Ambition should be made of sterner stuff, said Shakespeare. On that cue, India has a few tough decisions to make, should it confront a difficult emerging reality. Underlying the expectations that had led to a change in government was a cry for what business leaders thought was sterner stuff. Business channels and the press are turning turtle now.

Reports emerging now are, however, calling attention to deep structural flaws that beset any ambition of growth. Last week saw one more such report, Unmasking India’s NPA (non-performing assets) Issue , released by consultancy E&Y. The report painted a grim, but true, picture.

Limited options If this report is anything to go by, the ability of banks to lubricate the economy is going to be limited. The report highlighted the increase in gross NPAs, citing numbers from the Reserve Bank of India. From close to 3.4 per cent of total loans in March 2013 to 4.1 per cent in March 2014 to 4.6 per cent in March 2015, the growth in gross NPA has been quite alarming.

Seen together with stressed assets as a percentage of outstanding loans, growing from 9.2 per cent in March 2013 to 11.1 per cent in March 2015, the rise is quite startling. Potential provisioning requirements for these and increasing levels of capitalisation (arising from the Basel-3 requirements) will ensure that the ability of banks to meet demand for credit will be limited.

Further, there are other serious structural and cyclical problems in the economy that will add to the NPAs; and none seems to be going away in a hurry. For instance, the steel industry and its global downturn are here to stay for some time. The ineffectiveness of the State electricity boards in buying power seems suddenly more significant than just digging and transporting coal to solve the power sector problems.

Clearly, to tide over these structural and cyclical problems capital is required, but there are few sources. The shape of things to come is clearly not very pleasant and is revealing deep rooted flaws papered over for a long time.

The report discusses two types of problems that have contributed to this situation.

In the first tranche of responses to questions about NPAs, bankers make a strong argument for knowledge and relevance. They suggest that reasons for failure can be attributed to lack of due diligence process. More than 68 per cent bankers called attention to these lacunae.

The second tranche of suggestions related to shortfalls in the audit process, the need for a more widespread use of forensic audits, to differentiate between wilful and circumstantial defaulters, and to have processes that limit perverse behaviour by borrowers.

Get creative Resolution of these problems is going to require more than just an administrative diktat. The problem is too deep and cannot be left only to the banking division of the ministry of finance. For years, the management of banks has focussed on the profit and loss statement, and not on the balance sheet.

The focus has been on lending money, showing short-term profits and leaving the quality of assets and its management to the next change in leadership. The teaching of finance has focused consequently only on two principles: the projected income over time and the present set of profits.

No attention has been paid to the cyclical nature of the economy, the forward and backward linkages, and the challenges that exist in the sub-sector of steel, power, or even agriculture. Management by patronage has been the dominant emphasis. Consequently, no or little attention has been paid to funding research, building long-term skills, identifying economic bottlenecks that constrain growth and building skilled manpower.

It is no surprise that in any advanced economy, a lot of the critique of public policy and priorities is shaped by banks. The report also focuses on increasing monitoring. That said, the problem will not be solved only by increasing monitoring procedures, especially forensic audits.

When loans are sought for risky investment, the question that needs to be asked is: Where is equity, especially risk capital? The only supplier of equity of any substance is the Life Insurance Corporation (LIC). Should it have been allowed independent and professional management, it would have created diverse sets of capital for different stages of industry.

Most insurance companies across the world diversify their allocation of capital for all types of downturns and upturns in any economy to capture benefits at each cyclical turn.

Such a diverse categorisation would have enabled the creation of a critical resource for the economy and its different segments. It would have complemented bank lending and the focus on debt.

Tap them good Other than managing legacy holdings of old blue chip companies and premium real estate granted by the government, LIC hasn’t done anything significant to help in these matters.

There is no sector of the economy, either emerging or legacy, that we can substantially say was funded by equity capital, especially at the early stage, by insurance companies. Neither is there any segment of the economy, that was funded in its downturn or rescued by the nationalised insurance companies.

All we can point to, in the case of the LIC, is the rescue of public sector initial public offerings from abject subscription failure. This is unfortunate, as no economy, especially of the size and ambition of India, can afford not to have a range of domestic equity sources to meet the needs of the economy.

Ambition of India’s industry has to be shaped decisively. Growth will only come when domestic capital is crafted to meet India-related risks. This will dramatically require revamping our overall approach to all our financial institutions. Each of the capital market segments — especially insurance, debt and capital markets — require a holistic creative integration.

Future growth and subsequent decline of NPAs will only be possible when we question the merits of existing approaches, especially the role of government bodies and arms.

The writer is a consultant with Market and EcoSystem Advisory

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