Raphael Stevens

IN EARLY APRIL we pointed to preliminary evidence that the Russian economy was defying predictions of collapse, even as Western countries introduced unprecedented sanctions. Recent data further support this view. Helped along by capital controls and high interest rates, the rouble is now as valuable as it was before Russia’s invasion of Ukraine in late February (see top chart). Russia appears to be keeping up with payments of its foreign-currency bonds.The real economy is surprisingly resilient too. True, Russian consumer prices have risen by more than 10% since the beginning of the year, as the rouble’s initial depreciation made imports more expensive and many Western companies pulled out, reducing supply. The number of firms late on their wage payments seems to be growing.But “real-time” measures of Russian economic activity are largely holding up. Total electricity consumption has fallen only a smidge. After a lull in March, Russians seem to be spending fairly freely on cafés, bars and restaurants, according to a spending tracker run by Sberbank, Russia’s largest bank. On April 29th the central bank lowered its key interest rate from 17% to 14%, a sign that a financial panic which began in February has eased slightly. The Russian economy is undoubtedly shrinking (see bottom chart), but some economists’ predictions of a GDP decline of up to 15% this year are starting to look pessimistic.Even before the invasion Russia was a fairly closed economy, limiting sanctions’ bite. But the biggest reason for the economy’s resilience relates to fossil fuels. Since the invasion Russia has exported at least $65bn-worth of fossil fuels via shipments and pipelines, suggests the Centre for Research on Energy and Clean Air, a think-tank in Finland. In the first quarter of 2022 the government’s revenues from hydrocarbons rose by over 80% year on year. On May 4th the European Commission proposed a ban on imports of all Russian oil that would come into full force by the end of the year. Until then, expect the Russian economy to continue to trundle along.For more expert analysis of the biggest stories in economics, business and markets, sign up to Money Talks, our weekly newsletter. More

IN 1956, AS part of its experiment with embracing socialism, India created the Life Insurance Company of India (LIC) by nationalising and lumping together 245 firms. The experiment took a while to conclude. In 2000 India allowed private firms to sell life insurance again. Two decades later it is selling a 3.5% sliver of LIC on the public market, a first step in what is intended to be a full privatisation. Orders will be taken from investors between May 4th and May 9th. Trading is due to commence on May 17th.The scale of LIC is such that the sale of even this trivial stake will bring in $2.7bn, making it the fifth-largest public offering of the year globally and the largest in India’s history. One of the reasons stated by the company for such a small percentage being sold is that selling more might crowd out investment in other private and public firms in the country’s capital-constrained market. Out of similar concerns, market regulators are already considering waiving a provision that currently requires the dominant shareholder of a listed firm to reduce its ownership stake below 75% within five years.Once listed, LIC will have a market valuation of around $80bn, making it the fifth-most-valuable life insurer in the world. Yet more striking is how thoroughly LIC dominates the Indian market. Its utter supremacy has no equivalent in any other major country: LIC has a staggering 286m policies in force and collects 64% of all of India’s written premiums (the share of the largest insurer in Britain is 23%; in China it is 21%). The firm has $507bn in assets under management, triple the amount of its 23 private competitors combined.Although such dominance gives the firm and its products unmatched scale—a big advantage in an industry that runs on trust—the 659-page listing prospectus makes it clear that there are cracks in LIC’s armour. Premiums have been growing by 9% annually over the past five years, a good performance but one that pales in comparison to its Indian competitors, many of which have been growing at twice that rate.And government ties may come with costs. Investors have long suspected that LIC is often required to invest at least some of its river of premiums in the interests of the state rather than in the pursuit of profits, quietly seeding problems. Included in the prospectus’s 47 pages of risk factors are LIC’s large investment in IL&FS, a government-supported infrastructure-investment fund that went spectacularly bust in 2018, and its majority stake in another formerly government-controlled entity, IDBI Bank, which it bought as its contribution to a 2019 bail-out. Also featured are equity investments purchased over the years for 8.8bn rupees ($115m), currently valued at 2bn, and debt investments of 113bn rupees, 54bn of which are classified as non-performing assets.A public listing, and the transparency that must accompany it, may alter this approach. But concerns about hidden problems and continued interference by the government are worrying investors, which helps to explain why the offering is