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IL&FS: Has PM Modi Unwittingly Helped Cronies And Punished Investors?

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Cash. Every entrepreneur knows it’s like oxygen. If you asphyxiate a running operation of cash, even the most valuable asset rapidly depletes in value and becomes junk.

Stitch. Every tailor knows that if you don’t do one in time, the dress unravels at nine different places.

Water. Every fireman knows that you need to spray a canon on the blaze, without worrying about what caused it.

Unfortunately, Prime Minister Modi’s economic team has neither an entrepreneur, nor a tailor or fireman on it. All it’s got is a politician-lawyer, a dozen Indian Administrative Service officers, and half a dozen economists. Not one of them has ever created wealth or faced the wrath of markets. Not one of them has dealt with a helpless bankruptcy caused by a systemic collapse. That’s why their responses to the IL&FS-induced contagion can be described as, well, ‘innocent’:

  • RBI rejects a liquidity window for NBFCs; says no systemic risk, as of now.
  • Net core liquidity in the economy has been negative for five consecutive weeks, but the Finance Ministry says “no crisis as of now, since the NBFC problem is relatively small. It has not hit the consumption story very materially. We shall wait for the second quarter number to come in.”
  • Oil is way above the budgeted level of $65/barrel; $40 billion of foreign exchange reserves have been sold in seven months; and the rupee is nearing 75/dollar, but our finance ministry is sanguine – as of now, it’s “pretty certain that oil prices will come down to less than $ 70/barrel”.

Note: the emphasis on ‘as of now’ is mine, to show how blithely our rulers are ignoring the current crisis while predicting, with charming certainty, how economic variables will pan out. Unfortunately, it’s the ‘confidence’ (aka ignorance) of the town simpleton, who believes that markets can be controlled.

TARP: An Acronym-Loving Modi Ignored These Four Letters

For long now, I have advocated a TARP-like rescue plan for our economy, first to solve the twin balance sheet problem, and now to arrest the IL&FS contagion. I have enough empirical ammunition to prove that an Indian TARP would enhance economic welfare; it would benefit ordinary citizens and deliver a sharp blow to cronyism, as opposed to the popular notion that it will create a ‘moral hazard’. Let me show you how.

We begin with a bit of history. Lehman filed for bankruptcy on September 15, 2008. Markets plunged, threatening the global economy with a disorderly collapse.

"" - But to Uncle Sam’s credit, it swiftly got into emergency mode. In less than three weeks, on 3 October 2008, President George Bush signed the Emergency Economic Stabilization Act, also known as TARP, or the Troubled Asset Reconstruction Program. The U.S. Treasury resolved to buy $700 billion of distressed assets, or pump cash directly into bankrupt balance sheets.

$245 billion was given to banks; $70 billion to the insurance giant, AIG; $80 billion was used to rescue auto companies like GM and Chrysler; the rest was given to a clutch of endangered entities. Surprisingly, only $410 billion was used; $290 billion was never drawn down.

Cash given under TARP was neither a grant, nor a subsidy, but an investment which the companies had to pay back with an appropriate return. Yet, the Congressional Budget Office initially estimated that $356 billion (out of the $700 billion) would be irretrievable, to be written off; but the lawmakers were happy to burn this cash to save their economy. They understood that the promise of immediate dollars would obviate a systemic meltdown. How I wish the Modi team had the same understanding of market psychology!

How Successful Was TARP?

Since it’s impossible to argue for the negative, i.e. to assess how much damage would have occurred if TARP had not been promulgated, we can only rely on guesstimates. A study by Alan Blinder and Mark Zandi showed that U.S. unemployment could have touched 16 percent. It had peaked at 25 percent in the Great Depression of the 1930s.

"" - But there’s another, more tangible way to assess TARP – as opposed to the feared loss of $356 billion, TARP ended with a zero loss, perhaps even a marginal gain for the U.S. Treasury!

Today, merely a decade later, the American economy is in the pink of health, with the markets at a record high, annualised growth nicking 4 percent, and unemployment falling below 5 percent. Frankly, in my book, that’s how successful TARP was.

Also Read: Lehman Brothers Collapse: Henry Paulson, Ben Bernanke And Tim Geithner Look Back

A Mini-TARP For IL&FS Will Help Ordinary Investors And Harm Crony Capitalists

The conventional argument against a TARP-like bailout is that it creates a ‘moral hazard’, by rescuing culprits who should be punished, while ‘robbing’ honest taxpayers. The reality is exactly the opposite, and I shall prove it with simple arithmetic.

I shall begin by making a few assumptions, which are very close approximations of the real situation:

Also Read: SEBI Chief Says Failure To Monitor End Use Of Funds Behind IL&FS Crisis

Now look at the current situation, without a TARP-like intervention by the Modi government:

  • Losses taken by IL&FS equity/debt holders = Rs 50,000 crore (i.e., total capital of Rs 1,50,000 crore minus salvageable assets of Rs 1,00,000 crore).
  • Losses suffered by ‘innocent’/ordinary investors in NBFCs = Rs 4,00,000 crore.

TARP Creates Gains For Ordinary Investors, Bigger Losses For Cronies

But in a TARP-like intervention by the government, the math changes dramatically in favour of ordinary investors, versus IL&FS’s equity/debt holders:

Also Read: PM Modi Worships Lord Brahma, But Is Unable To Use His Policy Brahmastra

"" - So there you are. By not going for a TARP-like bailout, Prime Minister Modi has given an extra gain of Rs 30,000 crore to crony capitalists who allowed IL&FS to crash, while levying an extra tax of Rs 2,00,000 crore on ordinary/innocent investors, like you and me.

The above is very simple arithmetic, but a team of IAS babus (bureaucrats) will never understand it, because it is deeply suspicious of market forces. And Prime Minister Modi has surrendered his economic policies to them, keeping entrepreneurs, tailors and firemen out.

Yeh kya kar diya Pradhan Mantri Modiji? What have you done, my dear Prime Minister Modi?

Raghav Bahl is the co-founder and chairman of Quintillion Media, including BloombergQuint. He is the author of two books, viz ‘Superpower?: The Amazing Race Between China’s Hare and India’s Tortoise’, and ‘Super Economies: America, India, China & The Future Of The World’.

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