Friday, December 18, 2020

Privatising Indian banks isn’t easy

 The government promises us a big privatisation initiative. It’s not clear whether this includes the transfer of public sector banks to private control. It may mean just dilution of government stakes in PSBs below 50 per cent.

A proper case for PSB privatisation hasn’t been made. In a recent article    in EPW, I make three points:

i.It isn’t true that PSBs have consistently underperformed private banks. The sharp divergence in performance is post 2010 and is the result of PSBs taking a large exposure to infrastructure and related sectors as part of the government mandate. 

ii.  Dropping government stake below 50 per cent is okay provided government continues to be an active investor. Leaving it to institutional investors to manage PSBs is risky as we are yet to develop a culture of professional managers accountable to institutional investors

iii.Valuation will prove tricky and selling PSBs at today’s distressed prices will evoke accusations of a scam that could paralyse PSBs and the government.

Better now to focus on improving PSB performance under the framework of government ownership. There is a marked improvement of late and we may expect more.

Wednesday, December 16, 2020

India's economic recovery vindicates government's approach

S&P is the latest forecaster to revise its growth projections for India upwards. It expects FY 21 growth to come in at minus 7.7 per cent compared to minus 9 per cent earlier.
India (is) learning to live with the virus, even though the pandemic is far from defeated. Reported cases have fallen by more than half from peak levels, to about 40,000 per day. The feared resurgence following the recent holiday season has yet to materialize. People are moving around much more, with Google data suggesting mobility in retail locations is 25%-30% below pre-covid levels in recent months. This compares with over 70% below normal in the quarter through June 2020,
The crucial point is that the loss of output potential has been less than feared and consumer demand is also coming back. Many economists had thought that the collapse of demand would result in a large loss of output potential as firms closed and people lost their jobs. They wanted a strong fiscal stimulus that would keep firms and jobs alive. 

The government seems to have reckoned that the solvency of firms was not such a big issue and that liquidity support to tide over the lockdown period would suffice.It has to be said that the government reckoned correctly. As a result, we have a fiscal deficit that is not so large as to warrant a sovereign rating downgrade. 

The learest indication that liquidty support has served the purpose is that loan moratorium and loan restructuring requessts from borrowers have been way below what most analiysts and bankers had expected. As a result, we can be reasonably confident now that the banking sector can ride out the covid crisis. It is the prospect of an early and strong economic recovery and a resilient banking sector that explains the surge in bank stock prices in recent weeks. If the present trends continue,the government deserves credit for a calibrated response to the covid shock. 

More in my BS column, Covid shock: India got its response right. 


Covid shock: India got its response right 

The economic recovery thus far has vindicated the government’s approach to minimising the impact of the pandemic Did the government get its handling of the pandemic right? That is the question many will have on their minds as the Indian economy recovers from what was touted as the “worst crisis of the century”. 

There are two parts to the question. One, was the government right to enforce a nation-wide lockdown last March? Two, having imposed the lockdown, did it take the right steps to minimise the damage to the economy? 

The definitive answer to the first part may not be known for a long time. Almost everything about the virus is up for debate at the moment. Is it transmitted mostly through close personal contact? Does social distancing by law help? Is masking of any great use? Are the tests for the virus reliable? Will vaccines prove effective enough and without significant side effects? What answer you get to these questions depends on which scientists you ask or what research papers you choose to believe.

 The Indian government opted for a complete lockdown last March. It judged that the priority was to limit the spread of the virus until adequate capacity was created in the healthcare system. Armchair commentators are free to contend that the health outcomes would not have been different sans a stringent lockdown. They may say that livelihoods should have got a higher priority than they did. However, most people would agree that no government could have taken the risks involved in such an approach last March. 

It is the answer to the second part that is more contentious. In the initial months of the pandemic, there was a chorus of demands for an extra-strong fiscal response. Former chief economic adviser Arvind Subramanian and economist Devesh Kapur exhorted the government to spend an extra 5 per cent of gross domestic product (GDP). Former Reserve Bank of India governor Raghuram Rajan was of the view that India’s fiscal stimulus was inadequate and the strategy of conserving the fiscal stimulus for a later date was self-defeating. Nobel laureate Abhijit Banerjee urged the government to emulate advanced economies that had resorted to a bigger stimulus. Leading economists based in India echoed these views. 

