We need to get risk appetite back, says Uday Kotak

Tackling liquidity crunch owing to issues in the non-banking financial companies (NBFCs) sector and increasing domestic consumption are two major challenges before the new Narendra Modi-led central government, say top executives and office bearers of the Confederation of Indian Industry (CII).

In a panel discussion held by CNBC-TV18, Executive Vice-Chairman and MD of Kotak Mahindra Bank and CII President-designate Uday Kotak, CEO and MD of Tata Steel and Chairman of CII National Committee on Leadership V Narendran, CII President and Non-Executive Director of Kirloskar Brothers Vikram Kirloskar and CII Director General Chandrajit Banerjee have shared their thoughts regarding the next Union Budget and the measures to be taken by the new government to revive the economy.

The budget season has begun and we have got a new finance minister in north block. The CII has already presented its budget wish list to the government. Can you pick five suggestions to Nirmala Sitharaman to get the economy moving on a high growth trajectory?

Kirloskar: The first one would be domestic consumption. How do we increase domestic consumption? Exports are of course there but the world economy is also having some constraints. So domestic consumption is the first thing.

What is the prescription?

Kirloskar: Some of the issues are liquidity due to the NBFC crisis and perhaps tax rates – how to have more money in the hands of consumers, how to increase their confidence level in the economy. We need to look across all tax rates - one of the ideas we have suggested is reduction of corporate taxes and removing all the exemptions.

Eighteen percent is the demand that CII has put forward to the government. Twenty-five percent hasn’t happened for people like you, so do you really believe that 18 percent is possible?

Kirloskar: This is a new government with a lot of new ideas. They want to do something, and we need to kick-start the economy. We need to get into a 10 percent growth rate if we have to satisfy the demands of rural and young people. I think something more aggressive has to be done on all fronts.

What would be the top priorities on your prescription list in order for us to be able to do that? Eighteen percent corporate tax rate is unlikely to be considered by the government at this point in time given the fiscal constraints. So what would you realistically expect and like to see.

Kotak: If you look at the Indian economy, it is on two legs, consumption and investment. Consumption has slowed down recently but for the first few years of this previous government, it was in good shape. Investment is where the  challenge is and within investment, the government has invested pretty actively over the last five years. To get private investment back, we need entrepreneurs to feel like putting money to work.

What will get them to feel like putting money to work? I mean is there demand for them to be able to set up additional capacity, fresh capacity?

Kotak: I think it is chicken or egg. This is probably a very good time to really boost capacity with a five-year view. I would go for smart capacity addition. Obviously interest rates need to correct downwards. I would like to see liquidity continue to get better and we need to also make things easier. Small savings rates by the government are much higher than the deposit rates of banks. If banks have to get deposits there has to be some parity in how the interest rates cycle works.

Similarly tax exemptions on debt instruments should be corrected. Finally, equity investors must feel that it is better to invest in equities. Today there are four taxes on equities. Number one is corporate tax, number two is dividend distribution tax, number three is tax on dividends above Rs 10 lakh and number four is capital gains tax which has come back. We need to encourage equity investment to get the animal spirits back.

On the equity part of the four taxes that you mentioned, capital gains was brought back. Do you believe that there is a case today for a rollback and do you expect that?

Kotak: There is a challenge for equity savings in this country as the traditional promoter class has got into hibernation. We need to get equity and risk capital and risk appetite back.

Regarding expectations of a 25 basis point cut from this monitory policy, do you expect a change in stance?

Kotak: A 25 basis points is reasonably baked in by markets but it has to be combined with transmission, and for banks to transmit, they need their cost of deposits to come down. For the cost of deposits to come down, alternative instruments should be at reasonable parity and this is where the issue is – small savings even now pay over 8 percent and a 20 percent of delta mobilisation of fiscal deficit is coming from small savings at much higher rates than government securities rates. So bring parity back.

What is your expectation as far as the MPC is concerned on the rate cuts?

Narendran: I agree with Uday Kotak. Twenty-five bps cut is factored in already and I think that is the least one should expect. To me, liquidity is a very big issue, money needs to flow into the system. The rural economy is also waiting for the money to come in.

So this is largely the NBFC spillover that continues to impact sentiment?

Narendran: And the government spending as well. I think a lot of construction activity which had started off slowed down because money was not being paid and that has trickledown effect on many industries. In rural markets, till September things were looking quite decent. Things have slowed down which is reflected in motorcycle sales and things like that. We hope that money will flow back into the system and second half of this year will be better than the first half.

Given the infrastructure focus of this government, if you look at the manifesto, the budget outlay or the expected outlay on infrastructure over the next five years is significant. To pick up on Kotak’s point, will we see people putting up fresh capacity even though across a lot of industries you have now got capacity utilisation at over70-odd percent.

Narendran: Yes, I think if the money is spent on infrastructure as promised it will certainly help the demand side. But more importantly, people don’t put in money because it is not demand they are just looking at, they are looking at profitability of the business and that is linked to the cost of doing business. So to me availability of money, cost of money coming down and spending on infrastructure reduce the cost outside of the factory gates and that is very important part of the cost we incur before it reaches the customers. So, I think infrastructure spend helps demand, infrastructure brings down the cost of doing business.

We have got the second innings of the government starting on a fairly delicate trajectory when it comes to the economy. The GDP growth has slowed down, unemployment is an issue, fiscal constraints continue, global growth looks challenging. So it is a tough mix for the new finance minister. What are the key areas outside of liquidity, cost of doing business, ease of doing business that they must focus on?

Banerjee: One of the things they should do is to go out of the box and one of the things that the CII has suggested is to look at specific sectors. Say for instance employment. Let us look at a sector which can increase employment, which can increase foreign exchange earnings, which can trigger economy, for example tourism. Bring in a tourism czar who will be able to change the sector.

