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Volume 2, Issue 2

August 18, 2011

Vinod gupta school of management, IIT KHARAGPUR
US DEBT RATING UNTOUCHED AT AAA Giving a relief to the markets, Fitch maintained the US debt rating at AAA with the outlook also being stable. Fitch‘s rating was the best among the three ratings. A week ago S&P downgraded the US to AA-plus from AAA for the first time in 70 years. While the third agency Moody also maintained the rating at AAA, it said the outlook was negative. Fitch noted that though the US debt had been raising, the key pillars of the U.S. credit worthiness remained intact and hence it retained the rating. However, even Fitch warned that it would lower the outlook to negative if the Congress failed to trim the defects. The S&P‘s downgrade last week sent the markets in US crashing while the markets all over Europe and Asia also ended low. The investors were fleeing to safer investments like gold. But this downgrade had not been quite unexpected, as S&P had turned the outlook to negative in April 2011 itself. S&P reasoned its rating that the fiscal consolidation plan came up by the Congress would not be sufficient to handle the medium term debt dynamics of US. The reason was more due to lack of belief in the US government in reducing the long – term deficits in next two years. S&P also mentioned that assuming the second round of spending cuts of at least $1.2 trillion as recommended in the Act that the Congress had come up with does not occur and under some other less favorable macroeconomic conditions, it could downgrade the long term rating to ‗AA‘. While countries like Canada, France, Germany and U.K. also have ‗AAA‘ ratings, the US net public debt is on the higher side. The net government debt to GDP ratios for Canada is 34% and for U.K. is 80%, the same stands at 74% this year. S&P projects that these ratios will begin to decline by 2015 for many of these countries, for U.S., it might grow up to 79%. The US government currently owes over $14 trillion in debt, of which $4.5 trillion is owed to overseas investors. China and Japan are the two biggest bond holders with both the countries holding more than 2 trillion dollar bonds, followed by U.K. The downgrade would increase the borrowing costs of US now. Also, it would force money managers who are required to invest only in AAA rated investments, to dump their T-bills. However, there is no much difference in the default rates between AAA and AA plus rated securitiesboth are less than 2%, And US external debt is denominated in US dollars. So, the US government could inflate the debt by simply printing the US dollars. The Securities and Exchange Commission of U.S. has decided to scrutinize the model adopted by S&P in downgrading. This move came after the Treasury officials noted that there was a miscalculation to an extent of $2 trillion. However, the agency announced that the contention was based on a difference in assumptions and not a miscalculation. Despite all these, it is high time the two main political parties of the US came up with a good plan on how to control these deficits. (Contributed by Ramya Krishna P, MBA 2nd Year)

About Fin-o-Menal
Fin-o-Menal is the Fortnightly Financial News Letter of VGSoM which is published by Finte`est, the Finance Club.
Come, Take Interest in Finte`est!

Editors
Harish Thangaraj Lavanya Rajasekaran

Rates As On August 22nd

45.78

65.84

75.40

7.15

Editors’ Note
Finte`est congratulates the Batch of 2011 for being a part of the 57th Annual Convocation of IIT Kharagpur.

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Fin-0-Menal

Volume 2, Issue 2

August 18, 2011

Markets This Week
Index Opening Value (Aug 22) Closing Value (Aug 22) Change BSE NSE

