Inflation
Now lets say the central bank in Mr. Gabbar’s country decides to inflate the currency. Overnight, it prints several truckloads of money, causing 50% inflation! Prices everywhere rise, and so do wages, by 50%, because of the inflation.
Now, Mr. Gabbar is making $75 an hour, but the amount of money he owes the bank stays at $50,000. This is the key. The amount of money he owes the bank doesn’t change, but each dollar is now worth less. He has to now only work 666 hours to pay off his debt! By inflating by 50%, the central bank has reduced the real debt on Mr. Gabbar by a third! Mr. Gabbar lives happily ever after!
But wait, there is a catch. Lets say there is another Ms. Basanti. Ms. Basanti has been a good citizen for the last few years, has been regularly putting 20% of her income into savings. She hasn’t binged on debt like Mr. Gabbar, and has lived within her means. She has $50,000 in savings in a bank.
Now there is suddenly 50% inflation. The amount of money in the bank stays at $50,000, but it is now worth much less. Ms. Basanti has been saving to buy a small apartment, which cost $50,000, but because of the inflation, it is now worth $75,000. She has to now work for an additional 500 hours to be able to afford the apartment. If it wasn’t for the inflation, she could have bought the apartment today.
Inflation helps those in debt and hurts those that have saved. By printing all that money, the central bank has reward Mr. Gabbar Singh for his bad and reckless behavior, while it has hurt the model citizen Ms. Basanti. This is the “moral hazard” argument.
And here’s the twist in the story: If a country is filled with Mr. Gabbars and only a few Ms. Basantis, overall, it is a benefit to the country to inflate the currency. This is the situation the US finds itself in today. It is a nation full of debtors – Its citizens are in debt, its local governments, medicare, medicaid is in debt, and the central government is also in massive debt. The inflation nuclear option is starting to look real good at this point.
The good news is that the nuclear button (ability to print money) is with the Central Bank. Fortunately it is an independent entity, the politicians neither appoint the central bank’s head and neither can they fire him. If the politicians were in control, they would have pressed the button long ago to please the Mr. Gabbars for their votes (This is what happened in Argentina and Germany during the hyperinflation).
The bad news is that several central bankers, including the head of the US central bank, Mr. Bernanke, have publicly stated support for this option. In fact, in 2003, Mr. Bernanke made a speech where he “highly recommended” this option to the Bank of Japan to pull Japan out of its slump.
What all this means is that at some point sooner rather than later, the US Fed is going to find it easier to reduce the trillions of dollars of debt at least partially by printing money and inflating the dollar, making it worth less. The USD is a somewhat special currency owing to its status as the world’s reserve currency, but the sword cuts both ways: The US is also the only country in the world that has the option to print USD. Everyone else can only borrow USD). My bet is that at some point, the US is going to exercise this option and start printing money.
The Tigers Are Doomed!
I live by a main road in Bangalore. It’s the main road that leads to a large cluster of technology companies, and is used by millions of Bangalore’s softies every day. The road nominally has street lights installed, but they almost never work.
The muncipality officials in charge of the street lights come once in a while to try and fix the lights. They twiddle with some wires, and the street lights start working, but a couple of days later… puffftttt… they stop working again. And the cycle repeats. I’ve been observing the strange ritual for over a year now, and the lights worked for less than 10% of the time.
And yet, the street is not completely devoid of light.
The reason is because of the advertising boards that are present on the median between the road. These are the small 2ft by 5 ft posters that are placed every 20 meters or so , advertising some soap or some phone service. These advertising boards are backlight, and every night at 7pm *sharp*, they come on. Thanks to these advertising boards the road is somewhat visible, and the busy traffic avoids crashing into the opposite lanes.
How is it that the advertising lights work and the street lights don’t? It’s probably because the advertising boards are making money for their owners, and the owners of these boards are taking good care of them in return. They are regularly cleaned (a person actually opens them and cleans the casing from the inside every 2nd Saturday of the month), the tube lights inside them regularly checked to make sure they work. The street lights, on the other hand, are orphans. Their owners have only apathy towards them and treat them with great reluctance.
