How is the US able to spend so much more than its Income?

I had earlier promised to explain how the US has a savings rate of -7% (yes negative) and how it is funded.

The most important factors are :

1. USD as a Global Reserve Currency:

The US has a spectacular credit rating which has enabled the dollar to become the globel reserve currency, meaning that the probability of the US Govt defaulting on its loans is very low which in turn means US Dollar will be a very strong and stable currency. Every country has to hold reserves of some foreign currency/gold in order to save itself from potential political/financial crises. Hence most of rest of the world holds US dollars. Holding US dollar in terms of currency notes don’t give any returns, so they are used to buy US Treasury bonds. The bondholder has actually lent money to the US Govt.

2. Global Trade:

Most of the commodities (Oil, Gold, Silver etc.) are traded on USD globally. This means buyers and sellers of these commodities have to hold dollars. Hence there is a constant demand for dollars across the globe. Oil plays a very important role here since it is the backbone of every single economy in this world. Whichever currency in which Oil is traded, rules the world. There are theories which suggest that the reason behind Iraq attacks is that Saddam Hussein wanted to sell Oil in Euros which threatened the dollar dominance in the world. Same reason for potential attacks on Iran.

3. Artificially low interest rates:

Since the begining of the 21st century, the US has seen a period of artificially low interest rates. This was done initially to save the US Economy from the 2000-01 recession which was worsened by the 9/11 attacks. The economy made a smart bounceback because of the low interest rates. Consumption is inversely proportional to interest rates. When the interest rates are high, there is an incentive to save and when the interest rates are low, there is an incentive to borrow and spend. Hence the US consumers kept borrowing which was funded by the rest of the world.

4. Absence of an Institution called Family:

I have borrowed this point from M R Venkatesh, a noted economist from Swadeshi Jagran Manch. He says the prime difference between the saving nature among Indians and Americans is that the family culture in India is a huge deterrent to reckless spending. It is very common to see that Indians start accumulating wealth after marriage. This, he says is absent in America. The presence of Social Security and Healthcare benefits further redice incentive to save.

5. The strong consuming nature of the US:

The US is a very strong consumer in the international market. They import much more than they export, which is evident from their trade deficit year after year. The US pays dollars to exporters (Say China, Japan, Thailand, Korea, India etc.). These countries do not convert these dollars to their own currencies. Instead they are used to boost the forex reserves of the country. This in turn increases US debt.

6. Emergence of South Asia as a cheap manufacturing hub:

South asia’s emergence as a cheap manufacturing hub shifted US industries from manufacturing to services. This increased their imports massively as there was no incentive to produce the goods inland when they could be imported for a fraction of the cost. This is actually a result of the strong dollar and weak south asian currencies since weak currencies make exporting very easy.

All the points listed above are strongly inter-related and you could find a lot of cause-effect relationships. They could not have individually led to the present situation but collectively they have.

My take on Punjab Violence

Yesterday, after a gurudhwara attack in Vienna, Punjab erupted violently resulting in damage to buses, trains and an ATM , which means taxpayers money has gone down the drain. And how does our "Educated Honest PM" react? Check this link.

It doesn't matter whether crime is committed by Indians or others. The PM should have condemned the people behind these attack. Instead, he's requesting them to stop their violent behaviour.

God Save India from spineless people.

Why should the US Govt just let the recession continue rather than meddling with it?

To understand this we need to know about the history of US consumer spending. The US in the past 10-15 years has been a borrow and spend economy, evident from their evergrowing National debt. For every 100$ earned, they have been spending 107$. The remaining 7$ gap is bridged by other countries.( I shall explain this in a later article.) We all know this model is unsustainable, since one can’t keep spening more than one’s income. The house bubble burst was the trigger(not the cause) for this impending recession.

Now after the bubble burst, the US consumer has understood that he can’t keep spending more than his income and hence has cut down on his spending, which is actually good for both the US and the rest of the world. Since this cutting down has happened at a rapid pace, the recession is equally harsh and has its repurcussions in the way of Job losses and monetary losses.

What is the US Government doing now? They have cut down interest rates to almost 0% (a mistake they did in 2001 which led to the house market bubble) and are spending like crazy in the economy in the name of their stimulus plan. This is merely encouraging the consumer, who now has consciously cut down his spending, to spend more. This not only increases future recession possibilities but also increases inflation risk a lot.

