Current Affairs 07 Aug 2012 newspapers

1)

Banks should adjust base rates in tune with monetary conditions : RBI Dy Governor

After the RBI cut the minimum amount of investment that banks need to make in Central and State government securities to 23 per cent from 24 per cent of deposits on July 31, State Bank of India cut home loan rate (by up to 60 basis points) and car loan rate (by 50 basis points) but it kept its base rate steady at 10 per cent. Banking system is supposed to be responsive to monetary conditions, and to that extent the RBI would like banks to respond by adjusting their base rate (effect a cut).Lending rate benchmarks (or base rates) of banks are expected to be responsive to monetary conditions, Anand Sinha, Deputy Governor, RBI said. Now, banks are only lowering the spread over their base rates in response to RBIs accommodative monetary policy stance. This move benefits only the new

borrowers.
BANKS RELUCTANT TO CUT If banks cut only the base rate without cutting the deposit rate, their margins will get squeezed. Sinha pointed out that banks are not able to respond quickly to changes in monetary policy as they carry fixed costs over an extended period of time and need to recover the same. In this regard, the RBI has floated the idea of effective. The Deputy Governor expressed concern that though the minimum investment size of certificate of deposit was reduced from Rs 1 crore to Rs 1 lakh in 2002, there was not much retail investor interest in this instrument. Unlike fixed deposits, investment in CDs are not subject to tax deduction at source. The average fortnightly CD issuance by banks has jumped from Rs 16,755 crore in 2009-10 to Rs 38,429 crore in 2011-12.

deposits among bankers so that the monetary policy transmission is more

floating rate

2) Banks over-exposed to a few business houses

A fair chunk of the restructuring in recent months has been related to the State Electricity Boards (SEBs) or the telecom and aviation sectors and several companies like Hotel Leela and HCC have had their debt restructured.

a study by Credit Suisse reveals that the aggregate debt of 10 groups has jumped five-fold in the past five years and now comprises 13% of bank loans and 98% of the banking systems net worth. The Essar groups debt is now close to Rs 94,000 crore, the GMR group has borrowed around Rs 33,000 crore, the Lanco group Rs 29,000 crore and the Vedanta group Rs 93,000 crore.

As Credit Suisse points out, in terms of concentration risk, Indian banks now rank higher than most of their Asian and BRIC counterparts. This is an unenviable position to be in and its surprising that the
Reserve Bank of India(RBI) hasnt clamped down so far. The

prudential norms banks can lend up to 15% of their net worth to a single company and 40% to a group seem to be rather lenient, particularly in the Indian context where promoters have a nasty habit of routing money, raised in one company, to another.
The average exposure of banks to the largest group borrower, the RBI data shows, is 4.7% of the total, though the maximum exposure is way higher at 26.1%. A relook at the the prudential norms is surely warranted, given the now rampant restructuring the value of loans referred to the CDR cell in July is around Rs 7,500 crore, higher than the Rs 5,500 crore brought to the CDRs door in June. a few large companies particularly in sensitive sectors like infrastructure,
have a disproportionate slice of banks balance sheets.

concentration risk is real for Indian banks Further, a well intended measure of smoothening cash flows through restructuring runs the risk of becoming a tool for ever greening The term ever greening is used for a loan-restructuring exercise under which banks provide additional but indirect loans to troubled borrowers to help them meet their existing obligations. While this helps the banks avoid the loans turning bad for some time, it increases their exposure to the distressed borrowers. The sector very often takes equity type risks for debt level returns,

3) Indian economys growth slipped to a nine year low of 6.5 % in 2011-12

4)

How European crisis will affect India ?

Two central bankers, the Federal Reserve of Boston and the Bank of Japan, have recently warned that Asia is likely to be affected.

I) The most obvious way in which the European crisis is affecting and would continue to affect the region is through a decline in exports. In the case of three significant late industrialisers in Asia China, India and South Korea in the case of two of them (China and India), the value of their exports of goods to Europe was between 15 and 16 per cent of the total exports of goods from these countries

That share has fallen between 2009 and 2011, reflecting the effects of the crisis in
Europe.(1.7 % fall in India) In Indias case, these developments in the trade in goods would have been aggravated by the slowdown in its services exports to Europe, whose share in Indias large exports of services has been rising. RETURN FLOW OF CAPITAL -European banks and other financial institutions have huge exposure to Asia and the crisis would require European banks to unwind and reduce their exposure in Asia in order to mobilise resources to cover losses or meet commitments at home. The result is a return flow of capital.This is also known as deleveraging. Three kinds of effects are likely to ensue. The first could be a weakening of Asian currencies, as already seen in India, which not only generates instability, but also puts pressure on domestic agents, including firms, with foreign exchange commitments to meet. The local currency outlay they would have to make to meet those commitments would increase, putting pressure on their balance sheets and profit and loss accounts. The second would be instability in financial markets, inasmuch as these claims directly or indirectly finance stock market activity. Finally, an exit of capital from Asian countries can result in a liquidity crunch that can affect domestic lending adversely, reining in the credit-financed private housing investment and consumption that has come to characterise these countries with adverse implications for demand expansion and growth.

