InclusionWhat Went Wrong With The India Growth Story?

India Needs Deep, Liquid Markets

“The markets galvanise savings and risk allocation to growing and capital-intensive sectors. They also play a role on the equity side by continuously reducing the cost of capital.”
Chitra Ramkrishna
Managing Director & CEO, National Stock Exchange of India

The non-financial corporate sector continues to depend heavily on bank credit. In 2012, for example, net bank credit to the industrial sector was about 2.9 per cent of the GDP whereas the raising of capital from the market was about 1.3 per cent. Although the total resource mobilisation from markets through the primary market issuances was a decent 4 per cent of the GDP, a significant beneficiary of this capital mobilisation was the financial sector itself. Clearly, the predominant role that the banks play in financing the corporate sector has been a big contributor to the growth in the earlier phases.

But as Basel III gets implemented and banks need greater quality and quantity of capital for the same degree of credit expansion, clearly there would be no choice except to look at markets as the forum to share a part of the financing needs for this growth. Stock markets are not only the barometers of economic growth but also give some interesting insights into the working of the economy.

For example, if one looks at the period from 1995-96 to 2012-13, the top-50 companies clearly give an understanding of sectors that have been growing — sectors that have attracted interest and those that have fallen by the wayside. In 1995-96, finance, telecom and IT providers were nowhere in the top-50 companies whereas today, a substantial proportion of the top-50 companies belongs to these sectors.

There should be no shying away from the fact that the markets have to brace themselves to share their responsibility for the growth of the economy. They galvanise savings and risk allocation to the growing and capital-intensive sectors. They also play a role on the equity side by continuously reducing the cost of capital. The last 18 years have witnessed the costs around liquidity coming down dramatically to one-tenth of what they were in the mid-1990s. So what can markets do to contribute to the 8 per cent growth of Indian economy?

Besides conventional banking credit, there is a need for creating more channels to provide short-term as well as long-term SME financing

Alternative Ways of Raising Finance

The proportion of credit between the banking system and markets is roughly 85:15. In several developed markets, it is likely at 50:50. This means alternative ways of raising finance from markets need to expand. In the context of infrastructure, its funding requirements stand at an incredible Rs 65 trillion. According to the working subgroup on infrastructure, the funding gap is about Rs 15 trillion and most of it has to be bridged through domestic debt.

Given the fact that today a lot of the infrastructure debt financing also comes from the banking system and an added dimension of Basel III — nearly Rs 5 trillion of additional compliance capital will be required by the banks themselves to meet the new challenge. It seems inevitable that we must worry about what our domestic debt market offers.

Several starts have been made over the last decade or more — the Patil, Raghuram Rajan and the Mistry committees have all identified areas where fine-tuning is needed to make the debt market vibrant. Recently, SEBI has also created a new platform to attract large investors to an active wholesale debt market.

Clearly, the immediate short-term steps are to bring insurance, mutual funds, provident fund and corporate treasury, etc into the debt market and enable them to directly access the wholesale market so that they get the benefit of the price transparency and liquidity. But while all these will happen in the short term, what appears to be a more long-term gap needs to be filled in this market if it has to be really liquid and deep. For that, institutional players can provide continuous liquidity in these debt securities.

Ideally, banks and primary dealers are all very well-equipped to provide this kind of a two-way liquidity in debt securities. What is required to move this to the next level? While we need not limit the liquidity provision to banks and primarily dealers, several other large intermediaries may also fill this space. One of the big needs for providing liquidity in this segment is capital.

The second issue on the debt paper issuance is, while the issuer has a need to issue long-term paper, the maximum tenure of benchmark yields available is not long enough to match the project gestations. Therefore, issuers imminently run price risks of what they issue. Further, they do not have the ability to hedge issuer as well as the investor. The need of the hour is to create an active, liquid and debt market with institutional mechanisms and players who will be the support system for this market.

SME Growth

Another area where urgent attention is required is small and medium enterprises (SMEs). SMEs have always been acknowledged as the growth engine of GDP growth. SMEs have had dependence for equity on informal sources or unsecured kind of facilities. Only few of them get bank credit. That is utterly shocking.

In most markets, SMEs have always been a work in progress. The sector needs a lot more attention and a more cohesive kind of an approach to be able to achieve its capital needs. Besides the conventional banking credit, there is a need for creating more channels to provide short-term as well as long-term financing to SMEs.

So whether it is bills receivable or letters of credit, there is a need to have more competitive and accessible framework for SMEs to be able to raise this kind of capital at reasonable cost. Here, it is worth pursuing a platform which not only provides equity access but also access to all kinds of instruments for SMEs.

Banks have had significant credit history in evaluating SMEs, being partners in providing the debt capital the SMEs require over the years. It is possible to look at a different role for banks when there are balance-sheet constraints. They use the capacity and the credit history to bring good SMEs into the platform. SME finance is strong ingredient of inclusive banking and financial inclusion at large.

Chitra Ramkrishna

Chitra Ramkrishna is Managing Director & CEO, National Stock Exchange of India
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