A road to converting NPAs into equity: Financial Express 12th June 2015

Strategic debt restructuring (SDR) seems to be the way out for lessening the weight of the Corporate Debt Restructuring (CDR) system. As of March 2015, total live restructured debt was Rs 2.86 lakh crore. This amount was 4.6% of outstanding bank credit at the aggregate level. However, assuming that restructured assets would be primarily in the manufacturing sector with limited exposure in the services segment (around 5% of total), the ratio is 10.7%. As most of the projects are inherently viable, but have run into rough weather due to unfavorable economic developments or managerial inefficiency, RBI has drawn up a scheme for lending banks to convert such debt into equity and offer the same for sale.
In brief, the SDR scheme involves a clause to be put in the debt restructuring agreement stating that there would be some minimum standards achieved and maintained in the financial ratios within a limited period of time. If the company is unable to fulfil the same, the Joint Lenders’ Forum (JLF) can opt to convert a part or whole of the debt into equity to take ownership to the extent of 51%. Such an act will adhere to all the rules that have been laid down by Sebi and RBI relating to conversion to equity/equity-holding by banks, etc, with some exemptions—like obviating the need to make an open offer or mark-to-market the securities periodically—being provided. Various conditions have been clearly put on the approvals required within the JLF entities, approving the same and the time lines for compliance, etc. So, how good is this scheme?
SDR will first put additional pressure on the promoter to perform because prolonged default will lead to her losing control of the enterprise. The fear of losing control in the eventuality of an absence of a turnaround will motivate the management to act and not just sit back. Therefore, it acts as a check on the company’s efficiency. Today, there is a moral hazard in the system, where the borrower, especially if the amount involved is large, has an upper hand when it comes to non-repayment when she knows that the bank will try as far as possible to accommodate the defaulter—otherwise, a provision has to be made, which puts a dent in the bank’s books. By having this clause and setting strict time-limits, the borrower will be forced to do her best or face the eventuality of losing control of the entity.
Second, the bank is able to offload such debt for which it has to now make provisions by converting to equity, and this is good for the system as a whole. This will be a good exit route, especially when projects look unviable and involve large sums of money. While infra projects come to mind, this would also hold in sectors such as steel, textiles, aviation and mining, which have been noted as being the more vulnerable sectors in terms of asset quality.
Third, SDR has a provision for the JLF selling off its stake to a new promoter who is not related to the existing one directly, in which case the asset can be treated as a standard one. Here even foreign investors could come in within the existing FDI limits that are permissible. This way, the banks would be better off, especially if they can sell at a higher price.
However, with banks looking at ownership, there will be a challenge for them if they are to run the company with a 51% stake. Their own core competence and expertise is in the area of finance, and having their own management run the entity would be difficult. The RBI circular does talk of the need to offload this equity as soon as possible as it is recognised that this cannot be a function of the bank. Banks are supposed to be protective investors and not active ones.
Similarly, even selling to a new promoter would require time, and selecting the right one—one that will continue to service the debt—involves some degree of uncertainty. Therefore, banks involved in the JLF will have to necessarily have separate teams to deal with these issues and, internally, have their own rules of engagement on these issues given that the scale could be high as every case would have to include such clauses of strategic restructuring.
The impact of SDR will be felt, to begin with, for the existing assets that are being restructured. At present, it may be tough to guess as to whether the banks will be better off or would be able to recover the amounts due, relative to offloading them with asset reconstruction companies as in the case of NPAs. Normally, distressed companies would have a lower market value as their earnings dip. The clue will lie in the difference between the conversion of debt into equity at a given price and the price at which it can be offloaded to a new promoter. The time consumed in the same can be significant and once the formula for eventual sale is announced, one can gauge the net gain or loss for the bank.
The impact is likely to be better felt on the promoters who are facing problems as they would have to take this factor into consideration when going in for any restructuring as they risk losing control. However, the less serious players may just find this an easy way to get off a mess when they take on high-risk projects and, hence, the JLF should be watchful of such cases.
Going ahead, if this works, it can be considered for also regular NPAs of a certain size with all lending agreements carrying such a clause of possible conversion of debt into equity in case of non-payments. This can be effective in tackling the growth of NPAs, especially when the business cycle turns adverse.

Expect no more cuts for now: Financial Express 3rd JUne 2015

question that will be still be asked is whether the 25-bps cut in rates RBI announced yesterday could have been a 50-bps one, given that, with inflation at just a little above 5%, the real interest rate is still close to 200 bps—higher than what RBI has been speaking of. However, RBI appears to be very circumspect on future inflation even though it admits that the conventional relationships between monsoon, farm-output and inflation have not always held in the past. It has hence pitched for caution when indicating its outlook and probably imbibed this factor when taking a call on interest rates.
However, RBI’s reaction—through the repo rate changes—have been quite difficult to understand, considering that since the start of 2015, the economic conditions have been virtually unchanged. Inflation has been coming down continuously with growth showing signs of a pick-up. In fact, the WPI-inflation number has come down to all-time lows. The risk of future inflation, though, has always been there with the unseasonal rains creating concern right at the start of this year. The IMD forecast of a sub-normal monsoon this year has cast a gloom on the prospects for kharif crops.
Further, the known uncertainty has always been the Federal Reserve increasing key rates, depending on the recovery in the US and the threat of inflation surfacing again. However, with the growth scenario across the Atlantic getting fuzzy, it looks like a Fed rate-hike is still some time away. Yet, RBI lowered rates twice out of cycle and chose not to do it at the policy review in April. But, this time, it has lowered rates. This has made anticipating policy changes that much tougher. While the markets have been making guesses about RBI’s moves even in between policies, especially after the CPI inflation numbers come out, the same has increased even for the policies where one has to conjecture RBI’s interpretation of the apparently similar economic numbers in another time context.
The inference which one can draw from the latest rate-cut is that this could be the last one for some time, and if at all there are further cuts, they will be contingent on how the inflation number behaves. This also means that we need to track the monsoon carefully to gauge what could be going on in the mind of RBI. Add to this is the uncertainty of the oil prices in global markets which have been showing some upward proclivities in recent times, and it could mean another dosage of inflationary expectations. This can be a dampener for future rate cuts.
The rate cut of 25 bps should, hopefully, be transmitted by banks to the consumer if it has to have any meaningful effect. In the past banks have been quicker to lower deposits rates, but have been less flexible on the lending side, which may be partly attributed to perceived higher credit risk in the light of the growing NPAs. Last time, the banks had followed RBI’s rate cut, but it was more due to the strong statements made by Governor Rajan in his speech.
This time, he has not made such overtures, and while several bank chiefs have said that it will be left to their ALCOs to decide, one hopes that they do lower rates for any impact to be there on the growth process. Interestingly, RBI has pointed out that the markets have been reacting to its rate actions with more alacrity compared to the banks, as evident from the movements in interest rates in the CP and CD markets. This can, going forward, induce competitive spirit among banks which can drive down lending rates in the course of time. Last year, there was also a tendency for corporates to take recourse in the CP market as against conventional bank credit.
However, even on the deposit side, banks will have to assess their own requirement for funds through deposits relative to projections in growth in credit before they decide on lowering these rates. A consideration for banks will still be the rate of interest offered on small savings. Today, deposits yield between 8-8.5% for a tenure of more than one year. With these small savings offering higher rates, there could be a challenge in attracting deposits if rates are lowered any further. This can be a serious consideration for banks when taking a call on interest rate changes.
At an ideological level, an issue to be resolved is: How forward-looking should the monetary authorities be? While future inflation or inflation expectations are important, should monetary policy action be more flexible? There are two thoughts here. The first is that, as we have 6 policies anyway every year, with RBI having the prerogative to intervene anytime, rates can always be increased in case inflationary conditions change. In fact, even in the current context, the market cannot rule out a rate increase in case the monsoon turns out to be adverse, thus increasing prices substantially. RBI has maintained that it would not like to do one thing today and reverse the other tomorrow.
But then monetary policy cannot be looking in only one direction and has to be amenable to fine-tuning.
The second is that, as RBI has stated that poor monsoons may not necessarily lead to higher inflation, are we hurting ourselves or delaying the recovery process by assuming the worst when taking a call on rates? This is worth ruminating over.

