
Coal India’s problem
 NTPC has already quit from this ICVL because of its non performance.
 Of the remaining four members, three are under the administrative control of the steel
ministry and are consumers of metallurgical coal to be sourced through ICVL.
 Whereas Coal India (CIL) itself is a coal seller.
 So, the business interest of CIL would be seriously compromised if it remains in this
ICVL gang.
 Therefore, Coal India is also thinking about quitting ICVL gang.
Mock Questions
Q1. Match the following
1. Rashtriya Ispat Nigam Ltd (RINL)
2. National Thermal Power Corporation
3. Coal India Limited (CIL)
1. Ministry of Mines and Mineral
2. Ministry of Coal
3. Ministry of Power
4. Ministry of Steel
Q2. Write an Essay on following
“Energy security and Environmental Protection cannot be achieved simultaneously.”
Cash Reserve Ratio (CRR) Controversy
between SBI & RBI: meaning, implication on
Economy Explained
What is CRR?
 CRR means Cash Reserve Ratio.
 Banks in India are required to hold a certain proportion of their total deposits with RBI in
cash form.
 Right now, CRR is about 4.75% that means if people deposit total Rs.100 in SBI, then
SBI would have to deposit Rs.4.75 in RBI.
 This is CRR or Cash Reserve Ratio.
 CRR rule doesnot apply to Regional Rural Banks, Non Banking Financial Companies
(NBFC), Mutual funds or insurance companies.
What is Scheduled Commercial Bank?
 Scheduled banks are those banks which have been included in the second schedule of the
Reserve bank of India act of 1934.
 The banks included in this schedule list should fulfill two conditions.
1. The paid capital and collected funds of bank should not be less than Rs. 5 lakhs.
2. Any activity of the bank will not adversely affect the interests of depositors [hahaha,
does it mean Non-scheduled banks are allowed to adversely affect the interests of
depositors !?]
Examples of Scheduled Commercial Banks
Public Sector Private Sector
Majority of stake is held by the government.
1. State Bank of India (SBI)
2. Punjab National bank (PNB)
Majority stakes are held by private players.
2. HDFC,
3. AXIS Bank
Case #1: High CRR and SLR
Suppose total deposit deposited in (by you and me) State Bank of India =Rs.100
Total Deposit Rs.100
CRR: 15%SBI has to park this much amount of total deposit in RBI, without -15
getting any interest.
SLR: 38%SBI has to park this much amount of total deposit, in Government
securities / treasury bonds. SBI earns around 7.5% interest rate on this me for more on SLR
Money left with SBI
Case #2: Low CRR and SLR
Total Deposit Rs.100
CRR: 4.75%SBI has to park this much amount of total deposit in RBI, without
getting any interest.
SLR: 23%SBI has to park this much amount of total deposit, in Government
securities / treasury bonds. SBI earns around 7.5% interest rate on this
Money left with SBI
In either case, as long as you’re running a bank, you’ll have some input costs such as
1. Salary to Bank PO , Clerks, peons and security guards (With rusted guns)
2. Office rent
3. ATM machine’s electricity and maintenance.
4. Newspaper advertizements.
To pay above salary and bills, SBI would need to maintain certain amount of profit margin, no
matter what RBI does with CRR,SLR or Repo Rate.
In Case#1, when SBI has only Rs.47 in the hands, what can it do to keep the profit margin same?
Obviously SBI will have to increase the interest rates on car,home,bike,business loans given to
In case#2, when SBI has Rs.72, what can it do? Here the situation is not that bad.
So, SBI chief would decrease the interest rates on car,home,bike,business loans to seduce more
customers. We already discussed this- SBI has more money so it can cut down interest rates and
suffer temporary reduction in profit, in order to seduce more customers (compared to ICICI) So
once SBI has reduced the interest rates, other banks will need to reduce their interest rates, to
stay in the competition.
Repo Rate
Let’s continue assuming the Case#2, that SBI has only Rs.72.25 left in its locker.

 SBI chief comes to know that recently Samsung Company has launched Galaxy S3
mobile so plenty of youngsters may want to buy it because of the advertisements that
appear on TV channels 24/7
 Thus there will be demand for more personal loans (EMI) or credit card based shopping.
But SBI got only Rs.72.25.
 So SBI chief would borrow some more money from RBI @8% interest rate and then re-
lend this money to customers as personal loan @16% (and thus making a killing profit of
 or he can supply money to customers for Credit Card shopping, and in that case he can
earn interest rate anything between 16-37% or even more (depending on hidden terms
and conditions of credit card.)
 This 8% : the rate @which RBI lends short term loans to clients, is called Repo Rate.
Reverse Repo Rate
 As the name suggests, Reverse repo rate is “reverse” of Repo rate.
 So, if SBI chief feels there is not enough demand for loans and most of those 72.25
Rupees are sitting idle, he’ll deposit some of that cash, in RBI.
 RBI will pay SBI chief 7% interest rate on such deposit.
 Thus, Reverse repo rate is the interest rate which RBI pays its clients* for their short-
term deposits.
 Note: Reverse Repo Rate is automatically kept 1% less than Repo rate according to new
RBI rules. [Since Nov.2010, Reverse Repo rate is constantly 1% less than Repo].
Side Question
Why would SBI chief put his money in RBI?
Because on your normal savings account in SBI, the chief pays you around 4% interest rate,
while RBI is giving him 7% Reverse repo rate, so he’s making a profit of 3%.
Bank Rate
 Bank rate is the interest rate which RBI charges from its clients* for their LONG-term
 Recall that Repo Rate = RBI charge that much interest from its clients on SHORT term
*Who’re the clients of RBI?
1. Union Government
2. State Government
3. NABARD (through that money goes to Microfinance companies and Regional Rural
4. Commercial Banks (SBI, ICICI etc)
5. Non Banking Financial Companies (NBFC) like Muthoot Finance and Mannapuram Gold
(^list is not exhaustive.)
please note:
1. Bank Rate, Repo Rate and Reverse Repo Rate applies to all Clients of RBI.
2. The CRR,SLR applies to Commercial Banks. (including Urban Cooperative banks but
excluding Regional Rural Banks)
What is the need of all these CRR,SLR,Repo
 RBI’s main job = control inflation by controlling money supply in the market.
 Too much money in the market =easy to get loans= not good. Because It’ll create
inflation. [Demand Pull]
 Too less money in the market= again not good, because businessmen find it hard to get
loans, thus input cost of production increases= not good for economy either and it’ll
create inflation. [Cost push]
 Therefore, RBI will increase/decrease these CRR, SLR and Repo Rates according to the
situation in order to adjust the money supply in market and thus control
inflation. [Monetary policy]
 Nowadays RBI doesn’t touch Bank rate much and mostly relies on Repo rate to control
the money supply.
 CRR and SLR are also not changed as frequently as Repo rate.
 And Reverse repo rate is automatically kept 1% less than Repo rate, so that makes Repo
rate the “most frequently used tool” in RBI’s monetary policy, in last two years.
 Apart from that, CRR,SLR and Repo Rate also help those competitive magazine wallas
to fill up pages with ridiculously unimportant data tables to make your life more

What is the problem with CRR?
 CRR serves two purposes
o Control money supply in the market
o Acts like the ‘library deposit’, so if your bank goes broke / doesn’t play by the
rules then RBI can use its CRR deposit to temporarily fix things.
 Earlier, RBI had to pay interest rates on CRR deposits.
 But in 2007, Government amended the RBI act so now RBI doesn’t have to pay any
interest on the CRR deposits.
 Obviously the SBI, ICICI etc wouldn’t like it because their money is sitting idle in the
lockers of RBI without earning any interest.
 They want CRR provision to be deleted.
How much CRR deposit does RBI have?
In July 2012 [all approximate numbers]
Total Deposits in all Scheduled Commerical
banks (SBI,ICICI etc)
65 lakh crores
CRR: 4.75%Banks have to keep this much
amount of total deposits in RBI.
65 lakh crores x 4.75%=around 3 Lakh crores
sitting idle in RBI lockers.
Interest earned by SBI/ICICI etc on CRR
deposits made in RBI
3 lakh crores x 0% = Rs.0
 If SBI/ICICI etc. could lend these 3 lakh crores (CRR deposits) to customers @10%, they
could easily earn Rs.30,000 crores in interest payment.
 Thus, CRR makes a huge difference in the profit of banks.
 UK, Canada, Sweden, Australia and New Zealand donot have CRR system in any form.
 In USA, there is graded system i.e. small banks don’t need to maintain any CRR with
their central bank. →hile “big” banks would need to maintain CRR Deposit according to
their size.
 Side Question: How “big“? Answer: no need to do Ph.D on that question trail.
 By the way, USA’s RBI (Central Bank) is known as Federal Reserve system and
commonly known as “Feds”. So sometimes while randomly surfing through BBC/CNN
you might come across lines like “Market boomed /crashed after Feds cut down the rates”
they’re talking about USA’s RBI changing their repo, SLR etc. rates
 Interestingly, USA’s RBI (Feds) pays interest on the CRR deposits, while India’s RBI
doesn’t pay any interest on CRR deposits.
What does SBI want?
Pratip Chaudhari = Chairman of SBI
Recently SBI Chairman Pratip Chaudhari said that
 CRR does not help anyone and it is unfair to apply it only on banks.
 Even if CRR is required why should it be on banks alone? There are a number of
institutions that raise funds from the public – insurance companies, mutual funds and
NBFCs so CRR should be applicable to all.
 Because of CRR, every year we lose Rs. 3,500 crore.
 In India, Businessmen get loan @11 per cent while that for a Chinese equipment
manufacturer gets loan in his country for only 4 per cent. So CRR= less money in
market= higher interest rate= increases the input cost of Indian products.
Deputy Governor of RBI
On SBI chief Pratip Chaudhari’s demand for removal of CRR, the Deputy Governor of RBI K
C Chakrabarty, replied that
if the SBI Chairman is not able to do business as per our regulatory environment, he has to find
some other place.
On this [rude] comment of Chakrabarthy, SBI chief Pratip Chaudhari replied,
(doesn’t matter what anyone says) I wanted to start a debate on CRR in the public domain, so let
that debate happen.

Timeline of Events
Early 90s
CRR used to be as high as 15% and SLR used to be as high as 38.5%, thus making
life of businessmen and aam juntaa difficult.
1992 RBI introduces system of Repo rate.
1996 RBI introduces the system of Reverse Repo Rate
1999 RBI starts paying interest rates to banks, on CRR deposits.
2007  Sub Prime Crisis in USA
 RBI stops paying interest rates to banks on CRR deposits.
 Eurozone Crisis. For more on that topic, Click ME
 High inflation, RBI starts increasing Repo rate to fix it.
 Throughout the year, RBI keeps increasing Repo Rate to combat inflation.
 Repo rates gets as high as 8.50%.
 SBI chief Pratip Chaudhari demands removal of CRR. [He has been doing it
since a long time, even in 2011 seminars]
 So, This CRR removal news topic would have faded away just like it did in
2011, had the RBI deputy governor not replied on SBI chief’s statement.
 But RBI Deputy governor did, so the media blows the news out of proportion
that “RBI snubs SBI chairman.”
 And thus the Innocent aspirants of UPSC, bank and MBA exams, are forced
to learn one more topic i.e. CRR controversy.
By the way, during this time,
1. Bank Rate=9%
2. Repo =8% (reverse repo would be obviously 8-1=7%)
3. CRR=4.75%
4. SLR=23%
Mock Questions

Q1. Which of the following statements are incorrect?
a. The NBFCs are required to maintain CRR deposits with RBI.
b. RBI pays interest rates on CRR deposits.
c. An Increase in CRR would decrease the liquidity from the market.
d. At present, Bank Rate > Repo Rate > Reverse Repo Rate.
Q2. Which of the following statements are correct?
a. Repo rate is the interest rate paid by RBI to banks on short term deposits.
b. A decrease in repo rate will increase the home loan interest rates.
c. HDFC is a Non-scheduled Commercial bank.
d. SLR is always 20% higher than CRR.
Q3. What were the steps taken by RBI in its monetary policy during 2011 to control inflation in
India. Do you think RBI achieved its objective? Give reasons to justify your stand. (Mains)
Q4. If you were the RBI Governor, what steps would to take regarding the CRR issue?
Foreign Contribution Regulation Act
(FCRA): Meaning, Features, Controversies
What is FCRA?
 Foreign Contribution Regulation Act (FCRA)
 It regulates the foreign contribution (money donation) and foreign hospitality (e.g. free
airplane tickets and hotel lodging during videsh-yaatra) given to various NGOs,
institutes, judges, journalists, public servants etc.
What is the need of FCRA Act?
 To check that foreigners are not affecting India’s electoral politics, public servants,
judges, journalists, NGOs etc. for wrong purposes.
 If someone violates the FCRA act, he can be sent to jail for up to 5 years.
Who can accept Foreign Contribution?
 Organizations working for definite cultural, social, economic, educational or religious
 But first, they’ve get permission from the Ministry of Home Affairs AND
 Second, they have to maintain separate account book listing the donation received from
foreigners and get it audited by a Chartered Accountant and submit it to Home Ministry
every year.
Who cannot accept Foreign Contribution?
1. Election candidate.
2. MP and MLAs.
3. Newspaper-walla: Correspondent, columnist, cartoonist, editor, owner, printer or
publishers of a registered Newspaper.
4. Public Servents: Judge, government servant or employee of any Corporation or any other
body controlled on owned by the Government.
Why is FCRN Act in news?
 Earlier Mohan said that “US based NGOs are financing the protests @KundanKullam
Nuke Power Plant.”
 So Home ministry got in action, bank accounts of some NGOs were frozen after it was
found that they were diverting money received from their donors abroad into funding
protests at the Koodankulam plant.
 Now, Home ministry has cancelled some more registrations including top 8 national
educational institutions such as -Jawaharlal Nehru University, IIT-Kanpur and Jamia
Milia Islamia saying that these institutes are not maintaining proper FCRA accounts.
 so, Unless their registrations are restored, these institutions cannot receive contributions
from abroad.
 The Home Ministry had earlier made a notification that if xyz organization’s accounts are
audited by CAG then it doesnot need to maintain FCRA accounts.
 Jamia Milia, JNU etc. = Central Universities = hence audited by CAG = They don’t need
to maintain FCRA accounts in the first place.
Mock Questions

Q1. Which of the following statements are correct?
1. Finance Ministry is responsible for implementing Foreign Contribution Regulation Act
2. Kundankullam Power plant is located in Andhra Pradesh.
3. A Lok Sabha election candidate can accept foreign donations for campaign after taking
necessary approval from Chief Election Commissioner.
Q2. Write a note on the Salient Features of Foreign Contribution Regulation Act (FCRA). 12
Petroleum, Chemical and Petrochemical
Investment Region (PCPIR): Meaning,
For UPSC GS (Mains) exam under [yearbook] or [economy] section.
 Petroleum, Chemicals and Petrochemical industry is very important for India’s economic
 Hence, to promote more investment in this sector and make the country an important hub
for both domestic and international markets, the government came up with the idea of
Petrochemical Investment Regions (PCPIRs).
What is PCPIR?
 Petroleum, Chemical and Petrochemical Investment Region (PCPIR) would be a
specifically delineated investment region with an area of around 250 square kilometers.
 for the establishing manufacturing facilities for petroleum, chemicals & petrochemicals,
alongwith the associated services and infrastructure.
 PCPIR would be a combination of production units, public utilities, logistics,
environmental protection mechanisms, residential areas and administrative services.
 PCPIR may include one or more Special Economic Zones, Industrial Parks, Free
Trade & Warehousing Zones, Export Oriented Units.
 All the benefits available under the relevant legislation or policy will continue to remain
available to the said SEZ or Parks, that form part of the PCPIR.
Role of Union Government
 It will ensure the availability of external physical infrastructure linkages to the PCPIR
 For example, Rail, Road (National Highways), Ports, Airports, and Telecom, in a
time bound manner.
 This infrastructure will be created/upgraded through Public Private Partnerships to the
extent possible.
 would play the lead role in setting up of the PCPIR
 would identify a suitable site, prepare the proposal and seek approval
 It will notify the PCPIR area under the relevant Act
 Acquire/ assist in acquiring the land necessary for setting up of the infrastructure,
processing and non-processing areas.
 Providing for rehabilitation to the affected families.
 As far as possible acquisition of agricultural land will be avoided.
 Apart from this, State Government will be responsible for
1. Power connectivity and availability of reliable and good quality power.
2. bulk requirements of water;
3. Road connectivity (State roads);
4. Sewerage and effluent treatment linkages, from edge of PCPIR, to the final
disposal sites;
5. Appropriate infrastructure to address the health, safety and environmental
Organizational setup
1. State Government will locate a site and send application to union Government.
2. High Powered Committee constituted by the Government of India will scrutinize
applications for setting up the PCPIR.
3. Department of Chemicals and Petrochemicals (DoC&PC) will be the nodal department of
the Government of India for the PCPIRs.
4. Once passed, the State Government will make necessary law to notify xyz site as PCPIR
5. Then a Management Board will be constituted by the concerned state government for
each PCPIR, under the relevant legislation
6. This Management board will be responsible for the development and management of the
given PCPIR.
Example of PCPIR regions
Gujarat PCPIR in Bharuch District of South Gujarat. Similar projects in Tamilnadu and Andhra
BEE Labeling in India:
What is BEE?
 Bureau of Energy Efficiency (BEE)
 statutory body under Ministry of Power
 It was set up under the provisions of the Energy Conservation Act, 2001.
Why was it setup?
 To reduce energy intensity of the Indian economy.
 Research shows that to provide the final consumer 1 watt of energy, the power station has
to produce 4 watts of electricity (4-1=3 watts are lost in transmission and distribution).
 Hence, if the final consumers (you and I) used energy efficient products then power
stations would have to produce less energy = less pollution, less input costs etc.
Functions taken by BEE?
 Create Energy Conservation Building Codes
 minimum energy performance standards and labelling design for equipment and
 Certify Energy Managers and Energy Auditors
 Create awareness and disseminate information on energy efficiency and conservation.
For example BEE has launched a mobile application ‘AC Power Saver’ that will help
consumers calculate their expected annual bills and the potential saving with a five-star
AC as against those with the lower stars.
 Strengthen consultancy services in the field of energy conservation
 Promote research and development in energy conservation.
What is BEE Labelling?
 BEE labeling is mandatory for air-conditioners, frost-free refrigerators, distribution
transformers and tubular fluorescent lights etc. (more products are added in the list every
now and then)
 BEE labeling has 1 to 5 stars.
 If Product A has 5 stars and B has 3 stars that means, product A consumes less energy
than product B yet delivers same (or better) output. Hence Product A is more energy
 (and consumers are more likely to buy Product A, thus indirectly helping in energy
BEE labeling for cars
 It’ll be mandatory for all passenger car makers to display special ‘star labelling’
indicating fuel efficiency for their product cars, from April 1, 2013,
 This star-rating (based on a five-star scale, with five being the most efficient and one the
least) will help compare the fuel efficiency of different car models within the same
weight class.
 BEE defines cars in five-star category are those which roughly consume up to 7 litres of
fuel for 100 kms
Arbitration Act: Foreign Investment disputes
What is Arbitration?
 For smooth functioning of business and industry, Quick decision of any commercial
dispute is necessary.
 Internationally, it is accepted that normally commercial disputes should be solved
through arbitration and not through normal judicial system
 An arbitrator is basically a private judge appointed with consent of both the parties.
 Object of arbitration is settlement of dispute in an quick, convenient, inexpensive and
private manner so that they do not become the subject of future litigation between the
Arbitration Act
 Indian Parliament made Arbitration Act in 1996.
 It deals with Arbitration process.
 Suppose American company and Indian company made some business deal and then had
some dispute. Both of them went for Arbitration in America and the American arbitrator
gave an order “Indian company is guilty and it should transfer its Ahmedabad’s factory
to that American company”.
 This order is called “Foreign Award”.
 Now to implement or enforce this award, The American company has to send a copy of
this judgement to the concerned Indian court in Ahmedabad and that Indian court will
pass an order that “Indian Company shall transfer the ownership of Ahmedabad’s factory
to that America Company before xyz date”.
 One advantage of foreign award, according to foreign parties, is that Indian courts come
into picture only at the time of implementation of award.
 And the Indian courts can refuse to implement the award only on limited grounds.
Why in News?
 10-years ago, Supreme Court had given a ruling that Indian companies can approach
Indian courts against unfavorable awards by foreign arbitration panels.
 But in Sept.2012, Supreme Court said in a judgement that if an Indian investor chooses
to go for arbitration with a foreign company abroad, Indian courts would have no
jurisdiction to interfere with the arbitration award unless provided under law.
Implication of SC Judgment
 Foreign companies have so far found it extremely difficult to get foreign arbitration
awards against their Indian partners enforced through Indian courts because courts would
stay the award saying they have the jurisdiction to do so.
 But now Supreme court has said that Indian courts have no business to interfere with
such foreign judgments, hence It’ll create a more investor-friendly atmosphere for
foreign companies intending to set up shop in India.
Insurance Types, IRDA, Reforms, FDI in
Insurance for AFPC, LIC AAO etc exams
Who can make laws on Insurance?
 Insurance is a subject listed in the Union list in the Seventh Schedule to the Constitution
of India.
 That means only Union Government can make laws on insurance (a state Government
cannot make law on this subject)
 Insurance Regulatory and Development Authority (IRDA)
 Created on the recommendations of the Malhotra Committee report
 Started in 2000, it is a statutory body (i.e. made through an Act of parliament).
What are the functions of IRDA?
 To run insurance businesss, a company has to register itself with IRDA.
 IRDA regulates the insurance industry and protects the customers.
 IRDA has the power to frame regulations regarding Insurance market (just like SEBI for
Capital market)
 promotion of competition so as to enhance customer satisfaction through increased
consumer choice and lower premiums. (for example IRDA allowed Health Insurance
Organizational setup of IRDA
 IRDA has a ten member team consisting of
o 1 Chairman
o 5 whole-time members
o 4 part-time members
All of them, appointed by the Government of India.
Insurance Ombudsman
 was created by a Government of India in 1998
Functions of Insurance Ombudsman
 Receive and consider complaints in respect of insurance from any person who has any
problem against an insurer.
 pass an award within 3 months after receiving complaint.
 Insurance companies are required to honour the awards passed by an Insurance
Ombudsman within three months.
 If the policy holder [customer] is not satisfied with the award of the Ombudsman he can
approach other venues like Consumer Forums and Courts of law for redressal of his
Selection of Ombudsman
 Ombudsman are drawn from Insurance Industry, Civil Services and Judicial Services.
 A committee comprising of Chairman, IRDA, Chairman, LIC, Chairman, GIC and a
representative of the Central Government select the Insurance Ombudsman.
 There are twelve Ombudsman across the country allotting them different geographical
areas as their areas of jurisdiction.
 An insurance Ombudsman is appointed for a term of three years or till the incumbent
attains the age of sixty five years, whichever is earlier.
 Re-appointment is not permitted.
What is premium?
 To enjoy SAB TV, Zee TV, Star Movies, AXN, HBO etc. you’ve to make regular
payment to Dish T↑/Tata Sky etc., we call it “subscription”.
 Similarly to get insurance protection, you’ve to make regular payment to the insurance
company, we call it “premium”.
Insurance Policies: Types
Two main types: General and Life
General Insurance
 General Insurance = Every Insurance plan EXCEPT life insurance plan
Name Sub categories
Personal Insurance
medical insurance, accident, property and vehicle insurance
Rural Insurance policies
protection against natural and climatic disasters for agriculture and rural
Industrial Insurance
coverage for project, construction, contracts, fire, equipment loss, theft,
Commercial Insurance
protection against loss and damage of property during transportation,
transactions, marine insurance etc.
Life Insurance Types
list is not exhastive.
Whole life plan
 You pay the premium till you retire or till the term of the policy.
 Your family will get money ONLY after you die.
 You MUST DIE to get back the money.
 Insurance company collect premium form the insured for the
certain period of time like 15, 20, 25, 30 years.
 If you die within that term, the company will pay huge money to
your family.
 If you don’t die within that term, company will return the
premium you paid + some interest or bonus on it.
 So, you DONOT NEED TO DIE to get back the money.
Term Plan
 You keep paying premium for given period (5,10,20 etc. years)
 If you die within that period, your family gets huge money.
 But if you don’t die within that period, you will not get a single
penny from the company.
 So, you MUST DIE to get back the money.
 Good part- Term Plans have cheaper premium than other plans.
ULIP(Unit Linked
Insurance Policy)
 You pay regular premium to the company.
 Company invests it in Debt and Equity markets. [click Me to
know more about Debt and Equity Markets]
 The profit generated by this investment, will be given to you no
matter you die or not.
 Thus you get the benefit of risk cover as well as the investment
 You DONOT NEED TO DIE to get back the money.
 They pay higher return than Endowment.
Nationalization of Insurance business
 In 1972, Government of India passed of the General Insurance Business
(Nationalisation) Act,
 With this Act, Government took control of all the private insurance companies of India
and created 4 companies
National Insurance Company Ltd General Insurance.HQ: Kolkata
New India Assurance Company Ltd General InsuranceHQ: Mumbai
Oriental Insurance Company Ltd General InsuranceHQ: New Delhi
United India Insurance Company Ltd. General InsuranceHQ: Chennai
Foreign Direct Investment in Insurance
 up to 26% is allowed.Update: 49% allowed after Mamta Left the UPA alliance.
 For example “Bajaj Allianz Life Insurance Company Limited” is a joint venture between
o The Indian Company Bajaj (that scooter maker, has 74% stakes in this company.)
o The Foreign Company Allianz AG (German Company, has 26% stakes in this
 Similar arrangement was present in “Max New York Life Insurance Company” But the
New York Life sold its stakes and left the game hence the new name of the company is
Max Life Insurance Company. [You might have seen the ads on TV about its name
Reform in Insurance sector
Already Done by IRDA
 If an Insurance company has been in business for 10 years, it can launch IPO.
 Mobility / Portability in Health Insurance= if you’re unhappy with your Health (Medical)
insurance company, you can change it.
Pending Reform
Mohan: I want to increase the FDI limit from 26% to 49%. Then more foreign companies would
come up = more products = lower premiums.
Mamatha: But I’m opposed to FDI in Retail, Insurance and Aviation.
Mohan: Ok I drop the idea sir-ji.
 Life Insurance Corporation of India
 100% owned by Government.
 Started in 1956
 HQ: Mumbai
 Motto: “Yogakshemam ↑ahamyaham” (taken from Gita, meaning “I carry what you
 Provides Life Insurance, Health Insurance
GIC- Reinsurer
 Suppose LIC sells 1000 life insurance policies, each with a 1 crore policy limit (e.g. I, the
customer pay Rs.10,000 premium every year and If I die my family should get 1 crore-
that type of Policy).
 Theoretically, the LIC could lose 1000 crores in a day, if every customer dies on the same
 So to prevent itself from such a loss, LIC itself should take some insurance from a third
insurance company (GIC).
 for example “I, the LIC Manager shall continue to pay the GIC 1 lakh every month, and
in return GIC insures that if my company LIC has to pay more than 100 crores in policy
claims within 1 week, then GIC will cover the cost.
 So, This third party, General Insurance Corporation of India (GIC) = Reinsurer.
 GIC is the ONLY Reinsurer in India.
Mock Questions for APFC, LIC AAO
Which of the following statements are correct?
1. IRDA is a statutory body.
2. IRDA is made up of 1 chairman and 3 members.
3. IRDA members are selected by RBI governor.
4. Oriental Insurance LTD is the only Reinsurer in India.
5. Government owns only 51% in LIC.
6. LIC’s motto is “Nabha Sparsha Diptam“
7. Health insurance is a type of Life insurance.
8. In ULIP policy, customer’s money in invested in Government securities only.
9. The premium of a Term plan is cheaper than Endowment plan.
10. Every Insurance Company has to appoint an Insurance Ombudsman in its head office.
11. Currently, a foreign company can invest upto 49% in an Indian Insurance company.
12. IRDA has allowed portability in life insurance products from 2011.
Labour Laws and Industrial Relations in
India for APFC / EPFO exam
This article keeping the upcoming APFC exam in mind:
Labour Laws and Industrial relations
 Industrial relation = interactions between employers (businessmen/bosses), employees
(workers) and the government (which makes the laws for them).
 Labour laws=made by Government, they deal with a worker’s well being in the office:
for example working hours, hiring and firing, maternity leave, pension, union formation
Constitution of India: workers’ provisions
Article Provision/how is it related?
15 discrimination on religion, race,caste, sex and place of birth.
16 Equal opportunity in Government jobs.
The right to form union.But it does not carry with it the right to achieve every object.
Thus the trade unions have no fundamental to right strike. (it is only a legal right under
the industrial dispute Act)
right to ‘live’ is not merely confined to physical existence but it includes within its ambit
the right to live with human dignity.
23 prohibits ‘bonded / forced labour’
24 Child labour
33 Those working in armed forces etc cannot enjoy all the fundamental rights.
39 Free legal aid, health of workers
41 Social security during unemployment.
42 humane conditions of work + Maternity Relief.
Laws for Female workers
Maternity Benefit Act
women in the labour force who have been employed for 160 days in a year to provide leave with
pay and medical benefit.
Vishaka Case
SC gave the guidelines regarding protection of women @work places against sexual harassment.
 sexual harassment of working women amounts to violation of rights of gender equality
 judgment also laid down the definition of sexual harassment, the preventive steps, the
complaint mechanism, and the need for creating awareness of the rights of women
Factories Act
Employer must provide crèches in factories where more than 25 women are employed
Equal Remuneration Act
for the payment of equal remuneration to men and women workers for same or similar nature of
Labor Laws in India
Here is the list of all Labor laws in India, Click On this image.

