How to Tackle Subsidies in the GCC?

This Article was Published in Arab Times, Gulf News, Akhbar Al Khaleej, Al Qabas, Zawya

Subsidies are easy to roll in but difficult to roll back. The vexed issue of tackling subsidies comes to the fore in difficult times and hence this topic assumes importance in a low oil price situation. According to IMF estimates, GCC countries will spend roughly USD 60 billion on energy subsidies in 2015. While subsidies are offered under various categories, the major one is always energy subsidies. Very high amounts of energy subsidies in the GCC have led to wasteful consumption, which is reflected in the high per capita burden of these subsidies.

This issue is a topic of importance not only to the GCC, but also to the wider MENA region. Arab countries spend nearly 7.2% of their GDP on energy subsidies (pre-tax), while the comparative figure for advanced economies is just 0.03% and about 0.9% for emerging markets. Hence, the scale of subsidies is relatively too large to ignore. Also, given the high subsidy rate in the GCC (averaging nearly 70 to 80% of the cost), it often promotes wasteful consumption and encourages energy intensive industries rather than labor intensive industries.

Before we tread the subject of how to reduce the impact of subsidies, it is important to understand the context of subsidies in the GCC vis-a-vis other Arab countries. In the GCC, subsidy is a form of “wealth distribution,” while in other Arab countries it is more a form of support to poor people as a poverty alleviation tool. Therefore in the context of the GCC, where subsidy is more of a wealth distribution mechanism, the factor of demography plays an important role. In economies like the UAE, where expats are super dominant as a share of total population, the role of “wealth distribution” takes a back seat while that may not be the case in other GCC economies where the share of expats is more or less balanced.

Hence, it is no wonder that UAE recently launched the bold initiative of ending the energy subsidies. In July 2015, the UAE announced linking gasoline and diesel prices to global oil markets staring August 2015. It became the first country in the GCC to remove transport fuel subsidies. The move is expected to result in a savings of about $7 billion for the UAE. Given the large expat population (of over 90%), the burden of such roll back on nationals can be minimal. Hence, we must not assume that all other GCC countries will also follow a similar path.

While the intention behind energy subsidies is to relieve the burden on the poor, such an argument may not be valid for the GCC given the high per capita income and the classification of the GCC as rich rather than poor. It is important to note that in the context of other Arab countries, though subsidies are directed to help the poor, it is often the rich that benefits from them.

What steps should the GCC take now?

It is not a question of “If”, but rather a question of “how” to reduce subsidies and gradually lessen its impact on the fiscal situation. The following can be proposed as ways to tackle this  this vexing situation.

     1. Find alternative methods to distribute wealth: Since in the context of the GCC, subsidies are more of a “wealth distribution” mechanism than a “poverty alleviation” mechanism, it may be a good idea to come up with alternative methods of wealth distribution and replace such methods gradually over time to reduce the burden of subsidies. Direct cash transfer is being proposed by some scholars as an example of this route. The main advantage of such an idea is that it shifts the burden of rational decision making from the State to  individuals and families directly.

     2. Introduce innovative strategies: GCC states can think of introducing various concepts surrounding the subsidies rather than a strait jacket approach of providing the service almost free of cost. The concept of “Tiered subsidies” linked to consumption (low price up to a certain point and high price thereafter) can reduce wasteful consumption. “Smart subsidies” can link subsidies to certain KPIs like national employment or training new graduates. The idea of “Targeted subsidies” can also be tried when promoting certain sectors (say SMEs) becomes more important and therefore can be linked to subsidies provided. Innovation in subsidies can produce better results.

     3.  Aim for efficiency in production: The subsidy burden is simply the difference between price and cost of production. While the suggestions in introducing innovative strategies can work on the price side, it may also be a good idea to focus on how to reduce the cost of production by improving the efficiency of the production of energy. Development of alternative sources of energy fits nicely into such a scheme of thing.

