Metro is the first Western retailer to tackle a fundamental problem facing Wal-mart and other retailers trying to enter India today: how to stock their huge supercenter stores with produce that must travel India’s rough roads, in outdated trucks, and that come from farmers, shepherds and fishermen who use techniques from a century ago.

So how does Metro address the supply chain issue, and indeed improve quality of produce delivered? They go back to basics.

For instance, Metro sent managers to visit shephards, to show them how to vaccinate their herds, treat the animals for sicknesses, and even imported British sheep to breed with “their skinny Indian counterparts”. It provided basic lessons for vegetable farmers: “don’t water spinach the night before it is picked; don’t place cucumbers on the ground after you pick them; pack in crates instead of burlap bags; and don’t store onions in warm warehouses.” Metro also cut out the middlemen by sending its own truck drivers to collect directly from farmers, and started checking if ice cream had melted by delivery to ensure suppliers did not turn off the refrigeration to save gasoline.

The Benefits of Metro & Walmart 

Despite protests by the retail lobby, the entrance of large retailers is to be welcomed - and this article illustrates why. The dismal state of India’s agricultural supply chain is well documented. It is a story of poorly trained small-scale producers, inefficient government controlled markets, and a mostly non-existent supply chain. Fixing such a system is impossible because of the diversity of players and interests involved, and the scale of investments required - which no existing player would be willing to make. The only solution, therefore, is to create a parallel system. That is what these retailers do - they create parallel markets and have both the incentives to improve those markets and the financial wearwhital to make the necessary investments.

Fixing Agricultural Value Chains: Lessons for Development

There is an interesting contrast here with my experience at the UNDP in Kenya. Agriculture was, not surprisingly a recuring theme of most projects and much development funding. Two projects, in particular, stand out. In the first, USAID funded technical assistance training aimed at helping farmers improve crop productivity. Another, funded by the government, purchased a fleet of refrigerated trucks to build a cold chain.

The first project, did indeed, improve crop productivity. But its success was qualified by its reach - the project remained restricted to a small part of Kenya. USAID had neither the funds nor the incentives to expand the scope of the project. And with improved productivity not always tied to higher prices for their produce (since the market had not changed), farmers had fewer incentives to stick to new practices.

The second, government funded project, can only be described as a complete failure. When I left Kenya the entire fleet remained mostly in the garage while the attached sorting facility was a white elephant - used on occassion by local fruit suppliers, but wearing a deserted look on most days.

The lesson is clear. When the entire supply chain is so badly damaged, fixing bits and pieces of it is not an option. Better to let Walmart, Metro, and whomever, to build their own systems, than to languish with the existing system. The benefits to almost everyone will far outnumber the losses to the few.

That said, the field is not well understood, with a lot of hype reminiscent of the dotcom bubble. Two articles today shed a skeptical light on the sector.

In an oped titled “Global Warming, Inc.“, the Wall Street Journal takes a skeptical view of the alternative energy industry, arguing that the hiring by Kleiner Perkins of Al Gore suggests the industry does not really have an economically sustainable model, and remains dependent on government subsidies:

Nope, but then again alternative energy has never fit the usual venture model. Jack Biddle, co-founder of Novak Biddle Venture Partners, says there’s a reason few start-up companies try to build commercial jetliners. “Large, complex systems with slow deployment cycles do not play to venture’s strengths. The whole idea with venture-backed companies is speed, speed, speed.” Mr. Biddle says the size and complexity of energy systems “make 787s look like tinker toys. You need lots of capital, lots of time, lots of people.”

Which leads us to suspect that maybe Mr. Gore has been hired by Kleiner Perkins for more than his technological knowhow, investment acumen, or global vision. His new partners may have hired him for the more prosaic task of getting 60 Senate votes to keep those taxpayer greenbacks coming.

In a separate article, CNET asks why First Solar stands alone (for background, read how its stock went from $20 to $220 in one year)? Among the many conclusions, is one relevant to this discussion:

Patient Investors. John Walton, of the Walton family fortune, was an early investor and stuck by the company through the very difficult early years. Interestingly, Myers noted that none of the big solar success stories have been emerged from the usual Silicon Valley path of being fostered along and funded by VCs, which usually want a return after five years or so. Instead, these companies have taken years to incubate.

