Business Today

'Very high interest rates strike a discordant note'

Govindraj Ethiraj        Print Edition: Dec 9, 2012

K.V. Kamath is widely credited with transforming ICICI Bank into a financial powerhouse, servicing the diverse needs of its retail and corporate clientele. In an exclusive interview with Govindraj Ethiraj on the show Bottomline, aired on Headlines Today*, the Chairman of ICICI Bank and Infosys spoke on a range of issues - from the macroeconomic challenges to the problem of crony capitalism - confronting India.
Govindraj Ethiraj: Hello and welcome to Bottomline. I continue meeting business leaders across the country trying to understand what the fundamental problems that ail the Indian economy are, and more importantly, what are the solutions that can help the economy get back on track and what are the opportunities too for Indian businesses. My guest today is ICICI Bank Chairman K. V. Kamath, and we are seated at the ICICI Bank headquarters in Mumbai. Mr. Kamath, thank you very much for joining us on Bottomline. Many of us are trying to interpret the signals emerging from the economy. Sometimes, there are signals of change, a turnaround, growth, but nothing seems to be settling down. We will come to why or what could be causing the problem. If you take a little step back, what do you think led to the combination of factors that we are seeing today - the sense of despondency, the sense of slowdown, the sense of consumption not happening at the pace we expected?

K V Kamath: I think it is a combination of things over the last two years. During this period, we have seen an increasing tendency for India to be impacted by global events. So, I think we need to keep that in context, particularly the events across Europe, and maybe the continued sluggishness in the US, these two things. Nearer home, I think there are a whole lot of issues around what sponsors looked at as their ability to do business, ability to get land, ability to get clearances on the environmental side, mineral rights, airwave rights and so on and so forth. This had an impact on sentiment. So, this created negativity and I must say that, in my 16 years here, this level of negativity is probably the worst I have seen. In 2008, there was some negativity, but in six months it evaporated. I am not seeing that happen, it is now almost 12 to 18 months…the negativity still remains. Then you have a situation where inflation has remained persistently high and you have a situation where interest rates have remained high.

GE: Why should the economic sentiment of the nation be tied to the fortunes of a handful of companies in the mineral resources business?

KVK: That's the interesting part. When you look at psychology, I think it is the mood created by an event. The mood may only be relevant to five per cent of entrepreneurs, but then the mood spreads to everyone else, and importantly there is one constituent here which is suffering, and that is the consumer. Consumer aspirations have not suffered; we will explore this as we go along. Their aspirations have not changed, but what has changed is their ability to afford. The capacity to afford has changed because of interest rates remaining at sustained high levels now for a very long period. So, their EMI payments are under pressure, so they are not making their next purchase and that immediately impacts the remaining 95 per cent of manufacturing companies.

GE: And inflation is eating away income as well…

KVK: I think, on the FMCG side, there might be cost increases…wage increases are just about enough to sustain what's happening there. 

GE: So, what's going to change? You have defined what brought us here. If you were to go back to, let's say, 1996, when you changed ICICI Bank and you were looking at perhaps a similar growth situation, and surely much higher interest rates and surely no horizon on what was going to happen in this country in terms of opportunity. How would you view the two situations differently?

KVK: In 1996, it was very clear that things had to get worse before they would improve. The actual situation on the ground in 1996 was far more difficult than we have today. We had very high inflation, in double digits, interest rates 18 to 20 per cent, NPAs just starting to rise consequent to the opening up, Indian companies not scaled right, purchasing power just not there because we were probably at $300 per capita income. I won't go on and on but it was a completely different set. So, today, when you are looking at business, you actually are in a much better position. At times, you are not able to figure out, you know, how better off am I today as compared to a yardstick that we have used in the past. So, my assessment is that, today we are much better off than in 1996, but at this point in time the psychosis is working on your mind.

GE: So are we then in some ways, betting on the wrong horses? You know, let's say, the entire period around the turn of the century we bet on enterprises and entrepreneurs who did business in a certain way and achieved success in a certain way. It seems to us today, maybe those were not the right kind of entrepreneurs or the right kind of practices. The markets seem to be saying that already.

KVK: It is a very interesting question. I would look at three aspects here. Are entrepreneurs identifying correct projects, are they executing them right, and is there a market out there which can absorb what they produce? Most of our entrepreneurs have shown they can actually execute products at speed and get the product to market also at speed, and unlike in the past, within cost and within time. So, I think that the entrepreneurs and their abilities to do these things is the difference from what the situation was 15 years back. What I think has not changed, is that historically there has always been rent seeking. Even the license raj was a rent seeking raj and at times in some businesses, that has carried over and you can always say that you need two hands to clap, may be that is what is happening and we are now seeing a settling down or better still a shaking out. When a country has grown rapidly the way we have done and there has been entrepreneurial zeal and momentum I think some of these rent seeking things tend to happen. You look at any country, this has happened. If you go back 100 years, it has happened in every single country. What has also happened next is a reckoning, a shake-out of these practices and I would step back and say that's what is happening in India - on various fronts, be it on the spectrum front or the mineral resources front… I think these are the areas where, you know, order is being brought to what was getting a little disorderly and it is for the good of the country and I am sure we will come out much stronger from this.

