Attempts are being made to blame high interest rates for crimping growth – as is evident in the falling trajectory of GDP growth over the last five quarters as well as the Index of Industrial Production, which came in at a negative -1.8 percent in June.
While the Reserve Bank is still sticking to 6.5 percent growth in 2012-13, most others have started lowering their forecasts to below 6 percent. The latest projections of Citigroup, Goldman Sachs and CLSA are 5.4 percent, 5.7 percent and 5.5 percent in the year to March 2013.
Everyone is looking for a villain, and right now the only one available to politicians is Duvvuri Subbarao, the Reserve Bank governor, who has held his ground on interest rates in order to force policymakers to cut subsidies and give him room to ease monetary policy.
A few days ago, Finance Minister P Chidambaram made pointed references to this and said he would take “carefully calibrated risks” to lower rates and stimulate investment.
Earlier, Shankar Sharma, Vice-Chairman and Joint Managing Director of First Global, castigated the Reserve Bank of India (RBI) for putting speedbreakers to growth. He told DNA: “The Reserve Bank of India (RBI) killed it under the very lofty ideal that we will tame inflation by killing growth.”
Mihir Sharma, writing in Business Standard last week, made much the same point in a more nuanced way and claimed the RBI was stubbornly insisting that high rates were needed to tackle inflation, when in fact they are shrinking corporate margins, and inhibiting investment.
As for corporate chieftains, they have been making a song-and-dance about interest rates for as long as one can remember.
The storyline that seems to be emerging is this: high rates are killing growth, even though they have not been able to tame inflation. That is, after discounting for the impact of the global slowdown, and commodity prices, interest rates are held to be the main danger to growth.
If one were to personify this accusation, it would mean RBI Governor D Subbarao is killing growth.
But is this true? Are high rates the reason for businesses not investing? If it were, the near zero interest rates in the US and Europe should be revving thing up.
In India, the real causes of the slowdown relate to politically-influenced policy breakdowns emanating from 10 Janpath rather than Mint Street. Let’s see why.
Without in any way denying that high rates can indeed impact growth, one would like to question the assumption that they are the major cause of our slowdown.
A BusinessLine report on Monday, looking at the first quarter results of 1,577 companies (non-financial, non-oil), shows topline growth of 17.8 percent and net profit growth of 5.4 percent in the quarter to June 2012 (in the previous quarter ended March 2012, the figures were 19.2 percent and 2.6 percent). And what of interest costs? As a proportion of sales, interest costs are up to 3.6 percent from 3.1 percent – a half percent higher impact on margins.
An ET Intelligence Group report based on 1,400 companies has a similar figure to report – with interest costs at 3.6 percent of sales – but this is a 42.6 percent jump this June compared to June 2011.
So, interest costs are biting, but are they the cause of the slowdown?
The ET report has a more nuanced story to tell. Higher rates are hitting companies because other sources of capital – like the stock markets – have clogged up. The report quotes Samiran Chakraborty, Regional Head of Research at Standard Chartered (South Asia), as saying: “Companies are relatively more leveraged now since raising equity has become difficult. This has resulted in higher interest costs.”
And who killed the stock markets? Does it have anything to do with that four-letter word called GAAR, or the budget’s retrospective taxation proposal?
If your answer is yes, high interest rates are a problem only because policy paralysis and wrong decisions have closed off alternate sources of funding.
Now, let’s look at two corporate examples: Reliance and Coal India. The former had over Rs 70,000 crore in cash as in June 2012, and the latter had over Rs 58,000 crore as at the end of March 2012. Why aren’t they investing? The former, because of disputes over gas pricing and lack of government clearances of investment (Reliance only recently got the nod for investment of $1 billion), and the latter because it can’t open mines for environmental reasons. According to BusinessLine, 70 million tonnes of potential coal output have been held up due to lack of environmental clearances.
So, the growth story in two cash-rich companies is not related to the price of money, but policy hiccups. Even if Subbarao gives away money for free, these things may not change.
An Economic Times report on Monday, quoting a top finance ministry official, shows how lack of administrative action is itself slowing growth in specific areas. The official said: “In the last quarter, only 100 km of roads were constructed. Power projects totalling 18,000 mw are stuck. The petroleum ministry is yet to clear Cairn’s capex proposal despite the prime minister calling up (oil minister) Jaipal Reddy.” All this will apparently be addressed by Chidambaram’s action plan, but that we will have to wait and see. What is clear is that government has ground to a halt, and so has growth.
The judgment clearly is this: it is the government which is killing off growth. Interest rates are a red herring.
