RBI Governor Raghuram Rajan on Aadhaar, Payments Banks, Over-Invoicing, Spectrum Auctions & More

The RBI Governor Raghuram Rajan batted for Aadhaar in his speech at the CK Prahlad Memorial Lecture last Friday, saying that in 2009 (he wasn’t the RBI Governor then) and Prahlad, along with Abhijit Banerjee, had written to the then Prime Minister Manmohan Singh, “advocating, among other steps, accelerated efforts to bring out a unique ID in India. Perhaps, therefore, we all had a small role in the Prime Minister setting up the Unique ID Authority, headed by Nandan Nilekani.”

Rajan believes that the UIDAI is taking India towards a universal unique identity, and believes that “it would be sad if its use were severely restricted. Other countries like the United States have used unique IDs, such as social security numbers, without serious allegations of violations of privacy.”

In doing so, Rajan chose to ignore the criticism of the Aadhar project by a Parliamentary Standing Committee, under the Chairmanship of the BJP’s Yashwant Sinha, and the fact that the United Kingdom had shelved its Unique Identity project following privacy concerns.

Rajan said that India needs to see how it can satisfy the concerns of the Supreme Court without undermining the value of the unique ID, given the economic benefit, particularly, for the bottom of the pyramid. “For instance,” he said, “not only can UIDs expand the access of the poor and young to credit as they borrow against the collateral of their future good name, it will also allow the regulator to detect and curb over-lending to individuals by asking lenders to report the IDs of borrowers to credit bureaus. Today, unscrupulous lenders can avoid current regulations against over-lending by simply misreporting the borrower’s name or address. Similarly, the Government has used UIDs to weed out duplicate beneficiaries for various welfare schemes, allowing better targeting of scarce funds to the very poor. I think C.K. (Prahlad) would want us to find a way to move forward with UIDs.”

On Regulators and the payments ecosystem

– Need more competition in payments and banking: “In order to get sustained growth, we need more competition, especially from new entrants who are in a better position to reach hitherto excluded parts of our economy. After a decade of no new entry, we will see two new private banks this year, and a large number of payment banks and small finance banks next year. Licensing is likely to go on tap.”
– Incumbent (banks) have been complaining about unfair competition:“Incumbents have expressed fears about unfair competition. Competition is only unfair if it is not on the same playing field. In fact, new entrants have no privileges that incumbents do not already enjoy. We hope, though, that the new entrants will find innovative ways of giving customers better services at lower prices, thus shaking up and changing the banking sector for the better.
– Regulators will be conservative: “It is good we are that way else there would be no speed breakers in the economy to slow its propensity to get into trouble. But we also should not stand in the way of innovation. There is a Chinese saying: ‘Cross the river by feeling the stones’. We have tried to follow that path of experimentation and incremental liberalization.” “…for example, as increasingly innovative new services want their customers to have the ability to make payments quickly, we have allowed small value card payments without two-factor authentication.”

Note that a far too conservative approach can have a disastrous impact on businesses in the Internet age. It is because the RBI has been far too conservative in opening up to mobile payments that a number of mobile payment companies funded in 2008 did not take off. Where is MChek today? It was hypocritical of the RBI to be ultra conservative, and simultaneously complain about the lack of growth in Mobile banking, as it did in 2009.

On Over-invoicing by promoters

In is speech Rajan mentioned the issue of over-invoicing and siphoning money out of businesses – considered to be an issue with some e-commerce companies in India – but only in the context of debt restructuring. He said “One gentleman accosted me the other day and asked why, when he was paying his debt regularly, his competitor who had siphoned money out of the firm through over-invoicing was getting his debt written down because it was unpayable. The reality is that firms have got into trouble for a variety of reasons, only one of which is over-invoicing. Wherever possible, of course, promoters should share fully in the costs of restructuring. But the restructuring process is not meant to deal with criminality. Siphoning money out of a business is a crime against lenders and investors, and should be dealt with as such by the investigative authorities. However, the original sin of over-invoicing should not be a reason to keep idle a spanking new plant and to let its workers go.”

Jan Dhan Yojana: need to improve functioning of credit information bureaus

“The Prime Minister’s Jan Dhan Yojana has created accounts for much of the excluded population. Government has taken the next step of attaching a variety of financial services such as accident and life insurance to these accounts, and sending Direct Benefits such as scholarships, pensions, and subsidies to these accounts. We also have to ease access to bank accounts through Business Correspondents, payment banks, and point-of-sales machines so that they are used frequently. Easy payments, access to cash-in and cash-out facilities, and widespread availability of safe savings instruments have to be our next objectives in the financial inclusion of households.
We also need to ease lending to small producers, whether they are farmers, Self Help Groups, or businesses. For this, we need to improve the structure and working of credit information bureaus, collateral registries, and debt recovery tribunals – ironically, credit flows easily only when the lender is persuaded that he will get his money back, so easier access to credit necessitates harsher consequences of default.”