Trade Union Act
 gives immunity to the trade unions against certain forms of civil and criminal action.
 Provides for registration, internal democracy, a role for outsiders.
 permission for raising a political fund subject to separate accounting requirements.
 right to register a trade union however does not mean that the employer must recognise
the union – there is in fact no law which provides for recognition of trade unions and
consequently no legal compulsion for employers, even in the organised sector, to enter
into collective bargaining.
Minimum Wages Act
 This law governs the methods to fix minimum wages in scheduled industries (which may
vary from state to state).
Strikes and lockouts
 Workers have the right to strike, even without giving notice to their boss, unless it
involves a public utility service.
 Employers (bosses) have the right to lockout, subject to the same conditions as a strike.
 To solve the strike/lockout, both parties can engage with negotiation/talks.
 If that fails, they can go to government appointed conciliation officer whose intervention
may produce a settlement, which is then registered in the labour department and becomes
binding on all parties.
 If that fails then parties can go for arbitration (private judge) or labour court.
Industrial Disputes Act (IDA)
 A company with more than 100 workers must get Government’s permission before mass
layoffs or closing down business.
 Employer cannot change the existing service conditions / salary of a worker unilaterally
without giving a notice of 21 days to the workers and the union.
 A permanent worker can be removed from service only for proven misconduct or for
habitual absence – due to ill health, alcoholism and the like, or on attaining retirement
 In other words the doctrine of ‘hire and fire’ is not approved within the existing legal
 An employee can challenge the dismissal order in the labour court.
 Industrial Disputes Act provides for setting up of Labour courts and Industrial tribunals.
Labour Courts
Labour Courts deal with matters pertaining to
1. discharge and dismissal of workmen
2. legality of strikes of lock outs etc.
Industrial Tribunals
Industrial Tribunals deal with collective disputes such as
1. wages,
2. hours of work,
3. leave, retrenchment,
4. closure of a company
5. + all matters which come under the jurisdiction of Labour Courts.
A settlement arrived at in the course of labour court/ industrial tribunals is binding on all parties
to an industrial dispute.
Workman’s Compensation Act
 covers all cases of accident arising out of and in the course of employment’ and the rate
of compensation
 The injured person, or in case of death the dependent, can claim the compensation.
 This law applies to the unorganised sectors and to those in the organised sectors who are
not covered by the Employees State Insurance Scheme
Employees State Insurance Act
 provides a scheme under which the employer and the employee must contribute a certain
percentage of the monthly wage to the Insurance Corporation and it’ll run hospitals for
Retirement Benefits
There are two main types of retirement benefit generally available to workers.
Payment of Gratuity Act Provident Fund Act
 a worker who has put in not less
than five years of work is entitled to
a lump sum payment equal to 15
days’ wages for every completed
year of service.
 Every month the employer is
expected to contribute the required
money into a separate fund to
enable this payment on retirement
or termination of employment.
 scheme both the employee and the employer
make an equal contribution into a national
fund. The current rate of contribution is 12
percent of the wage including a small
percentage towards family pension.
 This contribution also attracts an interest,
currently 9.5 percent per annum, and the
accumulated amount is paid on retirement to
the employee along with the interest that has
 The employee is allowed to draw many types
of loan from the fund such as for house
construction, marriage of children, and
education etc. As a result very little is
available at the time of retirement.
Emigration Act
 regulates the emigration of Indian workers for jobs abroad.
 no agency can undertake the recruitment of Indian workers with foreign employers
without possessing a registration certificate issued by the Protector General of Emigrants.
 those who have not been able to organise themselves in pursuit of common objectives on
account of constraints like casual nature of employment, ignorance and illiteracy.
 They donot enjoy sick leaves, maternity benefit, provident fund etc. facilities enjoyed by
organized labourers.
 But Government is making various schemes to help them out for example Aam Admi
Bima Yojana, New Pension Scheme (N.P.S) etc.
 91% of the working population is in the unorganised sector
Example of unorganized labourers:
1. small and marginal farmers
2. landless agricultural labourers
3. fishermen
4. building construction workers
5. leather workers
6. handloom workers
7. weavers
8. rural craftsmen
9. salt workers
10. workers in brick kilns and stone quarries
11. midwives
12. domestic workers
13. barbers
14. newspaper,vegetable and fruit vendors
International Labour Organisation (ILO)
 Established in 1919
 HQ- Geneva, Switzerland
 India is the founding member of ILO
 International Labour Organization has a tripartite governing structure, (usually with a
ratio of 2:1:1) —
1. representing governments,
2. employers
3. workers
Ministry of Labour
Important OFFICES/institutes with Labour
1. Chief Labour Commissioner
2. Directorate General, Mines Safety
3. Welfare Commissioners
4. Board of Arbitration
5. Employees’ State Insurance Corporation (ESIC)
6. Employees’ Provident Fund Organisation (EPFO)
7. V.V. Giri National Labour Institute, NOIDA [He was the 4
President of India and wrote
books on labour related matters.]
[^This list not exhaustive, I’m only listing the important ones for MCQ]
Work done by offices with labour ministry
[again list not exhaustive, just providing the facts important for MCQ]
Chief Labour Commissioner
 Prevention, investigation and settlement of industrial disputes in the Central sphere.
 Enforcement of awards and settlements.
 Implementation of labour laws in industries
 Verification of membership of Unions affiliated to the Central Organisations of Workers
 Fixation and revision of minimum wages by notifications under the Minimum Wages
Act, 1948
Labour Bureau
 Compilation and publication of the Consumer Price Index Numbers for industrial and
agricultural workers
Welfare Commissioners
 Providing welfare facilities to the workers employed in the mica, limestone, dolomite,
iron ore, manganese and chrome ore mines and in the beedi and cinema industries.
Employees’ State Insurance Corporation
 Implementation of Employees’ State Insurance Act, 1948, which provides for medical
care and treatment to insured persons and their families.
 Providing assistance in terms of benefits during sickness and maternity, compensation for
employment injury, pensions for dependants on the death of workers due to employment
injury, etc. to employees covered under the ESIC Act.
Employees’ Provident Fund Organisation
 Administration of Employees’ Provident Funds
 Administration of Employees’ Pension Scheme
Board of Arbitration
Compulsory arbitration of disputes between the Government employees and the Government
on pay and allowances, weekly hours of work and leave.
Which of the following statements are correct?
1. Supreme court laid down the guidelines against Ragging in Vishaka Case.
2. Humane conditions of work and Maternity Relief are fundamental rights enshrined in
Indian Constitution.
3. Workers have the legal right to strike, even without giving notice to their boss in any
4. Consumer Price Index Numbers for industrial and agricultural workers are published by
5. Only Sovereign nations can become members of Governing council of ILO.
6. In Gratuity fund, both Employer and Employee have to contribute.
7. In Provident Fund Act, only Employer (boss) has to contribute.
8. In Employees State Insurance, only Employer has to contribute.
9. The office of Directorate General of Mines Safety falls under the Administrative
jurisdiction of Coal Ministry.
10. EPFO and ESIC are autonomous institutions under Finance Ministry.
Fiscal Consolidation, Fiscal Deficit :
Meaning, Implications, Explained Why Vijay
Kelkar Committee was formed?
Continuing episodes of technical incorrect economy.
Set Location: Prime Minister’s Office (PMO), New Delhi.
Mohan is busy uploading (un)funny photos in his facebook album and tagging random friends in
them to get more “likes”. Vijay Kelkar makes an entry in his office.
Sir, the expert reports suggest that fiscal deficit will be around 6 percent for 2012-13.
This is very dangerous; you need do fiscal consolidation immediately!
Mohan Ya but what is fiscal deficit and why is it dangerous?
Kelkar →hat? you’re an economist and yet you don’t know what is fiscal deficit?
Mohan Well I was an economist. But I didn’t maintain notes and I did not revise the standard
reference books either, so I’m unable to recall the concepts right now, just like a no0b
player of UPSC.
Well fiscal deficit (FD) = Budgetary Deficit + Market borrowing + other liabilities of
Mohan Please Explain in English, from the very beginning.
Ok then let us start from the
beginning.Every year, the Government puts out a plan for its income
and expenditure for the coming year. This is, called annual Union Budget and you
need to get it approved by the parliament.
Mohan Side question: why do I need to get it approved by the parliament?
Kelkar For the answer Click ME
Mohan Ok back to the topic

Parts of Budget: Revenue and Expenditure
Kelkar: In every budget, there is incoming money (Revenue) and out going money
Incoming money Outgoing Money
Incoming money is divided into two parts. Tax and Non Tax
And outgoing money is divided into Plan and Non plan Expenditure.
Incoming Outgoing
Tax Non Tax Plan Non Plan

Kelkar: We can further refine this classification into Revenue/capital receipts and Expenditure.
But let us not complicate the matter for the time being.
Mohan: Now What is this incoming money from tax and non tax sources?
Kelkar: see the table yourself for the examples.
Incoming money Outgoing
Tax Revenue
Non Tax Revenue Plan
Direct Tax Indirect Tax
1. income tax
2. Corporate tax;
3. Wealth tax
4. Capital gain tax
1. custom
2. excise duty,
3. service tax.
1. Fees Collected (Driving
license, RTI, Passport)
2. Fines and Penalties
(Traffic violation etc)
3. Income from PSU (e.g.

(Vodafone case) 4. VAT profit from Airindia
4. Gifts. (discussed in 2

ARC article)
5. Grants (Foreign Aid
from UN, Japan etc)
Mohan: and what is this outgoing money? Plan and non-plan?
Kelkar: Outgoing money = the area where Government spends the money (Expenditure).
Plan-Expenditure means spending money on the activities related to the national five year plan.
Non-plan Expenditure, obviously means spending money on activities that are not related with
national five year plan. Check the table for examples.
Incoming Outgoing
Tax Revenue
Non Tax
Plan Expenditure Non Plan
Direct Tax Indirect Tax
1. income
2. Corporate
3. Wealth
4. Capital
gain tax
e case)
1. custom
2. excise
3. service
4. VAT
1. Fees
2. Fines
n etc)
3. Income
4. Gifts.
ed in 2

5. Grants
n Aid
2. Janani
4. Indira
1. Salary of
and armymen
2. Buying new
tanks and
3. Subsidies:
Kerosene etc.
4. Light bills of
5. Luxury Trave
l bills of
Mohan: ok so now what?
Kelkar: Now we classify the budget according to the balance between incoming and outgoing
Types of Budget=Deficit,Surplus,Balanced
When It is called a
outgoing money > incoming money deficit budget.
outgoing money < incoming money surplus budget.
outgoing money = incoming money balanced budget.
In reality, Government always has deficit budget. Because
as long as there is Pakistan and China in the neighborhood, we’ll have to maintain a huge army,
keep buying new tanks and missiles.
As long as there are poor people, we’ll have to keep running various Government schemes.
Mohan: come to the point.
Kelkar: The point is,
When Government spends beyond its aukaat, it creates a big pothole in the highway.
This pothole can be called a Revenue deficit, budget deficit, fiscal deficit or primary deficit –
according to the formula you use to measure the depth of this pothole.
This pothole cannot be filled with cement, asphalt or dirt. It can only be filled with cash.

In the 1980s, Sukhmoy Chrokroborthy Committee came up with the fiscal deficit formula
Fiscal deficit=
1. Budgetary deficit (=total Expenditure minus total income)
2. + market borrowings (=through Government securities (G-Sec)/Bond)
3. + other liabilities (e.g. pension and provident to be given in future)
Mohan: but why should we calculate this fiscal deficit?
Kelkar: This fiscal deficit number tells you the depth of the hole and gives you the idea how
much money do you need to borrow from the sources
within India (internal borrowing – from RBI, Other banks etc)
and from abroad (external borrowing- World Bank, IMF etc.)
Bigger the pothole, more cash you need to fill it up.
Here is some food for thought. Incoming Outgoing Breakup for USA budget 2011. Click on
Image to Enlarge.

Mohan then simply borrow money and fill up the pothole! What is the problem?
problem is “Paisaa Ped pe toh nahi lagtaa” (Money doesn’t grow on trees). →hen you
borrow money, you’ve to pay interest () to the party, every year.To pay this
interest in the future, you’ve three options.first option =Increase the current taxes or
create new taxes.
Mohan Not a good idea sir-ji.
alright, Second option =Create policies to help stimulate economic growth so that tax
collection automatically increases with it, like FDI in aviation, power sector, retail,
insurance and so on.
Mohan But that’s Easier said than done :(
Then Third option : Print more currency and use it to fill up the pothole. This is
called debt monetization.
Mohan Now this third option sounds great :D
Actually that’s the stupidest of all three solutions. Let me explain with the usual
Why Printing more money= Not good idea?
Suppose, Government orders RBI to print lots of cash to solve poverty.
Then Government launches “Rajiv Gandhi Suitcase yojana (RGSY)” under which every BPL
family is given a suitcase containing Rs.10 lakh.
What will happen then?
They’ll all go and buy lots of onion,milk,mobile, cars, houses everything.
=Demand of product will increase, but the supply will remain almost the same as earlier.
So, there will be one customer offering Rs.400 per kilo of onion, then another guy would offer
Rs.500 per kilo of onion=inflation =not good.
On the other hand, Suppose your boss pays you 10 lakh per year, but that means he definitely
extracts work worth more than 10 lakhs from you and sells some goods/services to a third client.
That’s why giving you 10 lakhs doesn’t increase inflation. (because some other client is buying
the services you had produced).
but giving 10 lakh to a poor without making him economically productive = increases inflation.
Hence printing money to solve problems= not good idea.
 Here is another example: Suppose that there is only one commodity that everyone
needs to buy in order to live a good life say wheat.
 Also, assume that our country produces 10,000 quintals of wheat every year.
 There are a total of 25,000 people in the country who spend Rs. 400 each per year to
buy wheat.
 Since this Rs. 1 crore is spent to purchase ten thousand quintals of wheat, the cost of
wheat is Rs. 1,000 per quintal.
 Now suppose that to repay some of its debt, the Government decides to print some new
currency notes. Say the Government prints new notes worth Rs. 10 lacs.
 This means the amount of money available to spend increases from Rs. 1 crore to Rs.
1.1 crores.
 Since the amount of wheat produced hasn’t increased, each tonne of wheat now costs
Rs. 1,100, a 10% increase! (1.1 crores paid for ten thousand quintals = Rs. 1,100
per quintal).
 So we have just seen that the effect of debt monetization is “inflation.”
 Inflation acts like an invisible tax on all the people of a country. (recall the first option –
increasing tax was not a good option.)
Mohan : Does that mean fiscal deficit =bad?
Kelkar: not always bad. It depends on the situation.
When fiscal deficit = NOT BAD?
 If the money that the Government had borrowed was used to increase the amount of
wheat production, then the inflation could have been avoided. (for example borrowing
money to create new canal or irrigation project)
 If Such irrigation project led to an increase in wheat production from 10,000 quintals to
11,000 quintals.
 In that case, even with an increase of money to 1.1 crores, the cost of wheat would
remain steady at Rs. 1,000 per quintal.
 Thus we’d have economic growth and also avoid inflation
 Clearly then, it was a good thing that the Government borrowed money to implement
this program.
Thus, fiscal deficit is not necessarily a bad thing, always.
When and why is fiscal deficit= BAD?
Creates inflation
 A large and persistent fiscal deficit =something is wrong in the economy.
 It can mean that the Government is spending money on unproductive programmes which
do not increase economic productivity. (For example MNREGA, most of the money is
eaten midway by the Sarpanch and Local officers.) =Bad
 Now these rich Sarpanch and Local officers buy more gold, land and cars= demand
increased but other normal people don’t have that much money = inflation. (demand pull
Black Money
 Fiscal deficit= crudely speaking when incoming money is less and outgoing money is
more. So, incoming money is less = tax collection machinery is not effective = perhaps
lot of people are evading the taxes = black money =inflation (demand pull type) = Very
 In extreme conditions, inflation can give way to hyperinflation that can completely
destroy a country. =very bad.
Bond Yield increased
From Eurozone Greece Exit article, You already know what is bond yield. If not click me
When Government keeps borrowing and borrowing to fill up the fiscal deficit pothole, then bond
yield will increase = not good because more and more of taxpayers’ money (i.e. Government ‘s
incoming money) will go in repaying that bond interest rate rather than going into education or
Crowding out investment
We already saw that, Fiscal deficit pothole can only be filled with cash. This cash has to be
borrowed from RBI, other banks, FII etc. who buy the Government bonds.
So, that much money (Credit/loan) is not available for other needy businessman.
thus fiscal deficit “Crowds out”investment from private sector. Now that needy businessman will
have to borrow money at higher interest from another party (this is how fiscal deficit increases
‘interest rates’)= input cost of product increased = he will increase the MRP of his product or
service to maintain the same profit margin = inflation. (cost-push type)

Twin deficit hypothesis
 This hypothesis says that as the fiscal deficit of the country goes up its trade deficit (i.e.
the difference between exports and imports) also goes up.
 Hence, when a government of a country spends more than what it earns, the country also
ends up importing more than exporting.
 In India, the trade deficit story is basically about oil and gold – two commodities that the
country does not produce much but imports a hell of a lot.
Current Account Deficit (CAD)
 When India imports more than it exports = leads to Current Account Deficit. (we already
discussed it earlier, click ME)
 CAD is another pothole but it can be filled only with foreign currency (mostly dollars!)
 This increases the demand of dollars in Forex Market = rupee weakens against dollar=
price of petrol will increase= again inflation= bad.
Subsidy Burden = fiscal deficit increased
 the government of India does not pass on a major part of the increase in the price of oil to
the end consumer and thus ‘subsidises’ diesel, LPG and kerosene .
 So oil companies sell at a loss, and the government compensates these companies for the
loss (by giving them bonds).
 This increases government expenditure, which, in turn, increases the fiscal deficit.
Interest Payment
In this financial year alone (2012-13), the government will pay more than 4 lakh crore just as
interest payment on debt taken earlier! = more imbalance between incoming and outgoing
The vicious circle: Trade to Fiscal deficit
Thus, in India’s case, a greater trade deficit also leads to a greater fiscal deficit. So the causality
in India’s case is both ways.
 A high fiscal deficit leads to higher trade deficit.
 And high trade deficit leads to higher fiscal deficit.
 And this, in turn, also leads to a weaker rupee, which, in turn, pushes up the cost of oil in
rupee terms — leading to a higher fiscal deficit.
Now in the opening lines, Kelkar said Fiscal deficit would be around 6%. What does that mean?
There are two ways to express Fiscal Deficit.
1. Absolute Value: Rs. 521,980 crores on March 31, 2012 .
2. Percentage: 5.9% of GDP.
In newspapers and economic discussions, the Fiscal is usually expressed in second form
 You might think 5 or 6% is such a trivial amount, why Kelkar is so worried?
 →ell, to understand the gravity of the situation, you’ve to compare the percentage with
other percentages.
1. Around 3.8% of India’s GDP goes in Education. (2012)
2. Around 6% of India’s GDP goes in Fiscal Deficit. (2012)
3. Greece’s Fiscal deficit was more than 10% of its GDP and look how much trouble it is
facing. (recall Eurozone Article)
 Therefore, we must not only pay attention to the fiscal deficit, we must also try and
understand the different areas of Government spending.
 Is the Government borrowing money to spend on programmes that lead to increased
economic productivity or is it spending on unproductive programs?
 Remember, even directly giving money (or amenities) to BPL, without making them
more economically productive = dangerous because of the various reasons seen above.
Fiscal Consolidation: What is it?
ok so far I understood
1. What is fiscal deficit.
2. Why and when fiscal deficit is bad.
But what is this fiscal consolidation?
Fiscal consolidation means doing everything to fix the fiscal deficit problem in its root
and preventing heavy fiscal deficits situation from occurring in future.
Mohan But How can we do that?
Kelkar Just try to reduce the outgoing money and increase the incoming money. (Look at that
plan-non plan table again.)That means
1. Cut down subsidies.
2. Stop leakages in subsidies.
3. Reform the tax structure (implement GST).
4. Improve the performance of PSUs.
5. Recover blackmoney
6. stop ministers from using Business class airtickets and other wasteful
Government expenditures. (= take austerity measures)
+ Policy reforms such as FDI (to create environment conductive for economy = that will
automatically increase productivity and tax collection. Recall the second option.)

hmm that itself sounds like a problem. I think I should make another Committee (so that
I don’t have to implement its recommendations). Let me check my phonebook for
retired judges.
Sir this is the matter of economy not railway accidents. It requires an expert on
Mohan Then make a Committee headed by Montek Singh
but Media won’t like his recommendations. (Everyone who earns more than Rs.20 is not
a BPL and he should pay 10% income tax.)
Mohan Then make a Committee headed by some columnist from The H*****!
But Madam-ji wouldn’t like his recommendations. (hand over Finance Ministry to Fidel
Mohan Then whom should I appoint?
Kelkar The expert is sitting in front of you.
Alright, tomorrow morning you goto the finance Minister along with your class
10,12,college marksheets, extra-curricular activity certificates and job experience
certificates (if any) and get the appointment letter from him.
 I served as the finance Secretary of India (despite not being an IAS).
 I served as an executive director in IMF.
 Hell I even served as the chairman of 13
Finance Commission of India!
and now you’re asking the Vijay Kelkar to submit his class 10-12 marksheets and extra
curricular activity certificates?
Mohan Chillx. I was joking. You may go now. If I need any more help, I’ll give you a miss call.
Kelkar PM and miss-call? Another joke?
No, I’m serious! Miss call= Government expenditure on phone bills reduced= fiscal
Kelkar Whaat an idea sir-ji.
Then ↑ijay Kelkar set out for a journey to prepare a ‘roadmap’ for fiscal consolidation.
In September 2012, He submitted his report to the Government.
→e’ll see the recommendations of Kelkar Committee in future article. (To Be continued.)
Mock Questions
Which of the following statements are correct?
1. Salaries paid to Constitutional bodies is an example of Planned Expenditure
2. Fiscal deficit is always higher than budgetary deficit.
3. Fiscal deficit cannot be financed through external borrowing.
4. Kelkar Committee was created to suggest the roadmap for implementation of Direct Tax
5. High and persistent Fiscal Deficit is a sign of healthy and growing economy.
6. To achieve Fiscal consolidation, Government should increase the non-plan expenditure.
7. Fiscal consolidation means the steps taken by Government to increase its shareholding in
8. Vijay Kelkar is the chairman of 14th Finance Commission.
Descriptive 15 marks (150 words)
1. →hat is fiscal deficit. →hat’re the salient features of FRBM Act?
2. Major recommendations of Kelkar Committee on Fiscal consolidation.
Recommendations of Vijay Kelkar
Committee on Fiscal Consolidation Roadmap
1. Fiscal deficit =When outgoing money is more than incoming money, a pothole is created.
This pothole is known as Fiscal deficit and it is not good for the economy.
2. Fiscal consolidation = steps to be taken for preventing (or reducing) fiscal deficit pothole.
Now the moving on:
Observations of Kelkar
1. High fiscal deficits tend to
1. heighten inflation.
2. reduce room for monetary policy stimulus (=steps taken by RBI to direct
3. dampen private investment, growth and employment.
4. millions of young, both skilled and unskilled, enter the labour force each year,
hence inflation and unemployment can be politically destabilizing for the
 If Government takes no step, then with a “do-nothing” approach, the fiscal deficit will be
more than 6 per cent of GDP in the current year 2012-13, and such situation could lead
the country to a 1991-like crisis.
 Therefore, Fiscal consolidation is necessary.
So obviously, for “fiscal consolidation”, we’ll need to increase the incoming money and reduce
the outgoing money. Now, let us check some of the important recommendations of this Kelkar

How to increase incoming money?
Increase Tax Collection
 In 2007-08, the tax to GDP ratio was almost 12%
 (but) in 2012-13 this ratio is estimated around 10%.
 It means tax collection has fallen down.
 Recall that fiscal deficit = Government’s incoming money is less than its outgoing
 Thefore Government should take some measures to increase tax collection.
There are two types of taxes: Direct and Indirect. Kelkar has given recommendations to increase
the collection of both Direct and indirect taxes, in following manner.
How to increase collection of Direct Taxes?
Review DTC bill
 If Direct Taxes Code Bill, 2010 is implemented in its present form then there will be
considerable tax losses to the Income Tax department.
 Hence it (DTC bill) should be comprehensively reviewed.
Data Mining
 Since 2004, the Income Tax Department has been electronically obtaining a large volume
of information from third-parties through the Tax Information Network (TIN).
 This is done to check tax evasion and black money.
 (but) there is a growing perception that the Income Tax Department is unable to harness
this large volume of information, because it lacks data mining skills.
 (Therefore) Taxpayers have found new methods and avenues for parking their
undisclosed income to escape detection by Income Tax dept.
 That’s why Income tax department should provide training in data-mining for all directly
recruited inspectors and Assistant Commissioners, with the help of Big IT companies.
PAN/UID Card Mandatory
 What is PAN, why is It used- all discussed in earlier articles. But still here is the brief
 PAN is an all India, unique ten-digit alphanumeric number.
 PAN card is issued by the Income Tax Department. It does not change with changes in
address or place.

This an example but don’t be surprized, anyone can get PAN card. (=You don’t have to be
Indian Citizen)
 UID (Aadhar) is also similar- a unique 12 digit number, issued by Unique Identification
Authority of India (UIDAI) to all the residents of India. Please note: there is difference
between “resident” and “citizen”. Some people oppose Aadhar on this ground. (That
illegal Bangladesis might also get it, if they’ve the proof of residence).
 Please check this chart uploaded on official UID site. Extremely important for MCQs.

An Example of Aadhar Card.
 It also doesnot change with address or place. So if you got your PAN/UID while you
were in college of Delhi but then shifted to Banglore, your PAN/UID numbers wouldnot
change. This helps in tracking down tax evaders.
 Kelkar says amend the laws so that Irrespective of amount of money transected, PAN /
UID number must be quoted in bank accounts, fixed deposits with banks, all salary
payments and sale of immoveable property.
 This will also help detecting tax frauds and reduce black money.
Create fake Orkut profiles
 Income Tax dept should create a 360 degree orkut profile of all taxpayers.
 This will help decreasing tax evasion and tax fraud.
 Online verification of PAN could be made mandatory for all high value transactions, in
order to reduce black money transactions.
Thus, if Government takes above steps then direct tax collection would increase.
Charge interest rate on tax defaulters
Hasan Ali is India’s largest tax defaulter with dues allegedly over Rs 50,000 crore (Rs 500
 If a company or individual doesn’t pay his taxes on time, then Government should charge
22-24% interest rate on his pending tax payments.
Now second part:
How to increase collection of Indirect Taxes?
 Kelkar says Mohan should reform Union Excise Duties (UED) and Service Tax (ST) so
that they can be smoothly intergrated into upcoming Goods and Services Tax.
Increase the coverage of service tax
 At present, many activities are outside the service tax regime, for example Department of
Post, renting houses, Funeral services etc.etc.etc.
 “Negative list”= It is a list prepared by Government. It contains the names of services,
which are exempted from Service tax. You can download the entire list by clicking me
 Kelkar says, this Negative list should be “pruned” (=trimmed, cut-down, shortened,
condensed). That means, give exemption to very few activities.
For example:
 Non-profit organizations should pay Service Tax.
 Government had given exemption to the Railways from service tax payment for
transportation of goods and passengers (of higher class) upto 30.09.2012
 Kelkar says, the Railways should no longer be exempted from service tax after that date.
Implement Goods and Services Tax (GST)
 Kelkar agrees that it is difficult to implement GST from from 1st April, 2013 (because
many states are opposed to it)
 But Government should atleast try to pass the Constitutional Amendment relating to
introduction of GST, in the Winter Session of the Parliament.
 This would send out very strong signal to trade and industry about Government’s serious
intent to move forward on this issue.
 Once the GST is implemented, it will automatically increase the industrial output, exports
and (thus) the tax revenues.
6% Excise duty on Merit goods only
 Excise duty = a type of indirect tax.
 Excise duty is collected by Union Government, on the goods manufactured or produced
in India.
What’s the difference between Custom and
Excise duty?
 Excise duty = charged on goods produced (or manufactured) in india
 Customs duty= charged on goods imported into India as well as on goods exported from
 Please note: Excise on alcoholic liquors, opium and narcotics falls under the domain of
State Government. Why? Because Seventh Schedule of the Constitution says so.

