Which is the most important topic that should be discussed during the Trump- Modi first meeting on 26-June-2017 ?

#Fincabulary 14 – Bagel Land

Meaning – A slang term that represents a stock or other security that is approaching zero in price.

This term is typically used to describe an asset that has fallen from grace as opposed to a penny stock or other historically cheap security. If a stock or other asset is headed towards bagel land or is approaching zero, investors generally feel that the security is nearly worthless. In such cases, a company may be nearing bankruptcy or facing major solvency issues. While returning from bagel land is possible, the likelihood that equity investors will lose their entire stakes in the company becomes very high.

NPAs and Recapitalisation

By Aditya Prakash Pandey

One major challenge for Indian banks today is increasing NPAs, Collateralized Mortgage Obligations (CMOs), Collateralized Debt Obligations (CDOs), Collateralized Loan Obligations (CLOs) and other stressed assets. NPAs currently stand at 12.1% and after recognizing Rs 3.3 trillion of loans as NPAs the figure will grow above 16%. The recovery rate has now gone down from 22% in March 2013 to 10.3% as on March 31, 2016, but the NPAs are still growing. This clearly indicates that the problem of NPAs is not going to be resolved anytime soon unless some measures are taken. Another important point to note is that public sector banks cover more than 70% of the banking market and the rest is covered by private sector banks and foreign banks. With an expanding market and a larger proportion of NPAs to total assets, the public sector banks contribute for the maximum proportion of the total NPAs.

Why is ‘Solution to NPAs’ so important?

Banks earn on loans. They raise money at a lower rate and distribute them as loans at higher interest rate. The margin is what the banks earn as profits, excluding other expenses. NPAs in banks’ balance sheet limit this process.

–    NPAs lead to the lower availability of capital in hand to lend as loans and thus lower credit creation and lower banks’ profitability.

–    Having a large portion of NPAs on financials leads to loss of investor’s confidence and interest in the bank. This makes it difficult for banks to raise money from the wholesale market or capital from equity investors and further reduces bank’s loaning capacity.

This debt crunch is slowly eating into banks’ growth with rising NPAs. This scenario of continuously increasing NPAs and continuously reducing recovery rate has the potential to lead to the collapse of the banking system. Functioning of banks has been affected by growing NPAs and decreasing profitability. This can be seen from the changes in their business model. Lack of funds is leading to a lack of credit growth. So, banks have now started to get out of capital intensive brick and mortar banking model and are moving towards digital and online platforms. They are also moving out of international business to focus more on domestic market due to a scarcity of capital. On a broader perspective, it also affects the economy as it has a direct impact on the trade deficit and trade balances.

In 2016, the government allocated Rs. 25,000 crores for the recapitalisation of PSU banks. This figure has been reduced to Rs. 10,000 crores for the present fiscal year. This measure was necessary as banks needed to overcome the stressed assets and NPAs. Also, this would help the banks maintain the prescribed Capital Adequacy Ratio (CAR) as per the Basel III norms. Recapitalisation would help banks with additional capital for credit growth. But the bigger question is- Is this amount going to help in solving the problem of NPAs? If yes, to what extent?

The amount is not sufficient when compared to the size of NPAs. The reduction in the recapitalization amount has been compensated for by giving infrastructure status to affordable housing projects, as a major chunk of NPAs is stuck in such projects. The recapitalisation will help banks cover their stressed assets with the fiscal deficit target set to 3.2%. The provision for NPAs has been increased from 7.5% to 8.5%. This will reduce tax liabilities of the banks. So, in all, a balance has been maintained with the recapitalization amount and association of other measures to curb the NPA problem. But, much more needs to be done if the problem needs to be fixed once and for all.

#Fincabulary 13 – Acquisition Indigestion

Meaning A slang term describing an acquisition or merger in which the companies involved have trouble integrating with one another

Acquisition Indigestion may also describe a situation in which the purchasing company has difficulty making the most out of a takeover. The same outcome relates to mergers and acquisitions that have gone sour, as companies may get indigestion when acquiring too many targets or purchasing firms that don’t integrate well.

#Fincabulary 12- Aunt Millie

Meaning – A slang term for an uneducated or unsophisticated investor.

The term is considered a derogatory remark in the financial sector, often used to refer to poor investment choices. Financial professionals might recommend an “Aunt Millie” investment to clients who are unfamiliar with investing. Analysts may use the term to berate a stock or other security. For example, one may say that investing in a certain stock is so foolish, only Aunt Millie would buy it.

Relevance of Debt-to-GDP Ratio in Discerning an Economy’s Health

By Deepika S

Sovereign debt is the debt owed by the central government. It is issued in foreign currency in order to fund the country’s development needs. This debt can be further categorized as internal and external debt. Recession, ad-hoc spending and a quest for higher economic growth have resulted in higher levels of sovereign debt across the globe. Between the years 2002-2015, the global debt rose from 200% to almost 226% of the GDP.

Significance of debt-to-GDP Ratio

The continuous rise in debts has resulted in a new metric: debt-to-GDP ratio. It determines if the country’s sovereign debt is too high given its gross domestic product. For instance, if sovereign debt levels are too high, it might create panic among foreign investors resulting in a withdrawal of FDI or it might leave the government with the option of increasing tax rates resulting in low/stagnant economic growth. Further, it may lead creditors to seek higher interest rates when lending. These discussions have paved way for the argument that high debt-to-GDP ratios cause macroeconomic instability which is not healthy for the growth.

Reliability of debt-to-GDP Ratio

In actuality, there are many exceptions which can’t be explained using this ratio. For instance, Japan’s debt-to-GDP ratio in 2011 is over 220%, but its economy received very little analyst attention. Meanwhile, Greece’s was only 160% and many rating agencies were predicting its collapse. In addition to this, a close scrutiny of the ratios of different countries shows that the relationship between debt-to-GDP ratio and macroeconomic instability is weak.

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Analyzing the above graphs, we can infer that the countries with higher debt levels are highly developed and comparatively economically stable. But again, this inference doesn’t apply to all countries and has exceptions.

Reasons for Disparity

A higher debt-to-GDP ratio is acceptable when the creditors are domestic investors, when an economy is rapidly growing, and when an economy issues securities (debt denominated) in its own currency.

The ratio is mute about the interest rates associated with the debt. Let’s consider 2 countries, A& B, with similar debt-to-GDP ratios. A’s debt is due in 30 years at 5% interest rate, whereas B’s debt is due in 2 years at 20% interest rate. It is evident that B is worse off in comparison to A. They are liable to pay the same amount for a shorter duration at a higher interest rate. However, the ratio downplays the severity and shows both countries as equally well-off.

Conclusion

Overall, though debt-to-GDP is one of the important metrics to be looked at to discern the economic health of the country, there are many other metrics that must be factored in as well.