Will Rajan's Open Challenge Find Any Takers?

Jul 18, 2016

In this issue:
» Aviation sector - Take the good news with a pinch of salt
» EPFO to Increase its Equity Exposure
» ...and more!
Richa Agarwal, Research analyst

Dr Rajan, after grabbing front-page headlines for his decision to step down as RBI governor, is in the limelight once again. He had been unusually quiet about his decision to resign. But for a welcome change, he is choosing to be vocal about his firm stance on inflation and rate cuts.

Those who accuse him of being 'behind the curve' and have been clamouring for a rate cut citing low inflation are invited to prove their claims... And we believe they'll have a tough time of it.

The bigwigs who counter Rajan - ministers, corporates, and other entities with vested interests in low interest rates - must be scratching their heads for proof. The common man, on the other hand, must be wondering two things...

First, about the noise around low inflation when he pays more and more for even basic necessities such as food.

Second, about the whole argument that high interest rate, being a deterrent to borrowings is responsible for poor economic growth.

As Vivek Kaul writes in his Diary:

  • People make statements without looking at numbers. In fact, growth in retail lending carried out by banks in 2015-2016 has been the highest since 2009-2010. So clearly retail lending is growing at a very robust pace. The so called high interest rates on bank lending clearly haven't had much of an impact on this front.
Robust Retail Lending Amid So-Called High Interest Rate Regime

As far as lending to corporates is concerned, the slowdown in the lending has more to do with the banks' reluctance to give big loans to big guys with dismal records of repayment.

There is little evidence of past lending to corporates leading to growth. Though it has indeed led to banks' balance sheets being saddled with bad debts and to overleveraged companies with interest coverage ratios lower than one. These weak companies still have 27.8% of the total bank debt.

So banks, for good reason, do not want to lend to these companies who are unlikely to return it. It is ridiculous to blame interest rates for banks' reluctance to lend.

Furthermore, Indian industries are already seeing capacity underutilisation. Lower interest rates are unlikely to boost borrowings by serious and prudent promoters. Unless reforms are in place, the only way low interest rates can help industry is by encouraging undisciplined borrowers service their debt. Again, a kind of innovative subsidy to the reckless borrower at public expense.

For the common man, a rate cut, unless reforms are in place, could be double whammy. For one, it is likely to raise inflation. Second, it will ultimately translate to lower deposit rates, hurting their savings... A lose lose proposition for a bigger number of people who lack enough insight on these matters and do not have the clout or influence to put their case forward.

I don't know the perfect answer to how a common man can increase his say. However, I believe Vivek Kaul and his sober, unbiased analysis can give readers enough insight on economic matters that concern and affect them directly and indirectly. If you would like to understand these issues in simple language filtered of the economic jargon and noise, I strongly recommend you to read Vivek's latest special report, The Crony Socialism of Narendra Modi.

Do you think there is enough merit in the argument that it is the lack of a rate cut that is hampering sustainable economic growth? Let us know your comments or share your views in the Equitymaster Club.

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Indian aviation market is maintaining the reputation of one of the world's largest and fastest-growing air travel market. As the latest passenger traffic data suggests, more and more people are flying in India. The passenger segment registered a growth of more than 21% YoY in May-16. That's indeed good news for Indian air carriers. Along with good growth in passenger traffic, airlines are benefitting from low jet fuel prices over the past year. The same has enabled the companies to report higher margins and thus higher profits.

That said, all positive news in the aviation sector must be taken with a pinch of salt we believe. Airlines segment has a long history of running into losses. At a time when most of the macro factors seem to be in favor, the balance sheets of most of these companies are still saddled with huge debt. While benign oil price has been a blessing, the 'economy' segment, where most of the passenger growth is coming from is getting more and more competitive. Different airlines are fighting for market share by offering massive discounts on airfares.

Aviation is a capital intensive business. While that's not going to change, what definitely is not going to remain same forever are the favorable macro factors - such as fuel prices. We believe it will be difficult for the airlines to employ price cut strategy in a tough macro environment. The growth rates that we are seeing now may also shrink. For the best assessment of the strength of different players in this sector, we believe one must wait to see how these companies fare in a high fuel price scenario. Last but not the least, always use a bottom up approach to value these companies.


The Labour minister Bandaru Dattatreya has reportedly said that the Employees Provident Fund Organization may invest up to 12% of its investible amount in equities over a period of time. The finance ministry had earlier given its consent to the EPFO to invest from 5-15% of its investible amount every year. According to the minister, as on June 30, the EPFO invested Rs 7,468 crore in two index-linked Exchange Traded Funds - one to the BSE's Sensex and the other to NSE's Nifty.

A meeting will be held this month, before July 22, to decide the quantum of investments to be made in ETF. We think the government has taken a step in the right direction since a partial exposure to equity would benefit subscribers get better returns for its savings. However, not everyone is convinced of this move by the government. The protestors are demanding a capital protection guarantee and a guarantee of a certain level of interest rates.

