ILFS Tragedy: Save Rs 25 Thousand Crore, Destroy Rs 25 Lakh Crore

Raghav Bahl explains why even after a year, the IL&FS crisis is still causing damage across the Indian economy.

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Video producer: Anubhav Mishra
Video editor: Vivek Gupta
Cameraperson: Abhishek Ranjan

The financial sector dreads September, the month that has just gone by. In 2001, the twin World Trade Center towers in Manhattan were struck by two commercial aircraft, shutting the NYSE/Nasdaq for a whole week.

In 2008, Lehman Brothers collapsed, paralysing global markets. Last year, ILFS filed for bankruptcy, seizing India’s shadow banks. For one year now, Dalal Street has been gripped by a death wish, which culminated in the bizarre case of Altico Capital – last month, in September!

Curious Case of Altico Capital

Altico’s story is surreal. It’s an unlisted non-banking finance company (NBFC) founded by three global giants who manage world-wide assets of nearly $ 300 bn. Altico itself has over Rs 500 crore in equity and a net worth of Rs 3,000 crore. Its profits in Q1 this year were over Rs 75 crore. The company had, according to representations to creditors, more than Rs 550 crore in cash – yes, in cash.

And yet it defaulted on a paltry interest payment of under Rs 20 crore to Mashreq bank. Yes, under Rs 20 crore. Bizarre, right?

A similar defeatism has gripped India’s financial markets ever since ILFS was treated like a biscuit or shoe company – when a biscuit or shoe company closes, a few workers lose their jobs and some customers their favourite dip or slip-on.

But when a systemically critical finance company crashes, it sends a cardiac tremor through the economy. Many things – savers, lenders, borrowers, investors, consumers – suffer the same fate.

Death of IL&FS And the Contagion It Spread

So killing ILFS created an awful trade-off: it saved Rs 25 thousand crore in current liabilities, but destroyed Rs 25 lakh crore of value across the economy. Now right or wrong, ILFS (like UTI in 2001, which was remarkably bailed out by the Vajpayee government), was seen to be a quasi-sovereign entity, owned and controlled by a clutch of public sector behemoths, including SBI and LIC.

While its debt was nearly Rs 1 lakh crore in September 2018, it needed to repay a mere Rs 35,000 crore until 31 March 2019. It had the headroom to hastily sell some equity and assets of around Rs 10,000 crore, leaving it short by Rs 25,000 crore. That’s it! It needed an immediate bail-out of Rs 25,000 crore.

Otherwise, the contagion would be – and has been – devastating.

How Could the Govt have Mitigated ILFS Fallout?

Within weeks the markets wiped out Rs 10 lakh crore of investors’ wealth. That was not the time to argue nuances around moral hazard. That was the time to spray calm into the markets. The government had a plethora of options:

  • It could have created a superior debt/equity instrument for the NIIF (National Infrastructure and Investment Fund), which could have installed a brand-new management and overseen an orderly rescue, including asset sales over the next few months/years.
  • Alternatively, it could have quickly calculated the vastly denuded Net Asset Value (NAV) of the company and floated a rights issue of shares at half that value. I am sure ILFS’s pedigreed shareholders (or others) would have jumped at the mouth-watering gain of 50% on their rights equity shares, especially if they were assured of a public listing within a year.

Whichever option was chosen, the defaults had to stop. Unfortunately, the government acted like the proverbial deer trapped in headlights. No option was chosen.

And so, the defaults did not stop. Over 400 companies – double the number compared to the previous 12 months – have filed for bankruptcy since then. By refusing to cover a temporary hole of Rs 25,000 crore, the economy lost nearly Rs 25 lakh crore in value; worse, it continues to lose copiously even today, one year later.

Lessons for Govt Post-ILFS Meltdown

So, what were the lessons the government should – and perhaps still can – learn from the ILFS meltdown.

One: Systemically important finance companies inflict an exponential damage if not rescued.
Two: Overall economic welfare increases if finance companies are saved, since a general, cross-sector pain/slowdown is pre-empted.
Three: There is a moral hazard only if wayward owners are given a lifeline instead of being punished; but there is a moral benefit if the underlying asset is saved, even as unscrupulous founders/managers are taken to the cleaners.

Prime Minister Modi and his economic advisors should internalise these 3 principles, especially since they now wish to be seen as dramatic tax cutters and rescuers.

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