The Contrarian

“In the investment markets, what everyone knows is usually not worth knowing.”

India’s Road to Depression

In our WELLINGTON LETTER this week, we had an article about the mess the government of India created for itself.

We wrote:

India produced a fiasco by calling in two different currency notes, valued at $7.50 and $15.00. These are considered “large denominations.” That wiped out most of the currency used by the people for buying things. Now the economy has come to a screeching halt as it has become a barter economy. That also means a plunge in tax revenues, and less ability of the country to service its debt.

We have predicted that this could eventually lead to India defaulting on its international debt. As tax revenues dry up, foreign capital leaves the country as fast as it can seeing the extreme measures of the government, no one will pay taxes, and there is no way out expect to declare a debt default.

And that would have much more serious repercussions than the Thai debt crisis of 1997. In fact, it could produce contagion throughout the emerging markets. We wouldn’t have a penny invested in these countries at this time.

Here is an excerpt of an article by our colleague Mish Shedlock about the latest, extreme measures taken.

India Confiscates Gold, Even Jewelry, in Raids on Hidden Money

Wednesday, December 07, 2016

Global financial repression picks up steam, led by India. After declaring large denomination notes illegal, India now targets gold. It’s not just gold bars or bullion. The government has raided houses, no questions asked, confiscating jewelry.

Large denomination means 500-rupee ($7.30) and 1,000-rupee notes ($14.60), which account for more than 85 percent of the money supply. They are no longer legal tender, effective immediately. As one might imagine, chaos ensued. And it continues.

The chaos accompanying “demonetization” hasn’t eased up noticeably. It seems likely the disruption to the economy, especially in cash-centric rural India, will hit growth sharply for at least a few quarters. It’s tough to say for how long and by how much; we are in uncharted territory here and guesses have varied widely. But many analysts agree with former Prime Minister Manmohan Singh, who’s predicting the new policy will knock 2 percentage points off that world-beating GDP growth rate.

Demonetization was originally sold as a “surgical strike on black money” — the illicit piles of cash many rich Indians have accumulated out of sight of the taxman. It’s now clear the policy has been anything but surgical. Worse, uncomfortable questions are being asked about whether the complicated rules and exemptions that have accompanied demonetization have allowed black-money holders to launder most of their cash. Of late, Modi’s chosen to focus instead on demonetization as means of advancing a cashless economy.

Yet the idea of a war on unaccounted-for wealth remains central to demonetization’s popular appeal, which means Modi will have to find other ways to keep that narrative going. So the government has now begun to push income-tax officials to conduct raids on those who might be concealing assets in forms other than cash, such as gold.

There’s already enough fear of such raids becoming common again that the government felt the need to step in to quell some of the anxiety. That didn’t help much. The government “clarified,” among other things, the rules governing when tax officials could seize gold: Nothing would happen “if the holding is limited to 500 grams per married woman, 250 grams per unmarried woman and 100 grams per male.” It also said that there would be no limits on jewelry “provided it is acquired… from inheritance.” Also, the “officer conducting [the] search has discretion to not seize [an] even higher quantity of gold jewelry.”

What this means, unfortunately, is that India’s income tax officers have just won the lottery. During a raid, they can, on the spot, decide whether or not to confiscate a family’s gold holdings. And remember, India has an enormous amount of gold — 20,000 metric tons, much of it inherited. (The rules governing simple searches are different, but few know that.) Rather than cleaning up tax administration, the government has handed tax officials more power than they’ve had for decades. The rich will pay what they need to escape harassment; the rest will suffer.

Evidence suggests the politically connected, and their friends, knew about the ban on cash and acted in advance. Everyone else is stuck.

Our comment: to us this seems much more than governmental bungling, but a power grab, and an easy way to make governmental officials, especially from the tax department, and their bosses very wealthy. It’s absolutely outrageous.

For the past 15 years we have participated in debates about the better country to invest in, India or China. Most analysts said India, because they speak English and have English law. We disagreed and said that the huge bureaucracy and corruption in India could never be tamed.

We now see it again. India has snatched defeat from every good recovery attempt. This one could be worse than others of the past several decades. Modi will no longer be the alleged “savior,” but the bum.