Challenges in the Transition to the New Insolvency and Bankruptcy Code

The Wire, December 15, 2016 (with Anjali Sharma)

The Insolvency and Bankruptcy Code, 2016 (IBC) replaces a fragmented legal framework and a broken institutional set-up that has been delivering poor outcomes for years for creditors and distressed businesses seeking an exit. Currently, corporate insolvency and debt recovery cases are being dealt with under various laws and forums. In a previous article, we had argued that almost all of these are now eligible to be initiated as new cases under the IBC. However, this will create a massive burden for the nascent institutional infrastructure that is being rushed to operationalise the IBC. In this article, we analyse some of the challenges of transitioning existing cases to the new law.

The IBC offers a time-bound resolution process aimed at maximising the value of a distressed business. This will benefit not just the creditor and debtor companies, but also the overall economy because capital and productive resources will get redeployed relatively quickly. To meet the objectives of timeliness and value maximisation, the IBC proposes a new institutional set-up comprising four critical pillars:

1. A robust and efficient adjudicating authority to hear the cases.
2. A regulated profession of insolvency professionals (IPs) to manage the insolvency and bankruptcy cases.
3. A regulated competitive industry of information utilities (IUs) to reduce information asymmetries in the insolvency resolution process.
4. A regulator – the Insolvency and Bankruptcy Board of India (IBBI) – to perform legislative, executive and quasi-judicial functions with respect to the IPs, and IUs and draft regulations for the resolution procedures under IBC.

Steps are currently underway to set up this institutional infrastructure. The National Company Law Tribunal (NCLT) has been notified as the adjudicating authority for the corporate insolvency and bankruptcy cases. The IBBI has been constituted and has started building capacity. The regulatory framework for IPs and IPAs is in place and some IPs and IPAs have already been registered by the IBBI. It may take some time for new IUs to get registered but even without the IUs in place, the provisions of the IBC related to the Corporate Insolvency Resolution Process (CIRP) and liquidation have been notified. While the former has been operational from December 1, 2016, liquidation provisions will come into force from December 15, 2016. Clearly, the speed of implementation has been prioritised leaving the institutional set-up to develop in parallel to the functioning of the law.

Challenges in implementation

The NCLT will face the biggest challenge in the process of transitioning existing cases to the IBC. The NCLT currently has 11 benches with 16 judicial members and seven technical members among them. Its mandate includes hearing cases earlier dealt with by the Company Law Board (CLB) under the Companies Act 2013, in addition to cases under the IBC. As of March 2015, there were around 4,200 pending CLB cases. All of these will now be transferred to the NCLT. In addition, the CLB receives around 4,000 new cases every year. Now these will have to be dealt with by NCLT. With the IBC provisions on CIRP becoming operational and the provisions on liquidation expected to be notified soon, all the 4,500 winding-up cases pending at the high courts as of March 2015 are also likely to get transferred to the NCLT. Our analysis shows that corporate recovery cases at the debt recovery tribunals (DRTs) and the rehabilitation cases at the Board for Industrial and Financial Reconstruction (BIFR) are eligible to be initiated as new IBC cases.

Therefore, given its limited capacity, how will the NCLT deal with fresh IBC cases, added to which will be the case load from the CLB, the high courts, the BIFR and potentially the DRT? Unless its adjudication capacity is enhanced, the NCLT will fail to hear and dispose cases in a timely manner from the start. For the IBC cases, this could mean the inability of the NCLT to adhere to the 180-day timeline that is the duration of the CIRP. This has earlier been seen in the case of DRTs too. DRTs were intended to dispose of recovery cases in 180 days, but given capacity issues and pendency, often the first hearing for a case takes place after 180 days. The 180-day timeline represents the core design intent of the IBC – rapid resolution of insolvency to maximise recovery. If this is compromised due to capacity constraints, the effectiveness of the IBC will get diluted.

The second concern related to the NCLT is regarding the case law that develops under the IBC. Given that it is a new law, the procedures and common practices under it need to develop independently from the case laws under the pre-IBC regime. Since the first cases that come to the IBC are likely to be the existing ones, the initial case law that develops under IBC will reflect the context of these cases. The behaviour of creditors, debtors, auditors, lawyers, valuers, liquidators are all steeped in the old case laws under the Companies Act 1956, the Sick Industrial Companies Act 1985 (SICA), the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 and the like. This will change only when the IBC gets perfected as a law and its institutional infrastructure reaches its capacity, allowing the NCLT to focus on upholding the design and objective of the IBC over all priors that exist. For this, the IPs, the IUs, the NCLT and the IBBI all need to be properly set up and functioning in a manner envisaged by the IBC.

IPs form the backbone of the IBC. Their role requires a fine balancing act, given that they are in charge of managing the debtor company and are accountable to the committee of creditors and the adjudicating authority for their actions. To ensure that the IPs perform their role without any misfeasance, well-defined entry barriers to the profession must be designed and the IPs must be closely regulated by the IBBI. A qualification examination has been proposed to get registered as IPs. This is modelled after the best practices of other jurisdictions such as Canada and the UK that have a well-functioning industry of IPs.

The IBBI, however, has now licensed the first batch of IPs only on the basis of their professional experience. Given the speed with which the law is being implemented, this seems to be the only option till the infrastructure for conducting the examination is set up. IPs registered in the first round also need to be prepared to handle the complexities of the existing cases. The IBBI needs to have adequate capacity to monitor the IPs and ensure that malpractice and fraud do not seep into the profession in the early days. For this, the IBBI needs to ramp up its human resources and its IT capability and build a far greater level of preparedness than it is at, right now.

The lack of IU infrastructure is going to be another challenge. Under the IBC, a CIRP can be triggered only when a default by the debtor company has taken place. In the IBC design, the IU enables a quicker initiation of cases by providing access to irrefutable and transparent evidence of the default. At present, winding up petitions under the Companies Act, 1956 and cases under SICA take around one to two years to get admitted. The situation is marginally better at the DRTs, where the Bankers Books Evidence Act allows bank books’ to be treated as primary evidence in cases. Even then there are delays in establishing the existence of a debt and default.

In absence of IUs, the IBBI is required to specify the evidence of default that can be used to trigger an IBC case. This can cause inordinate delays especially if the NCLT gets involved in evaluating whether a default has indeed taken place. Under the IBC design, IUs also facilitate the formation of the creditors’ committee within 14 days from the date of registration of a case. All information regarding the creditors’ claims needed by an IP to form the committee can be easily collected from the IUs.

It is therefore likely that in absence of IUs, initiating a case as well as forming the creditors’ committee will take far longer than envisaged in the IBC design. This will make it difficult to meet the 180-day timeline for completing the CIRP, giving rise to two possible outcomes. First, the delay in forming the creditors’ committee will reduce the time available to agree on a resolution plan. If the committee cannot agree on a resolution plan within the specified time limit, the NCLT will order the liquidation of the company. Secondly, the NCLT may exercise its judicial discretion and extend the CIRP beyond the time limit specified in the law. Both these outcomes have negative consequences. The former creates a liquidation bias in CIRP while the latter compromises the fundamental design of time-bound resolution in the IBC.

The manner in which the IBC is currently being implemented seems to focus more on expeditiously operationalising the law rather than effectively implementing it. These concerns, if not addressed suitably, will defeat the purpose of enacting a new insolvency law to improve the recovery rate in order to promote the development of credit markets and entrepreneurship.

Will it work?

The IBC is an important reform for India and its successful implementation depends on meticulous transition planning. The first cases coming to the IBC are likely to be the existing corporate insolvency cases. Four steps are needed to ensure that these do not impact the design and effectiveness of the IBC in an adverse manner.

The capability of the NCLT needs to be developed with adequate project planning. This could mean a special bench designated only for the IBC cases, scaled to the expected IBC case load and trained in dealing with commercial matters including the complexities of the existing cases. The NCLT needs to ensure that for any case coming to the IBC, whatever be its priors, the IBC provisions are followed without any exception. If the NCLT is built like a conventional Indian tribunal, it can develop a multi-year backlog very soon.

It is critical that the winding-up cases that come to NCLT are disposed of separately from the IBC cases and their outcomes in no way impact the IBC case laws. The capacity of the IBBI needs to be brought to scale as quickly as possible so that no malpractices or adverse priors develop in the IP practice and the entry barriers to the profession need to be implemented in accordance with the law. India has a long history of failure in the regulation of professions. The regulatory system for IPs must be designed to avoid creating yet another failed profession. Finally, the IUs need to be operationalised. In their absence, the IBBI needs to specify clear guidelines that enable the timely admission and disposal of the existing cases. This means a rapid creation of regulatory capacity in terms of people, processes and information technology systems.

Adequate institutional capacity is essential to ensure that the IBC does not suffer from the predicament of earlier reform attempts such as the DRTs. Doing all of these needs time and needs proper planning. Rushing through the implementation of the new law may serve to improve India’s ranking in World Bank’s ‘Doing Business’ report but may not result in a de facto improvement of the insolvency resolution framework, thereby defeating the very purpose of the IBC.

Demonetisation Will Likely Lead to a Protracted Economic Slowdown

The Wire, December 12, 2016 (with Radhika Pandey)

In most emerging economies, an important driver of GDP growth is investment demand. In India, private sector investment has been sluggish for consecutive quarters over the last two years. The principal driver of GDP growth in India in recent times has been private consumption demand, which contributes 60% to the GDP.

