Privatisation Push and Setting Up an Infrastructure DFI- Unleashing Reforms 3.0?

 

BUDGET 2021-22

PRIVATISATION PUSH AND SETTING UP A DFI- A DECISIVE TURN FOR ECONOMIC POLICY REFORMS 3.0?

 

SUBHASH CHANDRA GARG

Economy, Finance and Fiscal Policy Strategist and Former Finance Secretary, Government of India

 

Bold Privatisation Push

Government had announced its intention on 18^th May 2020 to formulate a new coherent Public Sector Enterprises Policy to push reforms in central public sector undertakings (CPSEs). Principal pivot of the policy was to retain a maximum of four public sector companies in ‘strategic sectors’ and privatise every other CPSE. While it took some time for the Government to formulate this policy, the Budget Speech 2020-21 outlined the policy. The policy covers existing CPSEs, Public Sector Banks and Public Sector Insurance Companies.

Principal elements of the Policy are:

a.    Strategic sectors defined to include- i. Atomic energy, Space and Defence, ii.  Transport and Telecommunications, iii.  Power, Petroleum, Coal and other minerals and d. Banking, Insurance, and financial services.

b.  In strategic sectors, bare minimum presence of CPSEs with the rest privatised or merged or subsidiarized with other CPSEs or closed.

c.    In non-strategic sectors, CPSEs to be privatised or closed.

Finance Minister also assured that the process of strategic divestment or privatization of CPSEs will be carried out to complete the transactions. All the CPSEs under privatization process currently- BPCL, Air India, Shipping Corporation of India, Container Corporation of India, IDBI Bank, BEML, Pawan Hans, and Neelachal Ispat Nigam Limited- would be sold off during 2021-22.

 

To put the new CPSE policy in action, the Finance Minister made a bold announcement of privatizing two Public Sector Banks and one General Insurance company in the year 2021-22.  To signal serious resolve of the Government on this score, she mentioned that bill for bringing about necessary legislative amendments will be introduced in the budget session itself. She also emphatically stated that the IPO of LIC will be brought in the FY21-22. The proposals for amending the LIC Act have been included in the Finance Bill introduced on the Budget Day.  Finance Minister also announced receipt of estimated Rs. 1,75,000crores from disinvestment in BE 2021-22.

 

All the pronouncements and actions taken together do amount to initiation of a clear policy of privatization of CPSEs. The entrustment of commanding heights of the economy to the public sector which gave birth to over 300 of CPSEs of today and muzzling of private sector were the principal policy planks of Economic Reforms 1.0, initiated immediately after the independence. Taking off the CPSEs from the commanding heights but continuing with the CPSEs and permitting private sector to invest in every sector were the principal policy plank of Economic Reforms 2.0 initiated in 1991. Turning back the wheels of government being in the business of producing private goods and services by privatizing CPSEs and making Indian economy primarily private sector driven has to be the principal plank of the Economic Reforms 3.0.

 

The privatization action announced in the form of completing the process of privatizing already initiated privatization of 8 CPSEs and new announcement of privatizing two public sector banks and one general insurance company is putting into action the Economic Reforms 3.0.

 

Two incidental additional announcements also hold significant promise in this context. The Government announced that for monetizing CPSE lands, by way of direct sale or concession or by similar means, a special purpose vehicle, with special abilities in the form of a company would be set up. And, to expedite timely completion of closure of sick or loss making CPSEs, a revised mechanism will be adopted. Land is the Achilles Heel in the case of privatization of CPSEs and closure of loss making CPSEs. If the Government can put in place a mechanism to deal with the lands of CPSEs, half the obstacles in privatization and closure would disappear.

 

The track record of the Government in implementing economic policy reforms and carrying out the privatization transactions is not very inspiring. Only a few strategic disinvestment (where the Government sold its controlling interest) have been carried in last six years and all of these four transactions (HPCL sold to ONGC, REC sold to PFC and THDC and NEEPCO sold to NTPC) were to other public sector enterprises and in all the cases effective management control not passed to even the public sector acquirer. The eight privatization transactions, currently under the process, are on going for quite some time but have not made any clinching progress. Jury is still out whether these transactions would be completed and whether these would be genuine privatization transactions. Privatisation of two banks announced in the budget would be real difficult transactions for the Government to complete as there are strong interests, both ideological and material, within the ruling party and outside who would work to see that the public sector banks are not privatized. The way the Government has given in to the farmers protest against liberalization of internal agriculture trade makes one much less confident of Government’s ability to stand up to the opposing interests for bank privatisation.

 

The other weak aspect of the privatisation policy announced is the policy of retaining up to four CPSEs in the strategic sectors. The way strategic sectors have been defined, almost every profitable CPSE worth the penny has become part of the strategic sector. Further, the besides retaining up to four CPSEs in the strategic sectors, the rest can be “merged or subsidiarized with other CPSEs or closed” as well. This gives the administrative ministries and departments big loophole to ensure that no CPSE in their sectors would need to be privatised. Over 20 of the public sector banks have already been consolidated into 10. Extra 6 public sector banks can be retained in the public sector by either merging with other banks or even “subsidiarised” by selling off to the other public sector banks a la HPCL, REC etc.

 

Performance of the Government on two critical score- a. whether the strategic sector CPSE policy is reformed to make all CPSEs saleable or it is used to retain CPSES as CPSEs by being “merged” or “subsidiarised” with other CPSEs and b. whether the eleven privatisation transactions announced so far are taken to their logical end in next two years- would determine whether India has entered into the next phase of economic reforms, beyond the 1991 reforms, or it remains stymied with status quo.

