## Tuesday, January 30, 2018

### Bank recapitalisation: the allocation challenge

by Rajeswari Sengupta and Anjali Sharma.

The government has announced its plans to allocate the first round of recapitalisation funds to the public sector banks (PSBs). While the recapitalisation announcement was received by the market with great enthusiasm, the allocation has received mixed reviews (link, link). Nearly 60% of the Rs. 0.88 trillion being infused in the first round will go to the weakest 11 banks that are under the RBI's Prompt Corrective Action (PCA) framework. As part of the plan, IDBI Bank, the lender with the most stressed assets gets Rs. 0.10 trillion, the single largest amount. State Bank of India and Indian Bank, the relatively better performing banks, get Rs. 0.08 trillion and no allocation respectively.

In this article we look at four questions with regard to the allocation plan:

2. Why has more capital been allocated to the highly stressed banks?

3. Could the government have adopted an alternate, more growth oriented allocation strategy?

4. What objectives can recapitalisation fulfill?

No. The recapitalisation funds committed are far less than what the banks need.

In September 2017, the PSBs had stressed assets to the tune of Rs. 8.9 trillion. Against these, they held provisions of Rs. 3.4 trillion, which translates into a provision cover ratio (PCR) of 38%. PCR is an effective measure of what the banks expect to recover from their stressed assets. For example, if they expect to recover 40% of the value, they will provide for the remaining 60%. A PCR of 38% could mean one of two things. Either the PSBs expect to recover 62% of the value of their stressed assets, or they are under-provisioned. In an earlier article, we gave our reasons for believing that anything more than a 30% recovery rate is optimistic. Early indications from the corporate resolution plans submitted under the Insolvency and Bankruptcy Code (IBC) support this belief. Further, the true extent of PSBs' stressed advances is still not clear. Analysts are pointing out that stressed advances are set to grow further.

Given this, a 38% PCR indicates under-provisioning rather than expectations of recovery. Table 1 shows the additional provision required to increase PCR to various levels.

Table 1: Additional provision required at different levels of PCR

T1 capital required*

For PCR 50% 1.1
For PCR 55% 1.5
For PCR 60% 1.9
For PCR 70% 2.8

Source: Authors' estimates; PSBs Q2-18 Analyst
Presentations
* to maintain T1 CRAR of 9.5%.

PSBs currently have a Tier 1 capital base of Rs. 5.6 trillion. This is just adequate to meet the 9.5% Tier 1 capital adequacy requirement (CAR) imposed by RBI on the banks. This means that for every rupee of additional provision required, a rupee of Tier 1 capital will need to be infused in these banks. There is little hope that the PSBs' profits will reduce the need for recapitalisation. In the last two quarters, these banks have incurred losses, with Q2 losses being higher than that in Q1.

To reach a PCR of 70%, PSBs need to make additional provisions of Rs. 2.8 trillion. This is also the amount of additional capital they need. Since the IBC resolution process imposes a 270 day timeline, a large part of this requirement for capital will show up in PSB balance sheets in FY 18-19.

Against this, the government is committing Rs. 1.53 trillion, over two years. With this the PSBs will get to a PCR of 55%. This is low. The two year phasing, with Rs. 0.88 trillion being infused in FY 18-19 and the remaining Rs. 0.65 trillion in FY 19-20, is also a problem. It will ensure that: (1) PSBs will continue to be capital starved in FY 18-19, and (2) all the additional capital will get consumed for stress resolution, with no room left for supporting any growth in credit.

### Why has more capital been allocated to the highly stressed banks?

There is no other choice. The stressed banks need additional capital today, without which their condition will worsen.

To understand this we look at bank level data. We classify the 21 PSBs into three categories, based on what their Tier 1 capital position would be if they were to increase their PCR to 70%, with no additional capital being infused.

• Category 1: Banks whose Tier 1 CAR will be at 7% or more.

Under Basel III norms, banks need to hold Tier 1 CAR of at least 7%. RBI requires Indian banks to hold a Tier 1 CAR of 9.5% (7% Tier 1 Capital + 2.5% Capital Conservation Buffer).

• Category 2: Banks whose Tier 1 CAR will be positive but less than 7%.

• We further divide category 2 banks into two sub-categories:

• Category 2a: Banks whose Tier 1 CAR will be more than 3.5% but less than 7%.
• Category 2b: Banks whose Tier 1 CAR will be between 0% and 3.5%.

Within category 2, category 2a are the relatively less stressed banks, and 2b are the more stressed ones.

• Category 3: Banks whose Tier 1 CAR will be negative.

In Table 2, we present details of the asset quality, capital adequacy and profitability of these categories as at September 2017. We also look at the additional Tier 1 capital that each of these categories needs in order to reach a PCR of 70%, while maintaining Tier 1 CAR at 9.5%.

 Unit Category 1 Category 2a Category 2b Category 3 (T1 ≥ 7%) (3.5% ≤T1 ≤ 7%) (0% ≤ T1 ≤ 3.5%) (T1 ≤ 0%) Number of banks 2 7 8 4 Banks in RBI-PCA - 1 6 4 Names of banks SBI, Vijaya Bank, BoB, Allahabad Bank, Andhra Bank, IDBI Bank, IOB, Indian Bank Syndicate Bank, OBC, UCO Bank, J&K Bank. Dena Bank Union Bank of India, Central Bank, Corporation Bank, United Bank of India BoI, PNB, Canara Bank Bank of Maharashtra Sept-17 performance Stressed advances/Total advances % 11.5 13.8 18.5 28.4 PCR % 39.8 38.5 38.1 34.3 T1 CAR % 11.1 9.2 8.1 8.5 H1 Net Profit Rs. trillion 0.04 0.01 -0.06 -0.04 Additional T1 capital needed* Rs. trillion - 0.07 0.22 0.10 At PCR of 70% T1 CAR (without capital infusion) % 7.7 4.6 2.1 -0.9 Additional T1 capital needed** (A) Rs. trillion 0.4 1.0 0.8 0.6 Share of additional capital % 14 37 29 20 Phase I capital infusion Allocation (B) Rs. trillion 0.09 0.35 0.24 0.21 Allocation/Requirement (B/A) % 24 32 29 40 PCR after Phase 1 allocation % 43.5 46.7 42.3 45.1 Source: Authors' estimates; Q2 analysts' presentations of PSBs * To bring T1 CAR to 9.5%, at a existing level of PCR. ** To bring T1 CAR to 9.5%, at a PCR of 70%.

We find that banks in categories 2 and 3 are short of their Tier 1 capital requirement even today. They need around Rs. 0.39 trillion of additional capital in FY 18-19 just to meet the regulatory requirement of 9.5% Tier 1 capital, with no improvement in their PCR. The 12 most stressed banks, those in categories 2b and 3 need close to 80% of this additional capital.

Unless the most stressed banks get additional capital, they will not have the ability to take the haircuts that the IBC outcomes will require them to take. Most stressed corporate loans are through lending consortia which include both the less stressed and the highly stressed PSBs as members. If these weak banks do not receive capital, they will stall the IBC resolution process, thereby affecting the recovery from stressed assets for all banks involved.

Since the most stressed banks are also the ones incurring losses, over time their capital position will worsen. The first phase of capital allocation reflects this reality and allocates the largest share to these banks.

With the Phase I infusion, after meeting the regulatory capital requirements, the overall PCR will increase from the Sept-17 level of 38% to 44.5%. Even at these levels, given that recovery rates are likely to be far lower, PSBs will remain significantly under provisioned.

### Could the government have adopted an alternate, more growth oriented allocation strategy?

Not really. Capital for dealing with stress has to precede growth capital.

Table 2 highlights the challenge of allocating the recapitalisation amount among the 21 PSBs. All PSBs are stressed, some less and others more so. Even the relatively less stressed banks like SBI and Indian Bank will require capital infusion to shore up provisions to levels where they can deal with their stressed assets while meeting the regulatory capital requirement. As long as the aggregate supply of capital is less than the Rs. 2.8 trillion that is required (Table 1), there is no allocation scenario under which all PSBs will be able to meet their regulatory capital requirement and also grow their advances.

Within the constraint of the capital committed, we consider some scenarios to evaluate whether any alternate allocation strategies could have prioritised growth.

1. Scenario 1: The entire Rs 0.8 trillion of capital is given to the two banks in category 1 and the less stressed banks in category 2a. The banks in categories 2b and 3 get nothing.

