Macroeconomics

Middle Income Trap and its Causes in India | UPSC – IAS

Middle Income Trap and its Causes in India UPSC - IAS

Middle Income Trap and its Causes in India UPSC - IAS

Middle Income Trap and its Causes in India | UPSC – IAS

The middle income trap is a theoretical economic development situation, in which a country that attains a certain income (due to given advantages) gets stuck at that level. The World Bank defines as the ‘middle-income range’ countries with gross national product per capita that has remained between $1,000 to $12,000 at constant (2011) prices.

What is middle income trap? | UPSC – IAS

  • According to the idea, a country in the middle income trap has lost its competitive edge in the export of manufactured goods because of rising wages. However, it is unable to keep up with more developed economies in the high-value-added market.
  • The countries caught in the Middle Income Trap are unable to compete with low-income, low-wage economies in manufactured exports and unable to compete with advanced economies in high-skill innovations.
  • MIT is associated with a relatively sustained growth slowdown with both direct effects (e.g. income losses) as well as indirect effects (e.g. social conflicts).
  • Fuelled by the global slowdown, many countries, particularly in South East Asia (e.g. Thailand, Vietnam, and Malaysia etc.), Africa (e.g. South Africa) and Latin America (e.g. Brazil) currently face the predicament of MIT, which has impeded their transition from middle income to high income.
  • One of the most standard examples of an MIT country is Brazil where annual income growth rate plummeted to an average rate of 0.58% between 1997 and 2011. It was accompanied by one of the highest income inequalities worldwide (World Development Indicators, World Bank, 2016), poor institutional quality in comparison to developed countries and a wave of protests against the corruption and mismanagement in the country.

Why Do Countries Fall into the Middle Income Trap? | UPSC – IAS

  • Inability to shift growth strategies: If a country cannot make a timely transition from resource-driven growth, with low-cost labor and capital, to productivity-driven growth, it might find itself trapped in the middle income zone.
    • Traditional exports cannot be as easily expanded as before because wages are higher and cost competitiveness declines.
    • Moreover, export growth depends on introducing new processes and finding new markets. To do this, exporters must understand the quality, price, and consumer preference points of the global economy, which is a demanding task.
  • Skewed income distribution & stagnation in middle class population: Wealth inequality and the hierarchical distribution of income in developing countries is a downward drag on domestic demand, which results in stagnation. It slows down the upward mobility of families that are at lower levels, into middle class that is prepared to pay more for quality and differentiated products.
  • Recurring boom-bust cycles & procyclical lending: Many middle-income countries in Latin America have been through cycles of growth based on credit extended during commodity booms, followed by crisis, and then recovery. This stop–go cycle has prevented them from becoming advanced economies despite enjoying many periods of fast growth. This is in sharp contrast with successful countries in East Asia—Japan, Hong Kong, Taiwan, Singapore, and South Korea that have been able to sustain high growth over some 50 years.

Why India might get caught into middle income trap? | UPSC – IAS

  • Backlash against globalization: Hyperglobalization (that benefited the early convergers like China, South Korea & Japan) led to a backlash in the advanced countries, as seen through increasing protectionism & lowering World Trade-GDP ratios since 2011. This means that similar trading opportunities may no longer be available for the new convergers.
  • Thwarted Structural Transformation: Successful development requires two kinds of structural transformations: 1) a shift of resources from low productivity to high productivity sectors; and 2) a larger share of resources devoted to sectors that have the potential for rapid productivity growth. However, in late convergers like India, ‘premature deindustrialization’ (tendency for manufacturing to peak at lower levels of activity and earlier in the development process) is a major cause of concern.
  • Human Capital Regression: Human capital frontier for the new structural transformation has shifted further away making the transformation costlier. This is because the new advances in technology not only require skilled human capital, but also demands them to learn continually. As opposed to these requirements, there is a wider educational attainment gap between lower income countries and advanced economies.
  • Climate change-induced Agricultural Stress: Agricultural productivity is crucial both for feeding people and for ensuring human capital moves from agriculture to modern sectors. With climate change, ambient temperature has increased and weather extremities have become a recurrent phenomenon. This is, in particular, a threat to India where agriculture is heavily dependent on precipitation.
  • Fall in private consumption, muted rise in fixed investment and sluggish exports have led to slowdown in the economy and increase India’s vulnerability to the middle income trap.

