Post Recession Blues

Last week there was a slew of news on the much awaited “end of recession” - pushing up markets all over the world. While economies like Canada, Hong Kong and Israel have posted better figures in the second quarter, the Australian central bank chief has indicated shallow recession.

Similarly, industrial countries like France and Canada have declared that they are now out of recession. The Eurozone too has put forward an optimistic view despite a negative Q2 growth of 0.1 percent compared to a fall of 2.5% in first quarter.

Meanwhile, two major economies – the China and India - touted as the engines of world growth in the 21st century, have reported healthy rates. Policymakers are also upbeat about the way the US economy is shaping up. The US Federal Reserve has said the country's economic activity is bottoming out and financial conditions have improved. “The worst is behind us,” seems to be the commonly used phrase by the economists.

With all the “good news” bombarding the board room from all directions, policy makers are beginning to think about the next level of challenges, which would be much more critical than the current ones.

Inflation

Every action has an equal and opposite reaction, said Newton. This holds true for the current financial conditions too. The way governments world over have announced bailouts for their respective economies, huge amount of cash has flooded the market. Now, as the demand picks up, money in the market tends to up the prices spontaneously. This makes things murkier.

Central banks have already called for sucking out the excessive money.

"As the global economy starts recovery, a calibrated exit from this unprecedented accommodative monetary policy will have to be ensured to avoid recurrence of the financial crisis being experienced now," RBI Deputy Governor Rakesh Mohan said.

Worries are not unfounded. While the US government has given a bailout of around USD USD 787 billion, Beijing has pumped in nearly USD 600 billion, Japan USD 270 billion, France USD 31 billion.

Infact, Neil Barofsky, special inspector general for the US Treasury’s Troubled Asset Relief Program, has warned that the Obama government’s bill to pep-up the economy may go upto USD 23.7 trillion. According to Neil, it includes USD 2.3 trillion in programs offered by the FDIC, USD 7.4 trillion in TARP and other aid from the Treasury and USD 7.2 trillion in federal money for Fannie Mae, Freddie Mac, credit unions, Veterans Affairs and other federal programs.

Apart from this, Central bankers of most countries have slashed their rates aggressively towards zero to ensure enough liquidity in the market – releasing trillions of dollars as loans into the market.

Though most of these packages are meant for their respective countries, in a highly globalised world, no country is isolated. With more money coming into their hands, people are more likely to buy more after waiting for the 19-month long recession period. This will push up the prices. For countries like India, which is already witnessing high food prices with a delayed monsoon jeopardising food production, increase in prices of other commodities will worsen the situation.

CEOs’ dilemma

It is difficult to think of a climax when you reach there. Since there is no clear demarcation as to when we have reached the climax, changing tactics would be difficult for the strategists when the economy has just recovered from the biggest slump of the world in 80 years.

They have to fight the expectations of the employees as to whether to dole out sops to keep the best intact or to wait for some more time. It is a double-edged weapon. While in post recession situation retaining employees is hard as job offers flood the market, providing an increment will ensure inflated budget and diminish the chances of business expansion. The employees, on the other hand, with bruised egos, as they have not received any hike, may be looking for a better job offer elsewhere.

Investors

There is an equal dilemma on the investor front. The recent stock market rally in India and elsewhere has shown that investors are confused about putting their hard-earned money into the market. Nobody is sure as to whether the recession has really ended or it is just a bear market rally.

Investing in these troubled times may cost one his entire savings or can also provide him a return of the lifetime, if the overall situation turns out well.

Customers

Consumers worldwide have responded equally to the recession – cutting down expenses, saving every penny. All of a sudden they are bombarded with news that the recession has ended. It is a very difficult thing to comprehend. The world remains the same for them. Less or a stagnant pay makes them very sceptical of spending. Now they are told that the time is over for cheaper products; expensive goods are coming.

“Should I buy or should I wait for some more time when I will have more bucks in pocket,” the consumer must be thinking.

“Start writing your post-recession plan,” roared a banner headline of a popular news website, summing up the sentiment in these tumultuous times.

Fiscal deficit

Fiscal deficit is another worry for the government.

In a bid to push up the growth, governments all over the world have invested heavily to mop up growth and create jobs in a bid to fight the slowdown, often borrowing from the market or other sources.

Recently, the Leader of the Opposition party in Britain warned that the country could default on its debt. The UK has a fiscal deficit of over 12 percent.

