India in Crisis 2017

Preface
The Sensex is flirting the 30,000 level, and the

feeling that all is well seems to have made its way
back into the Indian psyche. But is all really well? We
don't think so.
In this report, we highlight three crisis scenarios

that India could face in 2017. The tragedy is that
there aren't really any solutions in sight and the
media is as usual not talking about it.
But we at Equitymaster do not believe in holding back, at least not from

our readers and prospective readers.
So, like we have done in the past, we are calling a spade a spade and
pointing out three crisis scenarios that India could face and you, dear
reader, need to be aware of.
Happy Reading!
Vivek Kaul
India in Crisis 2017 | 2

India in Crisis 2017
TABLE OF CONTENTS
Page
4
Will the Great Indian Real Estate Bubble Finally Burst? It's for the Modi Govt to Decide
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Unsold Homes at a 10-year High, who are we Building These Homes for? 12
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Of Rahul Bajaj and India's So Called Demographic Dividend 18
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What the Media Did Not Tell You About Indias High Unemployment Rate 21
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Of Public Sector Banks, Narendra Modi and Suit, Boot Waali Sarkar 27
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Why India has Sick Companies But No Sick Promoters 37
__________________________________________________________________
Disclaimer 43
__________________________________________________________________
3 | India in Crisis 2017

Will the Great Indian Real Estate
Bubble Finally Burst? It's for the
Modi Govt to Decide
- By Vivek Kaul
In a surprise late evening move yesterday, prime minister Narendra Modi told
the nation in a TV address, that come midnight, Rs 500 and Rs 1,000 notes will no
longer be legal tender.
As I explained in a column published earlier today, one reason for doing this is
to tackle the menace of fake notes. The second reason for doing this is to tackle
black money.
As I mentioned in the earlier column, the move seems to be inspired from the
American dollar as well as the British pound. In the United States, the highest
denomination bank note is $100. When it comes to the United Kingdom, the
highest denomination bank note issued by the Bank of England is 50. In the
United States as well as the United Kingdom, the highest denomination note is
essentially 50 times the smallest denomination note of one dollar or one pound.
In India, up until now the highest denomination note was Rs. 1,000 and this
was 1,000 times the smallest denomination note of Re 1, issued by the ministry of
finance. When a currency has notes of higher denomination, it is easier to launder
money i.e. store black money, as it takes less space and weighs less as well.
As Ritika Mankar Mukherjee and Sumit Shekhar of Ambit Capital wrote in a

recent research note: "For instance, the weight of Rs 1 crore in the form of hard cash
rises from 12kgs to 100kgs if the denomination of the sum is changed from 1,000-Rupee
notes to 100-Rupee notes."
Also, Rs 500 and Rs 1,000 form the bulk of the total amount currency notes in
the Indian financial system. As per the Reserve Bank of India, the total amount of
Will the Great Indian Real Estate Bubble Finally Burst? It's for the Modi Govt to Decide | 4
paper notes in circulation in 2015-2016 amounted to Rs 16.4 lakh crore. Of this,
the high denomination notes of Rs 500 and Rs 1,000 amounted to Rs 14.2 lakh
crore or a little over 86 per cent. The Rs 500 notes amounted to Rs 7.9 lakh crore
whereas Rs 1,000 notes amounted to Rs 6.3 lakh crore.
This basically means that anyone who has black money stored in the form of
currency notes is more than likely to have it in the form of Rs 500 and Rs 1,000
notes. Black money is basically money which has been earned and on which
taxes have not been paid. As Mukherjee and Shekhar write: "Given that 48% and
39% of the total value of currency in India is in the form of Rs 500 and Rs 1000 notes
respectively, discontinuing usage of either of these notes can increase the physical
costs and risks of holding black money significantly."
Given this, anyone who has these notes, must go deposit this money in a bank
account or in a post office account. And if the money being deposited is black
money then questions are likely to be asked by the income tax department.
Hence, that is unlikely to happen, at least not in a direct way.
One repercussion of this move that is being widely talked about is that it will
lead to a fall in real estate prices. Typically, real estate throughout the length and
breadth of India is bought using black money. A significant part of the payment
is made in cash. Either this is black money being used or it is white money
being converted into black. Experts are of the view, that the Modi government's
crackdown on black money is likely to lead to real estate prices coming down
significantly.
The logic is that with Rs 500 and Rs 1,000 no longer being legal tender, it will
become difficult to make the black component of the payment using currency
notes. With the cash component becoming difficult to pay, it is expected that the
real estate companies and builders will have to cut prices.
Further, the government plans to launch new Rs 500 and Rs 2,000 notes. It will
not be so straightforward to exchange the old Rs 500 and Rs 1,000 notes with
these new notes, at least that is the feeling that currently prevails.
This is the logic being offered by experts who are forecasting a fall in real estate
5 | Will the Great Indian Real Estate Bubble Finally Burst? It's for the Modi Govt to Decide
prices. As Yashwant Dalal, president of the Estate Agents Association of India told
The Economic Times: "Property markets will see around 30% correction in prices...
Apart from big property markets, tier II and III cities will be worst affected." Property
prices in tier II and tier III cities will fall more because the black component while
buying a home is higher in these cities.
Further, as Anuj Puri, chairman and country head, JLL India, told Mint: "We have
just witnessed a tremendous step towards increased transparency in the Indian real
estate industry...The effects will be far-reaching and immediate, and shake up the
sector in no uncertain way." Rajiv Talwar, CEO of DLF, was a little more direct than
Puri when he told The Economic Times: "There is bound to be a downward pressure
on prices of everything including real estate."
How do I see the situation? Given that I have been bearish on real estate for
as long as I have been, it would be easy for me to say that prices will crash. But
the past data (whatever limited data we have on real estate) doesn't suggest the
same.
So, my feeling is that real estate prices will fall, but whether they will crash or
not, depends on how the government reacts to the situation. Allow me to explain.
This is something I had written in the last edition of The Vivek Kaul Letter, but
it is worth repeating here. The current financial crisis that the world is dealing
with, essentially started once the investment bank Lehman Brothers declared
bankruptcy in mid-September 2008. Real estate prices fell across large parts of
the world. But India beat the trend.
The question is why did this happen. Why did real estate prices in India not
crash? How did India manage to beat a global trend? The answer lies in Figure 1.
Figure 1: Bank lending to commercial real estate (in Rs. Crore)
www.equitymaster.com Source: Reserve Bank of India and