When the dotcom bubble burst, all the venture capitalists needed a new place to park their money. Luckily, climate change happened and cleantech became the new dotcom (see chart, and this post on evolution of the issue). But these articles suggest that venture capital may have to tweak its model, to accommodate longer innovation cycles, if it is to truly address the issue (of energy efficiency and use), rather than simply make use of subsidies. It also means that public policy will continue to be important, and developing countries risk being left out of the innovation cycle, if they are not aggressive in encouraging innovation in the sector.

Update: Separately, Cleantech.com reports (also on CNET) that OPEC nations have put up USD 750 million for a cleantech venture fund.

A proposal to force firms to hire more workers from the dregs of Hinduism’s caste system (see article) would be different. It would be a disaster…

Extending into the private sector a policy that has been a disaster in the public sector is lunacy.

The Economist is a bit late to the party - this controversy has been around for a year. But this coverage is notable because it comes from a publication better known to cover US and European domestic politics. And if the Economist’s criticism of the policy proposal is unequivocal, it is not without explaining the real problem and the real solution:

Reservations in companies would not just damage business. They would also distract attention from the real source of the problem. Responsibility for lower castes’ lack of advancement does not lie with the private sector. There is no evidence that companies discriminate against them. The real culprit is government, and the rotten educational system it has created.

Originally, reservations were supposed to be needed only for a decade. After that, it was reckoned, they would be unnecessary, because primary education would be universally available. Nearly six decades on, it is not. And the quality of much of India’s higher education is execrable. By one reckoning, only a quarter of engineering graduates, the raw material of a booming computer-services industry, are employable. The government should concentrate on sorting out schools and universities, not piling new burdens on business.

There’s another effective weapon against ancient prejudices: growth. As Indians get richer, their caste biases fade. Middle-class urban Indians are less likely to marry within their caste than the rural poor, and less likely to wrinkle their noses at a dalit. Happily, the ranks of the middle class are swelling in a fast-expanding economy—for which India has its businessmen to thank. Hobbling them with quotas will only make it harder for them to help the country change.

Well said, all around.

What section 3(d) actually does is to allow genuine improvements and at the same time bar frivolous ‘tweaking’ which are passed under the garb of incremental innovation.

In this regard, section 3(d) is trendsetting provision as it is the first legal provision in the world not to be found in the patent legislation of any country, which provides a check on frivolous patenting.

Incremental enhancements that do not really do anything and have been one of the many banes of intellectual property law. They grant monopoly power without any significant innovation, and thus act as an incentive to drive R&D towards such enhancements rather than truly pathbreaking drugs.

Meanwhile, Kaiser Daily is reporting that a patent application in India for its antiretroviral drug atazanavir was considered “abandoned” by the Indian Patent Office, after Novartis failed to respond to inquiries within the alloted time. Curiously, Novartis India seems to have no clue about the application, which may have been “filed by the company’s international arms.”

Combined with the news that Novartis may be moving significant investment out of India - either out of genuine concern for protecting its intellectual property, or for retribution - this seems to suggest Novartis is now clueless about what to do in India. It clearly is not going to get exactly the patent regime it is used to elsewhere. But considering India is likely to be one of the largest drug markets in the near future, will it it adapt, or die?

The first, is for 530,000 tons of wheat, announced a week ago. Imports by India, along with Japan and Taiwan have pushed wheat prices to record highs on the Chicago Board of Trade (see chart). This import of wheat is ironic, for just a year ago India was expecting a bumper harvest and hoping to stop wheat imports. Poor rainfall, however, has reduced government stocks by 30% - requiring the government to import more, and banning futures contracts on wheat to reduce speculation.

The question to ask, of course, is why the government is involved in this process? Sure, by issuing such huge tenders the government can theoretically gain more bargaining power. But that power is usually used to the benefit of corrupt officials, not to get a lower price for the country. Besides, the presence of the government in domestic procurement and distribution are so egregious as to make any price advantage irrelevant. It is the presence of the government that leads to a botched agricultural supply chain, leading to collosal waste, monopoly of the government over markets that makes them inefficient, and higher prices for produce that encourages farmers to stay farmers and consumers to pay more.

