Thursday, August 28, 2014

Re: [IAC#RG] Indian investment in US Bonds

Dear Shri Pavin Nair,

Thanks for your email reply.

I agree that we should all learn some economics - I am certainly not leaving it to the economists - and you should know that I am not an economist by training or occupation either.

There is a fairly simple reason why RBI invests in US Treasuries (and it is not why Sarbajit says in another email, which I will reply to separately):

It is because global trade is (usually) designated in US dollars - you want to import oil, you pay in $, you want to import machinery you pay in $, you want to import cheap phones from China, you pay in $. Even when you buy something in Euros, you are actually paying $ - as the the Euro is priced off the $.

US $ became the reserve currency of the world, after currencies went off the gold standard in the 70's (something that gave politicians in every country enormous power to run deficit financing - but that's another story, another rant).

Why is the US $ the reserve currency of the world? Multiple reasons, but largely two - one, trust and two, the US is the dominant empire (I say empire, not just economy) in the world today - so it also has the guns to  back up the $.

RBI is the default (and sole natural) holder of $ in India - it essentially has monopoly power in this regard.
Anyone needs to import anything, they effectively need to buy $ from the RBI.

Now, the RBI could buy the $ from the global markets on a daily basis and then sell them to the importers in India - but this exposes the RBI and the Indian economy to potential currency "shocks" if something bad were to happen globally (say 9/11) or to the Indian economy. Therefore, the RBI builds up a currency chest (called our foreign currency reserves) so that it can smooth over these shocks and it is not held hostage to a global situation, beyond its control - it also allows it to try and smoothen the movement of the rupee (which is only partially convertible) to the extent possible - so, it buys and sells dollars, at various times.

Now, how would the RBI hold these $? Holding it in pure currency form means building multiple Fort Knox' in India (!!!) - so, it holds the $ electronically. And the least risky asset then to own, where you are NOT exposed to cross-currency risks, is US Treasury bonds. That is the simple answer. The Indian Economy needs US$ to function, and the RBI fulfills this function.

If the Chinese can build an equivalent amount of trust in the Renminbi, then you will start seeing countries start to hold currency reserves in Renminbi as well - ditto for the Indian Rupee or the Euro or the Yen. But, the fact of the matter is that since 1972, the US $ is the only global currency that has been trusted uniformly.

BTW, the RBI is not particularly dumb either - in Nov 2009, it astounded the world markets by buying 200 tonnes of gold, as part of its currency reserves, diversifying away from US treasuries - something that has payed off well, despite the recent fall in gold prices. This was the first instance of a central bank buying significant gold since Central banks started selling gold reserves continuously from 1994.

China followed suit later.






On 28 August 2014 10:14, pavan nair <pavannair1@gmail.com> wrote:
Dear Shri Supratim Basu,
     I do feel that just as war is too important a subject to be left to the generals, the state of the economy must not be left to economists! Recall 2008. The question raised is not why we are investing in US Bonds but where is the need to hike this investment year after year. The amount invested was hiked by 19% in FY 13-14 to 73 billion dollars. Please read the article in the Economic Times. My argument is that this has been possible due to a surge in NRI deposits over the last few years. A back of the envelope calculation shows that the recurring loss per year on account of differential interest rates is Rs 4,800 crores on the incremental amount invested in FY13-14 (about 10 billion dollars). If we had not accepted an additional 10 billion dollars and not invested them in US Bonds, the exchequer would have gained by the mentioned amount. That is how I look at it as a layman. An economist's view may be different. Incidentally, I wrote a letter to the ET on the lines above which was published in the print editions the next day. I do hope you will see some merit in my argument. I feel there should be a moratorium on NRI deposits and further investment in US bonds till a white paper is published by the government as suggested by Shri Sant Mathur. I do endorse your view that economics should be included at the secondary level. Thank You. Pavan Nair
 


On Wed, Aug 27, 2014 at 1:20 PM, Supratim Basu <xsupratim@gmail.com> wrote:
It is a pity that economics, even if it is economics 101, is not taught in Indian schools upto class 12.

