Here is One Chinese Story that Narendra Modi Needs to Listen to

The Chinese economic growth story started in 1978 with Deng Xiaoping taking charge of the Chinese Communist Party. Interestingly, Xiaoping did not hold any official post. Nevertheless, he was looked upon as the Supreme Leader of China between 1978 and 1992.

Most accounts of China’s astonishing double digit growth for close to three decades give credit to Xiaoping for initiating Chinese economic growth and pulling out millions of people out of poverty in a very short period of time.

History when it gets written is built around the idea of Great Men doing great things. But things are never as simple as that.

As Matt Ridley writes in The Evolution of Everything: “If you examine closely what happened in China in 1978, it was a more evolutionary story than is usually assumed. It all began in the countryside with the ‘privatisation’ of collective farms to allow individual ownership of land and of harvests. But this change was not ordered from above by a reforming government.”

In the village of Xiaogang, 18 farmers came together. They despaired the dismal production of their farms under the collective system. And they did not like the fact that they had to beg for food from other villages. Given this, one evening they gathered together to figure out what they could do. This was at a time when even holding a meeting was considered a serious crime.

As Ridley writes: “The first, brave man to speak was Yen Jinchang, who suggested that each family should own what it grew, and that they should divide the collective’s land among the families. On a precious scrap of paper he wrote down a contract that they all signed…The families went to work on the land, starting before the official’s whistle blew each morning and ending long after the day’s work was supposed to finish.”

And this soon stared to show results. “Incentivised by the knowledge that they could profit from their work, in the first year they grew more food than the land had produced in previous five years combined,” writes Ridley.

Of course, the local communist party bosses soon came to know. The regional communist party chief intervened to save Yen and at the same time recommended that the same experiment should be copied elsewhere as well. “This was the proposal that eventually reached Deng Xiaoping’s desk. He chose not to stand in the way, that was all. But it was not until 1982 that the party officially recognised that family farms could be allowed – by which time they were everywhere,” writes Ridley.

The economic incentives of private ownership rapidly transformed farming in China and industry soon followed. While the Communist Party still continues to rule the country, the economic success of China wasn’t built on socialism. And there is a thing or two that Indian politicians can learn from this, given their obsession with socialism.

Private firms are normally better at running businesses than the government. This is something that politicians including prime minister Narendra Modi need to understand. As TN Ninan writes in The Turn of the Tortoise—The Challenge and Promise of India’s Future: “The last quarter century’s experience has shown that when the private sector is asked to provide telecom services, run airlines and airports, build and run ports, undertake banking, distribute electricity and even undertake water supply, the result is usually (though not always, for there is no shortage of private banks and airlines that have failed) a substantial improvement on what, the government was doing until then.”

This is basically means two things. One is that the government should be getting out of all the businesses that it has been trying to run for all these years. This is a point that I have often made in the past. There is no point in the government running more than 25 banks. There is no point in the government running a phone company or an airline for that matter.  It does not serve any purpose.

As Ninan writes: It is a matter of regret that Narendra Modi, who got elected on the promise of ‘minimum government, maximum governance’, has shown no taste for radical change or minimizing government…The government system continues to run loss-making airlines and hotels, three-wheeler units and Mahanagar Telephone Nigam.”

Also, in its effort to do everything, the government doesn’t pay adequate attention to many important areas. As Ninan writes: “There is too little of government attention paid to core areas like law and order, education and health—too few judges, too few teachers who teach, too few hospital beds; also too few trade negotiators and too few policemen, especially those with proper training. It should be obvious that there are many things that the state does inadequately or badly, and many tasks that the state has needlessly taken on itself.”

The second point here is that the government should be encouraging entrepreneurship in all possible ways. One point against entrepreneurship are India’s multiple labour laws. But they may not be as much of a problem as they are made out to be.