being priced so low. Until recently there had been expectations that LIC would be valued at three times its “Indian Embedded Value”, an approach based on the present value of future profits derived from expected premiums, like most other Indian private insurance firms. Instead LIC shares are likely to be sold at only 1.1 times, suggesting buyers have serious reservations.Still, in time, the most salient detail about the listing may have nothing to do with price and size and everything to do with the fact that it happened at all. When the newly reelected administration of Narendra Modi first proposed a public sale of a stake in LIC, in early 2020, it was derided as an empty political promise. Highly publicised efforts to flog other state-controlled assets, most notably Air India, had flopped multiple times. In October of that year, however, Air India was finally sold—to Tata Group, from which it had been seized in 1953. LIC’s return to the markets after almost as long a gap is not without snags. But it suggests a cycle may have genuinely, if not entirely, come to an end. ■For more expert analysis of the biggest stories in economics, business and markets, sign up to Money Talks, our weekly newsletter. More

THE FIRST rule of investment, according to Warren Buffett, is not to lose money. The second rule is not to forget the first. That is true for no one more than bond-fund managers, whose job is to shelter their clients’ money from volatility while eking out what returns they can. The bloodbath in bond markets so far this year—America’s have had their worst quarter since 2008, and Europe’s their biggest-ever peak-to-trough plunge—ought to be the ultimate nightmare for such timorous investors. Instead many are sighing in relief.After a brutal but brief crash when the world shut down in March 2020, and until the end of last year, rule number one was pretty easy to follow. Central banks were pumping $11trn of new funds into the markets via quantitative easing and keeping interest rates at rock bottom. Governments offered unprecedented fiscal support for businesses to stop them going bust.The corollary was that the best thing for bond investors to do was to close their eyes and lend. Quibbling about trivia like the state of the borrower’s balance-sheet or capital discipline seemed like a quaint tradition. In general, high-risk, high-yield debt performed best. Yet the market’s foremost trait was “low dispersion”: a tendency for returns across sectors, issuers and credit-rating bands to be unusually similar.There is plenty of money to be made in such a market, which a credit strategist at a Wall Street bank describes as “a rising tide lifting all boats”. But it is awkward for active fund managers, whose craft is to use financial nous to select particular bonds hoping they will beat the broader market. Measured by monthly returns between January and October 2021, for instance, around 95% of America’s corporate bonds performed better than Treasuries, with the lion’s share clustered together. That made it hard for prudent bondpickers to stand out.Yet this state of affairs has started to reverse—and dispersion is back with a vengeance, the strategist says. The successful roll-out of covid-19 vaccinations last year had already “squeezed the excess juice” out of those few sectors, like travel and leisure, whose debt was not already at a high valuation, reducing its potential to appreciate further. Now headwinds, from inflation and snarled-up supply chains to recession risk and the withdrawal of easy money, are blowing against borrowers, clouding the outlook further.These hindrances are so broad that few companies are able to avoid them. But firms differ widely in their ability to cope. Take inflation. Businesses with rock-solid brands and unassailable market shares, like Coca-Cola or Nestlé, have had little trouble increasing their prices to mitigate rising costs. Other companies—Netflix, for example—have suffered.Such variation in pricing power spreads well beyond consumer-facing sectors: commodity producers in general are much better positioned to face down ballooning energy and metals prices than commodity purchasers. Those commodity producers that are less exposed to Chinese lockdowns—energy firms as opposed to miners, for instance—are better placed still. At the other end lie industries such as carmaking, vulnerable to both supply-chain snags and recession-induced damage to consumer sentiment.This adds up to a minefield for investors, whatever their asset class. For bondpickers, divergence will be further fuelled by a withdrawal of liquidity from the market. On June 1st the Federal Reserve will begin winding down its $5.8trn portfolio of Treasuries; by September, it intends to be shrinking it by $60bn a month. That amounts to the disappearance of an annual buyer of 3% of publicly held Treasuries, whose yields are thus likely to rise. As a result corporate borrowers will have to work harder to convince investors to buy their debt rather than seek the safety of government paper. Such a buyers’ market means more scrutiny of debt issuers, and more variance in the yields they have to offer.Active bond investors—or, at least, those who are any good—will benefit from this renewed emphasis on fundamentals. But