The Indian government chose not to be guided by this barrage of advice. It has preferred to limit the additional fiscal stimulus for the year in the range of 2-2.5 per cent of GDP. One can discern the considerations that influenced this approach. One, the best way to contain the impact of the pandemic on the economy was to end the full lockdown at the earliest. Two, India’s fiscal position was already difficult. A substantial expansion in the fiscal deficit would have implications for the sovereign rating and for an early return to fiscal consolidation post the pandemic. 

Three, with economic activity on hold, the weakest firms would go to the wall but the majority could survive with enough liquidity support. Four, increasing aggregate demand at a time when supply was severely constrained would not help — cash transfers would be saved, not spent, and spending on infrastructure would remain on paper. Five, a large fiscal stimulus would make it difficult for the RBI to contain inflation within the upper limit of 6 per cent. The RBI’s latest inflation forecast shows that we are perilously close to having an inflation rate of over 6 per cent in three successive quarters, which would be a breach of the RBI’s mandate. Six, domestic and foreign investors could be reassured about the long-term economic outlook by announcing major reforms. 

Events thus far have vindicated the government’s approach. All indicators point to a faster revival in growth than forecast earlier. The contraction in FY 2020-21 Q2 GDP has been lower than expected. The RBI expects growth to turn positive in Q3 itself. It is the banking sector that provides the best proof of the resilience of the Indian economy. Following the lockdown, the RBI announced a three-month moratorium on the servicing of term loans last March. This was extended by another three months up to end August. 

When the moratorium period ended, the RBI announced a policy on restructuring of loans. Pundits saw the moratorium and the loan restructuring as leading up to another mountain of bad loans in the future. The RBI’s Financial Stability Report (July 2020) projected an increase in the ratio of non-performing loans to total loans from 8.5 per cent on March 2020 to 12.5-14.7 per cent by March 2021. 

The outcomes in respect of both, the moratorium and loan restructuring, have taken bankers by surprise. Investment bank Jefferies estimates that moratorium loans accounted for only 31 per cent of all loans in Phase I and 18 per cent in Phase 2. If the prospects were as gloomy as they were made out to be, why did more firms not opt for loan moratorium? Perhaps the gloom was exaggerated by firms and pundits alike? 

Banks expect restructured loans to be 2-3 per cent of the loan bank, way below the 5-6 per cent they had expected when the scheme was announced. Retail borrowers and small and medium enterprises have opted for loan restructuring but not many large firms. Bankers are astonished that even in the hotel sector, which is among the worst hit, not many firms have asked for loan restructuring.

 Analysts say that large firms wish to avoid the stigma that goes with restructured loans. Restructuring is perceived as default by rating agencies and would make it difficult for firms to access the international markets. Some of the better-rated firms are able to access funds at low rates through the commercial paper market and are using these to service their loans. 

These may be a part of the answer. But they cannot explain how so many firms expect to get by without restructuring in the face of a huge shock. The explanation must be that the shock is not as great as feared. In not opting for loan restructuring, firms are signalling that we are over the hump. CRISIL now expects the non-performing loans to total loans ratio to be 11-11.5 per cent, which is below the lower range of the RBI forecast. 

If further proof of the resilience of the Indian economy were needed, look at the inflows of foreign capital. In April-September 2020-21, Foreign Institutional Investor (FII) inflows were $8 billion, compared to $7.2 billion in the same period in the previous year. About half the FII inflows in November are reported to have gone into the banking sector. (Business Standard, December 8). It’s a sure sign that FIIs see the banking sector and the economy reviving strongly. Gross FDI inflows were $40 billion and $36 billion, respectively in the two periods. The pandemic has done little to dampen foreign investor confidence in the Indian economy. 

The government kept its nerve in the face of a massive shock. It chose not to resort to a massive fiscal stimulus. It focused instead of providing liquidity support and easing restrictions on movement in stages. Give credit where it is due. The government got its policy response to the pandemic right.

