Economic Reforms in India

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Nagraj Baggon's picture

Economic Reforms in India

First and foremost, it is important to understand the demographic components of India. Out of 1 billion people, about 300 odd million people are well educated, live in major cities and have a GDP per capita of USD 10000 per annum. Another 400 odd million people live in rural areas with limited access to education, healthcare and survive on less than 2 dollars per day. The remaining segment is the affluent class with assets / income at parity with the developed countries of the globe. So whilst the aggregate numbers seem good, implementation of reforms and effectiveness of reforms are always debatable in India.

First and foremost, let us look at the reforms in the financial sector. The government has done well to allow access to banking and promoting more corporations to enter the financial services segment. However, there are some major hurdles to overcome in this regard. A vast majority of the 400 million odd people in rural areas are outside the banking system. Also the setup and operations costs for a financial services corporation do not warrant opening up branches in such areas as the business prospects are very bleak. This segment is perhaps best served by the mobile banking route, given India’s telephone density [almost 90% as of December 2012]. The success of mobile banking systems for such a segment has already been proven in other emerging countries like Kenya and Tanzania.

On the investment services segment, less than 5% of the retail market segment participates in the stock market or mutual fund industry. Apart from the fact that stock markets in India have favored the elite class only, the other aspect has been that India has a very high fixed income rate [the risk-free asset component] that delivers 8% year on year. With the power of compounding, an investor can anyways double his net worth with risk-free assets within a period of 8 years. Moreover, the IPO market in India has proven to be a winner’s curse i.e. most investors are better off not participating in an IPO than risking their hard-earned money only to see their allotted shares fall by more than 50% within a year’s time. As far as private banks are concerned, some banks have had serious governance issues and banks have shut overnight depriving people of their hard earned money. The reforms in the banking space appear good on the surface but most beneficiaries of these reforms will be the major Indian conglomerates themselves. The existing banking system itself has seen corporate debt restructuring in 2012-2013 equivalent to the entire corporate debt restructuring in the period 2001 to 2010!

The real estate segment of India is grossly over-rated and the only reason why the bubble is not bursting is because of the lack of mortgage backed securities. So unlike 1991 where there was a genuine need for overhauls, the banking reforms of 2012-2013 won’t really benefit banking corporations or people in general. What is actually needed in this space is more consolidation, a strong focus on reducing non-performing assets and getting more people to have access to banking. This overhaul itself will take at least 4 to 5 years.

On the organized retail front, the move is very positive for almost everybody in the value chain. It will provide farmers better prices for their produce, ensure better logistics infrastructure to avoid wastage [currently 30% of India’s agricultural produce is wasted due to lack of logistics infrastructure] and it will bring in a lot of operational efficiencies for the retailers themselves. The political drama with regards to the loss of jobs and taking mom and pop grocery stores out of the market is just a gimmick. For starters, players like Metro Cash and Carry, Easy Day have already proven the value of economies of scale and it is no surprise that many of the mom and pop grocery stores find it economical to buy from hypermarkets than buy from the open market. The demographic dividend that India has will ensure that mom and pop stores do not go out of business. The segments that will be most affected are the middlemen who depress pricing against farmers and inflate prices against the end-consumers interests. Over the last 2 decades, a lot of Indians have either travelled abroad themselves or have relatives abroad and they are keen to have the organized retail market develop in India. The move will also coerce the government to overhaul the poor infrastructure of the company. There is always a strong correlation between the development of infrastructure and organized retail in a country [take Thailand for instance that has GDP per capita similar to India but is way ahead in terms of infrastructure because of the strong organized retail market and likewise for Malaysia and Indonesia]

Coming to the energy sector, it is good to focus on deregulation and development but what is most disappointing today in India is the lack of focus on clean energy systems. India is ripe for solar and wind energy in most parts and all that the government needs to do is reduce duties drastically on the clean energy components. The other part that needs to be developed is a good distribution platform for energy in India. There are a lot of operational inefficiencies and leakages of precious resources like power. Unless the leakages are not stopped and unless a sustainable energy platform is not built, the energy segment will remain in shambles. The Enron-Dabhol project deal has still left a lot of bad taste in the average Indian’s mond and corporations need to be very careful about moving ahead in this direction. It is really unfortunate that the opacity level in Indian politics is high and foreign corporations do not have adequate recourses for enforcing contractual obligations [most recent example of this was seen in the telecom sector]

To summarize, the current situation is not like 1991 at all. At that time, the government had little less than 2 weeks cash reserves, people were not informed enough and opening up the economy was the only recourse left. Today with a highly informed mindset, active social media penetration, it is not going to be easy for quick win solution. The government has challenges with fiscal deficits but there is not much desperation. The average Indian now is very wary about promises made by leaders [be it from the political space or from the business space] and any misbehavior is swiftly reported to the media, leaving little or no time for damage control. In 1991, almost any foreign brand and product could be passed on the Indian consumer as there was no other alternative. Today, the consumer is very well informed and will not take up a product or service just because it comes from a developed country. The overall intention to bring in reforms is very good but a strategy is as good as its execution. It will take very concerted efforts to implement the desired changes and sift through the political opacity.