5) SEBIs future plans

SEBI board meet scheduled for August 16. On top of the list is its request that the Rajiv Gandhi Equity Saving Scheme (RGESS), announced in the Union Budget for 2012-13, be routed through

mutual funds.

SEBI will also take up the issue of minimum public shareholding norms and try to convince policymakers that requests for an extension of the deadline should not be entertained in any manner. This assumes significance as India Inc has been trying to lobby hard for an extension of the deadline, citing sluggish market sentiments and a bleak outlook. Under the circumstances, they feel they will not be able to pare their holdings at reasonable valuations and would be compelled to sell equity at throwaway price. According to the minimum public

shareholding norms, promoters of all listed companies have to bring down their stake to 75% by 2013. The deadline for private companies is June 2013, while that for PSUs is August 2013.
Sebi is also keen on taking up the issue of accessing call records to strengthen its surveillance capabilities, sources say.

to work out a model to help revive the fortunes of the fund industry.
The regulator is of the view that relaxations in the norms should be balanced with some amount of added responsibilities too .So, while an increase in the expense ratio is suggested, fund houses will be given more headroom if they move beyond the top cities into the hinterland.
6)

The valuation of Sensex is at a 10 year low. What does this mean (FE interview p 22)

7) Standard Chartered Faces N.Y. Suspension Over Iran Deals

Standard Chartered Plc (STAN) conducted $250 billion of transactions with Iranian banks over seven years in violation of federal money doing business in the state. Standard Chartered earned hundreds of millions of dollars in fees for handling transactions on behalf of Iranian institutions that are subject to U.S.

laundering laws, a New

York regulator said in an order warning that the firms U.S. unit may be suspended from

economic

sanctions.
The accusations against Standard Chartered are the latest in a series of alleged regulatory transgressions by the New York offices of British banks.

In August 2010, Barclays Plc agreed to pay $298 million to settle claims it violated trade laws by facilitating transactions involving banks from

countries under U.S. sanctions including Cuba, Iran, Libya and Sudan.
In 2009, a unit of London-based Lloyds accused of allowing Iran illegal access to the U.S. financial system agreed to pay $350 million to settle an investigation

HSBC, also based on London, last month made a $700 million provision for
U.S. fines after a Senate committee found the bank gave terrorists, drug cartels and criminals access to the U.S. financial system.
8)

Huge increase in cases referred to corporate debt restructuring (CDR) cell

received 17 new debt recast referrals in July valued at close to R7,500 crore. This was higher than the 14 cases worth R5,500 crore that were referred to the cell in June this year. In the July-September quarter of 2011, there were just 17 cases referred and they were valued at around R21,000. ceramic tiles manufacturer NITCO was the largest referral in July. a large number of loans to infrastructure companies came up for referral in July as the slowdown has affected several infra projects. pharma company Ind Swift Laboratories, Kamath Hotels,Conros Steel and Victory Electricals. According to CDR data, the steel industry accounts for the largest proportion (24%) of cases referred to the CDR cell, followed by infrastructure (10%), textiles (7%) and telecom (6%). At a time when there has been a sharp rise in CDR referrals, a Reserve Bank of India (RBI) committee headed by RBI executive director B

Mahapatra has recommended the tightening of norms for loan recasts.

The committee has called for sharper provisioning norms. Banks will have to set aside 5% of total assets for standard loans that are restructured, up from 2% currently. It also recommended the reclassification of restructured loans into nonperforming assets (NPAs) after two years, which would also lead to greater provisioning. The committee also recommended a mandatorily higher amount of sacrifice from promoters with their contribution to be pegged at atleast 15% of the diminution in fair value or 2% of the restructured loan amount, whichever is higher.

The number of cases referred to CDR cell in April-June 2012 stood at 37, amounting to R19,000 crore. In the financial year 2011-12, there were a total 87 cases referred to the CDR cell valued at Rs 67,889 crore.
9)

Overseas Investments by Indian Companies in foreign countries fell sharply in July guarantees were most prefered as has been the trend recently.

to $1,241 million from $3,533 million in June, Reserve Bank of India data showed. Investment by way of

