FII from our country are withdrawing their fund from stock market and slowly repatriating the same to America. Inspite of the fact that our experienced finance minister who had put ban and some restrictions last year on use of PN by FII in fear of terrorist money being pumped into the system has in the last month removed the said restriction and made it easy for FII to bring fund into our country. But the fact is that when FII is in acute demand of dollars in their own country they have no option but to withdraw the money from stock market. It is just when a person is serious and hospitalized; his caretaker or the guardian will withdraw the saved money from the bank even if the bank offers double the normal rate of interest. It is therefore that the step of FM failed to stop FII withdrawing fund form or country.
When FII will withdraw money from stock market, it is but natural that there will be fall in the stock value. There will be comparatively more downfall in the script in which FII invested more and there will be less affect on other scripts where exposure of FII is less. As a result of their exit from stock they will need dollars from the bank and give rise to liquidity crisis. But the fact is that liquidity crisis in bank as perceived and conceived by regulators is far more than that of money withdrawn by FII. Obviously money is going out of banking system from bank due to other reasons too.
We have to analyse, ascertain and find out other sources of withdrawal of fund from the bank which are contributing in aggravating the liquidity crisis in the bank.
It is to be noted here that dollars are coming out of financial system of all countries other than America and all such withdrawn fund is going into the American financial system. Still America is also said to be in liquidity crisis. Obviously there are also other reasons behind the present turmoil which needs to be diagnosed honestly, sincerely and on priority.
Even if we visualize FII reserves and rate of inflow of dollars into our financial system two years ago we find that there was not such a severe and critical position of liquidity in our country as it is today when the dollar reserve is still more than what it was two years ago..
RBI has taken several praiseworthy and timely actions to dilute the impact of the crisis. But still the banks are facing the brunt of FII withdrawal and subsequent redemption pressure in MF.
Undoubtedly there are some other reasons which are adding fuel to fire.
The reason may be obviously excessive lending at lower and lower rate of interest. It may be caused by non repayment of installments by borrowers in time which cause undue pressure on liquidity.
In the olden days there use to be 33 to 35 percent SLR and 10% as CRR and banks were left with hardly 50% of their deposts for lending to borrowers. Credit Deposit ratio was hardly 55 to 60%. Now a days CRR has come down to roughly 5% and SLR has come down to the level of 25%. As such banks have got additional capacity of 15 % of their deposits for extending credit. In such position banks are pressed to go for more and more lending. If the borrowers fail to repay or do not willfully repay the installments in time, the bank’s good money is blocked in the hands of such bad borrowers. This has given birth to bad assets in large proportion.
Banks may say that their net NPA ( Bad assets) is less than 1% but the fact is that bad assets is even upto 20% in many banks . Bank may claim that they are adequately capitalized and their Capital Adequacy ratio is more than stipulated ratio of 10% as per Basel;s norms. If banks properly look into their asset portfolio and truly distinguish between good assets and bad assets as per RBI norms I think all banks will face erosion in capital and their actual CAR will fall short ot stipulated norms to a considerable extent. Obviously such exposure will precipitate the real reason of liquidity crisis in the banks. Over lending and less recovery of loans may be a great contributor of liquidity crisis.
Secondly banks have started lending more in retail sector like housing and auto loans and personal loans where repayment period and gestation period is more .Besides all lending in real estate sector or sensitive sector is not productive to that extent as happens in case of financing directly in manufacturing and agriculture sector. Financing to brokers, MFs, NBFC, s, builders may increase the advance portfolio of banks but fail to contribute in actual growth of GDP which may help in alleviating the problems of poor and middle class families, It is worthwhile to mention here that entire talk of GDP growth is meaningless for ninety nine percent of population of the country. The so-called reformation measure initiated by learned FM and PM in the year 1991 are getting exposed slowly not only in India but in the entire world where blind policy of globalization was followed without strict monitoring and continued assessment of the results of freedom granted to private sector.
Thirdly government needs to introspect whether import is growing in undesirable sector causing unwarranted outflow of dollars. It is to be assessed whether genuine exporters are reducing their export only due to sharp fluctuation in exchange rates. Both taken together may cause not only disproportionate outflow of dollars and trade deficit but also tell upon manufacturing sector and service sector of our own country.
Lastly government has to stop giving undue freedom to private sector or government sector and stop encouraging unwarranted competition in interest rate and exchange rate. Government should stop wasteful trading in commodity futures, currency futures, and interest rate futures which has contributed in price rise in most of the commodities. Real estate and stock market has seen manifold rise and unrealistic rise in their price during the year 2007 and hence if the same prices are coming down it should not bother our FM and PM .After all those who invest in shares and those who buy home of more than 30 lacs rupees are not poor and middle class families of the country .
Need of the hour is to honestly understand the utility of privatization and globalization and learn the lesson from the present liquidity crisis and revamp the financial sector without any hesitation before it is too late. I reiterate here at the cost of repetition that FII ‘s are not the real culprit for present liquidity crisis and economic experts has to come forward and prescribe the best medicine to cure the ailing system .It is to be kept in mind that America is entirely a different type of country and India need not copy what Americans are doing or what they suggest us to do to cope with the present crisis.
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