Insuring insurance

Written by Percy S Mistry | Updated: Apr 12 2014, 08:44am hrs
Given the unfortunate legacy of the Pranab Mukherjee era at the finance ministry (2009-12), what must India do now (after a new government is installed on May 17, 2014) to get out of the mess it has dug itself into and restore its credibility as an attractive destination for foreign investors

A few preliminary thoughts are provided below as far as financial system liberalisation is concerned.

Most of all, Indias policymakers need to realise that their past focus on traditional sources of foreign fundingthe US, the EU and Japanare now passe. These economies are in long-term trouble. Because of the embedded entitlements that simply cannot be funded through the normal rate of taxation, their economic models are broken. Sonia Gandhi as Indias Eva Peron wants us to emulate this failed model. The EU-US-Japan are hopelessly over-indebted. Their public finances are in need of repair. If these three large economies were not reserve-currency issuing blocs, providing excess global liquidity (of dubious value) to prop up their own economies through money-printing, they would (and should) now be under the ministrations of the IMF.

So, India needs to look at new sources of capital where the largest surpluses now reside, i.e. sovereign wealth funds, banks and asset managers in China, Korea, Taiwan, Singapore, Brunei, Malaysia, the Arab-OPEC oil exporting countries, Germany (as an exception in the EU) and to other large emerging markets (especially Brazil and South Africa) whose corporate firms are looking to establish global transnational networks on a reciprocal basis. Finally, rather than let financial and FDI liberalisation drift out of control as it has since 2009, India needs to initiate unilateral, non-reciprocal action to serve its own interests.

But what does India specifically needs to do so as to liberalise its financial system

Lets begin with the insurance sector. In no sector has India behaved as badly with foreign investors as in the insurance industry. By delaying beyond justification the passage since 2008 of the amended Insurance Bill, India has kept foreign investors hanging. Indias absurdly low FDI caps in insurance, and its unpredictable approach to insurance regulation, has diminished its image in the financial world.

This stance has punished the post-2004 foreign investors in insurance JVs who have done more than their fair share in keeping the private insurance industry going. But foreign partners have had to do so in an increasingly weak state of under-capitalisation and disrepair which bars them from making the investments they need to make in their JVs.

Leaving current insurance legislation in situ rewards domestic partners who have taken virtually no risk on their equity capital. The full risk has been assumed by the foreign partners whom domestic investors have taken for a ride, insisting on assured returns. At the same time, these domestic investors are unable or unwilling to provide the additional capital the JVs need and contribute little to the management of the JV and its distribution capabilities.

Compared to its treatment of foreign investors in other segments of the financial services industry, Indias treatment of foreign insurers has been discriminatory and protectionist. What it does is:

n Creates an unfair playing field for competition among different foreign investors and JVs by according privileged, legacy-based regulatory and financial treatment to older established (pre-2003) JVs;

n Prevents immediate (2014) foreign capital inflows of around $2-3 billion and subsequent ones (2015-18) of $5-7 billion;

n Jeopardises the capital adequacy (and therefore the policy protection abilities) of about 16 JV firms in the life insurance sub-segment and another 13 in the non-life ones;

n Artificially protects the six or seven pre-2003 entrants in private insurance from greater competition, thus enhancing the value of their imminent IPOs at the expense of smaller, later entrants;

n Artificially protects the market share of public insurers, who would have otherwise faced intense competition from private firms who have introduced new industry standards and boosted premium incomes significantly;

n Metes out discriminatory treatment to FDI in insurance with a cap of 26% in place for 13 years while the same cap has been removed or lifted to 74% in every other segment of the financial services industry within five years;

n Prevents the emergence of a stronger private pension industry (despite the passage of the Pension Bill) in which global insurance companies are major providers/players;

n Artificially restricts the debt and equity capital needed for critical infrastructure investment, the kind of investment preferred by insurance companies given their long-horizon asset-liability matches and;

n Worsens the current and capital account deficits in Indias external accounts.

One can understand the opposition of the Left parties to the amended Insurance Bill. After all, they represent the interests of public sector unions in financial services. Those interests are diametrically opposed to those of the consumer of financial services. They only serve to foster waste, over-staffing, inefficiency and corruption. The unbridled destructive power of these public sector unions in India now needs to be tamed in the same way Margaret Thatcher tamed the power of the mining unions in Britain in the 1980s. It will take a strong PM to do that, to stand up to the unions, to not fall prey to crony capitalists, to understand what is at stake.

But, beyond that, how can one understand the opposition of the BJP and especially that of former finance minister Yashwant Sinha (who, when he was the finance minister, actually proposed the same legislation that he has since opposed) to the amended Insurance Bill Whose interests are they/he protecting Certainly not those of the Indian consumer. Are the Opposition and Sinha protecting the interests of LIC, GIC and other public sector insurance companies Do they need to do that especially when the public sectors share is still over 70% of the total insurance market

Moreover, do they realise that when they protect the public sector insurance companies by shielding them from private competition, they are increasing dramatically the contingent liability on the government of Indias balance sheet which assumes the capital guarantee risk for public insurers No one knows what the total extent of that contingent liability is, or at what rate has it grown. One only knows that, despite GICs supposed new specialisation in reinsurance, India is not buying enough reinsurance from global sources to cover the risks that public insurers are taking collectively. All one can be sure of is that if things go pear-shaped, the Indian taxpayer will bear the brunt of the burden.

Or, are the Opposition and Sinha protecting the interests of the five large private insurers which were established prior to 2003 and are now in profit, generating net cash on a significant scale Is Sinha battling to keep the insurance legislation intact until these five players have launched their IPOs by protecting, for as long as possible, the sanctity of their 74% stake and limiting the stake of foreign partners to 26% until their IPOs are done If so, is that fair Is that the way in which India as a country should be behaving Should such rampant skulduggery be allowed by the Competition Commission of India

Why should insurance be singled out for keeping the FDI + FII + NRI cap at 26%, when in every other segment of the financial services sector that cap has been lifted to either 74% or 100% within five years of foreign entry being permitted All of these serious questions need urgent answering if a new government is to restore Indias credibility. As soon as it takes office, it needs to correct the egregious failure of the UPA-2 government which delayed the amended insurance legislation while focusing its misplaced energies on damaging legislations like the Food Security Act.

(This is the second in a

three-part series)

The author is chairman, Oxford International Associates Ltd.

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