‘I think the worst is over’

‘I think the worst is over’
The Financial Express, April 14, 2009, Page 7

In any given week, HDFC chairman Deepak Parekh is usually in the middle of at least one government of India commission to clear up some aspect of India’s financial sector, whether it’s infrastructure finance, setting up organisations like IDFC, asking for innovative financing support for IIFCL or clearing up the mess at Satyam. Just a day before the Satyam bids were to be opened, he found time to meet up with Subhomoy Bhattacharjee of FE to discuss subjects ranging from the new government’s priorities to growth prospects:

Could we start with what is now tentatively coming up in all financial commentaries. Are growth prospects becoming brighter in the Indian economy?

I think the worst is over. January to March has been the best quarter; lots of companies are saying so. Cement companies have said so. Some of the FMCG company chairmen—I can not name them—have said this, that the first quarter of 2009 has been the best in our history. So I see a visible improvement. Auto sales have picked up—housing demand is there. Overall demand conditions are much stronger. Some sectors have been impacted of course, like commodities, and the quarterly results now due will show these trends. But you know, Indians are accustomed to cribbing—oh, the world is coming to an end and so on. I do also.

What about the banks:

My personal view is that Indian banks are very safe. Reasonably well-capitalised, well-managed. Adequate capital adequacies. You know government has allowed public sector and private sector listed banks to raise tier II capital: a combination of subordinate debt, senior debt and junior debt. So Indian banks have got adequate amount of tier II capital. Yes, non-performing loans will increase. But they will not increase unmanageably; this will be within limits. I see the gross NPAs for the entire banking sector as being about 2.2%. That will rise to probably 3% next year. But this is not alarming in the Indian scenario. India has one of the highest cash reserve ratios and statutory liquidity ratios in the world. The latter is government paper. In a scenario of declining interest rates, banks will make a huge amount of money on their gains from the mark to market on these government securities. With those profits, the banks will make adequate provisioning. That’s what we have done in the past and that’s what banks will do now. Considering the large redemption of money by the regulators and the increase in government debt in this fiscal, I don’t think, therefore, that the 3% NPAs are alarming or something to be concerned about. These include credit card loans also.

However, internationally, we hear and we fear that credit cards insurance companies and even now many European institutions are still vulnerable. US companies have declared their losses. But in India it will not be a financial crisis. There can be lots of other crises—but not financial. For that the credit goes to strict regulators. All of us, including me, were critical of the restrictions put up.

Including those on real estate:

They prevented us from giving loans for land three years ago. Banks were not allowed to lend for buying land. That’s what has helped the banks. A land bubble was being created. Therefore in the last three years the entire land purchase money has come from other sources: initial public offers, the AIM market in the UK, preferential allotment to qualified institutional buyers and private equity. Huge amounts of money has come to real estate from PE.

A lot of preferential allotment to QIBs came in the garb of cumulative convertible preference shares, which is basically debt in the garb of equity to get automatic approval. They are the ones who lost money. But now that land prices have collapsed, it is no longer an asset in today’ s terms. The demand for high-end properties is just not there. The demand for IT buildings, SEZs, malls etc has gone down. Only the demand for affordable housing is there. In Mumbai or Delhi, if you build flats at a cost of Rs 25-35 lakh, there is a demand. That range would be Rs 20 lakhs in other cities.

But builders are being dragged kicking and screaming to the altar of low-priced flats.

The margins are much lower on smaller flats. They are screaming because compared to the debts the realisations are low on these. The other thing is that many of the builders have to also get back their reputation, by completing their projects. This is possible. For instance, I have seen in Mumbai and Pune some developers assuring buyers that, say, if we sell a flat at a price lower than what we sold you for, we will correspondingly reduce your price. That is how future sales will happen. But only with those developers who have the vision and the capability to stick to such price points in their projects. The demand is there; the need for housing is enormous in India.

Moving over from housing to the broader theme of infrastructure, real estate and others are complaining that the rates of interest are still very high.

What developers do not realise is that all finance institutions give the best rates to retail borrowers. We always cross-subsidise. The margins we earn on retail loans are much smaller. But we still give to individuals at lower rates, as there is competition. So you compensate that by charging higher from the developers. That is why developers complain they don’t get low rates. But what I am concerned about is that they are at the same time borrowing from NBFCs or the unorganised markets, even moneylenders, at much higher rates. I worry about that. I don’t think we are overcharging, therefore.

So there is an issue on interest rates?