Next, let’s look at sectors, one by one. Real estate is stagnating. Rates are being blamed, but it is the price of realty that is the problem.
Anecdotally, let me recount my own experience. In 1997, when interest rates on housing loans were more than 14 percent, I could afford a flat in distant Thane that cost Rs 13-14 lakh. Today, a similar sized property costs more than Rs 1 crore. And, despite my higher income, I cannot buy the same sized property even though interest rates are lower now than in 1997.
The moral: it is not interest rates that determine actual-user property purchases, but affordability.
Who killed the real estate markets? Not Subbarao. A rigged property market simply does not follow the laws of demand and supply. When no one is buying, the price keeps rising. A cabal of politicians, builders and crony capitalists has made it impossible for anyone but a few people in the top 1 percent to even think of buying a property in any of the metros. They killed the real estate market.
Now, aviation. Are high interest rates killing the aviation sector? Aviation is indeed overloaded with debt, but that is not what it has been complaining about. It has been talking of high fuel prices, and lack of foreign investment (FDI) in aviation.
And who stopped FDI in aviation if it’s so important? Not Subbarao. It’s a mix of politicians and their businessmen friends, who don’t want FDI till they are ready for it. As for Air India, as the government pours more and more bailout funds into the national carrier, it makes the rest of the industry sick. Who in his right mind will fund aviation today? Too much competition and a wayward policy is the reason for the industry’s lack of growth and investment.
Look at telecom, next. Who killed the growth story here?
Andimuthu Raja is being credited with the sector’s fast growth after 2007, but, more likely, he laid the groundwork for a dramatic failure. The folklore is that he made telecom affordable by keeping spectrum prices down. But is that the real story? The fact is Raja’s decision to shower licences on his cronies created so many players that everyone’s profits came down. Today, even the market leader is facing a severe profit squeeze and declining margins.
Telecom, in fact, is similar to aviation – a business run on expectations of policy benefits, not supply and demand.
True, the industry is reeling under high debts, brought on by mindless expansion abroad, high bids for 3G licences, and excessive competition. So rates do hurt. But do they hurt more than the industry’s own follies, including cavorting with Raja?
When spectrum was cheap, the industry just took it as though it was an entitlement. They should have raised more equity to reduce interest costs. But they were under the false impression that someone in government can always be relied on to toss them a lifeline even if they did something foolish. Now they are paying the price. Don’t blame interest costs for it.
The moral here is this: excess competition will create the illusion of fast growth, but with consumer prices so low, few businessmen will make the necessary investments for the long-term. A stable industry needs competition – and consolidation. This needs policy inputs, not cheap interest rates.
Then, come to power – the industry with the largest potential for damage now, with over Rs 2,00,000 crore in accumulated losses. Why is the power sector in crisis? Because politicians don’t want to raise tariffs, the distribution companies don’t have enough money to buy coal. Instead, they borrow from banks, and end up paying interest.
So is the problem interest rates, or borrowing when they should be raising tariffs instead?
Who killed the power story? Not rates, but policy inertia and political interference in tariffs, both at centre and states.
The story of oil, of course, has been repeatedly told in Firstpost. This year, unless prices are raised, the oil marketing companies will lose close to Rs 2,00,000 crore. Most of this money will be paid in the form of subsidies – either by the exchequer or by arm-twisting ONGC and Oil India to do so.
The oil industry’s subsidies are really money borrowed from the markets. When government borrows Rs 1,50,000-2,00,000 crore to pay oil subsidies, what do you think it will do to market interest rates? Even if it wants to, the RBI cannot really bring down interest rates because the government’s own demand for money is so high.
Put another way, the government itself is the primary cause of high interest rates.
On the other hand, look what the government has been doing on the growth front. While overall spending is growing in leaps and bounds, the one bit of expenditure that is really beneficial to the economy – spending on productive capital assets – is going down.
In 2011-12, the Centre’s capital expenditure was 2.5 percent below the budget estimate of 1,60,567 crore at Rs 1,56,780 crore. After adjustments for inflation, the real capital spending would be closer to 12-15 percent lower.
Why is this happening? Because, faced with budget constraints, the government is cutting out the productive bits of spending and maintaining the unproductive bits.
In the one area where the government can boost growth, it has been doing the opposite by not making capital investments – which tend to set off a virtuous cycle of demand and private sector investment.
In 2012-13, capital expenditure is budgeted to go up by 28 percent to Rs 2,04,816 crore. But any bets this is what will be chopped to finance the budget hole?
The judgment clearly is this: it is the government which is killing off growth. Interest rates are a red herring.
