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Wen the going gets tough..

2010-03-18T05:15:15Z

The Sino-US bilateral ties reached a new low recently when the US Senate introduced a bill that aims to put pressure on China to let its currency appreciate. Some members of the US congress even threatened to impose duties on some of Chinese exports, if Beijing fails to revalue its currency. US lawmakers as well as economists argue that the Yuan is at least 20-40% undervalued and is thus affecting the competitiveness of US trade.

]]> Though the debate on Yuan is a pretty old issue, the February trade numbers probably led to the sudden flare in tones. After having fallen by more than 15% (YoY) each month on an average in the last 12 months, Chinese trade surplus with US suddenly shot up by 36%YoY during the month of February. To add to this, the Chinese premier Wen Jiabao on 14^th March strongly defended the country’s foreign exchange policy and said that the foreign pressure on revaluing its currency was unfair. He also went on record saying that Yuan is actually not undervalued.

Arguments in favor of US:

· Why would the Central bank keep buying an average of USD50bn every month? And what would happen if this stops and the Yuan is not managed?

· If actually the Yuan was not undervalued then why not let it settle down at this level under a free floating regime?

· Now that the worst of the recession is over and that the Chinese economy is growing at a rapid pace, why would one need to keep the currency pegged? Obviously insulating exporters from the external turmoil does not seem to be a good enough argument now.

· The World Bank adds that given the recovering exports and a rising inflation, an appreciation of the currency would actually help lower the price of imports thereby taming the inflationary pressure.

· Bottom line: The current USD140bn trade deficit with China, which was more than USD160bn at some point in 2008, hurts. A currency peg is facilitating this by giving an unfair price advantage especially in the current state where the US economy is struggling to come out of recession.

Arguments in favor of China:

· Foreign countries may desire to raise exports, but why at the cost of depreciating its own currency? And why try to attempt to pressure others to appreciate their own currency, for the purpose of increasing exports?

· During the period of currency appreciation between July 2005 and September 2008, when the Yuan was allowed to appreciate by almost 16%, the US trade deficit with China actually deteriorated by more than USD100bn. Hence an appreciation of Yuan may not have any impact on US’s trade balance.

The interesting twist to the entire story is that China (private and public) is the world’s biggest holder of US Treasury debt, nearly USD900bn (1/4^th of total) and holds about USD2.4trn of foreign exchange reserves, out of which around 1.7trn is believed to be in dollars. Obviously China would not want the value of dollar to come down. On the other hand, when China cut its holding of US Treasury securities by around USD50bn during Nov 09 – Jan 10, it sent a panic to the financial world, about what would happen to the dollar, if China starts dumping their US holdings. Evidently, the stakes are pretty high on both sides.

The bilateral relation has also been tested recently over new US arm sales to Taiwan and President Obama’s meeting with Dalai Lama in the White House. The world can only sit and watch the changing dynamics of the bilateral friction between the world’s largest creditor and debtor.

Euro – a Greek tragedy

2010-02-24T13:16:13Z

Dubai, as I said when the specter of default loomed large, was symptomatic of a bigger global problem of a sovereign debt crisis. Greece is symptomatic of the problem that the Eurozone (and, by default the Euro) currently faces. Success of Eurozone depended on strict internal discipline by the members. Problem was the different stages of economic growth in different countries. Fact is, many of those nations who aspired to be a member of the much avowed group of countries, did not really care for the discipline expected out of them. The problem was exacerbated by the fact that there was a uniform monetary policy across members as was the uniform deficit target. Sure France and Germany sent out wrong message by violating the deficit targets without inviting sanctions, thanks to the clout they enjoyed. The smaller economies thought that they would continue to enjoy the benefits of being a member without being disciplined. The credit fuelled growth enjoyed by them without the adequate checks and balances meant that, when the global environment turned around for the worst, they paid a heavy price for their lack of discipline. And they did not have ammunition to fight given the centralized policies.

]]> Make no mistake, the PIGS (Portugal, Ireland, Greece and Spain) economies are in real danger of sovereign default and the only way that can be averted is by forcing all of them to drastically reduce the deficit, meaning to say that the government should cease to play the role of propping up the economy. In the current environment, this would lead most of these economies into another bout of recession. And this will pull the others alongwith. Also, as the risk perception increases, it can lead to an increase in risk premium in the interest rates, which can also slowdown the recovery process.

Essentially what this means is that Euro will continue to be weak. And, by default, the US dollar will strengthen, more so given the likely flight to safety. Since its December low, the dollar has already gained more than 10% vis-à-vis Euro and as a result, the trade weighted dollar index is also moving up. My feeling is that, the dollar will generally remain strong, although it will continue to be volatile, given that the US economy itself is on a weak wicket. However, sustained weakness of the dollar is not on the cards now.