Similarly in certain other sectors of the economy – construction and real estate, intervention of that kind is required.

We have had vote on account and a lot of what the government had promised on vote on account, for instance, the Pradhan Mantri Kisan Yojana, is being universalised. It is one of the first decisions taken by the cabinet and clearly agriculture seems to be the thrust area. My larger question then is again the market is sort of betting on strategic disinvestment, privatisation, perhaps even bank privatisation etc, given the fact that this playbook has worked so well for the government. Why would they want to necessarily do anything drastically to change it?

Kotak: I think we have to think about the fact that political transformation of India has happened, time now is to go into economic transformation.

You talk about software kind of approach?

Kotak: That is correct. I am a believer that for making the economy click, since this is a strong government which has the hardware in place, we need the software principle of the markets to integrate with the hardware, and if we can get this mix, only then can we think about 9-10 percent growth which India needs.

Just to take that economic transformation argument forward and let us talk a little bit about the global context as well, things are slowing down but India is still under 2 percent of world trade today. The aspiration is to be able to double our exports by 2025. Again a whole bunch of recommendations have been made by Surjit Bhalla and others to the government.

Narendran: It is important for India to plug in to the opportunities globally but we should also recognise the fact that globally most of the countries are getting more and more insular. Everyone is trying to protect their markets. It is happening in the US, it is starting to happen in Europe and China is going to start doing more and more of that as they feel more threatened. So we should be conscious of that.

What about the opportunity that the escalation between the US and China trade tensions, what does that realistically mean for India?

Narendran: There are lots of opportunities particularly for technology- and IP-led manufacturing in India because India has a skilled workforce that is required. India missed the bus for textiles and many other such areas where Vietnam, Bangladesh and other countries stepped in as an alternate option for someone looking outside China. In India, with the huge engineering base that we have, the technology base that we have and the fact that we are an interesting enough domestic market for most multinationals we should leverage that.

So be open, India should not close?

Narendran: India should not close, I think India should encourage.

Don’t go in for tit-for-tat tariffs, don’t take that approach, is that what you are suggesting?

Narendran: I would always say open it up for investments first so that investments come in and then follow through on the trade. Auto industry is a classic example. You opened it up for investments, the best in the world came in, set up factories here. You didn’t open it up immediately for importing cars but now we have a very strong auto industry, a very strong auto component industry who are world beaters. So I think it is a good model for us to follow.

I want to pick up on the point that Chandrajit Banerjee made about the trust deficit and his argument is that it has gotten worse but it has also gotten worse because the private sector hasn’t held up its side of the bargain, whether it is IL&FS, which you are closely involved with or other promoters being besieged with problems related to governance, leverage and so on and so forth, what can be done to bridge this deficit?

Kotak: I think corporate governance as a part of building Vishwas from the corporate sector side to the government should be non-negotiable and I am pretty clear that as CII and as all of us sitting here, we are all committed to corporate India living up to high standards of governance. If you cannot trust numbers, if you cannot trust accounts, there is a fundamental deficit, which has been seen in the last few months and years. It is time for corporate India to recognise that in addition to creative and entrepreneurial spirits, discipline and process to run concerns fairly and equitably for all stakeholders is the basis on which ‘Vishwas’ will be built by corporate India.

So much of the conversation around liquidity has been around NBFCs. My question now is okay, IL&FS is being dealt with; we have got the Serious Fraud and Investigation Office (SFIO) first chargesheet being filed in court. Are we still looking at this as a possibility of a systemic risk or do you believe that the worst is behind us when it comes to the NBFC crisis?

Kotak: My view is the challenges of the financial sector are specific. I do not believe they are systemic but specific issues need to be dealt with.

If the specific issues are not dealt with, can it become a systemic risk?

Kotak: I do not see the specific issues being large enough to create contagion for a systemic issue. However, it is important to deal with specific issues of the financial sector firmly and fairly.

What would that mean? Does it mean a special dispensation for NBFCs, a special credit line, what are we talking about?

Kotak: My sense is that good NBFCs are getting money even today. I don’t think that is an issue. In fact, today’s papers carry an article, the credit spreads have narrowed. If liquidity in the system is comfortable, the right players will get the money.

A quick check as far as commodity prices are concerned and also on the big expectations that you have?

Narendran: Commodity prices reflect what is happening globally, macro economically. So there has been concern about the US-China trade war and where it is headed but otherwise fundamentally if you look at things in China, it has been pretty good I would say. If I look at steel consumption, for the last 4 months it has been 10 percent which is unimaginable. There was a lot of people who said that in the second half of the year, the US will go into recession. I do not think that is happening. So macro economically things are not looking too bad. If the trade war issues are sorted out then things should look better. So I am pretty optimistic about the second half of the year.

More consolidation is expected. I mean largely it has been Insolvency and Bankruptcy Code driven but….

Narendran: I think this shift from the informal to the formal sector is going to impact multiple industries including steel. So there is a cleaning up going on because of IBC. I think the capital which has been deployed will be used more efficiently now. The shift from the informal to formal will also have its impact on the sector.

I will end by asking you about the stock markets. Everyone is talking about valuations and disconnect between reality and where valuations currently are. But everyday new records are created for the Indian equity market.

Kotak: I will give the optimistic side of the global situation, and two factors of significant optimism. One, as my friend Narendran said global commodity cycle is moderate, may not be very down but not out of control. So moderate global commodity cycle and globally interest rates are low. The US a negative yield curve, overnight is higher than the 10-year. So both these are wonderful sweet spots for India. Therefore, I am optimistic about India, I am optimistic about the economy and I do believe this government has got these 2 factors in its favour despite all the other macro headwinds we talked about. Therefore, this is the time we must go for it.