An Analysis of the BRIC Nations Goldman Sachs‘ John O‘Neill would have never imagined the significance of BRIC, a term he coined to club four nations: Brazil, Russia, India and China for his research paper entitled ―Building Better Global Economic BRICs‖ in 2001. In the report he explored the countries‘ impact as emerging economic powerhouse post 9/11. The report proposed that by virtue of BRIC‘s rapid growth rate, it will eclipse all the economies of the richest country by 2050.The BRIC acronym has come to be used as a symbol of the shift in global economic power away from the developed G7 economies—like the U.S.—and toward the developing world. The term break out of corporate world in 2003 into mainstream lexicon, BRIC nations accepted the mandate and began first political dialogue with their foreign minister in September 2006 at the sidelines of UN General Assembly. The cooperation gathered momentum in 2009 when leader of BRIC Countries met in Russia and have been meeting on annual basis since then. The divergent nature of BRIC economies provides plethora of opportunities to collaborate as per their strength and weaknesses. Broadly, we can classify them into two groups, Brazil and Russia can be clubbed together into commodity driven economies with Brazil specializing in agriculture sector and Russia in energy sector. China & India can be clubbed together with their expertise in providing low labor cost in Manufacturing and Services industry respectively. These two groups hold symbiotic relationship with each other, high demand for raw materials in India and China boost the GDP of Russia and Brazil. During 2008-09 financial crises, BRIC countries were able to manage a quick turnaround because they kept increasing trade among themselves even though the global trade was decreasing, this was possible only because the unique symbiotic relationship they possessed. As per rough estimates, during the nine years ending 2008, trade within the four nations grew nine fold. The high rate of GDP growth in these countries is unsustainable until and unless they shift their focus to emerging markets and especially among BRIC nations itself. Global events like US Debt Ceiling crisis, possibility of sovereign debt default in Euro zone countries, have further shrunk trade opportunities with developed countries. Moreover internal factors like the continuous inflationary pressure have raised the possibility of economy overheating in several growing economy (BRICs Included). Indian Central bank for example has raised its key policy rate 11 times since March 2010 and is widely expected to raise it by a further 0.50 percentage point by March to tame inflation that has been at uncomfortably high levels for more than two years, China too is trying hard to contain inflation hence scope of fiscal manipulation to boost growth is limited at this stage. Among BRIC nations, Brazil‘s key strength lies in abundant natural resources, agricultural products and having relatively diversified economy, it can be utilized by favoring trade links with India and China which are struggling with rising inflationary pressure, especially in food prices. China is relatively quick mover and has been increasing its presence there, Indian companies are increasing trade in few sectors like Sugar, Pharmaceuticals and to a large extent in IT services to tap the local demand and also to serve US based client by building a workforce that works in same time zone. On the other sides, Russia possesses wealth of natural resources, technology, and skilled labor force and has been strategically important country, India & China can use its technological advancement to improve their resource utilization, improve research co-ordination and improve skilled labor force, subsequently Russia can better use its underutilized labor to earn and get good market to sell its vast natural resources. India and China given their geographical proximity and size is natural trade partner, Current trade amounts to $60billion in 2010, India‘s consumption based economy and China‘s export based economy makes them natural partners for trade. At current level there is ample opportunity for trade to grow, the sustenance of BRICs growth will depend on how quickly they react to the changing situation. The way ahead is to decrease dependence on other countries and collaborate. (Contributed by Rahul Ravi, MBA 1st Year)

16141

4845

16341

4899

1.24%

+1.10%

(As on August 22, 2011)

Commodities This Week
Commodity

`
28006

Unit

GOLD

10 gm

SILVER

65159

Kg

OIL

3837

Barrel

(As on August 22, 2011)

Sectors This Week
Indices Last close

BSE IT

4758

AUTO

8192

BANKEX

10765

BSEPSU

7712

METAL

11796

(As on August 22, 2011)

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Fin-0-Menal

Volume 2, Issue 2

August 18, 2011

Did You Know?
American Express started off as a shipping company in 1850, shipping stock certificates and other notes across the United States and capitalizing on the limited reach and slow speed of the United States Postal Service. They began selling money orders and traveler‘s checks in 1882 and issued its first credit card in 1958.