It is one of the biggest talking points in the United States whose deficit has zoomed to 11.2 percent of GDP or USD 1.58 trillion (according to official on condition of anonymity, a formal announcement likely next week). So severe was the situation that big lenders to the US, like China and Russia had even asked Washington to respect its commitments. They were also demands for replacing dollar as the world reserve currency.

The case was no different in India, which by far was not so severely affected by the global crisis. India’s spending on the social sector jumped several folds putting severe strain on the government’s coffers. According to an estimate of Goldman Sachs, India’s fiscal deficit, including that of the Centre and states, would be among the highest in the world and likely to be 10.3 percent of GDP in the current fiscal and 10 percent in the next fiscal.

India’s budget envisages a large increase in Central government spending, both in the current and next fiscal, making the central deficit rise to 6 percent of GDP in 2008-09 and 5.5 percent in the next fiscal, Goldman Sachs added.

China, the second largest economy in the world, is also battling with fiscal deficit of 950 billion yuan (USD 139 billion – March 2009 estimates) for 2009, a record high in six decades. The deficit, on account of high spending to cushion the impact of the global financial crisis, accounts for less than 3 percent of China's GDP.

Usually, a country's fiscal condition will be viewed as risky if the deficit accounts for more than 3 percent of GDP or the outstanding government bonds exceed 60 percent of GDP, according to the usual international practice.

The International Monetary Fund has warned that rising public debt of the major developed countries could undermine efforts to spur economic recovery.

"With a delayed withdrawal investor concerns about sustainability may increase, leading to higher interest rates on government paper, undermining the recovery and increasing risks of a snowballing of debt," IMF said in a report in July.

It predicted that public debt would represent around 120 percent of gross domestic product by 2014 in the nine advanced economies of the Group of 20. That would represent a whopping 40 percentage point increase since the start of the global financial and economic crisis in 2007.

The report highlighted growing debts in the Group of Seven countries – Britain, Canada, France, Germany, Italy, Japan and the United States – and Australia and South Korea, two other major economies in the G20.

The average debt-to-GDP ratio of the G20 developed and developing countries, which stood at 62.4 percent at pre-crisis levels in 2007, rose to 82.1 percent in 2009 and was expected to hit 86.6 percent in 2014. The average ratio for the developed countries would rise from 78.6 percent in 2007 and exceed output at 100.6 percent this year. By 2014, it was projected at 119.7 percent.

Conclusion:

Someone rightly said that though one initially complains, groans and curses recession, it is the ultimate natural remedy to flush out the dirt from the system. But the treatment won’t happen automatically. And, bad treatments will only prolong the recession further, which will heighten the already existing grave human miseries.

Clipped wings: The Aviation Industry & Recession

The fairy tale seems to be ending. The aviation sector, which witnessed a double-digit growth in the recent years, has begun resorting to rationalisation. The recession, like in other sectors, is sure to separate the mediocre from the tough in the aviation sector too.

Two events in this regard stand out. In the first instance, private Indian airlines, which in the past have experienced massive growth, have demanded a “bailout” in the form of reduction in taxes and airport charges etc from the government and even threatened to ground their planes!

And, in the second, the Air India imbroglio. The Maharaja (as it is called) has piled up accumulated losses of Rs7,000 crore and debt exceeding Rs16,000 crore. It has forced to cut salaries and cancelled order for new jets. The situation became so serious that it has to beg the government for a bailout – though the govt denied.

The backdrop

"We are bleeding. Everybody is bleeding. Giving a helping hand to the airline industry is done all over the world," Naresh Goyal of Jet Airways retorted while asking the government for a ‘rationalisation of taxes’.

Among others to join him were Kingfisher Airlines, IndiGo and SpiceJet, which have accumulated losses of Rs 2,444 crore in 2007-08 and are expected to stay in the red in 2008-09 with losses of over Rs 10,000 crore.

The recent turbulence in the Indian airline industry is in sharp contrast to the double digit growth in the past.

While 2007-08 saw sharp rise in fleet size followed by consolidation of the sector through mergers and acquisitions by major airlines, the industry has posted huge losses this year, after being hit by the global economic slowdown.

According to a research by IATA (the International Air Transport Association), air traffic in terms of passenger and cargo movement increased by an impressive 19.14% and 9.91%, respectively, during the period from 2003-04 to 2007-08.

The fleet size of the Indian aviation industry also grew 23.77% during the period from May 2005 to April 2008.

However, the year 2008 has proved to be fatal for the industry.