It is often argued that Indian entrepreneurs do not expand beyond a certain point because it is very difficult to fire workers once they have been taken on. The Chapter VB of the Industrial Disputes Act, 1947, makes it very difficult for companies with 100 employees or more, to fire an employee without the permission from the government. This, it is argued, prevents entrepreneurs from expanding.

Economist Pranab Bardhan makes an interesting point in Globalisation, Democracy and Corruption: “It is not clear that the rigid law on retrenchment is always the binding constraint on manufacturing expansion. Take the highly labour-intensive garments industry, for example. A combined dataset [of both the formal and informal sectors] shows that about 92 per cent of garment firms in India have fewer than eight employees…Labour law cannot discourage an eight-employee firm from expanding to an 80-employee firm since Chapter VB of the Industrial Disputes Act does not kick in until the firm reaches the size of 100 employees.”

So what is stopping these firms from expanding? “The binding constrains on the expansion of that eight-employee firm may have to do with inadequate credit and marketing opportunity, erratic power supply, wretched roads, bureaucratic regulations etc. There are good statistical studies by some economists which show that states with more rigid labour laws have had lower industrial growth and that labour laws can be a constraint. But these studies do not show that they are the only or even the main constraint,” writes Bardhan.

What this tells us very clearly is that the Modi government should work towards removing these binding constraints. This will allow entrepreneurship to flourish. That will lead to more jobs, better pays, higher spending and in the process, higher economic growth.
The column originally appeared on Vivek Kaul’s Diary on January 11, 2016

Eight Economic Indicators which Tell Us that the Indian Economy is Not Doing Well

There is a very interesting story about current Chinese premier of the State Council Le Keqiang. In 2007, when Keqiang was the head of the Communist Party of the Liaoning province, he was once unusually candid with the American Ambassador to China, about the local economic data.

The American Ambassador sent a confidential memo after the meeting. This was later leaked and published by WikiLeaks. As the newsagency Reuters reported in 2010: “The U.S. cable reported that Li…focused on just three data points to evaluate Liaoning’s economy: electricity consumption, rail cargo volume and bank lending.”

“By looking at these three figures, Li said he can measure with relative accuracy the speed of economic growth. All other figures, especially GDP statistics, are ‘for reference only,’ he said smiling,” the cable added. The data points that Keqiang looked at was promptly dubbed the Li Keqiang Index, writes Satyajit Das in The Age of Stagnation.

Over the years, doubts have always been raised regarding the veracity of the Chinese gross domestic product(GDP) numbers. GDP is a method of measuring the size of an economy. But the lack of credibility of Chinese data is not the issue I am trying to raise here. The bigger point is that the GDP is ultimately a theoretical construct and given that there are other ‘real’ data points that we need to take a look at to figure out the ‘realistic’ state of any economy.

In the Indian context the tendency in the recent past has been to look at economic growth (GDP growth), which has been higher than 7%, and say that we are the fastest growing large economy in the world. Another version of this tendency is to say that we are now growing faster than China.

The trouble is if we were to look at ‘real’ data points (or the Indian version of the Li Keqiang index), the economy looks clearly to be in a weak territory. Let’s look at some of the data points.

a) New Car Sales: New car sales are a very good indicator of consumer demand in urban India. In December 2015, new car sales grew by 11% to 2,32,000 units. The leading pink paper splashed this news on the front page, where it said: “Besides being a large direct employer, the automobile sector has crucial interlinkages with a raft of sectors and its performance is a crucial barometer of economic confidence.”

New car sales are a reliable economic indicator which tells us whether the economy is starting to pick up. People buy a car only when they feel certain about their job prospects and hence, feel financially secure. Further, once car sales pick up, sale of steel, tyres, auto-components, glass etc., also starts to pick up as well. New car sales have a multiplier effect and hence, are a good indicator of economic growth. At least that’s how one would look at things theoretically.