Avoiding the Middle Income Trap | UPSC – IAS

In 1960, India was a low-income country with per capita income around 6% of the US. However, India attained the status of lower middle income in 2008 with per capita income of about 12% of the US.
But, the growth has occurred with limited transfer of labour resources to high productivity and dynamic sectors, despite relatively modest agricultural growth. Thus, the risk of getting trapped in middle income zone remains.

To avoid becoming trapped without a viable high-growth strategy, India needs to:

  • Transitioning from diversification to specialization in production: Specialization allowed the middle-income Asian countries to reap economies of scale and offset the cost of disadvantages associated with higher wages (E.g. Electronics industry in South Korea).
    • High levels of investment in new technologies and innovation-conducive policies are 2 overarching requirements to ensure specialized production.
    • Developing good social-safety nets and skill-retraining programs can ease the restructuring process that accompanies specialization.
  • Shifting to productivity-led growth: Total factor-productivity growth in middle-income countries requires major changes in education, from primary & secondary schooling to tertiary education so that workers are adept in new skills as per the demands of the markets. Creating such knowledge economy requires long term planning and investment.
  • Opportunities for professional talent: To attract and retain a critical mass of professional talent that is becoming more internationally mobile, middle income countries like India must develop safe & livable cities that provide attractive lifestyles to professionals.
  • Addressing barriers to effective competition: There is a need to address rigidities that can arise from bankruptcy laws, stringent tax regulations, limited enforcement of IP regulations, imperfect information, discrimination etc.
  • Decentralized economic management: Greater powers should be vested in local governments to ensure speedier decision making
  • Sustaining macroeconomic stability through flexible fiscal framework that limited deficits and debt, and a flexible exchange rate mechanism backed up by a credible inflation-targeting monetary policy could help sustain long periods of growth. Effective restructuring, regulating, and supervising of the financial sector must be ensured so that the present NPA crisis can be effectively handled.
  • Changing orientation of social programmes that targets middle class besides poorer sections of the society which would propel the demand driven growth. E.g. low-cost housing for first-time home buyers in cities, programs to ensure that recent graduates get suitable employment opportunities, paying more attention to public goods like safety, urban transport, and green spaces etc.

Blue Economy its Significance and Challenges | UPSC – IAS

Blue Economy upsc

Blue Economy upsc

Blue Economy and its Components | UPSC – IAS

As per the World Bank, Blue Economy is the sustainable use of ocean resources for economic growth, improved livelihoods, and jobs while preserving the health of ocean ecosystem. It covers several sectors linked directly or indirectly to the oceans such as –

  • Fishing, minerals, shipping and port infrastructure,
  • Marine biotechnology,
  • Marine renewable energy,
  • Marine tourism,
  • Ocean governance and education.

Blue Economy its Significance and Challenges | UPSC - IAS

Significance of Blue economy | UPSC – IAS

Economic Benefits:

  • Oceans provide 30 percent of oil and gas resources.
  • 90% of goods trade takes place through Oceans Sea of Line Communication.
  • Ocean contributes $2.5 trillion to world economy with around 60 million people are employed in fisheries and aquaculture.
  • Seabed Mining of polymetallic nodules and polymetallic sulphides to extract nickel, cobalt, manganese and rare earth metals.

Environmental Benefits:

  • Mangroves and other vegetated ocean habitats sequester 25 percent of the extra CO2 from fossil fuels, i.e., Blue Carbon.
  • Protection of coastal communities from disasters like floods and storms.
  • A Sustainable Blue Economy can help to achieve commitments under UN’s Sustainable Development Goals 2030, Paris climate agreement 2015 and the UN Ocean Conference 2017.

