Rebooting Corporate India?
To lift corporate India into a higher trajectory of growth, bank lending has to restart. Private investment has dropped precipitously over the past three years. Capital formation is down. The sa vings rate has sagged. All of these point to weak consumer demand and cash-strapped corporates
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After a long corporate winter, is spring in the air? India’s corporate sector has been buffeted over the past three years by stormy winds from several quarters: demonetisation shaved consumer demand, GST disrupted the SME sector, and bank NPAs starved companies of funds. Investment in new projects plunged. Corporate profits stagnated. It is only in the last quarter that a semblance of recovery is visible. Green shoots, however, can wither. Private investment has atrophied over the years. Credit offtake is low, leading to working capital shortages for industry. This makes banking reform critical to nurse the corporate sector back to health.
Let’s start though, with some good news in the macro economy. Industrial growth in January 2018 more than doubled to 7.5 per cent over January 2017 (3.5 per cent). Manufacturing led the recovery. It nearly quadrupled the growth recorded in January 2017 (2.50 per cent) with a robust rise of 8.7 per cent. Even more encouraging, the capital goods sector, which mirrors industrial activity, spurted 14.6 per cent in January 2018 compared to a contraction of 0.6 per cent in January 2017. The investment cycle is likely to turn positive over the next few quarters if the early projections of a good Monsoon prove accurate, boosting rural incomes and spurring consumer demand. As corporate profits pick up, R&D budgets must rise. Without world-class R&D, Indian industry will lag behind the US, Europe, China and East Asia in fostering innovation.
The Goods and Services Tax (GST) remains a cumbersome work-in-progress. Small and medium companies complain about slow refunds, complex compliance rules and intrusive tax scrutiny. The introduction of e-way bills from 1 April, 2018 will add a new layer of complexity for small companies with inter-state businesses. According to a recent World Bank report, India’s GST has the second highest tax rate in the world and is among the most complex. A malign corollary of such complexity is the return of the “Inspector Raj” that spawns corruption and hurts business confidence.
The litmus test for a healthy, growing economy is of course, job creation. The Narendra Modi government’s target of generating ten million new jobs seems utopian. Consider the latest figures. According to the Labour Bureau’s seventh quarterly employment survey data released in March 2018, 1.36 lakh jobs were created in the organised sector in the July-September quarter of 2017 (the latest quarter for which data is currently available). Even factoring in the effect of demonetisation and GST on that quarter, the figure is clearly minuscule. But there are caveats. The data covers only eight industries in the organised sector which anyway accounts for a fraction of the country’s workforce. According to the Economic Census, there are 130 million employees in India. Of these, only 24 million are employed in the organised sector (firms with ten or more employees). That leaves 106 million employees in the unorganised sector. A new year-long survey which will cover firms that employ less than ten workers is to be launched in April 2018. B.N. Nanda, a senior labour advisor in the Labour Ministry, confirms: “It was decided to count jobs growth in establishments having less than 10 employees. The move will give a comprehensive picture of the job scenario in the country and may help settle the job growth debate in the country.”
To create ten million new jobs a year though, 130 million employees in the organised and unorganised sectors will need to expand at 7.5 per cent a year. In a vibrant economy that target is within reach if the vast number of self-employed are included, especially under the Mudra scheme which has generated “job creators” through small loans to entrepreneurs.
Bank on Growth
To lift corporate India into a higher trajectory of growth, bank lending has to restart. Private investment has dropped precipitously over the past three years. Capital formation is down. The savings rate has sagged. All of these point to weak consumer demand and cash-strapped corporates. That may be changing. Consumer demand is picking up as the impact of demonetisation fades. Banks are beginning to lend, but cautiously in light of the various scams that have seen bank NPAs ballooning. The Insolvency and Bankruptcy Code (IBC) is restoring confidence among both lenders and corporates. Debt-laden companies with strong underlying assets are being snapped up by leading companies in key sectors like steel, cement and infrastructure. This has the potential to clean up bank balance sheets replete with NPAs and allow them to boost corporate lending. Companies starved of capital can restart investing in stalled projects. The resulting growth in private investment will boost the economy currently over-dependent on government spending.