The announcement by the government on November 8 to ban the Rs 500 and Rs 1000 currency notes is a monetary contraction that will translate into a massive negative shock for consumption demand. As more and more firms start feeling the pressure of declining demand, investment will get adversely affected. The combination of a slowdown in consumption and investment may result in a fall in GDP growth rate lasting beyond two quarters.

GDP growth rate was estimated at 7.3% in the July-September quarter of 2016-17. The marginal increase from 7.1% in the April-June quarter was primarily driven by agriculture, construction and the services sector. Ironically, these sectors are now likely to bear the brunt of the currency-ban shock. Year-on-year manufacturing growth rate has declined from 9.1% in the previous quarter to 7.1%. In the July-September quarter investment demand contracted by 5.6%, resulting in a large negative contribution to the GDP.

In general, private sector activity in the economy has been weak in the recent quarters. The state of the economy prior to the announcement of the currency ban is essential because it highlights the structural weaknesses in the economy that may worsen as a result of this shock and aggravate the economic slowdown.

Cash in the economy

Estimates suggest that the reduction in GDP could be somewhere between to 330 basis points. Given the widespread reliance on cash, the actual impact could be bigger. The following highlight the dependence of the Indian economy on cash:

• India is amongst the most cash-intensive economies in the world with a cash-GDP ratio of 12%. The same ratio in its peer economies such as Brazil and South Korea is one-third of India,

• Cash in circulation to private consumption ratio in India is 20%,

• Card transactions account for 4% of the personal consumption expenditure.

In such a cash-dependent economy, all of a sudden around 86% of the cash supply has been rendered useless. This has effectively imposed a tight constraint on real economic activity. This constraint will initially be felt most acutely in the cash-intensive sectors such as agriculture, construction, gems and jewellery, textile, trade, transportation and real estate as well as in the activities in the vast informal sector of the country.

Beyond the initial impact, the shock from demonetisation is likely to set off a domino effect that will impinge on activities far removed from the cash-intensive sectors. This impact may result in a protracted economic slowdown going beyond the current financial year.

It is likely that firms and households will innovate in an attempt to get around the cash constraint. Formal financial services will provide support to those who have access to them. Firms in the retail business that utilise the formal financial services will face a rise in demand as consumers shift from the cash economy to the digital economy. These innovations will dampen the effects of the shock to some extent, however, they cannot act as much of a cushion in an economy which is so overwhelmingly dependent on cash. So, even if the share of digital transactions doubles, it would still represent only a small portion of the transactions in the economy.

Will the economy rebound after a short period of distress?

While some initial data has already started signalling a slowdown, experts opine that the slowdown in the next two quarters would be temporary and would be followed by a quick and strong period of rebound. They conjecture that as the expected benefits of the currency ban start kicking in and as the cash supply in the economy gets replenished, normalcy will be restored.

We, however, argue that reviving the real economy and getting it back on a high growth track could be a much more difficult and time-consuming process.

A continued shortage of cash is already forcing consumers to postpone their purchases, especially of non-essential goods and services. There have been reports of a decline in footfall in shopping malls and retail outlets have reported a sharp drop in sales over the last month.

In an environment of uncertainty, it is natural for economic agents to behave cautiously. Two kinds of currency have now emerged – cash and deposits. While people are able to convert cash into deposits, going the other way round is more difficult due to the administrative restrictions imposed by the government on withdrawals along with the unavailability of sufficient usable banknotes even a month after the demonetisation.

Given the widespread uncertainty about more restrictive withdrawal limits being imposed and about the time taken by banks and ATMs to disburse the new notes, it is likely that households will hoard whatever cash they are able to obtain instead of spending it. This tendency to build up precautionary savings could continue for a while even after the money supply is restored. This will exert an additional downward pressure on consumption demand.

The quantity theory of money states that there is a direct relationship between the quantity of money in an economy and the level of prices of goods and services sold, i.e. MV=PY, where M is the money supply, V is the velocity of circulation of money, P is the price level and Y denotes output.

The currency ban has reduced the money supply drastically. As people hold back consumption and hoard cash, the velocity of circulation will fall. This means both P and Y have to decrease commensurately in order to restore equilibrium in the system. Estimates suggest that it may take six to eight months for the new currency notes to fully come back into circulation. The time taken to restore money supply may reduce the velocity of circulation for an even longer period, thereby resulting in a protracted GDP contraction.

Long-term impact

A stable, sophisticated economy is one where economic agents are able to take risks as well as make long-term plans. This includes private businesses, financial investors and households. A major shock like the currency ban disrupts the overall stability of the economy. The continuous change of rules almost on a daily basis further adds to the uncertainty. Since November 8, the government has changed rules related to the currency ban over 20 times and the RBI has released more than 15 sets of frequently asked questions to clarify this change in rules. These actions create an environment of unpredictability and in such an environment, firms and households hold back their investment and consumption plans. This further puts a brake on real economic activity and it is likely that even after the currency notes are back in circulation, the brakes stay on or are only gradually lifted.

One segment of the real economy that could be severely hit by demonetisation is the medium, small and micro enterprises (MSME) sector. This sector plays a pivotal role in the economy, contributing about 8% to the GDP, 45% to the total manufacturing output and 40% to the total exports from the country. Given the reliance of the sector on cash, especially for the small and micro enterprises, and the cost of compliance with regulations in the formal sector, some of these firms may not remain viable or solvent in the changed environment.

Some of these firms that were already struggling to meet their interest payments amidst the business cycle downturn over the past few years, may now tip over and become bankrupt as a result of the liquidity crunch. Once businesses start failing, valuable organisational capital gets eroded. Irrespective of how quickly money is put back into circulation again, some of these losses could be irreversible, thereby inflicting long-lasting damage on the growth of this sector.

The initial contractionary effect on the sale of goods and services will negatively impact business investment at a time when private sector investment is already sluggish.

The revival of private sector investment requires a sustained flow of credit. Bank credit to the corporate sector has remained tepid over the last few months. Analysis shows that despite banks receiving a large volume of deposits since November 8, their ability to make fresh loans remains limited. In addition to this, if a large number of firms in the MSME sector default on their loans, this will exacerbate the existing non-performing asset (NPA) problem of the banks. This, in turn, may further affect their capacity to extend credit given their already precarious capital adequacy position. These developments coupled with the heightened macroeconomic instability triggered by the currency ban do not augur well for the private investment scenario.

Another long-term impact of the shock may result from the negative wealth effect on consumption demand. For example, the real estate sector is likely to take a severe hit due to the currency ban since a large percentage of the transactions in this sector have traditionally been cash-based. As real estate prices start falling due to the liquidity crunch, people who had invested their savings in real estate will experience wealth erosion and may cut back on future consumption plans. This is likely to impose a lingering effect on aggregate demand.

The long lasting nature of the economic slowdown may also result from the ripple effects spreading across the entire real economy. It is well understood by now that the large informal sector accounting for 80% of the country’s employment and 45% of the GDP will be disproportionately affected by the liquidity crunch because of its inherent dependence on cash. While the share of the informal sector is estimated at ‘only’ 45%, this hardly means that majority of the economy will be insulated from the shock. A reason for that is that firms are interlinked in production. The production and sale of a good require a long chain of transactions, many of which involve cash.

If just one link in this chain breaks down, there will be problems. For example, one tends to imagine that exports will not be affected, because exports generally involve bank transactions and not cash. But that is only true at the final stage. At the earlier stages, cash can be quite important, for example, in the textile sector where many of the activities are carried out in small workshops and are cash-dependent. If a large number of these workshops start shutting down because of liquidity constraints and a decline in sales revenues, the entire supply chain in the textile sector will get disrupted. Even if the new notes come back into circulation in a few months’ time, this kind of real economic disruption may last much longer.

All these point to the possibility that once GDP growth starts falling, it may take several quarters before the economy gets back on track again.

Conclusion

The impact of the contractionary demand shock triggered by the November 8 currency ban will gradually radiate from cash-intensive activities to virtually every sector of the economy. This will lower the GDP growth. The resurgence in growth may prove to be a challenge and may take longer than expected in an already sluggish investment scenario. Given the magnitude of the shock and the channels through which economic activity may get disrupted for close to a year, if not more, it is surprising that the RBI estimated the impact on growth to be limited and transitory as announced in its recent monetary policy review meeting.

It may be worthwhile to ask, had the currency ban announcement not been made, how would the economy have progressed? Before November 8, India’s GDP was growing roughly at 7%, primarily boosted by growth in consumption expenditure. Private investment activity has been weak. Banks have been saddled with NPAs and till now no well-defined policy measure has been devised to resolve the problem and boost credit off-take in the economy. Demand for corporate credit has been stagnant for several quarters and an overleveraged corporate sector has been refraining from initiating new investment projects.

During this time, the singular objective of the government should have been to adopt structural reforms to stimulate GDP and achieve a high and sustainable growth rate. Generating jobs to absorb the demographic dividend while it lasts should have been another policy priority. Instead of prioritising these objectives, the government announced a measure that has in fact dealt a severe negative blow to the overall economy.

The associated policy uncertainty is contributing to macroeconomic instability. Arguably, this is the last thing that was needed now given the pervasive weakness in the credit and investment climate. Policymaking over the next couple of quarters is likely to get hijacked by this single event in order to ameliorate a potential economic damage. All this is very costly both in terms of the time spent and the resources used up in first delivering the shock and then in restoring normalcy.

The longer the time taken to normalise the situation, the deeper will be the damage inflicted upon the real economy, and some of the damage caused may end up being irreversible. Perhaps a year later it would be worthwhile to ask whether the costs in terms of a protracted economic slowdown were worth the benefits arising from this move.

