Uday Kotak Says Budget’s Aggressive Borrowing Plan Will Need Deft Management With RBI
Finance MInister Nirmala Sitharaman’s budget drew contrasting reactions from the bond and equity markets. The aggressive borrowing programme, to fund infrastructure and other spends this year and next, prompted a bond sell-off, while equity markets were buoyed by what Uday Kotak describes as a “bold call” (and the lack of any new tax burden).
The Finance Minister has taken a call that even if we have to borrow more money, we better bet on growth through capital expenditure, Kotak, president of Confederation of Indian Industry and vice chairman of Kotak Mahindra Bank Ltd., told BloombergQuint. “The spend (quality) of the money is right and the decision to go out there and take a bold call even if it means a higher fiscal deficit is a significant change in terms of the mindset as this budget has demonstrated.”
When asked if the budget should have also included measures for a short- to medium-term boost to consumption, Kotak said if India has got to make a structural change, stimulus on demand alone would not help without the supply side being addressed.
“By keeping the fiscal deficit higher, that itself is a stimulus to the economy.”
Yet, the aggressive borrowing programme to fund the deficit, an additional Rs 80,000 crore in FY21 and Rs 12 lakh crore for FY22, will “require very deft management between the government and the RBI,” Kotak acknowledged.
“If we can handle the transition carefully and deftly, we could have a situation where yields don’t go out of control, we see a positive capital market which makes capital raising possible and you then get a win-win.”
For more on his views on the economy, DFI, bad bank - read the transcript below.
The accent is more on investment, starting this year itself. It sort of comes with a long-ish glide path in terms of returning to any kind of fiscal prudence. How do you read this focus on investment spend versus consumption.
I think this is a bold budget. The Finance Minister has taken a call, that even if it means we have to borrow more money, we better bet on growth. Growth, not through revenue expenditure but growth through capital expenditure. The direction of the spend of the money is right and decision to go out there and take the bold call, even if it means higher fiscal deficit—is the significant change in terms of the mindset that this budget has demonstrated.
What I find particularly interesting is, that they’ve been very targeted, in terms of where to spend the money. Infrastructure, healthcare and financial services in different segments. These are the three big areas where they’ve focused on and in terms of the point which you made, the spend with a higher fiscal deficit going into capital expenditure, hopefully will create jobs and will lead to significant money in the hands of people. That is what in turn should create the demand stimulus for the economic growth to get to a better level.
In many ways, I think Covid-19 is a turning point for a very structural mindset shift to what I believe is a clear reform-oriented budget without ifs and buts.
The quality of spend is higher versus any outgo on the revenue side. But, depending on your current assessment of the economy, would you have preferred it if she had allocated some part of the money towards a medium term boost. Because infrastructure spends come with a lag effect.
First of all, the Finance Minister also clarified that 9.5% also includes the clean-up of balance sheet items. So that is all brought onto the books and we are now seeing a clear picture and a transparent picture. Therefore, the entire 9.5% is not necessarily extra spend but what was spent is coming formally into the budget books. Having said that, I think the issue which we got to keep in mind is that if India is going to make a structural change, I don’t think stimulus on demand alone will help us without the supply side being addressed. If we start spending on infrastructure, not only does it get our longer-term structural issues sorted, but it also creates the demand because of the spend. The output from the infrastructure projects will take time. Therefore, in the short run as money flows out before the output starts benefiting, that is clearly a demand push.
So, you don’t believe anything further is needed to be done to help sustain the current recovery?
Finally, once you spend money that is going to find its way through different parts of the economy.
That is 6 months to a year for infrastructure projects, may be even longer.
But having said that if you look at this investment spend even in the current year, it’s higher than the budget estimates. She said that she’s not going to be constrained by just that. If more has to be spent in the current year, they will do it. By keeping the fiscal deficit higher, that itself is a stimulus to the economy.
There’s a fear that there might be a sustained hardening of yields, you saw the bond market sell of. Of course the equity market had probably its best budget day since 1997. Your views on both yields as well as how you see the equity market underpin this economic recovery.
I think from here as you go for an aggressive borrowing programme, and one is to figure out how much of it goes into the Reserve Bank of India’s balance sheet and its implications, but the way I look at the situation is this is going to require very deft management between the government and the RBI. I genuinely feel that in this period, that has to be handled with certain smoothness which I think the RBI has demonstrated extremely well in the year 2021—in terms of how it’s handled the monetary policy in the pandemic. If we can handle the transition carefully and deftly, we could have a situation where yields don’t go out of control. If we see a positive capital market, which makes capital raising possible, you then get a win-win.
A marginal increase in yields I think is something which the markets will absorb. As long as we keep the increase in yields marginal and get a disproportionate benefit in terms of structural changes to the economy and the markets are receptive, that will be a plus.
The government has also made another very important statement. That, we believe in markets and that is going to be our mechanism for raising money - Rs 1.75 lakh crore via disinvestment. So, they need good markets.
Let me go back to the yield comment - we’re back about 6% today. How much more hardening do you see play out given the additional Rs 80,000 crore borrowing this year. and next year’s Rs 12 lakh crore?