      4.  Launch effective communication: The factor of high subsidies in the present time can disproportionally increase the burden onto future generations. An effective communications strategy that explains the long-term burden of high subsidies and how it crowds out investment in infrastructure can go a long way in gaining support forthe idea that subsidies should be reduced over the long term. 

Chinese Crisis: 3 Questions for NRI’s

This Article was Published in Indiansinkuwait.com

Sensex fell by 1,624 points (5.94%) on August 24, 2015 to reach 25,741 in what is now termed as Black Monday. That was unprecedented given the normal movement of say 100 to 200 points in a day. Though Sensex subsequently recovered to 26,392, the unease continues amongst many of us. So, what has caused this sudden panic and how should we (NRI’s) prepare ourselves. The following questions may be appropriate to answer.

      1.       What is this crisis?

The Chinese stock market has been on a roll since November, 2015. The Shanghai index increased from 1,924 to 4,098, representing a gain of 113%, within a matter of 8 months. This was due to easy money available through banks which lured retail investors into the market. Everyone from fishermen to laundry cleaners were busy making money in the stock market. However, as we all know, such a sudden increase in the market through mindless buying can only go on for some time and not for ever. Companies have become extremely over valued and smart investors started exiting the market. This created a panic among retail investors and they were rushing out of the market creating further slide. The government tried to intervene and prop up the market but it failed. The Chinese stock market fell 35% within a span of 2.5 months. On August 24 (Black Monday), the Chinese market fell by a whopping 8.96% and immediately on the next day all global markets fell including India.

But the question is why a Chinese stock market collapse should cause such a global panic. This is because there is a larger worry among global players than the Chinese stock market. That of Chinese economy.

Since 2008 when the last financial crisis hit the world, there have been fears about slowing global growth. While USA has been trying to recover, Europe is in shambles with only Asia left to support. China is not only a significant part of Asia but also the world. It contributes heavily to the global growth in terms of trade (exports and imports). Before 2008, Chinese economy was growing at the rate of over 10%. Today, the growth has slowed down to 6-7% with fears that it will be even lower. When economic growth is low, countries will find it difficult to create employment which will lead to social unrest. It will also find it difficult to attract foreign money which will hamper investments. Business confidence will fall and businessmen will not make any new investments. Hence, it is important for any country to enable economic growth.

China was predominantly depending on exports for its growth. After 2008 financial crisis, the overall growth of trade (exports and imports) reduced thereby reducing China’s growth. Hence, this panic all over the world. In short, today when China sneezes, the world catches a cold!

      2.       How is India affected by this?

The impact on India is more symbolic than real. Many emerging markets (Indonesia, Brazil, and Russia) are highly dependent on China as commodity exporters. China is one of the largest consumers of many commodities to run its global factory. When China signaled a slowdown in growth, many emerging markets (dependent on china) started feeling the heat and this heat has spread to all other markets including India. Even countries like Germany and Australia (not part of emerging markets but part of developed markets) fell as they have strong links and dependence on China.

India’s economic link with China is very limited. India is not a commodity exporter (like Russia). The only risk India faces is that it can be swamped by cheap imports from China that can threaten local companies. With Yuan devaluation, this threat is real.

The main impact on India will be through its currency. As a fallout to Chinese crisis, many emerging market currencies hit their lows during 2015. (Brazilian Real -26%, Turkish Lira -20%, South African Rand -13%). India is among the least affected currency where the INR fell only by 4% so far in 2015 against the USD. If the Chinese crisis deepens, it will further impact emerging market currencies and we can expect India also to feel the heat in terms of further depreciation of INR.

On the positive side, continuous strain on China can open doors for India as one of the fastest growing economies in the world with least linkages to external world. With America not showing any great signs of economic rebounding and Europe in a limbo state, only very few destinations for investments in the world are left and India can definitely count as one.