How will IBC 2016 deal with existing bank NPAs?

How will IBC 2016 deal with existing bank NPAs? The Leap Blog, December 5, 2016 (with Anjali Sharma).

Demonetisation needs a Parliamentary law to be fool-proof

Demonetisation needs a Parliamentary law to be fool-proof The Leap Blog, December 1, 2016 (with Pratik Datta).

What does the currency ban mean for banks?

Mint, December 1, 2016 (with Anjali Sharma)

The withdrawal of Rs500 and Rs1,000 notes on 8 November has changed the composition of money supply in the economy. A large part of what was currency in circulation is now coming to banks as deposits. The sudden inflow of deposits has given rise to speculation about how these will be utilised by the banks. There are reports that banks will increase lending. Some have suggested that banks’ non-performing asset (NPA) problems will get alleviated. This is not correct. Our analysis suggests that: (1) banks are not in a position to significantly increase lending, (2) their net interest income (NII) may fall over the next few quarters, worsening their capital position, and (3) their NPA situation may get worse, further adding to their capital woes.

Close to 86% of the currency in circulation, amounting to roughly Rs14 trillion, was withdrawn overnight. By 13 November, Rs5.1 trillion out of this had been deposited in the banking system and Rs0.3 trillion had been exchanged over the counter. A large part of the remaining Rs9 trillion will get deposited in banks now that the exchange of old notes has been discontinued. At the same time frictions such as withdrawal limits on bank deposits, logistical constraints of re-stocking ATMs, banks’ capacity constraints in dealing with the surge in transaction volumes imply that it may take several months for the currency in circulation to even come close to its pre-8 November level.

Deposits are liabilities on a bank’s balance sheet, which they use to make loans and advances, which are their assets. However, in making these loans and advances, they have to adhere to two principles. The first is the principle of asset liability matching. This broadly means that short-term liabilities are used to generate short-term assets. If long-term loans are made using short-term deposits, banks are exposed to the risk of not being able to pay back when required or having to raise costly funds from the market to do so. The second is the principle of maintaining bank capital commensurate with the risk profile and quantum of loans made. These are according to Reserve Bank of India’s regulations and are in line with international standards set under Basel II.

First, in the current context, banks do not know how long these new deposits will stay on their books. So they can deploy these only in short-term assets. Second, the burgeoning NPAs of the banking system have significantly eroded their capital base and hence their ability to lend. In June, gross NPAs (GNPAs) of listed banks were Rs6.7 trillion or 9.1% of their advances. The 27 public sector banks (PSBs) account for 80% of these NPAs. In 15 of them, GNPAs as a percentage of advances are more than or close to the capital to risk weighted assets ratio (CRAR). Except for the State Bank of India and a few other PSBs, the CRAR headroom required to make new loans does not exist.

Given both these factors, banks will face constraints in using the new deposits to make new loans. There is also a question of demand for new loans. Corporate credit demand has been slow. The currency ban has imposed a big negative shock on consumption demand, which in turn may lead to businesses cutting back on their working capital requirement, at least in the next few quarters. This in turn will affect the demand for working capital loans.

If banks cannot make loans on these deposits, then they can either park them with RBI as reserves or invest them in government securities (G-secs). Banks would not prefer to park these deposits as reserves with the RBI beyond the cash reserve ratio (CRR) limit, because these reserves do not earn them any interest. They would prefer to invest the deposits in G-secs through the reverse-repo window. G-secs being sovereign bonds do not pose any capital requirements on banks, give them returns and allow them to match their asset liability profile.

The availability of G-secs in the market is determined by the borrowing programme of the government and is not easy to expand without raising fiscal concerns. This limits the supply of G-secs using which RBI can absorb the excess liquidity from the banks. There has been no announcement yet on the expansion of the supply of G-secs. This implies that with more incoming deposits, RBI will soon run out of G-secs that are needed to absorb the excess liquidity. This seems to be the case because RBI has now made it mandatory for banks to hold 100% CRR on incremental deposits. This announcement prevents banks from investing the incremental deposits in G-secs.

This does not augur well for banks. Their ability to make loans from the new deposits and earn income is already limited, for reasons discussed earlier. With the 100% incremental CRR requirement, the possibility of banks earning risk-free returns by investing the incremental deposits in G-secs is also removed now. Theoretically, one option with the banks is to lower the deposit rates. However, even after interest rates were deregulated, banks have not reduced deposit rates below the level of 4% that prevailed in the regulated regime. Lowering deposit rates below 4% may cause a public uproar and it is unlikely that banks will take this step. Given this, banks will have to service the cost of these fresh deposits without earning commensurate income on them. This will negatively have an impact on their NIIs and their profits, at least for the next two quarters, which in turn will cause further deterioration in their capital position.

Overall, the move to ban the Rs500 and Rs1,000 notes does not appear to be a positive one for the banking sector. They may not be in a position to significantly increase lending and their capital base may get worse. If economic activity slows down in the aftermath of the currency ban and corporate performance deteriorates, there may even be a spike in their NPAs, at least in the short term. In addition to this, bank branches all over the country have been struggling to deal with the massive transaction load that this move has placed on them. The normal banking business has been disrupted and bank employees have been occupied in dealing with exchange, deposits and withdrawals of currency. Yet the task is far from over and it is likely to keep them fully occupied till 30 December. At a time when the banking sector has been struggling to recover its bad loans and to find adequate capital to deal with provisioning challenges, this sudden shock may worsen the situation even further.

Ushering in insolvency professionals

Business Standard, November 20, 2016 (with Anirudh Burman)

The Insolvency and Bankruptcy Code (IBC), 2016 creates a new institutional framework for the quick and equitable resolution of distressed firms and individuals. A critical pillar of this law is the creation of a new profession of insolvency professionals (IPs). The IPs will be regulated by the code set out by Insolvency and Bankruptcy Board of India (IBBI) as well as by the insolvency professional agencies (IPAs). The IBC sets out the broad framework for regulating IPs and delegates the task of framing detailed subordinated legislation governing their functioning to the IBBI. In an earlier column, we had highlighted some radical new provisions related to IPs in IBC. These provisions could potentially pave the way for the subsequent regulations to be bold and more receptive to global talent. This spirit is, unfortunately, missing in the draft Insolvency and Bankruptcy (Registration of Insolvency Professionals) Regulations, 2016 that the Ministry of Corporate Affairs (MCA) has published for public consultations.

The IBC defines a “person” in an expansive manner and includes persons resident outside India. This explicitly created the opportunity for the regulator to issue regulations permitting a foreign resident to register as an IP in India. Clause 11 of the draft regulations, however, explicitly makes a person resident outside India ineligible to register as an IP. A similar restriction has been applied to the registration of IPAs. Clause 3 of the draft regulations on Registration of Insolvency Professional Agencies says, "no person resident outside India shall at any time, have or acquire control over the applicant, or own more than 49 per cent of the share capital of the applicant."

These are significant limitations given that at present there are no existing IPs in India and that many corporate debtors and creditors are facing severe financial stress. In such circumstances, permitting non-resident IPs to mediate between debtors and creditors would have enabled rapid and efficient resolution, even as domestic expertise and capacity in this field gets created. There can also be a potential to transfer expertise and know-how from other jurisdictions that have regulated IPs, leading to the faster development of the profession in India.

Countries such as the United Kingdom and Canada have a well-developed cadre of self-regulated IPs. While Canada does not have IPAs, the UK has had them for almost three decades. Over time, this structure of IPs and IPAs has witnessed better self-regulation, including the development of well-defined codes of ethics and business practices, along with better methods of monitoring the performance of member IPs by IPAs. A lot of these learnings can be assimilated into the Indian system if professionals from such countries are allowed to service Indian debtors and creditors.

State intervention through regulation is justified when there is a market failure. In the field of insolvency profession, potential sources of market failure include risks to consumer protection and concentration of market power. None of these risks is aggravated by having non-residents register as IPs in India or allowing more than 49 per cent foreign ownership of IPAs. In other words, from a risk-based perspective, it is not clear what risk is sought to be mitigated by not permitting non-residents to be IPs. Under the draft regulations, all IPs will have to clear a qualifying exam and become members of IPAs. This will weed out unskilled or unethical persons regardless of whether they are residents of India or not. The regulations could be designed such that any non-resident IP would be subject to the same standards of supervision, monitoring and disciplinary action in India as a resident IP.

An important objective of the regulator is to facilitate the development of the insolvency profession in India. The IBBI needs to ensure that adequate safeguard measures are built into the regulations to foster competition among the IPAs and prevent consumer protection related problems. There is no plausible nexus between the discrimination against foreign IPs and the objectives of the regulator, especially when the IBC allows for it. No rationale accompanying the draft regulations has been provided either to explain if this is a national security consideration, though it seems highly unlikely in this case. In the absence of any explanatory note or comment published by the MCA, it is fair to argue that these proposals be reconsidered.

Moreover, while the definition of a person under the IBC includes different kinds of natural and artificial legal entities such as Limited Liability Partnerships (LLPs) and trusts, the draft regulations permit only individuals and partnership firms to register as IPs. Again it is not clear why some legal forms are prohibited while others are allowed. While some legal forms may be difficult to regulate as IPs (for example, trusts and societies), it is unclear why LLPs are not permitted to apply when they are basically partnerships with limited liability.