GE: If you were to look at larger issue of growth and break it down a little bit: it is a bottom-line question, right? Why would I as a consumer or we as a country need these companies dependent on a certain kind of mineral resource to do business, which in turn is causing problems, which in turn is leading to this despondency? May be we don't need them at all.

KVK: You see, that is a very tricky question. It has got two aspects to it. I think we need companies with (a) the ability to marshal the funding required for projects, proven execution capability and thereafter the ability to run the projects. I think, in various contexts, Indian entrepreneurs have been gaining the skills required in this. I would think that Indian entrepreneurs have by and large demonstrated this ability. So, I would still stick to the point that we need a correction in approach on a few things and then we will be back on the proper path.

GE: Many people look to you for direction on this particular issue. You know, if we assume that we don't have, let's say a certain number of companies which mine iron ore, if we don't have companies which mine, let's say coal… How does it really affect the economy, particularly since, we could well find other industries to take up the slack and provide the growth and the job creation that we need?

KVK: No, I think these are some basic things. You need power, you need to generate power, so you need the coal…

GE: But that's assuming we will use the coal route to generate power and not any other route…  

KVK: Well, there is very little option at this point in time…

GE: Fair enough.

K.V. Kamath: Let us see what happens if interest rates are reduced
K.V. Kamath: Let us see what happens if interest rates are reduced
KVK: And we are sitting on large reserves of coal and you had a model, which was basically that the government was producing coal or extracting coal. So, now you want to experiment by giving it to the private sector. Hopefully, the logic is that it will be more efficient, the companies are the end users of that coal and so on and so forth. You may find that in the process of this change, there have been be some steps that are now being brought into question. I think we should address these and move along rather than not do it at all because for me that would be going back several steps. That shouldn't be. You go to mining of iron ore. Steel is a basic industry and we are sitting on iron ore reserves. And the other thing is that we are growing to be what China is today and that too not too far in the distant future. In five to eight years, we will be where China is today. So, we will have to produce steel, if we are not going to be dependent on global sources and have distortions in pricing.

GE: Again, it is a bottom line question to help our viewers understand. IT and banking, the two worlds you are involved with, were not industries that were considered growth drivers as such even a decade ago.

Yes, I think there was a misconception a decade ago that except manufacturing, nothing is an employment generator, capable of absorbing the large masses of people who will need to find employment. I think, what is now proven is there are number of service sector industries, whether it is the knowledge industry, whether it is banking, media, retail, entertainment, travel, tourism…I can go on and on, which are going to be the employers of the future. They will employ a large number of what can be perceived as white collar workers. More important, for every job created in these industries, three to four other linkage jobs are created. So, the overall employment potential becomes very huge. If we take that across these industries a million jobs are created, you can expect another three to four million jobs created through the linkages. You suddenly have 4 million or 5 million jobs created. So to me, it is extremely important that we keep that engine going, this growth going, because if we don't, you will have other consequences which you will have to handle - the social consequences of not creating jobs for a mass of 10 million people coming into the job market every year.     

GE: We spoke about what could have led to the situations that we are seeing today. I think we have looked at the combination of all factors there. What is going right for us? What are the things that are ideal and are right for robust economic growth?

KVK: I think what is going right are the steps we took or put in place, may be going back 10 to 12 years. I think the road projects that were started then have become the backbone of the country. Thereafter, a whole lot of infrastructure development in power, in network of roads in rural India, all those things have become the new drivers. That's what has kept us going. Thereafter, I think it is the efficiency that Indian business has built into day to day working which is keeping us going. Scale has been built up, costs have been cut down, quality has been improved, and new products have been introduced. The third aspect is rural India is alive and ticking. Rural India is no longer equal to monsoon equal to agriculture. Indeed, agriculture is important, but it is equal to agriculture equal to agri value added, it is equal to the rural ecosystem which is driving. Finally and most importantly, the dividend of a young India where you have a large mass of people coming into the consuming class every year and as long they are employed, they will have aspirations. Certain things are now discordant in this - very high interest rates strike a discordant note and impair the ability of a person to afford. Aspiration is there but affordability is cut and there are certain distortions that we discussed earlier which are impacting the drive to set up these businesses. So, there is fundamental demand that is driven by the set of things I explained with a few discordant notes that have come in because of various things. Now, the issue is: when will one overcome the other?

GE: What are the areas that people should look at? You outlined the good factors - you talked about the rural consumption, you talked about the fact that there is still a sense of aspiration, there is a sense of entrepreneurship. What is that people should look at, the positive preconditions?

