Business Today

Banking Taken a Hit? Yes. Is It Cause for Alarm? No

Govindraj Ethiraj        Print Edition: March 3, 2013

Aditya Puri, Managing Director of HDFC Bank - the second largest private bank in the country after ICICI Bank - discusses the economic situation in India and its impact on banking in an exclusive interview with Govindraj Ethiraj on the show Bottomline, airing on Headlines Today.

Q. How do things look in the new year?
A. We think the next (financial) year is going to be better than this year and that assessment is based on the fact that actions have been taken and statements have been made... Internally, we are looking at GDP growth rate of six per cent plus and then if the right actions continue a seven per cent plus trajectory after that.

Q. What's happened in the last couple of years? How do you see this whole period?
A. Has the banking system taken a hit? Yes. Is it a cause for alarm? In my view, no. If you see, most of the restructured loans are actually not the fault of the bankers. That is something we need to fix in the overall system. Do we need power? I think nobody can dispute the fact that we need power. Even if the power plants that have not started functioning import coal they will make money at Rs 5 a unit. At least 25 to 30 per cent of power in the country is still supplied by diesel generating sets, and there is a shortage of power. So these units must be made functional.

It would be very difficult for anybody to imagine that the last mile on roads would not happen.  Or you would have mining issues in terms of what projects have been sanctioned. So I do believe that temporarily we have seen an increase in restructured loans, but these loans are not likely to go bad. And for the sake of the country as a whole we had better fix the problems and the banks' problems will automatically be fixed.  

Q. What's your own exposure to this stressed pace?
A. I would say peanuts. Not worth mentioning.

Q. You're saying at a country level India needs this. You have argued quite well for this. But at the banks' level you're obviously averse (to these sectors) because you have your depositors' money to think about...
A. Yeah...

Q. But how is this going to improve or change fundamental GDP growth, which in turn will affect the longer term future of the banking industry?
A. If you get more power by definition the cost for the industry goes down and you can produce more. If you get the last mile of the road you connected one more village.

Q. If funding is going to be a constraint for infrastructure projects for the reasons you outlined, how then will GDP growth return?
A. But this should be fixed. What is so difficult in fixing inter-departmental issues? You either have environmental clearance or you don't have environmental clearance. What is the problem with mining? The whole world carries out mining. So there must be a proper way to do mining. Our hope is that these issues and impediments which should not have come up at all will be fixed.

HDFC Bank MD Aditya Puri
Q. Let me ask the question differently. The country needs infrastructure but the people who are getting into this space perhaps do not have the experience, which is why you are not giving them the loans. There are banks like yours which have the ability to assess good quality loans or good quality founders or promoters and yet the mix is obviously not the right one....
A. The point is that if you get the right regulatory environment, funding is the least of the problems. The problem is getting the right regulatory environment where the bank has visibility on when the project will become operational and generate cash flows to repay the loan. I was in Goa the other day, and there was iron ore being imported into Goa by one company.  Now this is not a situation that can continue. Yes, there have been some people who misused it, but for Christ's sake you can't stop all mining in Goa. Some 25 per cent of Goa's population depends on that. The barges are laid up, the light commercial vehicles are laid up, and when all these things are laid up the banks are also laid up, you know they are also in the ICU (intensive care unit).

Q. And the government is working out packages for the banks.
A. Exactly. Rather than that, fix the issue, and the banks will automatically come out of the ICU. So all we are saying is that we are not unique in the world, everybody has environmental issues and yet they create power.   

Q. But the bottom line question is: what is the systemic issue that needs to be addressed, so that the banking sector can be safer?
A. I think firstly the banking sector in India is very safe.  

Q. Safer, I said safer...
A. Firstly, project approvals. You can't ask for 45 to 50 different approvals and all the time the project is being held hostage. A clear understanding of what is our environmental policy, and a clear understanding on land acquisition are also needed. Fundamentally, business should not be subject to uncertainty. If you don't have certainty, money runs away.