Challenges to Blue Economy | UPSC – IAS

  • Unsustainable development near marine areas: Physical alterations and destruction of marine and coastal habitats & landscapes largely due to coastal development, deforestation, & mining.
  • FAO estimates that approximately 57 percent of fish stocks are fully exploited and another 30 percent are over-exploited, depleted, or recovering.
  • Marine pollution: It is in the form of excess nutrients from untreated sewerage, agricultural
    runoff, and marine debris such as plastics. Deep sea mining can cause long term irreversible ecological damage to marine ecosystem.
  • Impacts of climate change: Threats of both slow-onset events like sea-level rise and more intense and frequent weather events like cyclones. Long-term climate change impacts on ocean systems like changes in sea temperature, acidity, and major oceanic currents.
  • Geopolitical issues: Geopolitical tussle between in various regions like South China Sea, Indian Ocean Region etc. and undermining International Laws like UNCLOS limits the countries from achieving the full potential of Blue Economy.
  • Unfair trade practices: Many times fishing agreements allow access to an EEZ of country to foreign operators. These operators restrict transfer of specific fishing knowledge to national stakeholders leading to low appropriation of fisheries export revenues by national operators. So the potential for national exploitation of those resources is reduced in the long run.
  • Other non-conventional threats: Defense and security related threats like piracy and terrorism combined with natural disasters (Small Island Developing States are particularly vulnerable).

Blue economy and India  | UPSC – IAS

India is trying to achieve the potential of Blue Economy by promoting the spirit of ‘SAGAR-Security and Growth for All in the Region’ in Indian Ocean Region. Some initiatives by India are:  (important for UPSC)

Sagarmala Project: Sagarmala initiative focus on three pillars of development

  • Supporting and enabling Port-led Development through appropriate policy and institutional interventions.
    • Port Infrastructure Enhancement, including modernization and setting up of new ports.
    • Efficient Evacuation to and from hinterland by developing new lines/linkages for transport (including roads, rail, inland waterways and coastal routes).
  • Coastal Economic Zones: 14 CEZs are being developed under Sagarmala initiative covering all the Maritime States.
    • CEZs are spatial economic regions comprising of a group of coastal districts or districts with a strong linkage to the ports in that region.
    • CEZ will help to tap synergies of planned economic corridors.
  • Resource exploration: India in recent times has shifted its focus towards Indian Ocean resource exploration. E.g. India has explored 75000 sq km of Indian Ocean Seabed and is developing technologies (like remotely operated vehicles) for mining the resources
  • International relations and security: India is cooperating with Indian Ocean littoral countries and projecting itself as ‘net security provider’ to ensure a safe, secure and stable Indian Ocean Region (IOR). India is also cooperating with extra regional powers like US, Japan in IOR. E.g. Asia-Africa growth corridor, QUAD etc.

Sustainable Blue Economy Conference

  • It’s the first global conference on the sustainable blue economy.
  •  It was convened by Kenya and co-hosted Canada and Japan.

Credit Rating Agencies in India Problems & Solutions | UPSC IAS

Credit Rating Agencies in India Conflicts & Solutions UPSC IAS PCS UPPCS UPPSC

Credit rating agencies in India

  • The Securities and Exchange Board of India (Credit Rating Agencies) Regulations, 1999 empower SEBI to regulate CRAs operating in India.
  • All the credit agencies need to be registered with SEBI in order to operate in India.
  • There are seven Credit Rating Agencies registered with SEBI, viz. CRISIL, ICRA, CARE, India Ratings and Research, SMERA, Infomerics and Brickworks.

