Implications of a Falling Rupee

With all the talks about the ever sliding Rupee and the 69 jokes on the rupee, it has now become imperative that we do understand the implications of falling money. And as bad as it looks, there are a few bright sides to a depreciating rupee story, but mostly, for a trade deficit country like India, which imports way more than it exports, the fall is worrisome and, well, hugely detrimental to its economy, financial health and the most important of all, budget of its citizens! The implications are huge.

Usual discussions on the fall in the rupee bring up macro-economic, less understood matters such as slowing economic growth, corporate earnings and market volatility to our minds. However, the woes are much more real and visible to a common man, trying to earn a living. For the common man, the falling rupee is going to hit where it hurts the most-the pocket.
                                          
From essentials such as food and education to foreign vacation and the swanky gadget you plan to buy, the falling rupee will hurt the junta in more ways than one.

Moving from, well, pits to hell, the Indian rupee hit new historic low of 68.75 against the US dollar in intraday trade on Wednesday 28th August, on sluggish local stocks and continued dollar demand from importers. And adding to that, Deutsche Bank has said that the rupee may slide to 70 to the dollar in a month or so, although some revival is expected by the end of the year. I believe that the Rupee will slide a bit further down south, stabling at around 75 mark. Why? Because I don’t think RBI can do much to stem the fall. It cannot print dollars to fill the voracious hunger of banks and other institutions which are gobbling up dollars like a dementor sucks your emotions. Strong demand of US currency from importers and banks, continuous capital outflows, widening current account deficit and dollar's strength against other currencies overseas amid expectation that the Federal Reserve will soon taper its bond-buying program has put pressure on the rupee.

Whether the currency would find its stable level or will continue to slide further remains a tricky question. But till the currency settles itself, let’s have a look at how continuous depreciation of the Indian currency will affect the common man and the business fraternity. And to talk of that, let’s start with those who will actually be happy with this fall!

Exports: A feeble rupee will bring delight to the exporters as goods exported abroad will fetch dollars which in return will translate into more rupees. Also, a weak rupee will make Indian produce more competitive in global markets which will be fruitful for India's exports.And this is where we could have cashed on had we been a country which exports more than it imports or a trade surplus country. Sadly, we are not! 

The NRIs: Depreciation of rupee is certainly good news for the overseas Indians. Those working abroad can gain more on remitting money to their homeland for the same amount of dollars! Ah, here comes the wave of NRI bridegrooms again! 

And now for the sad part.

Imports: Buying imported stuff will become a very costly affair. You will have to shell out extra on imported goods. For example, if you bought a product valued USD 1, you paid around Rs 51 (months ago) but you will now have to shell out close to Rs 68 for the same product. And given the fact that we import even basic things like Chairs and Toys, we are sure to be toyed around! And I have not even started the amount of Gold we import. And combine that with high inflation  that has been pinching you for more than a year now. Now, the weakening rupee has made( And will further make) crude oil, fertilisers, medicines and iron ore, which India imports in large quantities, costlier. Though these items are not for your daily consumption, they impact your finances indirectly. 

The impact of rupee depreciation on the FMCG sector will be due to higher cost of imported raw materials. Companies like Unilever and P & G, will revise prices, adding to an already worrisome inflation. Pulses and oil, which account for a large part of India's imports, will also be affected. In fact, crude palm oil prices set the pace for prices of other edible oils. It is imported in large quantities and any rise in its price will add to the inflationary pressure. In fact, the depreciation of the rupee has considerably affected the price of the edible oil complex in a big way, as we import 60-70% of our requirements! For instance, in November-December 2011, the price of refined soya oil shot up by Rs 75 per 10 kg from Rs 651 to Rs 724. It is set to test the 800 level. Do you think these costs will be absorbed by companies? If you , then you are wrong. It will be passed to the consumers to maintain the profit levels.
 
And to talk about that favorite gadget of yours, electronic consumer goods such as computers, televisions, mobile phones, etc, with imported components will also become costlier. International food chains which run outlets in India are also not denying the impact on profitability. 

Fuel price:  How could this not come in the discussion? A weak rupee will increase the burden of Oil Marketing Companies (OMCs) and this will be passed on to the  poor consumers .If the OMCs increase fuel prices, there will be a substantial increase in overall cost of transportation which will stoke up inflation. But one would be foolish to think that fuel price will have an impact only on one’s fuel bill. It will increase the cost of transportation of  grocery items as well as vegetables and this in turn will lead to higher inflation. An increase in transport costs basically means higher inflation in almost everything!