What’s this story got to do with tigers? I think the tigers are like the street lights. The people in charge of protecting them (the forest officials, the government), treat them with apathy, because they don’t really have a direct incentiveve for the tigers to be alive. Sure, some environmentalists and wildlife enthusiasts care very much for the tigers, but they can do only so much. Like my neighbours, they constantly complain to the city officials that the street lights are not working, but the city officials don’t really care about the street lights. Their paycheck comes on time, street light or no street light.
There was a very big scare recently in the United States around bees. Bees, in their millions, were not retuning home, inexplicably dying. This had beekeepers around the US very worried. By some estimates, the population of bees dropped between 50%-75% last year.
The problem was diagnosed to a phenomenon called CCD – Colony Collapse Disorder. The beekeepers figured out the problem super fast, and they’re doing all they can to keep the bees alive and to keep the bee colonies thriving.
The reason the bee keepers are taking such good care of their bees is the same – the bees make money for their owners. Beekeepers “hire out” their hives to farmers are orchid owners. The bees pollinate the crop, allowing the trees and flowers to blossom into fruits and grains. The farmers pay the beekeepers handsomely for their services, and the bee keepers also get to sell the honey!
Unless the people in charge of keeping the tigers alive are in some way, directly benefiting from tigers being alive, the hopes for the survival of the tigers look bleak. Having 2 or 3 levels of indirection between people that care and people that are responsible (wildlife enthusiasts -> government, forest department, ministers -> rangers in charge of protecting tigers from poachers) is fraught with inefficiencies and misplaced incentives.
The disastrous drop in the tiger population will not be reversed unless we fix the incentives for those charged with protecting the tigers. There needs to be a change, in either the incentives for those in charge, or a change the people in charge. Otherwise, the lights are going to go out real soon.
Legal Drinking Age in India
Theres been a lot of fuss lately over the ‘pub culture’ and the effects it is having on our ‘traditional’ values. The media is doing its over-hyping as usual, and there’s a story in today’s newspapers about how 80% of the people in Delhi’s pubs are underage drinkers. But the most surprising thing about the story was this: The legal age for drinking in Delhi is 25.
Wait a minute, that can’t be right. 25?
What the legal age for drinking should be is not a straightforward question. But 25 seems arbitrary to me. What should the legal drinking age be? I think we can all agree that for consuming alcohol, you should be mature enough to understand the consequences and accept the responsibility. Can we look at some other “minimum age required” areas to see what the appropriate ‘mature’ age should be?
The legal age for voting is 18. It is presumed that 18 year olds are smart enough and mature enough to chose who should run their governments. They understand the political, economical, environmental and social arguments that the politicians are making and chose between them wisely. At least thats the theory. 18 is also the age at which you can join the army. We consider that 18 year olds are mature enough that we can thrust a gun into their hands and send them off to the various war-torn corners of this country to kill terrorists and insurgents.
So, 18 year olds are mature enough to handle guns that can kill, but not old enough to have a beer? Come on… That’s just asinine. 18 should be the legal drinking age.
The Real Problem With Black Money
We’ve all been told that black money is really bad. The “underground economy” is a real problem, because all that money is probably gotten illegally through bribes and “immoral activities” and what not. It also costs the government lost income tax. All this is true, but there is a much bigger cost. A lost, opportunity cost. When money gets removed from the legal banking system, it is a big problem.
The way our modern banking system works is very non-intuitive, largely because all the stuff that happens is usually behind the scenes. Lets follow the life of Rs 100 to see how it moves through the banking system.
Lets say you have 100 rupess with you. You want to keep this money safe, and earn some interest on it, so you go and keep it in the bank. The Bank will gladly accept your money, because they can do something very interesting with it. The Bank receives money from lots of folks, and instead of keeping all the money locked up, they decide to keep only a part of it with them, and lend the rest away. The reasoning is that everyone doesn’t need their deposited money at the same time, and they can get away by keeping just enough money to give to the people that come to withdraw it.