Feasibility Of The Euro Bond Bonds are financial instruments that enable corporates or government to raise capital from people for a definite period of time at a fixed rate of interest. A euro bond is usually issued in a currency other than the currency of the country or market in which it is used. These are issued by international syndicates and are categorized according to the country in which they are denominated, like Euro-Yen or Eurodollars. They may also be traded throughout the world. The US ‗dollar‘ is a strong currency but all bonds cannot be in USD, otherwise hedging will not be possible. As such, the euro bonds come into the picture. As Europe is struggling to stabilize the financial crisis engulfing it since 2009, experts suggest that new bonds denominated in Euros should be called. Most of the major European nations share a common currency but not a common debt load. As such, these experts hope that a shared debt security would help lower the borrowing costs associated with the worst-affected countries like Portugal, Ireland, Italy, Spain and Greece (PIISG). The bail-out plan for these 5 nations as well as the quantitative easing technique have both failed drastically in reducing the debt-crisis. The economy of the comparatively stronger and more stable nations like Germany, the Netherlands and France also seem to be affected. The French President and the German Chancellor met earlier this week to discuss a feasible solution for this crisis. Both the nations have ruled out the idea of issuing euro bonds right now and have instead set up an end-ofSeptember ratification target to enable the European Financial Stability Facility to relieve the European Central Bank of the bond-purchasing job. This is because there are various aspects associated with the issue of euro bonds. A common euro bond may lower the interest rates of the PIISG nations but at the same time, it would also raise the rates of the more stable nations in the Euro zone. This is not a good sign as it may lead to bail-out fatigue. However, we should also keep in mind that if the euro is kept intact, then it would eventually be good news for countries like Germany and France. A euro bond may not be the best solution to the European debt crisis right now. But it does seem like the most feasible one. It would not only help the PIISG nations raise money from the financial markets, but it would also help the affected nations buy their own debt at prices lower than the market rate. This will in turn ease some of the problem to a certain extent. For this, the member nations need more political cooperation and have to be willing to give up control over their national budget. However, countries like Germany may not be willing to make this compromise. Also, another interesting point to be noted is that the worst hit nations cannot be helped without the stronger nations willing to absorb some of the damage. As such, it waits to be seen how the 17 member nations come together and resolve the debt-crisis to save the Euro. (Contributed by Dhiru Rabha, MBA 2nd Year)

International Markets this week

US Dow Jones

London LSE

10937
Japan Nikkei 225

5095
HongKong Hang Seng

8628

19487

(As on August 22, 2011)

Quote Un-Quote

"The probability of another recession is close to that of a coin toss."
50% chance of a Double Dip Recession for the US .

- Fannie Mae (FNMA), the Mortgage giant hints at a

Toon of the week

Q u i c k Q u o t e : If I owe you a pound, I have a problem; but if I owe you a million, the problem is yours - John Keynes

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Fin-0-Menal

Volume 2, Issue 2

August 18, 2011

Debt and Taxes in US– the fall out for India

Of the many prized possessions the U.S.A its long term credit rating was surely a coveted one. It held on to its AAA S&P rating for around seventy long years. The turnaround came in 20072008, after the housing bubble bust led to the ensuing subprime mortgage crisis and brought about the most talked about economic phenomenon of recent times, i.e., the Great Depression, the USA had to pump in trillion of dollars to rescue its Financial institutions of repute. The economists and doomsayers were skeptical alike whether the Sovereign bail out would be enough to bring back the US economy its lost sheen and prestige. But for the time being it seemed the only way out. This rendered some serious fracas on the economic ecosystem of the world‘s most envied nation, the effects of which have scaled up over these years. The budget for this year showed a staggering $1.65 trillion deficit for the current fiscal year. The US national debt has increased, and touched $14.3 trillion in May. Furthermore, the legislators at the helm of the world‘s only superpower had no clue on how to cut on the spending and thereby reduce the sovereign debt. All this ended in a hasty last minute compromise of raising the debt ceiling (to avert a debt default) by around $3 trillion that would reduce the country‘s debt by more than $2 trillion. This political pandemonium has had its effects on the S&P‘s and if concrete measures are not taken, other rating agencies would follow the suit. If we were to look at all these developments from India‘s point of view, the picture does not look all gloomy. Of course, there is no denying the fact that the dollar depreciation would hurt Indian exports by making them less competitive, while cheaper imports will put pressure on domestic manufacturers. The data gathered suggests that Indian exports had declined sharply in the second half of 2008-09 owing to a slowdown in the US economy. The sector that seems to loose the most is the one that is the largest beneficiary of outsourcing, IT sector. Also the Reserve Bank of India has cautioned that in the immediate future its priority will be to ensure that adequate rupee and forex