Anyways back to business. →e were talking about Kelkar’s recommendations on Excise duties.
Government of India charges excise duties on various goods produced in India.
For example
 12% small cars
 6% on Iodine and LED Lamps.
Kelkar says review the list of goods under “6%” excise duty. Only Merit Goods should have
Union Excise Duty of 6%. And for the other items, collect 8% excise duty.
What are merit goods?
 Merit goods are products, such as education, library, museum, vaccination which
consumers may undervalue but which the government believes are ‘good’ for consumers
as they exhibit positive externalities.
 ok now what is Positive externalities? I think we discussed that in earlier articles, but
What is Externality?
 Externality = →hen two party do some business, “externality“ is experienced by the
unrelated third parties that are not involved in that business.
Negative externality
 I take admission in some pharmacy college. (ME and college are buyer and seller of
education). But the college is bogus and doesn’t teach anything meaningful. Then third
party (Pharma industry) also suffers negatively, because the drug-company that gives me
job in future will run less efficiently because I’m not very skilled pharmacist! (this is an
example of Negative Externality)
Positive externality
 IF all kids are given policy vaccine by Government, then then India’s future workforce
will be healthier and fitter =third party (Industries) will also benefit.
E-Governance in CBEC
 Kelkar observed that under the Kerala VAT regime, the dealer must electronically
provide invoice-wise details of all sales to, and purchases from, registered dealers.
 Central Board of Excise and Customs (CBEC) should also develop a similar
computerized system for comprehensive cross-verifications.
 This will help in detecting the tax-evaders.
These are (not all but) main recommendations of Kelkar on how to increase collection of direct
and indirect taxes = incoming money will increase.
He also suggested some more ways to increase incoming money.
Disinvest from PSUs
 First of all, what is PSU? Answer Click ME
 You already know about Debt vs Equity, Shares vs Bonds If not click me
 Disinvestment (in crude terms) = when Government sells its shares from a PSU.
 The Budget 2012 wants Government to collect Rs.30,000 crores via Disinvestment. (This
money would go in National Investment Fund under Ministry of Finace. And later on this
money would be used to finance bogus Government schemes and to revise other PSUs, if
they’re capable of making profits)
 Kelkar says, Government should sell minority stakes in entities such as SUUTI ,
Hindustan Zinc and Balco etc. This way, it can easily get the required 30k crores.
 But Kelkar has different views about what to do with this money! He says, The money
thus collected, through the disinvestment process should be deployed in infrastructure=
growth and employment.
 Using this money, Government could move into the sectors where private players would
be hesitant to play a role. These include areas such as garbage clearing, public health,
cleaning of rivers, recharging of groundwater, urban mobility and so on.
Dividend from PSUs
 You already know about shares and dividend. If not, then go through the same debt vs
equity article.
Ok let us review what we learned so far
1. Fiscal deficit = outgoing money > incoming money.
2. Fiscal consolidation = steps aimed at reducing fiscal deficit.
3. To reduce fiscal deficit, we need to increase incoming money and decrease outgoing
4. We saw how to increase the incoming money (direct+indirect tax, PSU dividend and sell
Now let us move to the second part:
How to Decrease the Outgoing Money?
Kelkar has plain and simple solution for this.
Reduce Subsidies
 Kelkar says increase the prices of diesel, petrol, keroscene, LPG and Urea etc. (Actually
he says Government should reduce the subsidies on each of them, in phased manner =
price will increase automatically!)
 Kelkar also clarifies that he doesn’t want complete elimination of subsidies. He says we
shouldn’t eliminate subsidies. Food subsidy is defensible. For undernourished children or
lactating mothers food subsidy is not only defensible, it is ethically right and morally
 Subsidy must be continued for kerosene as long as it is affordable (for the government)
 But the subsidies should be reduced as and where possible.
 For example, LPG subsidies do not go to our people who fall in the low income bracket,
therefore LPG subsidies should be removed.
 With a drastic cut in subsidies, a bigger part of the resultant savings should be
channelized towards programmes that lead to creating new job opportunities.
 Kelkar agrees that Yes, reduction in (petrol, diesel, kerosene, urea) subsidies could lead
to some short-term pain (=inflation ) but the government should spend more on
employment generation, which would lead to higher growth and benefit everyone.
 If Kelkar report is implemented then Diesel price will increase by around Rs.6/lit and
LPG price by Rs 87 per cylinder.
Change focus of Government schemes
Kelkar suggess that all Government schemes/Programmes for the poor should be centred around
employment generation.(rather than populist schemes aimed at free electricity, TV Fridge etc.)
These are the major recommendations of Kelkar Committee. This is what “Kelkar said”
Now let us check what Government said on his report?
Chindu: I’m going to hold consolations with various stockholders and then decide the future
course of action (about whether should we implement his report or throw it in dustbin). And In a
developing country where a significant proportion of the population is poor, a certain level of
subsidies is necessary.
Mock questions for CSE, RBI etc.
Which of the following, is/are not recommend by Kelkar Committee on fiscal consolidation
1. Government should sell unused land owned by various ministries, if it is not generating
any Revenue.
2. Government should increase the subsidies on Urea.
3. Government should increase the excise duty on merit goods.
4. Government should exempt railways and non-profit organizations from service tax.
5. Government should not implement Direct Tax Code in its present form.
6. Government should not implement GST in its present form.
Which of the following statements are correct?
1. Fiscal deficit stimulates the private investment, growth and employment.
2. All Excise duties fall under the domain of Union Government.
3. Customs duty is charged on imported items only.
4. Funeral services are exempted from service tax.
5. Property tax is an example of Direct tax.
6. Service Tax is collected by Income Tax Department.
7. PAN is a 12 digit alphanumeric code.
8. Only a person above 18 years, can get PAN card.
9. Only an Indian Citizen can get PAN card.
10. “Aadhar” is issued by Ministry of Home Affairs.
11. A person below the age of 18 years, is not eligible for “Aadhar”.
12. Only a Citizen of India can get Aadhar Card.
150 words
1. What are the major recommendations of Kelkar Committee on fiscal consolidation?
2. Salient features of DTC Bill.
3. Salient features of proposed Goods and Services Tax.
1. What is fiscal consolidation?
2. Why is it necessary to have low fiscal deficit?
3. The presidential debate between Obama and Mitt Romney revolved around healthcare
cuts, tax cuts and fiscal deficits. How are they related with each other?
9% GDP and 4% Agriculture growth:
Fodder material for Essay and Interviews
This is not really an “article”, just compilation of some important fodder material for GS, essay,
group discussion and interview.
Often we hear the newspaper columnists and TV-debatewallas talking
“if India wants 9% growth then it should xyz”
“if India wants 4% growth in agriculture then it should do xyz”
So, let us make a list on what should be done.
What is the theme of 12
Five Year plan?
 Theme=Faster, sustainable and more inclusive growth.
 Let’s deconstruct the theme.
 Faster growth= GDP should grow at 9% per year.
 Sustainble growth = you know what that means. If not, go through Kyoto and RIO+20
 More inclusive growth= Women, SC,ST,BPL, Physically challenged and minorities
should also benefit from 9% GDP growth. + The fruits of Growth should be spread all
over India and should not get concentrated in a few big states only.
What are the main targets of 12
(list is not exhaustive)
 Every year GDP should grow the 9%. (this was the original target but in Oct 2012,
Government concluded that it is beyond our aukaat to grow at 9%, so the new target is
8.2% per year).
 Every year Agriculture sector should grow at 4%, because
o Higher agricultural growth would provide income benefits to the rural population
o It’ll also reduce food inflation.
 Every year, manufacturing sector should grow at 10%
 At present, 30 per cent of the population is below poverty line. 12
FYP wants to bring
down the poverty ratio by 10 per cent.
 major flagship programmes in the Eleventh Plan, would continue in the Twelfth Plan.
most notably the
1. National Health Mission (NHM),
2. Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA),
3. Pradhan Mantri Gramin Sadak Yojana (PMGSY)
4. Integrated Child Development Scheme (ICDS)
5. National Rural Livelihoods Mission (NRLM).
 Focus Areas: Health, education, infrastructure and skill development
 Allocation in the health sector is all set to double.
Government’s role in Development
 Nowadays much of the growth process is now driven by actors outside the direct control
of government.
 These actors are : farmers, entrepreneurs, corporate houses and market forces.
 This, however, does not mean that government has no role to play in the development
 Government has important role to play in India’s Growth.
 There are four areas, where Government’s role is essential:
1. providing a policy environment (FDI, environment clearnaces, land acquisition etc)
2. Developing infrastructure (roads, dams, powerhouses, ports, railways etc)
3. Supporting poor and vulnerable groups. (through various schemes)
4. Providing essential public services (police, fire, health education, drinking water,
sanitation etc)
Time Factor
 Development requires time and patience. For example, if Government takes step to
improve education for the poor kids.
 but the impact will only be reflected in actual income earning much later (When they
grow up and start earning).
 So, even when policies are moving in the right direction, the results may only be evident
much later.
 A moderate level of inflation, is unavoidable for a growing economy.
 but when inflation beyond this tolerable level – usually put at 5 percent to 6 percent, then
it’ll start damaging the overall growth and inclusiveness (of poor people.)
 Inflation has been well above this level in the past two years and while India is not the
only emerging market country experiencing this problem.
 But inflation in India has been higher than in most other countries
 High rates of inflation in food prices, especially vegetables, fruits, milk, eggs, reflected in
double digit rates of inflation as measured by the Consumer Price Index (CPI) in the past
two years
 Main reasons for inflation in India
1. Rise in global prices of crude oil, foodgrains and metals.
2. domestic supply constraints in the food economy other than foodgrains.
3. High Fiscal deficit
Fixing inflation
 Monetary policy is the traditional instrument for dealing with overall inflation,
 Last two years, RBI gradually tightened the monetary policy, but it can be effective only
if it is supported by appropriate fiscal policy.(i.e. steps by Government)
 India has become a more open economy in the post-LPG Era. But It is still less dependent
on export demand than other emerging market countries
 Problem: How India can actually expect to grow faster in an environment in which export
demand will be weaker. (because of slowdown in US and EU).
 Answer: even if export demand from industrialised countries is weaker, many emerging
market countries are projected to grow more rapidly. (Brazil, South East Asia etc.)
 So, if we target these fast growing markets our export performance could be improved.
 Traditionally, we have viewed current account deficits of around 2 percent of GDP as
 current account deficit in 2010-11 was already around 2.5 percent of GDP
Policy environment
 India has only recently begun to attract global capital and given the size of the economy,
and its perceived high growth potential,
 If Indian Government’s policy towards FDI is seen to be supportive, then India will
remain an attractive investment destination for coming years.
 But there is also a situation when but investment does not take place even after allowing
FDI, relaxing environment laws etc. simply because entrepreneurs do not find investment
opportunities attractive, i e, “animal spirits” are missing.
 Therefore, Government needs to create an overall policy environment conductive for
investment (not just FDI but also infrastructure, labor laws etc.)
 In the coming years, working age population in India will increase.
 At the same in the industrialised countries, and also in China, it will be going down.
 This situation can work as a “demographic dividend” only if
1. sufficient investment is taking place to generate the GDP growth (and thus employment)
to absorb this youth.
2. right education and vocation skills are given to the youth.
 Right now, over 90 percent of our labour force has received no formal training prior to
employment and skills are typically acquired only on the job.
 This is simply not consistent with target of 9 percent growth.
 India’s position today is roughly comparable to China’s in the 1985, and starting from
that position, China achieved an average growth of GDP over 10 percent per annum for
30 years. There is no reason why India cannot do the same.
How to upgrade skills of labour force?
 Eleventh Plan had set a target of having 500 million individuals in the labour force with
some formal training by 2020.
 There is National Skill Development Council under the chairmanship of the prime
 But Government must Involve the private sector in skill development, because it
increases the likelihood that the skills imparted are marketable.
Reducing the fiscal deficit
 (we already discussed this in length, in the two kelkar articles) but still…
 Fiscal deficit can be reduced through two pronged strategy
Strategy #1: Increase revenues
 most important initiative in this context is the Goods and Services Tax (GST)
 Because implementation of the GST involves a constitutional amendment, a successful
outcome may take time
 but once achieved, it will be a major achievement.
Strategy#2: Reduce non-Plan expenditure.
 Some reduction in non-Plan expenditure will happen automatically because
1. Government employment is not expected to increase significantly.
2. Government is not going to form any No new pay commission for some years.
 Government provides lots of subsidies on food, fertilisers and on petroleum products,
which together account for around 2 percent of GDP.
 Food subsidies, alone amount to about 0.7 percent of GDP.
 But Food subsidies cannot be reduced much, because of upcoming National Food
Security Act.
Railways: Cross subsidization
 Cross subsidy in crude term means that Railways doesn’t increase passange train ticket
price and makes losses. So to cover these losses, it increases the freight (goods, coal etc.)
transport prices. And thus indirectly increases the inflation.
 Solution: freight tariffs should be lowered and passenger fares raised.
How to get 4% growth in Agriculture?
 Need to increase R&D in seeds Development.
 improve soil health: increase micro-nutrients and carbon content in the soil.
 Provide soil health cards issued to farmers, with periodic soil testing. Then the farmer
will be given tailormade advice on how type of crops, seeds, fertilizer, irrigation method
is suitable for his farm, according to his soil-health card.
 Carbon content can be increased by shifting from the traditional practice of burning crop
residue to leaving it in the field.
Reduce water consumption in agriculture
 Use new practices such as land levelling, use of drip irrigation, zero till cultivation,
raised seedbed planting
 in the case of rice, adoption of the System of Rice Intensification (SRI).
Cold storage
 Most of the growth in agriculture in future will come not from foodgrains
 but from sectors such as horticulture, dairying and fisheries, where the produce is
perishable (Food that will decay rapidly if not refrigerated)
 So Government must pay greater attention transporting produce from the farm to the
consumer, with minimum spoilage.
 This requires active involvement of the private sector, cold storages, better quality roads
Supply lines
 The present Agricultural Produce Marketing Committee (APMC) Acts prevent the
private sector buyers from dealing directly with producers.
 State Governments must amend these acts.
Land Leasing
 state governments is the reform of laws relating to leasing of land.
 When rural population increase, the farm holdings are subdivided and become
 The very small and marginal farmers should lease out their tiny land to more viable
farmers, and move into other sectors for better employment.
 But small farmers will do it only if they felt that they could lease out their land and get it
back when they want.
 Yet, leasing is not legal in some states. Where it is allowed, the law is biased towards the
tenant (Someone who pays rent to use land).
 So state Governments should also amend the laws accordingly.
Non-farm Employment
 In manufacturing sector, the corporates make huge profit even after giving salaries to the
employees. And much of this profit is reinvested for research and Development of new
products. (e.g. Apple’s iphone 5) and in expansion (e.g. Tata making new automobile
plant in some state)
 Therefore, manufacture and service sector continues to grow, because new products are
created, new demand is generated, new employment is generated.
 But Productivity in agriculture is low and too many people are employed in it. So after
paying for seeds, farm-labourers, even a big farmer doesn’t have enough ‘extra-
money/profit’ left, which he can use to drastically change his farming practice (like
buying big farming equipments from US, importing best hybrid quality seeds from top
company etc.)
 Therefore Government should focus on two things:
1. land consolidation : small farmers should lease their land to big farmers/ cooperative
2. move people out of the agro-sector.
 This is actually necessary to reduce the present underemployment/ ‘disguised
unemployment’ in agriculture and increase real wages in this sector.
 Agricultural development will itself give rise to new demands for non-agricultural
services and generate employment in agriculture-related sectors such as modernised
marketing and agro-processing activity.
Change the focus
 At present, Government’s policy/ attitude is that if give the farmers huge subsidies in
electricity, seeds, and loans, then agro-productivity will automatically increase.
 But Government should focus more on changing in farming practices, introducing new
technology. So that farmers become less dependent on subsidies in the long run.
 If Government wants to move people out of agriculture, then Micro, small and medium
enterprises (MSME), are generally more labour absorbing,
 MSME are also potential seedbeds for innovation and entrepreneurship.
 So Government must provide policy environment to encourage the growth of these
industries and this does not mean sops and subsidies. But instead, give them
 first class infrastructure which includes both reliable electricity supply at reasonable cost.
Regional imbalance
 Northern states are industrially backward at present, but have high labour supply.
 Hence there is lot of inter-state migration.
 So the respective Governments must improve the employment opportunites right within
their states.
 How? By attracting both national and international companies in their states.
 But those companies will come only if there is right atmosphere and environment in the
state. That means
1. No naxalite problem
2. No kidnapping and extortions.
3. Sufficient electricity and water supply
4. Quick land acquisition and environment clearnaces.
5. Rationalise our labour laws to give employers more flexibility to shed labour when faced
with a downturn.
Infrastructure Development
 infrastructure sectors = power, roads, ports, airports, and railways
 some sectors, e g, telecommunications, achieving higher levels of investment than
projected, while others achieved significantly less.
 For 9% growth, we need total investment of $1 trillion over the Twelfth Plan period.
 But how to finance infrastructure projects? Two problems
Where is the money?
 Government doesn’t have enough money.
 And Government’ the first priority must be to spend money in education and health.
Because those two sectors are crucial for inclusiveness and are currently underfunded.
 Both the central and state governments must therefore follow an infrastructure strategy
which consists of a combination of public investment and public-private partnership
 Public investment would have to be directed to areas where the private sector is unlikely
to come. (e.g. backward regions, rural areas).
Quick Project implementation
 This is second major challenge in infrastructure.
 Infrastructure projects are often delayed due to difficulties in land acquisition and
environmental clearance.
 the current processes are often not sufficiently transparent and predictable.
 We need to move to a system with much greater transparency, predictability.
Reforms in the Financial Sector
 This sector involves: banks, non-bank finance companies, microfinance institutions,
capital markets, mutual funds, insurance companies, pension funds and venture capital
fund etc.
reform are already in the pipeline
 road map for new private sector banks and foreign investment in banks,
 deregulation of the savings rate offered by banks
 increasing FDI in pension, insurance etc.
 passage of the Pension Fund Regulatory and Development Bill,
 passage of the Company Laws Amendment which will modernise bankruptcy
 creation of the Public Debt Management Office outside the RBI
Crowding out corporate borrowing
 In the earlier articles, we already saw that
1. there are two ways to finance a company: Debt / Equity.
2. very high fiscal deficit, crowds out corporate borrowing. (recall first Kelkar
 LIC, EPFO, etc, are very conservative at present when it comes to investment. Whatever
money they get from clients, they prefer to invest it in G-sec instead of higher yielding
corporate bonds.
 Reason: if the private company defaults or goes bankrupt then it is very hard and time-
consuming to recover the bond-money.
 While banks, can easily recover loan money via SARFAESI, bond holders can only have
recourse to liquidation and bankruptcy procedures which are hopelessly time consuming.
 Therefore Government must amend the Company laws etc. to fix this problem.
Energy Economy
 global supply of crude oil = will remain tighter in the years ahead, and therefore crude oil
price will also remain high
 Therefore we must increase domestic supply of energy from both conventional and non-
onventional resources.
Reducing Energy Intensity
LPG and Kerosene
 Petrol price is deregulated.
 LPG and kerosene prices remain under administrative control and are currently set well
below global levels
 Government doesn’t want to raise kerosene and LPG prices because of the impact on
vulnerable groups,
 but it must be recognised that the subsidy implicit in the present low prices of kerosene
and LPG is completely untargeted.
 In the case of kerosene, it also leads to large-scale black marketing, adulteration and
 Solution: Implementation of a unique identification number.
 Electricity prices are set by supposedly independent state regulators, but there is strong
political pressure on regulators in many states and it prevents them from increasing
electricity price.
 The system must be allowed to function properly so that electricity prices are not
artificially depressed, especially as coal prices are expected to rise. (otherwise subsidy
burden= more fiscal deficit= inflation.)
Increasing Domestic Energy Supply
 expand domestic production of petroleum, natural gas and also coal to avoid excessive
import dependence
Coal production
 Coal industry is nationalised, although private investment is allowed in captive coal
mines (i e, coal mines linked to power plants or steel and cement plants).
 the policy for the coal industry should be liberalised – allowing private investment.
Solar and Nuke Energy
 We must also take steps to exploit the full potential of other energy sources notably
nuclear, solar and wind power.
 Both nuclear and solar power are more expensive than coal / gas power plants and
 While increased reliance on solar/nuke sources will contribute to energy security, reduce
climate change, but it does imply higher energy costs.
 But Costs can be expected to come down as technology develops further. (e.g. compare
price of Desktop PC in 1998 vs 2012)
 Expansion of nuclear power is an important element of India’s long-term energy strategy
and this has been facilitated by the recent agreement with the Nuclear Suppliers Group
which gives India access to imported uranium, and also opens windows for other
cooperation in this area.
 Problem: Bogus NGOs and semi-naxalite intellectuals protesting against Nuke plants
after receiving bribes from abroad.
 India has target to install 20,000 MW of solar power by 2020.
 India has the potential to be a significant supplier of solar-equipment to other countries.
 Can make huge dams in Arunchal Pradesh and generate thosands of MW electricy.
 Problem: border disputes with China.
Managing Water Resources
 India’s available supply of fresh water is the same as it was 5,000 years ago, and the
population has grown.
 excessive withdrawal of = water table gets low =land salinity increases = agriculture
output decreases.
 If things are left to business as usual, the situation will worsen steadily.
 Solutions:
1. building storage dams,
2. investing in watershed management to improve surface water retention a
3. groundwater recharge
4. forcing industry to treat waste water for reuse.
5. About 80 percent of India’s water use is for agriculture and it is technically
feasible with better agricultural practices, to reduce water use in agriculture by 40
percent to 50 percent
6. land levelling drip irrigation
Water price
 Government keeps the price of irrigational water very low.
 This leads to poor maintenance of the canal system due to low funds.
 The present laws only provide for banning new tubewells in areas where the water table
has fallen too far.
 This only confers a monopoly on existing tubewell owners to pump as much water as
they wish and sell it to other farmers.
 Free electricity for agriculture provides a wholly unjustified incentive for such activity
(of selling tubewell water).
 So, state governments should consider imposing a cess (tax on tax), on electricity for
agricultural use in all areas where the water level has sunk too low.
 Right now only 30% of the sewage generated in urban areas, is treated before getting
discarged into rivers. Government should increase this to 100%.
 The urban percentage of the population is currently around 30 percent, and is expected to
reach 40 percent by 2030.
 Most of the revenue generated from economic activity in the country occurs in urban
 But most of this tax Revenue goes to Union and State Government and not to the city
 So, municipalities in India also have limited money to improve the water, sewerage and
urban transport system.
 Jawaharlal Nehru National Urban Renewal Mission (JNNURM) introduced in the
Eleventh Plan fixing this problem. But much needs to be done yet.
Environment Protection
 We want high growth (9%) without inflicting much damage to the environment.
 But these two objectives (9% growth vs protect environment) cannot be achieved
simultaneously in many situations for example,
 9% growth = need lots of power/electricity =need coal and hydropower= forest clearance.
 9% growth = require industrialisation = leads to water +air pollution.
 Therfore some compromise is necessary.
 But there are certain areas where we must not make any compromise, for example tiger
reserves and very select biospheres.
 Corruption in land-acquisition and land allotment
 Corruption in Spectrum and minerals allocation.
 These things indirectly increase the ‘input cost’ for the entrepreneurs and hence inflation
also increases.
 As a general rule, competitive bidding among qualified bidders provides the most
transparent way of allocating scarce resources such as mining rights or spectrum.
 Many countries have a public procurement law whereas in India government
procurement is governed by rules.
Government schemes
In following schemes, the Complaints of leakages, inefficiency and corruption are widespread
1. subsidised foodgrains through the PDS
2. National Social Assistance Programme (NSAP) which provides an old age pension
4. National Rural Drinking Water Programme: at covering villages which do not have an
assured supply of potable water
5. Rajiv Gandhi Grameen Vidyutikaran Yojana (RGGVY) : electricity to all uncovered
villages and provides free connection to all BPL families
6. Indira Awas Yojana (IAY) which provides assistance to the rural poor to build pucca
Why problem?
 central government only finances these programmes, and actual implementation is carried
out by state government agencies
 Many schemes involve cooperation between different departments of government, e g, of
agriculture, irrigation and rural development or the departments of health, education and
women and child development.
 Unfortunately, Government departments typically work in silos = interdepartmental
cooperation very difficult = lot of leakage and wastage.
 Secondly many schemes have separate id-cards and registers = cross verification difficult
= corruption. So need to fully implement UID as soon as possible.
 The panchayati raj institutions (PRIs) donot have enough funds to carry out the
Development activities.
 No power on earth can stop an idea whose time has come.
 We live in a world of rising and faltering economies. So, The future is what we make of
it. Nothing is ordained or pre-determined. India can rise, if the right steps at taken at right
 Much of what needs to be done to accelerate GDP growth to 9% (or 8.2%) will be done
by the private sector, but the governments too have a crucial role to play in providing a
policy environment that is seen as investor friendly and is supportive of inclusive growth.
Ethanol Blending in Petrol: Pros and Cons, +
Mohan sets up GoM
What is Ethanol fuel / Gasohol?
1. When Ethanol is mixed with petrol, such fuel is known as Ethanol Fuel / Gasohol
(=Gasoline + Ethanol).
2. It can be used with no modification to the vehicle’s engine. (if concentration of ethanol is
upto 10%)
3. Almost all vehicles of US and Brazil, use such ethanol fuel.
Pro-arguments for Ethanol Blending
1. decreases a nation dependence on foreign oil.
2. Reduces the carbon monoxide emissions by up to 30 percent.
3. Cleaner air means healthier people, especially those that suffer from respiratory diseases.
Mortality rates will decrease, health care visits will decrease in number and severity,
health care costs will decrease, and productivity will improve as absenteeism and
performance is improved.
4. Gasohol is typically cheaper than petrol as it is cheaper to manufacture. (just like
adulterated milk minus negative effects on health!)
5. India is the fourth largest producer of ethanol in the world. By blending petrol with 10
per cent ethanol, 80 million litres of petrol could be saved annually in India.
6. Ethanol production = Higher sugarcane price = Rural prosperity.
7. Ethanol blended petrol cleans the car engine over time, by dissolving the harmful
deposits and dirt from pipes and chambers.
Anti-arguments against Ethanol Blending
1. Ethanol is derived from Sugarcane, corn, sorghum. Ethanol blending in petrol, increases
the demand and ultimately the price of these crops. + indirectly increase fertilizer,
pesticide prices= Food security problem in India. (however not really a problem because
Indian Government has proposed only 5% blending, unlike Brazil where it is 25%.
Besides, In India, ethanol is mainly derived by sugarcane molasses, which is a by-product
in the conversion of sugarcane to sugar. Therefore, ethanol does not compromise on the
food security front.)
2. It is not really Eco-friendly! While growing corn, sugar or shorgum, those plants absorbs
CO2 from the atmosphere and then release it when consumed as ethanol (in petrol). So,
you might think that ethanol is environmentally neutral. But a life-cycle analysis claim
that when you calculate the the CO2 emissions in plowing, planting, applying fertilizer,
harvesting these crops and delivering it to the ethanol plant, producing the ethanol, and
distributing it the oil company = it doesn’t remain ‘environmentally neutral’. i.e. more
CO2 is produced in making ethanol blend petrol, than the amount of CO2 emittion
reduced by using such blended petrol.
Gasohol system in India and abroad
 India is the second largest sugarcane and sugar producer in the world. (Brazil is 1
 In Brazil, blending is mandatory up to 25 per cent of ethanol with petrol; and pure
ethanol can also be used by flexi-fuel cars.
 Even Pakistan has 10% blending!
 So, in 2007, Govt of India came up with the idea of making 5% ethanol blending in
What’s the problem?
 Ethanol is produced from molasses.
 Molasses is a by-product in sugar mills.
 At present, the government has made provision that Oil companies should buy ethanol @
the price not more than 27 per litre, and mix this ethanol with petrol.
 But, Sugar mills prefer to sell molasses to alcohol manufacturers because it gives them
more profit. =less raw material available for ethanol manufacturing.
 So, if Government wants to implement compulsory 5% blending, then Oil cos would
need to import atleast 200 crores of ethanol from abroad, every year.
 This would disturb the delicate balance of retail petrol pricing (if they can’t import
ethanol at reasonable price).
 In October 2012, Mohan setup a GoM (Group of Minister) to examine all matters relating
to pricing of bioethanol, its blending with petrol.
 This GoM will be headed by Sharad.
 Mohan has asked the concerned ministers (agri, finance, chemical, petroleum etc) to
resolve their differences in the GoM and bring it back with a recommendation to the
Cabinet Committee on Economic Affairs (CCEA.)
 The CCEA will then
o Either It’ll make the ethanol blending rules/policy.
o or It may form another GoM to study the recommendations of this GoM!
Cheque Truncation System (CTS-2010):
Meaning, Advantages explained
What is cheque clearing house?
 Suppose a party from Delhi pays you via cheque of Citibank and you have account in
SBI, Ahmedabad. You deposit this cheque in your area’s SBI branch.
 Now the SBI branch manager would send his [overworked, underpaid] Bank PO to
Citibank’s office in A’bad. He’d show the cheque, collect the cash and return to deposit
the money in your account.
 But SBI would be getting thosands of cheques everyday- some from ICICI, some from
Citibank, some from axis and so on. SBI cannot send its staff to every other bank to get
the cash, that’d be extremely time consuming.
 Therefore To simplify this cheque transection process, each bank will send a
representative to a central place and exchange cheques drawn on each other.
 This centralized place is called clearing house/processing house.
 Reserve bank of India is act as clearing house.
 In cities where RBI’s office doesnot exist, usually SBI or other public sector bank acts as
the clearing house.
What is MICR code?
 By seeing the PIN code, a postman can know the destination of an envelope. Same way
by using the MICR code, RBI (clearing house) can know the name of a bank, location of
its branch from where the cheque was issued= faster clearing of cheques.
 MICR = Magnetic ink character recognition.
 At the bottom of every cheque, you’d see some black colored numbers with weird
looking fonts. That is the MICR code.
 These numbers are printed with a special ink containing iron oxide, so that it can be
automatically read by a special machine.
 Ofcourse this sounds similar to bar codes, but there is a difference: unlike barcode, you
can read the MICR code and decode it, without the use of special machines.