Euro and beyond

2010-02-17T13:03:40Z

The fact that Greece has bluffed its way (namely fudging data to show strong balance sheet) to join the Eurozone is well known. However, as new skeletons tumbled out of the cupboard, it seemed that Goldman Sachs was its partner in crime. It helped Greece raise $1 billion of off-balance-sheet funding in 2002 through swap deals, something that the European Union regulators claim that they were absolutely unaware of. While corruption in the Greek public sector is well known (which, we Indians, can fully understand), their messy financial situation landed them in even greater trouble being part of the Eurozone, given the lack of independence of their monetary and, to a great extent, their fiscal policy.]]> Fact is, the extent of debt that has been run by (among others) the PIGS economies have made their countries highly vulnerable. Not that all the others are in a good shape, but the PIGS economies epitomizes the problems the profligate economies (that cannot self correct) face.

Surely, Greece, as a nation is in clear need for a bailout. Default (even a technical one) would be catastrophic. CDS spread of Greece has skyrocketed to 400 basis points plus. As a rough estimate, about €300 bn worth of Greek bonds are outstanding in the global market. Overall, as the sovereign rating of the vulnerable countries (Portugal and Spain are also facing increasing pressure) take a beating, the interests rates would start to rise. And the problem will not be restricted to the few countries only. Even the biggies would be affected. In case of Germany, for example, in the past about 6 months, the CDS spread more than doubled. As per the BIS data, total exposure of the German banks in the PIGS economy (Ireland, instead of Italy) is close to a quarter of their total exposure in developed Europe and nearly 15% of their total global exposure. Meaning, the impact of the vulnerable economies would be increased interest rates, something that the entire region can ill afford at this point in time, when recovery is of paramount importance.

On the other hand, bringing the deficits down (which should be the prime focus) substantially in a shorter period of time (as is expected of Greece or, for that matter, already implemented by Ireland) to enable these economies to meet the requirements to be part of the Eurozone, can lead these economies straight into recession as the Government has to stop supporting the economies fairly soon.

Not surprisingly, there is now increased clamour about a dual currency in the Eurozone (a strong Euro or the existing one and a weak Euro to be adopted by the weaker economies). Not that the Eurozone policy is to be solely blamed. A significant body of academic research shows that since euro’s introduction in 1999, not only have the periphery countries of the Eurozone not achieve real convergence towards the union’s core countries, they have actually diverged further. Euro-participation provided periphery countries with a false sense of financial security preventing them from pursuing unpopular yet necessary fiscal and structural reforms. And they are paying the price for it.

US unemployment – lower rate is a chimera

2010-02-05T07:02:54Z

Picking up from where I left yesterday, the malaise seems to be deeper than what the bulls of the Q4’10 GDP number might want us to believe. First things first. Employers cut as much as 20,000 jobs, when the median market expectation was some positive job creation. It is also important to note that while the gain in November employment was revised up from 4,000 to 64,000, the revised December number showed the job loss plummeting from 85,000 to as much as 150,000 – more than erasing the gains in the previous month.]]> As per the data leased by the Labor department, the fall in employment last month was mostly driven by a plunge in construction jobs and a drop in state and local government hiring. Although manufacturing employment increased, employers squeezed more out of existing workers by making them work more as is reflected by the increasing average work week (average workweek for all employees on private nonfarm payrolls was up by 0.1 hour to 33.9 hours in January, with the manufacturing work week rising by 0.3 hrs to 39.9 hrs). In fact, since June, the manufacturing workweek has increased by 1.2 hours. The factory overtime increased by 0.1 hour over the month. Not surprisingly the productivity has been rising.

The extent of the problem can be gauged from the fact that the number of long-term unemployed (those jobless for 27 weeks and over) continued to rise in January, reaching 6.3 million. Since the start of the recession in December 2007, the number of long-term unemployed has risen by 5.0 million. Getting job has become so difficult now that the average duration of unemployment has crossed 30 weeks for the first time, meaning people who lose job, remain unemployed for an average of seven months plus, and that’s big. Not surprisingly, the number of discouraged workers (as part of what is called marginally attached) increased to 1.1 million in Jan’10 as against 0.7 million in Jan’09 and the remaining 1.5 million people marginally attached to the labor force had not searched for work in the 4 weeks preceding the survey for reasons such as school attendance or family responsibilities.

Hence the drop in unemployment number, despite in unemployment is more technical in nature as some section of the unemployed (who were surveyed) have not looked out for jobs during the past 4 weeks (the period on the survey) and hence did not qualify as unemployed.

While this anomaly might be rectified next month, unemployment rate might not increase much next week given the firms have now become so lean (by cutting headcounts and increasing productivity of the remaining), they would need to add some workers as inventory restocking starts.

However, unless the demand picks up to sustain rising production from mere restocking to meeting rising demand (which is quite unlikely), the economy is shaping up for rising levels of unemployment a few months down the line.