This ratio, the ratio of money that has to be kept in reserve with the bank is called the CRR – Cash Reserve Ratio. This number is set by the market regulator, in our case the Reserve Bank of India. The percentage fluctuates over time, but lets say it is at 10%.
That means the bank has 90 of your rupees available for lending. And now, a businessman comes along to borrow money from the bank. He needs the money to buy raw materials, so that he can process it in his factory (lets say he makes sunglasses) and sell it at a profit. So, there he is, borrowing 90 rupees from the Bank.
The businessman now takes the money, 90 rupees, and gives it to his supplier who gives him the raw materials in return. He then sells his finished goods in the market for 100 rupees, and now has enough money to repay back the loan back to the bank. At this point, the 90 rupees (plus some interest), which the businessman returned, is available for lending to another person, who can use it to make some more money for himself. So you see, the money you deposited helps more than one person directly. But wait, there’s more.
Remember the supplier who gave the businessman raw materials in exchange for 90 rupees? He now has 90 rupees in his hand, which he proceeds to deposit back into the bank. And the Bank needs to keep only a portion of that (9 rupees), and can lend the remaining 81 rupees again to another person.
So lets see what has happened here. You have a 100 rupees. The businessman made 100 rupees, of which 90 rupees he returned to the bank. So now he has 10 rupees. The supplier has 90 rupees. Plus, the bank has 90 (the money the businessman returned) + 81(the supplier’s money) = 171 rupees available for lending.
The 100 rupees that you deposited with the bank has had a multiplier effect that has created wealth for lots of people without even your knowledge. The bank will still guarantee your 100 rupees, but in the meanwhile 2 other people have benefited directly from your deposit. This is the wonderful power of the banking system.
The real problem with black money though, is that it gets hidden away somewhere, either buried in someone’s backyard, or locked away as gold in the locker, and is not available to the banking system for lending. That money, which could have benefited several entrepreneurs and companies, is not available for lending. And that increases the borrowing cost, and the would-be entrepreneur has to shut shop.
That is the real tragedy. Black money has a real cost to the growth of the economy.
Part 2 – River Pollution and Private Property
In my previous post, I talked about how making a River a part of private property is a possible solution to the river pollution problem. There are several interesting things in the story that I wanted to point out.
Firstly, it is true in the real world that the industries causing the pollution don’t really care about the pollution. The folks who really care about the pollution are the people using it – for irrigation, for drinking water etc…, but definitely not the factories. You can force the factories to care, either through the threat of getting sued (as was the case in the story), or through government interference through legislation.
When Rivers are considered public property, that is they belong to everyone, it is also the same as saying the rivers belong to no one. If it belongs to no one, then people don’t take an active interest in it. If the river in the story was public property, the same events would have played out till the point that Kiran goes to talk to Mr. Reddy. But instead of paying off Kiran, Mr. Reddy would not have listened to what Kiran had to say, because he can’t do anything to the mighty Mr. Reddy. Kiran’s only recourse would be to try to get the government to pass some laws that prevent the amount of pollution that the cement company can discharge into the river. This process usually takes too long, and the river is already dead by the time the government acts. But that is not even the real problem.
If Mr. Reddy knows that the government is about to pass a law that is against his interests, he is going to take the Rs. 5 Crore that he was willing to part with to save the company, and give it to a lobbyist, who when then take it and try to bribe the minister into putting some loopholes into the law, and when it eventually passes, the river is no longer cleaner, because the company has managed to find a way of not complying with the law. The Rs 5 Crores has been wasted.
The alternate scenario presented in the story, the threat of legal action puts Rs. 5 Crores in the hands of Kiran, who is the one that REALLY cares about the river pollution, and is best suited to do something about it. Neither them company, nor the lobbyist, nor the politician cares as much about the river as Kiran does, and putting money in their hands won’t really solve the problem, and serve as only a distraction while the river continues to be polluted.
