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Wednesday, September 22, 2021

In Fact: IDBI, IDFC and the story of infrastructure funding in India

Most appear to have forgotten the existence of IFCI, the last of the original developmental institutions, which was run to the ground by successive managements decades ago.

Written by Shaji Vikraman |
Updated: April 5, 2017 6:08:40 pm
IDBI, IDFC, infrastructure funding, infrastructure funding India, RBI, M Narasimham, Narendra Modi, indian express Last week, Prime Minister Narendra Modi inaugurated IDFC Bank, in its avtar as a commercial bank.

Some time after November 1991, when a committee headed by former RBI Governor M Narasimham submitted its recommendations on financial sector reforms, S S Nadkarni, the chairman of IDBI, worked out a proposal for a revamp of India’s top development finance institution. Nadkarni was quick to realise the implications of the move by the government and RBI to level the playing field between banks and financial institutions, promote competition to boost efficiency, and develop local financial markets.

The Narasimham panel had recommended the transfer of IDBI’s direct lending function to a separate institution, retaining only its apex and refinancing role, raising funds by financial institutions from the market on a competitive basis, and putting an end to concessional finance from the RBI and banks. By then, the RBI and the government had signalled interest rate deregulation — or freedom for banks and lenders to set interest rates on loans or borrowings. With the progressive growth in the capital market starting from the mid-80s, banks had started promoting subsidiaries for investment banking, mutual funds, factoring and other activities. Mirroring global trends, the divide between commercial banking, term loans and investment banking had begun to blur.


Thanks to a window opened by the RBI, institutions such as IDBI, ICICI and IFCI were then used to raising funds at relatively low rates, and for long tenures. Now, they had to raise money from the markets. This prompted IDBI to launch offerings such Flexi Bonds or deep discount bonds at interest rates of over 10%, which could be lent again to companies at only over 14%, while banks could raise deposits at far cheaper rates. The entry of banks into term lending led to more competition.

During 1992-92, at meetings with the government, Nadkarni apparently pitched for retaining concessional finance with IDBI, given its original mandate of promoting industries and firms. The other large financial institution then, ICICI, had seen the writing on the wall as well — having also learnt lessons from the trouble it had with its shipping finance subsidiary, SCICI.\

Nadkarni proposed a holding company for the IDBI group with three separate units — a commercial banking unit, an investment bank, and an infrastructure arm that would promote development projects. But even before this was mooted to the government, staffers at the lower rungs of the institution began an agitation that went on for a month — and Nadkarni committed that IDBI would not see a makeover.

In 1993, Nadkarni completed his tenure, and went on to become chairman of SEBI next year — but not before the organisation had submitted a proposal to the RBI for a banking licence. In January 1993, soon after C Rangarajan had succeeded S Venkitaramanan as Governor, the central bank opened up the banking sector, inviting the private sector to promote new banks. IDBI secured a licence in the first round, along with HDFC, UTI, and others.

In 1994, by when many state-owned banks had been listed on the stock exchanges, the IDBI Act was amended to allow listing and boost its capital base. Seeing the broader structural changes under way, and the challenges faced by financial institutions, a committee headed by the then IDBI chief S H Khan recommended a move towards universal banking, or what was loosely referred to as a “cafeteria approach” or a “financial services supermarket” — institutions without any boundaries on commercial or term lending, investment banking, and other services.

The Khan Committee recommended that banking licences be given to development finance institutions, allow them to establish 100% banking subsidiaries, and give them full financial support if they were to assume any developmental obligations.

Shortly afterward, there were discussions in the Finance Ministry on promoting a new institution solely for funding infrastructure projects, based on a report by an expert committee headed by Rakesh Mohan, who was to later become Secretary, Department of Economic Affairs, and RBI Deputy Governor. IDBI apparently pitched for this — given its track record and expertise — but the government decided to launch a new institution, IDFC, with what was in 1997 a generous capital contribution of Rs 1,000 crore.

By then, ICICI had almost vacated its role as a long-term financing institution, merging it with its own bank. Another institution, IL&FS, promoted originally by state-owned banks such as Central Bank of India, had started to promote various arms for specific projects, and bring on board serving IAS officers on deputation — so much so that the Department of Personnel announced that it was putting an end to the attempt to create an “IL&FS cadre”.

Midway through the process of setting up IDFC, the RBI got out after some issues arose. Later, during the term of the Vajpayee government, there was a conflict between the management and the government. When the UPA government took over in 2004, another infrastructure financing institution, IIFCL, was promoted, even as another old entity, the Export-Import Bank, pitched for a conversion into a bank. IDBI too made the transition towards a banking entity — except that it made the mistake of merging the bank with the financial institution, unlike ICICI, in which case the term lender merged with the bank.

Most appear to have forgotten the existence of IFCI, the last of the original developmental institutions, which was run to the ground by successive managements decades ago. Another one, IIBI in Kolkata, too was shuttered.

Last week, Prime Minister Narendra Modi inaugurated IDFC Bank, in its avtar as a commercial bank. Indian policymakers never tire of figures: billions of dollars needed for financing infrastructure and fancy products for funding such projects. But we just saw the last one funded with taxpayer money — a capital of Rs 1,000 crore — don a new look. Infrastructure funding, anyone?

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