The issues highlighted above will have a significant impact on the nature and development of the IPs in India over the next several years. In the insolvency and bankruptcy processes envisaged by IBC, the courts have been entrusted with a largely administrative role, while the IPs will actually mediate in reaching a resolution. Given the critical role to be played by this new profession, once the IBC is notified and becomes functional, it is of utmost importance that there be clarity on the regulatory structure for the IPs. It would be a good idea to jump-start this profession by encouraging the adoption of best practices and principles from jurisdictions that have effective bankruptcy regimes and one way of doing this would be to permit non-residents to practice as IPs in India.

GDP conundrum: Is India booming?

GDP conundrum: Is India booming? Ideas for India, November 16, 2016.

A macro view of India’s currency ban

A macro view of India’s currency ban Ideas for India, November 15, 2016.

It isn’t enough to focus on Doing Business rankings

Mint, October 12, 2016

The Indian government has taken great interest in addressing the problems of doing business in the country and improving India’s rank in the World Bank’s “Doing Business” report. One parameter evaluated in this report is “resolving insolvency”. India ranks 136 in the world in the ease of “resolving insolvency” and 130 overall. The enactment of the Insolvency and Bankruptcy Code (IBC), 2016 is likely to change this. The formal resolution process laid out in IBC is a significant improvement on current procedures. Passing the law is a big step forward. It will result in the ancillary benefit of improving India’s score in the Doing Business report but in and of itself, it will not create a framework for effective insolvency resolution in India. The key now is implementation and this will require time, planning and building adequate State capacity.

The “Doing Business” rankings reflect a de jure approach of evaluating what should happen under the stated law, as opposed to what happens in practice. The “resolving insolvency” parameter in the report consists of two indicators: the “recovery rate” and “strength of insolvency framework index”. The “strength of insolvency framework index” is calculated based on the provisions of the law. It analyses the strength of the legal framework applicable to insolvency proceedings and tests whether a country has adopted internationally recognized good practices in the area of insolvency resolution.

The “strength of insolvency framework index” is the sum of four component indices. Each component index in turn consists of sub-components ranked on a scale of 0-1. The overall index is measured on a scale of 0-16, with cumulative scores across 16 sub-components.

A simple calculation based on the provisions of IBC shows that the enactment of the law can improve India’s “strength of insolvency framework” index from 6 to 12 (see table). The corresponding score for OECD (Organisation for Economic Cooperation and Development) high-income countries is 12.1. This will place India ahead of developed economies such as Canada, France, Hong Kong, New Zealand, Netherlands, Norway, Singapore, and the UK, emerging economies such as China, Colombia, Indonesia, Malaysia, Mexico, Peru, Russia, Thailand, Turkey and Vietnam, and on a par with Australia and Sweden. This improvement will come about merely because the law has been passed, even though it has not been implemented yet.

The other element of the “resolving insolvency” parameter is “recovery rate”. This is assessed through questionnaires filled out by insolvency professionals. The questions are based on a case study such as insolvency resolution of a limited liability company in a big city. It will be interesting to see how India’s estimated “recovery rate” changes now that IBC has been enacted, given that the industry of insolvency professionals is yet to take off. Any case study should not take into account a law that has not yet been implemented.

Many times in economic measurement, we can observe the de jure status, but what really matters is the de facto outcome. This distinction is important when using the “Doing Business” scoring. In a recent paper (2015), Mary Hallward-Driemeier and Lant Pritchett, show that there is no correlation between the findings recorded in the “Doing Business” report and the ground realities of doing business. Large gaps often exist between laws and regulations on paper, and the manner in which these are enforced, especially true of developing countries.

For instance, one of the questions asked in the World Bank questionnaire is: Does the insolvency framework allow a creditor to file for the insolvency of the debtor? The answer to this is “Yes” based on the IBC provisions. In reality, the filing process may be cumbersome in the absence of a good enabling infrastructure. This may distort creditors’ incentives to trigger insolvency proceedings. These issues are ignored because of the way the question is designed.

Successful implementation of IBC is contingent upon four institutional pillars: a private competitive industry of information utilities, a private competitive industry of insolvency professionals, effective adjudication infrastructure and a well-functioning regulator. While the law has proposed setting up this infrastructure, the related provisions lack clarity and are often inadequate. For example, one strength of IBC is that it specifies finite timelines for completing various stages of the resolution process. This needs an efficient judicial infrastructure. But the law itself is silent on what is needed to set up this institutional pillar.

Excessive focus on a de jure ranking may divert attention from what is needed now, which is proper implementation of the law. Energy and resources need to be devoted to a full-fledged implementation plan that involves creating good institutions and building adequate State capacity. If getting a higher rank on the “Doing Business” report were the sole objective, cosmetic changes to the Companies Act, 2013 would have sufficed.

The success of the bankruptcy reforms should be measured by well-defined outcomes in the context of credit market development. The specific outcomes to look out for are higher values of leverage, financial debt share in total debt, non-bank debt share in financial debt and share of unsecured borrowing in total debt. These are the metrics against which the success of IBC should be assessed—not the “Doing Business” ranking.

Clear the air before enforcing Bankruptcy Code

Business Standard, October 9, 2016 (with Anirudh Burman)

The Insolvency and Bankruptcy Code (IBC), 2016 proposes to set up new institutional pillars to support the insolvency resolution and liquidation processes. One such pillar is the industry of insolvency professionals. Insolvency professionals (IP) are expected to play a critical role in the timely and efficient insolvency resolution of firms and individuals. Two specific provisions pertaining to IPs in the new law have gone largely unnoticed: (i) not just individuals but firms can also get licensed as IPs (ii) those residing outside India can practise as IPs on Indian corporate and individual insolvency-related matters. Both these provisions can have important implications for the regulatory structure of the IP industry once the law is implemented.

The regulation of professions in India has been a failure. Self-regulatory organisations in professions such as medicine (Medical Council of India), law (Bar Council of India) and accountancy (The Institute of Chartered Accountants of India) have consistently failed to enforce good standards. This hurts the interests of consumers availing the services of the professionals. IBC has stepped away from this status quo. IBC has proposed a system of multiple, private self-regulatory organisations called IP agencies or IPAs that will regulate the insolvency professionals. The IPAs will compete with each other on entry barriers, codes of conduct and supervisory framework. Imagine that instead of the current monopoly, there are two Bar Councils of India competing with each other to prove that they have the better lawyers as their members.

The proposed IP regulatory structure is largely similar to that of stock market brokers - perhaps the only success story in India in regulation of professions. The brokers are members of the exchanges, BSE and NSE who in turn are regulated by the Securities and Exchange Board of India. In case of IBC, the IPs will be registered members of the IPAs. The IPAs will have regulatory and supervisory powers over their member IPs. The Insolvency and Bankruptcy Board of India (IBBI) will watch over the IPAs as well as the IPs.

In this framework, the regulatory burden on the IPAs (and also on the IBBI) will be significantly higher when the IPs are firms instead of individuals. Given the critical role played by IPs throughout the insolvency resolution and liquidation processes, they must be held accountable for their conduct and performance. Holding an individual accountable is easier than holding a corporate body accountable. Every IPA will need to have adequate capacity to regularly monitor, inspect and supervise the firms licensed as IPs. This will also have an impact on the business model of IPAs.

Canada is one of the few countries that allows firms well as individuals to be licensed as IPs. They do so by placing different entry and compliance requirements on firms compared to individual IPs. The insolvency regulator in Canada has issued clear and detailed directives on the eligibility criteria for licensing corporate IPs (or trustees in their case) and individual IPs, and on the organisational structure of firms applying for an IP licence. For instance, a majority of the directors and a majority of officers of the corporate trustee must also be individually licensed as trustees.

This raises several open questions with regard to this specific provision in IBC. What will be the corporate structure of a firm licensed as an IP under the new law? Unlike other Indian laws on professionals, the IBC mandates a qualification exam for IPs. Will all the employees of a corporate IP need to pass the exam or will it suffice if the directors or partners of the firm alone are licensed IPs? When an insolvency resolution case is given to an IP from such a firm, will the name of the IP go in the records or the name of the firm? This also relates to the accountability question. Who will be held accountable for a particular case-the individual IP dealing with the case or the firm she belongs to?

The other provision of IBC that deserves attention is that persons resident outside India can get licensed as IPs and can also form an IP agency. No other Indian law explicitly treats foreign professionals at par with Indian ones. The manner in which this provision is implemented will signal India's willingness to display its maturity as a global market.

This provision raises several questions pertaining to the regulation of the foreign nationals. In the United Kingdom for example, the insolvency profession is very well developed. Does an individual or a firm, who is already licensed as an insolvency practitioner in the UK, need to take the Indian IP exam again? Or is it just a specific portion of the exam focused on the Indian landscape that will be relevant for her? How will the IBBI regulate an IP, or for that matter an IP agency, who is already under the supervision of the UK insolvency regulator? Does the foreign IP need to become a member of an Indian IPA in addition to her membership of a recognised professional body in the UK? Can an IP agency registered in the UK open an office in India and regulate Indian IPs? How can a level playing field be created for foreign IPAs and Indian IPAs to compete with each other? Are there related laws that need to be amended or repealed to allow foreign IPs to practise and to be regulated in India?

The implementation of this provision requires careful balancing. On one side is the need for expertise and experience to implement the IBC and to give Indian debtors and creditors access to the best possible IP services available globally. This is especially important since India does not currently have a developed IP industry. On the other hand, the IBBI needs to ensure that foreign IPs and IPAs are properly regulated such that they can be held accountable for their conduct and for liabilities arising out of their work in India.