My bottomline : The US Govt is again trying to interfere with the market to create skewed incentives for borrowers and is taking the economy to a yet another unstable period of growth rather than letting the economy recede and start stable growth without debt burden.

Community Blog

A few of us from IIM Calcutta have started this community blog Strat.in. I've just joined them.

Will be posting both here and Strat.in from now on.

My 2 cents on Exit Polls

Yesterday, I was looking at the Exit poll results of 2009 Elections on CNN-IBN and NDTV. They were giving all sorts of projections based on their survey.

In the CNN IBN survey, I had a look at the Bihar numbers(any state would do, I took Bihar since they had a round 40 seats which can easily divide any number). There were 1960 respondents from Bihar, which means 49 respondents per constituency. I assume each constituency as a few lac voters. How can 49 people represent these few lac voters?

I don't believe NDTV either, who have not even mentioned their sample size.

Hence I don't like to believe these numbers but would like to watch out for Saturday the 16th.

Who do you want to serve Mr. Vaiko?

Vaiko made this statement Yesterday.

‘My sole aim is to protect Lankan Tamils’

If you want to protect Lankan Tamils why are you contesting from India? Why don't you jump off into the sea, swim through, get across to Sri Lanka and serve them there. Why do you want to use Indian resources to save Sri Lankan tamils when India has enough problems for herself?

I always fail to understand the "Tamil Eelam" issue which is prevalent in Tamilnadu. All politicians are sympathetic towards SriLankan tamils who are dying. Why aren't they interested in the Indian tamils that are dying? Why are we being sympathetic? Just because they speak the same language as ours. Is that sound and rational?

I understand India has to be concerned because Sri Lanka is our sea neighbour. But we have to stop there. We should have our self interest first. Everything else comes next. Did Vaiko react so much to the 26/11 attacks? He is more concerned with Sri Lankans dying than with Indians dying.

Bottomline : Just have your self interest when you vote. Don't think about Lankan Tamils, Sri Lanka is not in India. Do we worry about dying Combodians? Just make sure you vote with the utmost selfish motive, which is India's self interest.

Mr Mulayam, can you draw the payoff diagram of a forward?

I've been trying to download Samajwadi Party manifesto for around 45 minutes yesterday, before I realized this fact. How can a party which wants computers banned put up its manifesto online? Shit

When I was googling, I found this SP website, I started wondering. Why does SP have a website? Their policy is that if a job can be done manually, then computers should not be allowed to do it. Why not put a 24 hr Phone line and employ a poor guy to answer calls from anxious people who would like better their lives by knowing about SP.

SP wants to ban machines that substitute human labour. So let's ban buses, trains and flights, people can walk/crawl/swim to their destinations right. Let's ban mixers and grinders, people can use the old fashioned "Aatu Kal"(I don't know how to call it in English, Its a 2 stone thingy used to grind things.)

I'm reiterating Arun Shourie here. Think of Mr. Mulayam representing India in a G-20 meet with bundles of paper(read without a Laptop , without a mobile , talking in Bhojpuri/Hindi)

I agree the majority of India doesn't have access to either computers or English. But that doesn't mean these should be banned for the welfare of the country. But a manifesto like this only shows immaturity and lack of vision of the SP leadership. Poor can't be made better by bringing the rich to them. Poor can only be made better by taking them towards the rich.

How should MK deal with Vaiko after his speech about Tamil Eelam Issue

What should be M Karunanidhi's Strategy after Vaiko's recent speech about Tamil Eelam Issue.

There are 3 options in front of MK.

1. Arrest Vaiko under NSA
2. Ignore him
3. File a complaint but don't arrest

If MK has to maximize his chances in Tamilnadu in the Lok Sabha Election 2009, what should he do?

1. If Vaiko is arrested, it can make Vaiko a war-hero. He'll become bigger than what he is now. He'll become a victim rather than a culprit in the eyes of Tamilnadu Voters. This can actually accelerate the turn in tide against MK and worsen his position in the LS Polls.

