The Changing Structure of Industrial Finance

By Dr. P. S. Lokanathan

Summary

Delivering the second A. D. Shroff Memorial Lecture on 24 February 1969, the economist P. S. Lokanathan surveys how the structure of Indian industrial finance was transformed between 1947 and 1967. He opens with an extended personal tribute: Shroff was a fellow member of the National Planning Committee and a co-drafter of the Bombay Plan, an economist whose firm grasp of money, banking and finance was matched by ‘the rare courage’ to speak against fashionable opinion. Lokanathan credits Shroff’s Forum of Free Enterprise, founded in 1956, with offering a ‘useful and necessary corrective’ to economic planning carried to such extremes that it produced discriminating controls, inefficient government economic administration, and a wider ‘suppression of initiative and loss of self-reliance.’

Part I reconstructs the pre-Independence structure. In the absence of issue houses, specialist underwriters, or investment trusts, and with commercial banks following British practice in refusing to lend long, the entire burden of initial capital, working capital and long-term finance fell on the managing agents and their personal networks. The capital market was thin, savers shunned industrial securities, and small and medium industry had no access to formal credit at all. The Ahmedabad textile industry’s reliance on public deposits to fund five-to-seven-year requirements is offered as a partial, imperfect workaround.

Lokanathan argues that since 1947 the change has been ‘almost beyond recognition.’ A scaffolding of new institutions — the Industrial Finance Corporation of India (1948), the state financial corporations, ICICI, the Industrial Development Bank of India (1964), the Unit Trust of India and the investment activities of the LIC — has filled the wide gaps; the Credit Guarantee Scheme of the RBI and the new Social Control of Banks have made small industry a preferred sector; commercial banks now provide intermediate credit; and a new-issue market has begun to function. He documents the scale: financial-institution lending rose from 5 to 13 per cent of gross Private Sector investment between the Second and Third Plans, and in 1967-68 the LIC, Unit Trust of India and ICICI together underwrote 53 per cent of Rs. 40 crores of public issues. By 1965 the LIC had become ‘the largest single shareholder in the private sector.’

Part IV (begun in this chunk) presses back against the view ‘expressed in high quarters’ that institutional finance has made an active stock exchange unnecessary. Lokanathan insists that financial institutions cannot supply all the initial finance new businesses need; equity must come from the public, and the public will only invest if a healthy stock exchange gives them liquidity. He records that the savings-to-national-income ratio has fallen from about 10 per cent in 1964-65 to under 8 per cent, and identifies ‘an inherent contradiction’ between an industrial policy that valorises the Private Sector and a fiscal policy that drains its resources. The chunk breaks off mid-argument on the fiscal-industrial mismatch.

Key points

• Frames 1947 as a watershed: the structure of Indian industrial finance has changed ‘almost beyond recognition’ in the twenty years that follow.

• Pre-Independence, managing agents were effectively the sole providers of initial capital, working capital and long-term finance; commercial banks followed British practice and refused to lend long; small industry was excluded from formal credit.

• Opens with a personal tribute to A. D. Shroff (National Planning Committee, Bombay Plan, Forum of Free Enterprise) and reads Shroff’s Forum as a corrective to economic planning carried to extremes that suppressed initiative and self-reliance.

• Post-1947 institutional build-out: Industrial Finance Corporation (1948), state financial corporations, ICICI, IDBI (1964), Unit Trust of India and LIC investment activities, plus the Credit Guarantee Scheme and Social Control of Banks that make small industry a preferred sector alongside agriculture.

• Total assistance from the new financial institutions rose from 5 per cent of gross Private Sector investment in the Second Plan to 13 per cent in the Third Plan; LIC, UTI and ICICI together underwrote 53 per cent of Rs. 40 crores of public issues in 1967-68.

• Concentration concerns: institutional finance has flowed mainly to large companies and to Maharashtra, Gujarat, Madras and West Bengal — 52 per cent of IFC, 69.4 per cent of ICICI and 70 per cent of IDBI assistance, on Lokanathan’s figures.

• Part IV argues that a healthy stock exchange remains ‘absolutely urgent’ because institutional finance cannot supply all initial equity and savers need a liquid market to enter and exit.

• Closes the rendered pages by flagging a falling savings rate (10 per cent → under 8 per cent) and ‘an inherent contradiction’ between the government’s pro-Private-Sector industrial policy and a fiscal policy out of consonance with it.

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