Well Begun Is More Than Half Done: Business World , 18th May 2015

Contradictions do not exist. Whenever you think you are facing a contradiction, check your premises. You will find that one of them is wrong.” — Ayn Rand

Evaluating the performance of any government in its first year of rule is normally based on the expectations that were generated, either rationally or otherwise, when it had taken over. If the expectations were too high, the assessment could be overtly critical, if not cynical. A government can only play its role in resuscitating the economy and cannot be the be-all and end-all of the prescription.

The role of the State in a market-oriented economy like ours is to create an enabling environment in two ways. This can be done by formulating the right set of policies to encourage investment, which also includes provision of an administrative set-up that eases the process of doing business. The second way is to provide the right fiscal signals on both the revenue and expenditure fronts, along with tax reforms and directed expenditure that enhance growth. In terms of these measures, the current NDA government has performed commendably, achieving what the State can practically do.

At the same time there are limitations to what any government can deliver and hence, finding statistical correlations — either positive or negative — though an interesting exercise, can lead to erroneous readings.

In terms of policies, the government has done everything right. It has cleared projects that were stalled for the last few years. While the previous government did this too, macroeconomic conditions have to change significantly to drive projects full steam. Second, successful coal auctions are important as they solve two bottlenecks — issues relating to mining and power generation — in one stroke.

Third, labour laws in terms of administrative issues have been tackled through changes in regulation to ensure employees are not harassed.

Fourthly, the issue of land, though still far from being resolved, is at the stage of active debate where a reconciliation may be expected in time from the various constituents. Fifth, the passage of the bills for getting foreign direct investments (FDI) in railway infrastructure, defence equipment and enhanced levels in insurance was a major step in the last year. Finally, signing of the pact between the finance ministry and the Reserve Bank of India on the conduct of monetary policy means there will now be less controversy surrounding the motivations of interest rate policy.

The government’s ability to contribute to growth is through the Budget. The July FY15 Budget lacked any clear avenues of spending; it was more a case of putting the house in order. But the FY16 Budget shows more spirit in terms of making the expenditure more effective, with the focus on spending on projects. Given that the Finance Commission has provided for higher allocations to the states, this implies that the Centre has kept only some flagship programmes within its purview — like the NREGA — and passed on the social welfare programmes to the states. This makes sense as most of what happens at the ground level has to come from the states and further, from the urban local bodies and panchayats. The real test is whether the government would be able to adhere to its capital expenditure targets. Quite significantly, the fiscal deficit for the next year is pegged at a pragmatic 3.9 per cent of the GDP, which means there is scope for some stimulus in these numbers.

Caution, however, has to be exercised on two fronts before showering praises. First, the concept of Make in India is a broad theme the government is working with. While there have been debates on what this initiative means, the fact is that this theme or slogan is a broadsheet for attaining goals across sectors. The steps the government has taken to ensure ease of doing business and enable reforms should help realise this dream. But there are no specific allocations in terms of money, incentives or reforms to make this broadsheet happen and hence, the two cannot be linked. The response has to come from the private sector.

Second, in terms of economic numbers serendipity has contributed to better performance. The revision of the GDP methodology has not found any takers, causing some embarrassment for the government, when we argue now that the economy is better off, and was so, even in FY14, even though that was probably one of the lowest points in our contemporary economic history.  Inflation has cooled down not because of higher interest rates or productivity but a chance crash in global oil prices and a high base effect for agricultural commodities that now manifest in lower prices. Lower prices of onions and tomatoes —high prices of which, in the past, were the culprits for high inflation — cannot be credited to any authority.

Similarly, a stronger current account deficit is the result of a drop in oil prices leading to a fall in imports. But the fact that exports have also declined means this is more of a statistical phenomenon rather than economies in use of imports, and a definite push or enhanced demand for exports. Higher forex reserves are due to excessive liquidity in the market due to quantitative easing programmes all over, which have helped emerging markets, including India.

Speaking dispassionately, the government has done very well on what may be practically expected from it. Maintaining focus on incomplete themes that require legislative acquiescence, reinforcing an efficient bureaucracy and spending appropriately on capital projects will, more realistically, embellish the performance parameters in FY16. 
- See more at: http://www.businessworld.in/news/economy/india/well-begun-is-more-than-half-done/1852323/page-1.html#sthash.vlsAAWmZ.dpuf

Evaluating the risk factors of FY16: Financial Express: May 24, 2015

Fiscal 2015 was a good year from the point of view of economic risk being minimised due to a combination of factors. Call it serendipity, but somehow all numbers ended up looking better, with external factors remaining benign for most of the year, and the base effect keeping several parameters look healthier. The icing on the cake was provided by the new GDP methodology which has projected growth of 7.4% for FY15. The government was hence able to do some serious housekeeping without having to worry about these extraneous factors that have the potential of diverting attention. The moot question, however, is whether this scenario will persist in FY16?
There are several risks that lie in suspension this year too, which can go either way and hence pose a threat for the economy and come in the way of a more definite recovery. The dismal science can point at six major risks that can surface, which may not be directly under the control of the government.
The first is the performance of agriculture. A sub-normal monsoon has become a norm of late, as even last year rainfall was 88% of normal, leading to farm output falling across almost all crops. While the inflationary impact was minimal and localised, the impact on industry was more discernible as rural spending was muted on consumer goods including white goods, electronics, two-wheelers and tractors. This year, the IMD has provided a preliminary reading of 93% of normal monsoon, and while other factors such as arrival, progress and departure of monsoon as well as geographical spread are important, a sub-normal monsoon is a sufficient condition for inflation and growth worries. Besides, there has to be a contingency plan in place to react to a monsoon failure, which has to include alternative employment as well as measures to address rural indebtedness.
The second threat pertains to food inflation, which has been the dark spot in the inflation profile all through the year.
A second successive year of low farm output will most definitely be inflationary, which was not the case in FY15. Currently, overall inflation has been below the RBI comfort zone of 6%, though food inflation has strayed at a higher level. This is a risk that has to be borne in mind as it can be compounded further in case crude prices start moving up. There are reports that there has been limited new investment undertaken in oil exploration and that the US oil capacity has been almost exhausted, in which case prices could move upwards when demand increases. Currently, it looks like that as long as prices remain within the $60-70 per barrel range, the economy should be able to absorb price changes.
Third, with inflation being a threat, monetary policy is bound to be affected. While RBI can, and will, probably not hold back on rate cuts merely because there is a fair chance of higher inflation in the future, it does reserve the right to even increase rates in case inflation moves up beyond the 6% target. Hence, while another 50 bps cut in the repo rate may be expected, it would be under ceteris paribus conditions only. Interest rate is one major factor that affects future investment, and while there are other enabling factors also that have to be addressed, high rates can spoil the party. Today, several projects are stalled and are waiting for lower interest costs to get back on stream. If RBI starts increasing rates, it will push back the recovery process.
Fourth, fiscal deficit has been delicately balanced, premised as it is, on a steady growth in the economy and oil prices remaining neutral at a low level. Any deviation could necessitate expenditure cuts, which will repeat the process that we have been through in over the last three years or so. Upstream oil companies have already been freed from sharing the subsidy burden with the government, which means that fiscal balances are going to be that much tighter.
Therefore, it is a good sign that the government has started looking at the disinvestment process early in the year as the target of R69,000 crore is high and slippages will mean cuts in other expense items, especially since we are committed to the 3.9% fiscal deficit ratio.
Fifth, the increase in rates by the Federal Reserve, which has been taken as fait accompli, will happen at some point of time when the central bank is convinced that inflation can be a concern. This will mean a certain modicum of reverse migration of funds from the emerging markets to the US, especially in the debt segment. The risk for us is that since we do get between $10-20 billion of FPI flows into the debt segment, overall flows would be in jeopardy that will affect the exchange rate to begin with and subsequently the current account deficit. Also, the stock markets can be affected sharply as they rebalance their portfolios across both debt and equity and across countries.
This leads to the sixth risk of rupee stability. The recent volatility in the rupee has opened the door for arguments on the future of the rupee. FIIs have a very important role to play in affecting the value of the rupee. We have seen in the past that the 2013 run on emerging markets currencies was a global phenomenon that was not always related to fundamentals. The Fed factor dominated even at that time, which can repeat.
These risks are not really exceptional and exist at all times, but the ‘dismal’ possibility is of all of them fructifying at the same time. This would be opposite to FY15 when all these conditions were benign, which provided a major cushion to the economy on all fronts so that government attention was primarily on policy and its implementation.
We are on the precipice of a recovery, especially in investment and industry, and stable extraneous conditions are necessary. Any or some of these six risks emerging with strength will cause policy stance to change, which can then disturb equilibrium. It is hence necessary to be watchful of these developments and take prompt pre-emptive action to the extent possible so that the negative effects are less potent.