Theoretically, this scenario can generate some credit growth. The trade-off being that the most stressed banks do not get any additional capital. In reality, this is not a scenario that the government can implement for various reasons:

• There is a public perception problem. If the government chooses the less stressed banks over the highly stressed ones, it will push the ones that are not chosen into further distress. These stressed PSBs will not be able to raise capital from the market, sell their non-core assets at reasonable valuations, or make recoveries from their stressed assets. It is possible that such an action may cause panic among the investors and depositors of these banks.

• The highly stressed PSBs, like other PSBs, have raised capital by issuing AT1 or T2 bonds. In most cases these bonds have also been subscribed to by foreign investors. For these banks, a fall in the level of capital below regulatory thresholds will tantamount to a technical default. Since PSBs are owned by the government, their bonds carry the implicit guarantee of the government. A technical default on these bonds would be equivalent to a sovereign default.

• There is also a question whether some banks can be kept in a state of non-compliance with regulatory capital norms on an ongoing basis. This can only happen if the RBI relaxes its regulatory standards on a selective basis for the most stressed banks. Such an action would be undesirable, from the perspective of systemic risk, and macroeconomic stability.

• If the highly stressed banks are kept capital starved, they will derail the stressed asset resolution process for other banks in the system as well, as discussed earlier.

2. Scenario 2: The entire Rs. 0.8 trillion of capital is allocated to the 12 highly stressed banks in categories 2b and 3.

The banks in these categories need Rs. 1.4 trillion of capital infusion (Table 2) to bring T1 CAR to 9.5%, at a PCR of 70%. While their health will somewhat improve with this infusion, the capital gap will continue to exist. Under this scenario, there will be no growth in credit for the next two years. Given that the capital gap will persist, the PSBs may continue to delay recognition and resolution of their stressed assets.

3. Scenario 3: The government merges the highly stressed banks with the less stressed ones, or closes down the highly stressed banks.

The need for additional capital to deal with stressed assets will not go away with a merger between PSBs. It will continue in the merged entities. Since most PSBs are very similar to each other in the composition of their assets and their liabilities, a linear addition of their balance sheets is not a solution to their stressed assets problem.

The same holds true even if some of the most stressed banks are closed down. Their assets, including the stressed assets, will need to be transferred or sold to another bank or financial institution at some value. If this sale/transfer takes place at face value, the entities that buy these assets will need the additional capital required to take haircuts and resolve stress. If the sale/transfer takes place at a discount to face value, the banks being closed down will need additional capital to meet all their liabilities and obligations prior to being closed down.

The government does not have a real choice in allocation strategy as long as the capital supplied is less than the capital required for dealing with the PSBs' stressed assets. The requirement for additional capital remains, irrespective of the banking sector strategy that is adopted.

### What objectives can recapitalisation fulfill?

The Indian banking system currently faces two big challenges:

1. The banking system is burdened by stressed assets and its existing capital base is inadequate to deal with this problem. Banks need additional capital to take the necessary haircuts to resolve these stressed assets.

2. Bank credit to the industrial sector has stagnated over the last few years. In the last six quarters, quarter-on-quarter bank credit growth has been negative. Non-bank credit sources such as the corporate bond market remain under developed. While there are demand side constraints owing to stressed corporate balance sheets, for an economy growing at 6-6.5%, there are many other segments which are in need of credit. These segments remain credit-starved because of the slowdown in the banking sector. This will have adverse consequences for the overall growth of the economy going forward.

The bank recapitalisation program could be an important step to address both these challenges. It could provide PSBs with the capital required to deal with their stressed assets, and it could revive bank lending, to the extent that demand for credit exists or picks up going forward. However, this can happen if the PSBs hold adequate levels of capital to meet both the objectives.

Our analysis shows that the additional capital that is required for dealing with stress far exceeds what has been committed so far. Only after this capital gap is addressed, can there be a possibility of re-starting credit growth. At the current level of recapitalisation commitment, PSBs will reach a provision cover of 45% on their stressed assets. This implies that they need to recover 50-60% of the value of these stressed assets. This seems highly optimistic given the status of resolution efforts currently underway as part of IBC proceedings.

In the first phase of recapitalisation, the government has decided to inject bulk of the Rs. 0.88 trillion of capital into the most stressed PSBs. Our analysis shows that the government does not have a choice to adopt an alternative allocation strategy that would have revived credit growth. To do that, the overall supply of capital needs to be increased to levels that are in excess of what is required for dealing with the PSBs' stress.

Given that the government has chosen to solve the banking crisis through a recapitalisation program, we have empirically analysed the objectives that such a program may fulfil. The larger issue at hand is the use of taxpayers' money to repeatedly bail out failed banks. Recapitalisation is not the solution to the problems of Indian banking. This needs wide ranging structural and regulatory reforms. The question that needs to be asked is that in absence of such reforms, how wise is it to keep throwing public money at a recurrent problem?

Rajeswari Sengupta and Anjali Sharma are researchers at Indira Gandhi Institute of Development Research, Mumbai. The authors thank Joshua Felman and Harsh Vardhan for useful comments and suggestions. We also thank Utso Pal Mustafi of IGIDR for assistance with the data.

## Monday, January 29, 2018

### Analysing the National Medical Commission Bill: Composition

The Parliament referred the National Medical Commission Bill, 2017 (NMC Bill) to the Standing Committee on 2 January, 2018. This is the thirteenth legislative attempt (bills and amendments) to reform the Medical Council of India (MCI). Due to concerns about its functioning, the MCI has required interventions by the legislature and the judiciary. In this series, we analyse some provisions of the NMC Bill in light of what the experience of professional regulation teaches us.

### Composition of NMC (Section 4)

Section 4 of the NMC Bill lays down the composition of the proposed NMC. In comparison with the 104-member board of the MCI, the new NMC board will have only 25 members. This is a welcome move. Literature shows that smaller deliberative bodies are more efficient than larger bodies (Council for Healthcare Regulatory Excellence, 2011; Klimek et. al., 2009). However, the other problem, which persists, is the domination of doctors in the regulator (20 out of 25 members will be from the health profession). Only three members will be experts from other fields, not representing the health profession. Just like the MCI, there is a high probability of regulatory capture of the NMC leading to poor outcomes for patients.

Of the 25 members, there will be twelve ex-officio members, eleven part-time members, a Chairperson and a Member Secretary.

The twelve ex-officio members will be:

1. Four presidents (doctors) of other subordinate boards of NMC (which will carry out core functions of the NMC)
2. Six directors from medical institutes, like AIIMS, Tata Memorial Hospital and PGIMER
3. The Director General of DGHS
4. A representative from MoHFW

The eleven part-time members will be:

1. Three representatives from the Medical Advisory Council (an advisory body under the NMC Bill, dominated by doctors)
2. Five practising doctors
3. Three experts in other fields, like law, consumer or patient rights and economics

The Chairperson will be a doctor with 20 years of work experience, and the Member Secretary will be selected by the government.

Conservatively, 20 out of 25 members of the NMC will be doctors. This number may vary if the Member Secretary is a doctor as well. Only three part-time members will be experts from other fields.

There are additional ways in which doctors will dominate the functioning of NMC. As an example, all decisions of the NMC will be taken by a majority vote. In the event of a tie, the Chairperson (doctor) will have a casting vote (S. 9). The four subordinate boards under the NMC, which will carry out its core functions of setting and enforcing standards, will be composed of doctors predominantly (S. 17).

### Evolving role of regulator

Professional regulators, around the world, have sought to restrict the supply of practitioners, thereby benefitting the existing practitioners. At the time of its inception, the primary objective of the MCI was also to control entry of doctors. Hence, the MCI was entrusted with two functions: (a) recognition of medical qualifications, which entitled individuals to practice the profession; and (b) maintaining a register of doctors to prevent unregistered individuals (or quacks) from practicing medicine. Since, doctors were considered best-placed to carry out the task of regulating entry, the MCI board comprised solely of doctors. Similarly, medical regulatory boards in other jurisdictions, like the UK and California, were also composed of doctors.

During the 1960s, there was growing criticism of the health profession due to increasing instances of poor clinical performance. For example, errors in diagnoses, errors in performing a procedure, under-informing or misinforming patients, use of outmoded tests or procedures, failure of peer networks to report poor practice, etc. Arrow, 1963, observed that medical care was plagued with market failures in the form of information asymmetry. Due to the complexity and uncertainty of medical treatment, patients were unable to evaluate the quality of service being provided. In turn, doctors exercised undue influence over patients. The academic understanding of regulatory capture (Stigler, 1971), public-choice theory (Black, 1948), and special interest groups (Grossman and Helpman, 2001) led to changes in legislation in the 1970s and 80s. From protecting the profession, the objective of legislation shifted to protecting and promoting patient safety. The Medical Act, 1983, in the UK, and the changes to the Medical Board of California in 1975 are examples of legislatures incorporating the academic understanding of professional regulation.

