Where Are the DFIs?

February 28, 2004

859
WEEKLY
ECONOMIC
AND POLITICAL
F
inancial sector reform in India has often followed
a convoluted path one step forward, two steps
backward. Nowhere is this more evident than in
the context of the development finance institutions (DFIs).
Even as the governments actions as reflected in the
withdrawal of concessional long-term funds from the
RBI to FIs and approval of ICICIs reverse merger with
its offspring ICICI Bank seem to suggest the growing
irrelevance of DFIs, its words have often been to the
contrary.
The most recent instance of this schizophrenic attitude
to financial sector reform came during the finance
minister, Jaswant Singhs speech while presenting his
interim budget. There is no alternative to development
finance said the FM, adding that steps to revive IDBI
and restructure Industrial Finance Corporation of India
(IFCI) are already in hand. He then dashed whatever
hopes votaries of reform may have had of IDBI too
breaking free of its shackles by stating that IDBI would
retain its role as the lead DFI even after its Act had been
amended to allow it to do banking business.
His words are bound to have come as music to the
ears of corporate leaders who, just a few weeks ago,
had banded together under the FICCI banner to complain
to the prime minister about the lack of low-cost, long-
term funding from banks/FIs. Their grouse is not that
they do not have access to funds. But rather that they
do not have the kind of access to low-cost funds that
they had in the 1970s and 1980s, the heydays of de-
velopment finance. Clearly, corporates which have
long been pampered with no-questions-asked cheap
institutional finance, find it hard to come to terms with
the new ground realities where rates of interest are
determined by the riskiness of the loan rather than the
pedigree and the networking ability of the corporate.
But does that mean they have the FMs sympathies?
It would seem so. On paper at least the FM seems to
have conceded the need for DFIs. But whether this will
translate into anything more concrete or whether this
is just another instance of clever manoeuvring by the
minister remains to be seen. Agreed he has said IDBI
will play the role of the lead DFI but surely he is aware
that, for all practical purposes, there are no DFIs for IDBI
to lead?
Consider ICICI, which once vied with IDBI to attain
top slot in sanctions and disbursements, has quietly shed
its FI status and merged with its offspring, ICICI Bank.
From being a major term-lender in 2001-02, it ac-
counted for more than 50 per cent of the disbursements
of all FIs today it is vying with HDFC Bank to become
the top dispenser of retail loans! Thats how far it has
shifted from its original mandate. IFCI, the oldest of the
DFIs, is tottering on its last legs and would have gone
under but for government compelling the public sector
PNB to throw a lifeline. The former Industrial Recon-
struction Bank of India (IRBI), now IIBI, is beyond
redemption, much like the city where it is headquartered
and perhaps partly because of it.
So what does that leave us with? With minor players
like Infrastructure Development Finance Corporation
(IDFC), an institution that was set up with much fanfare,
but is yet to live up to its promise, preferring instead
to limit itself to the more attractive task of bringing out
glossy reports? With the Small Industries Development
Bank of India (SIDBI), an offshoot of IDBI meant to
cater exclusively to SSI units. And of course, with a
motley collection of relatively small sectoral players like
Exim Bank, Tourism Finance Corporation, NABARD,
National Housing Bank, Power Finance Corporation and
so on. With the exception of SIDBI, the quantum lent
by these institutions is minuscule. Some like NABARD
and NHB are only refinancing agencies.
The idea of a lead DFI is, therefore, meaningless. There
are no players left in the field to lead. But thats a
relatively minor point. What is far more crucial is whether
there is a place at all for DFIs in the emerging milieu.
The answer is an emphatic no. For a number of reasons.
DFIs were established to address a specific need in a
specific milieu: shortage of long-term investments and
the perceived risk-aversion of savers and creditors. Today
Economic and Political Weekly February 28, 2004 860
EPW
not only is that need far less acute, but with the market for
long-term contractual savings like pensions and insurance
opening up, the supply of long-term funds is also likely to
be enough to take care of whatever need there is.
Moreover, as the experience of countries like South Korea,
Japan, Germany, China as well as India has shown, there is
a huge cost that society pays for this. Witness the repeated
infusions of capital into both IDBI and IFCI over the past
few years, all of which has come out of taxpayer money.
Project financing, once the core activity of DFIs is no longer
their exclusive preserve. With financial sector liberalisation,
banks too have started extending long-term loans. According
to the RBIs latest Report on Trends and Progress in Banking,
commercial bank lending to infrastructure stood at Rs 26,880
crore in 2002-03. Sure, banks are constrained by the fact that
their deposits are mostly short-term while project loans are
long-term. But that has never deterred banks from investing in
long-term assets. If it were so, they would never have invested
in government securities in such a big way. Indeed what sets a
successful bank apart from an unsuccessful one is how skilful
it is in creating and managing asset-liability mismatches.
Last but not the least, we now have a vibrant capital market.
And though it is true the debt market is not as developed as
say the equity market, today even medium-sized corporates
can access global markets. The governments latest policy
announcement allows corporates to borrow up to $ 500 million
abroad without prior approval. Unlike in the past, FIs no
longer have access to cheap finance from, say, sources like
the RBIs Long-Term Operations Fund.
Clearly, therefore, there is no case for DFIs in todays
milieu. The sooner the government and corporates realise that
the better for all concerned, especially for taxpayers.