      3.       What should NRI’s do?

In this Chinese crisis, NRI’s experienced both good news and bad news. The good news came in the form of lower currency. For eg., the Kuwait Dinar spiked to Rs.224/KD and seem to be hovering around Rs.217/KD now. NRI’s that remit money regularly back to India will certainly be smiling and would hope for even more depreciation of the Rupee!

On the other hand, the steep fall in Sensex/Nifty caused their stock portfolio values to plummet and they were left worried on what the future course of Sensex could be.

For NRI’s, the following observations can be helpful:

     a.       The current Chinese crisis is not just a China issue but a global issue that can affect all markets including India.

     b.      If China slows down (as is feared), it will result in global slowdown, and may negatively affect stock markets and currencies.

    c.       However, India’s fundamental strength (Strong economic growth, ample forex reserves, less linkages to outside world, new government that is reform minded, and a prudent RBI) will make it as one of the safest destinations for investments for foreign investors

      d.      The long-term story of India remains solid

     e.      NRI’s should benefit from the depreciating rupee by regularly remitting money back home and invest in various avenues.

      f.        Diversify your investments by spreading your savings among risk-free fixed deposits/bond funds, and volatile equity funds with some exposure to gold (as insurance). The RBI governor is likely to decrease interest rates in response to lower inflation and hence presently FD rates are looking attractive. Also, when interest rates come down, bond funds will do well. In equities, for those that do not have time to follow markets on a daily basis, invest regularly in well performing diversified mutual funds. If you have the time to select sectors/stocks, favor healthcare, auto, FMCG, infotech and banks. Avoid Realty, metal, power, PSU’s and small cap.

One final note of caution to NRI’s in the Gulf. GCC has more linkage to West than to East. Oil prices have fallen from a high of $140/barrel some years before to $40/b now and are expected to remain at this level for some time. Hence, government spending on projects will likely come down which will put pressure on many companies. Hence, restructuring, cost cutting and job retrenchment can be expected. Job security for NRI’s can come only through increased training and further qualifying. Job security should not be based on the hope that oil price will rebound. 

Four Insights To Reduce GCC Remittances

This Article was published in Arab Times, Al Qabas, Khaleej Times, Arab News, Financial Express, All Pinoy News, Daily Star, The Peninsula, The Sen Live, Gulf News, Egypt Independent, AME Info, Economic Times; Gulf News

During 2014, GCC countries experienced an outflow of over $100 billion in the form of remittances from expatriates that work in the region. The amount is an estimated 6.2% of GDP, a significant cost compared to the United States (0.7% of GDP) or the United Kingdom (0.8% of GDP). The figure was roughly $50 billion in 2010, implying steady and strong growth in remittances.

S.No	Net Outflow  (2014-USD Billion)	Country	GDP  (USD Billion 2014)	Net Outflow as % of GDP
1	124	United States	17,418	0.7%
2	44	Saudi Arabia	752	5.9%
3	29	United Arab Emirates	401	7.3%
4	23	United Kingdom	2,945	0.8%
5	21	Canada	1,788	1.2%
6	16	Hong Kong SAR, China	289	5.8%
7	14	Russian Federation	1,857	0.8%
8	13	Australia	1,444	0.9%
9	12	Kuwait	172	6.9%
10	9.5	Qatar	210	4.5%
Source: World Bank, IMF

There are several factors that contribute to this remittance pattern, as described below:

Home Bias: The majority of Gulf expatriates originate from India, Egypt, Philippines, Bangladesh, Pakistan, Indonesia, Sri Lanka, and Yemen. These countries have a large diaspora population living and earning income off-shore, most often in low paid jobs that require them to leave their families behind in order to save money and support them.

Closed Market: GCC countries have restrictions on what foreigners can own and invest in, which crowds out investment opportunities for expatriates. While some markets such as Dubai have opened up for foreigners, most of them are still out of bounds.

