State of the Economy – A Brief (Part I)

Indian economy is going through a turbulent phase partly due to reforms undertaken over last few years and partly due to ‘cleaning-up’ of corporate business practices. This has severely affecting the economic momentum with GDP growth declining to nearly five-year low. More importantly, the debate continues on whether the slow down is ‘cyclical’ or ‘structural’. So, what is happening with the economy and what are the important pain points? Here is a brief attempt to take stock of the same.

The current phase of uncertainty began with the collapse of IL&FS over a year ago which brought NBFCs and their business practices into limelight. Not only IL&FS but several other NBFCs have bypassed governance and standard lending practice culminating in the crisis. A prominent name among them is DHFL, a top housing finance company, with dues of over Rs 80,000 crore to the lending institutions. The issue has got compounded with allegations of links with underworld leading to intervention of ED (Enforcement Directorate). While NBFCs continue to blame banks for turning-off their funds tap, bank loan to NBFCs hasn’t really declined. As per RBI data, banks loan to NBFCs rose by over 25% in FY19 and further by 6.1% in the first five months of FY20. While NBFCs are certainly facing funds crunch, it is not from banks but other sources such as commercial papers (CPs), certificate of deposits (CDs) etc. Further, it is those with over-exposure to sectors such as real estate developers or with questionable governance standards which are facing the heat. To that extent, the crisis is probably a blessing in disguise as it would clean-up the entire sector which involves short-term pain but a healthier and systemically more sound NBFC segment.

Other than financial services, other sub-segments which are witnessing considerable stress are real estate and automobile industry. Real estate has been in the midst of a slowdown over last 2-3 years, possibly since demonetization. The sector, heavily dependent on black money, has found the funds drying up after the demonetization. As per Anarock Property Consultants, 1.74 lakh units launched in or before 2013 in top seven cities alone valued at close to Rs 1.77 lakh crore are stuck for funding or litigation issues. This is on top of nearly 4 lakh units of inventory lying unsold in just MMR and NCR region. Other than that, they have also invested huge amount of money in building up land parcels hoping the prices would keep moving up. With the slump, these land banks has no takers and huge funds are blocked now. The issue, as in case of DHFL, is compounded by allegations of large scale funds diversion leading to intervention of the Supreme Court and number of promoters being taken under custody. A fall-out of this has been the near collapse of Punjab & Maharashtra Cooperative (PMC) bank due to excessive lending to HDIL, a real estate company, and other illegality in operations. 

An interesting aspect of real estate sector is excess supply in upper and upper middle segment even though affordable housing is gaining momentum. This has been aided by interest subsidy and other benefits offered by government. The shifting dynamics is forcing developers to shift their business model. With a number of aggravating and mitigating factors at work, banks loan figures for commercial real estate and retail housing has remained subdued but not declined yet. While loan to real estate has grown at 9% in FY19 and 7% in FY20 so far, retail housing loan growth is 19% and 4.7%.The latest government initiative, providing a corpus of Rs 25,000 crore to help stuck but viable projects can pump-prime the sector. While the amount may not be sufficient to reduce the total stress, it can trigger flow of private funds to the sector if the initiative achieves success.

Other major issues affecting the economy are credit squeeze across “industry” leading to sharp decline across the board, more particularly in the automobile sector. Still, the strongest undercurrent is crack down against corporate fraud, an extension of the fight against black money. (To be covered in Part II).

Image courtesy of Ministry of Road Transport. (Bhupen Hazarika Setu).

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