R Ravimohan, who quit yesterday as Standard and Poor’s MD and Region Head, South Asia, has watched the Indian economy and corporate sector for about two decades now. In an interview prior to quitting, he tells Shobhana Subramanian that it’s time foreign players were allowed greater access to the debt market — that would not only help ease liquidity but would also deepen the market itself. Excerpts:
How do you view the revival in the appetite for Indian equity?
It’s interesting that appetite for equity is back but debt-paper is not getting quite the same response. To my mind, this indicates that everybody thinks India is on a great growth path — that over the next 20-30 years, India’s GDP growth would be similar to what China has achieved, or even better. So the view is, let’s get in on the ground floor or the mezzanine level — the sensex going up from 8,000 to 15,000 is possibly the first sign of this. But some issues still need to be sorted out. While we will get 7-8 per cent growth, there will be some pauses. Which is perhaps why debt- players are cautious — if the pause, say for a couple of years, coincides with the tenure of their loans, these could go for a toss.
I completely agree with that. McKinsey put out a report which said that in 1997, the world’s financial assets were equal to the world’s GDP and in 2007, they were 4.75 times the GDP — meaning that in those ten years, the penetration of financial markets had increased. But it turns out that the financial crisis was the result of surplus liquidity and maybe excessive financial engineering and leverage. Since leveraging and financial engineering have come down, we probably are we are at 2.5 -3 times today. But, there is certainly excess liquidity and that is related to better productivity — capital requirement per unit of output has come down, so there’s more capital. Besides, there’s excess capital building up in the world.
Which then means that you will see asset bubbles more prominently. In the longer term, when this is understood, there will be more competition to acquire assets. That’s already getting manifested in cross-border investment deals. Somebody else also wants anything you are bidding for and then bids up the price. This will be more prominent where natural resources are concerned.
Do you believe government borrowings will crowd out private sector investment in India?
I’m not sure it will crowd out private investment but there could be an increased premium — my own sense is that interest rates will go up. But I think there will be enough liquidity and, by and by, foreign money will start coming in. What the government does with allowing foreigners to invest in domestic debt will be critical in determining where interest rates will head and what happens to domestic liquidity. If we accept that growth is going to be good and investment sustained — together with heightened government borrowing — there will certainly be pressure on funds domestically. This can be eased by allowing foreign money to come into the debt market.
Won’t too much foreign money coming into the debt market make it volatile?
Some hot money might come in but since debt is a lot less liquid than equity, I would say it’s likely to be less volatile too. Today, unfortunately, banks dominate the market and they are creatures of interest rate and mark-to-market requirements. And they are seasonal players because if they feel interest rates will go up, they won’t buy bonds. The others, like an LIC or the pension funds, are the hold-to-maturity guys. The debt market won’t happen in India unless you get the people that will trade a bit, so allowing traders to come in from overseas will be good.
How much do you think interest rates will go up by and how will that impact growth?
If the government relaxes the cap on foreign debt, interest rates may not go up at all. If it doesn’t, then there’s potential for about a 100 basis points (one basis point is a hundredth of 1 per cent) rise. As for growth, there are some strong signs that it will come back. For instance, residential real estate prices are picking up as are auto sales. Also, we haven’t yet seen infrastructure investments. Honestly, with this kind of stability, if we don’t see infrastructure happening, we have to assume that there is something fundamentally wrong with this country. In this context, the surface transport minister’s statement that projects worth Rs 20,00,000 crore will be awarded in the next two years, is a good sign. These are unprecedented amounts.
Do you feel the rally in the markets is justified?
That’s a difficult one, but personally, I’m not happy. I suppose it’s a matter of finessing and I would have been happier with a sensex of 12,000. But given the global situation, it’s possible the equity markets did over-correct. The US used to be the shock absorber earlier but now people are looking to diversify into as many asset bases as possible. If you buy debt now and, as credit is tightened, interest rates go up, you will face a huge mark-to-market loss. So, money has moved into oil and also gold — asset prices will be volatile.
Are Indian companies in good shape?
There is some bit of over-leverage and Credit Rating and Information Services of India Ltd’s (Crisil’s) understanding was that the risk levels had gone up, but that was at the beginning of the year and they may revise their view. As of now, they feel growth prospects are muted and, therefore, the increases in capacities and leverage could be high. Also, export-oriented companies will see a more sustained downturn, and since companies have increased their export basket, there is increased vulnerability.
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How does one read the (Non-Performing Loan) NPL situation for banks?
If you accept that the economy will grow at 8 per cent, the restructured loans should get restored — I think what RBI has done is good because the restructuring allows them to cross the hump. At Crisil, restructured assets are treated as distressed assets and we are factoring in a tripling of the bad loan portfolio for the banking system. But even after this, the system is pretty robust. And even if NPLs go up to 5 per cent, it’s not alarming because other than the core 3 per cent level of NPLs, the rest will reverse once growth picks up. Also, there is enough of a cushion in terms of capital adequacy.
Could there be a currency crisis with so many companies having borrowed in overseas markets?
It’s true there will be a bit of bunching of repayments in 2010-2011 and, a couple of months ago, I was really worried. However, the key to this is the availability of refinancing and the prospects on that seem to have brightened now.