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Mainstream, VOL L, No 22, May 19, 2012

Indian Economy: A Rocking Horse Galloping Forward — II

Tuesday 22 May 2012, by Kobad Ghandy

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This is the second part of a four-part article on the current state of the Indian economy by Kobad Ghandy. The author is a Marxist/Maoist thinker, incarcerated in Tihar Jail; he has written two books: one on the Indian economy (Globalisation: Attack on India’s Sovereignty, 2004) and the other on the world economy (Capitalism in Coma, 2009). The first part of this article appeared in Mainstream
(May 5, 2012).

Financial Sector: Where has All the Money Gone?

Funds/finances are essential for investment and development—whether agricultural or industrial. Finance/money in itself has little meaning, unless it is fruitfully utilised to generate assets. Unfortunately, in this era of globalisation, much of the finances goes into speculative activities, creating bonanzas for the billionaire club, but little for the country’s development.

In this Part II of this four-part article we shall discuss the state of our finances, how best they can be replenished and the most effective form of their utilisation in the country’s interests.

Primarily, the sources of finance are banking and domestic savings, government funds, and foreign funds. In this article I shall focus on these three spheres of financing.

Banking and Domestic Savings

HERE, I have clubbed the two as a sizable part of the legal savings (both individual and business) is held with the banks. But savings also go into other spheres, as stock markets/mutual funds, gold, real estate etc. However, as the latter remain mostly in the speculative sphere, I will only focus on the former, which is mostly utilised for investment and loans for consumption. Of course, also included in savings, together with banks, should be insurance, Provident Funds/Pension Funds, postal deposits, etc. Here I will not go into details but consider domestic savings overall. After that I will look at the state and health of our banks.

The Gross Domestic Savings, which was 37 per cent of our GDP in 2007-08, has dropped to 32 per cent in 2010-11. With inflation sustaining at high levels, earnings are being sapped up with little left to be saved. In addition, with the declining state of people’s health, even these little savings are getting drained by the huge expense incurred in case of illness, medicine and hospital charges. It is estimated that households spend as much as 10 per cent of their overall income on healthcare. In addition to this, public sector savings have fallen drastically from five per cent in 2007-08 to 1.7 per cent in 2010-11. With inflation remaining high and indirect taxes being consistently increased, savings are likely to drop further.

Now, if we turn to the banking sector, during the 2008 meltdown it was said that our natio-nalised banks are among the safest in the world. This is not entirely accurate. In reality, they are quite fragile, with spiralling NPAs (non-perfor-ming assets—a euphemism for ‘bad debts’) and hefty government infusions to keep them afloat.

The giant US banks crashed due to speculative investments in the derivatives/mortgage markets going wrong; the euro debt crisis is a result of hefty loans to countries unable to pay back; and Indian banks are facing problems due to irres-ponsible lending, mostly to big business.

In the financial year just over (2011-12), the NPAs of these banks have sky-rocketed to cross Rs 1.5 lakh crores—a three-fold increase since 2008—with huge outstandings from the power, real estate, road, textile and aviation sectors. The RBI estimates the banking sector will lose 35 per cent of its value.

In 2010-11, the government provided a whopping Rs 20,157 crores to the public sector banks; in 2011-12, the figure has been around Rs 26,000 crores. But these two years are not an exception, it appears to be a trend linked to policy. The Finance Minister has said that in the next decade it plans to pump in a massive Rs 4.5 lakh crores into these banks—that is, some Rs 35,000 crores per annum!! This is taxpayers’ money being thrown away as big business (Kingfisher-style) do not pay back their huge loans.

The Kingfisher Airline is a classic case of an NPA where the company is made bankrupt, while the owner, Vijay Mallya, continues his seven-star lifestyle with income from liquor, real estate etc. The Airline owes the banks a massive Rs 7482 crores which will be treated as an NPA instead of seizing the owners’ assets, profits etc. The banks will write off this NPA and the government will compensate the banks. This then is the modus operandi of the bulk of bank NPAs.

As of today, large borrowers (with loans over Rs 10 crores) have defaulted to the tune of Rs 47,000 crores—and the banks have not even bothered to pursue even half of these. While banks often use strong-arm tactics to recover loans taken by farmers and the middle class, they take a soft approach when it comes to these gigantic amounts.

Whatever, this situation is not only an indication of the precarious situation of the banks, but also of the sectors unable to pay back. As long as the government continues bailing them out at huge cost to real development and welfare expenditure—big business and banks gain, but the country and its development loses. If the government is serious about its own slogan of ‘privatisastion’, it should not interfere in such companies and allow the loss-making companies to sink.

Government Investments

IN this there are two aspects: the raising of funds, and second, the nature of expenditure. Funds need to be maximised by particularly taxing those who can afford to pay. And expenditure should primarily be geared to asset creation.