Q. Let us look at the retail and consumer side. The consumer has continued to consume in these three years. What explains that?
A. You are absolutely right when you say that despite the GDP slowdown the consumption dynamic has maintained itself. The data on GDP is the investment - if the investment comes in there is no reason why we should not grow at seven per cent plus. If you look on the consumption side, we are more like a developed economy, in that our GDP is almost 58 per cent consumption. So we are still growing at five per cent and we are also having a situation where a large section of the rural population is being uplifted. A combination of these two has kept the consumption dynamic going. But if you wanted to carry on incrementally you wil have to get the investment.

Q. And interest rates, you have been arguing for lower interest rates but the RBI is holding on citing inflation as a key concern.
A. See, this is a very tough one. Obviously, you need to balance inflation and growth. And initially if you don't control inflation you have an issue. I have been saying inflation has to be controlled first. But obviously each medicine has a time line so if an antibiotic does not work you have to change it.

Today, it is a classic scenario where you have declining industrial production, you have declining top line inflation, you have declining core inflation, you have high consumer inflation no doubt, which  is a supply side issue, and you have some shortage of money supply. In this situation, dynamic growth seems to get a little heavier. 

And that is what we are saying, our recommendation is a tough one, it is for the Reserve Bank to decide but we would like to see maybe a 50 basis point cut in the repo rate and a 75 to 100 basis point cut in cash reserve ratio. It would not only change the sentiment, it will bring down interest rates, and will give a fillip to consumer demand.

Q. We have a Budget coming up. What is it that the government should do which can address the situation?
A. I think the finance minister has been specifying reasonably clearly that the fiscal deficit must be brought under control. I think he has made a very clear statement that fiscal deficit will not exceed 5.3 per cent.

The government is also taking action to ensure that whereas we do not do away with subsidy, it reaches the right people. So if we control the deficit, if we have a national investment board so that if there is a project it is looked at systematically to see what needs to be done to get it going (things will improve). This is not rocket science. I think if we can achieve this you will see a downtrend.

The Reserve Bank has also been saying, 'Control your fiscal deficit and I will have more leeway on monetary policy'. What we also have to understand is nobody denies that financial inclusion is a political, economical and social necessity. But for Christ's sake get the money to the right people. If you can't there may be a fair idea to say hold on, and globally if you look at Greece, if you look at Spain anywhere you can't deal with poverty or the underprivileged on government borrowing .

Q. Most people are impressed with HDFC Bank's ability to keep its non-performing assets low and growth high. What is your formula?
A. The formula is quite simple. We defined our target market and since demand exceeds supply in this country we have not felt the need to either go down the risk ladder or reduce our pricing and our margin to take care of defaults. So as long as you have a clear target market, as long as you test that target market you establish the probability of default and you carry on monitoring it. There is no reason why our default rate should go much higher than what is predicted.

Q. Why is it that in some areas there seems to be a surfeit of banks offering services?  And despite that you say there is more demand.
A. I am talking about total demand in the country. The fact of the matter is 60 to 70 per cent of your people still live in semi-urban and rural areas. When we did our study of semi-urban and rural areas we found that it is almost a virgin market. Just to amplify on that, how many banks are doing two-wheeler loans? Loans against jewellery, credit cards in the interior, personal loans in the interior, loans to small shopkeepers, kisan gold cards, crop loans ... it is a phenomenal opportunity that exists. To access it, you have to change your system and you have to have an understanding of the different operational procedures required. But we have been doing this for about four years now, and our growth there is absolutely phenomenal. Our experience has been good. So, we are establishing a rural brand which we think will be second to none. As you get more and more infrastructure going there we will have an increase in their affluence.

Q. You have talked about a million people being brought above the poverty line thanks to HDFC's lending to those sections. I think you set a target of 10 million for the next three years. Is this something you are doing because of compulsion or is it because of the business opportunity?
A. I would not really describe it as a business opportunity. In the long run I think it will be a business opportunity. There is no compulsion either. What we do believe is that if you want to be in this country you do owe an obligation to society. When we say we are lending, it is not just lending. We provide holistic service to the customer, we help him with his market linkages, we help him with his training, we help him with his administration, we help him sourcing with his material. So these are the people we create sustainable livelihoods for. We make them viable and that is the most important. Because just giving them a loan does not help and just giving them subsidy does not help.

