A pertinent point raised by Finance Minister Nirmala Sitharaman was the rather limited response of industry to the government’s measures announced over the last few years for spurring fresh investment. The government has lowered the tax rate for corporates and also brought in the PLI scheme which is of the order of round Rs 2 lakh crore spread over 14 industries with an incentive of 4-6% of turnover. Intuitively it can be seen that the incremental turnover over the period of three to four years for which this scheme will run can get in around Rs 40 lakh crore with the accompanying investments.
The challenge really today is that while the support from the government is good and proactive, demand needs to be there for investment to take place. At present demand is picking up in certain sectors but is not yet broad based to reassure industry that there can be acceleration in future. While the aggregate capacity utilisation rate as per RBI is above 75% as of March, it has tended to get concentrated in specific sectors. And these are sectors that are linked to infrastructure where the government has been active. Hence sectors like steel do see investment taking place which is linked directly to activity in specific activity like roads, railways or urban development.
The crux to investment is consumption which needs to increase. Growth in consumption has the potential to increase capacity utilisation which in turn will make the relevant companies invest more to keep pace with growing demand. It must be mentioned here that the lockdowns in the last two years has dented the spending power of the households which has been further exacerbated by rising inflation of the order of above 5.5% for the last three years. This has cumulatively made them spend more on necessities, leaving less money for discretionary consumption which in turn has affected fresh investment by companies. The fact that consumption has been maintained despite high inflation has been reflected in a dip in financial savings as manifested in slow growth in deposits this year.
Further, the SME sector has been buffeted by the lockdowns and are in the process of recovering which means that it will take time before they invest more. Also several units have closed down and would need to recommence operations before investing in capital.
Therefore, for investment to revive, the demand side of the story has to play out across all sectors. There are industries like automobiles which are still grappling with supply chain issues of procuring semi-conductors which has now become a long standing problem. Therefore while demand is there, due to such disruptions investing in capital would not be feasible.
The other area to look at would be infrastructure. Here the picture is mixed. There has been limited private investment in infra projects which still remains the domain of the central government. Interestingly state governments are also careful with their capex plans and in the past have cut back on such expenses to remain within the perimeter of the FRBM norms. This in turn has also had a bearing on private investment due to the strong backward linkages.
There is also the issue of funding of infrastructure investment once the private sector is interested. Presently the main source of financing of infra projects is banks. The NPA issue which had plagued the system until 2020-21 was mainly due to lending gone awry in this segment. While the system is now almost cleaned up, the preference for banks has shifted to retail lending where probability of delinquency is low. There needs to also be momentum in the corporate bond market which can provide funds for infra investment.
Here too the challenge is in companies raising funds given that the market is open virtually only for higher rated companies. The infra projects given their nature and design would be rated lower given that the revenue flows would be with a lag of two to four years. For these projects to be financially viable to raise money through the bond route, there have to be enhancements provided so that the rating gets notched up. We need to have new instruments here to revive the market which the regulator SEBI has been working on. Infrastructure Investment Trust (InvITs), Real estate investment funds (REITs), CDS, credit enhancements etc. are some of the routes being propagated in this regard.
Can anything done about this? One way out can be for the government to give guarantees on infra projects which have been evaluated by some of the reputed credit rating agencies such as CRISIL, CARE etc. this can provide comfort to investors. The government can set up a fund for this purpose. Revisiting the PPP route (public-private-partnership) can also be undertaken to fill in the gaps which have not made them a big success.
The major challenge will be that India Inc. will have to undertake this journey just at the time when the RBI is increasing interest rates which means that the cost of capital will be going up gradually. While industry is prepared for variable interest rates during the tenure of their investment, high rates at the starting point could cause some delays.
But at the end of the day for investment to take place, there needs to be higher growth which creates jobs, incomes and higher consumption. It is a virtuous process that has to only takeoff – which takes time. Once the path is established, momentum comes automatically from within.
Madan Sabnavis is Chief Economist, Bank of Baroda and author of ‘Lockdown or Economic Destruction’. Views are personal