Capital markets  need to remain healthy to enable large Indian companies to recapitalise their balance sheets. While large infrastructure projects are stuck owing to regulatory issues, most of these project developers have stretched balance sheets and negative cash flows. The banking system is increasingly averse to putting new money to work with these developers and their projects. Unless the capital markets, both debt and equity, reopen for these developers, irrespective of regulatory relief, projects will not progress. No matter how much the finance minister and his team de-clog project approvals, without a healthy capital market and access to equity most projects will not move. Capital markets are also reflexive, in that access to capital by itself starts making previously unbankable projects and borrowers viable. Once a positive funding cycle commences, it improves sentiment, extends entrepreneur time horizons and reinforces itself.

We also need buoyant capital markets to fund the current account. While the current account deficit may go down from 4.2 per cent of gross domestic product (last year) to 3.5 per cent in 2012-2013, even this number has to be funded — and flows by foreign institutional investors are key. Equity inflows have already crossed $12 billion this financial year, and this positive momentum must be sustained.


The finance minister wants to re-establish India’s long-term growth trajectory, and healthy capital markets are a key part of the solution.

The only way the finance minister can keep investors enthused is to continue moving ahead rapidly with policy moves that need no legislative clearance. We have already seen a stream of announcements, and I think the momentum will continue. There is significant policy low-hanging fruit across sectors, given the virtual famine of reform in the past few years: revising investment norms for insurance companies, modifying the direct taxes code, new banking licences, a project investment board, and so on.

This finance minister is very investor-savvy, has conviction in markets, understands the key role capital markets will play in reviving the Indian economy and has a sector-specific game plan. It will be foolish to bet against him. He has the ability to keep the markets moving, if he can deliver policy action.

Obviously, political risk still exists, and the government may yet collapse before its full term. We must also acknowledge that the Congress high command may still get cold feet and go back into policy denial mode. However, absent that, Mr Chidambaram is signalling that he needs markets to remain buoyant and knows what needs to be done to ensure that they do. A lot of the policy measures needed to enthuse markets have little political downside; they just need co-ordination, better administration and decisiveness, which he can deliver. This is his version of underwriting the downside — delivering basic governance and policy action, enough to keep markets interested and investors focused on the long term. He cannot allow capital markets to go into a deep dive and be effectively shut for new fund raising. If that were to happen, then he has no workable game plan to get us out of this rut.

As long as the finance ministry can keep pushing ahead with reforms and keep convincing investors that decisions will be taken, markets are unlikely to correct significantly. Given the sharp up-move, the broad market indices may stay at these levels for some time; but within these indices one is likely to see significant sectoral churn.

Investors have been hiding in the defensives, taking them to all-time high relative valuations. This is now likely to reverse. Most investors continue to disbelieve this rally: domestic investors have redemptions and majority of international investors are still positioned defensively. The pain trade is for this market to continue to go up, led by the more economically sensitive sectors.

That is what the country, economy and the finance minister need.

By Akash Prakash
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