IPs are central to the success of IBC. Poor regulation of the IP industry will lead to poor bankruptcy outcomes. Through the enactment of these provisions, Parliament has taken unprecedented and bold but welcome steps towards creating a new paradigm of regulation in India. Now that IBC is about to be implemented, the IBBI and the IPAs need to issue clear and detailed regulations and by-laws addressing the questions arising from these provisions before the IP industry becomes operational.

The great Indian GDP measurement controversy

The great Indian GDP measurement controversy The Leap Blog, September 10, 2016.

Measuring the transmission of monetary policy in India

Measuring the transmission of monetary policy in India The Leap Blog, September 1, 2016.

Why inflation targeting works

Mint, August 16, 2016

The Reserve Bank of India (RBI) officially adopted inflation targeting (IT) as a monetary policy strategy in February 2015. A few days ago, the government notified a consumer inflation target of 4% to be followed till March 2021. Some economists have expressed fresh concerns about the wisdom of adopting IT. These concerns are misplaced. Inflation hurts everyone in the country from households to firms. Even moderately high inflation is bad for growth as is inflation volatility. The primary objective of monetary policy should be to ensure low and stable inflation. IT offers a framework to achieve this objective in a credible and sustainable manner. The adoption of IT by the RBI is a significant step in the right direction. The RBI should stick to this framework and put in place the operating procedure needed to implement IT.

Central banks have the power to print “fiat” money. Unlike money backed by metals such as silver or gold in the pre-World War II era, fiat money gets its value from a legal decree. Every fiat money needs a nominal anchor to tie down the price level. A nominal anchor can take various forms such as money supply, nominal gross domestic product (GDP), value of domestic currency relative to a foreign currency or a price measure such as the consumer price index (CPI). Since the collapse of the gold standard, central banks have tried all kinds of nominal anchors but with limited success. The world has increasingly moved towards inflation targeting where the nominal anchor is the CPI.

IT requires a central bank to adjust its monetary policy instruments in response to the gap between the forecast inflation rate and a pre-announced target rate. Most countries today follow a “flexible IT” framework. This gives the central bank discretion to respond to shocks such as a growth slowdown in the short run and meet the inflation target in the medium run. This is the kind of IT framework that has been adopted by the RBI. The objective is to pin down the value of the rupee to the price of the CPI basket.

IT anchors the inflation expectations of the private sector. It imposes discipline on monetary policy. Before the adoption of IT, monetary policy in India was conducted in an ad hoc manner. The RBI would target multiple indicators ranging from inflation and growth to exchange rate and trade balance. There was no clarity about the primary objective of monetary policy. The lack of accountability, clarity and transparency in monetary policy introduced uncertainty. Uncertainty about the central bank’s monetary policy objective is a risk factor for the economy.

In the absence of a specific mandate to target inflation, monetary policy in India was often used to achieve objectives unrelated to price stability. For example, during 2004-07, in response to a surge in foreign capital inflows, the RBI lowered the nominal interest rate. This was done to prevent the rupee from appreciating. This meant interest rates were kept low at a time when the economy was growing at a very high rate fuelled by a credit boom. A pro-cyclical monetary policy triggered inflationary pressures. CPI inflation began exceeding 5% from February 2006 onward. Post 2008, in response to double-digit inflation, the RBI pursued successive rounds of monetary tightening at a time when growth had begun slowing down. IT acts as a guard against this kind of a discretionary monetary policy.

IT was first adopted by the Reserve Bank of New Zealand in 1989. Since then, the number of countries using IT as a framework to conduct their monetary policy has steadily gone up. As of now, 36 countries, including India, have officially adopted IT (see table). In addition, all 19 countries in the euro zone are bound by the inflation target chosen by the European Central Bank. This takes the total count of IT countries to 55.

Inflation targeting countries

Year of adoption	Country	Target measure
1989	New Zealand	H CPI
1991	Canada	H CPI
1992	United Kingdom	H CPI
1993	Australia	H CPI
1995	Sweden	H CPI
1996	Mauritius	H CPI
1997	Israel, Czech Republic	H CPI
1998	Poland, South Korea	H CPI
1999	Brazil, Chile, Colombia	H CPI
2000	South Africa, Thailand	H CPI
2001	Mexico, Hungary, Iceland, Norway	H CPI
2002	Peru, Philippines	H CPI
2005	Guatemala, Indonesia, Romania	H CPI
2006	Armenia, Turkey	H CPI
2007	Ghana	H CPI
2008	Botswana	H CPI
2009	Serbia, Albania, Georgia	H CPI
2010	Moldova	H CPI
2011	Uganda	Core inflation
2012	USA	PCE**
2013	Japan	H CPI
2015	India	H CPI
*H CPI: Headline consumer price index. **PCE: Personal consumption expenditure. Source: Gill Hammond, 2011, State of the art of inflation targeting-2012, Centre for Central Banking Studies, Bank of England, and respective central bank websites.

Since the 2008 financial crisis, questions have been raised about the effectiveness of monetary policy to boost demand in developed countries where interest rates are close to zero. Yet, IT has stood the test of time through shocks, including the 2008 crisis. No country has moved away from IT as a framework and newer countries have adopted it after the crisis. What has changed is not the overarching framework of IT but the instruments used to meet the inflation target. Under conventional IT, short-term interest rates are the instruments of monetary policy. In the post-crisis period, several developed countries started using unconventional measures such as quantitative easing to achieve the inflation target. IT has continued to be the framework used to anchor inflation expectations. A broad consensus supported by empirical evidence has emerged that IT is effective in delivering low and stable inflation and anchoring inflation expectations in developed and emerging countries.

The RBI has taken the first step towards stabilizing inflation by formally adopting IT as India’s monetary policy framework. A lot more remains to be done in order for RBI to actually become an inflation-targeting central bank. Equipped with the IT mandate, the RBI needs to focus its efforts on strengthening monetary policy transmission (MPT) and putting in place a comprehensive operating procedure. Unless financial market reforms are undertaken to strengthen MPT, small rate changes will not have any effect on aggregate demand and hence inflation. The RBI should consider bigger changes in the interest rate. Small rate changes of 25 or 50 basis points work well in IT countries that have strong MPT. One basis point is one-hundredth of a percentage point.

The RBI needs to build internal technical capacity to forecast inflation using sophisticated econometric models, improve the quality of publicly available macroeconomic data, publish its forecasts of inflation and related macroeconomic indicators at regular intervals, systematically track the private sector’s inflation expectations, form the monetary policy committee (MPC) that will decide the interest rate, and furnish the MPC with necessary information, including data, and models used to forecast inflation.

IT is a whole new regime in monetary policymaking in India. The policy focus should now be on understanding how the new regime works and how this framework can be used to deliver low and stable inflation on a sustainable basis.

RBI should not regulate asset reconstruction companies

Business Standard, July 2, 2016 (with Pratik Datta)

The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (also known as the Sarfaesi Act) facilitated the creation and regulation of Asset Reconstruction Companies or ARCs which purchase and manage stressed assets. A bill to amend the Sarfaesi Act is currently being reviewed by a Joint Parliamentary Committee (JPC). The amendment proposes to increase the powers of the Reserve Bank of India to regulate ARCs. This is problematic for two reasons. First, recovery of stressed assets by ARCs has failed. The new Insolvency and Bankruptcy Code 2016, or IBC, seeks to correct this. Regulation of ARCs outside the new bankruptcy law is unnecessary. Second, banking and stressed asset management are two separate businesses. The banking regulator has a conflict of interest in regulating the stressed asset management industry and should not be given this responsibility. The JPC in its review should consider these aspects of the proposed amendment.

So far, ARCs in India have failed in their primary purpose. While gross NPAs have risen to 10 per cent of total advances made by banks, the total value of loans sold to ARCs in the last two years is less than two per cent of the banking system. One reason for this is poor recovery due to an ineffective corporate insolvency resolution framework. The IBC is set to correct this situation and improve the recovery rate. Additionally, foreign investors have recently been allowed to invest in ARCs under the 100 per cent automatic route. This sequence of positive developments is likely to get derailed by the amendment. ARCs do not take deposits. They do not deal with retail consumers. Retail consumers cannot even invest in security receipts issued by ARCs, since they are not listed. There is no consumer protection concern. ARCs are too small to generate systemic risk for the financial system. Micro-prudential risk is also minimal. There is no market failure in the ARC industry that justifies heavy state intervention. From 2002 onward this industry has been repressed due to over-regulation. The proposed amendment makes it worse. The amendment gives unfettered powers to the RBI to remove the chairperson or any director from the board of ARCs on vague grounds like 'public interest', and to issue directions on the fees charged by ARCs and other expenses incurred by them. While the government liberalised foreign direct investment or FDI norms to invite foreign investors to invest in ARCs, the amendment gives arbitrary discretion to the RBI to remove ARC board members without basic natural justice. India has undergone a significant reform in the insolvency resolution space in the form of the IBC. Existing laws need to be in sync with the principle enshrined in the IBC to create a coherent framework for debt recovery and resolution. The IBC accords rights to every key stakeholder in the process without creating a bias among participants. The amendment goes against this principle by giving a special status to ARCs. The usage of the term ARC in India is misleading. Emerging economies like Indonesia, Malaysia and Korea set up government-funded vehicles as a one-off solution to a banking crisis situation, such as after the East Asian crisis of 1997. They are not regulated by the respective banking regulators of these countries. On the other hand, the United States and UK have hedge funds (distressed debt funds) that use private money to buy bad loans from banks. These funds are not regulated by the banking regulators either. In India, the Sarfaesi Act has created a unique situation where the so-called ARCs are non-government vehicles funded by corporate money; they are regulated by the banking regulator and are not a one-off creation. This regulatory architecture is fundamentally flawed. When an ARC buys a loan from a bank, it acquires the right to an assured cash-flow from the borrower. If the borrower defaults, the ARC can recover the due amount from the borrower. The business of stressed asset recovery is disconnected from the business of banking. There is no reason why the banking regulator should regulate the ARC industry in India, when globally it does not. The banking regulator has conflicting interests in regulating ARCs. If the regulator fails in micro-prudential regulation of banks, non-performing assets or NPAs will build up. If these NPAs are sold to independent ARCs at marked to market, the actual magnitude of prudential mismanagement of banks will be evident - a clear sign of the banking regulator's failure. Instead, if the banking regulator could "direct" the ARCs to absorb the NPAs at a higher price than what they are actually worth, the scale of the failure may not be fully evident. Thus, the banking regulator has perverse incentives in regulating ARCs. Further, the amendment is unconstitutional in spirit. It proposes that penalty orders against ARCs by the RBI can be appealed before an Appellate Authority comprising only RBI officers. Effectively, the RBI will be the judge of its own cause! This violates the principle of independence of the judiciary, which is equally applicable in the regulatory context. Regulators are "mini states" and their quasi-judicial functions (including the appellate function) must be insulated from their executive role. In the financial sector, an independent tribunal - the Securities Appellate Tribunal or SAT - hears appeals against orders by Sebi, Irdai and PFRDA. The Justice B N Srikrishna-led Financial Sector Legislative Reforms Commission had recommended that the RBI's orders should also be appealed to SAT. In this backdrop, creation of a parallel mechanism within the RBI to hear appeals against its own orders is a retrograde step and is potentially unconstitutional. The amendment will stifle the development of the struggling ARC industry and hamper the reform process initiated by the IBC and the liberalised FDI norms. The JPC must rectify this, given the unfolding NPA crisis. ARCs should be regulated by Sebi-like private equity funds investing in stressed assets and not by the RBI. This industry needs room to grow, which only light-touch regulation can provide.

