...the economic model

If India can, why can't we?

Business Option

By BENEL P. LAGUA

February 16, 2011

Manila Bulletin

MANILA, Philippines – India is growing fast and has been able to position itself as the world’s second fastest growing economy with a GDP growth rate trend of 4.4% from 1990-2000 to more than 9% from 2006 to 2008. With the financial crisis, India’s growth rate slowed down to 6.7% in 2009 but, rebounded fast at 7.4% in 2010. Growth is expected to further climb between 8% and 9% in the next two years.


In a Tokyo conference jointly organized by the Asian Development Bank Institute, the Financial Services Agency and Keio University, India’s state of financial sector and regulatory framework was one of those reviewed. A paper prepared by Prof. Abjihit Sen Gupta provided a comprehensive treatment of how the transformation of the regulatory framework in India allowed its growth record to be achieved.


Prudence and to some extent, conservativeness, spared India of any major pain during and immediately after the crisis. Regulation was in the direction of liberalization, moving from rigid controls to a more market-governed system, though in a gradualist and calibrated approach. Prof. Gupta’s exposition showed that regulatory response was flexible and timely to produce the desired outcomes. The India case also demonstrated that policy response need not follow conventional thinking.


India was only mildly affected by the global crisis which swept many economies including the already developed ones. It is also worth noting that India’s financial sector is largely domestically owned, with nearly 70 percent of the assets owned by the public sector banks.


The Reserve Bank of India, the country’s central bank, set a regulatory environment that helped contain the negative impact of the crisis through proper, prudential steps. Among the measures it has taken are the imposition of high Cash Reserve Ratio and Statutory Liquidity Ratio requirements; a minimum Capital Adequacy Ratio (CAR) that is higher than the Basel II norm and higher CAR for non-bank financial companies; adoption of prudential measures in respect to exposure to certain sectors; and other measures related to credit conversion, risk weights, and loan loss provisioning. All these things served India well as the crisis struck the world in 2008 and despite the inevitable effects global inter-relatedness.


The 70% share of the public sector in total assets of the domestically-dominated Indian banking system is quite impressive. Theorists discrediting the public choice postulate argue that state ownership are only used as a means of protecting certain interests that relate to power and public office, instead of exercising their powers to finance projects with high social yields. Further, because of their developmental lending objectives, public banks are thought to sacrifice their efficiency and productivity.


While public banks in many economies failed to produce their intended benefits, the India case seem to prove otherwise. Its banking structure even provided a shield against the impact of the crisis and served as a blessing in disguise for the economy, having lesser dependence on foreign sources. How India was able to make this kind of financial institution structure work provides lessons that should be useful to our economy.

The Philippines is arguably in an advanced state since our public institutions are relatively small, yet the lesson is that we should not fall into the trap of pursuing privatization for its own sake. Public financial institutions can be made to work, and operate efficiently and productivity within their mandates.


Another intervention raised in the Gupta paper which caught my attention as an SME finance practitioner is the 2% interest subvention for the Indian small enterprise sector. The positive results of such intervention should encourage the enhancement, for instance, of credit guarantee programs for SMEs. It is important to learn form India’s case in terms of the major government support given to such finance and refinance facilities.


Related to this is the priority sector lending program by banks where targets as are set as a percentage of net bank credits for the small scale industries and small businesses. This is comparable with our own mandatory lending under the Magna Carta for MSME (RA 9501) which until now has not produced significant positive results given the constraints posed by our regulatory environment. The Philippines is already on the right track, having a law that could address the obstacles faced by sector with potentially significant economic contributions. What is lacking is a strong will of stakeholders and regulators to make this work effectively.

The regulatory structure and its rules will need radical review, restructuring and enhancements.


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(Mr. Benel P. Lagua is the President/COO of the Small Business Corporation. He is likewise an active member of FINEX. Feedback and comments are welcome at benellagua@alumni.ksg.harvard.edu