Absence of Tax: GCC countries charge no income tax on salaries paid to expatriates, which is a huge factor that attracts expatriates to opportunities here. However, the model that other countries follow (like the US or the UK), where the local population is taxed as well as provided with social security, actually increases the “engagement quotient” and motivates them to invest in local markets. The required tax also reduces the savings pot, and thus the money available to remit. Therefore, the absence of tax on income acts as a huge attraction towards remittance in the GCC.

Strict Labor Laws: In the GCC, expatriates are able to legally work for a significant period of time, but cannot claim citizenship. As opposed to the US and UK where the possibility of obtaining citizenship is high, the lack of securing citizenship for expatriates in the GCC encourages them to concentrate their investments back home.

Remittances represent a huge lost opportunity for the GCC countries. While GCC countries enjoy high liquidity, attributable to oil revenues, this state of oil dependency is neither assured nor desirable.

I believe the following are ways in which the GCC can curb the growth and outflow of remittances:

Create Jobs/Reduce Unemployment: The GCC is highly dependent on an expatriate labor force, primarily due to the economy size (requiring large scale labor) and a skill shortage among nationals. The expatriate population comprises 49% of the total population in the GCC; additionally, nationals are highly concentrated in the public sector, often as a result of a wealth distribution process rather than actual job needs. Therefore, there is genuine need to create jobs and enable the nationals to secure and retain those positions. This will reduce local unemployment and shift the balance away from expats in the long term, which may then reduce the remittance flow impact.

Incentivize Domestic Investments: GCC countries can incentivize local investments for expats by launching specialized products that cater to their needs and preferences. This will allow the region to tap into the 25 million expats that reside in the region and maximize investment potential.

Open the Markets: GCC countries can start opening up their markets to foreigners, especially expats. Real estate is a great example of an untapped opportunity. Investment by expatriates should be differentiated from foreign investment, as the former provides a more stable source of investment given the length of time they spend in the region. The toughest obstacle would be reaching out to low-wage workers, who constitute the bulk of remittance. An employer engagement strategy (similar to 401k) can be implemented to tap into this segment.

Improving Hard and Soft Infrastructure: The GCC should strive to improve their infrastructure, including  airports, roads, and railways to consistently provide state-of-art lifestyle avenues. This can attract new expat groups that view infrastructure sophistication as important criteria. Areas like healthcare and education should be elevated to best in class, so that expats are motivated to bring and live with their families.

In conclusion, remittances offer a low hanging fruit to GCC governments to implement strategies that can stem and reverse the flow. It is in the long-term interest of GCC countries to reduce at least some of them through proper incentives and investment opportunities.

India's Remittance –Change it to FDI

India tops the league table when measured in terms of net inflow of remittance even outsmarting China though India’s diaspora is only half that of China. As per IMF data, India received a net flow of nearly $63 billion in 2014 while China received $61 billion. India’s net flow accounts for 3.1% of its GDP while for China it is 0.6%.

How come India enjoys such a large diaspora strength and have they done enough to smart that crowd in terms of a better engagement model?

The 24 million diaspora population is mostly concentrated in Asia (11m), Americas (5 m), Middle East (4.2), Africa (2.8m), Europe (1.8m) and Oceania (1 m) in that order. Together they remit $63 billion with contributions from Middle East (37 b), Americas (14b), Asia (10b), Europe (5b), Oceania (2b) & Africa (0.3 b). The highlight of this structure is clearly Middle East that accounts for 17.5% of Indian diaspora population, but account for nearly 60% of total remittance.

On the other hand, the Chinese diaspora is twice that of India at 50 million mostly concentrated in Asia (27m), Americas (8m), Europe (2.3m), Oceania (1.1m) and Africa (1m) with insignificant presence in the Middle East. The $61 billion net inflow of remittance to China comes predominantly from Asia (32b), Americas (21b) with the rest having minor contributions.

The connect to Asia for both China and India can be explained due to ethnic, historical and geographic reasons. While for China, Asia link will continue to be important and growing, for India Middle East and Americas will count as sweet spots. It is interesting to note that while Indian diaspora strength is more or less equivalent in both Middle East and Americas, Middle East remittance are nearly 3 times that of Americas.

