As I travelled around the world in the opening weeks of January, the one question that almost every client asked me is “What exactly has changed in India to trigger such a definitive change in global investors’ appetite for India?” After all, my clients told me (and I agreed with them) that nothing has emerged on the macroeconomic front over the past month which fundamentally changes India’s long term economic trajectory. Yes, runaway food inflation is an issue but it is not as if this comes as a surprise to seasoned investors. So why are so many investors looking to head for the door?
The answer I think lies in the growing realization amongst investors and analysts that corruption in India has morphed into a new beast, far bigger and far scarier than anything which existed in the days of the “License Raj”. In the words of one of the biggest and most respected FIIs, “corruption in India has grown at a breathtaking pace in the last couple of years”.
As we all know, the ‘License Raj’ (the system of state intervention in private sector activity through the imposition of mandatory license procedures and regulations) was the predominant form of political corruption until the early nineties. In those days different layers of the Government would seek relatively small sums from consumers and businesses in return for allowing them to import or export certain items or to give them a license for opening an industrial unit. Whilst the sums of money demanded were not exactly trivial, the real cost to the victim was the time expended in dealing with the Kafkaesque bureaucracy. For example, I remember spending a full day in the marriage registrar’s office in Kolkata trying to get my marriage certificate. I finally got the certificate but not before five mandarins had stamped and signed on the same document.
The new face of corruption in India operates on a different scale altogether. Now we are no longer talking about marriage certificates and a few Gold Flake cigarettes. Instead we are talking about the control of hundreds of acres of virgin forest land beneath which lie India’s richest mineral deposits. In return for mining concessions in this unspoiled wilderness, we are talking about sums equal to a few percentages of that state’s GDP changing hands. In short, the new face of corruption in India arises from political control over national assets. In particular, the political class leverages its custodian rights over public assets by demanding rents for access to the same. The fact that these rents can be arbitrarily demanding and repetitious makes them triply damaging for the private sector.
For investors such a regime creates a valuation challenge because it is difficult value a mining company or a telecom company or a power company whose access to the public resources that that company uses to generate value can be arbitrarily terminated. In fact, research conducted globally by Transparency International suggests that sectors whose competitive advantage depends upon access to these publicly held assets (which could be a public resource, public contracts or public asset-related regulation) are most likely to be more corrupt. Five sectors which seem to be structurally exposed due to a strong nexus with the political class are Public works contracts & Construction, Real estate & property development, Oil & gas, Heavy manufacturing and Mining.
The other change on the corruption front has been that technology now allows us to record almost anything anywhere and then disseminate it at almost zero cost to the whole world via the internet. Hence when the media now exposes corruption, it is able to do is far more graphic detail than was feasible in the 1980s or 1990s. The combined effect therefore on the investment community of seeing the new scale of corruption live on TV (or on the internet) is like watching the movie “Exorcist” in 3D – you cannot help being scared.
As India’s liberalized economy evolves, hopefully she will build institutions to check the power of her omnipotent politicians. There is hope on this front because after all, the Comptroller and Auditor General’s office was the public institution which got the ball rolling in the 2G scam. Now, if only the legal system could expedite justice fairly and swiftly and thereby reassure investors – domestic and foreign - that India is not the new Wild West.
(Saurabh Mukherjea is the Head of Equities at Ambit Capital. The views expressed here are his own and not Ambit Capital’s.)