Five years ago, India came up with a legal answer to its perennial economic challenge of rescuing the money stuck in zombie firms. Unlike China, which has the cushion of high savings, India’s inefficient use of limited domestic capital has meant a chronic inability to put its swelling ranks of youth to work. After toying with the idea for more than a decade, the solution New Delhi hit upon was a modern bankruptcy code.
The numbers have been a mixed bag. According to an analysis by REDD Intelligence, of the 4,300-plus stressed debtors that have been taken through the 2016 corporate insolvency law, 48% were liquidated, half of them under 314 days. Of the 13% that got sold to bidders, half exited bankruptcy in less than 425 days. These, as the REDD researchers note, aren’t bad outcomes, considering that wait times previously were five-years-plus.
However, if the insolvency law did indeed lead to timely extraction of meaningful sums, one should also see redeployment of credit in new ventures. The evidence on this front is weak. At 6%, loan growth is anemic. Companies don’t want to borrow even at negative real interest rates; corporate leverage is at an all-time low of 0.46 times equity, according to the Boston Consulting Group.
Incomplete bankruptcy reform isn’t the only reason Indian banks aren’t lending more to new firms, choosing instead to finance unsecured personal credit, which doesn’t create many more new jobs. Over the past year, it could be seen as a confidence issue. As a deadly second bout of the pandemic recedes, firms probably need assurance that the economy won’t be hit by lockdowns again. That would require a far greater proportion of the population to be fully vaccinated than the less than 5% at present.
Yet the bankruptcy code doesn’t deserve the full benefit of the doubt. Its biggest failing is its institutional infirmity. Leaving aside a few big-ticket sales, mostly of steelmakers such as Essar Steel India Ltd., the recovery rate for creditors has been just 24%, according to Macquarie. While India is perhaps able to extricate capital faster than before, it still can’t get much out of dead firms.
Even the insolvency tribunal is surprised that metals magnate Anil Agarwal is “paying almost nothing” to wrest control of Videocon Industries Ltd., after creditors accepted just 4 cents on the dollar for their 648 billion rupee ($8.7 billion) exposure to the consumer-appliance maker and its 12 group companies. Bankers to Siva Industries and Holdings Ltd. approved a one-time settlement with the controlling shareholder of the investing firm, taking a 93.5% hit on their outstanding claims of $650 million. In the case of Ruchi Soya Industries Ltd., lenders first agreed to a harsh haircut. Then they gave money to Yoga guru Baba Ramdev’s Patanjali Ayurved Ltd. to take over the bankrupt edible-oil maker.
The low recovery rate isn’t doing any favors to India’s state-run banks, which hold most of the soured loans. Several of them will now own a stake in Jet Airways India Ltd., which last flew more than two years ago. The airline’s landing slots at airports have been given to other carriers, and the pandemic has ravaged the economics of aviation. All this drama to recoup 5% of loans when creditors had only to oust Naresh Goyal, the founder of what was once India’s dominant airline, in time. They didn’t. Even now, Vodafone Group Plc’s India joint venture is struggling to stay afloat because of extractive government demands, but bankers aren’t doing much to protect their exposure to the debt-laden telecom operator.
Political constraints have never allowed India’s public institutions to save capitalism from powerful capitalists, something that a tough bankruptcy law was supposed to change. It hasn’t. So employees and vendors suffer, as do taxpayers who fill state-run banks’ capital hole. For nine years, Punjab National Bank, the second-largest of them by assets, has only fleetingly traded above its book value, a reflection of what investors make of the asset quality of public-sector lenders.
In hindsight, giving poorly governed state-run banks the power over assets was a bad idea. A U.S.-style debtor-in-possession bankruptcy may have been far more suitable to India’s on-the-ground reality. Abusing productive capital to benefit a small, politically connected capitalist class has exacerbated unfairness, and loaded the dice against workers in a labor-surplus country.
As Observatory Group analyst Ananth Narayan notes, India’s employment-to-population ratio, which was a steady 55% in 2005, has fallen to 43%. Bangladesh and Vietnam have fared better. Not all of the blame for inhibited employment can be laid on the doorstop of a flawed bankruptcy law. By ignoring low-skill textile and shoe manufacturing and overemphasizing high-skill software, India has scored an own goal.
Still, the large-scale gaming of insolvency resolution has cost India. Even before the pandemic, the financial system was creaking, Now, it’s just being kept in a holding pattern. Banks have the assurance of government guarantees on loans to pandemic-hit small businesses. The interest they need to pay savers is also being kept artificially depressed by the central bank in the face of persistently stubborn inflation. Even then, 9.8% of their loan book could sour by March 2022, the central bank has warned. The plan now is to shift at least $11 billion in dud corporate loans from commercial lenders to a newly created bad bank.
A junkyard for firms that have very little salvageable capital won’t do much for new investments. Rehabilitating assets that still have some value will require an urgent fix to the law. A bankruptcy salon offering 90% haircuts is a sad joke on on India’s taxpayers, savers and workers.