In any case, the actual level of unemployment is much higher, if we take a more logical gauge of unemployment, which is reflected in the U6 (U-6 Total unemployed, plus all persons marginally attached to the labor force, plus total employed part time for economic reasons, as a percent of the civilian labor force plus all persons marginally attached to the labor force) numbers and not simply U3 (Total unemployed, as a percent of the civilian labor force (official unemployment rate). The U6 rate is now as high as 16.5%.

US initial jobless claims – economy on a sticky wicket

2010-02-04T16:39:02Z

The US economy is in a very sticky wicket indeed, notwithstanding the above expected growth recorded during Q4’09. The recovery is mainly technical as inventory draw down is coming to a close and the inventories have gone to such levels that some restocking is essential. Question is, will the inventory stocking finally lead to production cranking up and economy starting to move up? No, because the consumer sentiments are terribly scythed.

]]> Make no mistake, the consumers are in deep waters and unemployment rates are not going to go down very soon. If anything, there is every likelihood that the unemployment rate will inch up for some more time to come.

The data released by the US Labor Department today shows that Initial jobless claims increased to 480,000 (as against the market expectation of around 450,000) in the week ended Jan. 30, which is the highest in the last seven weeks and up from 472,000 the week before. More importantly, the number of people receiving unemployment insurance hardly changed and those receiving extended benefits actually increased, thereby signaling the difficulty of people landing up with jobs. It is also important to note that, the number of people who’ve used up their traditional benefits and are now collecting extended payments increased by about 242,000 to 5.86 million in the week ended Jan. 16.

However, as restocking slowly starts, capacity utilization has started moving wee bit up, having hit its low by the middle of 2009. Not surprisingly, productivity has started increasing. As per another report of the Labor Department, worker productivity, as measured by output per hour, rose at a rate of 6.2% (annualized) during Q4’09, resulting in an overall increase of 2.9% during 2009, which incidentally is the biggest one-year increase since 2003. Labor costs dropped by 4.4% last quarter and fell by 0.9% during the whole of 2009, which incidentally is the biggest drop in seven years.

Source: BES, BLS

On the upside, the large jump in productivity does hint that some employment generation will take place soon. However, the overall scenario is unlikely to change much and the overall unemployment rate will not come down anytime soon. As the initial claims number suggest, there is a clear lack of confidence that the economic recovery will be sustained. There is every likelihood that the inventory restocking based recovery will run out of steam soon.

Indian credit policy and stock market

2010-02-01T14:05:32Z

As I have been mentioning over the last few months, the Indian stock markets were highly overvalued and not supported by economic fundamentals. It was quite clear that the run up was mainly driven by the deluge of external funds flowing into India. The events of the last few days, when the stocks took real beating as the fund flow dried up and even reversed (on the back of some stringent measures that the US regulators are contemplating), finally exposed the fragile nature of the run up.

]]> ), RBI increased the Cash Reserve Ratio or CRR by 75 basis points (the move will be implemented in two stages with the first 50 bps hike coming into effect on February 13 while the next 25 bps hike will be effective from February 27. This will result in a mop-up of Rs 36,000 crore or Rs. 360 billion by February end). The message was clear. RBI does not want inflationary expectation to be built up. Not that there is an immediate threat to a built up of non-food, non-oil inflation. The current run up of inflation in India is purely due to food price inflation, which is a supply side issue and it is quite well known that the monetary policy is effective only when one needs to work on demand side pressure and not on supply side issues. Moreover, given the muted rise in credit growth (we would be hard pressed to touch a 16% credit growth this year), the CRR hike is unlikely to have any effect on credit growth. It is more a cosmetic decision aimed at tempering inflationary expectation.

The fact that RBI has not gone for a rate hike is attributable to their apprehension about the growth and more about the economy’s continued dependence of stimulus. Fact is, domestic demand is still heavily dependent on the stimulus. A close look at the IIP numbers show that while there is an admirable growth in consumer durables, consumer non-durables are virtually flat. One would do well to remember that the stimulus measures positively impact the consumer durables. Even an analysis of the Q3’10 (Oct-Dec) corporate performance reveal that while the bottomline has shown strong growth (thanks to lower base effect), the topline is not really moving as desired. This has been the situation in the past two quarters as well, indicating slack domestic demand. At this point in time, any hike in interest rates can spook demand. And there is every likelihood of interest rate rising sooner rather than later, more so given that the RBI expects the inflation to peak at 8.5%. Interest rates need to rise. We cannot have a situation where the real interest rates remain negative.

The most important decision, at this point in time, is to time the exit of stimulus, given the dependence of the economy on the same.