By the way, the story is a direct parallel with what happened in Britain in the early phases of the industrialization. The rivers that flowed through towns and cities were actually owned by them, and when factories upstream started polluting the cities’ waters, they were threatened with legal action, at which point the companies BOUGHT the right to dump a certain amount of toxins into the rivers. The cities then took the money and invested it in marine research, which led to a lot of new technology being invented to prevent water pollution.
There’s also another interesting thing to notice in the story that at the end, everyone has bought a Mercedes – Kiran, his friend Robin, and Mr. Reddy himself too. The Mercedes is just an indicator that everyone of the parties involved has benefited financially from the transaction, and the river is now much cleaner too. How can that be? Seems like a voodoo trick that has pulled money out of the air.
The puzzle goes away once you realize that money is really representing wealth – Wealth of the country, of it’s rivers but most importantly the technology available. The most important take away of the story is that new technology got created – Technology to clean up rivers – and that is the real source of wealth.
Socialist Movies
I just love watching 80s hindi movies. Not for the songs, but for the themes of the movies. The poor hero is in love with the rich girl, but needs to get some money to set up a house in order to get married. He’s hard working, he’s just done his BA (gotten first class too), and he figures hey, no problem, I’ll go and get a job.
But he goes to company after company looking for a job, and they don’t want to hire any freshers. The disappointed hero then bursts out into a monologue of how the youth of the country is suffering because of the greed of the evil industrialists and businessmen. The speech is my favorite part. It’s emotionally appealing, and you feel so sorry for the hero and have nothing but hatred for the profit-driven, greedy, selfish businessmen who can’t think beyond themselves. If everyone becomes selfish, greedy, money minded and worries only about themselves, what is going to happen to the country?
Fast forward to 2008. Welcome to the booming Indian economy, growing at a break-neck speed of 9% a year, adding thousands and thousands of jobs, with escalating salaries for fresh graduates putting lots of disposable income in their hands with which they can woo their maidens and have plenty left over to splash on movies and malls.
The magic of capitalism, seemingly working against conventional wisdom, has worked a miracle in these last 25 years. Around the world, 200-300 million, that’s right – MILLION – people have been lifted out of poverty, largely from India, China and other south-east asian countries, the largest mass exit from poverty in the history of the planet. Freshers frequently have multiple job offers to choose from, and how the tables have turned – The companies are now outdoing each other with their stock options and free gyms and foreign opportunities to attract folks still in their 6th semester of College. Sure, we have our own problems now, but things have largely improved since the socialist days of the 80s.
But how has this happened? How can the greedy capitalistic pigs have taken over the world, displacing the high ideals of Karl Marx? Surely, our solution can’t be superior. Or is it?
Capitalism is our current best system THAT WORKS. The last part of the sentence is very important. It works. Time and again, countries all over the world have experimented with communist and socialist policies, and have rarely succeeded. Capitalism is dirty – the system seems broken from a distance – how can a disorganized system in which no one has the whole picture, with every individual working towards their own goal be able to take a whole country forward?
But that’s exactly why it works. We’ve discovered a system that works because of – not despite of – the greedy, self-centered and profit-driven individual. The system admits that humans as a species have these seemingly undesirably qualities, but lets make the best of it that we can. It starts out by setting some rules – you can’t steal and you have to pay your taxes – and then lets loose all the greedy people loose in the arena and says “fight!”
Of course some people are going to suffer. Companies are going to close and workers are going to loose their jobs. But there will also be winners, and the important part is that the winners are chosen by the people themselves – Be they politicians or the brand of soap. The choice is firmly in the hands of the people, and that’s what makes the whole thing work.
Idealists often point out that this is a lesser than optimal solution. But they forget to think about what is workable, instead focusing their attention on the obvious shortcomings of the system. There are shortcomings, and they are known, but that doesn’t mean that it doesn’t work overall. Corruption and power-grabbing, monopoly of large corporations and exploitation of the poor are inevitable, they should be seen as collateral damage – and the folks interested in the plight of the oppressed should focus on helping them work with the system – Instead of criticizing the whole system to which they have no alternative.