Tuesday, December 08, 2020

Prime Minister Chandra Shekhar

 Chandra Shekhar served as PM for seven months between November 1990 to June 1991. He split from the Janata Party and formed the Janata Party (Socialist) as he was never reconciled to V P Singh as PM. His party comprising 64 MPs was propped up by the Congress party headed by Rajiv Gandhi. Rajiv toppled him when he found that Chandra Shekhar would not accommodate his wishes beyond a point and also because he was afraid that Chandra Shekhar, an ex- Congressman with friends across political parties, might win over people from the Congress.

Many people see him as a rank opportunist, a man who had no qualms about sinking the Janata Party in order to satisfy his ambition to become PM. They overlook the fact that Chandra Shekhar did not occupy any government office until he became PM, a remarkable achievement, especially given the fact that Narendra Modi's becoming PM straight after having been CM - and without any experience at the Centre- is today thought remarkable.

Roderick Matthews has produced a sympathetic biography, Chandra Shekhar and the six months that saved India. The title may appear melodramatic but Chandra Shekhar did take the crucial decision to borrow against gold in order to prevent a default on India's external obligations. (It wasn't sale of gold, as many think- India pledged gold to the Union Bank of Switzerland and then to the Bank of England and took foreign currency loans against gold. ). Matthews also makes the point that Chandra Shekhar had to deal with separatist crises in Kashmir, Punjab and Assam  and was successful in putting a lid on the latter two. 

Chandra Shekhar was a member of the Praja Socialist Party (PSP) which had split from the Congress and included the likes of Acharya Narendra Dev, Ashoka Mehta, Jayaprakash Narayan and Rammanohar Lohia. Later, the PSP split, with Lohia and a few other leaders walking out of it. Ashoka Mehta led some of his followers back into the Congress. Chandra Shekhar was one of them. He was noted for his rebellious streak and earned the title of 'Young Turk'. He refused several ministerial offers while in the Congress. It's a measure of his independence that Indira Gandhi chose to throw him in jail during the Emergency.

There's no question that Chandra Shekhar was a man of great talent. He was a gifted speaker- he speech at a Saarc summit when he was PM was made extempore. He once spoke on agricultural policy for one and a half hours without a piece of paper in hand. As PM, he impressed bureaucrats with his capacity for hard work, courtesy, decisiveness, preference for consultation and persuasion in  all matters and his enormous respect for institutions. The BBC called him India's greatest PM since Nehru!

Matthews tells us that Chandra Shekhar  was very clear that the Ayodhya dispute could be resolved only through negotiations and that it wasn't a matter that could be resolved by the courts. According to Matthews, Chandra Shekhar was close to clinching a solution. This involved the Muslims surrendering the disuted site to the Hindus while being compensated with land elsewhere in Ayodhya and a promise that no other temple issue would be re-opened. This is a remarkable disclosure considering that that is how the issue has finally been settled.

Chandra Shekhar laid no claim to be a saint or even being free from corruption. He was frank enough to accept that the the political machine is greased by tainted money and that if he wanted to be in politics, he had to live with the fact. In politics, such frankness is not appreciated. You need to be a hypocrite. Chandra Shekhar's image was badly dented by his open association with a coal Mafia don in Bihar and with godman Chandra Swami.

Matthews book provides plenty of background on the crucial political and economic issues in Chandra Shekhar's time. However, he has little to document by way of Chandra Shekhar's concrete achievements, given that his subject had little opportunity to demonstrate his remarkable talents. 

This biography is a useful reminder that India does not lack political talent. Those who rise to the top in Indian politics have the leadership and administrative qualities needed to steer the country. People fret about our corrupt and bungling politicians. Matthews book drives home the point that the nation is safe in their hands.

Saturday, December 05, 2020

RBI action against HDFC Bank

 The RBI has come down heavily on HDFC Bank for disruptions in its online payment services. It has barred the bank from expanding its credit card  and digital business until the IT issues are satisfactorily addressed. 

RBI Governor Das took the unusual step of explaining the rationale for the central bank's move. He said, "You see, you cannot put thousands or lakhs of customers who are using digital banking into any kind of difficulty for hours together... It is important that the public confidence in digital banking is maintained".

It is indeed significant that the regulator has asked the board of HDFC Bank to fix accountability for the lapses on the IT front.  This is something one would expect of any board but we know this seldom happens.