The market seemed to have been buoyed by the positive GDP outlook (7.5% growth) of RBI and recovered all of today’s loss and more. Does it mean the problem days are over? Far from it actually. RBI’s forecast actually seems to be too good to be true. They do not seem to be taking cogniscance of the likely impact of one of the worst monsoon in the last 25 years. Lack of domestic demand is also being ignored.

From the market perspective, the global economic environment continues to be real threat. Double dip recession is quite likely in the US, Europe is not in a great shape either and Greece may not be an isolated instance. Added to that are the likely hawkish regulatory stance that one is definitely going to witness all over the world. This can impact the flow of foreign funds in a big way. We have just seen the trailer during the last few days the market took a beating. Meaning, going forward, flow of foreign funds would be very volatile. One should be prepared for volatile times ahead.

Investment strategy should be more stock specific and definitely not the buy and hold type. Booking profits might make better sense on every rise.

Right-mixing Science and Art for better Decision Making

2010-01-22T04:01:27Z

Decision making today is more oriented towards data, metrics, predictability models and controls. Risk department forecasts their numbers using heavy duty econometric models. Many of these models are based on absolute precision. Recall the phrase ‘show me the data’ before making any argument. The point is organizations are heavily depending on science today to run the business. We are not challenging science here; it is the way it is being used to make decisions. Why are we consistently getting our numbers wrong? Now there is news about China’s real estate bubble and rise in US foreclosures. Why we make wrong decisions based on certain system and do not learn from them? Why we go back to the same system after failing? Using sophisticated financial models, CEO’s make next quarter guidance only to get them wrong again and later get criticized for not delivering on their promise.

]]> Even the biggest conflicts of the world cannot be solved with high precision weaponry. It is the art to use the force and the table to resolve issues. It is time that organizations realize the need to mix science with art to make better decisions. Models alone cannot take the blame for failing the system. Many predictive models are based on the assumption that future behaviour is based on the past. There is a need to qualify this assumption. Art is the ability to apply science for making better decisions. The ability to test the models taking cognizant of the assumption and limitations can lead to fewer errors in decision making.

Just by doing trend analysis, seasonality tests, or scenario analysis cannot make a model robust. Justifying the upper and lower limits, understanding the quality of data used and the time dimension would help to converge and understand the scenarios better. Measuring quantity is easier compared to related quality. Quantity provides a status of a metric but doesn’t tell us anything about customer experience, sales quality, competitive landscape – these are constructs which needs a different scale to understand, measure and act.

To understand the scenario better, we need to supplement the quantitative models with an artistic mind. We need a larger canvas for the two to engage, verify and conclude. Yes, if it cannot be measured, it may not be important but it could also be that it is the most important problem we are facing and it is just that we have not figured out how to measure it.

US economy - the last decade was a lost decade

2010-01-21T14:32:44Z

As the 1^st decade of the new millennium came to an end, the US has technically come out of one of the worst recessions since the great depression. At a relative level, this maybe one of the worst recessions ever recorded. The uniqueness of this recession lies in the fact that unlike the previous recessions, which mostly saw the inventory led boom bust cycle playing out, this recession saw the US financial system plunging to its nadir. And, being a system whose tentacles are spread all over the world, it pulled others into the vortex as well. For this, however, while a majority of the blame goes to the financial whizkids (a euphemism for thugs on the loose), the regulators also need to take a lot of blame for failing to take appropriate action at the opportune moment. Despite clear faults in the system, the runaway assets prices backed by the obscene expansion of the opaque derivative products, were used by the regulators to justify that as a success story of their own policy acumen. And, when the bubble burst, asset prices collapsed. ]]> The last trading day of the year saw the Dow close at 10,428.05, down by 9.3% (despite a major recovery from its March low, which is not necessarily backed by the economic fundamentals) as compared to its closing value of the previous decade i.e 11,497.12. This was the first time ever since the great depression that the Dow actually posted a loss during a decade.

This decade also experienced two recessions, one in 2001 (lasting for 8 months) and the other in 2008 (lasting for 19 months). Not surprisingly, the economy expanded the least (in real terms), leaving aside the decade of the great depression. Even after assuming a 4% annualized growth in the 4^th quarter of 2010, US real GDP would expand by a little above 20% during the decade - and this, despite a substantial improvement in productivity. Looking at it, the last decade can be termed as a lost decade for the US economy.

There was a virtually zero job creation (less than 400,000 jobs have been created) during this period.

Not surprisingly, the US consumers were highly affected. During this decade, the inflation adjusted median household income dipped for the first time, while the consumption binge that the US households indulged in (since the baby boomer generation entered the fray) led to their debts skyrocketing. With house prices falling and equity prices down, wind has been knocked out of their sail.