Inflation targeting: A long way to go

Mint, June 29, 2016

The Finance Bill, 2016, amended the Reserve Bank of India (RBI) Act, 1934, to define inflation targeting (IT) as the central bank’s primary objective. Passing a law by itself is not sufficient to achieve the objective. Reforms will be needed on two fronts to build institutional capabilities that will add up to a working IT system. These involve (i) changes in the working of the central bank, including, releasing better and more frequent macroeconomic data, analysis and inflation forecasts in a timely manner; constituting the monetary policy committee and putting in place an operating procedure; letting the currency float and liberalizing the capital account; (ii) changes in monetary policy transmission, through financial market reforms.

A central feature of a well-functioning monetary policy is monetary policy transmission (MPT). MPT in India is ineffective. In an ideal world, changes in RBI’s policy repo rate—the rate at which it lends to banks—would affect the entire economy through three channels of transmission. First, banks would change the rates they charge their customers. Second, the bond market would be commensurately affected at all maturities. Third, the exchange rate would change because of the impact of the interest rate change on debt inflows and outflows.

None of these channels works in India. First, India is a bank-dominated economy but the number of banks have not increased noticeably over time. In a decade or so, only two new commercial bank licences were granted in 2015. The landscape is dominated by public sector banks which account for 80% of the deposits but lack competitive energy. Private and foreign banks face a plethora of entry barriers. While RBI has granted licences to payments and small finance banks, these will not move the needle in an otherwise stagnant banking environment.

The relatively smaller number of banks in the economy thwarts competition among the existing banks, who do not feel the necessity to pass on the rate changes to the final consumers. This renders the bank lending channel of transmission ineffective.

Secondly, bond market development has been an important failure of financial sector reforms. In advanced countries such as the US, the bond market is an important transmission channel through which changes in monetary policy affect the yield curve. In India, we do not observe this channel. In the absence of a large and liquid bond market, the burden of MPT falls squarely on the banks. For the bond market to develop, reforms are needed to facilitate the bond-currency-derivatives nexus.

Third, in an open economy with flexible exchange rate and monetary independence, when the central bank changes the policy rate, capital flows in or out of the economy, depending on the direction of the policy rate change. This leads to movements in the economy’s exchange rate. This is the third channel of transmission through which sectors linked to currency movements such as tradables feel the impact of a monetary policy change.

In India, there exist several restrictions on the movement of capital flows. Compared to other emerging economies, India still enjoys a limited degree of integration with international financial markets. So, any change in RBI’s policy rate does not necessarily result in concomitant changes in capital flows. Also, in India, any movement in the currency is actively managed by RBI through market interventions. These reduce the effectiveness of the exchange rate channel of transmission as corroborated by evidence found in our recent paper (Monetary Transmission in Developing Countries: Evidence from India by Prachi Mishra, Peter Montiel and Rajeswari Sengupta). In the absence of an open capital account and flexible exchange rate, the third channel of MPT is rendered ineffective.

In an ideal world, through these MPT channels, the effect of a rate change would be passed on to a large share of the population connected to the formal financial system. In other words, for MPT to be effective, financial inclusion is also important. In India, when RBI changes the policy rate, the impact is felt by a small fraction of the population which has access to the formal financial sector. Only 52% of those aged 15 years and above have accounts at a financial institution in India as of 2014. This is low when compared to 98% in Australia, 78% in China, 96% in Singapore, 98% in the UK and 93% in the US. As a result, a small share of Indian population bears a disproportionate burden of the impact of a monetary policy change.

In the absence of a powerful MPT, the only way a monetary policy change can affect the economy is if it is large in magnitude. For example, when C. Rangarajan was RBI governor from 1992 to 1997, he pursued aggressive monetary contraction in the mid-1990s amidst an inflation crisis. In response, consumer price index inflation went down from 10% to 4% in two years. In those days, because MPT was weak, a large change in monetary policy was needed to combat inflation. Little has changed since then.

Thus, there are three paths that can be followed in the context of MPT: (i) Adopt structural reforms to de-clog the channels of transmission. This entails improving financial inclusion, fostering a competitive environment for banks, improving the functioning of the bond market, liberalizing the capital account and letting the currency float; (ii) Administer big changes in the policy rate; (iii) Do nothing on the first and deliver only small changes in the policy rate. This is least painful and perhaps easiest to implement in the short run, but does not create any real impact on the economy.

The government has done its bit by amending the RBI Act to incorporate IT as an objective. RBI now needs to undertake a series of actions in order to actually become an inflation-targeting central bank.

Analysis of the recent proposed SARFAESI amendments : are these consistent with the Insolvency and Bankruptcy Code?

Analysis of the recent proposed SARFAESI amendments : are these consistent with the Insolvency and Bankruptcy Code? The Leap Blog, May 29, 2016 (with Richa Roy).

Real GDP is growing at 5%, not 7.1%

Mint, March 14, 2016

Are our gross domestic product (GDP) numbers credible? Many commentators have expressed their doubts. But no one has yet identified problems with the Central Statistical Organisation’s (CSO) methodology. This is because they have been looking in the wrong place. The problem is not, as many have suspected, in the nominal numbers. It lies in the system for constructing the deflators. This methodology is flawed, yielding exaggerated estimates of the speed at which the economy is growing. As a result, policy decisions such as the Union budget are taken on the basis of a “broken speedometer”.

No one is talking about the deflators, but they are important. That is because the real numbers are derived by taking nominal data on the economy and deflating them by price indices. So, if inflation is understated, then real growth is going to be overstated. And this is what has been happening.

In the latest data released by the CSO we focus on the gross value added (GVA) numbers. This measure is conceptually similar to the old GDP at factor prices. In nominal terms, GVA increased by 7.9% in the third quarter (October-December) of the fiscal year 2015-16, below its usual level of 10-15%. This increase translated into a 7.1% real growth, because the deflator reportedly increased by only 0.7%.

Could India’s inflation be so low? In effect, the CSO is saying that despite India’s booming economy, producer inflation is lower than that of the recession-wracked economies of the West, or even that of Japan, which has been wrestling with deflation since the 1990s (see adjoining chart.) This is not plausible.

How could the CSO have come to such a conclusion? The answer is that in a number of sectors, it has proxied the deflator by using the wholesale price index (WPI). This approach is problematic. For one thing, the WPI and the GVA deflator can move in different directions. To see this, we need to look at value added from the income side. Firms’ value added is paid out to the factors of production, namely labour, land and capital. The biggest share of this income goes to labour, which means that wages form the bulk of the deflator. We do not have good data on wages, but we know that they have been going up. Yet, the WPI has been going down—by 1.5% in the third quarter.

Next, we turn to value added from the production side. When commodity prices decline, the commodity-heavy WPI will decline, as we have just seen. But the GVA deflator will need to increase. This may sound strange, but the reasoning is straightforward. Plunging commodity prices boost firms’ profits, increasing their value added, which is what the nominal GVA measures. But since ‘real’ GVA is measured at constant prices, this increase in nominal GVA needs to be deflated away. Hence, the deflator needs to rise.

In other words, by relying heavily on the WPI, the CSO has been led astray from the true deflator. As a result, the growth estimates have also strayed from reality. Over the past year, the dynamos of the economy—investment and exports—have remained mired in a slump. Yet, according to the CSO, the economy, excluding agriculture and government, expanded by 9.6% in the third quarter. This growth was powered by two sectors—trade and finance—that reportedly grew by around 10%, and one—manufacturing—that grew by 12.6%. In other words, the CSO is telling us that good times are back. But this is not consistent with what we see all around us.

