How capital markets can support flow of credit and capital for productive purposes

Slowing economy, increasing joblessness, falling tax revenues, dip in household savings and a lack of pick up in investment activity are serious challenges facing the new government. Capital markets can aid the revival by supporting the flow of credit and capital for productive purposes, increasing non-tax revenues and reviving the animal spirits. The last few years have seen a healthy shift of savings from real estate and gold towards monetary assets. This should be further stimulated by appropriate fiscal and policy measures by the government, as this creates resources for productive investments and helps a capital-deficient country move towards self-sufficiency. The demand-pull will come from quality paper coming to the market. SEBI must come up with specific schemes.

The demise of domestic financial institutions coupled with the pile up of NPAs with PSBs has starved the flow of capital towards long-term infrastructure and manufacturing. Bond markets can fill in this void as well as provide a platform for monetary transmission that is not happening through the banking channels despite three rate cuts by RBI. Mandating large corporates to meet a percentage of their borrowing from bond markets and other steps have been taken to develop bond markets. However, much more is needed to increase the supply of paper as well as investors to bond markets. Mandating debt funds to invest in rated bonds, rather than limitlessly funding NBFCs, should be considered. Fiscal incentives should be provided to retail investors in the form of exemption from interest earned from listed bonds up to a specified limit. Well-performing loans of PSUs should be converted to listed bonds, and infrastructure bonds with credit enhancement support from institutions like India Infrastructure Finance Company should be floated to increase the supply of quality paper.

MSMEs create substantial GDP. The flow and cost of credit to them remains a perennial problem, especially in the services sector. This is further compounded by the need for collaterals and ‘lazy’ banking habits (i.e. providing a majority portion of the credit to large borrowers) developed by our PSBs. GoI institutions should provide credit enhancement support to bond issuances by MSMEs. This will enable MSMEs to raise debt from public markets rather than be dependent on banks. It will also contribute to development of bond markets, support entrepreneurship and create jobs.

Invest Trusts (IT) have come of age. Amendment in IT guidelines earlier this year has led to revived interest in the sector. The Embassy-Blackstone REIT listing and the KKR-GIC takeover of India Grid Trust (IndiGrid) are testaments to the maturing of this market. It’s time the government thought about monetising some capital-intensive heavy assets of key infrastructure activities like railways, ports and roads by way of a government-sponsored IT. This would unlock investments, and raise capital for infrastructure investment and relieve stress on government finances. The success of Bharat 22 ETF should give confidence that a government-sponsored IT will have takers. IT guidelines need some further review; for example, having the same entity as the ‘sponsor’ and ‘asset manager’ can lead to potential conflict of interest without proper oversight from ‘trustees’. Enhance their role, and appraise their work.

The Interim Budget set an ambitious target of garnering Rs 90,000 crore from disinvestments and privatisation. In the absence of a clearly-articulated dividend pay-out and capital allocation strategy, our PSUs are not commanding optimum pricing in the capital markets. Further, timely divestment and privatisation will avoid value destruction, as has happened in the case of telecom (MTNL and BSNL) and public banks. Appropriate care should be taken that constant ‘dividend sponging’ leaves the PSUs with enough resources for reinvestment. Strategic sale with 26% stake with the government should get priority. Capital output ratio and employment generation will rise, like in the case of Hindustan Zinc.

Some other forms of raising resources need to be considered by the Department of Investment and Public Asset Management; for instance, some PSUs with steady cash flows could undergo a leveraged recapitalisation via listed bonds. This would provide a fillip to bond markets, while raising resources for the government without having to part with any part of ownership of the underlying entity. Similarly, listed ITs, leasing, sale and lease backs, asset divestitures (especially land) vis-a-vis company divestitures should be considered on a case-by-case basis rather than outright divestment. The National Company Law Tribunal (NCLT) was meant to expedite company-related matters, especially corporate restructuring. Expediency from the NCLT will result in improved capital efficiency.

The retail investor should remain fundamental to government policy. Exemption of tax on long-term (say, three years) capital gains on listed equities will serve the broader objective of financialisation of domestic savings, and in line with the recent HR Khan Committee report that advocates encouragement of long-term FPI flows. Taxing LTCG has yielded limited revenue and may encourage the flow of savings back to gold and real estate, while leaving the country dependent on foreign capital to fund its capital requirements. The late George Fernandes would be best remembered by capital markets for mandating MNCs to list in India. MNCs bring good governance and global management practices; the Indian investor should benefit from their growth in India, given our liberal FDI regime. Retail investors should also be given a listed platform to invest in early-stage entities.
A well-developed pool of asset managers with skills to invest in varying asset classes will aid in the development of capital markets. Professional financial asset managers of all classes must be encouraged and be given a level-playing field with mutual funds. Ease of KYC norms, consistency of taxation norms, self-declaration based taxation for foreign investors, etc, will help asset managers build investors’ confidence regarding the long-term potential of India.