“Deepening of the Capital Markets and Financial Inclusion” Address delivered by Shri Atul Kumar Rai at a Conference organized by ICRIER on August 20,2009

“Deepening of the Capital Markets and Financial Inclusion” Address delivered by Shri Atul Kumar Rai at a Conference organized by ICRIER on August 20,2009.

Dr. Nitish Sengupta, Mr. Shrawan Nigam, Mr. Paul Joseph, Dr. L.C. Gupta, Mr. C.S. Mohapatra and Distinguished Audience

It is a unique privilege for me to be here today, though at the same time it is with some trepidation that I approach the task before me with two of my seniors being present here on the dais today whom I know to be very discerning if not demanding not only of others but even of their own selves to let pass lightly what may not come up to their standards.

To begin with one may admit that the first issue in exploring the subject of the deepening of the securities markets and financial inclusion that stares one in the face in the immediate context of the economic crisis plaguing at least the developed world is whether the relationship between markets and financial inclusion is not too counterintuitive. After all, there is a very strong opinion today against the markets. Governments have rushed in with unprecedented levels of aid and rescue effort precisely to overcome the vagaries that have resulted from the financial markets being left to their own devices. We are reminded constantly of the greed inherent in the markets, their inefficiencies, their lack of discipline and their herd behaviour to have been the cause of the financial crisis which then led to an all round economic recession. In the context of capital markets themselves, it is not surprising, therefore, that the Committee on Financial Inclusion headed by Dr. C. Rangarajan in its report in 2008, when the crisis had begun to loom large, could not have laid the same emphasis on the markets as a possible solution as the Committee headed by Dr. Raghuram Rajan did which also was focused on the same subject of financial inclusion but had finished its report well before it was possible to smell the crisis in the air. The short point is that the markets in general and financial markets in particular stand somewhat discredited in our immediate context today. Anyone who stands up to argue in favour of securities markets being facilitative or supportive, leave alone causative of financial inclusion can hardly expect to arouse much sympathy unless some effort is made to clear the blot that markets have suffered over the last couple of years.

The second aspect of financial inclusion, on the other hand appears much less non-problematic. The generic part in the phrase financial inclusion is of course inclusion of which financial inclusion is only a special instance. One needs to consider therefore as to what does inclusion signify in the context of economic growth. Inclusion is the latest in the series of metaphors by which one intends to reinstate the concern that benefits from economic growth need to be broad based across different income classes. There can be little objection to the egalitarianism behind inclusion. On the other hand, when one speaks of inclusion, a question which may legitimately arise is who is the one that includes. If it is economic growth that we have in mind as a process that needs to fulfil the criterion of financial inclusion then from Marx onwards, what is almost a constant theme is that the capitalist economy is inherently crisis prone. Schumpeter described capitalism as a process of creative destruction in which booms and busts are cyclical and the displacement from the cycles is offset by the accompanying benefits from innovation that these cycles make possible. The short point is that the capitalist economies, and one may as well call them economies in which markets dominate, are not only unmindful of the issue of equity but perhaps the dynamism that they reflect owes itself precisely to the rewards arising out of the inequitable distribution of rewards by the markets in favour of the innovative few as against the many.

Hence, growth in a market based capitalist setting by itself is not inclusive, and perhaps what is worse, can not be inclusive. Consequently, if inclusion needs to be incorporated into the process of economic growth then one way may be to insinuate an agency from outside which can in a manner of speaking act as an arbiter between different options at any point of time and then determine the preferred option which in the context of our discussion is the more inclusive option, of course with powers to police the infringements so as to ensure the least amount of deviation from the preferred option. Hopefully, we all recognize that this is a roundabout description of the state as a player in the market place. If this is the view taken by which inclusion is to be insinuated in the process of economic growth, what may invariably ensue is the displacement of the markets where choices are exercised by the decision making apparatus of the state. In this case, inclusion faces the potential of degenerating into at best another rhetorical attempt, only putatively in the interest of egalitarianism, but as a tool towards the consolidation of the hegemony of the state or considering that the state does not really enjoy the best performance appraisal reports in the economic sphere, an attempt at preventing further erosion of its acceptance. So, there is a sense in which inclusion as an emerging theology is capable of being aimed at undermining the markets and replacing them by statist endeavours of which the world around us, and I have a mind to break up the word us into US, is witnessing such profligacy as to render individual exemplification quite unnecessary. This view of financial inclusion batters the already beleaguered markets still further by setting up an unequal contest between the state and the markets where hopefully we all know who is the one with greater authority and which is the winning side across the world today.

One possible source of relief is that there is another sense in which financial inclusion is capable of being viewed not as one in which it is in conflict with the markets. This is the kind of dynamic view in evidence in the approach followed by Prof. C. K. Prahlad in his book “Fortune at the Bottom of the Pyramid” and subsequently, in the report of the committee under the chairmanship of Prof. Raghuram Rajan. This view concedes that economic growth in a market economy is not an output from a process which one or the other actor is fully and totally in charge of. Rather, economic growth is itself an outcome of actions pursued by a multiplicity of agents. However, the markets themselves have a limited reach owing to high transaction costs in accessing these markets. To give an example, the Committee on Financial Sector Reforms notes that while banking is the most preferred savings instrument, yet in the lowest income quartile, only 50% of those with cash savings have bank accounts. The answer as Prof. Prahlad notes is that the transaction costs of savings in formal institutions is as high as 10% for the rural poor. This is on account of small average size of transactions and the distance of the branches from the villages. This means that for the savings of the poor to flow into the so called financial markets where they can be intermediated and get allocated, what is required is action to bring down the transaction costs. Rangarajan Committee has made recommendations to launch a mission for financial inclusion and more specifically to set up two funds namely the Financial Inclusion Promotion and Development Fund and the Financial Inclusion Technology Fund under the aegis of NABARD, in which, going by the spirit of inclusion the market participants would perhaps not find themselves excluded.

One last comment on the capital markets which I may no mre than introduce as a part of this discussion. The equity markets in our country, notwithstanding the volatility which they have lately witnessed and a somewhat colourful legacy to boot, do manifest a much higher level of activity and interest as compared to the corporate debt markets unlike in the rest of the world. The obvious inference would be that in our situation these are different entities and need to be viewed differently from the perspective of regulation. In fact, in this context it may even be useful to make a distinction between market failure and lack of markets. Market failure is not quite the same thing as lack of the market itself. In this sense, corporate bond market does not exist in India and perhaps needs a completely different approach today so that the market as a mode of exchange comes to exist first before considering intervening in them to correct the instances of failure.

Thank you.

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