While new car sales are an important economic parameter to look at, they are clearly not the only parameter, especially in a country like India where owning a car continues to remain a luxury. There are other data points which the pink paper should have also splashed on its front page, but it did not. But no worries, you can read up about them, in what follows.

b) Two wheeler sales: Two-wheeler sales are a good indicator of consumer demand both in rural as well as urban India, given that they are more affordable than cars are. Two wheeler sales of five leading two wheeler companies (Hero MotoCorp, Honda Motorcycle and Scooters, Bajaj Auto, TVS Motor Company and Royal Enfield) fell by 3.41% in December 2015 to 12,46,356 units.

This tells us very clearly that the consumer demand for a larger section of the population continues to remain subdued. This is a clear reflection of weak rural demand. And it is worth remembering here that half of India’s population stays in rural areas.

c) Liquor demand: Consumption of alcohol is another good data point to look at. This is primarily because people are addicted to it and don’t give up on its consumption so easily. The trouble is that this data is not so easy to get.

A recent newsreport in the Mint newspaper points out that: “For the first time since the start of the millennium, the volume of liquor sales in India declined in 2015…Liquor sales volumes, which grew in the low single digits in the two previous financial years, are down 1-2% for the eight months to December, according to data gathered from executives at liquor companies.”

As Vijay L Bhambwani, CEO of, told me regarding these numbers: “Going through the numbers, two things emerge – resistance to spending by consumers and down-trading by consumers (sales of higher price brands falling & lower priced brands rising). Remember the economic survey by the government in mid-2008? The sales of toothpaste had fallen & tooth powder had risen. Consumers down-traded high priced brands. A big fall in consumption followed soon. Demand for alcohol tends to be inelastic due to addictive nature of intoxicants. These aren’t great signs.”

d) Bank loan growth: This is one of the point that the Chinese premier Le Keqiang liked to look at. The loan growth of scheduled commercial banks has been in single digit territory for a while now. Between November 2014 and November 2015, bank loans grew by 8.6%.

They had grown by 10.5% between November 2013 and November 2014. In fact, given the fact that bad loans of public sector banks have been piling up, lending to industry has grown by just 5% over the last one year. It had grown by 7.3% between November 2013 and November 2014. This slowdown is a clear indication of weak industrial activity in the country.

e) Steel output: This is another data point which tells us how things are looking in the manufacturing sector given that a lot of steel is required to manufacture things. Data released by the Joint Plant Committee shows that steel production in November 2015 fell by 8.5% to 7.1 million tonnes.

f) Declining investment announcements: Data from Centre for Monitoring Indian Economy (CMIE) points out that “investment proposals to set up new capacities declined substantially in the quarter ended December 2015. 381 new projects with investments worth R.1,05,000 lakh crore were announced.” This was 74% lower than in three-month period ended December 2014. Such a huge fall is also because of a large number of projects had been announced in December 2014. “The largest being Indigo’s 250 aircraft purchase from Airbus worth Rs.1.5 billion. Investment in this single project was more than one third of the total aggregated cost of all new projects announced in the quarter,” CMIE points out.

g) Decline in project commissioning: This is a very important lead economic indicator and tells us whether economic revival is on the anvil. The latest data doesn’t indicate anything like that. As CMIE points out: “Project commissioning in December 2015 quarter dropped 44 per cent on Y-o-Y basis. 269 projects with investments worth Rs.496 billion were commissioned. According to CMIE’s CapEx database, quite a few large projects were scheduled to get completed in December 2015 quarter, but latest information on their status is yet to come in. Companies are expected to disclose information on commissioning of their fresh capacities along with their December quarter results. With information on project commissioning coming in with a lag, the aggregates are expected to go up. However, chances are less that the aggregates will reach the year ago levels.”

h) Electricity consumption: This is another economic indicator that the Chinese premier liked to look at. As CMIE points out: “According to tentative data released by the Central Electricity Authority (CEA), India’s power generation grew by 2.7 per cent from 86.9 billion units in December 2014 to 89.3 billion units in December 2015.” Things have improved a little on this front, but it is very difficult to say whether that has been because of the revival in industrial demand.

i) Corporate earnings: The financial results of companies for the period October to December 2015, will soon start to be published, from next week onwards. Crisil Research expects revenue of companies (excluding banks and oil and gas companies) to grow by a measly 2%. This will be driven by “low-base effect (growth in the corresponding quarter of last fiscal was just 5%) amid crushed commodity prices, weak investment demand, flagging rural consumption.”