 

DFI to Kick-Start Infrastructure Financing

 

The Budget sought to put massive spotlight on infrastructure creation and financing in the country by adopting two big-ticket strategies- a. increasing government and public sector capital expenditure on infrastructure and b. establishing a Development Finance Institution (DFI) for public and private sector infrastructure financing.

 

For financing higher public sector investment in infrastructure (both on government account and by the public sector and authorities), principal measures announced by the Finance Minister included a. Monetisation of operating public sector infrastructure assets, including those of railways, by creating a “National Monetization Pipeline” (NMP), b. increasing government’s capital expenditure to Rs. 5.54 lakh crores (by 34.5%) in the BE21-22 and c. announcing a number of mega multi-year infrastructure sector programmes (though without making budget provisions) like a revamped reforms-based result-linked power distribution sector scheme with an outlay of Rs. 3.06 lakh crore over 5 years to aid DISCOMS for Infrastructure creation including pre-paid smart metering and feeder separation, upgradation of systems, etc., tied to financial improvements and launching a Hydrogen Energy Mission in 2021-22 for generating hydrogen from green power sources.

 

For the true state of affairs with regard to Government’s capital expenditure programme, see my blog at- https://subhashchandragarg.blogspot.com/2021/02/capital-expenditure-increase-in-budget.html.

 
Announcement to set up a professionally managed Development Financial Institution, to act as a provider, enabler, and catalyst for infrastructure financing, has set the markets abuzz and there is a lot of expectation from the proposed DFI to re-start stalled infrastructure financing in the country. Serious intent of the Government to set the DFI up quickly is reflected in the fact that a large budgetary provision of Rs. 20,000 crore to capitalise this DFI, which has been named as the National Bank for Financing Infrastructure and Development (NaBFID), has been made under the Department of Financial Services and the Government has also notified the Parliament of its intention to introduce a Bill in this regard in the current budget session of the Parliament. The Finance Minister stated that this institution will aim at developing a lending portfolio of at least Rs. 5 lakh crore in three years.

 

A DFI is not a Bank- it does not have access to the savings and the current accounts and it does not create credit. A DFI raises its lendable funds from its sponsor as equity (in the case of NaBFID from the Government) and from the long-term deposits or bonds from the market. In India, the older DFIs – IFCI, IDBI etc.- were provided direct access to RBI refinance as well. The DFI lends funds for setting up new manufacturing facilities and infrastructure. The DFI’s loan portfolio is difficult to build as it finances usually green-field long term investments where risk return profile is dicey on account of a lot of uncertainty of construction and business.

 

India’s experience with infrastructure financing DFIs has been terrible. The first DFI, the IFCI, made big losses and exist today as its pale shadow only to collect non-performing loans made in the past. The second government owned DFI – the IDBI- had accumulated so much non-performing loans that the Government had to create a special purpose vehicle to take over these assets in 2004 and the remainder of the institution was merged with its own off-shoot bank. The successor the IDBI Bank is the bank with the largest proportion of non-performing loans in India and the Government hat to recapitalise it by spending more money than the proposed capital of the new DFI. The third infrastructure financing institution- the Infrastructure Development and Financing Corporation or the IDFC set up in 2004 has also stopped financing infrastructure, converted part of its business in a Bank- the IDFC Bank, which later on merged with a non-bank finance company. The infrastructure part of the IDFC has been slowly wound up by selling its assets. The latest version of government promoted DFIs- the IIFCL- is also a small institution after a decade of existence, funds PPP projects largely and has substantial non-performing assets.

 

The Government has a couple of refinance type of development finance institutions- the National Housing Bank, NABARD and SIDBI. These institutions have a small direct lending portfolio and primarily refinance the banks and the non-banks, which lend for the projects or purposes to be promoted as per their charters. In the refinance business, the development role is more indirect and the DFI takes risk on the primary lending institution and not on the project or credit. There is no clarity from the government whether the proposed NaBFID would be a primarily refinancing institution or it would lend directly to infrastructure projects or it would have a mix of the two portfolios.  

 

The infrastructure business in India, in many sectors, has become quite unprofitable and the private sector has virtually exited from making the new investments in these sectors. The roads sector, the telecom sector, the residential real estate sector, the mining sector, the fertiliser sector and many more are simply not attractive enough for the private sector to make investment. The cost of infrastructure financing in not so unprofitable sectors remains quite high. There is one more major issue in infrastructure financing. The banks do not know how to finance infrastructure and therefore most of the loans they delivered to infrastructure companies have become non-performing. The banks therefore are not any longer interested in funding infrastructure. The banks also have resource mismatch as their funds are short term whereas infrastructure financing requires long term financing. Few NBFCs, which are in the business of lending to infrastructure, are also not in any good health. Therefore, if it were to be set up as a refinancing institution, the absence of original financing institutions would become a major constraint. The only feasible way to kickstart infrastructure lending in India is to encourage the long-term savings institutions like LIC, EPFO, NPS and insurance companies to get in the business of infrastructure financing and change in incentives for the private sector to set up infrastructure financing institutions. This, however, does not appear to be on the horizon for the present.

 

In view of this, it is going to be a massive problem to promote the DFI as either a direct lending institution or a refinance institution. The NaBFID is going to be either a still born or a stunted baby.

 

SUBHASH CHANDRA GARG

NEW DELHI 07/02/2021