Futures prices on a random walk now?: Financial express May 11, 2015

Forecasting is a tough business as external conditions are changing rapidly and all models that interpret the past are quite impotent when extrapolating the same into the future. Less than a month ago, the dollar appeared to move towards parity with the euro, but it has started falling quite sharply all of a sudden. Our own inflation numbers are hard to predict even if we discount the fact that nobody believes prices are coming down. The IIP numbers have become an enigma, as was witnessed when the February numbers were announced. When 38% of the index, as represented by the core sector, went into the negative zone, the basic, intermediate and capital goods grew smartly to counter the negative growth in consumer goods to yield a reasonable growth in the IIP. Therefore, today models are passé. The question, therefore, is: Do the markets do a better job?
The “efficient-markets” hypothesis says that when information is equally available to all participants, and everyone uses them judiciously, then the markets deliver the best results. The issue really is how does one interpret this data? We all know that when dollars come in, the rupee strengthens, which may not be desirable after a point of time. We then expect RBI to intervene. But everyone has their own hypotheses, and that makes it difficult to first guess the market. Market psychology becomes important.
The futures market provides a clue here as they are supposed to tell us how the market thinks the prices will behave months down the line. The futures prices are defined as the cash or spot market price and the cost of carrying which, in turn, is simply the interest rate. While this is the theoretical definition, the price actually takes into account all the information that is available while looking forward. Say, for October, when the harvest season starts for the kharif crop, the futures prices take into account the conjectures on the crop arrivals based on signals received today. If it is a currency, then there are subjective guesses, which get aggregated to reach the equilibrium price.
The futures prices present an interesting picture. In the commodity market, three significantly traded products are soyabean, its derivative soya oil and guar seed—all of which are kharif crops. The NCDEX prices broadly shows that the soyabean October and November contracts prices are ruling at a discount of 9.5% and 6.5%, respectively. For soya oil, it is around 1.5-1.7%, and for guar seed, there is a premium of 17-22%. Guar seed is a ‘classic crop’ as it goes beyond the realm of a normal crop and becomes a barometer for rainfall. If the prices are at a premium, the market expects the monsoon to be below normal which is reflected in higher prices. The soyabean story of discount indicates that the crop is expected to be largely satisfactory and hence prices are to remain insulated from the monsoon influence. Last year, while production was down, the prices remained steady for soyabean. Part of the reason could be that the global prices were declining; and as we are an importer of edible oils, lower output had little influence on prices.
The forex market is not too developed, but the NSE futures platform shows that the December contract for the dollar indicates a price in the region of R 66.30-66.50. Now, few forecasts have gone this far, and it is expected that a region of R64-65 would be fair enough given the fundamentals as well as external developments, including the Fed action, ECB easing, China easing, etc.
The interest rate futures market is mostly illiquid and hence the prices are not really representative of what may be in store for the players. The June 8.40% 2024 bond is still going at a price close to what is in the market today, at 103.52. It is more a case of static expectations here.
The global scene is even more interesting because there is extreme caution and all actors are playing it by the ear. The highest volumes of trade are in the euro-dollar currencies. Given that the value today is $1.11=1 euro, this market should give us some signals of how these currencies will behave going ahead. The December contract however is quite static at 1.11 which looks puzzling, given that the US economy is probably the only bright spot on that side of the globe and the Fed is all set to raise rates at some point of time. Logically, the dollar should be getting harder. But the market is assuming status quo. Also gold, which normally goes with an inverse relation with dollar, is also working on static expectations and is trading at near-par with the spot price, at $1,190/ounce.
The crude oil price on NYMEX is working on similar assumptions of static expectations. WTI is going at 7% premium and Brent at around 6% for December which still remains static in the larger sense of remaining below the $70 mark. Now, with no fresh capacities being built and shale productive capacity reaching its end, any recovery in the global economic prospects will exacerbate the “rising demand and limited supply” equation, leading to higher prices. As is evident, however, the market is not giving this scenario much weight and prefers only a mild adjustment, more like adaptive expectations.
Hence, the global picture does paint a wait-and-watch scenario where traders are working on the status quo prevailing. This could be because no one expected the oil price to come down so sharply and hence there is the assumption that the immediate-term conditions will also extend into the medium-term. Also, the global recovery and policy actions of central banks seem to have sent different signals, making it hard to interpret.
It is argued that markets follow a random walk and hence are hard to predict. The best that one can forecast is: Assume that what happens today will happen tomorrow. But when the 6-month futures is almost the same as what is prevailing today, it can be concluded that the market is conservative and not willing to guess. “No change” appears to be the solution. Not very inspiring, given the econometric advances made in the world of economics.

The Attacker’s Advantage: Going on the offensive: Book Review: Financial Express: May 10 2015

The Attacker’s Advantage: Turning Uncertainty into Breakthrough Opportunities
Ram Charan
Public Affairs
Pp 240
Rs439
The Attacker’s Advantage is another management book in the genre of corporate strategy and leadership in which author Ram Charan sets guidelines on how to succeed in this world of uncertainty. The principles are a matter of sheer common sense which, unfortunately, is not followed by most companies. Anticipating change is the starting point of the book of advice, which is essential for companies to take the appropriate turns and thereby corrective action, so as to remain in the fray. When we say that Dell failed or Nokia became less relevant, it was more on account of not being able to anticipate change. Organisations need to build this ability, writes Ram Charan.
The so-called book of guidelines talks of the creation of five skills in any organisation. The first is perceptual acuity where it should be able to see contradictions, oddities and anomalies in the external landscape so that it can plan necessary action. This has to happen from within the organisation, which, in turn, should create leaders ready to pick up these signals.
The second is creating a mindset to see opportunity in such challenges. By recognising the fact that uncertainty can take you steps ahead of competition, one is really prepared for launching an ‘attack’. One should never be on the defensive is the message that Ram Charan gives here, as very often it is self-defeating and only prolongs the inevitable. We need to accept that the core competences which made the organisation could no longer be relevant in the new context when conditions change. If there are blockages, we need to get past them at any cost.
Third, the author talks of the ability of a leader to see a new path and then commit to it. It is one thing to see uncertainty and then an opportunity, but to be successful before others we have to be to build new capabilities and go ahead with belief and commitment. Here he does stress the age of algorithms which have now caught on in every business, be it stock or retail trading, when we are able to connect producers with suppliers or other producers and ultimately consumers. If there are obstacles on the way, we should attack to dislodge them. He exhorts these leaders to convince their bosses to make these stories come alive.
Fourth, we have to adapt the organisation to managing the new path. This will involve financial outlays and hence is important. Here one has to constantly be in touch with investors and convince them of the credibility of the model being pursued by constantly showing how milestones have been achieved along the way in order to obtain their support.
Lastly, the leaders need to develop the skills to make the organisation steerable and agile. Here, he bats for what are called ‘joint practice sessions’ in companies where a set of leaders congregate and discuss openly what has to be done under the changing circumstances. This is the only way to resolve conflict.
There are lots of examples given to show how various companies and leaders did well by following this path. Often companies prefer to stick to core competences, incremental gains and defensiveness. The alternative path is one of aggression where we create a new need which is subsequently scaled up, thus creating a bend in the road for traditional players.
Ram Charan has checklists for each of these five skills which need to be posed periodically and reassessed by the leaders if they believe truly in what they are doing. To build perceptual acuity, we need to encourage contrary viewpoints, dissect the past, evaluate the sources of risk, build our mental map of changes in multiple industries, and consider what might be considered as being an invention, patent or new law. These are all good points but the issue really is that rarely are these practices followed by most companies which tend to be driven by a vision of just one person, the CEO, who tends to be egotistic. This is why companies fail as they are not able to see the big picture and are happy in their comfort zones.
An interesting section in the huge book is where the author focuses on the mindset for becoming aggressive. Here, the barriers that come in the way are quite interesting. Most companies have attachment to their core competences and hold on to them whatever may happen. The rationale is that this has been responsible for their high margins and market share and logically will continue to be so. The example given is of Kodak which just refused to believe that its time was over and it was time to move on to the digital age. On the other side, companies like GMR have been quite amazing in seeing opportunity and changing their plans and hence direction and venturing from banking to become one of the largest infra companies in the country.
Another challenge is dealing with the obsolescence of key people. This becomes an issue when the company needs to become a math house and the existing staff just doesn’t fit in. Further, the fear of the unknown creates mental blockages in the way of turning aggressive. Last of all is the avoidance of opposition when we hit change. All these have to be addressed to turn on aggression and move to new territory.
A template outlined by the author is that companies have to be agile. There have to be explicitly designed nodes in the organisation which have to be monitored continuously. Remedial action like even changing leaders is important besides dispensing with people who are out of sync with the times. There need to be short-term strategies while moving on the long-term path and, when opportunities are spotted, engagement with the key people is essential.
It would have been interesting if the author would have also given case studies of companies that have tried but not succeeded. Often, we tend to give examples of success stories which broadly fit into these templates. But there are several others which also follow this path and don’t succeed. Maybe a commentary on what went wrong would have provided a balance to such a narration.