What is Cheque Truncation System (CTS)?
 Under the old paper cheque based clearing, the SBI bank will send the paper cheque to
the clearing house and get the money and then transfer it to your account.
 This is still time consuming. because SBI (or any bank) would need to physically move
the cheques to a clearing house.
 So RBI came up with a new idea known as ‘Cheque Truncation System (CTS)’.
 In this Cheque Truncation System (CTS), SBI branch will not send the paper cheque to
the clearing house, but instead, it’d merely scan the cheque, and electronically send the
image + MICR data, to the clearing house.
 From the clearing house, the data would goto the paying bank (Citibank in our example),
they will inspect the MICR data, signature on the scanned image and release the money
to SBI.
 This process is faster and more safer than the conventional paper-cheque clearing
What are the benefits of Cheque Truncation?
 It Eliminates the time, money and manpower wasted during physical movement of
cheques (from banks to clearing house).
 Thus, Cheque Truncation =faster clearing = better service to customers,
 Cheque Truncation system reduces the scope for clearing-related frauds
 There is no fear of losing cheque in transit.
 In the year 2010, RBI came up with the guidelines for Cheque Truncation system. (CTS
 The banks would need to upgrade a few things to comply with CTS 2010 standards of
 For example, in their branch offices, they would need to buy scanners and install special
software provided by RBI, to securely transfer and receive the scanned image and data.
 They may need to change the color-scheme of chequebooks so that signature and
handwriting is visible in the scanned image. And so on…
 Problem: some jholachhaap banks, are yet to comply with RBI’s CTS 2010 guidelines.
 Hence recently RBI issued a warning to all banks:
RBI Governor:
 upgrade your banking infrastructure according to
CTS 2010 guidelines, before the end of Sept. 2012 so
that UPSC may ask a question on this topic.
 Whenever we do something, our prime objective is
not to improve the economy but to harass the UPSC
manager of
Lena Bank:
indeed, whaat an idea sir-ji
Bretton Woods and Fixed Exchange Rate
system : Meaning Explained
I had posted this article somewhere in April 2012 but because of a technical glitch this article
(and many other articles on economy) got wiped out of the server. So here I’m re-posting the
same article. If you had already read it, no need to read again because Content has not been
While reading newspaper columns about global economy or Eurozone crisis etc. you may have
come across a sentence, multiple times : “we need another Bretton woods.” so,
What is Bretton Woods?
It’s a place in New Hampshire State of USA, just like BASEL is a city in Switzerland.
Why is important?
 In 1944, President Roosevelt hosted a conference here, to rebuild the world economy,
after Second World War.
Delegates of 44 allied nations ( ) had came to participate in this conference.
 Officially it is known as United Nations Monetary and Financial Conference,
commonly known as Bretton Woods because of the place where it was held.
 This conference resulted into creation of four extremely important things
Result of Bretton Woods
 1. IMF
o They give short-term loans to help nations settle the balance of payment crisis.
o They’ve a system called “SDR” :Special Drawing rights. (requires another article)
 2. World Bank
o Officially known as IBRD :International bank for reconstruction and
Development, that time
o They give long term soft loans to rebuild the third world.
o Soft loans= interest rate is very low. Sometimes you don’t have to pay back the
 3. GATT (General Agreement on Trade and Tarrif) – later becomes WTO
o To facilitate the international trade.
o This will later become WTO. Already written an article on this.
 4. Fixed Exchange Rate system. (although Discarded in 1970s)
o Explained in this same article.
Main Players in this meeting
 Total 44 nations participated, but Main players were:
 US President Franklin D Roosevelt
 UK Prime Minister Winston Churchill
 Lord John Maynard Keynes, Famous economist, UK treasury advisor.
India @Bretton Woods
 Absent from the meeting: Mohan, Montek, Pranab, and Chindu (good otherwise they’d
have messed up International Economy, just like they did to Indian Economy.)
 India was represented by Sir C.D. Deshmukh, he was the first Indian Governor of RBI,
This gentleman had cracked IAS exam in British-raj ,known as ICS exam in those days.
And No, he is not the grandfather of Ritesh Deshmukh.
Back to the topic,
Impact of World War II on Economy
 Second world war started in 1939, ended in 1945
 There is large scale bombing and destruction in the world. Production has declined.
 Agriculture, Dairy, Manufacturing, Export- everything is brought to standstill=huge
Agenda of conference
 Help rebuilt the World Economy. Provide money, loan, finance to needy nations. (World
 After →→2, lot of colonies will get independence (India, Sri Lanka…), they’ll introduce
their own national currencies without control of big superpowers (Britain, France etc) and
they’ll enter in international trade in their own capacity.(Exchange rates, IMF)
 Hence, Some rules/order had to be created to facilitate smooth international trade.
Fixed Exchange Rate system.
What is Fixed Exchange Rate System?
 Under this system, if RBI says $1=30 rupees, and you’ve 30 rupees and want to convert
it in dollars but the Foreigners are willing to give 1 dollar to you…don’t worry.
 RBI will accept your 30 rupees and give your one dollar out of its own reserve and vice
 Cons are obvious : When India is not exporting enough and not attractive enough foreign
investment (in dollars) and still RBI keeps paying people in dollars, one day the bank
lockers will be empty, there will be no dollars to pay. System will collapse.
 But it has Pros (advantages) in the times of uncertainty- When you’re writing on a clean
slate, after WW2, if every nation decides to have a fixed exchange rate system- it leads to
stability and predictability in Exchange rates = good for foreign trade.
Roosevelt Vs Mohan: Pegging the Currencies
(Fictional, technically incorrect, imaginary)
President Roosevelt: ok I say we put fixed exchange rate system. Let’s fix the rates that 40
Rupees will equal to 1 dollar. 15 Yens will equal to 1 dollar. 12 Pounds will equal to 1 dollar and
so on. In short, I’m pegging your currencies to US Dollar. Thus Dollar will be the international
reserve currency. AND Your country’s RBI (central bank) will make sure these exchange rates
don’t fluctuate more than 1% from these values.
Mohan: ya man, but what if the exchange rate fluctuates? for example, What If I start running
my country in a totally pathetic and irresponsible manner and hence nobody wants to invest in
India so supply of dollar is low but demand of dollar is high- because Indians love gold and
we’ve to import crude oil and pay in dollars. In short, this will fluctuate the exchange rates
between Dollar vs Rupee.
President Roosevelt: Let me ask you a question. Suppose Onions are selling 100 rupees a kilo
because of low supply but suddenly farmers produce fresh new 50 million tonnes of onions and
supply it to market, what will happen?
Mohan: Easy! Onion Price will drop down to 40 rupees a kilo because the supply has increased.
President Roosevelt: yes dude, the same way, whenever exchange rate fluctuates from our
standard rate, you’ll tell your RBI to supply dollars from its own forex reserves in to the market
to calm down the demand and bring the rate back to normal level.
If the reverse happens: (Onions are selling @ 2 rupees a kilo) then you tell your RBI to buy all
Onions dollars using its own rupees, until the supply is reduced and price is back to normal.
Mohan: What nonsense is this? If 40 rupees equals 1 dollar but then what does 1 dollar equal to?
What is the value of your own dollar? Why should we accept your dollar as international reserve
President Roosevelt: I’ve fixed the value of your currency to my dollars. And I’m fixing the
value of my own dollars to Gold. 1 ounce of Gold shall equal to 35 dollars. Meaning you walk in
with 35 dollars in my RBI (Federal Reserve Bank of USA), and you’ll get one ounce of gold in
return. Gold will remain precious forever. So, it’s not like we’re running the show in thin air.
Dollars are backed by GOLD.
Mohan: ya man but what if my RBI doesn’t have enough dollars in its lockers? →hat will we do
President Roosevelt: don’t worry, come to IMF. They’ll arrange short term loans for you, in
Mohan: but still, why should we fix price of our currency to dollars? Why should we accept
dollar as the reserve currency and not Yuan, Yen or Pound? Why should we accept you as our
big boss?
President Roosevelt: Because I’ve the aukaat to pay enough gold, so I say dollars will be the
international reserve currency. IF you’ve enough gold reserve in your RBI, come sit in the chair
and we’ll see whether rupee is strong enough to become the international reserve currency or not.
Even Britain is so financially bankrupt after Second →orld →ar, they don’t have the guts to tell
me set this exchange rate according to their Pounds. Btw, I also got some nuke missiles in my
Mohan: no no…I was just kidding man. I’m well aware that you’re the superpower both
financially and militarywise.
President Roosevelt: Besides →hen we’ve a stable and fixed exchange system like this, it’ll
ensure smooth and long term trade deals between merchants of various countries. When you
don’t have fixed exchange rate system, it is bad for economy. For example, today your call-
center boss may give you free lunch and coffee because $1=60 rupees but next day when value
of rupee declines and it is $1=50 rupees, same boss will even stop running the water-cooler in
your office. Third day when $1=40 rupees, He will just kick you out because outsourcing
generate that much profit for him. Such uncertainty, is not good for economy.
And since Gold is in limited supply, Dollar will be spent carefully, and so your currency will be
in spent carefully. i.e. Since currencies are ‘pegged’, you will not indulge in extravagant
spending in subsidies, welfare schemes, tax-reliefs or debt-waivers to farmers. This ensures
fiscal discipline => That ensures less Fiscal deficit = less inflation.
Mohan: Mr. President Sir, I think I got the point now. I’ll tell my RBI Governor here to sign the
Bretton Woods agreement papers, because fixed exchange rate system sounds safe and good.
Fast forward to 1970s
 As you can see, the fixed exchange rate system, is good for stable international trade
environment, atleast on paper.
 But this system can run smoothly only as long as USA has the aukaat to pay gold to
every swinging dude that walks with dollars into their RBI (US Treasury).
 Problem started with Cold War. Both USA and USSR (not Russia), are busy in an arms
race, building new tanks, missiles and submarines every week.
 They’re also giving huge donations and help to poor nations, in order to win their support
and dominate the region. This is a non-productive activity, they’re basically wasting
 Now, USA gets involved in a very lengthy and expensive Vietnam War from 1959 to
Inflation and Gold Prices
 Fact: War leads to inflation
 Fact: Inflation decreases the value of your money.
 Fact: Gold becomes more expensive because of Inflation.
 US still kept fixed value of 35 dollars = 1 ounce of gold. But thanks to this inflation,
Gold is trading at higher price in open market – 40 dollars per ounce.
 So there is an opportunity to make quick money, just tell the RBI manager to take
suitcase full of dollars from RBI’s locker to US Federal Reserve, take their gold in return,
and sell it to the local jeweler at higher market price and use this profit to fix india’s
problems- poverty, education etc. (may be by starting another welfare scheme named
after Nehru-Gandhi family.)
 For a while, US Presidents had enough clout over international politics so that they could
force other nations’ RBI managers not to indulge in such cheap profiteering. But
↑ietnam war is fast deteriorating America’s clout and now RBIs of various countries
have started lining up with their suitcases full of dollars and they want gold in return.
 1971, President Nixon decides that if we continue giving gold for dollars, we will go
bankrupt. There will be no gold left in our lockers. So I give up. I’m not going to let
anyone exchange their dollars for my gold.
 And thus Bretton Wood system breaks down.
 1973, World moves to floating exchange rate system.
 →hat is Floating Exchange rate? Governments / Central Banks don’t fix exchange rates
here. It is left to the Forex markets, private players and laws of supply and
demand.Government /RBI will only intervene if there is huge fluctuation in the exchange
Do we need Bretton Woods?
 With respect to the Eurozone crisis (click ME), many columnists write “We need another
Bretton Woods”.
 They don’t actually mean that we need to move back to the same old Fixed Rate
exchange system, in which every currency was pegged to Dollar and Dollar was pegged
to Gold. Because that fixed rate thing is impractical in real life scenario, as we saw in
above paragraphs.
 Just imagine, if tomorrow World starts running according to Bretton Woods system, what
will happen?
 We know that China already has more than 1000 billion dollars in its Forex Reserves. So
People’s Bank of China will send its Probationary officer with suitcases full of dollars
and take away all the gold from Fort Knox*. They don’t even need to fight a war, USA
will come down to its knees financially.
 [*Fort Knox is a place in Kentucky State, US Government keeps the gold reserves in this
 In real life, not that China will actually do so, but the mere threat and possibility will
keep USA on its toes. Hence US will not agree to Fixed Exchange rate in the first place.
 There is no chance any other country will agree to become the ‘big brother’ and let their
currency become the reserved currency and peg it to gold.
 Especially India, because if we peg our 10,000 Rupees to one ounce of Gold and declare
that we are the new international reserve currency, just like dollar before 1970s, What
will be the Result? Pegged currency means Government can’t do extravagant spending in
MNREGA. They’ll have to stop subsidy on diesel, kerosene, LPG and fertilizers, because
they can dole out only as much rupees as the amount of gold held in RBI’s locker.
 As You can understand, no political party has the guts to do that, hence no nation will
want to become the big brother or Sacrificial goat (Bali kaa Bakraa) for “another Bretton
 So, The sentence “We need another Bretton Woods” is just a metaphor, to say that all the
Presidents, Prime ministers and Economists of the world should meet up once again and
hold conference in some gambling den, drink some Desi liquor ( ), watch some
Item-song, brainstorm for new ideas and start something from scratch, totally new, Just
like the Gentlemen at Bretton Woods did, in 1944.
Then what to do?
 It could be anything, untried and untested before like-
 China could agree that we’ll not dump our products in foreign market, we will not keep
our yuan under-valued,
 US could agree that we’ll bring back our troop from Afghanistan and cut down on our
Defense Expenditure and its inflationary effect on world economy. We will also stop
supporting Pakistan. Thus reducing defense Expenditure of India in the arms race= that
will also reduce fiscal deficit of India= India could decrease taxes=boost for economy
and world trade.
 Iran could agree that we’ll stop our irrelevant obsession with nuke weapons and give up,
So that UN removes the sanctions and our traders can make more money, thus improving
the standard of living for Iranian aam-aadmis.
 EU could agree that we’ll kick out Greece, because it’s just way too messed up beyond
 And India could agree that we’ll bring all the black money from Switzerland and use it to
finance our bogus Government schemes and subsidies instead of looting the aam-aadmi
via direct and indirect taxes, to finance those things.
 And finally you and I could agree that facebook is a waste of time, so a serious Aspirant
should concentrate on his studies instead of uploading funny/motivational photos there.
High GDP and High Corruption: Cause or
Not really an article, just some fodder/food for thought.
High GDP= High Corruption= Bright Future
Mark Twain coined a term “America’s Gilded Age”. It has been used to describe, roughly, the
last four decades of the 19th century. During that time situation in America was as grim as
India’s current political and economic situation.
1. During that time, majority of American population was involved in agriculture and allied
activities (just like Indian population right now)
2. During that time, USA’s GDP growth rate was 7% per year (similar case in India right
3. And during that time, USA too had high-level of political corruption and scandals. (Just
like India)
4. By the end of this Gilded Age, USA became an urban majority society And went on to
become the superpower, supercop, judge, jury, executioner, leader, financer and top
innovator of the world.
So one can be optimistic that the situation in India today, is just normal and expected-sign of
good things to come, just like the labor pain before a child delivery.
Land Grabbing = Universal phenomenon
 Today, India has four times as many people as the US, but only a third as much land.
 It means Land in India, is very scarce.
 Therefore, India’s politicians and businessmen end up buying land wherever they can,
however they can and then bribe get the government to convert its use from agricultural
to commercial.
 Such transformation of land-use raises the value of land by 10 to 20 times.
China and S.Korea
 A roughly similar process of land-grabbing and political corruption is under way in a
high-growth China.
 But because of strict internet and media censorship, we don’t see/hear about anti-
corruption protests (dharnaa-pradarshan) in Beijing, like we hear in Jantar Mantar of
 Similarly, during South Korea’s rapid transformation in the 1970s and ’80s it also faced
the same situation like we are facing right now.
In short, the corruption problem is universal and not related with Indian morality or lack of
it. Rather, high economic growth brings with it a set of virtues and vices. But How?
High GDP => High corruption
 If GDP of a country is growing at an average of 8% per year then some sectors are likely
to grow at 15-18 per cent. (service sector, telecom, mining, industries for example)
 Rapid GDP growth makes overnight millionaires, even overnight billionaires, possible in
those sectors.
 So, if government regulations and permissions are required in such sectors, then a
government-business nexus is very likely to emerge. (as it did, in 2G and coal mining)
 Thus, high growth creates enormous opportunities for corruption.
Does it means High GDP growth itself is responsible for corruption? No, not the GDP but the
incentive structure.
The Incentive structure
If Government of India makes a new policy that every Government Primary school teacher’s
salary will be directly proportional to number of students passing from his class. Sounds
good? Well think of the consequences.
a. Now the teacher has incentive to personally look after every student and see that he/she is
learning every lesson.
b. Now the teacher has incentive to setup very easy question paper so that every student
passes in the exam.
c. Now the teacher has incentive to evaluate the answersheets in very liberal manner so that
every student passes in the exam.
d. Hell, now the teacher has incentive to leak the damn question paper one week before the
actual exam or simply dictate answers in the examhall!
Yes, there will be some good teachers, opting for option (a) and there will be some good students
who will study seriously, irrespective of the cheap tricks used by their teacher to up the passing
rate. But by and large, most teachers would opt for the option b, c or d.
Then Government makes excuse “Our policy is good but implementation is bad”, “we send
money from Delhi but State Governments are not doing enough!”
But can a policy be good if it has not taken precautions to prevent bad things @implementation
level, in States and Districts?
 An Economy/country/society works because people respond to incentives.
 Therefore job of the Government is to create laws and policies in such manner that good
people have incentives to do good things and bad people have incentives not to do bad
 If Raja and Kalmadi can walk out jail and walk into parliament again- Then something is
wrong with this incentive structure.
 At the same time, Society too has a role to play in it. If we keep attending and admiring
the lavish wedding reception parties held by corrupt people -our neighbor and relatives,
then we too are creating incentives for them to accept bribes to finance their expensive
Mr. ↑ijay Kharadi (IAS, Gujarat cadre), recently got married. Ofcourse, we’d expect this ought
to be an expensive wedding ceremony.
But it wasn’t. He married in a simple mass-wedding ceremony.
His words, “Spending on extravagant weddings is a complete waste. I am a tribal, and I know my
community lives on the fringes. We need to spend on health and education, not weddings. I want
to set an example by getting married in the simplest way.”

Vijay Kharadi marriage
 In 2011, Erode (TN) District Collector Mr.R. Anandakumar admitted his daughter in
Government primary school. His decision has surprised many parents in the district,
which has a number of well-known private schools.
 Now The Collector will be making sure that Government schools are working nicely,
they has sufficient funds, teachers and infrastructure. It will encourage more parents to
admit their children in government schools and feel safe about their future.

Dr. R. Anandakumar, IAS
Ofcourse the cynics can brush off both Vijay Kharadi
and Anandakumar that “you cannot change the
mindsets of thousands by doing such acts of
symbolism.” But for them Andrew Jackson had said,
“One man with courage makes a majority.”
 In TV Debates, politicians often cite these one
man with courage, as a good excuse to
suggest that “by and large majority of our
ministers and bureaucrats are honest, only a
few bad fishes. Otherwise aal ij well”.
 But “aal ij not well”, otherwise we wouldn’t
be hearing about a new scam every week-
India as a nation, has not done enough
thinking about what kind of laws and policies
are necessary to change the incentive
structures, reducing temptations for bribes and
making politics and bureaucracy much more
High level corruption: Solutions?
 the Use of technology like Aadhaar-UID will reduce lower-level corruption, @district,
tehsil, PDS ration shops, but what about the upper-level, high level, “white collar”
 How about a debate on the reform of election and party financing?
 Can we really clean up the businessmen-politician nexus without reforming how political
parties are funded in India during election campaigns?
Anyways upto this point, the argument was “corruption follows High GDP” .
Now how about the reverse Argument? High GDP follows corruption!
High corruption => High GDP!
 The bribe money in India either goes to tax heavens abroad (Switzerland etc) or gets
invested in gold and real-estate (buildings, farm houses, properties)
 So, if bribe money does not go into tax heavens abroad, it creates employment in India
and improves our GDP!
 Around 2 crore people are employed directly or indirectly in real estate & construction
sector = employment = more demand (because they’re employed so they’ll buy more
stuff)= more production =higher GDP!
 If the corrupt person hosts a lavish wedding reception party = more employment for
cooks and catering wallas.
 if he decides to spend vacation in any tourist resort of India = again GDP boosted.
Is/Can/should GDP alone be the criteria to measure the Aukaat of a Country? And Can “end-
goal” justify the “means” used to achieve it?
If yes, then
 How about cut down all trees, make furniture and export it to USA?
 How about kill all tigers, sell their hides and bones to China and Thailand?
 How about legalizing gambling and cricket betting?
Collective Investment Scheme (CIS) and
Multi-Layer Marketing Frauds
What is Collective Investment Scheme (CIS)?
 The company pools money from various investors and uses the money for a specific
purpose. (for example buying gold or real-estate property or raising pigs/ goats / trees).
 To run Collective Investment scheme, you have to get permission from SEBI.
Why is it in news?
 Beetal Livestock & Farm (P) Ltd
 This company claimed to have large goat-rearing farms in North India and offered
following type of investment opportunity.
1. You give them money, they raise a goat on your behalf.
2. Each goat would give birth to four babies per year, and the new goats would be sold to
other investors, and you will be given profit.
3. This way, you can double your money in very quick time!
 This is one type of Collective Investment scheme scheme. But this firm (Beetal livestock)
has not registered with SEBI, so it could be a Typical pyramid/Multi-level marketing
(MLM)/Ponzi scheme.
What is Multi-level marketing? Why is it
 Suppose you and I ‘invest’ our money in this Goat scheme.
 First problem: There is no way to verify that particular company actually has 2 goats! i.e.
It may have only a single goat, it’ll show that goat to you at one time and show it to me at
second time. Because company is not giving physical possession of goat to us, it merely
promises to raise the goat using our money!
 Second problem: We will get profit, only if someone buy babies of that goat. Since we
want to recover our money, we’ll tell our friends to join the game and invest in that
scheme, then they’ll tell their friends and relatives to invest in the same.
 Thus the pyramid of ‘goat-owners’ keeps growing.
 In such schemes, the company would pay money to people for a while, (to gain good will
and marketing) and then one day, when they have collected enough cash, they’ll shut
down the office and run away to Dubai or restart the same fraud with a new scheme “get
your own Sandalwood tree!”

Menace of CIS frauds
 There are estimated to be more than 500 companies in the country that have undertaken
CIS activities without complying with SEBI.
 Generally, the operators of such schemes offer impressive returns in their initial days to
lure unsuspecting investors and then suddenly disappear after some time, leaving their
investors in a lurch.
 Then they restart similar business under a new name and scam some more investors,
before they come under the SEBI scanner.
 As per SEBI data, more than one lakh investor complaints are currently pending with it in
connection with such schemes.
 Most common CIS frauds are related to investments for real estate properties, plantation
and agriculture industry (e.g. goat scheme), art funds, time-sharing schemes and multi-
level marketing (MLM) schemes, among others.
 There is lack of clarity about roles of different agencies like MCA, SEBI, RBI, State
Governments, Registered co-operative societies etc. These fraudsters take advantage of it.
 Therefore, SEBI has recently asked the government to come out with a separate set of
norms and an independent regulator for collective investment schemes(CIS).
2G scam, Spectrum refarming, Sistema
controversy, Allocation of Natural Resources
Continuing the series of technically not-so-correct articles on economy.
What is Spectrum?
 →henever you watch T↑, receive phone call, send SMS, surf internet….data is being
transferred from one place to another, say Ahmedabad to Mumbai.
 So, If data was a “truck”, how would you transport it from A’bad to Mumbai (or vice
 Obviously via highway.
 Spectrum is that highway.
Based on the ‘width’ of the highways, we classify them into following
Cable TV 145-860MHz
2G 800-1900MHz
3G 2100MHz
4G, broadband internet 2300MHz
(^numbers for illustration only. Different websites will give different numbers.)