The RBI's action against the leading private bank in the country is quite remarkable. In the past, there was a feeling that the regulator was treating the new private banks with kid gloves. Typically, monetary penalties of a few million rupees were levied, which were nothing but a rap on the knuckles. It was during the tenure of Governor Urjit Patel that fines were ramped up significantly and neither private nor foreign banks were spared. The RBI did not go along with the decision of the board of Axis Bank to extend the tenure of its then CEO. 

Under Das, the RBI has gone further. The CEO of Yes Bank was asked to stepped down and then the board was superseded. At HDFC Bank, the appointment of two executives to the board just months before the end of the tenure of CEO Aditya Puri was rejected. Bandhan Bank was penalised for not complying with the requirement to reduce promoter's shareholding below 40 per cent. And there was the tussle with Kotak Bank over reduction in the promoter's stake. 

It was the RBI's discussion paper on corporate governance in banks released a few months ago that stood out. The report is ownership-neutral in its approach to governance. It highlights the fact that the functioning of key officers- the Chief Risk Office, the Chief Compliance Office, the Head of Internal Audit and the Chief Vigilance Officer- is unsatisfactory and this is because of the manner in which they are appointed and appraised and whom they report. The paper proposes a radical overhaul in corporate governance at banks, irrespective of ownership.

This was refreshingly different from the approach of the P J Nayak committee (2014) which gave the impression that governance issues were predominant at public sector banks and that these banks needed to adopt the ownership structure and other practices at private banks.

Private banks do better not because of superior governance, meaning the functioning of boards and compliance with regulations, but for a variety of other reasons: a clear focus on making profit, the absence of government mandates to pursue particular objectives such as financial inclusion, superior incentives for top management and, well, sharp business practices that public sector banks cannot emulate. The RBI's actions show a welcome recognition of the shortcomings in governance at private banks. 

Tuesday, December 01, 2020

Killings fields of Afghanistan and an assassination

 The New York Times and The Washington Post carry on their front pages global news mostly on the basis of their importance and American news has to compete for attention with news from elsewhere. Indian papers, in contrast, are extremely India-centric in their coverage and most foreign news is relegated to one or two of the inside pages.

So you may not have heard of the scandal in Australia over the killing of Afghan civilians by Australian special forces stationed in the country. It was cold-blooded killing, with junior soldiers often being asked to shoot prisoners to get a taste of killing.

An enquiry has been  held into these war crimes and 25 soldiers found to have been involved in unlawful killings. However, the report of the enquiry has been quick to exonerate the superiors of these soldiers for their conduct. The finding has evoked widespread ridicule and criticism. Australian PM Scott Morrison has been constrained to reject this finding. This has embarassed the chief of Australian Defence Forces, who had echoed the findings of the report.

A complication for Australia is a tweet from a Chinese foreign ministry spokesman on the subject. The tweet carried the photo of an Australian soldier slitting a child's throat. Relations between Australia and China have been strained in recent months and the Chinese are making the most of this episode.

Here's a scorching commentary on this ugly episode in Russia Today. 

Then, there is the assassination of Iranian nuclear scientist Fakhrizadeh about a week ago. The scientist, who is said to have headed a covert nuclear weapons program, was killed just outside Tehran  in an encounter that could be straight out of Mission Impossible. The initial reports said he was killed by a commando squad that leapt out of a vehicle as his car, along with an escort of bodyguards, made his way to a town on the outskirts of Tehran.

Now, we are told he was killed by a remote-controlled machine gun that was operated through a satellite! Iranian fingers are pointed towards Israel. How any agency could have pulled off such a feat in the heart of Iran is a mystery. Clearly, there is logistical and other support provided by individuals or groups within Iran at a time when the country is reeling under sanctions. Whatever the methods used, the episode highlights Iran's vulnerability and the ability of its enemies to strike inside Iran at will. Hard questions are being asked of Iran's security establishment.

Iran has vowed revenge. It did likewise when Iranian commander Qassem Soleimani was killed in a US drone attack some months ago. At the time, Iran confined itself to a limited attack on US bases in Iraq. In the present instance, it faces a dilemma. If it retaliates, it will invite a massive response from the Israel and the US. That will put paid to Iran's hopes of a return to the nuclear agreement, signed during the term of President Obama, under the incoming Biden regime. (Trump has scrapped the agreement). If it lies low, it risks emboldening its enemies who will conclude that there are no costs to killing Iranian civilians in Iran.