Around $463 million was invested through guarantees, $436 million through equity and $341 million through debt, the data showed. One of the largest investments was JSW Steels $154-million subsidiary in the Netherlands. Other investments include Tata Steel setting up a subsidiary in Singapore ($96 million), Bharti Airtels investment in Mauritius ($150 million) and a Reliance Industries subsidiary ($45 million) in the Gulf. Around 87 companies invested in Singapore, followed by 59 in the US, 51 in the Gulf and 31 in Mauritius. Most investments were by way of setting up a wholly owned

subsidiary.
10) Cutting

fuel subsidy can cause 2.6% spike in inflation: RBI chief D Subbarao

Kaushik Basu has said that the country can settle for an 11% inflation in the event of 10% growth. "The ideal situation would be a 7% growth and 5% inflation," the RBI governor told the panel, as he appeared to emphasise on the need to contain price rise. In his presentation before the panel, Subbarao said that while liquidity was not an issue there was lack of appetite for investment. He agreed that deficient monsoon, high fiscal deficit, food inflation, suppressed inflation and rising global commodity prices posed a major challenge to the government. According to a member of the standing committee, the governor conceded that there was a sharp decline in investments. "It has now gone into the negative territory," said a member, who did not wish to be identified. What is adding to the problem is the reluctance of the banks to pump funds into the economy. "The banks have large exposures in depressed sectors such as power, fertiliser, civil aviation and real estate. How long can the banks go on extending loans to these sectors," asked a member, who participated in the deliberations.

11)

Poor monsoon to drive diesel use higher

12) RBI wants government to simplify foreign investment regime

The central bank has suggested any foreign investment in a company in excess of 10% of its shares should be considered FDI and less than that as portfolio investment The suggestions are based largely on recommendations of a working group headed by Sebi chairman UK Sinha on foreign investment of 2010 and Ashok Lahiri Committee of 2004. Such a simple distinction between FDI and portfolio investments is in keeping with the practice in a number of countries such as Brazil and South Africa and is also an OECD standard. In contrast, India has a complicated regime that has a different policy framework for different types of investors even though they all may be buying shares in a company. The RBI has proposed that distinctions between various forms of foreign investors such as foreign institutional investors, foreign venture capital investors, private equity or non-resident Indians be done away with and replaced with Qualified Foreign Investor or QFI framework. Sinha panel had suggested any foreign investment above 10% be treated as FDI and below 10% as QFI adding that there was no reason for policy to prefer one over the other. RBI Governor, Dr D. Subbarao,in 2009, purchased 200 tonnes from the International Monetary Fund ( IMF). The buying of gold by central banks is not a one-off transaction.
13)

Gold with RBI

At present, the share of gold in Indias total international reserves is around 9 per cent. It would be prudent to build up, over the next two years, the gold proportion to say 33 per cent

Until the early 1950s, the RBI Act provided for a minimum of a 40 per cent foreign assets-currency ratio. In the euphoria of the Second Plan, Dr B. K.
Madan, the economic colossus of the RBI, argued for unfettered right to create currency to support the Plan. Accordingly, this clause in the RBI Act was abrogated. The rest is history: Punctuated with a series of foreign exchange crises, culminating in the crisis of 1990-91. At present, the foreign assets-currency ratio is

142 per cent.

Given the strong temptation to step up the printing press, it would be desirable to reintroduce, in the RBI Act, a 100 per cent foreign assets-currency ratio. Advocates of unfettered discretion for central banks would no doubt protest that such a clause would imply a Currency Board system. Central banks, the world over, have not been able to use discretion to the advantage of their countries and there is a strong case for a reverting to a Currency Board system. The Financial Sector Legislative

Reforms Commission is currently examining all financial sector laws, and it is

hoped that the Commission would also examine the issue of legislative restraints on created money.

14)

SARFAESI act

Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (Sarfaesi Act), was a godsend for the harried secured creditors saddled with non-performing assets (NPAs), an American euphemism for bad debts. It empowers them to seize the assets mortgaged by the recalcitrant borrowers, with the help of the magistrate, and go on to realise the best price for the seized assets, all without the sanction of the court.

Section 35 of the Sarfaesi Act gives its provisions an overriding effect over
anything to the contrary contained in any other law that obviously includes the Sick Industrial Companies (Special Provisions) Act, 1985 (SICA). However, the Odisha High Court has ruled otherwise in the Noble Aqua case, against which State Bank of India, the lender, has appealed to the Supreme Court. What perhaps has queered the pitch for the secured creditors is Section 37 of the

Sarfaesi Act that goes on to say that the Act is in addition to, and not in
derogation of, any other law in force. Odisha High Court said that the Sarfaesi Act has to yield to SICA, that brings all coercive proceedings against a sick industrial company to a screeching halt. Having declared the Sarfaesi Act supreme under Section 35, the government should have refrained from inserting Section 37 that has obviously sowed the seeds of suspicion in the minds of the High Court as to the true intent of Parliament. WHO IS SICK? Industrial loans are leniently regarded vis-a-vis retail loans, on the specious ground that if the same standard of toughness were to be applied to the former, it would stymie industrial growth. CDR only amounts to postponing the inevitable. That is why it is perceived as sheltering NPAs. Furthermore, it always involves a huge sacrifice on the part of lenders in terms of time extended, interest lowered and shares exchanged (often worthless) for outstanding dues. The RBI has done well to call upon the banks to insist upon promoters coughing up 15 per cent in the diminution in the value of the undertaking, or 2 per cent or the loan, whichever is higher, as a price for the rescue act.