they will not be the only ones. Financial markets derive their value to society from their ability to allocate capital to those best placed to make a return on it. A rising tide may lift all boats, but by diluting the incentive to discriminate between borrowers it reduces the efficiency of that allocation. A credit market that makes more of a distinction between winners and losers is one step towards restoring it.Read more from Buttonwood, our columnist on financial markets:Slow pain or fast pain? The implications of low investment yields (Apr 30th)A requiem for negative government-bond yields (Apr 23rd)The complicated politics of crypto and web3 (Apr 16th)For more expert analysis of the biggest stories in economics, business and markets, sign up to Money Talks, our weekly newsletter. More

ON MAY 3RD investors in Chinese stocks woke up to the news that Jack Ma, the co-founder of e-commerce giant Alibaba, had been arrested on national-security charges. Or so many of them thought. State media were reporting that a tech worker with the surname Ma had been detained in the city of Hangzhou. The description seemed to fit that of the billionaire tech magnate, whose companies are based in Hangzhou and have been subject to a regulatory onslaught over the past year. The speculation, it rapidly turned out, was wrong (Ma is a common family name in China). But not before Alibaba shares dipped 9%, temporarily wiping out more than $25bn in the firm’s market value.The incident shows how fragile market sentiment has become in China. Beijing’s unpredictable, often-shocking policy swerves in recent years have made it all the more conceivable that the country’s most prominent entrepreneur could suddenly be accused of attempting to “split the country and subvert the state”. President Xi Jinping’s increasingly ideological campaign to rid China of the Omicron variant of covid-19 is threatening to throttle economic growth this year. His unwavering support for Russia, even as Vladimir Putin commits war crimes in Ukraine, has further fuelled the perception that the country’s leaders, once known for their pragmatism, are faltering.The shift has been punctuated by gloomy comments from prominent experts who until very recently remained upbeat on China. Stephen Roach, the former Asia chairman of Morgan Stanley, a bank, has long defended Chinese policy. But in a recent article in Project Syndicate, an online publication, he said “the China cushion”, the economic might that helped power the world through the global financial crisis in 2008, had “deflated”. Shan Weijian, the chief executive of PAG, a Hong Kong-based private-equity firm, recently told investors the Chinese economy “at this moment is in the worst shape in the past 30 years”, the Financial Times reported.Some use harsher language—and are getting punished for it. Joerg Wuttke, the head of the European chamber of commerce in China, last week suggested in an interview with a Swiss website that China’s zero-covid strategy has put many decision-makers in “self-destruction mode”. Hong Hao, an outspoken analyst at Bank of Communications, a state lender, recently had a Chinese social media account frozen after he published a negative outlook on the economy. He has now left the bank.Much of the darkening sentiment has been focused on Mr Xi’s covid strategy. Closing down Shanghai, China’s business and financial hub, seemed unimaginable only a few months ago. But the city of 25m has undergone a strict lockdown since April 1st. Flare-ups of covid in Beijing and other cities have prompted targeted lockdowns. A regime of testing for the virus is quickly becoming part of everyday life.The costs of controlling the spread of Omicron are becoming apparent. Factory activity has suffered dearly and strains on shipping and logistics are rippling through global supply chains. The central government has mandated that it must hit its GDP growth target of 5.5% but many analysts have downgraded their outlook for economic activity in the country this year. Some economists believe real growth in China in 2022 will only reach 2% (even if official statistics say otherwise).Markets have reflected the gloomy sentiment. The Shanghai Composite Index is down by about 7% in a month. It dipped below 3,000 points in late April, a threshold it had not gone under since July 2020. Investors have dumped yuan-denominated securities at a record pace (see chart).The state is fighting back against plummeting confidence. At a meeting on April 29th the Politburo, a top decision-making body, pledged to increase investment in infrastructure this year in order to boost growth. Leaders also said they would normalise regulation and support the development of internet-consumer companies, such as Alibaba and Tencent. The statement marks the first strong sign of central support for such groups since the start of a regulatory crackdown that began in 2020.Politburo memos are usually released after Chinese markets close. This one dropped while stocks were still trading, leading to a surge in share prices for some tech groups. This was probably done intentionally in the hope of a positive market response amid a sea of doom, gloom and mounting panic. ■For more expert analysis of the biggest stories in economics, business and markets, sign up to Money Talks, our weekly newsletter. More