The second big contract is for 126 fighter jets, to upgrade India’s aging Air Force. This is the biggest defense contract to have been announced in the last 15 years, and you can see the Americans and Russians drooling. In the running are Lockheed Martin and Boeing from the USA, MIG from Russia, and fighters from France, Sweden, and Europe. This should be an interesting and close race. In this case, the government’s role is somewhat more beneficial to the country. While a lot of officials in the Air Force and Defence Ministry will get rich over this, a good 30-50% of the final value of the contract will have to be sourced from India, and 108 of the fighters must be built in India - providing a good fillip to the nascent Indian defense industry.

The problems Karnani cites are well known, and were pointed out years ago by Thomas Dichter, among others. People take microfinance’s poverty alleviating characteristics as fact - so much so that nobody has really studied the phenomenon. Those that have, says Karnani, find the impact on poverty is not as unambiguous - and he quotes several studies:

One of the most comprehensive studies reaches a surprising conclusion: Microloans are more beneficial to borrowers living above the poverty line than to borrowers living below the poverty line. This is because clients with more income are willing to take the risks, such as investing in new technologies, that will most likely increase income flows. Poor borrowers, on the other hand, tend to take out conservative loans that protect their subsistence, and rarely invest in new technology, fixed capital, or the hiring of labor.

Microloans sometimes even reduce cash flow to the poorest of the poor, observes Vijay Mahajan, the chief executive of Basix, an Indian rural finance institution. He concludes that microcredit “seems to do more harm than good to the poorest.”

The failure of microfinance to bring people out of poverty should not be surprising, except to those deafened by its hoopla. People below the poverty line simply “do not have the skills, vision, creativity, and persistence to be entrepreneurial. Even in developed countries with high levels of education and access to financial services, about 90 percent of the labor force is employees, not entrepreneurs.” Indeed, Thomas Dichter made a similar point, pointing out:

The microcredit paradox is that the poorest people can do little productive with the credit, and the ones who can do the most with it are those who don’t really need microcredit, but larger amounts with different (often longer) credit terms.

Karnani’s Solution: Jobs, not Microcredit

Karnani - as you may remember - previously challenged C.K.Prahalad and his “Bottom of the Pyramid” theory (see also NextBillion). He, of couse, has his own solution - creating jobs through encouraging labor intensive industrial production. The PDF of his article is worth reading, for it shows how poverty declined rapidly in China, but not India and Africa - largely due to such growth.

Yet my analysis of the macroeconomic data suggests that although microcredit yields some noneconomic benefits, it does not significantly alleviate poverty. Indeed, in some instances microcredit makes life at the bottom of the pyramid worse. Contrary to the hype about microcredit, the best way to eradicate poverty is to create jobs and to increase worker productivity.

To understand why creating jobs, not offering microcredit, is the better solution to alleviating poverty, consider these two alternative scenarios: (1) A microfinancier lends $200 to each of 500 women so that each can buy a sewing machine and set up her own sewing microenterprise, or (2) a traditional financier lends $100,000 to one savvy entrepreneur and helps her set up a garment manufacturing business that employs 500 people. In the first case, the women must make enough money to pay off their usually high-interest loans while competing with each other in exactly the same market niche. Meanwhile the garment manufacturing business can exploit economies of scale and use modern manufacturing processes and organizational techniques to enrich not only its owners, but also its workers.

A Good Idea Gone Worse: Markets Trump the State

Karnani makes a lot of sense. Microfinance may have some non-economic benefits but it has been hijacked by “development experts” and “grassroots NGOs” to expand their legitimacy, and become something it never was intended to be. He is equally critical of Prahalad, who in his opinion “glosses over the real issue” - the failure of government and public service - by urging companies to provide consumer goods when what they need are the fundamentals:

Why do poor people accept that they cannot expect running water? Even if they do accept this bleak view, why should we? Instead, we should emphasize the failure of government and attempt to correct it. Giving a voice to the poor is a central aspect of the development process.

That is the key here - the development process. In that sense, the hoopla around microfinance and markets is doubly egregious - for it encourages a blind belief that markets will solve the world’s poverty issues by themselves. They will not. Indeed, by promoting microfinance, and micro entrepreneurs, the hoopla might make things worse, by encouraging economic activity well below economies of scale.

