Profit is a dirty word for Bimal Jalan committee — provided it means what it says!   

November 26, 2010

The report of the Jalan committee, packed with regulatory officials, is a throwback to the days of licence-control raj. The hidden agenda: put off new entrants and favour the current monopolist

The Bimal Jalan committee set up to 'Review Ownership and Governance of Market Infrastructure Institutions' (MIIs) believes that stock exchanges and other institutions should not be making money more than a few percentage points above the RBI bond rate. MIIs are organisations that are core to the stock market system, such as stock exchanges and depositories. This extraordinary idea of capping profits will immediately remind people of the late '80s when Indian industry was subjected to price controls through the Bureau of Industrial Costs and Prices (BICP). Electricity companies were governed by a law that put a cap on their returns at 16% of capital employed. Such stifling policies discouraged business enterprise and kept the private sector stunted between independence and the early '90s.

India has long moved forward. Almost all products and services are free from such mindless control. There are hardly any caps on profit in any business. But a group of bureaucrats and two odd choices from the private sector, who were part of the Bimal Jalan committee, felt that MIIs should not make more money than a prefixed level.

"The MII being a public utility should endeavor to earn only reasonable profits at par with average earnings of the corporate sector in India. Therefore, it is recommended that a cap may be fixed on the maximum return that can be earned by MII on its net worth and can be distributed/ allocated to the shareholders of MII out of the total returns earned by MII. Any return/ profits above such maximum attributable amount would be transferred to IPF or SGF as the case may be and the same would not form part of shareholders funds/ net worth for the purposes of determining returns and book value of the shares. This would strengthen the MII to withstand shocks, make them robust and may lead to reduction of the charges levied by MIIs on the users." IPF refers to investor protection funds in which hundreds of crores are lying and are often misused by the exchanges. SGF refers to the settlement guarantee fund.

The committee felt that the cap should be based on the yield on a 10-year government bond and a 'risk premium' to account for the risks faced by MIIs, including equity risk premium and liquidity risk due to non-listing of MIIs. It would also take into account the "differential tax rate applicable to unlisted entities as the Committee has recommended that the MIIs should not be permitted to list." The committee also helpfully pointed out that "the rate of return may be reset by SEBI considering the change in risk-free rate of return, inflation, etc."

There are no explanations why exchanges have to be seen as public utilities, and if they are, why should they be headed by managing directors earning salaries of Rs7 crores per annum-more than many profitable private sector companies-and not by officers from, say, Indian Audit and Accounts Service earning 1% of that figure. It also does not explain whether Goldman Sachs and New York Stock Exchange bought stakes in National Stock Exchange (NSE) thinking that they are buying into a public utility.

So, why did the Jalan committee members come up with this thought? In India, nothing can be taken at face value.

The fact is that the Jalan committee's characterisation of Indian exchanges as public utilities has nothing to do with any belief. It is a design to make the exchange space totally unattractive. Who in his right mind would take the lead to set up an exchange if returns are capped? Who else would invest in an exchange like that? And if no new exchange comes, who is the beneficiary? It is the stock exchange that is running a monopoly today, with 94% of daily volumes.

What is remarkable is that a bunch of government officials and a couple of opportunists from the private sector have sat for months and come out with a devious plan such as this.

Our earlier report on the Jalan committee today, listed many ways in which the committee is out to protect NSE's monopoly. This report shows another aspect of the intrigue. It is remarkable that almost five days after the report has been released, the media has not bothered to delve into various aspects of this half-baked piece of work. — Moneylife Digital Team