These are the major affected areas. A few more areas, where the effect will be seen are:

RBI’s monetary policy: If the depreciation in rupee continues, it will further increase inflation. In such a situation RBI will have very less room to cut policy rates. No cut in policy rate will add to the borrower’s woes that are eagerly waiting to get rid of the high loan regime. One shivers at the 18% rate for personal loans and 11% for the home loans. What will happen if they shoot up?
Other concerns are for parents of students studying abroad and those planning to go outside the country for their vacations. They will have to shell out more than they had planned to!

                                                                                       

And of course, the ever widening CAD. A frail rupee will add fuel to the rising import bill of the country and thereby increasing its current account deficit (CAD). A widening CAD is bound to pose a threat to the growth of overall economy.
 
In fact, combine this with the poorly planned Food Security Bill, the recipe has been set up for a disaster ahead. We better brace ourselves for the tornado that is going to hit us, unless we prepare for that and get the economy back on track. And for that, no better opportunity than the 2014 elections. 

 

 

 

Time to get the Pseudo family out!

That sad thing called ‘The Food Security Bill’

Before I start a full fledged discussion and why this is a big mistake, let me introduce the Food Security  bill.

The Food Security Bill guarantees 5 kg of rice, wheat and coarse cereals per month per individual at a fixed price of Rs 3, 2, 1, respectively, to nearly 67% of the population.  The government estimates suggest that food security will cost Rs 1,24,723 crore per year. 
 
Let me be just brief here and take on the facts of the above Food Security bill in detail.
 
Although I have been discussing this bill with few of my friends and getting some really, well, interesting remarks, I would like to start this article with the fact that the  weakest point of the right to food security is that it will use the extremely “leaky” public distribution system to distribute food grains. As it has been found out by a recent study, there are estimates that in 2004-05, 70 per cent of the poor received no grain through the pubic distribution system while 70 per cent of those who did receive it were non-poor. They also estimate that as much as 55 per cent of the grain supplied through the public distribution system leaked out along the distribution chain, with only 45 per cent actually sold to beneficiaries through fair-price shops. The share of food subsidy received by the poor turned out to be astonishingly low 10.5 per cent! 

And I have not even started on the facts that how will the govt. identify the people who will receive the benefits under this new Food bill? Let me ask a few questions before I delve deep into the discussion of the issue.

Notwithstanding CAD and all, this scheme is the saddest part of Indian history after the early demise of Lal Bahadur Shashtri. The food bill looks all good on the paper and with the promise of feeding almost 67% of the population, it does ring a bell. However, consider the following:        

1. The govt. says that there are only 21% poor people in the country. Then why give this to 67%? Why put this burden on the people paying taxes? Or were they lying when they so gloriously said the poverty has gone down? Either this is a lie or a major scam in the making.

2.The biggest question is how will the govt. identify the 82 Crore people it plans to provide the subsidized? That my dear friend is where the Bill fails! Only 16 Crore people have Ration Card and i am pretty sure the poorest of the poor don't have them. Even for argument's sake, say all the poor have one. How will you identify the rest? What is the formula for the same? The limits and all? For me, this is simply an ill-planned measure for the next elections, nothing more.

3. Now, say the above problem was, by some magic, solved. How will the govt. procure so much of food grains and from where?  I will explain this part later on, but again say they procure it somehow, in the process lowering the rupees further. Now, when they don't even have the storage and the distribution mechanism for the present PDS foodgarins, how are they supposed to store almost thrice the amount? This is something I can't digest.

The Other question is: From where the money will come for this plan? For sure, it will not rain?

The government estimates suggest that food security will cost Rs 1,24,723 crore per year. But that is just one estimate. Some Economists puts the cost at around $25 billion. The Commission for Agricultural Costs and Prices(CACP) of the Ministry of Agriculture in a research paper puts the cost of the food security scheme over a three year period at Rs 6,82,163 crore. During the first year the cost to the government has been estimated at Rs 2,41,263 crore.
 
Some say (And I doubt the credibility of these so called Economists)the cost is only  around 1.35% -3%of GDP. The problem here is that by expressing the cost of food security in terms of percentage of GDP, we do not understand the seriousness of the situation that we are getting into. In order to properly understand the situation we need to express the cost of food security as a percentage of the total receipts less borrowings of the government. The receipts of the government for the year 2013-2014 are projected at Rs 11,22,799 crore.
 
The government’s estimated cost of food security comes at 11.10%(Rs 1,24,723 expressed as a % of Rs 11,22,799 crore) of the total receipts. The CACP’s estimated cost of food security comes at 21.5%(Rs 2,41,623 crore expressed as a % of Rs 11,22,799 crore) of the total receipts. Bhalla’s cost of food security comes at around 28% of the total receipts (Rs 3,14,000 crore expressed as a % of Rs 11,22,799 crore).