For too long, the world has naively believed that microfinance alleviates poverty. A nobel peace prize and several hundres of millions in private capital have been dedicated to the cause. Yet, the cause is ephemereal. The reality of microcredit is less attractive than the promise, and “even The Economist is beginning to realize it”. Time the well informed development expert, philanthropist, and policy maker focused on something real.

There are two similarities between the poor in the US and the poor in the rest of the world. First, they don’t make much money. Second, everyone wants to lend to them. This article gives plenty of food for thought, for why that may not be such a good thing - not as a business, but as a way out of poverty.

A Question of Choice

Some support credit based on the faith that the market knows best. Credit - even expensive credit - allows the market to function, and is better than no credit at all simply because it increases choice. Much the same argument is made by C.K.Prahalad, in support of the Base of the Pyramid theory - which extols corporations to see the billions of poor as consumers:

Nobody, poor or rich, is compelled to pay a high price for a used car, a credit card, or anything else…”The only feasible way to run a capitalist society is to allow companies to maximize their profits,” says Tyler Cowen, an economist at George Mason University in Fairfax, Va. “That will sometimes include allowing them to sell things to people that will sometimes make them worse off.”

Even if one were to accept the superiority of free-markets (not a given), this argument has a flaw. The theory fails because low-income consumers - and the poor in developing countries - do not live in perfect markets. Rather, they live in markets that are imperfect and subject to asymmetric information. The result is exploitation, and a choice that can be often illusory, and sometimes dangerous:

A public housing administrator who reviews tenants’ tax returns pointed out to Thomas that Jackson Hewitt had pared $453, or 10.4%, in tax-prep fees and interest from Thomas’ anticipated refund. Only then did she discover that various services for low-income consumers prepare taxes for free and promise returns in as little as a week. “Why should I pay somebody else, some big company, when I could go to the free service?” she asks. The lack of sophistication of borrowers like Thomas helps ensure that the Money Now loan and similar offerings remain big sellers.

Cheap Credit
Another argument for microcredit is that it is cheaper than the alternative - a moneylender. In America, there is no equivalent, so low-income credit is indeed the only alternative. But is it really cheap?

Not quite. If anything, credit has become more expensive:

Federal Reserve data show that in relative terms, that debt is getting more expensive. In 1989 households earning $30,000 or less a year paid an average annual interest rate on auto loans that was 16.8% higher than what households earning more than $90,000 a year paid. By 2004 the discrepancy had soared to 56.1%. Roughly the same thing happened with mortgage loans: a leap from a 6.4% gap to one of 25.5%. “It’s not only that the poor are paying more; the poor are paying a lot more,” says Sheila C. Bair, chairman of the Federal Deposit Insurance Corp

The microcredit market is still new, but one sees a similar trend there. As access to credit has expanded, institutions have grown and tapped commercial capital. That capital seeks market and risk-adjusted returns. Those returns can only come at the cost of more expensive credit - and poorly informed consumers.

The Myth of Enterprise & the End of Poverty

Finally, the diehard also believe that microcredit helps start new sustainable businesses. By some miracle, the developing world’s poor are an army of entrepreneurs, seeking capital to start sustainable and profitable businesses, that will pull millions of microcredit customers out of poverty. Yet, evidence suggests microcredit does not go to start enteprises, but to smooth consumption. And that is a road that is just as likely to lead to indebtedness, as to riches:

She graduated in 1992, owing $45,000 on student loans. That debt became her main financial burden, she says. The 9.5% interest rate isn’t particularly steep, but she tended to view the payments as less pressing than putting food on the table or paying rent. Late fees piled up. Today she owes $159,991, up from $117,000 only 18 months ago. When dunning notices arrive, she tosses them in the stove.

There is no reason to believe that the poor in America are any less entrepreneurial than their developing world bretheren. So if credit - cheap or not - has not saved the former from poverty, is there reason to believe it will save the latter, who have substantially fewer skills and opportunities?

Calling a Spade a Spade: A Good Business

Low-income consumers in the U.S. are an interesting case study for microfinance proponents worldwide. Because credit by itself doesn’t seem to be helping them. “Instead of becoming an opportunity for upward social and economic mobility, it becomes a debt trap for many trying to move up,” according to Nouriel Roubini, an economics professor at New York University’s Stern School of Business.