### Removing regulatory capture

The new role also entailed a shift in the composition of the medical regulatory boards. A doctor-dominated board, designed to serve the interests of its peers, was no longer desirable. The new role entailed a fair, impartial and independent body to prosecute and adjudicate violations of minimum standards. This led to the demand for increasing representation of patient interest in medical regulatory boards (Baggott, 2002).

Over the years, health profession regulators started including representation from public members. For example, the General Medical Council (GMC) in the United Kingdom comprises equal number of doctors and public members. Seven out of fifteen members of the Medical Board of California (MBC) are public members. At least one-third of the members of the Medical Board of Australia(MBA) must be public members.

### MCI remained outdated

In India, some attempt was also made to hold doctors responsible for malpractice and negligence. The Indian Medical Council (Second) Amendment Act, 1964 empowered the MCI to set up standards of medical profession. However, the MCI persisted with its outdated design. Other than eight members (to be nominated by the Central Government), the remaining members of the MCI must have medical qualifications. As of today, the MCI comprises of 104 members, all of whom are doctors (including the 8 nominated members). This has led to the regulatory capture of MCI.

The regulatory capture is reflected in MCI's reluctance to discipline doctors. The 1964 amendment empowered the MCI to prescribe the professional code of ethics. The first regulation were enacted in 2002: a gap of 38 years. The MCI has also shown a poor track record in investigating and punishing doctors accused of malpractice or negligence. A public interest litigation in 2000, revealed that there was no system for maintaining an updated database of complaints against doctors; some complaints were pending for more than 42 years; and not a single doctor's license had been permanently cancelled. A 2016 Parliamentary Committee report reviewing MCI, noted that between 1963-2009, just 109 doctors were blacklisted by the Ethics Committee of the MCI. In contrast, in 2016-17 alone, the MBC revoked or required surrender of 143 licenses and issued 86 public reprimands. Similarly, the GMC issued 11 warnings, suspended 93 licenses, and permanently debarred 70 doctors in 2016.

### NMC will not change much

The proposed NMC is more diverse than the MCI. However, compared to other jurisdictions, the NMC has low representation of public members (See Table 1). Even the NMC as proposed by NITI Aayog was more diverse (10 out of 20 members were from the health profession).

 Jurisdiction Regulator Professional Public Govt. Total India MCI 104 -- -- 104 NMC 20 3 2 25 NMC-NITI 10 5 5 20 California (USA) MBC 8 7 -- 15 UK GMC 6 6 -- 12 Australia MBA 8 4 -- 12

Inclusion of government representatives is unique to NMC; other medical regulatory boards don't include government representatives, neither does the incumbent MCI. This raises some concern as the government plays an active role in health care delivery, through direct provision, as well as financing of health care in India.

### Way forward

Modern professional regulators are like the state, in so far as they incorporate legislative (by setting standards), executive (by enforcing prescribed standards) and judicial (by adjudicating violations of prescribed standards) functions. In the case of health professions, the regulator ought to be statutory. The statutory regulator should be designed with the same internal safeguards and processes as the state (OECD, 2014; Shah et. al., 2013; Price, 2002). One of these safeguards is a fair, independent and impartial regulator. The proposed NMC violates this basic principle, in so far it is dominated by health professionals. Consequently, doctors will continue to act as judges in their own cause. Like its predecessor, NMC will likely be a poor enforcer of minimum standards in the health profession.

Any regulator is the child of its constituent document. World over, professional regulators dominated by members of the profession are on their way out. This is also reflected in the composition of some other professional regulators in India. For instance, the Insolvency and Bankruptcy Board of India, constituted under the Bankruptcy Code, 2016, regulates insolvency professionals. It includes zero representation from insolvency professionals. A doctor-dominated MCI has functioned in an opaque and unaccountable manner. This has also eroded public confidence in the profession. In light of India's experience with MCI, the composition of NMC should not be dominated by doctors. A board with parity between professional and non-professional members (maybe even a slight majority of non-professionals) is a superior institutional design.

### References

Ajay Shah et. al., From clubs to States: The future of self-regulating organisations, Ajay Shah's blog, December (2013).

Anirudh Burman, Building the institution of Insolvency Practitioners in India, Ajay Shah's Blog, December (2015).

Anirudh Burman and Shubho Roy, Building an institution of insolvency practitioners in India, Indira Gandhi Institute of Development Research, December (2015).

Business and Professions Code, Division 2, Chapter 5 (California).

Council for Healthcare Regulatory Excellence, Board size and effectiveness: advice to the Department of Health regarding professional regulators, September (2011).

David Price, Legal Aspects of the Regulation of the Health Professions, In: Regulating the Health Professions, SAGE Publications (2002).

Duncan Black, On the Rationale of Group Decision-making, Journal of Political Economy, February (1948).

Gene M. Grossman and Elhanan Helpman, Special Interest Politics, Massachusetts Institute of Technology (2001).

George J. Stigler, The Theory of Economic Regulation, The Bell Journal of Economics and Management Science (1971).

Kenneth J. Arrow, Uncertainty and the Welfare Economics of Medical Care, The American Economic Review, December (1963).

Linda A. McCready and Billie Harris, From Quackery to Quality Assurance: The First Twelve Decades of the Medical Board of California, Medical Board of California (February, 1995).

Medical Act, 1983 (UK).

National Medical Commission, 2017 (as introduced in the Lok Sabha).

NITI Aayog, A Preliminary Report of the Committee on the Reform of the Indian Medical Council Act, 1956 (August, 2016).

OECD, The Governance of Regulators, OECD Publishing, Paris (2014).

Parliamentary Standing Committee on Health and Family Welfare, The Functioning of Medical Council of India, Ninety-Second Report, March (2016).

Peter Klimek et. al., Parkinson's Law Quantified: Three Investigations on Bureaucratic Inefficiency, Journal of Statistical Mechanics Theory and Experiment, August (2008).

Rob Baggott, Regulatory Politics, Health Professionals and the Public Interest, In: Regulating the Health Professions, SAGE Publications (2002).

Shyama Nagarajan and Shubho Roy, Concerns about how the Medical Council of India thinks about medical malpractice, Ajay Shah's Blog, July (2017).

Siddhartha P. Kar, Addressing underlying causes of violence against doctors in India, The Lancet (May, 2017).

The authors are researchers at the National Institute of Public Finance and Policy.

## Friday, January 26, 2018

In Russia, 'The Death of Stalin' Is No Laughing Matter by Matthew Luxmoore in The New York Times, January 24, 2018.

Wreck found by reporter may be last American slave ship, archaeologists say by Ben Raines in Al, January 23, 2018. What remarkable people.

Budget 2018: Capital gains tax: First principles first by Debashis Basu in Business Standard, January 22, 2018.

Mutual funds with feet of clay by Ajay Shah in Business Standard, January 22, 2018.

Android Users: To Avoid Malware, Try the F-Droid App Store by Sean O'Brien and Michael Kwet in Wired, January 21, 2018. On your phone, go to f-droid.org and install the app.

The only good news in the new ASER data: The triumph of English and why it bodes well for India's youth by T N Ninan in Business Standard, January 19, 2018.

Transparent Marking by Parth J Shah in The Indian Express, January 19, 2018.

Apple's Tim Cook: 'I don't want my nephew on a social network' by Samuel Gibbs in The Guardian, January 19, 2018.

How to tame the tech titans in The Economist, January 18, 2018.

Making solar cells in India: Not a bright idea in Business Line, January 18, 2018.

Thicker eggshells help cuckoos hatch earlier than their nestmates in The Economist, January 18, 2018.

Deep thinking on blockchain, bitcoin and the Internet: Beyond the Bitcoin Bubble by Steven Johnson in The New York Times, January 16, 2018.

Philip K. Dick and the Fake Humans by Henry Farrell in Boston Review, January 16, 2018.

Joseph Conrad: Old man of the sea by Elizabeth Lowry in The Times Literary Supplement, January 16, 2018.

Reform financial space with new policies backed with AI, cryptocurrency by Naveen Surya in Business Standard, January 16, 2018.

How Dirt Could Save Humanity From an Infectious Apocalypse by Peter Andrey Smith in Wired, January 14, 2018.

Wrong time for fiscal squeeze by Deepak Nayyar in Mint, January 12, 2018.

