Telecom, power, oil: Guide to crony capitalism, Indian style

If you are wondering why the economy is in such a tailspin when government ministers are at pains to say that the India story is still intact, the answer lies partly in these nine words: we are paying for the sins of crony capitalism.

The ongoing brouhaha in the telecom, aviation, coal, oil, gas and power sectors provides an excellent backdrop against which to understand how crony capitalism functions in this country and why we are forced to pick up the bills for it.

Crony capitalism operates at five different levels in various sectors.

At the first level, it is about appropriating an asset at low or below market price. Whether it is land or spectrum or coalmines or gasfields, this is the first target of crony capitalists. This means getting cosy deals with politicians and bureaucrats.

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At the next level, it is about pricing and profitability. If you have already got your scarce asset, you have to ensure that you can extract maximum profits from it. You will lobby for no restraints on the price you can charge.

Third, after obtaining an asset at as low a price as you can get away with, you will then lobby to ensure that you don’t have to pay much for even this cost from your own pocket. You will borrow heavily from banks with very little equity of your own. So even if the project sinks, it is the banks who will lose more money than you.

Fourth, in a competitive scenario, it is not enough to just get an asset at low cost. You also have to ensure that your competitor does not get similar favours. So not only do you have to lobby for yourself, you have to lobby against your competitors. This way only the best crony capitalist wins.

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Fifth, in industries that are heavily regulated, you not only have to manage the politicians, but the ex-bureaucrats manning the regulatory agencies, too. Whether it is telecom regulator Trai or the Directorate General of Civil Aviation or the Directorate General of Hydrocarbon (DGH), which regulates the upstream oil industry, industry places a huge premium on getting the right people installed in the right places.

To understand how cronyism actually works in various sectors, let’s begin with telecom. The big outcry currently is against high spectrum base prices. There are vested interests involved whether you are for or against “high” spectrum prices.

Companies with lots of cash (Reliance, some foreign players) may be happy to pay higher prices for spectrum. Incumbents, with lots of debt on their balance-sheets (Bharti, Idea, Reliance Communications), would be happy to have lower prices. Whichever side wins, one set of lobbyists would have benefited.

But that’s not the end of the story. Telcos do not have to raise so much debt. They can sell equity. This is where another bit of crony capitalism surfaces. Telcos, like any Indian promoter, want to retain control of their companies with minimal equity contributions. This is why they go for debt. Business Standard reports that telcos already have debts of Rs 3,06,000 crore, and by the time they are through with various auctions, this will soar to a range of Rs 3,70,000-5,40,000 crore (depending on whether you take just the next 1,800 Mhz auction or future ones too).

[caption id=“attachment_410640” align=“alignleft” width=“380”]  Broadly speaking, crony capitalism operates most in areas that are heavily regulated by the government, or where rent-seeking is the norm.[/caption]

Whether it is Sunil Mittal’s Bharti Airtel or Anil Ambani’s Reliance Communications or Kumar Birla’s Idea Cellular, if they don’t want debt, they can always raise equity - which is good for the business and for shareholders, since it reduces interest costs. But they don’t like doing this, because bringing in more equity means dilution of control. Crony capitalists love control over performance. If you have control, share performance does not matter much. If you don’t, corporate performance is key to control. Minority shareholders can’t be ignored.

Crony capitalists put their own interests above that of their companies and shareholders.

Telcos with an overload of debt should normally also have a problem with banks - who may worry about lending them more. This is where the crony bit kicks in. Public sector banks will be arm-twisted to lend more than they should. The net result of crony capitalism is that no matter what you do, the pals of these crony capitalists - the politicians - will finally pass the bill to the taxpayer by forcing banks to lend, and if banks falter with huge bad loans, the taxpayer will provide additional capital.

The bills for crony capitalism finally are paid by you and me - taxpayers and minority investors.

The telecom skulduggery goes deeper - right to the public sector companies. Thanks to the entry of private players, the public sector companies have neither been able to expand nor work out a sensible business plan. It is easy to attribute this to traditional public sector inefficiency. But it is not in the private sector players’ interest to have a robust public sector. Any bets they had something to do with the huge losses of Bharat Sanchar Nigam and MTNL by delaying their expansion and diversification? One question in parliament about a BSNL tender or a complaint to the Central Vigilance Commission about alleged corruption can stymie an expansion project in the public sector. Net result: they don’t act like competitors.

