There are questions whether creditors especially banks and bond holders are ever going to get paid back. This is a serious problem not only in Europe, but also in China. The only real way that these places can grow is through structural reform, which in far more improbable than most of the experts now expect
Should, could, might, ought, may—all words quite appropriate to reform. Whether it is Greece or China, there are thousands of well-meaning, well-informed people, from the World Bank to the Nobel laureates who have prescriptions for reform. Some might even work. One problem. It won’t happen. Why? Simple, economics. To be more precise, the logic of collective action.
Investors, businesses and ordinary citizens all have invested in the status quo. To protect their interests they form into what Mancur Olson called distributional coalitions, basically organized power groups. These special interests groups come in all shapes and sizes. From hedge funds in the US fighting to preserve favourable tax treatment; striking Italian taxi cab drivers trying to maintain their monopolies or the Chinese Communist Party’s efforts to control everything—they all have powerful economic incentives to prevent change. The probability of reform is determined by the difficulty of restricting these groups. This is no where better illustrated than the problems with Greece.
The usual suspect that stands in the way of reform is the government itself. All governments come equipped with large bureaucracies tasked with running the country. In “for profit” companies these would be called staff positions. They consume revenue. The opposite are line positions, positions that produce revenue. To insure profit and insure survival, companies are constantly looking for efficiencies, which often involve paring staff positions. Governments really don’t die and have few incentives to cut costs, so the bureaucracy’s incentives are to maintain their size or, even better, increase it.
Given these incentives, it is hardly surprising that every bureaucracy tends to be a conservative organization highly resistant to any type of change. Even worse, bureaucracies are a perennial dumping ground for patronage. This is especially true for a relationship based system where favours are the basic currency. The result is that neither the institutions themselves nor the politicians who are nominally in control of them will help either encourage or enforce reform.
Greece is an excellent example. Although the Greek private sector has lost about 500,000 jobs, almost 5% of the total population, the government has lost only 1,000. It has taken the extreme pressure from the so called troika, European Commission, International Monetary Fund and European Central Bank, and threat of withholding billions of bailout money to get the government to merely promise to cut 15,000 civil service jobs.
The bureaucrats not only increase the cost of the state, they prevent reform by diligently enforcing needless regulations. The burden of regulations usually falls on the more vibrant sectors of the economy—small entrepreneurs. These businesses not only help the economy grow, they also create the most jobs. The potential for selective enforcement can encourage corruption as bureaucrats farm their positions for bribes. Countries which lack strong independent enforcement methods are especially vulnerable as one arm of the government protects or conceals malfeasance by their colleagues.
It is not just the bureaucrats who have an economic incentive to prevent reform. Wealthy taxpayers are masters at manipulating the system to suit their needs. The enormous size and complexity of the US tax code is clear evidence of their efforts. In the US though, taxpayers use influence to change the law. In Greece they just ignore it. Not only do self-employed doctors and dentists tax at a lower rate than their secretaries, they actually pay less tax. Since there is so much money involved, tax collection is one of the most corrupt functions of the Greek state.
Elites in the government and the rich are the usual suspects when it comes to groups who have an interest in blocking reform, but they are also joined by blue-collar union members. Civil service state-owned company unions are often the most virulent. Private sector unions at least understand that if they ask for too much, their employers will go out of business. There are no such restrictions for government workers. Their incentives are to manipulate politicians to get the best deal no matter what it costs the rest of the taxpayers.
In Greece they have demonstrated some rather unique ways to prevent reform. The police are normally charged with upholding the law. In Greece the police union threatened to arrest senior government officials leading missions form the International Monetary Fund, the European Central Bank and European Commission. Not to be outdone Greek workers at the state-controlled power company prevented power cuts to customers who don’t pay their bills.
The question of reform is acute for any long-term investor. There are questions all over the world as to whether creditors especially banks and bond holders are ever going to get paid back. This is a serious problem not only in Europe, but in places where you might not consider like China. The only real way that these places can grow is through structural reform, which in far more improbable than most of the experts now expect.
(William Gamble is president of Emerging Market Strategies. An international lawyer and economist, he developed his theories beginning with his first hand experience and business dealings in the Russia starting in 1993. Mr Gamble holds two graduate law degrees. He was educated at Institute D'Etudes Politique, Trinity College, University of Miami School of Law, and University of Virginia Darden Graduate School of Business Administration. He was a member of the bar in three states, over four different federal courts and has spoken four languages. Mr Gamble can be contacted at [email protected] or [email protected]).
Kingsfisher, which has survived with the help of loans from public sector banks and a favourable...
Why the aviation and tax authorities, currently busy sealing bank accounts which have been cleaned out anyways, did not hold the assets back on the ground while they could is unknown. Those aircraft flying the Indian flag and by rights should not have been allowed to leave India to be de-registered and then re-registered till the dues are paid
Probably the most iconic of all aircraft in the Kingfisher fleet was VT-KFA. The first of the aircraft delivered to Vijay Mallya’s then start-up aircraft in June 2005, this Airbus-320, factory serial number 2413, was the toast of almost every photo-op and publicity stunt pulled off and reported on by an adoring media who could not lap up the fine food and raiment on offer fast enough.