Now, if one looks at India’s tax revenue, it is a mere 10 per cent of the GDP, while in most other countries it varies between 20 to 30 per cent. Part of the reason for this is the huge black economy. And of this limited revenue, a major part comes from indirect tax (tax on commodities and services which mostly affect the poor and middle classes), while direct taxes (mostly on the rich and corporates) have been stagnant. So, in 2010-11, the corporate tax was a mere 24 per cent of the indirect taxes. Also, in the four-year period from 2007-08 to 2010-11, while the corporate tax rose by a mere 33 per cent, indirect taxes rose by a huge 125 per cent. Besides these central taxes, the bulk of the State governments’ revenue is from sales tax, octroi, etc.—all of which are indirect taxes. Even in direct taxes, much of these comes from employees (where tax is deducted at source), while businesses pay barely anything making use of hundreds of loopholes in the policy. Even the super rich are let off as they pay at the same rate as an upper middle-class person. Finally there is a huge black money, again mostly in the hands of the wealthy, who pay no tax at all on this stolen money.

A continuation of such a policy can be clearly seen in the current Budget. While on the one hand, indirect taxes seek to raise a massive Rs 45,000 crores (plus threats to further raise petrol, diesel, LPG rates), on the other hand, tax on security transactions was reduced by 20 per cent, the film industry was exempted from service tax, a tax holiday was declared for the power and roads sectors, and many of the concessions to big business continue.

Now, if we turn to the government’s expen-diture, though it has gone totally out of control, little of it goes for asset formation. Over 25 per cent of the government revenue goes merely to pay its employees. And this does not include the large amounts taken by Ministers, MPs etc. Another big chunk goes towards interest on the Rs 5 lakh crore government debt. Then again the large amounts on social welfare schemes are mostly doles rather than generating employment through asset formation. Even if we turn to items like the large capital expenditure, as in defence (budgeted at Rs 80,000 crores in 2012-13), the bulk goes for imports rather than indigenous manufacture. No doubt such big defence orders create elation in the West, who are desperate for a market, but it deprives Indians of employment.

Finally, there are the huge amounts of wasteful expenditure on foreign trips, five-star living etc. of our Ministers and MPs. For example, the President has spent Rs 206 crores on foreign tours (the highest ever), Rs 6 crores on a newly-fitted car, and now, post-retirement, a big bungalow is being built for her on military land in Pune. Then again, as against Rs 47 crores budgeted for their tour expenses in 2011-12, Central Ministers spent Rs 400 crores (compared to just Rs 56 crores in the previous year)!!

So, we find here the government is forgoing much revenue that could easily be tapped even within the existing system; it is also unable to rationalise its expenditure to make it more productive. If one looks at the Approach Paper of the Twelfth Plan, it does not even seem to go in a constructive direction. So, we will end up with continuing, fiscal deficits and rising debt burdens while real development will remain an illusion.

Finally, let us turn to the third sphere of the financial sector—foreign funding—which seems to be a key aspect in the present scheme of things.

Foreign Investments

THESE investments comprise three soheres: (a) external borrowings—both private and govern-ment; (b) Foreign Direct Investment (FDI)—more geared to either taking over business or setting up new business; (c) Foreign Institutional Investments (FIIs)—more speculative capital.

(a) External Borrowings:

Both the corporate sector and the government have been borrowing heavily on the international market seeking to make use of the cheap credit—interest rates in the developed countries are about 0-1 per cent. But last year, when the FIIs withdrew funds leading to the crash of the rupee, when repayments are coming due this year, they will be having to pay 15-20 per cent more—so, instead of cheap credit, it has turned into one of the most expensive credits ever. At the time they borrowed, the rupee was roughly Rs 46 to the dollar; it is now just around Rs 52—a de facto devaluation of 13 per cent in just six months.

Since the last two years, the government has been borrowing heavily abroad and now the external debt has reached $ 320 billion. Of this, $ 133 billion is short-term and coming up for maturity by June 2012. Assuming that the rupee does not fall further, the government will be repaying a good $ 10 billion—that is, a huge Rs 50,000 crores—extra!!

Big business too has recently been borrowing heavily from the European market. After 2008. India Inc borrowed $ 46 billion from European banks in just two years. Faced with heavy payments in the current year at the reduced value of the rupee, many companies are facing default. Anil Ambani’s RComm, with $ 1 billion due, had to borrow from China to prevent default. A number of other companies, like Jaiprakash Associates with an external debt of $ 410 million, are also facing default. It is said that the European banks’ exposures to Indian banks could be as high as 15 per cent of the GDP of $ 150 billion. As an economist stated in The Indian Express (January 2, 2012), “What happens if the crisis worsens and European banks require capital for themselves… The first casualty will be the emerging economies, like India.”

