Akash Prakash: Misplaced priorities

What will hiking the FDI limit in insurance to 49 per cent bring us in terms of enhanced efficiency or technology.

I had the privilege of attending a two-day conference on infrastructure, hosted by SSKI and IDFC, in Singapore this week. The conference had a very good line-up of all the major operators in the space, as well as Gajendra Haldea representing the GoI view.

The conference was useful in that one was able to get a grip on the constraints still present in the space and the efforts being put in by the government to clean up the regulatory framework through model agreements, model concession agreements, etc. The single-minded focus on public-private partnership (PPP) also came through very clearly.

Beyond the issues on the regulatory side, two other obvious constraints were the ability to finance this huge infrastructure build-up, and the shortage of skills to execute projects on this scale.

While a shortage of skills is now pervasive across all sectors, the private sector seems to be responding through in-house training, setting up institutes, etc. and this problem will probably get resolved over time as there is no shortage of people in India, just a shortage of skills. The privatisation of this skills building has now begun and will only accelerate.

The more worrying issue from my point of view is the ability of the country to finance this $320-350 billion infrastructure build-out (over the coming five years).

There are serious issues that have to be addressed in both the banking and insurance sectors as well as in building a long-term bond market and a functioning pension system. If we do not address these matters, it is unlikely that we will be able to accomplish what we need to do on infrastructure.

In this context, and given the limited room for manoeuvre available to the finance minister, it seems odd and misplaced as to why he is trying to use up all his political capital in trying to get the left to agree to hike the FDI limit in insurance to 49 per cent.

It seems to me that there are a lot more important things that need to be done in the areas of insurance and pensions than hiking the insurance FDI limit.

I think it is far more important to get the pension regulatory authority Bill through, even if it is only with a 26 per cent FDI limit, and then worry about taking the insurance limit to 49 per cent. To have a well-functioning pension system, where returns are maximised for all through professional management, is top priority and a precondition to building a functioning long-term debt market. The FM should use whatever means possible, but fight off the left's desire to guarantee returns or nationalise the management of these funds.

Also within insurance it is far more important to focus on and clean up the plethora of investment restrictions handicapping the ability of these institutions to become the true long-term providers of capital to the private sector and infrastructure in general. Talking to people at the conference, it became clear that there are too many obsolete rules hampering the ability of the insurance players to support long-term capital formation.

Even if we were to look at the banking system, there seem to be many more pressing issues to think about. How will we solve the looming crisis on the capital adequacy of the banking system? To finance the expected growth in capital expenditure and infrastructure build-up, the banking system will effectively have to almost double its capital base over the coming 5-7 years. How will this be possible, with the PSU banks being unable to dilute the GoI stake below 51 per cent (in major banks like PNB, the GoI's stake is already down to 59 per cent), and thus being severely constrained in their ability to raise fresh capital? The PSU banks still have a market share of 75 per cent, and we will not be able to finance growth unless they can play their part. Hybrid capital and other financial innovations are only stop-gap measures to bridge this fundamental disconnect. It would be I think far more important for Mr Chidambaram to try and negotiate some type of solution to allow the PSU banks to access capital and maintain their PSU character, irrespective of GoI shareholding. Even the area of government small savings schemes distorting the interest rate structure or the need to remove the EPFO from the clutches of the politicians are issues that demand immediate attention.

The average age profile of the PSU banks exceeds 40 and radical measures have to be put in place on the HR and compensation front to revitalise these organisations. How will they compete for deposits and deepen the penetration of banking into newer areas unless these corrections are put in place?

Is it not better to focus on all these difficult reforms and bargain with the left to push these things through and leave insurance for another day?

For, if one thinks about it, what will hiking the limit to 49 per cent really bring us in terms of enhanced efficiency or technology? All the current joint ventures in insurance have largely imbibed whatever systems and technology the international players could bring. They are by most accounts very well-run and professional organisations with strong management. The actuarial functions in these organisations are being run by their global partners since inception in any case.

In terms of the Indian partners not having enough capital to grow the business, that also seems unlikely, given who the players are. Can anyone say that the Tatas, the Birlas, Anil Ambani, HDFC, ICICI or the Bajajs have any issues in terms of access to resources?

Just to clarify, it is not my position that we should not hike the FDI limit in insurance as a matter of principle or anything like that. Given a choice I would be most happy if the limit was hiked to 76 per cent or even 100 per cent. It is just that in this age of coalition politics, the FM has very limited room to get things done, and has to pick and choose his battles. Given those constraints, I find it a case of misplaced priorities that Mr Chidambram would choose to expend so much political energy and capital to get the FDI limit in insurance hiked to 49 per cent. There are so many other more structural issues affecting our financial system that need sorting out to be able to deliver 8 per cent GDP growth on a sustainable basis. He should use whatever capital he has to focus on these structural drags, as any movement on these issues will have much greater and immediate impact.