The Indian diaspora in the Middle East is primarily comprised of low-wage earners who mostly live alone with a need to support families back home. Also, most of the Middle Eastern countries have tough labor laws which avoids providing citizenship even after long periods of stay. This invariably reduces spending options and forces remittances back home. In other words, the “engagement quotient” with the local economy is lower from investment (equity, real estate etc.) and consumerism (tourism, education etc.) point of view. Absence of tax also increases the savings and therefore remittance.

On the other hand, the Americas Indian diaspora is different in character. Though they are larger than the Middle East Indian diaspora, they account for only a third of Middle East remittance. This is due to larger “engagement quotient” in Americas than in the Middle East. Non-resident Indians that migrate to US and Canada have deeper roots in terms of local investments and eventually become citizens of those countries. They also come under the tax ambit and receive social security benefits in return. All these increases the engagement quotient and reduces the remittance pot from Americas.

Compared to China, India has wooed its diaspora relatively milder. There is an important lesson to be learnt from China. China has wooed its Non-resident Chinese to come and invest in China rather than just send remittance. They enabled the process through forming a special cabinet ministry, establishing Overseas Chinese Affairs Commission (OCAC), All-China Federation of Returned Overseas Chinese (ACFROC), establishing special economic zones, passing preferential laws, etc. All these encouraged overseas Chinese to actively “invest” in the Chinese economy rather than just “remit”.

India’s red tape, and bureaucracy still acts as a strong deterrent to the diaspora if they were to invest in the country. While patriotic and cultural sentiments will continue to run high among Indians, the decision to come back and contribute to the growth of the country is rooted in much larger reforms and attitudinal change towards non-resident Indians. Merely giving them tax free status will not be enough to encourage this group to do more for India. 

Bollywood Investment Conference

And you thought Bollywood is just for fun and entertainment. Legendary Bollywood actors and actresses have words of wisdom that can help professional fund managers and investors alike. After all, investment is art as much as it is science. Hence, there is no shame in taking some cues from film artists!

The conference will focus on five important investment themes viz., Investment Strategy & Financial Planning, Stock Selection, Role of Advisors, Risk Management and Ethics. Present day celebrities, yesteryear stars, and even dead Bollywood legends will spring to life and deliver masterpieces from their movies to investors and fund managers.

Before the formal sessions begin, there will be a conference flag off. You guessed it right, an item number by Shah Rukh Khan and Bipasha Basu! No Bollywood event ever happens without a Shah Rukh Khan dance.

There will be no Q&A after the sessions since Bollywood actors can only play pre scripted roles, and cannot react to sudden questions.

Investment Strategy and Financial Planning

The opening session will be star-studded with 6 leading actors (living and dead!) sharing their views and ideas on investment strategy and financial planning.

Amjad Khan will kick start the session with his famous dialogue from Sholay “Only one man can save you from Gabbar’s anger; only one man…Gabbar himself”. He is politely asking you as an investor to take responsibility about your savings and be accountable. At the heart of any good strategy is its simplicity which Hrithik Roshan expounds through his Kaho Na Pyaar Hai dialogue “beauty lies within simplicity”. The podium will then be shared by the legendary Raj Kapoor and Dilip Kumar, who will explain to the audience the importance of portfolio diversification. Raj Kapoor’s Shree 420 lines “My shoes are Japanese, these pants are British, I have a Russian red hat on my head…but still my heart is India” will explain diversification even to a layman, while Dilip Kumar’s hard-hitting dialogue from Karma “To protect his cubs, a tiger does not need wild dogs” advises us to keep it simple, and protect one’s portfolio with a little bit of smart diversification.