(b) FDIs:

FDI have recently been in the news regarding their entry in retail. This has been strongly opposed by the small kirana shop owners as also farmers’ organisations. It has been hailed by Walmart, the US retail giant. Also by the govern-ment. Though FDI is not speculative investment, often it is capital/business that tends to destroy (or swallow up) indigenous companies. So FDI is retail will displace lakhs of small shopkeepers and also squeeze their profit margins. Recently, most of the major pharmaceutical companies were taken over by foreign capital; this is also happenings in other spheres of the economy. One could understand FDI in the hi-tech sector where India may lack the know-how, but to manufacture soap, toothpaste, medicine etc. and to sell goods seem counterproductive.

Yet, for all the hype on FDI, a strange trend has developed lately—FDI inflows have turned negative. In other words, more Indian companies have invested abroad than foreign investments coming in. This phenomenon took a big leap in 2010-11 when outward FDI jumped 100 per cent over the previous year—to $ 44 billion. In that year inward FDI was a mere $ 27 billion, resulting in negative FDI of $ 17 billion. Big corporates are wishing to invest abroad. In just last year the RIL (Reliance) invested $ 5 billion abroad, Anil Ambani $ 3 billion, Airtel $ 8 billion, while the Essar Group (Ruias) expects to invest $ 6 billion abroad by 2015. The Tata Group already draws 65 per cent of its revenues overseas and is today the biggest employer in Britain. Laxmi Mittal is Britain’s richest man. All this capital going abroad is generated from profits within India, and is de facto being used to give jobs to the West rather than in India.

If the government is serious about FDI, it should first prevent such large outflows. But, let alone prevent these, the government itself utilises taxpayers’ money for investment abroad. In the current Budget as much as Rs 1000 crores has been allocated to the Ministry of External Affairs for investment in foreign countries!!

(c) FIIs:

In a situation of increasing international economic instability, such speculative funds are bound to be highly volatile, moving to those parts of the world where returns are maximum. So, for example, FII inflows in 2011 dropped to a fraction of what they were in the previous year. But in the first few months of this year these have shot up after the government announced a series of concessions to FIIs.

In November 2011, it raised the amount FIIs can invest in bonds and debentures in Indian infrastructure companies five-fold—from $ 5 billion to $ 25 billion. In the same month it also increased the investment limit of FIIs in government securities (G-Secs) and corporate bonds by $ 5 billion each. On the new year it was announced that India’s stock markets were opened out to foreigners. Such policy decisions led to an FII-bonanza in January and February 2012. Now, in the Budget the government seeks to go one step further—announcing its intent to sell sovereign bonds to foreign investors. This is a step towards de facto capital account convertibility!!!

Such measures are fraught with great dangers in a period of economic volatility. While most countries are putting up protection walls to safeguard their economies, as in Latin America, India, inexplicably, appears to be opening out even further.

Rationalisation of the Country’s Finances

SO, overall we find the finances of our country are not particularly sound. Banks seem to have systemic NPA problems and may need continuous bailing out. Government finances are increasingly fragile with a growing fiscal deficit and burgeoning public debt. And, as regards foreign funds, the continuing fall in the value of the rupee and extreme international volatility have made such funds exceedingly unreliable and even dangerous.

Yet, a judicious rationalisation of even existing available sources of finances could itself make all the difference. It just requires a more effective mobilisation of funds from those who can afford to give them, and at the same time focusing on a more scientific use of such funds.

For example, as Gurumurthy of the Swadeshi Jagaran Manch said (Sunday Standard, March 11, 2012): “…absence of tax on derivatives by big-wigs is ridiculous... A tax of 10 paise per Rs 100 derivatives will yield Rs 88,000 crores…” In addition, bringing the huge black economy into the tax net, removing the Rs 46,000 crores per year (average for the last six years) concessions to the corporates, increasing the slab of income tax on the super rich etc.—are just a few of the measures that could raise funds amounting to Rs 5 lakh crores. Even if indirect taxes are reduced to give relief to the poor and middle classes (which will also enhance the consumption expenditure), the government could still have Rs 3 to Rs 4 lakhs available for expenditure.

And if this entire amount is not frittered away but used to boost asset formation, it could result in miracles overnight. But for this, wasteful expenditure should be cut, bail-outs to banks and business stopped, subsidies/welfare made more development-oriented rather than dole-oriented, all contracts be made fully transparent through open tenders as suggested by the Supreme Court, capital expenditures be given to indigenous industry rather than imports etc. etc.

All such measures could go a long way in putting our country on a truly developmental path.

(To be continued)

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