Clean-up in allocation of resources (including spectrum)

“Newcomers and outsiders rely, not on relationships to get things done, but on arm’s length auctions and contracts, enforced quickly by an impartial bureaucracy and judiciary. The clean-up that is taking place in methods of allocating resources like mines and spectrum, and the attempts to improve the speed of bureaucratic and judicial decision making are all much needed to increase participation, though much more has to be done over time. Any reforms have to be institutionalized, so that they outlive the reformer’s passing.”

Streamlining RBI Regulations by year end

“More generally, we would like to improve regulation by focusing on what is absolutely necessary to create a sound business environment – focusing on enabling regulation rather than paternalistic regulation – while increasing enforcement of what is on the books. We will trust but we will also verify. To this end we are streamlining all our regulations by the end of the year into new Master Documents which will be placed on the Internet and updated on a real time basis, so that any regulated entity can know quickly the gamut of what is required when undertaking an action.”

Digital Mapping and Land Records will help usage of land as collateral

Perhaps the most important source of collateral value is land. We need better digital mapping and clean records of land ownership across the country so that land can be used more effectively as collateral.

Charter of consumer rights

“RBI has developed a Charter of Consumer Rights following public consultation. Bank boards have been asked to put in place frameworks that ensure those rights are protected. After those frameworks have been in operation for some time, RBI will take a view on best practices, and regulation, if any is needed. In the meantime, field visits by RBI, to check mis-selling as well as the proper functioning of bank infrastructure such as branches and ATMs, will be expanded.”

Bankruptcy Code is needed

“Failure is inevitable in a free enterprise system. An effective resolution system is needed to preserve residual enterprise value after financial failure. Two critical elements are the speed of resolution and the predictability of how losses are shared amongst contracts. For instance, few outsiders will want to lend if they believe they will be subordinated to promoter interests in bad times. So we need a speedy bankruptcy code to resolve distress while maintaining the priority structure of claims, and I am glad the Finance Ministry intends to bring one in soon. The bankruptcy code will give creditors more ability to resolve distress, and help strengthen the corporate bond market, which is so essential to infrastructure financing.”

On countries deciding core-competencies of nations

“These are some of the ways I think we can position the financial system towards sustainable growth. Before I end, let me try to answer one last question. In the same way as firms have core competencies, do countries have core competencies?

Perhaps they do. But it is very hard for public authorities to determine what they are in the face of massive lobbying and disinformation from interested parties. If we say we want to focus on national core competencies, every industry will be out to show why it thoroughly fits the bill – in the same way as every industry today wants to tell us why they especially deserve special tax benefits or interest subventions. Remember, the License Permit Raj persisted precisely because some industries were favoured over others in the so-called national interest. So even if nations have core competencies, it will be very hard to determine what they are, and very easy to succumb to vested interests in supporting the wrong ones. Better to focus on creating an enabling environment, and let the core competencies emerge from the fillip given by the environment – much as the IT sector emerged as a result of the investment the country made in technical education, but without specific encouragement by the government.”

On Jugaad

“Jugaad or “working around” difficulties by hook or by crook is a thoroughly Indian way of coping but it is predicated on a difficult or impossible business environment. And it encourages an attitude of short cuts and evasions, none of which help final product quality or sustainable economic growth. While we should respect the entrepreneurial abilities of our business people in difficult environments, it is better for us to change the environment for the better. That is indeed what we are trying to do.”

Lesson from Brazil: need growth to be sustainable

Rajan said that Industrial economies are struggling, and India appears to be “an island of relative calm in an ocean of turmoil”, with other BRICS having deep problems. He suggested that Brazil has a lesson to offer:

“Only a few years ago, the world was applauding the country’s thriving democracy, its robust economic growth, and the enormous strides it was making in reducing inequality. It grew at 7.6 percent in 2010, and had discovered huge oil reserves which the then President Lula likened to “winning a lottery ticket”. Yet the country is expected to shrink by 3 percent this year, and its debt just got downgraded to junk. What went wrong? Paradoxical as it may seem, Brazil tried to grow too fast. The 7.6 percent growth came on the back of substantial stimulus after the global financial crisis. In an attempt to keep growth high, the New York Times says the central bank was pressed to reduce interest rates, fuelling a credit spree that overburdened customers are now struggling to repay. Further, Brazil’s government funded development bank hugely increased subsidized loans to corporations. Certain industries were favored with tax breaks while price controls were imposed on gasoline and electricity, causing huge losses in public sector firms. Petrobras, the national oil company, which was supposed to make enormous investments in oil drilling, instead became embroiled in a corruption scandal. Even as government pensions burned an ever larger hole, budget deficits expanded, and the political consensus to narrow them has become elusive.”

The lesson to be learned from Brazil, Rajan said, is that “Growth has to be obtained in the right way. It is possible to grow too fast with substantial stimulus, as we did in 2010 and 2011, only to pay the price in higher inflation, higher deficits, and lower growth in 2013 and 2014. Of course, India is not in the same situation today. But with the world being an inhospitable place, we have to work hard to strengthen our current recovery and put it on a more sustainable footing”…”For the RBI, the key tasks are to keep inflation low not just today but well into the future so that we get moderate nominal interest rates that satisfy not just the vocal borrowers but also the silent savers. We also need to clean up the banking system of distressed assets so that it is in a position to fund growth again.”