INDIAN RUPEE : FOREX FLUCTUATION & INDIAN POLICY REFORMS

Here is a good article from today's Business Standard Newspaper in Mumbai.
Rupee fall pares India Inc's profit by a fourth in Q2

If the weakness in the INR continues, upcoming FCCB redemptions, USD denominated foreign Currency borrowings and the rising cost of imported raw materials will continue to add to the woes of Indian Corporates in the results of the third quarter.

Many blame the INR weakness on FII selling in the Indian Equity markets.
While FII selling has played its part, I feel the ongoing Government policy malaise and concerns over the Government's Fiscal Deficit continue to weigh down the INR.
Currency downgrades by the Rating Agencies will add to the downward pressure on the INR.

Also, it's about time that the Indian Government gets down to implementing many long delayed reforms.

Some sectors in dire need of reforms
POWER SECTOR - Poor financial health of State Electricity Boards (SEBs) is forcing them to resort to  load shedding of power even as Power producers are left with surplus power that they are unable to sell. These SEB's must move towards a market determined pricing of power sold by them to distribution companies.
Merchant Power sales and Power trading are also facing many unresolved policy issues.
Under construction Ultra Mega Power Projects also face uncertainities due to fuel linkages (read: Coal allocation issues and royalty issues on Coal imported from Indonesia).
.
MINING SECTOR - Confusion over a proposed Mining Tax, profit sharing with locals displaced by Mining projects, Land acquisition delays and mining scams and corruption have delayed many Mining & Smelter projects.
.
FERTILIZER SECTOR - Partial implementation of the Nutrient Based Subsidy Scheme (NBS) and the delays in decontrol of Urea pricing have compounded the problems of the sector. Heavily subsidised Urea fertilizer has resulted in farmers opting to use Urea over DAP fertilizer. Excessive use of Urea has upset the balance of soil nutrients and has thus resulted in lower crop yields.
Any further delay in decontrolling Urea fertilizer pricing will add to government subsidies as the government continues to import Urea shortfall from overseas. A weak INR will add to the cost of imported Urea fertilizer.
.
TELECOM SECTOR - The ongoing 2G scandal and corruption cases continue to dominate news in the telecom sector. What the government must take a look at is reforming regulations that will promote consolidation in the Telecom sector. Recent issues of 3G roaming should also be clarified by the TRAI and the government, to avoid any further uncertainty in this sector.
.
AVIATION SECTOR - A combination of ''below cost '' fares by Air India,  record high ATF prices, ultra competitive air ticket prices, and record high debt of the airlines themselves has resulted in some serious structural problems in the Indian Aviation sector. FDI limits in Indian Aviation will have to be liberalised and a more viable tax structure on ATF will have to be worked out, if the existing carriers are to survive as going concerns. Perhaps the government will have to look at the development of "Low cost airports'' from which the Low Cost Carriers can operate, given the expensive Landing and Parking Costs at the country's main airports.
.
OIL SECTOR - Massive delays in implementation of a clear and viable Gas Pricing policy is delaying further development of Oil and Gas Blocks in the KG Basin. Until this vital issue is resolved, Fuel Linkage issues of Power & Fertilizer Plants will not be resolved. The longer it takes for this Gas to reach the market, the more will be the delays of construction of new Power and Fertilizer Plants.
Also the" retail fuel pricing - under recovery problem" of the Oil Marketing companies (OMCs) remains unresolved. Massive subsidies on retail fuels sold by the OMCs have weakened their finances over the last decade.
A weak INR+ high Crude Oil price is adding to the under recovery burden of the OMCs.
If the government fails to move to a market determined pricing mechanism for Retail fuels soon, these OMCs will soon need to be bailed out by the government.
.
All in all, it's about time that the government takes a step forward, and gets downto resolving these 'bottle neck' issues that are plaguing the Indian Economy at the moment.

If some of the supply side issues are worked upon, then perhaps the subsequent drop in inflation and an improvement in the government's fiscal deficit targets, will help the INR to regain some lost ground.

INDIA's PETROLEUM SUBSIDY CONUNDRUM & the Kirit Parikh Committee Report

The Kirit Parikh Committee Report on subsidies in the Petroleum Retailing sector has made quite a few headlines in local news.
Link: http://petroleum.nic.in/reportprice.pdf

Recommendations include -

• Free market pricing of Petrol and Diesel. The Kirit Parikh report suggests an additional levy of Rs. 80,000 on a diesel vehicle, citing that the higher excise must offset benefits vis-a-vis petrol vehicles. The report submits there is no need to subsidise users of diesel cars and SUVs, vehicles which are used for personal purposes.

• Allowing periodic price increases for cooking gas (LPG) and Kerosene, based on performance of the agricultural sector and the rate of expansion of rural electrification. This will help rural India gradually adjust to the price hikes. Kerosene is used for lighting purposes in rural areas, so expanding rural electrification will reduce dependence on kerosene for lighting purposes

• Excluding GAIL - the gas transmission behemoth from the under recovery subsidy burden.

All in all, the ever expanding petroleum sector subsidies are proving to be a real drain on the finances of the Indian government.
Oil subsidies are currently treated as an ''off balance sheet item''.
Implementation of these recommendations will thus present a ''truer'' picture of India's fiscal deficit.
To give you an idea of just how large the oil subsidy has been: -
From 2003-04 to 2008-09 total under recoveries amounted to Rs. 2,99,222 crores.

The market capitalization of India's largest private sector Giant - Reliance Industries is Rs. 3,23,235 crores!!!

The market capitalisation of the Benchmark BSE SENSEX index is Rs. 24,81,009 crores!

Question is : Does the Government have the political will to work past all the implementation issues and carry out these recommendations in the current inflationary environment?

Everyone knows that something need to be done.
The current pricing mechanism is just not sustainable with Crude Oil prices trading at $80!

Oil subsidies are the single biggest ''stimulus'' package that the government has provided to the economy.

But there is no free lunch!!

The balance sheets of government run oil sector companies are in bad shape.
The government too is struggling with 'oil bond' issues.

So can or will the government bite the bullet or continue to avoid tackling the issue head on, just as the Finance Minister chose to avoid discussing any specifics on implementing the Kirit Parikh report in the current Union Budget.

NATURAL GAS : How much lower can it go ?

Looking at the chart below, it's clear that Natural Gas prices are sliding to multi year lows.




Reasons for the continuing slide in prices:

• Supply far outstripping demand. Natural Gas is a classic example of the rules of commodity demand and supply. (Supply increases relative to demand, and prices drop.)


• Reduced demand of natural gas from the petrochemical, fertilizer and power generation sectors, given the weak economy!


• Oil prices are way off their 2008 highs. ( On a relative basis, Oil has outperformed Natural Gas through this period)


• Natural Gas producers are continuing to add to supplies even as prices are weak. (Some producers are hedged into contracts at higher prices, so they continue to perform steadily for now)


• Natural Gas production from Oil Shale has resulted in increased natural gas supply.

In the short to medium term, natural gas prices could continue to drift lower, or at least stay weak for a while. The rules of demand and supply, will extinguish any hopes of a quick turnaround.

However, it's worth noting that natural gas prices are at multi year lows. Profitable trades in the commodity market are usually made by buying low and selling high.

The risk - reward equation at this juncture is clearly in favour of the investor/speculator/trader who is '''long natural gas''', even though the supply side picture looks quite bleak at the moment.