If the WPI is such a poor proxy for the deflator, what numbers should be used in its place? There is no single answer. For the service sectors, one could look at the consumer price index (CPI) for services such as health and education. For manufacturing, one could take the CPI for clothing/footwear and miscellaneous household goods. All of these indices are running at 5-5.75%.

So, let us be conservative and use 5% as the deflator for finance and manufacturing. In that case, financial real GVA would show a growth rate of 2.6% as opposed to the reported 9.9%.

For the manufacturing sector, only 70% of the estimated GVA is derived by deflating the nominal numbers from the corporate sector, while the remaining 30% is based on the Index of Industrial Production. Accordingly, one needs to take 70% of the nominal GVA, deflate it by 5%, then add back the remainder. In that case, real growth of manufacturing GVA comes to 7.7% as opposed to the reported 12.6%.

With these adjustments for finance and manufacturing, keeping the numbers for the other sectors unchanged, we get a real GDP growth rate for the third quarter of 5%. In other words, the economy is struggling, not racing ahead. Now, that seems consistent with what we are seeing.

Where Is The Strategy To Solve The Investment And Banking Crises?

Swarajya, February 29, 2016

The 2016-17 Budget was presented by the finance minister against the backdrop of an economy that is facing two important macro problems—a crisis of investment and a crisis in the corporate and banking sectors. Other than the GDP numbers, all other statistics point towards an economy that is in trouble. The need of the hour was a July 1991 Dream Budget that would recognize the problems in the economy and outline a strategy to address them. The Budget presented today did not live up to these expectations and may go one step further in discouraging investment. Apart from a few good elements, this is not the Budget that would deliver the much-needed boost to private sector optimism in a modern market economy.

A few announcements in the Budget speech, mostly in the field of financial sector reforms, deserve mention. Setting up a resolution corporation for financial firms is a welcome step. This was recommended by the Financial Sector Legislative Reforms Commission (FSLRC) and is part of the Indian Financial Code. This, along with the Insolvency and Bankruptcy Code, when enacted, will reform the current insolvency resolution system, paving the way for faster restructuring of viable firms and exit of the unviable ones.

The amendment of the RBI Act to establish a Monetary Policy Committee (MPC) is important in context of the Monetary Policy Framework Agreement that was signed earlier last year and to achieve the inflation-targeting objective in a transparent and accountable manner. However, the devil lies in the details of the MPC. It remains to be seen what the composition and organization of the Committee will be. The setting up of the Financial Data Management Centre (FDMC) for data integration in the financial sector was also recommended by the FSLRC and is an important step.

Finally, adhering to the fiscal deficit target of 3.5 percent of GDP and reducing the revenue deficit target from 2.8 percent to 2.5 percent is prudent and may call for some cheer. But the manner in which it is sought to being achieved may be called into question. One needs to look closely at the numbers to assess the quality of this proposed fiscal deficit reduction. The calculations are based on a GDP growth rate of 7.6 percent. While the new GDP data show that India is doing very well, the new GDP data has its own share of problems and so far no step has been taken to correct these. If we assume that the new GDP data is hiding the true health of the economy, which in reality is a lot worse, then the tax buoyancy that the Budget speech refers to may be exaggerated.

Leaving this aside, there is also the question of windfall gains received by the government for the last several quarters on account of the fall in oil and commodity prices. This could have been used to further reduce oil-related subsidies and achieve a primary surplus. The Budget speech made no mention of such a plan. Instead, it announced the imposition of a series of cesses, a rise in tax on dividends, tax on long-term capital gains and a tripling of the Securities Transactions Tax (STT) on Options. At a time when encouraging investment is the need of the hour, measures such as these would send wrong signals to the private sector.

As the dust settles, it will be important to closely look at the revenue and expenditure calculations. Given that implementation of the recommendations of the 7th Pay Commission amount to roughly 0.6 percent of GDP and a deficit reduction of 0.4 percent of GDP is targeted, revenue measures adding up to roughly one percent of GDP are needed. That is indeed a big number and it is doubtful that all the tax measures announced in the Budget speech would add up to this. This calculation does not even take into account the expenditure on account of the Defense OROP programme. The Budget speech did not lay out any roadmap for gradual disinvestment of shares in public sector enterprises either.

The Budget speech was silent on how the government plans to tackle the two pressing problems that the economy is facing—investment crisis and banking crisis. It lacked the vision required to encourage domestic and foreign investment and to revive the economy. Two steps that could have helped in boosting investment optimism are a reduction in the corporate income tax and a proposal to table a bill in the Parliament to remove retrospective taxation. Not only were these missing in the speech, the tax on dividend was increased, a step that would discourage private investment.

The banking sector is buried under a mounting pile of bad debts amounting to Rs. 8 lakh crore. The FM announced a recapitalisation of Rs. 25,000 crore and the possibility of consolidation of public sector unit (PSU) banks. Given the magnitude of the crisis, Rs. 25,000 crore does not even scratch the surface. Even if one were to overlook this, allocation of any amount needs to be placed in context of a broader strategy to resolve the problem. There needs to be a forward guidance on how the bad debts can be resolved such that the banks can start lending again and the corporate sector can start investing again.

The Budget speech was an opportunity to announce a full blown strategy of how to fix the fundamental problems in the banking system that caused the crisis to begin with, what kind of deeper banking reforms will be undertaken so that a similar crisis is not repeated in future and how banking regulation will be modified to ensure that the RBI is better equipped to either prevent or deal with such a crisis the next time around.

But the Budget speech did not give a sense of the strategy the government will pursue to clean up the mess in the banking system. In absence of this, recapitalisation is merely going to postpone the problem. It will lead to moral hazard among the PSU banks as it will act as an implicit insurance against any loss that the banks suffer owing to NPAs.

India today is a modern market economy where people, especially the youth, are looking for jobs and opportunities and this calls for boosting investment and enhancing growth. This is what the government promised on their campaign trail. They have not delivered on this objective in the last two years and this year’s Budget does not promise a strategy of achieving it either.

The Budget Track Record

Swarajya, February 11, 2016

The Union Budget is a document that describes how much revenue the government expects to earn from what sources, and how much it plans to spend in what categories. Over time, it has become a statement of the work plan of the government for the coming year. It has become a document that spells out the economic vision of the government.

The Narendra Modi-led government has so far presented two Union Budgets. The government was expected to lay out a strategy to solve the pressing problems of the economy and deliver on the promises of growth revival and job creation made on the campaign trail. The Budgets announced by the government in July 2014 and February 2015 had some good elements but, by and large, did not live up to expectations. In recent times, the economic performance has been sluggish. An overall sense of despondency has replaced the initial exuberance that prevailed when the government took over in 2014. Expectations are high for the February 2016 Budget. There are gaps created by the last two Budgets that need to be addressed and a new strategy adopted to turn around the economy.

A downturn began in the Indian economy in 2012. GDP growth fell to a seven-year low of 5.3 per cent. Inflation was stubbornly high at 7 per cent, creating a situation of stagflation. Investment demand was sluggish, and the scope for increasing government expenditure was limited by the fiscal deficit of 5.9 per cent. It was against this background that the new government took charge in May 2014. In the months leading up to the election, the Bharatiya Janata Party made all the right promises. It won the election with a majority in the Lok Sabha—the first majority government in 30 years. With this win, came hope and optimism that the government would unveil a game plan to initiate structural changes in the economy.

July 2014 presented the new government with an opportunity to deliver a Budget that would reshape the economy, the way the P. V. Narasimha Rao-led minority Congress government had done in 1991. That government, elected in June 1991, had even less time to prepare for the interim Budget that Manmohan Singh presented on July 24, 1991. The situation back then was also direr. In comparison, the interim Budget of 2014 announced many small measures but did not spell out an economic vision of the government.

The government announced initiatives such as the development of 100 Smart Cities, a national-level Skill India programme, the Digital India programme, and the Swachh Bharat Abhiyan project. Arun Jaitley’s Budget speech mentioned the keenness of the government to revive growth, restore vibrancy in the economy, boost the manufacturing and infrastructure sectors, promote financial stability and introduce fiscal prudence. These are all good aspirations but what is needed is a long-term strategy to achieve these goals. There needs to be a deeper diagnosis of the problems in the economy, and addressing the underlying institutional bottlenecks by amending laws and constructing State capacity.

The good elements of the Budget were the increase in foreign direct investment (FDI) cap in the defence and insurance sectors to 49 per cent from 25 per cent, aimed at improving the investment climate and the announcement that a monetary policy framework would be put into place. The latter initiative is important because, for decades, India lacked a framework to deliver low and stable inflation.

On the fiscal front, there should have been a detailed roadmap to roll out the Goods and Services Tax (GST). For long in India, poorly designed and executed tax policy and tax administration have resulted in a low tax-to-GDP ratio and have been inimical to growth. With a 35 percent tax rate on corporate income, India has one of the highest tax rates among similar countries. What was needed in the Budget was a strategy to reform the tax policy and the tax administration. Overall, the 2014 interim Budget left much to be desired.

The 2015 Budget was the first full year Budget to be presented by the new government. The fall in global crude oil prices meant that the government was in a position to utilize the resultant windfall to cut back on subsidies. The government should be given credit for accepting the recommendations of the 14th Finance Commission to increase the share of the states in the central taxes to 42 percent. This meant that going forward, the states would be responsible for their own expenditures. This provided the government with an opportunity to bring about fundamental changes in the machinery of central expenditures. All of these could have been used to facilitate fiscal consolidation.