the Center of Monitoring Indian Economy
The Figure 1, plots the total loans given by banks to commercial real estate,
essentially, builders or real estate companies, which make and sell homes, in the
period following the start of the financial crisis in late 2008 and early 2009. In the
aftermath of the financial crisis, real estate companies in India were also under a
lot of pressure. Loans had to be repaid. At the same time the buyers had simply
disappeared from the market.
To attract buyers, builders did start to cut prices. Nevertheless, that soon came
to a stop. Look at Figure 1. There is a huge jump in lending between January
2009 and February 2009. In January 2009, the total bank lending to commercial
real estate stood at Rs. 78,401 crore. At the end of February 2009, the total bank
lending to commercial real estate stood at Rs. 90,765 crore. During the period of
just one month, lending to real estate went up by Rs. 12,364 crore or 15.8 per cent.
This, when the total lending by banks (non-food credit) between January 2009
and February 2009 went up by Rs. 26,380 crore. Hence, lending to commercial
real estate by banks, formed close to 47 per cent of the total lending carried out
by banks during the month.
This was a huge anomaly. It is safe to say that this was a bank-sponsored
bailout of the real estate sector. If this bailout had not been carried out real estate
companies would have had to cut prices majorly to sell homes, to be able to earn
enough money to repay the bank loans that they had taken on. Chances are they
would have defaulted on some of these loans as well.
The Indian banks managed to avoid this scenario by lending fresh money to
real estate companies. The fresh loans were used by the real estate companies to
repay their old loans. If these fresh loans hadn't come through then the real estate
companies would have had to cut home prices, so as to be able to sell homes and
earn enough money to repay those loans. And India's real estate bubble would
have ended in 2009.
Look at Figure 2. It basically plots the growth in bank lending to commercial

real estate over the years. So, in June 2011, the growth rate was at 23.2 per cent.
This means that the growth in bank lending to real estate companies between
June 2010 and June 2011, stood at 23.2 per cent. All other data points have been
plotted in a similar way.
Figure 2: Growth in lending to commercial real estate (in %)
www.equitymaster.com Source: Reserve Bank of India
It is clear from Figure 2 that the growth in bank lending to real estate companies
simply exploded in the aftermath of the financial crisis. In fact, it just went up
vertically. Zoom!
And this explains, why the real estate prices in India did not fall in the aftermath
of the financial crisis. Further, this also tells us why India beat the global trend of
falling real estate prices. Of course, perpetual reasons like black money finding its
way into real estate, were also there.
Further, the law of demand does not work in the real estate market. In a normal
market, when prices go up, people buy less of that thing. In the real estate market,
as prices go up, more and more people enter the market (as is the case with the
stock market as well). This is what happened post 2009 in India. Rising real estate
prices brought the buyers back into the market and the real estate bubble got a
new lease of life.
In fact, it is clear from Figure 2, that the growth in bank lending to real estate
companies goes through some sort of a cycle. Are these lending cycles linked
to the rate of increase of real estate prices? The trouble is that there is very little
data available on real estate prices in India. One of the real estate indices that one
can look at is the Reserve Bank of India (RBI)House Price Index. Look at Figure 3.
It shows one- year returns in real estate per the RBI House Price Index, since June
2011.
Figure 3: Real estate returns (in %)
What is clear from Figure 3 is that the annual real estate returns have come
down over the years. Now what happens when we plot Figure 2 and Figure 3
9 | Will the Great Indian Real Estate Bubble Finally Burst? It's for the Modi Govt to DecideDecide
together. Look at Figure 4.
Figure 4: Comparison
The Figure 4 shows that every time the real estate prices start to correct (i.e. the
rate of growth in real estate prices starts to fall), lending from banks to real estate
companies starts to pick up. Of course, the mapping isn't exactly one to one. But
there is a clear correlation.
There are two possible reasons for this. One is that banks do not want real estate
prices to fall. This is because they feel that if real estate prices fall, the real estate
companies won't be able to repay their loans. Given this banks give fresh loans to
real estate companies, so that they don't have to cut their prices. This keeps the
real estate bubble going.
The second possible reason is that the government (I don't mean just the current
government here but any government) does not want real estate prices to fall.
This stems from the fact that the ill-gotten wealth of politicians is largely invested
in real estate and they work towards protecting its value. Also, real estate builders
are major financiers of political parties at local and state levels.
How is all this relevant in the current context? Real estate prices will start falling
for sure. The trouble is that this is also likely to lead to default of bank loans from
real estate companies. As of August 2016, the total lending carried out by banks
to real estate companies stood at Rs 1,81,700 crore. If home loan borrowers also
start to default, then there will be a bigger problem.
In this scenario, will banks come to the rescue of real estate companies again?
Will public sector banks be forced to give fresh loans to real estate companies?
On these questions, your guess is as good as mine. I don't have clear cut answers
to these questions. If banks do give fresh loans to real estate companies, as they
have done in the past, then the real estate prices may not fall by as much as they
are currently expected to. Nevertheless, it is safe to say, that whether real estate
prices will crash, is actually in the hands of the Modi government.
Also, it is worth pointing out here that public sector banks are currently in a
mess because of corporates defaulting on loans. Will they be able to take on real
estate companies defaulting on their loans as well? What will the government do
in this situation?
To conclude, I must say this that if the Modi government does allow real estate
prices to come down dramatically, it will improve the affordability of homes. This
will allow many people who cannot currently buy homes to buy homes. Also, lower
prices will spur demand, which is currently more or less dead. Higher demand will
lead to the creation of many low-skilled and unskilled jobs, which the country
badly needs, with one million individuals entering the workforce every month.
It will also lead to a multiplier effect in industries which directly depend on real
estate for their demand.
All I can say with confidence right now is: Watch this space.
Unsold Homes at a 10-year High, who are
we Building These Homes for?
- By Vivek Kaul
A news report in the Business Standard newspaper recently pointed out that the
inventory of unsold homes in India is now at a ten-year high. As the news report
pointed out: For the entire industry, unsold stock stood at 1.2 billion sq ft at the end
of the April-June 2016 quarter, according to a survey by real estate consultancy Liases
Foras. In terms of number of homes, various news reports suggest that around 7
lakh homes are unsold across the eight biggest cities in India.
Despite this huge inventory, new launches continue to happen. Not a day goes
by without one newspaper or another having a full page advertisement from a
real estate company, announcing a new project. Having said that the number of
these launches has definitely come down than in comparison to the past.
The question is, are people buying these new homes that are being built? The
straightforward answer seems to be that they are not buying as much as is being
produced, by the real estate companies.
This can be concluded from the fact that the overall inventory of the real estate
industry has been going up and is now at a ten-year high. If all that is being built
was being bought, the total inventory would have been falling and not going up,
as is the case.
Nevertheless, it would be a stretch to say that homes are not being bought and
sold, at all. As per the latest sectoral deployment of credit data released by the
Reserve Bank of India(RBI), the total outstanding housing loans, went up by 17.2
per cent, for a period of one-year ending July 22, 2016.
Hence, this means that people continue to buy homes. Its just that they are not
buying up as much as or what the builders are currently building. And this has led
Unsold Homes at a 10-year High, who are we Building These Homes for? | 12
to the total unsold inventory of homes reaching a ten-year high.
Source: istockphoto
So what are people buying then? The housing loan data from the RBI clearly
shows that they are buying homes.
It so happens that India has a huge number of vacant homes. These are homes
that have been built and bought, but are currently lying unoccupied. Arjun Kumar
makes this point in a research paper titled Indias Residential Rental Housing
published in the Economic and Political Weekly dated June 11, 2016.
As per the 2011 census, India had 2.47 crore vacant homes (or vacant census
houses as they are called). Out of this 1.36 crore homes were in rural areas and
1.11 crore homes were in urban areas. In rural areas, the vacant homes formed
6.2 per cent of the total homes. In urban areas, the vacant homes formed 10.1 per
cent of the total homes.
Between 2001 and 2011, the number of vacant homes increased by a whopping
56 per cent or 89 lakh, to 2.47 crore homes. The rural areas saw a jump of 45.1 per
cent whereas urban areas saw a jump of 71.9 per cent. It is safe to say that since
2011, the number of unoccupied homes would have gone up further. Looking at
the past trend, currently, the number of vacant homes should be over 3 crore.
13 | Unsold Homes at a 10-year High, who are we Building These Homes for?
One reason for the jump in vacant homes could be the fact that the inflation,
as measured by the consumer price index, was particularly high in the second
half of the decade between 2001 and 2011. The inflation between 2006-2007 and
2010-2011 was at close to 9 per cent. In fact, the rate of inflation between 2008-
2009 and 2010-2011 was even higher at 10.6 per cent. The inflation continued to
remain high up to 2013-2014.
Hence, in order to beat the inflation people moved their savings into real estate,
where the hope was they would earn higher returns. This meant more and more
people bought homes as an investment and then kept them locked.
Given the bad shape of our rental laws, it isnt surprising that many people buy
a home only to keep it locked and dont give it out on rent. This penchant for
investing in real estate also ensured that the decade between 2001 and 2011, saw
a huge price rise. And this price rise attracted more investors. In the process, many
homes were bought and then kept locked.
The humungous increase in the number of vacant homes is also a reflection