2. If Vaiko is ignored, he'll make couple more speeches on this issue and try to make use of this for political gains. But this can be interpreted as incapability on the state government to maintain law and order. Again not positive at all for MK, but definitely better than Option 1

3. File a complaint against Vaiko but don't arrest him. This will show that the state doesn't want these speeches but it doesn't want Vaiko to use the arrest to his advantage. Afterall, DMK doesn't want to convert Vaiko into another Varun Gandhi.

What a Shame?

When the IPL, was shifted from India to South Africa, India gave this very famous reason. " In view of the upcoming elections, we don't have enough security cover for IPL."

I felt ashamed when I read this page. India's not able to provide security cover for IPL in spite of holding elections in 5 stages, whereas South Africa is able to provide cover though they hold elections in just one stage.

Shame on u India!

Improper Reporting by Newspapers and websites

If you have a look at this article, it says the Rupee gained 18 paise against the dollar.

Let's make a few things straight

1 Rupee = 100 paise

Is it possible for rupee to gain 18 paise and equal 118 paise. It's rubbish. It is impossible for a currency to appreciate against another currency in its own terms.

What the newspaper tries to explain is that, 1 USD has depreciated by 18 paise.

The newspaper here tries to put the information in terms of Rupee. Then, the article should have said Rupee gains xxx cents. But this is not practical because the cent gain by Rupee will be very very little, hence the mistake these people do.

Manmohan Singh - Spineless?

Yesterday Congress party announced their manifesto and Manmohan Singh announced that he will not be contesting the Lok Sabha Polls.

I can understand he getting nominated to Rajya Sabha in 2004 post the elections because he was not in contention before the Polls, and hence was not given a party ticket.

But the situation is different now. He is Congress' PM Candidate. Doesn't that mean he has to contest Lok Sabha polls and win his way to Prime Ministership? The reason he gave was really funny. He cited health reasons for not contesting. But he doesn't mind being PM in spite of his health concerns.

Do we want a PM who's just a puppet and doesn't even have the guts to contests Polls?

Who's spreading more cummunal hatred?

Media space in the last few days have been dominated by Varun Gandhi who's accused of spreading communal hatred. He is accused of talking in front of hundreds of hindus against hindus. While this article in no way tries to support Varun, I'd like to question the media.

What the hell is the media doing? CNN-IBN and NDTV are abuzz with the videos being shown hundreds of times which the entire country is watching. How are these TV channels spreading communal harmony by showing these videos throughout the day?

Apparently Varun Gandhi's hate speech happened on 6th March 2009 whereas the videos were submited to the Election Commission and were shown on TV only on 17th March 2009. Does it take 11 days to make a CD?

Economics of IPL Venue Change (update1)

It's an honest attempt at calculating IPL Venue shift's impact on India's GDP.

No. of Teams = 8
No. of Players in a team = 15
Team Size = 20 (Players + Coach + Manager + Physio etc.)
No. of Foreign Players in Each team = 4(assumption)
Duration = 45 Days

Consolidated team size = 20*8 = 160
No. of matches = 2*8C2 + 2 + 1 = 59

1. Hotel Accomodation = 160 * 45 * 5000 = 3.6 Crores (5000 per head per night)

2. Food Expenditure = 160 * 45 * 3 * 1000 = 2.16 Crores (1000 per meal)

3. Travel Expenses = 160 * 7 * 2 * 8000 = 1.792 Crores (7 away matches per team, 8000 per business class one-way ticket)

4. Ticket Revenue = 59 * 40000 * 500 = 118 Crores (Avg. Audience = 40000, Avg. Ticket Price = 500)

5. Shopping by Foreign Players = 4 * 8* 2 * 100000 = 0.64 Crores (Player including his girlfriend each shopping for 1 Lac)

6. Round Trip Travel from home to stadium by Audience = 40000/2 * 59 * 0.1 * 50 * 2 = 1.18 Crores (40000 Crowd, 2 per vehicle, 5km distance from Home to Stadium, 50kmpl Mileage, 50 Rupees per litre of Petrol)

7. Stadium Shopping by the Crowd = 59 * 40000 * 100 = 23.6 Crores (assuming Avg Spending on food and other merchandise = 100)

Total GDP Impact = 150.972 Crores

I'm sure I've left some expenses. Comments are invited to improve the calculations.

P.S All calculations are done in Indian National Rupee(INR)