FROM THE point of view of the 1950s, America’s economic progress over the 70 years that followed has been a huge disappointment. Futurists foresaw a world of super-pills, space farms and cities encased in glass. Science and technology would engineer unending riches and everything consumers could ever want. Yet the speed of gains achieved during the Space Age, it turned out, soon ebbed: between 2000 and 2019 America’s real income per head grew by 1.2% a year on average, down from 2% between 1980 and 1999 and 2.5% in the 1950s. And instead of flying cars, Peter Thiel, a venture capitalist, once jibed, “we got 140 characters”.A new paper suggests such disappointment is not warranted—because it stems from an equally huge misunderstanding of how economic progress happens. Thomas Philippon, a professor of finance at New York University, argues the post-war experience was unusual. Looking at American data going back to 1890 and British data from 1600 to 1914 he finds that, when technological progress is properly understood, the world has been on broadly the same path for centuries. In the grand scheme of things, in other words, there has been no slowdown at all.Most economists’ starting point for thinking about growth is Robert Solow’s 1956 paper, “A contribution to the theory of growth”. Mr Solow’s model for predicting a country’s long-term wealth relies on what he dubs the “production function”. It is a mathematical black box: on one side labour and capital go in; out the other come all the consumer goods and services that contribute to people’s standard of living. One way of growing is obvious: shove more labour and capital into the box. But that cannot deliver improvements for ever. Adding more labour means the output is divided between more workers. And capital wears out, so more investment is needed over time just to stay put.Instead long-term growth can only come from improving the black box—the way in which labour and capital are combined. The fancy name economists give to this is total factor productivity (TFP), though they sometimes refer to it with more intuitive labels, such as technology or knowledge. You might think of it as a recipe. On one side lie labour and capital, the ingredients. On the other is the finished dish: economic output. TFP is an attempt to measure how effective the recipe is at combining the ingredients, which in turn depends on factors including the level of education on offer to the population, the quality of business management and the depth of scientific know-how.Mr Solow assumed that the annual contribution of TFP to GDP would grow exponentially. This may have been for purely mathematical reasons: he wanted his model economy to grow at a fixed rate, of say 2% a year, which required ever larger gains as GDP got bigger to keep the pace of growth constant. Later economists, including Paul Romer, a Nobel Prize-winner, have tried to work out the chemistry underpinning TFP’s presumed exponential growth. Their theories usually contend that some investment goes not into capital, but into research and development. And because knowledge can be freely copied, they observe, this investment has an increasing marginal product, meaning that each prior bit of research makes the next bit of research more effective. Knowledge thus cascades out, creating more knowledge as it does, akin to how a virus spreads in the early stage of an epidemic.The problem, according to Mr Philippon, is that TFP does not actually grow exponentially. Using the most popular data sources for long-term growth, he compares predictions from two different models to observed trends in TFP. A linear pattern—which he calls “additive growth”—consistently fits better with how progress has actually unfolded. Contrary to existing theories, that suggests previous research does not make the next idea any easier to find. It also explains why, as Mr Philippon puts it, some economists keep predicting some future wave of innovation that just never comes.This is not a counsel of despair. While the rate of growth in percentage terms may be slowing, Mr Philippon’s model predicts that the size of any increment is roughly constant. Societies do get richer—but just not as fast as generally thought.Encouragingly, Mr Philippon also finds evidence of moments when the rate of TFP growth does temporarily accelerate and the annual increment gets higher. His paper plots one such moment in Britain between 1650 and 1700, and another around 1830, consistent with when historians date the first and second Industrial Revolutions. He also finds one in America around 1930, which he credits to the adoption of electrification. Such moments only seem to take place about every century or so. But they do help to explain Mr Solow’s mistake: it would have been easy for him, as he was living through one of these periods of acceleration, to fall for the illusion of exponential progress.The ways of growth are inscrutableMr Philippon’s statistical analysis does not speak to TFP’s deeper conceptual problems. One is that capital is hard to value. There is usually a difference between its historical cost, suitably depreciated, and the discounted value of the profits it will eventually