 So, →e first send the truck from A’bad to a Satellite hovering in the sky, and from there,
send the truck to Mumbai.
 Problem: satellite=expensive. Private Player(Businessman) cannot afford it.
 Solution: Government launches the satellite using ISRO. Thus the highway (spectrum), is
created. Then Government will charge money to whoever(cellphone company) uses this
highway (spectrum).
 You’re a businessman, you want to launch your own mobile service (like ↑odafone,
Airtel etc). Therefore you’re interested in using this 2G highway, to transport your trucks
(data). You can also use 3G or 4G, which provide faster data transfer, but they’re more
New Problem: to access this 2G highway, you need two things
Problem (businessman’s side) Solution
1. Driver’s License (to operate the truck)
Apply to Department of Telecom.
2. Pay rent/toll for using this highway
(spectrum). Just like you pay for using Bandra-
Worli sea-link or Yamuna Expressway.
Get loan from SBI.Pay the money to
Government. Or even better, bribe
minister so they give free spectrum.
Highways have fixed capacity. So Government cannot give license to 500000 truck-drivers else,
it’ll create traffic jam. So, From Government’s side what should be the “ideal” solution?
1. Check the application of driver: does he have previous experience of running telecom
business? and more importantly his class 10,12 and college marksheets and school
leaving certificate.
2. After verifying his record, Sell the access to this highway (Spectrum).
Another problem: how should Government sell access to this Highway (Spectrum)?
Ans. Two methods, 1) first come first serve 2) Auction.
Both have their advantages and problems.
Method #1: First come First Serve basis
 You already know how cinema tickets are sold. The person who is first in the line, gets
the ticket. If You come late, you don’t get the ticket.
 This also leads to ticket black-marketeering, for example, I come early, buy all the
tickets. You come late, all the tickets are sold, I offer my tickets to you @higher price
and make huge profit.
 This is not good for economy because I’m making money without producing any new
 But according to a theory propounded by Mr.Sibbal, this is “zero loss”. Because Cinema
hall did receive money for ticket sale. So it’s not like Cinema-hall making losses!
anyways, for common men:
1. Buying ticket=not crime.
2. Buying ticket but not watching movie AND selling that ticket to third person @higher
Method#2: Auctioning method
 As the name suggest, Auction the tickets. If person A offers Rs.200 for a seat and Person
B offers Rs. 500 for the same seat, then sell the ticket to Person B.
 From theatre owner (Govt)’s point of view: this method may look good, because now we
can earn more money per ticket sold and use that money to finance whatever
Development scheme we’ve in our mind.
 Here is the problem: if Person B was a doctor, and he had to shell out Rs.500 for one
movie ticket. Then he may charge more fees from patients @his clinic to keep the profit
margin same.
 So overall effect on economy= may not be good.
What happened in 2G scam?
Recall that you needed two things to run telecom business
1. Driver’s license
2. Access to Spectrum (via paying the money to Government)
Government decided that
1. →e will give license by “First come first serve basis”.
2. To get this license, you’ll have to apply before 1
October 2007 and pay money (Entry
Fees) for license.
3. And whoever gets the license, he will automatically get spectrum for free. So no need to
pay separate money for accessing highway(spectrum). This is known as “Spectrum linked
with License”.
4. If we give you the licence (+spectrum), then you’ll have to cover 10 per cent district
headquarters within the first year of the allotment (i.e. you start serving customers in that
area). This is known as “Roll out Obligation.”
And then, what happened next, is a classic case of cinema ticket black-marketeering.
Swan Telecom(Shahid Balwa)
 A new company, it had no experience of running telecom business.
 Yet it applied for license and got it.
 (officially) SWAN telecom paid about Rs.1,500 crores to Government, as 2G Spectrum
License fees.
 But this company did not open a single outlet/mobile tower. So it didnot meet the “Roll
out Obligation”.
 It simply sold 45% stakes to UAE’s Etisalat for around 6000 crore rupees. Calculate the
 Shahid Balwa was arrested in 2011, released on bail, thus proving that he is totally
 His argument in the court, “Since Mr Sibal and the PM have both said that there was “no
loss” to the government from the allcoation of licenses in 2008, so I’m being wrongly
accused of corruption and conspiracy.”
Unitech (Sanjay Chandra)
 This company didnot have any prior experiance of telecom business.
 Yet, Applied for license, paid $365 million as licence fee to Government.
 Did not open any outlet/mobile tower.
 Then sold 60% stakes to Norway’s Talenor for $1.36 billion= huge profit without doing
 Thus name of company changes: Unitech+Talenor=Uninor.
 Recall: bought the ticket, did not watch the movie and sold the ticket to third party
@higher price.
A.Raja (Telecom Ministry)
Behold my awesomeness.
 Ignored the advice of PM, Finance Ministry, Law ministry, TRAI etc.
 TRAI had advice Raja to sell the spectrum via ‘auctioning’.
 But Raja used “first come first serve basis.”
 Licenses were sold in 2008 but the price (entry fees) were kept very low @2001’s market
 Initially the last date to apply for licenses = 1
October 2007. But then Raja changed
policy “we’ll give license to only those companies who applied before 25
Sept.” This
way later-comers could not get license (and had to buy it from ‘black market’).
 He allowed ineligible companies to apply and get license (e.g. Unitech)
 The companies who got license but did not start business (UNITECH and S→AN)…Raja
did not take action against them. He should have cancelled their licenses or imposed
heavy fines on them.
 Companies paid him the bribes, he transferred money to bank accounts under his wife’s
name in Mauritius and Seychelles.
 Arrested in 2011, got bail in 2012, came back in parliament, thus proving that he is
totally (and that means totally) awesome.

 DMK MP, Daughter of Karunanidhi.
 Shahid Balwa (SWAN) got benefit because of Raja. So he
had to pay the ‘bribe’.
 He transferred Rs.200 crores to “Kalaignar T↑ channel”,
which is owned by Kanimozhi and her step mom Dayalu
Amma and other family members.
 Arrested in 2011, got bail in 2012, came back in parliament,
thus proving that she too, is totally awesome.
Neera Radia

Her Shawl is worth Rs.1 Lakh
 There are some phone-tapes, in which this lady is
talking with Barkha Dutt (NDTV fame).
 To put this bluntly, Radia allegedly paid money to
Congress party, to get Raja appointed as telecom
minister. Then Raja could use the office to benefit
particular companies in 2G auction (who had
financed his ‘posting’).
 This phone scandal is known as “Radia Gate”.
 Only questioned, not arrested, and it is said that she
wore a Kashmiri shawl worth Rs.1 lakh during
questioning by Enforcement Directorate, so she too
is totally awesome.
 Now that shawl has become so recognisable that
Kashmiri shawl sellers have started referring to it as
the Radia shawl and sales of it have shot up= good
for economy, GDP increased.
There are some other players too- RK Chandolia, Siddharth Behura et al, but you get the idea-
they too are totally awesome.
CAG: 1.7 lakh crore loss

CAG Vinod Rai
 The 122 2G licenses were given by Raja for over Rs 9,000 crore.
 While 3G auctions for a smaller number of licenses had fetched the government a sum of
Rs 69,000 crore.
 Therefore Government has lost money (Besides, whatever money made by ticket black-
marketeers, is loss to the cinema hall owner)
 The question remains, how much money was lost?
 CAG says Government lost Rs.1.76 lakh crores, it has come to this figure, using
extrapolations from
1. licenses were sold in 2008, @the MRP of 2001
2. The money received from 3G auction vs the money recieved from 2G license.
3. 2G Spectrum was allotted for free. (recall Government only asked for entry-fees for
licenses. Spectrum was linked with License). 2G-Spectrum should have been auctioned.
4. Profit made by Swan and Unitech etc. through black-marketeering.
Parliament -JPC
In Feb-2011, Parliament Constituted a Joint parliamentary Committee to probe the 2G scam. No
“real” progress so far.
Supreme Court verdict
 Subramanian Swami, filled a petition in Supreme court, regarding the irregularities in 2G
 The case went on, finally in Feb 2012, The Supreme Court cancelled 122 licenses issued
in 2008, by A Raja when he was Telecom Minister.
 Supreme Court said, these licenses were granted in an “arbitrary and unconstitutional”
 SC asked the Telecom Regulatory Authority of India (TRAI) to recommend a new
process of allocation of licenses, along with guidelines for an auction of spectrum.
 Supreme Court has also ordered Government to finish the auctioning before Jan-2013.
Presidential reference on SC verdict
 After above verdict of Supreme court, Government decided to get clarification, on
whether should every natural resources (coal, gas, petroleum, water etc) be allotted
through auction only. (although technically “Spectrum” is not a natural resource, it is
generated because of man made satellites.)
 But, Mohan cannot just call any SC judge and seek clarification. A procedure has to be
 Through Article 143 of the Indian constitution, the president can refer matters of public
interest to the Supreme Court and seek their opinion. This is known as “Presidential
 Here, first the Cabinet headed by Mohan approves a resolution that “→E need to send
presidential reference in this xyz matter.”
 Letter goes to President of India, then he/she sends a new letter to Supreme court asking
“what should be done in this XYZ matter?”
Supreme court on Presidential Reference
 Supreme court said auction cannot be the only method of allocating natural resources, it
should be considered on a case-by-case basis.
 Earning maximum revenue is secondary to serving the public good in allocating
natural resources.
 But if allocation of a particular resource is going to get sudden huge profit to a company,
then such resource should be allotted through auction only. (for example 2G spectrum).
 In anycase, all decisions and actions of the government are open to being questioned by
the court.
Apart from that, a committee on allocation of natural resources, headed by Ashok Chawla, also
recommended the adoption of a transparent and competitive process for the allocation of natural
Impact of License Cancellation by Supreme
 Since the license are scrapped, and new auction will be held = input cost of mobile
companies will increase.
 So, They’ll increase the call-rates to keep the profit margin same.
 Therefore final consumer (common men) become the innocent victim in this game.
Foreign Investors
 Norway’s Talenor and UAE’s Etisalat Company had paid heavy price to invest in the
telecom sector of India.
 But since the licenses are cancelled, in future, the foreign investors will be extremely
cautious before investing in India, particularly in the sectors related with “allocation” of
spectrum, coal mines etc.
 The reputation of Government =already down. So in terms of reputation they’ve got
nothing to lose.
 They make excuse that 1) 2G =Zero loss. 2) Since licenses were not auctioned =
companies got them cheap = call rates were cheaper = public benefited from this.
 Congi Government also maintains that we merely followed the policy of NDA (BJP), i.e.
spectrum was linked with license and first-come-first serve basis. So, if our seniors did
brutal ragging on us in the hostel, then we too will continue the glorious tradition by
brutally ragging our juniors.
 Anyway nobody is a saint when it comes to allotment of land, coal reserves, spectrum etc
be it congress, BJP, state Government, union Government. because everybody needs
truckload of cash to finance election campaigns.
 Now Government will auction some 2G spectrum in Nov 2012 and expects to earn
around Rs.40,000 crores.
 And this money could be used to solve the fiscal deficit problem (click me) or
to finance any new Government schemes for poor people.
 SBI, PNB and other banks had landed to some of those telecom companies and now
licenses are cancelled, so loan-money is stuck.
 Anyways, nothing new for SBI- their loan-money is stuck with Vijay Mallya (Kingfisher)
Innocent aspirants of competitive exams
 They’ve to prepare one more stupid topic for exams/group discussion /interview.
 Anyways, nothing new for them either, they’re used to this irony of life.
Sistema –Russia issue
 Just like Telenor (Norway) and Etilsat (UAE), Sistema (Russia) is also a foreign telecom
 Sistema had bought stakes in an India company (Shyam Telecom), but then Supreme
court cancelled their license.
 Now Sistema has appealed the Supreme court to restore its license, current matter is
pending in court.
 In the light of this event, Russian Government has warned India that
1. “If the issue of cancellation of 2G license to Sistema is not resolved in Indian courts, we
will go for international arbitration.” (because Russian Government too holds about 17%
in this Sistema-Shyam telecom company.)
2. Row over Sistema will have “great repercussion” not only on Indo-Russian bilateral
cooperation but also for foreign investments in India.
3. We will not let Sistema’s USD 3.1 billion investment in its Indian telecom venture go
waste due to “internal problems” here.
Spectrum Refarming
 This is a separate issue, not directly associated with 2G Scam of A.Raja.
 In 2001, some companies got License + free spectrum (900 Mhz). (recall that Spectrum
was linked with the license.)
 They’ve to renew their license in 2014.
 But now Government has changed policy. According to new policy, Spectrum is de-
linked from License. So you’ve to apply for license separately and you have to purchase
spectrum separately (through auction).
 Telecom Regulatory Authority of India (Trai) has suggested that existing mobile
operators will have to surrender the spectrum in the 900 Mhz band at the time of license
renewal in 2014.
 And then, this 900 Mhz spectrum will be auctioned again.
 Under this so called “Spectrum-refarming” process, if the companies manage to win in
the auctions, they will be able to retain the spectrum or, in lieu, they would be given the
1,800 MHz spectrum via another auction.
 Telecom companies are against this decision.
 Their argument, “we’ve already invested more than one lakh crore rupees in machinery,
mobile tower, other infrastructure for 900Mhz spectrum. If you take this away and give
us new type of spectrum, we’ll have to buy new machines=we’ll increase call rate price
to cover the losses”.
 The matter will now be decided by Empowered group of ministers (EGoM).
National Investment Board (NIB): Meaning,
Functions, Anti-Arguments
Infrastructure Bottlenecks?
 Infrastructure= railways, roads, ports, thermal plants etc. that are essential for other
economic activities.
 Infrastructure projects worth over Rs 7 lakh crore are pending because environment
ministry is not clearing the files.
 Every time a coal miner wants to increase production, he has to get fresh clearance from
environment ministry. It is time-consuming. This has led to low coal-output= thermal
power plants cannot produce much electricity =grid failure, as we discussed in earlier
article CLICK ME
 Another example: If you want to open a thermal power plant, you need to get a file
cleared from the Coal Ministry. But to get that file cleared, you need to get environment
and forest clearance from Environment Ministry. Even if environment clearance is given,
forest clearance may take longer or even ultimately be denied. Thus, some power projects
are not executed for several years, even after winning an auction.

 To extract bribes, the corrupt bureaucrats intentionally delay the files.
 But sometimes even honest officials delay the files because of media-sensationalization,
NGO-lobbies, CAG-activism, judicial activism, R.T.I activism…they fear if some scam
comes out and if their signature is on the approval file, then they’ll get victimized or
made scapegoats. So they too avoid taking decisions.
Because of ^these issues,
1. There is huge infrastructure deficit (=not enough rails, roads, power stations, electricity
output required to get 9% GDP growth).
2. Delay in project= input cost increases= indirectly this leads to inflation (price rise)
3. Because files are not cleared= production/construction doesn’t start= Less employment
opportunities, directly (in the coal mine itself) and indirectly (in some xyz factory that
will use that electricity).
4. Government is unable to achieve the Five year plan targets. Check this table: Source:
Department of Economic Affairs.

What is National Investment Board (NIB)?
Chindu has proposed to setup this National Investment Board.
 At present, the final decision/decisions are to be taken by one or more ministries.
 This is the reason why a truly “final” decision does not emerge for many years, proposal
files keep making merry go round from one ministry to another ministry.
 Therefore, the power to take the final decision should be vested in separate board.
 This would be called “National Investment Board”
 Basically it’s a cabinet sub-Committee, chaired by the Prime Minister + FM, Law
Minister as its members.
 For granting/refusing FDI- approvals, there is already a Foreign Investment Promotion
Board (FIPB). And it has lead to fast clearing of files and boosted investment.
 NIB will provide the same benefits, especially in the infrastructure sector.
 Prime minister has talked about a new phase of reforms unleashing animal spirits.
Hunting is a prime example of the latter and it’s high time we created a body that went
out and energetically sought investment for India amidst an exciting global jungle.

Functions of National Investment Board?
1. At first, NIB will focus on clearing investments project of Rs. 1,000 crore/more in roads,
mining (especially coal), power, petroleum and natural gas, ports and railway projects.
2. A dedicated secretariat (staff) will support NIB to identify and monitor key projects and
3. In the long run, NIB will serve as an ‘arbitrator’ i.e. If a company feels that its
applications for infrastructure projects has been delayed or even rejected by some
Ministry or Department without sound reasons, then it can approach NIB for clearance.
4. NIB will be to take over the process of granting licences, permissions and approvals
whenever the respective ministries fail to act in time.
5. Once the final decision is taken by the National Investment Board (NIB), no other
Ministry or Department or Authority will be able to interfere with that decision or delay
its implementation.
1. The main objective of NIB seems to shortcircuit or overtake Environment Ministry for
granting project approvals. But NIB might end up approving projects that are not good
from long-term environmental view.
2. Creation of such an entity might lead to lax environmental standards and social
safeguards (i.e. problems of displaced families because of a project).
3. Government should worry about not just growth but green growth.
4. NIB has no constitutional authority and its creation will decimate (wipeout) the role of
the Environment ministry
5. NIB will turn individual ministries and departments into rubber-stamps.
6. Setting up NIB suggests that existing institutions are not functioning properly. But
Creating more institutions to fix existing institutions, is like firefighting. The real long-
term solution = re-write the office-manuals/ standard-operating-procedures for each
ministry to prevent file-delays and the tendency to evade responsibilities.
7. Many projects in the railways, coal, telecom, petroleum and power sectors are delayed
due to “law and order problem” (=naxalites). NIB is no panacea for this.
8. Speedy project clearances and implementation would require solutions at the district
administration and state Government levels, where the NIB would not be of help as it will
comprise representatives only from central ministries.
Which of the following statements are correct, regarding the Proposed National Investment
1. It’ll be headed by the Finance Minister.
2. It’ll deal with granting/refusing the FDI in retail, aviation and power-sector.
Answer choices:
a. Only 1
b. Only 2
c. Both 1 and 2
d. None
Fiscal Cliff: Meaning, Reasons, Implications
on US and Indian Economy explained
Fiscal Cliff= new kid in the town. Before getting his introduction, let’s meet his mom and dad.
You’ve already met his dad, Fiscal Deficit. If not click me.
Now meet his mom, Subprime Crisis.
What was Subprime crisis?
Subprime crisis is also mother of all problems: LIBOR, Eurozone etc. (atleast partially).
1. You’re running a bank/Non-Banking Financial company that gives loans, and I’m
basically a loser who doesn’t have the aukaat (capacity) to repay any loans.
2. Yet, You (American Bank) give me loan of $20,000, And I give you paper saying “if I
don’t pay back, you can take away my house.” This is mortgage.
3. →ait a minute, if I don’t have the capacity to repay the loan, then why the hell are you
giving me a loan in the first place? Well, Two reasons
i. Banks decide Loan interest rate based on a person’s creditworthiness. So in my case you
can demand higher interest rate=good for you.
ii. You’re also speculating that in future the real-estate prices will increase, so even if I can’t
repay the loan, you can attach my house and sell it off to recover your loan.
Thus, it’s a win-win situation for you whether I pay back the loan or not, you’re going to make
good profit.

Now, Back to the topic
4. Like this, you gave $20,000 loans each to 5 unworthy people= your investment is 1 lakh
5. Now repack those mortgage papers (security) in a new file and make a new security
paper “anyone who gives me $1,50,000, I’ll give him mortgage papers of 5 houses” = this
is derivative product. (Because it derives its value from some other thing)
5. See? You are making profit of $50,000 and you don’t even have to bother about EMI
payments, interest rates anymore.
6. Suppose 3rd guy bought such derivative papers and after few months, he repacks them-
makes another derivative product and sell it to 4th guy.
7. Such papers are one sort of ‘asset’ (because you can get money by selling it to someone.)
8. but as you can see, in above cases, people are not creating any ‘new asset’, they just keep
repacking and reselling same stuff over and over to different people. So you’re blowing
an ‘asset-bubble’.
9. After few months, I, the bottom guy in food chain, refuse to pay loan-installments
(EMIs), and I tell the 4th guy to take away my house (mortgage).
10. Fourth guy takes away my home, but since banks gave loan to so many unworthy people,
there is over-saturation or over-availability of houses for sale in the real estate sector. So
no one is ready to pay you even $5000 for that house. = This is ‘toxic asset’ your asset
bubble is ‘burst’.
11. The banks, pension and insurance fund managers of Europe had also invested in this
game. They also lost. So in that way, Subprime crisis played a role in future Eurozone
crisis. Click ME
12. A bank of London named Barclay also lost money in this game, that led to LIBOR crisis.
Click ME
^This is just a crude explanation of what happened in sub-prime crisis. Otherwise the actual
crisis was result of many layers of refined and sophisticated loan and investment products
interlinked with each other.
 Anyways, the Sub Prime crisis had negative effect on every sector.
 Stock market crashed, Companies started dismissing local staff (especially those banks
and mortgage companies).
 If parents were working in some private company, lost jobs or their salary was reduced=
they’d not hire maids or babysitters anymore, they’ll buy less clothes and toys for their
kids, they’ll not goto some holiday resort during vacations. So indirectly many sectors get
 More unemployment= less product demanded by those unemployed families=even more
factories close down=even more unemployment. Cycle goes on.
But why is it called “Sub-prime crisis”?
If a person has full capacity to repay loan, we call him “prime”. Therefore I’m ‘subprime’
because I did not have full capacity to repay the loan, my credit rating was bad. Yet you gave me
loan and ran into trouble= sub-prime crisis.
What was US-Government’s response to Sub-
prime crisis?
1. US Government has things like Social Security, unemployment allowance, food stamps
etc. to take care of those jobless families.
2. President Obama started some federal construction projects (roads, bridges etc.) to create
3. Government also bought those toxic assets to rescue the banks.
4. The Feds (RBI of USA), decreased its lending rates so other banks could borrow at
almost 0% interest rate from the Central Bank and then give cheap loans to needy people
and businessmen.
5. Gave income tax cuts to workers. So they can save at least $1000 from their salary or
6. Same way tax-benefits to private companies, If they invest money in research-
development etc.
^President Obama took these steps to increase money in the hands of American people, so they
can go out for shopping = demand of more products and services= more employment could be
But of course, money doesn’t fall from sky.
1. Giving tax-cuts to workers and companies= incoming money reduced for the
2. Giving unemployment allowance to jobless people= outgoing money increased.
3. +daily huge expenses for keeping army in Iraq and Afghanistan= outgoing money
already high.

You already know when outgoing money is higher than incoming money = fiscal deficit.
Fiscal deficit is a big pothole in the road to country’s prosperity. This pothole can be filled with
cash only. If this pothole keeps increasing in size then it’ll lead to very bad effects on economy.
So, President Obama had planned some things in advance to increase incoming money and
decrease outgoing money for the Government. These plans are:
 Most of the tax-cuts, tax-benefits given to people will be removed from 1
January 2013.
 For example, earlier the people were given tax-cuts if they adopted a child, invested
money in children’s college education plans, or businesshouses invested in research and
Development etc. All that will expire from 1
January 2013, thus they’ll have to pay
higher taxes.
 Many of Government sponsored programs in space research, military research, lengthy
unemployment allowances etc. will be either paused, reduced or shut down from 2013.
(More than 900 billion dollars saved at the end of 2013)
If things go in ^this way, US Government will earn 4 trillion dollars in next 10 years. That’ll
cover up most of its huge fiscal deficits and past mistakes. (i.e. buying toxic assets, money
wasted on Iraq-Afghanistan and most importantly Pakistan).
Ok sounds well and good, but
What is fiscal Cliff?
 American economy was going through bad phase due to sub-prime crisis.
 So President Obama had to give stimulus to boost this economy (tax-cuts to companies,
buying toxic assets from banks= examples of fiscal-stimulus.)
 Fiscal-Stimulus are similar to Steroids. If an athlete takes steroids, it will temporary
improve his performance and take him towards the peak performance.
 But once you stop giving him steroids, his performance will suddenly decline. It will feel
like falling off a cliff. Observe this graph:

Technically speaking
What is Fiscal Deficit?
1. Fiscal cliff term refers to more than $500 billion in tax increases and across-the-board
spending cuts scheduled to take effect after 1
January 2013.
2. Many economists say these new taxes and spending cuts would be too much deficit
reduction, too suddenly, for a weak economy. It’ll lead to an economic recession.
Why is Fiscal cliff bad for US Economy?
 When people have to pay more taxes= less money in their hands = less money to spend
on cinema and Christmas vacations= less demand of products= not good for economy.
 When Government reduces research in space, military programs = many people affected
directly or indirectly. E.g. less funds for space research = less demand for electronic
instruments, metals, pen-pencil-rubber required in those programs.
 Again, If parents were working in some Government-research program/ private company,
lost jobs or their salary was reduced, they’d not hire maids or babysitters anymore, they’ll
buy less clothes and toys for their kids, they’ll not goto some holiday resort during
vacations. So indirectly many sectors get affected.
If President Obama’s plan is carried out, then
1. Middle class families of USA, will have to pay average $2000 more in taxes every year.
And $2000 is a big amount given that many people in USA don’t earn more than $40,000
a year. So imagine the reduction in their purchasing power.
2. Overall, American public will have to pay $500 billion more in taxes.
3. More than 10 lakh people will become jobless.
^These numbers vary from site to site, if it’s a pro-Republican party newspaper or expert- they’d
say 20 lakh American will become jobless, but some other Pro-democratic party newspaper or
analyst would say only 7 lakh will be jobless.
 Anyways, The point is, American Households and businessmen are accustomed (used) to
a certain way of spending and saving habits in past four years and Obama plan will break
that status quo = not good for economy, at least for the short term. It’ll lead to a decline
in GDP.
 Observe this graph

What will be the Effect of Fiscal Cliff on
1. If American consumers have less money = they buy less= not good for Indian exporters
(especially polished diamonds).
2. Many American companies outsource their research and development work to India,
particularly pharmaceuticals (clinical trials of drugs), software, engineering. If Obama
removes the tax-benefits given to them (+consumer demand already down)= they’ll either
delay payments, cancel or renegotiate the contracts given to the Indian companies.
3. If American Corporate have to pay huge taxes @home, and consumer demand is already
low, they’ll try to concentrate more on India and other emerging economies to get new
customers (Retail, Aviation, Pension-insurance) = More FDI may come to India.
4. Americans already burned their hands in share-market and real-estate, if this fiscal cliff
leads to recession, they’ll park their money in GOLD = demand of gold increased= gold
becomes even more expensive = bigger Current Account deficit for India (because we too
love gold) = Rupee weakens against dollar, because when we import gold, we’ve to pay
in dollars= we’ve to pay more rupees to buy same amount of crude oil = petrol price
increase = inflation.
For the entire Archive of all my articles on [Economy], visit this page:
Infrastructure Debt Funds (IDF),
Withholding Tax, EPFO Angle: Meaning,
Concept, Explained
What is Infrastructure?
Things that are essential for functioning of economy: roads, sea-ports, airports, railways, metro
rail, electricity-generation etc.
Why is Infrastructure important?
 GDP=Money value of all goods and services produced in a country within a year.
 If there is shortage of electricity, factory owners cannot produce lot of mobilesets, TVs,
refrigerators. = Production of goods decreases.
 If there is shortage of electricity, hospitals cannot carryout X-ray, CAT-scan etc. =
Production of services decreases.
 Therefore, good quality Infrastructure is essential for achieving high GDP growth (9%).
What is the problem with Infrastructure?
 Government estimates that one trillion dollars will be required in next 5 years to finance
all the important infrastructure projects.
 But Government cannot finance all those projects by itself. Because they’re already
spending lot of money on Food-Fertilizer subsidies, MNREGA, Air-India etc.
 Government cannot merely print more suitcases full of money to finance these
infrastructure projects, else it’ll create inflation. click me to know why
 If Government borrows money from public, to finance these infrastructure projects, it’ll
severe the problem of fiscal deficit.
 So, Government wants 50% of that required money to come from private sector (banks,
domestic and foreign investors.)
What is problem with Banks?
 Such infrastructure projects require long-term funding for 20-25 years, but banks are
already ‘exposed’ to too much risk (loans given to 2G players, Vijay Mallya etc.) In the
present situation, banks are unable to finance infrastructure projects for more than 5-7
years time-frame.
 Hence, there is need to channel money from the hands of investors into infrastructure
projects. (+ also need to reduce investment in Gold, because it increases current-account-
 To achieve this, Government has come up with new idea = Infrastructure Debt Funds.
Mechanism of Infrastructure Debt Fund
You already know about Debt Vs Equity, Shares vs Bonds, if not click ME
In technically-not-so-correct term, Infrastructure Debt Fund (IDF) essentially means that
1. You invest money in an IDF company.
2. IDF company lends your money in some Infrastructure project company (as Debt).
3. That infrastructure project company pays interest rate to IDF Company.
4. IDF company gives that interest money to you. (after cutting its commission). Thus you
make profit on your investment.
Tax Policy to Attracting investors
By merely allowing creation Infra Debt Funds, Government cannot bring in the investment in
infrastructure projects.
Government also needed to give some benefit (carrots) to lure the investors.
Finance Minister has given two carrots
1. Withholding Tax reduced from 20% to 5% (for foreign investors)
2. Money earned from IDF is exempt from income tax. (for desi investors)
What is withholding Tax?
 Suppose a non-resident (foreigner), lends money to an Indian company and earns Rs.100
interest per year.
 Earlier he was supposed to pay Rs.20 to the Government, but from now onwards only
 It is called withholding tax, because he (foreigner) doesn’t need to pay the tax himself,
but the company who borrowed money, is required to ‘withhold’ it and give money to
 Example you (foreigner) loaned me (Indian company) some money. On 1
I’m supposed to pay you Rs.100 as interest, but I’ll give you only Rs.95, and put aside
Rs.5 and send it to Government as ‘withholding tax’.
 Since Government reduced withholding tax from 20% to 5%, that mean you (foreign
investor) can earn more money, so this way Government has tried to seduce the foreign
investors, into investing in Infra-Debt Fund in India.
First Infra-Debt Fund of India
 The first IDF-fund of India, was setup by a consortium (gang) of ICICI, BoB, Citi bank
and LIC.
 This entity will work as a Non-Banking Finance Company (IDF-NBFC), and hence
they’ll come under the jurisdiction of RBI.
 They could have set it up as a mutual fund company, but then they’d have come under the
jurisdiction of SEBI.
Anyways, shareholding pattern is
Member %
Bank of Baroda 30
Citi Bank 29
LIC 10
Total 100%
^there is no need to mugup, this is just for information.
We can speculate that near future, SBI will also come up with something like this, to counter
Why EPFO interested in Infra-Debt Funds?
Problem with EPFO
 Employees’ Provident Fund Organization (EPFO) takes money from people, invests it
shares and bonds, earns money and pays it to the EPFO subscribers. (After cutting its
 Central Board of Trustees= the decision making body of EPFO. It is headed by Labour
 They’ve made rule : EPFO must invest in Government-securities (G-sec) and companies
AAA credit rating only.
 Problem: Most companies don’t have AAA-rating, so EPFO is forced to park majority of
its money in Government-securities (G-sec).
 Recall the concept of Gilt-edged securities (click me). Government/ treasury bonds are
more ‘reliable’, hence, they pay less interest. (because they don’t need to seduce investors
by offering higher interest rate, unlike some junk bond company with “C” or “D” credit
 So, ultimately problem for EPFO managers= G-sec doesn’t pay much interest. (Around
8% only).
 While New Pension Scheme (NPS) managers, invests in many other places, including
risky bonds, and make around 12% profit.
 If things go on as usual, then in long term, people might switch from EPFO to NPS and
other various pension-provident-retirement policies offered by private firms like Max
Life insurance, Bajaj Alliance, Kotak Mahindra etc. to get better deals.
 Therefore, EPFO wants to invest money in Infrastructure Debt Funds (IDF) to earn more
profit to give better ‘return-on-investment’ to its subscriber. It is looking forward to
invest about 5 lakh crores in IDF funds.
 But newly formed Infrastructure Debt Funds (IDF) companies will not get AAA credit
rating immediately. So EPFO needs approval from Central Board of trustees to modify
the investment rules. And since Central Board of Trustees, is headed by labour minister
so essentially EPFO needs approval of Labour Ministry.
Mock Questions
Q1. Regarding Infrastructure Debt Funds (IDF) in India
1. The first IDF fund was setup by State Bank of India (SBI)
2. IDF is exempted from Withholding tax.
Which of above is/are correct?
a. Only 1
b. Only 2
c. Both
d. None
Q2. Find Incorrect Statement
1. The apex decision making authority for EPFO rests with the Finance Minister of India.
2. Withholding tax is an example of Indirect Tax
a. Only 1
b. Only 2
c. Both
d. None
Q3. Which of the following fund receives the proceeds from disinvestment?
1. Infrastructure Debt Fund
2. Consolidated fund of India
3. National Investment Fund
a. Only 1
b. Only 2 and 3
c. Only 1 and 2
d. Only 3
GMR-Maldives Airport Controversy, IFC,
AAI: Meaning, Reason, Implications,
What is GMR?
 An Indian company dealing with infrastructure related business: airport Management,
coal mining, highways etc.
 It operates the airports in Delhi, Hyderabad and Turkey.
 Grandhi Mallikarjuna Rao founded this company, hence the name “GMR”.
Delhi Airport Management
 Delhi airport is managed by Delhi International Airport Ltd or DIAL.
 But that company created by partnership between GMR + Airports Authority of India
(AAI) etc.
What is Airports Authority of India (AAI)?
 Public Sector Undertaking (PSU)
 It operates more than 100 airports in India
 AAI also works as traffic police of Indian airspace. (Air Traffic Management).
 AAI has undertaken GAGAN project with Indian Space and Research Organization
(ISRO). So aircrafts are fitted with GPS, and AAI’s command centre will monitor them
via satellites for efficient traffic Management.
What is GAGAN?

