Published: Economic Times, 08 January 2005

By Pradeep S Mehta

Fiscal and other related policies, among nearly all economic policies affecting the financial sector, have a strong co-relationship with markets, and how they can become more (or less) competitive.

For the forthcoming budget finance minister P Chidambaram, has promised to look into various issues, to ensure that it reflects the resolve of the National Common Minimum Programme to promote better competition in the market place.

How can he do it? Firstly, by launching a rolling programme for a ‘competition audit’ of all such policies which are creating anti-competitive outcomes. Secondly, on a prima facie basis, to ensure that the budget takes progressive decisions to ensure that competition prevails.

One example which immediately comes to mind is Chidambaram’s statement in Parliament to create a ‘benign’ tax structure for the man-made fibre segment to help the textile sector to compete in the post-quota regime. Will this be sufficient?

The man-made fibre segment is a highly concentrated sector, with very few players. The solution is to both encourage new capacities, and to lower the import tariffs, and ensure that these are not compromised through anti-dumping actions.

Over the years, the domestic players have ensured very limited competition by manipulating trade policy to maintain a high tariff barrier, and grown vulgarly rich.

While writing in this column (Competitiveness via competition, ET, Nov 23) about CUTS’ current research project to develop a ‘functional competition policy for India’, it was pointed out that Reliance is the dominant player in the polyester staple fibre (PSF) segment with a market share of 54%, while Grasim is a near monopoly in the viscose staple fibre with 91% of the market.

In a recent statement, the Indian Cotton Mills Federation has in fact said that Reliance produces 85% of the PSF fibre, while Indo Rama produces the rest.

Together, in cahoots, they are following an ‘exploitative pricing policy’. ICMF demanded that import duties on all man-made fibres should be reduced from 20% to 10%, while excise duty on domestic manufacture be cut down from 16% to 8%. This demand needs to be supported, if our textile sector has to become competitive over the next few years.

A ‘competition audit’ across the board in the manufacturing sector will throw out more such skeletons, which need to be tackled by the FM.

So much about cartelising and tariff-protection. Currently, Mr Chidambaram has launched a campaign on creating bigger banks, through mergers, which can become internationally competitive. In principle, the idea is good.

And this idea is a typical one in the international debate on industrial policy vs competition policy, and of creating national champions. But, we need to step back and see what could be the most efficient way of doing so, on a case-to-case basis.

Creating bigger banks may not be the optimal solution for several reasons. Already, we have a banking giant: the State Bank of India, with assets of Rs 4,09,771 crore, but is it a big international player?

The path to globally competitive finance does not lie in bigger state banks, but in finding out why our public sector banks are laggards.

This is in spite of their cartelising behaviour. If a Dena Bank is merged into IDBI, we won’t get a globally competitive bank. We’ll just get a bigger IDBI.

Another aspect to consider is that when a public sector unit gets big, there are a unique set of problems that come from becoming so big, that no government can accept bankruptcy.

The threat of bankruptcy is a central device through which a firm is kept honest. A policy of mergers will diminish this pressure on the banks and detract from efficiency.

In a 1998 merger case involving the four largest private banks in Canada, the country’s finance ministry rejected the merger proposals.

One of the grounds for rejecting the merger proposals was the fear of reduced policy flexibility for the government to address potential prudential concerns. If there are only two banks, it will sharply increase the overall systemic risk in case one of them failed.

The situation in India is not analogous, but there is some sense in what Canada did. Other issues will arise when public sector banks are asked to merge.

When two private sector units merge, one outcome is reduction in costs. Most of this comes from shedding the workforce. In the case of public sector banks, this is unlikely to be an easy task considering the current mood in the country.

Besides this there are many other problems, which will be quite a headache, as experience has shown. Thus, Mr Chidambaram’s campaign to promote giant banks needs to be discussed publicly before pushing the agenda forward.

Similarly in the oil sector, there is a talk of creating national champions. This does make better sense. Because, in the oil sector big is truly beautiful.

The world over, vertically integrated oil and gas businesses are the norm. The merger of Chevron and Texaco or that of Exxon and Mobil are two such examples.

The oil and gas business is highly capital-intensive and requires serious risk-taking in exploration calling for deep pockets. And the standard practice is to foray downstream into retail sales of petroleum products to garner volumes.

However, in the Indian public sector, the exploration and production major, Oil & Natural Gas Commission, had been restricted to the upstream, and the refining and retailing major, IndianOil, to the downstream.

An important aspect to consider is that of competition in the two sectors. Both banking and oil sectors suffer from a lack of competition.

It is imperative for the government to create an open market and a level-playing field to encourage competition for the companies to reach global standards of performance.

The interests of the citizen may not be well served by more concentrated banking or a more concentrated oil industry.

It is important to ensure that the market process is acknowledged to realise the benefits from promoting national champions.