produce. Unlike labour, which can be quantified in hours, there is no non-monetary unit with which to value oil rigs and pharmaceutical patents alike. After Mr Solow’s 1956 paper came out, a group of economists at the University of Cambridge showed that its method for valuing capital was circular, a point Mr Solow’s followers conceded. But the model is still widely used regardless.Similar problems bedevil TFP itself. Statistical techniques that try to measure the concept of “knowledge” typically bundle all the variation in growth that cannot be explained by changes in the workforce or investment into the black box. Hence TFP’s other, less flattering name—the “Solow residual”. Rather than a reliable metric of society’s level of knowledge, TFP so far seems to remain, in the words of a Solow critic, a “measure of our ignorance”. ■Read more from Free Exchange, our column on economics:How would an energy embargo affect Germany’s economy? (Apr 30th)Does high inflation matter? (Apr 23rd)What bigger military budgets mean for the economy (Apr 16th)For more expert analysis of the biggest stories in economics, business and markets, sign up to Money Talks, our weekly newsletter. More

THIS WAS not how Rebecca Ego planned to use her law degree. In 2020 she was accepted into a master’s programme in America. It would cost $20,000 after scholarships, a sum she had in the bank. In Lebanon, though, getting money out of the bank is almost impossible: lenders have imposed harsh, arbitrary capital controls amid a financial crisis. Ms Ego was told she could not withdraw her funds.Like hundreds of Lebanese, she sued her bank for breach of contract. The case has languished for two years. One of her banks subsequently shut her account, cashing out her savings in a cheque no other bank will accept. “There’s no legal basis for any of this,” she says. “But there’s no judge who will say that.”For almost three years, Lebanon’s banks have been zombies. The crisis dates to 1997, when the central bank, the Banque du Liban, pegged the pound at 1,500 to the dollar. It sustained the peg by borrowing dollars from commercial banks at double-digit interest rates, a state-run Ponzi scheme that unravelled in 2019.Lebanon defaulted the following year. Losses in the financial sector are estimated at $68bn (130% of pre-crisis GDP). Earlier this year the pound sank as low as 34,000 on the parallel market, a 96% depreciation.On April 7th the IMF reached a deal with Lebanon, which could include a $3bn loan. Before the fund’s board votes on the package, though, it wants the Lebanese government to take steps to restructure the financial sector, such as by passing a law strengthening capital controls. Parliament has dithered on the matter for two years. A vote planned for April 20th was postponed. With parliamentary elections set for May 15th, it is unclear when it might happen.The vacuum has left banks to impose their own rules. Most depositors can access only small sums in pounds. Withdrawals from dollar accounts use unfavourable rates.Local courts offer little relief. The Depositors Union, which represents thousands of savers, reckons there have been more than 300 lawsuits against banks to date. Only a handful have been resolved.Foreign judges have been more expeditious. In December a French court ordered Saradar Bank to pay $2.8m to a customer in Paris. In February a court in London handed down a similar judgment in favour of a Lebanese-British businessman. Bank Audi, one of the lenders ordered to transfer him money, warned that the ruling would lead to “unequal treatment” of depositors.To show its commitment to fairness, Bank Audi has shut dozens of accounts held by British citizens or residents. So has at least one other lender. Depositors say they were offered a chance to reopen their accounts if they signed a contract that waived their right to sue and stipulated they could not make transfers abroad. Otherwise, their balances would be paid out in a cheque, all but useless in a country with a defunct banking system.A few have tried more desperate measures. In January the owner of a café in the eastern Bekaa valley doused his bank’s lobby in petrol and demanded $50,000 from his account. He got his money (his sister says he signed a receipt). Some Lebanese cheered his boldness. Others saw a symptom of everything that ails their country, where force trumps the rule of law.The lawsuits may soon have little effect: the capital-controls law would void them. “It’s like an amnesty for bankers,” says Fouad Debs of the Depositors Union.The government has proposed guaranteeing accounts under $100,000, though depositors may have to wait up to eight years to withdraw their full savings. Larger balances would receive a haircut.Even if Lebanon’s banks escape a legal reckoning, their industry seems wrecked for a generation. Lebanon has become a cash economy. Many businesses no longer accept card payments. The sprawling diaspora, which once poured billions into Lebanese lenders, will probably keep its money abroad. “If we don’t see banks pay the price for what happened,” says Ms Ego, “we can never trust them again.” ■For more expert analysis of the biggest stories in economics, business and markets, sign up to Money Talks, our weekly newsletter. More