Anil Kapoor and Hrithik Roshan will then dwell on the timing aspect of the investment strategy. In Jodha Akbar, HR says “There is a big difference between winning and ruling”. Winning is a short term gain, while ruling is a long term perseverance. Investment world will provide you with countless short term winning opportunities but the trick is to convert them to long term growth and stability. In other words, don’t be short term focussed. And Anil Kapoor is there to warn you about bad timing, just like he did in Masafir, where he said “Whether the policemen are real or fake…bloody, they always comes late”. Farhan Akthar and Madhuri Dixsit will end the session with some sage advice. FA will motivate you to have conviction, like when he said in Luck by Chance “keep walking on your road, keep on walking… and slowly the whole world will come on your road”. So what if you make mistakes, are we not here to learn from it? These parting words will come from Madhuri Diksit, “Every sorrow is the beginning of a probable happiness…and every loss is an indicator of an upcoming profit” (Devdas). Life is a cycle; cut your losses, learn your lessons, and work towards your inevitable profit!

Stock Selection

The next session is lead by the don of all dons, Amitabh Bachan, who along with 5 others will give you some tips on stock selection. They will dwell on complicated concepts like valuation, volatility, behavioural finance, and even luck!

In deference to his stature, the senior Bachan will take the floor to extoll the virtue of saying no. “To make progress in this world…it is very important to say no” (Agneepath). This is especially true during bubbles when stock valuations reach dizzy levels. It is during times like this you should be able to say no. In stock selection there are some dos and don’ts. Govinda (Deewana Mastana) will encourage you to have patience, “This world is a bus stop and a girl is a bus. If you run behind it then you will miss it, but if you stay in the same place then another one will come from the front”. Jackie Shroff (Farz) will reinforce the importance of patience “The fun of hunting comes only when…the prey does not get captured quickly”. The don’ts will be driven home by Dharmendra (Yamla Pagla Deewana 2), where he will explain the behavioural finance concept of not getting emotional in your stock selection, “How many times have I told you…have fun, but don’t fall in love”. The junior Bachan (Abhishek) will take the discussion to a more technical level where he will emphasize on the contrarian theory (When people are talking against you…then you are making progress-Guru) and volatility (Every hurdle…is a chance to get to the destination-Sarkar Raj).

 In case you thought stock selection is all about skill, Jackie Shroff is here to explain the role of luck as well “Sometimes luck comes before death”.(Farz)

The Role of Advisors

Bollywood actors are very much used to the concept of advisors, and hence can succinctly explain their importance while making investment decisions. This short session will be anchored by three people, led by Hrithik Roshan “I will never leave your hand…not today, not now, and not ever” (Aap Mujhe Achhe Lagne Lage). This is exactly what every financial advisor should swear to his clients! Dilip Kumar (Saudagar) will emphasize the point further “A right is not asked with head bowed down…but with the head held up”. As a client you have every right to question  your advisor, until you are satisfied with the answer. And don’t be a Dharmendra from Sholay who said “we work only for money”. A financial advisor should never give such a feeling to his/her clients.

Risk Management

“To live life there are only two ways…one whatever is happening let it happen, keep tolerating it..or else take responsibility to change it” (Rang De Basanti). Aamir Khan will take the floor on risk management with this opening. While risk management is hard work, it eventually pays off. Jackie Shroff in Border did tell viewers “The more you sweat in peace…the less you bleed in war”. Prepare and position your portfolio from a risk perspective, so you bleed less during a financial crisis. And what is the consequence of ignoring risk management. “In trying to achieve a lot a human sometimes loses everything”. Govinda in Andolan is not talking about ponzy schemes!

Ethics

From a grand start of 6 in the opening session, the last session will have only two doyens speaking about ethics, as most of the attendees eagerly await the close. “Rather than living under the roof of humiliation…it is better that a person lives without any roof, but with respect intact” (Khudgarz). Jeetendra is simply driving the point that ethics in investment world will ensure no humiliation at all times. Dev Anand (Johny Mera Naam) will give us the thumping end by screaming “I can sell the moon for you…but not my honesty”.

Closing Session

The conference will end with the screening of a yet to be and never to be released movie “Black money, Bollywood and Switzerland!”