 GPS Aided Geo Augmented Navigation (Gagan).
 GAGAN GPS devices help pilot to fly in difficult weather, fog, tough terrains.
 They also help in efficient Air traffic Management= less fuel burned by aircrafts= less
Anyways enough sidetalk, back to the issue.
First question: Why the hell would GMR want to run airport in Maldives?
Well, for the same reason Ekta Kapoor makes Saas-Bahu serials= to make truckload of ca$h.
When you own an airport, you can make money via
1. Car Parking fees.
2. Renting rooms to Jet-Airways, Kingfisher to run their ticket booths.
3. Open or rent food-stalls, duty-free liquor stores etc.
4. Charing money on airlines to use the air-strip, fuel refilling,.
Male International Airport, 2009
Second Question: why would Government of Maldives want to give away the airport
Management to a private company?
 Male=capital of Maldives.
 Maldives is a tourism economy. Their annual GDP=$2 billion annual GDP.
 About 1/5
(=20%), of that GDP comes from this Male Airport.
 So far this Male Airport was managed by Maldives Airports Company Limited (MACL).
 Maldives Airports Company Limited (MACL)= 100% Government owned company.
 In 2009, Government decided to to handover Management and control this airport to a
private company.
But Why?
 Well, for the same reason why experts recommend that Air India should be privatized.
Because Government owned companies are mired with inefficiency and loss-making.
 Besides Maldives Government itself did not have enough money to develop or modernize
the airport, they were looking for some foreign private investment.
 Therefore Government of Maldives (under President Nasheed) decided to invite
“Biddings/tenders” for privatization of Male Airport: →hichever foreign company agreed
to share maximum profit with the Government, will get the contract to run the airport.
 But the bureaucrats of Maldives= had no prior experience of how to evaluate the
financial, legal and technical worthiness of foreign bidders.
 So, Government asked International Financial Corporation (IFC) to oversee the bidding
What is International Financial Corporation
 For that, we’ve to go back to Bretton Woods (CLICK ME).
 Bretton Woods conference led to creation of three organizations:
1. IMF
3. World Bank
World Bank is made up of five organizations:
Arm of world bank Role
1. International Bank for
Reconstruction and
Development (IBRD)
Give loans @market rates to middle class and poor
2. International Development
Association (IDA)
Give loans @ZERO interest rate to poor countries.
+knowledge sharing, health education etc.
3. Multilateral Investment
Guarantee Agency (MIGA)
Loans and insurance to private companies, when they
invest in Developing countries.
4. International Centre for
Settlement of Investment
Disputes (ICSID)
To settle investment disputes between foreign investors
and their host developing countries.
5. International Finance
Corporation (IFC)
 When foreign investor, wants to start business in
developing country, IFC provides financing and
technical advice and assistance, works as a
 So, Aim of IFC= boost private investment in
developing countries.
 Anyways IFC was tasked to manage the bidding process for privatization of the Male
airport to ensure fairness.
 Big players such as GMR, Reliance and other companies from Switzerland etc. were in
the competition.
 The whole bidding process, checking applications etc. went on for 10 months (which is
roughly the same time it’d take UPSC to declare official answer key for any exam under
Finally GMR of India, won the contract in 2010 (when Nasheed was the President of Maldives).
They got the right to run Male Airport for 25 years.
And the contract had provision: If there is any dispute in future, either party (Government or
GMR) can approach the High Courts of London or Singapore for settlement.
Coup, Feb 2012
 Fast forward to Feb-2012, There was a coup in Maldives, Nasheed had to resign and
Waheed became the new President. (We already discussed this in previous article, click
 During all this time, there was political debate over privatization of Male Airport.
 Some politicians and experts projected that Government itself can run the airport (via that
company MACL) and make 4 billion dollars till 2035.
 But now we’ve handed over the operation to private company GMR, they’ll barely give
1.5 billion dollars to Government, during this period.
 Second, after getting the contract to run Male Airport, GMR decided to charge each
passenger: $25 as Airport Development Charge (ADC) + $2 as insurance = total from
 But the local court of Maldives ruled that it is one sort of ‘tax’ and tax cannot be levied
on passengers without approval of parliament. Therefore, GMR cannot collect such
charges from Passengers.
 However, GMR says “This was all written in our contract agreement with previous
President →aheed took the opportunity and started saying “GMR contract is not in best interest
of our country. They had got the contract by bribing previous President Nasheed. So we’ll take
over the airport Management. Our Government company MACL will run this airport.” He also
ordered criminal investigation against the company.
Singapore Court, Dec.2012
 GMR took the issue to Singapore’s Arbitration Court.
 In December Supreme Court of Singapore ruled in favor of Waheed, that Government of
Maldives has full right to terminate contract.
 Now GMR has hired best lawyers and they’re studying the judgement. They plan to sue
Government of Maldives for $800 million dollars for the losses caused.
Indian Government’s response
 Initially Government made aggressive statements like “this will affect foreign investment
in Maldives, we are committed to protect the interst of Indians abroad etc.etc.etc.”
 But after Singapore judgement did not come in favour of GMR, Salman Khurshid says
“this is all legal matter, we respect the judgement.”
Should India stop giving ca$h to Maldives?
 From earlier article, you also know that India gives truckload of financial and technical
aid to Maldives (and also to other poor countries of the region such as Bhutan,
Bangladesh, Myanmaar).
Rich nation gives aid to poor nation, for three main reasons
1. Whenever there is voting in UN general assembly or other forum, the poor nation will
vote in favor of rich nation. (e.g. Kashmir or Arunanchal pradesh border dispute, or
WTO, Climate-change agreements).
2. Poor nation will allow the rich nation to construct military, naval bases, radars, missile
defense system etc. in its territory.
3. Poor nation will allow rich nation’s companies to get mines, mineral and other contracts.
Indian Government was planning to cancel financial aids to Maldivian Government, to force
them into settling issue in favor of GMR. Experts are against this move because
1. If India stops giving money to Maldivian Government, then China (or US) will step in,
start playing big-brother and giving cash to Maldives.
2. Loss of good will among Maldivian citizens.
3. Apart from GMR, Indian companies like Tata, Taj etc. invested in Maldives. So if Indian
Government stops financial aid, then Waheed could start harassing them also.
Should India be Assertive?
Some other experts say India has not been “Assertive” in its diplomacy, and that led to GMR
Now what is this “assertiveness”?
Dictionary meaning: Aggressive self-assurance.
Practical meaning: Mohan should call up Waheed and threaten him that
1. I’ll stop or reduce financial and technical aids given to your country.
2. I’ll also start bullying and harassing your companies working in India via Income Tax
3. I’ll start giving money, weapons and shelter to opposition parties, rebels of your country.
4. I’ll increase taxes on goods imported from your country.
5. I’ll hatch some conspiracy to get you out of office. (sting operation, buying coalition
partners of Government.)
6. I’ll order my state media, psuedo-civil society organization etc to bad mouth you in India
and abroad about Human rights violation, corruption etc.
 Traditionally US and Chinese Governments are very ‘assertive’ almost ‘aggressive’ when
it comes to protecting their national and commercial interests.
 But it doesn’t mean they’ve always succeeded.
 For example, In 2011, Myanmar Government suspended $4 billion Chinese project to
build a large dam on the Irrawaddy River. This happened despite China’s strong support
to Myanmar during its long years of international isolation and Western sanctions.
 China’s relationship with Myanmar is much stronger than that between Delhi and Male.
Yet China had to display patience and hold its tongue.
 Therefore, it is not the “assertiveness” but “preparedness” that is necessary to tackle such
issues. (We saw earlier, how India was caught unguarded during the coup).
 >40 per cent of India’s GDP is linked to imports and exports.
 Indian corporate is investing tens of billions of dollars abroad every year.
 The real lesson is that India should be more prepared to protect the interests of its
companies operating abroad.
 Problem with Maldives Economy= heavy dependence of tourism. Hence their GDP is
low, purchasing power is low and they’re suseptibe to instability. (both economic and
 India should see to it that they ‘diversify’ (marine food processing etc.) and have strong
import-export relationships with India. Once established, economic tries are harder to
breakoff than diplomatic ties.
 Other necessary things for stable Maldives: Independent media, judiciary, penetration of
internet, cable-TV, powerful civil society.
Conspiracy Theories:
The Chinese angle
 Behind the curtains, China had played role in it. First getting Nasheed replaced and then
Getting →aheed to cancel the GMR deal. And (perhaps) later, it’ll get the contract to
manage the airport.
 Maldives is of strategic interest for both China and India, because of its location in the
Indian Ocean alongside major oil and shipping lanes.
 More than 80% of international trade to and from Asia passes through Maldivian
 Even USA has plans of building a military base in one of the islands of Maldives. China
doesn’t want this.
 China has recently opened an embassy in Male= proves they’re interested in the
 China has been consistently expanding its own influence in island nations on India’s
periphery – the Maldives, Sri Lanka, Seychelles and Mauritius by giving several millions
of dollars in aid and infrastructure projects.
The Crony Capitalism Angle
 GMR is a shoddy company. It was “unknown” before 2000s. Suddenly it started making
billions after getting Delhi-Hyderbad airport contracts and other plump highway, building
and coal projects.
 There is nexus between Indian ministers and this company.
 GMR is charging Airport development fees in Indian airports also. (according to CAG
report, this wasn’t part of original contract.) Now even IT department has started raiding
its offices.
 Nasheed was already in debt of India Government (recall we purchased 100 million
worth treasury bonds.)
 So behind the curtains he was “ diplomatically” coerced into giving final approval to this
 This was either done because Indian Government wants to increase presence in Male or
simply because GMR paid gave them a few suitcases for lobbying.
The Rajnikanth angle
 In his exam-oriented blockbuster movie “Shivaji, The Boss”, the Rajnikanth plays role of
an NRI businessman. He wants to open free Medical college in Tamilnadu. But he has to
pay crores of rupees as bribe to bureaucrats and politicians for land allotment.
 But then elections are held. New minister again demands bribes from the Rajnikanth.
 Similarly, after →aheed took charge, he’d have asked GMR to pay another suitcase full
of money, but GMR refused (or decided to delay bribe because, elections are just
upcoming in 2013 who knows if Nasheed again became President!)
 So, Waheed cancelled the contract to teach a lesson to GMR (and other Indian companies
in Maldives) ki suitcase delivery mein delay nahi hona chaahiye.
The Funny Parts
Indian banks’ money stuck (AGAIN)
 So far GMR had invested about 500 million dollars in Male Airport.
 But all of that money didnot come from its own pocket.
 GMR had taken loans from Axis Bank and Indian Overseas Bank (IOB) worth approx
160 million dollars.
 Some experts believe that GMR will now refuse to pay interest rate on loan until matter is
settled! (SBI must be feeling happy for not being the only bank loosing money on airline
related loans.)
ADC charge in India
 In India, Government had allowed the airport operators to charge airport development fee
from passenger. So, the airport operators charge anything between 100 to 1300 rupees per
 CAG says, when DIAL (GMR and AAI owned company) got contract to run Delhi
airport, this ADC charge was not mentioned in the agreement.
 Yet they’re collecting money from passengers. So far they’ve made undue benefit of
over Rs. 3,400 crore in the name of Airport development fee! (meaning they gave
suitcase full of bribe to previous minister to order the airport development fee approval.)
 Now the new Aviation Minister ordered ban on ADC on Delhi and Mumbai airport from
January 2013.
 But GMR is non-committal about it (They are planning to go to Airports Economic
Regulatory Authority (AERA) and court against this move, in India also!)
 So, neither Indian nor Maldivian Government likes the private company making money
through Airport Development fee, yet Indian Government is against Maldivian
Government’s move to scrap GMR contract– the whole crisis has stemmed from ADC.
Tit for Tat/ Karma-Cycle
 Indian Government (and media) say, “GMR crisis will affect Foreign investment in
 Curiously, the same thing was said by Norway and Russia after their 2G licenses were
Mock Questions
Q1 which of the following, is not a function of Airports Authority of India (AAI)?
1. Air traffic management over Indian air space.
2. Arbitration of Labour disputes involving airline staffers.
a. Only 1
b. Only 2
c. Both
d. None
Q2. Which of the following, is a function of GAGAN?
1. Weather forecasting
2. Aiding pilots to navigate and land in difficult weather and terrain.
3. Aiding Air-traffic Management.
a. Only 1 and 2
b. Only 2 and 3
c. Only 1 and 3
d. All of them
Q3. Which of the following is correctly matched?
1. International Bank for Reconstruction and
Development (IBRD)
Give loans @ZERO interest rate to poor
2. International Development Association (IDA) Give loans @market rates to middle
class and poor countries.
a. Only 1
b. Only 2
c. Both
d. None
General Studies Mains
Explain following terms (5 marks, 50 words each)
1. International Bank for Reconstruction and Development (IBRD)
2. International Development Association (IDA)
3. Multilateral Investment Guarantee Agency (MIGA)
4. International Centre for Settlement of Investment Disputes (ICSID)
5. International Finance Corporation (IFC)
6. Applications of GAGAN
1. How do you rate India’s handling of GMR crisis?
2. Apart from GMR, are you aware of any recent disputes involving Indian Businessmen vs
Foreign Governments?
3. Are you in favor of Privatization of Airports? Yes/No and why?
4. What do you understand by Crony Capitalism?
5. Can you think of any solutions to tackle Crony Capitalism?
Capital Goods and Capital Gains: Meaning,
Difference Explained
What is Capital Goods?
 Capital goods are the tools and machinaries used for producing consumer products.
 They’re (usually) expensive, and they’re purchased for long-term use.
 Raw materials are also needed for producing consumer goods (Biscuits, bread etc) but
they are not capital goods.
 Capital goods are also known as producer goods.
Examples of Capital goods?
 Heavy equipment (such as excavators, forklifts, generators, metal-forming or metal-
working machines, vehicles).
boilers, storage tanks, evaporators Chemical factory
Mixer, grinders, refidgerators Ice-cream factory
Dumpsters, bulldozers etc big vehicles Construction, mining industry.
 In short, factory equipment are capital goods because they’re used to produce customer
 But the equipment used in an office= not capital goods for example stapler, paper
shredder, pen-holder, water-cooler table, chair etc.
 Similarly, specialized air-conditioners installed in drug/ ice-cream factories to maintain
uniform temperature during production= capital goods.
 But air-conditioners installed in that factory owner’s cabin=not capitals goods.
Why is Capital Goods important?
 If Capital goods are expensive, then companies cannot buy them=low production= low
 If they buy expensive capital goods, they’ll keep final product’s MRP high to keep the
profit margin same.
 Hence, Government gives tax reliefs on purchase/import of Capital goods by
 →hen you want to import Capital goods from a foreign country (e.g. USA ), you’ll need
pay them in their own currency (dollars)?
 So where to arrange for the dollars? Recall the FCNR account article Click ME
What is capital gains?
 Capital gains= profit made by selling your capital assets.
 →hen you make profit by selling your capital assets, you’ve to pay tax to the Government
on that profit. That is known as Capital Gains Tax. (CGT)
 Examples of Capital Assets are
1. Land (but not the agricultural land)
2. Building Factory Plant and machinery. (except raw-material, or finished products) So
when you sell capital goods discussed above, and make profit, then you’ll have to pay
capital gains tax (CGT).
3. Shares, debentures, mutual funds etc.
4. jewelry, paintings, sculptures and other Archaeological collections. (from 2008 onward)
 Capital gains tax are of two types: short term and long term. (depending on how long you
kept the asset before selling it.)
 Capital gains tax is a direct tax. (because direct tax=charged on your income and
 For more on Capital Gains tax, check Vodafone Case article click me).
Mock Qs
Q1. Which of the following is correct
1. Capital Gains tax, Custom duty are examples of Direct tax
2. Agricultural land is exempted from Capital Gains tax.
a. Only 1
b. Only 2
c. Both
d. none
Q2. Which of the following are not Capital goods?
1. Wheat stored in a granary
2. Boiler in a chemical factory
3. Air-conditioner in a corporate executive’s office
a. Only 2
b. Only 1 and 2
c. Only 1 and 3
d. Only 2 and 3
Banking Amendment Bill: Issues, Features,
Problems, Reforms meaning explained
What is Banking Regulation Act?
 It is governs all public sector banks (SBI, PNB etc.) and private sector banks.(ICICI,
HDFC etc.) in India.
Set : Finance Minister’s Office
Finance minister and RBI governor are holding a meeting.
Yaar many new players want to open banks in India. But they can’t, because you’re
not giving new licenses, So what is your problem?
→ell, I’m given powers to regulate public and private sector banks, under Banking
Regulation Act 1949.But those powers are not enough.
So, I’m not going to give new bank-licenses to anybody, unless and until you get me
more powers, by updating that Banking Regulation Act.
Ok, I’ll move a Banking laws (Amendment) bill, to amend the necessary things.But
first tell me what new powers do you need?
RBI Power #1: Can remove entire Board of a
At present, if a Bank doesn’t play by my rules, I can remove its CEO or one or two
directors. But that is not enough. What if the whole board of directors is involved in
some mischief.
So, I want powers to remove the entire board of directors.
I also want you to increase the rates of existing monetary penalties that I can impose on a
bank if it disobeys my rules, directives or gives me false information.
Ok agreed.I’ll get you the powers to supersede boards of the banks if any
irregularities.And I’ll increase the penalty rates as well.Anything else?
RBI Second problem. Connected lending.
Chindu What is that?
RBI Power #2: Connected Lending
 Suppose Mr.Paraajay gets license to open a new bank.
 He opens Pawn-Fisher bank, people deposit their hard earned cash in it.
 Ideally, bank should lend this money to the home, car, education and business-loan
seekers, who then pay interest and thus bank makes profit.
 Bank must make good profit, so It can pay 1) good interest rate to its bank account
holders. 2) good dividends to its share holders.
 But Mr.Paraajay also owns another company, Pawn-Fisher airlines.
 And this airlines company is making losses. Mr.Paraajay gives loans from Pawn-Fisher
bank to Pawn-Fisher airlines @very low interest rate, to fix the mess.
 And or, this Pawn-Fisher airlines gets the bank loan @market rates from the Pawn-Fisher
Bank but it doesn’t pay EMIs regularly, yet the bank doesn’t take any action.
 Similarly, Mr.Paraajay also opens Pawn-Fisher Mutual funds, but it also makes losses,
and money is transferred from bank deposits to mutual funds, to cover up those losses.
 These type of activities = Not good, because in long term, bank will collapse and
depositors’ money will be stuck.
So, I must be given powers to check the records and account-books of those mutual
funds, insurance and other companies associated with a bank.
you’ll get the power to inspect those other business arms of a bank.
Anything else?
RBI Yes, money from unclaimed bank accounts.
RBI Power #3: Unclaimed Accounts
 If Mr.X has not used his bank account for more than 10 years, it is called “unclaimed
bank account.”
 There are crores of rupees in such unclaimed bank accounts, it increases the
Administrative burden on bank employees (=need to maintain files etc)
 Plus there is also an opportunity to commit a fraud. for example some bank employee
knows that Mr.X’s bank account is never checked, then he’ll forge checkbooks signature
or some other trick to withdraw money from Mr.X’s account.
so we must take some measure to tackle this issue.
 If a bank account is not operated for more than 10 years, bank will have to
transfer its money in the “Depositor Education and Awareness Fund”
 And I’ll appoint a Committee to use money from this fund to create awareness.
 Although if Mr.X returns, he can claim his money and that bank will have to pay
him interest also.
Chindu Agreed. Anything else
Yes one tea, two samosas and four more powers
1. If any person wants to buy more than 5% shares of any bank, he’ll have to take
permission from me. And before giving him approval, I can put conditions on
him, For example give me deposit worth, so if you play some mischief, I’ll
take away your deposit.
2. If primary cooperative societies want to continue their banking business, they’ll
have to get a license from me.
3. I can conduct special audits of cooperative banks because they’re more liable to
collapse and frauds.
4. If a bank fails to maintain the prescribed minimum amount of Cash Reserve Ratio
(CRR) on any day, I can demand penalty interest from that bank.
Chindu All agreed. Anything else.
RBI That’s enough for now.
Ok then please leave my cabin and send the SBI chairman in. He too had an appointment
with me.
Public Banks Issue#1: Need consolidation
Good morning Mr. Finance Minister. As you’re aware, SBI is the largest public sector
bank in India, we’ve more than 11,000 branches. Yet if you make a list of top 5 biggest
banks of the world, our name doesn’t figure.
Chindu Why is it so?
This is because too many small public banks exist in India. So, the ‘incoming-money’
(from people to bank accounts) gets fragmented in so many bank branches. Finally, we
don’t have enough cash, to expand in a big way.
Chindu Ok so what do you want from me?
 There is need for consolidation in the banking sector so India can have two to
three large public banks that can compete globally.
 For this, I need you to simplify Banking Companies Acquisition and Transfer of
Undertakings Act.
 And to exclude bank mergers from the scrutiny of Competition Commission of
India (CCI).
 Bank mergers should need only approval of RBI.
Chindu Agreed.
PSU Banks Issue#2: Need more investment
Right now the Public Sector banks cannot issue shares worth more than Rs.3000 crores. I
want you to relax this, because We need lot of investment.
Ok agreed. You can issue more shares, including bonus shares and rights issue etc.
(already explained click me)But you’ll have to take permission from Central Government
+ RBI if you want to do it.
SBI Agreed.
Banks issue #3: More voting rights for
Before moving on, I must thank you for allowing us to issue bonus shares etc. But that
alone will not bring investment in public or private sector banks.
Chindu Why?
 Because in shareholders’ meetings, voting is done on many issues (for example
election of board of directors, changing name of company etc.).
 A shareholder should have voting rights proportional to the number of shares held
by him.
 But in case of public banks, the shareholders have only 1% voting right
irrespective of number of shares held. So they cannot heavily influence any
 I need you relax these voting rights. Only then foreign investors will be attracted
to invest in Indian banks.
Chindu Agreed. →e’ll revise the voting rights.
Revised voting rights
Voting rights (%)
Bank Example Before After
Private sector HDFC, ICICI 10 26
Public sector SBI , PNB 1 10
Chindu Anything else.
SBI No this is all for now.
Then you may leave. But please send the chairman of Citibank in, he too had taken
appointment and is waiting outside.
Foreign Banks Issue #1: Stampduty
Chindu Ok what can I do for you?
When I transfer my branches from the main company to the subsidiary company, I don’t
want to pay stamp duty. This should help me expand my business in India.
Chindu Agreed. Anything else.
Citibank Yes there is one more matter
Foreign Banks Issue #2: Want to invest in
 Right now, the Banks can trade in shares, bonds and currencies speculation but
the Banking Regulation Act forbids them from trading in commodities.
 But we (foreign banks) see huge profit making opportunity in that sector.
 So we need you to amend Banking regulation Act, to allow the banks to invest
in Commodities market.
Chindu Agreed.
Standing Committee problem
 After a bill is introduced in parliament, it goes to the Standing Committee of Parliament
for particular subject.
 for example Banking Regulation bill to Standing Committee on finance.
 They inspect the bill clause by clause, put forward their recommendations. And then
voting is done.
 In case of Banking regulation bill, after the parliamentary Standing Committee on
Finance put its report, Chindu added some new provisions in it.
 so opposition parties got angry “this wasn’t part of the original bill, if you want to add
new provisions, then this bill must be sent back to the Standing Committee for re-
Set: parliament
In the parliament, Opposition members are shouting slogans. (as usual)
Meera Kumar says “beth jayiye, beth jayiye, kripyaa shaant ho jayiye.”(as usual)
Parliament fight #1: Commodity speculation
Chindu What is the problem?
The share-market and mutual funds = regulated by SEBI.Similarly Commodity market=
regulated by Forward Market Commission (FMC)
Chindu So?
 So, if banks invest in commodity futures, it would lead to high-risk speculative
trading, especially with those Foreign banks.
 What if some investors loose money because of this?
 The Forward Markets Commission (FMC) doesn’t have enough powers to
safeguard them. because
 1) FMC doesn’t have legal powers for compulsory registration of traders.
 2) FMC doesn’t have power to impose huge financial penalty.
 Parliament is yet to pass Forward Contract Regulation Act (FCRA) Amendment
Bill, which aims to empower FMC.
 And more importantly, you added the this Commodity provision in banking bill,
after it was reviewed by Standing Committee. So this bill must be sent back to
standing Committee for review.
No, no, no. if bill goes back to standing Committee, it’ll take lot of time.Ok I back off, I
remove this provision, so there is no need to send this bill back to standing Committee.
Parliament Fight #2: Competition
Monitoring: RBI vs CCI
Friends, I also propose that only RBI’s permission should be necessary for Bank
mergers and acquisitions. Competition Commission of India should not play any role
in it.
Not acceptable. Again this is new provision added after Standing Committee gave its
report. So, send the bill back to Standing Committee.
No, no, no. if bill goes back to standing Committee, then it’ll delay the
implementation.Ok I back off, I remove this provision.CCI will have the power to
investigate and clear mergers and acquisitions in the banking sector.
Lok sabha passed the bill.
Rajya Sabha also passed the bill.
Now this bill file will goto President. Once he signs it, this bill will become a “Law”.

