There’s no Breather for the New Govt.

ET 20/5/09

Whoever takes charge as the finance minister will have his plate full. Stalled by the left, the outgoing government has an array of pending legislations that must be passed soon.

The financial services sector, the worst-hit by the downturn, has high expectations from the new government. The United Progressive Alliance’s (UPA) near-decisive mandate has improved the prospects of reform.

The market remembers it was the government’s disinvestment in Maruti that sparked off one of the longest bull runs in Indian capital market’s history. In some public sector units (PSUs), particularly banks, disinvestment has improved efficiency and profits.

This time around, it’s widely perceived that the government will spur foreign fund inflows by increasing the foreign direct investment (FDI) limit in insurance to 49% from 26% and also sell shares in PSUs. Public sector savings have turned negative in recent months.

But beyond these big-bang measures, there is a string of policy proposals that has been hanging fire for a long time. Moving ahead with these proposals will clear the roadblocks in the financial sector and keep the growth engine chugging. Some of them are listed below:

Insurance reforms: The increase in FDI is only part of the story. There are a whole lot of legislative changes that the government has drafted. These includes changes to the LIC Act, which will allow the corporation to increase its paid-up capital to Rs 100 crore. There is another amendment that proposes to allow foreign reinsurance companies to set up branches in India. Other amendments are aimed at removing some guidelines from existing laws and giving the regulator more powers to decide on them.

Consolidation of PSBs: P Chidambaram, the former finance minister, had proposed consolidation among public sector banks a few years ago. Unsure of political support, he had asked public sector banks to voluntarily come forward.

Indeed, RBI had even given the go-ahead for a possible merger of two Mumbai-based state-owned banks. Now, with most banks running out of room to raise capital from the market, things will soon come to a head. The committee on financial sector reforms has recommended the merger of smaller banks, having limited ability to raise capital, with stronger banks, having greater headroom to raise capital.

Amendments to Banking Regulation Act: There are several lacunae in the Banking Regulation Act. It places the onus of ensuring that maximum shareholding of single investor in a bank does not cross the stipulated 5% upon the bank (investors are not mandated to consult a bank prior to purchasing its shares). The amended law is expected to address such shortcomings. The amendments will also remove the 10% cap on voting rights of private banks.

Separate public debt office: This is another long-pending proposal. Former RBI deputy governor SS Tarapore had first suggested such an office because of the conflict of interest arising from RBI’s management of public debt as well as interest rates. The proposal was made again by the Vijay Kelkar committee on restructuring the finance ministry.

However, RBI has been opposed to this move. RBI’s outgoing deputy governor Rakesh Mohan has said that with the new legislation on fiscal responsibility, there is no conflict of interest. Also, states are more comfortable in dealing with an independent institution managing their loans rather than an arm of the finance ministry.

Development of microfinance sector & regulation: The Micro Financial Sector (Development and Regulation) Bill, 2007 was introduced in the Lok Sabha in 2007 to create an environment-friendly policy for microfinance services in the country. At present, microfinance activities are carried out by finance companies, non-government organisations and cooperative societies.

Funding these entities will become easier, as they are expected to come under the regulation as per the bill. The draft legislation also envisages the creation of a microfinance ombudsman for settling disputes between eligible clients and microfinance organisations. With most Indians living in the heartland still dependent on unofficial moneylenders, an institutionalised microfinance system will go a long way in financial inclusion. SBI Associates’ merger/amendment: The associate banks of State Bank of India (SBI) live off the brand strength of their parent. They offer the same services and depend on SBI for equity. The merger of the associate banks with the parent was recommended more than 12 years ago by management consultant McKinsey. The reasons for the merger still hold good. While the merger process was initiated, it came to a grinding halt after union protests that were buttressed by Left support. The SBI Act amendment bill has been pending with the Lok Sabha since December 2006.

Pensions bill: Although the New Pension Scheme has been opened to the general public, the government has had to work around the absence of any legislation. The Pensions Fund Regulatory & Development Authority Bill will give the PFRDA the power to give direction to all pension fund managers. The bill could also trigger a turf war between the PFRDA and Irda since it proposes to give the pension fund regulator the mandate to oversee all private pension schemes. This bill has been pending since March 2005.

Mumbai, a financial centre: This was one of the most ambitious reform ideas thrown up in recent times. The creation of a financial centre where multinationals could freely enter was an idea that faced strong opposition even two years ago, when markets were at their peak. RBI opposed it on grounds that financial sector reforms cannot lead real sector reforms. Now, after the Wall Street meltdown, there is absolutely no chance that the core suggestions of the report will be accepted. However, there are still some takeaways from the report, one of them being the launch of trading in interest rate futures. The government has promised this will be a reality soon.

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