Q. This is also a departure from HDFC Bank was a few years ago.
A. HDFC Bank, a few years ago, was a small bank, (laughs) with not that much influence on society. That is one aspect. This is right at the bottom of the pyramid. Then we go to the next level, where a large proportion of the lower middle class actually buys gold and it goes to a pawn broker that is the end of his gold. So we provide loans against gold at a very reasonable rate, we put his gold in an envelope and he comes back and gets his gold. So that is where we are substituting the moneylender. We have gone into the interiors. A small shop keeper can't get a loan, but if he comes to us he can. Everything other than the sustainable livelihood is a business.

Sustainable livelihood in 10 years will become a very valuable business. Then we will be making money. At this point in time we are taking major losses. We think this is something all of us in the bank get a lot of satisfaction from. The board is committed I am personally committed. My daughter one day said I know you are a good banker. You are make some money but what you are really doing is for the country and I said look if she can have so much awareness, I'd better have a little more.

Q. At the Vibrant Gujarat summit, you talked about having an HDFC Bank branch every at every eight kilometers. You also talked about electricity penetration and road penetration. To what extent is the banking sector's growth dependent on external factors?
A. That is a great question, right up my aisle. The fact of the matter is the banks follow the real economy. So when you have a road or you have power going into a village, you change that village. The village resident is now in touch with the rest of the world. He can sell his milk, he can sell his vegetables, he can have electricity, he can be educated. So if you look at it, if we go and put money into infrastructure, and there is viability to the projects which there will be because the demand is there, the banks are going to be booming for the next 50 years here. Because you are creating viability you are creating more affluence, you are creating a need, and it will have an effect on your GDP.

Q. Could things change in the next six months to a year?
A. I think so. I think things can change with the right Budget.

Q. Do you think the banking system today is being forced to be more cautious than necessary?
A. I don't think the banking system is being more cautious. You know there is an old English saying once bitten twice shy. So, if you don't have raw material, we won't finance you. (laughs). And if you don't give us your last mile then it will be foolhardy for the bank to go on financing that road project. I do not think we are more conservative than necessary. We need to see visibility if we have to lend.

Q. But the central bank is also asking you to increase your risk weightage.
A. That is a completely different thing. I had written on that, basically, the Reserve Bank's prescriptions for risk weights and capital under the Basel III norms are tighter than the international standards. Given that we did not have a problem related to sub-prime assets and derivatives and market risk I would say we should be lower than Basel III. If you raise your risk weight, if you raise your capital requirement, then what happens is that the return of equity for the bank goes down. We must understand in India that as long as the fiscal deficit is there, it is going to take a little longer for the debt market to develop.

We don't have a developed venture capital. We have limitations on how much foreign money can come in. So the banking system is going to be the main intermediary of funds, whether it is to fund infrastructure, whether it is for financial inclusion, whether it's working capital, it's a hell of a lot of money that the banks require. For that they need to raise capital. I am saying all we need to examine if we need to raise the capital. Let us not bring the return on equity down for the banks because then they will have difficulties.

Q. Last question, do you think Indian banks need to be given more freedom to bring in more products particularly of the exotic variety?
A. (Laughs) I don't think banks in India are constrained in terms of bringing in products. What happens is that when the going is good every customer understands the exotic product. When he starts to lose money, he thinks the banks have misled him. So I think banks would be well advised not to be too exotic, to follow the real economy and meet the needs of the customer. I think the exotic product phase is over. One of the more prominent people in this country asked me you know, why do banks mislead,  and I said , my friend, if the whole banking system is offering you five per cent return and a product is offering 15 per cent and you take it, I would say that your greed has something to do with it  as  well.

Q. That's a very apt way to an end today. I think greed is the most important aspect the banking system needs to look at and factor in while it gives out loans and of course keep depositors' money safe.
A. By and large, we are all right. Indian bankers have been good, safe and underpaid. (Laughs)

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