There is some cause to reduce deposit rates for bank deposits. Only if the cost of funds comes down can the lending rates move. In India we always say we must give a 7% rate of interest on deposits, otherwise there is no social security. We have a mental attitude not to reduce the rates below that. In the US or Japan the rates are far lower but if the rates are brought down further, will the public or the government of the day accept that? Deposit rates must be reduced aggressively. But if there is a cap or a floor then you can’t reduce that. Banks have very little window to make profits by lending out at decent rates, because of the same issues of cross-subsidisation of loans to the priority sector and so on.

Last week, the Indian industry has made a case for interest subvention by the government for housing and automobiles. Is that fair or even viable?

We have never done that in India. On the question of whether it is fair, is what the US or the UK are doing by nationalising banks fair? But then the question is whether the Indian government will do this.

A new government will come in another month. Whoever comes in, the chances are they will turn to Mr Parekh for ideas. What would you suggest are the low-hanging fruits to be plucked?

I think we have too many low-hanging fruits. Unfortunately, we have too many priorities and everything is a question of catching up. Everything is making up for lost time. I can think of ten things that are low-hanging ones.

Let me say that I think we have enough programmes but their implementation is tardy. The performance of NHAI in the last two-three years has not been good. I am sorry to say that it is far from satisfactory. It had started with a bang. It has huge sums of money but we can’t see the same pace of massive construction being undertaken through those funds. The board of NHAI consists only of government secretaries. Why can’t we have representatives from industry, say auto or tyre manufacturers, or citizens who use cars, as independent directors? They will push the pace of investment in NHAI. Once that happens, a lot of other things follow. That is how prosperity happens, that is how GDP is added to, that’s how employment is created; but we are not doing that.

The other areas where we need to move fast are in construction techniques. The global recession is the best window to spend on infrastructure. We can scour the world for the best of capital equipment that would now be available at throwaway prices. Interest rates are not very high overseas at this juncture, so we can borrow in foreign currency. The new government must therefore look at high levels of investment in infrastructure. Instead of waiting for the time when the rest of the world also starts picking up interest once this phase is past.

We could also use our forex very usefully for this purpose. But this has not gone down well. My suggestion was not very appreciated. IIFCL, for instance, has been given only $5 billion from the reserves, that too very reluctantly.

But on pace of execution, as I have said, it is our responsibility to get the work going 24 hours a day. In the power sector, for instance, the pace of progress is very limited on ultra mega power projects. It has been about one and half years since the approval for only the first of those, the Tata Mundra project, was given.

What is your take on the need for a fiscal responsibility bill?

Fiscal deficit is a major issue. Here, I think it is a danger signal if the growth signals are low. A larger fiscal deficit is acceptable with high growth. For the next year (2009-10), IMF is projecting an Indian GDP growth rate of 4%; that is very negative. I am sure we can do 6%.

But to contain the deficit within limits, the new government will have to do several things at once. They have to increase taxes. It just cannot be helped. Then, there has to be disinvestment of PSUs. Not small ones but large ones. Take LIC for instance. If the government sells 24% stake in LIC, they will get enough money to last a year and they will not have to do any thing more. Or some of the government stake in ONGC. But all said, they will have to raise taxes and privatise and consolidate the larger number of small public sector banks—these are some of the low-hanging fruits.

Is there any possibility of the merger of HDFC and HDFC bank. There was a recent report...

I have not met any analyst from Macquarie for this report, so obviously they have done their own research. They are speculating. Guess estimate, I would say. My point is that here are two organisations. Both have the same name, both have done well today and have been doing so for the last ten years. Both have shown consistent growth in top and bottom lines. They have generally clocked a good growth rate of 20% all the time, on a huge base. Again both have NPAs that are below 1%. We both don’t have surplus staff or surplus real estate. So what is the justification at the moment when both are strong, stable and doing well independently.

There can be room for picking up stake in other organisations. Like HDFC Bank’s acquisition of Centurion Bank of Punjab. That is growth. HDFC too could buy a housing finance company. We did that when we bought Home Trust from Ambuja Cements.

The other worry is the impact of such a merger on our balance sheets. We will have to provide huge provisions for SLR and CRR. For that, we need to borrow and put that money in government securities, which means taking a beating in terms of returns.

Therefore, unless there is some need like say the growth in the housing market collapses, or the bank runs up a need for huge capital when the credit markets turn bad. So unless that sort of need arises, I don’t see the necessity.

There are advantages though. One, we can have a much larger balance sheet; our net worth becomes huge. We can be among the top five in market caps. Economies of scale are important. What India needs at this juncture is a small number of large banks, not a large number of small banks.

A stronger bank can provide funding for an ultra mega power project that often needs a Rs 15,000 crore loan. Tell me how many banks the developers have to go to now. Our industry is growing much faster than the banks, and banks must follow industry. That, in turn, requires large deposit bases. Many small banks are too tiny and should not carry on that way.