The 6.5% warning by Ila Patnaik in The Indian Express, January 11, 2018.

The Case Against Civilization by John Lanchester in The New Yorker, September 18, 2017.

David Brooks is writing a fascinating series on individuals and democracy, seen through the lives of (1) Thomas Mann, (2) John Stuart Mill.

## Thursday, January 25, 2018

### PenCalc: A tool for simulating pension outcomes

Policy decisions on pensions should be shaped by an evaluation of the link between various parameters of the pension scheme and potential outcomes. For example, the setting of fees, investment guidelines, annuity policies, should be designed after a careful study of how these will affect the pension received. This is especially important in defined-contribution pension systems where there is considerable uncertainty about returns that may be obtained. Pension outcomes must, therefore, be understood through the lens of the risk-return trade-off.

This article presents penCalc, a new open source software system developed for conducting simulations on pension outcomes. It allows the key variables that may affect the pension to be changed, and presents the user with a range of possible pension amounts. This can help policy makers evaluate the impact of a policy change on pension outcomes. This can also be used by individuals for retirement planning.

### penCalc

penCalc simulates pension scenarios based on assumptions on age of entry, exit, wage growth, contribution rate, portfolio allocation, asset returns, annuity prices, and inflation. It is developed using R, an open source programming language and software environment for statistical computing, supported by the R Foundation for Statistical Computing. The package may be installed as follows:

devtools::install_github("renukasane/penCalc")

### Assumptions

The default assumptions made in penCalc are shown in Table 1. They have been chosen to be as close as possible to the National Pension System (NPS) in India. For example, the age at exit is the current retirement age. The returns assumptions are derived from a study of the Indian financial environment. The life-cycle allocation is sourced from the Deepak Parekh Committee Report set up by the PFRDA in 2009 on investment allocations. In a life-cycle portfolio allocation, the exposure to equity is very high at younger ages, and gradually reduces as one approaches retirement. The fees and expenses also reflect the current AUM charges in the NPS, as well as the flat fee charged by the Centralised Record-keeping Agency (even though this may not be exactly INR 100). The annuity price is taken from the current offerings of the Jeevan Akshay policy of the Life Insurance Corporation of India.

 Age Age of entry 25 Age of exit 60 Wages and contributions Starting wage INR 25,000 per month. Wage growth (nominal) 8% per annum Contribution rate 20% of wage Initial amount (already in the account) 0 Inflation (mean, sd) (4%, 0) Investment portfolio Life-cycle Returns (nominal) GOI bonds (mean, sd) (7%, 0) Corporate bonds (mean, sd) (10%, 0) Equities (mean, sd) (16%, 25%) Fees AUM 0.01% Flat fee INR 100 p.a. Annuity parameters Percent to be annuitised 40% Price for an INR 1 a day nominal annuity INR 4,087

These default numbers can be changed to reflect different views on NPS rules as well as the Indian macroeconomic environment. The tool can also be used for pension income simulation with assumptions that reflect the environment in different countries.

### Using penCalc

The structure of the code is given below. The function consists of various parameters, and the default values set against the parameters. For example, age.entry is set to 25, while age.exit is set to 60. All of these parameters can be changed.

  x <- pencalc(age=list(age.entry=25,
age.exit=60),
wage=list(25000,
0.08,
0.2,
initial.amount=0),
inflation=list(c(0.04,0), real=TRUE),
inv.weights=list("lc"),
returns=list(data.frame(mean=c(0.07, 0.10, 0.16),
sd=c(0, 0, 0.25)),
c(monthly.fees.expenses=0.01, 100)),
annuity=list(perc.annuitised=0.4, value=4087))


### How the model works

The starting wage and the yearly growth rate in wages are used to generate a vector of wages for the years the subscriber is expected to be in the system. The number of years is calculated as the difference between the age of entry and exit. In this particular instance, the number of years is 60-25+1, that is 36 years.

The contribution rate is then used on this vector of wages to arrive at the rupee value of contributions made each year in the NPS. The wages are expected to stay the same in each month of the year. For example, in this case, the contributions will be 20% of the wage of INR 25,000 in the first year.

The returns on each instrument are simulated from a normal distribution with the mean and standard deviation of that particular instrument. The investment weights and returns are used to arrive at a portfolio return. The monthly fees and expenses are deducted from the portfolio returns. The contributions and returns are accumulated over each year in the system and give us the total accumulation in the pension account.

If the user has entered the "real=TRUE" option, then the rate of inflation is subtracted from all inputs. The results of the model in such a case will be in terms of today's rupee value, and not nominal values. The default inflation rate is 4%, but as discussed earlier, this can be easily changed.

The simulation is done 1,000 times and generates a distribution of accumulated amounts in the NPS account. The amount to be annuitised (for example 40%) is subtracted from this accumulation. The annuity price is used to arrive at the monthly pension that can be purchased with this amount. The remainder (for example 60%) is available as a lump sum withdrawal. The model has the following outputs:

1. In hand accumulation: This is the average amount of lump sum withdrawal available at retirement. In the case of 40% annuitisation, the in hand accumulation is the remainder 60% of the total accumulated balances. In the case of full annuitisation, this amount will be zero, as the entire accumulation is turned into an annuity.
2. Monthly pension: This is the rupee value of the average monthly pension the retiree can expect to get after the purchase of the annuity.
3. Replacement rate: This is the ratio of the pension to the last drawn wage. The replacement rate only makes sense for government employees. For those with varied contributions over their lifetime, it is not sensible to divide the pension with the last wage. The replacement rate should be ignored for subscribers other than regular salaried employees.

### Example 1: Portfolio dominated by GOI bonds

This example demonstrates the use of the calculator for an investment allocation between government bonds and equity of 85%and 15% respectively. We have chosen the real=TRUE option. Hence all the results are in 2018 rupees.

Since the example is using all the default values and only changing the investment weights (as the default weights are the life cycle model), we change that parameter in the model. We first create a weightmatrix where we specify the portfolio allocation into government debt and equity. We then supply the weightmatrix to inv.weights. The code is as follows:

library(penCalc)
weightmatrix <- data.frame(goi_bonds=rep(0.85, 36),
corp_bonds=rep(0,36),
equity=rep(0.15,36))
set.seed(111)
# 40% annuity
x <- pencalc(inflation=list(c(0.04,0),real=TRUE),
inv.weights=list(weightmatrix))

# 100% annuity
y <- pencalc(inflation=list(c(0.04,0), real=TRUE),
inv.weights=list(weightmatrix),
annuity=list(perc.annuitised=1, value=4087))


Table 2 describes the results. The first three columns show the results for 40% annuitisation, while the next three show the results for 100% annuitisation. The results are in "real" terms. The numbers in the bracket represent the standard deviation - this reflects the uncertainty around the average lump sum and pension amounts.

Table 2: Portfolio dominated by GOI bonds
40%
annuitisation
100% annuitisation
Average 10th percentile 90th percentile Average 10th percentile 90th percentile
Monthly Pension (in Rs.) 23,297 (828) 22,196 24,361 58,242 (2072) 55,491 60,902
In hand accumulation (in Rs. million) 4.7 (0.17) 4.4 4.9 0.0 (0.0) 0.0 0.0
Replacement rate 23.6 (0.80) 22.5 24.7 59.0 (2.1) 56.2 61.7

With 40% annuitisation, the average pension at the age of 60 is INR 23,297. This provides an average replacement rate of 24%and also provides a lump sum withdrawal of INR 4.7 million. Pension at the 90th percentile of the distribution is INR 24,361, while at the 10th percentile is INR 22,196. The replacement rates are 25% and 22% respectively.

With 100% annuitisation, the average monthly pension increases to INR 58,242 and the replacement rate to 59%. The 90th percentile of this distribution is INR 60,902, with a replacement rate of 62% while the 10th percentile is 55,491 with a replacement rate of 56%.

### Example 2: Life-cycle portfolio investment

The previous example is heavily skewed towards government bonds. Given the huge equity premium in India, it is useful for the NPS to invest more heavily in equities. One way of increasing equity exposure is through a life-cycle portfolio allocation. The current example uses the default life-cycle portfolio weights indicated by the "lc" option. However, these weights can also be changed. The code is as follows:

library(penCalc)
set.seed(111)
# 40% annuity
x <- pencalc(inflation=list(c(0.04,0), real=TRUE),
inv.weights=list("lc"))

# 100% annuity
y <- pencalc(inflation=list(c(0.04,0),real=TRUE),
inv.weights=list("lc"),
annuity=list(perc.annuitised=1, value=4087))


Table 3 describes the results. The average pension at the age of 60 is INR 36,744 with 40% annuitisation. This provides a replacement rate of 37% and also leaves a lump sum amount of INR 7.4 million. The average here is higher than that obtained using a portfolio dominated by government bonds. However, the standard deviation is also higher, suggesting that the risk is higher. This is not surprising because the exposure to equity is higher in the life-cycle investment portfolio.