Balancing interests with new priority sector norms: May 4, 2015

The revised norms on priority sector lending, which would eventually cover all foreign banks over a period of time, signal the seriousness of financial inclusion as a goal to be achieved. There has been a sub-provision made of 8% for small and marginal farmers and 7.5% for micro units, besides 10% for weaker sections. Foreign banks with over 20 branches have to comply with these targets by 2020. Those with less than 20 branches can continue to lend up to 32% for exports and increase this to 40% gradually and incrementally to other priority sectors. The level-playing field across banks in this respect would hence be achieved.
The objective to make credit accessible is laudable, and considering that we have witnessed extreme distress to farmers resulting in their inability to service their loans, a solution was needed. Loan waivers is a medium used often to assuage the interests of farmers, but the damage done in the interim in the form of farmer suicides is worrisome. However, the fact that the banking system is going through challenging times is also a consideration when viewing this measure. The question that is often posed is, whether we are taking financial inclusion too far when it comes to lending, especially so since banks today are commercial entities which are answerable not just to shareholders but also subject to global standards of regulation by RBI in terms of quality of assets and capital adequacy?
The factual is that banks often tend to miss their priority sector targets and rarely cross the number of 40%, which means that the counter-factual would also hold that it is not too attractive in terms of a business. If it were so, banks should be lending more to these segments as part of their business models and not seek recourse through participatory certificates or the RIDF route.
This is due to the reason that NPAs tend to be higher—for PSBs these were 5.2% as against 4.5% for non-priority sector loans in 2014. In fact, the non-priority sector segment had a lower ratio in 2013 and conditions have exacerbated due to issues in the infra space, which hopefully will have a solution. In case of priority sector loans, given that these are normally generated by the farm sector where climatic conditions are erratic, the ratio has tended to vary with the state of the monsoon.
Also, given the small size of these loans, the administrative, monitoring and recovery costs are higher. Physical access may not be a major issue for the rural financial ecosystem if we include commercial banks, regional rural banks (RRBs) and cooperative banks. But RRBs and cooperative systems are typified by high NPAs, which can range between 5-15%. Therefore, having these sub-limits for micro and small farmers as well as micro units in the non-agri space would be a challenge for these banks. The conundrum in lending is that, as we move to smaller-size borrowers (beyond the retail), the propensity to be affected by adversities is higher.
At an ideological level, we are actively looking at having small banks and payments banks as well as the Mudra Bank for refinancing SMEs. Soon, these banks will be actively participating in the banking system on both the deposit and lending sides. With this structure being built, it could have ideally been possible to consider lowering the commitments to priority sector lending for commercial banks. The Narasimham Committee report had spoken of lowering the levels of priority sector lending as well as the classification to give banks more flexibility in their operations.
Today, banks already have a CRR and SLR preemption which leaves aside around R75 out of every R100 of deposits. Further, setting aside R30 for priority sector lending, which is granular and also more vulnerable to economic cycles and monsoon, leaves them with just R45 of funds to play around with. By specifying that R6 has to be kept aside for small farmers, R5.625 for micro units and R7.5 for weaker sections, they would have to get into an overdrive to meet the targets that can lead to adverse selection.
Inclusive lending is a very sensitive subject and part of the regulatory framework. We are quite rightly tackling this requirement by creating new institutions through the formal channels so that we are able to make this segment viable. The MFIs in their earlier form had bridged the gap but became an expensive medium that caused other problems for the borrowers. By introducing these sub-limits at a time when banks are already strained by NPAs on the infra and industry side, and a monsoon alert from IMD which does not augur too well, banks would have a tough job on hand in ensuring that these targets are met and the quality of assets retained.
RBI has tried to balance these commitments by expanding the scope to cover even renewable energy and social infrastructure besides MFIs for on-lending purposes. The weaker section now also includes the Jan-Dhan accounts which can claim credit provided certain conditions are met.
The broader question is, how the commercial viability of banks can be retained while also reaching out to the interests of the vulnerable groups? As, logically, banks are commercial entities and should have flexibility, the commitments forced on them should be compensated for, in case of NPAs, by the government.
Analogous to how loan waivers or interest subvention is supposed to be paid for by the government, NPAs resulting from such lending could be partly compensated by the state and central governments. It can go as part of the social spending programmes that are listed in the Budget. This can be a way out where all interests are satiated in a pragmatic manner. Hence, just like how we have the NREGA programme for employment, there can be a “loan compensation programme” for NPAs in this sector. If such a scheme is designed and implemented, banks would also be more willing to venture into this terrain.

