[op-ed snap] Rescuing IL&FS

Note4students

Mains Paper 3: Economy | Mobilization of resources

From UPSC perspective, the following things are important:

Prelims level: Not much

Mains level: Too big to fail institutions and their risk of failing


Context

IL&FS in problem

  1. The Centre has decided to supersede the Board of Directors of the troubled Infrastructure Leasing & Financial Services (IL&FS)
  2. By explicitly stating its intent to “ensure that needed liquidity is arranged for IL&FS from the financial system”, the Centre has sent out an unambiguous message to the markets that it will not allow the company to fail
  3. A lot of the turbulence witnessed in the debt and stock markets could have been avoided had the government acted earlier

Rescue plan for the company

  1. Any rescue plan for the beleaguered company obviously had to begin with replacing the existing management that was responsible for mismanaging its affairs
  2. Which lender or shareholder would commit to extending support to the company when it was defaulting regularly and the same set of people responsible for the mismanagement continued to be in charge?
  3. Against this backdrop, a change in management and the appointment of experienced people should lend confidence to lenders and investors

Importance of IL&FS

  1. The company is listed as “systemically important” by the Reserve Bank of India, and with over ₹1,15,000 crore of assets and ₹91,000 crore of debt, it is too big to fail
  2. The interlinkages between IL&FS and other financial sector entities such as banks, mutual funds and infrastructure players are too strong and the company would have taken them all down with it if it were allowed to fail

Reasons for failure

  1. The problem appears to be one of liquidity and not solvency
  2. It is a classic case of over-leveraging and an asset-liability mismatch caused by funding projects of 20-25 years payback period with relatively short-term funds of 8-10 years

Need of long term lending

  1. There is a felt need for long-term finance sources for infrastructure projects
  2. The LIC and some insurance companies are the only domestic sources and they too do not lend beyond 10 to 12 years
  3. The Centre and the RBI should look at ways to deepen the debt markets where infrastructure players can borrow long-term
  4. It also needs to be analysed how a company listed as “systemically important” managed to fly under the radar with misgovernance
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