The grudges

All major airlines in India have complained about the exorbitant prices of Air Turbine Fuel (ATF). According to an estimate, the ATF prices in India are 60-70 percent higher than those at the international level. While in other countries fuel cost is usually 10-15 percent of an airline’s total operating cost, in India it accounts for about 40 percent.

Some argue that a solution to this crisis is to allow the airlines to buy ATF from their chosen vendors, as proposed by the Naresh Chandra Committee constituted by the government to prepare a road map for the civil aviation sector.

“Today, airlines in India are paying 60-70% higher tariff on aviation turbine fuel. Sales tax is averaging 26-30% and we are requesting that this sales tax be put in a level of which is sustainable and which is comparative to any other airline in any other part of the world. Similarly, airport charges, landing and parking fees are very high. There is a new ground handling policy, which increases the cost of aviation further. We believe that we should be in terms of cost put at the same level as airlines in other parts of the world,” Ajay Singh, director, SpiceJet, told a television channel on the day the airlines decided to go on a strike (which they eventually called off in the wake of government and public pressure).

Sanjay Datta, executive director of Jet Airways, reiterated this by saying, “What we are asking for is not a bailout but a rationalisation of taxes.”

Since 2001, following the withdrawal of ‘Administered Price Mechanism’ (APM), the price of ATF in India is calculated on the basis of International Import Parity Prices. However, ATF prices also include freight charges from the Gulf to India, customs duty, domestic transportation and other charges, excise duty, sales tax, besides the oil companies’ mark-up.

The airline industry has been demanding the government to add ATF in the declared goods category, thereby attracting a uniform duty of 4% in lieu of sales tax, which averages around 23%.

As part of measures to provide relief to the airlines, the government has already brought down customs duty from 5 to 2.5 percent.

However, the demand for rationalisation of taxes on ATF still persists, which the airlines say will result in an estimated annual savings of USD 624 million for the industry.

ATF prices had peaked to Rs 71,028.26 per kilolitre in Delhi August last year, as international crude prices touched a historic high of USD 147 a barrel. This meant airlines had to pay Rs 71 per litre in August 2008 versus Rs 36 a litre now, which is around Rs 20 less than what a car or bike owner pays for a litre of petrol!

The bloodbath

The airline industry is in tatters worldwide as the recession has squeezed the purses of people, forcing them to look into cheaper modes of travel. This has not only stung the high cost, luxury airlines but the low cost, no-frills one too.

In a recent report, IATA said that the international cargo traffic has been steadily coming down over the past 13 months. The report also predicted that an early economic recovery was still far away.

"These are extremely challenging times for airlines. There are no signs of an early economic recovery," IATA said.

World’s airlines will lose USD 9 billion in 2009 after shedding USD 8.5 billion in 2008, when high oil prices hit profits, the report stated.

"At the current pace, it will likely take several years before demand returns to early 2008 levels," IATA report comments on cargo traffic.

Major airlines around the world have only one story to tell - mayhem. While British Airways has reported a pre-tax loss of USD 245 million in the three months to the end of June this year, Air France-KLM lost 496 million euros in the second quarter. Lufthansa earned 40 million euros in the same period, compared with 337 million a year ago.

Air China suffered a net loss of 9.3 billion yuan in 2008, while China Southern and China Eastern also swung into the red last year, with net losses of 4.8 billion yuan and 15.3 billion yuan, respectively.

Singapore Airlines Ltd, the world’s second-biggest carrier by market value, had a net loss of USD 213 million in the quarter ended June 2009. Similarly, Air France-KLM, Europe’s biggest airline, and Australia’s Qantas Airways Ltd have also cut capacity and announced plans to reduce their workforce as travel slows.

Bailout

Bailout is certainly an option, though controversial, to resolve the crisis.

While China has already announced a bailout for its state carrier, British Airways has got a facelift from the UK government.

(Trustees of BA’s pension fund agreed to forgo over USD 544 million in guarantees – improving its cash balance substantially, thus allowing the cash starved airline to operate till 2010)

Talks are already on to provide a bailout to recession-hit airlines in the US and European countries.

Last time the US had given a bailout to its air carriers was in 2001 after the 9/11 tragedy.

India’s aviation sector is considered as the second biggest loser after the US.

But looking at the huge fiscal deficit and diminished tax collections, it remains to be seen whether the government here will dole out more sops for the airlines or will bring a different road map for the sector altogether.