Country Risk Analysis – A key to outperform others

2010-01-18T09:13:15Z

We live in an unpredictable world, where change is seemingly constant. Businesses that are unable to anticipate and manage change will inevitably pay a price in losing out on competition, lost revenues, lost time, and lost investments. A proactive firm who would do its homework well would score over reactive firms who choose to take it as it comes. The ability to manage change is critical to success for every business in every location. Country Risk Analysis (CRA) enables businesses to anticipate change and taking measures to control it.

]]> When a firm is already operating in a country then whether its business is under the threat of expropriation by a foreign government in a shifting regulatory environment, or having difficulty converting or transferring currency, or facing attack by the political system, or in a difficult negotiation with a government, CRA can help it manage change by better understanding the environment in which it is operating and providing risk management tools to protect its business. CRA can also help position the operating country amongst its peers or in that particular region to give a bird’s eye view on the ever changing operating risks associated with it.

On the flipside, even when a firm is looking out to expand its reach, CRA can act as initial triggers and signals, by giving the credit worthiness of that particular country or region or a third party view of the risks.

In general for any kind of business, the riskiness to its operation can be broadly bucketed under these following 4 categories:

a) Economic Risk

b) Political Risk

c) Business environment Risk and

d) Currency Risk

Analysis of the above would require regional or country specific knowledge as well as expertise, along with access to detailed data. Determining the right variables under each category is also important as also fixing the appropriate weight. Principal component analysis (PCA) helps to convert a number of possibly correlated independent variables into a smaller number of uncorrelated variables.

Within the economic risks, the idea is to look at various key economic indicators like real GDP growth, inflation, fiscal balance (as well as public debt), external balance, unemployment etc and aggregate them suitably to arrive at comparative scores. Again for each indicator, a weighted average of the recent years is taken to avoid recency bias.

Analysis on the political risk should answer the following questions – Is there a functional democracy and an independent judiciary? How strong is the ruling party/coalition or may be how strong the opposition is? How frequent are elections in the country and how fast does key economic policies change with the change in rule? How independent are the government policies from foreign intervention? What is the state of law and order and where does the country rank in the corruption index? Foreign relations or stand in regional geopolitics? These questions often don’t yield any objective scores, which is why the regional/country specific domain of the analyst comes into play.

The business environment risk would typically cover the earlier analyzed economic and political score rating along with indicators like a) openness and competitiveness – these can be arrived at by looking at the country’s foreign investment policy, foreign trade policy, tax regime, labor policy, legal framework (viz. industrial laws etc), property rights; b) language and communications – acceptability as well as use of foreign languages is a key area of concern for firms when they wish to set up their operations there; c) physical and IT infrastructure – gauged by the extent and condition of road, air and port connectivity, telephone lines, internet penetration etc.; d) soundness of financial markets – health of the banking sector as well as the various asset classes; e) a detailed market research on the firm’s industry is equally important – information on large players already existing along with their market shares, information on the sectoral performance as well as government policies aiding or impeding the sectoral growth.

The currency risk, which can be part of the economic risk as well as the business environment risk, needs a separate classification just owing to its immense importance as this probably has the most immediate as well as severe impact on any operations. These can be gauged by looking at the type of foreign exchange regime that operates in the country as well as the independence of the monetary authority. Inflation rates, interest rate differential with other countries, level of foreign exchange reserves, level of portfolio flows and most importantly the volatility of the currency over its mean value are other significant contributors to this category.

Typically a firm would like to evaluate their strategies based on an average score of all the above, but given its nature of exposure or operations, it may want to choose or reweight the above for a more representative score.

Provision of such analysis is not new as we would have a lot of research organizations providing it, but what acts as the differentiating factor is the depth of regional and country specific domain, prior experience of doing it as well as access to the key data.

CRA thus on one hand helps reduce risk with access to all critical information impacting the market – market trends, competitor threat and economic factors, and on the other hand would help identify new growth areas by achieving a well rounded view of the market. Timely and accurate CRA is vital for undertaking more sound business decisions for boosting a stable and non-inflationary growth of a company and for coping with various risks under a dynamic and rapid integration of our economies.

Indian GDP outlook improves for the current year

2010-01-13T13:43:27Z

The IIP (Index of Industrial Production) numbers for November released yesterday was indeed a cause for much rejoice. It turned out to be another positive (nay pleasant surprise). I was expecting the manufacturing activity to taper off post the conclusion of the festival period. To my surprise, however, that did not turn out to be the case. ]]> The IIP recorded a growth of 11.7% in November, as compared to 2.5% growth for the same period last year. This comes on the backdrop of 10.4% growth in October and the IIP growth has crossed double digit figure in three out of the last four months. The overall growth for the eight month period (till November) is 7.6%, nearly double the 4.1% growth for the same period in the previous year. While a good part of manufacturing growth can be attributable to stock building, what is important to note is impressive growth recorded by the capital goods sector. It grew by 12.2% in Nov’09 as against a mere 0.5% growth in Nov’08. Overall, the sector grew by 7% during the eight month period.