Table 3: Life-cycle portfolio investment
40% annuitisation 100% annuitsation
Average 10th percentile 90th percentile Average 10th percentile 90th percentile
Monthly Pension (in Rs.) 36,744.3 (3702.4) 32,017.9 41,462.0 91,860.8 (9256.1) 80,044.7 103,654.9
In hand accumulation (in
Rs. million)
7.41 (0.75) 6.45 8.35 0.0 0.0 0.0
Replacement rate 37.2 (3.80) 32.4 42.0 93.1 (9.4) 81.1 105.1

Pension at the 90th percentile of the distribution is INR 41,462, with a replacement rate of 42%, but at the 10th percentile is INR 32,018 with a replacement rates of 32%. Full annuitisation provides an average monthly pension of INR 92,000 and a replacement rate of 93%. At the 10th percentile, the replacement rate drops to 81%, but at the 90th percentile it jumps up to 105%.

### Example 3: Varying contribution rates

The assumption of a constant contribution rate is not realistic in the case of informal sector workers. The model handles this by using a vector of wages, and a contribution rate of 100% in the model. This effectively makes the values entered in the wage the actual contribution. In the example described below, we simulate 36 values for wages from a normal distribution with a mean of INR 3,000 and a standard deviation of INR 100. We then use a contribution rate of 100%. The code is as follows:

library(penCalc)
wage = round(rnorm(36, 3000, 100),0)
# 40%
set.seed(111)
x <- pencalc(wage=list(wage,
0,
1,
initial.amount=0),
inflation=list(c(0.04,0),real=TRUE))

#100 %
set.seed(111)
y <- pencalc(wage=list(wage,
0,
1,
initial.amount=0),
inflation=list(c(0.04,0), real=TRUE),
nnuity=list(perc.annuitised=1, value=4087))


Table 4 presents the results. As the replacement rate is meaningless in this context, it is not shown in the table. An informal sector worker with average monthly contribution of INR 3,000 every year for 36 years, can expect an average monthly pension of INR 13,454 with 40% annuitisation, or an average monthly pension of INR 33,635 with 100% annuitisation.

Table 4: Varying contribution rates
40%
annuitisation
100% annuitsation
Average 10th percentile 90th percentile Average 10th percentile 90th percentile
Monthly Pension (in Rs.) 13,454 (1698.3) 11,305.8 15,623.4 33,635.2 (4,245.9) 28,264.5 39,058.5
In hand accumulation (in
Rs. million)
2.7 (0.34) 2.3 3.1 0.0 (0.0) 0.0 0.0

### Conclusion

penCalc is a new open source software system developed to model pension outcomes. It allows the key variables of interest to be changed - and sets out a range of plausible outcomes using data on returns, equity premium and income from annuities purchased at retirement. The results are averages from the simulation. It is, therefore, useful to also look at the standard deviation to get a complete picture of the possible outcomes. As has been demonstrated in the examples, the outcomes can vary considerably, and retirees must factor in this uncertainty as they do their financial planning.

A recent working paper, Simulating Pension Income Scenarios with penCalc: An Illustration for India's National Pension System, demonstrates many examples of the use of this tool for different assumptions of equity returns, and annuity prices. We hope this software becomes a useful tool for policy makers and regulators as they develop pensions policy.

Renuka Sane is an associate professor at the National Institute of Public Finance and Policy. I thank Arjun Gupta for collaboration on the software development, William Price for collaboration on the working paper. The work was supported through the FIRST Initiative in funding the engagement with India's Pension Fund Regulatory and Development Authority.

## Monday, January 15, 2018

Fixing Aadhaar: Security developers' task is to trim chances of data breach by Sunil Abraham in Business Standard, January 10, 2018.

The next level of credit analysis by Ajay Shah in Business Standard, January 8, 2018.

Financial Services: Ready for the Cloud? by Lim May-Ann in NIPFP YouTube Channel, January 8, 2018.

The China model: A Chinese Empire Reborn by Edward Wong in The New York Times, January 5, 2018.

The President Who Doesn't Read by David A. Graham in The Atlantic, January 5, 2018.

Where Are Indian Institutions Going Wrong? by Nikhil Govind in The Wire, January 3, 2018.

A great look into transparency, accountability, media and national security: The Biggest Secret by James Risen in The Intercept, January 3, 2018. Also see.

A Diary From a Gulag Meets Evil With Lightness by Eva Sohlman and Neil MacFarquhar in The New York Times, January 3, 2018.

It took the kidnapping, rape, and death of a white woman to bring down the KKK by Laura Smith in Timeline, January 2, 2018.

Climbers Set Off to Be First to Summit World's Most Notorious Mountain in Winter by Sarah Gibbens in National Geographic, December 29, 2017. An earlier story on the same team: Scaling the World’s Most Lethal Mountain, in the Dead of Winter by Michael Powell in The New York Times, May 9, 2017.

What happens when you dial 100? by Rudraneil Sengupta in Mint, December 28, 2017.

America and the Great Abdication by Richard Haass in The Atlantic, December 28, 2017.

The internet is broken by David Baker in Wired, December 19, 2017.

The End of the Social Era Can't Come Soon Enough by Nick Bilton in Vanity Fair, November 23, 2017.

## Thursday, January 11, 2018

### Disclosure of default: The present SEBI disclosure regulation is adequate

by Ajay Shah and Bhargavi Zaveri.

There is much economic sense in achieving rapid disclosure about default. Volume 1 of the report of the Bankruptcy Legislative Reforms Committee (BLRC) articulates a clean strategy for disclosure about default (Section 4.3.5). SEBI and RBI are at the early stages of implementing this. Many people who are used to opacity about default are surprised at the new concept of immediate disclosure of default. We argue that economic logic and the existing SEBI regulations about disclosure (the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015, or "LODR") are consistent with immediate dislosure about default by listed issuers. LODR does not require modification in order to achieve the desired outcome. The lack of disclosure that is presently prevalent reflects an endemic state of violation of the LODR. Executive action by SEBI, to enforce against a few violations, will deliver the required change in the behaviour of listed issuers, on disclosure.

### How does the credit market benefit from the disclosure of default?

A firm in distress is a melting ice cube. Every day of delay harms recovery rates. The central idea of the bankruptcy code (and the resolution corporation proposed under the FRDI Bill) is to rapidly resolve the problem. Speed in resolution reduces the bankruptcy cost that is ultimately borne by society.

When a default takes place, if it is rapidly known to the community of bidders, they will gear up to toss bids into the Insolvency Resolution Process (IRP). Reducing delays in disclosure of default thus reduces the delays (or increases the quality of the work done by bidders) in the IRP, and improves recovery rates. Thus, rapid disclosure of default is a tool for obtaining a well functioning bankruptcy process.

### How does micro-prudential regulation benefit from the disclosure of default?

Micro-prudential regulation involves ensuring that financial firms, such as banks or insurance companies, recognise losses and hold adequate equity capital after taking losses into account. Financial firms have an incentive to hide bad news. Disclosure of default helps to block evergreening, and thus works in favour of micro-prudential regulators. RBI and IRDA will thus benefit when there is immediate disclosure of default.

### How do capital markets benefit from a disclosure framework?

Speculative trading discovers prices on financial markets. Every market participant combines hard information with a process of analysis and formation of a speculative view about the future. The interests of society are best served if the maximal hard information is made available, on an equal footing, to all speculators.

This guides the regulation of disclosure. Exchanges coerce issuers to disclosure a comprehensive array of information that helps speculators peer into the future and form a view about the fair value of each security.

The push for better disclosure could come from any of these three channels: From a government agency such as IBBI which is tasked with building a healthy credit market, from micro-prudential regulators such as RBI and IRDA and from the financial markets regulator, SEBI. In India today, the natural way forward seems to run through SEBI, which shapes the listing agreement between a firm and the exchange. Through this, listed borrowers and listed lenders can be coerced to disclose defaults. Hence, in the remainder of this article, we focus on securities law and its impact on disclosure of defaults.

### The firm, not the security

Corporate finance involves multiple securities that stand at different levels of seniority in the waterfall. Information about all aspects of the corporate financial structure is required for the valuation of any of these securities.