Significance of Credit rating agencies (UPSC IAS)

  • They provide retail and institutional investors with information that assists them in determining if debtor will be able to meet their obligations.
  • They help investors, customers etc. to get an overall idea of the strength and stability of an organization and enable them to make informed decisions.
  • These agencies also help build trust between the investors and the governments by quantifying the level of risk associated with investing in a particular country. For example-Sovereign credit ratings are given to the national governments which highlight a country’s economic and political environment.
  • CRAs help strengthening of secondary market by increasing borrower pool.
  • Credit ratings ensure a discipline amongst corporate borrowers due to because of this desire to have a good image.

Issues or Problems related with Credit Rating Agencies (UPSC IAS)

  • Conflict of interest: The CRA Regulations in India currently recognise only the issuer-pays model, under which, the rating agencies charge issuers of bond and debt instruments a fee for providing a ratings opinion. Thus, this model has an inbuilt conflict of interest.
  • Another example of conflict of interest is non-rating services such as risk consulting, funds research and advisory services given to issuers for which ratings have been provided.
  • Rating shopping: It is the practice of an issuer choosing the rating agency that will either assign the highest rating or that has the most lax criteria for achieving a desired rating. Hence, the system does not permit publishing a rating without the issuer’s consent.
  • Less competition: Credit-rating market in India is oligopolistic, with high barriers to entry. Lack of competition in the market enables CRAs to have longer, well- established relationships with the issuers which can hamper their independence.
  • Poor Rating Quality: Often ratings are provided on limited information. For e.g. If the issuer decides not to answer some determinant questions, the rating may be principally based on public information. Many rating agencies don’t have enough manpower which often leads to poor quality.
  • Independence of the ratings committee: Over the years, the membership of the ratings committee has shifted from external experts to employees of the ratings agency which has raised concerns about their independence.

Suggestions or Solutions for addressing these challenges  (UPSC IAS)

  • Removal of conflict of Interest: Moving back to the earlier “subscriber pays” model in which investors pay for the ratings can be a possible approach.
  • More Players: Rules should be made easier for new players to enter the credit rating space and compete against them.
  • Improve Quality of Ratings:
    • SEBI must also assess the predictive ability of the current rating models followed by the agencies. There is a need to invest in high-tech predictive modelling techniques.
    • Increased remuneration for manpower to attract the best talent must be ensured.
  • Cursory disclosure of all ratings: CRAs can be asked to provide briefly in their press release to the ratings given by other CRAs to the same borrower. This can help in discouraging “rating shopping”.
  • Legal protection for CRAs: There are instances of Indian CRAs being sued by the company it rates, in a bid to prevent the rating downgrade. The regulator should consider framing laws that allow CARs to express their rating opinion without fear of being sued.
  • Awareness among Investors: Investors should be made aware about the rating process and be asked to conduct a review by themselves too and stop relying solely on the ratings.
  • Rotation of rating agencies: SEBI can also explore the possibility of a mandatory rotation of rating agencies by the debt issuers (like corporations are required to change their auditors periodically under the Companies Act, 2013).

keywords: Problems & Solutions with credit rating agencies in india, UPSC IAS PCS.

Capital Conservation Buffer & Basel 3 | RBI | UPSC – IAS

Capital Conservation Buffer & Basel 3 RBI UPSC - IAS

Capital Conservation Buffer & Basel 3 RBI UPSC - IAS

Capital Conservation Buffer & Basel 3 | RBI | UPSC – IAS

The capital conservation buffer (CCoB) is a capital buffer of 2.5% of a bank’s total exposures that needs to be met with an additional amount of Common Equity Tier 1 capital. The buffer sits on top of the 4.5% minimum requirement for Common Equity Tier 1 capital. Its objective is to conserve a bank’s capital. It is the mandatory capital that financial institutions are required to hold above minimum regulatory requirement.

  • According to Capital Conservation Buffer (CCB) norms, banks will be required to hold a buffer of 2.5% Risk Weighted Assets (RWAs) in the form of Common Equity, over and above Capital Adequacy Ratio of 9%.
  • Capital Conservation Buffer currently stands at 1.875% and remaining 0.625% was to be met by March 2019.

