The downside of India’s infra push

BY now, you know about the Subhash Chandra payout controversy. The facts are contested, but one thing is clear — several big lenders are unlikely to get back the thousands of crores that they lent to the companies associated with his Essel Group.

This is the latest episode of an endless soap opera. Big companies take mega loans for large projects; those projects turn out to be economically unviable; they default on loan repayments; lenders take over whatever assets are left and sell them to recover some of their money; the assets fetch a fraction of the loan amount, and the rest has to be written off. In business lingo, this is called “taking a haircut” — the kind your mother forces you to get when you have let your locks grow fashionably wild.

Most commentators blame this continuous loan write-off saga on an alleged corrupt nexus between politicians in power, officials running PSU banks and politically connected corporates. Indeed, that is part of the story. However, the reality is that India would still have this problem of corporate bad loans, and subsequent debt write-off, even if the system were absolutely clean and honest. This is because of the infrastructure-led path of economic growth that we have chosen over the past four decades.

It began in the mid-1980s, when Soviet socialism started to falter and fail, and neoliberalism took root in the West. Equally important was the rise of the Asian Tigers — Singapore, South Korea, Hong Kong and Taiwan. Our netas, babus and corporate honchos visited these nations, saw their swanky skyscrapers, glitzy malls, superfast highways, multilayered flyovers and state-of-the-art ports and airports, and came back with a belief that Nehruvian socialism, with its restrictions on the private sector and aesthetic distaste for consumerism, was holding India back.

Economic policies slowly turned right from the mid-1980s, before finally completing a 180-degree turn towards liberalisation, privatisation and globalisation in 1991. The objective was to dramatically increase highway connectivity, build new ports, upgrade airports, generate more electricity, build a world-class communication system and give middle-class consumers fancier homes and bigger cars.

Over the next two decades, laws were amended to allow private companies to build, operate and earn from highways, power stations, airports, ports, and mobile telephony and broadband networks. Governments, across the political spectrum, made it easier for builders to acquire land and construct multi-storeyed housing. Tax rebates were given to home buyers to boost the real-estate sector.

But infrastructure projects required large capital investments with delayed returns — a highway or power project would take years to complete, and even longer to recover the costs through electricity bills and road tolls. The answer was to reset the banking system, to make it easier to issue large corporate loans for infrastructure projects. Private players had to invest only 25-30% of the project’s cost as their own equity. PSU banks were nudged to lend the rest. The government would step in wherever there was a shortfall, either by lending through specialised infrastructure finance institutions or directly through budgetary funding.

While that solved the funding problem, the issue of revenues remained a sore point. Private players realised very soon that it wasn’t going to be easy to recover their investments. Indians didn’t earn enough to pay the tolls and rates needed to make the projects profitable. The Atal Bihari Vajpayee government found a solution — it handed out highway contracts, private players built the highways and earned tolls for a limited period, and then handed the highways back to the State once they had earned enough. In fact, 90% of the money spent on the much-vaunted National Highways Development Project during the Vajpayee years came from the government.

The UPA devised a new mechanism of public-private partnership to build infrastructure on steroids. In the 10 years of UPA rule, infrastructure loans jumped tenfold, almost all of them coming from State-owned banks. In some cases, almost all of a project’s financing turned out to be debt.

It is worth understanding how this worked, since it effectively transferred all the risk on to the lenders. The owners of Company A would set up a separate Company B for an infrastructure project, where they had to invest 25-30% as equity. The owners would take a loan from a PSU bank on the books of Company A, and then use it to finance their equity investment in Company B. In effect, PSU banks had lent all of the money — partly directly to Company B and the rest to Company A — leaving private players with practically no skin in the game.

The reckless infrastructure spending was great for generating high economic growth — after all, real capital investments were being made and assets were being built. But most of these turned out to be economically unviable. Power companies couldn’t get State Electricity Boards to buy from them, highway projects were unable to collect enough toll, airports and ports incurred losses, the stock of unsold homes shot up.

Private companies stopped paying back their loans, and they piled up as bad loans — euphemistically called Non-Performing Assets (NPAs) — on the books of banks. The NPA crisis gave birth to a new insolvency and bankruptcy system, where lending agencies were empowered to take over the assets of defaulters and sell them to recover their money. So far, only 30% of the money lent has been recovered. Banks have had to “write off” the rest to clean up their balance sheets and be able to lend again.

What is more egregious is that a few big business houses have picked up the distressed assets for a song, often using money borrowed from those same PSU banks. It has led to monopoly control in several infrastructure segments, including airports and real estate.

This is an inevitable design feature of private-sector-led, infrastructure-driven growth path in a country where only 5% of the population drives most of the consumption. Corruption is simply its side effect.