Sucheta Dalal :Bees Saal Baad: Markets at the Crossroads
Sucheta Dalal

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Bees Saal Baad: Markets at the Crossroads  

April 16, 2012

In the past 20 years since the securities scam was exposed, radical transformation and development was followed by bumbling insularity, a near monopoly of the NSE, poor leadership and lack of vision at the BSE and an unseemly collusion has kept competition out of the capital market space

Bees Saal Baad—our Cover Story this time—is about the securities scam of 1992 and its investigation. One can’t look back over the past 20 years without reflecting on the transformation of the Indian capital market during this period.

The securities scam finally ensured that the Securities and Exchange Board of India (SEBI) got its statutory teeth. Two visionary men played a key role in the transformation of our bourses. One was GV Ramakrishna who skillfully steered the SEBI Act through Parliament and set about the incredibly tough job of bringing order to an unruly market dominated by a close cabal of stockbrokers and speculators and closely linked intermediaries. The other person, whose contribution we revisited marvelling at his foresight was Dr RH Patil, then an executive director at the Industrial Development Bank of India. It was thus a tragic coincidence that this self-effacing but extremely competitive institution-builder, who made the National Stock Exchange (NSE) India’s biggest stock exchange (and one of the top five in the world), gave up a long battle with cancer on 12th April.

It would be trite to say that Dr Patil’s demise marks the end of an era. That era ended around the time the top brass of the NSE, which he had set up and shaped, celebrated its 10th anniversary but forgot to acknowledge his contribution publicly. By then, Dr Patil had quietly moved on to set up the Clearing Corporation of India and was transforming how government securities are traded in India.

It is instructive to reflect on the trajectory of the Indian capital market developments in these 20 years and what better way than to quote Dr Patil from a speech that he made nearly seven years ago. He reminded the audience that “… the changes that NSE has been able to bring about may appear to be irreversible; but it need not necessarily be so.” He further said, “Price of freedom is eternal vigil. If we are keen that our journey on the path of capital market reform is not slowed down or that the reform process does not get reversed, we should remain ever watchful of the games that the detractors play. We should try to see through the clever games which a number of powerful market operators repeatedly play to achieve their selfish objectives.”

This ‘eternal vigil’ should have been SEBI’s job. Instead, the regulator has turned into a massive bureaucracy that has choked investor participation in equity as well as mutual funds with red tape. The regulator has failed abysmally in its duty of market development and supervision. Consequently, a decade of radical transformation and development was followed by a decade of bumbling insularity, a near monopoly of the NSE, poor leadership and lack of vision at the BSE (Bombay Stock Exchange) and an unseemly collusion to keep competition out of the capital market space. It has taken bruising legal battles right up to the Supreme Court to get some competition in.

In 1992, India’s capital market was at the ‘bottom of the league’ on almost every count—risk indices, market safety and integrity and efficiency of trading and settlement systems—said Dr Patil. The NSE started as a for-profit, de-mutualised entity (apparently the first in the world) with a professional management. Under Dr Patil’s leadership, NSE chose a bold and eclectic approach, selecting the best from a variety of exchanges and market places. As our Cover Story points out, Dr Patil took an eclectic approach getting the best from exchanges like the New York Stock Exchange, NASDAQ, Paris, Vancouver and Chicago futures exchanges. He pioneered large-scale deployment of satellite-based communication network (VSAT) which was being tried for the first time in India, bypassing Department of Telecom’s unreliable infrastructure. He also completed his overhaul of the capital market by setting up a stock depository and a clearing corporation.

Interestingly, the first seven or eight years of innovation were NSE’s best years. In the next 10 years, under a string of ineffectual SEBI chairmen, NSE grew into a ruthless monopoly, attracted private equity (PE), which demands performance milestones and continuous growth at any cost—a far cry from Dr Patil’s pioneering vision and acting in public interest. Worse, it also alienated retail investors. Today, the Indian capital market is highly volatile, dominated by institutional investors, mainly foreigners, trading through non-transparent foreign institutional investors’ sub-accounts. Over 20 years, India’s retail investor population has shrunk from 20 million to just 8 million according to official reports. All this was hidden by the frothy volumes in derivatives trading which creates the false impression of a robust market. Dr Patil was against introducing stock futures which contributed substantially to this froth.

From a situation where NSE struggled to have its stock quotations published in newspapers, it learnt to use its advertising clout to reward positive coverage and shut out critics. It was even more ruthless while dealing with employees and newcomers like the MCX group, which could give the NSE and its PE investors a run for their money. One such NSE battle, fought through SEBI, may have ended after a consenting order between SEBI and MCX passed by the Supreme Court on 11 April 2012. India’s 21 other regional bourses and experiments, such as the inter-connected stock exchanges and the OTC Exchange, have long since shrivelled into non-existence and the SEBI board has recently come up with yet another formulation to allow them to wind up.

If NSE’s strength was the vision of Dr Patil, the problem of BSE was the exact opposite. Its cardinal blunder was that it could not get out of the grip of a brokers’ forum which failed to gauge the competition and was confident that an exchange run by development bankers would fail. This forum deliberately delayed automation and progress, right until the NSE had already trounced its 125-year dominance. Thanks to the absence of vision and leadership, even its belated stab at automation, modernisation and de-mutualisation have had no impact.

On the other side, under a series of feckless CEOs, with little understanding of markets or empathy for investors, BSE made expensive and pointless investments while continuously losing market share. It faced the embarrassment of not being able to create a market for equity derivatives and of shutting down its forex derivatives segment in just three months. Even Madhu Kannan (ex-CEO and managing director) who grafted a high-cost management team with global experience could not make a jot of difference. It threw money down the drain in buying stakes in the United Stock Exchange and Ashish Chauhan’s start-up for Rs42 crore as a condition for Mr Chauhan joining the BSE. Market circles say that Mr Chauhan’s former employers are backing his candidature to step into Mr Kannan’s shoes. BSE shareholders (mainly brokers) couldn’t care less so long as the incumbent works at getting the bourse listed and gives them an exit.

So as Dr Patil passed away, two decades after his pioneering vision, the Indian market is at the crossroads. While the monopoly exchange is focused on maintaining its dominance, the regulator lacks leadership and has turned corrupt and bureaucratic. The government and the finance ministry are worried, but their solution seems to be more investor seminars. This makes India a happy hunting ground for foreign institutional traders who, with their algorithm trading and fast systems, account for over half of all trading volume. The bad news is that nothing is likely to change in a hurry, since the shape of the capital market is hardly a priority for a government that is battered by allegations of corruption almost every day and struggles to remain in power. 

Sucheta Dalal is the managing editor of Moneylife. Subscribers get free help in resolving their problems with select providers of financial services. She can be reached a
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-- Sucheta Dalal