In an interview with Outlook Business, CII president and Kotak Mahindra Bank MD Uday Kotak discusses the need of the hour

Published a month ago on Jun 10, 2020 Read

Even before the pandemic shook the economy and markets, this India Inc leader had predicted that the financial services sector was going through a catharsis; that digital was redefining the industry in significant ways. His bank was one of the first ones to adopt and improvise on the ‘phygital’ model. Now, with the COVID-19 disruption, the transformation has taken on a whole new meaning. How will the economy emerge from this major setback?  

With COVID-19, how do you see India’s medium to long-term growth panning out?
One of the biggest economic challenges is distribution right now. There is no clarity on how this will play out and how it will affect different economic agents. Individuals and businesses have to redefine the terms of future business model. Then the government has to figure out the kind of shock it can absorb. In February, the combined fiscal deficit of the Centre and states was 6.5%. Now, with the stimulus package announced, that has increased to 11-12% of GDP; that is 5% more loss for the government. Eventually, every economic agent is taking some pain — the government, the businesses and the individual. The residual pain will be taken by the financial sector, especially where public sector banks are concerned. Meanwhile, the financial sector will have to find ways of getting risk capital outside the PSU banks. Without worrying about the price, responsible players should raise risk capital as a shock absorber and wait for an opportunity because not everyone will make it to the other side. 

So, as a banker aren’t you in an enviable position since you have to take only the residual shock?
In normal businesses, leverage ratios are low; whereas banks are high-leveraged institutions. If the total loan book of the banking system is Rs.100 trillion and financial costs and losses make up for 5% of the total, that would be nearly 40% of banking capital. There are gains on bonds mark to market, but we will still need capital to sustain and survive.

During our last interaction, you mentioned we are in the midst of Swachch Bharat Abhiyaan in the financial sector. Now, the situation just got worse. How much fresh NPA do you foresee for the banking sector, especially since MSMEs have become so vulnerable now?
The government’s programme such as collateral-free loans and equity portion for MSMEs is a good step. Moreover, I believe banks will make good use of the Rs.50 trillion liquidity infusion. The bigger vulnerability is unsecured consumer loans, which has not seen any government support. We could see more pressure here and it will demand a higher percentage in the overall books.

Banks were counting on a lot of write-backs because of resolutions, but that looks off the table as of now. So, how do you see earnings of banks pan out for the next two years?
I believe banks will be valued more on the basis of their balance sheets — a trust worthy balance sheet is far more important than earnings. Trust, confidence and transparency are the most important factors for all financial institutions right now. Earnings, in my view, are secondary.

Even before the pandemic struck, government payables stood at more than Rs.5 trillion, which was contributing to a huge liquidity squeeze. There is no talk about putting this amount on the table to ease the system.
The government has taken a few steps in that direction. For instance, it has expedited income tax refunds. Every government ministry is focused on making faster payments and we are seeing a genuine effort. It will certainly get better than what it was, but more needs to be done.

Unlike the previous collapses, this time, the real economy has been affected. It was hurt even before COVID-19. So, what kind of growth will we see in the next two years?
I think the market has a great answer to this question. A few investors and analysts that I interacted with said that they expect FY21 to be a very negative year. So, they are already factoring in what FY22 and FY23 will look like and not penalising companies for FY21. They are beginning to price in a normalisation that will happen next year, which will mean economy will come back. So instead, we should look at what steps we are taking in this year of ‘shock’ to reposition and re-engineer ourselves. At CII, our short-term priority is to protect lives and livelihoods. We need to re-prioritise our objectives and fix the basics. For instance, rebalancing rural and urban opportunities. All our lives, we have seen rural migrants in urban regions looking for jobs and living in horrible conditions to achieve that. But now, we have to reset ourselves as they move back to their homes and question what we are doing to create opportunities in rural India. Somebody staying in a village should also have the chance to work for Google or Microsoft or Jio. That is the reset we need to transform India from scratch.

The market has recovered from the lows seen during Covid and you are now saying that analysts have already started discounting FY22-23 earnings. Does this mean that the market will remain flat for the next three years?
Analysts have started to discount FY22-23 earnings, but that does not mean those earnings are fully in the price.


What kind of macro challenges do you see going forward, especially with the latest Moody’s downgrade?
I think India's external account is very comfortable, and I don’t see a current account deficit this year. I do believe that forex reserves are much better when compared with 2013. If you talk about Moody’s downgrade, a rating is a view. We have seen in the past that rating agencies have no legal liability. It is upto the market, and the lenders and borrowers to figure out whether it holds value in terms of pricing or availability of loans. We are still in the investment grade, but this downgrade can act as a warning. We must understand the rationale and see where we can get better — fiscal deficit and financial stability. We do not have an endless tap like in the US. Therefore, we have our constraints.

Household credit has boosted overall credit growth over the past few years. But, if capex does not recover and the trend moves towards conserving cash, can India go into a deceleration mode?
In our CII note, we have stated that there are four levers of growth — investment, consumption, net exports and government expenditure. So far, disproportionate weightage has been given to government expenditure and consumption. Meanwhile, our investment cycle and exports have been lagging. Thus, the investment cycle needs to kick off for sustainable growth, especially at a time when both supply and demand have collapsed. The big question for policymakers will be which lever to prioritise. If we focus on supply side, we will need demand. If you boost demand and there is no supply, you could see significant inflation. It’s a chicken or egg conundrum.
Right now, it is difficult to predict levels of growth or de-growth, although the chances of negative growth are high. This is not a year of averages — we saw a complete collapse in April, May was better and hopefully, June will be, too. I would look at granular data month on month rather than average growth for the year.

Since so many assets have landed in bankruptcy courts, it might serve companies well to buy assets than invest in new capacity. So, do you think private capex will still revive?
Even if an existing asset becomes a productive asset, it is good for the economy. If a non performing asset can be used, it will contribute to GDP.

What about bad assets piling up for NBFCs. Is this going to be a systemic risk?
NBFCs that have high exposure to unsecured consumer lending or land and real estate must have higher capital buffers or else they will experience pain. Secondly, there are NBFCs that run the risk of significant governance issues; that needs to be addressed urgently. Third, there are many NBFCs that have disproportionately concentrated borrowing from mutual funds. They must have a diversified borrowing base. If they address these three issues, they can prove to be competitive in the market place.

Real estate sector continues to struggle with refinancing. How do you see the sector going from here?
Coming to the real estate sector, I would like to advise developers to not hold on to prices. They should cut their prices and sell. Don’t look at the rearview mirror and say that I bought land at a high price. Look at the windshield in front of you. The reality is you need a clearing price — clear it and get on.

So, would you say we could end this year with a substantial correction in real estate prices?
I cannot give a number because that would be linked to the quality of the asset. Real estate is a very local business, but in general, office space rentals could fall by 25%, rentals for malls could fall 40-50%. Residential prices may see a smaller drop.