Triumph of the spirit: Book Review: Financial Express 26th April 2015

Recasting India
Hindol Sengupta
Palgrave Macmillan
Pp 238
Rs 499
THE COEXISTENCE of industrialist Mukesh Ambani’s Mumbai home Antilia and the high levels of deprivation prevalent across the country is quite appalling. In fact, it is something that is never missed by anyone judging the progress made by India over the years, as it indicates that something is not right in our society. This unease can also result in a social upheaval at any point of time. However, on the other hand, looking at Antilia, there is also hope for aspiration for many. And this is the way Hindol Sengupta, the author of Recasting India, views the world’s largest democracy. His take is that inspiration has struck people along the way, making them think in a way that has caused a difference to their lives, as well as society.
Sengupta looks at various manifestations of the enterprising spirit, which has been witnessed in some of the more unlikely places in the interiors of the country under adverse circumstances. He takes readers through several such real-life stories. And these stories, in a way, offer an explanation as to why there is stability in our society even in the face of stark inequalities. There are signs of empowerment across various states in the country and while they might look like specific episodes of triumph of perseverance against adversity, these stories hold hope for many.
Empowerment can be seen in various sections of society when looked at through different prisms. The decrease in the number of bullock carts in the country, for instance, is a reflection of Dalits actually leaving behind that job and moving to cities for better prospects, respect and living. This is probably the most rudimentary form of the enterprising spirit in India, one that brought empowerment to Dalits.
Another amazing story is how a group of Dalit scavengers were rehabilitated by the Safai Karmachari Andolan and Shri Ram College of Commerce in Nekpur, Uttar Pradesh. They now make and sell detergent powder, which is widely used by households all over Delhi. Besides providing them with an income, this has helped them earn a high degree of respect as well.
Sengupta takes readers through varied geographies across the country, highlighting along the way many episodes of the enterprising spirit in India. The story of Ramamurthy Thyagarajan of Shriram Group is especially remarkable. Running a non-bank financial company (NBFC) with varied interests, Shriram Group stands for trust and credibility. It withstood the backlash against NBFCs during the CRB scam, as well as the recent chit fund episode. Thyagarajan’s life is all about taking chances and believing in his work—the group’s scheme to provide finance to transport operators for buying second-hand trucks is a unique business model. Thyagarajan’s is probably the most illuminating corporate story narrated in the book. Also inspiring is the story of Kalpana Saroj, a Dalit woman, who, at one point of time, was contemplating suicide, but worked hard and reached a point where she actually bought the company Kamani Tubes. Saroj, who is from Roperkheda, Maharashtra, left home to move to Mumbai while she was still a teenager.
On a different note, the success story of J&K Bank under Haseeb Drabu is quite revealing. The enterprising spirit of the bank can be seen in its changed model, which lends money to local Kashmiris rather than outsiders. With this move, the bank has not only improved its credit deposit ratio, it has also achieved one of the lowest NPA ratios in India. The Hiware Bazar model, too, is a great story and a lesson in excellence for any dry village. Hiware Bazar, a village near Ahmednagar, Maharashtra, has gotten transformed into a green belt from being an arid zone through innovative farming techniques, water conservation, water harvesting and strict enforcement on the use of water. The transformation was started by Popatrao Pawar, who later became the sarpanch of the village council.
Sengupta carries this model into Madhya Pradesh as well and shows how under chief minister Shivraj Chauhan, the state has become the leading region in India to register the highest growth rates for the longest period of time. The focus on farming has made Madhya Pradesh a leader now in foodgrain production, especially wheat. This was due to the state’s effort, which has also reduced the rate of farmer suicides in Madhya Pradesh. The government did adopt what could be called populist schemes—interest-free loans, free water, power, etc—but, at the end of the day, the repayments were on time. This means that farmers usually default on loan repayment when the burden is high, but repay on time when the terms are not onerous.
Another interesting story is of the Muslims in Gujarat. Here, the author talks about one Zafar Sareshwala, who after noticing the good work done by the Narendra Modi government, turned into an ambassador for the former Gujarat chief minister, acting as an intermediary in his community to solve problems relating to economic, social and religious issues of the Muslim community with the government. As a result, the community as a whole has benefitted in Gujarat, with levels of poverty coming down and income going up.
Recasting India is refreshing in its style and narration. The narratives touch the heart, as they tell us about acts of courage and accomplishment of common people, who have achieved far more than the luminaries we usually read about. These narratives need to be showcased more when we speak of India Shining rather than clichéd economic numbers.

Full convertibility still some distance away: Financial Express: 25th April 2015

The discussion on capital account convertibility in the Indian context has resurfaced; and the reasons are the increasing forex reserves and the strength of the Indian rupee vis-a-vis the other emerging markets currencies. On a y-o-y basis, i.e. March-ending, the rupee has performed better than others, declining by only 2.5% compared with 35% for the Brazillian real, 11% for the Argentine peso, 15% for the Indonesian rupiah and Mexico, 17% for the Turkish lira and 67% for the Russian rouble. Forex reserves are at a high of around $340 billion. However, concluding that we have a very strong external position which supports capital account convertibility may be premature.
The external situation was weak in 2013, when Raghuram Rajan took over as RBI Governor. With a judicious combination of the government’s curbs on gold imports and RBI’s unique swap arrangement for banks on FCNR deposits, the balance of payments situation was restored to equilibrium after which several good things happened. The CAD came down from 4.2% and 4.8%, respectively, in FY12 and FY13 to 1.7% in FY14 and will probably be around this level in FY15. FII and FDI flows have been buoyant and have improved the forex reserves position, which gives a sense of strength to the external account. More important, crude oil prices have fallen by around 50% which has benefited all importing countries.
Convertibility on capital account exists for foreign investors today and hence going in for full convertibility would mean that Indians too could take dollars out of the country or bring in dollars without limits depending on market conditions. Two sets of issues have to be addressed before we contemplate opening up of the capital account. The first set of issues pertains to our belief in the market mechanism and the second revolves around future scenarios for our external account which ultimately answers the question as to whether or not our external situation is really as strong as believed.The Indian economic psyche has been ambivalent at best when it comes to dealing with the market. When the rupee starts to depreciate beyond what is considered “normal”, there is a call for restrictions on the flow of dollars. In FY14, there were severe restrictions placed on gold imports and every time RBI put some conditions on the outward remittances or overseas investments or tightened monetary stance on liquidity, the market took it that the rupee was weak, aggravating the the run on the currency. When we have convertibility, we have to show commitment to our stance and not get overly perturbed with temporary disturbances. Are we prepared for this?
Quite curiously, when the rupee has been stable and strong relative to our competitors, the call is for RBI to allow the rupee to depreciate, and the REER argument has been put forward which, though inappropriate, given that it captures trade and not overall forex flows, is still the ultimate weapon used to justify central bank intervention. Clearly, we are not ready yet to let the market decide the right rate and have a prejudged view on where the rupee should be. We want the rupee to be weak enough to prop up exports but, at the same time, despair when FII flows slow down. In fact, with the US Fed likely to increase rates, there is added pressure on RBI to maintain a higher interest rate as lowering rates would affect capital inflows to the debt segment. At present, pressure also mounts from the trade argument, but once we have full convertibility, we will have to tackle policies on external borrowings as well as overseas investments on a more regular basis and policy flip-flop will add volatility. In fact, full convertibility logically means that companies should be allowed to borrow without limits from overseas markets if conditions are favourable.
The second set of issues is based on economic fundamentals. While our forex reserves position looks fairly robust, a lot has come about due to the unconventional measures used to get in dollars when the economy was in a crisis-like situation. Over $30 billion came through the NRI-deposits route, adding to the external debt. The external debt touched $460 billion in December 2014, and the cover provided by reserves, which was above 100% till FY10 has now come to just about 69%. The share of concessional debt has come down, and the ratio of external debt-to-GDP has increased with RBI also allowing greater access to the ECB route. With full convertibility, the level of reserves would become even more volatile, leading to swings in the exchange rate. The central bank is now bound by the inflation doctrine and hence may not always be able to respond through monetary measures, especially if inflation warrants a different action.
Further, our fundamentals also appear to be rooted in fortuitous circumstances. The trade deficit, for instance, has come down to around $135 billion from a high of nearly $ 180-190 billion. This has been due to low crude-oil prices and limited demand for non-oil imports. A turnaround in both can upset the calculations. The invisible receipts on account of software and remittances can get in a stable $65 billion each. The trade deficit can, however, increase by $40 billion if both exports and imports grow by 20%, which is likely once the external situation returns to normal. This will blunt the import cover, too, which stands at 9 months based on FY15 growth.
Hence, capital account convertibility has to be considered with some caution because once we take this route, there should ideally be no retraction in stance as it would create too much volatility. The next few years will be interesting as they will reveal how the external account stands when global economic conditions take a new turn with the Fed and the European Central Bank playing their roles and the Indian economy returning to normal, which may also mean crude-oil prices climbing. Our policy response under these conditions will probably indicate our preparedness for such convertibility.

Too early for alarm, but states should track the clouds closely : Times Of India 23rd May 2015

The IMD's monsoon forecast though very preliminary evokes mixed emotions. At 93% of normal, it's less than the 96% level considered nor mal but higher than last year's 88% fig ure. Further fore casts will come in until monsoon arrives in June, but the fact that it is slated to be lower than normal would be a concern especially if this number deteriorates.

For the kharif crop, sown in June and harvested September-end onwards, it's imperative that monsoon arrives on time as it affects the sowing pattern. A delayed monsoon can lead to switching of crops from, say, rice to coarse cereals. Further, progress and withdrawal of rains are important for final output.

