Friday, May 17, 2019

Learn from history, don't repeat it

 
"The man who has done his level best... is a success, even though the world may write him down a failure."
—B. C. Forbes (Scottish Journalist, 1880-1954)
Word for the day
Consent (v)
To permit, approve, or agree.
 
First thought this morning
The salvaging of erstwhile Satyam Computer is a classical case study in successful government intervention in corporate affairs. The intervention was swift, bold and effective. The troubled company was not only salvaged, its future growth was also ensured. Jobs of all 50 thousands employees were saved.
US government has also been doing similar interventions. More particularly, in the wake of global financial crisis, US administration acted swiftly and salvaged some large corporations like Merril Lynch, General Electric, General Motors, AIG, CITI, Fannie Mae, Freddie Mac savings a large number of jobs and resources. In hindsight, most of the companies bailed out under US TARP program turned out to be profitable. As per data available till February 2019, against the total TARP (Troubled Asset Relief program) bailout disbursement of US$632bn to 980 entities, a total of US$739bn have already been returned through repayments, dividend and interest resulting in a net profit of US$107bn or a return of 1.54% CAGR for the government, which is not too bad considering the near zero rate environment in US for most part of last one decade. Still an amount of US$242bn is outstanding to be recovered from 322 entities. Implying two third of the TARP recipients have successfully exited TARP. (See details)
On fails to understand, why the past successful experience have not been used in salvaging big businesses like IL&FS and Jet Airways, especially when a large number of jobs are at stake and the underlying business still makes sense.
If market rumors are to be believed, we may see some more large sized business going the Jet way, especially in financial services space.
For those who are jittery about the prospects of a third front government, it may be a pertinent to note that at the time of Satyam salvation, the decision maker was a minister in UPA government from Lalu Prasad Yadav's RJD party. TARP was implemented by a businessman from Texas (POTUS George Bush Jr), not particularly known for sophistication, suaveness or oratory skills.
Chart of the day

Learn from history, don't repeat it
I mentioned in my notes earlier this month (see here and here), that India may be standing at the threshold of an industrial revolution of its own. If the present trend continues, we may soon see the share of manufacturing in the national income rising materially.
The fear is that the current trend may reverse abruptly, just like it did in mid 1990s, and we may revert to lower 5-6% growth orbit. At this point in time I strongly disagree with this rather pessimistic and deeply prejudiced opinion. Nonetheless, I find it relevant to study more about the history of industrial development in India to find the fault lines that may still exit to derail the growth of manufacturing sector in India.
One interesting this that I noted was the role of three main development financial institutions (ICICI, IDBI and IFCI) in creating a foundation for Indian manufacturing sector as well as the financial services infrastructure. Institutions like NSE, NSDL, SHCIL, CARE, EXIM Bank, SIDBI, SCICI, CRISIL, HDFC, TDICI, TFCI etc., were promoted by these institutions.
All the three institutions suffered huge NPAs in the 1990s due to a variety of reasons, especially capacity creation in commodities like steel, fertilizer, textile becoming unviable.
Narasimham Committee on Financial Sector Reforms noted that in a market driven economy, the sustenance of DFIs may not be viable, since these institutions may be raising funds at current market rates and lending to businesses with long gestation and often high risk of failure, therefore incurring high credit cost. These institutions cannot function as pure commercial entities unless adequately supported by the government. Accordingly, the Committee recommended DFIs should be converted either to a bank or a NBFC and should be subject to full rigour of RBI regulations as applicable to respective categories. Further, no DFI should be established in future without the Central Government support. Accordingly, both ICICI and IDBI were converted into commercial banks, and IFCI was converted into an NBFC.
Another reason for doing away with these DFIs was the feeling that since the banking system has acquired the skills in managing risks in extending finance to different sectors of the economy including the long-term finance and capital market, providing larger significant resources to the corporate sector, the need for the DFIs as an exclusive provider of the development finance has diminished.
In past 15yrs, since end of IDBI, a new category of infrastructure finance companies (specialized NFBCs) and government supported DFI like India Infrastructure Finance Company (IIFCL) have emerged. But the current NPA cycle has impacted almost all banks and most NBFCs. The impact on banks and some NBFCs is as bad as it was in case of DFIs, if not more.
I feel that we need to study the evolution of financial sector in India in depth. Drawing lessons from the present and previous NPS cycles and assimilating the emerging financing needs, a new paradigm needs to be evolved in the financial sector. At present there is no specialized institution for manufacturing sector financing and funding of digital economy.
My understanding so far suggests that we do need highly specialized development financial institution for manufacturing, infrastructure and digital sectors. These institutions must be supported adequately by the government, but managed professionally. Leaving this space entirely to commercial banks and NBFCs may not be appropriate. That is if we really care about history and believe that historical mistakes are for learning and not for repeating.
To begin with large commercial banks like ICICI, HDFC, AXIS and SBI may partner with the government to promote a Manufacturing Finance and Credit Institution (MFCI) to meet long term funding needs of manufacturing units competing with global peers.

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