Once we express the cost of food security as a percentage of the total estimated receipts of the government, during the current financial year, we begin to see how huge the cost of food security really is. This is something that doesn’t come out when the cost of food security is expressed as a percentage of GDP. In this case the estimated cost is in the range of 1-3% of GDP. But the government does not have the entire GDP to spend! 

It can only spend what it earns.

The interesting thing is that the cost of food security expressed as a percentage of total receipts of the government is likely to be even higher. This is primarily because the government’s collection of taxes has been slower than expected this year. The CAG has said the same. For the first three months of the financial year (i.e. the period between April 1, 2013 and June 30, 2013) only 11.1% of the total expected revenue receipts (the total tax and non tax revenue) for the year have been collected. When it comes to capital receipts(which does not include government borrowings) only 3.3% of the total expected amount for the year have been collected.

What this means is that the government during the first three months of the financial year has not been able to collect as much money as it had expected to. This means that the cost of food security will form a higher proportion of the total government receipts than the numbers currently tell us. And that is just one problem.
 
Another major problem is  the government estimate of the cost of food security at Rs 1,24,723 crore is very optimistic. This estimate does not take into account “additional expenditure (that) is needed for the envisaged administrative set up, scaling up of operations, enhancement of production, investments for storage, movement, processing and market infrastructure etc.” Where will the money from this and how will they be accounted?

Food security will also mean a higher expenditure for the government in the days to come. And the question is how will this higher expenditure be financed? Given that the economy is in a breakdown mode, higher taxes are not the answer. The government will have to finance food security through higher borrowing. And this push up the higher rate of interest and this means that the era of high interest rates will continue, which will not be good for economic growth.

Another thing is that the food security scheme is an open ended :there’s no expiry date, no sunset clause. It covers around two-thirds of the population—even those who are not really needy. This means that the outlays will have to increase as the population grows.

This might also lead to the government printing money to finance the scheme. The easiest way for the government to obtain money by printing it rather than taxing its citizens. Money printing would always be the first device thought of by a finance minister when a large quantity of money has to be raised at once, as it has been said. 

Money printing will lead to higher inflation. Prices will rise due to other reasons as well. Every year, the government declares a minimum support price (MSP) on rice and wheat. At this price, it buys grains from farmers. This grain is then distributed to those entitled to it under the various programs of the government.
The grain to be distributed under the food security program will also be procured in a similar way. But this may have other unintended consequences which the government is not taking into account. Farmers will start producing more cereals since they know they will be getting customers (Govt.) for the same. And this will reduce the production of vegetables and other non-cereals, resulting in an even higher inflation for the food items!

And this will hit the very people food security is expected to benefit.

I have not even considered the fact that if Monsoons are bad and govt. is unable to procure the food grains, they will have to import the same from other countries. And Importing food grains, especially rice. Rice is a very thinly traded commodity, with only about 7 per cent of world production being traded and five countries cornering three-fourths of the rice exports. The thinness and concentration of world rice markets simply mean that any slight changes in production or consumption in major rice-trading countries have an amplified effect on world prices.. And buying rice or wheat internationally will mean paying in dollars. And more woes for rupee! A century is not that far, if things like this go on!

Having said all that, better idea would have been to  make sure the current PDS system works efficiently, food grains worth lakhs of Crores doesn't rot rather than to make grand, illusory plans.

PS: This article takes data from various sources and is not completely the author’s work.

All you wanted to know about Life Insurance!

The first thing that  I was asked by someone when I started working was to buy a life insurance and my question was, well, why? And then I was told that it is an investment actually! Well, for most of us, insurance is actually an investment with added benefit of providing some money if something unwanted happens. And even now, most of the Indians will be either not knowing the concept of insurance as just insurance or will be unwilling to pay for insurance knowing that they will not be receiving anything if insurance lapses!  And that is why, when we think of it, the fact that LIC is THE largest investor in the company, it does a whole lot of sense in the Indian Context.

Well, coming back to Life Insurance, it was initially designed to protect the income of families, particularly young families in the wealth accumulation phase, in the event of the head of household's death. It has come a long way and now it is used, apart from the purpose mentioned above, as an instrument of investment (Well, my dad thinks of LIC he has as a decent investment offering him a return of around 8% annually. That I disagree strongly is a different matter) and well, tax purpose! In fact, saving tax is sole reason why many of my friends took LIC!