Indications are that the growth will continue to be robust next few months, given the low base effect. On the basis of this, I am upping my GDP growth forecast for the full year from 5.9% to 6.5%.

The downside to this is the likely increase in interest rates, sooner rather than later. Improved growth scenario and comparatively high inflation rate (even if it moderates, I am inclined to believe that the inflation rate will be sticky downward) will be a potent combination for a tighter monetary policy. In this context, it is also important to note that the economy is still critically dependent on the stimulus and the withdrawal, as and when it happens, will add a lot of stress to the economy, especially in the scenario where the deficit is going to remain high. Added to this is that fact that the mess that the global economy has been in, is yet to be cleared off. While there seems to be some semblance of recovery, the pain is far from being over. Europe is in big trouble apart from a few pockets. Japan hardly matters. The US is not yet out of the woods, as the latest unemployment numbers reveal.

Rising interest rates, high deficit, potential withdrawal of stimulus along with preponement of demand to the current financial year due to the stimulus, global growth risks – all conspire to a not too rosy a scenario going forward. India is definitely in a better shape as compared to others, but reverting back to the 9% growth rate is not going to happen soon. I am expecting a 7% GDP growth during FY11.

Employee Attrition Management - missing the forest for the trees

2010-01-13T04:09:04Z

With the slight improvement in the economy and the business pipeline looking up the menace of attrition has again raised its head. Attrition rates are again back to the pre slowdown time when companies in the new economy had very high attrition rates. Specifically IT/ITES companies are seeing attrition at the mid 30 to 40% level. Organizations who are in the businesses where their employees need to have long touch time with the customers and need to understand their customers businesses would do well to plan in advance for their future attritions as customers lose confidence in the organizations and may not like to give more business/repeat business if they see a lot of flux in the team they work with.

To tackle the employee attrition menace organizations need to use attrition modeling to predict the attrition probabilities of their employees and take corrective actions to retain employees whom they want to retain and let go of those employees who are not good performers. Attrition model not only helps organizations to take preemptive actions to retain high performers it also helps them to pre-plan the recruitment requirements and build the new employee pipeline.

When presented with an employee attrition model, more often than not managers look at the individual variables in the attrition model and say the model is not an actionable one and do not take any action. But more than the individual variables in the model, managers need to look at the respective employee groups with attrition probability ranks (Rank 1 being the highest probability to attrite and rank 10 being the lowest probability to attrite) and identify the respective employees whom they want to retain for their contribution/potential contribution to the organization's business and take corrective actions.

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Uncle Sam's labour pain

2010-01-08T15:31:55Z

The December 2009 unemployment rate for the US was stood at 10%. What, however, was shocking was the 85,000 jobs were lost, while the general expectation was there would be no job loss. The euphoric expectation was on the back of a mere 11,000 job loss reported in November’09. While the November number was revised upward to plus 4,000 (implying a creation of 15,000 jobs, which though is more of a statistical effect, since the October job loss was revised upward by 16,000) the December numbers poured water on whatever positive expectation that was there on the ground.

Clearly, whatever the spin doctors are saying, the US is far from being out of the woods. The mean duration of unemployment continued to rise and has crossed 29 weeks (29.1 weeks to be precise).

]]> But there’s even worse news. As reported by the New York Times during end November’09, the BLS has admitted that its Birth/Death Model has overestimated jobs by about 800,000. The Labor Department said that it planned to revise the job figures by subtracting more than 800,000 jobs that it had wrongly estimated were filled by workers.

A lot of blame for this goes to the so called birth/death model. This means that it has been assumed that jobs have been created by newly born companies that couldn't be surveyed, and weren't contacted, by its workers. The acceptance by the labour department clearly means that they failed to estimate how many small businesses failed.

That model appears to have misjudged how many companies went out of business during the recession, meaning the labor market was even weaker than initially thought. This is also intuitively valid, given that the current recession has hit small businesses especially hard, driving down demand and choking off vital sources of credit at the same time. The problem is, this is not only underestimating the grim unemployment situation, it is very likely that even the GDP is being over estimated by the inflated employment numbers.

According to the November 25th Press Release of the American Bankruptcy Institute, 45,510 business bankruptcies were recorded during the first three quarters of 2009 (Jan. 1 – Sept. 30) which is more than the full year 2008 (Jan. 1- Dec. 31) business filing total of 43,546. And this number is already the highest ever recorded since 1998. Business filings for the 3-month period ending Sept. 30, 2009, totaled 15,177, up 32 percent from the 11,504 bankruptcy business cases filed in the same period in 2008.