Significance of Capital Conservation Buffer | UPSC – IAS

  • It is designed to ensure that banks build up capital buffers outside periods of stress which can be drawn down, as losses are incurred.
  • Regulations targeting the creation of adequate capital buffers are designed to reduce the procyclical nature of lending by promoting the creation of countercyclical buffers as suggested Basel 3 norms. During credit expansion, banks have to set aside additional capital, while during the credit contraction, capital requirements can be loosened. Systemically important banks are subject to higher capital requirements.
  • The capital buffers increase the resilience of banks to losses, reduce excessive or underestimated exposures and restrict the distribution of capital. These macroprudential instruments limit systemic risks in the financial system.

Why banks are unable to adhere to Capital Conservation Buffer norms? | UPSC – IAS

  • Mounting pile of stressed assets has resulted into low credit growth, deterioration in asset quality, low profitability of Indian banks & over-reliance on capital infusion from the Government. In order to protect their margins & first meet the basic capital ratios i.e. CRAR of 9%, banks have slowed down the adoption of Capital Conservation Buffer (CCB) Basel 3 norms

A Way Forward | UPSC – IAS

While relaxation of the buffer norms and capital infusion by the government are welcome steps in the time of exigency, it must be ensured that good money is not thrown after bad money. Improving credit discipline and risk management systems are the need of the hour for public sector banks. The governance issues of the banks and their over-enthusiastic lending in the past needs to be addressed.
The government should initiate long-pending reforms recommended by the P.J. Nayak Committee:-

  • Cede control of nationalized banks and cut its stake below 51%.
  • Form an independent Banking Investment Company (BIC) for corporatized governance of PSBs.
  • Performance related pay structure and incentives for upper management functionaries.

Types of Bank Capital

  • Tier I capital (Core Capital): It consists of money kept as Statutory Liquidity Ratio (SLR), in physical cash form & as share capital and secured loans. At least 6% of CAR must come from Tier 1 capital. This capital can absorb losses without bank ceasing its trading operations.
  • Tier II capital (supplementary capital): It includes after tax income, retail earnings of the bank, capital in the form of bonds/hybrid instruments & unsecured loans (getting serviced).
  • Tier III capital: Includes Non-Performing Assets (NPAs), subordinated loans (not getting serviced) & undisclosed reserves from the balance sheet.

Keywords: RBI, UPSC, PCS, IAS, Capital Conservation Buffer rbi, basel 3 norms

Partial Credit Enhancement – NBFCs Bonds | UPSC – IAS

Partial Credit Enhancement – NBFCs Bonds | UPSC – IAS

The RBI recently allowed banks to provide partial credit enhancement (PCE) to bonds issued by systemically important non-deposit taking NBFCs registered with the RBI and Housing Finance Companies (HFCs) registered with the National Housing Bank.

  • Provide partial credit enhancement or Credit enhancement means improving the credit rating of a corporate bond. For example, if a bond is rated BBB, credit enhancement, which is basically an assurance of repayment by another entity, can improve the rating to AA. This is done to provide an additional source of assurance or guarantee to service the bond.

The move comes at a time when NBFCs and HFCs have requested the government and regulators to ensure that confidence returns to the market.

  • FACT: Provide partial credit enhancement (PCE), which was introduced in 2015, is expected to help NBFCs and HFCs raise money from insurance and provident or pension funds who invest only in highly-rated instruments.

Current problems with NBFCs | UPSC – IAS

  • Multiple regulatory bodies: RBI doesn’t regulate all the NBFC. Other institutions such as NHB (National Housing Bank), SEBI, Insurance Regulatory and Development Authority (IRDAI), etc. are also involved depending on the type of NBFC.