of the fact that between 2001 and 2011, the total amount of black money in the
Indian financial system, went up dramatically. Real estate is a very good conduit
for investing black money. It also leads to a further generation of black money,
which finds its way into real estate again.
And so the cycle works.
The trouble is that we only know that around 2.47 crore homes (or actually
may be more than 3 crore homes now) are vacant and nothing beyond that. As
Kumar writes: Information on the characteristics of these vacant houses, such as
size, physical condition, use, tenure, reasons for non-occupancy, and so on, was not
available. Nonetheless, these vacant houses are physically unutilised and could be used
to meet a large part of housing needs [emphasis is mine].
Nevertheless, we can make some educated guesses here. While no information is

available on the characteristics of vacant homes, the census does give information
regarding homes on an overall basis.
As far as predominant material of the roof of the home is concerned, nearly 29.1
per cent of homes have a concrete roof, 15.9 per cent of homes have GI/metal/
asbestos sheets as roofs, 8.6 per cent of the homes have a stone roof, 23.1 per
cent have tiles as a roof, 0.6 per cent have plastic/polythene sheets as roofs and
15.1 per cent have grass/thatch/bamboo/wood/mud roofs and so on. Further,
43.5 per cent of homes have access to drinking water and 46.9 per cent have the
latrine facility available within the premises.
We assume that the vacant homes also follow the same distribution of different
kind of roofs as well as access to drinking water and latrines, as total homes do.
This is a reasonable assumption to make given that the total number of vacant
homes form around 7.5 per cent of the total number of homes, are a big number
in itself, and hence, are likely to follow the same distribution as total homes.
What this tells us is that a significant portion of the homes that are vacant as per
the census, are of a similar kind to the nearly seven lakh homes that are currently
unsold in the large cities. The homes lying unsold primarily cater to the middle
class and the upper middle class. And a significant portion of the vacant homes as
per the census do the same as well.
It is also safe to say that many of these vacant homes are the ones being currently
bought and that explains why the housing loan growth of banks continues to
be robust. One reason for this could be the fact that these homes are a part of
better localities, given that they were made earlier. Its always nicer to live in an
apartment in which some people are already living. Further, if an apartment is
inhabited other amenities in the area also tend to come up faster.
At the same time, this also explains why the inventory of real estate companies
is at a ten-year high. Over and above this inventory, there are many homes that
have been bought as an investment over the years. These homes are also available
in the market right now. And given that many of these homes have barely given
any return, they are as competitively priced as the new homes being built, if not
better.
The point being that no investor (real estate or otherwise) can hold on for
eternity. Further, it also leads to the question that if these unoccupied homes
were available for housing, would it meet some part of Indias housing needs?
There is clearly no doubt about that. As the 12th Five Year Plan document points
out: 41.6 per cent of the total slum population resides in cities with over one-million
population. Informal settlements occupy one-third of the large city spaces: 34.5 per cent
of the population of Mumbai, Delhi, Kolkata, and Chennai live in slum settlements.
Another high rise emerges, Source: istockphoto

this time in between a slum
Over and above this, many people spend a major part of their lifetime living
in slums. As the Five Year Plan document points out: Data shows 55 per cent
of slum dwellers have been living in them for over 15 years and another 12 per
cent between 10-15 years, establishing that slums are an integral part of the
phenomenon of urbanization, and are contributing significantly to the economy
of cities by being a source of affordable labour supply for production both in the
formal and informal sectors of the economy but are a reflection of the exclusionary
socio-economic policies and planning in the country.
If these vacant homes were to be available for rent, rental yields would crash
further, making rents even more affordable (not that they are not affordable right
now). This would definitely help solve some of Indias housing problems. While,
this wouldnt mean the end of slums, but some people living in slums would
definitely be able to move up. It is worth pointing out here that a lot of people
living in slums may have their own homes in their villages, but are living on rent
in a city slum.
Further, given that Indians like owning their homes rather than renting them,
if the landlords owning these homes were to firmly decide to sell them, home
prices would come down significantly.
This would make better quality housing available to people, helping them move
up in life. It would also allow those living in rental accommodations to buy better
quality homes of their choice. Of course, this is just a pipe dream, given that the
belief that real estate gives terrific returns, is still strong, though not as strong as
it used to be.
Also, with the unsold inventory at a ten-year high, a lot of capital is locked up.
The Business Standard estimates that the total capital locked up is at a whopping
Rs 6 lakh crore. At the current pace of absorption, it will take nearly three years for
this inventory to clear. But what this doesnt take into account is the fact that as
per 2011 census, India had 2.47 crore unoccupied homes.
Long story shortthe real estate sector is going to continue to remain in a mess
in the time to come. Its only hope is a fall in price. The sooner that happens the
better it is for all of us. Meanwhile, the real estate companies can continue to crib
for lower interest rates. But that aint going to help anyone.
Of Rahul Bajaj and India's So Called
Demographic Dividend
- By Vivek Kaul
One of the things that I have recently been asked more than a few times is that
why isn't anyone else talking about the demographic dividend point that I have
been making in the recent past.
The basic argument is rather straightforward. At a certain point of time, countries

reach a stage where their working population grows much faster than their overall
population. This means that there are more people who can earn and spend than
those who need to be taken care of.
This trend typically lasts for two to three decades. When the people entering the
workforce get jobs and save and spend money, the economy grows at a much
faster pace than it has in the past. This faster economic growth helps pull out more
and more people out of poverty. This is referred to as the demographic dividend.
An important assumption in the demographic dividend is that people who enter