Problem is, it is very difficult for the Labor Department to incorporate all these data in its monthly employment reports, which are normally released on the first Friday of the next month. Hence, their report depends a lot on estimates. As per BLS survey methodology, the department surveys about 160,000 firms to get a sense of how many jobs were added or cut and it also uses the "birth-death" model to try to estimate out how many companies opened or closed. Once a year, the department looks at unemployment insurance tax records to get a more accurate picture of how many people were employed, and matches that up with its own data. And, each February, it tries to reconcile these differences by releasing a "benchmark revision".

The so-called “benchmark revision” that was announced in late November 2009 will not formally be incorporated into the job figures until February, and could be revised. But the figures indicate that last March the government overestimated the total number of jobs by 824,000. Reducing that number from the employment figure and adding the same to unemployment shows that the actual unemployment rate for March 2009 should have been 9.2% rather than 8.6%, implying an understatement of the unemployment rate by as much as 60 basis points.

So, once the revision is done in February, the actual unemployment rate will look very anemic indeed. Assuming the miscalculation of 824 remains the same, the current unemployment rate would be actually 10.5% and not 10% as reported. And it is quite likely that the same mistake is still taking place. This means that the real unemployment number would actually be even worse.

And you thought Central Banks were independent?

2010-01-08T08:01:34Z

In my last post, I had argued that central banks are generally much more independent from administration hence making monetary policies more effective.

Yesterday, Argentine President Cristina Kirchner, along with her entire cabinet, signed a “decree of necessity and urgency” to oust the Central Bank Chairman Martin Redrado from his post. The reason? In short he wanted more autonomy for the central bank. In December 2008, the government had announced that it would transfer USD6.6 billion of central bank’s international reserves (from about little more than USD40bn it currently holds) to a new “The Bicentennial Fund”, that would be created to service public sector debt. And Mr. Redrado refused to agree to this.

]]> While the new fund was expected to be earmarked for primarily servicing government debt, some argued that the real objective would be to free up resources for the government’s populist programs and prepare for next year’s elections. The dire need for this debt servicing was a little surprising given that the total debt burden for the government is just about 40% of GDP and the fiscal deficit was even less than 2% of GDP (even projections).

As for the modalities in this arrangement, in exchange for the central bank reserves, the Ministry would issue a dollar denominated 10-year note with an interest rate no higher than the LIBOR minus 100 bps. And with the current LIBOR the initial rate would thus be zero. There would be no net change in the central bank’s balance sheet but probably one if the central bank wishes to invest its reserves otherwise.

The Chairman opposed this and refused the transfer of the funds, and the use of forex reserves are always the central bank’s prerogative. Use of central bank’s reserves for debt servicing or for infrastructure purpose is not new but in this case the urgent need for this was probably not justified. Redrado, now faces the axe for not obeying official orders being a public servant. This decision however, needs an approval from a panel chaired by the Vice President including 2 members each from the lower house and the senate. But if this goes through, it would be detrimental to the functioning of the central bank, as it would lose its independence.

Take the 1st EXIT in the nearest roundabout!

2009-12-31T07:21:11Z

That is the end of quite a forgettable year, but with a better than expected ending and probably with a even better outlook for the new year. If I had to choose the ‘one’ thing to look out for in 2010, it would be the ‘Exit Strategy’. With the monetary and fiscal stimulus measures already in place for more than a year now, central banks and governments have now started contemplating about a timely exit.

]]> Given that the recession has ended, and that inflationary pressures are showing up along with very high public debt levels (signaling even more inflationary pressures) the argument for an exit is very strong. Countries like Israel, Australia and Norway already started their hiking cycles few months back and the pressure is building amongst others and the obvious question of ‘How and When to Exit’ is going to be the most sought after topic in the coming year. Let me try tackling the above question in parts.

How?

The government can either start consolidating its finances as public deficits and debts continue to blow up or start raising the interest rates as a monetary policy stance. The current as well as projected debt levels are so high for some countries that it might look imperative for the governments to act on the fiscal policy first. And the moment political pressures get built up on the central banks to monetize this debt level, the central banks would keep on consuming (read ‘buy the debt’) thereby adding to further increase in money supply and hence huge inflationary pressures.

But fiscal policies are sometimes deemed ineffective largely stemming from its lack of flexibility. Fiscal tightening would often hit the roadblock of political compulsions and you would seldom find a government opting for one when its parliament is due for elections soon. Moreover, a change in a fiscal stance, be it curbing expenditure or say a raise in tax would always have to wait till a new budget is due to be placed. Monetary policy on the other hand is far more flexible as central banks have the option of reviewing the state of the economy every month and take a decision. Though it is not fair to believe that monetary policy would not face the similar political roadblock, but central banks in general try to be independent, pursuing their own macroeconomic policy objectives. At this juncture, it is quite reasonable to expect the central banks to act first, as the fiscal stimulus packages would in any case soon expire and is not getting renewed in most of the countries. Fiscal adjustments would happen keeping political compulsions in mind and would come at a much later stage.