A key factor in reviving private investment in the economy, creating jobs and fuelling consumer demand is banking sector reform. Apart from the Insolvency and Bankruptcy Code which promises to alleviate the NPA problem and restore the momentum of bank lending to corporates, there is a growing clamour for privatisation of public sector banks (PSBs). In a thoughtful article in Mint on 13 March 2018, arguing for privatisation of PSBs, Infosys Chairman Nandan Nilekani wrote: “From 1947 to 1955, 361 private banks in India had failed, leaving depositors in the lurch. On the midnight of 19 July 1969, 14 of the largest commercial banks in India, which account for 85 per cent of all deposits, were nationalised. In the almost five decades since, we’ve managed to stabilise and expand access to banking to the people. India now has more than a billion bank accounts. From 2015, the Reserve Bank of India (RBI) has changed the way banks report their non-performing assets. This uncovered a mountain of bad debt, triggering the introduction of the new bankruptcy code in 2016. The recent announcements by RBI have brought a larger section of loan accounts into the new approach, which focuses on viability of borrowers.
“Given that financial inclusion and lending to the unserved is now possible with technology, the arguments for state-owned banks wither away. The market knows these truths and today HDFC Bank alone has a market capitalisation higher than the top 22 government-owned banks combined. The share of new loans issued by PSBs have dropped from 49 per cent in 2014 to just 28 per cent in 2017. The argument for privatisation, then, is simple. It is already creeping up on us, whether we like it or not. Technological disruption has made it even more critical. By divesting from PSBs, and yet devising a way to keep the upside of their future growth, the exchequer can still capture the value that is inexorably being eroded from these banks. Privatisation is no longer a question of if, but when.”
Privatising PSBs is as much a political as a financial decision. Public sector banks have long served as repositories for politicians to grant favours to businessmen. They have over the past five decades helped build an edifice of crony capitalism. The Nirav Modi, Mehul Choksi and Vijay Mallya cases are a byproduct. Many companies deeply immersed in debt received loans with little or no collateral resulting in the toxic NPA problem. Private banks like HDFC Bank, Yes Bank and others have been largely unaffected. Their systems are robust, technology world-class and management accountable. The case for a “Maruti” model for PSBs, where the government retains a minority equity stake but cedes management to professionals, could work both politically and commercially.
An encouraging sign for the Indian corporate sector is the buoyancy in the startup ecosystem. India is rapidly becoming the world’s third largest startup hub after the United States and China. Virtually every major global venture capital fund and private equity firm is scouting for investments in India. After a slow 2016-17, valuations are again rising. E-commerce remains strong. Food tech is resurgent. Artificial Intelligence, machine learning, online education, big data and logistics are red hot vehicles for domestic and foreign investors.
Adding to the funds flowing into the Indian corporate sector for startups is traditional FDI in infrastructure, manufacturing and defence. The government’s Ease of Doing Business ranking will however break into the top 50 (it is currently placed 100th) only when a red carpet replaces red tape for investors. This was Prime Minister Narendra Modi’s promise four years ago. While some rules for foreign investment have been eased, the red carpet awaits delivery. US-led protectionism meanwhile, poses a threat to Indian industry, especially if the principle of reciprocal taxation is implemented by Washington. With the US economy growing at over three per cent a year, the Federal Reserve is likely to increase interest rates, putting pressure on the rupee and the trade deficit.
Rural distress is real and growing. Land holdings are small. Local government machinery is slow and corrupt. Some farmers wait years to receive their dues on promised waivers. The 2018-19 Union Budget tried to address this problem by pledging a minimum support price (MSP) for crops at cost-plus-50 per cent. It though hasn’t clarified how “cost” will be computed amidst inputs like fertilisers, labour and levies. Over-dependence on the Southwest Monsoon has crippled Indian agriculture. Total foodgrain production in 2017-18 is estimated at a record 277.5 tonnes but is still less than half of China’s foodgrain output for roughly the same population. That reflects the scale of the problem facing Indian agriculture: low productivity, small, unremunerative land holdings, and corrupt local officialdom.
Between 2004 and 2006, the M.S. Swaminathan-headed National Commission on Farmers (NCF) submitted five comprehensive reports on reforming Indian agriculture. Father of the Green Revolution, Swaminathan’s reports covered every conceivable issue that afflicts Indian farmers: land reforms, crop insurance, food security, irrigation, farmers’ suicides, loans and much else. Most of Swaminathan’s suggestions remain on paper. Unless this changes, rural distress could emerge as the single most contentious factor in the 2019 Lok Sabha election. Farmers comprise 50 per cent of India’s electorate, a statistic every political party is now acutely aware of.
India’s corporate sector is deeply concerned about rural well-being. Consumption-led growth would be still-born if confined to cities and towns. Not only do 600 million Indians work on, or live off, the land, farm distress can slow sales of products ranging from tractors to fast moving consumer goods. Indian companies are on the cusp of change. New technology, a growing middle-class and economic reforms promise a revival in their fortunes after a winter chill of demonetisation and a clumsily implemented GST. Those wrinkles are being ironed out. But the green shoots of spring are still to sprout.