Life insurance provides one  with the opportunity to protect oneself and one’s family from personal risk exposures like repayment of debts after death, providing for a surviving spouse and children, fulfilling other economic goals (such as putting one’s  kids through college), leaving a charitable legacy, paying for funeral expenses, etc. Life insurance protection is also important if you are a business owner or a key person in someone else's business, where your death (or your partner's death) might wreak financial havoc.

My view is that life insurance is a great financial planning tool, but should never be thought of as a savings vehicle, which, sadly is what 99% of the policy holders in LIC does, thus allowing LIC and other private companies to rake up huge profits year after year, while the people whose money is actually used to generate that profit is paid peanuts in return. In general, there are often far better places to hold and grow your money as you get older and hopefully, wiser!

Now, before you buy anything, you think if you really need it. Why not do the same with Life Insurance? In fact, if you ask me, not everybody needs life insurance. If you are single and have no dependents, it may not be worth the expense (I do not have any Life Insurance, Actually!).  I will write one article on whether one needs Life Insurance or not, maybe after this one! For now, let’s concentrate on various types of Life Insurance.
  
Life insurance protection comes in many forms, and not all policies are created equal, as you will soon discover. While the death benefit amounts may be the same, the costs, structure, durations, etc. vary tremendously across the types of policies.                            

                                        

I will start with the one that most of us are familiar with, the insurance plus savings idea or what is known as Whole Life Insurance. Whole life insurance provides guaranteed insurance protection for the entire life of the insured, also known as permanent coverage. These policies carry a "cash value" component that grows tax deferred at a contractually guaranteed amount (usually a low interest rate) until the contract is surrendered. The premiums are usually level for the life of the insured and the death benefit is guaranteed for the insured's lifetime. 

With whole life payments, part of your premium is applied toward the insurance portion of your policy, another part of your premium goes toward administrative expenses and the balance of your premium goes toward the investment, or cash, portion of your policy. The interest you accumulate through the investment portion of your policy is tax-free until you withdraw it (generally, but that differs from policy to policy). Any withdrawal you make will typically be tax free up to your basis in the policy. Your basis is the amount of premiums you have paid into the policy minus any prior dividends paid or previous withdrawals. Any amounts withdrawn above your basis may be taxed as ordinary income. As you might expect, given their permanent protection, these policies tend to have a much higher initial premium than other types of life insurance. But, the cash build up in the policy can be used toward premium payments, provided cash is available. This is known as a participating whole life policy, which combines the benefits of permanent life insurance protection with a savings component, and provides the policy owner some additional payment flexibility. 

Another variation of the above is what we call, Universal life insurance, also known as flexible premium or adjustable life. Like whole life, it is also a permanent policy providing cash value benefits based on current interest rates. The feature that distinguishes this policy from its whole life cousin is that the premiums, cash values and level amount of protection can each be adjusted up or down during the contract term as the insured's needs change. Cash values earn an interest rate that is set periodically by the insurance company and is generally guaranteed not to drop below a certain level. 

Yet another type is what is known as Variable life insurance is designed to combine the time tested protection and the more popular  savings features of whole life insurance with the growth potential of investment funds(I might begin to like this one! ). This type of policy is comprised of two components: the general account and the separate account. The general account is liability account of the insurance provider, and is not allocated to the individual policy. The separate account is comprised of various investment funds within the insurance company's portfolio, such as an equity fund, a money market fund, a bond fund, or some combination of these. Because of this underlying investment feature, the value of the cash and death benefit may fluctuate, thus the name "variable life”. And since it may fluctuate, this is not that famous in our country or rather has not been famous till now!  A variation of this is Variable Universal life Insurance, an insurance combines the features of universal life with variable life and gives the consumer the flexibility of adjusting premiums, death benefits and the selection of investment choices. 

Another most commonly used policy is what is known as Term life insurance. Term insurance can help protect your beneficiaries against financial loss resulting from your death; it pays the face amount of the policy, but only provides protection for a definite, but limited, amount of time(Unlike in Whole Life Insurance Policies). Term policies do not build cash values and the maximum term period is usually 30 years. Term policies are useful when there is a limited time needed for protection and when the rupees available for coverage are limited. The premiums for these types of policies are significantly lower than the costs for whole life. They also provide more insurance protection per rupee spent than any form of permanent policies, though the cost does increase with time. Term polices can have many variations such as Annual Renewable and Convertible term, which provides protection for a year and is renewable upon payment of some amount.  
                          

Fancy variations can be made and that would depend solely on the imagination of the insurer and the persons involved! But I do believe that by now, you must be having a good idea about the kinds of Life Insurance that you can have! Will take up the issue of which one to actually take in the upcoming articles!