the workforce and are actually looking for jobs, are able to find jobs.
In the Indian case, around one million individuals are entering the workforce
every month. This means around 1.2 crore individuals are entering the workforce
every year. This will continue to be trend over the next couple of decades. More
than 54 per cent of the country's population is under 25 years of age.
If this demographic dividend needs to be cashed in on, there need to be jobs for
these people. Also, if a bulk of these people need to find employment, the jobs
need to be in the unskilled and the low-skilled space.
The question is, are enough jobs being generated for the million Indians entering
the workforce every month? The answer is no.
This is the basic point I have been making over the last few months. And this has
Of Rahul Bajaj and India's So Called Demographic Dividend | 18

led to the question, as to why others are not talking about it.
While, I have no control over why others are not talking about what I am talking
about, it took me a while to understand why people are asking the question.
The way the human brain works, most of us deem something to be important
only if more than a few people are talking about it. In this case, it seems I am the
only one rattling on and on about an issue. And given that the question is, is it
important enough? Or is it something which one cranky guy seems to have gotten
into his head. Making that distinction is important. And this is where external
validation comes in. Or whether others are also talking about the same thing.
This phenomenon of seeking external validation is clearly visible in the stock

market. Most retail money comes in when the markets are at their peak. And
most people get totally disillusioned about investing in the stock market once
the market has bottomed out.
That's how human psychology works and I really cannot do much about. The
question is why are others not talking about the risk to India's demographic
dividend? For the English language media, it is a question of us and them. People
who are not finding jobs are not the ones who read the English language press.
Further, in India, nobody really stays unemployed. People do find a way of doing
something. Either they become a part of the agricultural workforce where the
disguised unemployment is very high. Or they become what economists Abhijit
Banerjee and Eshter Duflo call reluctant entrepreneurs.
Over and above this, we do not have a good regular measure for unemployment.
And given that unemployment rarely makes for news unlike a lot of other economic
indicators like inflation, index of industrial production, fiscal deficit and so on.
Also, the demographic dividend not working out is a long-term trend. It is not
going to have consequences overnight. Having said that, one consequence that
has already started to playout is the land-owning upper castes in various parts of
the country are now demanding reservations in government jobs.
19 | Of Rahul Bajaj and India's So Called Demographic Dividend

I guess these are the reasons why others are not talking about this trend.
Nevertheless, I recently came across someone who talked about what I have been
talking about.
Industrialist Rahul Bajaj, wrote this in the 2015-2016 annual report of Bajaj Auto:
"Each year, India is producing an extra 12 million young people of an age that makes
them ready for the nation's workforce. Unfortunately, while there is no doubt that
we as a country can increase our GDP growth initially to 8% per annum and then
hit a steady-state of around 8.5% for several years, everything seems to suggest that
employment will not rise at anywhere close to that rate of growth."
I don't really buy the fact that India will be able to grow at a steady rate of 8-8.5
per cent per year, for several years. Very few countries have been able to grow at
a rate of six per cent or more for a long period of time. Hence, there is no reason
for us to assume that we will grow at 8-8.5 per cent, consistently.
I don't really buy the fact that India will be able to grow at a steady rate of 8-8.5
per cent per year, for several years. Very few countries have been able to grow at
a rate of six per cent or more for a long period of time. Hence, there is no reason
for us to assume that we will grow at 8-8.5 per cent, consistently.
Nevertheless, I agree with everything else that Bajaj has written. As he further
writes: "Indeed, all recent data across most manufacturing and service sector activities
show that employment elasticities (namely, the percentage increase in employment for
a percentage growth in value added) are not only less than unity, but often negative.
Matters worsen if you juxtapose significantly greater skill and multi-tasking needs
of the future with the inadequate educational and technical abilities of many who
are entering the labour force - thanks to years of neglect of our schools, colleges and
technical and vocational training institutions. How then can we expect to employ the
majority of our youth even when we attain higher growth? And what will this do to
inequality and social tensions? I don't have ready answers. But as a nationalist in his
seventh decade, I am concerned." All I can say to conclude this is that like Bajaj I am
very concerned.
Of Rahul Bajaj and India's So Called Demographic Dividend | 20

What the Media Did Not Tell You About
Indias High Unemployment Rate
- By Vivek Kaul
I am writing this on an early Wednesday morning. Its still raining in Mumbai and
the killer October heat and humidity is yet to hit the city.
Given that its early in the morning, the neighbours havent yet woken up or
maybe they have and are generally quiet for once. The road in front of the building
has been dug up for close to a year, hence, there is no traffic on it.
Bangla songs composed by the legendary Salil Chowdhury playing in the

background are getting seamlessly intertwined with the chirping of birds outside.
All in all, a peaceful morning in a big city before the humdrum of daily life takes
over.
It is one of those rare surreal days in Mumbai which leads me to question if

everything is really the way it seems. While this is a philosophical question which
will perhaps take this lifetime to answer, one area where everything is not the way
it seems is the Indian media and the way it reports on economic issues.
Take the case of the way media went about reporting the rate of unemployment
last week. First and foremost, Indian economic agencies do not measure the
rate of unemployment on a regular basis. Like in the United States, a regular
unemployment figure is released every month.
In India, this happens now and then when some big surveys are carried out.
Hence, recently the Labour Bureau based out of Chandigarh, released the Report
on Fifth Annual Employment Unemployment Survey. (herein referred to as
Report)
Using this Report, large sections of the media reported that unemployment
in India during 2015-2016 was at a five year high of 5 per cent. The Press Trust
21 | What the Media Did Not Tell You About Indias High Unemployment Rate
of India in a newsreport said: The figures could be an alarm bell for the Bharatiya
Janata Party (BJP)-ruled government at the Centre. The Times of India said: It shows
a continuation of a distressing job situation.
What these statements clearly tell us is that the media was right and wrong at
the same time. Further, should a country be bothered about a 5 per cent rate of
unemployment, even if it is at a five year high? I shall get around to explaining
both of these statements in the remaining part of this letter.
Lets consider the rate of unemployment reported when the previous survey
was carried out by the Labour Bureau. The last survey was carried out in 2013-
2014, and the rate of unemployment then was 4.9 per cent. Given this, there has
barely been any jump in the rate of unemployment between then and now.
So should that get us worried, even if the unemployment is at a five-year high?