It was also part of the package put forward by Kingfisher as “security” when they took more by way of funds from the various Indian banks a few weeks ago. Recall the Rs4,000 crore plus value put on “brand” by Grant Thornton for Kingfisher? Well, the brand just flew out, leaving a big void behind. And our Indian banks now hold a brand which isn’t carried even on its own airplanes.
And now, with the curtains rapidly being drawn on a chapter of aviation in India well and truly funded by the Indian taxpayer, this aircraft looking seriously in need of a bath has been spotted on a “return to leasing company” flight in Dublin. Other aircraft from Kingfisher, still sporting UB and Kingfisher colours, have been spotted at other exotic refuel and refit locations as far apart as Shannon/Ireland and Vancouver BC/Canada, doubtless due for a quick repaint and then redeployment elsewhere in the world—maybe even back to India in somebody else’s livery.
The only way to track such aircraft is by the manufacturer’s serial number which in effect does not do anything for the rights of the entities who are owed dues, whether taxes or debts, anywhere in the world. In other words, the aircraft which owes you money could be right in front of you with a brand new registration, and you won’t be able to do anything about it.
How did this happen, were the Indian authorities as always asleep while the planes were being flown out of India, or is it something deeper?
The Internet is now full of photographs of Kingfisher aircraft popping up at locations globally, repossessed by leasing companies, but how did this happen—was the Directorate of Civil Aviation (DGCA) asleep, or hiding behind legalese suited more to let assets escape from India?
We don’t know. We do know, however, that these aircraft were purchased by Kingfisher using public money. They were then sold to leasing companies, which are one line post box numbers behind doors in tax havens, deeply hidden behind corporate veils but certainly provided with banking guarantees by foreign banks and their secretive methods. These sales were then booked as ‘profits’, which looked wonderful on balance sheets, and more money was then raised by selling equity at a premium to the Indian banks and public. Again more taxpayer money.
Meanwhile, the lease rentals were paid in such a way that the aircraft manufacturer kept getting his instalments and the tax benefits of paying lease payments were written into the books in India. And, as though by magic, the same airplanes were shown as assets to take yet more loans. Until one fine day they vanished from India, by a stroke of a pen, deleted from the Indian registry.
Very simply, think of it this way—you take a loan from your father to buy a car. Next day, you sell the car back to a leasing company which provides you with the cost of the car, and blow up the money in a series of big parties. Meanwhile, you keep taking more money from your mother to pay the loan back to your father, both of whom do not know that the car is not in your name anymore. After some time, you stop paying the leasing company the money, and ask your father for more money to buy petrol-tyres-battery and pay the driver, showing your father the family name painted on the side of the car as proof and collateral. On the weekend, when your mother and father have gone to the temple, you sell the car in cash to some new buyer who you have fooled, and then while he is not looking, drive it out of the back door and return it to the leasing company—who repaints the car and rents it back to you. At which point when your parents return from the temple, the new buyer demands a car from them, which now they have to provide. And if it is not confusing so far, at that point you bring the same car again but in a different colour with a new registration, and charge your parents for providing the same car to the new buyer.
Now, and this is the twist in the tale—the leasing company in the first case belonged to a politician friend of yours who had salted the money stolen from your parents. Remember, the aircraft manufacturer has to be paid, in time, always. So what you have to do is to keep pilfering money from wherever possible, preferably your parents, so that the leasing company keeps getting enough to pay the aircraft manufacturer. And to do that you have to make sure that your politician friend keeps the law and the taxman away from you in your home country.
At the end of this cycle, you now own an aircraft free of all liabilities, you also own the leasing company, you have a good history with the manufacturer, you have huge palaces and yachts and vintage cars and more all over the world, and your parent’s name is mud—so all you do is change your surname or the way it is spelt, and start again.
The big problem here is the complicity of the authorities in India. Why the aviation and tax authorities, currently busy sealing bank accounts which have been cleaned out anyways, did not hold the assets back on the ground while they could is unknown. Those aircraft flying the Indian flag and by rights should not have been allowed to leave India to be de-registered and then re-registered till the dues are paid, which due diligence is the job of the leasing company and bank abroad.
Meanwhile, on a personal and sentimental note, goodbye VT-KFA. I got a feeling we are going to see Airbus 320 manufacturer’s serial number 2413 again, in India, as something else, soon.
(Veeresh Malik started and sold a couple of companies, is now back to his first love—writing. He is also involved actively in helping small and midsize family-run businesses re-invent themselves. Mr Malik had a career in the Merchant Navy which he left in 1983, qualifications in ship-broking and chartering, a love for travel, and an active participation in print and electronic media as an alternate core competency, all these and more.)