Another way to think about this is through derivatives pricing. All securities issued by a firm (e.g. equity, debt of various kinds) constitute derivatives that have, as the underlying, the value of the firm. Facts about the firm are thus relevant for pricing all these derivatives.

Hence, while a lot of real world rules about disclosure flow from each security that is listed, disclosure rules should be a rulebook that kicks in when an issuer has one or more listed security in the public domain.

### Materiality of defaults

The LODR governs the disclosure of information by listed issuers, that is, issuers that have a single listed security. The essence of LODR is a principles-based perspective on what should be disclosed: Disclosure obligations under the LODR are triggered for all information that is 'material'. What constitutes material information is left to the judgement of the issuer's board.

The LODR lists the following indicative criteria for determining the materiality of any given piece of information:

1. if the event or information is not disclosed, it is likely to result in the discontinuity or alteration of an event or information already available publicly;
2. if the event or information is not disclosed, it is likely to result in a significant market reaction if the said omission were to come to light at a later date;
3. even where neither of the abovementioned conditions are satisfied, an event or information may be treated as material, if in the opinion of the board of directors of the issuer, such event or information is material.

This covers all the issues associated with default: A listed company should disclose any default, a listed bank should disclose when a large borrower defaults, etc.

A default on a loan to a bank or financial institution is, by itself, a material event for the valuation of all securities issued by a listed issuer.

As an example, consider a company financed by equity and one bond issue. Default by the company to any one bondholder is a very important event for the shareholder, for this raises the possibility of large losses for the residual claim (equity). It is also a very important event for every holder of the bond (including to the bondholders who were actually paid on time). Hence, the default by the company to any one bondholder, should be disclosed. The LODR explicitly recognises this and makes specific provisions for the expected as well as immediate disclosure of default on bonds. For instance, it mandates a listed entity to inform the stock exchange of any action that will affect the payment of interest on or the redemption, of debt securities. A listed entity is required to similarly inform the stock exchange of an expected default in the timely payment of interest or redemption amount in respect of debt securities. Notices of board meetings that propose an alteration of the date for payment, or amount, of interest or redemption on bonds, are required to be given to exchanges atleast 11 days prior to the date of the meeting.

Suppose the company were, instead, financed by equity and one loan. The same logic holds. Default by the company on the loan is an important event for the shareholder. Suppose the same firm had issued debt securities as well, a default on a loan is equally important for the bond holders. It is also equally material for all other stakeholders, such as the firm's vendors and employees, as it may show signs of impending or ongoing financial stress. Hence, such default should be disclosed as soon as it occurs.

Additionally, the LODR deems certain information to be material, and mandates its disclosure, notwithstanding the judgement of the issuer's board. It lists information "deemed" to be material in Schedule III. However, Regulation 30(12) clarifies that the list is inclusive and where the listed entity has information, which has not been indicated in Schedule III, but which may have a material effect on it, the listed entity is required to make an adequate disclosure of such information. Listed issuers are required to have in place a policy for determining the materiality of information for the purpose of disclosure.

### Definitional issues relating to 'default'

In India, the concept of default has often been conflated with the RBI mandated prudential norms on income recognition, asset classification and provisioning for banks and financial institutions. While RBI's prudential norms classify an asset as a NPA only after the expiry of atleast 90 days from the due date, the price discovery process in the financial market happens independently of the prudential norms.

The Insolvency and Bankruptcy Code, 2016 (IBC) has dispensed with this conceptual confusion by defining default as the non-payment of the whole or any part of the debt when due and payable. It allows the enforcement of creditor rights on the occurence of a default. The IBC has, thus, already made a paradigm shift in how we think about default and the timing of enforcement of creditor rights in India. The same standard should be applied for the purpose of default disclosures as well.

It is possible to disclose too much. As an example, suppose an Indian software services company loses one customer. Should this be disclosed to the public security-holder? The answer depends on the size of the customer. Material information should be disclosed. As an example, Nielsen has a contract of $2.25 billion with TCS: events of contract renewal or contract disruption for this contract are large when compared with the size of TCS which had consolidated revenues of about$19 billion in 2016-17, to merit disclosure.

This takes us to the question: What is material information? It is neither feasible nor sensible for a regulation to pinpoint every fact that must be disclosed. LODR is principles based and should remain principles based. These details should evolve through jurisprudence.

A good way to think about what is `material' information is to compare the stock price impact against normal security price fluctuations. As an example, suppose the share price of a company has a daily standard deviation of 3%. Suppose the revelation of default generates a share price impact of 1.5%. This is a pretty big piece of news, by the standards of the ordinary price fluctuations experienced by the security. Hence, this news should be disclosed. We suggest that what is material to the price of a security is news that is likely to have an impact upon the price of above half the standard deviation of daily returns. This quantifiable construct can be used by practitioners and prosecutors when translating the principles-based LODR into rules for living and acting when faced with events in the real world.

### Fixing enforcement

Why do we have poor disclosure of default in India? This is not a failure of regulations: the LODR is quite fine on the principles. Defaults are material events and thus should be disclosed. This is a failure on the executive side. The materiality thresholds under LODR are being pervasively ignored, and SEBI has not punished violators. Sound enforcement of the LODR against firms who have failed to comply with the disclosure of material debt defaults, should get the job done.

### Is there a conflict with banking secrecy?

In the past, the fiduciary obligations of banks towards their consumers has been used to avoid disclosing the identity of defaulters. However, contractual obligations of banking secrecy are consistent with disclosures as long as such disclosures are mandated by law. For instance, confidentiality obligations in standard contracts between banks and their clients, commonly exempt disclosure obligations under law. Similarly, even where the confidentiality obligation is imposed by statute, such as the State Bank of India Act, 1955, specific exemptions are carved out for information that is mandated to be disclosed by law. The LODR is law, and hence disclosures that flow from LODR are consistent with banking secrecy.

### Conclusion

A sound credit market requires rapid disclosure of default. A sound capital market requires rapid disclosure of default. Rapid disclosure of default plays in favour of micro-prudential regulation. In India, so far as concerns the capital markets, the principles-based LODR is in place, and the text of LODR is sound. The gap is in enforcement. Enforcement of the existing LODR will deliver sound disclosure of defaults by listed companies and important defaults faced by listed lenders.

### Anticipating India’s New Personal Insolvency and Bankruptcy Regime

The Insolvency and Bankruptcy Code has been in force for commercial debtors for over a year, and it has already been employed in over two thousand cases, including some cases that involve large non-performing loans clogging the banking system. These cases have generated numerous important questions of law and policy, and thus the IBC has become a regular and important topic of news, discussion, and commentary within the country.

Meanwhile, there has been hardly any public discussion or commentary about the personal insolvency and bankruptcy provisions of the Code. While the provisions for personal debtors have not gone into effect, the nearly complete lack of attention to portions of the Code covering personal debtors is puzzling. The Insolvency and Bankruptcy Board of India (IBBI) has given clear indications that it is planning to notify those provisions in the relatively new future. Those provisions will introduce a new and complex system of legal tools for citizens across India’s financial spectrum and their lenders, dramatically expanding the global scope of personal bankruptcy and insolvency law by over 1.3 billion people. It is surprising and unsettling that fundamental questions about the purpose and likely impact of these provisions remain largely unaddressed in public discourse.

My working paper, Anticipating the Function and Impact of India’s New Personal Insolvency and Bankruptcy Regime, aims to contribute to discussion of the new personal insolvency and bankruptcy regime by describing it in some detail; analyzing the goals of policymakers who drafted and enacted the regime; assessing the design of the regime in light of those goals; and anticipating the function and impact of the law as enacted.

### Provisions of the IBC for Personal Debtors

The Code’s provisions for personal debtors represent a unique combination of approaches from other jurisdictions with some distinct features that harmonize it with the provisions for commercial debtors and others that are designed specifically for the Indian context. The Code provides a “fresh start” chapter for debtors with relatively low income (less than 60,000 rupees), few assets (less than 20,000 “non-excluded” assets), low levels of debt (less than 35,000 rupees), and who do not own their own home. Excluded assets include tools, equipment, books, and vehicles of personal or business use; basic household goods, furniture, and equipment; certain personal ornaments of religious significance; life insurance policies or pension plans; and a dwelling unit up to a value to be determined by the Board. The fresh start chapter simply discharges the debtor’s unsecured debts; it does not require that debtors give up any assets or income to unsecured creditors. Thus, it can be thought of as analogous to a loan waiver regime. It is extremely difficult to anticipate how many individuals in the country who have some debt would be eligible under this chapter, but it could cover significant numbers of borrowers from micro-finance institutions and informal lenders.