As the Press Trust of India points out: Unemployment rate was 4.9% in 2013-14, 4.7%
(2012-13), 3.8% (2011-12) and 9.3% (2009-10). Labour Bureau did not bring out any such
report for 2014-15.
So things are a little worse in comparison to 2011-2012, but a lot better than in
comparison to 2009-2010. Also, it is important to understand that at any point of
time there will be some unemployment in any economy. People will be in between
jobs. Some people might have got fired. Some companies might have shut down
rendering people unemployed. Some business could be seasonal. Some skillsets
which were in demand will get outdated and so on.
For a labour market to have flexibility, some unemployment is necessary. A labour

market which has 100 per cent employment will make it difficult for employers to
hire people and for people to find new jobs. Once these factors are kept in mind,
a rate of unemployment of 5 per cent is not high at all.
With that distinction out of the way, how worried should we be about Indias
so-called high rate of unemployment? We should be very worried. But isnt that a
contradiction to what I have said up until now? Yes, it is. Allow me to explain.
What the media did not tell us in the newsreports is how unemployment is
defined as. For how long does one need to be unemployed to be counted as
unemployed? And this is where things get interesting.
What the Media Did Not Tell You About Indias High Unemployment Rate | 22
The Labour Bureau essentially measures unemployment using two methods:
The first method is called the Usual Principal Status (UPS) Approach. In this
approach, the major time spent by a person (183 days or more) is used to determine
whether the person is in the labour force or out of labour force.
Hence, under this method, anyone who has a job for 183 days or more during
the course of the year and is considered employed. What does this mean? It
means that an individual may have been unemployed close to half the year, but
still might be considered to be employed.
As per this method the rate of unemployment was 5 per cent. The rate was 4 per
cent for males and 8.7 per cent for females. These were the numbers that were
highlighted in the media.
The second method is called the Usual Principal and Subsidiary Status (UPSS)
Approach. Under this method a person who has worked even for 30 days or more in
any economic activity during the reference period of last twelve months is considered
as employed under this approach.
Hence, an individual may not have had a job for 11 months during the course of
a year and might still be considered employed. As per this approach, only 3.7 per
cent of the workforce was unemployed. The rate was 3 per cent for men and 5.8
per cent for women.
What this clearly tells us is that the definition of unemployment is fairly broad
and given that just looking at the rate of unemployment will not give us the clear
picture. Take a look at Table 1, which gives us a much clearer picture.
Table 1
Source: Report on Fifth Annual Employment Unemployment Survey.
What does the table tell us? Only 60.6 per cent of the individuals who were
available for work all through the year, were able to get work all through the year.
In rural areas this figure was at 52.7 per cent. This basically means that half of
rural India cannot find work for all 12 months of the year.
The figure in case of urban India was 82.1 per cent. It explains why people
migrate from rural areas to urban areas. Other than the wages being higher, the
chances of getting regular work are higher in urban areas.
In fact, this is the real thing that the media reports should have talked about.
But then unemployment at a five year high was a simplistic and a sexier headline
that they led with.
Further, the situation on this front is more or less same, since the last survey
was carried out in 2013-2014. As per the last survey, 60.5 per cent of individuals
who were available for work all through the year had been able to find work all
through the year. In rural areas this figure was at 53.2 per cent. The figures or
more less similar to the figures as per the latest survey.
Indeed, this where the big worry for India is. That a huge portion of the
population is not able to find work all through the year.
Another factor that was not highlighted in the media is that India is a land
of reluctant entrepreneurs (a term coined by economists Abhijit Banerjee and
Esther Duflo). Why do I say that? Look at Table 2.
Table 2
Close to half of the workforce is self-employed. Some commentators have
romanticised this in the past and said that India is a land of entrepreneurs.
That is basically rubbish. As economist Vijay Joshi writes in Indias Long Road
- The Search for Prosperity: The vast majority of owners are not capitalists in
waiting but people who would gladly switch into decent employment if it were
available.
Why is that? Take a look at Table 3.
What does Table 3 tell us? It tells us that the regular wage/salaried class of
workers make the maximum money. Take the case of the self-employed. More
than two-fifths of the self-employed make only up to Rs 5,000 per month. In case
of the salaried this is much lower at 18.7 per cent.
Table 3
Hence, it doesnt take rocket science to figure out that if jobs are available,
many of Indias reluctant entrepreneurs would take them on. There is another
reason for this. Take a look at Table 4.
What does the table tell us? It tells us very clearly that around 63 per cent of
the self-employed are able to find regular work. In comparison close to 93 per
cent of the salaried and those on wages are able to find work all through the
year. In case of casual workers, the situation is even worse, with only around 42
per cent being able to find work all through the year.
Table 4
Source: Report on Fourth Annual Employment Unemployment Survey.
And these are Indias main individuals entering the workforce wont be able
to find regular work. This is a clear conclusion that we can draw from the figures
highlighted earlier.
Now this is nowhere as straightforward as saying that unemployment is at a

five-year high. The moral of the story is that simplistic and sexy headlines dont
always give a correct picture.
Of Public Sector Banks, Narendra Modi and
Suit, Boot Waali Sarkar
- By Vivek Kaul
In todays edition of the Letter, the second part of our exclusive interview with
former Federal Reserve Chairman Alan Greenspan, was supposed to appear. While
making that promise last week, I forgot that the Economic Survey and the annual
budget of the government were due, during the course of this week. Hence, we
will get back to the Greenspan interview next week.
In this Special Edition of the Letter, we will look at the mess that prevails in the
Indian public sector banks and why no workable solution is in sight.
Over the last few years, I have developed this habit of reading the Economic
Survey in some detail. And given that I read a lot of documents authored by the
Indian government for a living, I can safely say that this is by far the best document
authored by the government.
One reason why I like reading through the Survey is because it discusses some
economic ideas in detail. In the Economic Survey of 2016-2017, there is a chapter
which goes into great detail on the merits and demerits of the concept of Universal
Basic Income, a topic which is very hot right now in India.
Over and above ideas, one comes across some good data on the Indian economy,
which is very difficult to find otherwise. Take a look at Figure 1 (on the next page).
The data points which make up for Figure 1, help us arrive at very important
conclusions. Its just that other than the repo rate, the other data points, the
average term deposit rate and the average base rate, are not publicly available
on a regular basis. The last time I came across these data points was when the
previous RBI Governor Raghuram Rajan, referred to them in a monetary policy
statement.
27 | Of Public Sector Banks, Narendra Modi and Suit, Boot Waali Sarkar
Source: DavorLovincic/ www.istockphoto.com
Lets analyse Figure 1 in some detail. The base rate is essentially the interest rate
below which a bank cannot lend i.e. the interest rate at which a bank lends to its
best customer. The term deposit rate is essentially the interest rate that a bank
pays on its fixed deposits.
Figure 1: Repo, Base Lending Rate and Term Deposit Rate (Per cent)
Source: Economic Survey, 2016-2017
Of Public Sector Banks, Narendra Modi and Suit, Boot Waali Sarkar | 28
Since January 2014, the term deposit rate of banks or the interest rate at which
they borrow money from you and I, has fallen. At the same time, the base rate has
also fallen. Nevertheless, the term deposit rate has fallen much more and at a far
greater speed than the base rate.
This is something that becomes clear by looking at Figure 1 carefully. The gap
between the average base rate and the average term deposit rates has increased
considerably between January 2014 and December 2016. The base rate has barely
moved from 10 per cent to around 9.5 per cent. On the other hand, the term
deposit rate has moved from around 8.5 per cent and is now below 7 per cent.
When the bank manages to increase the gap between the lending rate and the
borrowing rate, its profit goes up. Or at least, its profit from the loans that are still
being repaid goes up.
The question is why is this happening?
Between January 2014 and September 2016, the bad loans of public sector
banks have gone up considerably. The technical term for bad loans is gross non-
performing assets ratio. A loan is an asset for a bank. As of end September 2016,
the gross non-performing assets ratio of public sector banks stood at close to 12
per cent. It has gone up considerably over the last few years (as can be seen from
Figure 2).
Figure 2: Gross Non-Performing Assets Ratio (per cent