liquidity are maintained to prevent excessive volatility in interest and exchange rates. But there are also some rosily tinted facets to this turmoil. The slowing down of the world economy will definitely pull down the oil and gas prices which would cut the import bill for India (a great relief indeed!). Moreover, the growth of the country depends to a large extent on the domestic market. This kind of ensures a steady growth rate. Another round of Quantitative easing in the US (third in a row!) is very much on the cards. Every time this happens, some good amount of investments seems to find its way to the emerging markets like India. At the same time, there may be higher inflows of foreign institutional investor (FII) funds. This will lead to appreciation of the rupee, which in turn will help bring down the current account deficit. An obvious course of action for the global investors would be to consider diversifying their assets out of US treasuries. This can very much exert pressure on the dollar. There is also fear that some funds that are not allowed to hold any asset without an AAA rating might be forced to sell treasuries. Also India may not be as vulnerable as compared to China, Japan, Hong Kong or Brazil to loose on its forex portfolio from a spike in US interest rates, as only 13 per cent of its forex reserves are in US treasuries. But to have all these goodies in our kitty, India needs a whole bunch of economic reforms. It‘s high time we take advantage of these happenings and improvise on our BBB- debt rating status in the world. The government should sit up and take stock of it. The reforms should be in the areas of controlling inflation and reducing fiscal deficit; improving economic efficiency; ensuring equitable growth; thrust on education, health and sanitation; an additional three to four per cent investment on infrastructure; addressing issues of land acquisition, rehabilitation and resettlement; deepening policy reforms in the financial sector; addressing gaps in the overall economic regulatory architecture; and last but not the least, to the various environmental issues. (Contributed by Mouli Ghatak, MBA 1st Year)

Count down to India’s Retail Revolution The Indian retail sector is now worth about $450bn, but it is heavily underdeveloped. Well over 95% of the market is made up of small, traditional family-run stores. Now there are finally signs that the Indian government is dropping its protectionist stance and opening up its retail market to greater overseas investment. In a path breaking decision the Singh administration has decided to allow 51 percent foreign investment in single-brand retailers and 100 percent in wholesale operations. Allowing in the big multi-brand, international retail groups like Wal-Mart, Tesco and Carrefour is considered a step too far by the opposition parties who fear job losses among small shopkeepers as there are about nine million small grocery shops in India. Not only chaotic supply and distribution bottlenecks but the high inflation is pushing the Singh administration towards liberalizing rules for the multi-brand retail. Supporters say foreign money would ramp up investment in logistics such as cold storage and unclog supply bottlenecks. The consumer affairs ministry is among those in favor of granting only a minority investment stake to foreign companies. However, it wants any investment by a foreign firm be worth at least $100 million. The ministry wants a commitment from foreign retail players to invest in back-end infrastructure. Further they insist on the foreign access to be restricted to towns and cities with a population of 1 million or more. This move will have its own set of advantages which would be elimination of layers of middlemen, cash transactions entering a formal economy, more investments in retail supply chain and storage and more opportunities for employment to India's working class population. Ultimately what will matter is whether these retailers have long term interests in mind while investing in India and whether they are committed to developing the requisite infrastructure in the country. If yes, then opening up the retail sector may not be such a bad idea as it is being made out to be at present. (Contributed by Jayati Singh, MBA 2nd Year)

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