That is why Indians have such a woeful understanding of markets and prices and even, money - upto class 12, we are taught history, geography, physical sciences, some maths, biological sciences - but no economics - even those who take up "commerce" post 10th hardly learn any economics.

No wonder we are a nation of economic illiterates.

And, I find  most engineering graduates to be the worst when it comes to understanding markets and economics, when they pass out - because as part of their curriculum, they do not learn any behaviourial sciences, no understanding of incentives theory and why human beings do the things they do.

Then, naturally, the end result is *this particular discussion* - any economics 101 student should be able to tell you why India buys US treasuries.


S


On 26 August 2014 10:43, pavan nair <pavannair1@gmail.com> wrote:
Dear Shri Gaur,
    Thank you for your inputs. Entirely agree that the internal debt is a huge burden and most of the borrowing which is about 5 lakh crores goes to pay the interest on the debt. The point I was trying to make was why should a poor and indebted country like India invest 3.5% of its GDP at near zero interest rates when we are borrowing at much higher rates. Indian investment in these bonds exceeds that of several developed countries like France, Canada and Germany. The prudent course would be to reduce borrowing at high rates as also the investment in low yield bonds. Several countries including China have sovereign funds which can be used to finance projects abroad or make investments in markets or commodities. As far as NRIs are concerned, they earn around 2% in deposits abroad so an incentive of say another 2% would have been more than enough to attract investment. This was the norm till a few years ago. Why the sudden generosity to hike rates to be repatriated in foreign exchange and tax free to boot. If an NRI has made his first million dollars, he can put up his feet and retire on an income of 90,000 dollars a year thanks to 'Save India' bonds or whatever they are called. The way to go would be to hike exports like China and reduce imports specially of defence equipment. But that is another story. Pavan Nair 


On Sun, Aug 24, 2014 at 1:47 PM, Gaur J K <gaurjk@hotmail.com> wrote:
24/8/14

Dear Sirs,
Foreign reserves- consist of gold holdings and foreign currency Assets including SDRs. Gold reserves about 260 m.tons. If RBI has invested 70/80 millions in US treasury it is reasonable since our currency is primarily linked to USD> and as you said there cant be  MORE SECURE PLace for parking part of your reserves in US treasury bills. If you consider the investment by Chine haVING TEN TIME OF OUR RESERVES OF MORE THAN 3 TRILLIONS. Chinese were trying to invest in some industries there but the US refused on the ground of strategic industries. Also consider the reserves of Middle Eastern Rulers like Saudi,Kuwait and quatar and others.In short US inspite of being the most indebted country contiues to enjoy unprecedented prosperity on other peoples money and also retains the right to freeze them as it was done in case of Iran.
2.Foreign loans- consists of loans by multilateral agencies, Govt. to Govt., long term and short term and raised by private sector. Most 
of loa ns of multilatral and  bilateral are on concessional rates and long repayment tenure. Since Annual obligation to pay is only about 20/25 billion,the country can afford to pay without any defficulty. In fact the Govt. did  prepay some small loans to european countries who were being difficult. We have come a long way from the specctre of default we faced in late seventies.
3. Exchange rate- depreciation has been occuring since 1967 when Indira Gandhi went to US for Assistance for food grain which was given with two conditions-
Depreciate the rupee by 23/24% and keep the mouth shut on action in Vietnam. The recent depreciation from 2010 onwards has been in spurts-the latest being in Nov.2013 when the rupee felt to almost 68 to a Dollar. Among the various reasons there could also be US overst pressure to open the retail marketing sector and nuclear reactor business. Now the RE hS STABLISHED AT ABOUT 59/60 WHICH IS CONSIDERED TO BE FAIR FOR THE EXPORTS AND ALSO in hibiting imports.
4. NRI deposits- are strictly not in the nature of loan and their rates have been changing from time to time. We get highest foreign remittances which helps in narrowing the gap between export/import earnings. But honestly, when we are getting 9% on our domestic deposits, why should we grudge the same to NRIs. Why this bias?
In my opinion more worrisome is the domestic indebtedness of the Govt. which is increasing every year and eats away 40% of Govt. revenue as interest  charges. The so called stimuls package of 2008-09 and high deficit financing   