of Gross Advances)
A bad loans ratio of 12 per cent basically means, that for every Rs 100 loaned
out by the banks, the borrowers have stopped paying interest on Rs 12. Hence,
the banks were paying interest to those they had borrowed from, but werent
getting any interest from a considerable portion of those, to whom the money
had been lent.
In order to compensate for this, the banks essentially cut the interest rates
on their deposits more than they cut the interest rate on their loans. As the
Economic Survey points out: By December 2016 the gap between the average term
deposit rate and the average base rate had grown to 2.7 percentage points, from 1.6
percentage points in January 2015. They have tried to compensate for the lack of
earnings from the non-performing part of their portfolio by widening their interest
margins.
What does this mean?
It means that the lack of earnings from those defaulting on their loans are
being compensated from individuals who invest in fixed deposits as well as
borrowers who continue to repay their loans on time. If the loan defaults hadnt
happened, the base rate and in the process, the rate of lending, would have also
come down at a much faster rate. As the Economic Survey puts it: The increase
in margins means that performing borrowers and depositors are effectively being
taxed in order to subsidise the non-performing borrowers. So, basically the good
buys are paying for the bad guys.
In fact, the bad loans of Indian banks are now one of the highest in the world,
as can be seen from Figure 3.
Figure 3: NPA Ratios: Selected Countries (Per cent of Gross Loans)

How did we reach this stage? The bad loans problem can be traced back to
mid-2000s, when the Indian economy was doing well and this led to some
indiscriminate lending to the corporates. A lot of lending was also carried out to
crony capitalists close to the politicians who governed the country at that point
of time.
And now these corporates are no longer in a position to repay the loans they
had taken on. Some of them got their calculations wrong and some of them
simply padded up the costs of the project and siphoned off a major portion
of the bank loan they had taken on to finance the project. So, while their
companies are bleeding, many industrialists personally arent.
Many corporates to which banks lent money now have an interest coverage
ratio of less than one. These companies are referred to as stressed companies.
This basically means that the operating profit (earnings before interest and
taxes) of these firms is lower than the interest that they need to pay on their
outstanding debt, during a given period. Hence, these companies are simply not
earning enough to pay the interest on the loans they had taken on.
What portion of the total loans have these stressed firms taken on?
Take a look at Figure 4.
Figure 4: Share of Debt Owed by Stressed Companies
The stressed companies with an interest coverage ratio of less than one, owe
a little more than 40 per cent of the loans given out by Indian banks. It is these
companies which are essentially holding Indian banks back. Between 2012 and
mid-2015, the operating profit of these companies held steady at around Rs
25,000 crore per quarter. Since then, it has fallen and by September 2016, it had
fallen to Rs 15,000 crore, making payment of interest on outstanding loans more
and more difficult.
This basically means that the companies have reached a Ponzi stage of finance
and need more and more debt to continue to remain in operation. This becomes
clear from Figure 5 (on the next page) which shows the total debt of the top 10
stressed corporates groups and how it has gone up over the last decade.
Many these stressed companies operate in the power sector, where their
operations are simply not viable at current power rates. Over and above this, in
some cases, companies have tried to square the circle by selling off some of their
assets. But this has sufficed mainly to buy them time, since selling off assets provides
immediate revenues but leaves firms with less income to service their debts in the
future.
In fact, even within stressed companies (i.e. companies with an interest

coverage ratio of less than one) the problem is concentrated among a few
borrowers. A mere 50 companies account for 71 per cent of the loans owed by
the stressed companies. On an average these companies owe Rs 20,000 crore
each to the banking system. The top 10 companies on an average owe Rs 40,000
crore apiece.
As bad loans accumulate, banks, in particular the public sector banks, need
more and more capital, in order to continue to operate. For 2016-2017, the
government had allocated Rs 25,000 crore for recapitalising public sector banks.
For 2017-208, it has allocated only Rs 10,000 crore. Some analysts have been of
the view that the allocation should have been more than Rs 10,000 crore, for the
next financial year.
The question is how much more?
And this is where things get very tricky. How much is anybodys guess, but
there are several estimates going around. Estimates made by the Committee
to Review Governance of the Boards of Banks in India (better known as the PJ
Nayak Committee) suggests that, between January 2014 and March 2018, PSBs
would need Rs 5.87 lakh crores of tier-I capital.
Figure 5: Debt of Top Ten Stressed Corporate Groups (Rs billion)*
Tier-I capital is the core capital of the bank, and consists of its disclosed
reserves as well as its equity capital. The Committee further said that assuming
that the Government puts in 60 per cent (though it will be challenging to raise
the remaining 40 per cent from the capital markets), the Government would
need to invest over Rs 3.5 lakh crores.
The government, on the other hand, estimates that the requirement of extra
capital for the next four years up to FY 2019 is likely to be about Rs 1,80,000
crore. This estimate was made as a part of the Indradhanush reforms that the
government unveiled in order to revamp the public sector banks. Of the Rs
1,80,000 crore, the government, as a major owner of these banks, plans to invest
Rs 70,000 crore between 2015-2016 and 2018-2019. The government hopes
that the improvements in capital productivity will enable PSBs to raise the
remaining Rs 1,10,000 crore from the market.1
Even though the governments estimate is much less than that of the Nayak
Committees estimate, it is not a small number by any stretch of the imagination.
Another estimate made by Viral Acharya, of the Stern School of Business, and
Krishnamurthy V Subramanian, of the Indian School of Business, in a research
paper titled State intervention in banking: the relative health of Indian public
sector and private sector banks suggests higher numbers. The professors come
up with three scenarios. In what they call the extremely prudent scenario,
they feel that the public sector banks would require around Rs 9,97,400 crore
of capital. In the less prudent scenario, banks would need Rs 6,53,300 crore of
capital. In the least prudent scenario, banks would need Rs 5,12,300 crore of
capital.2
The point is that a lot of money is going to be needed to recapitalise public