We believe that with EPFO investing more in markets, huge inflows will increase liquidity and valuations could enter bubble zone. Only the ones who are able to buy companies after screening their valuation and fundamental aspects will be able to create wealth over the long term.


After opening the day in the green, the Indian stock markets moved upwards and were trading well above the dotted line at the time of writing. The BSE-Sensex was trading higher by about 166 points (up 0.5%), while the NSE Nifty is trading up by 38 points (up 0.4%). Most sectoral indices were trading on a positive note with stocks from the capital goods and auto sectors witnessing buying interest.

04:50 Today's Investing Mantra

"Opportunities come infrequently. When it rains gold, put out the bucket, not the thimble" - Warren Buffett

This edition of The 5 Minute WrapUp is authored by Richa Agarwal (Research Analyst) and Rohan Pinto (Research Analyst).

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8 Responses to "Will Rajan's Open Challenge Find Any Takers?"


Jul 20, 2016

Public sector banks , that were nationalized to serve the general public at large , have ended up by regularly serving the politicians and Beaurocrats . They have lent money to the these people and their cronies without due diligence and are now saddled with huge so called NPAs. These Banks need to be freed of irresponsible and unaccountable political and beaurocratic control. They should only be controlled and be answerable to their share holders and some sort of public body to protect the interests of small and retail depositors. The Government should restrict itself policy making and supervision of banking operations only. One of first such areas is to strengthening and simplification of laws for recovery of loans. We need to go after so called "willfull Defauters", with hammer and tongs. Creditor banks should have first call on all the worldly assets of such defauiters, their close relations and kin, and the bank managements that advance such loans, that are found to have been advanced without due diligence. In cases were the assets of all such defaulters fail to meet their obligations, they should be imprisoned, at their cost, and put to work , in accordance with their qualifications. All earnings of such prisoners should be turned over to their creditors, after deducting the cost of their imprionment.
2. The Govrnment is guilty of supporting bankrupt banks , at the expense of the tax payers. There is absolutely no justification for such unauthorized and I would say illegal misuse of public funds. The Banks that cannot meet their obligations , should simply wind up. The Government needs to simplify Bankrupcy laws, instead of pouring public funds into bottomless pits. Banks are a bussness and they should be run in a bussiness like manner.



Jul 20, 2016

I am quite surprised by your biased reporting (although you claim to be unbiased!). Dr Rajan suddenly switched to CPI instead of WPI for taking decisions on interest rates, although WPI was the barometer used by the RBI Governors for years. Everyone knows that interest rates rarely influence prices of vegetables etc. By not reducing interest rates at a time when it was possible, Dr Rajan had done a great disservice to the country.


Sanjay Shah

Jul 19, 2016

Regular loan repayments are being done by Retail investors , whose lending are increased & they are being punished by not lowering the interest rates ?



Jul 19, 2016

It is well said by Richa Agarwal. I fully agree that a mere rate cut from the present levels in the Indian context cannot boost economic growth. And one thing, I disagree is that again low interest rates cannot encourage undisciplined borrowers to service their debt, as indicated. Undisciplined borrowers are undisciplined always and their intention is not to pay the whole debt itself and push the Banks to the stage of ultimate write-off. As such, a mere lower rate cannot prompt the undisciplined borrowers to service the debt. The undisciplined and willful defaulters cannot be tamed by a rate cut. They remain undisciplined and willful defaulters for their own good.

Like (4)

Satyendra Sinha

Jul 18, 2016

Richa, I am not among the "ministers, corporates, and other entities with vested interests in low interest rates" that you have mentioned. But I believe if Raghuram Rajan, who forced the economy on a jobless growth, even if he shouts that the Sun rises in the West, only to hide his studities, I am not a fool like you to believe in him. This is country has 125 crore people, and we have a decisively chosen Govt at Centre, this man Rajan was planted to spread misinformation to prevent investments in the country. He has been caught red handed, now shouting everyday in the media to defend himslf. I suggest Equitymaster not to throw such political articles on daily basis to discredit your country. You are losing your credibility by believing in a sleeper cell caught in Indian economy.

Like (3)

Vinod Bajaj

Jul 18, 2016

There must be a way for the common man to form a "union" to fight the reduction in interest rates! Why don't you fight for our cause and ask the Janta to join in!

Like (3)

Ganapathy Sastri

Jul 18, 2016

If you want to know the true inflation rate, ask the wife of FM or Governor. Official stats consistently understate inflation. During the last five years CAGR in inflation has been over 14%. Go compare prices with what was prevailing five years ago.
If you want banks to reduce lending rates, teach them ( particularly PSU banks) how to reduce bad debts. Cost of bad debts is over 10% and lending rates need to factor this cost, cost of wages and rent all of which have gone up phenonmenally while talk time among employeeas ( on cell phone) has increased in a similar proportion.

Like (3)

Prabal Biswas

Jul 18, 2016

100s of Dr Rajans cannot make this country move forward- the population only seeks guarantees. But they do not give any guarantee to the country. If price is rising stop giving over priced junk food to children, stop smoking and utilise that money for buying vegetables. You cannot have all.

Like (3)
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