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A new approach: Risk Hedging of key Reforms in India

, November 2, 2017, 0 Comments

risk-hedging-key-reforms-india-marketexpress-inIt is realised that one or two quarters of GDP growth and other macro data are entirely inadequate to evaluate the long-term impact of the structural reforms underway. The specified structural reforms are necessary to create a ‘New India’ and provide good jobs for our billion-strong workforce. GST, demonetisation and digital payments are the recently made efforts to formalise India’s economy.

Transactions that were taking place outside of the tax net and nowhere accounted in the informal sector are brought into the formal sector. Natural resources and licenses are being allocated entirely through transparent auctions, e.g. For coal, spectrum and UDAN routes. The Bankruptcy Code is noted to enable speedy resolution of stressed assets providing relief to NPAs in the banking sector. FDI regime is inspiring confidence: FDI has accelerated from $36 billion in FY2014 to $60 billion in FY2017.

The Jan Dhan-Aadhaar-Mobile (JAM) Trinity is empowering Direct Benefit Transfer (DBT) and dramatically reducing leakages. India is well on course to achieve 100% village electrification by 2018 with the number of villages remaining to be electrified having decreased to only 4,941 villages by 2017 from 18,452 in 2014. Rural roads are now being constructed at a record rate of 133km per day, almost double the rate of 69km per day in 2014. In the aviation sector, 16 crore passengers flew in FY2017 compared to 10 crore passengers in FY2014.

The Mudra programme and the India Aspiration Fund will instigate thousands of crores of investment into startups and micro, small and medium enterprises (MSMEs) thus creating employment for millions. There is a creation of a robust new economy that will power long-term growth and job creation for ‘New India’.

The reforms’ transition could be better if by some amount these reform processes are hedged. Specifically, like how REITs investment is made when HNI’s invest in the real estate projects. A REIT is a type of security that invests in Real Estate through property or mortgages and trades on major exchanges like a stock. REIT provides investors with a liquid stake in real estate.

The Aviation scheme under Udan and the infrastructure road construction should be hedged by an equivalent exposure in the derivative segment, by paying a premium for the same. Foreign Exchange endowment gap fund could be made to tap dollar-rupee volatility in there is a Foreign exchange Risk and the PPP (Public Private Partnerships) exposure involves foreign borrowing.

Climate derivatives could be explored so that foreign aids can be tapped for the projects. Whatever, the Foreign Aid received through World Bank projects, an equivalent Climate Derivative hedge should be made, and the same exposure could get earnings from the Climate Derivative hedge if it’s a risk-free, safe exposure. Just by paying premiums in all case scenarios, the risk exposure could be tapped. In case of a probable loss in investment, only the premium goes. Further, just like options on National Stock Exchange, strategies could be made in case of volatility in a particular project and the profitability could be insured.

In Future, even GDP bonds could come up in specific countries which could harness and tap the volatility in the prediction of GDPs of nations. Whereby groups of countries like BRICS could come together to collectively bridge the GDP shortfall of ex-ante and ex-post GDP figures in those group of countries to promote better synergies. Collateralized Debt Obligation lending could be done based on Credit Rating in GDP mismatch of figures so that this entire political game could be avoided and the country can grow.

A Collateralized Debt Obligation is a structured product that pools together a cash flow generating assets and repackages the asset pool into asset tranches that can be sold to investors based on a Credit Rating. Therefore, by not blaming the statistical agencies who report quarterly GDP data for a wrong base year calculation or otherwise, the focus could be more country specific. The Current account deficit can be targeted in a model by mathematical range target whereby any trigger in the same could get linked to BoP foreign exchange shedding or collection to target the rupee volatility.

Many range based targeting could be done for various critical Macroeconomic Indicators in the country just like Inflation Targeting, and the benefits of the said Targeting could come in the years to follow. In my research work, I have calculated a range for effective Net Interest Margin calculation, whereby the ideal Nim’s range was calculated for Indian Banks. So that the banks don’t face high NPAs and the Banks could efficiently hedge their books of accounts through Risk hedging strategies, and just by looking at the range of NIM one can see whether banks are diversified well- enough. Thus, if active Risk Hedging Strategies are used with reforms in India, the country could be a better place to live, in the years that follow.