sector banks in the years, to come. The government clearly does not have this
kind of money.
So, what is the way out of this mess?
The Economic Survey recommends the good bank-bad bank strategy. This has
been tried in Western countries in the past (United States and Sweden to name
two) and has worked. It essentially involves moving all the bad loans to one big
bank and in the process cleaning up the banks. What remain are the good banks
and then can continue to operate in the way they deem it to be fit.
The trouble here is that something like this has been tried and it hasnt worked.
Banks have tried to sell their bad loans to asset reconstruction companies.
Like in case of bad banks, a bank sells its bad loans to an asset reconstruction
company, which then goes about recovering the loans from the borrowers and
in the process, makes a profit. At least, that is the way it is supposed to work
theoretically.
The trouble is that given the slow pace at which the Indian legal system
works, the asset reconstruction companies havent really been able to recover
assets from defaulters at a fast pace. As the Economic Survey puts it: Asset
reconstruction companies have found it difficult to resolve the assets they have
purchased, so they are only willing to purchase loans at low prices. As a result, banks
have been unwilling to sell them loans on a large scale. Then, in 2014 the fee structure
of the ARCs was modified, requiring ARCs to pay a greater proportion of the purchase
price up-front in cash. Since then, sales have slowed to a trickle: only about 5 percent
of total NPAs at book value were sold over 2014-15 and 2015-16.
This doesnt leave much hope for a good bank-bad bank strategy given that
like an asset reconstruction company, the bad bank will also have to go about
go about recovering bad loans from defaulters. And there isnt much hope there.
Also, it is worth noting here that the recovery will have to be carried out from
some of the biggest Indian industrialists and not the pan shop across the road.
These industrialists have access to the best legal minds in the country and are
also known to be close to politicians across the political spectrum.
Another way to resolve the logjam is to let the banks take a haircut on the
debt that they owe to these stressed borrowers. As the Economic Survey points
out: Based on the data for the year ending September 2016, about 33 of the top 100
stressed debtors would need debt reductions of less than 50 percent, 10 would need
reductions of 51-75 percent, and no less than 57 would need reductions of 75 percent
or more.
With a portion of the loans written off, the banks can start lending again to
corporates. They can start from a clean slate. Thats the big advantage of this
approach. The disadvantage is the moral hazard it would create. It will basically
tell big business that it makes sense to borrow a lot of money from the public
sector banks. And in the end, if you cannot repay it, the government will come
to your rescue. Something similar happened when Wall Street banks were bailed
out in the aftermath of the financial crisis which started in September 2008,
when Lehman Brothers, the fourth largest investment bank on Wall Street, went
bust. Also, the governments will have to recapitalise the banks in this approach,
and that would need a lot of money.
But the biggest difficulty with this approach is that the it would allow the
opposition parties, and rightly so, to revive the suit, boot waali sarkar jibe, against
the Modi government. And I think prime minister Narendra Modi wouldnt want
anything like that to happen, given that he is already facing a tough time with
the demonetisation self-goal.
So where does that leave us? As is clear by now, the public-sector banking
system in India is in a big mess. And the solutions that are available would
involve the government spending a lot of money. The government clearly does
not have that kind of money.
One impact of this mess has been the fact that banks are not lending to
business and industry. Between December 2015 and December 2016, bank
lending to industry has contracted by 4.3 per cent. Of course, this is also because
of the fact that the industry is also not in a mood to borrow, given the mess their
balance sheets are in.
But this issue must be sorted out, if India has to continue growing at greater
than 7 per cent per year, in the time to come. I think the only way to sort out this
mess is for the government to gradually get out of banking and let the private
sector settle the mess. As Ruchir Sharma writes in The Rise and Fall of Nations:
Spend a lot of time in the field and it is all too easy to find evidence that the state is
not a competent banker.3
Of course, this will not be easy by any stretch of imagination. But the
advantage in favour of the government is that it owns more than 20 banks and it
can start small with one of the smaller banks, try selling it and see if it works. If it
does, then it can gradually try moving towards the medium sized banks.
There is no reason that the government needs to run more than 20 banks.
Even if it continues to own the top five or six banks, that should be fine. These
banks can be used to a large extent to run the social agenda of the government.
To conclude, lets see how this plays out in the years to come. If we are around,
we will continue to follow this story.
-------------------------------------------------------
1. Indradhanush Press Release.

2. V Acharya and KV Subramanian, State intervention in banking: The relative health of Indian
public sector and private sector banks, Project Report, NYU Stern School of Business, 2015.
3. R Sharma, The Rise and Fall of NationsTen Rules of Change in Post-Crisis World, Allen Lane, 2016
Why India has Sick Companies
But No Sick Promoters
- By Vivek Kaul
In November 2014, Raghuram Rajan, the then governor of the Reserve Bank
of India (RBI), said in a speech: [Across] much of the globe, when a large
borrower defaults, he is contrite and desperate to show that the lender should
continue to trust him with management of the enterprise. In India, too many large
borrowers insist on their divine right to stay in control despite their unwillingness
to put in new money. The firm and its many workers, as well as past bank loans,
are the hostages in this game of chicken. The promoter threatens to run the
enterprise into the ground unless the government, banks and regulators make
the concessions that are necessary to keep it alive. And if the enterprise regains
health, the promoter retains all the up-side, forgetting the help he got from the
government or the banks after all, banks should be happy they got some of their
money back! No wonder government ministers worry about a country where we have
many sick companies but no sick promoters [emphasis added].
Please pay attention to the italicized part in the last paragraph, which basically
says that India only has sick companies, it does not have sick promoters. In this
edition of the Letter, I discuss this very important issue which rarely gets discussed
in the pink press. The reason is obvious. The pink press is financed by businessmen
who advertise and not the readers who read it.
Source: selensergen/www.istockphoto.com
37 | Why India has Sick Companies But No Sick Promoters

Take a look at Figure 1.
Figure 1:
Source: RBI Financial Stability Report December 2016
As of September 30, 2016, the large borrowers were responsible for more than 88
per cent of bad loans of banks, even though they had taken on only 56.5 per cent
of the loans. The Reserve Bank of India categorises large borrowers as borrowers
with an outstanding loan amount of Rs 5 crore or more. Such borrowers are largely
businessmen and industrialists.
It is interesting to see how things look for the largest of the large borrowers.
As the Financial Stability Report of June 2016 points out: [The] top 100 large
borrowers (in terms of outstanding funded amounts) accounted for 27.9 per cent of
credit to all large borrowers. There was a sharp increase in the share of [the] GNPAs
of [the] top 100 large borrowers in [the] GNPAs of all large borrowers from 3.4 per cent
in September 2015 to 22.3 per cent in March 2016. (GNPAs = gross non-performing
assets, or bad loans in common parlance.)
The top 100 large borrowers accounted for 22.3 per cent of the bad loans of all
large borrowers. The Financial Stability Report for December 2016 does not give
detailed data for large borrowers. But it does have a chart that I have reproduced
as Figure 2.
Why India has Sick Companies But No Sick Promoters | 38

Figure 2:
Source: Financial Stability Report December 2016
It is clear from Figure 2 that top 100 large borrowers form around 22-23 per cent
of all bad loans of scheduled commercial banks though they form only around 15
per cent of the total loans given by these banks.
The other interesting thing is that between March 2015 and September 2016,
the total amount of bad loans of top 100 large borrowers as a portion of the total
amount of bad loans of banks has gone up dramatically. What this tells us is that
banks were earlier kicking the can down the road by not recognising the bad
loans of the largest borrowers as bad loans. They were basically restructuring
these assets in order to avoid recognising them as bad loans.
A restructured loan essentially implies that the borrower has been given a
moratorium during which he does not have to repay the principal amount. In
some cases even the interest need not be paid. In some other cases, the tenure of
the loan has been increased.
The restructuring game has now stopped and the banks have been forced to
recognise bad loans as bad loans. The moment a bank recognises a bad loan,
it has to start provisioning for it (i.e., setting aside money for it). This is prudent
accounting.