KVK: You see, I have gone through at least two cycles. It is nothing that an individual entrepreneur or a sponsor looks at that will change his own mind or the mind of the system. It has to be a momentum change that happens and typically these happen with triggers. So, we need triggers. Slowly, I think I am seeing some of the triggers. We must see whether we are able to act on those. To me, what is happening in the West is a trigger - things are improving in Europe, things are improving in the US, regulators are taking a tough stand. These are triggers. We are seeing action. What we are seeing is a combination of various government agencies including the courts. I think that is true democracy. You have all these engines of government, all these constitutional checks and balances. I think this changes the momentum very quickly.

GE: Right. So, you know the whole question of crony capitalism - the linkages between business, politics, politicians, and so on. Have we reached, let's say a kind of saturation in that things can only improve or is it something that will always hang?

KVK: Again, I think, we need to look at history here. We always ran a license raj and that gave this sort of opportunity in a much larger context than happened once we freed it. Today, you are seeing the same thing happening in the context of allocation of certain, resources with the government and we are also seeing checks and balances that we have in our system coming to the fore and I think we should allow these checks and balances to happen and settle these issues on their own. Frankly, if you ask me they have already happened. I don't think anyone today wants to mess with the system knowing the consequences. You will not put in your own money, I don't think lenders will give you money. So, these act as checks and balances once this has happened. And, you have now been shown something which you never were shown before that you could be made to pay for your actions after five years, after 10 years and things could be changed and you could be in serious problems. As a result, I think stock taking is now significantly, I would say concentrated, in the sense that 'Am I doing right?' That has started to happen.

GE: So, in a way we are entering a new paradigm of doing business?

KVK: Clearly. If large numbers of companies have had their spectrum revoked, a large number of companies have got their coal allocations revoked and if that is not a message to Corporate India…I don't think we need anything more than that.

GE: So, let me come to the issue of interest rates and you have been making a very strong case for lowering of interest rates, probably talking about a 100 basis points cut. Is that feasible? Even if it happens, will it actually do what we intended to do?

KVK: For a long period of time, I have refrained from talking on interest rates because I was saying and I still believe it is clearly a policy tool and as a banker I should not be commenting on this. Having said that, what is different this time around is that we have tried the medicine for a very long period of time and it seems to have no impact on the situation. You see, there are certain changes happening which we need to understand and that's why I am suggesting that let us see what happens if interest rates are dropped. Does it actually get inflation up? We always have the option to hike the interest rates again, because, we are managing the financial sector so well, we have the ability to very quickly correct it, if it appears to get out of hand. It is not going to get out of hand. Secondly, classical ways in which we deal with the exchange rate are also not working. By allowing FDI of all kinds to come in, you have ECB coming in, exports become robust…today, as I see it the major influence on exchange rates are capital market flows…FII flows into the capital market on which you have no control. On a single day you can have 75 paise or a one rupee movement, on which you have no control. You see the volatility in the last six to eight months in the currency market consequent to the market going down. So to me the market itself is not important but what the market can do to you is significantly important and we have to take notice. And how will the market finally actually improve? The market will only improve based on performance or the perception of the market players that performance is now headed for the positive side. Now, we need to do everything possible to help that. That is why I have been saying that the agenda is not only interest rates. There is a larger agenda of what I call, clarifications that are required without attempting too many basic policy reforms. We need to do attend to those and then get investment cycle going again. That I believe should give the market a fillip which will then allow you to set right your exchange rate, and then of course interest rates hopefully gets set right and inflation comes under control. 

GE: At one time, you were responsible for driving a retail revolution in banking. Can banks play a similar role today in changing the sentiment when it comes to investors, depositors, savers?

I think the banks are playing the role to the extent that they can. How do you play these roles? You extend reach, you extend attractive rates of interest, you maintain service levels at very high standards and so on and I think that continues to be done…access points, touch points…you are available…but still savings remain a defensive product …what else can be done? Are you driving the retail revolution? I think banks are driving it, gearing up and there are a larger number of players coming into the field all the time but if the aspirant cannot afford to buy you have a challenge. That's why I am saying interest rates need to be addressed. As far as corporate India is concerned, it is not so much the interest rate. Interest rate is an issue but it is the clarifications required, mindset issues to be settled which need to be done. I think, these need to be addressed. I have been saying that Mr. Chidambaram is the right person to set a large number of these issues in order and he could probably do that.

GE: And what kind of time frame? When could things start looking around?

If you look at the last 15 days to a month, the capital market in India is running contrary to signals, is running contrary to what we read in the media, is running contrary to the mood of entrepreneurs I have personally talked to, is running contrary to even, you know, the fulfillment of aspirations of the common man of India. But, I have seen that the markets always read right. So, the market is clearly listening to something which we are as yet not getting a feedback on. So, my way of looking at it is - why not also take those signals and do whatever we can to accelerate the change that is required in terms of the growth of the economy.

GE: Mr.Kamath, we have run out of time. Thanks for speaking to us today.

Thank you.     

*Business Today and Headlines Today are part of the India Today Group

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