There is a lot of money involved here. According to Stephens Inc, such “alternative financial services” totals more than $250 billion a year. Still, let stop pretending that credit will save the world and its poor. It hasn’t yet in a country where it has been plentiful for a long time. This is a business, and microcredit an industry. Like all businesses, it will help some and make others worse off. Let us figure out what to do with the latter.

The Economist also opines that this is good for the patent system, which was getting bogged down by frivolous patents and infringement claims over simple improvements. It also traces the history of what qualifies as “non-obvious,” suggesting that it was the US Congress that loosened the standard from “flash of genius” (set by the Court in 1941) to anything beyond “a person having ordinary skills”.

This is a useful development, and one with potentially far-reaching implications for loosening pharmaceutical patents worldwide. The most immediate impact, reported extensively by BusinessWeek is on the high-tech industry, where patents are already being challenged.

But at an international level, and in the field of pharma, the most immediate relation can be seen to Novartis’ challenge of the Indian patent law. Novartis’ Gleevec patent was rejected in India on grounds that the drug was simply a minor modification. In response, not only did Novartis challenge the patent decision, but the patent law itself, calling it “a breach of international law”.

That argument is now under threat. For if the U.S. Supreme Court ruling were to be referenced in India, Novartis could no longer pursue its line of argument when the U.S. itself seems to have rejected it. Taken further, this ruling could become a global standard in establishing what is “non-obvious” or “novel”, dealing a major blow to the pharma industry.

That would prevent the industry from patenting incrementally modified drugs, causing it to loose significant revenue. But then, the industry would be forced to do something truly innovative. For society, and for industry too, that may actually be a good thing.

Update on Novartis’ Legal Challenge

Two related recent news items on the Novartis challenge:

1. IP-Watch reports the case has been fast-tracked in India, and may be resolved very soon.
2. Reuters reports that the Indian government asked Novartis not to proceed with its challenge, in April.

Recognizing the need for a new rural payments system, in August 2006 the People’s Bank of China directed domestic banks to devise a solution. China views the development of a low-cost, noncash payment network in rural areas as critical to increasing rural spending and closing the wealth gap with urban areas.

An SMS-based payment system, aside from its lower cost, is versatile and ubiquitous. Users simply send an SMS message specifying the mobile-phone number of the payee and the amount to transfer, along with a personal identification number. Within seconds, the payee receives both a confirmation message by SMS and the money in the designated account. The payer receives a confirmation message.

Now if you’re in the finance, mobile, or development businesses, you already know that McKinsey is rather late to the party. See for instance posts at the FP Blog by Christine Bowers, the PSD Blog, infoDev, and NextBillion. Still, it is McKinsey talking so I guess we should listen - or in this case read.

Adam Smith is, of course, known as the father of modern day economics, and regularly quoted for his words supporting the free-market and “the invisible hand”:

lt is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest. We address ourselves, not to their humanity but to their selflove, and never talk to them of our own necessities but of their advantages.

However, that quote presents only a part of the whole picture. Adam Smith came to economics as a moral philosopher, with views on political economy. Therefore, large parts of his book - The Theory of Moral Sentiments - deals with ethics, morality, and the role of government. Of course, the neoliberals conveniently leave that out.

The result is an economic theory devoid of any conception of morality, ethics, equality, or justice, something never intended by Adam Smith. The weakness of that mutual exclusion of ethics and economics is discussed in detail by Amartya Sen in his book “Ethics and Economics”. He too, brings out in stark contrast, what Adam Smith originally intended. Yet, rather than address this gap in economics, teachers of economics are content to circumvent the weakness simply by saying economics deals only with the positive, not the normative.

There is a problem with holding this limited view of economics. I may not be greedy but if I believe others I transact with are, then I too must act greedy to ensure my survival. Conversely, if I do not act solely in my self-interest I risk loosing to those that do, and in the evolutionary chain of events will be relegated to irrelevance. In essence, this interpretation of economics - of being based on self-motivated individuals - is a self-fulfilling prophecy. Over time, it would turn a theory of how the world works, into the reality of how the world works.