India is caught in two minds about financial globalisation

India is caught in two minds about financial globalisation

THE world is divided into two, according to Shachindra Nath, chief operating officer of Religare Enterprises, an Indian financial firm. On one side of the divide is a world with “cash but no opportunities”; on the other, a world with “no money, just opportunities.” In October Religare announced its ambition to shepherd money across this divide, by creating an “emerging-market investment bank”. The bank will be run from London by Martin Newson, a former head of global equities at Dresdner Kleinwort.
Religare will start small, attaching itself to growing companies and expanding with them. As India’s companies go global, finding customers and buying companies abroad, they will want their banks to be global too, Mr Newson argues. His bank may still lack manpower (it has about 80 bankers) and experience (last year, it completed only two deals in its home market), but Mr Newson applauds India’s “get-up-and-go, ‘let’s attack’ attitude”.
He would find a quite different mindset at the Reserve Bank of India (RBI), the country’s central bank, which polices the flow of money across India’s borders and keeps tabs on the foreign adventures of the country’s financial firms. The RBI has a defensive approach to financial globalisation. The laws of economic gravity suggest capital should flow from where it is abundant to where it is scarce. But, the RBI fears, that flow can overwhelm an economy.
In 2007, for example, it tried to restrain a vigorous inflow of capital by making it harder for foreigners to play India’s booming stockmarket and by tightening limits on corporate borrowing abroad. When capital flows abruptly reversed in 2008, it eased these limits. Now that foreigners are again flocking to India’s stockmarket (see chart), capital inflows are once more playing on the RBI’s mind. At the IMF’s annual meetings in October, the RBI’s governor worried that if he had to raise interest rates earlier than other economies, the gap in returns might attract more foreign money. At the RBI’s latest meeting on October 27th, he kept rates on hold.

Despite these concerns, India is steadily becoming more financially stitched in to the rest of the world. Its foreign assets and liabilities add up to over 60% of GDP. In the 1990s that ratio was only about 40%. It has risen partly because India’s own companies are eager to acquire foreign firms. In March 2009 India’s stock of direct investment abroad was worth over $67 billion, more than twice the figure in March 2007.
As India’s companies straddle borders, capital controls become harder to police. Foreign affiliates can transfer money into India disguised as a payment for services provided by their parent company. But if controls don’t necessarily stop Indian multinationals raising money, they do stop India’s financial system from meeting these firms’ requirements. For example, India prohibits companies from listing their shares at home and on a foreign exchange. This ban was one reason, if hardly the only one, why Bharti Airtel, India’s biggest mobile-phone company, was unable to merge in September with MTN of South Africa.
A 2007 report commissioned by the government to assess Mumbai’s prospects of becoming an international financial centre argued that India has a comparative advantage in financial services, like the one it has in information technology. India, after all, has a common-law legal tradition and a stockmarket that is 130 years old. Many bankers working in London, Dubai and Singapore have their roots in India. Religare is hoping to hire a few of them.
It is not the only Indian financial firm with ambitions abroad. Indian banks have 141 foreign branches and 21 subsidiaries. Of the new private-sector banks, ICICI bank has the most foreign outposts. Its willingness to dabble beyond its borders marked it out for suspicion when crisis struck and doubts about its foreign exposures grew.
In November 2008 the RBI had to lend foreign currencies to Indian banks to help them meet the obligations of their foreign branches. It is now determined to monitor their activities more closely. Banks say “we know how to manage our stuff, there are no government guarantees, so why are you bothered?” says Rakesh Mohan, a former deputy governor of the RBI. But “when push comes to shove, you always have to be bothered.”
The RBI’s prudence was justified by events. But it has its costs. By reining in its domestic banks, it prevents them from serving the global needs of India’s companies. Tata Steel, for example, bought Corus with loans from banks in London, not Mumbai. The RBI worries about the foreign borrowing of Indian firms even as it makes it impossible for them to find necessary finance from domestic providers.
Mr Mohan thinks the RBI’s approach is on the right side of history. He points out that the regulatory reforms the G20 now recommends are for the most part policies that the RBI was already pursuing. This includes its willingness to supervise the foreign subsidiaries of Indian banks. Was India ahead of the curve? “Maybe accidentally”, he laughs.
But as more big Indian firms become multinational companies, it will be harder for politicians to resist the demands for a freer flow of finance. “It’s one thing for India to impose restrictions upon foreign multinationals like Enron or IBM,” says Ajay Shah of the National Institute of Public Finance and Policy, “but it’s harder for the Indian government to hobble its own multinationals. I think this is a qualitative change.” Indian companies are too ambitious to confine themselves to their borders. Likewise, India itself is too big a prize for foreign capitalists to ignore. Money has a way of finding opportunity.