Obviously there is some pressure which is evident but I’m sure that between the RBI and the government, and hopefully some global funds into bonds and other areas could help make sure that the yields don’t go out of control.
A 15 to 20 basis points increase; I don’t think is earth shattering yet. As long as we manage this carefully and we also need to look at how the inflation scene works out because investments in infrastructure must ensure that they create capacity and quality capacity in real assets rather than revenue expenditure.
Two points on banking - the announcement of a DFI and the bad bank or rather ARC announcement today. They haven’t apportioned any amount towards the ARC, but they have allocated Rs 20,000 crore towards the DFI. How do you read the impact of both?
Let me first take the bad bank point. I think the ARC is like an aggregator so it will aggregate all the stressed loans from different banks and institutions and bring it together, and probably there’ll be some security receipt structure which will be given to the different banks. After that, the process, as I understand, is this aggregator will go out and sell these loans to alternate investment funds and basically, the objective is to create significant interest in pools of capital—domestic and global—to buy these assets out and clear it from the ARC, and ultimately from the banks themselves by buying them in cash or a significant part of it in cash.
This ARC is an intermediate aggregate structure through which accumulation will happen and then finally they will be cleared at a market clearing price.
How is this ARC going to be different versus the structures we currently already have?
My understanding is that this ARC is going to be less about the ultimate resolution but more in the nature of an aggregator.
And It will be managed privately, or will the government come in?
Once it becomes an aggregator then it will have a process through which it will sell down the loans to various alternate investment funds which can buy these loans on the books. Therefore, this is an intermediate structure—that is my understanding.
Will it work?
Please keep in mind that assuming you wanted to have the entire NPAs of the banking system cleaned up - the normal option is for different AIFs to go to different banks and buy. Here, creating an intermediate process to facilitate the process of an ultimate sell down is not for ultimately hoarding and resolution of the kind which you saw. For example, when they did it in IDBI Bank’s Stressed Assets Stabilisation Fund. So this is a different intermediate structure which is what my understanding is.
What about the DFI?
We are aware that in the past we have had challenges with DFIs. There have been many DFIs whose course had to be changed in the late 90s, early 2000s and then of course IDFC which went from an infrastructure finance company into a consumer bank. So, we have seen the transition in the past.
This time I think the key issue, in the DFI structure, is that it has to structure the liability side where long-term liability is available on the balance sheet of the DFI. That is the key and the structuring of that, the sources of money for that long-term liability and how that will happen is important on the liability side.
On the asset side, any DFI can function only if the underlying infrastructure company who is dealing with the government and particularly the state governments—those entities, pay those monies on time and honour contracts.
On the assets side, a DFI needs to get comfort that the final end user pays the money, and on the liability side you need long term fixed rate money to make this sustainable.
Where’s that money going to come from?
I think that can come from the fiscal balance sheet though they have announced so far Rs 20,000 crore of capital. Now there are models like you’ve seen the model of NABARD and SIDBI. The money comes from PSL shortfalls which commercial banks have, which are funded into NABARD and SIDBI loans, which in turn are made available for rural and agriculture as well as for MSMEs. There was some similar structure that will need to be worked out, which gives tenor out to these exposures.
The push towards infrastructure is a higher, better quality spend push. Will it pull in private investment over a period of time?
I think finally in infrastructure, in my view, private investment has always been open but has suffered at the hands of sovereigns not honouring the legal contracts.
So, the problem on the infrastructure side is the nature of that relationship between the private player and the sovereign. That has been the cause of the challenge, therefore you have to address that root cause—that if there is a contract and as long as the contract is fair and transparent and is not funny stuff, it must be honoured by the state governments.
What I meant to ask was -- if we see the government spend at the rate that it has announced today, will that create the right environment for private investment to slowly start picking up?
Finally, private investment picks up when it sees opportunity and capacity utilisations going up. The capacity utilisations have been low. As they pick up and go past 75% the private investment will start investing money and it is here that it’s important that we see a reasonably stable interest rate regime. Therefore, thanks to this higher borrowing we must not allow the fixed rate Gsecs, which is the benchmark, to get to be at very high levels.
This year a fiscal deficit of 9.5%, lower next year at over 6% and then a glide path of almost 5 years to 4.5%. This is a considerable delay in our fiscal consolidation process. How do you view it and its incumbent impact on the quality of growth?
I think it’s divided into two or three parts.
First, it’s a transparent fiscal deficit. It’s not a deficit which is linked to anything off balance sheet, everything is on balance sheet.
Number two, this is a post-Covid period which has seen extraordinary situations like never before. So, we have to respect that reality.
Number three, finally we have to grow our way out of this, there is no other way.
I must also commend the government for keeping a stable tax regime and wanting these tax rates to go up through higher collections rather than higher tax rates. So, they’ve worked on multiple variables and I think as long as we can get the growth back in the real economy, I think the outcome is good.
It is better to have this real expenditure and it must get to good outputs because you also don’t want inflationary aspects to come in, out of this.
You believe that this budget will bring the growth back in FY22?
I think the key to this budget’s success is one --we have got the vision in place, we have changed the mindset and have come out with a very growth-oriented mindset in this budget which is a plus. But, the success of this budget from here, is on execution, execution and execution.