The monsoon is important as the kharif crop, dependent on SW monsoon, accounts for around 50% of farm output. Irrigation coverage in states such as Rajasthan (36%), MP (37%) and Maharashtra (19%) is limited and hence the timeliness and adequacy of rainfall important.

Haryana, UP and Punjab had deficient monsoon last year, yet managed well due to the availability of irrigation facilities. Further, crops like bajra, maize, groundnut, tur, moong, urad and soybean have limited access to irrigation and are monsoon-dependent. Pulses and oilseeds are particularly vulnerable as we supplement consumption through imports - this would tend to rise if there's a shortfall.

The macro impact of a lessthan-normal monsoon can be felt in three areas beyond the lower output numbers.

First, while agriculture's share in GDP has come down over the years, the farming community contributes to consumer-durable goods production including tractors and two-wheelers. It's critical for providing demand — typically during the harvest-cum-festival season post September. In the last two years, with this demand fading, industrial growth has been affected. Second, it's been observed that lesser monsoon in certain geographies can affect specific crops that can spike overall food inflation.While the overall number may be satisfactory, the spread across these crops is important. Further, the unseasonal rains of 2015 or its late withdrawal in 2013 led to crop damage - excessive rain at the wrong time negatively impacts prices. A forecast cannot capture this.

Third, monetary policy's been directed at the CPI inflation number. Hence any increase would have a bearing on RBI's interest rate action. The RBI has currently taken a flexible stance by lowering rates twice this calendar year. But with food inflation the main driver of inflation in the CPI index, an adverse monsoon would tend to pressure this component and can delay rate cuts.

It's too early for alarm. But state governments have to closely monitor trends and take remedial action on irrigation, especially where there is high monsoon dependency .

Retail in government securities: Returns, Simplicity and disposal are the big bumps: Economic Times: April 22 2015

The involvement of the retail sector in government securities (G-secs) has been spoken of in the credit policy and steps are being taken to enable it. While the effort is laudable and necessary, we need to go back to the basics and evaluate why G-secs have not been of much interest to retail investors. The issue is not of accessibility; it is conceptual.

For a household to be interested in any retail financial product, the essentials are returns, simplicity and disposal. The focus has been on providing physical access through trading platforms, but the other issues have to be addressed.

 

Today the returns on government paper are fairly skewed. If we look at say the 90-day, 364-day treasury bills and 5- and 10-year paper on a random day, they read like 7.87 per cent, 7.78 per cent, 7.79 per cent and 7.75 per cent respectively. These yields vary on a day-to-day basis. Contrast this with a bank deposit where the returns are fixed with the same security and are also higher. A one-year deposit gives 8-8.5 per cent.

Further, the government has created an anomaly in its domain by pricing small savings better. While there are limits on Public Provident Fund (PPF), one can use post office instruments for diversification and get better returns. With there being no TDS one can also escape the tax network if one chooses to. In such a case why should anyone opt for a G-sec, which carries no tax benefits?

The second issue is that of simplicity. When a household is dealing with a savings instrument, it would like to know clearly what the attributes are. Now a G-sec is confusing even for a financially literate person. There is a face value and a market price, which varies every day. Then there is a coupon on a bond and a yield to maturity (YTM), which vary. This yield actually matters more than the coupon and is indicative of the return for tenure. Therefore, what should one be looking for if one buys a security in the secondary market? As the YTM changes every day, households cannot digest this easily.

Further, there is no clarity in the structure of these papers. A fixed deposit is a fixed deposit. In the G-sec market there several: 2, 3, 4…40 year securities whose tenures change every year. Also with a multitude of securities maturing in say 2020, there are different five-year bonds with different coupons, YTM and market prices. How is one to decide which instrument to invest in?

Also, the 10-year benchmark is the 8.40 per cent coupon bond maturing in July 2024. Factually, this does not have a 10-year residue term from today. Anyone dealing with this data will not know how to go about viewing such paper. All securities hence have a moving maturity period for being valued in the market. Also, all paper is issued through an auction and the cut-off price is different from the face value, which adds to the nebulous nature of these bonds.

This is unlike equity, where a share of a company is the same as any other share of the same company.

Third, disposal is a problem and if one looks at the CCIL trading screen, we do not have more than 15 securities traded on a daily basis, and not more than five of them will have more than 100 trades each. Therefore, even if an individual chooses to enter or exit there won’t be much choice.

Prima facie, this may not be an exciting market for the household. A way out is for the government to issue different papers at face value similar to tax-free bonds, of say, NHAI. To ensure that there is liquidity in the secondary market, banks can buy securities like PDs from individuals at any time at the going price. But then an 8.4 per cent bond for 10 years will be for a face value of 100 and not the auction determined price. The government has to pay a higher rate of interest. With PPF paying 8.7 per cent and post offices around 8.5 per cent for five years, it cannot get away with the present yield of around 7.79 per cent.

Taking into account all these factors, it looks like the G-sec market for retail will be a slow starter, as one side has to give in. Also if the government moves away to announcing fixed-rate bonds at a higher cost, then the rest of the market with accumulated debt of the government will go awry as all outstanding securities will be re-priced, adding considerable volatility.

It may be best for the household to enter this market through the mutual fund route till we can iron out these issues.

A delicate Balance: Book Review: Financial Express: 12th April 2015

‘The End of Normal’ book review: A delicate balance

What is normal? The End of Normal debunks the theory, saying there are no ‘normal’ conditions in an economy and that we will always have to strive to reach equilibrium