Those ineligible for the fresh start chapter will be eligible to file under the Code’s insolvency chapter, which requires debtors to propose a plan of repayment to their creditors and then complete the plan to be entitled to a discharge of their remaining unsecured debt. Unlike the fresh start chapter, creditors can file an application to initiate an involuntary insolvency case for their debtors; they can do so if their debtors default on a payment and fail to timely respond to a demand for payment. In any event, three-fourths of creditors must vote to approve a debtor’s repayment plan, which must provide a minimum budget to the debtor and allow the debtor to retain excluded assets. If creditors fail to approve a debtor’s repayment plan or if the debtor fails to complete an approved plan, the debtor is then eligible for bankruptcy under the Code, which can be initiated by either the debtor or any of the debtor’s creditors. The bankruptcy provisions require the debtor to give unsecured creditors his or her non-excluded assets and then allow for the discharge of the balance of unsecured debts. For the most part, none of the chapters of the Code disrupt secured creditors rights.

### Policymakers' Goals

There is relatively little in the public record about the precise goals that policymakers had in mind in designing and adopting the personal insolvency and bankruptcy provisions of the Code. An initial interim report of the Bankruptcy Law Reforms Committee that was charged by the Indian Parliament to propose and draft the new Code briefly noted the need for changes to the personal insolvency laws to address the financial distress of micro, small, and medium enterprises, most of which are sole proprietorships or benefit from personal financial guarantees. The Committee did include broadly applicable provisions for personal insolvency and bankruptcy in its draft legislation, but its final report did not explain the underlying motivation for its work in this area or the social or economic need for the new provisions. It noted only "the importance of such borrowers in the economy," and that, under the preexisting framework, creditors often had difficulty recovering from individuals and often resorted to coercive debt collection, which compounded the social costs of indebtedness. It appears that, to the extent that policymakers considered non-business debtors in drafting and enacting the Code, their primary goal was to promote increased consumer lending in the economy and, secondarily, to provide some degree of protection to individuals in financial distress, especially from aggressive debt collection.

Thus, unlike the provisions for corporate debtors under the new Code, the provisions for personal insolvency and bankruptcy do not appear to have been driven by acute economic or financial conditions. This is noteworthy because countries that have adopted or reformed their consumer insolvency regimes in recent decades have tended to do so in the wake of consumer financial crises or dramatically expanding consumer financial markets. Countries across Europe and elsewhere -- including Hong Kong, South Korea, Israel, and Indonesia -- have adopted or reformed their personal insolvency regimes under such circumstances in the last two decades. While the amount of consumer debt in India has increased significantly in recent decades, and instances of household over-indebtedness appear to be growing, it has not reached levels that suggest systemic vulnerability or a looming threat of household financial crisis. Aside from the ongoing financial travails of farmers in certain regions, a spike in financial distress in some sectors due to the recent demonetization, and a generally acknowledged problem of aggressive debt collection practices across the country, there does not appear to be an emerging crisis of intractable over-indebtedness among individuals and households in India.

### Anticipating Function and Impact

The IBC appears to represent a rare instance of a country adopting or modernizing a personal insolvency or bankruptcy regime at a relatively early stage in the development of a consumer financial market, before one is acutely necessary. Doing so avoids costs of responding too late, after consumer financial markets have over-heated. It may also have a beneficial effect on the development of those markets in the first place. Especially since the recent global financial crisis of 2008-10, scholars and policymakers around the globe have begun to appreciate that a personal insolvency or bankruptcy regime is an important component of the institutional framework for consumer credit markets. If properly designed and operated, such a regime can help promote a stable market for consumer credit, making creditors more willing to lend and individuals more willing to borrow, disciplining both, reducing the social costs of consumer financial distress and perhaps the amount of household over-indebtedness in the economy as well.

But such potentially beneficial effects likely depend on a system that improves or accelerates creditors’ insolvency state returns, or at least makes their losses relatively predictable, and that effectively insures individuals against the risk of over-indebtedness without creating incentives for them to act opportunistically or recklessly. It is not clear how well the provisions for personal insolvency and bankruptcy under the Code as enacted will serve these functions, and there are some causes for concern. Certain aspects of the institutional design may exacerbate inter-creditor conflicts, for example, by enabling individual creditors to easily initiate a case and by requiring majority votes among creditors to approve repayment plans. The regime’s reliance on negotiated repayment plans may also limit the predictability of outcomes.

While the fresh start process for individuals with low incomes, few assets, and relatively little debt, is designed to provide a robust insurance function, the insolvency provisions that apply to all other debtors provide much more limited protection for individual debtors. To the extent that there is an effort to target fresh start relief to debtors who need it most, i.e., those who genuinely cannot repay a significant amount of their debt, it is done rather bluntly through the narrow eligibility requirements for the fresh start provisions. The insurance function of insolvency or bankruptcy law can be particularly important to debtors, including those with business-related debts, who have income and assets to protect or who have significant amounts of debt, most of whom would ineligible for a fresh start. The bankruptcy chapter of the new Code promises to provide some meaningful debt relief to such debtors, but they must first go through the insolvency process, which requires a plan of repayment subject to creditor approval, during which the debtor is allotted only a minimum budget, and which formally ensures only a minimum level of relief or protection. Added to which, it is likely that large segments of the population of individual debtors covered by the law will not have sufficient information about the law to utilize it, will face logistical challenges even if they do have sufficient information, or will be deterred by stigma or other reputational concerns.

It is possible, therefore, that a significant portion of debtors in financial distress will not voluntarily use the new insolvency and bankruptcy regime and that it will primarily be employed as a debt collection tool for creditors. If so, the scope of the insurance function of the new system may not end up providing sufficient relief to individual debtors who become mired in debt, may not promote risk-taking entrepreneurial activity, and may not provide a meaningful safety valve to developing consumer financial markets.

### Time to Plan, Prepare

To be sure, these concerns are highly speculative, and the last year of activity under the new IBC for commercial debtors has shown that it is too easy to make dire predictions about the challenges facing the new law. Yet, the stakeholders of the new personal insolvency and bankruptcy regime have the relative luxury of some time to prepare for the operation of that part of the Code. Hopefully, policymakers have begun to anticipate some of the potential macroeconomic effects of a newly available, robust regime for personal insolvencies and bankruptcies and consumer lenders have begun thinking seriously about how they might be affected by the new law. Ideally, policymakers are also considering how to disseminate information to individuals and households about the personal insolvency and bankruptcy provisions of the Code that will soon become available so that they can make informed decisions about whether, when, and how to employ it.

Adam Feibelman is a Professor of Law at Tulane University, he has been a visiting scholar at National Law School of India University, Bangalore, and the Center for Law and Policy Research.

## Tuesday, January 09, 2018

### India's Visa Policy Reforms

by Natasha Agarwal.

In 2016, global travel and tourism contributed US\$7.6 trillion to world GDP and supported 292 million jobs worldwide (WTTC, 2017). Undeniably, the sector benefits the economy. It generates employment opportunities and export revenues, creates sectoral linkages, and stimulates infrastructure development. However, to fully reap the benefits from international tourism, countries have to make it easier for travellers to visit. Travellers perceive visa formalities as a travel cost – direct in terms of monetary, and indirect in terms of time spent in waiting in lines, complexity of the process – which exceeding a threshold, can put them off a particular destination or lead them to choosing alternative destinations with less hassle (UNWTO, 2016).

Countries are, therefore, increasingly focussing on visa policies and procedures which in recent years have resulted in some notable progress. In 2015, 61 per cent of the world's population required a traditional visa from the embassy prior to departure, down from 77 per cent in 2008 (UNWTO, 2016). Moreover, between 2010 and 2015, a total of 54 destinations significantly facilitated the visa process for citizens of 30 or more countries by changing their visa policies from "traditional visa" to either "eVisa", "visa on arrival" or "no visa required" (UNWTO, 2016). Ranked at 50, India was identified as one of the 54 destinations that has carried out substantial visa policy reforms.

### India's eVisa programme

On 1st January 2010, India introduced a visa on arrival programme. This was replaced by an eVisa programme on 27th November 2014. On 1st March 2016, the visa on arrival programme was re-introduced for nationals from Japan only.

India's eVisa programme allows foreign travellers to apply for their Indian visa online. Once the application is approved, travellers receive an Electronic Travel Authorization (ETA) by an email. The ETA permits their travel to India which has to be within the period mentioned on the ETA. On arrival at the port of entry where the eVisa facility is available, travellers have to present their printed ETA to the immigration authorities who would then stamp the travellers passport thereby permitting entry into the country. Travellers can then travel within India up until the expiry date of the stamped visa in their passport.

