Why make PSUs buy recapitalisation bonds?–Economic Times–05.11.2017

The government will reportedly nudge public sector undertakings (PSUs) to invest their surplus funds in the Rs 1.35 lakh crore recapitalisation bonds meant to shore up the public sector banks’ capital, so that they can write off bad loans as part of resolving them and start lending again. This is a bad idea. PSUs must transfer surplus funds to their shareholder, the government, if they have no better use for the surplus, via special dividends, for it to invest the money so received as additional tier-1 capital in the banks. This would help in two ways. One, the additional borrowing required to recapitalise banks would come down; and two, so would future interest payments on such borrowings. Both are good for fiscal discipline.

It would help if the recapitalisation of public sector banks is properly sequenced. Just the announcement of the recapitalisation plan has boosted bank share prices. Once fresh capital is infused, the banks would be in a stronger position to tap the market to issue fresh shares.

For one, greater capitalisation makes for higher valuation and a better price for fresh share issuance. Further, since the government does not propose to dilute its stake below 52 per cent in state-owned banks, the higher the banks’ total capital, the greater volume of capital each bank would be able to raise from the market, without diluting the government’s stake below the 52 per cent threshold.

The need is to push for deeper reform too, even if the government is unwilling to let go of majority control. Infrastructure projects should be financed by the debt market, with insurance and pension funds investing their corpus in long-term assets that match their own longterm liabilities. Banks should stop funding long-gestation projects, not just to better match asset and liability profile, but also to ensure that project viability is vetted by a larger, disparate set of bond investors than the handful of bankers bound by informal political choices as to who should get loans and who not. The Bank Boards Bureau seems to have fizzled out. We need a replacement to professionalise banking.

via Why make PSUs buy recapitalisation bonds?

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