The End of Normal
James Galbraith
Simon & Schuster
Pp 291
R599
SEVERAL REASONS have been given for the financial crisis, from the black swan hypothesis and ‘fat tail theory’ to ‘too much government’ and inequality. As an extension, it has often been argued that the crisis was due to the existence of some bad people in the industry and bad policy pursued by the government. But this, as per James Galbraith, the son of economist John Kenneth Galbraith, is far from true. In his delightfully worded book, The End of Normal, Galbraith argues that when we sit back after a crisis looking to blame someone, we assume implicitly that there is something called ‘normal’ performance—it is this attitude that throws us off-guard in the face of any major deviation. And this is where we are wrong.
The concept of ‘normal’ came into vogue especially in the 1980s when Paul Volcker headed the Fed.  He, along with then US president Ronald Reagan, was able to make the US an economic superpower. By controlling interest rates and the supply of dollars in the market through borrowing, the US got other countries, especially oil-rich ones, to invest in its own debt. Commodities were dumped in countries in Africa and Latin America. As they imported more than they could export, they became indebted. Behind the lines, the US liberally extended aid to these countries, which used the money to buy goods from the lender. With this cycle set in motion, Reagan could go ahead and cut taxes and expenditure (also called Reaganomics), and bring about growth, which led to the creation of the concept of ‘normal’ or ‘the great moderation’.
However, there have always been exceptions, argues Galbraith, as in the case of the Asian crisis, S&L episode, dotcom bust, etc, when the markets failed. But it has become fashionable to assume that everything will be all right forever and the path will only be upwards. This has also led to long and pedantic debates between freshwater (monetarists) and saltwater economists (Keynesians) on why there would be forces that would always self-correct.
Economists like Ben Bernanke had argued that this new ‘normal’ was achieved due to a combination of structural changes, improved policies and a good dose of luck. Those from the rational expectations stable pointed out that depressions can never take place, as the market would ensure that they don’t. The use of complex models with a lot of Greek symbols helped prove that this would hold. The emergence of the famous DSGE—dynamic stochastic general equilibrium—models only proved this point. Galbraith adds here, almost tongue-in-cheek, that the goal of these models, as is the case with most of them, is not to clarify or charm, but to intimidate. He also quotes Paul Krugman, who has maintained that this brand of thinking mistook ‘beauty for truth’.
But Galbraith believes that there are four overwhelming reasons to believe that there is no normal, which also means that we will always have to strive to reach equilibrium. The first factor is natural resources. Earlier, the US had virtual hegemony over resources either directly or covertly through operations in Africa and Latin America. The oil issue lingers, as does that pertaining to other commodities, which can distort this assumed equilibrium. Further, the financialisation of commodities through futures trading will continue to ensure that attaining a ‘normal’ will always be elusive.
The second is the realisation of the futility of war. The author explains that waging a war on a territory by the US can help add to the GDP, something that was effectively used in the 1960s, starting with Vietnam. Now, the tenure of such battles has become shorter, with the Kuwait, Iraq and Afghanistan ventures being latest examples, where even public opinion has turned against war. On the moralistic ground, the US has often been accused of imperial overreach. On the economic front, there is concern, too, over the devaluation of the dollar, as the US runs deficits, which have increased the supply of dollars to the extent of being in abundance, thus causing apprehension of loss of value. This has led some countries to consider alternative currencies like the yen, pound, euro and even the yuan. This is a major change in the political and economic dynamics of the world.
Third, the digital revolution, which was what even economists like Robert Solow had spoken of in the 1950s, has the potential to cause major shifts in incomes. The growth of India as a centre of outsourcing can lead to a severe employment issue in the US. Further, new technologies can lead to the Schumpeterian path of creative destruction, which will ensure that there will always be volatility caused by such phenomenon.
Last, the breakdown in the level of ethics in finance can be very destabilising and Galbraith explains this well. You need bad assets like NINJA loans, which he calls counterfeits, to create big business. Then one requires someone to launder them, something the credit rating agencies did for all the collateralised assets. Last, they had to be sold, which was assiduously done by Bear Stearns, Morgan Stanley, etc. This was nothing short of financial fraud with all major institutions being involved.
The way the cycle works is that no one is happy with stable earnings. When things are normal, there is always a motive to seek higher returns even when it means taking more risk. Financial positions that are based on hedging are replaced with speculative positions, which lay the seeds for a Ponzi-like situation, which becomes self-fulfilling after a time. This is where the rub lies.
The author is quite caustic of the fact that while a lot of books have been written on the financial crisis, the word ‘fraud’ has never been used. Joseph Stiglitz uses the word ‘mischief’, Raghuram Rajan uses it only once in his book Fault Lines and Krugman brought it up once during the S&L crisis. This has been due to the fact that economists are either believers in the market and will never admit that it can be gamed or are Keynesians like Krugman, who feel that there is always a fiscal cure for this. Interestingly, he points out that all forecasters and economists work either directly or indirectly for industry through the role of consultants and hence always end up saying the same thing through prescriptions and solutions.
At another level, he argues that we need to use fewer resources and move away from maintaining such a large military force when it is not really required. In the same breadth, he questions the wisdom of having too large banks that do work—garner deposits and lend them to those who require them—which can easily be done by small banks. This would, on its own, help in monitoring the level of greed in the system. This can be called original thinking.
Galbraith is as charming a writer as his father and this book will be a delight for students of economics. When Galbraith invokes the writings of Paul Baran and Paul Sweezy, one gets a feeling of deja vu of the time when students studied Marxian economics. At the end of the book, you do tend to get convinced that our world will be dynamic in nature moving from one ‘equilibrium’ to another without quite knowing when the change will come.

Welcome corporate debt market: Financial Express: April 10, 2015

The RBI Discussion Paper on large exposures is timely and pragmatic as it comes at a stage when there are three pressing concerns about the financial system.
The first is the efficient use of capital where bank funds should be made to work better, especially since we are into Basel III where the norms are more stringent. The second is the systemic risk that has entered the system, which is manifested in the creation of NPAs and restructured assets. This problem is acute as large exposures to specific companies and corporate groups has posed a growing threat for banks, with those in the public sector being affected relatively more acutely. The third is the absence of alternatives for borrowers who perforce access banks and supplement the same with external borrowings, which has its own set of issues.
The difference between the existing and proposed guidelines is quite straightforward. A bank can, from January 2019, lend not more than 25% of its tier-1 capital to a company or a group, unlike the current situation where a company can access a maximum of 25% and a group 55% of total capital of the bank. The concept of capital, too, has changed and been narrowed down to tier-1 instead, which makes sense given that Basel III is all about higher and stringent capital conditions with focus on tier-1 capital. Last, the concept of “group” has been widened from a genetic relationship to also one of economic interdependence.
The question that can be posed is whether such restrictions come in the way of lending for a bank? The answer is that it does, but given that they are dealing with public money for which RBI and the government are finally responsible, there have to be prudent standards for lending.
Banks, on their own, have not fared too well on this score, and while RBI has pointed out that group exposure levels have not come close to the limits in most cases, it is always better to be prudent. Thus, any such guidelines have to be treated as being necessary to ensure the solvency of the system and lower the incidence of crisis-like situations, which is what sound regulation is all about.
In fact, an extension here would be that RBI should periodically reveal the vulnerable sensitive sectors that have been moving towards the NPA thresholds so that banks are warned about increasing their exposures in these areas. This will be a logical corollary of the proposed move so that there is a continuous flow of information from the central bank to the commercial banks. Currently, the identified sectors are mining, textiles, steel, infrastructure and aviation. By providing such signals, RBI could make banks more discreet with their lending. Maybe at an advanced stage, RBI could also have such limits set for sectors and hence move beyond the “group” concept. This is so as often problems are more sectors-specific, which should be eschewed.
The goal of such a move is to develop alternative sources of funding from the market. Companies that seek a larger quantum of funds will not be able to access the same from the banking system, and would progressively move over to the corporate bond market. Today, the market is restricted to mainly private placements with banks and financial institutions being the major borrowers. This equation is bound to change as companies will enter this market in a big way.
Markets are more efficient as they reduce the cost of intermediation. But relying more on this system will also mean that there have to be safeguards built and this is where credit rating agencies (CRAs) will have a major role to play. The information asymmetry that exists in any financial deal has to be efficiently bridged by them. Currently, the idea of having a bank intermediate is to use its superior knowledge to evaluate projects and channel deposit money to credit. With direct interaction between the investor and the borrower, the CRAs will play a critical part in the development of this market. An unbiased credit opinion from a third-party does add valuable information for the potential investor.
The move by RBI is hence very pragmatic as India is at a stage where large doses of investment will be required for funding growth. The banking system is clearly not in a state to provide support, and as a large number of projects would be in the infra space, the maturity tenures would create asset-liability mismatches. Rather than have some banks taking on this onus—which can jeopardise the system in times of a crisis—it is prudent to spread out the risk across markets. The same holds for short-term finance, where the commercial paper market can be accessed by companies which are also cheaper. RBI has spoken of having medium-term notes of 3-5 years which will add variety to the market by widening the options available.
This entire approach will also bring about better management practices from corporates once they are to be judged by the market, especially when there are limits to the comfort received when borrowing from banks. Given that there is generally a tendency for higher-rated bonds to elicit investor interest, we could hope moving towards a more prudent and robust financial system over a period of time. This model works fine in several developed countries, and if the cliched dots are connected, we could be there by 2020.