Since inception, the program has been reviewed and modified frequently. It is now available to citizens of over 150 countries. The fees are based on principle of reciprocity and categorised into four slaps: 0, 25, 48, and 60 US dollars. There is a bank charge of 2.5%. eVisa’s are categorised into three groups: e-tourist, e-business and e-medical. Double entry is permitted on an e-tourist and e-business visa and triple entry is permitted on an e-medical visa. All three are issued for a period of 60 days, and can be availed up to two times in a calendar year.

Despite these efforts, the data shows a lukewarm response. In year 1 (December 2014 – November 2015), only 5% of international travellers availed their Indian visa online. This fraction grew to 12% in year 2 (December 2015 – November 2016) and just 16% by year 3 (December 2016 – November 2017).

### Limitations of the eVisa programme

What explains the low uptake of India's eVisa programme?

A closer examination reveals that the implementation of the programme has been poor.

eVisa's are available under three sub-categories: e-tourist, e-business and e-medical visas. The eVisa online application form lists all the activities which travellers can carry out under each of the three eVisa categories. In addition to choosing a primary purpose of visit, the online application form seems to suggest that travellers are permitted to undertake multiple activities within a group. Upon selecting the visa type on the application form, a pop-up window states "all the following activities are permitted, however select the primarily purpose from the following". This means that a traveller on an e-business visa whose selected primary objective is to, for example, recruit manpower, can undertake any other activity permitted on an e-business visa.

However, instruction number one on "Instructions for Applicant" on the official website states: "e-visa has 3 sub-categories, i.e. e-Tourist visa, e-Business visa and e-Medical visa. A foreigner will be permitted to club these categories (emphasis added)." The online application form therefore permits travellers to combine one activity from each of the three eVisa categories. When a combination of activities is chosen, it is not clear what category of visa will be issued.

Let's imagine a Mr. Smith, a national from one of the eVisa programme eligible countries. While filling his eVisa application form, Mr. Smith opts to primarily participate in a short-term yoga programme (activity listed under e-tourist visa category), attend a business meeting (activity listed under e-business visa category), and go through a short-term medical treatment (activity listed under e-medical visa category). India is liberal: Mr. Smith is not restricted to his chosen primary activity. Nonetheless, the question that arises is: since he has opted for one activity listed under each of the three visa categories, will he travel to India on an e-tourist visa and/or an e-medical visa and/or an e-business visa? Surely, the Indian government does not intend to issue multiple visas to Mr. Smith all in one go.

This is further complicated by the number of entries permitted: double entry on e-tourist and e-business visa, but triple-entry on an e-medical visa. For activities across multiple categories, it is not clear how many entries are permitted. Therefore, will Mr. Smith be given a double or triple entry permit?

An array of questions pertaining to re-entry requirements have also not been answered. For example, would travellers require a re-entry permit if they wish to leave and re-enter India within the 60-day eVisa validity period? If a re-entry permit is required, are there any requirements for issuing this permit, such as a last destination restriction? Do travellers have to re-enter only from the ports of entry at which the eVisa programme is available? Travellers have posed their queries with regards to alternative port for re-entry when travelling on eVisa’s especially when the re-entery is from India’s neighbouring country via land (see here and here).

The programme also has administrative glitches. For example, travellers have repeatedly blogged on the difficulties they experience while using the eVisa application form (see here, here and here). The difficulties of the payment gateway, and limited helpful response from the help desk have been highlighted. Despite the programme being in its third year, these difficulties continue to linger making it an unpleasant experience for travellers.

### How can we do better?

Let's run through one problem at a time.

The first area is the permission to come into India under multiple categories. There are two ways to solve this problem.

1. The first solution: change the rules and not permit clubbing activities across the three categories.

This means that Mr. Smith can primarily choose to either participate in a yoga programme OR attend a business meeting OR a short-term medical treatment of self. For his chosen primary activity, the government would accordingly issue him the visa.

This is easy to implement. The sentence "A foreigner will be permitted to club these categories." from instruction number one on "Instructions for Applicant" on the official website would need to be deleted. As a result, instruction number one would then read as following "e-visa has 3 sub-categories, i.e. e-Tourist visa, e-Business visa and e-Medical visa. An e-tourist visa, an e-business visa and e-medical would be issued for any activity chosen under the respective visa category." Consequently, the online eVisa application form would also need to incorporate this change, and restrict travellers to choose activities across categories.

While this is not a great option - we are restricting what visitors can do while travelling, it removes the confusion that has come with clubbing categories.

2. The second and better solution: travellers be permitted to club activities across the three eVisa categories.

This solution is already in place. However, to avoid the current confusion associated with this solution given the existing premise of the programme, there are two alternatives:

• Permit three entries under each of the three categories. Once this is done, it is even simpler to abolish the three categories, and just allow anyone to visit India with three entries in 60 days.

• Permit three entries under each of the three categories. On the eVisa online application form, change e-tourist visa/e-business visa/e-medical visa to tourism purpose/business purpose/medicinal purpose. Accordingly, ETA would reflect the 'purpose of visit' along with the details of the purpose, and the number of entries would be changed to "triple" (see Figure 1 – changes in red). The eVisa stamp in the passport would only state that it is an eVisa, and 'number of entries permitted' would reflect 'triple' (see Figure 1 – changes in red).

Abolishing the three categories altogether is lucrative. However, having three categories is useful as it facilitates tracking the number of applications within each category which in turn can be used to for drawing sectoral development strategies.

• Figure 1: Proposed changes to ETA and eVisa stamp in passport marked in red. Photo courtesy: Traveller's Website

The second area for simplification is the problem of re-entry. This can be solved if the government says:

1. Irrespective of travellers chosen activity across tourist, business and medical categories, the following is applicable:

• Travellers can re-enter India without a re-entry permit within the 60-day eVisa validity period.

• There are no last destination restrictions imposed on travellers when re-entering India on an eVisa.

• Travellers on an eVisa can re-enter India through any port of entry, be it land, air or sea ports

A third improvement lies in greater flexibility for renewing an eVisa in India, capping the number of days a traveller can stay in India on an eVisa. This has been done by many countries e.g. Kenya where travellers can renew their eVisa for a further 90 days at the immigration headquarters in Nairobi, capping the maximum number of days on an eVisa at 6 months.

A fourth area for progress is on information access. The 'Frequently Asked Questions Relating to Tourist Visa' on the website of the Bureau of Immigration, Ministry of Home Affairs, needs an additional FAQ item stating:

1. Travellers who wish to travel to India for a short period, can also avail their India visa through the eVisa programme. Please check the website of the programme (https://indianvisaonline.gov.in/evisa/tvoa.html) for eligibility and requirements.

2. Travellers on an eVisa can carry out activities that spread tourism, medical and business categories. For a list of activities please visit the eVisa online application form.

These four initiatives would solve the flaws of the Indian eVisa program in the following ways. First, it would help in avoiding confusion at the border especially when travellers want to enter and exit India, a country incorporated in intraregional travel plans. Second, it would also help in avoiding policy glitches with respect to the number of entries permitted, and the type of visa issued when activities are chosen across tourism, business and medical categories. Third, it would enable travellers to undertake multiple activities without being held up for violating visa norms. Fourth, it would help rationalise benefits from availing eVisa's over the traditional embassy route visa especially for travellers from countries to whom the government, with effect from 1st April 2017, provides multiple entry tourist and business visa. This benefit becomes even more apparent when travellers incorporate India in their regional travel plans as travellers have blogged of their preference to avail a traditional visa rather than have to worry about the nitty-gritty missed details of the eVisa programme (see here). Fifth, it would help resolve the consequent administrative glitches especially those that are seen on the ETA and the eVisa stamp in the passport.

### Conclusion

To encourage and reap socio-economic benefits from cross border movements of persons, addressing visa procedural bottlenecks can be as, rather even more, important than liberalising visa policies. As a matter of fact, UNTWO reports that communication around visa policies provided by destinations are among the simplest but least addressed areas of opportunity (UNWTO, 2016). While India’s efforts to liberalize the eVisa programme are to be lauded, it needs to ensure that the programme is free from procedural bottlenecks. Afterall, "easy and hassle-free availability of visas is one of the basic ingredients for attracting foreign tourists" (WTTC, 2012).

### References

UNWTO, 2016 Visa Openness Report 2015.

Natasha Agarwal is an independent research economist affiliated with Research and Outcome Consortium (R&O).