Intellectual Thoughts by Sanjay Panda: May 2008

Alternate energy. A slow lane in India

India's failure to agree a biodiesel policy has forced firms to shelve expansions plans, putting it way behind energy-hungry rivals like China in the drive to greener fuels, a top industry representative said.

The delay has also left edible oil processing companies, which have built capacity to turn 1.2 million tonnes of jatropha into biodiesel, in the lurch -- and Rs 9 billion ($227 million) poorer. New Delhi is blending ethanol with petrol, but has been unable to forge a framework for biodiesel as ministers differ over subsidies needed to kickstart the sector. "It is a clear example of how an indecisive government can jeopardise plans to popularise jatropha to reduce dependence on fossil fuel and pollution. One tonne of jatropha seed can yield 300 kg of biodiesel it is estimated.

India consumes 40 million tonnes of diesel a year, way above annual petrol demand of 8-9 million tonnes, and in 2003 announced plans to replace around five per cent of its diesel consumption with biodiesel made from jatropha, a crop which thrives here.By not agreeing to a subsidy or on a policy, the government has dealt a blow to biodiesel which should have been treated at par with ethanol. Some countries believe biofuels hold out the promise of major cuts in greenhouse gas emissions and are an alternative to scarce and expensive fossil fuels.

India is a major polluter and is likely to rise up the world's league of dirty nations as Asia's third-largest economy purrs along at annual growth rates of over 8 per cent. It imports 70 per cent of its crude oil requirements, and heavily discounts fuel sales by state firms, although on Thursday raised the price of petrol and diesel for the first time in 20 months.

Domestic oil retailers are required to mix ethanol with petrol to 5 per cent of volume almost nationwide and India plans to double that to 10 per cent from October 2008, when the new sugarcane crushing season begins.

But other countries have gone much further. Brazil allows as much as 50 per cent ethanol to be blended with petrol while China has gone ahead with plans to build one of the world's first large-scale jatropha-based biodiesel plant.

The basic reason behind the delay in the biodiesel policy is subsidy. Some ministries favour subsidy for the sector as it is in nascent stage, while the Finance Ministry seems to be opposed to the idea. Some experts say jatropha is several years of intensive research away from being a commercially viable biofuel.

Hong Kong remains pricest retail space in Asia

Hong Kong's Central district is Asia's most expensive shopping area, with street-front retail space costing $775 per square foot a year to rent.Central beat Causeway Bay, Hong Kong's traditional shopping district and last year's number one, and Tokyo's Ginza, this year's second-most expensive shopping area in Asia.

The Central district ranked seventh worldwide after New York's Fifth Avenue, Paris's Champs Elysees, Moscow's Tverskaya, London's Bond Street and Oxford Street and Dublin's Grafton Street.

Since the arrival in Central last year of Swedish chain Hennes & Mauritz AB, overseas retailers have sought space in the area to boost brand awareness among affluent mainland Chinese visitors.

China to manufacture Jumbo jets

China has established a homegrown company to make passenger jumbo jets, state media reported Sunday -- a step forward in the country's quest to become less dependent on Boeing and Airbus.

China Commercial Aircraft Co. was established in Shanghai with registered capital of 19 billion yuan $2.7 billion, the official Xinhua News Agency said.It said the central government and the Shanghai government are among the major shareholders, as are China's two main aircraft manufacturing and servicing companies, China Aviation Industry Corp. I and China Aviation Industry Corp. II, which were split off from state-owned China Aviation Industry Corp. in 1999.

Europe's Airbus has forecast that China's domestic market will increase fivefold by 2026. Airbus and Chicago-based rival Boeing dominate the market for commercial airplanes carrying 100 or more people.Xinhua said Commercial Aircraft Co. will be able to make planes with more than 150 seats.

According to the development history of Airbus and Boeing, the development and success of civil planes cannot be realized by relying on one or two generations. Considering the past records lets see how sucessfull they are in this sort of venture where there is no scope on compromising quality.

Powering the future- Alternate energy

Once dismissed as kooky ideas spawned by impractical environmentalists, alternative energies are now part of the energy plans and policies of most nations. “Governments all over the world recognise the importance of renewable energy as fossil fuels are finite,” & now aggressively planning investments in renewable energy projects.

Once dismissed as kooky ideas spawned by impractical environmentalists, alternative energies are now part of the energy plans and policies of most nations. “Governments all over the world recognise the importance of renewable energy as fossil fuels are finite,” & now aggressively planning investments in renewable energy projects. “Worldwide, the renewable energy industry is growing at 20-30 per cent per annum. Demand exceeds supply in some sectors such as wind energy, and companies are generating returns in excess of their cost of capital.