Once again, you and I will pay the price for a drowning BSNL or MTNL. Not to speak of Air India and other white elephants.

Next, consider foreign direct investment (FDI) in aviation. Easy solution to the woes of Kingfisher? Not quite. Enter cronyism. Kingfisher’s rivals would like nothing better than to see Kingfisher die a quick death so that they can return to profitability on reduced competition. So it is in their interests to delay FDI as long as possible, so that KF can drown in its red ink. Is it any wonder FDI is being delayed? We knew about Kingfisher’s problems last year, but it is August 2012, and still no sign of FDI being opened up. Rest assured, cronies could be at work.

But it’s not as if Kingfisher is the injured party, too. Vijay Mallya has pledged the shares of many of his core liquor companies to secure loans for Kingfisher. It should be easy for banks to sell this collateral and recover their money and free Mallya of his albatross.

But Mallya is not lacking in friends among politicians either. He has ensured that public sector banks do no sell his collateral, and continue to keep him afloat. (Consider one piece of evidence: ICICI Bank has dumped Kingfisher , but not any of the public sector banks.) One news report even suggested that the previous Director-General of Civil Aviation (DGCA) - Bharat Bhushan - had put in a note recommending action against Kingfisher on safety grounds, but this note went missing.

And we know what happened to Bhushan - he lost his job overnight.

But what applies to airlines also applies to airports - two of which were privatised during UPA-1. That both the winning bidders were practically unknown groups from Andhra Pradesh during the reign of the powerful Congress satrap, YS Rajasekhara Reddy, is itself a tell-tale sign, but we shall let that pass.

This is one case where an auction actually ensured high bids. But who can make profits after agreeing to high bids? Not to worry. Rules and charges can always be changed after the bids. GMR and GVK bid very high for the Delhi and Mumbai airports - offering revenue shares of 46 percent and 38 percent to the Airports Authority of India (AAI). Now Delhi airport has managed to obtain huge increases in airport charges of over 300 percent - and is asking for more .

We are now paying the price for the privatisation of Delhi and Mumbai airports.

Broadly speaking, crony capitalism operates most in areas that are heavily regulated by the government, or where rent-seeking is the norm.

This is why oil, power and gas are the most lobbied for sectors in terms of needed favours.

In oil, for example, the government subsidises diesel, cooking gas and kerosene to such an extent that private players have more or less been driven out of the Indian market. But this does not bother them. They can always export. However, who can deny it is in the private refiners’ interest to have a sick public sector oil marketing sector?

A public sector ONGC is forced to subsidise near-bankrupt Indian Oil, BPCL and HPCL, but a Reliance can happily declare that gas production is falling in KG-D6 due to “technical” reasons - and reduce the supply of gas at the government-mandated price of $4.2 per mmbtu (million metric British thermal units). Slowly, but surely, the government is beginning to see the wisdom of revising gas prices before 2014, with the PMO itself moving a note in this regard to see if this can be done.

In coal, which is a government monopoly, the less said the better. The Comptroller and Auditor General (CAG) has submitted a report questioning the entire basis on which coal blocks were allotted without any kind of auction and on the basis or arbitrary policies - and most of the time it was done when the PM himself was the coal minister.

This is not to suggest that the PM was favouring cronies at all, but that under his watch coal blocks were being allotted in a non-transparent way.

According to an Economic Times report, between 2005 and 2010, the government offered 150 blocks for captive use, and 178 bidders were chosen to receive this largesse. The process was supposed to select parties “who would be best at extraction” but, as the report points out, this is not how the opaque policy actually worked, and “undeserving companies were selected…Some companies got more blocks than they needed, some deserving ones did not receive any.”

The newspaper quotes the Ashok Chawla committee set up to look at natural resources allocation as saying: “There is a list of technical and economic criteria which the (coal block allocation) committee is supposed to use to assess projects. However the criteria are so broad that any decision can be justified.”

The CAG topped it off with this comment: “The process of allocation suffered from an element of subjectivity, opaqueness and lack of transparency,” it said. An embarrassed government is still to table this report submitted in May.

Who can bet that there was no cronyism involved in the coal block allocation? Rest assured, the bills will come back to bite you in the form of higher energy prices.