Anti-Bill arguments
In December, employees of public banks went on strike. (although SBI employees did not join
the strike.)
The Bank unions give following Anti-Bill arguments:
 Government claims “more banks = more branches = more poor people get banking
facilities = financial inclusion”. But it is mere lip service. Because new corporate
banks/foreign banks won’t have any interest in serving poor people.
 If mergers are allowed then rural branches will close down and/or rural banking
operations will be outsourced via contractual business route.
 This type of ‘privatization’ will negatively affect our job security and interests of those
poor people.
 Statistics indicate that only 50 percent of people in India have bank accounts.
 The Centre should focus on educating rural people and cultivating banking habit among
them instead of taking steps to merge banks or diluting voting rights.
 Merger of banks will de-stablise public sector banks, then corporate firms will start their
own banks and gobble up public savings. And that money will be misused for the benefit
of few corporate honchos and not for the general public.
Although Chindu counters them saying “these banking reforms= new banks will be opened=
more employment. (he expects 6,000 new bank branches and recruitment of 84,000 people next
Critiques also argue that
 It seems the whole exercise is not a comprehensive banking reform but just firefighting
because 1) Foreign banks and domestic players put pressure on FM to help them get
bank licenses. 2) RBI blackmails FM to get more powers. 3) FM comes with banking
regulation bill. Prime objective of this bill seems to help private players get new banking
 Government should further relax the voting rights otherwise, Government will keep
abusing its majority shareholding to further its own political goals and election agendas.
 e.g. in 2008, public sector banks were asked to forgo farmers’ loans (Debt →aiver
scheme). Although Government promised to refund the loan-money to banks on behalf of
farmers but it is not a good business practice.
The Banking regulation bill, 2011 was passed in the Winter session of parliament in Dec.2012.
The salient features of the Banking regulation bill are (list not exhaustive)
1. RBI can inspect books of associate business arms of a bank.
2. RBI can supercede entire board of directors of a bank.
3. RBI can conduct special audits of cooperative banks.
4. Cooperative societies cannot carryout banking activities without license from RBI.
5. A “Depositor Education and Awareness Fund to receive money from deposit accounts
not operated for more than 10 years.
6. Increased the penalties and fines for violating Banking Regulation Act.
7. Public Banks can obtain more capital via bonus shares and rights issue.
8. Increases the voting rights of shareholders in Public and Private sector banks.
9. Prior approval of RBI necessary if a person wants to purchase more than 5% shares of a
10. Banking Mergers and acquisition will fall under purview of CCI.
11. Bank will have to pay penalty interest rate, if it doesn’t maintain CRR on daily basis.
12. Foreign banks exempted from stampduty payment for certain cases.
SARFAESI Act, Asset Reconstruction
Company (ARC), Security Receipts (SR),
QIB, DRT, Central Registry
What is NPA?
 Bank gives loan to a person.
 Person fails to make regular payments.
 Bank gives him notice to correct his behavior. But he doesn’t.
 Bank declares that loan as Non-Performing Asset (NPA) (=Bad Loan)
 Currently Indian banks have NPAs worth more than Rs. 1 lakh crores.
Debt Recovery tribunals?
 Prior to 90s, banks had very hard time recovering bad loans.
 Because often, borrowers (loan takers) would file frivolous cases in civil courts, then
…taarikh pe taarikh, taarikh pe taarikh….. proceeding would go on for years.
 So 1993, Government established Debt Recovery Tribunals to deal with NPA matters.
 Now borrower cannot approach civil court, they’ve to goto special Debt Recovery
Tribunal (DRT).
 This led to some relief, but then DRTs clogged down by truckload of cases. (Even now,
more than 60,000 cases pending with DRTs)
 In 2002, Government came up with new Act, named “SARFAESI Act”.
What is the Sarfaesi Act?
 Securitisation
 and Reconstruction
 of Financial Assets
 and Enforcement of Security Interest Act, 2002,
Suppose, Mr.Paraajay has opened factory with Rs.100 crores. He financed this, via mixture of
Debt + equity in following way. (make sure you understand debt vs Equity, if not click me)
Holder Rupees in Cr.
Equity (IPO->Shares)
Paraajay and his family 20
Juntaa (public) 30
Debt (loans, Bonds) Business loan from SBI 40
Bonds 10
Total 100
 Initially the company runs well and good.
 But then Mr.Paraajay doesn’t revise his MBA books often, so he forgets the business
concepts. His company starts making losses.
 He fails to pay loan EMIs for many months.
 SBI gives him notice to correct his behavior.
 Still, he doesn’t start paying money.
 SBI declares this Rs.40 crores loan NPA (Non-Performing Asset).
 Once a loan is declared as non-performing asset, SBI can take actions under SARFAESI
act, to recover the loan money.
Bank have following powers under SARFAESI Act
1. Take possession of Mr.Paraajay’s assets without requiring court order. (Commericial or
residential, fixed or moving assets.)
2. Auction / Sale them.
3. Change the administration/ Management of those assets.
4. If Mr.Paraajay had sold away the mortgaged asset to third party Mr.X, bank can order
Mr.X to surrender that Asset.
5. If Mr.X owes money to Mr.Paraajay, he can be ordered to pay money.
 *ARCs explained after a few paragraphs.
 SARFAESI applies only to loans above Rs.10 lakhs.
 By the way SARFAESI applies only to those assets “mortgaged/secured” to get the loan.
 E.g. if Mr.Paraajay had taken business-loan, SBI would have asked him to sign away his
factory/machinary/vehicles/land etc. specific items as mortgage.
 Hence SBI can attach only ^those assets.
 But SBI cannot take away Paraajay’s personal home-furniture, expensive wrist-watch or
his son’s bicycle in the name of SARFAESI.
 Similarly, Agricultural land is exempted from SARFAESI attachment.
Appeal structure
The borrower (loan taker) has following options:
 Get a stay order from Debt Recoverty tribunal (DRT) against the auction/sale of his
properties. (He cannot file case in Civil courts.)
 Fight the case in DRT.
 If unhappy with DRT verdict, he can appeal to Debt Recovery Appellate Tribunal
 But before filing appeal with DRAT, he’ll have to deposit 50% of his pending loan
Bank: Power to Auction
 First SBI contacts the experts, gets valuation of Mr.Paraajay’s assets.
 Expert says “those assets are worth Rs.50 crores according to present market value of
land/ building/ machinary whatever.”
 Then SBI will give advertisement in newspapers “we are auctioning xyz
land/machinary/building. Minimum bidding amount is Rs.50 crores. Whoever wishes to
bid, send us application along with Rs.50,000 as deposit, and their class 10, 12 mark-
sheets and school leaving certificates, duly attested by a Gazetted officer.”
 Problem: sometimes, bidders donot take interest in buying such properties, factories etc.
 To fix this problem, Amendment bill of 2011, makes a new provision: if noone else
comes to bid in the auction, Bank itself can buy that property.
Here comes the new problem:
 Suppose SBI attached a warehouse of Mr.Paraajay.
 If the land was in good urban area, SBI could open a new branch office there (or housing
for its employees).
 But if plot/factory/house is in some remote area= useless for SBI’s personal business.
 Under the Banking regulation Act, a bank cannot keep such immovable property beyond
7 years, (max 12 years with RBI’s permission).
 So ultimately SBI will have to auction it to someone. →hat if they don’t get better price?
Critiques of the bill say, this is not clarified in the bill.

What is ARC?
 Asset reconstruction company (ARC).
 They buy NPA (Bad loans) from Banks and try to extract maximum money out of
 They’ve to register with Reserve Bank of India.
1. ARCIL (India’s first and largest asset reconstruction company (ARC))
2. Reliance Asset Reconstruction Company Limited by Anil Ambani
 In our example, SBI has NPA worth Rs.40 crores.
 ARC will buy the NPA file from SBI at a lower rate say 35 crores. (well, SBI is making
loss, yes, but something is better than nothing.)
 Besides, banks have hundreads of bad loan cases, they donot have time or manpower to
pursue individual case, sometimes no bidders are interested in auction. All the filework
and donkey labour, In such cases, it’s better for bank to transfer NPA to ARC.
 But that doesn’t mean ARC will give 35 crores to the SBI from its own pocket!
 Then how will the Asset reconstruction company (ARC) arrange for the money?= via
Security Reciepts.
What are Security Reciepts (SR)?
 In above example, ARC needs Rs.35 crores to buy a Non performing asset from SBI.
 So ARC will issue “security reciepts (SR)” worth Rs.35 crores.
 Only Qualified Institutional buyers (QIB) can buy these security reciepts (SR).
 SR are not “bonds”, they donot carry fixed interest rate.
 ARC will promise to pay money on SR, when it gets money the bad loan.
 Although, ARC usually promise 9% profit on “security reciepts (SR)”.
 So, three possible situations:
A. Qualified institutional buyers (QIB) buy those security reciepts (SR). So Rs.35 cr cash
goes from QIB -> ARC -> SBI.
B. SBI itself recieves SR worth Rs.35 crores for free. (that means ARC will gradually pay
the money to SBI).
C. combination of both: QIBs buy SR worth 30 crores + SBI recieves free SR worth 5
What is Qualified Institutional Buyer (QIB)?
These people have the expertise and the financial muscle to evaluate and invest in the capital
Examples: (click on each to read previous articles on them)
Foreign investment in ARC
 ARC =buy bad loans from banks.
 ARC =arrange money from QIBs to buy bad loans from banks.
 Problem= Indian QIBs do not invest much in ARCs.
 Therefore ARC’s capacity to buy NPA= very low.
 And bank themselves don’t have enough expertize or manpower to dispose those NPAs
 Previously Foreign investors could invest only upto 49% in ARC=minority
shareholder=cannot influence company decisions.
 Now, Government also increased foreign investment limit in ARCs. This would attract
more investment in ARCs and help in quicker purchase and disposal of NPAs.
Foreign investment in ARC %
Earlier 49%
Now (December-24-2012) 74%
Anyways, back to the topic, let’s recap:
1. SBI had NPA. First solution: auction the property. Did not work out.
2. Second solution: sell it to ARC.
So, ARC purchased the NPA worth Rs.40 crores (at Rs.35 crores).
ARC’s aim= extract maximum money out of this investment. But how?
1. Auction the assets fully or partially. (sell the machinary now, rent the building and wait
for land prices to go up for two years and then sell it.)
2. Sell the property in combination with other NPA properties of other defaulters. (similar to
“buy one large pizza and get 20% discount on any medium sized pizzas”).
3. Restructure the EMIs of Mr.Paraajay. E.g. instead of 1 lakh per month, give us 75,000
per month.
4. Change the Management of that asset, appoint its own directors/officers.
5. Order Mr.Paraajay to outsource or lease his business to a another company.
^SARFAESI act empowers ARC to do such things. The amendment Bill adds a new power to the
ARC New Power: convert Debt into equity
Before reading further, Make sure you know the pros and cons of Debt Vs. Equity (already
discussed in an old article click me)
The new Amendment in SARFAESI, empowers ARC to convert debt into equity.(fully or
Share holding Before:
Shares Rupees Cr. %
Paraajay and his family 20 40%
Juntaa 30 60%
Total shares worth 50 100%
Share holding After
Shares Rupees Cr.
Paraajay and his family 20 22%
Juntaa 30 33%
ARC 40* 44%
Total shares worth 90 100%
*that is the paper value of original debt (NPA loan of SBI to Mr.Parajaay), Otherwise ARC
purchased it @Rs.35 crores.
Anyways, This leads to two situations:
1. If company starts making more profit in future, ARC will receive more share from that
profit. (because more profit=more dividend to shareholders.)
2. If price of company’s shares go up in the sharemarket, ARC can sell those shares to third
party and make decent profit.
Anti-arguments: Debt to Equity conversion
Critiques says this “debt to equity”provision will be abused. This provision is made to help bad
corporates. How so? Well consider following:
Bank’s loss
 SBI gave Rs.40 crores loan to Mr.Parajaay
 He refuses to pay loan=bad loan/NPA.
 Then SBI sells this bad loan file to an ARC company @Rs.35 crores.
 Hence, SBI’s loss is 40-35=5 crores. (actually more than 5 crores, if we count the
possible interest rate that he would have paid, if he had not defaulted. And loss figure will
be different if he had paid a few installments earlier. Anyways, let’s keep the loss at 5
crore for the moment.)
ARC’s profit
 Now ARC owns the NPA assets. (their investment Rs 35 crores)
 Paraajay offers Rs.37 crores and ask ARC to sell the assets to his relative, friend or
 Hence, ARC’s profit is 37-35=Rs.2 crores.
 And yet Mr.Parajaay successfully saved Rs.3 crores (because originally he had to pay
Rs.40 crores to SBI, but he walked away by paying just Rs.37 crores!)
 Few years back, CVC had held a meeting with Bank chairmans and CBI officers. They
alleged ^this type of mischief going on, in many loan default cases.
Now under the new provision: if ARC converts its debt into equity (shares), then what will
1. It is very unlikely that Parajaay’s company will start making huge profits (otherwise it
wouldn’t be in bad loan problem in the first place!)
2. It is very unlikely that share-price of Parajaay’s company will go up in sharemarket.
(because it has negative publicity due to NPA).
Hence it is very unlikely that ARC will make huge profit out of this “Equity”.
Then Mr.Parajaay can simply offer them a way out : “sell those shares to me, in my
friend,relative,driver or peon’s name @Rs.37 crores.”
And ARC would agree, because 37-35=Rs.2 crores profit!
Side question
How would Mr.Parajaay arrange those Rs.37 crores?
Ans. If Mr.Parajaay is “totally awesome” then he wouldn’t give 37 crores from his own pocket.
He’d just open another company, get new loan from second bank, issue IPOs to get money from
juntaa. Then Iski topi uske sar pe.
^This is (one of the many) reasons why Mr.Ratan Tata said following thing:
 Overseas people go bankrupt or companies go bankrupt. Here they never do–they
continue to be sick and still operate. Then they are operating to kill you with destructive
competition (using predatory pricing etc.)
 (Airline business) is proliferated by many operators, some of them in financial trouble.
 I would hesitate to go into the (airline) sector today in the sense that the chances are that
you would have a great deal of competition which would be unhealthy competition.
Bank Employee unions are also against the “Debt to Equity” clause of SARFAESI amendment.
(When they had gone on strike to oppose Banking Amendment bill, they also cited this Debt-
equity reason as well.)
Central Registry
 Previously, borrowers used to forged property documents and get loans from multiple
banks by giving them duplicate property documents as security.
 So when borrower refuses to pay up loan, many banks would make claim for the same
 To fix this problem, Reserve Bank of India (RBI) setup Central Registry in 2011, under
 This central registry has details of all properties against which loans have been taken.
 Any person or bank can inspect records of this registry to make sure the mortgaged
property is genuine.
 Official name: Central Registry of Securitisation Asset Reconstruction and Security
Interest of India (CERSAI)
1. In public interest, Union Government can issue notification that xyz provision of
SARFAESI act may not apply or may apply with modifications to a class or classes of
banks or financial institutions. Suppose many textile exporters have taken loans from
banks but due to global recession they are not receiving payments and hence unable to
repay loans. In that case, Government can order notification that “SARFAESI will apply
to all loans except those given for textile-export business.”
2. Earlier a borrower could approach Debt Recovery tribunal (DRT) to get stay order
against bank/ARC. New amendment says DRT cannot grant any stay order unless both
parties (Borrower vs. lender bank) are heard. This will ensure the process of law is not
misused by unscrupulous borrowers to get stay orders just to delay money-recovery.
3. Bill proposes to enable banks and financial institutions to enter into settlement or
compromise with the borrower. It also seeks to empower the Debts Recovery Tribunal to
pass an order acknowledging any such settlement or compromise.
 SARFAESI empowers banks and other financial institutions to attach secured assets of a
loan defaulter and sale, auction or manage them without requiring court intervention.
 Parliament passed the amendment to SARFAESI Act and the debt recovery tribunal, in
Winter session 2012.
Salient features of new amendment
1. Bank
 can buy for the NPA property if there
are no other bidders.
 multi-state co-operative banks can also
take actions under SARFAESI.
2. Borrower
 can’t get stay orders from DRT easily.
 Can make settlement / compromise with
3. Asset reconstruction companies (ARC) can convert their debt into equity (fully or
4. Government can prohibit or modify SARFAESI’s
applicability in public interest.
Apart from this amendment, Government has also increased foreign investment limit in ARCs
from 49 to 74%.
Mock Questions
Q1. Which of the following are Qualified Institutional buyers (QIB)?
2. LIC
4. FII registered with SEBI
A. Only 2 and 3
B. Only 1 and 4
C. Only 2 and 4
D. All of them.
Q2. Which of the following is not correct about SARFAESI act?
1. It mandates the Rural regional banks to lend atleast 15% of their total loans to rural
cottage industries.
2. It empowers banks to reduce their NPAs.
3. It empowers RBI to impose penalties on Bank responsible for NPAs.
A. Only 1 and 2
B. Only 2 and 3
C. Only 2
D. Only 1 and 3
Q3 Find Correct Statement
1. Foreign investment is prohibited in asset restructing companies.
2. To enjoy the priviledges under SARFAESI act, the Asset Reconstruction Companies
have to get themselves registered with SEBI.

A. Only 1
B. Only 2
C. Both
D. None
Boring details
1. Recovery of Debts Due to Banks and Financial
Institutions Act of 1993 (RDBF)
Established Debt Recoverty tribunal
(DRT) and
2. Securitisation and Reconstruction of Financial
Assets and Enforcement of Security Interest Act of
Helps banks recover money from
bad loans.
3. Enforcement of Security Interest and Recovery of
Debts Laws (Amendment) Bill, 2011
Passed in Lok Sabha in Dec 2012,
to amend above two laws (RDBF +
SARFAESI was based on recommendation of these two Committees
1. Committee on Banking Sector Reforms (Narasimham Committee II), 1998
2. Restructuring of weak Public Sector Banks -Verma Committee
The latest amendment (Debt to Equity), is based on recommendations of Alok Nigam Panel on
ARCs, made by Finance Ministry.
Corporate Social Responsibility (CSR):
Meaning, provision in Companies Bill 2012
What is CSR?
 Corporate social responsibility.
 Activities done by a company to give social-economic-environmental benefits to the
Examples of CSR?
1. IndianOil gives special allotment of petrol/diesel station dealerships and LPG
distributorships to beneficiaries from among SC/ST/PH/Ex-servicemen, war widows, etc.
2. Installation of hand pumps/bore well/tube wells/submersible pumps
3. Rainwater harvesting projects,
4. Aquaguard water purifiers/water coolers to schools/community center etc.
5. Organising Medical/Health Camps on Family Planning,
6. Immunization, AIDS awareness
Big companies like Tata, Wipro, Birla, Essar have done many such projects.
Why CSR?
 The term “Corporate social responsibility” was coined in late 50s, but it remained just an
academic concept for many years.
 The issue was raised in Rio Earth Summit (1992). But MNC-giants were non-committal
and lobbied heavily against such moves. (recall how American corporate giants did not
allow UN to get control over DNS registry in the recent WCIT Dubai conference. Click
 In the 90s, big NGOs such as Greenpeace started exposing the environmental and human
rights abuse done by American oil and mining companies abroad. (particularly Shale
company in Africa.)
 This led to huge negative publicity for those companies particularly among the
consumers in first world.
 Hence the MNC giants started taking up CSR initiatives in third world (Asia, Africa) as a
PR-image improvement exercise.
Apart from that, CSR is done for
1. Pure philanthropic reasons.
2. Earning Good will among customers and local community members.
3. Long term interest: e.g. a company spends money in child-education of XYZ, in long
term those kids grow up= can provide skilled labour, or atleast earn more money than
their parents= more purchasing powers =good for all companies.
4. Getting tax-benefits from Government.
Methods of CSR?
Company will just donate money to Red Cross, UNICEF etc.
Company will hire an NGO/another special agency to carry out a project and pay
them money.
By itself
Company will create separate Administrative machinary and staff of its own, to do the
social welfare work. ( big companies like Microsoft, IBM, Dabur etc.)
Companies Bill 2012
It’ll replace the Companies Act 1956
Lok Sabha Passed it in Winter session (Dec 12)
Rajya Sabha Likely to pass it during Budget Session (Feb 13)
 Companies bill is likely to come in effect from April 1, 2013.
 This Companies bill contains provisions regarding CSR.
Who is
1. Companies that have a turnover of over Rs 1,000 crore
2. or have a net worth of Rs 500 crore
3. or that have recorded a net profit of Rs 5 crore
^These companies are expected to spend 2 per cent of their profit
in preceding three financial years towards CSR.
The bill says, they’re “expected” to…meaning it is not
compulsory to spend money. BUT, the same bill provides that
1. Board of directors will be responsible for seeing that
company spends money for CSR.
2. It is compulsory to send report on the CSR-spending to
the Corporate Affairs Minister.
3. If company is not spending money for CSR, it’ll have to
explain why they are not doing so.
4. Companies that do not report will face a penalty ranging
from Rs 50,000 to Rs 25 lakh or even imprisonment of up
to three years
 In Budget 2013, Chindu is likely to allow some tax-deduction /benefits to companies who
spend money for CSR, thus making it attractive for the companies to spend money for
 An estimated 2,500 companies fall into this “mandatory” CSR-reporting category.
 CSR activities in the first year would be between Rs 9,000 crore and Rs 10,000 crore
spent in social welfare. This could significantly benefit the society at large.
CSR: Pro-Arguments
1. Big Companies in India are already making a killing, particularly in mining, real-estate
and IT sector, so spending a few crores on CSR shouldn’t be an issue. Besides, CSR
spending has been kept very low: only 2%.
2. Government could increase the tax-rates to collect additional 2% and then spend the
money on its own for various social welfare schemes. But instead Government has given
flexibility to the companies to do take up projects on their own= there would be
corruption and leakages. So, If the companies themselves spend the money on CSR, more
likely to show some result.
3. Media is unnecessarily creating panic- CSR “spending” is not compulsory, CSR-
“reporting” is compulsory.
4. This provision will lead to about 30% increase in CSR-linked jobs. (those special project
officers, MSW degree etc). For example, Dabur is reviewing its existing CSR
programmes in the wake of the latest developments. It will hire more professionals if it
feels the need to extend the existing CSR-programmes.
CSR: Anti-Arguments
 Companies already paying so much in taxes + global economic crisis= decline in profit.
 It is the job of Government to do all the social welfare stuff. Companies are only
responsible to their shareholders and not to society as a whole.
 If company has to spend 2% of profit in CSR= means less profit will be shared among the
 Might lead to ‘creative accounting’ (only showing work on paper) or doing work that
actually benefits the company rather than society. Corporate Affairs ministry doesn’t
have the manpower to manually inspect the CSR-projects done. Thus making the whole
exercise useless to society.
 NGOs often feed journalists stories of supposed corporate malpracticies, tribal
exploitation etc, which the reporters are happy to print without much background check.
 Hence companies just throw off donation money to such NGOs in the name of CSR and
to media houses in the name of “advertizemenst”, just to keep them both in “good
humor”. So in many cases, CSR is done because of yellow-journalism and “yellow-
NGOism.” Thus, CSR doesn’t cleanse the sins of a company. often it merely allow
companies to continue bad behavior in the shadows. (child labour, environmental
degradation etc.)
You’re welcome to add your own pro-anti agruments in comments.
SEBI-Sahara OFCD case: Optionally fully-
convertible debentures- Meaning explained
What is Debenture?
From the earlier Debt + Equity article, you know there are two (legit) ways to arrange money for
starting or expanding a company
Type meaning Example
Borrow money from someone. Offer him interest
rate and guarantee to repay the principal after xyz
1. Bank loans
2. Borrowing from friends,
relatives, moneylenders
3. Bonds
4. Debentures
Take money from someone and offer him part
ownership of the company.
1. IPO-> Share.
2. Venture Capitalist
3. Angel Investor
 Suppose a Telefilm company is producing a new bogus saas-bahu series.
 The company needs additional finance of 100 Crore rupees just for the make-up, jewelry
and expensive sarees of those actresses.
 Company can approach the bank for a loan, but problems: 1) terms and conditions are
heavy 2) the SARFAESI act (with its new amendments)
 So, it’s better just to borrow from public.
 Whoever gives you Rs.100, you give him a piece of paper titled “blah blah blah..these
are the terms and conditions, repayment dates, interest rates etc.”
 This piece of paper is called Debenture.
 In this case, you need 100 crores, meaning print 1 crore papers (debentures) each worth
 Whoever holds such paper units is called Debenture holder.
 The cash thus collected is a loan for the company. (=debt)
Difference between Bonds and Debentures?
Overall, the principle behind Bonds and Debentures is same: They offer fixed interest rate +
principal repaid at the specified date.
Ok then what’s the difference?
1.Bond 2.Debenture
Issued by
1. Union Government
2. State Government
3. PSUs
Issued by companies.
 Second difference: the different rates of Stamp Duty applied on each of them.
 Third difference: The interest rate offered by Debenture is (usually) higher than
Government Bonds. Because Government more likely to repay = no need to seduce
customers with higher interest rate.
Types of Debentures
Based on ‘convertibility’ the Debentures are of two types
1.Convertible debentures
They can be converted into shares of the company on the
expiry of xyz date.
They cannot be converted into shares.
 When debenture is converted into shares, it means debt holder becomes an equity holder.
 Both debt vs equity have their own advantages and disadvantages. →e’ve discussed it in
the earlier article (click ME)
 But by and large, from the investor’s point of view, Debt is safer than Equity.
What is Optionally fully-convertible
debentures (OFCD)?
 These debentures can be converted into shares, when debt holder (investor) wishes (after
expiry of xyz pre-decided date).
 But the “rate”, will be decided by the company e.g. 20 debentures =>1 share.
From investor’s view, this “option” to convert Debenture into Shares is good ONLY IF
1. Company is likely to make huge profit (so you, the shareholder can earn more dividend.)
2. Company’s share-price is likely to rise in the share market (then you can sell shares to
third-party and make profit).
BUT if the Company is going bankrupt, then it is better to avoid converting the Debenture into
shares. Because when a company is liquidated (i.e. its assets sold off), the Debenture holders
get the money before the shareholders.
It means OFCD is a bit tricky game. Investors should have some knowledge and understanding
of share prices, company performance etc. else they could lose money. (or end up not getting
maximum profit out of their investment). Now let’s move to the SEBI-SAHARA case.
2008-09: The game begins
Two firms of Sahara Conglomerate:
1. Sahara Housing Investment Corporation
2. Sahara India Real Estate Corporation. (aka Sahara Commodities)
These ^two companies Issued OFCD to collect money from investors.
~23 million people, mostly from villages and small towns subscribed to this scheme. They
invested ~24,000 crores rupees in these OFCDs of SAHARA.
2011: SEBI Order
You (SAHARA) have violated rules. If OFCDs are issued then whole process should
be completed within 10 working days, but here you continue collecting money from
people for more than two years!
This fund-raising was in the form of a private placement. I.e. we offered the schemes
only to our select clients, this wasn’t meant a “Public Offer”! So what’s your
 Dude if this is private placement, then maximum only 50 people can invest
money in it.
 Here ~23 million people have parked their hard earned cash! Hell the number
of investors in this case, is even more than the total number of people investing
in the conventional stock-exchanges of India!
 India’s biggest IPO till date was of Coal India worth Rs.15000+ crores, and
you’ve made 24,000 crores out of these OFCDs! It is my responsibility to
protect the investors’ in Capital market.
 Hence, By the powers given to me under SEBI Act, I hereby order you to stop
collecting money and refund all the money to those investors with 15% interest
SAHARA This is not right!
→ell, if you’re unhappy with my order you can go to the Securities Appellate Tribunal
SAHARA Pleads before SAT.
SAT SEBI is right. You refund money to those people.
SAHARA Now, I’ll go to Supreme Court.
2012: Supreme Court hearing
SC What are your arguments?
 Those two companies are unlisted. Meaning, their shares are not listed on any
Stock Exchange of India.
 Therefore, their conduct is outside the jurisdiction of SEBI. Because SEBI is
regulator for listed firms only.
 Our matter falls under Union Corporate Affairs Ministry and not under SEBI.
 Nope, this matter comes under my jurisdiction, because
 OFCD is a “security” under the Securities Act= it comes under the Sebi Act=
I’ve the jurisdiction= Hence I can pass a special order to regulate unlisted
Order of Supreme Court
Saare sabuto aur gawaaho ko madde nazar rakhte hue (in the light of all evidence and
 We are unconvinced with your logic that
OFCD schemes don’t come under the
scope of SEBI.
 Mostly rural people have Invested money
in your schemes and they’re not aware of
 At the end of day, they would come and
say that they were cheated. You know
Harshad Mehta’s case, same modus
operandi was there. Investors were not
aware of the scheme.
 It seems you have no intention of
returning the investors’ money. Your
intentions are shady.
 We order you to refund the money.
 If those two companies of SAHARA
donot refund money, you’re free to
attach their properties and freeze their
bank accounts.
 Also conduct a probe against those two
Sahara companies to find out their
actual subscriber base. (to make sure
some funny game or money laundering
isnot going on.)
 Check the genuineness of the investors
and if the investors are not traceable,
the amount will go to the government.

