Foreign cure?

A number of Ponzi schemes have come to light in recent years. All of them typically involve legal wrangling with regulators, on public assurances by company offi­cials that they are being unfairly tar­geted and every investor will get her money back. Eventually, the inev­itable happens – hapless millions are parted with their life’s savings. Yet, people continue to flock to such schemes, with the Rose Valley caper currently being the latest one mak­ing the headlines.

The government is said to be seri­ously looking for solutions – and top officials engaged in the exer­cise say that some of them can be found abroad. The finance minis­try’s department of financial ser­vices (DFS) has obtained information about industry and regulatory prac­tices from around the world in order to amend laws relating to ponzi- like, multi-level marketing pyramid schemes. Some of the inputs received from the Indian missions abroad are being incorporated in the proposed Prize Chits and Money Circulation Schemes (Banning) Act that is being finalised in the DFS in consultation with all the stakeholders.

At a meeting chaired by Jayant Sinha, Union minister of state for finance, and attended by top offi­cials of enforcement, investigative and intelligence agencies, the Aus­tralian model of detecting and curb­ing the unauthorised deposit and money collection schemes was sin­gled out for praise. Officials point out that Australia has a good model called ‘fusion’ that brought various agencies together to detect and pre­vent such types of schemes. Imple­mented by the Australian Crime Commission since July 2010, the ‘fusion’ capability provides for an information and intelligence shar­ing centre that brings together over 20 agencies to build the intelligence picture to respond to serious and organised criminal threats including investment frauds.

But experts believe that the solu­tion to this problem should be home­grown and should strike at the root of the problem. They believe that the answer to the problem actually lies in the high inflation that has pre­vailed in the county since 2008. Till low crude prices subdued consumer inflation recently, the consumer price inflation and food inflation was greater than 10 per cent. In this sce­nario, the returns on offer on fixed income investments have been lower than the rate of inflation. Hence, peo­ple have had to look at other modes of investment, in order to protect the purchasing power of their accumu­lated wealth.

Huge demand

A lot of this money has found its way into real estate and gold. And some of it has also found its way into Ponzi schemes. Experts add that this is where one needs to ask why India’s fixed income instruments offer returns lower than inflation. And the answer lies at the doorsteps of the state. The government of India

 

since 2007-08 has been able to raise money at a much lower rate of inter­est than the prevailing inflation.

How has the government man­aged to do this? Currently, banks need to invest ^22 out of every ?100 they raise as deposits, in government bonds. Over and above this, Indian provident funds like the employee provident fund, the coal mines prov­ident fund, the general provident fund, etc, are not allowed to invest in equity. Hence, all the money col­lected by these funds ends up being invested in government bonds.

As the Report of the Expert Com­mittee to Revise and Strengthen the Monetary Policy Framework points out: “Large government market bor­rowing has been supported by reg­ulatory prescriptions under which most financial institutions in India, including banks, are statutorily required to invest a certain portion of their specified liabilities in gov­ernment securities and/ or maintain a statutory liquidity ratio (SLR).”

This ensures that there is huge demand for government bonds and the government can get away by offer­ing a low rate of interest on its bonds. “The SLR prescription provides a cap­tive market for government securi­ties and helps to artificially suppress the cost of borrowing for the govern­ment, dampening the transmission of interest rate changes across the term structure,” an expert commit­tee report points out.

The rate of return on government bonds becomes the benchmark for all other kinds of loans and depos­its. The government has managed to raise loans at much lower than the rate of inflation since 2007-08. And if the government can raise money at a rate of interest below the rate of inflation, banks can’t be far behind. Hence, the interest offered on fixed deposits by banks and other forms of fixed income investments has also been lower than the rate of infla­tion over the last few years. This also explains why so much money has found its way into Ponzi schemes, despite not offering unbelievable returns.

♦ RAKESH JOSHI [email protected]

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