As the then RBI Governor, Raghuram Rajan, said in a February 2016 speech:
If the bank wants to pretend that everything is all right with the loan, it can only
apply bandaids for any more drastic action would require NPA classification.
Loan classification is merely good accounting. It is accompanied by provisioning,
which ensures the bank sets aside a buffer to absorb likely losses. If the losses do not
materialise, the bank can write back provisioning to profits. If the losses do materialise,
the bank does not have to suddenly declare a big loss; it can set the losses against the
prudential provisions it has made. Thus the bank balance sheet then represents a true
and fair picture of the banks health, as a bank balance sheet is meant to.
For the period between 2012 and 2014, the balance sheet of Indian banks, in
particular public sector banks, did not reflect the financial mess that they were in.
Only once the RBI cracked down on the banks and forced them to recognise bad
loans, the true financial picture came forward.
Once the banks have been forced to recognise bad loans as bad loans, the next
step in the process is to recover these bad loans from defaulters, who are primarily
large borrowers (read businessmen and industrialists with political contacts).
And how are banks doing on this front? The recently released RBI Report on
Trend and Progress of Banking in India in 2015-2016, provides the answers. Take
a look at Table 1.
Table 1:
Source: Report on Trend and Progress of Banking in India in 2015-2016 and The Indian Express.
*Data taken from a report in The Indian Express (Available at: http://indianexpress.com/article/business/bank-
ing-and-finance/non-performing-assets-bad-loan-recovery-by-banks-only-gets-worse-in-four-years-4456317/)

What Table 1 clearly tells us is that the rate of recovery of loans by banks has
fallen over the last four years. The rate of recovery has fallen from 22 per cent to
10.3 per cent. How do things look in case of public sector banks, which are at the
heart of the bad loans mess? Take a look at Table 2.
Table 2:
Source: Report on Trend and Progress of Banking in India in 2015-2016
The recovery rate of public sector banks on the whole is similar to that of the
scheduled commercial banks as a whole. This isnt surprising given that public
sector banks make up for bulk of the bad loans. In 2014-2015, loans from public
sector banks made up for 91.3 per cent of the loans being recovered. In 2015-
2016, this figure fell to 86.4 per cent. Compare this to the fact that public sector
banks made up for around 70.8 per cent of the total loans given by the scheduled
commercial banks as on March 31, 2016.
What all this tells us is that the public-sector banks are not able to do a good
job of recovering the bad loans from those who have defaulted. Given that large
borrowers and very large borrowers (the top 100 of the large borrowers) form a
bulk of the bad loans, it is easy to conclude that the banks arent able to go about
recovering bad loans from these borrowers.
A low recovery rate essentially means multiple things. First and foremost, it means
that crony capitalists are still getting away with it. It basically explains as Rajan
said why India has sick companies but no sick promoters. Even after defaulting on
bank loans, Indian business promoters continue to live a lavish lifestyle.
As Rajan had put it in a speech: The reason so many projects are in trouble today

is because they were structured up front with too little equity, sometimes borrowed by
the promoter from elsewhere. And some promoters find ways to take out the equity as
soon as the project gets going, so there really is no cushion when bad times hit. The
money that a promoter siphons off from the bank he borrows from, helps him
continue living a lavish lifestyle after defaulting on the loans.
Secondly, with very low recovery rates, public sector banks will continue to lose
money. This means that the government will have to keep pumping money into
these banks to keep them going. And thirdly, and most importantly, this once
again shows why the business of the government should not be business.

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India in Crisis 2017

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India in Crisis 2017

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Preface

The Sensex is flirting the 30,000 level, and the

In this report, we highlight three crisis scenarios

But we at Equitymaster do not believe in holding back, at least not from

India in Crisis 2017 | 2

3 | India in Crisis 2017

As Ritika Mankar Mukherjee and Sumit Shekhar of Ambit Capital wrote in a

www.equitymaster.com Source: Reserve Bank of India and

Look at Figure 2. It basically plots the growth in bank lending to commercial

Figure 2: Growth in lending to commercial real estate (in %)

www.equitymaster.com Source: Reserve Bank of India

Figure 3: Real estate returns (in %)

www.equitymaster.com Source: Reserve Bank of India

www.equitymaster.com Source: Reserve Bank of India

The humungous increase in the number of vacant homes is also a reflection

And so the cycle works.

Nevertheless, we can make some educated guesses here. While no information is

Another high rise emerges, Source: istockphoto

The basic argument is rather straightforward. At a certain point of time, countries

An important assumption in the demographic dividend is that people who enter

Of Rahul Bajaj and India's So Called Demographic Dividend | 18

This phenomenon of seeking external validation is clearly visible in the stock

19 | Of Rahul Bajaj and India's So Called Demographic Dividend

Of Rahul Bajaj and India's So Called Demographic Dividend | 20

Bangla songs composed by the legendary Salil Chowdhury playing in the

It is one of those rare surreal days in Mumbai which leads me to question if

So should that get us worried, even if the unemployment is at a five-year high?

For a labour market to have flexibility, some unemployment is necessary. A labour

Source: Report on Fifth Annual Employment Unemployment Survey.

Source: Report on Fifth Annual Employment Unemployment Survey.

Why is that? Take a look at Table 3.

Source: Report on Fifth Annual Employment Unemployment Survey.

Source: Report on Fourth Annual Employment Unemployment Survey.

Now this is nowhere as straightforward as saying that unemployment is at a

Source: Economic Survey, 2016-2017

The question is why is this happening?

Figure 2: Gross Non-Performing Assets Ratio (per cent

Source: Economic Survey, 2016-2017

Figure 3: NPA Ratios: Selected Countries (Per cent of Gross Loans)

Source: Economic Survey, 2016-2017

Take a look at Figure 4.

Figure 4: Share of Debt Owed by Stressed Companies

Source: Economic Survey, 2016-2017

In fact, even within stressed companies (i.e. companies with an interest

The question is how much more?

Figure 5: Debt of Top Ten Stressed Corporate Groups (Rs billion)*

Source: Economic Survey, 2016-2017

The point is that a lot of money is going to be needed to recapitalise public

So, what is the way out of this mess?

1. Indradhanush Press Release.

37 | Why India has Sick Companies But No Sick Promoters

Source: RBI Financial Stability Report December 2016

Why India has Sick Companies But No Sick Promoters | 38

Source: Financial Stability Report December 2016

39 | Why India has Sick Companies But No Sick Promoters

Why India has Sick Companies But No Sick Promoters | 40

Source: Report on Trend and Progress of Banking in India in 2015-2016

41 | Why India has Sick Companies But No Sick Promoters

Why India has Sick Companies But No Sick Promoters | 42

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