Difficulties in access to credit

  • There is a reversal of interest rate cycle as interest rates are now going up both domestically and also in the
    international market. The RBI has steadily hiked interest rates in the recent months.
  • Another fundamental issue is the asset-liability mismatch in the operations of NBFCs as these firms borrow funds from the market — say for 3 or 5 years — and lend for longer tenures — 10 to 15 years. It has led to a situation where the NBFCs are facing a severe liquidity crunch in the short term.
  • The mutual fund is among the biggest fund provider to NBFCs via commercial papers and debentures. These investors are getting reluctant to lend post the IL&FS crisis.

Significance of NBFC DIGITALLY LEARN IAS UPSC PCS UPPCS UPPSC.

(UPSC IAS)

Riskier Lending Pattern:

  • Unlike banks, NBFCs are less cautious while lending. For example NBFCs have grown their portfolio of small and micro loans in a big way where there are risks of lack of credit history, scale and historically high NPAs.
  • The unsecured loan segment is also on the rise in the NBFC segment.
  • Cascading effect of Infrastructure Leasing and Financial Services (IL&FS) default: Default followed by downgrade of IL&FS recently has created a liquidity squeeze for the entire non-banking financial company (NBFC) sector.
  • Delayed Projects: Many infrastructure projects financed by NBFCs are stalled due to various reasons like delayed statutory approvals, problems of land acquisition, environmental clearance, etc. which has impacted their financial health.

Suggestions and Solutions | UPSC – IAS

  • RBI must encourage non-banking financial companies to securitise their assets that can be purchased by banks.
  • RBI must revisit lending restrictions placed on banks under Prompt Corrective Action and consider allowing them lending to NHB.
  • RBI may also open special window for mutual funds to get refinance against collateral.
  • A coordinated and consultative approach at this point of time to address the various problems of the sector is critical to national economic health and stability.

Keywords: Provide partial credit enhancement (PCE), NBFCs, RBI, UPSC IAS

First Human Capital Index – 2018 Released by World Bank | UPSC

First Human Capital Index - 2018 Released by World Bank | UPSC IAS UPPCS UPPSC SSC CGL RAILWAY
The Human Capital Index measures the amount of human capital that a child born today can expect to attain by age 18. It conveys the productivity of the next generation of workers compared to a benchmark of complete education and full health.
  • HCI is part of the World Development Report (WDR).
  • As part of this report, the World Bank has launched a Human Capital Project (HCP).
Human Capital Project (HCP): A program of advocacy, measurement, and analytical work to raise awareness and increase demand for interventions to build human capital. The Human Capital Index has three components:
  • Cross-country metric—the Human Capital Index (HCI).
  • Program of measurement and research to inform policy action.
  • Program of support for country strategies to accelerate investment in human capital.

What are the Findings ?

  • Global Performance: Singapore topped the list while, India was placed at 115th position out of 157 countries, lower than neighboring Nepal, Sri Lanka, Myanmar and Bangladesh.
First Human Capital Index - 2018 Released by World Bank UPSC IAS UPPCS UPPSC BPSC

State Of Human Capital In India (UPSC IAS)

  • Human Capital Index: A child born in India today will be 44 % as productive when she grows up as she could be if she enjoyed complete education and full health.
  • Probability of Survival to Age 5: 96 out of 100 children born in India survive to age 5.
  • Expected Years of School: In India, a child who starts school at age 4 can expect to complete 10.2 years of school by her 18th birthday.
  • Harmonized Test Scores: Students in India score 355 on a scale where 625 represents advanced attainment and 300 represents minimum attainment.
  • Learning-adjusted Years of School: Factoring in what children actually learn, expected years of school is only 5.8 years.
  • Adult Survival Rate: Across India, 83 % of 15-year olds will survive until age 60. This statistic is a proxy for the range of fatal and non-fatal health outcomes that a child born today would experience as an adult under current conditions.
  • Healthy Growth (Not Stunted Rate): 62 out of 100 children are not stunted. 38 out of 100 children are stunted, and so at risk of cognitive and physical limitations that can last a lifetime.