Date: Thu, 21 Aug 2014 16:46:46 +0530
From: sroy.mb@gmail.com
To: indiaresists@lists.riseup.net
Subject: Re: [IAC#RG] Indian investment in US Bonds


Dear Pavan

4 words spring to mind.
(A) PONZI
(B) Ever-Greening
(C) Leverage
(D) Corruption

Probably RBI is doing in USA what banks like SBI, Syndicate Banks and
all are doing in India. Its the old scheme of bank skimming, deposit
20% with me at (cheap rates) and I'll keep giving you loans upon loans
upon loans (so long as I keep getting my kickbacks) - Kingfisher,
Bhushan Steels, Pramod Mittal,

Experts like Ms Sucheta Dalal etc may have further details

Sarbajit

On 8/21/14, pavan nair <pavannair1@gmail.com> wrote:
> Thanks Sarbajit. The money could be used to retire government debt on which
> much higher rates are being paid. Does it make sense if you owe 80 billion
> dollars (the approximate amount of the government debt besides NRI deposits
> of 100 billion dollars) and are paying about 6% interest, to deposit 73
> billion dollars in US treasuries which yield less that 2% interest. The NRI
> deposit scheme needs to be revised and rates lowered as well as interest
> taxed. If I as a resident Indian am being paid the same interest and taxed,
> I do not see why NRIs should not be taxed. In fact they should volunteer to
> pay tax since voting rights are also being given. Pavan Nair
>
>
> On Thu, Aug 21, 2014 at 8:31 AM, Sarbajit Roy <sroy.mb@gmail.com> wrote:
>
>> Dear Pavan
>>
>> I have no inputs on this. Since 2010 the IN Rupee has depreciated by
>> 35% against major currencies. INR has been the worst performing major
>> currency. RBI has probably prudently moved our FOREX reserves into the
>> safest place it can find :-)
>>
>> NRI's being NRIs, GoI can probably refuse to pay them when the shit
>> hits the fan.
>>
>> Sarbajit
>>
>> On 8/19/14, pavan nair <pavannair1@gmail.com> wrote:
>> > Dear Sarbajit,
>> >
>> > I came across a report in the Economic Times of today regarding
>> > the
>> > subject. Here is the link.
>> >
>> >
>> http://economictimes.indiatimes.com/news/economy/finance/india-among-top-16-lenders-to-us-as-bond-investments-hit-73-billion-in-june/articleshow/40382761.cms
>> >
>> > I find it inexplicable that we have been borrowing money from NRIs at
>> rates
>> > OF up to 9% per annum for NRO/NRE accounts and lending money to the US
>> > government in the form of US treasuries at very low rates of about 2%.
>> The
>> > lending to the US has increased by 19% in the last financial year. The
>> > external debt stands at 440.6 billion dollars as on 31 March 2014 and
>> > has
>> > risen substantially primarily on account of increased NRI investment
>> which
>> > stands at 103.8 billion dollars. The reserves are at about 320 billion
>> > dollars which includes the NRI borrowing. This amounts to a loss of
>> > taxpayer money since we need to buy dollars at existing market rates to
>> > payout the interest to NRIs. There seems to be an arrangement with the
>> > US
>> > government in return for something unknown, otherwise why should a poor
>> and
>> > indebted country like India lend more to the US than developed
>> > countries
>> > like France, Canada and Germany. We need to retire debt so that debt
>> > servicing which is at about 25 billion dollars per annum can be
>> > reduced.
>> > May I request you and through you, other members of the list for their
>> > views as also what action can be taken. Has the Governor RBI got the
>> > authority to invest or is it a Cabinet decision. Regards. Pavan Nair
>> >
>>
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>

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