Indian economy needs a push for market-driven structural reforms
It is hot and hazy in Delhi, mercury rising in the range where it is nearly impossible to walk the pavements without going deaf by a cacophony of air-coolers on overdrive. Up at Raisina Hill, markedly cooler climes prevail in the high-ceilinged corridors with mahogany paneled chambers and uniformed orderlies carrying nimbu-pani.
As the new Government takes its seat, cooler heads need to look over the haze into the horizon. Indian economy is crying out for another push for structural reforms and time to plan for it is today.
Banking is one sector which is ripe for a big change in how it deals with delinquency and non-performing assets, especially at the corporate level. Gross NPA at 8.7% (12%+ including stressed loans and restructured assets) is unsustainable and unhealthy, and Indian taxpayers with 70% ownership are left to carry the brunt. Indian corporates have become masters in getting refinancing from essentially the same syndicates to keep up appearances, till a house of cards falls on its face. Banks are estimated to need over thirty billion dollars in fresh capital because of soured loans, a tough call for an exchequer draining already at over two and a half billion dollars every day in debt service.
A Good Bank / Bad Bank mechanism, bringing in all stakeholders into a healthy banking system, should be the first step. Banking regulations should be amended, if needed, to force banks to transfer ownership of book of distressed assets to a “Bad Bank”, in exchange of certain capital relief. The “National Bad Bank” will be capitalized by accessing capital markets, repeatedly as needed and offering pools of loans as assets, with the Reserve Bank of India holding significant, but not controlling, equity stake. Assets within the purview of “Bad Bank” will be mandatorily parceled to intermediaries (e.g., PE firms) whose payoff shall be linked to the value-add, within limits.
This structure will transfer risks of bad loans to the market which is much more transparent and better equipped to price them. At the same time, it will do the job of “quantitative easing”, without altering rates per se. As “lender of last resort”, as well as banking regulator, RBI – together with the market – will be better equipped to provide necessary tough-love that regulations alone failed to.
Retail and commercial banks have no reason to be in Government ownership. Private banks already dominate service rankings and client reach in Tier 1 cities, public sector banks still dot the landscape in Tier 2 towns and beyond. It will be silly to wish away legacy advantages of public banks, key will be to orient them more to market discipline internally. A good step will be for the Government is cede more ownership of PSU banks. A depositary insurance mechanism under RBI supervision need be shored up in parallel so that bank runs are protected against.
A downside of bringing more profit motive to PSU banks is a possible loss of banking footprint in rural India. Postal banking can be a savior. India Post already has probably the most extensive reach amongst all developing nations, and they already have a rudimentary banking platform. Instead of forcing State Bank of India (e.g.) open a branch in every remote outpost, it makes sense to use post offices to issue more banking products at a time we are pushing digitization across the board.
Combined, these steps will clean up banks’ balance sheet, bring much-needed market discipline to handing distressed assets, simulate quantitative easing, and, increase liquidity to the system. All of this will be at a possible net gain to the exchequer while it keeps or improves the reach of the banking system.
Infrastructure will be a big focus. A big idea there will be to memorialize the strategic partnership of the banking sector with infrastructure. I propose setting up a Sovereign Indian Infrastructure Fund (SIIF) within an appropriate regulatory framework to be developed. Projects that fit a well-defined regulatory framework – whether anchored by the central government, state governments or by Public Private Partnerships – will be automatically part of pools helping them access capital by issuing bonds globally at a much more competitive price while being subject to market discipline with transparency. A Government body will play the role equivalent to a depositary insurance provider as well as administrator – setting up rules, facilitating dispute resolution, administering pools and holding equity in exchange of a fee. Institutional interest in infrastructure projects is already high and it is high time we create a well-oiled machine to bring in potentially hundreds of billions of dollars.
Driving idea behind all these is to bring the market more into areas where the government has been crowding out private participation. We cannot wait for a catastrophe to force our hands, especially when the world economy is looking to cool off significantly and threats are ramping up at the border and internally. The honeymoon period of a new government fresh after securing a “we-do” is a good time to think big and bold.
Mrs. Sitharaman, you have a big job on your plate as Finance Minister. Please put your mark on India’s future by bringing the best of all worlds together, not a collar on market discipline for economic activities.
[Partha Chakraborty, Ph.D., CFA is an entrepreneur in Blockchain and Wealth Management. All opinions expressed are of the Author alone and is responsible for any error or omission.]