When?

This is probably the tougher of the 2 questions. In order to avoid a ‘W’ shaped double-dip recession most countries would want to see the last, and allow for the accommodative monetary and fiscal policy as long as possible. However, a loose monetary stance can translate into inflationary pressures and as well as fuel more asset price bubbles. On the other hand, accommodative fiscal stance would lead to excessively high public debt levels. It is thus going to be very tricky to ‘time’ this exit. Central banks, mostly being inflation targeting, would look out for signs of recovery in the domestic as well as the international market, and eventually start hiking the benchmark rate in 2010, but reaching a political consensus prior to that is probably even more crucial.

Rating bias

2009-12-30T14:26:17Z

In some of my earlier posts, I talked about how the big banks and institutions continue with their old business practice, royally oblivious of the fallouts of their devious business practices. Why banks, even the rating agencies have also failed to learn the lessons as much. Or maybe they are simply turning a blind eye on the likely impact of the recession and dollops of bailout packages on government finances. Since Greece is passé, here I will discuss about two countries, Spain and Ireland which still enjoy very high rating despite their economy being in shambles. ]]> Spain – A country that grew by leaps and bound aided by the global credit glut and driven by the surging real estate sector to unreal(istic) levels (as has been the case with many countries), Spain experienced its Minsky moment as the world spiraled into a recession. During the 3^rd quarter of 2009, when most of the European Union countries climbed out of recession, Spain’s economy shrank, for the sixth straight quarter. While the latest decline of 0.3% is not too bad as compared to some other economies, but the country is in real big trouble. An unemployment rate of 20% (possibly next only to Latvia) is unbearable. More so, if one considers the fact that at one point in time Spain was one of Europe’s top job creator. As per one estimate, Spain has lost about a million jobs in the real estate sector alone. These are mostly for unskilled workers, and it is highly likely that most of these jobs are lost forever. According to their National Statistics Institute (Nacional de Estadistica), Spanish home mortgage lending dropped 31 percent year-on-year in October, as banks continued to restrict credit.

Even its finance is in a mess. According to IMF (World Economic Outlook forecast as of October 2009), Spain’s budget deficit for the current year will be around 12.3%, because of dipping tax revenues and the mounting costs of combating the economic crisis. The government has funded public works projects aimed at reducing joblessness, along with unemployment benefits, car buying incentives and other measures that it hoped will help restart the economy. But things are clearly not working. For 2010, the deficit is expected to rise to 12.5%. Clearly, the deterioration in the public finances, which have swung from a budget surplus in 2007 to a deficit of over 10% of GDP, is forcing retrenchment. As a result, the government has planned to raise taxes. This, I think is going to adversely impact the potential recovery, as domestic demand will start to falter. Hence they would necessarily need to depend more on exports to bring the economy back on track. An analysis of Spanish export destinations show that virtually 75% of their exports are accounted for by the EU. A lot, will, therefore depend on how soon and how fast their trading partners recover. I feel that the recovery would not be strong enough to positively impact the economy to the extent desired.

Despite such huge economic imbalance, Spain’s sovereign rating is still AA+, with a negative outlook.

Ireland – The Celtic tiger is hobbling and how. The high growth rate (at times at 10%) that the economy experienced from 1995 till 2007 has transformed Ireland from being one of Europe’s poorer countries to one of the wealthiest. As the economy grew stronger on the back of fast rising exports, wealth increased manifold. And then, as has been the case with most of the countries, real estate boomed as if there was no tomorrow, and propelled the economy even higher. And then the crisis hit the economy big time and the energy of the tiger was sapped. The economy entered into a recession. Starting from Q1 2008, the economy shrank in 5 out of 6 quarters (QoQ). During the last quarter the trend has been reversed, but only just. In YoY terms, however, the economy shrank the 7^th straight quarter. For the year as a whole, the Irish GDP is expected to shrink by 6.4%, while the GNP is likely to go down by as much as 10.4%. Their current unemployment rate is as high as 12.5%.

Even if Ireland emerges out of recession, the growth will be so slow that it might not look like any recovery at all. And, to put it mildly, government finances are in tatters. IMF’s forecast of Ireland’s budget deficit for the year is 12.1%, which will grow to 13.3%. However, the country has recently announced certain steps that can bring down the deficit by about a couple of percentage points. This includes a saving Euro 4 billion in this month's budget for 2010 by drastically reducing public spending, even going to the extent of reducing salaries of the employees in the public sector. Despite this, the deficit will be well above the cap of 3% that every EU member must necessarily adhere to.

A country that was given up as a no hoper enjoys very high rating for the high growth recorded only during the 12 year period. Despite the current financial vulnerability, Ireland still enjoys a long term rating of ‘AA’, though with a negative outlook. Not even China enjoys this luxury despite their high growth for more than two decades.