As Prasad Koparkar, Senior Director, CRISIL Research, put it: “Sectors more focused on urban consumers such as automobiles, media, retail, and telecom are projected to post healthy double-digit topline growth…But in general India Inc is grappling with poor demand sentiment. With lower input costs and intense competition, pricing has also been impacted. This is evident across a range of sectors airlines, FMCG, textiles, cement (except south India), and IT services. In addition, the heavy rains that disrupted normal life in Chennai will impact the December 2015 quarter numbers of consumer discretionary sectors as well as IT services, auto components, and engineering.

What these numbers clearly tell us is that the Indian economy is in a bad shape and there is no way we could possibly be growing at greater than 7%. We might be the only bright spark globally when it comes to economic growth, but we are clearly not growing as fast as is being made out to be.

The column originally appeared in Vivek Kaul’s Diary on January 8, 2016

In 2016, banks will continue to kick the bad loans can down the road

In June 2015, the Reserve Bank of India(RBI) came with the strategic debt restructuring(SDR) scheme. This scheme allows the banks to convert a part of the debt owed to them by corporates into equity and is actively being used to kick the bad loans can down the road.

As the RBI notification on the SDR scheme pointed out: It has been observed that in many cases of restructuring of accounts, borrower companies are not able to come out of stress due to operational/ managerial inefficiencies despite substantial sacrifices made by the lending banks. In such cases, change of ownership will be a preferred option.”

Under the corporate debt restructuring scheme banks restructured loans by lowering the interest rate charged to the borrower or the borrower was given more time to repay the loan i.e. the tenure of the loan was increased, among other things.
But the restructuring did not help with a good portion of the restructured loans between 2011 and 2014, turning into bad loans. Crisil Research puts the number at 40%.

Further, as Parag Jariwala and Vikesh Mehta of Religaire Institutional Research write in a research note titled SDR: A band-aid for a bullet wound: “Indian banks went on a massive restructuring spree over 2012-2013 and 2013-2014. The corporate debt restructuring (CDR) cell received 530 cases till March 2015 from banks looking to restructure debt aggregating to Rs 4 lakh crore without classifying these accounts as NPAs.”

But this did not work. As Jariwala and Mehta point out: “On the whole, the success of CDR packages in rehabilitating stressed assets remains in question – the failure rate for the above restructured cases has increased to ~36% in September 2015 from 24% in September 2013. Out of the 530 cases received, close to 190 cases aggregating to Rs 70,000 crore have exited CDR due to repayment failures.” Most of these failures have been with regard to loans where banks had entered into a moratorium of two years with corporates, for repayment of principal amount of the loan.

One of the reasons for the failure of CDR has been the lack of interest and cooperation from the promoters who had taken on bank loans. Their intention has been to default on the bank loans they have taken on. SDR has been initiated to address this problem.  As Ashish Gupta, Prashant Kumar and Kush Shah of Credit Suisse write in a research note titled Failed CDR now SDR: “SDR allows banks to convert part of their debt to equity to take controlling stake (at least 51%) in the stressed company and thereby, banks can effect change in ownership wherever existing management is not performing. This gives banks significant power while dealing with non-performing or non-cooperating promoters.”