 As you’ve seen in ^this case,
SAHARA’s main argument is
“SEBI doesn’t have jurisdiction
over our OFCD investment
scheme, because this money was
meant for our “unlisted”
 Government has decided to fix
this ambiguity in the new
Companies Act.
 According to Companies Bill 2012
(passed in Lok Sabha): SEBI will
have undisputed jurisdiction over
any investment scheme involving
more than 50 investors-It doesn’t
matter whether you’re a listed
company or an unlisted company.
Find incorrect Match:

a. Only 1
b. Only 2
c. Both
d. None
Sugar Pricing and Decontrol, Rangarajan
Committee, FRP vs SAP meaning, issues,
How does Government control Sugar
 There is a lot of control by the government both state and centre over the sugar industry.
 To look at this one must look into the production lineup of sugar.
 Let us understand the sugar producing process first.
 This simple diagram will explain the process

Now the government control on the major aspects can be visualized easily. So the control by
government at every stage is:
Stage #1: Crops and Farmer
The farmers must sell their produce to the nearest mill. And just the converse of this, the sugar
mills have to purchase sugarcane from reserved areas.
Stage #2: Sugar Mills:
1. Distance
Mills must have a distance of 15kms between them.
2. Pricing of Sugar
The mill owners must compensate the farmers according to 2 different
norms for giving them the sugarcane – FRP and SAP.(explained
3. Pricing of Other
The other products such as Molasses, Bagasse, Press Mud are very
useful side products of sugar industry. Their remuneration to the
farmer is not fixed and varies with the time.
4. Levy of Sugar
The mill owners must give 10% of their production to the central
government which they use to supply to the state governments for
their state Public Distribution Systems (PDSs).
5. Packaging The sugar must be packaged in jute bags. (this is done to promote
labour intensive jute industry.)
6. Market
The market is also heavily government controlled. The export and
import of sugar is decided by the government depending upon the
domestic demand.
Before going into the recommendations of the committee let us look at the difference between
FRP and SAP.
What is FRP and SAP?
 The FRP and SAP are prices set by the different governments at which the mill owners
will reimburse the farmers.
 This is the minimum price that they pay to the farmers for the sugarcane.
Fair Remunerative Package State Administered Price
Central Government issues
price.(Has no voice)
State government issues price(Has most voice).
Generally lower.
Generally higher.(To fulfill the votebank issues as sugarcane
farmers form a large votebank).
When the state government issues its SAP then the mills in the state are bound to pay by that
amount only. This was held valid in a Supreme Court judgment in 2009.
Rangarajan Committee:Recommendations
Remembering the earlier diagram of the sugar process and the government control, the
Rangarajan committee report recommendations can be easily mapped.
Recommendation Remarks
Sugar crop
Do away with reserved area. Give farmer option
to trade with any mill.
Empowering the farmer to do
better business.
Do away with minimum distance between mills. To enable competition.
Pricing of
1. Give the farmers FRP price at the 1st stage and
do away with SAP.2. Share 70% of the sold value
of sugar+molasses+bagasse+press mud at the 2nd
Double stage strategy to have
better cash flow to
mills.Putting proper system
for remuneration.
Do away with the jute packaging Can save about 1000 crores.
Levy of
Do away with the 10% sale to the central
government. Instead, pass on the subsidy to state
government, which can buy the sugar from the
market and give it subsidized.
Can ease central subsidy
tension. The levy savings is
about 2000 crores.
Ease the market control of government on export
and import.
The move is to help
India(17% of world
production) to enable its
exports(only 4% of world
export), but leaving it all to
the market is risky.
Conclusion to all the UPSC aspirants:
 This is similar to many other committees formed by the government to recommend the
sugar industry decontrol. Committees under Mahajan (1998), Tuteja (2004), Thorat
(2009) and Nandakumar (2010) had similar recommendations.
 So most probably these recommendations will also bite the dust like others.
Banking Business Correspondents Agents
(BCA): Meaning, functions, Financial
Inclusion, Swabhimaan, Common Service
Centres (CSC)
What is financial inclusion?
 Give every poor man a bank account. And help him get a loan from banks.
Financial inclusion involves
1. Give formal banking services to poor people in urban & rural areas.
2. Promote habit of money-savings, insurance, pension-investment among poor-people.
3. Help them get loans at reasonable rates from normal banks. So they don’t become victims
in the hands of local moneylender cum thugs.
Three important initiatives taken by RBI for financial inclusion:
 Lead banking scheme (LBS).
 RBI assigns a district to a particular bank.
 That Bank will be responsible for promoting banking services and financial literacy,
in that district.(=financial inclusion).
 No frills account.
 Poor people can open bank accounts with very low balance e.g. Rs.5 only.
 →e’ve already discussed that in earlier articles: Click me and click ME
 Business Correspondents (BC) system. Discussed in this article.
Why Business Correspondents system?
 If Financial inclusion means “open bank accounts for poor people.” Then what’s the big
deal, just open a damn account!
 Not so easy. India has around 6 lakh villages. Most of them don’t have bank branches.
 Ok so →hy can’t banks open branches in every village?
No profit
 Because Administrative costs will be high= Building rent, telephone, electricity, staff
salary, security guards.
 On the other hand volume of business is very “low” in village areas=amount of money
deposited, loans taken.
 Means there is No profit. Actually it’ll lead to heavy losses.
Reluctant staff
 In many villages, there is no electricity, no good schools/drinking water, naxalite
problem= Bank staff doesn’t want to serve there.
 Therefore banks don’t like to open branches below district HQ or Tehsil level. Now
comes the problem
Hardships faced by poors
 A poor man lives in remote village.
 This man has deposited some Rs.2000 in a bank @his tehsil.
 Now, He wants to take out some money from his bank account.
 So He’ll have to make a trip for 10-20 kms =travel =time and cost.
 He is illiterate so he doesn’t know how to fillup bank slips, other paperwork. He needs to
ask for help here and there in the bank office.
 And most banks/post-offices don’t treat poor people with respect or priority like they do
with regular customers.
 So, he may have to wait for many hours, move from this table to that table, before he gets
his money.
 = he cannot return to his village and do his daily job/work.
 = his one day’s income is lost.
 Same process repeats, when this man wants loan to buy a new cow, pumpset, seeds or
 One the other hand, local money lenders in his village, give money quickly, without
asking many questions or requiring him to fillup two dozen application forms. (but then
they extract 36% compound interest from this poor man, thus making his life a living
1. Banks
→e can’t open branches @every village, because it’s not profitable.
2. poor people →e can’t make trip to nearest town to access banking facilities, because it
is inconvenient.
So, what’s the solution?
How about a “middleman / agent” between banks and the poor people?
Who/What is Business correspondent?
 Business correspondents are bank representatives.
 They help villagers to open bank accounts.
 They help villagers in banking transactions. (deposit money, take money out of savings
account, loans etc.)
 The Business Correspondent carries a mobile device.
 The villager gives his thumb impression or electronic signature, and get the money.
 Business Correspondents get commission from bank for every new account opened,
every transection made via them, every loan-application processed etc.
Who can become Business correspondent for
1. Non-Governmental
2. Self Help Groups (SHGs),
3. Micro Finance Institutions (MFIs)
8. farmers’ clubs
9. Community based organisations
10. Cooperatives societies
11. Village Knowledge Centres,
4. Post Offices
5. Insurance agents
6. Panchayats
7. Civil Society Organisations (CSOs)
12. Agri Clinics/ Agri Business Centers,
13. Krishi Vigyan Kendras
14. Khadi and Village Industries units
15. corporate entities with IT outlets in rural
Functions of Banking Business
1. Create awareness about savings.
2. Give advice to villagers, about how to save/invest money and how to arrange/manage
3. Help the villagers to open bank accounts.
4. Collect loan applications, forward them to bank.
5. Preliminary processing of loan applications for example: verification of person’s identity,
home-address etc.
6. Help the Self Help Groups (SHG), to get loans.
7. Help the bank to collect EMIs and recover loan money.
 Initiative by the Finance Ministry + Indian Banks’ Association
 launched in 2011
 To bridge economic gap between rural and urban India.
 Make banking facilities available to every habitat with a population >2000 (by March
 Banks will provide basic services like deposits, withdrawal, Kisan Credit Card (KCCs)
etc via Business Correspondents (BCs) also known as Bank Saathi.
 Banks will also working together with the Unique Identification Authority of India
(UIDAI) for opening new bank accounts.
 Government will send subsidies and social security benefits (pension etc.) directly to
beneficiary’s account.
 Beneficiary can withdraw the money from the Business Correspondents (BCs) in their
village itself.
 Government has provided 500 million rupees to banks for taking these ^initiatives.(e.g.
paying Commissions to Bank Saathi, their training cost, doing paperwork with UID.)
Reforms in BC model
Common BC
 Last year Finance ministry came up with this proposal:
 India be divided into 20 clusters.
 A common BC be appointed for all public sector banks operating in that geography.
 Such a move would improve the economics of the BC model. (otherwise so many BCs,
fragmentation=nobody earning decent Commission=nobody improving the service
 Reserve Bank of India (RBI) has permitted all business correspondents (BCs) working
for one particular bank, to conduct business for other banks as well.
 FINO, India’s largest Business Correspondents company
 FINO=Financial Inclusion Network and Operations (FINO).
 It is promoted by various Public and Private sector banks and insurance companies like
 Last year, FINO become the common Business Correspondents company for all public
sector banks operating in Jharkhand.
NREGA payment
Old system New system
1. A villager earns some cash under
2. Government gives cash to bank.
3. Bank gives it to B.C.
4. B.C. deposits it into MNREGA
worker’s account.
1. All accounts will be maintained by core
banking system.
2. So, cash directly goes from Government > Bank
>MNREGA worker’s bank account.
3. Villagers will have the freedom to make their
withdrawals from any BC they choose.
Kiosk Banking
 The D.I.Y. (Do it yourself) banking services e.g. ATM, internet kiosks = still expensive.
 There is also lack of education + awareness in rural areas about such things.
 So even if Government /bank installs such automatic ATM, internet kiosks=> most of the
time they just gather dust.
 Therefore, technology-based ‘self-service’ model (e.g ATM, internet kiosks) is not useful
at this stage.
 And hence we need Personnel (these Business Correspondents=middlemen). Because
often villagers are illiterate, so they can’t even fill up the forms for opening bank
accounts or loan-application or filling the deposit slips etc. Business Correspondents are
essential at this stage.
 But again problem: The cost per transaction remains high. (Because Bank has to pay
commission to B.C.agent.)
 Therefore, Chindu has suggested following solution for long term:
 Migrate from banking correspondent model to Kiosk banking = mobile vans fitted with
ATM machines+ biometric devices.
 They’ll provide banking services in remote areas.
BCA for Direct Cash Transfer?
 In November 2012, Mohan announced Direct Cash transfer scheme. (will be covered in
detail, later)
 Anyways, under Direct Cash transfer scheme, Government will directly deposit
payments, subsidies, scholarships, pensions etc into the beneficiary’s bank account.
 Sounds well and good? Well, here is the big problem
 There are about six lakh villages in India.
 And despite all these financial inclusion initiatives (of FINMIN+RBI), still only ~75,000
villages have a bank branch or business correspondent agents (BCA). So for the poor
people in remaining ~525000 villages still face the problems we saw` in MNREGA
payment withdrawl.
 So Direct Cash Transfer will be #EPICFAIL unless each and every village is covered
under banking services.
 Therefore, recently Chindu asked the banks to have at least one bank branch or business
correspondent agents (BCA) for every village or group of villages with 1,000 to 1,500
 In the villages without BCA, Department of Electronics and Information Technology will
install Common Service Centre (CSC).
 This CSCs will serve as the BCA.
 Right now, CSC will used only for opening new accounts of beneficiaries under the
scheme for direct cash transfer.
 Only after banks install the software and complete other technical requirements for cash
transactions, the CSC will allow villagers to withdraw cash from their accounts.
Side note on CSC
 Common Services Centers scheme= started in 2006.
 Aim= set up of 100,000+ (one lakh) internet enabled centers in rural areas under the
National e-Governance plan (NeGP)
Mock questions
Q1. Financial inclusion involves
1. Covering rural poors in banking net.
2. Covering urban poors in banking net.
3. Providing jobs to poor people.
4. Providing vocational training to poor people.
5. Spreading banking awareness among poor people.
a. Only 1, 3 and 5
b. Only 1,2 and 5
c. Only 3 and 4.
d. All of them
Q2. Find incorrect statements about “Swabhimaan” scheme
1. It was launched by the Ministry of Social justice in 2009.
2. It aims to provide insurance coverage to laborers in unorganized sector.
3. It aims to provide financial inclusion to people residing in remote areas of India.
a. Only 3
b. Only 1 and 2
c. Only 2 and 3
d. Only 1 and 3
Q3. Who among the following, is/are eligible to become Business correspondents for banks?
1. Post office
2. Panchayats
3. NGO and Insurance Agents
4. Self Help Groups (SHG)
a. Only 1 and 2
b. Only 2 and 4
c. Only 2 and 3
d. All of them.
Descriptive Questions
1. Swabhimaan (5m)
2. Swavalamban (5m)
3. Common Services Centers scheme (5m)
4. Write a note on National E-governance Plan (NeGP) (10m)
5. Define Financial inclusion. Discuss the initiatives taken to achieve financial inclusion.
1. Apart from what is already being done, what new initiatives should be taken to achieve
100% financial inclusion?
Dedicated Freight Corridors (DFC), High
Speed Rail Corridors, Rail Tariff Regulatory
Authority, Issues, Reforms in Indian
Why Dedicated Freight Corridors (DFC)?
 For high GDP growth, we need lot of electricity =lot of coal need to be transported from
mines to thermal power station.
 For infrastructure (bridges, roads, buildings)= need fast transport of cement, steel,
 Because of growing international trade via sea lanes= need to quickly transport products
from factories to ports.
 This has led to birth of Dedicated Freight Corridors along the Eastern and Western
Routes in 2005.
Eastern Corridor Western Corridor
Start Ludhiana in Punjab Dadri in Uttar Pradesh
1. Haryana,
2. Uttar Pradesh
3. Bihar
1. Haryana
2. Rajasthan
3. Gujarat
4. Maharashtra
End Dankuni in West Bengal Jawaharlal Nehru Port Trust near Mumbai
When to complete? 2017 2016.
Length approx. 1800 1500
Total length 3000+Kms. Japan is providing financial and technical help for this project.

Benefits of Dedicated Freight Corridors?
1. The existing rail network, runs on a combination of diesel + electrical trains.
2. The Dedicated freight corridor will operate entirely on electric trains= less greenhouse
3. After Dedicated freight corridor, the passenger traffic and freight (goods) traffic will be
separated = leading to faster speeds and efficiency.
 Under the High Speed Railway corridors (HSR) plan, the Railways intend to run trains at
the speed of 160 km to 200 km per hour.
 Ministry of Railways has selected following six corridors
1. Delhi-Chandigarh-Amritsar
2. Pune-Mumbai-Ahmedabad
3. Hyderabad-Dornakal-Vijaywada-Chennai
4. Chennai-Bangalore-Coimbatore-Ernakulam
5. Howrah-Haldia
6. Delhi -Agra-Lucknow -Varanasi – Patna
1. A high-speed rail moving at speeds of 300 km/hr would take just about 2 hours to reach
from New Delhi to Lucknow. Currently, it takes six hours for the fastest train on the route
to cover the same distance.
2. The benefits of high-speed rail are immense vis-a-vis road and airlines. These rail
systems have 30% less land requirement in comparison to expressways for same carrying
3. High-speed railways would directly compete with economy class tickets of an airline.
4. These trains are highly fuel-efficient as their energy consumption is one third less than
private cars and 5 times less than airplanes.
 Railways is more interested in constructing the Ahmedabad-Mumbai project first.
 But Planning Commission recommends that Delhi-Agra corridor should be constructed
first. Because it is shorter and cheaper than A’bad-Mumbai project.
National High Speed Rail Authority
 Ministry of Railways has decided to set up a National High Speed Rail Authority
 It’ll be an autonomous body through a bill in Parliament .
 NHSRA will be responsible for planning, implementation and monitoring of High Speed
Rail Corridor projects.
 NHSRA is being proposed to be set up on the lines of the National Highway Authority
and it would be under the Railways Ministry.
 selection of chairman and members of the NHSRA would be done by the Public
Enterprise Selection Board (PESB) with the approval of Appointment Committee of
Rail Tariff Regulatory Authority
 Railways Act, 1989, Ministry of Railways enjoys full powers to fix tariffs.
 But Finance Ministry recommends that a separate body should be established to regulate
tariff in Railways.
 Currently, Telecome sector has TRAI to regulate the tarrifs.
 Because Railways is a monopoly. therefore an independent regulatory mechanism
 This authority will help Railways to improve performance and tighten productivity loss.
 And To ensure that the Railways meet the transport requirement at the minimum cost to
Counter arguments: Rail Tariff Regulatory
 Road transport segment is entirely in the private sector and it doesn’t have any regulatory
body to fix transport prices.
 In Aviation sector, there are both private and public operators (Airindia!) and yet there is
no regulatory authorities to control transport prices in Aviation either.
 And both road transport and aviation =competitors of Railways.
 So, if they don’t have a price regulator then why should Railways?
 Besides, Ministry of Railways doubts such authority will not help fulfilling the social-
objectives.(such as concessional passes for students, cheap tickets for poor people)
 On these arguments, the Working Group of planning Commission has said, “maintain
status-quo. No need to setup Railway Tariff regulatory authority.”
India vs China: Railway success
The Productivity of Chinese Railways= >More than twice of Indian Railways! Why? Because
China India
1. They use heavier, longer and faster
freight trains to transport coal, cement,
iron-ore etc.
 →e don’t have the money to buy such
2. They’ve outsourced the minor tasks
(such as cleaning the railway coaches,
providing blankets to passengers etc.)
to private companies =cheaper input
 Not done to annoy unions, vote bank.
cost and more efficiency.
3. They closed down many railway
stations with low volume of freight or
 Not done.
4. They don’t usually provide rail service
for short distance passenger traffic.
This is done to release staff and trains
for longer distance rail travel.
 Not done
5. Their railways doesn’t waste ca$h on
opening museums, cultural centers,
hospitals etc.
6. Whatever hospitals, schools etc.
Chinese rail authorities were running in
the past, they handed it over to local
 Prior to W.Bengal election, Ex-Railway
minister Mamta Benerjee announced
many such projects like Tagore museum,
bottling plant, hospitals etc.
 These projects may be socially desirable
but economically they’re not viable.
 Railways shouldn’t involve in these
7. Their wagon construction factories run
on private-corporate level efficiency.
 Our factories run like just “sarkaari”
department= low productivity.
 The ruling party would insist to setup new
factories in the election constituency of
their leader.=not good from production/
Management/economy point of view.
8. China abolished the “regional-division”
system and centralized the management
of depots, stations and yards= more
 Our railways has “division”: western,
southern….=empires within empire.
What do we need to do?
Planning Commission formed a working group on Railways. It has recommended following
Passenger trains
 Restructure the tariff to maximize Revenue. (=increase ticket prices)
 At present, speed of trains of Passenger Mail/Express trains is below 55 kmph.
 These are low as per international standards.
 On popular routes, 24/26 coaches trains should be run to generate additional capacity.
 Replace conventional trains by EMUs/MEMUs/DMUs.
 Railways should develop alternative terminal at sub-urban areas of major cities.
 Railways should hasten the implementation of Dedicated Freight Corridor. This way
passenger and freight traffic will become separate from eachother= faster passenger
services, quicker freight movement.
Goods transport
 Following the Chinese success story, our strategy should be “HEA↑IER, LONGER,
FASTER” trains for freight (goods) transport.
 Upgrade to heavier (higher axle load), speedier (100 kmph) and longer freight
trains=maximum utilization of existing track capacity.
 →e should Import bogies from USA. They’re more track-friendly and capable of carrying
enhanced loads.
No subsidy on magazines
 Indian Railways carry ‘Magazines’ parcel at highly subsidized rates.
 But nowadays the cost of magazines is very high and it is a profitable business!
 Besides, Magazines are not read by poor people.
 Therefore, Railways should stop giving concessional rates for transporting ‘Magazines’.
 However, Railways should continue giving concessional rates for transporting
Perishable cargo
Under Kisan vision project.
 cold storage and temperature controlled perishable cargo centres
 Refrigerated Vans (VPRs)
 Through Public Private Partnership mode,
 Project done in Singur, Nasik and Jalpaiguri etc.
 There are almost 15000 unmanned level crossings. = They’re responsible for 40%
accidents (2011 data.)
 Accordingly, Indian Railways Vision – 2020 and Railway Budget Speech, these
unmanned crossing have to be fixed in the next five years.
 For Signaling & Telecommunication in Railways, switch over to systems and equipment
of higher reliability and safety levels.
 Setup On-Board Fire detection and Fire Fighting equipment in trains.
 Use of GPS technology and RFID technology for tracking railway trains.
Biometric VCD
 Driver’s ↑igilance Telemetry Control System).
 It is a small wrist-watch like device. It constantly moniters driver’s posture, pulse etc.
 So if the driver has consumed desi-liquor and fell half-asleep in the cabin, the station
manager would get alarmed and can automatically stop the train.
 Russia has been using such telemetry system for Locopilots (=train drivers) since a long
Train Collision Avoidance systems (TCAS).
 It is combination of GPS and Radio Frequency.
 It applies brakes without pilots.
 It avoid collisions due to human errors, rain or fog, natural calamities or sabotage.
 This would minimize human dependence in train operations and enhance the level of
 Railway would need more than 16000 crores to do all these things. And Government of
India is tight on cash already (MNREGA, food security get the picture)
 So Railways will need to arrange the cash by itself = need to raise the tariffs, otherwise
safety reforms can’t be done.
Misc. Cost reduction
 LED based lighting & Display System to reduce electricity bill.
 Provision of solar Panels, Solar Water heaters, Solar Pumps etc. in Hospitals, Running
Rooms, Rest Houses run by railways.
 Provision of roof top Solar Panels on passenger coaches running in Close Circuits
 Grid connected Solar Panels at major stations.
Human resource Management
 For the medium term, UPSC should provide railway officers.
 But in the long term, railways itself should hire personnel from IIMs/IITs.
 Railways should also allow for lateral recruitment in R&D, marketing and finance, HR.
Minor works Major works
cleaning of coaches,provision of
blankets and food in trains
manufacturing locomotives,
coaches, wagons.
Suggestion of
planning commission:
Outsource this work private
companies=less cost than permanent
Partial disinvestment. Run it on
corporate lines.=more efficiency.
 ^Both Chinese Railways and Japanese Railways are doing this.
Mock Questions
Q1. Correct statement about Dedicated Freight Corridors?
1. It is made up of three sub-corridors: Western, Eastern and Northern
2. The Eastern Corridor will connect Punjab to W.Bengal
3. Only electrical trains will be operated on these corridors.
4. The Western Corridor will connect Punjab to Karnataka.
a. Only 1 and 4
b. Only 1 and 3
c. Only 2 and 3
d. Only 2 and 4
Q2. Correct Statement about National High Speed Rail Authority
1. It’ll be responsible for implementing the Dedicated Freight Corridor project
2. It’ll be an autonomous body, established by an act of parliament.
a. Only 1
b. Only 2
c. Both
d. None
Q3. Which of the following states are common for both Eastern and Western Dedicated Freight
Corridor projects?
a. Rajsthan and Gujarat
b. Delhi and Haryana
c. Haryana and UP
d. UP and Bihar
1. National High Speed Rail Authority (5m)
2. Train Collision Avoidance systems (TCAS) (5m)
3. Examine the case for setting up a nation railway tariff authority (10m)
4. Write a note on Dedicated Freight Corridors (12m)
1. Railways: The artery of India.
1. (in context of the issue that Planning Commission says run high speed train on Delhi-
Agra while Railways wants Ahmedabad-Mumbai)…which project should be taken up
first and why?
2. Should Government establish a separate regulatory authority to regulate transport price
in highway and aviation sector? Yes/No why?
3. You’re made the Railways minister. →hat will be your first five initiatives?
Banking Ombudsman: Meaning, functions,
appointment, reforms explained
From UPSC point of view, you don’t need to memorize all minute details given in this article
(they’re provided for IBPS/SBI PO exam).
What is Banking Ombudsman (BO)?
 He hears customers’ complaints against banks.
 BO was first setup in UK.
 In India, RBI started this scheme in 1995.
Appointment & Tenure
 Earlier RBI used to appoint reputed persons from banking, finance, management, legal
etc. sectors as Banking Ombudsmen (BO).
 But now RBI has reserved this BO post for its own Chief General Managers and General
 Tenure: 3 years at a time.
 Reappointment: yes possible.
 Banking Ombudsman (BO) Scheme applies to whole of India (including Jammu and
Banking Ombdusmen have jurisdiction over
1. All commercial banks (scheduled and non scheduled, public and private)
2. Regional rural banks
3. scheduled primary co-operative banks
4. NBFCs (BO’s Jurisdiction limited to “loan” part.)
 BO is not a replacement of Consumer forum/courts. He merely supplements them.
 BO deals with matters less than or equal to Rs.10 lakhs.
 Here are some examples situation where BO can help you:
Regular banking
1. Demand draft, cheques, pay orders etc. not issued on time. (or not paid on time)
2. Credit card related complaints (e.g. bank putting hidden charges. Your credit card was
stolen but bank did not disable it even after you called them.)
3. You asked the bank to close your account / credit card but they are not doing it.
4. Bank refuses to open your account without giving valid reasons.
5. Bank closes down your account without valid reasons.
6. Government / your company deposited salary / pension in your account but the bank is
not releasing it on time.
7. Bank is taking out money from your account in pretext of some flimsy charges.
8. Branch office notice board says “10.30 to 5” but staff refuses to provide you service after
9. NRIs having bank account in India and facing problems about remittances etc. (e.g. he
deposited money from America, but his parents are not given money on time.)
1. Your loan application is not processed in time.
2. Your loan application is rejected without valid reasons.
3. You loan application is accepted but money is not released in time. (and still bank is
charging interest on it!)
4. Bank doesn’t follow RBI guidelines regarding loan-recovery agents (e.g. bank hires some
criminals to bully and harass you.)
5. Bank doesn’t follow RBI guidelines regarding loan interest rates.
Procedure for getting justice?
 You’re unhappy with the bank for xyz reason. But you cannot directly approach BO.
 First you’ve to give written complaint to the concerned bank that “I’ve so and so
 and IF the bank doesn’t deal with your complaint within one month, then you can
approach BO.
 On the other hand, you cannot approach BO if the matter is older than 1 year.
 You don’t need lawyer to approach BO.
 You don’t need to pay any fees/ stamp papers for approaching BO.
You can’t approach BO in following situations
1. Matter is higher than Rs.10 lakh.
2. If the matter is pending before any other court, tribunal, forum then you cannot approach
3. If any other court, tribunal, forum has already passed an order on the same matter.
4. You cannot approach BO for frivolous or vexatious complaints (e.g. AC or water cooler
was off when I went to the branch. Someone jumped the queue but security guard did
How does BO settle complaint?
 Upon receiving your complaint, first BO will try to solve the matter via settlement
/arbitration (=try to achieve a compromise, conciliation or amicable solution between
bank and its customer.)
 This has to be done within one month after receiving complaint.
 But if either party (customer/bank) is not accept this (compromise/negotiation/settlement)
then after 1 month, BO will have to pass “order”.
 Now, he’ll ask both parties to present their case/documents etc. And he’ll pass the order
 Two things can happen
1. He rejects your complaint (=bank is not guilty). OR
2. He finds the bank guilty and orders punishment.
 BO can order the Bank to compensate the actual money loss OR Rs.10 lakh (whichever is
 In case of Credit card related cases, BO can order the bank to pay additional fines (upto
Rs.1 lakh) for the mental harassment caused to the customer.
Appellate authority for Banking
 If either party (Bank / Customer) is unhappy with Ombudsman’s order, then they can
approach the Appellate authority (=Deputy Governor of RBI.)
1. If you’re the customer, you can directly approach him.
2. But if you’re the “Bank”, then you can approach him only after getting permission from
your Chairman/CMD/MD or CEO. (This ensures Bank’s lower staff doesn’t
automatically go for frivolous appeals against every order).
Reforms and Issues
 Banking Ombudsman scheme was originally started in 1995.
 But in subsequent years, RBI made many reforms in it, some of them are:
originally After reforms
Reputed persons from law, finance,
banking, Management, administration etc.
can become BO.
Only RBI’s own officers can become BO.