The State Within: Book Review: Financial Express 5th April 2015

Inside Chhattisgarh: A Political Memoir
Ilina Sen
Penguin
Rs 399
Pp 306
WHEN ONE picks up a book called Inside Chhattisgarh: A Political Memoir, it does not sound inspiring, as it does not have the glamour or fizz that usually goes into a title to evince interest in a potential reader. However, the fact that it has been written by Ilina Sen, wife of the controversial Binayak Sen, rouses some interest. When you start reading the book, it starts with Ilina presenting the case of her husband and the travails the family went through in the case of sedition against Binayak. Being a narrative penned by the wife, it is naturally sympathetic towards the husband, even though the government and courts think otherwise in a case that is still lingering.
However, quite refreshingly, the book is not really about Ilina’s husband, even though she presents her case in the first 44 pages. While the courts will decide on the merits of the case, what strikes the reader is the trauma that a family goes through once caught in the web. Neighbours refuse to acknowledge such families for fear of being associated with them, while shopkeepers are loathe to sell them goods. It was so bad, says Ilina, that she had to move herself and her children out of Chhattisgarh. She also recounts how the courts decided on the case within minutes and laments the fact that the common man has nowhere to turn to in times of trouble. The fact that Binayak Sen is a popular figure helped bring his case to the forefront, but one can only imagine the plight of several undertrials who have little support and languish in prison without ever being heard out.
The author, though an affected party in this episode, has written a very honest book on the state she loves and the people she and her family worked with over the years. She takes us through life in Chhattisgarh before it got statehood, as well as the present years. The author’s group reached out to the oppressed and worked towards providing access to basic social facilities like health and education to the poor, most of whom came under the category of scheduled tribes. New Delhi’s Jawaharlal Nehru University (JNU) formed the educational background of these activists, which probably explains their Leftist leanings and the decision to work in the area. Ilina goes on to explain what she, her husband and Rupantar, the organisation they started, have done to make the lives of people better in Chhattisgarh.
To begin with, they started a hospital for the locals and were closely associated with mine workers. So we get a close view of how miners lived and the rather abysmal conditions in which they worked. By providing access to basic health facilities and education to their children, the Sens did make a difference to the quality of life of this community. In between, there are several pages on the trade union movement and their dealings with the very controversial Shankar Niyogi, founder of the Chhattisgarh Mukti Morcha. Their attempts to enhance the lives of people by providing access to health and education continued, as they moved from Dalli to Tilda near Raipur and then later when they intermingled with the Gonds in the interiors. These measures, the author says, did help in a small way and should be scaled up substantially to bring people out of poverty.
The narrative would probably pass off as being just another version of an autobiography, but for the fact that it points to an important aspect of the development process in Chhattisgarh. The focus has been on land and its acquisition, so that industry can grow and take people along with it. However, it has ended up as a constant struggle between development and displacement. How does one rehabilitate the displaced poor to bring about growth and prosperity in a state where there are plenty of resources? This is a question that haunts several of our development debates—the rise of Maoism has also been traced to this phenomenon, a real danger to society.
The author points out that Chhattisgarh, unlike Jharkhand and Uttarakhand, was never very vocal about becoming independent and hence its statehood was more a case of chance. She laments the fact that when the state got its identity, people who actually worked for its development were left out and the successive governments turned to the more formal NGOs and other related organisations to develop their plans. While she and her group had worked a lot for women empowerment, the new government tended to interfere in all their activities. Maybe this is where it hurt people like the Sens the most, for they have been working in this area for over two decades. Given that we have passed a new land reforms act by ordinance, this aspect will have to be addressed because the version presented by Ilina Sen, if unbiased, does point to the danger of state acquisition of land. Her take has been that the state has forcibly taken away land without rehabilitating tribal people, which has been to the advantage of the corporates. She also gives names of these companies behind the acquisitions made in a rather unfair manner.
At another level, she talks of the saffronisation of the state ever since the new government took over. A point both disturbing and amusing is the town of Rajim officially becoming the fifth centre for the Kumbh Mela, adding a new dimension to history. It is disturbing because it shows the growth of saffronisation and amusing because it indicates to what length fanatics can go in the name of religion. She also talks of conversions and reconversions in the state, which have become more common due to the low levels of development among tribal society.
Even while the book is a memoir, the issues highlighted are quite deep, as, at some stage, various forms of government need to address them. Fighting Naxalites with fire or through Salwa Judum are short-term solutions—fighting violence with violence only perpetrates discontent. While the only answer is development, the challenge is how one should build a model that takes along everyone and that is the basic takeaway from this book.
The author has done a good job in presenting her views. However, the book is based only on her experiences and could be presenting just one side of the story. It would be interesting to read other people’s experiences on this subject as well, as these issues are not only confined to Chhattisgarh, but can be found in any state in the country that is prosperous in natural resources, but has a poor populace. Some of the narrations are hard-hitting and even readers who are normally sceptical of anything that involves politics will find themselves siding with the author, confirming the general impression we have of the social and political dynamics of these regions.

Bank on the bank credit growth: Financial Express, 30th March 2015

How does one gauge the state of the economy? Currently, there are various signals that we receive depending on a specific aspect of the economy which are not always in consonance with one another. While the CSO has told us that the GDP growth this year will be 7.4%, one is not too convinced as it does not match the other conditions. Is there any leading indicator that can be used for capturing the state of economy?
Normally, the stock index is supposed to be the best indicator and probably the most efficient one. It is useful insofar as investors are taking decisions based on how they perceive the economy and the path that it is following. Therefore, the news of the passage of the coal and mining Bills in the Rajya Sabha will get immediately taken in by the Sensex and Nifty, which reflect the sentiment too. As it is a real-time index, it actually takes in all the available information. Further, since such indices are forward-looking, they also take in future expectations. If the market believes that the economy will grow by 8% next year, then it gets embedded in the movement and in a way enters the foundation of all expectations. The stock index is efficient because it is being determined by myriad such sentiments being expressed with the magnitude of change dependent on the quantum of such expectations.
However, going by this logic, we would all have been proved incorrect as the sense has been quite ebullient this year, though the ground-level situation has been fairly nebulous. In fact, the argument that value added from manufacturing being higher than manufacturing output on account of better quality and hence better quality products entering the basket is not reassuring, as while it can hold for some goods—maybe more high-end cars being manufactured—it does not hold for most other goods.
One tool which can be used is household spending, but as this information too comes with a lag, a better indicator is growth in consumer goods. As our economy is still consumption driven with its share of 60% in GDP, it can be a useful proxy for this growth process. But in years when the government is a big spender, there can be a mismatch. But to the extent that consumer goods, especially consumer durable goods, are an indicator of spending, this picture has not been too good for us with growth of just between 2-3% in FY13 and FY14 followed by a sharp decline into the negative territory in FY15 so far. Consumer goods are the critical part as ultimately all goods have to be consumed at the end-point, i.e. the consumer. If this spending increases, then there will be positive impact on other goods such as capital, basic and intermediate.
Growth in capital goods can be an indicator of the state of the economy—but this will hold more for investment-driven countries such as China.
For India, where the share of investment is around 28-30% of GDP at current market prices, this cannot be a leading indicator. Besides, in our context, the rate of capital formation has fallen in FY15 from 29.7% to 28.6%, and does not gel well with GDP growth. But growth in final consumption at current prices has also slowed down, which again sends a different signal.
However, the best leading indicator of the economy is growth in bank credit. While the ratio of bank credit to GDP is a little less than half, this indicator captures very well the mood in industry and service, which is the non-agricultural sector that has its own leading indicators. In fact, there is a strong correlation between growth in GDP at constant prices and growth in credit. For the longer time period 1953 to 2014—based on the earlier series of GDP, it was 0.30 and for the last 30 years it was 0.49. The same coefficient increases to 0.65 for the last 10 years. Here the absolute levels are compared, which means that high growth in credit normally is associated with high growth in GDP too. It sounds logical in our context, where banks are the main source of finance for both working capital (short-term) as well as investment (long-term loans). If bank credit is growing, then it would necessarily mean that companies are borrowing for running their business (working capital).
Curiously, in years when growth in credit has slowed down, as in the last three years, the limited growth in credit had come from the retails segment while that to industry and services remained muted.
Growth in credit during the financial year is a sharper indicator, i.e. build-up over March relative to the year-on-year numbers. For FY15, for instance, up to March 6, growth was 8.8% as against 12.6%, while on a year-on-year basis it was 10.2% as against 14.3%. The year-on-year numbers can be slightly misleading if there is a preponderance effect of the previous year in this number as it includes months of the previous year too. However, these numbers do converge at the end of the year.
Hence, there is a strong case for using bank credit growth in India as the leading indicator of non-agricultural growth and use this as a basis for policy formulation as it captures both the current and capital accounts of industry. The two qualifications or caveats are that when we observe this number, we need to see whether it is due to the retail segment or corporate. Second, it is also important to see whether it is relatively well-dispersed or not. This statement, however, should be interpreted with caution as there will always be sectors that are growing and others which are not. But a spectrum auction, for example, will lead to a large increase in credit, though it will mean growth in just limited sectors.
Therefore, while growth in credit is probably the best leading indicator given that it is relatively more timely, and not subject to revisions as in case of all real indicators, the internals also need to be studied to draw firm conclusions.