The idea with SDR is to convert the weak bank debt into equity and then sell the equity to a new promoter, and recover the money owed to the banks by the corporate. As the RBI Annual Report for 2014-2015 points out: “RBI and SEBI have together allowed banks to write in clauses that allow banks to convert loans to equity in case the project gets stressed again. Not only will such Strategic Debt Restructuring give creditors some upside, in return for reducing the project’s debt, it can also give them the control needed to redeploy the asset (say with a more effective promoter).”

SDR allows banks to postpone asset classification of a loan for a period of 18 months. This means that if a loan is in the process of turning into a bad loan and the bank has converted that into equity, it does not need to categorise that as a bad loan.

Also, the equity shares post conversion are exempt from following the “mark to market” rule. This means if the share price of the company falls below the price at which the debt was converted into equity, the bank does not need to book the difference as a loss during the 18-month period.

SDR essentially gives a bank (actually to the consortium of banks to whom the money is owed by the corporate, and which is referred to as joint lenders’ forum) a period of 18 months to look for a buyer for the company which they have taken over.

The question is will it allow banks to recover the loans that they have given to corporates and which are now in a risky territory? As the Credit Suisse analysts point out: “There has been a significant pick-up in activities under the SDR route over the past few months, with the banks invoking SDR in case of nine accounts with debt of ~Rs57,000 crore (~1% of system loans,). Majority of these accounts have been restructured earlier and have failed to achieve the targets set during the restructuring. Also, with their restructuring moratoriums now ending many would have been on the verge of turning non-performing assets.”

What does this mean? It means banks have tried rescuing the loans they had given to corporates by restructuring them in the past. And they have failed at it. Now these restructured loans are being put through strategic debt restructuring and being converted into equity. If the option of strategic debt restructuring wasn’t available to banks, they would have had to possibly recognise these loans as bad loans.

The Religaire analysts estimate that banks will “end up refinancing 30-40 ailing accounts under the scheme in the next one year, thus postponing non-performing assets [bad loans] recognition of Rs 1.5 lakh crore.”

The other option before banks is to sell these loans to asset restructuring companies for a loss, and then account for that loss over a period of two years. But given that they have the option of postponing any losses through the SDR route, they are more likely to take that route.

What is also interesting is that banks need to keep the companies in which they have converted their debt into equity through the SDR route, running, until they are able to find buyers for them. This means that the lending to these companies can’t completely stop.

Hence, banks will have to provide working capital finance to these companies as well as  fresh loans, so that these companies can continue to pay interest on their remaining debt.

As the Religaire analysts write: “It is important for lenders to keep companies under SDR running until they find new buyers. Banks are thus likely to continue funding interest costs and working capital during the 18-month SDR window. This includes meeting guarantees invoked by state governments or developers for delayed project completion. We assume that debt levels (including interest) will rise ~20% during this period.”

To conclude, as I keep saying things are not looking good for Indian banks.

The column originally appeared on the Vivek Kaul’s Diary on January 7, 2016

Why banks love lending to you and me, but hate lending to corporates

Regular readers of this column would know that I regularly refer to the sectoral deployment of credit data usually released by the Reserve Bank of India(RBI) at the end of every month. This data throws up interesting points which helps in looking beyond the obvious.
On December 31, 2015, the RBI released the latest set of sectoral deployment of credit data. And as usual the data throws up some interesting points.

What the banks refer to as retail lending, the RBI calls personal loans. This categorisation includes loans for buying consumer durables, home loans, loans against fixed deposits, shares, bonds, etc., education loans, vehicle loans, credit card outstanding and what everyone else other than RBI refer to as personal loans.

Banks have been extremely gung ho in giving out retail loans over the last one year. Between November 2014 and November 2015, scheduled commercial banks lent a total of Rs 5,04,213 crore (non-food credit). Of this amount the banks lent, 39.4% or Rs 1,98,727 crore were retail loans. Hence, retail loans formed closed to two-fifths of the total amount of lending carried out by banks in the last one year.