Fifteen European Union nations, including Spain and Germany, who are world leaders in renewables, have committed to generating 20 per cent of the energy using alternative technologies by 2020. India has also put in place several renewable initiatives and the country is now the world’s fourth-largest generator of wind energy with an installed capacity of 7,093 MW.

Entrepreneurs are venturing into solar power because of the phenomenal growth potential. The United Nations Environment Programme Report (2007) states that renewable energy projects received a record $100 billion (Rs 4,40,000 crore then) in investment in 2006, up from $80 billion (Rs 360,000 crore then) in 2005. Interestingly, venture capitalists are now some of the biggest investors in alternative energy, and their track record of almost single-handedly creating the computer and bio-technology industries is also boosting the industry’s prospects. With glaciers melting, weather patterns changing and the hole in the ozone layer getting larger, western public opinion is increasingly pushing politicians to search for greener energy. In Asian countries such as India and China, there are also more mercantile reasons to follow suit.

India currently produces 130,000 MW of energy a year and this figure will need to double within the next decade. The cost of building the mostly coal-fired plants slated to produce this energy will be a staggering Rs 5,34,000 crore. The environmental and health costs will be even steeper. India is already the world’s fifth-largest polluter, and hospitals across the country are reporting sharp increases in lung and breathing problems, from asthma to cancer. India’s oil bill has also shot up from $7.5 billion (Rs 26,250 crore then) in 1996 to a whopping $50 billion (Rs 2,20,000 crore). By 2010, when Indian consumers are estimated to own 15 million cars, the country’s oil consumption will be twice today’s 2.1 million barrels a day, the US Energy Information Administration says. With global oil production barely 1 million barrels over the global consumption rate of 81 million barrels a day, the surge in demand from India (and China) could eventually lead global demand to outstrip supply, causing fuel prices to shoot up to $100 a barrel. This could cause India’s oil bill to quadruple to $200 billion a year by 2025! More significantly, India will be the only major economy in the world other than Japan importing 90 per cent of its oil needs, a strategic lacuna.

So why hasn’t the alternative energy revolution already happened? Until, recently, the technology just wasn’t there and the cost of producing a MW of wind or solar power was up to five times that of fossil fuels. Now, the costs are evening out, but the challenge for the alternative energy industry is to achieve the scale necessary to become competitive. Standing in the way of this is the powerful oil and gas lobby, which has consistently tried to tie down the alternative energy industry like a bonsai tree. There are only two ways of combating the environmental and human cost of using fossil fuels. “If the government levies an energy tax, like a tax on the pollution caused due to use of conventional energy, it can then try to cover the (environmental and human) cost. This is a rational option but not a social one, as the common man will suffer. The alternative is to provide renewable energy a privileged market: no taxes, zero interest rates, and a new tariff law.”

According to US media reports, the Bush administration, after a series of meetings with a group of energy industry representatives and lobbyists, drew up a controversial National Energy Plan, which doled out $33 billion in public subsidies and tax cuts to the oil, coal, and nuclear power industries. In India, the privatisation of oil exploration has also created a huge anti-alternative energy lobby led by oil companies such as Reliance, Essar Oil and Videocon, in cahoots with auto companies. A sign of their power came when New Delhi recently withdrew a Rs 1 lakh per car subsidy it was about to give the Reva, India’s first electric car.

More importantly, supporters of alternative energy insist that the “full cost” of using fossil fuels is hidden — and could even be higher than the cost of many alternative technologies — because the health, environmental, and defence costs associated with using fossil fuels are not built into their purchase cost. For example, The US-based International Center for Technology Advancement says a gallon of gasoline in the US that costs consumers about $3 (Rs 120) would end up costing the nation about $15 (Rs 600), if the full cost of the medical costs associated with treating people suffering from pollution-related illness, the economic costs of the days lost at work because of people ill with pollution-related problems, the cost of cleaning up the environmental damages caused by fossil fuels and astronomical defence costs associated with oil security were added up.

Given the oil and auto industries have more than a trillion dollars in revenues and have planned investments of nearly $50 billion by 2010, Governments are worry that hurting these industries could dampen growth and damage other industries, such as shipping and ports, steel, petrochemicals, auto ancillaries, and rubber. But supporters of alternative energy, say these losses would be balanced by the totally new industries renewables would create, in the same way that the IT revolution initially cost jobs and killed some industries, such as answering services, but went on to boost global growth.