The previous Finance Minister, P. Chidambaram, had committed to a certain fiscal adjustment path. The 2015 Budget, however, announced the extension of the timeline to achieve the fiscal deficit target of 3 percent by one more year to 2017-18. This was unfortunate. The government could have instead announced systematic disinvestment measures to free up resources for capital expenditures and public investments while remaining on the committed trajectory of fiscal consolidation.

While subsidies on petroleum products were cut back in 2014-15, there was a lot more room to reduce expenses by pruning subsidies. The primary focus of the Budget should have been to boost GDP growth and achieve primary surplus so as to bring down the debt-to-GDP ratio. The budgeted primary surplus instead was -0.7 per cent and non-interest expenditures were budgeted to go up only by 4.06 per cent.

There was no plan in the 2015 Budget to implement tax reforms. The Direct Taxes Code that seeks to consolidate all direct taxes and is designed to make the tax regime more stable was dropped from the Budget. This was a new low. It is one thing to remain silent on new initiatives. But it is worse when the government announces a work plan to not do reform.

In contrast, the financial sector reforms that were announced may be considered the redeeming features of the 2015 Budget. The announcements included merging the commodity futures with the Securities and Exchange Board of India (SEBI), setting up the statutory Public Debt Management Agency (PDMA), shifting the government bond market regulation from the Reserve Bank of India (RBI) to SEBI, shifting regulation-making power on equity flows related capital controls to the government, setting up the Gujarat International Finance Tec-city (GIFT), and formalizing inflation targeting as a monetary policy strategy through the signing of the Monetary Policy Framework Agreement (MPFA).

Another good element of the Budget was the announcement that a comprehensive Bankruptcy Code would be introduced in 2015-16 in order to facilitate efficient exit of failed firms. The 2015 Budget also mentioned that the Indian Financial Code (IFC)—the most comprehensive and game-changing piece of legislation on financial sector reforms in the history of the Indian economy — was going to be introduced “sooner rather than later”. All of these were steps in the right direction.

Looking back on the implementation, however, several of the announcements made in the 2015 Budget have either been shelved or implemented in a half-hearted manner or continue to be in limbo. The GST is still a far cry from becoming a reality. Discussions to introduce the IFC in Parliament seem to have lost momentum. Establishment of the PDMA and shifting of bond market regulation from the RBI to SEBI have both been rolled back.

One area of reform that has been discussed widely in policy circles in recent times is infrastructure reform. The Budgets of the BJP government did not unleash the wave of public investments in infrastructure needed to revive the economy. The overall outlay allocated to infrastructure projects in the 2015 Budget amounted to less than 0.4 per cent of GDP. The Finance Minister proposed reviving the public-private partnership (PPP) model of infrastructure development. To make this work, deeper institutional reforms are required to sustain private sector participation in infrastructure. This, in turn, needs amendment of laws, establishing well-performing regulators and building adequate State capacity to ensure high quality execution.

On corporate and individual insolvency reforms, the Bankruptcy Law Reforms Committee (BLRC) submitted its report and a draft bill proposing a comprehensive Insolvency and Bankruptcy Code (IBC) in November 2015. The bill was introduced in Parliament in December and was referred to a Joint Parliamentary Committee that is supposed to submit its report around the next Budget session.

Implementing big structural reforms should be a measured process that includes perfecting laws, and creating good institutions. Just as legislative delays exacerbated by political logjam can be damaging for the economy, rushing to pass a bill without perfecting it and without a full implementation plan can also hamper outcomes.

The business cycle downturn that began in 2012 has not ended. Economic performance continues to be bleak. For the 2016 Budget, the government needs a completely new strategy that involves thinking about the full picture, getting clarity on where we want to be by 2019, what is the vision for the economy as a whole, and what steps need to be adopted to achieve this goal.

India’s fiscal situation has worsened over the last few years. At present, the interest rate paid by the government is higher than the nominal growth rate which means that the debt to GDP ratio is now on an upward trajectory. One important component of the next Budget should be steps to achieve fiscal correction in order to restore fiscal stability and debt sustainability.

While increasing fiscal deficit at a time like this would not be prudent, a push for infrastructure reforms is needed. This calls for a strategy to boost public expenditure especially on infrastructure, by using revenues from public disinvestments and subsidy reductions.

There also needs to be a strategy for reforming the tax policy and the tax administration.

Even after taking into account the rollbacks post the 2015 Budget, by January 2016, it appears that a lot of the work in the financial sector has lost momentum. The next Budget should revitalise this process if the financing needs of the infrastructure sector are to be met. There also needs to be a roadmap to introduce the IFC in Parliament.

The economy today is experiencing a balance sheet crisis of the firms and the banks. The government should review the idea of opening up the economy to new private and foreign banks in order to relax the credit crunch that the real sector has been facing.

The need of the hour is big thinking on the scale of the 1991 Budget and bold ambition underlying a slew of policy initiatives. Budget 2016 needs to deliver on strong fiscal, financial and monetary institutions that are needed for India to emerge as a mature, market economy.

While it is relatively easy to enumerate a list of agenda items for the Budget, the announcements in the Budget speech are only a part of the overall strategy. This has to be followed up with a full implementation plan to turn the Budget speech into concrete actionable points that can be delivered over the next financial year. Short of that, merely a good Budget speech will be akin to engaging in “isomorphic mimicry” where the reform process gains legitimacy through announcement of policy initiatives without actually obtaining the desired outcomes.

A better bankruptcy regulator

Business Standard, January 10, 2016 (with Pratik Datta)

The Insolvency and Bankruptcy Code (IBC) introduced in the winter session of Parliament recommends setting up a regulator, the Insolvency and Bankruptcy Board of India (IBBI). A regulator is a 'mini-state' with legislative, executive and quasi-judicial powers. Fusing all three aspects of the state into one agency is problematic, and requires particular care for achieving good outcomes. The current draft of the IBC requires many improvements on this score.

The IBBI will regulate insolvency professionals (IPs), IP agencies, information utilities (IUs) and resolution procedures. The entry of players needs to be monitored, and their behaviour needs to comply with standards specified through regulations. Violations of these standards must attract sanctions. In order to achieve malleability, many details of the insolvency process have been delegated to regulations to be specified by the IBBI.

While there is merit in proposing a new regulator, there is considerable scepticism about the performance of existing regulators in India, be it for regulation of professions (e.g. Institute of Chartered Accountants of India, Institute of Company Secretaries of India, Medical Council of India, Bar Council of India, etc) or regulation of industries (e.g. Reserve Bank of India, Securities and Exchange Board of India). If existing regulators have problems, why should we expect better from the IBBI?

Where have we gone wrong? The governance of existing regulators, including the composition of the board and its relationship with the management, is faulty. The procedures for writing subordinate legislation are neither well-defined nor transparent. The mechanisms for exercise of executive powers for conducting inspections and investigations are idiosyncratic and give arbitrary power to officials. Basic principles of rule of law are violated in the quasi-judicial function. Finally, feedback loops of accountability are feeble and fail to set off a continuous process of self-improvement.

Most existing regulators do not exercise a clear separation between their executive, legislative and quasi-judicial powers. The regulatory staff often controls the legislative functions supposed to be performed by the board of the regulator. The power to write law must vest with Parliament, or must be delegated to unelected officials under the control of the board, with requirements about due process.

Executive and quasi-judicial powers often get muddied. The wide-ranging executive powers given to regulators are not balanced with proper systems governing the application of administrative law. The concept of an administrative law wing like in the US Securities and Exchange Commission (SEC) is wholly absent in the Indian regulatory context. Quasi-judicial powers must be exercised by regulatory staff, who are at arms-length from the executive wing. The prosecution in a criminal case can never be the judge of its own cause.

There is no accountability of performance of existing regulators. The annual report should be a tool through which the public is able to judge the performance of the regulator. Lack of clarity in the laws also results in the regulator getting away with releasing minimal information on its performance. Recently, the Supreme Court came down heavily on the RBI for non-disclosure of information, emphasising that under the rule of law, punishments cannot be given in secret.

So how do we ensure that the IBBI performs better than existing Indian regulators? Sound regulatory governance requires considerable detail encoded into the primary law, which specifies all five aspects: board and governance, legislative function, executive function, quasi-judicial function and accountability. Conventional laws in India are skimpy on specifying these details, which is what has led to pervasive underperformance.

For a market to function properly, regulators must treat market participants as equal stakeholders. While framing regulations, the IBBI must consult relevant market participants. It must do detailed cost-benefit analysis to assess if a particular regulation solves a case of market failure. It must issue regulations in a transparent manner after deliberations at the board level. Surprises should not come about, where a regulation which is released today takes effect from tomorrow, without any warning.

The quasi-judicial function in the IBBI is special. Persons who write orders must not be involved either in writing law or in enforcing it. Hearings must take place, where the accused have an opportunity to present their point of view, and reasoned orders must come out in writing on the regulator's website. Efficacious methods for appeal must be available to those found guilty.

The establishment of sound processes for the legislative, executive and quasi-judicial functions will create an environment of rule of law. This generates accountability in and of itself. In addition, the IBBI must be required by law to publish an annual performance report documenting its performance according to well-defined parameters.

The current draft of the IBC does not specify these basic requirements in adequate detail. It does not provide sufficient clarity on the regulation making process of the IBBI, nor does it provision for a well-defined accountability mechanism for the regulator. The independence of the quasi-judicial function from the legislative and executive powers of the regulator is also not clearly spelled out. Now that the draft bill has been introduced, these are some of the issues that should be high on our minds when we think of bankruptcy reform and the associated enabling infrastructure.