How was the scene between November 2013 and November 2014? Of the total lending of Rs 5,45,280 crore carried out by banks, around 27.7% or Rs 1,50,843 crore was retail lending. Hence, there has been a clear jump in retail lending as a proportion of total lending over the last one year.

In fact, if we look at the breakdown of retail lending (or what RBI refers to as personal loans) more interesting points come out.

Outstanding as on: (In Rs crore)Nov.28, 2014Nov.27, 2015Increase(in Rs crore)Increase in %
Personal Loans1105910130463719872717.97%
Consumer Durables1466016545188512.86%
Housing (Including Priority Sector Housing)59460370523511063218.61%
Advances against Fixed Deposits553396045851199.25%
Advances to Individuals against share, bonds, etc.38616886302578.35%
Credit Card Outstanding2948637646816027.67%
Vehicle Loans1194101378871847715.47%
Other Personal Loans2258302722974646720.58%


The overall increase in retail loans has been around 18% over the last one year. This is significantly better than 8.8% increase in overall lending by banks (non-food credit i.e.). Within retail loans, vehicle loans and consumer durables have grown slower than the overall growth in retail loans. How did things stand between November 2013 and November 2014?

Outstanding as on (in Rs crore)November 29, 2013November 28,2014Increase in Rs croreIncrease in %
Personal Loans955067110591015084315.79%
Consumer Durables998714660467346.79%
Housing (Including Priority Sector Housing)5101715946038443216.55%
Advances against Fixed Deposits5603255339-693-1.24%
Advances to Individuals against share, bonds, etc.28323861102936.33%
Credit Card Outstanding2414729486533922.11%
Vehicle Loans979141194102149621.95%
Other Personal Loans1950282258303080215.79%

The retail loans between November 2013 and November 2014 had grown by 15.8%. In comparison, the growth between November 2014 and November 2015 was at 18%. This increase can be attributed to the 125 basis points repo rate cut carried out by the Reserve Bank of India during the course of this year. One basis point is one hundredth of a percentage. Repo rate is the rate at which RBI lends to banks and acts as a sort of a benchmark to the interest rates that banks pay for their deposits and in turn charge on their loans.

But despite a rapid and massive cut in the repo rate, the jump in retail loan growth hasn’t been dramatic. In fact, loans for the purchase of consumer durables grew by 12.9% between November 2014 and November 2015. They had grown by 46.8% between November 2013 and November 2014, when interest rates were higher. Vehicle loans grew by 15.5% in the last one year. They had grown by 22% between November 2013 and November 2014. This despite a fall in interest rates. Home loans had grown by 16.6% between November 2013 and November 2014. They grew by 18.6% between November 2014 and November 2015. There has been some improvement on this front. Hence, lower interest rates have had some impact on retail borrowing, but not as much as the experts and economists who appear on television and write in the media, make it out to be.

What does this tell us? As L Randall Wray writes in Why Minsky Matters: An Introduction to the Work of a Maverick Economist, quoting economist Hyman Minsky: “According to Minsky, bank lending would…be determined….by the willingness of banks to lend, and of their customers to borrow.”

So why are banks more than happy to lend to give out retail loans? As I had pointed out in yesterday’s column, lending to the retail sector continues to be the best form of lending for banks. The stressed loans ratio (i.e. bad loans plus restructured loans) in this case is only 2%. This means that for every Rs 100 lent by banks to the retail sector only Rs 2 worth of loans is stressed.

The same cannot be said about the loans that banks have been giving to corporates. The lending carried out by banks to industry as well as services in the last one year formed around 43.4% of the overall lending carried out by banks. Between November 2013 and November 2014, the lending carried out by banks to industry as well as services had stood at 50% of overall lending.

What explains this? Lending to large corporates has led to 21% stressed loans. The same is true for medium corporates where stressed loans form 21% of overall loans. And this best explains why banks have been happy to lend to you and me, but not to corporates.

The column originally appeared on Vivek Kaul’s Diary on January 6, 2016