Significantly, with renewable energy technology maturing and awareness rising, many consumers are sidestepping such policy conundrums and turning into early adopters of these technologies. Still, no alternative energy technology is even close to fulfilling its full promise. More than technological changes, consumers will have to change their attitudes and habits before alternative energy can become what it should — the only energy. Imagine mankind powered by infinite renewable energy. The benefits are driving governments, businesses and individuals all over the world to follow that dream. They know there is no real alternative.

Biogenerics Opportunity

Even assuming a 50 per cent price erosion (since biopharmaceutical companies, creators of original biologicals, slash prices at the first sign of a biogeneric), it is a $7 billion-$9 billion opportunity for generic players. And, unlike in conventional pharma, Indian companies are on par with global ones to make good of this opportunity.

Even assuming a 50 per cent price erosion (since biopharmaceutical companies, creators of original biologicals, slash prices at the first sign of a biogeneric), it is a $7 billion-$9 billion opportunity for generic players. And, unlike in conventional pharma, Indian companies are on par with global ones to make good of this opportunity.

Roadblocks Galore

Cracking biogenerics is easier said than done, though. First, programming microbes to secrete a specific drug is much tougher than stringing together a group of chemicals to create a copy of a drug.This makes developing a biogeneric a more time-consuming affair (5-7 years) than a conventional drug (2-5 years). Also, controls over manufacturing conditions are far more stringent, leading to high investment.

But, perhaps, the biggest obstacle is that in lucrative markets like the US and EU, regulatory bodies (US FDA and EMEA or European Medicine Evaluation Agency, respectively) have not defined standard procedures for approving biogenerics, unlike conventional pharma generics. In a conventional pharma generic, provided you create the same molecule, and do a clinical trial to show that it works as well as the original, you are through.

In the case of biogenerics, biopharmaceutical companies contend that when the manufacturing process of a biological is changed, it may not be as effective or even similar. So, innovators’ data cannot be used to get regulatory approval. A biogeneric, thus, has to generate its own data through extensive clinical trials on far more patients before approval is given.

Fortunately for companies eyeing biogenerics, in 2005, EMEA defined a regulatory pathway for four biogeneric products — insulin, erythropoietin, human growth hormone (hGH) and G-CSF. The FDA, though, has approved only one — Sandoz’s Omnitrope (human growth hormone) — that, too, after prolonged litigation. But it has clarified that a standard regulatory pathway has not been defined for biogenerics.

All these factors have restricted pharma companies worldwide from getting into biogenerics. So, unlike the pharma space where western companies like Teva and Mylan had a headstart of more than a decade over Indian companies, in biogenerics all players are starting off on the same footing.

Revving Up Biogenerics in India

Mostly, Indian companies have preferred products that are relatively easier to make, like insulin or even erythropoietin. Few companies have chosen to tackle products like hGH and G-CSF, which are tougher to make but offer higher margins.

Things first started happening in the 1990s. First off the blocks was Dr. Reddy’s in 1994 (with a biologics department that was converted into a full-fledged division in 1999). It launched its first product, filgrastim (a G-CSF) in 2001, which was re-launched earlier this year in India and Brazil as Grafeel.

Then came Wockhardt in 1998. It launched its Hepatitis B vaccine in 2002, insulin in 2004 and erythropoietin in 2005. Also, in 2005, it created a separate division for biologicals R&D as well as manufacturing. They were followed by Biocon, which announced its plans for entering the market through insulin in 2002, and launched the product in 2005.

Strategy of Indian companies :

Dr. Reddy’s has chosen to focus on its areas of strength, oncology and related products, even in biologics. Brand building and marketing will be much easier because the products will move across the same channel. Wockhardt, on the other hand, is looking at products like insulin for India, developing countries as well as regulated markets. The strategy is to first enter the European market with products that have a defined pathway, and then look at the US once the pathway is clear.

And Biocon is initially targeting the biogeneric opportunity for its human insulin. The company is filing forapproval of its insulin in the regulated markets starting with Europe.Some companies, including Ranbaxy, are looking at taking biogeneric products developed by other companies and selling them in India and other less regulated markets. The idea is to take good products from small companies and use the bigger company’s marketing muscle to sell them. Some, of course, plan to eventually crack the US and European markets.

For instance, Concord Biotech, in Ahmedabad. Besides being the world’s only biogenerics company to manufacture all four immuno-suppressants, Concord also undertakes custom synthesis projects. In November 2005, Hyderabad-based Matrix Laboratories acquired majority stake in Concord. The products from Concord’s stable will be marketed in Europe through Docpharma (a generic company in Belgium that Matrix acquired last year) and then in the US.

Then, Ranbaxy has tied up with Hyderabad-based Zenotech Technologies to inlicense and market its products. Companies like Shreya Life Sciences, Intas, Cadila and Emcure also have well-defined marketing programmes. Shreya, which started as a distribution company in Russia and the CIS, is looking at products that can be imported and launched in India. Indus Biotherapeutics, a subsidiary of Intas, has developed human GCSF and recombinant erythropoietin for its parent. Cadila has launched Streptokinase under the brand name STPase. And Pune-based Emcure started by inlicensing biogenerics, and its current pipeline of products focuses on nephrology, oncology, cardiovascular diseases and gynaecology.

Brand Is The Key
Unlike generic pharma, in biopharmaceuticals, marketing is driven by brands simply because it is important for a company to establish that it has the capability to create a biogeneric successfully. Maximum value can be realised only from a finished formulation.” That’s because while raw material is cheap, the development process is long and expensive, making the final product almost as expensive as the innovators’. So, it makes sense to market under ones own brand name.

Aware that post approval, biogenerics will require extra promotion to sell in a new market, Indian companies are already setting up marketing front ends in Europe. Dr. Reddy’s plans to leverage its German acquisition, betapharm, to position its biogenerics in Germany and the UK. Others following suit include Ranbaxy in Germany, France, Belgium and Romania, and Wockhardt in the UK. Indian companies plan launches across the world. “India, rest of the world, Europe and the US, in that order. Wockhardt’s planned launch path is similar to Dr. Reddy’s.

so the race is on.

Finance- Economy vs Real exchange rate

The Chinese experience shows the costs of under-valuation are a lot less than the benefits in terms of jobs. In recent years, as China’s exports have grown rapidly, and the country is registering increasingly larger surpluses on the current account (an estimated $140 billion this year), it has faced a lot of pressure for a “more flexible” exchange rate regime. Instead of openly calling for an upvaluation of the currency, the politically correct euphemism is to use the term “more flexible exchange rate”.

After holding on to a steady yuan-dollar exchange rate for more than a decade, China has engineered a modest appreciation (5.4 per cent) over the last year and a half. China’s exchange rate policy is clearly rooted in the need to create manufacturing employment. China needs to create at least 25 million non-agricultural jobs a year, considering the number of new entrants in the job market, as also the vast immigration from rural to urban areas. Most of these would have to be in the manufacturing industry, and its global competitiveness is, therefore, of crucial importance. Hence, the undervalued yuan. Indeed, for many years, the yuan’s fall in real effective terms was even more than in nominal effective terms, because China has had lower inflation than the US for nine years! This is remarkable at a time of surpluses on current account and huge capital inflows (in theory, both generate inflation pressures), resulting into reserves accumulation of a trillion dollars. One advantage China has in sterilising the excess money supply is that domestic interest rates are lower than the dollar or euro interest rates: this means that there are financial gains to the central bank in sterilising the growth in money supply. China is not only keeping domestic inflation low but, as a low-cost manufacturer, is a major contributor to keeping global inflation low despite the very high commodity prices of recent years.
But there is also a major risk in the reserve accumulation. As argued earlier also earlier, given the huge deficit on current account in the US, the possibility of a sharp fall of the dollar can hardly be ruled out. Indeed, diversification of Chinese reserves into other currencies (as Russia, Switzerland, Italy and the UAE are already doing) could itself trigger such a fall: it is Chinese investments in the US treasury market that keep the dollar from falling and the yield curve flat to negative. On the other hand, should the yuan appreciate against the dollar, there would be huge paper losses for the central bank as dollar assets become worth less in yuan terms. Assuming that, currently, 70 per cent of the reserves are in dollar assets, even a 5 per cent yuan appreciation against the dollar would lead to a translation loss of something like 250 billion yuan! Clearly, the authorities are treading on delicate ground trying to balance the needs of the real economy with the possibility of large paper/financial losses if and when the yuan is forced to appreciate in dollar terms.
Arguably, the root cause of the large and increasing surpluses China is registering on the current account, is the savings-investment imbalance. Despite huge investments, the savings rate is so high, above 50 per cent of GDP, that the excess savings result into a surplus on the current account. Interestingly, the household sector savings in China as a percentage of GDP are actually less than in India — this, despite the fact that personal consumption in China per capita is only about 70 per cent higher than in India, while per capita incomes are 2.5 times as large. The real cause of excess savings is the corporate sector: the corporate sector’s savings amount to as much as 30 per cent of GDP, with retained earnings alone contributing two-thirds of that. One reason, it seems, is that Chinese companies do not distribute dividends. At the macro level, one way of reducing the excess savings and the politically sensitive surplus on current account, is to get the public sector companies to distribute dividends, and spend the money on needed social services like health care, higher old age pensions, and so on. Sooner or later, we should see some movement in this direction even as the yuan gradually appreciates. Incidentally, the non-deliverable forwards market is factoring a yuan rise of just about 3 per cent over the next 12 months.
One point on which we need to learn from China is the focus on the real, job-creating economy rather than philosophical arguments about market versus managed exchange rate, the cost of sterilisation, and so on. On the second issue, what we often seem to overlook is that the cost to the real economy of an appreciating currency (jobs uncreated or lost, business profitability, forgone GDP growth, and so on) can be far, far bigger than the financial cost of sterilisation. To be sure, these costs are not as easy to calculate as the cost of sterilisation — but are, nevertheless, as concrete and perhaps even more important.

Crisis of confidence

The old-fashioned financial system was like Old Maid, a parlour game once beloved of small children. The banks were like players, dealt hands from a pack of cards, which they swapped among each other. At the end, one player was left holding a lonely queen—a bad debt, if you will—and lost. Over the past few decades the game has changed. Securitisation has snipped the old maid into pieces; new faces, such as hedge funds, have joined the party, enabling the banks to distribute those pieces among a larger number of players. When the game is over, lots of players are left holding small losses instead of one player holding a big one.
During two exceedingly prosperous decades, that theory seemed to work just fine. But the swings in almost all financial markets this month have made dispersed risk suddenly morph into dispersed mistrust. The uncertainty has been magnified .Meanwhile, collateralised-debt obligations (CDOs), made up of clumps of those securities and laced with leverage, have become almost impossible to trade. So none of the players really knows how much he has lost. While this uncertainty lasts, investors are taking it out on the banks that peddled the securities by dumping their shares; and the banks are taking it out on those they sold them to by demanding more collateral on their loans. The banks have even grown cagey about lending to each other.
The doubts burst into the open on August 9th when central banks were forced to inject liquidity into the overnight money markets because banks were charging punitive rates to lend to each other. At first, the problems appeared more serious among European banks. The pain in America was concentrated in the largest hedge funds, including those run by Wall Street’s biggest name, Goldman Sachs. Increasingly, however, analysts worry about the exposure of American, Canadian and Asian banks.
On Wednesday August 15th shares in Countrywide Financial, a large American mortgage lender, fell 13% after an analyst gave warning of possible funding difficulties. Despite liquidity injections by the Federal Reserve on August 15th, the S&P 500 index fell 1.4%. The heavy selling spread to Asian and European stocks on August 16th.
Every crisis begets finger-pointing, and the blame now is falling on the rating agencies that helped structure these exotic instruments. Currently, they are guided by a voluntary code that aims to tackle potential conflicts of interest. The biggest is that the agencies are paid by the firms they rate. Rating CDOs was a profitable business.
If these securities are now downgraded, banks could be forced to offload lots of illiquid instruments into a falling market—one of the fastest ways to lose money yet devised. But if there are no buyers, banks may have to sell something else to shore up their balance sheets.
Something like this indiscriminate selling has been affecting hedge funds over the past couple of weeks. Faced with more demanding standards from their banks and investors, some have been forced to unwind positions in order to realise cash. That has led to unusual movements in debt and equity markets, which have only got some funds deeper into trouble. Quantitative funds have been hardest hit, as investment models that had made money for ages briefly proved worse than useless.
Since banks lend to hedge funds, any problems there quickly become their concern. On top of this, both Bear Stearns and Goldman Sachs have found that when funds bearing their name get into trouble the desire to preserve their reputations soon leads to a rescue. Sometimes risk is not as far away from the banks as it seems.
At the end of Old Maid as banks used to play it, the loser would take a big write-off and then everyone could start playing again. In the new version, the use of leverage means the game is being played with hundreds of packs of cards and by thousands of different players. Working out who has won and who has lost in this round will take a long time.